<PAGE> 1
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM N-1A
REGISTRATION STATEMENT (NO. 2-27203) UNDER
THE SECURITIES ACT OF 1933
PRE-EFFECTIVE AMENDMENT NO.
POST-EFFECTIVE AMENDMENT NO. 56
AND
REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY
ACT OF 1940
AMENDMENT NO. 56
VANGUARD EXPLORER FUND, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ARTICLES OF INCORPORATION)
P.O. BOX 1100, VALLEY FORGE, PA 19482
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE)
REGISTRANT'S TELEPHONE NUMBER (610) 669-1000
CURTIS R. HILLIARD
P.O. BOX 876
VALLEY FORGE, PA 19482
IT IS PROPOSED THAT THIS FILING BECOME EFFECTIVE:
on February 23, 1996, pursuant to paragraph (b) of Rule 485.
APPROXIMATE DATE OF PROPOSED PUBLIC OFFERING:
As soon as practicable after this Registration Statement becomes effective.
THE REGISTRANT HAS REGISTERED AN INDEFINITE NUMBER OF SECURITIES UNDER THE
SECURITIES ACT OF 1933 PURSUANT TO RULE 24F-2 OF THE INVESTMENT COMPANY ACT OF
1940. REGISTRANT FILED ITS RULE 24F-2 NOTICE FOR ITS FISCAL YEAR ENDED OCTOBER
31, 1995, WITH THE COMMISSION ON NOVEMBER 17, 1995.
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<PAGE> 2
VANGUARD EXPLORER FUND, INC.
CROSS REFERENCE SHEET
<TABLE>
<CAPTION>
FORM N-1A
ITEM NUMBER LOCATION IN PROSPECTUS
<C> <S> <C>
Item 1. Cover Page.................................... Cover Page
Item 2. Synopsis...................................... Not Applicable
Item 3. Condensed Financial Information............... Financial Highlights; Yield and Total
Return Disclosure
Item 4. General Description of Registrant............. Investment Objective; Investment
Policies; General Information; Who
Should Invest; Investment
Limitations; Implementation of
Policies; Performance Record
Item 5. Management of the Fund........................ Management of the Fund; The Fund's
Investment Adviser
Item 6. Capital Stocks and Other Securities........... Opening An Account and Purchasing
Shares; Selling Your Shares; The
Fund's Share Price; Dividends,
Capital Gains and Taxes; General
Information; When Your Account Will
Be Credited; Exchanging Shares;
Transferring Registration
Item 7. Purchase of Securities Being Offered.......... Cover Page; Opening An Account and
Purchasing Shares; Other Vanguard
Services; When Your Account Will Be
Credited; Exchanging Shares;
Transferring Registration
Item 8. Redemption or Repurchase...................... Selling Your Shares
Item 9. Pending Legal Proceedings..................... Not Applicable
<CAPTION>
FORM N-1A LOCATION IN STATEMENT
ITEM NUMBER OF ADDITIONAL INFORMATION
<C> <S> <C>
Item 10. Cover Page.................................... Cover Page
Item 11. Table of Contents............................. Cover Page
Item 12. General Information and History............... Investment Objective and Policies
Item 13. Investment Objectives and Policies............ Investment Objective and Policies;
Investment Limitations
Item 14. Management of the Fund........................ Investment Advisory Services;
Directors and Officers
Item 15. Control Persons and Principal Holders of
Securities.................................... Not Applicable
Item 16. Investment Advisory and Other Services........ Investment Advisory Services
Item 17. Brokerage Allocation.......................... Portfolio Transactions
Item 18. Capital Stock and Other Securities............ Financial Statements
Item 19. Purchase, Redemption and Pricing of Securities
Being Offered................................. Purchase of Shares; Redemption of
Shares; Financial Statements
Item 20. Tax Status.................................... Not Applicable
Item 21. Underwriters.................................. Not Applicable
Item 22. Calculations of Yield Quotations of Money
Market Fund................................... Not Applicable
Item 23. Financial Statements.......................... Financial Statements
</TABLE>
<PAGE> 3
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[VANGUARD EXPLORER FUND LOGO] A Member of The Vanguard Group
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PROSPECTUS -- FEBRUARY 23, 1996; REVISED AUGUST 1, 1996
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NEW ACCOUNT INFORMATION: INVESTOR INFORMATION DEPARTMENT -- 1-800-662-7447
(SHIP)
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SHAREHOLDER ACCOUNT SERVICES: CLIENT SERVICES DEPARTMENT -- 1-800-662-2739
(CREW)
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INVESTMENT
OBJECTIVE AND
POLICIES Vanguard Explorer Fund, Inc. (the "Fund") is an open-end
diversified investment company that seeks to provide
long-term growth in capital. The Fund invests primarily in
equity securities of small companies deemed to have
favorable prospects for growth in market value. Dividend
income is expected to be incidental to this objective.
There is no assurance that the Fund will achieve its
stated objective. Shares of the Fund are neither insured
nor guaranteed by any agency of the U.S. Government,
including the FDIC.
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OPENING AN
ACCOUNT To open a regular (non-retirement) account, please
complete and return the Account Registration Form. If you
need assistance in completing this Form, please call the
Investor Information Department. To open an Individual
Retirement Account (IRA), please use a Vanguard IRA
Adoption Agreement. To obtain a copy of this form, call
1-800-662-7447, Monday through Friday, from 8:00 a.m. to
9:00 p.m. and Saturday, from 9:00 a.m. to 4:00 p.m.
(Eastern time). The minimum initial investment is $3,000
or $1,000 for Uniform Gifts/Transfers to Minors Act
accounts. The Fund is offered on a no-load basis (i.e.
there are no sales commissions or 12b-1 fees). However,
the Fund incurs expenses for investment advisory,
management, administrative, and distribution services.
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ABOUT THIS
PROSPECTUS This Prospectus is designed to set forth concisely the
information you should know about the Fund before you
invest. It should be retained for future reference. A
"Statement of Additional Information" containing
additional information about the Fund has been filed with
the Securities and Exchange Commission. This Statement is
dated February 23, 1996; revised August 1, 1996, and has
been incorporated by reference into this Prospectus. A
copy may be obtained without charge by writing to the Fund
or by calling the Investor Information Department.
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TABLE OF CONTENTS
<TABLE>
<S> <C> <C> <C> <C> <C>
Page Page Page
Fund Expenses ................... 2 Management of the Fund .......... 8 SHAREHOLDER GUIDE
Financial Highlights ............ 2 Investment Advisers ............. 9 Opening an Account and
Yield and Total Return .......... 3 Performance Record .............. 11 Purchasing Shares ................ 15
FUND INFORMATION Dividends, Capital Gains and When Your Account Will Be
Investment Objective ............ 4 Taxes ........................... 12 Credited ......................... 18
Investment Policies ............. 4 The Share Price of the Selling Your
Investment Risks ................ 5 Fund ............................ 13 Shares ........................... 18
Who Should Invest ............... 6 General Information ............. 14 Exchanging Your Shares ........... 20
Implementation of Policies ...... 6 Important Information about
Investment Limitations .......... 8 Telephone Transactions ........... 22
Transferring Registration ........ 22
Other Vanguard Services .......... 23
</TABLE>
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THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION, NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
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<PAGE> 4
FUND EXPENSES The following table illustrates ALL expenses and fees that
you would incur as a shareholder of the Fund. The expenses
and fees set forth in the table are for the 1995 fiscal
year.
<TABLE>
<S> <C> <C>
SHAREHOLDER TRANSACTION EXPENSES
-------------------------------------------------------------------------------
Sales Load Imposed on Purchases...................................... None
Sales Load Imposed on Reinvested Dividends........................... None
Redemption Fees...................................................... None
Exchange Fees........................................................ None
ANNUAL FUND OPERATING EXPENSES
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Management & Administrative Expenses................................. 0.36%
Investment Advisory Fees............................................. 0.28
12b-1 Fees........................................................... None
Other Expenses
Distribution Costs........................................ 0.02%
Miscellaneous Expenses.................................... 0.02
-----
Total Other Expenses................................................. 0.04%
-----
TOTAL OPERATING EXPENSES.................................... 0.68%
-----
-----
</TABLE>
The purpose of this table is to assist you in
understanding the various costs and expenses that you
would bear directly or indirectly as an investor in the
Fund.
The following example illustrates the expenses that you
would incur on a $1,000 investment over various periods,
assuming (1) a 5% annual rate of return and (2) redemption
at the end of each period. As noted in the table above,
the Fund charges no redemption fees of any kind.
<TABLE>
<CAPTION>
1 YEAR
------ 3 YEARS 5 YEARS 10 YEARS
------- ------- --------
<S> <C> <C> <C>
$ 7 $ 22 $ 38 $ 85
</TABLE>
THIS EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF
PAST OR FUTURE EXPENSES OR PERFORMANCE. ACTUAL EXPENSES
MAY BE HIGHER OR LOWER THAN THOSE SHOWN.
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FINANCIAL
HIGHLIGHTS The following financial highlights for a share outstanding
throughout each year, insofar as they relate to each of
the five years in the period ended October 31, 1995, have
been audited by Price Waterhouse LLP, independent
accountants, whose report thereon was unqualified. This
information should be read in conjunction with the Fund's
financial statements and notes thereto which, together
with the remaining portions of the Fund's 1995 Annual
Report to Shareholders, are incorporated by reference in
the Statement of Additional Information and this
Prospectus, and which appear, along with the report of
Price Waterhouse LLP, in the Fund's 1995 Annual Report to
Shareholders. For a more complete discussion of the Fund's
performance, please see the Fund's 1995 Annual Report to
Shareholders, which may be obtained without charge by
writing to the Fund or by calling our Investor Information
Department at 1-800-662-7447.
2
<PAGE> 5
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
--------------------------------------------------------------------------------------
1995 1994 1993 1992 1991 1990 1989 1988 1987 1986
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
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NET ASSET VALUE, BEGINNING
OF YEAR.................. $45.99 $49.37 $41.23 $36.75 $22.62 $30.76 $29.64 $25.06 $31.59 $32.56
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
INVESTMENT OPERATIONS
Net Investment Income.... .24 .16 .14 .15 .26 .31 .39 .27 .09 .02
Net Realized and
Unrealized Gain (Loss)
on Investments......... 7.25 1.77 8.91 4.59 14.21 (7.07) 2.64 6.38 (3.33) .63
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL FROM INVESTMENT
OPERATIONS........... 7.49 1.93 9.05 4.74 14.47 (6.76) 3.03 6.65 (3.24) .65
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DISTRIBUTIONS
Dividends from Net
Investment Income...... (.17) (.14) (.13) (.26) (.34) (.37) (.32) (.11) (.02) (.33)
Distributions from
Realized Capital
Gains.................. (2.26) (5.17) (.78) -- -- (1.01) (1.59) (1.96) (3.27) (1.29)
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL DISTRIBUTIONS.... (2.43) (5.31) (.91) (.26) (.34) (1.38) (1.91) (2.07) (3.29) (1.62)
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NET ASSET VALUE, END OF
YEAR..................... $51.05 $45.99 $49.37 $41.23 $36.75 $22.62 $30.76 $29.64 $25.06 $31.59
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TOTAL RETURN............... 17.46% 4.49% 22.28% 12.95% 64.64% (22.92)% 10.95% 28.73% (11.42)% 1.98%
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RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Year
(Millions)............... $1,476 $1,112 $802 $519 $381 $207 $270 $266 $210 $272
Ratios of Expenses to
Average Net Assets....... .68% .70% .73% .69% .56% .67% .58% .65% .62% .76%
Ratio of Net Investment
Income to Average Net
Assets................... .52% .39% .32% .38% .85% 1.11% 1.24% .99% .28% .05%
Portfolio Turnover Rate.... 66% 82% 51% 43% 49% 46% 16% 28% 9% 15%
</TABLE>
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YIELD AND TOTAL
RETURN From time to time the Fund may advertise its yield and
total return. Both yield and total return figures are
based on historical earnings and are not intended to
indicate future performance. The "total return" of the
Fund refers to the average annual compounded rates of
return over one-, five- and ten-year periods or over the
life of the Fund (as stated in the advertisement) that
would equate an initial amount invested at the beginning
of a stated period to the ending redeemable value of the
investment, assuming the reinvestment of all dividend and
capital gains distributions.
In accordance with industry guidelines set forth by the
U.S. Securities and Exchange Commission, the "30-day
yield" of the Fund is calculated by dividing the net
investment income per share earned during a 30-day period
by the net asset value per share on the last day of the
period. Net investment income includes interest and
dividend income earned on the Fund's securities; it is net
of all expenses and all recurring and nonrecurring charges
that have been applied to all shareholder accounts. The
yield calculation assumes that the net investment income
earned over 30 days is compounded monthly for six months
and then annualized. Methods used to calculate advertised
yields are standardized for all stock and bond mutual
funds. However, these methods differ from the accounting
methods used by the Fund to maintain its books and
records, and so the advertised 30-day yield may not fully
reflect the income paid to an investor's account or the
yield reported in the Fund's reports to shareholders.
Additionally, the Fund may compare its performance to that
of the unmanaged Russell 2000 Stock Index.
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3
<PAGE> 6
INVESTMENT
OBJECTIVE
THE FUND SEEKS TO
PROVIDE LONG-TERM
CAPITAL GROWTH The objective of the Fund is to provide long-term capital
growth by investing primarily in the equity securities of
small companies. Dividend income is expected to be
incidental to this objective. There is no assurance that
the Fund will achieve its stated objective.
The investment objective of the Fund is fundamental and so
cannot be changed without the approval of a majority of
the Fund's shareholders.
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INVESTMENT
POLICIES
THE FUND INVESTS IN
SMALL COMPANY STOCKS The Fund invests primarily in the equity securities of
small companies which are deemed to offer favorable
prospects for growth in market value. These securities are
primarily common stocks but may also include securities
convertible into common stocks. The Fund is managed
without regard to tax ramifications.
Securities purchased by the Fund may be issued by small or
unseasoned companies with speculative risk
characteristics. Dividend income paid by such securities,
if any, will ordinarily be negligible. These securities
will generally be traded in established over-the-counter
markets, rather than on a national securities exchange.
The median market capitalization of the companies included
in the Fund -- that is, the median market value of the
companies' outstanding shares -- is expected to range from
$100 million to $500 million. By comparison, for companies
included in the Russell 2000 Stock Index, a benchmark of
the market for small company stocks, the median market
capitalization is approximately $430 million. The median
capitalization of companies in the Standard & Poor's 500
Composite Stock Price Index, a widely used measure of the
broad stock market, is approximately $17.2 billion.
In addition to investing in the equity securities of small
companies, the Fund may purchase stock futures contracts
and options to a limited extent, and may invest in certain
short-term fixed income securities. The Fund is also
authorized to invest, to a limited extent, in foreign and
restricted or illiquid securities. See "Implementation of
Policies" for a description of these and other investment
practices of the Fund.
The Fund is responsible for voting the shares of all
securities it holds.
These policies are not fundamental and therefore may be
changed by the Fund's Board of Directors without
shareholder approval. However, shareholders will be
notified prior to any material change in the Fund's
policies.
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4
<PAGE> 7
INVESTMENT
RISKS
INVESTORS ARE EXPOSED
TO THE MARKET RISK OF
STOCKS As a mutual fund investing primarily in common stocks, the
Fund is subject to MARKET RISK -- i.e., the possibility
that stock prices in general will decline over short or
extended periods. The stock market tends to be cyclical,
with periods when stock prices generally rise and periods
when stock prices generally decline.
To illustrate the volatility of stock prices, the
following table sets forth the extremes for U.S. stock
market returns as well as the average return for the
period from 1926 to 1995, as measured by the Standard &
Poor's 500 Composite Stock Price Index:
<TABLE>
<CAPTION>
AVERAGE ANNUAL U.S. STOCK MARKET RETURNS (1926-1995)
OVER VARIOUS TIME HORIZONS
1 YEAR 5 YEARS 10 YEARS 20 YEARS
------ ------- -------- --------
<S> <C> <C> <C> <C>
Best +53.9% +23.9% +20.1% +16.9%
Worst - 43.3 - 12.5 - 0.9 + 3.1
Average +12.5 +10.3 +10.7 +10.7
</TABLE>
As shown, common stocks have provided annual total returns
(capital appreciation plus dividend income) averaging
+10.7% for all 10-year periods from 1926 to 1995. The
return in individual years has varied from a low of -43.3%
to a high of +53.9%, reflecting the short-term volatility
of stock prices. Average returns may not be useful for
forecasting future returns in any particular period, as
stock returns are quite volatile from year to year.
SMALL COMPANY STOCKS
MAY EXHIBIT GREATER
VOLATILITY Small company stocks, which are the Fund's primary
investments, have historically been more volatile in price
than the stock market as a whole. Among the likely reasons
for the greater price volatility of small company stocks
are the less certain growth prospects of smaller firms, a
low degree of liquidity in the markets for small company
stocks, and the small to negligible dividends generally
paid by small companies. Besides exhibiting greater
volatility, small company stocks have at times fluctuated
in value independently of the broad stock market.
Investors should therefore expect that small company
stocks (and hence the Fund's investments) may be more
volatile than the stocks of more established companies. In
addition, investors should recognize that small company
stocks may rise or fall in value independently of the
broad stock market.
THE FUND IS SUBJECT TO
MANAGER RISK The investment adviser manages the Fund according to the
traditional methods of "active" investment management,
which involve the buying and selling of securities based
upon economic, financial and market analysis and
investment judgement. MANAGER RISK refers to the
possibility that the Fund's investment advisers may fail
to execute the Fund's investment strategy effectively. As
a result, the Fund may fail to achieve its stated
objective.
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5
<PAGE> 8
WHO SHOULD
INVEST
INVESTORS SEEKING
LONG-TERM GROWTH The Fund is intended for investors who have the
perspective, patience and financial ability to assume
above-average interim investment risks in pursuit of
long-term capital growth. Since a portion of the
securities the Fund owns may be considered speculative in
nature or unseasoned by traditional investment standards,
substantially greater-than-average investment risk is
involved. The Fund's share price is expected to be
volatile. Because of the risks associated with common
stock investments, the Fund is intended to be a long-term
investment vehicle and is not designed to provide
investors with a means of speculating on short-term market
movements. Investors who engage in excessive account
activity generate additional costs which are borne by all
of the Fund's shareholders. In order to minimize such
costs, the Fund has adopted the following policies. The
Fund reserves the right to reject any purchase request
(including exchange purchases from other Vanguard
portfolios) that is reasonably deemed to be disruptive to
efficient portfolio management, either because of the
timing of the investment or previous excessive trading by
the investor. Additionally, the Fund has adopted exchange
privilege limitations as described in the section
"Exchange Privilege Limitations." Finally, the Fund
reserves the right to suspend the offering of its shares.
No assurance can be given that the Fund will attain its
objective or that shareholders will be protected from the
risk of loss that is inherent in equity investing.
Investors may wish to reduce the potential risk of
investing in the Fund by purchasing shares on a periodic
basis (dollar-cost averaging) rather than making an
investment in one lump sum.
The Fund is not intended as a complete investment program.
Most investors should maintain diversified holdings of
securities with different risk characteristics --
including common stocks, bonds and money market
instruments. Investors may also wish to complement an
investment in the Fund with other types of common stock
investments.
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IMPLEMENTATION
OF POLICIES In addition to investing in the equity securities of small
companies, the Fund may use a number of other investment
vehicles to achieve its objective.
THE FUND MAY INVEST IN
FOREIGN AND RESTRICTED
OR ILLIQUID STOCKS The Fund is authorized to invest up to 20% of its assets
in foreign securities and may engage in currency
transactions with respect to such investments. The Fund is
also authorized to invest up to 15% of its assets in
restricted or illiquid securities.
THE FUND MAY INVEST
IN SHORT-TERM FIXED
INCOME SECURITIES Although it normally seeks to remain substantially
invested in equity securities, the Fund may invest for
temporary purposes in certain short-term fixed income
securities. Such securities may be used to invest
uncommitted cash balances, to maintain liquidity to meet
shareholder redemptions, or to take a temporarily
defensive position against potential stock market
declines. These securities include: obligations of the
United States Government and its agencies or
instrumentalities; commercial paper, bank certificates of
deposit, and bankers' acceptances; and repurchase
agreements collateralized by these securities.
6
<PAGE> 9
THE FUND MAY LEND ITS
SECURITIES The Fund may lend its investment securities to qualified
institutional investors for either short-term or long-term
purposes of realizing additional income. Loans of
securities by the Fund will be collateralized by cash,
letters of credit, or securities issued or guaranteed by
the U.S. Government or its agencies. The collateral will
equal at least 100% of the current market value of the
loaned securities.
THE FUND MAY BORROW
MONEY UNDER UNUSUAL
CIRCUMSTANCES The Fund may borrow money, subject to the limits set forth
on page 8, for temporary or emergency purposes, including
the meeting of redemption requests which might otherwise
require the untimely disposition of securities.
