UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form N-14
REGISTRATION STATEMENT UNDER THE
SECURITIES ACT OF 1933
[ ] Pre-Effective [ ] Post-Effective
Amendment No. Amendment No.
KEYSTONE STRATEGIC GROWTH FUND (K-2)
(Exact name of registrant as specified in charter)
Area Code and Telephone Number: (617) 210-3200
200 Berkeley Street
Boston, Massachusetts 02116
(Address of principal executive offices)
Rosemary D. Van Antwerp, Esq.
Keystone Investment Management Company
200 Berkeley Street
Boston, Massachusetts 02116
(Name and address of agent for service)
Approximate date of proposed public offering: As soon as possible after the
effective date of this Registration Statement.
The Registrant has registered an indefinite amount of securities under the
Securities Act of 1933 pursuant to Section 24(f) of the Investment Company Act
of 1940 (File No. 002-10660); accordingly, no fee is payable herewith. Pursuant
to Rule 429 under the Securities Act of 1933, this Registration Statement
relates to the aforementioned registration on Form N-1A. A Rule 24f-2 Notice for
the Registrant's most recent fiscal year ended October 31, 1996 was filed with
the Commission on December 13, 1996.
It is proposed that this filing will become effective thirty days after
filing pursuant to Rule 488 under the Securities Act of 1933.
<PAGE>
KEYSTONE STRATEGIC GROWTH FUND (K-2)
CROSS REFERENCE SHEET
Pursuant to Rule 481(a) under the Securities Act of 1933
Location in Prospectus/Proxy
Item of Part A of Form N-14 Statement
1. Beginning of Registration Statement Cross Reference Sheet; Cover Page
and Outside Front Cover Page of
Prospectus
2. Beginning and Outside Back Cover Page Table of Contents
of Prospectus
3. Synopsis Comparison of Fees and Expenses;
Information and Risk Factors Summary; Risks; Comparison of
Investment Objectives and Policies
4. Information About the Transaction Summary; Reasons for the
Reorganization; Comparative
Information on Shareholders' Rights;
Exhibit A (Agreement and Plan of
Reorganization)
5. Information about the Registrant Cover Page; Summary; Comparison of
Investment Objectives and Policies;
Comparative Information on
Shareholders' Rights; Additional
Information
6. Information about the Company Cover Page; Summary; Comparison of
Being Acquired Investment Objectives and Policies;
Comparative Information on
Shareholders' Rights; Additional
Information
7. Voting Information Cover Page; Summary; Voting
Information Concerning the Meeting
8. Interest of Certain Persons Financial Statements and Experts;
and Experts Legal Matters
9. Additional Information Required for Inapplicable
Reoffering by Persons Deemed to be
Underwriters
Item of Part B of Form N-14
10. Cover Page Cover Page
11. Table of Contents Omitted
12. Additional Information About the Statement of Additional Information
Registrant of Keystone Strategic Growth Fund
(K-2) dated February 28, 1997
<PAGE>
13. Additional Information about Statement of Additional Information
the Company Being Acquired of Keystone Mid-Cap Growth Fund (S-3)
dated December 10, 1996, as
supplemented December 11, 1996
14. Financial Statements Financial Statements dated
October 31, 1996 of Keystone
Strategic Growth Fund (K-2)
Financial Statements dated August 31,
1996 and February 28, 1997 of
Keystone Mid-Cap Growth Fund (S-3)
Item of Part C of Form N-14
15. Indemnification Incorporated by Reference to Part A
Caption - "Comparative Information
on Shareholders' Rights - Liability
and Indemnification of Trustees"
16. Exhibits Item 16. Exhibits
17. Undertakings Item 17. Undertakings
<PAGE>
[EVERGREEN KEYSTONE LOGO]
May, 1997
Dear Shareholder:
We are please to announce that the Evergreen Keystone merger is well underway,
and with the combined power of Evergreen Keystone we will be able to bring our
investment and service capabilities to a new level. One of the areas we are
focusing on is merging funds with similar objectives to maximize the potential
for greater operating efficiencies and lower overall fees and expenses.
The enclosed Prospectus/Proxy Statement contains our proposal to combine the
Keystone Mid-Cap Growth Fund (S-3) with the Keystone Strategic Growth Fund
(K-2). This proposal is scheduled to be voted on at a special meeting of
shareholders of the Keystone Mid-Cap Growth Fund (S-3) on June 30, 1997.
The merger has been structured as a tax-free transaction for shareholders. We
believe it will result in one combined fund with lower management fees and
operating expenses and greater efficiencies than two separate funds. This merger
is not expected to affect the total value of your investment.
SUMMARY OF BENEFITS
o Lower management fees and operating expenses
o Potential for greater operating efficiencies
The Fund's Trustees have very carefully reviewed this proposed reorganization
and believe it is in the best interests of shareholders. They recommend you vote
FOR the proposal, which is described in detail in the attached Prospectus/Proxy
Statement.
VOTING INSTRUCTIONS
This package contains the materials you will need to vote. To vote, please sign
the attached proxy card and return it today in the postage-paid envelope. It is
extremely important that you vote, no matter how many shares you own. This is an
opportunity to voice your opinion on any important matter affecting your
investment. Voting promptly helps to reduce the cost of additional mailings.
<PAGE>
If you have any questions regarding the proposed transaction or if you would
like additional information about the Evergreen Keystone family of mutual funds,
please telephone your financial adviser or Evergreen Keystone at 1-800-xxx-xxxx.
Albert H. Elfner, III George S. Bissell
CHAIRMAN CHAIRMAN OF THE BOARD
Keystone Investment Management Company Keystone Funds
<PAGE>
KEYSTONE MID-CAP GROWTH FUND (S-3)
200 Berkeley Street
Boston, Massachusetts 02116
May [ __ ], 1997
Dear Shareholder:
On December 11, 1996, Keystone Investments, Inc. was acquired by First
Union Keystone, Inc., a subsidiary of First Union Corporation, the nation's
sixth largest bank holding company. First Union Keystone, Inc. is the parent of
Keystone Investment Management Company ("Keystone"), the investment adviser to a
group of mutual funds with assets of $9.6 billion as of February 28, 1997. Your
Fund, the Keystone Mid-Cap Growth Fund (S-3) (the "Mid-Cap Growth Fund"), is
advised by Keystone and is a member of the Evergreen Keystone family of mutual
funds.
To achieve possible economies of scale and facilitate the investment
management of assets, and the delivery of shareholder services, it is proposed
that your Fund be combined with the Keystone Strategic Growth Fund (K-2) (the
"Strategic Growth Fund"), a mutual fund also advised by Keystone. Your Fund and
the Strategic Growth Fund have identical investment objectives and similar
investment policies. Under the proposed Agreement and Plan of Reorganization
(the "Plan"), the Strategic Growth Fund would acquire all the assets of your
Fund and assume [ _____ ] liabilities of the Mid-Cap Growth Fund in exchange for
shares of the Strategic Growth Fund (the "Reorganization"). You will receive
shares of the Strategic Growth Fund having the same distribution-related fees,
shareholder servicing-related fees, and contingent deferred sales charges, if
any, as the shares of Mid-Cap Growth Fund held by you prior to the
Reorganization. As of February 28, 1997, the Mid-Cap Growth Fund had net assets
of approximately $297.3 million and the Strategic Growth Fund had approximately
$521.9 million of net assets. If the Reorganization had occurred as of February
28, 1997, the Strategic Growth Fund's net assets would have been approximately
$819.2 million. We believe that the proposed combination will achieve the goals
of efficient investment management and delivery of shareholder services.
The proposed transaction will not result in any federal income tax
liability for you or for the Mid-Cap Growth Fund. As a shareholder of the
Strategic Growth Fund, you will continue to have the ability to exchange your
shares for the shares of the other funds in the Evergreen Keystone family of
mutual funds. Following completion of the Reorganization, your Fund will be
liquidated.
The Trustees of Mid-Cap Growth Fund have called a special meeting of
shareholders of the Fund to be held on June 30, 1997 to consider the proposed
transaction. WE STRONGLY INVITE YOUR PARTICIPATION BY ASKING YOU TO REVIEW,
COMPLETE AND RETURN YOUR PROXY AS SOON AS POSSIBLE.
19219
<PAGE>
Detailed information about the proposed transaction is described in the
enclosed Prospectus/Proxy Statement. We thank you for your participation as a
shareholder and urge you to please exercise your right to vote by completing,
dating and signing the enclosed proxy card. A self-addressed, postage-paid
envelope has been enclosed for your convenience.
A copy of the Strategic Growth Fund Prospectus accompanies the
Prospectus/Proxy Statement. We urge you to read the Prospectus and retain it for
future reference.
If you have any questions regarding the proposed transaction or if you
would like additional information about the Evergreen Keystone family of mutual
funds, please telephone 1-800-xxx-xxxx.
IT IS VERY IMPORTANT THAT YOUR VOTING INSTRUCTIONS BE RECEIVED AS SOON AS
POSSIBLE.
Albert H. Elfner, III George S. Bissell
CHAIRMAN CHAIRMAN OF THE BOARD
Keystone Investment Management Company Keystone Funds
19219
<PAGE>
KEYSTONE MID-CAP GROWTH FUND (S-3)
200 BERKELEY STREET
BOSTON, MASSACHUSETTS 02116
--------------------------------------------------
NOTICE OF SPECIAL MEETING OF SHAREHOLDERS
TO BE HELD ON JUNE 30, 1997
--------------------------------------------------
NOTICE IS HEREBY GIVEN that a Special Meeting (the "Meeting") of
Shareholders of Keystone Mid-Cap Growth Fund (S-3) will be held at the offices
of the Fund, 200 Berkeley Street, Boston, Massachusetts on Monday, June 30, 1997
at 3:00 p.m., Eastern time, for the following purposes:
1. To approve or disapprove an Agreement and Plan of Reorganization (the
"Plan"), providing for the acquisition of all of the assets of the
Keystone Mid-Cap Growth Fund (S-3) (the "Mid-Cap Growth Fund") by the
Keystone Strategic Growth Fund (K-2) (the "Strategic Growth Fund") in
exchange for shares of the Strategic Growth Fund, and the assumption by
the Strategic Growth Fund of [ ___ ] liabilities of the Mid-Cap Growth
Fund. The Plan also provides for distribution of such shares of the
Strategic Growth Fund to shareholders of the Mid-Cap Growth Fund in
liquidation and subsequent termination of the Mid-Cap Growth Fund. A
vote in favor of the Plan is a vote in favor of the liquidation and
dissolution of the Mid-Cap Growth Fund.
2. To transact any other business that may properly come before the
Meeting or any adjournment thereof.
The Trustees of the Mid-Cap Growth Fund have fixed the close of
business on May 2, 1997 as the record date for the determination of shareholders
of the Mid-Cap Growth Fund entitled to notice of and to vote at the Meeting or
any adjournment thereof.
IT IS IMPORTANT THAT PROXIES BE RETURNED PROMPTLY. SHAREHOLDERS WHO DO NOT
EXPECT TO ATTEND IN PERSON ARE URGED WITHOUT DELAY TO SIGN AND RETURN THE
ENCLOSED PROXY IN THE ENCLOSED ENVELOPE, WHICH REQUIRES NO POSTAGE, SO THAT
THEIR SHARES MAY BE REPRESENTED AT THE MEETING. YOUR PROMPT ATTENTION TO THE
ENCLOSED PROXY WILL HELP TO AVOID THE EXPENSE OF FURTHER SOLICITATION.
By Order of the Board of Trustees
George O. Martinez
May [ ___ ], 1997 SECRETARY
19219
<PAGE>
INSTRUCTIONS FOR EXECUTING PROXY CARDS
The following general rules for signing proxy cards may be of assistance to
you and may help to avoid the time and expense involved in validating your vote
if you fail to sign your proxy card(s) properly.
1. INDIVIDUAL ACCOUNTS: Sign your name exactly as it appears in the
Registration on the proxy card(s).
2. JOINT ACCOUNTS: Either party may sign, but the name of the party
signing should conform exactly to a name shown in the Registration on
the proxy card(s).
3. ALL OTHER ACCOUNTS: The capacity of the individual signing the proxy
card(s) should be indicated unless it is reflected in the form of
Registration. For example:
REGISTRATION VALID SIGNATURE
Corporate Accounts
(1) ABC Corp. ABC Corp.
(2) ABC Corp. John Doe, Treasurer
(3) ABC Corp.
c/o John Doe, Treasurer John Doe, Treasurer
(4) ABC Corp. Profit Sharing Plan John Doe, Trustee
Trust Accounts
(1) ABC Trust Jane B. Doe, Trustee
(2) Jane B. Doe, Trustee Jane B. Doe
u/t/d 12/28/78
Custodial or Estate Accounts
(1) John B. Smith, Cust. John B. Smith
f/b/o John B. Smith, Jr. UGMA
(2) John B. Smith, Jr. John B. Smith, Jr., Executor
<PAGE>
SUBJECT TO COMPLETION, APRIL 11, 1997
PRELIMINARY COPY
PROSPECTUS/PROXY STATEMENT DATED MAY [ ___ ], 1997
Acquisition of Assets of
KEYSTONE MID-CAP GROWTH FUND (S-3)
200 Berkeley Street
Boston, Massachusetts 02116
By and in Exchange for Shares of
KEYSTONE STRATEGIC GROWTH FUND (K-2)
200 Berkeley Street
Boston, Massachusetts 02116
This Prospectus/Proxy Statement is being furnished to shareholders of
Keystone Mid-Cap Growth Fund (S-3) (the "Mid-Cap Growth Fund") in connection
with a proposed Agreement and Plan of Reorganization (the "Plan") to be
submitted to shareholders of the Mid-Cap Growth Fund for consideration at a
Special Meeting of Shareholders to be held on June 30, 1997 at 3:00 p.m. at the
offices of the Fund, 200 Berkeley Street, Boston, Massachusetts, and any
adjournments thereof (the "Meeting"). The Plan provides for all of the assets of
the Mid-Cap Growth Fund to be acquired by the Strategic Growth Fund in exchange
for shares of the Strategic Growth Fund and the assumption by the Strategic
Growth Fund of [ ___ ] liabilities of the Mid-Cap Growth Fund (hereinafter
referred to as the "Reorganization"). Following the Reorganization, shares of
the Strategic Growth Fund will be distributed to shareholders of the Mid-Cap
Growth Fund in liquidation of the Mid-Cap Growth Fund, and the Mid-Cap Growth
Fund will be terminated. Holders of shares of the Mid-Cap Growth Fund will
receive shares of the Strategic Growth Fund having the same distribution-related
fees, shareholder servicing-related fees, and contingent deferred sales charges
("CDSCs"), if any, as the shares of the Mid-Cap Growth Fund held by them prior
to the Reorganization. As a result of the proposed Reorganization, shareholders
of the Mid-Cap Growth Fund will receive that number of full and fractional
shares of the Strategic Growth Fund having an aggregate net asset value equal to
the aggregate net asset value of such shareholder's shares of the Mid-Cap Growth
Fund. The Reorganization is being structured as a tax-free reorganization for
federal income tax purposes.
The Strategic Growth Fund is an open-end, diversified management
investment company registered under the Investment Company Act of 1940, as
amended (the "1940 Act"). The investment objective of the Strategic Growth Fund
is to provide shareholders with growth of capital.
This Prospectus/Proxy Statement, which should be retained for future
reference, sets forth concisely the information about the Strategic Growth Fund
that shareholders of the Mid-Cap Growth Fund should know before voting on the
Reorganization. Certain relevant documents listed below, which have been filed
with the Securities and Exchange Commission ("SEC"), are incorporated in whole
or in part by reference. A Statement of Additional Information dated May [ __ ],
1997, relating to this Prospectus/Proxy Statement and the Reorganization, which
includes the financial statements of the Strategic Growth Fund dated October 31,
1996 and the financial statements of the Mid-Cap Growth Fund dated August 31,
1996, has been filed with the SEC and is incorporated by reference in its
entirety into this Prospectus/Proxy Statement. A copy of such Statement of
Additional Information is available upon request and without charge by writing
to the Strategic Growth Fund at 200 Berkeley Street, Boston, Massachusetts,
02116 or by calling toll-free 1-800-343-2898.
The Prospectus of the Strategic Growth Fund dated February 28, 1997 and
its Annual Report for the fiscal year ended October 31, 1996 are incorporated
herein by reference in their entirety. Shareholders of the Mid-Cap Growth Fund
will receive, with this Prospectus/Proxy Statement, copies of the Prospectus
pertaining to the shares of the Strategic Growth Fund that they will receive as
a result of the consummation of the Reorganization. Additional information about
the Strategic Growth Fund is contained in its Statement of Additional
Information of the same date, which has been filed with the SEC and which is
available upon request and without charge by writing or calling to the Strategic
Growth Fund at the address or telephone number listed in the preceding
paragraph.
The Prospectus of the Mid-Cap Growth Fund dated December 10, 1996, as
supplemented December 11, 1996, is incorporated herein in its entirety by
reference. Copies of the Mid-Cap Growth Fund's Prospectus and its Statement of
Additional Information dated December 10, 1996, as supplemented December 11,
1996, are available upon request and without charge by writing to the Mid-Cap
Growth Fund at 200 Berkeley Street, Boston, Massachusetts 02116 or by calling
toll-free 1-800-343-2898.
Included as Exhibit A to this Prospectus/Proxy Statement is a copy of
the Plan.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION, NOR HAS
THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED
UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS/PROXY STATEMENT. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
THE SHARES OFFERED BY THIS PROSPECTUS/PROXY STATEMENT ARE NOT DEPOSITS
OR OBLIGATIONS OF FIRST UNION CORPORATION ("FIRST UNION") OR ANY OF ITS
SUBSIDIARIES, ARE NOT ENDORSED OR GUARANTEED BY FIRST UNION OR ANY OF ITS
SUBSIDIARIES, AND ARE NOT INSURED OR OTHERWISE PROTECTED BY THE FEDERAL DEPOSIT
INSURANCE CORPORATION, THE FEDERAL RESERVE BOARD OR ANY OTHER GOVERNMENT AGENCY.
INVESTMENT IN THESE SHARES INVOLVES INVESTMENT RISKS, INCLUDING POSSIBLE LOSS OF
PRINCIPAL.
19219
<PAGE>
TABLE OF CONTENTS
PAGE
COMPARISON OF FEES AND EXPENSES..........................................
SUMMARY..................................................................
Proposed Plan of Reorganization.................................
Tax Consequences................................................
Investment Objectives and Policies
of the Strategic Growth Fund
and the Mid-Cap Growth Fund ...........................
Comparative Performance Information of Each Fund................
Management of the Funds.........................................
Investment Adviser..............................................
Portfolio Management............................................
Distribution of Shares..........................................
Purchase and Redemption Procedures..............................
Exchange Privileges.............................................
Dividend Policy.................................................
RISKS....................................................................
REASONS FOR THE REORGANIZATION...........................................
Agreement and Plan of Reorganization............................
Federal Income Tax Consequences.................................
Pro-forma Capitalization........................................
Shareholder Information.........................................
COMPARISON OF INVESTMENT OBJECTIVES AND POLICIES.........................
COMPARATIVE INFORMATION ON SHAREHOLDERS' RIGHTS .........................
Form of Organization............................................
Capitalization..................................................
Shareholder Liability...........................................
Shareholder Meetings and Voting Rights..........................
Liquidation or Dissolution......................................
Liability and Indemnification of Trustees.......................
Rights of Inspection............................................
ADDITIONAL INFORMATION...................................................
VOTING INFORMATION CONCERNING THE MEETING ...............................
FINANCIAL STATEMENTS AND EXPERTS.........................................
LEGAL MATTERS............................................................
OTHER BUSINESS...........................................................
19219
<PAGE>
COMPARISON OF FEES AND EXPENSES
The amounts for shares of the Strategic Growth Fund set forth in the
following tables and examples are based on the expenses for the fiscal year
ended October 31, 1996. The amounts for shares of the Mid-Cap Growth Fund set
forth in the following tables and in the examples are based on the Mid-Cap
Growth Fund's fiscal year ended August 31, 1996. The amounts for the Strategic
Growth Fund pro forma are based on what the combined expenses would have been
for the twelve months ended October 31, 1996.
The following tables show, for the Strategic Growth Fund and the
Mid-Cap Growth Fund, the shareholder transaction expenses and annual fund
operating expenses associated with an investment in shares of each Fund.
<TABLE>
<CAPTION>
COMPARISON OF STRATEGIC GROWTH FUND SHARES WITH MID-CAP GROWTH FUND SHARES
STRATEGIC GROWTH MID-CAP GROWTH STRATEGIC GROWTH
FUND FUND FUND PRO FORMA
<S> <C> <C> <C>
SHAREHOLDER TRANSACTION EXPENSES
MAXIMUM SALES LOAD IMPOSED ON NONE NONE NONE
PURCHASES (AS A PERCENTAGE OF OFFERING
PRICE)
MAXIMUM SALES LOAD IMPOSED ON NONE NONE NONE
REINVESTED DIVIDENDS (AS A PERCENTAGE
OF OFFERING PRICE)
CONTINGENT DEFERRED SALES CHARGE (AS A 4.00% IN THE FIRST YEAR, 4.00% IN THE FIRST 4.00% IN THE FIRST
PERCENTAGE OF ORIGINAL PURCHASE PRICE DECLINING TO 1.00% IN YEAR, DECLINING TO YEAR, DECLINING TO
OR REDEMPTION PROCEEDS, WHICHEVER IS THE FOURTH YEAR AND 1.00% IN THE FOURTH 1.00% IN THE FOURTH
LOWER) 0.00% THEREAFTER YEAR AND 0.00% YEAR AND 0.00%
THEREAFTER THEREAFTER
EXCHANGE FEE NONE NONE NONE
ANNUAL FUND OPERATING EXPENSES
(AS A PERCENTAGE OF AVERAGE DAILY NET
ASSETS)
ADVISORY FEES 0.60% 0.66% 0.60%
12B-1 FEES(1) 0.97% 0.72% 0.86%
OTHER EXPENSES 0.34% 0.36% 0.29%
ANNUAL FUND OPERATING EXPENSES 1.91% 1.74% 1.75%
- ------------------------------------------ -------------------------- ------------------------- -----------------------
</TABLE>
(1) FOR EACH FUND, A PORTION OF THE 12B-1 FEES EQUIVALENT TO 0.25 OF 1% OF
AVERAGE NET ASSETS WILL BE SHAREHOLDER SERVICING-RELATED. DISTRIBUTION-RELATED
12B-1 FEES WILL BE LIMITED TO 0.75 OF 1% OF AVERAGE NET ASSETS AS PERMITTED
UNDER THE RULES OF THE NATIONAL ASSOCIATION OF SECURITIES DEALERS, INC.
EXAMPLES. The following table shows for each Fund, and for the Strategic Growth
Fund, assuming consummation of the Reorganization, examples of the cumulative
effect of shareholder transaction expenses and annual fund operating expenses
indicated above on a $1,000 investment in each class of shares for the periods
specified, assuming (i) a 5% annual return, and (ii) redemption at the end of
such period.
<TABLE>
<CAPTION>
STRATEGIC GROWTH FUND MID-CAP GROWTH FUND STRATEGIC GROWTH FUND
PRO FORMA
One Three Five Ten One Three Five Ten One Three Five Ten
Year Years Years Years Year Years Years Years Year Years Years Years
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Assuming
redemption at end of
period $59 $80 $103 $223 $58 $75 $94 $205 $58 $75 $95 $206
Assuming no $19 $60 $103 $223 $18 $55 $94 $205 $18 $55 $95 $206
redemption at end of
period
- --------------------- ----- ------ ------ ----- ----- ----- ----- ------- ----- ----- ------ -----
</TABLE>
The purpose of the foregoing examples is to assist a Mid-Cap Growth Fund
shareholder in understanding the various costs and expenses that an investor in
the Strategic Growth Fund, as a result of the Reorganization, would bear
directly and indirectly, as compared with the various direct and indirect
expenses currently borne by a shareholder in the Mid-Cap Growth Fund. These
examples should not be considered a representation of past or future expenses or
annual returns. Actual expenses may be greater or less than those shown.
Moreover, while the examples assume a 5% annual return, a Fund's actual
performance will vary and may result in actual returns greater or less than 5%.
SUMMARY
THIS SUMMARY IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO THE ADDITIONAL
INFORMATION CONTAINED ELSEWHERE IN THIS PROSPECTUS/PROXY STATEMENT, THE
PROSPECTUS OF THE STRATEGIC GROWTH FUND DATED FEBRUARY 28, 1997, AND THE
PROSPECTUS OF THE MID-CAP GROWTH FUND DATED DECEMBER 10, 1996, AS SUPPLEMENTED
DECEMBER 11, 1996 (WHICH ARE INCORPORATED HEREIN BY REFERENCE), AND THE PLAN, A
FORM OF WHICH IS ATTACHED TO THIS PROSPECTUS/PROXY STATEMENT AS EXHIBIT A.
PROPOSED PLAN OF REORGANIZATION
The Plan provides for the transfer of all of the assets of the Mid-Cap
Growth Fund in exchange for shares of the Strategic Growth Fund and the
assumption by the Strategic Growth Fund of [ ____ ] liabilities of the Mid-Cap
Growth Fund. (The Mid-Cap Growth Fund and the Strategic Growth Fund each may
also be referred to in this Prospectus/Proxy Statement as a "Fund" and together,
as the "Funds".) The Plan also calls for the distribution of shares of the
Strategic Growth Fund to Mid-Cap Growth Fund shareholders in liquidation of the
Mid-Cap Growth Fund as part of the Reorganization. As a result of the
Reorganization, the shareholders of the Mid-Cap Growth Fund will become the
owners of that number of full and fractional shares of Strategic Growth Fund
having an aggregate net asset value equal to the aggregate net asset value of
the shareholder's shares of the Mid-Cap Growth Fund as of the close of business
immediately prior to the date that the Mid-Cap Growth Fund's assets are
exchanged for shares of the Strategic Growth Fund.
The Trustees of the Mid-Cap Growth Fund, including the Trustees who are
not "interested persons," as such term is defined in the 1940 Act (the
"Independent Trustees"), have concluded that the Reorganization would be in the
best interests of shareholders of the Mid-Cap Growth Fund and that the interests
of the shareholders of the Mid-Cap Growth Fund will not be diluted as a result
of the transactions contemplated by the Reorganization. Accordingly, the
Trustees have submitted the Plan for the approval of Mid-Cap Growth Fund's
shareholders.
THE BOARD OF TRUSTEES OF THE MID-CAP GROWTH FUND RECOMMENDS APPROVAL BY
SHAREHOLDERS OF THE MID-CAP GROWTH FUND OF THE PLAN EFFECTING THE
REORGANIZATION.
The Trustees of the Strategic Growth Fund have also approved the Plan,
and, accordingly, the Strategic Growth Fund's participation in the
Reorganization.
Approval of the Reorganization on the part of the Mid-Cap Growth Fund
will require the affirmative vote of a majority of the shares present and
entitled to vote at a meeting at which a quorum is present. A majority of the
outstanding shares of the Fund, represented in person or by proxy, is required
to constitute a quorum at the Meeting. See "Voting Information Concerning the
Meeting." The Reorganization is scheduled to take place on or about July [ __ ],
1997.
If the shareholders of the Mid-Cap Growth Fund do not vote to approve
the Reorganization, the Trustees of the Mid-Cap Growth Fund will consider other
possible courses of action in the best interests of shareholders.
TAX CONSEQUENCES
Prior to or at the completion of the Reorganization, the Mid-Cap Growth
Fund will have received an opinion of counsel that the Reorganization has been
structured so that no gain or loss will be recognized by the Mid-Cap Growth Fund
or its shareholders for federal income tax purposes as a result of the receipt
of the shares of the Strategic Growth Fund in the Reorganization. The holding
period and aggregate tax basis of shares of the Strategic Growth Fund that are
received by Mid-Cap Growth Fund shareholders will be the same as the holding
period and aggregate tax basis of shares of the Mid-Cap Growth Fund previously
held by such shareholders, provided that shares of the Mid-Cap Growth Fund are
held as capital assets. In addition, the holding period and tax basis of the
assets of the Mid-Cap Growth Fund in the hands of the Strategic Growth Fund as a
result of the Reorganization will be the same as in the hands of the Mid-Cap
Growth Fund immediately prior to the Reorganization and no gain or loss will be
recognized by the Strategic Growth Fund upon the receipt of the assets of the
Mid-Cap Growth Fund in exchange for shares of the Strategic Growth Fund and the
assumption by the Strategic Growth Fund of [ ___ ] identified liabilities of the
Mid-Cap Growth Fund.
INVESTMENT OBJECTIVES AND POLICIES OF THE STRATEGIC GROWTH FUND AND THE MID-CAP
GROWTH FUND
Strategic Growth Fund and Mid-Cap Growth Fund have the same investment
objective: TO PROVIDE SHAREHOLDERS WITH GROWTH OF CAPITAL.
Strategic Growth Fund invests in common stocks, debt securities of any
quality rating, including debt securities convertible or exchangeable for
preferred or common stock, and rights and warrants to purchase such stocks and
securities that it considers to be consistent with its investment objective. The
Fund may also invest in limited partnerships, including master limited
partnerships. In addition, the Fund may invest without limit in foreign
securities issued by issuers located in developed countries as well as emerging
market countries.
Under normal circumstances, the Mid-Cap Growth Fund invests at least 65%
of its total assets in equity securities of companies with medium market
capitalizations; i.e., companies whose market capitalizations fall within the
capitalization range of the Standard and Poor's MidCap 400 Index ("S&P MidCap
400") at the time of the Fund's investment. The Fund may invest up to 25% of its
assets in foreign securities issued by issuers located in developed countries,
as well as emerging market countries. The Fund may also invest in common stocks,
debt securities of any quality rating convertible into common stocks or having
common stock characteristics, and rights and warrants to purchase common stocks.
In addition, the Fund may invest in limited partnerships, including master
limited partnerships.
For more information on the Funds' investment policies, see "Comparison
of Investment Objectives and Policies" below.
