VANGUARD
U.S. GROWTH
FUND
Annual Report
August 31, 1999
[PHOTO OF SHIP]
[A MEMBER OF THE VANGUARD GROUP LOGO]
<PAGE>
[PHOTO OF JOHN C. BOGLE]
JOHN C. BOGLE
FELLOW SHAREHOLDERS:
TWO ROADS DIVERGED IN A WOOD, AND I--I TOOK THE ONE LESS TRAVELED BY, AND
THAT HAS MADE ALL THE DIFFERENCE.
I can think of no better words than those of Robert Frost to begin this special
letter to our shareholders, who have placed such extraordinary trust in me and
in Vanguard over the past quarter century. When the firm was founded 25 years
ago, we deliberately took a new road to managing a mutual fund enterprise.
Instead of having the funds controlled by an outside management company with its
own financial interests, the Vanguard funds--there were only 11 of them
then--would be controlled by their own shareholders and operate solely in their
financial interests. The outcome of our unprecedented decision was by no means
certain. We described it then as "The Vanguard Experiment."
Well, I guess it's fair to say it's an experiment no more. During the past
25 years, the assets we hold in stewardship for investors have grown from $1
billion to more than $500 billion, and I believe that our reputation for
integrity, fair-dealing, and sound investment principles is second to none in
this industry. Our staggering growth--which I never sought--has come in
important part as a result of the simple investment ideas and basic human values
that are the foundation of my personal philosophy. I have every confidence that
they will long endure at Vanguard, for they are the right ideas and right
values, unshakable and eternal.
While Emerson believed that "an institution is the lengthened shadow of one
man," Vanguard today is far greater than any individual. The Vanguard crew has
splendidly implemented and enthusiastically supported our founding ideas and
values, and deserve the credit for their vital role in forging our success over
the years. It is a dedicated crew of fine human beings, working together in an
organization that is well prepared to press on regardless long after I am gone.
Creating and leading this enterprise has been an exhilarating run. Through it
all, I've taken the kudos and the blows alike, enjoying every moment to the
fullest, and even getting a second chance at life with a heart transplant three
years ago. What more could a man ask?
While I shall no longer be serving on the Vanguard Board, I want to assure
you that I will remain vigorous and active in a newly created Vanguard unit,
researching the financial markets, writing, and speaking. I'll continue to focus
whatever intellectual power and ethical strength I possess on my mission to
assure that mutual fund investors everywhere receive a fair shake. In the spirit
of Robert Frost:
BUT I HAVE PROMISES TO KEEP, AND MILES TO GO BEFORE I SLEEP, AND MILES TO
GO BEFORE I SLEEP.
You have given me your loyalty and friendship over these long years, and I
deeply appreciate your thousands of letters of support. For my part, I will
continue to keep an eagle eye on your interests, for you deserve no less. May
God bless you all, always.
/S/
JCB
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CONTENTS
REPORT FROM THE CHAIRMAN .............1 PERFORMANCE SUMMARY ..................9
AFTER-TAX RETURN REPORT ..............4 FUND PROFILE ........................10
THE MARKETS IN PERSPECTIVE ...........5 FINANCIAL STATEMENTS ................12
REPORT FROM THE ADVISER ..............7 REPORT OF INDEPENDENT ACCOUNTANTS ...19
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<PAGE>
REPORT FROM THE CHAIRMAN
[PHOTO OF JOHN J. BRENNAN]
JOHN J. BRENNAN
During its 1999 fiscal year, Vanguard U.S. Growth Fund benefited from its
emphasis on large-capitalization growth stocks, earning an extraordinary total
return of 37.4%. The fund's return during the 12 months ended August 31 was its
highest since the 1989 fiscal year and extended a remarkable string of
double-digit gains that began with fiscal 1995.
The adjacent table presents the fund's 12-month total return (capital
change plus reinvested dividends), as well as the returns of the average growth
mutual fund, the Standard & Poor's 500 Index, and the index's growth component.
As you can see, your fund's performance, though outstanding on an absolute
basis, still fell short of those of its comparative standards.
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TOTAL RETURNS
FISCAL YEAR ENDED
AUGUST 31, 1999
- ----------------------------------------------
Vanguard U.S. Growth Fund 37.4%
- ----------------------------------------------
Average Growth Fund* 40.4%
- ----------------------------------------------
S&P 500 Index 39.8%
S&P 500/BARRA Growth Index 44.8
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*Based on data from Lipper Inc.
The fund's total return is based on an increase in net asset value from
$30.36 per share on August 31, 1998, to $38.92 per share on August 31, 1999, and
is adjusted for our annual dividend of $0.19 per share paid from net investment
income and a distribution of $2.31 per share paid from net realized capital
gains.
FINANCIAL MARKETS IN REVIEW
During the 12 months ended August 31, the U.S. economy continued to expand,
world markets recovered and even flourished, and corporate profits rose. This
combination of factors created an excellent environment for a broad-based
advance in the stock market, but a not-so-friendly climate for bonds.
It's interesting to note that when the period began, the stock market was
reeling. The S&P 500 Index dropped nearly 7% on the final day of U.S. Growth
Fund's 1998 fiscal year, and investors were scrambling to sort out the
implications of a global financial crisis, plunging commodity prices, a strong
U.S. dollar, and declining interest rates. Over the course of the next 12
months, however, the markets made a dramatic turn. Derailed foreign markets
jumped back on track, concerns about deflation were replaced with angst about
inflation, the yen exhibited strength versus the dollar, and interest rates
moved steadily higher. Stocks generally welcomed the turn, advancing quickly
during the first half of the period, then more tentatively during the second
half as concerns about higher interest rates took hold.
Overall, it was a marvelous year for stocks. The Wilshire 5000 Total Market
Index, a measure of all U.S. stocks, gained 38.9%. The large-cap-dominated S&P
500 Index outpaced broader market measures, returning 39.8%. The S&P 500
recorded monthly gains of 3.9% or higher in seven of the first eight months of
U.S. Growth Fund's fiscal year.
Among S&P 500 stocks, technology issues stole the show, registering an
extraordinary gain of 108%. Several other sectors within the index booked
spectacular years, particularly the energy-related groups, which benefited from
the rise in oil prices. The "other energy" group, which includes drilling and
oil-services companies, was up 63% for the period and
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the integrated-oils sector gained 40%. Strong gains were also recorded by the
producer-durables (44%), utilities (37%), and materials & processing (36%)
sectors.
Growth stocks once again outpaced value stocks during the fiscal year. The
S&P 500's growth component gained 44.8% and value stocks rose 34.1%. Value
shares--those issues characterized by below-average prices in relation to such
measures as earnings and book value--surged ahead of growth stocks in April, but
their turn in the spotlight was brief.
For bond investors, the year was not so rewarding. Bond prices slid and
interest rates rose as the world economy stabilized and fears of inflation were
rekindled by the continued rapid expansion of the U.S. economy. The yield of the
30-year U.S. Treasury bond started the period at 5.27% and ended it at 6.06%, 79
basis points (0.79 percentage point) higher for the year. As a result, the
overall bond market, as measured by the Lehman Brothers Aggregate Bond Index,
provided a total return of just 0.8%.
FISCAL 1999 PERFORMANCE OVERVIEW
The U.S. Growth Fund got off to a roaring start in fiscal 1999, posting a return
of nearly 33% in the first six months. In the second half, however, it gained
just 3.6%. As noted earlier, the fund's 12-month return of 37.4% came up short
versus competing funds and two relevant index benchmarks. Its return was 3
percentage points behind that of the average growth mutual fund and 2.4
percentage points short of the return of the S&P 500 Index. The fund's return
was even further behind the 44.8% return of the S&P 500/BARRA Growth Index, a
better measure of the large growth stocks that the fund emphasizes.
Our shortfalls versus these competitive standards can be traced primarily
to a single market segment: technology. Our heavy weighting in technology stocks
(about 25% of the fund's assets during the period, versus 17% for the S&P 500)
was a big factor in our return, but our tech holdings did not keep pace with
those of the index. This was largely due to two factors: the virtual absence
from the fund of Internet-related shares, which soared during the 12 months
despite a late-period stumble, and the poor performance of some of our
technology picks. In short, we emphasized the right segment of the market but
missed the mark on some of our selections.
Among consumer-staples issues, the index's poorest performing segment
during the fiscal year, the U.S. Growth Fund held, on average, about 16% of
assets, well above the 9% weighting in the index. Health-care stocks accounted
for about 21% of the fund's assets, compared with a 12% weighting in the index.
Though health-care stocks turned in a decent performance in absolute terms
during the 12 months (up 23.5%), they lagged all but two market segments. On the
positive side, our selections among consumer-discretionary issues--a group
primarily made up of retailing companies--were solid.
Besting the return of an unmanaged index, which does not incur the
operating expenses and transaction costs that mutual funds must bear, is no
simple feat, but it is one that we strive to accomplish. Over the longer term,
we have held our own in this regard.
Before I wrap up the discussion of U.S. Growth Fund's fiscal 1999
performance, I want to stress that a 12-month return approaching 40% is unusual
enough for any mutual fund. But for such a return to follow four years during
which the fund earned an average annual return of 23.5% is truly remarkable--and
not likely to be repeated.
LONG-TERM PERFORMANCE OVERVIEW
Our annual report naturally focuses on the short-term performance of your fund.
But a fund's success should be measured over many years, or even decades. The
table on page 3 presents the average annual returns of the U.S. Growth Fund and
its comparative benchmarks for the past ten years. It also presents the results
of hypothetical $10,000 investments
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made a decade ago in the fund, its average competitor, and the S&P 500 Index. As
you can see, the investment in the U.S. Growth Fund would have grown to $53,279
over the decade, compared with $38,420 in the average growth fund. The
difference amounts to $14,859, nearly 11/2 times the initial investment.
- --------------------------------------------------------------
TOTAL RETURNS
10 YEARS ENDED AUGUST 31, 1999
---------------------------------
AVERAGE FINAL VALUE OF
ANNUAL A $10,000
RATE INITIAL INVESTMENT
- --------------------------------------------------------------
Vanguard U.S. Growth Fund 18.2% $53,279
- --------------------------------------------------------------
Average Growth Fund 14.4% $38,420
- --------------------------------------------------------------
S&P 500 Index 17.1% $48,471
- --------------------------------------------------------------
The fund's ultimate objective is to provide competitive results over the
long term--a goal we have achieved. The fund is aided in this quest by its low
expenses, which total 0.39% of average net assets, a fraction of the 1.44%
charged by our average peer. This cost advantage is a high hurdle for other
mutual funds to clear. Cost matters.
Finally, it's extremely important to maintain the proper perspective on the
stock market's returns over the past decade. Historically, large-cap stocks have
earned an annualized return of about 11%. But over the past decade, annual stock
returns have averaged about 17%, and large growth stocks have averaged a return
of 19.1% a year. Although the future is truly unpredictable, we believe prudence
suggests that investors count on no more from common stocks than the long-term
historical average of 11% a year. Investors also should recognize that returns
in any given year can fluctuate very widely around that average, both on the
upside (as in the past year) and on the downside.
IN SUMMARY
For some investors, the recent performance of U.S. stocks may have created an
impression that the risks of equity investing are minor and fleeting, while the
rewards are boundless. Amid such expectations, the benefits of diversifying an
investment program across various asset classes--including bonds and cash
reserves in addition to stocks--may not be obvious.
But given the simple fact that the financial markets are ever cyclical,
rising and falling in unpredictable patterns, maintaining a diversified
portfolio is the best way to reap the long-term rewards of the financial markets
while limiting some of the risks. Creating such a balanced plan and sticking
with it through good times--and the inevitable bad times--is a tested approach
to long-term investment success.
/S/
John J. Brennan
Chairman and Chief Executive Officer September 16, 1999
================================================================================
A NOTE OF THANKS TO OUR FOUNDER
================================================================================
As you may have read on the inside cover of our report, our founder, John C.
Bogle, is retiring as Senior Chairman of our Board after nearly 25 years of
devoted service to Vanguard and our shareholders. Vanguard investors have Jack
to thank for creating a truly mutual mutual fund company that operates solely in
the interest of its fund shareholders. And mutual fund investors everywhere have
benefited from his energetic efforts to improve this industry. Finally, on a
personal note, I am forever grateful to Jack for giving me the opportunity to
join this great company in 1982.
3
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A REPORT ON YOUR FUND'S AFTER-TAX RETURN
Beginning with this annual report, Vanguard is pleased to provide a review of
the U.S. Growth Fund's after-tax performance. The figures on this page
demonstrate the considerable impact that federal income taxes can have on a
fund's return--an important consideration for investors who own mutual funds in
taxable accounts. While the pretax return is most often used to tally a fund's
performance, the fund's after-tax return, which accounts for taxes on
distributions of capital gains and income dividends, is a better representation
of the return that many investors actually received. If you own the U.S. Growth
Fund in a tax-deferred account such as an individual retirement account or a
401(k), this information does not apply to you. Such accounts are not subject to
current taxes; instead, they are taxed at ordinary income tax rates upon
withdrawal.
The table below presents the pretax and after-tax returns for your fund and
an appropriate peer group of mutual funds. Two things to keep in mind:
o The after-tax return calculations use the top federal income tax rates in
effect at the time of each distribution. The tax burden, therefore, would be
somewhat less, and the after-tax return somewhat more, for those in lower tax
brackets.
o The peer funds' returns are provided by Morningstar, Inc. (Elsewhere in
this report, returns for comparable mutual funds are provided by Lipper Inc. and
may differ somewhat.)
<TABLE>
<CAPTION>
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AVERAGE ANNUAL RETURNS: PRETAX AND AFTER-TAX
PERIODS ENDED AUGUST 31, 1999
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1 YEAR 5 YEARS 10 YEARS
---------------------------------------------------------------
PRETAX AFTER-TAX PRETAX AFTER-TAX PRETAX AFTER-TAX
- ------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
U.S. Growth Fund 37.4% 35.1% 26.1% 24.4% 18.2% 17.1%
Average Large Growth Fund* 48.4 46.5 22.2 19.6 16.1 13.6
- ------------------------------------------------------------------------------------------
</TABLE>
*Based on data from Morningstar, Inc.
As you can see, the U.S. Growth Fund's pretax total return of 37.4% for the
12 months ended August 31, 1999, was reduced by taxes to 35.1%. In other words,
for investors in the highest tax bracket, the fund's pretax return was cut by
2.3 percentage points. In comparison, the average large-cap growth fund earned a
pretax return of 48.4% and an after-tax return of 46.5%, a difference of 1.9
percentage points.
Over longer periods, the U.S. Growth Fund's performance, both before and
after taxes, compares favorably with that of its average peer. Over the ten
years ended August 31, 1999, your fund lost less to taxes (1.1 percentage
points) than its peer-group average (2.5 percentage points) while also
generating a higher pretax return.
We must stress that because many interrelated factors affect how
tax-friendly a fund may be, it's very difficult to predict tax efficiency. A
fund's tax efficiency can be influenced by its turnover rate, the types of
securities it holds, the accounting practices it uses when selling shares, and
the net cash flow it receives.
Finally, it's important to understand that our calculation does not reflect
the tax effect of your own investment activities. Specifically, you may incur
additional capital gains taxes--thereby lowering your after-tax return--if you
decide to sell all or some of your shares.
A NOTE ABOUT OUR CALCULATIONS: Pretax total returns assume that all
distributions received (income dividends, short-term capital gains, and
long-term capital gains) are reinvested in new shares, while our after-tax
returns assume that distributions are reduced by any taxes owed on them before
reinvestment. When calculating the taxes due, we used the highest individual
federal income tax rates at the time of the distributions. Those rates are
currently 39.6% for dividends and short-term capital gains and 20% for long-term
capital gains. State and local income taxes were not considered. The competitive
group returns provided by Morningstar are calculated in a manner consistent with
that used for Vanguard funds.
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THE MARKETS IN PERSPECTIVE
YEAR ENDED AUGUST 31, 1999
Stock prices soared worldwide during the 12 months ended August 31, 1999,
rebounding from lows they had reached amid a global crisis of confidence in
financial markets during the summer of 1998. Instead of a worldwide slump, which
many had feared, what developed as the fiscal year progressed was improving
economic and financial-market conditions.
Interest rates rose in response to increasing actual and expected economic
growth. Rising interest rates, of course, translate into lower prices for
existing bonds, so total returns on bonds were muted during the fiscal year.
U.S. STOCK MARKETS
Buoyed by strong growth in the broad economy and improved prospects for
corporate earnings, the U.S. stock market came back in impressive fashion from
the summertime slump of 1998, when broad market averages declined by -20% or
more. The market, measured by the Wilshire 5000 Total Market Index, rose by
38.9% during the fiscal year ended August 31.Most of the gains came during the
first half of the period as it became clear that the global economy would not
melt down as a result of financial crises in Asia, Russia, and parts of Latin
America. The market's gains slowed during the second half of the year (the
Wilshire 5000 climbed 7.3% after a first-half gain of 29.4%), in part because of
rising interest rates. Higher rates can hurt stock prices because many investors
use current interest rates to discount the value of a stock's projected earnings
and dividends. And the more they are discounted, the less investors are willing
to pay for the stock now.