PORTFOLIO TURNOVER WILL
NOT EXCEED 100% Although it generally seeks to invest for the long term,
the Fund retains the right to sell securities irrespective
of how long they have been held. It is anticipated that
the annual portfolio turnover rate of the Fund will not
exceed 100%. A turnover rate of 100% would occur, for
example, if all of the securities of the Fund were
replaced within one year.
DERIVATIVE
INVESTING Derivatives are instruments whose values are linked to or
derived from an underlying security or index. The most
common and conventional types of derivative securities are
futures and options.
THE FUND MAY INVEST
IN DERIVATIVE
SECURITIES The Fund may invest in futures contracts and options, but
only to a limited extent. Specifically, the Fund may enter
into futures contracts provided that not more than 5% of
its assets are required as a futures contract deposit; in
addition, the Fund may enter into futures contracts and
options transactions only to the extent that obligations
under such contracts or transactions represent not more
than 20% of the Fund's assets.
Futures contracts and options may be used for several
common fund management strategies: to maintain cash
reserves while simulating full investment, to facilitate
trading, to reduce transaction costs, or to seek higher
investment returns when a specific futures contract is
priced more attractively than other futures contracts or
the underlying security or index.
The Fund may use futures contracts for bona fide "hedging"
purposes. In executing a hedge, a manager sells, for
example, stock index futures to protect against a decline
in the stock market. As such, if the market drops, the
value of the futures position will rise, thereby
offsetting the decline in value of the Fund's stock
holdings.
FUTURES CONTRACTS AND
OPTIONS POSE CERTAIN
RISKS The primary risks associated with the use of futures
contracts and options are: (i) imperfect correlation
between the change in market value of the stocks held by
the Fund and the prices of futures contracts and options;
and (ii) possible lack of a liquid secondary market for a
futures contract and the resulting inability to close a
futures position prior to its maturity date. The risk of
imperfect correlation will be minimized by investing in
those contracts whose price fluctuations are expected to
resemble those of the Fund's underlying securities. The
risk that the Fund will be unable to close out a futures
position will be minimized by entering into such
transactions on a national exchange with an active and
liquid secondary market.
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7
<PAGE> 10
INVESTMENT
LIMITATIONS
THE FUND HAS ADOPTED
CERTAIN FUNDAMENTAL
LIMITATIONS The Fund has adopted certain limitations on its investment
practices. Specifically, the Fund will not:
(a) with respect to 75% of the value of its total
assets, purchase the securities of any issuer
(except obligations of the United States government
and its instrumentalities) if as a result the Fund
would hold more than 10% of the outstanding voting
securities of the issuer, or more than 5% of the
value of the Fund's total assets would be invested
in the securities of such issuer;
(b) invest more than 25% of its assets in any one
industry; and
(c) borrow money except from a bank (or through reverse
repurchase agreements) for temporary or emergency
(not leveraging) purposes, and then in an amount not
exceeding 15% of the value of the Fund's net assets
at the time the borrowing is made. Whenever
borrowing exceeds 5% of the value of the Fund's net
assets, the Fund will not make any additional
investments.
These investment limitations are considered at the time
investment securities are purchased. The limitations
described here and in the Statement of Additional
Information may be changed only with the approval of a
majority of the Fund's shareholders.
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MANAGEMENT OF
THE FUND
VANGUARD ADMINISTERS
AND DISTRIBUTES THE
FUND The Fund is a member of The Vanguard Group of Investment
Companies, a family of more than 30 investment companies
with more than 90 distinct investment portfolios and total
assets in excess of $180 billion. Through their
jointly-owned subsidiary, The Vanguard Group, Inc.
("Vanguard"), the Fund and the other funds in the Group
obtain at cost virtually all of their corporate
management, administrative, shareholder accounting and
distribution services. Vanguard also provides investment
advisory services on an at-cost basis to certain Vanguard
funds. As a result of Vanguard's unique corporate
structure, the Vanguard funds have costs substantially
lower than those of most competing mutual funds. In 1995,
the average expense ratio (annual costs including advisory
fees divided by total net assets) for the Vanguard funds
amounted to approximately .31% compared to an average of
1.11% for the mutual fund industry (data provided by
Lipper Analytical Services).
The Officers of the Fund manage its day-to-day operations
and are responsible to the Fund's Directors. The Directors
set broad policies for the Fund and choose its Officers. A
list of Directors and Officers of the Fund and a statement
of their present positions and principal occupations
during the past five years can be found in the Statement
of Additional Information.
Vanguard employs a supporting staff of management and
administrative personnel needed to provide the requisite
services to the funds and also furnishes the funds with
necessary office space, furnishings and equipment. Each
fund pays its share of Vanguard's total expenses, which
are allocated among the funds under methods approved by
the Board of Directors (Trustees) of each fund. In
addition, each fund bears its own direct expenses, such as
legal, auditing and custodian fees.
8
<PAGE> 11
Vanguard also provides distribution and marketing services
to the Vanguard funds. The funds are available on a
no-load basis (i.e., there are no sales commissions or
12b-1 fees). However, each fund bears its share of the
Group's distribution costs.
- --------------------------------------------------------------------------------
INVESTMENT
ADVISERS
THE FUND EMPLOYS TWO
INVESTMENT MANAGERS The Fund currently employs two investment advisers:
Wellington Management Company ("WMC"), 75 State Street,
Boston, MA 02109; and Granahan Investment Management, Inc.
("Granahan"), 275 Wyman Street, Waltham, MA 02154.
The proportion of the net assets of the Fund managed by
each adviser is established by the Board of Directors, and
may be changed in the future as circumstances warrant.
Presently, WMC is responsible for approximately 44% of the
assets of the Fund, Granahan for approximately 43% of the
assets, and approximately 13%, the Fund's remaining net
assets, is held in cash. Because the Fund employs two
advisers it is possible that the advisers would purchase
or sell the same security at the same time. Such a
situation might result in increased brokerage costs or
adverse tax consequences to the Fund. The Board of
Directors monitors portfolio activity in order to minimize
any possible adverse consequences.
The Fund has entered into investment advisory agreements
with both WMC and Granahan which provide that both
advisers manage the investment and reinvestment of the
Fund's assets and continuously review, supervise and
administer the Fund's investment program. The advisers
discharge their responsibilities subject to the control of
the Officers and Directors of the Fund.
WMC is a professional investment advisory firm which
globally provides services to investment companies, other
institutions and individuals. Among the clients of WMC are
more than 10 investment companies of The Vanguard Group.
As of December 31, 1995, WMC held investment management
authority with respect to more than $108 billion of
assets. WMC and its predecessor organizations have
provided investment advisory services to investment
companies since 1933 and to investment counseling clients
since 1960.
Kenneth L. Abrams, Vice President of WMC, serves as
portfolio manager of the assets of the Fund assigned to
WMC. Mr. Abrams has been employed by WMC for 9 years and
has served as portfolio manager for the Fund since
February of 1994. In managing the assets of the Fund
assigned to WMC, Mr. Abrams is supported by research and
other investment services provided by the professional
staff of WMC.
The Fund pays WMC an advisory fee at the end of each
fiscal quarter, calculated by applying a quarterly rate,
based on the following annual percentage rates, to the
average month-end net assets of the Fund managed by WMC
for the quarter:
<TABLE>
<CAPTION>
NET ASSETS RATE
------------------------------- -----
<S> <C>
First $500 million .250%
Next $250 million .200%
Next $250 million .150%
Assets in excess of $1 billion .100%
</TABLE>
This basic advisory fee may be increased or decreased by
up to 50% by applying an adjustment formula
("incentive/penalty fee") based on the investment
performance
9
<PAGE> 12
of the portion of the Fund managed by WMC relative to the
investment record of the Russell 2000 Small Stock Index
(the "Russell 2000"), an index of small capitalization
common stocks.
Under the rules of the Securities and Exchange Commission,
the new incentive/penalty fee will not be fully operable
until the quarter ending July 31, 1999. Until that date, a
"blended" fee rate consisting of varying percentages of
(i) the performance adjustment based on the schedule set
forth in the Statement of Additional Information, and (ii)
the performance adjustment based on the schedule set forth
in Explorer Fund's previous investment advisory agreement
with the WMC shall be used. Please see Statement of
Additional Information for more information on this
transition period.
Granahan is a professional investment advisory firm
founded in 1985. As of December 31, 1995, Granahan held
discretionary management authority with respect to
approximately $813 million in assets. John J. Granahan is
portfolio manager of the assets of the Fund assigned to
Granahan. Mr. Granahan served as portfolio manager of
Explorer II from its inception in June 1985 through its
merger with the Fund in February 1990. He also served as
portfolio manager of Explorer Fund from January 1972 to
September 1979 while employed at WMC.
The Fund pays Granahan an advisory fee at the end of each
fiscal quarter, calculated by applying a quarterly rate,
based on the following annual percentage rates, to the
Fund's average month-end net assets for the quarter:
<TABLE>
<CAPTION>
NET ASSETS RATE
------------------------------- -----
<S> <C>
First $500 million .300%
Next $250 million .200%
Next $250 million .150%
Assets in excess of $1 billion .100%
</TABLE>
This basic advisory fee may be increased or decreased by
applying an adjustment formula ("incentive/penalty fee")
based on the investment performance of the portion of the
Fund managed by Granahan relative to the Russell 2000, an
index of small capitalization common stocks.
For the fiscal year ended October 31, 1995, the aggregate
investment advisory fees paid by the Fund to WMC and
Granahan represented an effective annual base rate of .27
of 1% of average net assets before an increase of $25,000
based on performance. The investment advisory fees paid by
the Fund for this period to WMC represented an effective
annual rate of .28 of 1% of the average net assets managed
by WMC and the investment advisory fees paid to Granahan
represented an effective annual rate of .30 of 1% of the
average net assets managed by Granahan. These fees were
paid under a previous fee schedule that provided for a
higher rate of fees.
The investment advisory agreements with WMC and Granahan
authorize the advisers to select brokers or dealers to
execute purchases and sales of the Fund's portfolio
securities, and direct the advisers to use their best
efforts to obtain the best available price and most
favorable execution with respect to all transactions. The
10
<PAGE> 13
full range and quality of brokerage services available are
considered in making these determinations.
The Fund has authorized WMC and Granahan to pay higher
commissions in recognition of brokerage services felt
necessary for the achievement of better execution,
provided the advisers believe this to be in the best
interest of the Fund. Although the Fund does not market
its shares through intermediary brokers or dealers, the
Fund may place orders with qualified broker-dealers who
recommend the Fund to clients if the Officers of the Fund
believe that the quality of the transaction and the
commission are comparable to what they would be with other
qualified brokerage firms.
The Fund's Board of Directors may, without the approval of
shareholders, provide for: (a) the employment of a new
investment adviser pursuant to the terms of a new advisory
agreement, either as a replacement for an existing adviser
or as an additional adviser; (b) a change in the terms of
an advisory agreement; and (c) the continued employment of
an existing adviser on the same advisory contract terms
where a contract has been assigned because of a change in
control of the adviser. Any such change will only be made
upon not less than 30 days prior written notice to
shareholders of the Fund which shall include substantially
the information concerning the adviser that would have
normally been included in a proxy statement.
- --------------------------------------------------------------------------------
PERFORMANCE
RECORD The table in this section provides investment results for
the Fund over several periods. The results represent the
Fund's "total return" investment performance, which
assumes the reinvestment of all capital gains and income
dividends for the indicated periods. Also included is
comparative information on the unmanaged Standard & Poor's
500 Composite Stock Price Index, a widely used barometer
of stock market activity; the Russell 2000 Stock Index, an
index of small company stocks; and the Consumer Price
Index, a statistical measure of changes in the prices of
goods and services. The table does not make any allowance
for federal, state or local income taxes, which
shareholders must pay on a current basis.
The results shown should not be considered a
representation of the total return from an investment
made in the Fund today. This information is provided to
help investors better understand the Fund and may not
provide a basis for comparison with other investments or
mutual funds which use a different method to calculate
performance.
<TABLE>
<CAPTION>
ANNUAL AVERAGE PERCENTAGE CHANGE
FISCAL EXPLORER S&P 500 RUSSELL CONSUMER
ENDED 10/31/95 FUND INDEX 2000 PRICE INDEX
-------------- -------- ------- ------- -----------
<S> <C> <C> <C> <C>
3 Years +14.5% +14.7 % +16.0% +2.7%
5 Years +22.8 +17.2 +22.1 +2.8
10 Years +10.7 +15.4 +11.8 +3.5
Lifetime* + 9.0 +10.9 N/A +5.6
*December 11, 1967, to October 31, 1995. Data for the Consumer
Price Index begins December 31, 1967.
</TABLE>
- --------------------------------------------------------------------------------
11
<PAGE> 14
DIVIDENDS,
CAPITAL GAINS
AND TAXES
THE FUND DISTRIBUTES
DIVIDENDS AND CAPITAL
GAINS ANNUALLY The Fund expects to pay dividends annually from ordinary
income. Net capital gains distributions, if any, will be
made annually.
In addition, in order to satisfy certain distribution
requirements of the Tax Reform Act of 1986, the Fund may
declare special year-end dividend and capital gains
distributions during December. Such distributions, if
received by shareholders by January 31, are deemed to have
been paid by the Fund and received by shareholders on
December 31 of the prior year.
Dividend and capital gains distributions may be
automatically reinvested or received in cash. See
"Choosing a Distribution Option" for a description of
these methods.
The Fund intends to continue to qualify for taxation as a
"regulated investment company" under the Internal Revenue
Code so that it will not be subject to federal income tax
to the extent its income is distributed to shareholders.
Dividends paid by the Fund from net investment income,
whether received in cash or reinvested in additional
shares, will be taxable to shareholders as ordinary
income.
For corporate investors, dividends from net investment
income will generally qualify in part for the
intercorporate dividends-received deduction. However, the
portion of the dividends so qualified depends on the
aggregate taxable qualifying dividend income received by
the Fund from domestic (U.S.) sources.
Distributions paid by the Fund from long-term capital
gains, whether received in cash or reinvested in
additional shares, are taxable as long-term capital gains,
regardless of the length of time you have owned shares in
the Fund. Capital gains distributions are made when the
Fund realizes net capital gains on sales of portfolio
securities during the year. The Fund does not seek to
realize any particular amount of capital gains during a
year; rather, realized gains are a by-product of portfolio
management activities. Consequently, capital gains
distributions may be expected to vary considerably from
year to year; there will be no capital gains distributions
in years when the Fund realizes net capital losses.
Note that if you elect to receive capital gains
distributions in cash, instead of reinvesting them in
additional shares, you are in effect reducing the capital
at work for you in the Fund. Also, keep in mind that if
you purchase shares in the Fund shortly before the record
date for a dividend or capital gains distribution, a
portion of your investment will be returned to you as a
taxable distribution, regardless of whether you are
reinvesting your distributions or receiving them in cash.
The Fund will notify you annually as to the tax status of
its dividend and capital gains distributions.
A CAPITAL GAIN OR LOSS
MAY BE REALIZED UPON
EXCHANGE OR
REDEMPTION A sale of shares of the Fund is a taxable event and may
result in a capital gain or loss. A capital gain or loss
may be realized from an ordinary redemption of shares or
an exchange of shares between two mutual funds (or two
portfolios of a mutual fund).
12
<PAGE> 15
Dividend distributions, capital gains distributions, and
capital gains or losses from redemptions and exchanges may
be subject to state and local taxes.
The Fund is required to withhold 31% of taxable dividends,
capital gains distributions, and redemptions paid to
shareholders who have not complied with IRS taxpayer
identification regulations. You may avoid this withholding
requirement by certifying on your Account Registration
Form your proper Social Security or Taxpayer
Identification Number and by certifying that you are not
subject to backup withholding.
The Fund has obtained a Certificate of Authority to do
business as a foreign corporation in Pennsylvania and does
business and maintains an office in that state. In the
opinion of counsel, the shares of the Fund are exempt from
Pennsylvania personal property taxes.
The tax discussion set forth above is included for general
information only. Prospective investors should consult
their own tax advisers concerning the tax consequences of
an investment in the Fund. The Fund is managed without
regard to tax ramifications.
- --------------------------------------------------------------------------------
THE SHARE PRICE
OF THE FUND The Fund's share price or "net asset value" per share is
determined by dividing the total assets of the Fund, less
all liabilities, by the total number of shares
outstanding. The net asset value is calculated at the
close of regular trading (generally 4:00 p.m. Eastern
time) each day the New York Stock Exchange is open for
trading.
Portfolio securities that are listed on an exchange are
valued at the latest quoted sales prices. Securities not
traded on the valuation date are valued at the mean of the
latest quoted bid and asked prices. Securities not listed
on an exchange are valued at the latest quoted bid price.
Short-term instruments (those with remaining maturities of
60 days or less) are valued at cost, plus or minus any
amortized discount or premium, which approximates market
values. The Fund values foreign securities using the
latest quoted share price or, if necessary, the security's
broadest and most representative market value. All prices
of listed securities are taken from the exchange where the
security is primarily traded. Securities may be valued on
the basis of prices provided by a pricing service when
such prices are believed to reflect the fair market value
of such securities. The prices provided by a pricing
service may be determined without regard to bid or last
sale prices of each security but take into account
institutional-size transactions in similar groups of
securities as well as any developments related to specific
securities. Other assets and securities for which market
quotations are not readily available or which are
restricted as to sale are valued by such methods as the
Board of Directors deems in good faith to reflect fair
value.
The Fund's price per share can be found daily in the
mutual fund section of most major newspapers under the
heading of Vanguard.
- --------------------------------------------------------------------------------
13
<PAGE> 16
GENERAL
INFORMATION Vanguard Explorer Fund, Inc. is a Maryland corporation. On
February 28, 1990, the Fund acquired the assets of
Explorer II, Inc., an investment company that was a member
of The Vanguard Group and that had investment objectives
and policies similar to those of the Fund. Also, on that
date the Fund retained Granahan Investment Management
Inc., the original investment adviser to Explorer II,
Inc., as an additional investment adviser.
The authorized capital stock of the Fund consists of
100,000,000 shares at the par value of $.001 each. The
Board of Directors has the power to designate one or more
classes ("Portfolios") of shares of common stock and to
classify or reclassify any unissued shares with respect to
such Portfolios. Currently the Fund is offering one class
of shares.
Annual meetings of shareholders will not be held except as
required by the Investment Company Act of 1940 and other
applicable law. An annual meeting will be held to vote on
the removal of a Director or Directors of the Fund if
requested in writing by the holders of not less than 10%
of the Fund.
The shares of the Fund are fully paid and nonassessable;
have no preferences as to conversion, exchange, dividends,
retirement or other features; and have no pre-emptive
rights. Such shares have noncumulative voting rights,
meaning that the holders of more than 50% of the shares
voting for the election of Directors can elect 100% of the
Directors if they so choose.
All securities and cash are held by State Street Bank and
Trust Company, Boston, MA. CoreStates Bank, N.A., holds
daily cash balances of the Fund which are used to invest
in repurchase agreements or securities acquired in these
transactions. The Vanguard Group, Inc., Valley Forge, PA,
serves as the Fund's Transfer and Dividend Disbursing
Agent. Price Waterhouse LLP, serves as independent
accountants for the Fund and audits its financial
statements annually. The Fund is not involved in any
litigation.
- --------------------------------------------------------------------------------
14
<PAGE> 17
SHAREHOLDER GUIDE
OPENING AN
ACCOUNT AND
PURCHASING
SHARES You may open a regular (non-retirement) account, either by
mail or wire. Simply complete and return an Account
Registration Form and any required legal documentation,
indicating the amount you wish to invest. Your purchase
must be equal to or greater than the $3,000 minimum
initial investment requirement ($1,000 for Uniform
Gifts/Transfers to Minors Act accounts). You must open a
new Individual Retirement Account by mail (IRAs may not be
opened by wire) using a Vanguard IRA Adoption Agreement.
Your purchase must be equal to or greater than the $1,000
minimum initial investment requirement, but no more than
$2,000 if you are making a regular IRA contribution.
Rollover contributions are generally limited to the amount
withdrawn within the past 60 days from an IRA or other
qualified Retirement Plan. If you need assistance with the
forms or have any questions about this Fund, please call
our Investor Information Department at 1-800-662-7447.
Note: For other types of account registrations (e.g.,
corporations, associations, other organizations, trusts or
powers of attorney), please call us to determine which
additional forms you may need.
The Fund's shares are purchased at the next-determined net
asset value after your investment has been received. The
Fund is offered on a no-load basis (i.e., there are no
sales commissions or 12b-1 fees).
PURCHASE
RESTRICTIONS 1) Because of the risks associated with common stock
investments, the Fund is intended to be a long-term
investment vehicle and is not designed to provide
investors with a means of speculating on short-term
stock market movements. Consequently the Fund reserves
the right to reject any specific purchase (and exchange
purchase) request. The Fund also reserves the right to
suspend the offering of shares for a period of time.