COMPARATIVE PERFORMANCE INFORMATION OF EACH FUND
Discussions of the manner of calculation of total return are contained
in the respective Prospectuses and Statements of Additional Information of the
Funds. The average annual total returns of the Strategic Growth Fund and the
Mid-Cap Growth Fund for the one, five, and ten year periods ended March 31, 1997
and for both Funds for the periods from inception through March 31, 1997 are set
forth in the table below. The calculations of total return assume the
reinvestment of all dividends and capital gains distributions on the
reinvestment date and the deduction of all recurring expenses (including sales
charges) that were charged to shareholders' accounts.
AVERAGE ANNUAL TOTAL RETURNS
- -------------------------------------------------------------------------------
STRATEGIC GROWTH FUND MID-CAP GROWTH FUND
One Year Ended 8.99% (4.47%)
March 31, 1997
Five Years Ended 12.27% 8.67%
March 31, 1997
Ten Years Ended 10.00% 8.46%
March 31, 1997
Since Inception To 11.19% 7.33%
March 31, 1997
Inception Date 9/11/35 9/11/35
Important additional information about Strategic Growth Fund's
performance is also contained in management's discussion of the Fund's
performance, attached hereto as Exhibit B. This information also appears in the
Fund's most recent Annual Report.
MANAGEMENT OF THE FUNDS
The overall management of the Strategic Growth Fund and of the Mid-Cap
Growth Fund is the responsibility of, and is supervised by, their respective
Board of Trustees.
INVESTMENT ADVISER
Keystone Investment Management Company ("Keystone") serves as the
investment adviser for each of the Funds. Keystone, with its predecessors, has
served as investment adviser to the Keystone family of mutual funds since 1932.
Keystone is a wholly-owned subsidiary of First Union Keystone, Inc. First Union
Keystone, Inc, is a wholly-owned subsidiary of First Union National Bank of
North Carolina ("FUNB"). FUNB is a subsidiary of First Union Corporation, the
sixth largest bank holding company in the United States. The Capital Management
Group of FUNB, Evergreen Asset Management Corp., and Keystone manage the
Evergreen Keystone family of mutual funds with assets of approximately $29.2
billion as of February 28, 1997. For further information regarding Keystone,
FUNB and First Union Corporation, see "Fund Management and Expenses" in the
Strategic Growth Fund's Prospectus.
Each Fund pays Keystone a fee for its services at the annual rate set
forth below:
AVERAGE AGGREGATE NET ASSET
ANNUAL MANAGEMENT FEE VALUE OF THE SHARES OF THE FUND
- ------------------------------------------------------------------------------
0.70% of the first $ 100,000,000, plus
0.65% of the next $ 100,000,000, plus
0.60% of the next $ 100,000,000, plus
0.55% of the next $ 100,000,000, plus
0.50% of the next $ 100,000,000, plus
0.45% of the next $ 500,000,000, plus
0.40% of the next $ 500,000,000, plus
0.35% of the amounts over $1,500,000,000
PORTFOLIO MANAGEMENT
Maureen E. Cullinane has been Strategic Growth Fund's portfolio manager
since 1995. Ms. Cullinane is a Keystone Senior Vice President and Senior
Portfolio Manager with more than 20 years of investment experience. Ms.
Cullinane has been associated with Keystone since 1974.
DISTRIBUTION OF SHARES
Evergreen Keystone Distributor, Inc. ("EKD"), an indirect, wholly-owned
subsidiary of The BISYS Group, Inc., acts as underwriter of both the Strategic
Growth Fund's and Mid-Cap Growth Fund's shares. EKD distributes each Fund's
shares directly or through broker-dealers, banks (including FUNB), or other
financial intermediaries.
In the proposed Reorganization, shareholders of the Mid-Cap Growth Fund
will receive shares of the Strategic Growth Fund. Shares of the Strategic Growth
Fund have identical arrangements with respect to CDSCs and distribution and
service fees as the shares of the Mid-Cap Growth Fund. Strategic Growth Fund
shares issued pursuant to the Reorganization that replace Mid-Cap Growth Fund
shares that are still subject to a CDSC will be subject to such remaining CDSC.
The following is a summary description of charges and fees for both
Fund's shares. More detailed descriptions of the distribution arrangements
applicable to the shares are contained in the respective Strategic Growth Fund
and Mid-Cap Growth Fund Prospectuses and in each Fund's respective Statement of
Additional Information.
Shares are sold without any front-end sales charges, but are subject to
a CDSC which ranges from 4% to 1% if shares are redeemed during the first four
calendar years after purchase. In addition, shares are subject to
distribution-related fees and shareholder servicing-related fees as described
below.
The amount of the CDSCs applicable to redemptions of shares is charged
as a percentage of the lesser of the current net asset value or original cost.
The CDSC is deducted from the amount of the redemption and is paid to the
respective Fund's distributor or its predecessor, as the case may be. Shares of
each Fund acquired through dividend or distribution reinvestment are not subject
to a CDSC. Additional information regarding each Fund's shares is included in
its respective Prospectus and Statement of Additional Information.
DISTRIBUTION-RELATED AND SHAREHOLDER SERVICING-RELATED EXPENSES. Each
Fund has adopted a plan under Rule 12b-1 of the 1940 Act with respect to its
shares pursuant to which each Fund may pay for distribution-related and
shareholder servicing-related expenses at an annual rate that may not exceed
1.25% of average daily net assets. The National Association of Securities
Dealers, Inc. ("NASD") limits the amount that a Fund may pay annually in
distribution costs for the sale of its shares and shareholder service fees. The
NASD currently limits such annual expenditures to 1.00% of the aggregate average
daily net asset value of its shares, of which 0.75% may be used to pay
distribution costs and 0.25% may be used to pay shareholder service fees.
Consistent with the requirements of Rule 12b-1 and the applicable rules
of the NASD, following the Reorganization, the Strategic Growth Fund may make
distribution-related and shareholder servicing-related payments with respect to
the Mid-Cap Growth Fund shares sold prior to the Reorganization, including
payments to the Mid-Cap Growth Fund's former underwriter.
Additional information regarding the Rule 12b-l plans adopted by each
Fund is included in its respective Prospectus and Statement of Additional
Information.
PURCHASE AND REDEMPTION PROCEDURES
Information concerning applicable sales charges, distribution-related
fees and shareholder servicing-related fees are described above. Investments in
the Funds are not insured. The minimum initial purchase requirement for each
Fund is $1,000. There is no minimum for subsequent purchases of shares of either
Fund. Each Fund provides for telephone, mail, or wire redemption of shares at
net asset value as next determined after receipt of a redemption request on each
day the New York Stock Exchange ("NYSE") is open for trading. Additional
information concerning purchases and redemptions of shares, including how each
Fund's net asset value is determined, is contained in the respective Prospectus
for each Fund. The Strategic Growth Fund and the Mid-Cap Growth Fund each may
involuntarily redeem shareholders' accounts that have less than $1,000 of
invested funds. All funds invested in each Fund are invested in full and
fractional shares. The Funds reserve the right to reject any purchase order.
EXCHANGE PRIVILEGES
Each Fund currently has identical exchange privileges. No sales charge
is imposed on an exchange. An exchange that represents an initial investment in
another fund must amount to at least $1,000. The current exchange privileges,
and the requirements and limitations attendant thereto, are described in the
Funds' respective Prospectuses and Statements of Additional Information.
DIVIDEND POLICY
Each Fund distributes its investment company taxable income annually and
net long-term capital gains at least annually. Dividends and distributions are
reinvested in additional shares of the respective Fund, or paid in cash, as a
shareholder has elected. See the respective Prospectuses of the Funds for
further information concerning dividends and distributions.
After the Reorganization, shareholders of the Mid-Cap Growth Fund that
have elected to have their dividends and/or distributions reinvested will have
dividends and/or distributions received from the Strategic Growth Fund
reinvested in shares of the Strategic Growth Fund. Shareholders of the Mid-Cap
Growth Fund that have elected to receive dividends and/or distributions in cash
will receive dividends and/or distributions from the Strategic Growth Fund in
cash after the Reorganization, although they may, after the Reorganization,
elect to have such dividends and/or distributions reinvested in additional
shares of the Strategic Growth Fund.
Each Fund has qualified and intends to continue to qualify to be treated
as a regulated investment company under the Internal Revenue Code of 1986, as
amended (the "Code"). While so qualified, so long as each Fund distributes all
of its investment company taxable income and any net realized gains to
shareholders, it is expected that a Fund will not be required to pay any federal
income taxes on the amounts so distributed. A 4% nondeductible excise tax will
be imposed on amounts not distributed if a Fund does not meet certain
distribution requirements by the end of each calendar year.
Each Fund anticipates meeting such distribution requirements.
RISKS
Since the investment objectives and policies of each Fund are
substantially comparable, the risks involved in investing in each Fund's shares
are similar. There is no assurance that investment performances will be positive
and that the Funds will meet their investment objectives.
The Mid-Cap Growth Fund normally invests at least 65% of its total
assets in mid-cap stocks, or stocks of companies having medium market
capitalizations. The stock prices of mid-cap companies can rise quickly and drop
substantially in a short period of time. This volatility results from a number
of factors, including reliance by these companies on relatively limited product
lines, markets, and financial resources. These factors may make mid-cap
companies more susceptible to setbacks or downturns. Unlike the Mid-Cap Growth
Fund, the Strategic Growth Fund does not have an investment policy of normally
investing at least 65% of its total assets in stocks of companies having medium
market capitalizations, and therefore may invest a significant portion of its
assets in companies with small market capitalizations. Investing in companies
with small market capitalizations involves greater risk than investing in
companies with medium market capitalizations. In addition to the factors cited
for mid-cap companies, companies with smaller market capitalizations may
experience higher rates of bankruptcy or other failures than larger companies.
They may be more likely to be negatively affected by changes in management. In
addition, the stock of small company companies may be thinly traded.
Both Funds may invest in foreign securities. The Mid-Cap Growth Fund
may invest only up to 25% of its assets in foreign securities. The Strategic
Growth Fund is not currently subject to any similar restriction on its ability
to invest in foreign securities. As of [______________], the Strategic Growth
Fund had [____]% of its assets invested in foreign securities. Investing in
securities of foreign issuers generally involves greater risk than investing in
securities of domestic issuers. For example, fluctuations in foreign exchange
rates may affect the value of the Fund's foreign investments and earnings as
well as gains and losses realized through trades and the unrealized appreciation
or depreciation of investments. The Fund may also incur costs when it shifts
assets from one country to another. See the "Risk Factors" section of the
Strategic Growth Fund Prospectus for more detailed information on the risks
associated with investing in foreign securities.
In addition, both Funds may enter into repurchase and reverse
repurchase agreements, invest in master demand notes, lend portfolio securities,
purchase and sell securities and currencies on a when-issued and delayed
delivery basis and purchase or sell securities on a forward commitment basis,
write covered call and put options and purchase call and put options to close
out existing positions. Each Fund may employ new investment techniques with
respect to such options. Each Fund may also enter into currency and other
financial futures contracts and related options transactions for hedging
purposes and not for speculation. Each of these investment techniques involve
certain investment risks.
For more information on risk generally, see the discussion contained in
the "Risk Factors" section of each Fund's Prospectus. See also the "Additional
Investment Information" section at the back of the Strategic Growth Fund
Prospectus.
REASONS FOR THE REORGANIZATION
At a regular meeting held on March 12, 1997, the Board of Trustees of
the Mid-Cap Growth Fund considered and approved the Reorganization as in the
best interests of the Fund and its shareholders and determined that the
interests of existing shareholders of the Mid-Cap Growth Fund will not be
diluted as a result of the transactions contemplated by the Reorganization.
In approving the Plan, the Trustees reviewed various factors about the
Funds and the proposed Reorganization. There are substantial similarities
between the Strategic Growth Fund and the Mid-Cap Growth Fund. Specifically, the
Strategic Growth Fund and the Mid-Cap Growth Fund have identical investment
objectives and substantially similar policies. See "Comparison of Investment
Objectives and Policies" below. At the same time, the Board of Trustees
evaluated the potential economies of scale associated with larger mutual funds
and concluded that operational efficiencies may be achieved upon a
reorganization of the Mid-Cap Growth Fund with another Keystone fund having a
greater level of assets. As of February 28, 1997, the Strategic Growth Fund's
assets were approximately $521.9 million, and Mid-Cap Growth Fund's assets were
approximately $297.3 million.
In addition, assuming that an alternative to the Reorganization would
be to propose that the Mid-Cap Growth Fund continue its existence, the Mid-Cap
Growth Fund would be offered through common distribution channels with the
substantially identical Strategic Growth Fund. The Mid-Cap Growth Fund would
also have to bear the cost of maintaining its separate existence. Keystone
believes that the prospect of dividing the resources of the Evergreen Keystone
mutual fund organization between two substantially identical funds could result
in the Mid-Cap Growth Fund being disadvantaged due to an inability to achieve
optimum size, performance levels, and the greatest possible economies of scale.
Accordingly, for the reasons noted above and recognizing that there can be no
assurance that any economies of scale or other benefits will be realized,
Keystone believes that the proposed Reorganization would be in the best interest
of each Fund and its shareholders.
The Board of Trustees of the Mid-Cap Growth Fund met and considered the
recommendation of Keystone, and, in addition, considered among other things, (i)
the terms and conditions of the Reorganization; (ii) whether the Reorganization
would result in the dilution of shareholder interests; (iii) expense ratios,
fees, and expenses of the Mid-Cap Growth Fund and the Strategic Growth Fund;
(iv) the comparative performance records of each of the Funds; (v) compatibility
of their investment objectives and policies; (vi) service features available to
shareholders in the respective funds; (vii) the Strategic Growth Fund's
assumption of [ ____ ] liabilities of the Mid-Cap Growth Fund; (viii) the fact
that FUNB will bear the expenses incurred in connection with the Reorganization;
(ix) the expected federal income tax consequences of the Reorganization; and (x)
the possible investment benefits to be gained from a single, larger, more
diversified Fund.
The Trustees also considered the benefits to be derived by shareholders
of the Mid-Cap Growth Fund from the sale of its assets to the Strategic Growth
Fund. In this regard, the Trustees considered the potential benefits of being
associated with a larger entity and the economies of scale that could be
realized by the participation by shareholders of the Mid-Cap Growth Fund in the
combined fund. In addition, the Trustees considered that there are alternatives
available to shareholders of the Mid-Cap Growth Fund, including the ability to
redeem their shares, as well as the option to vote against the Reorganization.
During their consideration of the Reorganization, the Trustees met with
Fund counsel and counsel to the Independent Trustees regarding the legal issues
involved. The Trustees of the Strategic Growth Fund also concluded at a regular
meeting on March 12, 1997 that the proposed Reorganization would be in the best
interests of shareholders of the Strategic Growth Fund, and that the interests
of the shareholders of the Strategic Growth Fund will not be diluted as a result
of the transactions contemplated by the Reorganization.
THE TRUSTEES OF THE MID-CAP GROWTH FUND RECOMMEND THAT THE SHAREHOLDERS
OF THE MID-CAP GROWTH FUND APPROVE THE PROPOSED REORGANIZATION.
AGREEMENT AND PLAN OF REORGANIZATION
The following summary is qualified in its entirety by reference to the
Plan (Exhibit A hereto).
The Plan provides that the Strategic Growth Fund will acquire all of
the assets of the Mid-Cap Growth Fund in exchange for shares of the Strategic
Growth Fund and the assumption by the Strategic Growth Fund of [ ___ ]
identified liabilities of the Mid-Cap Growth Fund on or about July [ __ ], 1997
or such other date as may be agreed upon by the parties (the "Closing Date").
Prior to the Closing Date, the Mid-Cap Growth Fund will endeavor to discharge
all of its known liabilities and obligations. The Strategic Growth Fund will not
assume any liabilities or obligations of the Mid-Cap Growth Fund other than
those reflected in an unaudited statement of assets and liabilities of the
Mid-Cap Growth Fund prepared as of the close of regular trading on the NYSE,
currently 4:00 p.m. Eastern time, on the business day immediately prior to the
Closing Date. The number of full and fractional shares of the Strategic Growth
Fund to be received by the shareholders of the Mid-Cap Growth Fund will be
determined by dividing the value of the assets of the Mid-Cap Growth Fund to be
acquired by the ratio of the net asset value per share of the Strategic Growth
Fund and of the Mid-Cap Growth Fund, computed as of the close of regular trading
on the NYSE on the business day immediately prior to the Closing Date. The net
asset value per share will be determined by dividing assets, less liabilities,
by the total number of outstanding shares.
State Street Bank and Trust Company, the custodian for both Funds, will
compute the value of the Funds' respective portfolio securities. The method of
valuation employed will be consistent with the procedures set forth in the
Prospectus and Statement of Additional Information of the Strategic Growth Fund,
Rule 22c-1 under the 1940 Act, and with the interpretations of such rule by the
SEC's Division of Investment Management.
At or prior to the Closing Date, the Mid-Cap Growth Fund shall have
declared a dividend or dividends and distribution or distributions, which,
together with all previous dividends and distributions, shall have the effect of
distributing to the Mid-Cap Growth Fund's shareholders (in shares of the Mid-Cap
Growth Fund, or in cash, as the shareholder has previously elected) all of the
Mid-Cap Growth Fund's investment company taxable income for the taxable year
ending on or prior to the Closing Date (computed without regard to any deduction
for dividends paid) and all of its net capital gains realized in all taxable
years ending on or prior to the Closing Date (after reductions for any capital
loss carry forward).
As soon after the Closing Date as conveniently practicable, the Mid-Cap
Growth Fund will liquidate and distribute pro rata to shareholders of record as
of the close of business on the Closing Date the full and fractional shares of
the Strategic Growth Fund received by the Mid-Cap Growth Fund. Such liquidation
and distribution will be accomplished by the establishment of accounts in the
names of the Mid-Cap Growth Fund's shareholders on the share records of the
Strategic Growth Fund's transfer agent. Each account will represent the
respective pro rata number of full and fractional shares of the Strategic Growth
Fund due to the Mid-Cap Growth Fund's shareholders. All issued and outstanding
shares of the Mid-Cap Growth Fund, including those represented by certificates,
will be canceled. The Strategic Growth Fund does not issue share certificates to
shareholders. The shares of the Strategic Growth Fund to be issued will have no
preemptive or conversion rights. After such distribution and the winding up of
its affairs, the Mid-Cap Growth Fund will be terminated. In connection with such
termination, the Mid-Cap Growth Fund will file with the SEC an application for
termination as a registered investment company.
The consummation of the Reorganization is subject to the conditions set
forth in the Plan, including approval by the Mid-Cap Growth Fund's shareholders,
accuracy of various representations and warranties and receipt of opinions of
counsel, including opinions with respect to those matters referred to in
"Federal Income Tax Consequences" below. Notwithstanding approval of the Mid-Cap
Growth Fund's shareholders, the Plan may be terminated (a) by the mutual
agreement of the Mid-Cap Growth Fund and the Strategic Growth Fund; or (b) at or
prior to the Closing Date by either party (i) because of a breach by the other
party of any representation, warranty, or agreement contained therein to be
performed at or prior to the Closing Date if not cured within 30 days, or (ii)
because a condition to the obligation of the terminating party has not been met
and it reasonably appears that it cannot be met.
The expenses of the Mid-Cap Growth Fund in connection with the
Reorganization (including the cost of any proxy soliciting agents) and the
expenses of the Strategic Growth Fund will be borne by FUNB whether or not the
Reorganization is consummated.
If the Reorganization is not approved by shareholders of the Mid-Cap
Growth Fund, the Board of Trustees of the Mid-Cap Growth Fund will consider
other possible courses of action in the best interests of shareholders.
FEDERAL INCOME TAX CONSEQUENCES
The Reorganization is intended to qualify for federal income tax
purposes as a tax-free reorganization under section 368(a) of the Code. As a
condition to the closing of the Reorganization, the Mid-Cap Growth Fund will
receive an opinion of counsel to the effect that, on the basis of the existing
provisions of the Code, U.S. Treasury regulations issued thereunder, current
administrative rules, pronouncements and court decisions, for federal income tax
purposes, upon consummation of the Reorganization:
(1) the transfer of all of the assets of the Mid-Cap Growth Fund solely in
exchange for shares of the Strategic Growth Fund and the assumption by the
Strategic Growth Fund of liabilities of the Mid-Cap Growth
Fund, followed by the distribution of the Strategic Growth Fund's shares by the
Mid-Cap Growth Fund in dissolution and liquidation of the Mid-Cap Growth Fund,
will constitute a "reorganization" within the meaning of section 368(a)(1)(C) of
the Code, and the Strategic Growth Fund and the Mid-Cap Growth Fund will each be
a "party to a reorganization" within the meaning of section 368(b) of the Code;
(2) no gain or loss will be recognized by the Mid-Cap Growth Fund on the
transfer of all of its assets to the Strategic Growth Fund solely in exchange
for the Strategic Growth Fund's shares and the assumption by the Strategic
Growth Fund of [ ___ ] liabilities of the Mid-Cap Growth Fund or upon the
distribution of the Strategic Growth Fund's shares to the Mid-Cap Growth Fund's
shareholders in exchange for their shares of the Mid-Cap Growth Fund;
(3) the tax basis of the assets transferred will be the same to the Strategic
Growth Fund as the tax basis of such assets to the Mid-Cap Growth Fund
immediately prior to the Reorganization, and the holding period of such assets
in the hands of the Strategic Growth Fund will include the period during which
the assets were held by the Mid-Cap Growth Fund;
(4) no gain or loss will be recognized by the Strategic Growth Fund upon the
receipt of the assets from the Mid-Cap Growth Fund solely in exchange for the
shares of the Strategic Growth Fund and the assumption by the Strategic Growth
Fund of [ ____ ] liabilities of the Mid-Cap Growth Fund;
(5) no gain or loss will be recognized by the Mid-Cap Growth Fund's shareholders
upon the issuance of the shares of the Strategic Growth Fund to them, provided
they receive solely such shares (including fractional shares) in exchange for
their shares of the Mid-Cap Growth Fund; and
(6) the aggregate tax basis of the shares of the Strategic Growth Fund,
including any fractional shares, received by each of the shareholders of the
Mid-Cap Growth Fund pursuant to the Reorganization will be the same as the
aggregate tax basis of the shares of the Mid-Cap Growth Fund held by such
shareholder immediately prior to the Reorganization, and the holding period of
the shares of the Strategic Growth Fund, including fractional shares, received
by each such shareholder will include the period during which the shares of the
Mid-Cap Growth Fund exchanged therefor were held by such shareholder (provided
that the shares of the Mid-Cap Growth Fund were held as a capital asset on the
date of the Reorganization).
Opinions of counsel are not binding upon the Internal Revenue Service
or the courts. If the Reorganization is consummated but does not qualify as a
tax-free reorganization under the Code, each Mid-Cap Growth Fund shareholder
would recognize a taxable gain or loss equal to the difference between his or
her tax basis in his or her Mid-Cap Growth Fund shares and the fair market value
of the Strategic Growth Fund shares he or she received. Shareholders of the
Mid-Cap Growth Fund should consult their tax advisers regarding the effect, if
any, of the proposed Reorganization in light of their individual circumstances.
Since the foregoing discussion relates only to the federal income tax
consequences of the Reorganization, shareholders of the Mid-Cap Growth Fund
should also consult their tax advisers as to state and local tax consequences,
if any, of the Reorganization.
It is not anticipated that the securities of the combined portfolios
will be sold in significant amounts in order to comply with the policies and
investment practices of the Strategic Growth Fund.
PRO-FORMA CAPITALIZATION
The following table sets forth the capitalization of the Strategic
Growth Fund and the Mid-Cap Growth Fund as of February 28, 1997 and on a pro
forma basis as of that date, giving effect to the proposed acquisition of assets
at net asset value. The pro forma data reflects an exchange ratio of
approximately 1.035 shares of the Strategic Growth Fund issued for each share of
the Mid-Cap Growth Fund.
CAPITALIZATION OF THE STRATEGIC GROWTH FUND AND MID-CAP GROWTH FUND
STRATEGIC MID-CAP COMBINED
GROWTH GROWTH AFTER
FUND FUND REORGANIZATION
-------------- -------------- -------------------
Net Assets (in 000's) $521,936 $297,293 $819,229
Net Asset Value Per $8.46 $8.76 $8.46
Share
Shares Outstanding (000's) 61,707 33,940 96,848
The table set forth above should not be relied on to reflect the number
of shares to be received by Mid-Cap Growth Fund shareholders in the
Reorganization; the actual number of shares to be received will depend upon the
net asset value and number of shares outstanding of each Fund at the time of the
Reorganization.
SHAREHOLDER INFORMATION
As of May 2, 1997 (the "Record Date"), there were ______________ shares
of the Mid-Cap Growth Fund outstanding and ________________ shares of the
Strategic Growth Fund outstanding.
As of the Record Date, the officers and Trustees of the Mid-Cap Growth
Fund beneficially owned as a group less than 1% of the outstanding shares of the
Mid-Cap Growth Fund. To the Mid-Cap Growth Fund's knowledge, the following
persons owned beneficially or of record more than 5% of the Mid-Cap Growth
Fund's total outstanding shares as of the Record Date:
<TABLE>
<CAPTION>
Percentage of Total Percentage of Total
Shares Outstanding Before Shares Outstanding After
NAME AND ADDRESS NUMBER OF SHARES REORGANIZATION REORGANIZATION
<S> <C> <C> <C>
</TABLE>
As of the Record Date, the officers and Trustees of the Strategic Growth
Fund beneficially owned as a group less than 1% of the outstanding shares of the
Strategic Growth Fund. To the Strategic Growth Fund's knowledge, the following
persons owned beneficially or of record more than 5% of the Strategic Growth
Fund's total outstanding shares as of the Record Date.
<TABLE>
<CAPTION>
Percentage of Total Percentage of Total
Shares Outstanding Before Shares Outstanding After
NAME AND ADDRESS NUMBER OF SHARES REORGANIZATION REORGANIZATION
<S> <C> <C> <C>
</TABLE>
COMPARISON OF INVESTMENT OBJECTIVES AND POLICIES
The following discussion is based upon and qualified in its entirety by
the descriptions of the respective investment objectives, policies, and
restrictions set forth in the respective Prospectuses and Statements of
Additional Information of the Funds. The investment objective, policies, and
restrictions of the Strategic Growth Fund can be found in the Prospectus of the
Strategic Growth Fund under the caption "Investment Objective and Policies." The
investment objective, policies, and restrictions of the Mid-Cap Growth Fund can
be found in the Prospectus of the Mid-Cap Growth Fund under the caption
"Investment Objective and Policies."
The investment objective of the Mid-Cap Growth Fund is to provide
shareholders with growth of capital. The Fund 's investment objective is a
fundamental policy that cannot be changed without shareholder approval.
The Fund seeks to achieve this objective by investing at least 65% of
its total assets in equity securities of companies with medium market
capitalizations. Additionally, the Fund may invest up to 25% of its assets in
foreign securities issued by issuers located in developed countries, as well as
emerging market countries, including the formerly communist countries of Eastern
Europe, and the People's Republic of China. The Fund may also invest in other
common stocks, debt securities of any quality rating convertible into common
stocks or having warrants to purchase common stocks. The Fund may also invest in
limited partnerships, including master limited partnerships.
The Strategic Growth Fund also seeks to provide shareholders with
growth of capital. The Fund's objective is fundamental and cannot be changed
without the approval of a 1940 Act majority of the Fund's outstanding shares.
To achieve its objective, the Strategic Growth Fund invests in common
stocks, debt securities of any quality rating, including debt securities
convertible or exchangeable for preferred or common stock, and rights and
warrants to purchase such stocks and securities that it considers to be
consistent with its investment objective. When appropriate, the Fund increases
the quality of its investments to resist downward market movements. The Fund may
also invest in limited partnerships, including master limited partnerships. In
addition, both Funds may invest without limit in foreign securities issued by
issuers located in developed countries as well as emerging market countries,
including certain formerly communist countries.
When market conditions warrant, in short term investments for defensive
purposes. Such instruments, which must mature within one year of their purchase,
include United States ("U.S.") government securities, instruments, including
certificates of deposit, demand and time deposits and banker's acceptances, of
banks that are members of the Federal Deposit Insurance Corporation and have at
least $1 billion in assets as of the date of their most recently published
financial statements, including U.S. branches of foreign banks and foreign banks
and foreign branches of U.S. banks; and prime commercial paper, including master
demand notes.
The characteristics of each investment policy and the associated risks
are described in the Prospectus and Statement of Additional Information of each
Fund. Both the Strategic Growth Fund and the Mid-Cap Growth Fund have other
investment policies and restrictions that are also set forth in the Prospectus
and Statement of Additional Information of each Fund.
COMPARATIVE INFORMATION ON SHAREHOLDERS' RIGHTS
FORM OF ORGANIZATION
The Mid-Cap Growth Fund and the Strategic Growth Fund are open-end
management investment companies registered with the SEC under the 1940 Act,
which continuously offer shares to the public. Each is organized as a
Pennsylvania common law trust and is governed by a Trust Agreement, By-Laws, and
Board of Trustees. Both are also governed by applicable Pennsylvania and Federal
law.
CAPITALIZATION
The beneficial interests in both the Strategic Growth Fund and the
Mid-Cap Growth Fund are represented by an unlimited number of transferable
shares of beneficial interest with a $1.00 par value per share. The respective
Trust Agreements under which each Fund has been established permit the
respective Trustees to create additional series and/or classes of series of Fund
shares, with rights determined by the Trustees, all without shareholder
approval. Fractional shares may be issued. Each Fund's shares have equal voting
rights with respect to matters affecting shareholders of all classes of each
Fund and represent equal proportionate interests in the assets belonging to the
Funds. Shareholders of each Fund are entitled to receive dividends and other
amounts as determined by the Mid-Cap Growth Fund's Trustees or Strategic Growth
Fund's Trustees.
SHAREHOLDER LIABILITY
Under Pennsylvania law, shareholders of a common law trust could, under
certain circumstances, be held personally liable for the obligations of the
trust. However, the Funds' respective Trust Agreements disclaim shareholder
liability for acts or obligations of the Fund and require that notice of such
disclaimer be given in each agreement, obligation, or instrument entered into or
executed by the Fund or the Trustees. The Trust Agreements provide for
indemnification out of the Fund's property for all losses and expenses of any
shareholder held personally liable for the obligations of the Fund. Thus, the
risk of a shareholder incurring financial loss on account of shareholder
liability is considered remote since it is limited to circumstances in which a
disclaimer is inoperative and the Fund would be unable to meet its obligations.