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AVERAGE ANNUAL RETURNS
PERIODS ENDED AUGUST 31, 1999
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1 YEAR 3 YEARS 5 YEARS
- --------------------------------------------------------------------------------
STOCKS
S&P 500 Index 39.8% 28.6% 25.1%
Russell 2000 Index 28.4 10.1 12.3
Wilshire 5000 Index 38.9 25.1 22.9
MSCI EAFE Index 26.0 11.3 8.5
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BONDS
Lehman Aggregate Bond Index 0.8% 7.0% 7.3%
Lehman 10 Year Municipal Bond Index 0.7 6.1 6.5
Salomon Smith Barney 3-Month
U.S. Treasury Bill Index 4.7 5.0 5.2
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OTHER
Consumer Price Index 2.3% 2.0% 2.3%
- --------------------------------------------------------------------------------
Investors seemed heartened by better-than-expected corporate earnings
reports and by forecasts for strong earnings growth into the year 2000. Profits
for the April-June quarter exceeded consensus estimates for more than half the
companies in the Standard & Poor's 500 Index, according to I/B/E/S, which tracks
projections by market analysts.
For the year, big stocks performed better than small stocks, and growth
stocks strongly outpaced value stocks on Wall Street. The S&P 500 Index, which
is dominated by large-capitalization stocks, gained 39.8% for the 12 months,
while the small-cap Russell 2000 Index returned 28.4%. However, the growth
stocks within both of those indexes gained more than 40%: The S&P 500's growth
stocks rose by 44.8%, while the growth issues in
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the Russell 2000 gained 43.3%. Value stocks gained 34.1% within the S&P 500
Index and a relatively meager 14.1% within the Russell 2000.
Leading the way were large-cap technology stocks, which as a group more
than doubled in value during the year. Big gains also were posted by such
cyclical-stock sectors as "other energy" (oil exploration and services firms),
up 63%; producer durables (such as engine, machinery, and aircraft
manufacturers), up 44%; and major integrated oil companies, up 40%. The weakest
sector, with a gain of 9%, was consumer staples, where a number of food and
beverage company stocks declined due to disappointing earnings.
U.S. BOND MARKETS
Robust economic growth, seen as a strong positive for the stock market, was
viewed with suspicion by bond investors. Investors and Federal Reserve Board
policymakers alike worried that growth was so strong it was bound to push up
inflation. Yet most gauges indicated that higher inflation was still more of a
potential threat than a real one: The Consumer Price Index rose a modest 2.3%
during the 12-month period.
The Federal Reserve, which had cut short-term interest rates by a total of
0.75 percentage point during autumn 1998, decided to tap on the monetary brakes
late in the fiscal year. The Fed acted to raise short-term rates by a
quarter-point on June 30 and again on August 24, saying that its moves were
intended to "diminish the risk of rising inflation."
Yields of long-term U.S. Treasury bonds rose by roughly 1 percentage point
during the fiscal year. The yield of the 30-year Treasury bond increased 0.79
percentage point (79 basis points), from 5.27% on August 31, 1998, to 6.06% a
year later. The yield of the 10-year Treasury, a key benchmark for mortgage
loans, rose 99 basis points, from 4.98% to 5.97%. Short-term Treasuries rose on
balance by only 14 basis points, from 4.83% to 4.97%.
The Lehman Aggregate Bond Index, a benchmark for the entire taxable bond
market, eked out a 0.8% return, as interest income of 6.1% was mostly offset by
an average price decline of -5.3%. Returns were somewhat higher for high-yield
(junk) bonds and mortgage-backed securities such as GNMAs.
INTERNATIONAL STOCK MARKETS
Prices rose on international markets during the 12 months ended August 31, with
gains for U.S. investors exceeding 62% for the Morgan Stanley Capital
International Pacific Free and Select Emerging Markets Indexes. Returns from
Europe, as measured by the MSCI Europe Index, were 13.6%. Currency fluctuations,
particularly the U.S. dollar's slide against the Japanese yen, boosted returns
from Asia for U.S. investors. However, the dollar's value rose against European
currencies, trimming local-currency returns by about 4.5 percentage points for
U.S. investors.
Stocks benefited from a markedly improved economic outlook for most of the
world. When the fiscal year began, many analysts expected economic weakness in
Japan, elsewhere in Asia, Russia, and Latin America to drag down even the
high-flying U.S. economy. Instead, signs of increased business activity kept
popping up around the world, in part due to efforts of central banks to spur
economic growth with lower interest rates.
6
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REPORT FROM THE ADVISER
Vanguard U.S. Growth Fund, having enjoyed an astounding first-half return of
32.6%, came back to earth with a modest 3.6% gain during the second half of the
fiscal year ended August 31, 1999. Your fund's full-year return of 37.4%
represents a truly extraordinary bounty, although it was behind the increases
recorded by the large-cap growth stock indexes and the average growth stock
mutual fund.
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Ten Largest Holdings
- -----------------------------------------------
Percentage
Company of Net Assets
- -----------------------------------------------
1.Microsoft Corp. 6.2%
2.Cisco Systems, Inc. 6.2
3.General Electric Co. 5.4
4.Intel Corp. 4.9
5.Lucent Technologies, Inc. 3.9
6.Procter & Gamble Co. 3.6
7.Dell Computer Corp. 3.0
8.Warner-Lambert Co. 2.6
9.Pfizer, Inc. 2.4
10.EMC Corp. 2.1
- -----------------------------------------------
Total 40.3%
- -----------------------------------------------
The driver behind the gains achieved by the fund, and by growth stocks
overall, was technology. The tech sector roughly doubled in price over the
12-month period. The U.S. Growth Fund participated in this surge: Four of the
five largest contributors to the fund's appreciation were tech stocks--Cisco
Systems, Microsoft, Intel, and Dell Computer. Unfortunately, the fund's
performance was restrained by a few problem stocks in the tech area, including
3Com and Compaq.
Our inability to keep pace with the growth sector's "bullet
train"--technology--was the major reason we lagged our benchmarks over the past
year. All of us at Lincoln Capital apologize for this shortfall. We will do our
best to make amends in the fiscal year that has just begun.
There were some notable changes in the fund's positioning and sector
weightings over the past year. The weighting in technology and
telecommunications rose dramatically, from approximately 20% of assets to 40%.
This partly reflects the extraordinary appreciation of the tech group, but it
also is due to sizable purchases of Nokia, IBM, and EMC, all of which have been
productive investments. Among the fund's ten principal holdings, six are tech
stocks: Microsoft, Cisco Systems, Intel, Lucent, Dell Computer, and EMC. These
companies are providing an exciting, almost breathtaking, investment voyage of
discovery.
Our tech purchases were funded in part by a reduction of our holdings in the
financial-services sector. We eliminated three positions in more traditional
banks--Chase Manhattan, Banc One, and First Union--along with our stake in the
consumer-finance company Household International. While these sales proved
helpful to our results, given the weak performance of the financial-services
group, we still were moderately overweighted in the sector relative to the
large-cap S&P 500/BARRA Growth Index. This hurt our performance in relation to
our benchmarks, particularly during the fourth fiscal quarter. Sales of stocks
in the health-care and consumer-staples sectors also provided funds for our
additional investments in technology.
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INVESTMENT PHILOSOPHY
The adviser believes that superior long-term investment results can be achieved
by emphasizing investments in high-quality, established growth companies that
sell at reasonable prices in relation to expected earnings and to valuations in
the broad stock market.
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7
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We get a feeling of deja vu when noting that the price/earnings ratio for
the market is close to an all-time high. At some point, the very high returns on
equities will surely abate, but we believe that market-timing is a fruitless
effort. Thus, the U.S. Growth Fund remains fully invested in equities. We
continue to seek superior long-term returns primarily through stock selection.
This emphasis is why we have kept a substantial portion of the fund's assets in
its ten largest holdings, which represent just over 40% of assets, up slightly
from 38.5% at this time last year.
David Fowler, Portfolio Manager
Parker Hall, Portfolio Manager
Lincoln Capital Management Company
September 10, 1999
8
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PERFORMANCE SUMMARY
U.S. GROWTH FUND
All of the data on this page represent past performance, which cannot be used to
predict future returns that may be achieved by the fund. Note, too, that both
share price and return can fluctuate widely. An investor's shares, when
redeemed, could be worth more or less than their original cost.
TOTAL INVESTMENT RETURNS: AUGUST 31, 1979-AUGUST 31, 1999
- --------------------------------------------------------
U.S. GROWTH FUND S&P 500
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------
1980 11.9% 3.7% 15.6% 18.2%
1981 8.5 3.2 11.7 5.4
1982 -4.8 3.5 -1.3 3.2
1983 51.3 4.2 55.5 44.0
1984 0.9 1.9 2.8 6.1
1985 16.4 3.7 20.1 18.3
1986 23.6 3.0 26.6 39.1
1987 15.1 2.7 17.8 34.5
1988 -23.5 1.9 -21.6 -17.8
1989 39.6 1.1 40.7 39.2
- --------------------------------------------------------
U.S. GROWTH FUND S&P 500
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------
1990 3.7% 1.3% 5.0% -5.0%
1991 31.9 2.4 34.3 26.9
1992 7.5 1.3 8.8 7.9
1993 0.5 1.2 1.7 15.2
1994 5.5 1.5 7.0 5.5
1995 21.3 1.5 22.8 21.4
1996 23.5 1.8 25.3 18.7
1997 31.1 1.4 32.5 40.6
1998 12.9 1.1 14.0 8.1
1999 36.7 0.7 37.4 39.8
- --------------------------------------------------------
See Financial Highlights table on page 16 for dividend and capital gains
information for the past five years.
CUMULATIVE PERFORMANCE: AUGUST 31, 1989-AUGUST 31, 1999
[10 YEAR GRAPH]
- --------------------------------------------------------------------------------
U.S. GROWTH FUND AVERAGE GROWTH FUND S&P 500
- --------------------------------------------------------------------------------
198908 10000 10000 10000
198911 10220 9827 9927
199002 9936 9299 9605
199005 11454 10252 10551
199008 10503 9324 9502
199011 10351 9102 9582
199102 12609 10530 11013
199105 13495 11356 11795
199108 14103 11910 12058
199111 13608 11511 11531
199202 15285 12830 12774
199205 15212 12449 12956
199208 15347 12488 13013
199211 16307 13508 13662
199302 15617 13550 14135
199305 15373 13971 14461
199308 15606 14817 14993
199311 15882 14765 15041
199402 16351 15231 15313
199405 16157 14616 15077
199408 16695 15453 15813
199411 16458 14711 15198
199502 17805 15373 16441
199505 19568 16578 18121
199508 20493 18548 19205
199511 23029 19312 20819
199602 24766 20097 22146
199605 25878 21462 23274
199608 25674 20904 22801
199611 29794 23384 26620
199702 30965 23758 27940
199705 33283 25265 30120
199708 34019 27909 32070
199711 36128 28529 34210
199802 40674 30979 37720
199805 42692 31798 39362
199808 38783 27365 34666
199811 47227 32614 42304
199902 51431 35065 45164
199905 51089 36952 47638
199908 53279 38420 48471
<TABLE>
<CAPTION>
AVERAGE ANNUAL TOTAL RETURNS
PERIODS ENDED AUGUST 31, 1999
------------------------------------- FINAL VALUE OF A
1 YEAR 5 YEARS 10 YEARS $10,000 INVESTMENT
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
[KEY FOR GRAPH] U.S. Growth Fund 37.38% 26.12% 18.21% $53,279
[KEY FOR GRAPH] Average Growth Fund* 40.40 19.98 14.41 38,420
[KEY FOR GRAPH] S&P 500 Index 39.82 25.11 17.10 48,471
- ----------------------------------------------------------------------------------------------------
*Based on data from Lipper Inc.
</TABLE>
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED JUNE 30, 1999*
- --------------------------------------------------------------------------------
10 YEARS
INCEPTION ---------------------------
DATE 1 YEAR 5 YEARS CAPITAL INCOME TOTAL
- --------------------------------------------------------------------------------
U.S. Growth Fund 1/6/1959 20.75% 28.46% 18.58% 1.42% 20.00%
- --------------------------------------------------------------------------------
*SEC rules require that we provide this average total return information through
the latest calendar quarter.
9
<PAGE>
FUND PROFILE
U.S. GROWTH FUND
This Profile provides a snapshot of the fund's characteristics as of August 31,
1999, compared where appropriate to an unmanaged index. Key elements of this
Profile are defined on page 11.
PORTFOLIO CHARACTERISTICS
- -------------------------------------------
U.S. GROWTH S&P 500
- -------------------------------------------
Number of Stocks 75 500
Median Market Cap $123.9B $64.1B
Price/Earnings Ratio 40.6x 28.0x
Price/Book Ratio 10.0x 5.0x
Yield 0.3% 1.3%
Return on Equity 28.4% 22.7%
Earnings Growth Rate 21.2% 15.4%
Foreign Holdings 3.2% 1.6%
Turnover Rate 49% --
Expense Ratio 0.39% --
Cash Reserves 1.1% --
INVESTMENT FOCUS
- -------------------------------------------
[GRID]
STYLE GROWTH
MARKET CAP LARGE
VOLATILITY MEASURES
- -------------------------------------------
U.S. GROWTH S&P 500
- -------------------------------------------
R-Squared 0.92 1.00
Beta 1.02 1.00
TEN LARGEST HOLDINGS
(% OF TOTAL NET ASSETS)
- -------------------------------------------
Microsoft Corp. 6.2%
Cisco Systems, Inc. 6.2
General Electric Co. 5.4
Intel Corp. 4.9
Lucent Technologies, Inc. 3.9
Procter & Gamble Co. 3.6
Dell Computer Corp. 3.0
Warner-Lambert Co. 2.6
Pfizer, Inc. 2.4
EMC Corp. 2.1
- -------------------------------------------
Top Ten 40.3%
SECTOR DIVERSIFICATION (% OF COMMON STOCKS)
- --------------------------------------------------------------------------------
AUGUST 31, 1998 AUGUST 31, 1999
-----------------------------------------
U.S. GROWTH U.S. GROWTH S&P 500
-----------------------------------------
Auto & Transportation ................. 0.0% 0.0% 2.3%
Consumer Discretionary ................ 14.0 10.1 11.8
Consumer Staples ...................... 17.3 13.3 7.8
Financial Services .................... 11.0 8.4 15.2
Health Care ........................... 21.6 18.0 11.2
Integrated Oils ....................... 0.0 0.0 5.4
Other Energy .......................... 0.0 0.0 1.7
Materials & Processing ................ 5.8 1.0 3.3
Producer Durables ..................... 2.3 3.5 3.5
Technology ............................ 20.5 31.2 21.4
Utilities ............................. 0.0 4.2 10.5
Other ................................. 7.5 10.3 5.9
- --------------------------------------------------------------------------------
10
<PAGE>
BETA. A measure of the magnitude of a fund's past share-price fluctuations in
relation to the ups and downs of the overall market (or appropriate market
index). The market (or index) is assigned a beta of 1.00, so a fund with a beta
of 1.20 would have seen its share price rise or fall by 12% when the overall
market rose or fell by 10%.
CASH RESERVES. The percentage of a fund's net assets invested in "cash
equivalents"--highly liquid, short-term, interest-bearing instruments. This
figure does not include cash invested in futures contracts to simulate stock
investment.
EARNINGS GROWTH RATE. The average annual rate of growth in earnings over the
past five years for the stocks now in a fund.
EXPENSE RATIO. The percentage of a fund's average net assets used to pay its
annual administrative and advisory expenses. These expenses directly reduce
returns to investors.
FOREIGN HOLDINGS. The percentage of a fund's equity assets represented by stocks
or American Depositary Receipts of companies based outside the United States.
INVESTMENT FOCUS. This grid indicates the focus of a fund in terms of two
attributes: market capitalization (large, medium, or small) and relative
valuation (growth, value, or a blend).
MEDIAN MARKET CAP. An indicator of the size of companies in which a fund
invests; the midpoint of market capitalization (market price x shares
outstanding) of a fund's stocks, weighted by the proportion of the fund's assets
invested in each stock. Stocks representing half of the fund's assets have
market capitalizations above the median, and the rest are below it.
NUMBER OF STOCKS. An indicator of diversification. The more stocks a fund holds,
the more diversified it is and the more likely to perform in line with the
overall stock market.
PRICE/BOOK RATIO. The share price of a stock divided by its net worth, or book
value, per share. For a fund, the weighted average price/book ratio of the
stocks it holds.
PRICE/EARNINGS RATIO. The ratio of a stock's current price to its per-share
earnings over the past year. For a fund, the weighted average P/E of the stocks
it holds. P/E is an indicator of market expectations about corporate prospects;
the higher the P/E, the greater the expectations for a company's future growth.