2) Vanguard will not accept third-party checks to purchase
shares of the Fund. Please be sure your purchase check
is made payable to The Vanguard Group.
ADDITIONAL
INVESTMENTS Subsequent investments to regular accounts may be made by
mail ($100 minimum), wire ($1,000 minimum), exchange from
another Vanguard Fund account, or Vanguard Fund Express.
Subsequent investments to Individual Retirement Accounts
may be made by mail ($100 minimum) or exchange from
another Vanguard Fund account. In some instances,
contributions may be made by wire or Vanguard Fund
Express. Please call us for more information on these
options.
- --------------------------------------------------------------------------------
15
<PAGE> 18
<TABLE>
<S> <C> <C>
ADDITIONAL INVESTMENTS
NEW ACCOUNT TO EXISTING ACCOUNTS
PURCHASING BY MAIL Please include the amount of Additional investments should
Complete and sign the your initial investment on the include the Invest-by-Mail
enclosed Account registration form, make your remittance form attached to your
Registration Form check payable to The Vanguard Fund confirmation statements.
Group-24, and mail to: Please make your check payable
to The Vanguard Group-24, write
VANGUARD FINANCIAL CENTER your account number on your
P.O. BOX 2600 check and, using the return
VALLEY FORGE, PA 19482 envelope provided, mail to the
address indicated on the Invest-
by-Mail Form.
For express or VANGUARD FINANCIAL CENTER All written requests should be
registered mail, 455 DEVON PARK DRIVE mailed to one of the addresses
send to: WAYNE, PA 19087 indicated for new accounts. Do
not send registered or express
mail to the post office box
address.
--------------------------------------------------------------------------------------
PURCHASING BY WIRE CORESTATES BANK, N.A.
Money should be ABA 031000011
wired to: CORESTATES NO. 0101 9897
ATTN VANGUARD
BEFORE WIRING VANGUARD EXPLORER FUND
Please contact ACCOUNT NUMBER
Client Services ACCOUNT REGISTRATION
(1-800-662-2739)
</TABLE>
To assure proper receipt, please be sure your bank
includes the name of the Fund selected, the account number
Vanguard has assigned to you and the eight-digit
CoreStates number. If you are opening a new account,
please complete the Account Registration Form and mail it
to the "New Account" address above after completing your
wire arrangement. Note: Federal Funds wire purchase orders
will be accepted only when the Fund and Custodian Bank are
open for business.
- --------------------------------------------------------------------------------
PURCHASING BY
EXCHANGE (from a
Vanguard account) You may open a new account or purchase additional shares
by making an exchange from an existing Vanguard Fund
account. However, the Fund reserves the right to refuse
any exchange purchase request. Call our Client Services
Department at 1-800-662-2739 for more information. The new
account will have the same registration as the existing
account.
- --------------------------------------------------------------------------------
PURCHASING BY
FUND EXPRESS
Special Purchase and
Automatic Investment The Fund Express Special Purchase option lets you move
money from your bank account to your Vanguard account on
an "as needed" basis. Or if you choose the Automatic
Investment option, money will be moved automatically from
your bank account to your Vanguard account on the schedule
(monthly, bimonthly [every other month], quarterly or
yearly) you select. To establish these Fund Express
options, please provide the appropriate information on the
Account Registration
16
<PAGE> 19
Form. We will send you a confirmation of your Fund Express
service; please wait three weeks before using the service.
- --------------------------------------------------------------------------------
CHOOSING A
DISTRIBUTION
OPTION You must select one of three distribution options:
1. AUTOMATIC REINVESTMENT OPTION -- Both dividends and
capital gains distributions will be reinvested in
additional Fund shares. This option will be selected
for you automatically unless you specify one of the
other options.
2. CASH DIVIDEND OPTION -- Your dividends will be paid in
cash and your capital gains will be reinvested in
additional Fund shares.
3. ALL CASH OPTION -- Both dividend and capital gains
distributions will be paid in cash.
You may change your option by calling our Client Services
Department (1-800-662-2739).
In addition, an option to invest your cash dividends
and/or capital gains distributions in another Vanguard
Fund account is available. Please call our Client Services
Department (1-800-662-2739) for information. You may also
elect Vanguard Dividend Express which allows you to
transfer your cash dividends and/or capital gains
distributions automatically to your bank account. Please
see "Other Vanguard Services" for more information.
- --------------------------------------------------------------------------------
TAX CAUTION
INVESTORS SHOULD ASK
ABOUT THE TIMING OF
CAPITAL GAINS AND
DIVIDEND DISTRIBUTIONS
BEFORE INVESTING Under Federal tax laws, the Fund is required to distribute
net capital gains and dividend income to Fund
shareholders. These distributions are made to all
shareholders who own Fund shares as of the distribution's
record date, regardless of how long the shares have been
owned. Purchasing shares just prior to the record date
could have a significant impact on your tax liability for
the year. For example, if you purchase shares immediately
prior to the record date of a sizable capital gain or
income dividend distribution, you will be assessed taxes
on the amount of the capital gain and/or dividend
distribution later paid even though you owned the Fund
shares for just a short period of time. (Taxes are due on
the distributions even if the dividend or gain is
reinvested in additional Fund shares.) While the total
value of your investment will be the same after the
distribution -- the amount of the distribution will offset
the drop in the net asset value of the shares -- you
should be aware of the tax implications the timing of your
purchase may have.
Prospective investors should, therefore, inquire about
potential distributions before investing. The Fund's
annual dividend and capital gains distributions normally
occur in December. For additional information on
distributions and taxes, see the section titled
"Dividends, Capital Gains and Taxes."
- --------------------------------------------------------------------------------
17
<PAGE> 20
IMPORTANT
ACCOUNT
INFORMATION
OPTIONAL SERVICES The easiest way to establish optional Vanguard services on
your account is to select the options you desire when you
complete your Account Registration Form. IF YOU WISH TO
ESTABLISH ADDITIONAL SHAREHOLDER OPTIONS FOR YOUR ACCOUNT,
YOU MAY NEED TO PROVIDE VANGUARD WITH ADDITIONAL
INFORMATION AND A SIGNATURE GUARANTEE. PLEASE CALL OUR
CLIENT SERVICES DEPARTMENT (1-800-662-2739) FOR FURTHER
ASSISTANCE.
SIGNATURE GUARANTEES For our mutual protection, we may require a signature
guarantee on certain written transaction requests. A
signature guarantee verifies the authenticity of your
signature and may be obtained from banks, brokers and any
other guarantor that Vanguard deems acceptable. A
SIGNATURE GUARANTEE CANNOT BE PROVIDED BY A NOTARY PUBLIC.
CERTIFICATES Share certificates will be issued upon request. If a
certificate is lost, you may incur an expense to replace
it.
BROKER/DEALER
PURCHASES If you purchase shares in Vanguard Funds through a
registered broker-dealer or investment adviser, the
broker-dealer or adviser may charge a service fee.
CANCELLING TRADES The Fund will not cancel any trade (e.g., purchase,
redemption or exchange) believed to be authentic, received
in writing or by telephone, once the trade has been
received.
ELECTRONIC
PROSPECTUS
DELIVERY If you would prefer to receive a prospectus for the Fund
or any of the Vanguard Funds in an electronic format,
please call 1-800-231-7870 for additional information. If
you elect to do so, you may also receive a paper copy of
the prospectus by calling 1-800-662-7447.
- --------------------------------------------------------------------------------
WHEN YOUR
ACCOUNT WILL BE
CREDITED Your trade date is the date on which your account is
credited. If your purchase is made by check, Federal Funds
wire, or exchange, and is received by the regular close of
the New York Stock Exchange (generally 4:00 p.m. Eastern
time), your trade date is the day of receipt. If your
purchase is received after the close of the Exchange, your
trade date is the next business day. Your shares are
purchased at the net asset value determined on your trade
date.
In order to prevent lengthy processing delays caused by
the clearing of foreign checks, Vanguard will only accept
a foreign check which has been drawn in U.S. dollars and
has been issued by a foreign bank with a U.S.
correspondent bank. The name of the U.S. correspondent
bank must be printed on the face of the foreign check.
- --------------------------------------------------------------------------------
SELLING YOUR
SHARES You may withdraw any portion of the funds in your account
by redeeming shares at any time (see Important Redemption
Information). You generally may initiate a request by
writing or by telephoning. Your redemption proceeds are
normally mailed within two business days after the receipt
of the request in Good Order.
18
<PAGE> 21
SELLING BY MAIL Requests should be mailed to VANGUARD FINANCIAL CENTER,
VANGUARD EXPLORER FUND, P.O. BOX 1120, VALLEY FORGE, PA
19482. (For express or registered mail, send your request
to Vanguard Financial Center, Vanguard Explorer Fund, 455
Devon Park Drive, Wayne, PA 19087.)
The redemption price of shares will be the Fund's net
asset value next determined after Vanguard has received
all required documents in Good Order.
- --------------------------------------------------------------------------------
DEFINITION OF
GOOD ORDER GOOD ORDER means that the request includes the following:
1. The account number and Fund name.
2. The amount of the transaction (specified in dollars or
shares).
3. Signatures of all owners EXACTLY as they are registered
on the account.
4. Any required signature guarantees.
5. Other supporting legal documentation that might be
required in the case of estates, corporations, trusts,
and certain other accounts.
6. Any certificates that you hold for the account.
IF YOU HAVE QUESTIONS ABOUT THIS DEFINITION AS IT PERTAINS
TO YOUR REQUEST, PLEASE CALL OUR CLIENT SERVICES
DEPARTMENT AT 1-800-662-2739.
- --------------------------------------------------------------------------------
SELLING BY TELEPHONE To sell shares by telephone, you or your pre-authorized
representative may call our Client Services Department at
1-800-662-2739. The proceeds will be sent to you by mail.
PLEASE NOTE: As a protection against fraud, your telephone
mail redemption privilege will be suspended for 15
calendar days following any expedited address change to
your account. An expedited address change is one that is
made by telephone, by Vanguard Online or, in writing,
without the signatures of all account owners. Please see
"Important Information About Telephone Transactions."
- --------------------------------------------------------------------------------
SELLING BY
FUND EXPRESS
Automatic Withdrawal
& Special Redemption With the Fund Express Automatic Withdrawal option, money
will be automatically moved from your Vanguard Fund
account to your bank account according to the schedule you
have selected. The Special Redemption option lets you move
money from your Vanguard account to your bank account on
an "as needed" basis. To establish these Fund Express
options, please provide the appropriate information on the
Account Registration Form. We will send you a confirmation
of your Fund Express service; please wait three weeks
before using the service.
- --------------------------------------------------------------------------------
SELLING BY EXCHANGE You may sell shares of the Fund by making an exchange into
another Vanguard Fund account. Please see "Exchanging Your
Shares" for details.
- --------------------------------------------------------------------------------
IMPORTANT
REDEMPTION
INFORMATION Shares purchased by check or Fund Express may be redeemed
at any time. However, your redemption proceeds will not be
paid until payment for the purchase is collected, which
may take up to ten calendar days.
- --------------------------------------------------------------------------------
DELIVERY OF
REDEMPTION PROCEEDS Redemption requests received by telephone prior to the
regular close of the New York Stock Exchange (generally,
4:00 p.m. Eastern time), are processed on the day of
receipt and the redemption proceeds are normally sent on
the following business day.
19
<PAGE> 22
Redemption requests received by telephone after the close
of the Exchange are processed on the business day
following receipt and the proceeds are normally sent on
the second business day following receipt.
All unpaid dividend and capital gains distributions
credited to your account up to the date of redemption will
be included in the redemption check. Redemption proceeds
must be sent to you within seven days of receipt of your
request in Good Order, except as otherwise provided above
in "Important Redemption Information."
If you experience difficulty in making a telephone
redemption during periods of drastic economic or market
changes, your redemption request may be made by regular or
express mail. It will be implemented at the net asset
value next determined after your request has been received
by Vanguard in Good Order. The Fund reserves the right to
revise or terminate the telephone redemption privilege at
any time.
The Fund may suspend the redemption right or postpone
payment at times when the New York Stock Exchange is
closed, or under any emergency circumstances as determined
by the United States Securities and Exchange Commission.
If the Board of Directors determines that it would be
detrimental to the best interests of the Fund's remaining
shareholders to make payment in cash, the Fund may pay
redemption proceeds in whole or in part by a distribution
in kind of readily marketable securities.
- --------------------------------------------------------------------------------
VANGUARD'S AVERAGE
COST STATEMENT If you make a redemption from a qualifying account,
Vanguard will send you an Average Cost Statement which
provides you with the tax basis of the shares you
redeemed. Please see "Statements and Reports" for
additional information.
- --------------------------------------------------------------------------------
LOW BALANCE FEE AND
MINIMUM ACCOUNT
BALANCE REQUIREMENT Due to the relatively high cost of maintaining smaller
accounts, the Fund will automatically deduct a $10 annual
fee from non-retirement accounts with balances falling
below $2,500 ($500 for Uniform Gifts/Transfers to Minors
Act accounts). This fee deduction will occur mid-year,
beginning in 1996. The fee generally will be waived for
investors whose aggregate Vanguard assets exceed $50,000.
In addition, the Fund reserves the right to liquidate any
non-retirement account that is below the minimum initial
investment amount of $3,000. If at any time the total
investment does not have a value of at least $3,000, you
may be notified that your account is below the Fund's
minimum account balance requirement. You would then be
allowed 60 days to make an additional investment before
the account is liquidated. Proceeds would be promptly paid
to the shareholder.
Vanguard will not liquidate your account if it has fallen
below $3,000 solely as a result of declining markets
(i.e., a decline in a Fund's net asset value.)
- --------------------------------------------------------------------------------
EXCHANGING YOUR
SHARES Should your investment goals change, you may exchange your
shares of Vanguard Explorer Fund for those of other
available Vanguard Funds. Exchanges to or from Vanguard
Explorer Fund may be made by mail or by telephone.
- --------------------------------------------------------------------------------
20
<PAGE> 23
EXCHANGING BY
TELEPHONE
Call Client Services
(1-800-662-2739) When exchanging shares by telephone, please have ready the
Fund name, account number, Social Security number or
Employer Identification number listed on the account, and
the exact name and address in which the account is
registered. Requests for telephone exchanges received
prior to the close of trading on the New York Stock
Exchange (generally 4:00 p.m. Eastern time) are processed
at the close of business that same day. Requests received
after the close of regular trading on the Exchange are
processed the next business day. TELEPHONE EXCHANGES ARE
NOT ACCEPTED INTO OR FROM VANGUARD BALANCED INDEX FUND,
VANGUARD INDEX TRUST, VANGUARD INTERNATIONAL EQUITY INDEX
FUND AND VANGUARD QUANTITATIVE PORTFOLIOS. If you
experience difficulty in making a telephone exchange, your
exchange request may be made by regular or express mail,
and it will be implemented at the closing net asset value
on the date received by Vanguard provided the request is
received in Good Order.
- --------------------------------------------------------------------------------
EXCHANGING BY MAIL Please be sure to include on your exchange request the
name and account number of your current Fund, the name of
the Fund you wish to exchange into, the amount you wish to
exchange, and the signatures of all registered account
holders. Send your request to VANGUARD FINANCIAL CENTER,
VANGUARD EXPLORER FUND, P.O. BOX 1120, VALLEY FORGE, PA
19482. (For express or registered mail, send your request
to Vanguard Financial Center, Vanguard Explorer Fund, 455
Devon Park Drive, Wayne, PA 19087.)
- --------------------------------------------------------------------------------
IMPORTANT EXCHANGE
INFORMATION Before you make an exchange, you should consider the
following:
- Please read the Fund's prospectus before making an
exchange. For a copy and for answers to any questions
you may have, call our Investor Information Department
(1-800-662-7447).
- An exchange is treated as a redemption and a purchase;
therefore, you could realize a taxable gain or loss on
the transaction.
- Exchanges are accepted only if the registrations and the
Taxpayer Identification numbers of the two accounts are
identical.
- The shares to be exchanged must be on deposit and not
held in certificate form.
- New accounts are not currently accepted in
Vanguard/Windsor Fund or Vanguard/PRIMECAP Fund.
- The redemption price of shares redeemed by exchange is
the net asset value next determined after Vanguard has
received the required documentation in Good Order.
- When opening a new account by exchange, you must meet
the minimum investment requirement of the new Fund.
Every effort will be made to maintain the exchange
privilege. However, the Fund reserves the right to revise
or terminate its provisions and limit the amount of or
reject any exchange, as deemed necessary, at any time.
21
<PAGE> 24
The exchange privilege is only available in states in
which the shares of the Fund are registered for sale. The
Fund's shares are currently registered for sale in all 50
states and the Fund intends to maintain such registration.
- --------------------------------------------------------------------------------
EXCHANGE
PRIVILEGE
LIMITATIONS The Fund's exchange privilege is not intended to afford
shareholders a way to speculate on short-term movements in
the market. Accordingly, in order to prevent excessive use
of the exchange privilege that may potentially disrupt the
management of the Fund and increase transaction costs, the
Fund has established a policy of limiting excessive
exchange activity.
Exchange activity generally will not be deemed excessive
if limited to TWO SUBSTANTIVE EXCHANGE REDEMPTIONS (AT
LEAST 30 DAYS APART) from the Fund during any twelve
month period. Notwithstanding these limitations, the Fund
reserves the right to reject any purchase request
(including exchange purchases from other Vanguard
portfolios) that is reasonably deemed to be disruptive to
efficient portfolio management.
- --------------------------------------------------------------------------------
IMPORTANT
INFORMATION
ABOUT TELEPHONE
TRANSACTIONS The ability to initiate redemptions (except wire
redemptions) and exchanges by telephone is automatically
established on your account unless you request in writing
that telephone transactions on your account not be
permitted.
To protect your account from losses resulting from
unauthorized or fraudulent telephone instructions,
Vanguard adheres to the following security procedures:
1. SECURITY CHECK. To request a transaction by telephone,
the caller must know (i) the name of the Portfolio;
(ii) the 10-digit account number; (iii) the exact name
and address used in the registration; and (iv) the
Social Security or Taxpayer Identification number
listed on the account.
2. PAYMENT POLICY. The proceeds of any telephone
redemption made by mail will be made payable to the
registered shareowner and mailed to the address of
record, only.
Neither the Fund nor Vanguard will be responsible for the
authenticity of transaction instructions received by
telephone, provided that reasonable security procedures
have been followed. Vanguard believes that the security
procedures described above are reasonable, and that if
such procedures are followed, you will bear the risk of
any losses resulting from unauthorized or fraudulent
telephone transactions on your account. If Vanguard fails
to follow reasonable security procedures, it may be liable
for any losses resulting from unauthorized or fraudulent
telephone transactions on your account.
- --------------------------------------------------------------------------------
TRANSFERRING
REGISTRATION You may transfer the registration of any of your Fund
shares to another person by completing a transfer form and
sending it to: VANGUARD FINANCIAL CENTER, P.O. BOX 1110,
VALLEY FORGE, PA 19482. The request must be in Good Order.
BEFORE MAILING YOUR REQUEST, PLEASE CALL OUR CLIENT
SERVICES DEPARTMENT (1-800-662-2739) FOR FULL
INSTRUCTIONS.
- --------------------------------------------------------------------------------
22
<PAGE> 25
STATEMENTS AND
REPORTS Vanguard will send you a confirmation statement each time
you initiate a transaction in your account (except for
checkwriting redemptions from Vanguard money market
accounts). You will also receive a comprehensive account
statement at the end of each calendar quarter. The
fourth-quarter statement will be a year-end statement,
listing all transaction activity for the entire calendar
year.
Vanguard's Average Cost Statement provides you with the
average cost of shares redeemed from your account, using
the average cost single category method. This service is
available for most taxable accounts opened since January
1, 1986. In general, investors who redeemed shares from a
qualifying Vanguard account may expect to receive an
Average Cost Statement along with their Portfolio Summary
Statements. Please call our Client Services Department
(1-800-662-2739) for information.
Financial reports on the Fund will be mailed to you
semi-annually, according to the Fund's fiscal year-end.
- --------------------------------------------------------------------------------
OTHER VANGUARD
SERVICES For more information about any of these services, please
call our Investor Information Department at
1-800-662-7447.
VANGUARD DIRECT
DEPOSIT SERVICE With Vanguard's Direct Deposit Service, most U.S.
Government checks (including Social Security and military
pension checks) and private payroll checks may be
automatically deposited into your Vanguard Fund account.
Separate brochures and forms are available for direct
deposit of U.S. Government and private payroll checks.
VANGUARD AUTOMATIC
EXCHANGE SERVICE Vanguard's Automatic Exchange Service allows you to move
money automatically among your Vanguard Fund accounts. For
instance, the service can be used to "dollar cost average"
from a money market portfolio into a stock or bond fund or
to contribute to an IRA or other retirement plan. Please
contact our Client Services Department at 1-800-662-2739
for additional information.