SHAREHOLDER MEETINGS AND VOTING RIGHTS
Neither the Mid-Cap Growth Fund nor Strategic Growth Fund is required to
hold annual meetings of shareholders. However, a meeting of shareholders for the
purpose of voting upon the question of removal of a Trustee must be called when
requested in writing by the holders of at least 10% of the outstanding shares.
In addition, each is required to call a meeting of shareholders for the purpose
of electing Trustees if, at any time, less than a majority of the Trustees then
holding office were elected by shareholders. If Trustees of the Strategic Growth
Fund fail or refuse to call a meeting as required by its By-laws after a request
in writing by shareholders holding an aggregate of at least 10% of the shares
outstanding, then shareholders holding said 10% may call and give notice of such
meeting. The Strategic Growth Fund and the Mid-Cap Growth Fund currently do not
intend to hold regular shareholder meetings. Neither permits cumulative voting.
A majority of shares outstanding and entitled to vote on a matter constitutes a
quorum for consideration of such matter. In either case, a majority of the
shares voting is sufficient to act on a matter (unless otherwise specifically
required by the applicable governing documents or other law, including the 1940
Act).
LIQUIDATION OR DISSOLUTION
In the event of the liquidation of a Fund, the shareholders are entitled
to receive, when, and as declared by the Trustees, the excess of the assets
belonging to such Fund over the liabilities belonging to the Fund. In either
case, the assets so distributable to shareholders of the Fund will be
distributed among the shareholders in proportion to the number of shares of the
Fund held by them and recorded on the books of the Fund.
LIABILITY AND INDEMNIFICATION OF TRUSTEES
The Trust Agreement of each of the Funds provide that a Trustee will
not be liable for errors of judgment or mistake of fact or law, but nothing in
the Trust Agreement protects a Trustee against any liability to which he would
otherwise be subject by reason of willful misfeasance, bad faith, gross
negligence, or reckless disregard of his duties involved in the conduct of his
office. The Trust Agreement provides that a Trustee or officer is entitled to
indemnification against liabilities and expenses with respect to claims related
to his or her position with the Fund, unless such Trustee or officer shall have
been adjudicated to have acted with bad faith, willful misfeasance, or gross
negligence, or in reckless disregard of his or her duties, or not to have acted
in good faith in the reasonable belief that his or her action was in the best
interest of the Fund, or, in the event of settlement, unless there has been a
determination that such Trustee or officer has not engaged in willful
misfeasance, bad faith, gross negligence, or reckless disregard of his or her
duties.
The foregoing is only a summary of certain characteristics of the
operations of the Trust Agreements, By-Laws, and Pennsylvania law and is not a
complete description of those documents or law. Shareholders should refer to the
provisions of such respective Trust Agreements, By-Laws, and Pennsylvania law
directly for more complete information.
ADDITIONAL INFORMATION
STRATEGIC GROWTH FUND. Information concerning the operation and
management of the Strategic Growth Fund is incorporated herein by reference from
the Prospectus dated February 28, 1997, a copy of which is enclosed, and
Statement of Additional Information dated the same date. A copy of such
Statement of Additional Information is available upon request and without charge
by writing to the Strategic Growth Fund at the address listed on the cover page
of this Prospectus/Proxy Statement or by calling toll-free 1-800-343-2898.
MID-CAP GROWTH FUND. Information concerning the operation and
management of the Mid-Cap Growth Fund is incorporated herein by reference from
the Prospectus dated December 10, 1996, as supplemented December 11, 1996, a
copy of which is enclosed, and Statement of Additional Information dated the
same date. A copy of such Statement of Additional Information is available upon
request and without charge by writing to the Mid-Cap Growth Fund at the address
listed on the cover page of this Prospectus/Proxy Statement or by calling
toll-free 1-800-343-2898.
The Strategic Growth Fund and the Mid-Cap Growth Fund are each subject
to the informational requirements of the Securities Exchange Act of 1934 and the
1940 Act, and in accordance therewith file reports and other information
including proxy material, and charter documents with the SEC. These items can be
inspected and copies obtained at the Public Reference Facilities maintained by
the SEC at 450 Fifth Street, N.W., Washington, D.C. 20549, and at the SEC's
Regional Offices located at Northwest Atrium Center, 500 West Madison Street,
Chicago, Illinois 60661-2511 and Seven World Trade Center, Suite 1300, New York,
New York 10048.
VOTING INFORMATION CONCERNING THE MEETING
This Prospectus/Proxy Statement is furnished in connection with a
solicitation of proxies by the Board of Trustees of the Mid-Cap Growth Fund to
be used at the Special Meeting of Shareholders to be held at 3:00 p.m., June 30,
1997, at the offices of the Mid-Cap Growth Fund, 200 Berkeley Street, Boston,
Massachusetts 02116 and at any adjournments thereof. This Prospectus/Proxy
Statement, along with a Notice of the Meeting and a proxy card, is first being
mailed to shareholders on or about May [ __ ], 1997. Only shareholders of record
as of the close of business on the Record Date will be entitled to notice of,
and to vote at, the Meeting or any adjournment thereof. The holders of a
majority of the shares outstanding at the close of business on the Record Date
present in person or represented by proxy will constitute a quorum for the
Meeting. If the enclosed form of proxy is properly executed and returned in time
to be voted at the Meeting, the proxies named therein will vote the shares
represented by the proxy in accordance with the instructions marked thereon.
Unmarked proxies will be voted FOR the proposed Reorganization and FOR any other
matters deemed appropriate. Proxies that reflect abstentions and "broker
non-votes" (i.e., shares held by brokers or nominees as to which (i)
instructions have not been received from the beneficial owners or the persons
entitled to vote or (ii) the broker or nominee does not have discretionary
voting power on a particular matter) will be counted as shares that are present
and entitled to vote for purposes of determining the presence of a quorum, but
will have no effect on the outcome of the vote to approve the Plan. A proxy may
be revoked at any time on or before the Meeting by written notice to the
Secretary of the Mid-Cap Growth Fund, 200 Berkeley Street, Boston, Massachusetts
02116. Unless revoked, all valid proxies will be voted in accordance with the
specifications thereon or, in the absence of such specifications, FOR approval
of the Plan and the Reorganization contemplated thereby.
Approval of the Plan will require the affirmative vote of a majority of
the shares present and entitled to vote at a meeting at which a quorum is
present. Each full share outstanding is entitled to one vote and each fractional
share outstanding is entitled to a proportionate share of one vote.
Proxy solicitations will be made primarily by mail, but proxy
solicitations may also be made by telephone, telegraph or personal solicitations
conducted by officers and employees of FUNB or Keystone, their affiliates or
other representatives of the Mid-Cap Growth Fund (who will not be paid for their
solicitation activities). Corporate Investors Communications, Inc. ("CIC") has
been engaged by the Mid-Cap Growth Fund to assist in soliciting proxies, and may
contact certain shareholders of the Mid-Cap Growth Fund over the telephone.
Shareholders that are contacted by may be asked to cast their vote by telephonic
proxy. Such proxies will be recorded in accordance with the procedures set forth
below. The Mid-Cap Growth Fund believes these procedures are reasonably designed
to ensure that the identity of the shareholder casting the vote is accurately
determined and that the voting instructions of the shareholder are accurately
reflected. The Mid-Cap Growth Fund has received an opinion of Kirkpatrick &
Lockhart LLP that addresses the validity, under the applicable law of the State
of Pennsylvania, of a proxy given orally. The opinion concludes that a
Pennsylvania court would find that there is no Pennsylvania law or Pennsylvania
public policy against the acceptance of proxies signed by an orally-authorized
agent.
In all cases where a telephonic proxy is solicited, the CIC
representative will ask you for your full name, address, social security, or
employer identification number, title (if you are authorized to act on behalf of
an entity, such as a corporation), and number of shares owned. If the
information solicited agrees with the information provided to CIC by the
transfer agent to the Mid-Cap Growth Fund, then the CIC representative will
explain the process, read the proposals listed on the proxy card and ask for
your instructions on each proposal. The CIC representative, although he or she
will answer questions about the process, will not recommend to the shareholder
how he or she should vote, other than to read any recommendations set forth in
the proxy statement. Within 72 hours, CIC will send you a letter or mailgram to
confirm your vote and asking you to call immediately if your instructions are
not correctly reflected in the confirmation.
It is expected that the cost of retaining CIC to assist in the proxy
solicitation process will not exceed $[___], which cost will be borne by FUNB.
If you wish to participate in the Meeting, but do not wish to give your
proxy by telephone, you may still submit the proxy card included with this
Prospectus/Proxy Statement or attend in person. Any proxy given by you, whether
in writing or by telephone, is revocable.
In the event that sufficient votes to approve the Reorganization are
not received by June 30, 1997, the persons named as proxies may propose one or
more adjournments of the Meeting to permit further solicitation of proxies. In
determining whether to adjourn the Meeting, the following factors may be
considered: the percentage of votes actually cast, the percentage of negative
votes actually cast, the nature of any further solicitation and the information
to be provided to shareholders with respect to the reasons for the solicitation.
Any such adjournment will require an affirmative vote by the holders of a
majority of the shares present in person or by proxy and entitled to vote at the
Meeting. The persons named as proxies will vote upon such adjournment after
consideration of all circumstances which may bear upon a decision to adjourn the
Meeting.
A shareholder who objects to the proposed Reorganization will not be
entitled under either Pennsylvania law or the Trust Agreement of the Mid-Cap
Growth Fund to demand payment for, or an appraisal of, his or her shares.
However, shareholders should be aware that the Reorganization as proposed is not
expected to result in recognition of gain or loss to shareholders for federal
income tax purposes and that, if the Reorganization is consummated, shareholders
will be free to redeem the shares of the Strategic Growth Fund that they receive
in the transaction at their then-current net asset value subject to any
applicable CDSC. Shares of the Mid-Cap Growth Fund may be redeemed at any time
prior to the consummation of the Reorganization. Mid-Cap Growth Fund
shareholders may wish to consult their tax advisers as to any differing
consequences of redeeming Mid-Cap Growth Fund shares prior to the Reorganization
or exchanging such shares in the Reorganization.
The Mid-Cap Growth Fund does not hold annual shareholder meetings. If
the Reorganization is not approved, shareholders wishing to submit proposals for
consideration for inclusion in a proxy statement for a subsequent shareholder
meeting should send their written proposals to the Secretary of the Mid-Cap
Growth Fund at the address set forth on the cover of this Prospectus/Proxy
Statement such that they will be received by the Mid-Cap Growth Fund in a
reasonable period of time prior to any such meeting.
The votes of the shareholders of the Strategic Growth Fund are not
being solicited by this Prospectus/Proxy Statement and are not required to carry
out the Reorganization.
NOTICE TO BANKS, BROKER-DEALERS AND VOTING TRUSTEES AND THEIR NOMINEES.
Please advise the Mid-Cap Growth Fund whether other persons are beneficial
owners of shares for which proxies are being solicited and, if so, the number of
copies of this Prospectus/Proxy Statement needed to supply copies to the
beneficial owners of the respective shares.
FINANCIAL STATEMENTS AND EXPERTS
The financial statements of Mid-Cap Growth Fund as of August 31, 1996
and the financial highlights for the periods indicated therein have been
incorporated by reference into this Prospectus/Proxy Statement in reliance upon
the report of KPMG Peat Marwick LLP, independent certified public accountants,
incorporated by reference herein, and upon the authority of said firm as experts
in accounting and auditing.
The financial statements of Strategic Growth Fund as of October 31,
1996 and the financial highlights for the periods indicated therein have been
incorporated by reference into this Prospectus/Proxy Statement in reliance upon
the report of KPMG Peat Marwick LLP, independent certified public accountants,
incorporated by reference herein, and upon the authority of said firm as experts
in accounting and auditing.
LEGAL MATTERS
Certain legal matters concerning the issuance of shares of the
Strategic Growth Fund will be passed upon by Kirkpatrick & Lockhart LLP,
Pittsburgh, Pennsylvania.
OTHER BUSINESS
The Trustees of the Mid-Cap Growth Fund do not intend to present any
other business at the Meeting. If, however, any other matters are properly
brought before the Meeting, the persons named in the accompanying form of proxy
will vote thereon in accordance with their judgment.
THE BOARD OF TRUSTEES OF THE MID-CAP GROWTH FUND, INCLUDING THE
INDEPENDENT TRUSTEES, RECOMMENDS APPROVAL OF THE PLAN AND ANY UNMARKED PROXIES
WITHOUT INSTRUCTIONS TO THE CONTRARY WILL BE VOTED IN FAVOR OF APPROVAL OF THE
PLAN.
May [ __ ] , 1997
19219
<PAGE>
EXHIBIT A
AGREEMENT AND PLAN OF REORGANIZATION
THISAGREEMENT AND PLAN OF REORGANIZATION (the "Agreement") is made as of this
day of , 1997, by and between Keystone Strategic Growth Fund (K-2),
a Pennsylvania common law trust, with its principal place of business at 200
Berkeley Street, Boston, Massachusetts 02116, with respect to its Keystone
Strategic Growth Fund (K-2) series (the "Acquiring Fund"), and Keystone Mid- Cap
Growth Fund (S-3), a Pennsylvania common law trust, with its principal place of
business at 200 Berkeley Street, Boston, Massachusetts 02116, with respect to
its Keystone Mid-Cap Growth Fund (S-3) series (the "Selling Fund").
This Agreement is intended to be, and is adopted as a plan of reorganization and
liquidation within the meaning of Section 368 (a)(1)(C) of the United States
Internal Revenue Code of 1986, as amended (the "Code"). The reorganization (the
"Reorganization") will consist of (i) the transfer of all of the assets of the
Selling Fund in exchange solely for shares of beneficial interest, $1.00 par
value per share, of the Acquiring Fund (the "Acquiring Fund Shares"); (ii) the
assumption by the Acquiring Fund of [ ____ ] liabilities of the Selling Fund;
(iii) and the distribution, after the Closing Date hereinafter referred to, of
the Acquiring Fund Shares to the shareholders of the Selling Fund in liquidation
of the Selling Fund as provided herein, all upon the terms and conditions
hereinafter set forth in this Agreement.
WHEREAS, each of the Selling Fund and the Acquiring Fund is the sole investment
series of an open-end, registered investment company of the management type, and
the Selling Fund owns securities that generally are assets of the character in
which the Acquiring Fund is permitted to invest;
WHEREAS, both Funds are authorized to issue their shares of beneficial
interest;
WHEREAS, the Trustees of the Keystone Strategic Growth Fund (K-2) have
determined that the exchange of all of the identified assets of the Selling Fund
for Acquiring Fund Shares and the assumption of [ ____ ] liabilities of the
Selling Fund by the Acquiring Fund on the terms and conditions hereinafter set
forth are in the best interests of the Acquiring Fund's shareholders and that
the interests of the existing shareholders of the Acquiring Fund will not be
diluted as a result of the transactions contemplated herein;
WHEREAS, the Trustees of the Keystone Mid-Cap Growth Fund (S-3) have determined
that the Selling Fund should exchange all of its assets and all of its
liabilities for Acquiring Fund Shares and that the interests of the existing
shareholders of the Selling Fund will not be diluted as a result of the
transactions contemplated herein;
NOW, THEREFORE, in consideration of the premises and of the covenants and
agreements hereinafter set forth, the parties hereto covenant and agree as
follows:
ARTICLE I
TRANSFER OF ASSETS OF THE SELLING FUND IN EXCHANGE FOR
THE ACQUIRING FUND SHARES AND ASSUMPTION OF SELLING FUND
LIABILITIES AND LIQUIDATION OF THE SELLING FUND
1.1 The Exchange. Subject to the terms and conditions herein set forth and on
the basis of the representations and warranties contained herein, the Selling
Fund agrees to transfer all of the Selling Fund's assets as set forth in
paragraph 1.2 to the Acquiring Fund. The Acquiring Fund agrees in exchange
therefor (i) to deliver to the Selling Fund the number of Acquiring Fund Shares,
including fractional Acquiring Fund Shares, determined by multiplying the shares
outstanding of the Selling Fund by the ratio computed by dividing the net asset
value per share of each such class of the Selling Fund by the net asset value
per share of Acquiring Fund Shares computed in the manner and as of the time and
date set forth in paragraph 2.2; and (ii) to assume [ ____ ] liabilities of the
Selling Fund, as set forth in paragraph 1.3. Such transactions shall take place
at the closing provided for in paragraph 3.1 (the "Closing Date").
1.2 Assets to be Acquired. The assets of the Selling Fund to be acquired by the
Acquiring Fund shall consist of all property, including, without limitation, all
cash, securities, commodities, and futures interests and dividends or interest
receivables, that is owned by the Selling Fund and any deferred or prepaid
expenses shown as an asset on the books of the Selling Fund on the Closing Date.
The Selling Fund has provided the Acquiring Fund with its most recent audited
financial statements, which contain a list of all of Selling Fund's assets as of
the date thereof. The Selling Fund hereby represents that as of the date of the
execution of this Agreement there have been no changes in its financial position
as reflected in said financial statements other than those occurring in the
ordinary course of its business in connection with the purchase and sale of
securities and the payment of its normal operating expenses. The Selling Fund
reserves the right to sell any of such securities, but will not, without the
prior written approval of the Acquiring Fund, acquire any additional securities
other than securities of the type in which the Acquiring Fund is permitted to
invest.
The Acquiring Fund will, within a reasonable time prior to the Closing Date,
furnish the Selling Fund with a statement of the Acquiring Fund's investment
objectives, policies, and restrictions and a list of the securities, if any, on
the Selling Fund's list referred to in the second sentence of this paragraph
that do not conform to the Acquiring Fund's investment objectives, policies, and
restrictions. In the event that the Selling Fund holds any investments that the
Acquiring Fund may not hold, the Selling Fund will dispose of such securities
prior to the Closing Date. In addition, if it is determined that the Selling
Fund and the Acquiring Fund portfolios, when aggregated, would contain
investments exceeding certain percentage limitations imposed upon the Acquiring
Fund with respect to such investments, the Selling Fund if requested by the
Acquiring Fund will dispose of a sufficient amount of such investments as may be
necessary to avoid violating such limitations as of the Closing Date.
1.3 Liabilities to be Assumed. The Selling Fund will endeavor to discharge all
of its known liabilities and obligations prior to the Closing Date. [The
acquiring Fund shall assume only those liabilities, expenses, costs, charges and
reserves reflected on a Statement of Assets and Liabilities of the Selling Fund
prepared on behalf of the Selling Fund, as of the Valuation Date (as defined in
paragraph 2.1), in accordance with generally accepted accounting principles
consistently applied from the prior audited period. The Acquiring Fund shall
assume only those liabilities of the Selling Fund reflected in such Statement of
Assets and Liabilities and shall not assume any other liabilities, whether
absolute or contingent, known or unknown, accrued or unaccrued, all of which
shall remain the obligation of the Selling Fund.]
In addition, for purposes of calculating upon completion of the Reorganization,
the maximum amount permitted to be charged to the Acquiring Fund under the
National Association of Securities Dealers, Inc. Conduct Rule 2830 minus the
amount of the sales charges paid or accrued (including asset based sales
charges), plus permitted interest ("Aggregate NASD Cap"), the Acquiring Fund
will add to its existing Aggregate NASD Cap the Aggregate NASD Cap of the
Selling Fund immediately prior to the Reorganization.
1.4 Liquidation and Distribution. On or soon after the Closing Date as is
conveniently practicable (the "Liquidation Date"), (a) the Selling Fund will
liquidate and distribute pro rata to the Selling Fund's shareholders of record,
determined as of the close of business on the Valuation Date (the "Selling Fund
Shareholders"), the Acquiring Fund Shares received by the Selling Fund pursuant
to paragraph 1.1; and (b) the Selling Fund will thereupon proceed to dissolve as
set forth in paragraph 1.8 below. Such liquidation and distribution will be
accomplished by the transfer of the Acquiring Fund Shares then credited to the
account of the Selling Fund on the books of the Acquiring Fund to open accounts
on the share records of the Acquiring Fund in the names of the Selling Fund
Shareholders and representing the respective pro rata number of the Acquiring
Fund Shares due such shareholders. All issued and outstanding shares of the
Selling Fund will simultaneously be cancelled on the books of the Selling Fund.
The Acquiring Fund shall not issue certificates representing the Acquiring Fund
Shares in connection with such exchange.
1.5 Ownership of Shares. Ownership of Acquiring Fund Shares will be shown on the
books of the Acquiring Fund's transfer agent. Shares of the Acquiring Fund will
be issued in the manner described in the combined Prospectus and Proxy Statement
on Form N-14 to be distributed to shareholders of the Selling Fund as described
in paragraph 5.7.
1.6 Transfer Taxes. Any transfer taxes payable upon issuance of the Acquiring
Fund Shares in a name other than the registered holder of the Selling Fund
shares on the books of the Selling Fund as of that time shall, as a condition of
such issuance and transfer, be paid by the person to whom such Acquiring Fund
Shares are to be issued and transferred.
1.7 Reporting Responsibility. Any reporting responsibility of the Selling Fund
is and shall remain the responsibility of the Selling Fund up to and including
the Closing Date and such later date on which the Selling Fund is terminated.
1.8 Termination. The Selling Fund shall be terminated promptly following the
Closing Date and the making of all distributions pursuant to paragraph 1.4.
ARTICLE II
VALUATION
2.1 Valuation of Assets. The value of the Selling Fund's assets to be acquired
by the Acquiring Fund hereunder shall be the value of such assets computed as of
the close of business on the New York Stock Exchange on the business day next
preceding the Closing Date (such time and date being hereinafter called the
"Valuation Date"), using the valuation procedures set forth in the Keystone
Strategic Growth Fund (K-2)'s Declaration of Trust and the Acquiring Fund's then
current prospectus and statement of additional information or such other
valuation procedures as shall be mutually agreed upon by the parties.
2.2 Valuation of Shares. The net asset value per share of the Acquiring Fund
Shares shall be the net asset value per share computed as of the close of
business on the New York Stock Exchange on the Valuation Date, using the
valuation procedures set forth in the Keystone Strategic Growth Fund (K-2)'s
Declaration of Trust and the Acquiring Fund's then current prospectus and
statement of additional information.
2.3 Shares to be Issued. The number of the Acquiring Fund Shares of each class
to be issued (including fractional shares, if any) in exchange for the Selling
Fund's assets shall be determined by multiplying the shares outstanding of each
class of the Selling Fund by the ratio computed by dividing the net asset value
per share of the Selling Fund attributable to each of its classes by the net
asset value per share of the respective classes of the Acquiring Fund determined
in accordance with paragraph 2.2.
2.4 Determination of Value. All computations of value shall be made by State
Street Bank and Trust Company in accordance with its regular practice in pricing
the shares and assets of the Acquiring Fund.
ARTICLE III
CLOSING AND CLOSING DATE
3.1 Closing Date. The Closing (the "Closing") shall take place on or such other
date as the parties may agree to in writing (the "Closing Date"). All acts
taking place at the Closing shall be deemed to take place simultaneously
immediately prior to the opening of business on the Closing Date unless
otherwise provided. The Closing shall be held as of 9:00a.m. at the offices of
Keystone Investment Management Company, 200 Berkeley Street, Boston, MA 02116,
or at such other time and/or place as the parties may agree.
3.2 Custodian's Certificate. State Street Bank and Trust Company, as custodian
for the Selling Fund (the "Custodian"), shall deliver at the Closing a
certificate of an authorized officer stating that (a) the Selling Fund's
portfolio securities, cash, and any other assets shall have been delivered in
proper form to the Acquiring Fund on the Closing Date; and (b) all necessary
taxes including all applicable Federal and state stock transfer stamps, if any,
shall have been paid, or provision for payment shall have been made, in
conjunction with the delivery of portfolio securities by the Selling Fund.
3.3 Effect of Suspension in Trading. In the event that on the Valuation Date (a)
the New York Stock Exchange or another primary trading market for portfolio
securities of the Acquiring Fund or the Selling Fund shall be closed to trading
or trading thereon shall be restricted; or (b) trading or the reporting of
trading on said Exchange or elsewhere shall be disrupted so that accurate
appraisal of the value of the net assets of the Acquiring Fund or the Selling
Fund is impracticable, the Valuation Date shall be postponed until the first
business day after the day when trading shall have been fully resumed and
reporting shall have been restored.
3.4 Transfer Agent's Certificate. Evergreen Keystone Service Company, as
transfer agent for the Selling Fund as of the Closing Date ("EKSC"), shall
deliver at the Closing a certificate of an authorized officer stating that its
records contain the names and addresses of the Selling Fund Shareholders and the
number and percentage ownership of outstanding shares owned by each such
shareholder immediately prior to the Closing. The Acquiring Fund shall issue and
deliver or cause EKSC, its transfer agent as of the Closing Date, to issue and
deliver a confirmation evidencing the Acquiring Fund Shares to be credited on
the Closing Date to the Secretary of the Keystone Mid-Cap Growth Fund (S- 3), or
provide evidence satisfactory to the Selling Fund that such Acquiring Fund
Shares have been credited to the Selling Fund's account on the books of the
Acquiring Fund. At the Closing, each party shall deliver to the other such bills
of sale, checks, assignments, share certificates, if any, receipts and other
documents as such other party or its counsel may reasonably request.
ARTICLE IV
REPRESENTATIONS AND WARRANTIES
4.1 Representations of the Selling Fund. The Selling Fund represents and
warrants to the Acquiring Fund as follows:
(a) The Selling Fund is the sole investment series of a Pennsylvania common
law trust duly organized, validly existing, and in good standing under
the laws of The Commonwealth of Pennsylvania.
(b) The Selling Fund is a separate investment series of a registered
investment company classified as a management company of the open-end
type, and its registration with the Securities and Exchange Commission
(the "Commission") as an investment company under the Investment
Company Act of 1940, as amended (the "1940 Act"), is in full force and
effect.
(c) The current prospectus and statement of additional information of the
Selling Fund conform in all material respects to the applicable
requirements of the Securities Act of 1933, as amended (the "1933
Act"), and the 1940 Act and the rules and regulations of the Commission
thereunder and do not include any untrue statement of a material fact
or omit to state any material fact required to be stated therein or
necessary to make the statements therein, in light of the circumstances
under which they were made, not misleading.
(d) The Selling Fund is not, and the execution, delivery, and performance
of this Agreement (subject to shareholder approval) will not, result in
a violation of any provision of the Keystone Mid-Cap Growth Fund
(S-3)'s Declaration of Trust or By-Laws or of any material agreement,
indenture, instrument, contract, lease, or other undertaking to which
the Selling Fund is a party or by which it is bound.
(e) The Selling Fund has no material contracts or other commitments (other
than this Agreement) that will be terminated with liability to it prior
to the Closing Date.
(f) Except as otherwise disclosed in writing to and accepted by the
Acquiring Fund, no litigation, administrative proceeding, or
investigation of or before any court or governmental body is presently
pending or to its knowledge threatened against the Selling Fund or any
of its properties or assets, which, if adversely determined, would
materially and adversely affect its financial condition, the conduct of
its business, or the ability of the Selling Fund to carry out the
transactions contemplated by this Agreement. The Selling Fund knows of
no facts that might form the basis for the institution of such
proceedings and is not a party to or subject to the provisions of any
order, decree, or judgment of any court or governmental body that
materially and adversely affects its business or its ability to
consummate the transactions herein contemplated.
(g) The financial statements of the Selling Fund at August 31, 1996 have
been audited by KPMG Peat Marwick LLP, certified public accountants,
and are in accordance with generally accepted accounting principles
consistently applied, and such statements (copies of which have been
furnished to the Acquiring Fund) fairly reflect the financial condition
of the Selling Fund as of such date, and there are no known contingent
liabilities of the Selling Fund as of such date not disclosed therein.
(h) Since August 31, 1996, there has not been any material adverse change
in the Selling Fund's financial condition, assets, liabilities, or
business other than changes occurring in the ordinary course of
business, or any incurrence by the Selling Fund of indebtedness
maturing more than one year from the date such indebtedness was
incurred, except as otherwise disclosed to and accepted by the
Acquiring Fund. For the purposes of this subparagraph (h), a decline in
the net asset value of the Selling Fund shall not constitute a material
adverse change.
(i) At the Closing Date, all Federal and other tax returns and reports of
the Selling Fund required by law to have been filed by such dates shall
have been filed, and all Federal and other taxes shown due on said
returns and reports shall have been paid, or provision shall have been
made for the payment thereof. To the best of the Selling Fund's
knowledge, no such return is currently under audit, and no assessment
has been asserted with respect to such returns.
(j) For each fiscal year of its operation, the Selling Fund has met the
requirements of Subchapter M of the Code for qualification and
treatment as a regulated investment company and has distributed in each
such year all net investment income and realized capital gains.
(k) All issued and outstanding shares of the Selling Fund are, and at the
Closing Date will be, duly and validly issued and outstanding, fully
paid and non-assessable by the Selling Fund. All of the issued and
outstanding shares of the Selling Fund will, at the time of the Closing
Date, be held by the persons and in the amounts set forth in the
records of the transfer agent as provided in paragraph 3.4. The Selling
Fund does not have outstanding any options, warrants, or other rights
to subscribe for or purchase any of the Selling Fund shares, nor is
there outstanding any security convertible into any of the Selling Fund
shares.
(l) At the Closing Date, the Selling Fund will have good and marketable
title to the Selling Fund's assets to be transferred to the Acquiring
Fund pursuant to paragraph 1.2 and full right, power, and authority to
sell, assign, transfer, and deliver such assets hereunder, and, upon
delivery and payment for such assets, the Acquiring Fund will acquire
good and marketable title thereto, subject to no restrictions on the
full transfer thereof, including such restrictions as might arise under
the 1933 Act, other than as disclosed to the Acquiring Fund and
accepted by the Acquiring Fund.
(m) The execution, delivery, and performance of this Agreement have been
duly authorized by all necessary action on the part of the Selling Fund
and, subject to approval by the Selling Fund Shareholders, this
Agreement constitutes a valid and binding obligation of the Selling
Fund, enforceable in accordance with its terms, subject as to
enforcement, to bankruptcy, insolvency, reorganization, moratorium, and
other laws relating to or affecting creditors' rights and to general
equity principles.