R-SQUARED. A measure of how much of a fund's past returns can be explained by
the returns from the overall market (or its benchmark index). If a fund's total
return were precisely synchronized with the overall market's return, its
R-squared would be 1.00. If a fund's returns bore no relationship to the
market's returns, its R-squared would be 0. Return on Equity. The annual average
rate of return generated by a company during the past five years for each dollar
of shareholder's equity (net income divided by shareholder's equity). For a
fund, the weighted average return on equity for the companies whose stocks it
holds.
SECTOR DIVERSIFICATION. The percentages of a fund's common stocks that come from
each of the major industry groups that compose the stock market.
TEN LARGEST HOLDINGS. The percentage of net assets that a fund has invested in
its ten largest holdings. (The average for stock mutual funds is about 35%.) As
this percentage rises, a fund's returns are likely to be more volatile because
they are more dependent on the fortunes of a few companies.
TURNOVER RATE. An indication of trading activity during the past year. Funds
with high turnover rates incur higher transaction costs and are more likely to
distribute capital gains (which are taxable to investors).
YIELD. A snapshot of a fund's income from interest and dividends. The yield,
expressed as a percentage of the fund's net asset value, is based on income
earned over the past 30 days and is annualized, or projected forward for the
coming year. The index yield is based on the current annualized rate of
dividends paid on stocks in the index.
11
<PAGE>
FINANCIAL STATEMENTS
AUGUST 31, 1999
STATEMENT OF NET ASSETS
This Statement provides a detailed list of the fund's holdings, including each
security's market value on the last day of the reporting period. Securities are
grouped and subtotaled by asset type (common stocks, bonds, etc.) and by
industry sector. Other assets are added to, and liabilities are subtracted from,
the value of Total Investments to calculate the fund's Net Assets. Finally, Net
Assets are divided by the outstanding shares of the fund to arrive at its share
price, or Net Asset Value (NAV) Per Share.
At the end of the Statement of Net Assets, you will find a table displaying
the composition of the fund's net assets on both a dollar and per-share basis.
Because all income and any realized gains must be distributed to shareholders
each year, the bulk of net assets consists of Paid in Capital (money invested by
shareholders). The amounts shown for Undistributed Net Investment Income and
Accumulated Net Realized Gains usually approximate the sums the fund had
available to distribute to shareholders as income dividends or capital gains as
of the statement date. Any Accumulated Net Realized Losses, and any cumulative
excess of distributions over net income or net realized gains, will appear as
negative balances. Unrealized Appreciation (Depreciation) is the difference
between the market value of the fund's investments and their cost, and reflects
the gains (losses) that would be realized if the fund were to sell all of its
investments at their statement-date values.
- -----------------------------------------------------
MARKET
VALUE*
U.S. GROWTH FUND SHARES (000)
- -----------------------------------------------------
COMMON STOCKS (98.4%)
- -----------------------------------------------------
CONSUMER DISCRETIONARY (10.0%)
Wal-Mart Stores, Inc. 6,700,000 $ 296,894
Home Depot, Inc. 3,800,000 232,275
Time Warner, Inc. 2,800,000 166,075
Gillette Co. 2,700,000 125,887
o America Online, Inc. 1,300,000 118,706
TJX Cos., Inc. 3,311,600 95,622
McDonald's Corp. 1,900,000 78,612
The Walt Disney Co. 2,800,000 77,700
o Costco Wholesale Corp. 959,800 71,745
The Gap, Inc. 1,533,300 59,990
o Bed Bath & Beyond, Inc. 2,155,100 59,265
o Clear Channel
Communications, Inc. 800,000 56,050
May Department Stores Co. 1,300,000 50,781
o Mirage Resorts, Inc. 3,700,000 48,331
o Abercrombie & Fitch Co. 959,700 33,469
Avon Products, Inc. 550,100 24,136
----------
1,595,538
----------
CONSUMER STAPLES (13.1%)
Procter & Gamble Co. 5,800,000 575,650
The Coca-Cola Co. 5,300,000 317,006
CVS Corp. 6,900,000 287,644
PepsiCo, Inc. 7,500,000 255,937
Colgate-Palmolive Co. 4,000,000 214,000
o The Kroger Co. 4,000,000 92,500
Philip Morris Cos., Inc. 2,300,000 86,106
Unilever NV ADR 999,999 68,875
General Mills, Inc. 800,000 67,000
The Quaker Oats Co. 700,000 46,769
- -----------------------------------------------------
MARKET
VALUE*
SHARES (000)
- -----------------------------------------------------
Walgreen Co. 1,800,000 $ 41,737
Coca-Cola Enterprises, Inc. 1,300,000 36,969
----------
2,090,193
----------
FINANCIAL SERVICES (8.3%)
American International
Group, Inc. 2,125,000 196,961
MBNA Corp. 7,700,000 190,094
Paychex, Inc. 5,714,200 168,212
Automatic Data
Processing, Inc. 3,981,200 156,511
Capital One Financial Corp. 3,500,000 132,125
Associates First Capital
Corp. 3,796,400 130,264
Wells Fargo Co. 2,600,000 103,513
Charles Schwab Corp. 2,200,000 86,900
o Concord EFS, Inc. 1,796,000 66,676
State Street Corp. 1,100,000 65,862
First Data Corp. 672,200 29,577
----------
1,326,695
----------
HEALTH CARE (17.7%)
Warner-Lambert Co. 6,300,000 417,375
Pfizer, Inc. 10,200,000 385,050
Bristol-Myers Squibb Co. 4,700,000 330,763
Johnson & Johnson 3,000,000 306,750
Schering-Plough Corp. 4,500,000 236,531
American Home
Products Corp. 4,864,000 201,856
Merck & Co., Inc. 3,000,000 201,563
Pharmacia & Upjohn, Inc. 3,600,000 188,100
o Amgen, Inc. 2,142,200 178,204
o ALZA Corp. 3,500,000 176,313
12
<PAGE>
- -----------------------------------------------------
MARKET
VALUE*
SHARES (000)
- -----------------------------------------------------
AstraZeneca Group PLC ADR 2,992,100 $ 117,814
o Quintiles Transnational
Corp. 2,800,000 100,275
----------
2,840,594
----------
MATERIALS & PROCESSING (1.0%)
o Sealed Air Corp. 1,800,000 105,750
o W.R. Grace & Co. 2,600,000 49,725
----------
155,475
----------
PRODUCER DURABLES (3.4%)
Nokia Corp. ADR 3,900,000 325,163
o Applied Materials, Inc. 2,000,000 142,125
Xerox Corp. 1,700,000 81,175
----------
548,463
----------
TECHNOLOGY (30.7%)
COMMUNICATIONS TECHNOLOGY (5.1%)
Lucent Technologies, Inc. 9,800,000 627,813
o Tellabs, Inc. 2,000,000 119,125
o Inktomi Corp. 600,000 68,025
COMPUTER SERVICES SOFTWARE & SYSTEMS (7.1%)
o Microsoft Corp. 10,700,000 990,419
o BMC Software, Inc. 2,600,000 139,913
COMPUTER TECHNOLOGY (12.9%)
o Cisco Systems, Inc. 14,600,000 990,063
o Dell Computer Corp. 9,700,000 473,481
o EMC Corp. 5,700,000 342,000
International Business
Machines Corp. 2,100,000 261,581
ELECTRONICS--SEMICONDUCTORS/COMPONENTS (5.6%)
Intel Corp. 9,600,000 789,000
Texas Instruments, Inc. 1,287,600 105,664
----------
4,907,084
----------
UTILITIES (4.1%)
o MCI WorldCom, Inc. 4,100,000 310,575
SBC Communications Inc. 6,000,000 288,000
Comcast Corp. Class A
Special 1,900,000 61,988
----------
660,563
----------
OTHER (10.1%)
General Electric Co. 7,700,000 864,806
Monsanto Co. 7,700,000 316,181
Tyco International Ltd. 2,900,000 293,806
Illinois Tool Works, Inc. 1,900,000 148,081
----------
1,622,874
----------
- -----------------------------------------------------
TOTAL COMMON STOCKS
(Cost $10,466,689) 15,747,479
- -----------------------------------------------------
CONVERTIBLE PREFERRED STOCK (0.5%)
- -----------------------------------------------------
Sealed Air Corp. $2.00 Cvt. Pfd.
(Cost $53,909) 1,400,000 79,800
- -----------------------------------------------------
FACE MARKET
AMOUNT VALUE
(000) (000)
- -----------------------------------------------------
TEMPORARY CASH INVESTMENT (1.2%)
- -----------------------------------------------------
REPURCHASE AGREEMENT
Collateralized by U.S. Government
Obligations in a Pooled
Cash Account
5.43%, 9/1/1999
(Cost $195,995) $195,995 $ 195,995
- -----------------------------------------------------
TOTAL INVESTMENTS (100.1%)
(Cost $10,716,593) 16,023,274
- -----------------------------------------------------
OTHER ASSETS AND LIABILITIES (-0.1%)
- -----------------------------------------------------
Other Assets--Note C 77,774
Liabilities (93,881)
- -----------------------------------------------------
(16,107)
- -----------------------------------------------------
NET ASSETS (100%)
- -----------------------------------------------------
Applicable to 411,251,134 outstanding
$.001 par value shares of beneficial
interest (unlimited authorization) $16,007,167
=====================================================
NET ASSET VALUE PER SHARE $38.92
=====================================================
*See Note A in Notes to Financial Statements.
oNon-Income-Producing Security.
ADR--American Depositary Receipt.
- -----------------------------------------------------
AT AUGUST 31, 1999, NET ASSETS CONSISTED OF:
- -----------------------------------------------------
AMOUNT PER
(000) SHARE
- -----------------------------------------------------
Paid in Capital $9,843,688 $23.94
Undistributed Net
Investment Income 54,313 .13
Accumulated Net
Realized Gains 802,485 1.95
Unrealized Appreciation--
Note F 5,306,681 12.90
=====================================================
NET ASSETS $16,007,167 $38.92
=====================================================
13
<PAGE>
STATEMENT OF OPERATIONS
This Statement shows dividend and interest income earned by the fund during the
reporting period, and details the operating expenses charged to the fund. These
expenses directly reduce the amount of investment income available to pay to
shareholders as dividends. This Statement also shows any Net Gain (Loss)
realized on the sale of investments, and the increase or decrease in the
Unrealized Appreciation (Depreciation) on investments during the period.
- --------------------------------------------------------------------------------
U.S. GROWTH FUND
YEAR ENDED AUGUST 31, 1999
(000)
- --------------------------------------------------------------------------------
INVESTMENT INCOME
INCOME
Dividends $ 115,797
Interest 18,322
Security Lending 555
-------------
Total Income 134,674
-------------
EXPENSES
Investment Advisory Fees--Note B 16,307
The Vanguard Group--Note C
Management and Administrative 34,493
Marketing and Distribution 2,387
Custodian Fees 20
Auditing Fees 15
Shareholders' Reports 456
Trustees' Fees and Expenses 21
-------------
Total Expenses 53,699
Expenses Paid Indirectly--Note D (1,754)
-------------
Net Expenses 51,945
- --------------------------------------------------------------------------------
NET INVESTMENT INCOME 82,729
- --------------------------------------------------------------------------------
REALIZED NET GAIN ON INVESTMENT SECURITIES SOLD 802,298
- --------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION)
OF INVESTMENT SECURITIES 2,867,213
================================================================================
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $3,752,240
================================================================================
14
<PAGE>
STATEMENT OF CHANGES IN NET ASSETS
This Statement shows how the fund's total net assets changed during the two most
recent reporting periods. The Operations section summarizes information detailed
in the Statement of Operations. The amounts shown as Distributions to
shareholders from the fund's net income and capital gains may not match the
amounts shown in the Operations section, because distributions are determined on
a tax basis and may be made in a period different from the one in which the
income was earned or the gains were realized on the financial statements. The
Capital Share Transactions section shows the amount shareholders invested in the
fund, either by purchasing shares or by reinvesting distributions, as well as
the amounts redeemed. The corresponding numbers of Shares Issued and Redeemed
are shown at the end of the Statement.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------
U.S. GROWTH FUND
YEAR ENDED AUGUST 31,
-------------------------
1999 1998
(000) (000)
- --------------------------------------------------------------------------------------------
INCREASE (DECREASE) IN NET ASSETS
OPERATIONS
<S> <C> <C>
Net Investment Income $ 82,729 $ 62,038
Realized Net Gain 802,298 854,804
Change in Unrealized Appreciation (Depreciation) 2,867,213 (6,955)
---------------------------
Net Increase in Net Assets Resulting from Operations 3,752,240 909,887
---------------------------
DISTRIBUTIONS
Net Investment Income (63,675) (72,786)
Realized Capital Gain (774,154) (239,928)
---------------------------
Total Distributions (837,829) (312,714)
---------------------------
CAPITAL SHARE TRANSACTIONS1
Issued 5,653,573 2,986,205
Issued in Lieu of Cash Distributions 811,835 303,001
Redeemed (2,959,346) (1,744,938)
---------------------------
Net Increase from Capital Share Transactions 3,506,062 1,544,268
- --------------------------------------------------------------------------------------------
Total Increase 6,420,473 2,141,441
- --------------------------------------------------------------------------------------------
NET ASSETS
Beginning of Year 9,586,694 7,445,253
---------------------------
End of Year $16,007,167 $9,586,694
============================================================================================
1Shares Issued (Redeemed)
Issued 151,298 92,058
Issued in Lieu of Cash Distributions 23,255 10,884
Redeemed (79,056) (55,595)
---------------------------
Net Increase in Shares Outstanding 95,497 47,347
============================================================================================
</TABLE>
15
<PAGE>
FINANCIAL HIGHLIGHTS
This table summarizes the fund's investment results and distributions to
shareholders on a per-share basis. It also presents the fund's Total Return and
shows net investment income and expenses as percentages of average net assets.
These data will help you assess: the variability of the fund's net income and
total returns from year to year; the relative contributions of net income and
capital gains to the fund's total return; how much it costs to operate the fund;
and the extent to which the fund tends to distribute capital gains. The table
also shows the Portfolio Turnover Rate, a measure of trading activity. A
turnover rate of 100% means that the average security is held in the fund for
one year.
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------
U.S. GROWTH FUND
YEAR ENDED AUGUST 31,
- -------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
FOR A SHARE OUTSTANDING THROUGHOUT EACH YEAR 1999 1998 1997 1996 1995
- -------------------------------------------------------------------------------------------------------
NET ASSET VALUE, BEGINNING OF YEAR $30.36 $27.74 $22.62 $18.83 $15.52
- -------------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .21 .21 .27 .26 .25
Net Realized and Unrealized Gain (Loss)
on Investments 10.85 3.57 6.73 4.39 3.24
- -------------------------------------------------------------------------------------------------------
Total from Investment Operations 11.06 3.78 7.00 4.65 3.49
DISTRIBUTIONS
Dividends from Net Investment Income (.19) (.27) (.26) (.29) (.18)
Distributions from Realized Capital Gains (2.31) (.89) (1.62) (.57) --
- -------------------------------------------------------------------------------------------------------
Total Distributions (2.50) (1.16) (1.88) (.86) (.18)
=======================================================================================================
NET ASSET VALUE, END OF YEAR $38.92 $30.36 $27.74 $22.62 $18.83
=======================================================================================================
TOTAL RETURN 37.38% 14.01% 32.50% 25.28% 22.75%
=======================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Year (Millions) $16,007 $9,587 $7,445 $4,544 $2,989
Ratio of Total Expenses to Average Net Assets 0.39% 0.41% 0.42% 0.43% 0.47%
Ratio of Net Investment Income to Average
Net Assets 0.59% 0.69% 1.13% 1.32% 1.59%
Portfolio Turnover Rate 49% 48% 35% 44% 32%
=======================================================================================================
</TABLE>
16
<PAGE>
NOTES TO FINANCIAL STATEMENTS
Vanguard U.S. Growth Fund is registered under the Investment Company Act of 1940
as a diversified open-end investment company, or mutual fund.
A. The following significant accounting policies conform to generally accepted
accounting principles for mutual funds. The fund consistently follows such
policies in preparing its financial statements.
1. SECURITY VALUATION: Equity securities are valued at the latest quoted
sales prices as of the close of trading on the New York Stock Exchange
(generally 4:00 p.m. Eastern time) on the valuation date; such securities not
traded on the valuation date are valued at the mean of the latest quoted bid and
asked prices. Prices are taken from the primary market in which each security
trades. Temporary cash investments are valued at cost, which approximates market
value. Securities for which market quotations are not readily available are
valued by methods deemed by the Board of Trustees to represent fair value.
2. FEDERAL INCOME TAXES: The fund intends to continue to qualify as a
regulated investment company and distribute all of its taxable income.
Accordingly, no provision for federal income taxes is required in the financial
statements.