VANGUARD FUND
EXPRESS Vanguard's Fund Express allows you to transfer money
between your Fund account and your account at a bank,
savings and loan association, or a credit union that is a
member of the Automated Clearing House (ACH) system. You
may elect this service on the Account Registration Form or
call our Investor Information Department (1-800-662-7447)
for a Fund Express application.
Special rules govern how your Fund Express purchases or
redemptions are credited to your account. In addition,
some services of Fund Express cannot be used with specific
Vanguard Funds. For more information, please refer to the
Vanguard Fund Express brochure.
VANGUARD DIVIDEND
EXPRESS Vanguard's Dividend Express allows you to transfer your
dividends and/or capital gains distributions
automatically from your Fund account, one business day
after the Fund's payable date, to your account at a bank,
savings and loan association, or a credit union that is a
member of the Automated Clearing House (ACH) system. You
may elect this service on the Account Registration Form
or call our Investor Information Department
(1-800-662-7447) for a Vanguard Dividend Express
application.
23
<PAGE> 26
VANGUARD
TELE-ACCOUNT Vanguard's Tele-Account is a convenient, automated service
that provides share price, price change and yield
quotations on Vanguard Funds through any TouchToneTM
telephone. This service also lets you obtain information
about your account balance, your last transaction, and
your most recent dividend or capital gains payment. To
contact Vanguard's Tele-Account service, dial
1-800-ON-BOARD (1-800-662-6273). A brochure offering
detailed operating instructions is available from the
Investor Information Department (1-800-662-7447).
- --------------------------------------------------------------------------------
24
<PAGE> 27
(THIS PAGE INTENTIONALLY LEFT BLANK.)
<PAGE> 28
(THIS PAGE INTENTIONALLY LEFT BLANK.)
<PAGE> 29
(THIS PAGE INTENTIONALLY LEFT BLANK.)
<PAGE> 30
<TABLE>
<S> <C> <C>
P024 [LOGO]
[VANGUARD EXPLORER FUND LOGO] [VANGUARD EXPLORER FUND LOGO]
-------------------------- P R O S P E C T U S
THE VANGUARD GROUP
OF INVESTMENT FEBRUARY 23, 1996; REVISED AUGUST 1, 1996
COMPANIES [VANGUARD GROUP LOGO]
Vanguard Financial Center
P.O. Box 2600
Valley Forge, PA 19482
INVESTOR INFORMATION
DEPARTMENT:
1-800-662-7447 (SHIP)
CLIENT SERVICES
DEPARTMENT:
1-800-662-2739 (CREW)
TELE-ACCOUNT FOR
24-HOUR ACCESS:
1-800-662-6273 (ON-BOARD)
TELECOMMUNICATION SERVICE
FOR THE HEARING-IMPAIRED:
1-800-662-2738
TRANSFER AGENT:
The Vanguard Group, Inc.
Vanguard Financial Center
Valley Forge, PA 19482
</TABLE>
- --------------------------------------------------------------------------------
<PAGE> 31
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
[VANGUARD EXPLORER FUND LOGO] A Member of The Vanguard Group
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
PROSPECTUS -- FEBRUARY 23, 1996; REVISED AUGUST 1, 1996
- --------------------------------------------------------------------------------
FUND INFORMATION: INSTITUTIONAL PARTICIPANT SERVICES -- 1-800-523-1188
- --------------------------------------------------------------------------------
INVESTMENT
OBJECTIVE AND
POLICIES Vanguard Explorer Fund, Inc. (the "Fund") is an open-end
diversified investment company that seeks to provide
long-term growth in capital. The Fund invests primarily in
equity securities of small companies deemed to have
favorable prospects for growth in market value. Dividend
income is expected to be incidental to this objective.
There is no assurance that the Fund will achieve its
stated objective. Shares of the Fund are neither insured
nor guaranteed by any agency of the U.S. Government,
including the FDIC.
- --------------------------------------------------------------------------------
IMPORTANT NOTE This Prospectus is intended exclusively for participants
in employer-sponsored retirement or savings plans, such as
tax-qualified pension and profit-sharing plans and 401(k)
thrift plans, as well as 403(b) custodial accounts for
non-profit educational and charitable organizations.
Another version of this Prospectus, containing information
on how to open a personal investment account with the
Fund, is available for individual investors. To obtain a
copy of that version of the Prospectus, please call
1-800-662-7447.
- --------------------------------------------------------------------------------
OPENING AN
ACCOUNT The Fund is an investment option under a retirement or
savings program sponsored by your employer. The
administrator of your retirement plan or your employee
benefits office can provide you with detailed information
on how to participate in your plan and how to elect the
Fund as an investment option. If you have any questions
about the Fund please contact Participant Services at
1-800-523-1188. If you have any questions about your plan
account, contact your plan administrator or the
organization that provides recordkeeping services for your
plan.
- --------------------------------------------------------------------------------
ABOUT THIS
PROSPECTUS This Prospectus is designed to set forth concisely the
information you should know about the Fund before you
invest. It should be retained for future reference. A
"Statement of Additional Information" containing
additional information about the Fund has been filed with
the Securities and Exchange Commission. This Statement is
dated February 23, 1996; revised August 1, 1996 and has
been incorporated by reference into this Prospectus. A
copy may be obtained without charge by writing to the Fund
or by calling Participant Services.
- --------------------------------------------------------------------------------
TABLE OF CONTENTS
<TABLE>
<S> <C> <C>
Page Page Page
Fund Expenses ..................... 2 Investment Risks .................. 5 Dividends, Capital Gains
Financial Highlights .............. 2 Who Should Invest ................. 6 and Taxes ........................ 12
Yield and Total Return ............ 3 Implementation of Policies ........ 6 The Funds Share Price ............ 12
FUND INFORMATION Investment Limitations ............ 8 General Information .............. 13
Investment Objective .............. 4 Management of the Fund ............ 8 SERVICE GUIDE
Investment Policies ............... 4 Investment Advisers ............... 9 Participating in Your
Performance Record ............... 11 Plan ............................. 14
</TABLE>
- --------------------------------------------------------------------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION, NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE COMMISSION PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE> 32
FUND EXPENSES The following table illustrates ALL expenses and fees that
a shareholder of the Fund would incur. The expenses and
fees set forth in the table are for the 1995 fiscal year.
<TABLE>
<S> <C> <C>
SHAREHOLDER TRANSACTION EXPENSES
----------------------------------------------------------------------------------
Sales Load Imposed on Purchases........................................ None
Sales Load Imposed on Reinvested Dividends............................. None
Redemption Fees........................................................ None
Exchange Fees.......................................................... None
ANNUAL FUND OPERATING EXPENSES
----------------------------------------------------------------------------------
Management & Administrative Expenses................................... 0.36%
Investment Advisory Fees............................................... 0.28
12b-1 Fees............................................................. None
Other Expenses
Distribution Costs........................................... 0.02%
Miscellaneous Expenses....................................... 0.02
-----
Total Other Expenses................................................... 0.04%
-----
TOTAL OPERATING EXPENSES...................................... 0.68%
=====
</TABLE>
The purpose of this table is to assist you in
understanding the various costs and expenses that an
investor would bear directly or indirectly as a
shareholder in the Fund.
The following example illustrates the expenses that you
would incur on a $1,000 investment over various periods,
assuming (1) a 5% annual rate of return and (2) redemption
at the end of each period. As noted in the table above,
the Fund charges no redemption fees of any kind.
<TABLE>
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C>
$7 $22 $38 $ 85
</TABLE>
This example should not be considered a representation of
past or future expenses or performance. Actual expenses
may be higher or lower than those shown.
- --------------------------------------------------------------------------------
FINANCIAL
HIGHLIGHTS The following financial highlights for a share outstanding
throughout each year, insofar as they relate to each of
the five years in the period ended October 31, 1995, have
been audited by Price Waterhouse LLP, independent
accountants, whose report thereon was unqualified. This
information should be read in conjunction with the Fund's
financial statements and notes thereto which, together
with the remaining portions of the Fund's 1995 Annual
Report to Shareholders, are incorporated by reference in
the Statement of Additional Information and this
Prospectus, and which appear, along with the report of
Price Waterhouse LLP, in the Fund's 1995 Annual Report to
Shareholders. For a more complete discussion of the Fund's
performance, please see the Fund's 1995 Annual Report to
Shareholders, which may be obtained without charge by
writing to the Fund or by calling Participant Services at
1-800-523-1188.
2
<PAGE> 33
<TABLE>
<CAPTION>
YEAR ENDED OCTOBER 31,
-----------------------------------------------------------------------------------------
1995 1994 1993 1992 1991 1990 1989 1988 1987 1986
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
- -----------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE,
BEGINNING OF YEAR........ $45.99 $49.37 $41.23 $36.75 $22.62 $30.76 $29.64 $25.06 $31.59 $32.56
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
INVESTMENT OPERATIONS
Net Investment Income.... .24 .16 .14 .15 .26 .31 .39 .27 .09 .02
Net Realized and
Unrealized Gain (Loss)
on Investments......... 7.25 1.77 8.91 4.59 14.21 (7.07) 2.64 6.38 (3.33) .63
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL FROM INVESTMENT
OPERATIONS........... 7.49 1.93 9.05 4.74 14.47 (6.76) 3.03 6.65 (3.24) .65
- -----------------------------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net
Investment Income...... (.17) (.14) (.13) (.26) (.34) (.37) (.32) (.11) (.02) (.33)
Distributions from
Realized
Capital Gains.......... (2.26) (5.17) (.78) -- -- (1.01) (1.59) (1.96) (3.27) (1.29)
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
TOTAL DISTRIBUTIONS.... (2.43) (5.31) (.91) (.26) (.34) (1.38) (1.91) (2.07) (3.29) (1.62)
- -----------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF
YEAR..................... $51.05 $45.99 $49.37 $41.23 $36.75 $22.62 $30.76 $29.64 $25.06 $31.59
=============================================================================================================================
TOTAL RETURN............... 17.46% 4.49% 22.28% 12.95% 64.64% (22.92)% 10.95% 28.73% (11.42)% 1.98%
=============================================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Year
(Millions)............... $1,476 $1,112 $802 $519 $381 $207 $270 $266 $210 $272
Ratio of Expenses to
Average Net Assets....... .68% .70% .73% .69% .56% .67% .58% .65% .62% .76%
Ratio of Net Investment
Income to Average Net
Assets................... .52% .39% .32% .38% .85% 1.11% 1.24% .99% .28% .05%
Portfolio Turnover Rate.... 66% 82% 51% 43% 49% 46% 16% 28% 9% 15%
</TABLE>
- --------------------------------------------------------------------------------
YIELD AND TOTAL
RETURN From time to time the Fund may advertise its yield and
total return. Both yield and total return figures are
based on historical earnings and are not intended to
indicate future performance. The "total return" of the
Fund refers to the average annual compounded rates of
return over one-, five- and ten-year periods or over the
life of the Fund (as stated in the advertisement) that
would equate an initial amount invested at the beginning
of a stated period to the ending redeemable value of the
investment, assuming the reinvestment of all dividend and
capital gains distributions.
In accordance with industry guidelines set forth by the
U.S. Securities and Exchange Commission, the "30-day
yield" of the Fund is calculated by dividing the net
investment income per share earned during a 30-day period
by the net asset value per share on the last day of the
period. Net investment income includes interest and
dividend income earned on the Fund's securities; it is net
of all expenses and all recurring and nonrecurring charges
that have been applied to all shareholder accounts. The
yield calculation assumes that the net investment income
earned over 30 days is compounded monthly for six months
and then annualized. Methods used to calculate advertised
yields are standardized for all stock and bond mutual
funds. However, these methods differ from the accounting
methods used by the Fund to maintain its books and
records, and so the advertised 30-day yield may not fully
reflect the income paid to an investor's account or the
yield reported in the Fund's reports to shareholders.
Additionally, the Fund may compare its performance to that
of the unmanaged Russell 2000 Stock Index.
- --------------------------------------------------------------------------------
3
<PAGE> 34
INVESTMENT
OBJECTIVE
THE FUND SEEKS TO
PROVIDE LONG-TERM
CAPITAL GROWTH The objective of the Fund is to provide long-term capital
growth by investing primarily in the equity securities of
small companies. Dividend income is expected to be
incidental to this objective. There is no assurance that
the Fund will achieve its stated objective.
The investment objective of the Fund is fundamental and so
cannot be changed without the approval of a majority of
the Fund's shareholders.
- --------------------------------------------------------------------------------
INVESTMENT
POLICIES
THE FUND INVESTS IN
SMALL COMPANY STOCKS The Fund invests primarily in the equity securities of
small companies which are deemed to offer favorable
prospects for growth in market value. These securities are
primarily common stocks but may also include securities
convertible into common stocks. The Fund is managed
without regard to tax ramifications.
Securities purchased by the Fund may be issued by small or
unseasoned companies with speculative risk
characteristics. Dividend income paid by such securities,
if any, will ordinarily be negligible. These securities
will generally be traded in established over-the-counter
markets, rather than on a national securities exchange.
The median market capitalization of the companies included
in the Fund -- that is, the median market value of the
companies' outstanding shares -- is expected to range from
$100 million to $500 million. By comparison, for companies
included in the Russell 2000 Stock Index, a benchmark of
the market for small company stocks, the median market
capitalization is approximately $430 million. The median
capitalization of companies in the Standard & Poor's 500
Composite Stock Price Index, a widely used measure of the
broad stock market, is approximately $17.2 billion.
In addition to investing in the equity securities of small
companies, the Fund may purchase stock futures contracts
and options to a limited extent, and may invest in certain
short-term fixed income securities. The Fund is also
authorized to invest, to a limited extent, in foreign and
restricted or illiquid securities. See "Implementation of
Policies" for a description of these and other investment
practices of the Fund.
The Fund is responsible for voting the shares of all
securities it holds.
These policies are not fundamental and therefore may be
changed by the Fund's Board of Directors without
shareholder approval. However, shareholders will be
notified prior to any material change in the Fund's
policies.
- --------------------------------------------------------------------------------
4
<PAGE> 35
INVESTMENT RISKS
INVESTORS ARE EXPOSED
TO THE MARKET RISK
OF STOCKS As a mutual fund investing primarily in common stocks, the
Fund is subject to MARKET RISK -- i.e., the possibility
that stock prices in general will decline over short or
even extended periods. The stock market tends to be
cyclical, with periods when stock prices generally rise
and periods when stock prices generally decline.
To illustrate the volatility of stock prices, the
following table sets forth the extremes for U.S. stock
market returns as well as the average return for the
period from 1926 to 1995, as measured by the Standard &
Poor's 500 Composite Stock Price Index:
<TABLE>
<CAPTION>
AVERAGE ANNUAL U.S. STOCK MARKET RETURNS (1926-1995)
OVER VARIOUS TIME HORIZONS
1 YEAR 5 YEARS 10 YEARS 20 YEARS
------ ------- -------- --------
<S> <C> <C> <C> <C>
Best +53.9% +23.9% +20.1% +16.9%
Worst -43.3 -12.5 -0.9 +3.1
Average +12.5 +10.3 +10.7 +10.7
</TABLE>
As shown, common stocks have provided annual total returns
(capital appreciation plus dividend income) averaging
+10.7% for all 10-year periods from 1926 to 1995. The
return in individual years has varied from a low of -43.3%
to a high of +53.9%, reflecting the short-term volatility
of stock prices. Average return may not be useful for
forecasting future returns in any particular period, as
stock returns are quite volatile from year to year.
SMALL COMPANY STOCKS
MAY EXHIBIT GREATER
VOLATILITY Small company stocks, which are the Fund's primary
investments, have historically been more volatile in price
than the stock market as a whole. Among the likely reasons
for the greater price volatility of small company stocks
are the less certain growth prospects of smaller firms, a
low degree of liquidity in the markets for small company
stocks, and the small to negligible dividends generally
paid by small companies. Besides exhibiting greater
volatility, small company stocks have at times fluctuated
in value independently of the broad stock market.
Investors should therefore expect that small company
stocks (and hence the Fund's investments) may be more
volatile than the stocks of more established companies. In
addition, investors should recognize that small company
stocks may rise or fall in value independently of the
broad stock market.
THE FUND IS SUBJECT
TO MANAGER RISK The investment adviser manages the Fund according to the
traditional methods of "active" investment management,
which involve the buying and selling of securities based
upon economic, financial and market analysis and
investment judgement. MANAGER RISK refers to the
possibility that the Fund's investment advisers
may fail to execute the Fund's investment strategy
effectively. As a result, the Fund may fail to achieve its
stated objective.
- --------------------------------------------------------------------------------
5
<PAGE> 36
WHO SHOULD
INVEST
INVESTORS SEEKING
LONG-TERM GROWTH The Fund is intended for investors who have the
perspective, patience and financial ability to assume
above-average interim investment risks in pursuit of
long-term capital growth. Since a portion of the
securities the Fund owns may be considered speculative in
nature or unseasoned by traditional investment standards,
substantially greater-than-average investment risk is
involved. The Fund's share price is expected to be
volatile. Because of the risks associated with common
stock investments, the Fund is intended to be a long-term
investment vehicle and is not designed to provide
investors with a means of speculating on short-term market
movements. Investors who engage in excessive account
activity generate additional costs which are borne by all
of the Fund's shareholders. In order to minimize such
costs, the Fund has adopted certain policies. The Fund
reserves the right to reject any purchase request
(including exchange purchases from other Vanguard
portfolios) that is reasonably deemed to be disruptive to
efficient portfolio management, either because of the
timing of the investment or previous excessive trading by
the investor. Additionally, the Fund reserves the right to
suspend the offering of its shares.
No assurance can be given that the Fund will attain its
objective or that shareholders will be protected from the
risk of loss that is inherent in equity investing.
Investors may wish to reduce the potential risk of
investing in the Fund by purchasing shares on a periodic
basis (dollar-cost averaging) rather than making an
investment in one lump sum.
The Fund is not intended as a complete investment program.
Most investors should maintain diversified holdings of
securities with different risk characteristics --
including common stocks, bonds and money market
instruments. Investors may also wish to complement an
investment in the Fund with other types of common stock
investments.
- --------------------------------------------------------------------------------
IMPLEMENTATION
OF POLICIES In addition to investing in the equity securities of small
companies, the Fund may use a number of other investment
vehicles to achieve its objective.
THE FUND MAY INVEST IN
FOREIGN AND RESTRICTED
OR ILLIQUID STOCKS The Fund is authorized to invest up to 20% of its assets
in foreign securities and may engage in currency
transactions with respect to such investments. The Fund is
also authorized to invest up to 15% of its assets in
restricted or illiquid securities.
THE FUND MAY INVEST
IN SHORT-TERM FIXED
INCOME SECURITIES Although it normally seeks to remain substantially
invested in equity securities, the Fund may invest for
temporary purposes in certain short-term fixed income
securities. Such securities may be used to invest
uncommitted cash balances, to maintain liquidity to meet
shareholder redemptions, or to take a temporarily
defensive position against potential stock market
declines. These securities include: obligations of the
United States Government and its agencies or
instrumentalities; commercial paper, bank certificates of
deposit, and bankers' acceptances; and repurchase
agreements collateralized by these securities.
THE FUND MAY LEND
ITS SECURITIES The Fund may lend its investment securities to qualified
institutional investors for either short-term or long-term
purposes of realizing additional income. Loans of
securities by the Fund will be collateralized by cash,
letters of credit, or securities
6
<PAGE> 37
issued or guaranteed by the U.S. Government or its
agencies. The collateral will equal at least 100% of the
current market value of the loaned securities.
THE FUND MAY BORROW
MONEY UNDER UNUSUAL
CIRCUMSTANCES The Fund may borrow money, subject to the limits set forth
on page 8, for temporary or emergency purposes, including
the meeting of redemption requests which might otherwise
require the untimely disposition of securities.
PORTFOLIO TURNOVER WILL
NOT EXCEED 100% Although it generally seeks to invest for the long term,
the Fund retains the right to sell securities irrespective
of how long they have been held. It is anticipated that
the annual portfolio turnover rate of the Fund will not
exceed 100%. A turnover rate of 100% would occur, for
example, if all of the securities of the Fund were
replaced within one year.
DERIVATIVE
INVESTING Derivatives are instruments whose values are linked to or
derived from an underlying security or index. The most
common and conventional types of derivative securities are
futures and options.
THE FUND MAY INVEST
IN DERIVATIVE SECURITIES
The Fund may invest in futures contracts and options, but
only to a limited extent. Specifically, the Fund may enter
into futures contracts provided that not more than 5% of
its assets are required as a futures contract deposit; in
addition, the Fund may enter into futures contracts and
options transactions only to the extent that obligations
under such contracts or transactions represent not more
than 20% of the Fund's assets.