(n) The information to be furnished by the Selling Fund for use in
no-action letters, applications for orders, registration statements,
proxy materials, and other documents that may be necessary in
connection with the transactions contemplated hereby shall be accurate
and complete in all material respects and shall comply in all material
respects with Federal securities and other laws and regulations
thereunder applicable thereto.
(o) The proxy statement of the Selling Fund to be included in the
Registration Statement (as defined in paragraph 5.7)(other than
information therein that relates to the Acquiring Fund) will, on the
effective date of the Registration Statement and on the Closing Date,
not contain any untrue statement of a material fact or omit to state a
material fact required to be stated therein or necessary to make the
statements therein, in light of the circumstances under which such
statements were made, not misleading.
4.2 Representations of the Acquiring Fund. The Acquiring Fund represents and
warrants to the Selling Fund as follows:
(a) The Acquiring Fund is the sole investment series of a Pennsylvania
common law trust duly organized, validly existing and in good standing
under the laws of The Commonwealth of Pennsylvania.
(b) The Acquiring Fund is the sole investment series of a Pennsylvania
common law trust that is registered as an investment company classified
as a management company of the open-end type, and its registration with
the Commission as an investment company under the 1940 Act is in full
force and effect.
(c) The current prospectus and statement of additional information of the
Acquiring Fund conform in all material respects to the applicable
requirements of the 1933 Act and the 1940 Act and the rules and
regulations of the Commission thereunder and do not include any untrue
statement of a material fact or omit to state any material fact
required to be stated therein or necessary to make the statements
therein, in light of the circumstances under which they were made, not
misleading.
(d) The Acquiring Fund is not, and the execution, delivery and performance
of this Agreement will not, result in a violation of the Keystone
Strategic Growth Fund (K-2)'s Declaration of Trust or By-Laws or of any
material agreement, indenture, instrument, contract, lease, or other
undertaking to which the Acquiring Fund is a party or by which it is
bound.
(e) Except as otherwise disclosed in writing to the Selling Fund and
accepted by the Selling Fund, no litigation, administrative proceeding
or investigation of or before any court or governmental body is
presently pending or to its knowledge threatened against the Acquiring
Fund or any of its properties or assets, which, if adversely
determined, would materially and adversely affect its financial
condition and the conduct of its business or the ability of the
Acquiring Fund to carry out the transactions contemplated by this
Agreement. The Acquiring Fund knows of no facts that might form the
basis for the institution of such proceedings and is not a party to or
subject to the provisions of any order, decree, or judgment of any
court or governmental body that materially and adversely affects its
business or its ability to consummate the transactions contemplated
herein.
(f) The financial statements of the Acquiring Fund at October 31, 1996 have
been audited by KPMG Peat Marwick LLP, certified public accountants,
and are in accordance with generally accepted accounting principles
consistently applied, and such statements (copies of which have been
furnished to the Selling Fund) fairly reflect the financial condition
of the Acquiring Fund as of such date, and there are no known
contingent liabilities of the Acquiring Fund as of such date not
disclosed therein.
(g) Since October 31, 1996, there has not been any material adverse change
in the Acquiring Fund's financial condition, assets, liabilities, or
business other than changes occurring in the ordinary course of
business, or any incurrence by the Acquiring Fund of indebtedness
maturing more than one year from the date such indebtedness was
incurred, except as otherwise disclosed to and accepted by the Selling
Fund. For the purposes of this subparagraph (g), a decline in the net
asset value of the Acquiring Fund shall not constitute a material
adverse change.
(h) At the Closing Date, all Federal and other tax returns and reports of
the Acquiring Fund required by law then to be filed by such dates shall
have been filed, and all Federal and other taxes shown due on said
returns and reports shall have been paid or provision shall have been
made for the payment thereof. To the best of the Acquiring Fund's
knowledge, no such return is currently under audit, and no assessment
has been asserted with respect to such returns.
(i) For each fiscal year of its operation the Acquiring Fund has met the
requirements of Subchapter M of the Code for qualification and
treatment as a regulated investment company and has distributed in each
such year all net investment income and realized capital gains.
(j) All issued and outstanding Acquiring Fund Shares are, and at the
Closing Date will be, duly and validly issued and outstanding, fully
paid and non-assessable. The Acquiring Fund does not have outstanding
any options, warrants, or other rights to subscribe for or purchase any
Acquiring Fund Shares, nor is there outstanding any security
convertible into any Acquiring Fund Shares.
(k) The execution, delivery, and performance of this Agreement have been
duly authorized by all necessary action on the part of the Acquiring
Fund, and this Agreement constitutes a valid and binding obligation of
the Acquiring Fund enforceable in accordance with its terms, subject as
to enforcement, to bankruptcy, insolvency, reorganization, moratorium,
and other laws relating to or affecting creditors' rights and to
general equity principles.
(l) The Acquiring Fund Shares to be issued and delivered to the Selling
Fund, for the account of the Selling Fund Shareholders, pursuant to the
terms of this Agreement will, at the Closing Date, have been duly
authorized and, when so issued and delivered, will be duly and validly
issued Acquiring Fund Shares, and will be fully paid and
non-assessable.
(m) The information to be furnished by the Acquiring Fund for use in
no-action letters, applications for orders, registration statements,
proxy materials, and other documents that may be necessary in
connection with the transactions contemplated hereby shall be accurate
and complete in all material respects and shall comply in all material
respects with Federal securities and other laws and regulations
applicable thereto.
(n) The Prospectus and Proxy Statement (as defined in paragraph 5.7) to be
included in the Registration Statement (only insofar as it relates to
the Acquiring Fund ) will, on the effective date of the Registration
Statement and on the Closing Date, not contain any untrue statement of
a material fact or omit to state a material fact required to be stated
therein or necessary to make the statements therein, in light of the
circumstances under which such statements were made, not misleading.
(o) The Acquiring Fund agrees to use all reasonable efforts to obtain the
approvals and authorizations required by the 1933 Act, the 1940 Act,
and such of the state Blue Sky or securities laws as it may deem
appropriate in order to continue its operations after the Closing Date.
ARTICLE V
COVENANTS OF THE ACQUIRING FUND AND THE SELLING FUND
5. 1 Operation in Ordinary Course. The Acquiring Fund and the Selling Fund
each will operate its business in the ordinary course between the date hereof
and the Closing Date. It being understood that such ordinary course of
business will include customary dividends and distributions.
5.2 Approval of Shareholders. The Keystone Mid-Cap Growth Fund (S-3) will call a
meeting of the Selling Fund Shareholders to consider and act upon this Agreement
and to take all other action necessary to obtain approval of the transactions
contemplated herein.
5.3 Investment Representation. The Selling Fund covenants that the Acquiring
Fund Shares to be issued hereunder are not being acquired for the purpose of
making any distribution thereof other than in accordance with the terms of this
Agreement.
5.4 Additional Information. The Selling Fund will assist the Acquiring Fund in
obtaining such information as the Acquiring Fund reasonably requests concerning
the beneficial ownership of the Selling Fund shares.
5.5 Further Action. Subject to the provisions of this Agreement, the Acquiring
Fund and the Selling Fund will each take, or cause to be taken, all action, and
do or cause to be done, all things reasonably necessary, proper or advisable to
consummate and make effective the transactions contemplated by this Agreement,
including any actions required to be taken after the Closing Date.
5.6 Statement of Earnings and Profits. As promptly as practicable, but in any
case within sixty days after the Closing Date, the Selling Fund shall furnish
the Acquiring Fund, in such form as is reasonably satisfactory to the Acquiring
Fund, a statement of the earnings and profits of the Selling Fund for Federal
income tax purposes that will be carried over by the Acquiring Fund as a result
of Section 381 of the Code, and which will be certified by the Keystone Mid-Cap
Growth Fund (S-3)'s President, its Treasurer, and its independent auditors.
5.7 Preparation of Form N-14 Registration Statement. The Selling Fund will
provide the Acquiring Fund with information reasonably necessary for the
preparation of a prospectus, which will include the proxy statement, referred to
in paragraph 4.1(o) (the "Prospectus and Proxy Statement"), all to be included
in a Registration Statement on Form N-14 of the Acquiring Fund (the
"Registration Statement"), in compliance with the 1933 Act, the Securities
Exchange Act of 1934, as amended (the "1934 Act"), and the 1940 Act in
connection with the meeting of the Selling Fund Shareholders to consider
approval of this Agreement and the transactions contemplated herein.
ARTICLE VI
CONDITIONS PRECEDENT TO OBLIGATIONS OF THE SELLING FUND
The obligations of the Selling Fund to consummate the transactions
provided for herein shall be subject, at its election, to the performance by the
Acquiring Fund of all the obligations to be performed by it hereunder on or
before the Closing Date, and, in addition thereto, the following further
conditions:
6.1 All representations, covenants, and warranties of the Acquiring Fund
contained in this Agreement shall be true and correct as of the date hereof and
as of the Closing Date with the same force and effect as if made on and as of
the Closing Date, and the Acquiring Fund shall have delivered to the Selling
Fund a certificate executed in its name by the Keystone Strategic Growth Fund
(K-2)'s President or Vice President and its Treasurer or Assistant Treasurer, in
form and substance reasonably satisfactory to the Selling Fund and dated as of
the Closing Date, to such effect and as to such other matters as the Selling
Fund shall reasonably request.
6.2 The Selling Fund shall have received on the Closing Date an opinion from
Sullivan & Worcester LLP, counsel to the Acquiring Fund, dated as of the Closing
Date, in a form reasonably satisfactory to the Selling Fund, covering the
following points:
(a) The Acquiring Fund is the sole investment series of a Pennsylvania
common law trust duly organized, validly existing and in good standing
under the laws of The Commonwealth of Pennsylvania and has the power to
own all of its properties and assets and to carry on its business as
presently conducted.
(b) The Acquiring Fund is the sole investment series of a Pennsylvania
common law trust registered as an investment company under the 1940
Act, and, to such counsel's knowledge, such registration with the
Commission as an investment company under the 1940 Act is in full force
and effect.
(c) This Agreement has been duly authorized, executed, and delivered by the
Acquiring Fund, and, assuming that the Prospectus and Proxy Statement,
and Registration Statement comply with the 1933 Act, the 1934 Act, and
the 1940 Act and the rules and regulations thereunder and, assuming due
authorization, execution and delivery of this Agreement by the Selling
Fund, is a valid and binding obligation of the Acquiring Fund
enforceable against the Acquiring Fund in accordance with its terms,
subject as to enforcement, to bankruptcy, insolvency, reorganization,
moratorium, and other laws relating to or affecting creditors' rights
generally and to general equity principles.
(d) Assuming that a consideration therefor not less than the net asset
value thereof has been paid, the Acquiring Fund Shares to be issued and
delivered to the Selling Fund on behalf of the Selling Fund
Shareholders as provided by this Agreement are duly authorized and upon
such delivery will be legally issued and outstanding and fully paid and
non-assessable (except that, under Pennsylvania law, shareholders of
the Acquiring Fund could, under certain circumstances, be held
personally liable for obligations of the Acquiring Fund), and no
shareholder of the Acquiring Fund has any preemptive rights in respect
thereof.
(e) The Registration Statement, to such counsel's knowledge, has been
declared effective by the Commission and no stop order under the 1933
Act pertaining thereto has been issued, and to the knowledge of such
counsel, no consent, approval, authorization or order of any court or
governmental authority of the United States or The Commonwealth of
Pennsylvania is required for consummation by the Acquiring Fund of the
transactions contemplated herein, except such as have been obtained
under the 1933 Act, the 1934 Act and the 1940 Act, and as may be
required under state securities laws.
ARTICLE VII
CONDITIONS PRECEDENT TO OBLIGATIONS OF THE ACQUIRING FUND
The obligations of the Acquiring Fund to complete the transactions
provided for herein shall be subject, at its election, to the performance by the
Selling Fund of all the obligations to be performed by it hereunder on or before
the Closing Date and, in addition thereto, the following conditions:
7.1 All representations, covenants, and warranties of the Selling Fund contained
in this Agreement shall be true and correct as of the date hereof and as of the
Closing Date with the same force and effect as if made on and as of the Closing
Date, and the Selling Fund shall have delivered to the Acquiring Fund on the
Closing Date a certificate executed in its name by the Keystone Mid-Cap Growth
Fund (S-3)'s President or Vice President and its Treasurer or Assistant
Treasurer, in form and substance satisfactory to the Acquiring Fund and dated as
of the Closing Date, to such effect and as to such other matters as the
Acquiring Fund shall reasonably request.
7.2 The Selling Fund shall have delivered to the Acquiring Fund a statement of
the Selling Fund's assets and liabilities, together with a list of the Selling
Fund's portfolio securities showing the tax costs of such securities by lot and
the holding periods of such securities, as of the Closing Date, certified by the
Treasurer of the Keystone Mid-Cap Growth Fund (S-3).
7.3 The Acquiring Fund shall have received on the Closing Date an opinion of
Sullivan & Worcester LLP, counsel to the Selling Fund, in a form satisfactory to
the Acquiring Fund covering the following points:
(a) The Selling Fund is the sole investment series of a Pennsylvania common
law trust duly organized, validly existing and in good standing under
the laws of The Commonwealth of Pennsylvania and has the power to own
all of its properties and assets and to carry on its business as
presently conducted.
(b) The Selling Fund is the sole investment series of a Pennsylvania common
law trust registered as an investment company under the 1940 Act, and,
to such counsel's knowledge, such registration with the Commission as
an investment company under the 1940 Act is in full force and effect.
(c) This Agreement has been duly authorized, executed and delivered by the
Selling Fund, and, assuming that the Prospectus and Proxy Statement,
and Registration Statement comply with the 1933 Act, the 1934 Act, and
the 1940 Act and the rules and regulations thereunder and, assuming due
authorization, execution, and delivery of this Agreement by the
Acquiring Fund, is a valid and binding obligation of the Selling Fund
enforceable against the Selling Fund in accordance with its terms,
subject as to enforcement, to bankruptcy, insolvency, reorganization,
moratorium and other laws relating to or affecting creditors' rights
generally and to general equity principles.
(d) To the knowledge of such counsel, no consent, approval, authorization
or order of any court or governmental authority of the United States or
The Commonwealth of Pennsylvania is required for consummation by the
Selling Fund of the transactions contemplated herein, except such as
have been obtained under the 1933 Act, the 1934 Act and the 1940 Act,
and as may be required under state securities laws.
ARTICLE VIII
FURTHER CONDITIONS PRECEDENT TO OBLIGATIONS OF THE ACQUIRING
FUND AND THE SELLING FUND
If any of the conditions set forth below do not exist on or before the
Closing Date with respect to the Selling Fund or the Acquiring Fund, the other
party to this Agreement shall, at its option, not be required to consummate the
transactions contemplated by this Agreement:
8.1 This Agreement and the transactions contemplated herein shall have been
approved by the requisite vote of the holders of the outstanding shares of the
Selling Fund in accordance with the provisions of the Keystone Mid-Cap Growth
Fund (S-3)'s Declaration of Trust and By-Laws and certified copies of the
resolutions evidencing such approval shall have been delivered to the Acquiring
Fund. Notwithstanding anything herein to the contrary, neither the Acquiring
Fund nor the Selling Fund may waive the conditions set forth in this paragraph
8.1.
8.2 On the Closing Date, the Commission shall not have issued an unfavorable
report under Section 25(b) of the 1940 Act, nor instituted any proceeding
seeking to enjoin the consummation of the transactions contemplated by this
Agreement under Section 25(c) of the 1940 Act and no action, suit or other
proceeding shall be threatened or pending before any court or governmental
agency in which it is sought to restrain or prohibit, or obtain damages or other
relief in connection with, this Agreement or the transactions contemplated
herein.
8.3 All required consents of other parties and all other consents, orders, and
permits of Federal, state and local regulatory authorities (including those of
the Commission and of state Blue Sky securities authorities, including any
necessary "no-action" positions of and exemptive orders from such Federal and
state authorities) to permit consummation of the transactions contemplated
hereby shall have been obtained, except where failure to obtain any such
consent, order, or permit would not involve a risk of a material adverse effect
on the assets or properties of the Acquiring Fund or the Selling Fund, provided
that either party hereto may for itself waive any of such conditions.
8.4 The Registration Statement shall have become effective under the 1933 Act,
and no stop orders suspending the effectiveness thereof shall have been issued
and, to the best knowledge of the parties hereto, no investigation or proceeding
for that purpose shall have been instituted or be pending, threatened or
contemplated under the 1933 Act.
8.5 The Selling Fund shall have declared a dividend or dividends which, together
with all previous such dividends, shall have the effect of distributing to the
Selling Fund Shareholders all of the Selling Fund's investment company taxable
income for all taxable years ending on or prior to the Closing Date (computed
without regard to any deduction for dividends paid) and all of its net capital
gain realized in all taxable years ending on or prior to the Closing Date (after
reduction for any capital loss carryforward).
8.6 The parties shall have received a favorable opinion of Sullivan & Worcester
LLP, addressed to the Acquiring Fund and the Selling Fund substantially to the
effect that for Federal income tax purposes:
(a) The transfer of all of the Selling Fund assets in exchange for the
Acquiring Fund Shares and the assumption by the Acquiring Fund of [
____ ] liabilities of the Selling Fund followed by the distribution of
the Acquiring Fund Shares to the Selling Fund in dissolution and
liquidation of the Selling Fund will constitute a "reorganization"
within the meaning of Section 368(a)(1)(C) of the Code and the
Acquiring Fund and the Selling Fund will each be a "party to a
reorganization" within the meaning of Section 368(b) of the Code.
(b) No gain or loss will be recognized by the Acquiring Fund upon the
receipt of the assets of the Selling Fund solely in exchange for the
Acquiring Fund Shares and the assumption by the Acquiring Fund of
[ ____ ] liabilities of the Selling Fund.
(c) No gain or loss will be recognized by the Selling Fund upon the
transfer of the Selling Fund assets to the Acquiring Fund in exchange
for the Acquiring Fund Shares and the assumption by the Acquiring Fund
of [ ____ ] liabilities of the Selling Fund or upon the distribution
(whether actual or constructive) of the Acquiring Fund Shares to
Selling Fund Shareholders in exchange for their shares of the Selling
Fund.
(d) No gain or loss will be recognized by Selling Fund Shareholders upon
the exchange of their Selling Fund shares for the Acquiring Fund Shares
in liquidation of the Selling Fund.
(e) The aggregate tax basis for the Acquiring Fund Shares received by each
Selling Fund Shareholder pursuant to the Reorganization will be the
same as the aggregate tax basis of the Selling Fund shares held by such
shareholder immediately prior to the Reorganization, and the holding
period of the Acquiring Fund Shares to be received by each Selling Fund
Shareholder will include the period during which the Selling Fund
shares exchanged therefor were held by such shareholder (provided the
Selling Fund shares were held as capital assets on the date of the
Reorganization).
(f) The tax basis of the Selling Fund assets acquired by the Acquiring Fund
will be the same as the tax basis of such assets to the Selling Fund
immediately prior to the Reorganization, and the holding period of the
assets of the Selling Fund in the hands of the Acquiring Fund will
include the period during which those assets were held by the Selling
Fund.
Notwithstanding anything herein to the contrary, neither the Acquiring
Fund nor the Selling Fund may waive the conditions set forth in this paragraph
8.6.
8.7 The Acquiring Fund shall have received from KPMG Peat Marwick LLP a letter
addressed to the Acquiring Fund, in form and substance satisfactory to the
Acquiring Fund, to the effect that
(a) they are independent certified public accountants with respect to the
Selling Fund within the meaning of the 1933 Act and the applicable published
rules and regulations thereunder;
(b) on the basis of limited procedures agreed upon by the Acquiring Fund and
described in such letter (but not an examination in accordance with generally
accepted auditing standards) consisting of a reading of any unaudited pro forma
financial statements included in the Registration Statement and Prospectus and
Proxy Statement, and inquiries of appropriate officials of the Keystone Mid-Cap
Growth Fund (S-3) responsible for financial and accounting matters, nothing came
to their attention that caused them to believe that such unaudited pro forma
financial statements do not comply as to form in all material respects with the
applicable accounting requirements of the 1933 Act and the published rules and
regulations thereunder;
(c) on the basis of limited procedures agreed upon by the Acquiring Fund and
described in such letter (but not an examination in accordance with generally
accepted auditing standards), the Capitalization Table appearing in the
Registration Statement and Prospectus and Proxy Statement has been obtained from
and is consistent with the accounting records of the Selling Fund;
(d) on the basis of limited procedures agreed upon by the Acquiring Fund and
described in such letter (but not an examination in accordance with generally
accepted auditing standards), the pro forma financial statements that are
included in the Registration Statement and Prospectus and Proxy Statement were
prepared based on the valuation of the Selling Fund's assets in accordance with
theKeystone Strategic Growth Fund (K-2)'s Declaration of Trust and the Acquiring
Fund's then current prospectus and statement of additional information pursuant
to procedures customarily utilized by the Acquiring Fund in valuing its own
assets; and
(e) on the basis of limited procedures agreed upon by the Acquiring Fund and
described in such letter (but not an examination in accordance with generally
accepted auditing standards), the data utilized in the calculations of the
projected expense ratio appearing in the Registration Statement and Prospectus
and Proxy Statement agree with underlying accounting records of the Selling Fund
or to written estimates by Selling Fund's management and were found to be
mathematically correct.
In addition, the Acquiring Fund shall have received from KPMG Peat
Marwick LLP a letter addressed to the Acquiring Fund dated on the Closing Date,
in form and substance satisfactory to the Acquiring Fund, to the effect, that on
the basis of limited procedures agreed upon by the Acquiring Fund (but not an
examination in accordance with generally accepted auditing standards), the
calculation of net asset value per share of the Selling Fund as of the Valuation
Date was determined in accordance with generally accepted accounting practices
and the portfolio valuation practices of the Acquiring Fund.
8.8 The Selling Fund shall have received from KPMG Peat Marwick LLP a letter
addressed to the Selling Fund, in form and substance satisfactory to the
Selling Fund, to the effect that
(a) they are independent certified public accountants with respect to the
Acquiring Fund within the meaning of the 1933 Act and the applicable published
rules and regulations thereunder;
(b) on the basis of limited procedures agreed upon by the Selling Fund and
described in such letter (but not an examination in accordance with generally
accepted auditing standards) consisting of a reading of any unaudited pro forma
financial statements included in the Registration Statement and Prospectus and
Proxy Statement, and inquiries of appropriate officials of the Keystone
Strategic Growth Fund (K-2) responsible for financial and accounting matters,
nothing came to their attention that caused them to believe that such unaudited
pro forma financial statements do not comply as to form in all material respects
with the applicable accounting requirements of the 1933 Act and the published
rules and regulations thereunder;
(c) on the basis of limited procedures agreed upon by the Selling Fund and
described in such letter (but not an examination in accordance with generally
accepted auditing standards), the Capitalization Table appearing in the
Registration Statement and Prospectus and Proxy Statement has been obtained from
and is consistent with the accounting records of the Acquiring Fund; and
(d) on the basis of limited procedures agreed upon by the Selling Fund (but not
an examination in accordance with generally accepted auditing standards), the
data utilized in the calculations of the projected expense ratio appearing in
the Registration Statement and Prospectus and Proxy Statement agree with
underlying accounting records of the Acquiring Fund or to written estimates by
each Fund's management and were found to be mathematically correct.
8.9 The Acquiring Fund and the Selling Fund shall also have received from KPMG
Peat Marwick LLP a letter addressed to the Acquiring Fund and the Selling Fund,
dated on the Closing Date in form and substance satisfactory to the Funds,
setting forth the Federal income tax implications relating to capital loss
carryforwards (if any) of the Selling Fund and the related impact, if any, of
the proposed transfer of substantially all of the assets of the Selling Fund to
the Acquiring Fund and the ultimate dissolution of the Selling Fund, upon the
shareholders of the Selling Fund.
ARTICLE IX
EXPENSES
9.1 Except as otherwise provided for herein, all expenses of the transactions
contemplated by this Agreement incurred by the Selling Fund and the Acquiring
Fund will be borne by First Union National Bank of North Carolina. Such expenses
include, without limitation, (a) expenses incurred in connection with the
entering into and the carrying out of the provisions of this Agreement; (b)
expenses associated with the preparation and filing of the Registration
Statement under the 1933 Act covering the Acquiring Fund Shares to be issued
pursuant to the provisions of this Agreement; (c) registration or qualification
fees and expenses of preparing and filing such forms as are necessary under
applicable state securities laws to qualify the Acquiring Fund Shares to be
issued in connection herewith in each state in which the Selling Fund
Shareholders are resident as of the date of the mailing of the Prospectus and
Proxy Statement to such shareholders; (d) postage; (e) printing; (f) accounting
fees; (g) legal fees; and (h) solicitation cost of the transaction.
Notwithstanding the foregoing, the Acquiring Fund shall pay its own Federal and
state registration fees.
ARTICLE X
ENTIRE AGREEMENT; SURVIVAL OF WARRANTIES
10.1 The Acquiring Fund and the Selling Fund agree that neither party has made
any representation, warranty or covenant not set forth herein and that this
Agreement constitutes the entire agreement between the parties.
10.2 The representations, warranties, and covenants contained in this Agreement
or in any document delivered pursuant hereto or in connection herewith shall
survive the consummation of the transactions contemplated hereunder.
ARTICLE XI
TERMINATION
11.1 This Agreement may be terminated by the mutual agreement of the Acquiring
Fund and the Selling Fund. In addition, either the Acquiring Fund or the Selling
Fund may at its option terminate this Agreement at or prior to the Closing Date
because
(a) of a breach by the other of any representation, warranty, or agreement
contained herein to be performed at or prior to the Closing Date, if not cured
within 30 days; or
(b) a condition herein expressed to be precedent to the obligations of the
terminating party has not been met and it reasonably appears that it will not or
cannot be met.
11.2 In the event of any such termination, in the absence of willful default,
there shall be no liability for damages on the part of either the Acquiring
Fund, the Selling Fund,Keystone Strategic Growth Fund (K-2), the Keystone Mid-
Cap Growth Fund (S-3), or their respective Trustees or officers, to the other
party or its Trustees or officers.
ARTICLE XII
AMENDMENTS
This Agreement may be amended, modified, or supplemented in such manner as
may be mutually agreed upon in writing by the authorized officers of the Selling
Fund and the Acquiring Fund; provided, however, that following the meeting of
the Selling Fund Shareholders called by the Keystone Mid-Cap Growth Fund (S-3)
pursuant to paragraph 5.2 of this Agreement, no such amendment may have the
effect of changing the provisions for determining the number of the Acquiring
Fund Shares to be issued to the Selling Fund Shareholders under this Agreement
to the detriment of such shareholders without their further approval.
ARTICLE XIII
HEADINGS; COUNTERPARTS; GOVERNING LAW; ASSIGNMENT;
LIMITATION OF LIABILITY
13.1 The Article and paragraph headings contained in this Agreement are for
reference purposes only and shall not affect in any way the meaning or
interpretation of this Agreement.
13.2 This Agreement may be executed in any number of counterparts, each of which
shall be deemed an original.
13.3 This Agreement shall be governed by and construed in accordance with the
laws of The Commonwealth of Pennsylvania, without giving effect to the conflicts
of laws provisions thereof.
13.4 This Agreement shall bind and inure to the benefit of the parties hereto
and their respective successors and assigns, but no assignment or transfer
hereof or of any rights or obligations hereunder shall be made by any party
without the written consent of the other party. Nothing herein expressed or
implied is intended or shall be construed to confer upon or give any person,
firm, or corporation, other than the parties hereto and their respective
successors and assigns, any rights or remedies under or by reason of this
Agreement.
13.5 It is expressly agreed that the obligations of the Selling Fund and the
Acquiring Fund hereunder shall not be binding upon any of the Trustees,
shareholders, nominees, officers, agents, or employees of the Keystone Strategic
Growth Fund (K-2) or the Keystone Mid-Cap Growth Fund (S-3), personally, but
bind only the trust property of the Selling Fund and the Acquiring Fund, as
provided in the Declarations of Trust of the Keystone Strategic Growth Fund
(K-2) and the Keystone Mid-Cap Growth Fund (S-3). The execution and delivery of
this Agreement have been authorized by the Trustees of the Keystone Mid-Cap
Growth Fund (S-3) on behalf of the Selling Fund, and the Keystone Strategic
Growth Fund (K-2) on behalf of the Acquiring Fund and signed by authorized
officers of the Keystone Mid-Cap Growth Fund (S-3) and the Keystone Strategic
Growth Fund (K-2), acting as such, and neither such authorization by such
Trustees nor such execution and delivery by such officers shall be deemed to
have been made by any of them individually or to impose any liability on any of
them personally, but shall bind only the trust property of the Keystone Mid-Cap
Growth Fund (S-3) and the Keystone Strategic Growth Fund (K-2) as provided in
their respective Declarations of Trust.
[THE REST OF THIS PAGE IS LEFT INTENTIONALLY BLANK.]
IN WITNESS WHEREOF, the parties have duly executed and sealed this
Agreement, all as of the date first written above.
KEYSTONE STRATEGIC GROWTH FUND (K-2)
By:______________________________________
Name:____________________________________
Title:___________________________________
KEYSTONE MID-CAP GROWTH FUND (S-3)
By:______________________________________
Name:____________________________________
Title:___________________________________
<PAGE>
EXHIBIT B
Keystone Strategic Growth Fund (K-2)
Seeks capital growth from a broad spectrum of domestic and foreign securities.
Dear Shareholder:
We would like to take this opportunity to report on the performance of
Keystone Strategic Growth Fund (K-2) for the twelve-month period which ended
October 31, 1996. Following our letter to you we have included a discussion
with your Fund's manager and complete financial information.
Performance
For the twelve-month period which ended October 31, 1996, your Fund returned
12.95%. For the same period, the Standard & Poor's 500 Index (S&P 500), a
broad-based index of large company stocks, returned 24.09%.
Your Fund's short-term results did not meet our expectations. While the
stock market indexes posted strong returns for the Fund's fiscal year, the
timing of some of our investments and individual stock selection could have
been better.
At the beginning of your Fund's fiscal year we anticipated slower economic
growth and no repeat of 1995's excellent market returns. With this in mind,
we attempted to reduce our exposure to stocks that we believed might be most
at risk in a slow growth environment. Our objective was to broaden your
Fund's diversification and emphasize stocks that would be less affected by
the expected slow growth environment. This strategy resulted in an emphasis
on companies with consistent earnings growth rates, rather than companies
with high growth rates.