3. REPURCHASE AGREEMENTS: The fund, along with other members of The
Vanguard Group, transfers uninvested cash balances to a Pooled Cash Account,
which is invested in repurchase agreements secured by U.S. government
securities. Securities pledged as collateral for repurchase agreements are held
by a custodian bank until the agreements mature. Each agreement requires that
the market value of the collateral be sufficient to cover payments of interest
and principal; however, in the event of default or bankruptcy by the other party
to the agreement, retention of the collateral may be subject to legal
proceedings.
4. DISTRIBUTIONS: Distributions to shareholders are recorded on the
ex-dividend date. Distributions are determined on a tax basis and may differ
from net investment income and realized capital gains for financial reporting
purposes.
5. OTHER: Dividend income is recorded on the ex-dividend date. Security
transactions are accounted for on the date securities are bought or sold. Costs
used to determine realized gains (losses) on the sale of investment securities
are those of the specific securities sold.
B. Lincoln Capital Management Company provides investment advisory services to
the fund for a fee calculated at an annual percentage rate of average net
assets. For the year ended August 31, 1999, the advisory fee represented an
effective annual rate of 0.12% of the fund's average net assets.
C. The Vanguard Group furnishes at cost corporate management, administrative,
marketing, and distribution services. The costs of such services are allocated
to the fund under methods approved by the Board of Trustees. The fund has
committed to provide up to 0.40% of its net assets in capital contributions to
Vanguard. At August 31, 1999, the fund had contributed capital of $3,401,000 to
Vanguard (included in Other Assets), representing 0.02% of the fund's net assets
and 3.4% of Vanguard's capitalization. The fund's Trustees and officers are also
directors and officers of Vanguard.
D. Vanguard has asked the fund's investment adviser to direct certain security
trades, subject to obtaining the best price and execution, to brokers who have
agreed to rebate to the fund part of the commissions generated. Such rebates are
used solely to reduce the fund's management and administrative expenses. The
fund's custodian bank has also agreed to reduce its fees when the fund maintains
cash on deposit in the non-interest-bearing custody account. For the year ended
August 31, 1999, directed brokerage and custodian fee offset arrangements
reduced expenses by $1,741,000 and $13,000, respectively. The total expense
reduction represented an effective annual rate of 0.01% of the fund's average
net assets.
17
<PAGE>
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
E. During the year ended August 31, 1999, the fund purchased $9,325,251,000 of
investment securities and sold $6,665,127,000 of investment securities other
than temporary cash investments.
F. At August 31, 1999, net unrealized appreciation of investment securities for
financial reporting and federal income tax purposes was $5,306,681,000,
consisting of unrealized gains of $5,664,717,000 on securities that had risen in
value since their purchase and $358,036,000 in unrealized losses on securities
that had fallen in value since their purchase.
18
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Trustees of
Vanguard U.S. Growth Fund
In our opinion, the accompanying statement of net assets and the related
statements of operations and of changes in net assets and the financial
highlights present fairly, in all material respects, the financial position of
Vanguard U.S. Growth Fund (the "Fund") at August 31, 1999, the results of its
operations for the year then ended, the changes in its net assets for each of
the two years in the period then ended and the financial highlights for each of
the five years in the period then ended, in conformity with generally accepted
accounting principles. These financial statements and financial highlights
(hereafter referred to as "financial statements") are the responsibility of the
Fund's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
financial statements in accordance with generally accepted auditing standards
which require that we plan and perform the audit to obtain reasonable assurance
about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits, which included
confirmation of securities at August 31, 1999 by correspondence with the
custodian, provide a reasonable basis for the opinion expressed above.
PricewaterhouseCoopers LLP
Thirty South Seventeenth Street
Philadelphia, Pennsylvania 19103
September 30, 1999
- --------------------------------------------------------------------------------
SPECIAL 1999 TAX INFORMATION (UNAUDITED) FOR
VANGUARD U.S. GROWTH FUND
This information for the fiscal year ended August 31, 1999, is included pursuant
to provisions of the Internal Revenue Code.
The fund distributed $614,967,000 as capital gain dividends (from net
long-term capital gains) to shareholders in December 1998, all of which is
designated as a 20% rate gain distribution.
For corporate shareholders, 100% of investment income (dividend income plus
short-term gains, if any) qualifies for the dividends-received deduction.
- --------------------------------------------------------------------------------
19
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NOTICE TO SHAREHOLDERS ABOUT Y2K
As is well known by now, the approaching calendar change to 2000 has posed a
challenge to many computer systems worldwide. Computers that are not modified
could interpret "00" as 1900 rather than 2000 and produce errors in
date-dependent calculations, including bond interest payments, stock trade
settlements, retirement benefits, and other financial transactions.
OUR APPROACH
Vanguard has taken this challenge seriously. We have had a Year 2000 Project
under way since 1996 to fulfill our responsibility to safeguard our business
relationships and the security of our investors' accounts.
Our internal systems are Year 2000-compliant. They have been renovated and
thoroughly tested and are ready for the date change. As for the external systems
that connect with ours, we have been working for many months with clients,
business partners, and providers of products and services to assess their
compliance. We have analyzed the external services we require and have developed
contingency plans--including provision for alternative providers where
appropriate.
On New Year's Day, our telephone centers will be staffed and ready for
shareholder calls. However, we expect the volume of inquiries over the New
Year's weekend to be high, and we encourage shareholders to check their accounts
via our website or automated telephone systems, which offer much greater service
capacity and efficiency. This will also help our live representatives to provide
a higher level of service to those with specific transaction or other
service-related needs.
WHAT YOU CAN DO
We assure you we will protect our shareholders' records, so account records will
not be lost. Nevertheless, keeping copies of current records is always
advisable. You should keep at least your third-quarter statement and any
confirmations you receive from us between October 1, 1999, and year-end.
If you are a registered user of Access Vanguard(TM) (www.vanguard.com), you
can retrieve this information through the secure "Your Accounts" section and
print copies for your files. If you are not registered for Access Vanguard and
wish to have this flexibility, you should register as soon as possible so that
you can receive your password and become familiar with this service before the
New Year's weekend. Likewise, you may need personal identification numbers to
use our automated telephone services: Vanguard Tele-Account(R) for individual
investors (1-800-662-6273) and The VOICE(TM) Network for participants in
employer-sponsored retirement plans (1-800-523-1188).
Our Year 2000 Project's primary goal from the start has been to prepare our
systems for business as usual on behalf of our shareholders into 2000 and
beyond. We remain confident we will meet that goal, and we look forward to
serving you in the years to come.
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20
<PAGE>
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THE PEOPLE WHO GOVERN YOUR FUND
The Trustees of your mutual fund are there to see that the fund is operated and
managed in your best interests since, as a shareholder, you are part owner of
the fund. Your fund Trustees also serve on the Board of Directors of The
Vanguard Group, which is owned by the funds and exists solely to provide
services to them on an at-cost basis.
Seven of Vanguard's nine board members are independent, meaning that they
have no affiliation with Vanguard or the funds they oversee, apart from the
sizable personal investments they have made as private individuals. They bring
distinguished backgrounds in business, academia, and public service to their
task of working with Vanguard officers to establish the policies and oversee the
activities of the funds.
Among board members' responsibilities are selecting investment advisers for
the funds; monitoring fund operations, performance, and costs; reviewing
contracts; nominating and selecting new Trustees/Directors; and electing
Vanguard officers.
The list below provides a brief description of each Trustee's professional
affiliations. Noted in parentheses is the year in which the Trustee joined the
board.
TRUSTEES
JOHN C. BOGLE * (1967) Founder, Senior Chairman of the Board, and
Director/Trustee of The Vanguard Group, Inc., and each of the investment
companies in The Vanguard Group.
JOHN J. BRENNAN * (1987) Chairman of the Board, Chief Executive Officer, and
Director/Trustee of The Vanguard Group, Inc., and each of the investment
companies in The Vanguard Group.
JOANN HEFFERNAN HEISEN * (1998) Vice President, Chief Information Officer, and a
member of the Executive Committee of Johnson & Johnson; Director of Johnson &
JohnsonoMerck Consumer Pharmaceuticals Co., The Medical Center at Princeton, and
Women's Research and Education Institute.
BRUCE K. MACLAURY * (1990) President Emeritus of The Brookings Institution;
Director of American Express Bank Ltd., The St. Paul Companies, Inc., and
National Steel Corp.
BURTON G. MALKIEL * (1977) Chemical Bank Chairman's Professor of Economics,
Princeton University; Director of Prudential Insurance Co. of America, Banco
Bilbao Gestinova, Baker Fentress & Co., The Jeffrey Co., and Select Sector SPDR
Trust.
ALFRED M. RANKIN, JR. * (1993) Chairman, President, and Chief Executive Officer
of NACCO Industries, Inc.; Director of NACCO Industries, The BFGoodrich Co., and
The Standard Products Co.
JOHN C. SAWHILL * (1991) President and Chief Executive Officer of The Nature
Conservancy; formerly, Director and Senior Partner of McKinsey & Co. and
President of New York University; Director of Pacific Gas and Electric Co.,
Procter & Gamble Co., NACCO Industries, and Newfield Exploration Co.
JAMES O. WELCH, JR. * (1971) Retired Chairman of Nabisco Brands, Inc.; retired
Vice Chairman and Director of RJR Nabisco; Director of TECO Energy, Inc., and
Kmart Corp.
J. LAWRENCE WILSON * (1985) Chairman and Chief Executive Officer of Rohm & Haas
Co.; Director of Cummins Engine Co. and The Mead Corp.; Trustee of Vanderbilt
University.
OTHER FUND OFFICERS
RAYMOND J. KLAPINSKY * Secretary; Managing Director and Secretary of The
Vanguard Group, Inc.; Secretary of each of the investment companies in The
Vanguard Group.
THOMAS J. HIGGINS * Treasurer; Principal of The Vanguard Group,
Inc.; Treasurer of each of the investment companies in The Vanguard Group.
VANGUARD MANAGING DIRECTORS
R. GREGORY BARTON * Legal Department.
ROBERT A. DISTEFANO * Information Technology.
JAMES H. GATELY * Individual Investor Group.
KATHLEEN C. GUBANICH * Human Resources.
IAN A. MACKINNON * Fixed Income Group.
F. WILLIAM MCNABB, III * Institutional Investor Group.
MICHAEL S. MILLER * Planning and Development.
RALPH K. PACKARD * Chief Financial Officer.
GEORGE U. SAUTER * Core Management Group.
<PAGE>
ABOUT OUR COVER
Our cover art, depicting HMS Vanguard at sea, is a
reproduction of Leading the Way, a 1984 work created
and copyrighted by noted naval artist Tom Freeman,
of Forest Hill, Maryland.
[SHIP LOGO]
[THE VANGUARD GROUP LOGO]
Post Office Box 2600
Valley Forge, Pennsylvania 19482-2600
All comparative mutual fund data are from Lipper Inc. or Morningstar,
Inc., unless otherwise noted.
"Standard & Poor's(R)," "S&P(R)," "S&P 500(R)," "Standard & Poor's 500,"
and "500" are trademarks of The McGraw-Hill Companies, Inc.
Frank Russell Company is the owner of trademarks and copyrights
relating to the Russell Indexes. "Wilshire 4500" and "Wilshire 5000"
are trademarks of Wilshire Associates.
WORLD WIDE WEB
www.vanguard.com
FUND INFORMATION
1-800-662-7447
INDIVIDUAL ACCOUNT SERVICES
1-800-662-2739
INSTITUTIONAL INVESTOR SERVICES
1-800-523-1036
This report is intended for the fund's
shareholders. It may not be distributed
to prospective investors unless it
is preceded or accompanied by the
current fund prospectus.
Q230-10/13/1999
(C) 1999 The Vanguard Group, Inc.
All rights reserved.
Vanguard Marketing
Corporation, Distributor.
<PAGE>
VANGUARD
INTERNATIONAL
GROWTH FUND
Annual Report
August 31, 1999
[PHOTO OF SHIP]
[A MEMBER OF THE VANGUARD GROUP LOGO]
<PAGE>
[PHOTO OF JOHN C. BOGLE]
JOHN C. BOGLE
FELLOW SHAREHOLDERS:
TWO ROADS DIVERGED IN A WOOD, AND I--I TOOK THE ONE LESS TRAVELED BY, AND
THAT HAS MADE ALL THE DIFFERENCE.
I can think of no better words than those of Robert Frost to begin this special
letter to our shareholders, who have placed such extraordinary trust in me and
in Vanguard over the past quarter century. When the firm was founded 25 years
ago, we deliberately took a new road to managing a mutual fund enterprise.
Instead of having the funds controlled by an outside management company with its
own financial interests, the Vanguard funds--there were only 11 of them
then--would be controlled by their own shareholders and operate solely in their
financial interests. The outcome of our unprecedented decision was by no means
certain. We described it then as "The Vanguard Experiment."
Well, I guess it's fair to say it's an experiment no more. During the past 25
years, the assets we hold in stewardship for investors have grown from $1
billion to more than $500 billion, and I believe that our reputation for
integrity, fair-dealing, and sound investment principles is second to none in
this industry. Our staggering growth--which I never sought--has come in
important part as a result of the simple investment ideas and basic human values
that are the foundation of my personal philosophy. I have every confidence that
they will long endure at Vanguard, for they are the right ideas and right
values, unshakable and eternal.
While Emerson believed that "an institution is the lengthened shadow of one
man," Vanguard today is far greater than any individual. The Vanguard crew has
splendidly implemented and enthusiastically supported our founding ideas and
values, and deserve the credit for their vital role in forging our success over
the years. It is a dedicated crew of fine human beings, working together in an
organization that is well prepared to press on regardless long after I am gone.
Creating and leading this enterprise has been an exhilarating run. Through it
all, I've taken the kudos and the blows alike, enjoying every moment to the
fullest, and even getting a second chance at life with a heart transplant three
years ago. What more could a man ask?
While I shall no longer be serving on the Vanguard Board, I want to assure
you that I will remain vigorous and active in a newly created Vanguard unit,
researching the financial markets, writing, and speaking. I'll continue to focus
whatever intellectual power and ethical strength I possess on my mission to
assure that mutual fund investors everywhere receive a fair shake. In the spirit
of Robert Frost:
BUT I HAVE PROMISES TO KEEP, AND MILES TO GO BEFORE I SLEEP, AND MILES TO GO
BEFORE I SLEEP.
You have given me your loyalty and friendship over these long years, and I
deeply appreciate your thousands of letters of support. For my part, I will
continue to keep an eagle eye on your interests, for you deserve no less. May
God bless you all, always.
/S/
JCB
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CONTENTS
REPORT FROM THE CHAIRMAN .............1 PERFORMANCE SUMMARY ..................9
AFTER-TAX RETURN REPORT ..............4 FUND PROFILE ........................10
THE MARKETS IN PERSPECTIVE ...........5 FINANCIAL STATEMENTS ................13
REPORT FROM THE ADVISER ..............7 REPORT OF INDEPENDENT ACCOUNTANTS ...21
- --------------------------------------------------------------------------------
<PAGE>
REPORT FROM THE CHAIRMAN
[PHOTO OF JOHN J. BRENNAN]
JOHN J. BRENNAN
Vanguard International Growth Fund provided a total return of 21.7% during the
fiscal year ended August 31, 1999, as global markets recovered from a steep
downturn in summer 1998.
The table at right presents the 12-month total returns (capital change plus
reinvested dividends) for the fund and its benchmarks--the average international
stock fund and the unmanaged Morgan Stanley Capital International Europe,
Australasia, Far East (EAFE) Index. Your fund's return was disappointing on a
relative basis, as it trailed those of its average peer and the EAFE Index by
more than 4 percentage points.
- -----------------------------------------------------
TOTAL RETURNS
FISCAL YEAR ENDED
AUGUST 31, 1999
- -----------------------------------------------------
Vanguard International Growth Fund 21.7%
- -----------------------------------------------------
Average International Fund* 26.2%
- -----------------------------------------------------
MSCI EAFE Index 26.0%
- -----------------------------------------------------
*Based on data from Lipper Inc.
The fund's return is based on an increase in net asset value from $16.57
per share on August 31, 1998, to $19.75 per share on August 31, 1999, with the
latter figure adjusted for a dividend of $0.22 per share paid from net
investment income and a distribution of $0.16 per share paid from net realized
capital gains.
FINANCIAL MARKETS IN REVIEW
During the 12 months ended August 31, major stock markets worldwide rebounded
from the deep declines suffered in the global slump of summer 1998. Gains were
solid in Europe and absolutely smashing in Pacific Rim markets. The EAFE Index,
which tracks 20 developed markets in Europe and the Pacific, rose 26.0% in
U.S.-dollar terms. While the international markets were generous, the U.S.
market provided an even-greater bounty. The Wilshire 5000 Total Market Index, a
proxy for the overall U.S. market, gained 38.9%.