Futures contracts and options may be used for several
common fund management strategies: to maintain cash
reserves while simulating full investment, to facilitate
trading, to reduce transaction costs, or to seek higher
investment returns when a specific futures contract is
priced more attractively than other futures contracts or
the underlying security or index.
The Fund may use futures contracts for bona fide "hedging"
purposes. In executing a hedge, a manager sells, for
example, stock index futures to protect against a decline
in the stock market. As such, if the market drops, the
value of the futures position will rise, thereby
offsetting the decline in value of the Fund's stock
holdings.
FUTURES CONTRACTS AND
OPTIONS POSE CERTAIN
RISKS The primary risks associated with the use of futures
contracts and options are: (i) imperfect correlation
between the change in market value of the stocks held by
the Fund and the prices of futures contracts and options;
and (ii) possible lack of a liquid secondary market for a
futures contract and the resulting inability to close a
futures position prior to its maturity date. The risk of
imperfect correlation will be minimized by investing in
those contracts whose price fluctuations are expected to
resemble those of the Portfolio's underlying securities.
The risk that the Fund will be unable to close out a
futures position will be minimized by entering into such
transactions on a national exchange with an active and
liquid secondary market.
- --------------------------------------------------------------------------------
7
<PAGE> 38
INVESTMENT
LIMITATIONS The Fund has adopted certain limitations on its investment
practices. Specifically, the Fund will not:
THE FUND HAS ADOPTED
CERTAIN FUNDAMENTAL
LIMITATIONS (a) with respect to 75% of the value of its total assets,
purchase the securities of any issuer (except
obligations of the United States government and its
instrumentalities) if as a result the Fund would hold
more than 10% of the outstanding voting securities of
the issuer, or more than 5% of the value of the Fund's
total assets would be invested in the securities of
such issuer;
(b) invest more than 25% of its assets in any one
industry; and
(c) borrow money except from a bank (or through reverse
repurchase agreements) for temporary or emergency (not
leveraging) purposes, and then in an amount not
exceeding 15% of the value of the Fund's net assets at
the time the borrowing is made. Whenever borrowing
exceeds 5% of the value of the Fund's net assets, the
Fund will not make any additional investments.
These investment limitations are considered at the time
investment securities are purchased. The limitations
described here and in the Statement of Additional
Information may be changed only with the approval of a
majority of the Fund's shareholders.
- --------------------------------------------------------------------------------
MANAGEMENT OF
THE FUND
VANGUARD ADMINISTERS
AND DISTRIBUTES THE
FUND The Fund is a member of The Vanguard Group of Investment
Companies, a family of more than 30 investment companies
with more than 90 distinct investment portfolios and total
assets in excess of $180 billion. Through their
jointly-owned subsidiary, The Vanguard Group, Inc.
("Vanguard"), the Fund and the other funds in the Group
obtain at cost virtually all of their corporate
management, administrative, shareholder accounting and
distribution services. Vanguard also provides investment
advisory services on an at-cost basis to certain Vanguard
funds. As a result of Vanguard's unique corporate
structure, the Vanguard funds have costs substantially
lower than those of most competing mutual funds. In 1995,
the average expense ratio (annual costs including advisory
fees divided by total net assets) for the Vanguard funds
amounted to approximately .31% compared to an average of
1.11% for the mutual fund industry (data provided by
Lipper Analytical Services).
The Officers of the Fund manage its day-to-day operations
and are responsible to the Fund's Directors. The Directors
set broad policies for the Fund and choose its Officers. A
list of Directors and Officers of the Fund and a statement
of their present positions and principal occupations
during the past five years can be found in the Statement
of Additional Information.
Vanguard employs a supporting staff of management and
administrative personnel needed to provide the requisite
services to the funds and also furnishes the funds with
necessary office space, furnishings and equipment, each
fund pays its share of Vanguard's total expenses, which
are allocated among the funds under methods approved by
the Board of Directors (Trustees) of each fund. In
addition, each fund bears its own direct expenses, such as
legal, auditing and custodian fees.
8
<PAGE> 39
Vanguard also provides distribution and marketing services
to the Vanguard funds. The funds are available on a
no-load basis (i.e., there are no sales commissions or
12b-1 fees). However, each fund bears its share of the
Group's distribution costs.
- --------------------------------------------------------------------------------
INVESTMENT
ADVISERS
THE FUND EMPLOYS TWO
INVESTMENT MANAGERS The Fund currently employs two investment advisers:
Wellington Management Company ("WMC"), 75 State Street,
Boston, MA 02109; and Granahan Investment Management, Inc.
("Granahan"), 275 Wyman Street, Waltham, MA 02154.
The proportion of the net assets of the Fund managed by
each adviser is established by the Board of Directors and
may be changed in the future as circumstances warrant.
Presently, WMC is responsible for approximately 44% of the
assets of the Fund, and Granahan for approximately 43% of
the assets, and approximately 13%, the Fund's remaining
net assets, is held in cash. Because the Fund employs two
advisers it is possible that the advisers would purchase
or sell the same security at the same time. Such a
situation might result in increased brokerage costs or
adverse tax consequences to the Fund. The Board of
Directors monitors portfolio activity in order to minimize
any possible adverse consequences.
The Fund has entered into investment advisory agreements
with both WMC and Granahan which provide that both
advisers manage the investment and reinvestment of the
Fund's assets and continuously review, supervise and
administer the Fund's investment program. The advisers
discharge their responsibilities subject to the control of
the Officers and Directors of the Fund.
WMC is a professional investment advisory firm which
globally provides services to investment companies, other
institutions and individuals. Among the clients of WMC are
more than 10 investment companies of The Vanguard Group.
As of December 31, 1995, WMC held investment management
authority with respect to more than $108 billion of
assets. WMC and its predecessor organizations have
provided investment advisory services to investment
companies since 1933 and to investment counseling clients
since 1960.
Kenneth L. Abrams, Vice President of WMC, serves as
portfolio manager of the assets of the Fund assigned to
WMC. Mr. Abrams has been employed by WMC for 9 years and
has served as portfolio manager for the Fund since
February of 1994. In managing the assets of the Fund
assigned to WMC, Mr. Abrams is supported by research and
other investment services provided by the professional
staff of WMC.
The Fund pays WMC an advisory fee at the end of each
fiscal quarter, calculated by applying a quarterly rate,
based on the following annual percentage rates, to the
average month-end net assets of the Fund managed by WMC
for the quarter:
<TABLE>
<CAPTION>
NET ASSETS
-------------------- RATE
------
<S> <C>
First $500 million .250%
Next $250 million .200%
Next $250 million .150%
Assets in excess of $1 billion .100%
</TABLE>
9
<PAGE> 40
This basic advisory fee may be increased or decreased by
up to 50% by applying an adjustment formula
("incentive/penalty fee") based on the investment
performance of the portion of the Fund managed by WMC
relative to the investment record of the Russell 2000
Small Stock Index (the "Russell 2000"), an index of small
capitalization common stocks.
Under the rules of the Securities and Exchange Commission,
the new incentive/ penalty fee will not be fully operable
until the quarter ending July 31, 1999. Until that date, a
"blended" fee rate consisting of varying percentages of
(i) the performance adjustment based on the schedule set
forth in the Statement of Additional Information, and (ii)
the performance adjustment based on the schedule set forth
in Explorer Fund's previous investment advisory agreement
with the WMC shall be used. Please see Statement of
Additional Information for more information on this
transition period.
Granahan is a professional investment advisory firm
founded in 1985. As of December 31, 1995, Granahan held
discretionary management authority with respect to
approximately $813 million in assets. John J. Granahan is
portfolio manager of the assets of the Fund assigned to
Granahan. Mr. Granahan served as portfolio manager of
Explorer II from its inception in June 1985 through its
merger with the Fund in February 1990. He also served as
portfolio manager of Explorer Fund from January 1972 to
September 1979 while employed at WMC.
The Fund pays Granahan an advisory fee at the end of each
fiscal quarter, calculated by applying a quarterly rate,
based on the following annual percentage rates, to the
Fund's average month-end net assets for the quarter:
<TABLE>
<CAPTION>
NET ASSETS
-------------------- RATE
------
<S> <C>
First $500 million .300%
Next $250 million .200%
Next $250 million .150%
Assets in excess of $1 billion .100%
</TABLE>
This basic advisory fee may be increased or decreased by
applying an adjustment formula ("incentive/penalty fee")
based on the investment performance of the portion of the
Fund managed by Granahan relative to the Russell 2000, an
index of small capitalization common stocks.
For the fiscal year ended October 31, 1995, the aggregate
investment advisory fees paid by the Fund to WMC and
Granahan represented an effective annual base rate of .27
of 1% of average net assets before an increase of $25,000
based on performance. The investment advisory fees paid by
the Fund for this period to WMC represented an effective
annual rate of .28 of 1% of the average net assets managed
by WMC and the investment advisory fees paid to Granahan
represented an effective annual rate of .30 of 1% of the
average net assets managed by Granahan. These fees were
paid under a previous fee schedule that provided for a
higher rate of fees.
The investment advisory agreements with WMC and Granahan
authorize the advisers to select brokers or dealers to
execute purchases and sales of the Fund's
10
<PAGE> 41
portfolio securities, and direct the advisers to use their
best efforts to obtain the best available price and most
favorable execution with respect to all transactions. The
full range and quality of brokerage services available are
considered in making these determinations.
The Fund has authorized WMC and Granahan to pay higher
commissions in recognition of brokerage services felt
necessary for the achievement of better execution,
provided the advisers believe this to be in the best
interest of the Fund. Although the Fund does not market
its shares through intermediary brokers or dealers, the
Fund may place orders with qualified broker-dealers who
recommend the Fund to clients if the Officers of the Fund
believe that the quality of the transaction and the
commission are comparable to what they would be with other
qualified brokerage firms.
The Fund's Board of Directors may, without the approval of
shareholders, provide for: (a) the employment of a new
investment adviser pursuant to the terms of a new advisory
agreement, either as a replacement for an existing adviser
or as an additional adviser; (b) a change in the terms of
an advisory agreement; and (c) the continued employment of
an existing adviser on the same advisory contract terms
where a contract has been assigned because of a change in
control of the adviser. Any such change will only be made
upon not less than 30 days prior written notice to
shareholders of the Fund which shall include substantially
the information concerning the adviser that would have
normally been included in a proxy statement.
- --------------------------------------------------------------------------------
PERFORMANCE
RECORD The table in this section provides investment results for
the Fund over several periods. The results represent the
Fund's "total return" investment performance, which
assumes the reinvestment of all capital gains and income
dividends for the indicated periods. Also included is
comparative information on the unmanaged Standard & Poor's
500 Composite Stock Price Index, a widely used barometer
of stock market activity; the Russell 2000 Stock Index, an
index of small company stocks; and the Consumer Price
Index, a statistical measure of changes in the prices of
goods and services. The table does not make any allowance
for federal, state or local income taxes, which
shareholders must pay on a current basis.
The results shown should not be considered a
representation of the total return from an investment
made in the Fund today. This information is provided to
help investors better understand the Fund and may not
provide a basis for comparison with other investments or
mutual funds which use a different method to calculate
performance.
<TABLE>
<CAPTION>
ANNUAL AVERAGE PERCENTAGE CHANGE
------------------------------------------------
FISCAL EXPLORER S&P 500 RUSSELL CONSUMER
ENDED 10/31/95 FUND INDEX INDEX PRICE INDEX
-------------- -------- ------- ------- -----------
<S> <C> <C> <C> <C>
3 Years +14.5% +14.7% +16.0 % +2.7%
5 Years +22.8 +17.2 +22.1 +2.8
10 Years +10.7 +15.4 +11.8 +3.5
Lifetime* + 9.0 +10.9 N/A +5.6
*December 11, 1967, to October 31, 1995. Data for the Consumer
Price Index
begins December 31, 1967.
</TABLE>
- --------------------------------------------------------------------------------
11
<PAGE> 42
DIVIDENDS,
CAPITAL GAINS
AND TAXES
THE FUND DISTRIBUTES
DIVIDENDS AND CAPITAL
GAINS ANNUALLY The Fund expects to pay dividends annually from ordinary
income. Capital gains distributions, if any, will be made
annually. All dividend and capital gains distributions are
automatically reinvested in additional shares of the Fund.
In order to satisfy certain distribution requirements of
the IRS, the Fund may also declare special year-end
distributions during December. The Fund intends to
continue to qualify for taxation as a "regulated
investment company" under the Internal Revenue Code so
that it will not be subject to federal income tax to the
extent that its income is distributed to its shareholders.
If you utilize the Fund as an investment option in an
employer-sponsored retirement or savings plan, dividend
and capital gains distributions from the Fund will
generally not be subject to current taxation, but will
accumulate on a tax-deferred basis. In general,
employer-sponsored retirement and savings plans are
governed by a complex set of tax rules. If you participate
in such a plan, consult your plan administrator, your
plan's Summary Plan Description, or a professional tax
adviser regarding the tax consequences of your
participation in the plan and of any plan contributions or
withdrawals.
- --------------------------------------------------------------------------------
THE SHARE PRICE
OF THE FUND The Fund's share price or "net asset value" per share is
determined by dividing the total assets of the Fund, less
all liabilities, by the total number of shares
outstanding. The net asset value is calculated at the
close of regular trading (generally 4:00 p.m. Eastern
time) each day the New York Stock Exchange is open for
trading.
Portfolio securities that are listed on an exchange are
valued at the latest quoted sales prices. Securities not
traded on the valuation date are valued at the mean of the
latest quoted bid and asked prices. Securities not listed
on an exchange are valued at the latest quoted bid price.
Short-term instruments (those with remaining maturities of
60 days or less) are valued at cost, plus or minus any
amortized discount or premium, which approximates market
values. The Fund values foreign securities using the
latest quoted share price or, if necessary, the security's
broadest and most representative market value. All prices
of listed securities are taken from the exchange where the
security is primarily traded. Securities may be valued on
the basis of prices provided by a pricing service when
such prices are believed to reflect the fair market value
of such securities. The prices provided by a pricing
service may be determined without regard to bid or last
sale prices of each security but take into account
institutional-size transactions in similar groups of
securities as well as any developments related to specific
securities. Other assets and securities for which market
quotations are not readily available or which are
restricted as to sale are valued by such methods as the
Board of Directors deems in good faith to reflect fair
value.
The Fund's price per share can be found daily in the
mutual fund section of most major newspapers under the
heading of Vanguard.
- --------------------------------------------------------------------------------
12
<PAGE> 43
GENERAL
INFORMATION Vanguard Explorer Fund, Inc. is a Maryland corporation. On
February 28, 1990, the Fund acquired the assets of
Explorer II, Inc., an investment company that was a member
of The Vanguard Group and that had investment objectives
and policies similar to those of the Fund. Also, on that
date the Fund retained Granahan Investment Management
Inc., the original investment adviser to Explorer II,
Inc., as an additional investment adviser.
The authorized capital stock of the Fund consists of
100,000,000 shares at the par value of $.001 each. The
Board of Directors has the power to designate one or more
classes ("Portfolios") of shares of common stock and to
classify or reclassify any unissued shares with respect to
such Portfolios. Currently the Fund is offering one class
of shares.
Annual meetings of shareholders will not be held except as
required by the Investment Company Act of 1940 and other
applicable law. An annual meeting will be held to vote on
the removal of a Director or Directors of the Fund if
requested in writing by the holders of not less than 10%
of the Fund.
The shares of the Fund are fully paid and nonassessable;
have no preferences as to conversion, exchange, dividends,
retirement or other features; and have no pre-emptive
rights. Such shares have noncumulative voting rights,
meaning that the holders of more than 50% of the shares
voting for the election of Directors can elect 100% of the
Directors if they so choose.
All securities and cash are held by State Street Bank and
Trust Company, Boston, MA. CoreStates Bank, N.A., holds
daily cash balances of the Fund which are used to invest
in repurchase agreements or securities acquired in these
transactions. The Vanguard Group, Inc., Valley Forge, PA,
serves as the Fund's Transfer and Dividend Disbursing
Agent. Price Waterhouse LLP, serves as independent
accountants for the Fund and audits its financial
statements annually. The Fund is not involved in any
litigation.
- --------------------------------------------------------------------------------
13
<PAGE> 44
SERVICE GUIDE
PARTICIPATING IN
YOUR PLAN The Fund is available as an investment option in your
retirement or savings plan. The administrator of your plan
or your employee benefits office can provide you with
detailed information on how to participate in your plan
and how to elect the Fund as an investment option.
If you have any questions about the Fund, including the
Fund's investment objective, policies, risk
characteristics or historical performance, please contact
Participant Services at 1-800-523-1188.
If you have questions about your account, contact your
plan administrator or the organization which provides
recordkeeping services for your plan.
- --------------------------------------------------------------------------------
INVESTMENT OPTIONS
AND ALLOCATIONS You may be permitted to elect different investment
options, alter the amounts contributed to your plan, or
change how contributions are allocated among your
investment options in accordance with your plan's specific
provision. See your plan administrator or employee
benefits office for more details.
- --------------------------------------------------------------------------------
TRANSACTIONS IN
FUND SHARES Contributions, exchanges or distributions of a Fund's
shares are effective when received in "good order" by
Vanguard. "Good order" means that complete information on
the purchase, exchange or redemption and the appropriate
monies have been received by Vanguard.
Vanguard must consider the interests of all Portfolio
shareholders. Therefore, for institutional investors who
are not participants in a retirement or savings plan, we
reserve the right to:
- Delay or reject any purchase or exchange request that
may disrupt the Portfolio's operation or performance.
- Revise or terminate the exchange privilege or limit the
amount of an exchange, at any time, without notice.
- Take up to seven days to deliver your redemption
proceeds.
- Pay redemption proceeds--in whole or in part--through a
distribution in kind of readily marketable securities.
- --------------------------------------------------------------------------------
MAKING EXCHANGES Your plan may allow you to exchange monies from one
investment option to another. However, the Fund reserves
the right to refuse any exchange purchase request. Check
with your plan administrator for details on the rules
governing exchanges in your plan. Certain investment
options, particularly company stock or guaranteed
investment contracts (GICs), may be subject to unique
restrictions.
14
<PAGE> 45
Before making an exchange, you should consider the
following:
- If you are making an exchange to another Vanguard Fund
option, please read the Fund's prospectus. Contact
Participant Services at 1-800-523-1188 for a copy. For
the hearing impaired, please call 1-800-523-8004 between
the hours of 8:30 a.m. and 5:00 p.m. Eastern time.
- Exchanges are accepted by Vanguard only as permitted by
your plan. Your plan administrator can explain how
frequently exchanges are allowed.
- --------------------------------------------------------------------------------
15
<PAGE> 46
<TABLE>
<S> <C> <C> <C>
[VANGUARD EXPLORER FUND LOGO] [FLAG LOGO]
--------------------------- [VANGUARD EXPLORER FUND LOGO]
THE VANGUARD GROUP I N S T I T U T I O N A L
OF INVESTMENT P R O S P E C T U S
COMPANIES FEBRUARY 23, 1996; REVISED AUGUST 1, 1996
Vanguard Financial Center [VANGUARD GROUP LOGO]
P.O. Box 2900
Valley Forge, PA 19482
INSTITUTIONAL PARTICIPANT
SERVICES DEPARTMENT:
1-800-523-1188
TRANSFER AGENT:
The Vanguard Group, Inc.
Vanguard Financial Center
Valley Forge, PA 19482
I024
</TABLE>
- --------------------------------------------------------------------------------
<PAGE> 47
PART B
VANGUARD EXPLORER FUND, INC.
STATEMENT OF ADDITIONAL INFORMATION
FEBRUARY 23, 1996; REVISED AUGUST 1, 1996
This Statement is not a prospectus but should be read in conjunction with
the Fund's current Prospectus (dated February 23, 1996; revised August 1, 1996).
To obtain the Prospectus please call the Investor Information Department:
1-800-662-7447
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Investment Objective and Policies......................................................... 1
Purchase of Shares........................................................................ 5
Redemption of Shares...................................................................... 6
Dividends and Capital Gains Distributions................................................. 6
Yield and Total Return.................................................................... 6
Investment Limitations.................................................................... 6
Management of the Fund.................................................................... 8
Investment Advisory Services.............................................................. 11
Portfolio Transactions.................................................................... 16
General Information About the Fund........................................................ 16
Performance Measures...................................................................... 17
Financial Statements...................................................................... 19
</TABLE>
INVESTMENT OBJECTIVE AND POLICIES
The following policies supplement the Fund's investment objective and
policies set forth in the Prospectus.