In the first quarter of 1996 economic growth turned out to be much stronger
than many analysts had expected. Stocks of large, established companies
provided the best returns during the period. Strong corporate earnings,
relatively low interest rates and stronger-than-expected economic growth
propelled blue chip stock indexes to new highs, breaking previous records.
Price volatility increased during the fiscal period as investors attempted to
gauge the strength of the economy during the first half of 1996. In addition,
the smallest earnings disappointment often resulted in sharp stock price
declines. In this environment, our holdings of companies with consistent
growth rates did not benefit as much as higher growth rate companies.
As the fiscal year began, we cut back on overweighted sectors and in areas
that had provided good returns in 1995, such as technology. However, in some
cases these reductions occurred after corrections had occurred. While the
timing of these reductions were late, we believed that a smaller exposure to
technology stocks was a more appropriate long-term strategy, given the high
prices and higher relative volatility of technology stocks.
The strong performance of blue chip stocks continued into the spring of
1996. However, in April and May small company stocks provided some of the
best returns, as investors searched for companies with high earnings growth
rates at more attractive valuations than blue chip stocks. Your Fund
participated only modestly in the small company stock rally because we had
steadily increased our holdings of stocks with consistent earnings records,
primarily large company stocks.
We also increased the Fund's exposure to Japanese stocks during much of the
period, based on expectations for an improving economic environment in Japan.
These investments provided positive performance in local currency terms.
However, the weak yen and strong U.S. dollar hurt performance when converted
into U.S. dollars, despite hedging a portion of our investments to protect it
from currency changes.
(continued on next page)
<PAGE>
PAGE 2
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Our outlook
We expect the favorable economic fundamentals of 1996 to continue into 1997.
We believe that the economy should grow at a moderate rate, inflation should
remain under control, despite some wage pressures, which should allow
interest rates to remain relatively stable.
For investors with long-term goals, we continue to believe that stocks offer
the best potential returns. However, we are now in the sixth year of a stock
market rally--the longest since the end of World War II. While we have a
favorable outlook for 1997, history has shown that strong performance does
not persist indefinitely. Stocks periodically experience price declines. We
witnessed this type of "correction" in June and July, followed by a recovery.
With this in mind, we encourage you to keep the above average stock market
returns of the last few years in perspective.
Keystone acquired by First Union Corporation
On another note, we are pleased to inform you that Keystone has been acquired
by First Union Corporation. First Union is a financial services firm based in
Charlotte, North Carolina. It is the nation's sixth largest bank holding
company with assets of approximately $130 billion. First Union, through its
wholly-owned subsidiary Evergreen Asset Management Corp., together with
Keystone mutual funds, manages more than $30 billion in 70 mutual funds.
While Keystone will remain a separate entity and will continue to provide
investment advisory and management services to the Fund, services will be
provided under the 'Evergreen Keystone Funds' name. We believe First Union's
acquisition of Keystone strengthens the investment management services we
provide you.
Thank you for your continued support of Keystone Strategic Growth Fund
(K-2). If you have any questions or comments about your investments, we
encourage you to write to us.
Sincerely,
/s/ Albert H. Elfner, III
- -------------------------
Albert H. Elfner, III
Chairman
Keystone Investment Management Company
/s/ George S. Bissell
- -------------------------
George S. Bissell
Chairman of the Board
Keystone Funds
December 1996
[PHOTO OF ALBERT H. ELFNER, III]
Albert H. Elfner, III
[PHOTO OF GEORGE S. BISSELL]
George S. Bissell
<PAGE>
PAGE 3
- ------------------------------------
A Discussion With
Your Fund Manager
Maureen E. Cullinane is senior portfolio manager of your Fund and leads
Keystone's growth stock team. A Chartered Financial Analyst, Ms. Cullinane
has over 20 years of investment experience. She received BA and MA degrees
from Emmanuel College with post-graduate study at the Universite de Paris.
She holds an MBA from Boston University. Together with Margery C. Parker,
portfolio manager of Keystone Mid-Cap Growth Fund (S-3), the team focuses on
selecting companies with growing earnings.
Q What was the environment like during the twelve-month period?
A At the end of 1995, economic growth was moderate, inflation was contained,
and interest rates had declined. This had been a favorable environment for
stocks. At the beginning of 1996, the environment changed. While stock prices
rose, they fluctuated broadly as virtually every new economic statistic
triggered a debate over growth and inflation and whether or not the Federal
Reserve Board would raise interest rates. In June and July, stock prices
experienced steep declines. We believe this short-term correction helped
wring out the excesses in the market and brought stock prices to more
reasonable levels. During August, September and October, stocks generally
rose in value.
Q How did you manage the Fund during this period?
A Because of uncertainties in the market, we attempted to reduce risk by
focusing on consistency and diversification. In order to minimize the effects
of the market's gyrations on the portfolio, we invested in stable growth
companies. These are companies that tend to grow regardless of the state of
the economy. We emphasized companies that have had consistent earnings growth
rates of approximately 20%. On October 31, 1996, nearly 60% of the
portfolio's assets were invested in stable growth companies. We increased the
diversification of the portfolio, because we wanted the Fund to have broad
representation in a number of market sectors.
Q How did your focus on consistency and diversification change the
composition of the Fund?
A At the beginning of the period, finance companies accounted for the Fund's
largest industry weighting, and drug companies composed the Fund's second
largest industry. On October 31, 1996, these two industry sectors still
occupied the number one and two positions in the fund, however, the
percentage of assets in each category was reduced.
Twelve months ago, technology stocks (software services, telecommunications,
and electronics products companies) were among the Fund's top five industry
sectors. On October 31, 1996, there were fewer technology stocks in the
portfolio. Oil services, business services, and food companies were more
prominent in the portfolio
Fund Profile
Objective: Seeks capital growth from a broad spectrum of domestic and foreign
securities.
Number of stocks: 70
Commencement of investment operations: September 11, 1935
Net assets: $497 million
Newspaper Symbol: "StrGrK2"
<PAGE>
PAGE 4
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Your Fund Invests In . . .
(bullet) Companies with strong management teams, leading market positions and
solid balance sheets
(bullet) Stocks of any size in any industry: small-, mid-, and large-cap
(bullet) U.S. stocks and stocks of established foreign companies
and were among the Fund's top five industry sectors. We believed this more
diverse portfolio of growth stocks would benefit the Fund over the long term.
Q How do you decide which industries are most attractive?
A We take a "top-down" and "bottoms-up," approach. First we analyze trends
in the economy, and then look at how certain industries and companies may
benefit from those trends. In selecting stocks for the portfolio, we focus on
a company's fundamentals, that is, we assess its management, financials,
product line, and potential earnings growth.
Q Why were finance stocks a consistent theme in the portfolio throughout
the twelve months?
A On October 31, 1996, finance stocks accounted for 14.7% of the Fund's net
assets. We believe the stocks of finance companies benefitted from relatively
low interest rates and from consolidation in the industry. Strong
performers in this area included Bank of Boston and BankAmerica, two large
banks that have expanded their businesses by acquiring smaller banks. During
the last six months of the period, we broadened the Fund's financial holdings
to include Morgan Stanley, and Travelers Group. Travelers is the parent
company of Smith Barney, a brokerage firm. The addition of these two stocks
increased the Fund's exposure to firms that were benefitting from the
strength of the securities markets.
Q You reduced the drug position in the portfolio from 10.2% of net assets
on October 31, 1995 to 8.1% on October 31, 1996. Why?
A Even though we took profits in some of the companies that had performed in
line with our expectations, drug stocks were the Fund's second largest
industry weighting on October 31, 1996. Drug businesses benefitted from cost
efficiencies following restructurings and major acquisitions. We invested in
American Home Products, Johnson & Johnson, and Warner Lambert. We also owned
two foreign drug companies during the period--Rhone Poulenc Rorer and
Smithkline Beecham.
Q Energy companies composed a significant portion of portfolio assets. Why
were these companies attractive?
A Energy companies, which include oil services businesses, large oil
companies, and natural gas firms, accounted for 14.2% of net assets on
October 31, 1996. We believe that energy companies have benefitted from
restructuring efforts of the last several years, improved drilling and
exploration techniques, and an increase in demand.
In particular, oil services businesses, which support the drilling
activities of the industry by supplying
Top 5 Industries
as of October 31, 1996
Percentage of
Industry net assets
- -----------------------------------------
Finance 14.7
- -----------------------------------------
Drugs 8.1
- -----------------------------------------
Oil services 7.1
- -----------------------------------------
Business services 6.8
- -----------------------------------------
Telecommunications 6.7
- -----------------------------------------
<PAGE>
PAGE 5
- ------------------------------------
Diversification by
Market Capitalization
as of October 31, 1996
[TABULAR REPRESENTATION OF PIE CHART]
Large-cap(1) 70%
Small-cap stocks (U.S.) 5%
Mid-cap stocks (U.S.) 25%
(as a percentage of long-term portfolio assets)
A stock's market capitalization, or market cap, is its stock price multiplied
by the number of shares outstanding.
- -----------------
(1)Includes 15% of net assets invested in foreign stocks.
rigs, boats, pumping and seismology equipment, were among the best
performers. In the oil services area, we held ENSCO International,
Schlumberger, and Tidewater. We also invested in two large oil companies--
Exxon and Mobil. In the natural gas area, we invested in Anadarko, a company
that is exploring several new gas fields, and United Meridian, a company that
is conducting a drilling operation off the coast of Africa.
Q During the last six months of the period, you increased the retail
portion of the portfolio from 3% to 4.8% of net assets on October 31, 1996.
Why did retail stocks offer opportunity?
A Over the past year, unemployment declined, wages increased modestly, and
there were fewer headlines announcing layoffs at major corporations. We
believe these conditions helped boost consumer confidence. Historically,
heightened consumer confidence has been beneficial to the retail industry. In
the retail area, we invested in Loehmann's and Saks, two stores that market
to upscale consumers. We also invested in Abercrombie & Fitch, a store that
caters to older teens and young adults. In addition, we held Staples, a
leader in the discount office supply business.
Q You increased the foreign investments in the portfolio from 9% to 13.6%.
How did you manage the foreign component of the Fund?
A We were very selective in our approach to foreign markets. In Western
Europe, fiscal discipline and restructuring led to lower interest rates and
stronger corporate earnings. The rising U.S. dollar helped boost earnings of
large, multinational corporations that sell goods in the United States. In
Japan, the economic recovery was stalled by the weakness of the yen relative
to the U.S. dollar. Anticipating economic successes in Europe, we increased
the Fund's holdings there and reduced the Fund's weighting in Japan.
Q What is your outlook?
A We expect the environment for growth stocks to remain healthy. As we enter
1997, we expect economic growth to be moderate and inflation and interest
rates to remain relatively low. These factors, along with our expectations
for positive earnings, should favor growth stocks. However, we believe that
returns in 1997 may be less than those of 1996. We would not be surprised to
see some short-term pullback in stock prices in the months ahead. Should a
'correction' in the stock market occur, we would view it as a normal part of
the investing cycle, and use it as an opportunity to purchase more high
quality stocks at lower prices.
<PAGE>
PAGE 6
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Top 10 Holdings
as of October 31, 1996
Percentage of
Stock Industry net assets
- -------------------------------------------------------------------
General Electric Capital goods 4.3
- -------------------------------------------------------------------
ENSCO International Oil services 2.8
- -------------------------------------------------------------------
USA Waste Services Business services 2.6
- -------------------------------------------------------------------
Microsoft Software services 2.3
- -------------------------------------------------------------------
Travelers Group Insurance 2.3
- -------------------------------------------------------------------
Bank of Boston Finance 2.3
- -------------------------------------------------------------------
Intel Electronic products 2.3
- -------------------------------------------------------------------
Coca-Cola Foods 2.2
- -------------------------------------------------------------------
HFS Amusements 2.2
- -------------------------------------------------------------------
Tidewater Oil services 2.1
- -------------------------------------------------------------------
[DIAMOND]
This column is intended to answer
questions about your Fund.
If you have a question you would like answered, please write to:
Evergreen Keystone Investment Services, Inc.
Attn: Shareholder Communications, 22nd Floor
200 Berkeley Street, Boston, Massachusetts 02116-5034.
<PAGE>
PAGE 7
- ------------------------------------
Your Fund's Performance
Growth of an investment in
Keystone Strategic Growth Fund (K-2)
In Thousands
[MOUNTAIN CHART]
Initial Reinvested
Investment Distributions
10/86 10000 10000
8269 10015
10/88 7152 10789
8401 13135
10/90 7141 11815
8959 16396
10/92 8324 17441
9858 21797
10/94 8258 22571
8817 25968
10/96 9507 29331
A $10,000 investment in Keystone Strategic Growth Fund (K-2) made on
October 31, 1986 with all distributions reinvested was worth $29,331 on
October 31, 1996. Past performance is no guarantee of future results.
Twelve-Month Performance as of October 31, 1996
=========================================================
Total return* 12.95%
Net asset value 10/31/95 $ 8.05
10/31/96 $ 8.68
Dividends $ 0.01
Capital gains $ 0.36
* Before deduction of contingent deferred sales charge (CDSC).
Historical Record as of October 31, 1996
=========================================================
If you If you did
Cumulative total return redeemed not redeem
1-year 9.95% 12.95%
5-year 78.89% 78.89%
10-year 193.31% 193.31%
Average annual total return
1-year 9.95% 12.95%
5-year 12.34% 12.34%
10-year 11.36% 11.36%
The "if you redeemed" returns reflect the deduction of the 3% CDSC for those
investors who bought and sold Fund shares after one calendar year. Investors
who retained their fund investment earned the returns reported in the second
column of the table.
The investment return and principal value will fluctuate so that your
shares, when redeemed, may be worth more or less than the original cost.
Shareholders may exchange shares for another Keystone fund by calling or
writing to Keystone directly, or through Keystone's Automated Response Line
(KARL). The Fund reserves the right to change or terminate the exchange
offer.
<PAGE>
PAGE 8
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Growth of an Investment
Comparison of change in value of a $10,000 investment
in Keystone Strategic Growth Fund (K-2), the Standard
& Poor's 500 Index and the Consumer Price Index.
In Thousands October 1986 through October 1996
Fund Average
Annual Total Return
- ----------------------------------
1 Year 5 Year 10 Year
9.95% 12.34% 11.36%
[LINE CHART]
Fund S&P CPI
10/86 10000 10000 10000
10015 10642 10453
10/88 10789 12192 10898
13135 15346 11387
10/90 11815 14184 12103
16396 18930 12457
10/92 17441 20816 12856
21797 23926 13209
10/94 22571 24852 13554
25968 31424 13935
10/96 29331 38993 14306
Past performance is no guarantee of future results. The one-year return
reflects the deduction of the Fund's 3% contingent deferred sales charge for
shares held for at least one year. The Consumer Price Index is through
September 30, 1996.
This chart graphically compares your Fund's total return performance to
certain investment indexes. It is the result of fund performance guidelines
issued by the Securities and Exchange Commission. The intent is to provide
investors with more information about their investment.
Components of the chart
The chart is composed of three lines that represent the accumulated value of
an initial $10,000 investment for the period indicated. The lines illustrate
a hypothetical investment in:
1. Keystone Strategic Growth Fund (K-2)
The Fund seeks capital growth from a broad spectrum of domestic and foreign
securities. The return is quoted after deducting sales charges (if
applicable), fund expenses and transaction costs and assumes reinvestment of
all distributions.
2. Standard & Poor's 500 Index (S&P 500)
The S&P 500 is a broad-based unmanaged index of common stock prices. It is
comprised of stocks of the largest U.S. companies. These stocks are selected
and compiled by Standard & Poor's Corporation according to criteria that may
be unrelated to your Fund's investment objective.
4. Consumer Price Index (CPI)
This index is a widely recognized measure of the cost of goods and services
produced in the U.S.. The index contains factors such as prices of services,
housing, food, transportation and electricity which are compiled by the U.S.
Bureau of Labor Statistics. The CPI is generally considered a valuable
benchmark for investors who seek to outperform increases in the cost of
living.
These indexes do not include transaction costs associated with buying and
selling securities, and do not hold cash to meet redemptions. It would be
difficult for most individual investors to duplicate these indexes.
Understanding what the chart means
The chart demonstrates your Fund's total return performance in relation to a
well known investment index and to increases in the cost of living. It is
important to understand what the chart shows and does not show.
This illustration is useful because it charts Fund and index performance
over the same time frame and over a long period. Long-term performance is a
more reliable and useful measure of performance than measurements of
short-term returns or temporary swings in the market. Your financial adviser
can help you evaluate fund performance in conjunction with the other
important financial considerations such as safety, stability and consistency.
<PAGE>
PAGE 9
- ------------------------------------
Limitations of the chart
The chart, however, limits the evaluation of Fund performance in several
ways. Because the measurement is based on total returns over an extended
period of time, the comparison often favors those funds which emphasize
capital appreciation when the market is rising. Likewise, when the market is
declining, the comparison usually favors those funds which take less risk.
Performance can be distorted
Funds which are more conservative in their orientation and which place an
emphasis on capital preservation will tend to compare less favorably when the
market is rising. In addition, funds which have income as one of their
objectives also will tend to compare less favorably to relevant indexes.
Indexes may also reflect the performance of some securities which a fund may
be prohibited from buying. A bond fund, for example, may be limited to
investments in only high quality bonds, or a stock fund may only be able to
buy stocks that have been traded on a stock exchange for a minimum number of
years or of a certain company size. Indexes usually do not have the same
investment restrictions as your Fund.
Indexes do not include costs of investing
The comparison is further limited in its utility because the index does not
take into account any deductions for sales charges, transaction costs or
other fund expenses. Your Fund's performance figures do reflect such
deductions. Sales charges--whether up-front or deferred--pay for the cost of
the investment advice of your financial adviser. Transaction costs pay for
the costs of buying and selling securities for your Fund's portfolio. Fund
expenses pay for the costs of investment management and various shareholder
services. None of these costs are reflected in index total returns. The
comparison is not completely realistic because an index cannot be duplicated
by an investor--even an unmanaged index--without incurring some charges and
expenses.
One of several measures
The chart is one of several tools you can use to understand your investment.
It should be read in conjunction with the Fund's prospectus, and annual and
semiannual reports. Also, your financial adviser, who understands your
personal financial situation, can best explain the features of your Keystone
fund and how it applies to your financial needs.
Future returns may be different
Shareholders also should be mindful that the long-run performance of either
the Fund or the indexes is not representative of what shareholders should
expect to receive from their Fund investment in the future; it is presented
to illustrate only past performance and is not a guarantee of future returns.
FINANCIAL HIGHLIGHTS
(For a share outstanding throughout each year)
The following table contains important financial information relating to the
Fund and has been audited by KPMG Peat Marwick LLP, the Fund's independent
auditors. The table appears in the Fund's Annual Report and should be read in
conjunction with the Fund's financial statements and related notes, which also
appear, together with the independent auditors' report, in the Fund's Annual
Report. The Fund's financial statements, related notes, and independent
auditors' report are incorporated by reference into the statement of additional
information. Additional information about the Fund's performance is contained
in its Annual Report, which will be made available upon request and without
charge.
<TABLE>
<CAPTION>
Year Ended October 31,
-----------------------------------------------------------
1996 1995 1994 1993 1992
==================================================================================================
<S> <C> <C> <C> <C> <C>
Net asset value
beginning of year $ 8.05 $ 7.54 $ 9.00 $ 7.60 $ 8.18
- --------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income (loss) (0.04) (0.02) 0 (0.06) (0.01)
Net realized and unrealized gain
(loss) on investments and foreign
currency related transactions 1.04 1.13 0.23 1.89 0.42
- --------------------------------------------------------------------------------------------------
Total from investment operations 1.00 1.11 0.23 1.83 0.41
- --------------------------------------------------------------------------------------------------
Less distributions from:
Net investment income (0.01) 0 0 0 (0.01)
In excess of net investment income 0 0 0 (0.03) (0.05)
Net realized gain on investments
and foreign currency related
transactions (0.36) (0.60) (1.66) (0.40) (0.93)
In excess of net realized gain on
investments and foreign currency
related transactions 0 0 (0.03) 0 0
- --------------------------------------------------------------------------------------------------
Total distributions (0.37) (0.60) (1.69) (0.43) (0.99)
- --------------------------------------------------------------------------------------------------
Net asset value end of year $ 8.68 $ 8.05 $ 7.54 $ 9.00 $ 7.60
==================================================================================================
Total return (a) 12.95% 15.05% 3.55% 24.97% 6.38%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 1.91%(b) 2.01%(b) 1.73% 1.83% 1.58%
Net investment income (loss) (0.48%) (0.25%) (0.17%) (0.57%) (0.15%)
Portfolio turnover rate 156% 140% 68% 65% 62%
Average commission rate paid $ 0.0042 N/A N/A N/A N/A
- --------------------------------------------------------------------------------------------------
Net assets end of year (thousands) $496,876 $491,610 $416,684 $403,693 $321,794
==================================================================================================
</TABLE>
<TABLE>
<CAPTION>
1991 1990 1989 1988 1987
=================================================================================================
<S> <C> <C> <C> <C> <C>
Net asset value
beginning of year $ 6.52 $ 7.67 $ 6.53 $ 7.55 $ 9.13
------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income (loss) 0.08 0.08 0.16 0.18 0.02
Net realized and unrealized gain
(loss) on investments and foreign
currency related transactions 2.24 (0.80) 1.21 0.19 0.04
------------------------------------------------------------------------------------------------
Total from investment operations 2.32 (0.72) 1.37 0.37 0.06
------------------------------------------------------------------------------------------------
Less distributions from:
Net investment income (0.16) (0.18) (0.18) (0.14) (0.13)
In excess of net investment income 0 0 0 0 0
Net realized gain on investments
and foreign currency related
transactions (0.50) (0.25) (0.05) (1.25) (1.51)
In excess of net realized gain on
investments and foreign currency
related transactions 0 0 0 0 0
------------------------------------------------------------------------------------------------
Total distributions (0.66) (0.43) (0.23) (1.39) (1.64)
------------------------------------------------------------------------------------------------
Net asset value end of year $ 8.18 $ 6.52 $ 7.67 $ 6.53 $ 7.55
=================================================================================================
Total return (a) 38.77% (10.05%) 21.74% 7.73% 0.15%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 1.52% 1.65% 1.59% 1.69% 2.12%
Net investment income (loss) 0.99% 1.64% 2.06% 2.14% 0.23%
Portfolio turnover rate 86% 30% 40% 89% 104%
Average commission rate paid N/A N/A N/A N/A N/A
------------------------------------------------------------------------------------------------
Net assets end of year (thousands) $339,359 $234,060 $329,994 $328,205 $298,748
=================================================================================================
</TABLE>
(a) Excluding applicable sales charges.
(b) Ratio of total expenses to average net assets includes indirectly paid
expenses. Excluding indirectly paid expenses, the expense ratio would have
been 1.90% and 2.00% for the years ended October 31, 1996 and 1995,
respectively.
See Notes to Financial Statements.
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
Acquisition of the Assets of
KEYSTONE MID-CAP GROWTH FUND (S-3)
200 Berkeley Street
Boston, Massachusetts 02116
(800) 343-2898
By and In Exchange For Shares of
KEYSTONE STRATEGIC GROWTH FUND (K-2)
200 Berkeley Street
Boston, Massachusetts 02116
(800) 343-2898
This Statement of Additional Information, relating specifically to the
proposed transfer of the assets and liabilities of Keystone Mid-Cap Growth Fund
(S-3) (the "Mid-Cap Growth Fund") to Keystone Strategic Growth Fund (K-2) (the
"Strategic Growth Fund"), in exchange for shares of beneficial interest, $1.00
par value, of Strategic Growth Fund, consists of this cover page and the
following described documents, each of which is attached hereto and incorporated
by reference herein:
(1) Statement of Additional Information of Strategic Growth Fund
dated February 28, 1997;
(2) Statement of Additional Information of Mid-Cap Growth Fund dated
December 10, 1996, as supplemented December 11, 1996;
(3) Annual Report of Strategic Growth Fund for the year ended October 31,
1996;
(4) Annual Report of Mid-Cap Growth Fund for the year ended August 31,
1996;
(5) Semi-Annual Report of Mid-Cap Growth Fund for the period ended
February 28, 1997; and
(6) Pro Forma Financial Statements of Strategic Growth Fund.
This Statement of Additional Information, which is not a prospectus,
supplements and should be read in conjunction with the Proxy
Statement/Prospectus of Strategic Growth Fund dated May __, 1997. A copy of the
Proxy Statement/Prospectus may by obtained without charge by calling or writing
to Strategic Growth Fund at the telephone number or address set forth above.
The date of this Statement of Additional Information is May __, 1997.
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
KEYSTONE STRATEGIC GROWTH FUND (K-2)
FEBRUARY 28, 1997
This statement of additional information is not a prospectus but relates
to, and should be read in conjunction with, the prospectus of Keystone Strategic
Growth Fund (K-2) (the "Fund") dated February 28, 1997. You may obtain a copy of
the prospectus from the Fund's principal underwriter, Evergreen Keystone
Distributor, Inc.("EKD") or your broker-dealer. EKD is located at 230 Park
Avenue, New York, New York 10169, or your broker-dealer.
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TABLE OF CONTENTS
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PAGE
The Fund.....................................................................2
Investment Restrictions......................................................2
Valuation of Securities......................................................3
Distributions and Taxes......................................................4
Sales Charges................................................................5
Distribution Plan............................................................7
the Trust Agreement..........................................................8
Investment Adviser...........................................................9
Trustees and Officers.......................................................11
Principal Underwriter.......................................................14
Sub-administrator...........................................................15
Brokerage...................................................................15
Expenses....................................................................16
Standardized Total Return and Yield Quotations..............................18
Financial Statements........................................................18
Additional Information......................................................19
Appendix.................................................................. A-1
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THE FUND
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The Fund is an open-end, diversified management investment company. The
Fund's investment objective is to provide shareholders with growth of capital.
It is the Fund's policy to invest its assets as fully as practicable.
Keystone Investment Management Company ("Keystone") is the Fund's
investment adviser. Evergreen Keystone Distributor, Inc. (formerly Evergreen
Funds Distributor, Inc.) ("EKD") is the Fund's principal underwriter. Evergreen
Keystone Investment Services, Inc. (formerly Keystone Investment Distributors
Company) ("EKIS") is the predecessor to EKD. See "Investment Adviser" and
"Principal Underwriter" below.
Certain information about the Fund is contained in its prospectus. This
statement of additional information provides additional information about the
Fund that may be of interest to some investors.
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INVESTMENT RESTRICTIONS
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FUNDAMENTAL INVESTMENT RESTRICTIONS
The Fund has adopted the fundamental investment restrictions set forth
below, which may not be changed without a vote of the majority of the Fund's
outstanding shares (as defined in the Investment Company Act of 1940 (the "1940
Act")). Unless otherwise stated, all references to Fund assets are in terms of
current market value.
The Fund may not do any of the following:
(1) with respect to 75% of its total assets, invest more than 5% of the
value of its total assets, determined at marked or other fair value at the time
of purchase, in the securities of any one issuer, or invest in more that 10% of
the outstanding voting securities of any one issuer, all as determined
immediately after such investment; provided that these limitations do not apply
to investments in securities issued or guaranteed by the U.S. government or its
agencies or instrumentalities;
(2) invest more than 5% of the value of its total assets in companies
which have been in operation for less than three years;
(3) borrow money, except that the Fund may (i) borrow money from banks for
temporary or emergency purposes in aggregate amounts up to 10% of the value of
the Fund's net assets (computed at cost), or (ii) enter into reverse repurchase
agreements provided that bank borrowings and reverse repurchase agreements, in
aggregate, shall not exceed 10% of the value of the Fund's assets;
(4) underwrite securities, except that the Fund may purchase securities
from issuers thereof or others and dispose of such securities in a manner
consistent with its other investment policies; in the disposition of restricted
securities the Fund may be deemed to be an underwriter, as defined in the
Securities Act of 1933 (the 1933 Act);
(5) purchase or sell real estate or interests in real estate, except that
it may purchase and sell securities secured by real estate and securities of
companies which invest in real estate, and will not purchase or sell commodities
or commodity contracts, except that the Fund may engage in currency or other
financial futures contracts and related options transactions;
(6) invest in a company for the purpose of control or management;
(7) make margin purchases or short sales of securities;
(8) make loans, except that the Fund may buy publicly and privately
distributed debt securities, provided that such securities purchases are
consistent with its investment objectives and policies, and except that the Fund
may lend limited amounts of its portfolio securities to broker-dealers;
(9) invest more than 25% of its assets in the securities of issuers in any
single industry; and
(10) purchase the securities of any other investment company except in the
open market and at customary brokerage rates and in no event more than 3% of the
voting securities of any investment company.
If a percentage limit is satisfied at the time of investment or borrowing,
a later increase or decrease resulting from a change in the value of a security
or a decrease in Fund assets is not a violation of the limit.
The Fund has no current intention of attempting to increase its net income
by borrowing and intends to repay any borrowings made in accordance with the
fourth investment restriction enumerated above before it makes any additional
investments.
NON-FUNDAMENTAL INVESTMENT RESTRICTIONS
With respect to illiquid securities, the Fund intends to follow the
policies of the Securities and Exchange Commission. Currently, the Fund will not
invest more than 15% of its net assets in illiquid securities. Also, the Fund
will treat securities as illiquid if it may not sell or dispose of the security
in the ordinary course of business within seven days at approximately the value
at which the Fund has valued such securities on its books.
Portfolio securities of the Fund may not be purchased from or sold or
loaned to Keystone, or any affiliate thereof, or any of their Directors,
officers or employees.
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VALUATION OF SECURITIES
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Current values for the Fund's portfolio securities are determined in the
following manner:
(1) securities traded on an established exchange are valued on the basis
of the last sales price on the exchange where the securities are primarily
traded prior to the time of valuation;
(2) securities traded in the over-the-counter market, for which complete
quotations are readily available, are valued at the mean of the bid and asked
prices at the time of valuation;
(3) short-term investments maturing sixty days or less are valued at
amortized cost (original purchase cost as adjusted for amortization of premium
or accretion of discount), which, when combined with accrued interest,
approximates market;
(4) Short-term investments maturing in more than sixty days are valued at
market;
(5) short-term investments maturing in more than sixty days when purchased
that are held on the sixtieth day prior to maturity are valued at amortized cost
(market value on the sixtieth day adjusted for amortization of premium or
accretion of discount), which, when combined with accrued interest, approximates
market; and
(6) The Fund's Board of Trustees values the following securities at prices
it deems in good faith to be fair: (a) securities, including restricted
securities, for which complete quotations are not readily available; (b) listed
securities if in the Fund's opinion the last sales price does not reflect a
current market value or if no sale occurred; and (c) other assets.