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TOTAL RETURNS
12 MONTHS ENDED AUGUST 31, 1999
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BASED ON
LOCAL CURRENCY BASED ON
STOCK MARKET INDEX CURRENCY EFFECT U.S. DOLLARS
- --------------------------------------------------------------------------------
MSCI EAFE 22.6% +3.4% 26.0%
- --------------------------------------------------------------------------------
European* 18.9% -5.3% 13.6%
Pacific* 32.0 +30.3 62.3
Select Emerging Markets* 113.2 -51.0 62.2
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U.S. (Wilshire 5000 Index) 38.9% -- 38.9%
- --------------------------------------------------------------------------------
*Morgan Stanley Capital International indexes.
Most of Europe's stock markets flourished during the past year. The United
Kingdom, the Netherlands, Spain, Sweden, Ireland, and France saw gains of 18% to
33% in local-currency terms. However, for U.S. investors, between one-quarter
and one-third of these gains were offset because the U.S. dollar rose versus
European currencies.
When the U.S. dollar is strong--that is, when it increases in value against
another currency--each unit of that currency can be exchanged for fewer dollars,
diminishing the returns for U.S. investors. Of course, a weaker dollar boosts
returns from foreign securities, as occurred in Japan and most of the rest of
Asia during the past year. Japan, the world's second-largest stock market, rose
27% in yen terms. However, U.S. investors in Japan reaped an astounding return
of 63%, as the yen surged against the U.S. dollar. (A dollar
1
<PAGE>
was worth about 140 yen as the fiscal year began, but just 110 yen by August
31.) Elsewhere in the Pacific, Hong Kong and Singapore posted simply awesome
returns, gaining 96% and 144% in local-currency terms, respectively; returns for
U.S. investors in those markets were similar, since their currencies are pegged
to the U.S. dollar. On balance, investors in Asia seemed confident that the
economic crises of 1997 and 1998 were safely in the past.
After plummeting in 1997 and throughout the summer of 1998, most of the
world's emerging markets roared back during our fiscal year. Indonesian stocks
gained 158% in U.S. dollars. The markets in Thailand and Greece more than
doubled. South Korea rocketed 245% higher in won, the local currency, and 294%
in dollars.
As the past year's returns demonstrate, the risk of share-price
fluctuations due to changing currency values is an integral part of holding
international stocks, which also are subject to the same sort of market risk
that accompanies investments in U.S. stocks.
FISCAL 1999 PERFORMANCE OVERVIEW
During the 12 months ended August 31, Vanguard International Growth Fund turned
in its highest return for any fiscal year of the 1990s. This 21.7% gain was born
of the near-universal rebound in stock markets around the world. Although such a
high absolute return was welcome, it nevertheless lagged both our average peer
and the EAFE Index.
Our shortfall against both benchmarks was due largely to a resurgence
internationally of value stocks--those characterized by relatively low
price-to-book ratios and high dividend yields. Such value-stock sectors as
energy, chemicals, paper, and machinery were helped by a perception that they
would benefit disproportionately from a rise in global economic activity. Your
fund holds some value stocks, but its emphasis is on stocks of companies with
strong potential for long-term growth.
Part of our performance gap also can be traced to an underweighting in
Japanese stocks. At the end of the fiscal year, Japanese stocks accounted for
roughly 15% of the fund's net assets, significantly below Japan's 25% weighting
in the EAFE Index. As discussed in the adviser's report beginning on page 7,
Schroder Investment Management North America Inc. is concerned about the
durability of Japan's economic recovery.
LONG-TERM PERFORMANCE OVERVIEW
Experienced investors know that a single year's results--good or bad--are
insufficient to judge a mutual fund's merits. Vanguard International Growth
Fund's aim is to provide superior long-term performance, and I'm proud to say
that it has generally achieved this goal. Richard Foulkes, of Schroder
Investment Management, has served as the fund's portfolio manager since its
inception in 1981, a record of longevity that is truly rare among international
mutual fund managers.
The table on page 3 displays the past decade's record. It shows how
hypothetical $10,000 investments in Vanguard International Growth Fund, its
average peer, and the EAFE Index would have grown over the ten years ended
August 31, 1999. The table also lists the average annual returns for each during
the decade, which was a tough one for international investors because of the
poor performance of stocks in Japan, the largest stock market outside the United
States. Our average return of 9.0% was 0.3 percentage point ahead of the average
international fund and 2.5 points per year better than the gain of the unmanaged
EAFE Index. Our margin over the index reflects in part the steady hand of our
adviser. It also reflects the heavier weighting of Japan in the index. During
the ten years ended August 31, Japanese stocks declined on average by -1.9% (in
U.S. dollars) per year.
Our modest margin of superiority over other international funds--many of
which benefited by having even smaller stakes in Japan than ours--can be
attributed to our cost
2
<PAGE>
advantage. International Growth Fund's expense ratio (annual expenses as a
percentage of average net assets) was 0.58% in fiscal 1999, while the average
international stock fund charged 1.66%. A cost difference of 1 percentage point,
year after year, is a potent advantage.
- --------------------------------------------------------------------------------
TOTAL RETURNS
10 YEARS ENDED AUGUST 31, 1999
-------------------------------
AVERAGE FINAL VALUE OF
ANNUAL A $10,000
RATE INITIAL INVESTMENT
- --------------------------------------------------------------------------------
Vanguard International Growth Fund 9.0% $23,638
- --------------------------------------------------------------------------------
Average International Fund 8.7% $22,932
- --------------------------------------------------------------------------------
MSCI EAFE Index 6.5% $18,771
- --------------------------------------------------------------------------------
Our fund's 9.0% average annual return for the decade is not far off the
truly long-term record of U.S. common stocks (about 11% over a span of decades).
However, the result can appear disappointing in light of the remarkable advances
by U.S. stocks during the past decade, when the all-market Wilshire 5000 Index
gained 16.0% a year. However, it is important to realize that past
financial-market performance is hardly a perfect guide to the future. For
example, international stocks were more profitable than U.S. stocks during the
ten years ended August 31, 1989. For that decade, the EAFE Index had an average
total return of 21.8% per year, well above the 16.8% average return for the
Wilshire 5000 Index.
IN SUMMARY
The rebound in global stock markets during the past year underscores the
unpredictable nature of financial markets. When currency crises sent stock
prices reeling during the summer of 1998, many market analysts predicted worse
was yet to come. One year later, it is clear that such predictions were off the
mark.
In investing, the greatest risk is faced by those who fail to invest
because they are focused on short-term market movements, trying to discern the
"right time" to get in or out of a market. At Vanguard, we believe that a better
approach is to acknowledge the ever-present risks of investing and to temper
those risks by holding a diversified mix of assets. Such investment programs
include domestic and international stock funds, bond funds, and short-term
reserves in proportions that suit your unique blend of investment objectives,
time horizon, risk tolerance, and financial resources. Once you have such an
investment plan, our advice is to stick to it.
/S/
John J. Brennan
Chairman and Chief Executive Officer September 17, 1999
================================================================================
A NOTE OF THANKS TO OUR FOUNDER
================================================================================
As you may have read on the inside cover of our report, our founder, John C.
Bogle, is retiring as Senior Chairman of our Board after nearly 25 years of
devoted service to Vanguard and our shareholders. Vanguard investors have Jack
to thank for creating a truly mutual mutual fund company that operates solely in
the interest of its fund shareholders. And mutual fund investors everywhere have
benefited from his energetic efforts to improve this industry. Finally, on a
personal note, I am forever grateful to Jack for giving me the opportunity to
join this great company in 1982.
3
<PAGE>
A REPORT ON YOUR FUND'S AFTER-TAX RETURNS
Beginning with this annual report, Vanguard is pleased to provide a review of
the International Growth Fund's after-tax performance. The figures on this page
demonstrate the considerable impact that federal income taxes can have on a
fund's return--an important consideration for investors who own mutual funds in
taxable accounts. While the pretax return is most often used to tally a fund's
performance, the fund's after-tax return, which accounts for taxes on
distributions of capital gains and income dividends, is a better representation
of the return that many investors actually received. If you own the
International Growth Fund in a tax-deferred account such as an individual
retirement account or a 401(k), this information does not apply to you. Such
accounts are not subject to current taxes.
The table below presents the pretax and after-tax returns for your fund and
an appropriate peer group of mutual funds. Two things to keep in mind:
o The after-tax return calculations use the top federal income tax rates in
effect at the time of each distribution. The tax burden, therefore, would be
somewhat less, and the after-tax return somewhat more, for those in lower tax
brackets.
o The peer funds' returns are provided by Morningstar, Inc. (Elsewhere in
this report, returns for comparable mutual funds are provided by Lipper Inc. and
may differ somewhat.)
- --------------------------------------------------------------------------------
AVERAGE ANNUAL RETURNS: PRETAX AND AFTER-TAX
PERIODS ENDED AUGUST 31, 1999
-----------------------------------------------------
1 YEAR 5 YEARS 10 YEARS
----------------- ---------------- ----------------
PRETAX AFTER-TAX PRETAX AFTER-TAX PRETAX AFTER-TAX
- --------------------------------------------------------------------------------
International Growth Fund 21.7% 20.9% 9.8% 8.8% 9.0% 7.9%
Average Foreign Stock Fund* 26.3 25.0 8.6 7.1 8.8 7.4
- --------------------------------------------------------------------------------
*Based on data from Morningstar, Inc.
As you can see, the International Growth Fund's pretax total return of
21.7% for the 12 months ended August 31, 1999, was reduced by taxes to 20.9%. In
other words, for investors in the highest tax bracket, the fund's pretax return
was cut by 0.8 percentage point. In comparison, the average foreign stock fund
earned a pretax return of 26.3% and an after-tax return of 25.0%, a difference
of 1.3 percentage points.
Over long periods, the International Growth Fund's results, both before and
after taxes, compare favorably with those of its average peer. Over the ten
years ended August 31, 1999, your fund lost less to taxes (1.1 percentage
points) than its peer-group average (1.4 percentage points) while also
generating a higher pretax return.
We must stress that because many interrelated factors affect how
tax-friendly a fund may be, it's very difficult to predict tax efficiency. A
fund's tax efficiency can be influenced by its turnover rate, the types of
securities it holds, the accounting practices it uses when selling shares, and
the net cash flow it receives.
Finally, it's important to understand that our calculation does not reflect
the tax effect of your own investment activities. Specifically, you may incur
additional capital gains taxes--further lowering your after-tax return--if you
decide to sell all or some of your shares.
A NOTE ABOUT OUR CALCULATIONS: Pretax total returns assume that all
distributions received (income dividends, short-term capital gains, and
long-term capital gains) are reinvested in new shares, while our after-tax
returns assume that distributions are reduced by any taxes owed on them before
reinvestment. When calculating the taxes due, we used the highest individual
federal income tax rates at the time of the distributions. Those rates are
currently 39.6% for dividends and short-term capital gains and 20% for long-term
capital gains. The calculation does not account for state and local income
taxes, nor does it take into consideration any tax adjustments that a
shareholder may claim for foreign taxes paid by the fund. The competitive group
returns provided by Morningstar are calculated in a manner consistent with that
used for Vanguard funds.
4
<PAGE>
THE MARKETS IN PERSPECTIVE
YEAR ENDED AUGUST 31, 1999
Stock prices soared worldwide during the 12 months ended August 31, 1999,
rebounding from lows they had reached amid a global crisis of confidence in
financial markets during the summer of 1998. Instead of a worldwide slump, which
many had feared, what developed as the fiscal year progressed was improving
economic and financial-market conditions.
Interest rates rose in response to increasing actual and expected economic
growth. Rising interest rates, of course, translate into lower prices for
existing bonds, so total returns on bonds were muted during the fiscal year.
U.S. STOCK MARKETS
Buoyed by strong growth in the broad economy and improved prospects for
corporate earnings, the U.S. stock market came back in impressive fashion from
the summertime slump of 1998, when broad market averages declined by -20% or
more. The market, measured by the Wilshire 5000 Total Market Index, rose by
38.9% during the fiscal year ended August 31.
- --------------------------------------------------------------------------------
Average Annual Returns
Periods Ended August 31, 1999
--------------------------------------------
1 Year 3 Years 5 Years
- --------------------------------------------------------------------------------
STOCKS
S&P 500 Index 39.8% 28.6% 25.1%
Russell 2000 Index 28.4 10.1 12.3
Wilshire 5000 Index 38.9 25.1 22.9
MSCI EAFE Index 26.0 11.3 8.5
- --------------------------------------------------------------------------------
BONDS
Lehman Aggregate Bond Index 0.8% 7.0% 7.3%
Lehman 10 Year Municipal Bond Index 0.7 6.1 6.5
Salomon Smith Barney 3-Month
U.S. Treasury Bill Index 4.7 5.0 5.2
- --------------------------------------------------------------------------------
OTHER
Consumer Price Index 2.3% 2.0% 2.3%
- --------------------------------------------------------------------------------
Most of the gains came during the first half of the period as it became
clear that the global economy would not melt down as a result of financial
crises in Asia, Russia, and parts of Latin America. The market's gains slowed
during the second half of the year (the Wilshire 5000 climbed 7.3% after a
first-half gain of 29.4%), in part because of rising interest rates. Higher
rates can hurt stock prices because many investors use current interest rates to
discount the value of a stock's projected earnings and dividends. And the more
they are discounted, the less investors are willing to pay for the stock now.
Investors seemed heartened by better-than-expected corporate earnings
reports and by forecasts for strong earnings growth into the year 2000. Profits
for the April-June quarter exceeded consensus estimates for more than half the
companies in the Standard & Poor's 500 Index, according to I/B/E/S, which tracks
projections by market analysts.
For the year, big stocks performed better than small stocks, and growth
stocks strongly outpaced value stocks on Wall Street. The S&P 500 Index, which
is dominated by large-capitalization stocks, gained 39.8% for the 12 months,
while the small-cap Russell 2000 Index returned 28.4%. However, the growth
stocks within both of those indexes gained more than 40%: The S&P 500's growth
stocks rose by 44.8%, while the growth issues in
5
<PAGE>
the Russell 2000 gained 43.3%.Value stocks gained 34.1% within the S&P 500 Index
and a relatively meager 14.1% within the Russell 2000.
Leading the way were large-cap technology stocks, which as a group more
than doubled in value during the year. Big gains also were posted by such
cyclical-stock sectors as "other energy" (oil exploration and services firms),
up 63%; producer durables (such as engine, machinery, and aircraft
manufacturers), up 44%; and major integrated oil companies, up 40%. The weakest
sector, with a gain of 9%, was consumer staples, where a number of food and
beverage company stocks declined due to disappointing earnings.
U.S. BOND MARKETS
Robust economic growth, seen as a strong positive for the stock market, was
viewed with suspicion by bond investors. Investors and Federal Reserve Board
policymakers alike worried that growth was so strong it was bound to push up
inflation. Yet most gauges indicated that higher inflation was still more of a
potential threat than a real one: The Consumer Price Index rose a modest 2.3%
during the 12-month period.
The Federal Reserve, which had cut short-term interest rates by a total of
0.75 percentage point during autumn 1998, decided to tap on the monetary brakes
late in the fiscal year. The Fed acted to raise short-term rates by a
quarter-point on June 30 and again on August 24, saying that its moves were
intended to "diminish the risk of rising inflation."
Yields of long-term U.S. Treasury bonds rose by roughly 1 percentage point
during the fiscal year. The yield of the 30-year Treasury bond increased 0.79
percentage point (79 basis points), from 5.27% on August 31, 1998, to 6.06% a
year later. The yield of the 10-year Treasury, a key benchmark for mortgage
loans, rose 99 basis points, from 4.98% to 5.97%. Short-term Treasuries rose on
balance by only 14 basis points, from 4.83% to 4.97%.
The Lehman Aggregate Bond Index, a benchmark for the entire taxable bond
market, eked out a 0.8% return, as interest income of 6.1% was mostly offset by
an average price decline of -5.3%. Returns were somewhat higher for high-yield
(junk) bonds and mortgage-backed securities such as GNMAs.
INTERNATIONAL STOCK MARKETS
Prices rose on international markets during the 12 months ended August 31, with
gains for U.S. investors exceeding 62% for the Morgan Stanley Capital
International Pacific Free and Select Emerging Markets Indexes. Returns from
Europe, as measured by the MSCI Europe Index, were 13.6%. Currency fluctuations,
particularly the U.S. dollar's slide against the Japanese yen, boosted returns
from Asia for U.S. investors. However, the dollar's value rose against European
currencies, trimming local-currency returns by about 4.5 percentage points for
U.S. investors.
Stocks benefited from a markedly improved economic outlook for most of the
world. When the fiscal year began, many analysts expected economic weakness in
Japan, elsewhere in Asia, Russia, and Latin America to drag down even the
high-flying U.S. economy. Instead, signs of increased business activity kept
popping up around the world, in part due to efforts of central banks to spur
economic growth with lower interest rates.