REPURCHASE AGREEMENTS The Fund may invest in repurchase agreements with
commercial banks, brokers or dealers either for defensive purposes due to market
conditions or to generate income from its excess cash balances. A repurchase
agreement is an agreement under which the Fund acquires a money market
instrument (generally a security issued by the U.S. Government or an agency
thereof, a banker's acceptance or a certificate of deposit) from a commercial
bank, broker or dealer, subject to resale to the seller at an agreed upon price
and date (normally, the next business day). A repurchase agreement may be
considered a loan collateralized by securities. The resale price reflects an
agreed upon interest rate effective for the period the instrument is held by the
Fund and is unrelated to the interest rate on the underlying instrument. In
these transactions, the securities acquired by the Fund (including accrued
interest earned thereon) must have a total value in excess of the value of the
repurchase agreement and are held by a custodian bank until repurchased. In
addition, the Fund's Board of Directors will monitor the Fund's repurchase
agreement transactions generally and will establish guidelines and standards for
review by the investment adviser of the creditworthiness of any bank, broker or
dealer party to a repurchase agreement with the Fund. No more than an aggregate
of 15% of the Fund's assets, at the time of investment, will be invested in
repurchase agreements having maturities longer than seven days and securities
subject to legal or contractual restrictions on resale, or for which there are
no readily available market quotations. See "Restricted or Illiquid Securities"
on page 5.
The use of repurchase agreements involves certain risks. For example, if
the other party to the agreement defaults on its obligation to repurchase the
underlying security at a time when the value of the security has declined, the
Fund may incur a loss upon disposition of the security. If the other party to
the agreement becomes insolvent and subject to liquidation or reorganization
under the Bankruptcy Code or other laws, a court may determine that the
underlying security is collateral for a loan by the Fund not within the control
of the Fund and therefore the realization by the Fund on such collateral may be
automatically stayed. Finally, it
1
<PAGE> 48
is possible that the Fund may not be able to substantiate its interest in the
underlying security and may be deemed an unsecured creditor of the other party
to the agreement. While the Fund's management acknowledges these risks, it is
expected that they can be controlled through careful monitoring procedures.
LENDING OF SECURITIES The Fund may lend its portfolio securities to
qualified institutional investors who need to borrow securities in order to
complete certain transactions, such as covering short sales, avoiding failures
to deliver securities, or completing arbitrage operations. By lending its
portfolio securities, the Fund attempts to increase its income through the
receipt of interest on the loan. Any gain or loss in the market price of the
securities loaned that might occur during the term of the loan would be for the
account of the Fund. The Fund may lend its portfolio securities to qualified
brokers, dealers, banks or other financial institutions, so long as the terms
and the structure of such loans are not inconsistent with the Investment Company
Act of 1940, or the Rules and Regulations or interpretations of the Securities
and Exchange Commission thereunder, which currently require that (a) the
borrower pledges and maintains with the Fund collateral consisting of cash, a
letter of credit, or securities issued or guaranteed by the United States
Government having a value at all times not less than 100% of the value of the
securities loaned, (b) the borrower adds to such collateral whenever the price
of the securities loaned rises (i.e., the borrower "marks to the market" on a
daily basis), (c) the loan is made subject to termination by the Fund at any
time, and (d) the Fund receives reasonable interest on the loan (which may
include the Fund's investing any cash collateral in interest bearing short-term
investments), any distributions on the loaned securities and any increase in
their market value. The Fund will not lend portfolio securities if, as a result,
the aggregate of such loans exceeds 33 1/3% of the Fund's total assets. Loan
arrangements made by the Fund will comply with all other applicable regulatory
requirements, including the rules of the New York Stock Exchange, which rules
presently require the borrower, after notice, to redeliver the securities within
the normal settlement time of three business days. All relevant facts and
circumstances, including the creditworthiness of the broker, dealer or
institution, will be considered in making decisions with respect to the lending
of securities, subject to review by the Fund's Board of Directors.
At the present time, the Staff of the Commission does not object if an
investment company pays reasonable negotiated fees in connection with loaned
securities, so long as such fees are set forth in a written contract and
approved by the investment company's directors (trustees). In addition, voting
rights pass with the loaned securities, but if a material event will occur
affecting an investment on loan, the loan must be called and the securities
voted.
FUTURES CONTRACTS AND OPTIONS The Fund may enter into futures contracts,
options, and options on futures contracts for several reasons: to maintain cash
reserves while simulating full investment, to facilitate trading, to reduce
transaction costs, or to seek higher investment returns when a futures contract
is priced more attractively than the underlying equity security or index.
Futures contracts provide for the future sale by one party and purchase by
another party of a specified amount of a specific security at a specified future
time and at a specified price. Futures contracts which are standardized as to
maturity date and underlying financial instrument are traded on national futures
exchanges. Futures exchanges and trading are regulated under the Commodity
Exchange Act by the Commodity Futures Trading Commission ("CFTC"), a U.S.
Government agency.
Although futures contracts by their terms call for actual delivery or
acceptance of the underlying securities, in most cases the contracts are closed
out before the settlement date without the making or taking of delivery. Closing
out an open futures position is done by taking an opposite position ("buying" a
contract which has previously been "sold" or "selling" a contract previously
"purchased") in an identical contract to terminate the position. Brokerage
commissions are incurred when a futures contract is bought or sold.
Futures traders are required to make a good faith margin deposit in cash or
government securities with a broker or custodian to initiate and maintain open
positions in futures contracts. A margin deposit is intended to assure
completion of the contract (delivery or acceptance of the underlying security)
if it is not terminated prior to the specified delivery date. Minimal initial
margin requirements are established by the futures exchange and may be changed.
Brokers may establish deposit requirements which are higher than the exchange
minimums. Futures contracts are customarily purchased and sold on margin that
may range upward from less than 5% of the value of the contract being traded.
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<PAGE> 49
After a futures contract position is opened, the value of the contract is
marked to market daily. If the futures contract price changes to the extent that
the margin on deposit does not satisfy margin requirements, payment of
additional "variation" margin will be required. Conversely, change in the
contract value may reduce the required margin, resulting in a repayment of
excess margin to the contract holder. Variation margin payments are made to and
from the futures broker for as long as the contract remains open. The Fund
expects to earn interest income on its margin deposits.
Traders in futures contracts may be broadly classified as either "hedgers"
or "speculators." Hedgers use the futures markets primarily to offset
unfavorable changes in the value of securities otherwise held for investment
purposes or expected to be acquired by them. Speculators are less inclined to
own the securities underlying the futures contracts which they trade, and use
futures contracts with the expectation of realizing profits from fluctuations in
the underlying securities. The Fund intends to use futures contracts only for
bonafide hedging purposes.
Regulations of the CFTC applicable to the Fund require that all of its
futures transactions constitute bonafide hedging transactions. The Fund will
only sell futures contracts to protect securities it owns against price declines
or purchase contracts to protect against an increase in the price of securities
it intends to purchase. As evidence of this hedging interest, the Fund expects
that approximately 75% of its futures contract purchases will be "completed;"
that is, equivalent amounts of related securities will have been purchased or
are being purchased by the Fund upon sale of open futures contracts.
Although techniques other than the sale and purchase of futures contracts
could be used to control the Fund's exposure to market fluctuations, the use of
futures contracts may be a more effective means of hedging this exposure. While
the Fund will incur commission expenses in both opening and closing out futures
positions, these costs are lower than transaction costs incurred in the purchase
and sale of the underlying securities.
RESTRICTIONS ON THE USE OF FUTURES CONTRACTS The Fund will not enter into
futures contract transactions to the extent that, immediately thereafter, the
sum of its initial margin deposits on open contracts exceeds 5% of the market
value of the Fund's total assets. In addition, the Fund will not enter into
futures contracts to the extent that its outstanding obligations to purchase
securities under these contracts would exceed 20% of the Fund's total assets.
RISK FACTORS IN FUTURES TRANSACTIONS Positions in futures contracts may be
closed out only on an Exchange which provides a secondary market for such
futures. However, there can be no assurance that a liquid secondary market will
exist for any particular futures contract at any specific time. Thus, it may not
be possible to close a futures position. In the event of adverse price
movements, the Fund would continue to be required to make daily cash payments to
maintain its required margin. In such situations, if the Fund has insufficient
cash, it may have to sell portfolio securities to meet daily margin requirements
at a time when it may be disadvantageous to do so. In addition, the Fund may be
required to make delivery of the instruments underlying futures contracts it
holds. The inability to close options and futures positions also could have an
adverse impact on the ability of the Fund to hedge its portfolio effectively.
The Fund will minimize the risk that it will be unable to close out a futures
contract by only entering into futures which are traded on national futures
exchanges and for which there appears to be a liquid secondary market.
The risk of loss in trading futures contracts in some strategies can be
substantial, due to both the low margin deposits required and the extremely high
degree of leverage involved in futures pricing. As a result, a relatively small
price movement in a futures contract may result in immediate and substantial
loss (as well as gain) to the investor. For example, if at the time of purchase,
10% of the value of the futures contract is deposited as margin, a subsequent
10% decrease in the value of the futures contract would result in a total loss
of the margin deposit, before any deduction for the transaction costs, if the
account were then closed out. A 15% decrease would result in a loss equal to
150% of the original margin deposit if the contract were closed out. Thus, a
purchase or sale of a futures contract may result in losses in excess of the
amount invested in the contract. The Fund also bears the risk that the Advisers
will incorrectly predict future market trends. However, because the futures
strategies of the Fund are engaged in only for hedging purposes, the Fund will
not be subject to the risks of loss frequently associated with futures
transactions. The Fund would presumably have
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<PAGE> 50
sustained comparable losses if, instead of the futures contract, it had invested
in the underlying financial instrument and sold it after the decline.
Utilization of futures transactions by the Fund does involve the risk of
imperfect or no correlation where the securities underlying futures contracts
have different maturities than the portfolio securities being hedged. It is also
possible that the Fund could both lose money on futures contracts and also
experience a decline in value of its portfolio securities. There is also the
risk of loss by the Fund of margin deposits in the event of bankruptcy of a
broker with whom the Fund has an open position in a futures contract or related
option.
Most futures exchanges limit the amount of fluctuation permitted in futures
contract prices during a single trading day. The daily limit establishes the
maximum amount that the price of a futures contract may vary either up or down
from the previous day's settlement price at the end of a trading session. Once
the daily limit has been reached in a particular type of contract, no trades may
be made on that day at a price beyond that limit. The daily limit governs only
price movement during a particular trading day and therefore does not limit
potential losses, because the limit may prevent the liquidation of unfavorable
positions. Futures contract prices have occasionally moved to the daily limit
for several consecutive trading days with little or no trading, thereby
preventing prompt liquidation of future positions and subjecting some futures
traders to substantial losses.
FEDERAL TAX TREATMENT OF FUTURES CONTRACTS The Fund is required for
federal income tax purposes to recognize as income for each taxable year its net
unrealized gains and losses on futures contracts held as of the end of the year
as well as those actually realized during the year. In most cases, any gain or
loss recognized with respect to a futures contract is considered to be 60%
long-term capital gain or loss and 40% short-term capital gain or loss, without
regard to the holding period of the contract. Furthermore, sales of futures
contracts which are intended to hedge against a change in the value of
securities held by the Fund may affect the holding period of such securities
and, consequently, the nature of the gain or loss on such securities upon
disposition. The Fund may be required to defer the recognition of losses on
futures contracts to the extent of any unrecognized gains on related positions
held by the Fund.
In order for the Fund to continue to qualify for federal income tax
treatment as a regulated investment company, at least 90% of its gross income
for a taxable year must be derived from qualifying income; i.e., dividends,
interest, income derived from loans of securities, gains from the sale of
securities and other income derived with respect to its business of investing in
securities. In addition, gains realized on the sale or other disposition of
securities held for less than three months must be limited to less than 30% of
the Fund's annual gross income. It is anticipated that any net gain realized
from the closing out of futures contracts will be considered gain from the sale
of securities and therefore be qualifying income for purposes of the 90%
requirement. In order to avoid realizing excessive gains on securities held less
than three months, the Fund may be required to defer the closing out of futures
contracts beyond the time when it would otherwise be advantageous to do so. It
is anticipated that unrealized gains on futures contracts, which have been open
for less than three months as of the end of the Fund's fiscal year and which are
recognized for tax purposes, will not be considered gains on securities held
less than three months for the purpose of the 30% test.
The Fund will distribute to shareholders annually any net capital gains
which have been recognized for federal income tax purposes (including unrealized
gains at the end of the Fund's fiscal year) on futures transactions. Such
distributions will be combined with distributions of capital gains realized on
the Fund's other investments and shareholders will be advised on the nature of
the payments.
FOREIGN INVESTMENTS As indicated in the Prospectus, the Fund may invest in
foreign securities to a certain extent. Investors should recognize that
investing in foreign companies involves certain special considerations which are
not typically associated with investing in U.S. companies.
Country Risk As foreign companies are not generally subject to uniform
accounting, auditing and financial reporting standards and practices comparable
to those applicable to domestic companies, there may be less publicly available
information about certain foreign companies than about domestic companies.
Securities of some foreign companies are generally less liquid and more volatile
than securities of comparable domestic companies. There is generally less
government supervision and regulation of stock exchanges, brokers and listed
companies than in the U.S. In addition, with respect to certain foreign
countries, there is the
4
<PAGE> 51
possibility of expropriation or confiscatory taxation, political or social
instability, or diplomatic developments which could affect U.S. investments in
those countries.
Although the Fund will endeavor to achieve most favorable execution costs
in its portfolio transactions in foreign securities, fixed commissions on many
foreign stock exchanges are generally higher than negotiated commissions on U.S.
exchanges. In addition, it is expected that the expenses for custodial
arrangements of the Portfolios foreign securities will be somewhat greater than
the expenses for the custodian arrangement for handling U.S. securities of equal
value.
Certain foreign governments levy withholding taxes against dividend and
interest income. Although in some countries a portion of these taxes is
recoverable, the non-recovered portion of foreign withholding taxes will reduce
the income the Fund receives from its foreign investments.
Currency Risk Since the stocks of foreign companies are frequently
denominated in foreign currencies, and since the Fund may temporarily hold
uninvested reserves in bank deposits in foreign currencies, the Fund will be
affected favorably or unfavorably by changes in currency rates and in exchange
control regulations, and may incur costs in connection with conversions between
various currencies. The investment policies of the Fund permit it to enter into
forward foreign currency exchange contracts in order to hedge holdings and
commitments against changes in the level of future currency rates. Such
contracts involve an obligation to purchase or sell a specific currency at a
future date at a price set at the time of the contract.
RESTRICTED OR ILLIQUID SECURITIES The Fund is authorized to invest up to
15% of its net assets in restricted or illiquid securities. Illiquid Securities
are securities that may not be sold or disposed of in the ordinary course of
business within seven business days at approximately the value at which they are
being carried on the Fund's books. Restricted securities are those which are not
registered under the Securities Act of 1933 and which are generally issued in
small quantities to institutional or individual investors. Restricted securities
can be sold only in a privately negotiated transaction or after the filing of a
registration statement. The market for such securities is generally illiquid.
If the Fund chooses to sell a restricted security by filing a registration
statement, the filing may involve a considerable delay, during which time the
market value of the security may decline. Because of the illiquid market for
restricted securities, the announcement of the Fund's decision to sell a
restricted security may also depress the security's price. In certain cases, the
Fund may also be obligated to pay all or part of the security's registration
expenses, which may be substantial.
Securities that are unregistered that can be sold to "qualified
institutional buyers" in accordance with Rule 144A under the 1933 Act will not
be considered illiquid for the purpose of this limitation, as long as it is
determined by the Fund's advisor that an adequate trading market exists for the
security.
PURCHASE OF SHARES
The purchase price of shares of the Fund is the net asset value next
determined after the order is received. The net asset value is calculated as of
the close of the New York Stock Exchange on each day the Exchange is open for
business. An order received prior to the close of the Exchange (generally 4:00
P.M. Eastern time) will be executed at the price computed on the date of
receipt, and an order received after the close of the Exchange will be executed
at the price computed on the next day the Exchange is open.
The Fund reserves the right in its sole discretion (i) to suspend the
offering of its shares, (ii) to reject purchase orders when in the judgment of
management such rejection is in the best interests of the Fund, and (iii) to
reduce or waive the minimum investment for, or any other restrictions on,
initial and subsequent investments for certain fiduciary accounts such as
employee benefit plans or under circumstances where certain economies can be
achieved in sales of the Fund's shares.
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<PAGE> 52
REDEMPTION OF SHARES
The Fund may suspend redemption privileges or postpone the date of payment
(i) during any period that the New York Stock Exchange is closed, or trading on
the Exchange is restricted as determined by the Securities and Exchange
Commission (the "Commission"), (ii) during any period when an emergency exists
as defined by the rules of the Commission as a result of which it is not
reasonably practicable for the Fund to dispose of securities owned by it, or
fairly to determine the value of its assets, and (iii) for such other periods as
the Commission may permit.
The Fund has made an election with the Commission to pay in cash all
redemptions requested by any shareholder of record limited in amount during any
90-day period to the lesser of $250,000 or 1% of the net assets of the Fund at
the beginning of such period. Such commitment is irrevocable without the prior
approval of the Commission. Redemptions in excess of the above limits may be
paid in whole or in part in readily marketable investment securities or in cash,
as the Directors may deem advisable; however, payment will be made wholly in
cash unless the Directors believe that economic or market conditions exist which
would make such a practice detrimental to the best interests of the Fund. If
redemptions are paid in investment securities, such securities will be valued as
set forth in the Prospectus under "The Fund's Share Price" and a redeeming
shareholder would normally incur brokerage expenses if these securities were
converted to cash.
No charge is made by the Fund for redemptions. Any redemption may be more
or less than the shareholder's cost depending on the market value of the Fund's
portfolio securities.
DIVIDENDS AND CAPITAL GAINS DISTRIBUTIONS
The Fund's policy is to distribute annually substantially all of its net
investment income, if any, together with any net realized capital gains, after
the close of the Fund's fiscal year. Dividend income is expected to be
negligible, and the amount of any capital gains distributions cannot be
predicted.
Any dividend or distribution paid shortly after the purchase of shares by
an investor may have the effect of reducing the per share net asset value by the
per share amount of the dividend or distribution. Furthermore, such dividends or
distributions, although in effect a return of capital, are subject to income
taxes.
Unless the shareholder elects otherwise, dividends and capital gains
distributions are paid in additional shares which are credited to the
shareholder's account. Any dividend and distribution election will remain in
effect until the Fund's Transfer Agent is notified by the shareholder in writing
to change the election at least three days prior to the record date. An account
statement is sent to shareholders whenever an income dividend or capital gains
distribution is paid.
YIELD AND TOTAL RETURN
The yield of the Fund for the thirty-day period ended October 31, 1995 was
0.48%.
The average annual total returns for the Fund for the one-, five- and
ten-year periods ending October 31, 1995, were +17.46%, +22.79% and +10.75%,
respectively. Total return is computed by determining the average compounded
rates of return over the one-, five- and ten-year periods set forth above that
would equate an initial amount invested at the beginning of the periods to the
ending redeemable value of the investment.
INVESTMENT LIMITATIONS
The Fund is subject to the following restrictions which may not be changed
without the approval of the lesser of (i) 67 percent or more of the voting
securities present at a meeting if the holders of more than 50 percent of the
outstanding voting securities of the Fund are present or represented by proxy,
or (ii) more than 50 percent of the outstanding voting securities of the Fund.
The Fund will not:
1) make investments in commodities or real estate, although it may
purchase and sell securities of companies which deal in real estate or
interests therein, and except that the Fund may invest in stock futures
contracts and stock options (only for hedging purposes) to the extent
that not more than 5%
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<PAGE> 53
of its assets are required as deposit to secure obligations under
futures contracts and not more than 20% of its assets are invested in
futures contracts and options at any time;
2) make loans, except (i) by purchasing bonds, debentures or similar
obligations (including repurchase agreements) which are either publicly
distributed or customarily purchased by institutional investors and
(ii) as provided under "Lending of Securities" (page 2);
3) engage in the business of underwriting securities issued by others
except to the extent that the Fund may technically be deemed to be an
underwriter under the Securities Act of 1933, as amended, in disposing
of portfolio securities;
4) purchase or otherwise acquire illiquid securities if, as a result, more
than 15% of its net assets would be invested in securities that are
illiquid (included in this limitation is the Fund's investment in The
Vanguard Group, Inc.);
5) purchase securities on margin or make short sales except as specified
in investment limitation No. 1 above;
6) invest more than 25% of its assets in any one industry;
7) invest for the purpose of exercising control over management of any
company;
8) invest its assets in the securities of other investment companies
except as may be acquired as part of a merger, consolidation or
acquisition of assets approved by the Fund's shareholders or otherwise
to the extent permitted by Section 12 of the Investment Company Act of
1940. The Fund will invest only in investment companies which have
investment objectives and investment policies consistent with those of
the Fund;
9) with respect to 75% of the value of its total assets, purchase the
securities of any issuer (except obligations of the United States
government and its instrumentalities) if as a result the Fund would
hold more than 10% of the outstanding voting securities of the issuer,
or more than 5% of the value of the Fund's total assets would be
invested in the securities of such issuer;
10) pledge, mortgage, or hypothecate any of its assets to an extent greater
than 10% of its total assets at fair market value; and
11) borrow money, except that the Fund may borrow from banks (or through
reverse repurchase agreements), for temporary or emergency (not
leveraging) purposes, including the meeting of redemption requests
which might otherwise require the untimely disposition of securities,
in an amount not exceeding 15% of the value of the Fund's net assets
(including the amount borrowed and the value of any outstanding reverse
repurchase agreements) at the time the borrowing is made. Whenever
borrowings exceed 5% of the value of the Fund's net assets, the Fund
will not make any additional investments.