The Fund believes that reliable market quotations generally are not
readily available for purposes of valuing fixed income securities. As a result,
depending on the particular securities owned by the Fund, it is likely that most
of the valuations for such securities will be based upon their fair value
determined under procedures approved by the Board of Trustees. The Board of
Trustees has authorized the use of a pricing service to determine the fair value
of its fixed income securities and certain other securities.
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DISTRIBUTIONS AND TAXES
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You will ordinarily receive distributions in shares, unless you elect
before the record date to receive them as cash. Unless the Fund receives
instructions to the contrary, it will assume that you wish to receive that
distribution and future gains and income distributions in shares. Your
instructions continue in effect until changed in writing. If you have not opted
to receive cash, the Fund will determine the number of shares that you should
receive based on its net asset value per share as computed at the close of
business on the ex-dividend date after adjustment for the distribution.
Capital gains distributions that reduce the net asset value of your shares
below your cost are, to the extent of the reduction, a return of your
investment. Since distributions of capital gains depend upon profits realized
from the sale of the Fund's portfolio securities, they may or may not occur.
Distributions are taxable whether you receive them in cash or additional
shares. Long-term capital gains distributions are taxable as such regardless of
(1) how long you have held the shares or (2) whether you receive them in cash or
in additional shares. If, however, you hold the Fund's shares for less than six
months and redeem them at a loss, you will recognize a long-term capital loss to
the extent of the long-term capital gain distribution received in connection
with such shares. The Fund intends to distribute only such net capital gains and
income as it has predetermined, to the best of its ability, to be taxable as
ordinary income. The Fund's income distributions may be eligible in whole or in
part for the corporate dividends received deduction. Distributions designated by
the Fund as capital gains are not eligible for the corporate 70% dividends
received deduction
The Fund will advise you annually as to the federal income tax status of
your distributions. These comments relating to the taxation of dividends and
distributions paid on the Fund's shares relate solely to federal income
taxation. Your dividends and distributions may also be subject to state and
local taxes.
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SALES CHARGES
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The Fund may charge a contingent deferred sales charge (a "CDSC") when you
redeem certain of its shares within four calendar years after you purchase the
shares. The Fund charges a CDSC as reimbursement for certain expenses, such as
commissions or shareholder servicing fees, that it has incurred in connection
with the sale of its shares (see "Distribution Plan"). If imposed, the Fund
deducts the CDSC from the redemption proceeds you would otherwise receive. CDSCs
attributable to your shares are, to the extent permitted by the National
Association of Securities Dealers, Inc. ("NASD"), paid to EKD.
CALCULATING THE CDSC
The CDSC is a declining percentage of the lesser of (1) the net asset
value of the shares you redeemed, or (2) the total cost of such shares. The CDSC
is calculated according to the following schedule:
REDEMPTION TIMING CDSC
during the calendar year of purchase...................4.00%
during the calendar year after the
year of purchase.....................................3.00%
during the second calendar
year after the year of purchase......................2.00%
during the third calendar year
after the year of purchase...........................1.00%
Thereafter.............................................0.00%
In determining whether a CDSC is payable and, if so, the percentage charge
applicable, the Fund assumes that you have redeemed shares not subject to a CDSC
first and then it will redeem shares you have held the longest first.
EXAMPLE OF CDSC CALCULATION. The following example illustrates the
operation of the contingent deferred sales charge. Assume that you make a
purchase payment of $10,000 during the calendar year 1996. Also assume that on a
given date in 1997 the value of your account has grown through investment
performance and reinvestment of distributions to $12,000. On such date in 1997,
you could redeem up to $2,000 ($12,000 minus $10,000) without incurring a CDSC.
However, if on such date you redeem $3,000, the Fund would then impose a CDSC on
$1,000 of the redemption proceeds (the amount by which the redemption reduced
your account below the amount of your initial purchase payment). The Fund would
charge you $30, or 3% of the $1,000 excess over your initial purchase payment,
because you redeemed during the calendar year after the calendar year of
purchase.
CDSC WAIVERS
REDEMPTIONS. The Fund does not impose a CDSC when the shares you are
redeeming represent:
1. an increase in the value of your account above the total cost of
such shares due to increases in the net asset value per share of the
Fund;
2. certain shares for which the Fund did not pay a commission on
issuance, including shares acquired through reinvestment of dividend
income and capital gains distributions;
3. shares you have held for all or part of more than four consecutive
calendar years;
4. shares that are in the accounts of a shareholder who has died or
become disabled;
5. a lump-sum distribution from a 401(k) plan or other benefit plan
qualified under the Employee Retirement Income Security Act of 1974
("ERISA");
6. automatic withdrawals from the ERISA plan of a shareholder who is a
least 59 1/2 years old;
7. shares in an account that the Fund has closed because the account
has an aggregate net asset value of less than $1,000;
8. automatic withdrawals under a Systematic Income Plan of up to 1% per
month of your initial account balance;
9. withdrawals consisting of loan proceeds to a retirement plan
participant;
10. financial hardship withdrawals made by a retirement plan
participant;
11. withdrawals consisting of returns of excess contributions or excess
deferral amounts made to a retirement plan; or
12. shares purchased by a bank or trust company in a single account in
the name of such bank or trust company as trustee if the initial
investment in shares of the Fund, any other Fund in the Keystone
Fund Family, Keystone Precious Metals Holdings, Inc., Keystone
International Fund Inc., Keystone Tax Free Fund, Keystone Liquid
Trust and/or any Keystone America Fund, is at least $500,000 and any
commission paid by the Fund and such other fund at the time of such
purchase is not more than 1% of the amount invested.
EXCHANGES. The Fund does not charge a CDSC on exchanges of shares between
funds in the Keystone Fund Family that have adopted distribution plans pursuant
to Rule 12b-1 under the 1940 Act. If you do exchange shares of one such fund for
shares of another such fund, the Fund will deem the calendar year of the
exchange, for purposes of any future CDSC, to be the year the shares tendered
for exchange were originally purchased.
SALES. The Fund may sell shares at net asset value without the imposition
of a CDSC to:
1. any Director, Trustee, officer, full-time employee or sales
representative of the Fund, Keystone Management, Keystone, Keystone
Investments, Inc. ("Keystone Investments"), Harbor Capital, EKD or
their affiliates, who has held such position for at least ninety
days; and
2. the pension and profit-sharing plans established by such companies
and their affiliates, for the benefit of their Directors, Trustees,
officers, full-time employees and sales representatives.
However, we will only sell shares to these parties upon the purchaser's written
assurance that he or she is buying the shares for investment purposes only. Such
purchasers may not resell the securities except through redemption by the Fund.
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DISTRIBUTION PLAN
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Rule 12b-1 under the 1940 Act permits investment companies, such as the
Fund, to use their assets to bear the expenses of distributing their shares if
they comply with various conditions, including the adoption of a distribution
plan containing certain provisions set forth in Rule 12b-1. The Fund bears some
of the costs of selling its shares under a distribution plan adopted pursuant to
Rule 12b-1 (the "Distribution Plan").
The Fund's Distribution Plan provides that the Fund may expend up to
0.3125% quarterly (approximately 1.25% annually) of the average daily net asset
value of its shares to pay distribution costs for sales of its shares and to pay
shareholder service fees. The NASD limits such annual expenditures to 1.00%, of
which 0.75% may be used to pay distribution costs and 0.25% may be used to pay
shareholder service fees. The NASD also limits the aggregate amount that the
Fund may pay for such distribution costs to 6.25% of gross share sales since the
inception of the Fund's Distribution Plan plus interest at the prime rate plus
1% on unpaid amounts thereof (less any CDSCs paid by shareholders to EKD or its
predecessor).
Payments under the Distribution Plan are currently made to EKD (which may
reallow all or part to others, such as broker-dealers) (1) as commissions for
Fund shares sold; (2) as shareholder service fees in respect of shares
maintained by the recipient and outstanding on the Fund's books for specific
periods; and (3) as interest. Amounts paid or accrued to EKD in the aggregate
may not exceed the annual limitation referred to above. EKD generally reallows
to broker-dealers or others a commission equal to 4.00% of the price paid for
each Fund share sold. In addition, EKD generally reallows to broker-dealers or
others a shareholder service fee at a rate of 0.25% per annum of the net asset
value of shares maintained by such recipient and outstanding on the books of the
Fund for specified periods.
If the Fund is unable to pay EKD a commission on a new sale because the
annual maximum (0.75% of average daily net assets) has been reached, EKD
intends, but is not obligated, to continue to accept new orders for the purchase
of Fund shares and to pay commissions and service fees to broker-dealers in
excess of the amount it currently receives from the Fund ("Advances"). While the
Fund is under no contractual obligation to reimburse such Advances, EKD and
EKIS, its predecessor, intend to seek full reimbursement for Advances from the
Fund (together with interest at the prime rate plus 1.00%) at such time in the
future as, and to the extent that, payment thereof by the Fund would be within
permitted limits. If the Fund's Independent Trustees (Trustees who are not
interested persons, as defined in the 1940 Act, and who have no direct or
indirect financial interest in the Fund's Distribution Plan or any agreement
related thereto) authorize such payments, the effect will be to extend the
period of time during which the Fund incurs the maximum amount of costs allowed
by the Distribution Plan.
The total amounts paid by the Fund under the foregoing arrangements may
not exceed the maximum Distribution Plan limit specified above, and the amounts
and purposes of expenditures under the Distribution Plan must be reported to the
Independent Trustees quarterly. The Independent Trustees may require or approve
changes in the implementation or operation of the Distribution Plan, and may
require that total expenditures by the Fund under the Distribution Plan be kept
within limits lower than the maximum amount permitted by the Distribution Plan
as stated above. If such costs are not limited by the Independent Trustees, such
costs could, for some period of time, be higher than such costs permitted by
most other plans presently adopted by other investment companies.
The Distribution Plan may be terminated at any time by vote of the
Independent Trustees, or by vote of a majority of the outstanding shares of the
Fund. If the Distribution Plan is terminated, EKD will ask the Independent
Trustees to take whatever action they deem appropriate under the circumstances
with respect to payment of Advances.
Any change in the Distribution Plan that would materially increase the
distribution expenses of the Fund provided for in the Distribution Plan requires
shareholder approval. Otherwise, the Distribution Plan may be amended by votes
of both (1) the Fund's Trustees and (2) the Independent Trustees cast in person
at a meeting called for the purpose of voting on such amendment.
While the Distribution Plan is in effect, the Fund is required to commit
the selection and nomination of candidates for Independent Trustees to the
discretion of the Independent Trustees.
The Independent Trustees of the Fund have determined that the sales of the
Fund's shares resulting from payments under the Distribution Plan have
benefitted the Fund.
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THE TRUST AGREEMENT
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The Fund is a Pennsylvania common law trust established under a Trust
Agreement dated July 15, 1935, restated and amended on December 19, 1989 (the
"Trust Agreement"). The Trust Agreement provides for a Board of Trustees and
enables the Fund to enter into an agreement with an investment manager and/or
adviser to provide the Fund with investment advisory, management and
administrative services. A copy of the Trust Agreement is filed as an exhibit to
the Fund's Registration Statement of which this statement of additional
information is a part. This summary is qualified in its entirety by reference to
the Trust Agreement.
DESCRIPTION OF SHARES
The Trust Agreement authorizes the issuance of an unlimited number of
shares of beneficial interest and the creation of additional series and/or
classes of series of Fund shares. Each share represents an equal proportionate
interest in the Fund with each other share of that class. Upon liquidation,
shares are entitled to a pro rata share in the net assets of their class of Fund
shares. Shareholders shall have no preemptive or conversion rights. Shares are
transferable. The Fund currently intends to issue only one class of shares.
SHAREHOLDER LIABILITY
Pursuant to court decisions or other theories of law, shareholders of a
Pennsylvania common law trust could possibly be held personally liable for the
obligations of the trust. The possibility of the Fund's shareholders incurring
financial loss under such circumstances appears to be remote, however, because
the Trust Agreement (1) contains an express disclaimer of shareholder liability
for obligations of the Fund; (2) requires that notice of such disclaimer be
given in each agreement, obligation or instrument entered into or executed by
the Fund or the Trustees; and (3) provides for indemnification out of Fund
property for any shareholder held personally liable for the obligations of the
Fund.
VOTING RIGHTS
Under the terms of the Trust Agreement, the Fund does not hold annual
meetings. At meetings called for the initial election of Trustees or to consider
other matters, shares are entitled to one vote per share. Shares generally vote
together as one class on all matters. No amendment may be made to the Trust
Agreement that adversely affects any class of shares without the approval of a
majority of the shares of that class. There shall be no cumulative voting in the
election of Trustees.
After a meeting as described above, no further meetings of shareholders
for the purpose of electing Trustees will be held, unless required by law, or
until such time as less than a majority of the Trustees holding office have been
elected by shareholders, at which time the Trustees then in office will call a
shareholders' meeting for the election of Trustees.
Except as set forth above, the Trustees shall continue to hold office
indefinitely unless otherwise required by law and may appoint successor
Trustees. A Trustee may cease to hold office or may be removed from office (as
the case may be) (1) at any time by a two-thirds vote of the remaining Trustees;
(2) when such Trustee becomes mentally or physically incapacitated; or (3) at a
special meeting of shareholders by a two-thirds vote of the outstanding shares.
Any Trustee may voluntarily resign from office.
LIMITATION OF TRUSTEES' LIABILITY
The Trust Agreement provides that a Trustee shall be liable only for his
own willful defaults and, if reasonable care has been exercised in the selection
of officers, agents, employees or investment advisers, shall not be liable for
any neglect or wrongdoing of any such person; provided, however, that nothing in
the Trust Agreement shall protect a Trustee against any liability for his
willful misfeasance, bad faith, gross negligence or reckless disregard of his
duties.
The Trustees have absolute and exclusive control over the management and
disposition of all assets of the Fund and may perform such acts as in their sole
judgment and discretion are necessary and proper for conducting the business and
affairs of the Fund or promoting the interests of the Fund and the shareholders.
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INVESTMENT ADVISER
- ------------------------------------------------------------------------------
Subject to the general supervision of the Fund's Board of Trustees,
Keystone provides investment advice, management and administrative services to
the Fund. Keystone, organized in 1932, is a wholly-owned subsidiary of Keystone
Investments. Keystone Investments provides accounting, bookkeeping, legal,
personnel, and general corporate services to Keystone, its affiliates, and the
Keystone Investments Families of Funds. Both Keystone and Keystone Investments
are located at 200 Berkeley Street, Boston, Massachusetts 02116-5034.
On December 11, 1996, the predecessor corporation to Keystone Investments
and indirectly each subsidiary of Keystone Investments, including Keystone, were
acquired (the "Acquisition") by First Union National Bank of North Carolina
("FUNB"), a wholly-owned subsidiary of First Union Corporation ("First Union").
The predecessor corporation to Keystone Investments was acquired by FUNB by
merger into a wholly-owned subsidiary of FUNB, which entity then assumed the
name "Keystone Investments, Inc." and succeeded to the business of the
predecessor corporation. Contemporaneously with the Acquisition, the Fund
entered into a new investment advisory agreement with Keystone and into a
principal underwriting agreement with EKD, a wholly-owned subsidiary of BISYS
Group, Inc. ("BISYS"). The new investment advisory agreement (the "Advisory
Agreement") was approved by the shareholders of the Fund on December 9, 1996,
and became effective on December 11, 1996. As a result of the above
transactions, Keystone Management, Inc. ("Keystone Management"), which, prior to
the Acquisition, acted as the Fund's investment manager, no longer acts as such
to the Fund. Keystone currently provides the Fund with all the services that may
previously have been provided by Keystone Management.
Keystone Investments and each of its subsidiaries, including Keystone, are
now indirectly owned by First Union. First Union is headquartered in Charlotte,
North Carolina, and had $133.9 billion in consolidated assets as of September
30, 1996. First Union and its subsidiaries provide a broad range of financial
services to individuals and businesses throughout the United States. The Capital
Management Group of FUNB, together with Lieber & Company and Evergreen Asset
Management Corp., wholly-owned subsidiaries of FUNB, manage or otherwise oversee
the investment of over $50 billion in assets belonging to a wide range of
clients, including the Evergreen Family of Funds.
Pursuant to the Advisory Agreement and subject to the supervision of the
Fund's Board of Trustees, Keystone furnishes to the Fund investment advisory,
management and administrative services, office facilities, and equipment in
connection with its services for managing the investment and reinvestment of the
Fund's assets. Keystone pays for all of the expenses incurred in connection with
the provision of its services.
All charges and expenses, other than those specifically referred to as
being borne by Keystone, will be paid by the Fund, including, but not limited
to, (1) custodian charges and expenses; (2) bookkeeping and auditors' charges
and expenses; (3) transfer agent charges and expenses; (4) fees of Independent
Trustees; (5) brokerage commissions, brokers' fees and expenses; (6) issue and
transfer taxes; (7) costs and expenses under the Distribution Plans; (8) taxes
and trust fees payable to governmental agencies; (9) the cost of share
certificates; (10) fees and expenses of the registration and qualification of
the Fund and its shares with the Commission or under state or other securities
laws; (11) expenses of preparing, printing and mailing prospectuses, statements
of additional information, notices, reports and proxy materials to shareholders
of the Fund; (12) expenses of shareholders' and Trustees' meetings; (13) charges
and expenses of legal counsel for the Fund and for the Independent Trustees of
the Fund on matters relating to the Fund; and (14) charges and expenses of
filing annual and other reports with the Commission and other authorities, and
all extraordinary charges and expenses of the Fund.
The Fund pays Keystone a fee for its services at the annual rate set forth
below:
Aggregate Net Asset
Management Value of the Shares
Fee of the Fund
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0.70%of the first $ 100,000,000, plus
0.65%of the next $ 100,000,000, plus
0.60%of the next $ 100,000,000, plus
0.55%of the next $ 100,000,000, plus
0.50%of the next $ 100,000,000, plus
0.45%of the next $ 500,000,000, plus
0.40%of the next $ 500,000,000, plus
0.35%of amounts over $ 1,500,000,000.
Keystone's fee is computed as of the close of business each business day and
payable daily.
Under the Advisory Agreement, any liability of Keystone in connection with
rendering services thereunder is limited to situations involving its willful
misfeasance, bad faith, gross negligence or reckless disregard of its duties.
The Advisory Agreement continues in effect for two years from its
effective date and, thereafter, from year to year only if approved at least
annually by the Board of Trustees of the Fund or by a vote of a majority of the
Fund's outstanding shares (as defined in the 1940 Act). In either case, the
terms of the Advisory Agreement and continuance thereof must be approved by the
vote of a majority of the Independent Trustees cast in person at a meeting
called for the purpose of voting on such approval. The Advisory Agreement may be
terminated, without penalty, on 60 days' written notice by the Fund's Board of
Trustees or by a vote of a majority of outstanding shares. The Advisory
Agreement will terminate automatically upon its assignment.
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TRUSTEES AND OFFICERS
- ------------------------------------------------------------------------------
Trustees and officers of the Fund, their addresses, their principal
occupations and some of their affiliations over the last five years are as
follows:
FREDERICK AMLING: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Professor, Finance De partment, George Washington
University; President, Amling & Company (investment
advice); and former Member, Board of Advis ers,
Credito Emilano (banking).
LAURENCE B. ASHKIN: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Trustee of all the Evergreen funds other than
Evergreen Investment Trust; real estate developer and
construction consultant; and President of Centrum
Equities and Centrum Properties, Inc.
CHARLES A. AUSTIN III: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Investment Counselor to Appleton Partners, Inc.; and
former Managing Director, Seaward Management
Corporation (investment advice).
FOSTER BAM: Trustee of the Fund; Trustee or Director of all
other funds in the Keystone Investments Families of
Funds; Trustee of all the Evergreen funds other than
Evergreen Investment Trust; Partner in the law firm
of Cummings & Lockwood; Director, Symmetrix, Inc.
(sulphur company) and Pet Practice, Inc. (veterinary
services); and former Director, Chartwell Group Ltd.
(Manufacturer of office furnishings and accessories),
Waste Disposal Equipment Acquisition Corporation and
Rehabilitation Corporation of America (rehabilitation
hospitals).
*GEORGE S. BISSELL: Chief Executive Officer of the Fund and each of the
other funds in the Keystone Investments Families of
Funds; Chairman of the Board and Trustee of the Fund;
Chairman of the Board and Trustee or Director of all
other funds in the Keystone Investments Families of
Funds; Chairman of the Board and Trustee of Anatolia
College; Trustee of University Hospital (and Chairman
of its Investment Committee); former Director and
Chairman of the Board of Hartwell Keystone; and
former Chairman of the Board, Director and Chief
Executive Officer of Keystone Investments.
EDWIN D. CAMPBELL: Trustee of the Fund; Trustee or Directorn of all
other funds in the Keystone Investments Families of
Funds; Principal, Padanaram
Associates, Inc.; and former Executive Director,
Coalition of Essen tial Schools, Brown University.
CHARLES F. CHAPIN: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
and former Director, Peoples Bank (Charlotte, NC).
K. DUN GIFFORD: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Trustee, Treasurer and Chairman of the Finance
Committee, Cambridge College; Chairman Emeritus and
Director, American Institute of Food and Wine;
Chairman and President, Oldways Preservation and
Exchange Trust (education); former Chairman of the
Board, Director, and Executive Vice President, The
London Harness Company; former Managing Partner,
Roscommon Capital Corp.; former Chief Executive
Officer, Gifford Gifts of Fine Foods; former
Chairman, Gifford, Drescher & Associates
(environmental consulting); and former Director,
Keystone Investments and Keystone.
JAMES S. HOWELL: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Chairman and Trustee of the Evergreen funds; former
Chairman of the Distribution Foundation for the
Carolinas; and former Vice President of Lance Inc.
(food manufacturing).
LEROY KEITH, JR.: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Chairman of the Board and Chief Executive Officer,
Carson Products Company; Director of Phoenix Total
Return Fund and Equifax, Inc.; Trustee of Phoenix
Series Fund, Phoenix Multi-Portfolio Fund, and The
Phoenix Big Edge Series Fund; and former President,
Morehouse College.
F. RAY KEYSER, JR.: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Chairman and Of Counsel, Keyser, Crowley & Meub,
P.C.; Member, Governor's (VT) Council of Economic
Advisers; Chairman of the Board and Director, Central
Vermont Public Service Corporation and Lahey
Hitchcock Clinic; Director, Vermont Yankee Nuclear
Power Corporation, Grand Trunk Corporation, Grand
Trunk Western Railroad, Union Mutual Fire Insurance
Company, New England Guaranty Insurance Company,
Inc., and the Investment Company Institute; former
Director and President, Associated Industries of
Vermont; former Director of Keystone, Central Vermont
Railway, Inc., S.K.I. Ltd., and Arrow Financial
Corp.; and former Director and Chairman of the Board,
Proctor Bank and Green Mountain Bank.
GERALD M. MCDONELL: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Trustee of the Evergreen funds; and Sales
Representative with Nucor-Yamoto, Inc. (Steel
producer).
THOMAS L. MCVERRY: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Trustee of the Evergreen funds; former Vice President
and Director of Rexham Corporation; and former
Director of Carolina Cooperative Federal Credit
Union.
*WILLIAM WALT PETTIT: Trustee of the Fund; Trustee or Director of all othe
funds in the Keystone Investments Families of Funds;
Trustee of the Evergreen funds; and Partner in the
law firm of Holcomb and Pettit, P.A.
DAVID M. RICHARDSON: Trustee of the Fund; Trustee or Director of all othe
funds in the Keystone Investments Families of Funds;
Vice Chair and former Executive Vice President, DHR
International, Inc. (executive recruitment); former
Senior Vice President, Boyden International Inc.
(executive recruitment); and Director, Commerce and
Industry Association of New Jersey, 411
International, Inc., and J&M Cumming Paper Co.
RUSSELL A. SALTON, III MD: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Trustee of the Evergreen funds; Medical Director,
U.S. Health Care/Aetna Health Services; and former
Managed Health Care Consultant; former President,
Primary Physician Care.
MICHAEL S. SCOFIELD: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Trustee of the Evergreen funds; and Attorney, Law
Offices of Michael S. Scofield.
RICHARD J. SHIMA: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Chairman, Environmental Warranty, Inc. (Insurance
agency); Executive Consultant, Drake Beam Morin, Inc.
(executive outplacement); Director of Connecticut
Natural Gas Corporation, Hartford Hospital, Old State
House Association, Middlesex Mutual Assurance
Company, and Enhance Financial Services, Inc.;
Chairman, Board of Trustees, Hartford Graduate
Center; Trustee, Greater Hartford YMCA; former
Director, Vice Chairman and Chief Investment Officer,
The Travelers Corporation; former Trustee,
Kingswood-Oxford School; and former Managing Director
and Consultant, Russell Miller, Inc.
*ANDREW J. SIMONS: Trustee of the Fund; Trustee or Director of all other
funds in the Keystone Investments Families of Funds;
Partner, Farrell, Fritz, Caemmerer, Cleary, Barnosky
& Armentano, P.C.; Adjunct Professor of Law and
former Associate Dean, St. John's University School
of Law; Adjunct Professor of Law, Touro College
School of Law; and former President, Nassau County
Bar Association.
JOHN J. PILEGGI: President and Treasurer of the Fund; President and
Treasurer of all other funds in the Keystone
Investments Families of Funds; President and
Treasurer of the Evergreen funds; Senior Managing
Director, Furman Selz LLC since 1992; Managing
Director from 1984 to 1992; 230 Park Avenue, Suite
910, New York, NY.
GEORGE O. MARTINEZ: Secretary of the Fund; Secretary of all other funds
in the Keystone Investments Families of Funds; Senior
Vice President and Director of Administration and
Regulatory Services, BISYS Fund Services; 3435
Stelzer Road, Columbus, Ohio.
* This Trustee may be considered an "interested person" of the Fund within the
meaning of the 1940 Act.
Mr. Bissell is deemed an "interested person" of the Fund by virtue of his
ownership of stock of First Union Corporation ("First Union"), of which Keystone
is an indirect wholly-owned subsidiary. See "Investment Adviser." Mr. Pettit and
Mr. Simons may each be deemed an "interested person" as a result of certain
legal services rendered to a subsidiary of First Union by their respective law
firms, Holcomb and Pettit, P.A. and Farrell, Fritz, Caemmerer, Cleary, Barnosky
& Armentano, P.C. As of the date hereof, Mr. Pettit and Mr. Simons are each
applying for an exemption from the SEC which would allow them to retain their
status as an Independent Trustee.
All of the officers of the Fund will be officers and/or employees of
BISYS.
For the fiscal year ended October 31, 1996, none of the Trustees and
officers of Keystone received any direct remuneration from the Fund. For the
calendar year ended December 31, 1995, annual retainers and meeting fees paid by
all funds in the Keystone Investments Family of Funds (which includes over 30
mutual funds) totaled approximately $450,716. As of November 30, 1996, none of
the Trustees and officers of Keystone beneficially owned any of the Fund's then
outstanding shares.
The address of all the Fund's Trustees and officers and the address
of the Fund is 200 Berkeley Street, Boston, Massachusetts 02116-5034.
- ------------------------------------------------------------------------------
PRINCIPAL UNDERWRITER
- ------------------------------------------------------------------------------
The Fund has entered into a Principal Underwriting Agreement (the
"Underwriting Agreement") with EKD. EKD, which is not affiliated with First
Union, replaces EKIS as the Fund's principal underwriter. EKIS may no longer act
as principal underwriter of the Fund due to regulatory restrictions imposed by
the Glass-Steagall Act upon national banks such as FUNB and their affiliates,
that prohibit such entities from acting as the underwriters of mutual fund
shares. While EKIS may no longer act as principal underwriter of the Fund as
discussed above, EKIS may continue to receive compensation from the Fund or EKD
in respect of underwriting and distribution services performed prior to the
termination of EKIS as principal underwriter. In addition, EKIS may also be
compensated by EKD for the provision of certain marketing support services to
EKD at an annual rate of up to .75% of the average daily net assets of the Fund,
subject to certain restrictions.
EKD, as agent, has agreed to use its best efforts to find purchasers for
the shares. EKD may retain and employ representatives to promote distribution of
the shares and may obtain orders from broker-dealers, and others, acting as
principals, for sales of shares to them. The Underwriting Agreement provides
that EKD will bear the expense of preparing, printing, and distributing
advertising and sales literature and prospectuses used by it. In its capacity as
principal underwriter, EKD or EKIS, its predecessor, may receive payments from
the Fund pursuant to the Fund's Distribution Plan.
The Underwriting Agreement provides that it will remain in effect as long
as its terms and continuance are approved annually (i) by a vote of a majority
of the Independent Trustees, and (ii) by vote of a majority of the Trustees, in
each case, cast in person at a meeting called for that purpose.
The Underwriting Agreement may be terminated, without penalty, on 60 days'
written notice by the Board of Trustees or by a vote of a majority of
outstanding shares. The Underwriting Agreement will terminate automatically upon
its assignment.
From time to time, if, in EKD's judgment, it could benefit the sales of
Fund shares, EKD may provide to selected broker-dealers promotional materials
and selling aids, including, but not limited to, personal computers, related
software, and Fund data files.
- ------------------------------------------------------------------------------
SUB-ADMINISTRATOR
- ------------------------------------------------------------------------------
BISYS provides officers and certain administrative services to the Fund
pursuant to a sub-administration agreement. For its services under that
agreement, BISYS will receive from Keystone an annual fee at the maximum annual
rate of .01% of the average daily net assets of the Fund. BISYS is located at
230 Park Avenue, New York, New York 10169.
- ------------------------------------------------------------------------------
BROKERAGE
- ------------------------------------------------------------------------------
SELECTION OF BROKERS
In effecting transactions in portfolio securities for the Fund, Keystone
seeks the best execution of orders at the most favorable prices. Keystone
determines whether a broker has provided the Fund with best execution and price
in the execution of a securities transaction by evaluating, among other things:
1. overall direct net economic result to the Fund;
2. the efficiency with which the transaction is effected;
3. the broker's ability to effect the transaction where a large block
is involved;
4. the broker's readiness to execute potentially difficult transactions
in the future;
5. the financial strength and stability of the broker; and
6. the receipt of research services, such as analyses and reports
concerning issuers, industries, securities, economic factors and
trends and other statistical and factual information ("research
services.)