6
<PAGE>
REPORT FROM THE ADVISER
Vanguard International Growth Fund achieved a total return of 21.7% during the
fiscal year ended August 31, 1999. This was behind both the 26.2% return of the
average international equity mutual fund and the 26.0% return of our unmanaged
benchmark, the MSCI EAFE Index.
It has been a year of striking opposites in many ways. First, the extreme
market volatility of the first half gave way to much calmer conditions in the
second half. Second, while the Asian markets boomed, rising 62% in U.S.-dollar
terms over the fiscal year, the European markets returned 14%. Finally,
international value stocks clearly outperformed growth stocks, reflecting the
increasingly evident pickup in world economic growth. This was in contrast to
the U.S. market, where growth stocks have outperformed recently--a result of the
U.S. market's much higher concentration of technology stocks (by far the
best-performing industry sector). About 14% of the fund's assets are invested in
tech stocks in Asia and Europe.
The critical factor in our fiscal-year results versus competitors was the
underperformance of growth stocks relative to more cyclical value stocks. Adding
to that was our cautious stance on Japan throughout the year, based on reasons
that I have set out before--namely, the unsustainably high level of government
spending to boost the economy and the mountain of debt that is accumulating as a
result. This could possibly be resolved, albeit somewhat dangerously, by
aggressively expanding the supply of money and encouraging inflation, but the
Bank of Japan to date has adamantly declined this option.
Since I reported to you six months ago, the economic background outside the
United States has improved. In Europe, this was expected, which is perhaps why
markets there have not risen more. The European economy, broadly speaking,
bottomed during the first half of 1999. Now, with inventory levels so low that
increases in demand will lead directly to increased economic activity, GDP is
expected to accelerate into the year 2000. The weakness so far in the euro,
Europe's new single currency, will also support recovery; the British pound has
fared better versus the dollar, and some exporters in the United Kingdom, like
their U.S. counterparts, are struggling to compete.
Tough business conditions in Europe have encouraged a wave of mergers and
acquisitions aimed at reducing costs. Within continental Europe, it is notable
that half the companies in our portfolio have been involved recently in
significant restructurings of one form or another.
As we anticipate a cyclical recovery, about one-third of the continental
European companies in your fund are stocks that should particularly benefit from
stronger demand. In all, about 48% of the fund is invested in continental
Europe; one-quarter of this, or 12% of assets, is in France, which has shown the
strongest and broadest recovery recently. In addition, French companies are
restructuring more aggressively than their peers elsewhere.
- --------------------------------------------------------------------------------
INVESTMENT PHILOSOPHY
The adviser believes that superior long-term investment results can be achieved
by selecting the stocks of companies with the potential for above-average
earnings growth, with particular emphasis on companies in countries with
favorable business and market environments.
- --------------------------------------------------------------------------------
7
<PAGE>
In the United Kingdom, where 20% of assets are invested, private
consumption is now leading the economic recovery. Half of the companies we own
stand specifically to benefit from this.
In Asia, industrial production has recovered very strongly in South Korea,
Taiwan, and the smaller countries owing to a sharp recovery in demand for
exports. The continued strength of the U.S. economy has helped, as has the
greater-than-expected recovery in Japan during the first half of the year.
Leaving Japan aside, we now see the recovery in other Asian economies spreading
beyond the export sectors into the other domestic sectors, which will make the
recoveries more self-sustaining. Historically, this has been a good stage in the
cycle to invest in these countries, so we have committed 7% of the fund to the
developing Asian countries and a further 5% to Hong Kong and Singapore.
In Japan, the economic recovery has been stronger than we anticipated
because, unexpectedly, consumers have dipped into their savings to maintain
spending despite mounting job losses and falling wages and bonuses. This
situation may be related to the strength of Japan's stock market, and it may be
creating a "virtuous circle" in the economy, but the trend remains fragile and
we remain cautious. Confirming their increased confidence, Japanese investors
and businesses have been repatriating funds from U.S. and European markets, thus
pushing up the value of the yen versus other currencies. Indeed, over the past
year the yen's recovery contributed more to the dollar-based return on Japanese
stocks than did the rise in stock prices.
We have 15% of the fund in Japan. Our holdings, which have performed well,
are very focused. We have devoted one-third of these assets to electronics
stocks, dominated by a large holding in Murata Manufacturing, which makes, among
other things, components for mobile telephones. Another third is split between
two very attractive companies: Takeda Chemical Industries, a pharmaceutical
maker, and Fuji Photo, the very conservatively managed competitor to Kodak. The
remaining third is invested predominantly in companies particularly sensitive to
an economic recovery. Much attention is paid to Japanese companies that are
restructuring their business operations and reducing payrolls. So far, few
companies have produced credible restructuring plans, although the fund holds
two such firms. There is tremendous potential for restructuring, but Japanese
companies remain slow to respond.
As in the United States, companies elsewhere lack pricing power either
because of worldwide overcapacity or because of the growing threat of
competition from electronic commerce. Accordingly, inflationary pressures remain
weak in most countries. In this environment, stocks should do well even if they
continue to look expensive and earnings growth remains modest--a
counterintuitive combination of conditions that would become risky if inflation
started to exceed government-targeted levels.
Richard Foulkes
Schroder Investment Management North America Inc.
September 17, 1999
8
<PAGE>
PERFORMANCE SUMMARY
INTERNATIONAL GROWTH FUND
All of the data on this page represent past performance, which cannot be used to
predict future returns that may be achieved by the fund. Note, too, that both
share price and return can fluctuate widely. An investor's shares, when
redeemed, could be worth more or less than their original cost.
- --------------------------------------------------------------------------------
TOTAL INVESTMENT RETURNS: SEPTEMBER 30, 1981-AUGUST 31, 1999
INTERNATIONAL GROWTH FUND MSCI EAFE
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------------------------------
1982 -5.7% 0.0% -5.7% -4.7%
1983 57.1 4.3 61.4 31.0
1984 5.7 1.6 7.3 14.7
1985 15.7 2.1 17.8 32.3
1986 96.4 2.5 98.9 103.7
1987 31.2 0.8 32.0 46.0
1988 -10.8 0.9 -9.9 -6.2
1989 22.7 1.8 24.5 22.4
1990 4.0 1.2 5.2 -11.8
- --------------------------------------------------------------------------------
INTERNATIONAL GROWTH FUND MSCI EAFE
- --------------------------------------------------------------------------------
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------------------------------
1991 -6.8% 1.7% -5.1% -0.3%
1992 -0.4 1.9 1.5 0.4
1993 18.4 2.7 21.1 27.1
1994 19.5 0.9 20.4 11.1
1995 2.4 1.4 3.8 0.8
1996 11.3 1.4 12.7 8.2
1997 14.5 1.3 15.8 9.4
1998 -4.2 1.2 -3.0 0.1
1999 20.2 1.5 21.7 26.0
- --------------------------------------------------------------------------------
See Financial Highlights table on page 18 for dividend and capital gains
information for the past five years.
CUMULATIVE PERFORMANCE: AUGUST 31, 1989-AUGUST 31, 1999
[10 YEAR GRAPH]
- --------------------------------------------------------------------------------
INTERNATIONAL AVERAGE MSCI
GROWTH FUND INTERNATIONAL FUND EAFE INDEX
- --------------------------------------------------------------------------------
198908 10000 10000 10000
198911 10517 10326 10546
199002 10436 10395 9800
199005 10944 10952 9711
199008 10525 10355 8820
199011 9687 9612 8263
199102 10801 10576 9607
199105 10442 10500 9222
199108 9987 10310 8789
199111 9716 10306 8984
199202 10146 10833 8923
199205 10566 11217 8941
199208 10136 10621 8828
199211 9557 10153 8285
199302 9790 10590 8586
199305 11219 12035 10444
199308 12271 12929 11223
199311 12505 13096 10327
199402 14285 14885 11983
199405 14007 14501 11893
199408 14779 15166 12473
199411 14100 14322 11891
199502 13300 13482 11481
199505 14823 14471 12515
199508 15334 14970 12572
199511 15564 15018 12830
199602 16588 15893 13457
199605 17445 16640 13892
199608 17285 16309 13602
199611 18421 17224 14381
199702 18699 17481 13933
199705 20426 18559 14984
199708 20022 18509 14875
199711 19092 17969 14363
199802 21042 19740 16134
199805 22050 21164 16692
199808 19424 18235 14895
199811 21710 19783 16773
199902 21867 20097 16980
199905 22393 20949 17470
199908 23638 22932 18771
AVERAGE ANNUAL TOTAL RETURNS
PERIODS ENDED AUGUST 31, 1999
------------------------------ FINAL VALUE OF A
1 YEAR 5 YEARS 10 YEARS $10,000 INVESTMENT
- --------------------------------------------------------------------------------
International Growth Fund 21.70% 9.85% 8.98% $23,638
Average International Fund* 26.23 8.80 8.65 22,932
MSCI EAFE Index 26.03 8.52 6.50 18,771
- --------------------------------------------------------------------------------
*Based on data from Lipper Inc.
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED JUNE 30, 1999*
- --------------------------------------------------------------------------------
10 YEARS
INCEPTION ----------------------
DATE 1 YEAR 5 YEARS CAPITAL INCOME TOTAL
- --------------------------------------------------------------------------------
International Growth Fund 9/30/1981 6.64% 10.84% 8.53% 1.54% 10.07%
- --------------------------------------------------------------------------------
*SEC rules require that we provide this average annual total return information
through the latest calendar quarter.
9
<PAGE>
FUND PROFILE
INTERNATIONAL GROWTH FUND
This Profile provides a snapshot of the fund's characteristics as of August 31,
1999, compared where appropriate to an unmanaged index. Key elements of this
Profile are defined on page 11.
PORTFOLIO CHARACTERISTICS
- ------------------------------------------------
INTERNATIONAL MSCI
GROWTH EAFE
- ------------------------------------------------
Number of Stocks 145 1,005
Turnover Rate 37% --
Expense Ratio 0.58% --
Cash Reserves 1.0% --
ALLOCATION BY REGION
- -----------------------
[PIE CHART]
Emerging Markets 10%
Pacific 21%
Europe 69%
VOLATILITY MEASURES
- ------------------------------------------------
INTERNATIONAL MSCI
GROWTH EAFE
- ------------------------------------------------
R-Squared 0.92 1.00
Beta 0.99 1.00
TEN LARGEST HOLDINGS
(% OF TOTAL NET ASSETS)
- ------------------------------------------------
ING Groep NV 3.7%
Elf Aquitaine SA 3.1
Philips Electronics NV 3.0
Fuji Photo Film Co., Ltd. 2.9
Mannesmann AG 2.7
Takeda Chemical Industries Ltd. 2.6
Murata Manufacturing Co., Ltd. 2.5
Suez Lyonnaise des Eaux 2.5
Endesa SA 2.5
Vivendi 2.3
- ------------------------------------------------
Top Ten 27.8%
Country Diversification (% of Common Stocks) can be found on page 12.
10
<PAGE>
ALLOCATION BY REGION. An indicator of diversification, this chart shows the
geographic distribution of a fund's holdings.
BETA. A measure of the magnitude of a fund's past share-price fluctuations in
relation to the ups and downs of the overall market (or appropriate market
index). The market (or index) is assigned a beta of 1.00, so a fund with a beta
of 1.20 would have seen its share price rise or fall by 12% when the overall
market rose or fell by 10%.
CASH RESERVES. The percentage of a fund's net assets invested in "cash
equivalents"--highly liquid, short-term, interest-bearing securities. This
figure does not include cash invested in futures contracts to simulate stock
investment.
COUNTRY DIVERSIFICATION. The percentages of a fund's common stock invested in
securities of various countries.
EXPENSE RATIO. The percentage of a fund's average net assets used to pay its
annual administrative and advisory expenses. These expenses directly reduce
returns to investors.
NUMBER OF STOCKS. An indicator of diversification. The more stocks a fund holds,
the more diversified it is and the more likely to perform in line with the
overall stock market.
R-SQUARED. A measure of how much of a fund's past returns can be explained by
the returns from the overall market (or its benchmark index). If a fund's total
return were precisely synchronized with the overall market's return, its
R-squared would be 1.00. If a fund's returns bore no relationship to the
market's returns, its R-squared would be 0.
TEN LARGEST HOLDINGS. The percentage of net assets that a fund has invested in
its ten largest holdings. (The average for stock mutual funds is about 35%.) As
this percentage rises, a fund's returns are likely to be more volatile because
they are more dependent on the fortunes of a few companies.
TURNOVER RATE. An indication of trading activity during the past year. Funds
with high turnover rates incur higher transaction costs and are more likely to
distribute capital gains (which are taxable to investors).
11
<PAGE>
COUNTRY DIVERSIFICATION (% OF COMMON STOCKS)
- --------------------------------------------------------------------------------
AUGUST 31, 1998 AUGUST 31, 1999
- --------------------------------------------------------------------------------
INTERNATIONAL INTERNATIONAL MSCI
GROWTH GROWTH EAFE
- --------------------------------------------------------------------------------
Argentina ............................. 0.2% 0.0% 0.0%
Australia ............................. 1.9 1.1 2.7
Austria ............................... 0.5 0.0 0.3
Belgium ............................... 0.7 0.2 1.3
Brazil ................................ 0.8 1.1 0.0
Chile ................................. 0.1 0.0 0.0
Denmark ............................... 1.0 0.7 0.8
Finland ............................... 0.0 0.0 1.8
France ................................ 11.6 12.5 9.7
Germany ............................... 9.3 6.6 9.5
Hong Kong ............................. 0.3 2.5 2.4
Indonesia ............................. 0.0 0.1 0.0
Ireland ............................... 0.4 1.7 0.6
Italy ................................. 9.4 5.3 4.2
Japan ................................. 14.8 15.3 25.2
Malaysia .............................. 0.4 1.2 0.0
Mexico ................................ 0.8 1.5 0.0
Netherlands ........................... 15.7 10.5 5.8
New Zealand ........................... 0.0 0.0 0.2
Norway ................................ 0.0 0.0 0.4
Philippines ........................... 0.5 0.8 0.0
Portugal .............................. 0.0 0.0 0.5
Singapore ............................. 0.8 2.3 0.9
South Korea ........................... 0.7 4.7 0.0
Spain ................................. 3.3 2.9 2.9
Sweden ................................ 3.3 2.4 2.3
Switzerland ........................... 11.8 5.3 6.8
Taiwan ................................ 0.0 0.8 0.0
United Kingdom ........................ 11.7 20.5 21.7
- --------------------------------------------------------------------------------
Total 100.0% 100.0% 100.0%
12
<PAGE>
FINANCIAL STATEMENTS
AUGUST 31, 1999
STATEMENT OF NET ASSETS
This Statement provides a detailed list of the fund's holdings, including each
security's market value on the last day of the reporting period. Securities are
grouped and subtotaled by asset type (common stocks, bonds, etc.) and by
country. Other assets are added to, and liabilities are subtracted from, the
value of Total Investments to calculate the fund's Net Assets. Finally, Net
Assets are divided by the outstanding shares of the fund to arrive at its share
price, or Net Asset Value (NAV) Per Share.
At the end of the Statement of Net Assets, you will find a table displaying
the composition of the fund's net assets on both a dollar and per-share basis.
Because all income and any realized gains must be distributed to shareholders
each year, the bulk of net assets consists of Paid in Capital (money invested by
shareholders). The amounts shown for Undistributed Net Investment Income and
Accumulated Net Realized Gains usually approximate the sums the fund had
available to distribute to shareholders as income dividends or capital gains as
of the statement date, but may differ because certain investments or
transactions may be treated differently for financial statement and tax
purposes. Any Accumulated Net Realized Losses, and any cumulative excess of
distributions over net income or net realized gains, will appear as negative
balances. Unrealized Appreciation (Depreciation) is the difference between the
market value of the fund's investments and their cost, and reflects the gains
(losses) that would be realized if the fund were to sell all of its investments
at their statement-date values.