Notwithstanding these limitations, the Fund may own all or any portion of
the securities of, or make loans to, or contribute to the costs or other
financial requirements of any company which will be wholly owned by the Fund and
one or more other investment companies and is primarily engaged in the business
of providing, at-cost, management, administrative or related services to the
Fund and other investment companies. See "Management of the Fund."
The above-mentioned limitations are considered at the time investment
securities are purchased.
Although not a fundamental policy subject to shareholder vote, as long as
the Fund's shares are registered for sale in certain states, the Fund will not
(i) except as permitted above in investment limitation No. 1; (ii) invest in
interests in oil, gas or other mineral exploration or development programs;
(iii) purchase securities of any company which has (with predecessors) a record
of less than three years continuous operation if as a result more than 5% of the
Fund's assets would be invested in securities of such companies; and (iv)
purchase or retain securities of an issuer if an officer or director of such
issuer is an officer or Director of the Fund or its investment adviser and one
or more of such officers or Directors of the Fund or its investment adviser owns
beneficially more than 1/2% of the shares or securities of such issuer and all
such Directors and officers owning more than 1/2% of such shares or securities
together own more than 5% of such shares or securities.
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<PAGE> 54
MANAGEMENT OF THE FUND
OFFICERS AND DIRECTORS
The Fund's Officers, under the supervision of the Board of Directors,
manage the day-to-day operations of the Fund. The Directors, who are elected
annually by shareholders, set broad policies for the Fund and choose its
Officers. A list of the Directors and Officers of the Fund and a brief statement
of their present positions and principal occupations during the past five years
is set forth below.
The mailing address of the Fund's Directors and officers is Post Office Box
876, Valley Forge, PA 19482.
JOHN C. BOGLE, Chairman and Director*
Chairman and Director of The Vanguard Group, Inc. and of each of the
investment companies in The Vanguard Group; Director of The Mead
Corporation, and General Accident Insurance.
JOHN J. BRENNAN, President, Chief Executive Officer and Director*
President, Chief Executive Officer and Director of The Vanguard Group, Inc.
and of each of the investment companies in The Vanguard Group.
ROBERT E. CAWTHORN, Director
Chairman Emeritus of Rhone-Poulenc Rorer, Inc.; Director of Sun Company,
Inc.
BARBARA BARNES HAUPTFUHRER, Director
Director of The Great Atlantic and Pacific Tea Company, ALCO Standard
Corp., Raytheon Company, Knight-Ridder, Inc., and Massachusetts Mutual Life
Insurance Co. and Trustee Emerita of Wellesley College.
BRUCE K. MACLAURY, Director
President Emeritus of The Brookings Institution; Director of American
Express Bank, Ltd., The St. Paul Companies, Inc., and National Steel
Corporation.
BURTON G. MALKIEL, Director
Chemical Bank Chairman's Professor of Economics, Princeton University;
Director of Prudential Insurance Co. of America, Amdahl Corporation, Baker
Fentress & Co., The Jeffrey Co., and Southern New England Communications
Company.
ALFRED M. RANKIN, JR., Director
Chairman, President, and Chief Executive Officer of NACCO Industries, Inc.;
Director of The BFGoodrich Company, and The Standard Products Company.
JOHN C. SAWHILL, Director
President and Chief Executive Officer, The Nature Conservancy; formerly,
Director and Senior Partner, McKinsey & Co.; President, New York
University; Director of Pacific Gas and Electric Company and NACCO
Industries.
JAMES O. WELCH, JR., Director
Retired Chairman of Nabisco Brands, Inc. retired Vice Chairman and Director
of RJR Nabisco; Director of TECO Energy, Inc.; and Director of Kmart
Corporation.
J. LAWRENCE WILSON, Director
Chairman and Chief Executive Officer of Rohm & Haas Company; Director of
Cummins Engine Company; and Trustee of Vanderbilt University.
RAYMOND J. KLAPINSKY, Secretary*
Senior Vice President and Secretary of The Vanguard Group, Inc.; Secretary
of each of the investment companies in The Vanguard Group.
RICHARD F. HYLAND, Treasurer*
Treasurer of The Vanguard Group, Inc. and of each of the investment
companies in The Vanguard Group.
KAREN E. WEST, Controller*
Vice President of The Vanguard Group, Inc.; Controller of each of the
investment companies in The Vanguard Group.
- ---------------
*Officers of the Fund are "interested persons" as defined in the Investment
Company Act of 1940.
VANGUARD GROUP
Vanguard Explorer Fund is a member of The Vanguard Group of Investment
Companies, which consists of more than 30 investment companies. Through their
jointly-owned subsidiary, The Vanguard Group, Inc. ("Vanguard"), the Fund and
the other Funds in the Group obtain at cost virtually all of their corporate
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<PAGE> 55
management, administrative and distribution services. Vanguard also provides
investment advisory services on an at-cost basis to some of the Vanguard Funds.
Vanguard employs a supporting staff of management and administrative
personnel needed to provide the requisite services to the Funds and also
furnishes the Funds with necessary office space, furnishings and equipment. Each
Fund pays its share of Vanguard's total expenses, which are allocated among the
Funds under procedures approved by the Board of Directors (Trustees) of each
Fund. In addition, each Fund bears its own direct expenses, such as legal,
auditing and custodian fees.
The Fund's Officers are also Officers and employees of Vanguard. No Officer
or employee owns, or is permitted to own, any securities of any external adviser
for the Funds.
The Vanguard Group adheres to a Code of Ethics established pursuant to Rule
17j-1 under the Investment Company Act of 1940. The Code is designed to prevent
unlawful practices in connection with the purchase or sale of securities by
persons associated with Vanguard. Under Vanguard's Code of Ethics certain
officers and employees of Vanguard who are considered access persons are
permitted to engage in personal securities transactions. However, such
transactions are subject to procedures and guidelines substantially similar to
those recommended by the mutual fund industry and approved by the U.S.
Securities and Exchange Commission.
The Vanguard Group was established and operates under a Funds' Service
Agreement which was approved by the shareholders of each of the Funds. The
Fund's Service Agreement provides for the following arrangement: (a) each
Vanguard Fund may invest up to .40% of its current net assets in Vanguard, and
(b) there is no limit on the amount that each Vanguard Fund may contribute to
Vanguard's capitalization. The amounts which each of the Funds has invested are
adjusted from time to time in order to maintain the proportionate relationship
between each Fund's relative net assets and its contribution to Vanguard's
capital. At October 31, 1995, Vanguard Explorer Fund had contributed capital of
$188,000 to Vanguard, representing .9% of Vanguard's capitalization.
MANAGEMENT Corporate management and administrative services include: (1)
executive staff; (2) accounting and financial; (3) legal and regulatory; (4)
shareholder account maintenance; (5) monitoring and control of custodian
relationships; (6) shareholder reporting; and (7) review and evaluation of
advisory and other services provided to the Funds by third parties. During the
fiscal year ended October 31, 1995, the Fund's share of Vanguard's actual net
costs of operation relating to management and administrative services (including
transfer agency) totaled approximately $4,586,000.
DISTRIBUTION Vanguard provides all distribution and marketing activities
for the Funds in the Group. Vanguard Marketing Corporation, a wholly-owned
subsidiary of The Vanguard Group, Inc., acts as Sales Agent for shares of the
Funds, in connection with any sales made directly to investors in the states of
Florida, Missouri, New York, Ohio, Texas and such other states as it may be
required.
The principal distribution expenses are for advertising, promotional
materials and marketing personnel. Distribution services may also include
organizing and offering to the public, from time to time, one or more new
investment companies which will become members of the Group. The Directors and
officers of Vanguard determine the amount to be spent annually on distribution
activities, the manner and amount to be spent on each Fund, and whether to
organize new investment companies.
One half of the distribution expenses of a marketing and promotional nature
is allocated among the Funds based upon their relative net assets. The remaining
one half of these expenses is allocated among the Funds based upon each Fund's
sales for the preceding 24 months relative to the total sales of the Funds as a
Group, provided, however, that no Fund's aggregate quarterly rate of
contribution for distribution expenses of a marketing and promotional nature
shall exceed 125% of the average distribution expense rate for the Group, and
that no Fund shall incur annual distribution expenses in excess of 20/100 of 1%
of its average month-end net assets. During the fiscal year ended October 31,
1995, the Fund paid approximately $232,000 of the Group's distribution and
marketing expenses, which represented an effective annual rate of .02 of 1% of
the Fund's average net assets.
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<PAGE> 56
INVESTMENT ADVISORY SERVICES Vanguard also provides investment advisory
services to: Vanguard Money Market Reserves; Vanguard Municipal Bond Fund,
several Portfolios of Vanguard Fixed Income Securities Fund; Vanguard Bond Index
Fund; Vanguard California Tax-Free Fund; Vanguard New Jersey Tax-Free Fund;
Vanguard Florida Insured Tax-Free Fund; Vanguard New York Insured Tax-Free Fund;
Vanguard Pennsylvania Tax-Free Fund; Vanguard Ohio Tax-Free Fund; Vanguard Index
Trust; Vanguard International Equity Index Fund; Vanguard Balanced Index Fund;
Vanguard Institutional Index Fund; several Portfolios of Vanguard Variable
Insurance Fund, Vanguard Admiral Funds, Vanguard Tax-Managed Fund, Aggressive
Growth Portfolio of Vanguard Horizon Fund, a portion of Vanguard/Windsor II, a
portion of Vanguard/Morgan Growth Fund as well as several indexed separate
accounts. These services are provided on an at-cost basis from a money
management staff employed directly by Vanguard. The compensation and other
expenses of this staff are paid by the Funds utilizing these services.
REMUNERATION OF DIRECTORS AND OFFICERS The Fund pays each Director, who is
not also an Officer, an annual fee plus travel and other expenses incurred in
attending Board meetings. The Fund's Officers and employees are paid by Vanguard
which, in turn, is reimbursed by the Fund, and each other Fund in the Group, for
its proportionate share of Officers' and employees' salaries and retirement
benefits.
During the fiscal year ended October 31, 1995, the Fund paid approximately
$6,000 in Directors' fees and expenses to its "non-interested" Directors. The
Fund's proportionate share of remuneration paid by Vanguard (and reimbursed by
the Fund) during the fiscal year to all officers of the Fund, as a group, was
approximately $44,602.
Under its retirement plan, Vanguard contributes annually an amount equal to
10% of each eligible Officer's annual compensation plus 7% of that part of the
eligible Officer's compensation during the year, if any, that exceeds the Social
Security Taxable Wage Base then in effect. Under Vanguard's thrift plan, all
eligible Officers are permitted to make pre-tax basic contributions in a maximum
amount equal to 4% of total compensation which are matched by Vanguard on a 100%
basis. Directors who are not Officers are paid an annual fee based on the number
of years of service on the board, up to 15 years of service, upon retirement.
The fee is equal to $1,000 for each year of service and each investment company
member of The Vanguard Group contributes a proportionate amount to this fee
based on its relative net assets. This fee is paid, subsequent to a Director's
retirement, for a period of ten years or until the death of a retired Director.
The Fund's proportionate share of retirement benefits paid by Vanguard on behalf
of all eligible officers of the Fund, as a group, during the fiscal year ended
October 31, 1995 was approximately $1,350.
The following table provides detailed information with respect to the
amounts paid or accrued for the Directors for the fiscal year ended October 31,
1995.
VANGUARD EXPLORER FUND
COMPENSATION TABLE
<TABLE>
<CAPTION>
AGGREGATE PENSION OR RETIREMENT ESTIMATED TOTAL COMPENSATION
COMPENSATION BENEFITS ACCRUED AS ANNUAL BENEFITS FROM ALL VANGUARD FUNDS
NAMES OF DIRECTORS FROM FUND PART OF FUND EXPENSES UPON RETIREMENT PAID TO DIRECTORS(3)
- --------------------------- ------------ --------------------- --------------- -----------------------
<S> <C> <C> <C> <C>
John C. Bogle(1),(2) -- -- -- --
John J. Brennan(2) -- -- -- --
Barbara Barnes Hauptfuhrer $642 $ 108 $15,000 $60,000
Robert E. Cawthorn $642 $ 90 $13,000 $60,000
Bruce K. MacLaury $696 $ 106 $12,000 $55,000
Burton G. Malkiel $642 $ 72 $15,000 $60,000
Alfred M. Rankin, Jr. $642 $ 57 $15,000 $60,000
John C. Sawhill $642 $ 67 $15,000 $60,000
James O. Welch, Jr. $642 $ 83 $15,000 $60,000
J. Lawrence Wilson $642 $ 60 $15,000 $60,000
</TABLE>
(1) For the period reported in this table, Mr. Bogle was the Fund's Chief
Executive Officer, and therefore an "Interested Director."
(2) As "Interested Directors," Messrs. Bogle and Brennan receive no compensation
for their service as directors. Compensation amounts reported for Messrs.
Bogle and Brennan relate to their respective positions as Chief Executive
Officer and President of the Fund.
(3)The amounts reported in this column reflect the total compensation paid to
each Director for their service as Director or Trustee of 34 Vanguard Funds
(27 in the case of Mr. MacLaury).
10
<PAGE> 57
INVESTMENT ADVISORY SERVICES
The Fund currently employs two investment advisers: Wellington Management
Company ("WMC"), 75 State Street, Boston, MA 02109; and Granahan Investment
Management, Inc. ("Granahan"), 275 Wyman Street, Waltham, MA 02154. Until
February 28, 1990, when the Fund acquired the assets of Explorer II, WMC was
sole investment adviser to the Fund (then known simply as Explorer Fund), and
Granahan served as sole investment adviser to Explorer II, the acquired fund.
The proportion of the net assets of the Fund managed by each adviser was
established by the Board of Directors effective with the acquisition of Explorer
II, and may be changed in the future by the Board of Directors as circumstances
warrant. Investors will be advised of any substantive change in the proportions
managed by each adviser. Because the Fund employs two advisers it is possible
that the advisers would purchase or sell the same security at the same time.
Such a situation might result in increased brokerage costs or adverse tax
consequences to the Fund. The Board of Directors monitors portfolio activity in
order to minimize any possible adverse consequences.
WELLINGTON MANAGEMENT COMPANY
The Fund has entered into an advisory agreement with WMC under which WMC
manages the investment and reinvestment of a portion of the Fund's assets (the
"WMC Portfolio") and continuously reviews, supervises and administers the Fund's
investment program with respect to those assets. As of October 31, 1995, WMC
managed approximately 44% of the Fund's net assets. WMC discharges its
responsibilities subject to the control of the officers and Directors of the
Fund.
WMC is a professional investment counseling firm which provides investment
services to investment companies, other institutions and individuals. WMC is a
Massachusetts general partnership of which the following persons are managing
partners: Robert W. Doran, Duncan M. McFarland and John R. Ryan.
The Fund pays WMC a Basic Fee at the end of each fiscal quarter, calculated
by applying a quarterly rate, based on the following annual percentage rates, to
the average month-end net assets of the WMC Portfolio for the quarter:
<TABLE>
<CAPTION>
NET ASSETS RATE
-------------------- -----
<S> <C>
First $500 million .250%
Next $250 million .200%
Next $250 million .150%
Assets in excess of $1
billion .100%
</TABLE>
The Basic Fee, as provided above, shall be increased or decreased by
applying an incentive/penalty fee adjustment based on the investment performance
of the WMC Portfolio relative to the investment performance of the Russell 2000
Small Stock Index (the "Index").
The following table sets forth the adjustment factors to the base advisory
fee payable by the Fund to WMC under this investment advisory agreement:
<TABLE>
<CAPTION>
CUMULATIVE 36-MONTH
PERFORMANCE VERSUS THE INDEX
- ----------------------------- PERFORMANCE FEE
ADJUSTMENT*
------------------
<S> <C>
Less than -12% -0.50 X Basic Fee
Between -12% and -6% -0.25 X Basic Fee
Between -6% and 6% 0.00 X Basic Fee
Between 6% and 12% +0.25 X Basic Fee
More than 12% +0.50 X Basic Fee
</TABLE>
- ---------------
* For purposes of this calculation, the basic fee is calculated by applying the
quarterly rate against average assets over the 36-month period.
11
<PAGE> 58
For the purpose of determining the fee adjustment for investment
performance, as described above, the net assets of the WMC Portfolio shall be
averaged over the same period as the investment performance of the WMC Portfolio
and the investment record of the Index are computed.
Under the rules of the Securities and Exchange Commission, the new
incentive/penalty fee will not be fully operable until the quarter ending July
31, 1999. Until that date, a "blended" fee rate consisting of varying
percentages of (i) the performance adjustment based on the schedule set forth
above (the "new rate"), and (ii) the performance adjustment based on the
schedule set forth in the Fund's previous investment advisory agreement with
WMC1 (the "previous rate") shall be used as follows:
1. QUARTER ENDING OCTOBER 31, 1996. The incentive/penalty fee shall be
calculated as the sum of 8.3% (e.g., one of 12 quarters) of the fee payable
under the new rate plus 91.7% (e.g., 11 of 12 quarters) of the fee payable under
the previous rate.
2. QUARTER ENDING JANUARY 31, 1997. The incentive/penalty fee shall be
calculated as the sum of 16.7% of the fee payable under the new rate plus 83.3%
of the fee payable under the previous rate.
3. QUARTER ENDING APRIL 30, 1997. The incentive/penalty fee shall be
calculated as the sum of 25% of the fee payable under the new rate plus 75% of
the fee payable under the previous rate.
4. QUARTER ENDING JULY 31, 1997. The incentive/penalty fee shall be
calculated as the sum of 33% of the fee payable under the new rate plus 67% of
the fee payable under the previous rate.
5. QUARTER ENDING OCTOBER 31, 1997. The incentive/penalty fee shall be
calculated as the sum of 41.6% of the fee payable under the new rate plus 58.4%
of the fee payable under the previous rate.
6. QUARTER ENDING JANUARY 31, 1998. The incentive/penalty fee shall be
calculated as the sum of 50% of the fee payable under the new rate plus 50% of
the fee payable under the previous rate.
7. QUARTER ENDING APRIL 30, 1998. The incentive/penalty fee shall be
calculated as the sum of 58.4% of the fee payable under the new rate plus 41.6%
of the fee payable under the previous rate.
8. QUARTER ENDING JULY 31, 1998. The incentive/penalty fee shall be
calculated as the sum of 67% of the fee payable under the new rate plus 33% of
the fee payable under the previous rate.
9. QUARTER ENDING OCTOBER 31, 1998. The incentive/penalty fee shall be
calculated as the sum of 75% of the fee payable under the new rate plus 25% of
the fee payable under the previous rate.
10. QUARTER ENDING JANUARY 31, 1999. The incentive/penalty fee shall be
calculated as the sum of 83.3% of the fee payable under the new rate plus 16.7%
of the fee payable under the previous rate.
11. QUARTER ENDING APRIL 30, 1999. The incentive/penalty fee shall be
calculated as the sum of 91.7% of the fee payable under the new rate plus 8.3%
of the fee payable under the previous rate.
12. QUARTER ENDING JULY 31, 1999. New rate fully operable.
The investment performance of the WMC Portfolio for any period, expressed
as a percentage of the "WMC Portfolio unit value" at the beginning of such
period, is the sum of: (i) the change in the WMC Portfolio unit value during
such period; (ii) the unit value of the Fund's cash distributions from the WMC
Portfolio net investment income and realized net capital gains (whether
long-term or short-term) having an ex-dividend date occurring within such
period; and (iii) the unit value of capital gains taxes paid or accrued during
such period by the Fund for undistributed realized long-term capital gains
realized from the WMC Portfolio.
- ---------------
1The previous incentive/penalty fee structure provided that the Basic Fee be
increased or decreased by an amount equal to .0375% per annum (.009375 of 1% per
quarter) of the average month-end assets if the Fund's investment performance
for the 36 months preceding the end of the quarter was between 6 and 12
percentage points above or below, respectively, the investment record of the
Russell 2000 Small Company Stock Index and .075% per annum (.01875 of 1% per) of
the average month-end assets of the Fund if the Fund's investment performance
for the 36 months preceding the end of the quarter was twelve percentage points
or more above or below, respectively, the investment record of the Russell 2000
Small Stock Index.
12
<PAGE> 59
The "WMC Portfolio unit value" is determined by dividing the total net
assets of the WMC Portfolio by a given number of units. On the initial date of
the agreement, the number of units in the WMC Portfolio will equal the total
shares outstanding of the Fund. After such initial date, as assets are added to
or are withdrawn from the WMC Portfolio, the number of units of the WMC
Portfolio is adjusted based on the unit value of the WMC Portfolio on the day
such changes are executed.