The Fund's management weighs these considerations in determining the
overall reasonableness of the brokerage commissions paid.
Should the Fund or Keystone receive research services from a broker, the
Fund would consider such services to be in addition to, and not in lieu of, the
services Keystone is required to perform under the Advisory Agreement. Keystone
believes that the cost, value and specific application of research services are
indeterminable and cannot be practically allocated between the Fund and its
other clients who may indirectly benefit from the availability of research
services. Similarly, the Fund may indirectly benefit from information made
available as a result of transactions effected for Keystone's other clients.
Under the Advisory Agreement, Keystone is permitted to pay higher brokerage
commissions for brokerage and research services in accordance with Section 28(e)
of the Securities Exchange Act of 1934. In the event Keystone follows such a
practice, it will do so on a basis that is fair and equitable to the Fund.
Neither the Fund nor Keystone intends on placing securities transactions
with any particular broker. The Fund's Board of Trustees has determined,
however, that the Fund may consider sales of Fund shares as a factor when
selecting of brokers to execute portfolio transactions, subject to the
requirements of best execution described above.
BROKERAGE COMMISSIONS
Generally, the Fund expects to purchase and sell its securities through
brokerage transactions for which commissions are payable. Purchases from
underwriters will include the underwriting commission or concession, and
purchases from dealers serving as market makers will include a dealer's mark up
or reflect a dealer's mark down. Where it effects transactions in the over the
counter market, the Fund will deal with primary market makers, unless more
favorable prices are otherwise obtainable.
GENERAL BROKERAGE POLICIES
In order to take advantage of the availability of lower purchase prices,
the Fund may participate, if and when practicable, in group bidding for the
direct purchase from an issuer of certain securities.
Keystone makes investment decisions for the Fund independently from those
of its other clients. It may frequently develop, however, that Keystone will
make the same investment decision for more than one client. Simultaneous
transactions are inevitable when the same security is suitable for the
investment objective of more than one account. When two or more of its clients
are engaged in the purchase or sale of the same security, Keystone will allocate
the transactions according to a formula that is equitable to each of its
clients. Although, in some cases, this system could have a detrimental effect on
the price or volume of the Fund's securities, the Fund believes that in other
cases its ability to participate in volume transactions will produce better
executions.
The Fund does not purchase portfolio securities from or sell portfolio
securities to Keystone, EKD, or any of their affiliated persons, as defined in
the 1940 Act.
The Board of Trustees periodically reviews the Fund's brokerage policy. In
the event of further regulatory developments affecting the securities exchanges
and brokerage practices generally, the Board of Trustees may change, modify or
eliminate any of the foregoing practices.
- ------------------------------------------------------------------------------
EXPENSES
- ------------------------------------------------------------------------------
INVESTMENT ADVISORY FEES
For each of the Fund's last fiscal year, the table below lists the total
dollar amounts paid by (1) the Fund to Keystone Management, Inc., the Fund's
former investment manager, for investment management and administrative services
rendered and (2) by Keystone Management to Keystone for investment advisory
services rendered. For more information, see "Investment Adviser."
Percent of Fund's
Fee Paid to Keystone Average Net Assets Fee Paid to
Management under represented by Keystone under
Fiscal Year Ended the Management Keystone the Advisory
October 31, Agreement Management's Fee Agreement
- ----------------- -------------------- ------------------- ---------------
1996 $ % $
1995 $2,799,544 0.61% $2,379,612
1994 $2,440,144 0.62% $2,074,122
17832
16
DISTRIBUTION PLAN EXPENSES
For the fiscal year ended October 31, 1996, the Fund paid $ to EKIS
under its Distribution Plan. For more information, see "Distribution Plan."
UNDERWRITING COMMISSIONS
For each of the Fund's last three fiscal years, the table below lists the
aggregate dollar amounts of underwriting commissions (front-end sales charges,
plus distribution fees, plus CDSCs) paid with respect to the public distribution
of the Fund's shares. The table also indicates the aggregate dollar amount of
underwriting commissions retained by EKIS. For more information, see "Principal
Underwriter" and "Sales Charges."
Aggregate Dollar Amount of
Fiscal Year Ended Aggregate Dollar Amount of Underwriting Commissions
August 31, Underwriting Commissions Retained by EKIS
- ------------------ -------------------------- --------------------------
1996 $ $
1995 $4,366,474 $217,959
1994 $2,918,769 $1,070,098
BROKERAGE COMMISSIONS
Listed below are the aggregate dollar amounts paid by the Fund in
brokerage commissions for each of the last three fiscal years. Also listed are
the For more information, see "Brokerage."
<TABLE>
<CAPTION>
Of the amount paid in Of the amount paid
Brokerage in Brokerage
Aggregate Dollar Commissions, the Commissions, the
For the Fiscal Amount of following amounts following amounts
Year Ended Brokerage were paid to Kokusai were paid to
August 31, Commissions Paid Securities, Inc. [Nomura]
- ----------------- ----------------- ------------------- ------------------
<C> <C> <C> <C>
1996
1995 $871,000 $38,184 $11,738
1994 $404,419 $0 $0
</TABLE>
- ------------------------------------------------------------------------------
STANDARDIZED TOTAL RETURN AND YIELD QUOTATIONS
- ------------------------------------------------------------------------------
Total return quotations for the Fund as they may appear from time to time
in advertisements are calculated by finding the average annual compounded rates
of return over the one, five and ten year periods on a hypothetical $1,000
investment that would equate the initial amount invested to the ending
redeemable value. To the initial investment all dividends and distributions are
added and all recurring fees charged to all shareholder accounts are deducted.
The ending redeemable value assumes a complete redemption at the end of the one,
five or ten year periods.
The annual total return of the Fund for the one year period ending October
31, 1996 was % (including applicable sales charge). The compounded average
annual rate of return for the five and ten year periods ended October 31, 1996
were % and % , respectively.
- ------------------------------------------------------------------------------
FINANCIAL STATEMENTS
- ------------------------------------------------------------------------------
The following financial statements of the Fund are incorporated by
reference herein from the Fund's Annual Report, as filed with the SEC:
Schedule of Investments as of October 31, 1996;
Statement of Assets and Liabilities as of October 31, 1996;
Statement of Operations for the year ended October 31, 1996;
Statements of Changes in Net Assets for each of the years in the two-year
period ended October 31, 1996;
Financial Highlights for each of the years in the ten-year period ended
October 31, 1996;
Notes to Financial Statements; and
Independent Auditors' Report dated November 29, 1996.
The following financial statements of the Fund are incorporated by
reference herein from the Fund's Semiannual Report, as filed with the SEC:
Schedule of Investments as of April 30, 1996 (unaudited);
Statement of Assets and Liabilities as of April 30, 1996 (unaudited);
Statement of Operations for the year ended April 30, 1996 (unaudited);
Statements of Changes in Net Assets for each of the years in the two-year
period ended April 30, 1996;
Financial Highlights for each of the years in the five-year period ended
April 30, 1996 and for the six months ended April 30, 1996; and
Notes to Financial Statements (unaudited).
A copy of the Fund's Annual Report will be furnished upon request and
without charge. Requests may be made in writing to EKSC, P.O. Box 2121, Boston,
Massachusetts 02106-5034, or by calling EKSC toll free at 1-800-343-2898.
- ------------------------------------------------------------------------------
ADDITIONAL INFORMATION
- ------------------------------------------------------------------------------
State Street Bank and Trust Company, 225 Franklin Street, Boston,
Massachusetts 02110, is custodian of all securities and cash of the Fund (the
"Custodian"). The Custodian may hold securities of some foreign issuers outside
the United States. The Custodian performs no investment management functions for
the Fund, but, in addition to its custodial services is responsible for
accounting and related recordkeeping on behalf of the Fund.
KPMG Peat Marwick LLP, 99 High Street, Boston, Massachusetts 02110,
Certified Public Accountants, are the independent auditors for the Fund.
EKSC, located at 200 Berlkey Street, Boston, Massachusetts 02106-5034, is
a wholly-owned subsidiary of Keystone and serves as the Fund's transfer agent
and dividend disbursing agent.
To the best of the Fund's knowledge, no shareholders of record owned 5% or
more of the Fund's outstanding shares on November 30, 1996.
Except as otherwise stated in its prospectus or required by law, the Fund
reserves the right to change the terms of the offer stated in its prospectus
without shareholder approval, including the right to impose or change fees for
services provided.
If conditions arise that would make it undesirable for the Fund to pay for
all redemptions in cash, the Board of Trustees may authorize payment to be made
in portfolio securities or other Fund property. The Fund has obligated itself,
however, under the 1940 Act to redeem for cash all shares presented for
redemption by any one shareholder in any 90-day period up to the lesser of
$250,000, or 1% of the Fund's net assets. Securities delivered in payment of
redemptions would be valued at the same value assigned to them in computing the
net asset value per share. Shareholders receiving such securities would incur
brokerage costs when these securities are sold.
No dealer, salesman or other person is authorized to give any information
or to make any representation not contained in the Fund's prospectus, this
statement of additional information or in supplemental sales literature issued
by the Fund or EKD, and no person is entitled to rely on any information or
representation not contained therein.
The Fund's prospectus and this statement of additional information omit
certain information contained in the registration statement filed with the
Securities and Exchange Commission, which may be obtained from the Securities
and Exchange Commission's principal office in Washington, D.C. upon payment of
the fee prescribed by the rules and regulations promulgated by the Securities
and Exchange Commission.
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
KEYSTONE MID-CAP GROWTH FUND (S-3)
December 10, 1996
As Supplemented December 11, 1996
This statement of additional information is not a prospectus, but
relates to, and should be read in conjunction with, the prospectus of Keystone
Mid-Cap Growth Fund (S-3) (the "Fund") dated December 10, 1996, as supplemented.
A copy of the prospectus may be obtained from the Fund's principal underwriter,
Evergreen Keystone Distributor, Inc., located at 230 Park Avenue, New York, New
York 10169, or your broker-dealer.
TABLE OF CONTENTS
Page
Investment Objective and Policies...............................2
Investment Restrictions.........................................2
Valuation of Securities.........................................4
Distributions and Taxes.........................................4
Sales Charges...................................................5
Distribution Plan7
The Trust Agreement............................................ 8
Investment Adviser............................................. 9
Trustees and Officers..........................................11
Principal Underwriter..........................................15
Sub-Administrator..............................................15
Brokerage......................................................16
Expenses.......................................................17
Standardized Total Return
and Yield Quotations........................................19
Additional Information.........................................19
Financial Statements...........................................20
Appendix......................................................A-1
<PAGE>
INVESTMENT OBJECTIVE AND POLICIES
The Fund is an open-end, diversified management investment company,
commonly known as a mutual fund. The Fund's investment objective is to provide
shareholders with growth of capital by investing its assets as fully as
practicable.
Keystone Investment Management Company ("Keystone") is the Fund's
investment adviser. Evergreen Keystone Distributor, Inc. (formerly Evergreen
Funds Distributor, Inc.) ("EKD" or the "Principal Underwriter") is the Fund's
principal underwriter. Evergreen Keystone Investment Services, Inc. (formerly
Keystone Investment Distributors Company) ("EKIS") is the predecessor to the
Principal Underwriter. See "Investment Adviser" and "Principal Underwriter"
below.
Certain information about the Fund is contained in the prospectus. This
statement of additional information provides information that may be of interest
to some investors.
INVESTMENT RESTRICTIONS
Fundamental Investment Restrictions
The Fund has adopted the fundamental investment restrictions set forth
below, which may not be changed without a vote of the majority of the Fund's
outstanding shares (as defined in the Investment Company Act of 1940 (the "1940
Act")). Unless otherwise stated, all references to Fund assets are in terms of
current market value.
The Fund may not do any of the following:
(1) with respect to 75% of its total assets, invest more than 5% of the
value of its total assets, determined at market or other fair value at the time
of purchase, in the securities of any one issuer, or invest in more than 10% of
the outstanding voting securities of any one issuer, all as determined
immediately after such investment; provided that these limitations do not apply
to investments in securities issued or guaranteed by the United States ("U.S.")
government or its agencies or instrumentalities;
(2) invest more than 5% of the value of its total assets in companies
which have been in operation for less than three years;
(3) borrow money, except that the Fund may (a) borrow money from banks
for temporary or emergency purposes in aggregate amounts up to 10% of the value
of the Fund's net assets (computed at cost); or (b) enter into reverse
repurchase agreements (bank borrowings and reverse repurchase agreements, in
aggregate, shall not exceed 10% of the value of the Fund's net assets);
(4) underwrite securities, except that the Fund may purchase securities
from issuers thereof or others and dispose of such securities in a manner
consistent with its other investment policies; in the disposition of restricted
securities the Fund may be deemed to be an underwriter, as defined in the
Securities Act of 1933 (the "1933 Act");
(5) purchase or sell real estate or interests in real estate, except
that it may purchase and sell securities secured by real estate and securities
of companies which invest in real estate, and will not purchase or sell
commodities or commodity contracts, except that the Fund may engage in currency
or other financial futures contracts and related options transactions;
(6) invest for the primary purpose of exercising control over or
management of any issuer;
(7) make margin purchases or short sales of securities;
(8) make loans, except that the Fund may purchase money market
securities, enter into repurchase agreements, buy publicly and privately
distributed debt securities and lend limited amounts of its portfolio securities
to broker-dealers; all such investments must be consistent with the Fund's
investment objective and policies;
(9) invest more than 25% of its total assets in the securities of
issuers in any single industry, other than securities issued by banks and
savings and loan associations or securities issued or guaranteed by the U.S.
government, its agencies or instrumentalities; and
(10) purchase the securities of any other investment company except in
the open market and at customary brokerage rates and in no event more than 3% of
the voting securities of any investment company.
If a percentage limit is satisfied at the time of investment or
borrowing, a later increase or decrease resulting from a change in the value of
a security or a decrease in Fund assets is not a violation of the limit.
The Fund has no current intention of attempting to increase its net
income by borrowing and intends to repay any borrowings made in accordance with
the third investment restriction enumerated above before further investments are
made.
Non-Fundamental Investment Restrictions
The Fund intends to follow policies of the Securities and Exchange
Commission ("SEC") as they are adopted from time to time with respect to
illiquid securities, including, at this time, (1) treating as illiquid
securities that may not be sold or disposed of in the ordinary course of
business within seven days at approximately the value at which the Fund has
valued the investment on its books and (2) limiting its holdings of such
securities to 15% of its net assets.
Additional restrictions adopted by the Fund, which may be changed by
the Fund's Board of Trustees, provide that the Fund may not purchase or retain
securities of an issuer if, to the knowledge of the Fund, any officer, Trustee,
or Director of the Fund or Keystone, each owning beneficially more than 1/2 of
1% of the securities of such issuer, own, in the aggregate, more than 5% of the
securities of such issuer, or such persons or management personnel of the Fund
or Keystone have a substantial beneficial interest in the securities of such
issuer. Portfolio securities of the Fund may not be purchased from or sold or
loaned to Keystone, or any affiliate thereof, or any of their Directors,
officers, or employees.
VALUATION OF SECURITIES
Current value for the Fund's portfolio securities is determined in the
following manner:
(1) securities traded on an established exchange are valued on the
basis of the last sales price on the exchange where the securities are primarily
traded prior to the time of the valuation;
(2) securities traded in the over-the-counter market, for which
complete quotations are readily available, are valued at the mean of the bid and
asked prices at the time of valuation, or as otherwise specified by the Board of
Trustees;
(3) short-term investments with initial or remaining maturities of
sixty days or less are valued at amortized cost (original purchase cost as
adjusted for amortization of premium or accretion of discount), which, when
combined with accrued interest, approximates market;
(4) short-term investments with greater than sixty days to maturity are
valued at market value; and
(5) the Fund's Board of Trustees values the following securities at
prices it deems in good faith to be fair: (a) securities, including restricted
securities, for which complete quotations are not readily available; (b) listed
securities, if in the Board's opinion, the last sales price does not reflect a
current market value or if no sale occurred; and (C) other assets.
DISTRIBUTIONS AND TAXES
The Fund will make distributions from net investment income and net
realized capital gains, if any, annually in shares or, at the option of the
shareholder, in cash. (Distributions of ordinary income may be eligible in whole
or in part for the corporate 70% dividends received deduction.) Shareholders who
have not opted, prior to the record date for any distribution, to receive cash
will have the number of distributed shares determined on the basis of the Fund's
net asset value per share computed at the end of the day on the ex-dividend date
after adjustment for the distribution. Net asset value is used in computing the
number of shares in both gains and income distribution reinvestments. Account
statements and/or checks, as appropriate, will be mailed to shareholders by the
15th of the appropriate month. Unless the Fund receives instructions to the
contrary from a shareholder before the record date, it will assume that the
shareholder wishes to receive that distribution and future gains and income
distributions in shares. Instructions continue in effect until changed in
writing.
Distributed long-term capital gains are taxable as such to the
shareholder regardless of the period of time Fund shares have been held by the
shareholder. However, if such shares are held less than six months and redeemed
at a loss, the shareholder will recognize a long-term capital loss on such
shares to the extent of the long-term capital gain distribution received in
connection with such shares. If the net asset value of the Fund's shares is
reduced below a shareholder's cost by a capital gains distribution, such
distribution, to the extent of the reduction, would be a return of investment
though taxable as stated above. Since distributions of capital gains depend upon
profits actually realized from the sale of securities by the Fund, they may or
may not occur. The foregoing comments relating to the taxation of dividends and
distributions paid on the Fund's shares relate solely to federal income
taxation. Such dividends and distributions may also be subject to state and
local taxes.
When making a distribution, the Fund intends to distribute only such
net capital gains and income as the Fund has predetermined, to the best of its
ability, to be taxable as ordinary income. The Fund will advise its shareholders
annually as to the federal income tax status of distributions.
SALES CHARGES
The Fund may charge a contingent deferred sales charge (a "CDSC") when
you redeem certain of its shares within four calendar years after the month in
which you purchase the shares. The Fund charges a CDSC as reimbursement for
certain expenses, such as commissions or shareholder servicing fees, that it has
incurred in connection with the sale of its shares (see "Distribution Plan"). If
imposed, the Fund deducts the CDSC from the redemption proceeds you would
otherwise receive. CDSCs attributable to your shares are, to the extent
permitted by the National Association of Securities Dealers, Inc. ("NASD"), paid
to the Principal Underwriter or EKIS, its predecessor.
Calculating the CDSC
The CDSC is a declining percentage of the lesser of (1) the net asset
value of the shares you redeemed, or (2) the total cost of such shares. The CDSC
is calculated according to the following schedule:
1. 4% of amounts redeemed during the calendar year of purchase;
2. 3% of amounts redeemed during the calendar year after the year
of purchase;
3. 2% of amounts redeemed during the second calendar year after
the year of purchase; and
4. 1% of amounts redeemed during the third calendar year after
the year of purchase.
The Fund does not charge a CDSC on shares redeemed after the third
calendar year after the year of purchase. Also, in determining whether a CDSC is
payable and, if so, the percentage charge applicable, the Fund will first redeem
shares not subject to a CDSC and will then redeem shares you have held the
longest.
CDSC Waivers
Redemptions. The Fund does not impose a CDSC when the amount you are
redeeming represents:
1. an increase in the value of the shares redeemed (the value of
your account with respect to shares purchased prior to January
1, 1997) above the total cost of such shares due to increases
in the net asset value per share of the Fund;
2. certain shares for which the Fund did not pay a commission on
issuance, including shares acquired through reinvestment of
dividend income and capital gains distributions;
3. shares you have held for all or part of more than four
consecutive calendar years;
4. shares that are held in the accounts of a shareholder who has
died or become disabled;
5. a lump-sum distribution from a 401(k) plan or other benefit
plan qualified under the Employee Retirement Income Security
Act of 1974 ("ERISA");
6. automatic withdrawals from the ERISA plan of a shareholder who
is a least 59 1/2 years old;
7. shares in an account that the Fund has closed because the
account has an aggregate net asset value of less than $1,000;
8. automatic withdrawals under a Systematic Income Plan of up to
1% per month of your initial account balance;
9. withdrawals consisting of loan proceeds to a retirement plan
participant;
10. financial hardship withdrawals made by a retirement plan
participant;
11. withdrawals consisting of returns of excess contributions or
excess deferral amounts made to a retirement plan; or
12. shares purchased by a bank or trust company in a single
account in the name of such bank or trust company as trustee
if the initial investment in shares of the Fund, any other
Fund in the Keystone Fund Family, Keystone Precious Metals
Holdings, Inc., Keystone International Fund Inc., Keystone Tax
Free Fund, Keystone Liquid Trust and/or any Keystone America
Fund, is at least $500,000 and any commission paid by the Fund
and such other fund at the time of such purchase is not more
than 1% of the amount invested.
Exchanges. The Fund does not charge a CDSC on exchanges of shares
between funds in the Keystone Fund Family that have adopted distribution plans
pursuant to Rule 12b-1 under the 1940 Act. If you do exchange shares of one such
fund for shares of another such fund, the Fund will deem the calendar year of
the exchange, for purposes of any future CDSC, to be the year the shares
tendered for exchange were originally purchased.
Sales. The Fund may sell shares at the public offering price, which is
equal to net asset value, without the imposition of a CDSC to:
1. any Director, Trustee, officer, full-time employee or sales
representative of the Fund, Keystone, Keystone Investments,
the Principal Underwriter or their affiliates, who has held
such position for at least ninety days; and
2. the pension and profit-sharing plans established by such
companies and their affiliates, for the benefit of their
Directors, Trustees, officers, full-time employees and sales
representatives.
However, we will only sell shares to these parties upon the purchaser's
written assurance that he or she is buying the shares for investment purposes
only. Such purchasers may not resell the securities except through redemption by
the Fund.
DISTRIBUTION PLAN
Rule 12b-1 under the 1940 Act permits investment companies, such as the
Fund, to use their assets to bear the expenses of distributing their shares if
they comply with various conditions, including the adoption of a distribution
plan containing certain provisions set forth in Rule 12b-1. The Fund bears some
of the costs of selling its shares under a Distribution Plan adopted pursuant to
Rule 12b-1 (the "Distribution Plan").
The Fund's Distribution Plan provides that the Fund may expend up to
0.3125% quarterly (approximately 1.25% annually) of the average daily net asset
value of its shares to pay distribution costs for sales of its shares and to pay
shareholder service fees. The National Association of Securities Dealers, Inc.
("NASD") limits such annual expenditures to 1.00%, of which 0.75% may be used to
pay distribution costs and 0.25% may be used to pay shareholder service fees.
The NASD also limits the aggregate amount that the Fund may pay for such
distribution costs to 6.25% of gross share sales since the inception of the
Fund's Distribution Plan plus interest at the prime rate plus 1% on unpaid
amounts thereof (less any CDSCs paid by shareholders to the Principal
Underwriter or its predecessor).
Payments under the Distribution Plan are currently made to the
Principal Underwriter (which may reallow all or part to others, such as
broker-dealers) (1) as commissions for Fund shares sold, (2) as shareholder
service fees in respect of shares maintained by the recipients and outstanding
on the Fund's books for specific periods and (3) as interest. Amounts paid or
accrued to the Principal Underwriter in the aggregate may not exceed the
limitation referred to above. The Principal Underwriter generally reallows to
broker-dealers or others a commission equal to 4% of the price paid for each
Fund share sold. In addition, the Principal Underwriter generally reallows to
broker-dealers or others a shareholder service fee at a rate of 0.25% per annum
of the net asset value of shares maintained by such recipients and outstanding
on the books of the Fund for specified periods.
If the Fund is unable to pay the Principal Underwriter a commission on
a new sale because the annual maximum (0.75% of average daily net assets) has
been reached, the Principal Underwriter intends, but is not obligated, to
continue to accept new orders for the purchase of Fund shares and to pay
commissions and service fees to broker-dealers in excess of the amount it
currently receives from the Fund ("Advances"). While the Fund is under no
contractual obligation to reimburse the Principal Underwriter for such Advances
that exceed the Distribution Plan limitation, the Principal Underwriter intends
to seek full payment of such amounts from the Fund (together with interest at
the prime-rate plus one percent) at such time in the future as, and to the
extent that, payment thereof by the Fund would be within permitted limits. If
the Independent Trustees (Trustees who are not interested persons (as defined in
the 1940 Act) of the Fund and who have no direct or indirect financial interest
in the Distribution Plan or any agreement related thereto) authorize such
payments, the effect will be to extend the period of time during which the Fund
incurs the maximum amount of costs allowed by the Distribution Plan.
The total amounts paid by the Fund under the foregoing arrangements may
not exceed the maximum Distribution Plan limit specified above, and the amounts
and purposes of expenditures under the Distribution Plan must be reported to the
Fund's Independent Trustees quarterly. The Fund's Independent Trustees may
require or approve changes in the implementation or operation of the
Distribution Plan and may require that total expenditures by the Fund under the
Distribution Plan be kept within limits lower than the maximum amount permitted
by the Distribution Plan as stated above. If such costs are not limited by the
Independent Trustees, such costs could, for some period of time, be higher than
such costs permitted by most other plans presently adopted by other investment
companies.
The Distribution Plan may be terminated at any time by vote of the
Independent Trustees or by vote of a majority of the outstanding voting
securities of the Fund. If the Distribution Plan is terminated, the Principal
Underwriter will ask the Independent Trustees to take whatever action they deem
appropriate under the circumstances with respect to payment of Advances.
Any change in the Distribution Plan that would materially increase the
distribution expenses of the Fund provided for in the Distribution Plan requires
shareholder approval. Otherwise, the Distribution Plan may be amended by votes
of the majority of both (1) the Fund's Trustees and (2) the Independent Trustees
cast in person at a meeting called for the purpose of voting on such amendment.
While the Distribution Plan is in effect, the Fund is required to
commit the selection and nomination of candidates for Independent Trustees to
the discretion of the Independent Trustees.
The Independent Trustees of the Fund have determined that the sales of
the Fund's shares resulting from payments under the Distribution Plan have
benefited the Fund.
THE TRUST AGREEMENT
Trust Agreement
The Fund is a Pennsylvania common law trust established under a Trust
Agreement, as restated and amended (the "Trust Agreement"). The Trust Agreement
provides for a Board of Trustees and enables the Fund to enter into an agreement
with an investment manager and/or adviser to provide the Fund with investment
advisory, management and administrative services. A copy of the Trust Agreement
is on file as an exhibit to the Fund's Registration Statement, of which this
statement of additional information is a part. This summary is qualified in its
entirety by reference to the Trust Agreement.
Description of Shares
The Trust Agreement authorizes the issuance of an unlimited number of
shares of beneficial interest and the creation of additional series and/or
classes of series of Fund shares. Each share represents an equal proportionate
interest in the Fund with each other share of that class. Upon liquidation,
shares are entitled to a pro rata share in the net assets of their class of Fund
shares. Shareholders shall have no preemptive or conversion rights. Shares are
transferable. The Fund currently intends to issue only one class of shares.
Shareholder Liability
Pursuant to court decisions or other theories of law, shareholders of a
Pennsylvania common law trust could possibly be held personally liable for the
obligations of the trust. The possibility of Fund shareholders incurring
financial loss under such circumstances appears to be remote, however, because
the Trust Agreement (1) contains an express disclaimer of shareholder liability
for obligations of the Fund; (2) requires that notice of such disclaimer be
given in each agreement, obligation, or instrument entered into or executed by
the Fund or the Trustees; and (3) provides for indemnification out of Fund
property for any shareholder held personally liable for the obligations of the
Fund.
Voting Rights
Under the terms of the Trust Agreement, the Fund does not hold annual
meetings. At meetings called for the initial election of Trustees or to consider
other matters, shares are entitled to one vote per share. Shares generally vote
together as one class on all matters. No amendment may be made to the Trust
Agreement that adversely affects any class of shares without the approval of a
majority of the shares of that class. There shall be no cumulative voting in the
election of Trustees.
After a meeting as described above, no further meetings of shareholders
for the purpose of electing Trustees will be held, unless required by law, or
until such time as less than a majority of the Trustees holding office have been
elected by shareholders, at which time, the Trustees then in office will call a
shareholders' meeting for the election of Trustees.
Except as set forth above, the Trustees shall continue to hold office
indefinitely unless otherwise required by law and may appoint successor
Trustees. A Trustee may cease to hold office or may be removed from office (as
the case may be) (1) at any time by a two-thirds vote of the remaining Trustees;
(2) when such Trustee becomes mentally or physically incapacitated; or (3) at a
special meeting of shareholders by a two-thirds vote of the outstanding shares.
Any Trustee may voluntarily resign from office.
Limitation of Trustees' Liability
The Trust Agreement provides that a Trustee shall be liable only for
his own willful defaults and, if reasonable care has been exercised in the
selection of officers, agents, employees, or investment advisers, shall not be
liable for any neglect or wrongdoing of any such person; provided, however, that
nothing in the Trust Agreement shall protect a Trustee against any liability for
his willful misfeasance, bad faith, gross negligence, or reckless disregard of
his duties.
The Trustees have absolute and exclusive control over the management
and disposition of all assets of the Fund and may perform such acts as in their
sole judgment and discretion are necessary and proper for conducting the
business and affairs of the Fund or promoting the interests of the Fund and the
shareholders.
INVESTMENT ADVISER
Subject to the general supervision of the Fund's Board of Trustees,
Keystone provides investment advice, management and administrative services to
the Fund. Keystone, organized in 1932, is a wholly-owned subsidiary of Keystone
Investments. Keystone Investments provides accounting, bookkeeping, legal,
personnel, and general corporate services to Keystone, its affiliates, and the
Keystone Investments Families of Funds. Both Keystone and Keystone Investments
are located at 200 Berkeley Street, Boston, Massachusetts 02116-5034.