MARKET
VALUE*
INTERNATIONAL GROWTH FUND SHARES (000)
- --------------------------------------------------------------------------------
COMMON STOCKS (99.0%)
- --------------------------------------------------------------------------------
AUSTRALIA (1.1%)
Telstra Corp. Ltd. 8,445,180 43,855
Westpac Banking Corp., Ltd. 4,187,470 25,347
Broken Hill Proprietary Co., Ltd. 2,000,000 21,472
-------------
90,674
-------------
BELGIUM (0.2%)
Algemene Maatschappij voor
Nijverheidskredit NV 289,956 17,151
o Fortis AG (B) Strip VVPR 734,958 8
-------------
17,159
-------------
BRAZIL (1.1%)
Telecomunicacoes de
Sao Paulo SA Pfd. 232,120,000 20,304
Tele Centro Sul
Participacoes ADR 330,000 18,047
Telecomunicacoes
Brasileiras SA ADR Pfd. 210,000 15,579
Cia Vale Do Rio Pfd. A 611,100 13,587
o Telesp Participacoes ADR 798,500 13,026
o Telecomunicacoes
Brasileiras SA Pfd. Receipts 91,500,000 6,815
-------------
87,358
-------------
DENMARK (0.7%)
Den Danske Bank A/S 506,000 57,653
-------------
FRANCE (12.4%)
Elf Aquitaine SA 1,399,450 245,371
Suez Lyonnaise des Eaux 1,181,670 197,077
Vivendi 2,333,000 180,131
Alcatel 756,129 115,803
o Canal Plus SA 747,000 51,443
Axa 378,196 47,056
Renault SA 830,000 44,710
Accor SA 160,000 38,497
Bouygues SA 126,872 34,975
Societe National d'Exploitation
Industrielle de Tabacs et
Allumettes SA 370,000 20,165
o Sanofi-Synthelabo SA 276,000 11,486
o Vivendi Warrants Exp. 2/5/2001 580,500 1,337
-------------
988,051
-------------
GERMANY (6.5%)
Mannesmann AG 1,445,000 218,253
Viag AG 3,880,000 81,308
Hoechst AG 1,800,000 75,098
BASF AG 1,380,000 61,219
SAP AG Pfd. 105,131 41,530
Bayerische Hypo-und
Vereinsbank AG 696,195 40,444
Friederich Grohe AG Pfd. 18,747 5,356
-------------
523,208
-------------
HONG KONG (2.5%)
Hutchison Whampoa Ltd. 5,282,000 51,528
HSBC Holdings PLC 3,424,400 42,447
Swire Pacific Ltd. A Shares 7,422,000 38,329
o China Telecom
(Hong Kong) Ltd. 8,652,000 26,909
Sun Hung Kai Properties Ltd. 2,364,000 20,246
Cheung Kong Holdings Ltd. 1,813,000 15,760
Mandarin Oriental
International Ltd. 1,101,369 743
-------------
195,962
-------------
13
<PAGE>
- --------------------------------------------------------------------------------
MARKET
VALUE*
INTERNATIONAL GROWTH FUND SHARES (000)
- --------------------------------------------------------------------------------
INDONESIA (0.1%)
PT Telekomunikasi Indonesia 18,758,520 7,210
-------------
IRELAND (1.7%)
o Elan Corp. PLC ADR 2,811,000 90,128
Bank of Ireland PLC 4,868,000 44,064
-------------
134,192
-------------
ITALY (5.2%)
o Olivetti SpA 57,816,000 134,347
Telecom Italia Mobile SpA 15,000,000 87,297
Banca di Roma 60,797,000 82,581
Fiat SpA 1,786,100 57,539
Ente Nazionale
Idrocarburi SpA 4,973,904 29,893
o Tecnost SpA 10,749,000 28,100
-------------
419,757
-------------
JAPAN (15.2%)
Fuji Photo Film Co., Ltd. 6,418,000 234,145
Takeda Chemical Industries Ltd. 4,209,000 211,138
Murata Manufacturing Co., Ltd. 2,528,000 202,901
Mabuchi Motor Co. 731,000 90,940
Matsushita Electric Industrial
Co., Ltd. 4,386,000 86,407
SMC Corp. 373,000 56,813
Sumitomo Corp. 6,292,000 44,762
Toppan Printing Co., Ltd. 3,140,000 40,094
Nippon Television
Network Corp. 65,820 36,019
East Japan Railway Co. 5,860 35,435
Keyence Corp. 143,000 32,411
Hirose Electric Co., Ltd. 246,000 30,963
Yasuda Fire & Marine
Insurance Co. 4,370,000 30,012
Kuraray Co., Ltd. 1,900,000 22,805
Tokyo Electron Ltd. 291,000 20,437
Mitsui Fudosan Co., Ltd. 1,190,000 9,671
Chiyoda Fire & Marine
Insurance Co., Ltd. 2,220,000 8,221
Sumitomo Electric
Industries Ltd. 590,000 8,018
Dowa Fire & Marine
Insurance Co. 2,221,000 7,333
Nippon Fire & Marine
Insurance Co., Ltd. 2,000,000 6,567
-------------
1,215,092
-------------
MALAYSIA (1.2%)
Tenaga Nasional Bhd. 16,195,000 37,078
Malayan Banking Bhd. 6,780,400 22,304
Genting Bhd. 5,422,000 19,976
Telekom Malaysia Bhd. 6,529,500 19,417
-------------
98,775
-------------
MEXICO (1.5%)
Telefonos de Mexico SA
Class L ADR 609,000 45,294
o Grupo Televisa SA GDR 695,000 25,281
Cemex SA de CV (Ordinary
Participation Certificates) 5,331,405 23,574
Grupo Industrial Herdez Bimbo
SA de CV Series A 6,857,000 14,442
Fomento Economico
Mexicano SA de CV UBD 4,000,000 13,137
-------------
121,728
-------------
NETHERLANDS (10.4%)
ING Groep NV 5,409,607 296,545
Philips Electronics NV 2,354,292 242,574
Getronics NV 2,321,456 113,649
Heineken NV 1,432,000 71,391
Verenigde Nederlandse
Uitgeversbedrijven
Verenigd Bezit 1,270,000 48,693
Oce NV 2,040,247 43,315
DSM NV 133,000 15,642
-------------
831,809
-------------
PHILIPPINES (0.7%)
Philippine Long Distance
Telephone Co. 1,117,000 26,465
Ayala Land, Inc. 81,680,091 20,382
Manila Electric Co. 4,264,930 12,685
-------------
59,532
-------------
SINGAPORE (2.3%)
United Overseas Bank
Ltd. (Foreign) 7,402,000 54,935
Singapore Press Holdings Ltd. 2,882,486 47,920
Development Bank of
Singapore Ltd. (Foreign) 3,365,722 38,568
City Developments Ltd. 4,171,000 25,260
Singapore Airlines
Ltd. (Foreign) 1,564,000 14,672
-------------
181,355
-------------
SOUTH KOREA (4.7%)
Samsung Electronics Co., Ltd. 832,002 157,877
Korea Electric Power Corp. 2,185,550 81,463
o Pohang Iron & Steel Co. Ltd.
Warrants Exp. 5/26/2000 599,900 80,033
o Korea Telephone Warrants
Exp. 5/22/2000 292,000 18,244
Shinhan Bank Co. 1,424,000 15,320
SK Telecom Co. Ltd. 9,845 9,849
SK Telecom Co. Ltd. ADR 835,830 9,455
Samsung Electronics Co., Ltd.
GDR 22,582 2,099
-------------
374,340
-------------
SPAIN (2.9%)
Endesa SA 9,800,880 196,687
Bankinter SA 897,000 36,562
-------------
233,249
-------------
SWEDEN (2.4%)
Svenska Handelsbanken
A Shares 6,600,000 91,503
LM Ericsson Telephone AB
B Shares 1,716,000 55,269
Skandia Forsakrings AB 2,209,000 44,936
-------------
191,708
-------------
SWITZERLAND (5.3%)
UBS AG 470,150 132,662
Novartis AG (Registered) 75,120 108,090
o ABB Ltd. 692,021 70,570
Roche Holdings AG
(Dividend-Right Certificates) 5,900 68,228
14
<PAGE>
- --------------------------------------------------------------------------------
MARKET
VALUE*
SHARES (000)
- --------------------------------------------------------------------------------
Clariant AG 50,300 24,170
Adecco SA (Bearer) 33,042 18,211
-------------
421,931
-------------
TAIWAN (0.8%)
o Taiwan Semiconductor
Manufacturing Co.
Warrants Exp. 4/25/2000 5,318,748 27,684
o Far East Textiles Warrants
Exp. 8/11/2000 12,026,000 17,317
o Honhai Precision Warrants
Exp. 8/11/2000 1,269,000 8,248
o Asustek Computer Inc.
Warrants
Exp. 6/21/2000 702,000 7,529
-------------
60,778
-------------
UNITED KINGDOM (20.1%)
Standard Chartered PLC 9,628,700 141,359
Glaxo Wellcome PLC 4,879,640 128,368
Bass PLC 8,489,206 114,188
BP Amoco PLC 6,006,000 111,546
Kingfisher PLC 7,238,000 87,116
Rolls-Royce PLC 20,862,000 82,943
Tesco PLC 27,589,616 81,741
Scottish & Newcastle PLC 8,025,418 79,171
Boots Co. PLC 6,032,000 74,492
Allied Zurich PLC 6,078,108 74,328
British Aerospace PLC 9,197,000 67,178
Granada Group PLC 6,581,934 58,793
British Telecommunications
PLC 3,673,000 56,286
Marks & Spencer PLC 6,553,104 43,783
Great Universal Stores PLC 4,235,000 42,698
Airtours PLC 5,813,100 40,661
EMI Group PLC 4,670,915 39,732
o Tarmac PLC 4,568,451 37,171
Diageo PLC 3,571,800 36,184
Cable and Wireless PLC 3,105,000 35,649
British Sky Broadcasting
Group PLC 3,528,000 33,414
United News & Media PLC 3,161,000 31,184
British Land Co., PLC 3,606,720 30,216
British Airways PLC 3,660,000 23,968
Reckitt & Colman PLC 1,184,000 14,726
Norwich Union PLC 2,153,000 14,714
Provident Financial PLC 1,042,000 13,404
o Carillion PLC 4,568,451 10,211
Garban PLC 268,100 1,116
-------------
1,606,340
=============
- --------------------------------------------------------------------------------
TOTAL COMMON STOCKS
(Cost $5,900,303) 7,917,861
- --------------------------------------------------------------------------------
FACE MARKET
AMOUNT VALUE*
(000) (000)
- --------------------------------------------------------------------------------
TEMPORARY CASH INVESTMENTS (12.0%)
- --------------------------------------------------------------------------------
REPURCHASE AGREEMENTS
Collateralized by U.S. Government
Obligations in a Pooled
Cash Account
5.43%, 9/1/1999 $120,204 120,204
5.47%, 9/1/1999--Note F 843,441 843,441
- --------------------------------------------------------------------------------
TOTAL TEMPORARY CASH INVESTMENTS
(COST $963,645) 963,645
- --------------------------------------------------------------------------------
TOTAL INVESTMENTS (111.0%)
(COST $6,863,948) 8,881,506
- --------------------------------------------------------------------------------
OTHER ASSETS AND LIABILITIES (-11.0%)
Other Assets--Note C 48,148
Security Lending Collateral
Payable to Brokers--Note F (843,441)
Other Liabilities (85,914)
-------------
(881,207)
- --------------------------------------------------------------------------------
NET ASSETS (100%)
- --------------------------------------------------------------------------------
Applicable to 405,062,991 outstanding
$.001 par value shares of beneficial
interest (unlimited authorization) $8,000,299
================================================================================
NET ASSET VALUE PER SHARE $19.75
================================================================================
*See Note A in Notes to Financial Statements.
oNon-Income-Producing Security.
ADR--American Depositary Receipt.
GDR--Global Depositary Receipt.
- --------------------------------------------------------------------------------
AT AUGUST 31, 1999, NET ASSETS CONSISTED OF:
- --------------------------------------------------------------------------------
AMOUNT PER
(000) SHARE
- --------------------------------------------------------------------------------
Paid in Capital $5,631,318 $13.90
Undistributed Net
Investment Income--Note D 83,242 .21
Accumulated Net
Realized Gains--Note D 268,302 .66
Unrealized Appreciation
(Depreciation)--Note E
Investment Securities 2,017,558 4.98
Foreign Currencies (121) --
================================================================================
NET ASSETS $8,000,299 $19.75
================================================================================
15
<PAGE>
STATEMENT OF OPERATIONS
This Statement shows dividend and interest income earned by the fund during the
reporting period, and details the operating expenses charged to the fund. These
expenses directly reduce the amount of investment income available to pay to
shareholders as dividends. This Statement also shows any Net Gain (Loss)
realized on the sale of investments, and the increase or decrease in the
Unrealized Appreciation (Depreciation) on investments during the period--these
amounts include the effect of foreign currency movements on the value of the
fund's securities. Currency gains (losses) on the translation of other assets
and liabilities, combined with the results of any investments in forward
currency contracts during the period, are shown separately.
- --------------------------------------------------------------------------------
INTERNATIONAL GROWTH FUND
YEAR ENDED AUGUST 31, 1999
(000)
- --------------------------------------------------------------------------------
INVESTMENT INCOME
INCOME
Dividends* 123,764
Interest 22,468
Security Lending 3,664
-------------
Total Income 149,896
-------------
EXPENSES
Investment Advisory Fees--Note B
Basic Fee 10,068
Performance Adjustment 418
The Vanguard Group--Note C
Management and Administrative 27,423
Marketing and Distribution 1,710
Custodian Fees 3,851
Auditing Fees 13
Shareholders' Reports 373
Trustees' Fees and Expenses 14
-------------
Total Expenses 43,870
Expenses Paid Indirectly--Note C (1,287)
-------------
Net Expenses 42,583
- --------------------------------------------------------------------------------
NET INVESTMENT INCOME 107,313
- --------------------------------------------------------------------------------
REALIZED NET GAIN (LOSS)
Investment Securities Sold 339,134
Foreign Currencies and Forward Currency Contracts (42,333)
- --------------------------------------------------------------------------------
REALIZED NET GAIN 296,801
- --------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION)
Investment Securities 1,062,772
Foreign Currencies and Forward Currency Contracts (715)
- --------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) 1,062,057
- --------------------------------------------------------------------------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $1,466,171
================================================================================
*Dividends are net of foreign withholding taxes of $6,462,000.
16
<PAGE>
STATEMENT OF CHANGES IN NET ASSETS
This Statement shows how the fund's total net assets changed during the two most
recent reporting periods. The Operations section summarizes information detailed
in the Statement of Operations. The amounts shown as Distributions to
shareholders from the fund's net income and capital gains may not match the
amounts shown in the Operations section, because distributions are determined on
a tax basis and may be made in a period different from the one in which the
income was earned or the gains were realized on the financial statements. The
Capital Share Transactions section shows the amount shareholders invested in the
fund, either by purchasing shares or by reinvesting distributions, as well as
the amounts redeemed. The corresponding numbers of Shares Issued and Redeemed
are shown at the end of the Statement.
- --------------------------------------------------------------------------------
INTERNATIONAL GROWTH FUND
YEAR ENDED AUGUST 31,
-------------------------
1999 1998
(000) (000)
- --------------------------------------------------------------------------------
INCREASE (DECREASE) IN NET ASSETS
OPERATIONS
Net Investment Income 107,313 101,730
Realized Net Gain 296,801 35,938
Change in Unrealized Appreciation (Depreciation) 1,062,057 (374,412)
-------------------------
Net Increase (Decrease) in Net Assets
Resulting from Operations 1,466,171 (236,744)
-------------------------
DISTRIBUTIONS
Net Investment Income (89,038) (83,884)
Realized Capital Gain (64,755) (207,713)
-------------------------
Total Distributions (153,793) (291,597)
CAPITAL SHARE TRANSACTIONS1
Issued 3,671,257 2,903,443
Issued in Lieu of Cash Distributions 138,652 263,660
Redeemed (3,942,437) (2,907,065)
-------------------------
Net Increase (Decrease) from Capital Share
Transactions (132,528) 260,038
- --------------------------------------------------------------------------------
Total Increase (Decrease) 1,179,850 (268,303)
- --------------------------------------------------------------------------------
NET ASSETS
Beginning of Year 6,820,449 7,088,752
-------------------------
End of Year $8,000,299 $6,820,449
================================================================================
1Shares Issued (Redeemed)
Issued 197,691 161,215
Issued in Lieu of Cash Distributions 7,665 16,489
Redeemed (211,906) (163,081)
-------------------------
Net Increase (Decrease) in Shares Outstanding (6,550) 14,623
================================================================================
17
<PAGE>
FINANCIAL HIGHLIGHTS
This table summarizes the fund's investment results and distributions to
shareholders on a per-share basis. It also presents the fund's Total Return and
shows net investment income and expenses as percentages of average net assets.