The investment record of the Russell 2000 for any period, expressed as a
percentage of the Russell 2000 at the beginning of such period, is the sum of
(i) the change in the level of the Russell 2000 during such period and (ii) the
value, computed consistently with the Russell 2000, of cash distributions having
an ex-dividend date occurring within such period made by companies whose
securities comprise the Russell 2000. For this purpose cash distributions on the
securities which comprise the Russell 2000 shall be treated as reinvested in the
Russell 2000 at least as frequently as the end of each calendar quarter
following the payment of the dividend.
For the purposes of determining the fee adjustment for investment
performance, the net assets of the WMC Portfolio are averaged over the same
period as the investment performance of the WMC Portfolio and the investment
record of the Russell 2000 are computed.
Any computation of the investment performance of the WMC Portfolio and the
investment record of the Russell 2000 shall be subject to and in accordance with
any then applicable rules of the Securities and Exchange Commission.
During the fiscal years ended October 31, 1993, 1994, and 1995, the Fund
paid WMC approximately the following advisory fees:
<TABLE>
<CAPTION>
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Basic Fee........................... $1,181,674 $1,362,455 $1,698,254
Increase (Decrease) for Performance
Adjustment........................ (79,280) (61,905) (44,661)
---------- ---------- ----------
Total.......................... $1,102,394 $1,300,550 $1,653,593
========== ========== ==========
</TABLE>
These fees were paid under a previous fee schedule that provided for a
higher rate of fees.
The agreement with WMC continues until July 31, 1998. The agreement is
renewable thereafter, for successive one year periods, only if each renewal is
specifically approved by a vote of the Fund's Board of Directors, including the
affirmative votes of a majority of the Directors who are not parties to the
contract or "interested persons" (as defined in the Investment Company Act of
1940) of any such party, cast in person at a meeting called for the purpose of
considering such approval. In addition, the question of continuance of the
agreement may be presented to the shareholders of the Fund; in such event
continuance shall be effected only if approved by the affirmative vote of a
majority of the outstanding voting securities of the Fund. The agreement is
automatically terminated if assigned, and may be terminated without penalty at
any time (1) either by vote of the Board of Directors of the Fund or by vote of
its outstanding voting securities on sixty (60) days' written notice to WMC, or
(2) by WMC upon ninety (90) days' written notice to the Fund.
GRANAHAN INVESTMENT MANAGEMENT, INC.
On February 28, 1990, effective with the acquisition of the assets of
Explorer II, the Fund retained Granahan Investment Management, Inc. ("Granahan")
as a second investment adviser. Under its advisory agreement with the Fund,
Granahan manages the investment and reinvestment of a portion of the Fund's
assets (the "Granahan Portfolio") and continuously reviews, supervises and
administers the Fund's investment program with respect to those assets. As of
October 31, 1995, Granahan managed approximately 43% of the Fund's net assets.
Granahan discharges its responsibilities subject to the control of the officers
and Directors of the Fund.
13
<PAGE> 60
The Fund pays Granahan a Basic Fee at the end of each fiscal quarter,
calculated by applying a quarterly rate, based on the following annual
percentage rates, to the average month-end net assets of the Granahan Portfolio
for the quarter:
<TABLE>
<CAPTION>
NET ASSETS RATE
-------------------- -----
<S> <C>
First $500 million .300%
Next $250 million .200%
Next $250 million .150%
Assets in excess of $1
billion .100%
</TABLE>
The Basic Fee paid to Granahan may be increased or decreased by applying an
adjustment formula based on the investment performance of the net assets of the
Granahan Portfolio. Such formula provides for an increase or decrease in
Granahan's Basic Fee in an amount equal to .075% per annum (.01875 of 1% per
quarter) of the average month-end net assets of the Granahan Portfolio if the
investment performance of the Granahan Portfolio for the thirty-six months
preceding the end of the quarter is twelve percentage points or more above or
below, respectively, the investment record of the Russell 2000 Stock Index (the
"Russell 2000") for the same period; or by an amount equal to .0375% per annum
(.009375 of 1% per quarter) if the investment performance of the Granahan
Portfolio for such thirty-six months is six or more but less than twelve
percentage points above or below, respectively, the investment record of the
Russell 2000 for the same period. The incentive portion of the fee may be earned
even if the performance of the Granahan Portfolio for the period is negative
provided that the Portfolio's performance exceeds the Russell 2000 by the
required percentage.
The investment performance of the Granahan Portfolio for any period,
expressed as a percentage of the "Granahan Portfolio unit value" at the
beginning of such period, is the sum of: (i) the change in the Granahan
Portfolio unit value during such period; (ii) the unit value of the Fund's cash
distributions from the Granahan Portfolio net investment income and realized net
capital gains (whether long-term or short-term) having an ex-dividend date
occurring within such period; and (iii) the unit value of capital gains taxes
paid or accrued during such period by the Fund for undistributed realized
long-term capital gains realized from the Granahan Portfolio.
The "Granahan Portfolio unit value" is determined by dividing the total net
assets of the Granahan Portfolio by a given number of units. On the initial date
of the agreement, the number of units in the Granahan Portfolio equalled the
total shares outstanding of the Fund. After such initial date, as assets are
added to or are withdrawn from the Granahan Portfolio, the number of units of
the Granahan Portfolio is adjusted based on the unit value of the Granahan
Portfolio on the day such changes are executed.
The investment record of the Russell 2000 for any period, expressed as a
percentage of the Russell 2000 at the beginning of such period, is the sum of
(i) the change in the level of the Russell 2000 during such period and (ii) the
value, computed consistently with the Russell 2000, of cash distributions having
an ex-dividend date occurring within such period made by companies whose
securities comprise the Russell 2000. For this purpose cash distributions on the
securities which comprise the Russell 2000 shall be treated as reinvested in the
Russell 2000 at least as frequently as the end of each calendar quarter
following the payment of the dividend.
For the purposes of determining the fee adjustment for investment
performance, the net assets of the Granahan Portfolio are averaged over the same
period as the investment performance of the Granahan Portfolio and the
investment record of the Russell 2000 are computed.
Any computation of the investment performance of the Granahan Portfolio and
the investment record of the Russell 2000 shall be subject to and in accordance
with any then applicable rules of the Securities and Exchange Commission.
14
<PAGE> 61
During the fiscal years ended October 31, 1993, 1994 and 1995, the Fund
paid Granahan approximately the following advisory fees:
<TABLE>
<CAPTION>
1993 1994 1995
---------- ---------- ----------
<S> <C> <C> <C>
Basic Fee....................... $ 936,872 $1,397,812 $1,799,069
Increase (Decrease) for
Performance Adjustment........ 116,432 40,525 69,595
---------- ---------- ----------
Total...................... $1,053,304 $1,438,337 $1,868,664
========== ========== ==========
</TABLE>
These fees were paid under a previous fee schedule that provided for a
higher rate of fees.
The agreement continues until July 31, 1998 and will be renewable
thereafter for successive one year periods, only if each renewal is specifically
approved by a vote of the Fund's Board of Directors, including the affirmative
votes of a majority of the Directors who are not parties to the contract or
"interested persons" (as defined in the Investment Company Act of 1940) of any
such party, cast in person at a meeting called for the purpose of considering
such approval. In addition, the question of continuance of the agreement may be
presented to the shareholders of the Fund; in such event, such continuance shall
be effected only if approved by the affirmative vote of a majority of the
outstanding voting securities of the Fund. The agreement is automatically
terminated if assigned, and may be terminated without penalty at any time (1)
either by vote of the Board of Directors of the Fund or by vote of its
outstanding voting securities on 60 days' written notice to Granahan, or (2) by
Granahan upon 90 days' written notice to the fund.
In April 1972, the Securities and Exchange Commission ("SEC") issued
Release No. 7113 under the Investment Company Act of 1940 to call attention of
directors and investment advisers to certain factors which must be considered in
connection with investment company incentive fee arrangements. One of these
factors is to "avoid basing significant fee adjustments upon random or
insignificant differences" between the investment performance of a fund and that
of the particular index with which it is being compared. The Release provides
that "preliminary studies (of the SEC staff) indicate that as a 'rule of thumb'
the performance difference should be at least 10 percentage points" annually
before the maximum performance adjustment may be made. However, the Release also
states that "because of the preliminary nature of these studies, the Commission
is not recommending, at this time, that any particular performance difference
exist before the maximum fee adjustment may be made." The Release concludes that
the directors of a fund "should satisfy themselves that the maximum performance
adjustment will be made only for performance differences that can reasonably be
considered "significant." The Board of Directors of Vanguard Explorer Fund has
fully considered the SEC Release and believes that the performance adjustments
as included in the above mentioned agreements are appropriate, although not
within the 10 percentage point per year range suggested in the Release. Under
the proposed investment advisory agreement between Vanguard Explorer Fund and
Granahan, and Vanguard Explorer Fund and WMC, the maximum performance adjustment
is made at a difference of 12 percentage points from the performance of the
index over a thirty-six month period, which would effectively be the equivalent
of approximately 4 percentage points difference per year.
The Fund's Board of Directors may, without the approval of shareholders,
provide for:
A. The employment of a new investment adviser pursuant to the terms of
a new advisory agreement, either as a replacement for an existing
adviser or as an additional adviser.
B. A change in the terms of an advisory agreement.
C. The continued employment of an existing adviser on the same
advisory contract terms where a contract has been assigned because
of a change in control of the adviser.
Any such change will only be made upon not less than 30 days' prior written
notice to shareholders, which shall include the information concerning the
adviser that would have normally been included in a proxy statement.
15
<PAGE> 62
PORTFOLIO TRANSACTIONS
The investment advisory agreements authorize WMC and Granahan (with the
approval of the Fund's Board of Directors) to select the brokers or dealers that
will execute the purchases and sales of portfolio securities for the Fund and
direct the advisers to use their best efforts to obtain the best available price
and most favorable execution as to all transactions for the Fund. WMC and
Granahan have undertaken to execute each investment transaction at a price and
commission which provides the most favorable total cost or proceeds reasonably
obtainable under the circumstances.
In placing portfolio transactions, WMC and Granahan will use their best
judgment to choose the broker most capable of providing the brokerage services
necessary to obtain best available price and most favorable execution. The full
range and quality of brokerage services available will be considered in making
these determinations. In those instances where it is reasonably determined that
more than one broker can offer the brokerage services needed to obtain the best
available price and most favorable execution, consideration may be given to
those brokers which supply investment research and statistical information and
provide other services in addition to execution services to the Fund and/or WMC
or Granahan. WMC and Granahan consider such information useful in the
performance of its obligations under the agreement but are unable to determine
the amount by which such services may reduce its expenses.
The investment advisory agreements also incorporate the concepts of Section
28(e) of the Securities Exchange Act of 1934 by providing that, subject to the
approval of the Fund's Board of Directors, WMC and Granahan may cause the Fund
to pay a broker-dealer which furnishes brokerage and research services a higher
commission than that which might be charged by another broker-dealer for
effecting the same transaction; provided that such commission is deemed
reasonable in terms of either that particular transaction or the overall
responsibilities of WMC and Granahan to the Fund and the other Funds in the
Group.
Currently, it is the Fund's policy that WMC and Granahan may at times pay
higher commissions in recognition of brokerage services felt necessary for the
achievement of better execution of certain securities transactions that
otherwise might not be available. The advisers will only pay such higher
commissions if they believe this to be in the best interest of the Fund. Some
brokers or dealers who may receive such higher commissions in recognition of
brokerage services related to execution of securities transactions are also
providers of research information to WMC, Granahan and/or the Fund.
Since the Fund does not market its shares through intermediary brokers or
dealers, it is not the Fund's practice to allocate brokerage or principal
business on the basis of sales of its shares which may be through such firms.
However, the Fund may place portfolio orders with qualified broker-dealers who
recommend the Fund to other clients, or who act as agent in the purchase of the
Fund's shares for their clients, and may, when a number of brokers and dealers
can provide comparable best price and execution on a particular transaction,
consider the sale of Fund shares by a broker or dealer in selecting among
qualified broker-dealers.
During the fiscal years ended October 31, 1993, 1994 and 1995 the Fund paid
$452,558, $1,627,910 and $1,889,236 in brokerage commissions, respectively.
Some securities considered for investment by the Fund may also be
appropriate for other Funds and/or clients served by WMC or Granahan. If
purchase or sale of securities consistent with the investment policies of the
Fund and one or more of these other Funds or clients served by the advisers are
considered at or about the same time, transactions in such securities will be
allocated among the several Funds and clients in a manner deemed equitable by
WMC or Granahan.
GENERAL INFORMATION ABOUT THE FUND
DESCRIPTION OF SHARES AND VOTING RIGHTS
The Fund was established under Pennsylvania law under a Declaration of
Trust dated April 17, 1984. The Fund was reorganized as a Maryland corporation
on December 31, 1986. On February 28, 1990, the Fund acquired the assets of
Explorer II, Inc., an investment company that was a member of The Vanguard Group
and
16
<PAGE> 63
that had investment objectives and policies similar to those of the Fund. Also,
on that date the Fund retained Granahan Investment Management Inc., investment
adviser to Explorer II, as the Fund's second adviser and adopted its new name.
The Fund's Amended and Restated Articles of Incorporation permit the
Directors to issue 100,000,000 shares of common stock, with a $.001 par value.
The Board of Directors has the power to designate one or more classes
("Portfolios") of shares of common stock and to classify or reclassify any
unissued shares with respect to such Portfolios. Currently, the Fund is offering
one class of shares.
The shares of the Fund are fully paid and nonassessable, and have no
preferences as to conversion, exchange, dividends, retirement or other features.
The shares have no pre-emptive rights. Such shares have non-cumulative voting
rights, which means that the holders of more than 50% of the shares voting for
the election of Directors can elect 100% of the Directors if they choose to do
so. A shareholder is entitled to one vote for each full share held (and a
fractional vote for each fractional share held), then standing in his name on
the books of the Fund.
PERFORMANCE MEASURES
Vanguard may use reprinted material discussing The Vanguard Group, Inc. or
any of the member funds of The Vanguard Group of investment companies.
The Fund may use one or more, either singularly or in a composite, of the
following unmanaged indexes for comparative performance purposes:
STANDARD & POOR'S 500 COMPOSITE STOCK PRICE INDEX -- is a well-diversified list
of 500 companies representing the U.S. Stock Market.
WILSHIRE 5000 EQUITY INDEX -- consists of more than 6,000 common equity
securities, covering all stocks in the U.S. for which daily pricing is
available.
WILSHIRE 4500 EQUITY INDEX -- consists of all stocks in the Wilshire 5000 except
for the 500 stocks in the Standard & Poor's 500 Index.
MORGAN STANLEY CAPITAL INTERNATIONAL EAFE INDEX -- is an arithmetic, market
value-weighted average of the performance of over 900 securities listed on the
stock exchanges of countries in Europe, Australia and the Far East.
GOLDMAN SACHS 100 CONVERTIBLE BOND INDEX -- currently includes 67 bonds and 33
preferreds. The original list of names was generated by screening for
convertible issues of 100 million or greater in market capitalization. The index
is priced monthly.
SALOMON BROTHERS GNMA INDEX -- includes pools of mortgages originated by private
lenders and guaranteed by the mortgage pools of the Government National Mortgage
Association.
SALOMON BROTHERS HIGH-GRADE CORPORATE BOND INDEX -- consists of publicly issued,
non-convertible corporate bonds rated Aa or Aaa. It is a value-weighted, total
return index, including approximately 800 issues with maturities of 12 years or
greater.
LEHMAN LONG-TERM TREASURY BOND -- is composed of all bonds covered by the
Shearson Lehman Hutton Treasury Bond Index with maturities of 10 years or
greater.
MERRILL LYNCH CORPORATE & GOVERNMENT BOND -- consists of over 4,500 U.S.
Treasury, Agency and investment grade corporate bonds.
LEHMAN CORPORATE (BAA) BOND INDEX -- all publicly offered fixed rate,
nonconvertible domestic corporate bonds rated Baa by Moody's, with a maturity
longer than 1 year and with more than $25 million outstanding. This index
includes over 1,000 issues.
LEHMAN BROTHERS LONG-TERM CORPORATE BOND INDEX -- is a subset of the Lehman
Corporate Bond Index covering all corporate, publicly issued, fixed-rate,
nonconvertible U.S. debt issues rated at least Baa, with at least $50 million
principal outstanding and maturity greater than 10 years.
17
<PAGE> 64
BOND BUYER MUNICIPAL INDEX (20 YEAR) BOND -- is a yield index on current coupon
high-grade general obligation municipal bonds.
STANDARD & POOR'S PREFERRED INDEX -- is a yield index based upon the average
yield of four high-grade, noncallable preferred stock issues.
NASDAQ INDUSTRIAL INDEX -- is composed of more than 3,000 industrial issues. It
is a value-weighted index calculated on price change only and does not include
income.
COMPOSITE INDEX -- 70% Standard & Poor's 500 Index and 30% NASDAQ Industrial
Index.
COMPOSITE INDEX -- 35% Standard & Poor's 500 Index and 65% Lehman Brothers
Long-Term Corporate Bond Index.
COMPOSITE INDEX -- 65% Standard & Poor's 500 Index and 35% Salomon Brothers
High-Grade Bond Index.
LEHMAN BROTHERS AGGREGATE BOND INDEX -- is a market-weighted index that contains
individually priced U.S. Treasury, agency, corporate, and mortgage pass through
securities corporate rated BBB- or better. The index has a market value of over
$4 trillion.
LEHMAN BROTHERS MUTUAL FUND SHORT (1-5) GOVERNMENT/CORPORATE INDEX -- is a
market-weighted index that contains individually priced U.S. Treasury, agency,
and corporate investment grade bonds rated BBB- or better with maturities
between 1 and 5 years. The index has a market value of over $1.3 trillion.
LEHMAN BROTHERS MUTUAL FUND INTERMEDIATE (5-10) GOVERNMENT/CORPORATE INDEX -- is
a market-weighted index that contains individually priced U.S. Treasury, agency,
and corporate securities rated BBB- or better with maturities between 5 and 10
years. The index has a market value of over $600 billion.
LEHMAN BROTHERS MUTUAL FUND LONG (10+) GOVERNMENT/CORPORATE INDEX -- is a
market-weighted index that contains individually priced U.S. Treasury, agency
and corporate securities rated BBB- or better with maturities greater than 10
years. The index has a market value of over $900 billion.
LIPPER SMALL COMPANY GROWTH FUND AVERAGE -- the average performance of small
company growth funds as defined by Lipper Analytical Services, Inc. Lipper
defines a small company growth fund as a fund that by prospectus or portfolio
practice, limits its investments to companies on the basis of the size of the
company. From time to time, Vanguard may advertise using the average performance
and/or the average expense ratio of the small company growth funds. (This fund
category was first established in 1982. For years prior to 1982, the results of
the Lipper Small Company Growth category were estimated using the returns of the
Funds that constituted the Group at its inception.)
RUSSELL 3000 INDEX -- consists of approximately the 3,000 largest stocks of
U.S.-domiciled companies commonly traded on the New York and American Stock
Exchanges or the NASDAQ over-the-counter market, accounting for over 90% of the
market value of publicly traded Stocks in the U.S.
RUSSELL 2000 STOCK INDEX -- consists of the smallest 2,000 stocks within the
Russell 3000; a widely used benchmark for small capitalization common stocks.
LIPPER BALANCED FUND AVERAGE -- an industry benchmark of average balanced funds
with similar investment objectives and policies, as measured by Lipper
Analytical Services, Inc.
LIPPER NON-GOVERNMENT MONEY MARKET FUND AVERAGE -- an industry benchmark of
average non-government money market funds with similar investment objectives and
policies, as measured by Lipper Analytical Services, Inc.
LIPPER GOVERNMENT MONEY MARKET FUND AVERAGE -- an industry benchmark of average
government money market funds with similar investment objectives and policies,
as measured by Lipper Analytical Services, Inc.
LIPPER GENERAL EQUITY FUND AVERAGE -- an industry benchmark of average general
equity funds with similar investment objectives and policies, as measured by
Lipper Analytical Services, Inc.
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LIPPER FIXED INCOME FUND AVERAGE -- an industry benchmark of average fixed
income funds with similar investment objectives and policies, as measured by
Lipper Analytical Services, Inc.
FINANCIAL STATEMENTS
The Fund's Financial Statements for the year ended October 31, 1995,
including the financial highlights for each of the five fiscal years in the
period ended October 31, 1995, appearing in the Vanguard Explorer Fund 1995
Annual Report to Shareholders, and the report thereon of Price Waterhouse LLP,
independent accountants, also appearing therein, are incorporated by reference
in this Statement of Additional Information. The Fund's 1995 Annual Report to
Shareholders is enclosed with this Statement of Additional Information.
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