These data will help you assess: the variability of the fund's net income and
total returns from year to year; the relative contributions of net income and
capital gains to the fund's total return; how much it costs to operate the fund;
and the extent to which the fund tends to distribute capital gains. The table
also shows the Portfolio Turnover Rate, a measure of trading activity. A
turnover rate of 100% means that the average security is held in the fund for
one year.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------
INTERNATIONAL GROWTH FUND
YEAR ENDED AUGUST 31,
---------------------------------------------------
<S> <C> <C> <C> <C> <C>
FOR A SHARE OUTSTANDING THROUGHOUT EACH YEAR 1999 1998 1997 1996 1995
- ----------------------------------------------------------------------------------------------------------
NET ASSET VALUE, BEGINNING OF YEAR $16.57 $17.86 $16.13 $14.70 $14.36
- ----------------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .27 .25 .19 .19 .20
Net Realized and Unrealized Gain (Loss)on Investments 3.29 (.81) 2.28 1.65 .32
- ----------------------------------------------------------------------------------------------------------
Total from Investment Operations 3.56 (.56) 2.47 1.84 .52
- ----------------------------------------------------------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income (.22) (.21) (.19) (.20) (.18)
Distributions from Realized Capital Gains (.16) (.52) (.55) (.21) --
- ----------------------------------------------------------------------------------------------------------
Total Distributions (.38) (.73) (.74) (.41) (.18)
==========================================================================================================
NET ASSET VALUE, END OF YEAR $19.75 $16.57 $17.86 $16.13 $14.70
==========================================================================================================
TOTAL RETURN 21.70% -2.99% 15.84% 12.72% 3.76%
==========================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Year (Millions) $8,000 $6,820 $7,089 $4,997 $3,354
Ratio of Total Expenses to Average Net Assets 0.58% 0.59% 0.57% 0.56% 0.59%
Ratio of Net Investment Income to Average Net Assets 1.42% 1.39% 1.26% 1.35% 1.53%
Portfolio Turnover Rate 37% 37% 22% 22% 31%
==========================================================================================================
</TABLE>
18
<PAGE>
NOTES TO FINANCIAL STATEMENTS
Vanguard International Growth Fund is registered under the Investment Company
Act of 1940 as a diversified open-end investment company, or mutual fund. The
fund invests in securities of foreign issuers, which may subject it to
investment risks not normally associated with investing in securities of United
States corporations.
A. The following significant accounting policies conform to generally accepted
accounting principles for mutual funds. The fund consistently follows such
policies in preparing its financial statements.
1. SECURITY VALUATION: Equity securities are valued at the latest quoted
sales prices as of the close of trading on the New York Stock Exchange
(generally 4:00 p.m. Eastern time) on the valuation date; such securities not
traded on the valuation date are valued at the mean of the latest quoted bid and
asked prices. Prices are taken from the primary market in which each security
trades. Temporary cash investments are valued at cost, which approximates market
value. Securities for which market quotations are not readily available are
valued by methods deemed by the Board of Trustees to represent fair value.
2. FOREIGN CURRENCY: Securities and other assets and liabilities
denominated in foreign currencies are translated into U.S. dollars at the
exchange rates on the valuation date as employed by Morgan Stanley Capital
International in the calculation of its indexes.
Realized gains (losses) and unrealized appreciation (depreciation) on
investment securities include the effects of changes in exchange rates since the
securities were purchased, combined with the effects of changes in security
prices. Fluctuations in the value of other assets and liabilities resulting from
changes in exchange rates are recorded as unrealized foreign currency gains
(losses) until the asset or liability is settled in cash, when they are recorded
as realized foreign currency gains (losses).
3. FORWARD CURRENCY CONTRACTS: The fund enters into forward currency
contracts to protect the value of securities and related receivables and
payables against changes in future foreign exchange rates. The fund's risks in
using these contracts include movement in the values of the foreign currencies
relative to the U.S. dollar and the ability of the counterparties to fulfill
their obligations under the contracts.
Forward currency contracts are valued at their quoted daily settlement
prices. The aggregate principal amounts of the contracts are not recorded in the
financial statements. Fluctuations in the value of the contracts are recorded in
the Statement of Net Assets as an asset (liability) and in the Statement of
Operations as unrealized appreciation (depreciation) until the contracts are
closed, when they are recorded as realized forward currency contract gains
(losses).
4. FEDERAL INCOME TAXES: The fund intends to continue to qualify as a
regulated investment company and distribute all of its taxable income.
Accordingly, no provision for federal income taxes is required in the financial
statements.
5. REPURCHASE AGREEMENTS: The fund, along with other members of The
Vanguard Group, transfers uninvested cash balances to a Pooled Cash Account,
which is invested in repurchase agreements secured by U.S. government
securities. Securities pledged as collateral for repurchase agreements are held
by a custodian bank until the agreements mature. Each agreement requires that
the market value of the collateral be sufficient to cover payments of interest
and principal; however, in the event of default or bankruptcy by the other party
to the agreement, retention of the collateral may be subject to legal
proceedings.
6. DISTRIBUTIONS: Distributions to shareholders are recorded on the
ex-dividend date. Distributions are determined on a tax basis and may differ
from net investment income and realized capital gains for financial reporting
purposes.
7. OTHER: Dividend income is recorded on the ex-dividend date. Security
transactions are accounted for on the date securities are bought or sold. Costs
used to determine realized gains (losses) on the sale of investment securities
are those of the specific securities sold.
19
<PAGE>
NOTES TO FINANCIAL STATEMENTS(CONTINUED)
B. Schroder Investment Management North America Inc. provides investment
advisory services to the fund for a fee calculated at an annual percentage rate
of average net assets. The basic fee is subject to quarterly adjustments based
on performance for the preceding three years relative to the Morgan Stanley
Capital International Europe, Australasia, Far East Index. For the year ended
August 31, 1999, the advisory fee represented an effective annual basic rate of
0.13% of the fund's average net assets before an increase of $418,000 (0.01%)
based on performance.
C. The Vanguard Group furnishes at cost corporate management, administrative,
marketing, and distribution services. The costs of such services are allocated
to the fund under methods approved by the Board of Trustees. The fund has
committed to provide up to 0.40% of its net assets in capital contributions to
Vanguard. At August 31, 1999, the fund had contributed capital of $1,710,000 to
Vanguard (included in Other Assets), representing 0.02% of the fund's net assets
and 1.7% of Vanguard's capitalization. The fund's Trustees and officers are also
Directors and officers of Vanguard.
Vanguard has asked the fund's investment adviser to direct certain security
trades, subject to obtaining the best price and execution, to brokers who have
agreed to rebate to the fund part of the commissions generated. Such rebates are
used solely to reduce the fund's management and administrative expenses. For the
year ended August 31, 1999, these arrangements reduced the fund's expenses by
$1,287,000 (an annual rate of 0.02% of average net assets).
D. During the year ended August 31, 1999, the fund purchased $3,019,067,000 of
investment securities and sold $2,652,832,000 of investment securities other
than temporary cash investments.
During the year ended August 31, 1999, the fund realized net foreign
currency losses of $8,242,000, which decreased distributable net income for tax
purposes; accordingly, such losses have been reclassified from accumulated net
realized gains to undistributed net investment income.
E. At August 31, 1999, net unrealized appreciation of investment securities for
financial reporting and federal income tax purposes was $2,017,558,000,
consisting of unrealized gains of $2,273,090,000 on securities that had risen in
value since their purchase and $255,532,000 in unrealized losses on securities
that had fallen in value since their purchase.
The fund had net unrealized foreign currency losses of $121,000 resulting
from the translation of other assets and liabilities at August 31, 1999.
F. The market value of securities on loan to broker/dealers at August 31, 1999,
was $785,991,000, for which the fund held cash collateral of $843,441,000. Cash
collateral received is invested in repurchase agreements.
20
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Trustees
of Vanguard International Growth Fund
In our opinion, the accompanying statement of net assets and the related
statements of operations and of changes in net assets and the financial
highlights present fairly, in all material respects, the financial position of
Vanguard International Growth Fund (the "Fund") at August 31, 1999, the results
of its operations for the year then ended, the changes in its net assets for
each of the two years in the period then ended and the financial highlights for
each of the five years in the period then ended, in conformity with generally
accepted accounting principles. These financial statements and financial
highlights (hereafter referred to as "financial statements") are the
responsibility of the Fund's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these financial statements in accordance with generally accepted
auditing standards which require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits, which included confirmation of securities at August 31, 1999 by
correspondence with the custodian, provide a reasonable basis for the opinion
expressed above.
PricewaterhouseCoopers LLP
Thirty South Seventeenth Street
Philadelphia, Pennsylvania 19103
September 30, 1999
21
<PAGE>
- --------------------------------------------------------------------------------
SPECIAL 1999 TAX INFORMATION (UNAUDITED) FOR
VANGUARD INTERNATIONAL GROWTH FUND
This information for the fiscal year ended August 31, 1999, is included pursuant
to provisions of the Internal Revenue Code.
The fund distributed $64,755,000 as capital gain dividends (from net
long-term capital gains) to shareholders in December 1998, all of which is
designated as a 20% rate gain distribution.
The fund has elected to pass through the credit for taxes paid in foreign
countries. The foreign income and foreign tax per share outstanding on August
31, 1999, are as follows:
--------------------------------------------------
GROSS FOREIGN FOREIGN
COUNTRY DIVIDENDS TAX
--------------------------------------------------
Argentina $.0008 $.0000
Australia .0085 .0000
Belgium .0016 .0000
Brazil .0096 .0008
Chile .0006 .0001
Denmark .0028 .0000
France .0442 .0000
Germany .0092 .0005
Hong Kong .0027 .0000
Indonesia .0002 .0000
Ireland .0015 .0000
Italy .0077 .0003
Japan .0146 .0019
Korea .0041 .0007
Malaysia .0013 .0004
Mexico .0046 .0002
Netherlands .0582 .0015
Philippines .0012 .0002
Singapore .0104 .0009
Spain .0151 .0009
Sweden .0068 .0000
Switzerland .0154 .0004
United Kingdom .1000 .0069
--------------------------------------------------
The pass-through of foreign tax credit will affect only shareholders on the
dividend record date in December 1999. Shareholders will receive more
detailed information along with their Form 1099-DIV in January 2000.
- --------------------------------------------------------------------------------
22
<PAGE>
- --------------------------------------------------------------------------------
NOTICE TO SHAREHOLDERS ABOUT Y2K
As is well known by now, the approaching calendar change to 2000 has posed a
challenge to many computer systems worldwide. Computers that are not modified
could interpret "00" as 1900 rather than 2000 and produce errors in
date-dependent calculations, including bond interest payments, stock trade
settlements, retirement benefits, and other financial transactions.
OUR APPROACH
Vanguard has taken this challenge seriously. We have had a Year 2000 Project
under way since 1996 to fulfill our responsibility to safeguard our business
relationships and the security of our investors' accounts.
Our internal systems are Year 2000-compliant. They have been renovated and
thoroughly tested and are ready for the date change. As for the external systems
that connect with ours, we have been working for many months with clients,
business partners, and providers of products and services to assess their
compliance. We have analyzed the external services we require and have developed
contingency plans--including provision for alternative providers where
appropriate.
On New Year's Day, our telephone centers will be staffed and ready for
shareholder calls. However, we expect the volume of inquiries over the New
Year's weekend to be high, and we encourage shareholders to check their accounts
via our website or automated telephone systems, which offer much greater service
capacity and efficiency. This will also help our live representatives to provide
a higher level of service to those with specific transaction or other
service-related needs.
WHAT YOU CAN DO
We assure you we will protect our shareholders' records, so account records will
not be lost. Nevertheless, keeping copies of current records is always
advisable. You should keep at least your third-quarter statement and any
confirmations you receive from us between October 1, 1999, and year-end.
If you are a registered user of Access Vanguard(TM) (www.vanguard.com), you
can retrieve this information through the secure "Your Accounts" section and
print copies for your files. If you are not registered for Access Vanguard and
wish to have this flexibility, you should register as soon as possible so that
you can receive your password and become familiar with this service before the
New Year's weekend. Likewise, you may need personal identification numbers to
use our automated telephone services: Vanguard Tele-Account(R) for individual
investors (1-800-662-6273) and The VOICE(TM) Network for participants in
employer-sponsored retirement plans (1-800-523-1188).
Our Year 2000 Project's primary goal from the start has been to prepare our
systems for business as usual on behalf of our shareholders into 2000 and
beyond. We remain confident we will meet that goal, and we look forward to
serving you in the years to come.
- --------------------------------------------------------------------------------
23
<PAGE>
THE PEOPLE WHO GOVERN YOUR FUND
The Trustees of your mutual fund are there to see that the fund is operated and
managed in your best interests since, as a shareholder, you are part owner of
the fund. Your fund Trustees also serve on the Board of Directors of The
Vanguard Group, which is owned by the funds and exists solely to provide
services to them on an at-cost basis.
Seven of Vanguard's nine board members are independent, meaning that they
have no affiliation with Vanguard or the funds they oversee, apart from the
sizable personal investments they have made as private individuals. They bring
distinguished backgrounds in business, academia, and public service to their
task of working with Vanguard officers to establish the policies and oversee the
activities of the funds.
Among board members' responsibilities are selecting investment advisers for
the funds; monitoring fund operations, performance, and costs; reviewing
contracts; nominating and selecting new Trustees/Directors; and electing
Vanguard officers.
The list below provides a brief description of each Trustee's professional
affiliations. Noted in parentheses is the year in which the Trustee joined the
board.
TRUSTEES
JOHN C. BOGLE * (1967) Founder, Senior Chairman of the Board, and
Director/Trustee of The Vanguard Group, Inc., and each of the investment
companies in The Vanguard Group.
JOHN J. BRENNAN * (1987) Chairman of the Board, Chief Executive Officer, and
Director/Trustee of The Vanguard Group, Inc., and each of the investment
companies in The Vanguard Group.
JOANN HEFFERNAN HEISEN * (1998) Vice President, Chief Information Officer, and a
member of the Executive Committee of Johnson & Johnson; Director of Johnson &
JohnsonoMerck Consumer Pharmaceuticals Co., The Medical Center at Princeton, and
Women's Research and Education Institute.
BRUCE K. MACLAURY * (1990) President Emeritus of The Brookings Institution;
Director of American Express Bank Ltd., The St. Paul Companies, Inc., and
National Steel Corp.
BURTON G. MALKIEL * (1977) Chemical Bank Chairman's Professor of Economics,
Princeton University; Director of Prudential Insurance Co. of America, Banco
Bilbao Gestinova, Baker Fentress & Co., The Jeffrey Co., and Select Sector SPDR
Trust.
ALFRED M. RANKIN, Jr. * (1993) Chairman, President, and Chief Executive Officer
of NACCO Industries, Inc.; Director of NACCO Industries, The BFGoodrich Co., and
The Standard Products Co.
JOHN C. SAWHILL * (1991) President and Chief Executive Officer of The Nature
Conservancy; formerly, Director and Senior Partner of McKinsey & Co. and
President of New York University; Director of Pacific Gas and Electric Co.,
Procter & Gamble Co., NACCO Industries, and Newfield Exploration Co.
JAMES O. WELCH, JR. * (1971) Retired Chairman of Nabisco Brands, Inc.; retired
Vice Chairman and Director of RJR Nabisco; Director of TECO Energy, Inc., and
Kmart Corp.
J. LAWRENCE WILSON * (1985) Chairman and Chief Executive Officer of Rohm & Haas
Co.; Director of Cummins Engine Co. and The Mead Corp.; Trustee of Vanderbilt
University.
- --------------------------------------------------------------------------------
OTHER FUND OFFICERS
RAYMOND J. KLAPINSKY * Secretary; Managing Director and Secretary of The
Vanguard Group, Inc.; Secretary of each of the investment companies in The
Vanguard Group.
THOMAS J. HIGGINS * Treasurer; Principal of The Vanguard Group, Inc.; Treasurer
of each of the investment companies in The Vanguard Group.
VANGUARD MANAGING DIRECTORS
R. GREGORY BARTON * Legal Department.
ROBERT A. DISTEFANO * Information Technology.
JAMES H. GATELY * Individual Investor Group.
KATHLEEN C. GUBANICH * Human Resources.
IAN A. MACKINNON * Fixed Income Group.
F. WILLIAM MCNABB, III * Institutional Investor Group.
MICHAEL S. MILLER * Planning and Development.
RALPH K. PACKARD * Chief Financial Officer.
GEORGE U. SAUTER * Core Management Group.
<PAGE>
ABOUT OUR COVER
Our cover art, depicting HMS Vanguard at sea, is a
reproduction of Leading the Way, a 1984 work created
and copyrighted by noted naval artist Tom Freeman,
of Forest Hill, Maryland.
[SHIP LOGO]
[THE VANGUARD GROUP LOGO]
Post Office Box 2600
Valley Forge, Pennsylvania 19482-2600
All comparative mutual fund data are from Lipper Inc. or Morningstar,
Inc., unless otherwise noted.
"Standard & Poor's(R)," "S&P(R)," "S&P 500(R)," "Standard & Poor's 500,"
and "500" are trademarks of The McGraw-Hill Companies, Inc.
Frank Russell Company is the owner of trademarks and copyrights
relating to the Russell Indexes. "Wilshire 4500" and "Wilshire 5000"
are trademarks of Wilshire Associates.
WORLD WIDE WEB
www.vanguard.com
FUND INFORMATION
1-800-662-7447
INDIVIDUAL ACCOUNT SERVICES
1-800-662-2739
INSTITUTIONAL INVESTOR SERVICES
1-800-523-1036
This report is intended for the fund's
shareholders. It may not be distributed
to prospective investors unless it
is preceded or accompanied by the
current fund prospectus.
Q810-10/15/1999
(C) 1999 The Vanguard Group, Inc.
All rights reserved.
Vanguard Marketing
Corporation, Distributor.