On December 11, 1996, the predecessor corporation to Keystone
Investments and indirectly each subsidiary of Keystone Investments, including
Keystone, the Fund's investment adviser, were acquired (the "Acquisition") by
First Union National Bank of North Carolina ("FUNB"), a wholly-owned subsidiary
of First Union Corporation ("First Union"). The predecessor corporation to
Keystone Investments was acquired by FUNB by merger into a wholly-owned
subsidiary of FUNB, which entity then assumed the name "Keystone Investments,
Inc." and succeeded to the business of the predecessor corporation.
Contemporaneously with the Acquisition, the Fund entered into a new investment
advisory agreement with Keystone and into a principal underwriting agreement
with EKD, a wholly-owned subsidiary of Furman Selz LLC ("Furman Selz"). The new
investment advisory agreement (the "Advisory Agreement") was approved by the
shareholders of the Fund on December 9, 1996, and became effective on December
11, 1996. As a result of the above transactions, Keystone Management, Inc.
("Keystone Management"), which, prior to the Acquisition, acted as the Fund's
investment manager, no longer acts as such to the Fund. Keystone currently
provides the Fund with all the services that may previously have been provided
by Keystone Management.
Keystone Investments and each of its subsidiaries, including Keystone,
are now indirectly owned by First Union. First Union is headquartered in
Charlotte, North Carolina, and had $133.9 billion in consolidated assets as of
September 30, 1996. First Union and its subsidiaries provide a broad range of
financial services to individuals and businesses throughout the United States.
The Capital Management Group of FUNB, together with Lieber & Company and
Evergreen Asset Management Corp., wholly-owned subsidiaries of FUNB, manage or
otherwise oversee the investment of over $50 billion in assets belonging to a
wide range of clients, including the Evergreen Family of Funds.
Pursuant to the Advisory Agreement and subject to the supervision of
the Fund's Board of Trustees, Keystone furnishes to the Fund investment
advisory, management and administrative services, office facilities, and
equipment in connection with its services for managing the investment and
reinvestment of the Fund's assets; and pays all expenses of Keystone incurred in
connection with the provision of its services.
All charges and expenses, other than those specifically referred to as
being borne by Keystone, will be paid by the Fund, including, but not limited
to, custodian charges and expenses; bookkeeping and auditors' charges and
expenses; transfer agent charges and expenses; fees of Independent Trustees;
brokerage commissions, brokers' fees and expenses; issue and transfer taxes;
costs and expenses under the Distribution Plan; taxes and trust fees payable to
governmental agencies; the cost of share certificates; fees and expenses of the
registration and qualification of the Fund and its shares with the SEC or under
state or other securities laws; expenses of preparing, printing and mailing
prospectuses, statements of additional information, notices, reports and proxy
materials to shareholders of the Fund; expenses of shareholders' and Trustees'
meetings; charges and expenses of legal counsel for the Fund and for the
Independent Trustees of the Fund on matters relating to the Fund; charges and
expenses of filing annual and other reports with the SEC and other authorities,
and all extraordinary charges and expenses of the Fund.
The Fund pays Keystone a fee for its services at the annual rate set
forth below:
Aggregate Net Asset Value
Management Fee of the Shares of the Fund
0.70%of the first $ 100,000,000, plus
0.65%of the next $ 100,000,000, plus
0.60%of the next $ 100,000,000, plus
0.55%of the next $ 100,000,000, plus
0.50%of the next $ 100,000,000, plus
0.45%of the next $ 500,000,000, plus
0.40%of the next $ 500,000,000, plus
0.35%of amounts over $1,500,000,000;
Keystone's fee is computed as of the close of business each business day and
payable daily.
Under the Advisory Agreement, any liability of Keystone in connection
with rendering services thereunder is limited to situations involving its
willful misfeasance, bad faith, gross negligence or reckless disregard of its
duties.
The Advisory Agreement continues in effect for two years from its
effective date and, thereafter, from year to year only if approved at least
annually by the Board of Trustees of the Fund or by a vote of a majority of the
Fund's outstanding shares (as defined in the 1940 Act). In either case, the
terms of the Advisory Agreement and continuance thereof must be approved by the
vote of a majority of the Independent Trustees cast in person at a meeting
called for the purpose of voting on such approval. The Advisory Agreement may be
terminated, without penalty, on 60 days' written notice by the Fund's Board of
Trustees or by a vote of a majority of outstanding shares. The Advisory
Agreement will terminate automatically upon its "assignment" as that term is
defined in the 1940 Act.
TRUSTEES AND OFFICERS
The Trustees and officers of the Fund, their addresses, their principal
occupations and some of their affiliations over the last five years are as
follows:
FREDERICK AMLING: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Professor,
Finance Department, George Washington
University; President, Amling & Company
(invest ment advice); and former Member,
Board of Advisers, Credito Emilano
(banking).
LAURENCE B. ASHKIN: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Trustee of
all the Evergreen funds other than Evergreen
Investment Trust; real estate developer and
construction consultant; and President of
Centrum Equities and Centrum Properties,
Inc.
CHARLES A. AUSTIN III: Trustee of the Fund; Trustee
or Director of all other funds in the Key
stone Investments Families of Funds;
Investment Counselor to Appleton Partners,
Inc.; and former Managing Director, Seaward
Management Corporation (investment advice).
FOSTER BAM: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Trustee of
all the Evergreen funds other than Evergreen
Investment Trust; Partner in the law firm of
Cummings & Lockwood; Director, Symmetrix,
Inc. (sulphur company) and Pet Practice,
Inc. (veterinary services); and former
Director, Chartwell Group Ltd. (Manufacturer
of office furnishings and accessories),
Waste Disposal Equipment Acquisition
Corporation and Rehabilitation Corporation
of America (rehabilitation hospitals).
*GEORGE S. BISSELL: Chairman of the Board and
Trustee of the Fund; Chairman of the Board
and Trustee or Director of all other funds
in the Keystone Investments Families of
Funds; Chairman of the Board and Trustee of
Anatolia College; Trustee of University
Hospital (and Chairman of its Investment
Committee); former Director and Chairman of
the Board of Hartwell Keystone; and former
Chairman of the Board, Director and Chief
Executive Officer of Keystone Investments.
EDWIN D. CAMPBELL: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Principal,
Padanaram Associates, Inc.; and former
Executive Director, Coalition of Essential
Schools, Brown University.
CHARLES F. CHAPIN: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; and former
Director, Peoples Bank (Charlotte, NC).
K.DUN GIFFORD: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Trustee,
Treasurer and Chairman of the Finance
Committee, Cambridge College; Chairman
Emeritus and Director, American Institute of
Food and Wine; Chairman and President,
Oldways Preservation and Exchange Trust
(education); former Chairman of the Board,
Director, and Executive Vice President, The
London Harness Company; former Managing
Partner, Roscommon Capital Corp.; former
Chief Executive Officer, Gifford Gifts of
Fine Foods; former Chairman, Gifford,
Drescher & Associates (environmental
consulting); and former Director, Keystone
Investments and Keystone.
JAMES S. HOWELL: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Chairman and
Trustee of the Evergreen funds; former
Chairman of the Distribution Foundation for
the Carolinas; and former Vice President of
Lance Inc. (food manufacturing).
LEROY KEITH, JR.: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Chairman of
the Board and Chief Executive Officer,
Carson Products Company; Director of Phoenix
Total Return Fund and Equifax, Inc.; Trustee
of Phoenix Series Fund, Phoenix
Multi-Portfolio Fund, and The Phoenix Big
Edge Series Fund; and former President,
Morehouse College.
F. RAY KEYSER, JR.: Trustee of the Fund;
Trustee or Director of all other funds in
the Key stone Investments Families of Funds;
Chairman and Of Counsel, Keyser, Crowley &
Meub, P.C.; Member, Governor's (VT) Council
of Eco nomic Advisers; Chairman of the Board
and Director, Central Vermont Public Service
Corporation and Lahey Hitchcock Clinic;
Director, Vermont Yankee Nuclear Power
Corporation, Grand Trunk Corporation, Grand
Trunk Western Railroad, Union Mutual Fire
Insurance Company, New England Guaranty
Insurance Company, Inc., and the Investment
Company Institute; former Director and
President, Associated Industries of Vermont;
former Director of Keystone, Central Vermont
Railway, Inc., S.K.I. Ltd., and Arrow
Financial Corp.; and former Director and
Chairman of the Board, Proctor Bank and
Green Mountain Bank.
GERALD M. MCDONELL: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Trustee of
the Evergreen funds; and Sales
Representative with Nucor-Yamoto, Inc.
(Steel producer).
THOMAS L. MCVERRY: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Trustee of
the Evergreen funds; former Vice President
and Director of Rexham Corporation; and
former Director of Carolina Cooperative
Federal Credit Union.
*WILLIAM WALT PETTIT: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Trustee of
the Evergreen funds; and Partner in the law
firm of Holcomb and Pettit, P.A.
DAVID M. RICHARDSON: Trustee of the Fund; Trustee
or Director of all other funds in the Key
stone Investments Families of Funds; Vice
Chair and former Executive Vice President,
DHR International, Inc. (executive
recruitment); former Senior Vice President,
Boyden International Inc. (executive recruit
ment); and Director, Commerce and Industry
Association of New Jersey, 411
International, Inc., and J&M Cumming Paper
Co.
RUSSELL A.
SALTON, III MD: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Trustee of
the Evergreen funds; Medical Director, U.S.
Health Care/Aetna Health Services; and
former Managed Health Care Consultant;
former President, Primary Physician Care.
MICHAEL S. SCOFIELD: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Trustee of
the Evergreen funds; and Attorney, Law
Offices of Michael S. Scofield.
RICHARD J. SHIMA: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Chairman,
Environmental Warranty, Inc. (Insurance
agency); Executive Consultant, Drake Beam
Morin, Inc. (executive outplacement);
Director of Connecticut Natural Gas
Corporation, Hartford Hospital, Old State
House Association, Middlesex Mutual
Assurance Company, and Enhance Financial
Services, Inc.; Chairman, Board of Trustees,
Hartford Graduate Center; Trustee, Greater
Hartford YMCA; former Director, Vice
Chairman and Chief Investment Officer, The
Travelers Corporation; former Trustee,
Kingswood-Oxford School; and former Managing
Director and Consultant, Russell Miller,
Inc.
*ANDREW J. SIMONS: Trustee of the Fund; Trustee or
Director of all other funds in the Key stone
Investments Families of Funds; Partner,
Farrell, Fritz, Caemmerer, Cleary, Barnosky
& Armentano, P.C.; Adjunct Professor of Law
and former Associate Dean, St. John's
University School of Law; Adjunct Professor
of Law, Touro College School of Law; and
former President, Nassau County Bar
Association.
JOHN J. PILEGGI: President and Treasurer of the
Fund; President and Treasurer of all other
funds in the Keystone Investments Families
of Funds; President and Treasurer of the
Evergreen funds; Senior Managing Director,
Furman Selz LLC since 1992; Managing
Director from 1984 to 1992; 230 Park Avenue,
Suite 910, New York, NY.
GEORGE O. MARTINEZ: Secretary of the Fund;
Secretary of all other funds in the Keystone
Investments Families of Funds; Senior Vice
President and Director of Administration and
Regulatory Services, BISYS Fund Services;
3435 Stelzer Road, Columbus, Ohio.
* This Trustee may be considered an "interested person" of the Fund within the
meaning of the 1940 Act.
Mr. Bissell is deemed an "interested person" of the Fund by virtue of
his ownership of stock of First Union Corporation ("First Union"), of which
Keystone is an indirect wholly-owned subsidiary. See "Investment Adviser." Mr.
Pettit and Mr. Simons may each be deemed an "interested person" as a result of
certain legal services rendered to a subsidiary of First Union by their
respective law firms, Holcomb and Pettit, P.A. and Farrell, Fritz, Caemmerer,
Cleary, Barnosky & Armentano, P.C. As of the date hereof, Mr. Pettit and Mr.
Simons are each applying for an exemption from the SEC which would allow them to
retain their status as an Independent Trustee.
After the transfer of EKD and its related mutual fund distribution and
administration business to BISYS, it is expected that all of the officers of the
Fund will be officers and/or employees of BISYS.
During the fiscal year ended August 31, 1996, no Trustee affiliated
with Keystone or any officer received any direct remuneration from the Fund.
Annual retainers and meeting fees paid by all funds in the Keystone Investments
Families of Funds (which includes over 30 mutual funds) for the calendar year
ended December 31, 1995 totalled approximately $450,716. On November 30, 1996,
the Fund's Trustees and officers beneficially owned less than 1% of the Fund's
then outstanding shares.
Except as set forth above, the address of all of the Fund's Trustees
and officers and the address of the Fund is 200 Berkeley Street, Boston,
Massachusetts 02116-5034.
PRINCIPAL UNDERWRITER
The Fund has entered into a Principal Underwriting Agreement (the
"Underwriting Agreement") with EKD. EKD, a wholly-owned subsidiary of Furman
Selz, which is not affiliated with First Union, is now the Principal
Underwriter. EKD replaces EKIS as the Fund's principal underwriter. EKIS may no
longer act as principal underwriter of the Fund due to regulatory restrictions
imposed by the Glass-Steagall Act upon national banks such as FUNB and their
affiliates, that prohibit such entities from acting as the underwriters of
mutual fund shares. While EKIS may no longer act as principal underwriter of the
Fund as discussed above, EKIS may continue to receive compensation from the Fund
or the Principal Underwriter in respect of underwriting and distribution
services performed prior to the termination of EKIS as principal underwriter. In
addition, EKIS may also be compensated by the Principal Underwriter for the
provision of certain marketing support services to the Principal Underwriter at
an annual rate of up to .75% of the average daily net assets of the Fund,
subject to certain restrictions. EKD is located at 230 Park Avenue, New York,
New York 10169.
The Principal Underwriter, as agent, has agreed to use its best efforts
to find purchasers for the shares. The Principal Underwriter may retain and
employ representatives to promote distribution of the shares and may obtain
orders from broker-dealers, and others, acting as principals, for sales of
shares to them. The Underwriting Agreement provides that the Principal
Underwriter will bear the expense of preparing, printing, and distributing
advertising and sales literature and prospectuses used by it. In its capacity as
principal underwriter, the Principal Underwriter or EKIS, its predecessor, may
receive payments from the Fund pursuant to the Fund's Distribution Plan.
The Underwriting Agreement provides that it will remain in effect as
long as its terms and continuance are approved annually (I) by a vote of a
majority of the Fund's Independent Trustees, and (ii) by vote of a majority of
the Fund's Trustees, in each case, cast in person at a meeting called for that
purpose.
The Underwriting Agreement may be terminated, without penalty, on 60
days' written notice by the Board of Trustees or by a vote of a majority of
outstanding shares. The Underwriting Agreement will terminate automatically upon
its "assignment," as that term is defined in the 1940 Act.
From time to time, if, in the Principal Underwriter's judgment, it
could benefit the sales of Fund shares, the Principal Underwriter may provide to
selected broker-dealers promotional materials and selling aids, including, but
not limited to, personal computers, related software, and Fund data files.
SUB-ADMINISTRATOR
Furman Selz provides officers and certain administrative services to
the Fund pursuant to a subadministration agreement. For its services under that
agreement Furman Selz will receive from 1Keystone an annual fee at the maximum
annual rate of .01% of the average daily net assets of the Fund. Furman Selz is
located at 230 Park Avenue, New York, New York 10169.
It is expected that on or about January 2, 1997, Furman Selz will
transfer EKD, and its related mutual fund distribution and administration
business, to BISYS Group, Inc. ("BISYS"). At that time, BISYS will succeed as
sub-administrator for the Fund. It is not expected that the acquisition of the
mutual fund distribution and administration business by BISYS will affect the
services currently provided by EKD or Furman Selz.
BROKERAGE
Selection of Brokers
In effecting transactions in portfolio securities for the Fund,
Keystone seeks the best execution of orders at the most favorable prices.
Keystone determines whether a broker has provided the Fund with best execution
and price in the execution of a securities transaction by evaluating, among
other things:
1. overall direct net economic result to the Fund;
2. the efficiency with which the transaction is effected;
3. the broker's ability to effect the transaction where a large
block is involved;
4. the broker's readiness to execute potentially difficult
transactions in the future;
5. the financial strength and stability of the broker; and
6. the receipt of research services, such as analyses and reports
concerning issuers, industries, securities, economic factors
and trends and other statistical and factual information.
The Fund's management weighs these considerations in determining the
overall reasonableness of the brokerage commissions paid.
Should the Fund or Keystone receive research and other statistical and
factual information from a broker, the Fund would consider such services to be
in addition to, and not in lieu of, the services Keystone is required to perform
under the Advisory Agreement. Keystone believes that the cost, value and
specific application of such information are indeterminable and cannot be
practically allocated between the Fund and its other clients who may indirectly
benefit from the availability of such information. Similarly, the Fund may
indirectly benefit from information made available as a result of transactions
effected for Keystone's other clients. Under the Advisory Agreement, Keystone is
permitted to pay higher brokerage commissions for brokerage and research
services in accordance with Section 28(e) of the Securities Exchange Act of
1934. In the event Keystone follows such a practice, it will do so on a basis
that is fair and equitable to the Fund.
Neither the Fund nor Keystone intends on placing securities
transactions with any particular broker. The Fund's Board of Trustees has
determined, however, that the Fund may consider sales of Fund shares as a factor
in the selection of brokers to execute portfolio transactions, subject to the
requirements of best execution described above.
Brokerage Commissions
The Fund expects to purchase and sell its securities and temporary
instruments through principal transactions. Bonds and money market instruments
are normally purchased directly from the issuer or from an underwriter or market
maker for the securities. In general, the Fund will not pay brokerage
commissions for such purchases. Purchases from underwriters will include the
underwriting commission or concession, and purchases from dealers serving as
market makers will include a dealer's mark-up or reflect a dealer's mark-down.
Where transactions are made in the over-the-counter market, the Fund will deal
with primary market makers unless more favorable prices are otherwise
obtainable.
General Brokerage Policies
In order to take advantage of the availability of lower purchase
prices, the Fund may participate, if and when practicable, in group bidding for
the direct purchase from an issuer of certain securities.
Keystone makes investment decisions for the Fund independently from
those of its other clients. It may frequently develop, however, that Keystone
will make the same investment decision for more than one client. Simultaneous
transactions are inevitable when the same security is suitable for the
investment objective of more than one account. When two or more of its clients
are engaged in the purchase or sale of the same security, Keystone will allocate
the transactions according to a formula that is equitable to each of its
clients. Although, in some cases, this system could have a detrimental effect on
the price or volume of the Fund's securities, the Fund believes that in other
cases its ability to participate in volume transactions will produce better
executions.
The Fund does not purchase portfolio securities from or sell portfolio
securities to Keystone, the Principal Underwriter, or any of their affiliated
persons, as defined in the 1940 Act.
The Board of Trustees will, from time to time, review the Fund's
brokerage policy. Because of the possibility of further regulatory developments
affecting the securities exchanges and brokerage practices generally, the Board
of Trustees may change, modify or eliminate any of the foregoing practices.
EXPENSES
Investment Advisory Fees
For each of the Fund's last three fiscal years, the table below lists
the total dollar amounts paid by (1) the Fund to Keystone Management, Inc.
("Keystone Management"), the Fund's former investment manager, for services
rendered under the Management Agreement and (2) by Keystone Management to
Keystone for services rendered under the Advisory Agreement. For more
information, see "Investment Adviser."
<TABLE>
<S> <C> <C> <C>
Percent of Fund's
Fee Paid to Keystone Average Net Assets Fee Paid to
Management under Represented by Keystone under
Fiscal Year Ended the Management Keystone the Advisory
August 31, Agreement Management's Fee Agreement
- ------------------------- ---------------------------- ---------------------------- -----------------------
1996 $1,908,509 0.66% $1,622,233
1995 $1,643,356 0.66% $1,396,853
1994 $1,749,485 0.66% $1,487,062
</TABLE>
Distribution Plan Expenses
For the fiscal year ended August 31, 1996, the Fund paid $2,099,791 to
EKIS under its Distribution Plan. For more information, see "Distribution Plan."
Underwriting Commissions
For each of the Fund's last three fiscal years, the table below lists
the aggregate dollar amounts of underwriting commissions (front-end sales
charges, plus distribution fees, plus CDSCs) paid with respect to the public
distribution of the Fund's shares. The table also indicates the aggregate dollar
amount of underwriting commissions retained by EKIS. For more information, see
"Principal Underwriter" and "Sales Charges."
<TABLE>
<S> <C> <C>
Aggregate Dollar Amount of
Fiscal Year Ended Aggregate Dollar Amount of Underwriting Commissions
August 31, Underwriting Commissions Retained by EKIS
- -------------------------- ---------------------------------------- -----------------------------------------
1996 $1,673,852 $275,433
1995 $572,851 $167,973
1994 $675,703 $190,655
</TABLE>
Brokerage Commissions
Listed below are the aggregate dollar amounts paid by the Fund in
brokerage commissions for each of the last three fiscal years. Also listed are
the For more information, see "Brokerage."
<TABLE>
<S> <C> <C>
For the Fiscal Year Aggregate Dollar Of the amount paid in Brokerage
Ended August 31, Amount of Brokerage Commissions, the following amounts
Commissions Paid were paid to Kokusai
securities, Inc.
- ---------------------------- ---------------------------- ------- -------------------------------------------------
1996 $1,015,753 $0
1995 $233,577 $875
1994 $389,368 $0
</TABLE>
STANDARDIZED TOTAL RETURN AND YIELD QUOTATIONS
Total return quotations for the Fund as they may appear from time to
time in advertisements are calculated by finding the average annual compounded
rates of return over one, five, and ten year periods on a hypothetical $1,000
investment that would equate the initial amount invested to the ending
redeemable value. To the initial investment all dividends and distributions are
added, and all recurring fees charged to all shareholder accounts are deducted.
The ending redeemable value assumes a complete redemption at the end of the one,
five, or ten year periods.
The cumulative total returns of the Fund for the one, five, and ten
year periods ended August 31, 1996 were 7.09% (including CDSCs), 63.49%, and
169.40%, respectively. The compounded average annual rates of return for the
one, five, and ten year periods ended August 31, 1996 were 7.09% (including
CDSCs), 10.33%, and 10.42%, respectively.
Current yield quotations as they may appear from time to time in
advertisements will consist of a quotation based on a 30-day period ended on the
date of the most recent balance sheet of the Fund, computed by dividing the net
investment income per share earned during the period by the maximum offering
price per share on the last day of the base period. The Fund presently does not
intend to advertise current yield.
ADDITIONAL INFORMATION
State Street Bank and Trust Company, 225 Franklin Street, Boston,
Massachusetts 02110, is custodian of all securities and cash of the Fund (the
"Custodian"). The Custodian may hold securities of some foreign issuers outside
the U.S. The Custodian performs no investment management functions for the Fund,
but, in addition to its custodial services, is responsible for accounting and
related recordkeeping on behalf of the Fund.
KPMG Peat Marwick LLP, located at 99 High Street, Boston, Massachusetts
02110, Certified Public Accountants, are the independent auditors for the Fund.
Evergreen Keystone Service Company (formerly Keystone Investor Resource
Center, Inc.) ("EKSC"), located at 200 Berkeley Street, Boston, Massachusetts
02116-5034, is a wholly-owned subsidiary of Keystone and acts as transfer agent
and dividend disbursing agent for the Fund.
To the best of the Fund's knowledge, there were no shareholders who
owned 5% or more of the Fund's outstanding shares on November 30, 1996.
Except as otherwise stated in its prospectus or required by law, the
Fund reserves the right to change the terms of the offer stated in its
prospectus without shareholder approval, including the right to impose or change
fees for services provided.
If conditions arise that would make it undesirable for the Fund to pay
for all redemptions in cash, the Fund may authorize payment to be made in
portfolio securities or other property. The Fund has obligated itself, however,
under the 1940 Act to redeem for cash all shares presented for redemption by any
one shareholder up to the lesser of $250,000 or 1% of the Fund's net assets in
any 90-day period. Securities delivered in payment of redemptions would be
valued at the same value assigned to them in computing the net asset value per
share and would, to the extent permitted by law, be readily marketable.
Shareholders receiving such securities would incur brokerage costs upon the
securities' sale.
No dealer, salesman, or other person is authorized to give any
information or to make any representation not contained in the Fund's
prospectus, this statement of additional information, or in supplemental sales
literature issued by the Fund or the Principal Underwriter, and no person is
entitled to rely on any information or representation not contained therein.
The Fund's prospectus and this statement of additional information omit
certain information contained in the registration statement filed with the
Commission, which may be obtained from the Commission's principal office in
Washington, D.C. upon payment of the fee prescribed by the rules and regulations
promulgated by the Commission.
FINANCIAL STATEMENTS
The following financial statements of the Fund are incorporated by
reference herein from the Fund's Annual Report, as filed with the Commission:
Schedule of Investments as of August 31, 1996;
Financial Highlights for each of the years in the ten-year period ended
August 31, 1996;
Statement of Assets and Liabilities as of August 31, 1996;
Statement of Operations for the year ended August 31, 1996;
Statements of Changes in Net Assets for each of the years in the
two-year period ended August 31, 1996;
Notes to Financial Statements; and
Independent Auditors' Report dated September 27, 1996.
A copy of the Fund's Annual Report will be furnished upon request and
without charge. Requests may be made in writing to EKSC, P.O. Box 2121, Boston,
Massachusetts 02106-2121, or by calling EKSC toll free at 1-800-343-2898.
- --------------------------------------------------------------------------------
APPENDIX
- --------------------------------------------------------------------------------
COMMON AND PREFERRED STOCK RATINGS
S&P's Earnings and Dividend Rankings for Common Stocks
Because the investment process involves assessment of various factors,
such as product and industry position, corporate resources and financial policy,
with results that make some common stocks more highly esteemed than others,
Standard & Poor's Corporation ("S&P") believes that earnings and dividend
performance is the end result of the interplay of these factors and that, over
the long run, the record of this performance has a considerable bearing on
relative quality. S&P rankings, however, do not reflect all of the factors,
tangible or intangible, that bear on stock quality.
Growth and stability of earnings and dividends are deemed key elements
in establishing S&P earnings and dividend rankings for common stocks, which
capsulize the nature of this record in a single symbol.
S&P has established a computerized scoring system based on per share
earnings and dividend records of the most recent ten years, a period deemed long
enough to measure a company's performance under varying economic conditions. S&P
measures growth, stability within the trend line and cyclicality. The ranking
system also makes allowances for company size, since large companies have
certain inherent advantages over small ones. From these, scores for earnings and
dividends are determined.
The final score for each stock is measured against a scoring matrix
determined by analysis of the scores of a large and representative sample which
is reviewed and sometimes modified with the following ladder of rankings:
A+ Highest
B+ Average
C Lowest
A High
B Below Average
D In Reorganization
A- Above Average
B- Lower
S&P believes its rankings are not a forecast of future market price
performance, but are basically an appraisal of past performance of earnings and
dividends and relative current standing.
Moody's Common Stock Rankings
Moody's Investors Service ("Moody's") presents a concise statement of
the important characteristics of a company and an evaluation of the grade
(quality) of its common stock. Data presented includes: (a) capsule stock
information which reveals short and long term growth and yield afforded by the
indicated dividend, based on a recent price; (b) a long term price chart which
shows patterns of monthly stock price movements and monthly trading volumes; (C)
a breakdown of a company's capital account which aids in determining the degree
of conservatism or financial leverage in a company's balance sheet; (d) interim
earnings for the current year to date, plus three previous years; (e) dividend
information; (f) company background; (g) recent corporate developments; (h)
prospects for a company in the immediate future and the next few years; and (I)
a ten year comparative statistical analysis.
This information provides investors with information on what a company
does, how it has performed in the past, how it is performing currently, and what
its future performance prospects appear to be.
These characteristics are then evaluated and result in a grading, or
indication of quality. The grade is based on an analysis of each company's
financial strength, stability of earnings, and record of dividend payments.
Other considerations include conservativeness of capitalization, depth and
caliber of management, accounting practices, technological capabilities and
industry position. Evaluation is represented by the following grades:
(1) High Grade
(2) Investment Grade
(3) Medium Grade
(4) Speculative Grade
Moody's Preferred Stock Ratings
Preferred stock ratings and their definitions are as follows:
1. aaa: An issue that is rated aaa is considered to be a
top-quality preferred stock. This rating indicates good asset
protection and the least risk of dividend impairment within
the universe of preferred stocks.
2. aa: An issue that is rated aa is considered a high-grade
preferred stock. This rating indicates that there is a
reasonable assurance that earnings and asset protection will
remain relatively well-maintained in the foreseeable future.
3. a: An issue that is rated a is considered to be an
upper-medium grade preferred stock. While risks are judged to
be somewhat greater then in the aaa and aa classification,
earnings and asset protection are, nevertheless, expected to
be maintained at adequate levels.
4. baa: An issue that is rated baa is considered to be a
medium-grade preferred stock, neither highly protected nor
poorly secured. Earnings and asset protection appear adequate
at present but may be questionable over any great length of
time.
5. ba: An issue that is rated ba is considered to have
speculative elements and its future cannot be considered
well-assured. Earnings and asset protection may be very
moderate and not well safeguarded during adverse periods.
Uncertainty of position characterizes preferred stocks in this
class.
6. b: An issue that is rated b generally lacks the
characteristics of a desirable investment. Assurance of
dividend payments and maintenance of other terms of the issue
over any long period of time may be small.
7. caa: An issue that is rated caa is likely to be in arrears on
dividend payments. This rating designation does not purport to
indicate the future status of payments.
8. ca: An issue that is rated ca is speculative in a high degree
and is likely to be in arrears on dividends with little
likelihood of eventual payments.
9. c: This is the lowest rated class of preferred or preference
stock. Issues so rated can be regarded as having extremely
poor prospects of ever attaining any real investment standing.
Moody's applies numerical modifiers 1, 2 and 3 in each rating
classification: the modifier 1 indicates that the security ranks in the higher
end of its generic rating category, the modifier 2 indicates a mid-range ranking
and the modifier 3 indicates that the issue ranks in the lower end of its
generic rating category.
CORPORATE BOND RATINGS
S&P Corporate Bond Ratings
An S&P corporate bond rating is a current assessment of the
creditworthiness of an obligor, including obligors outside the United States,
with respect to a specific obligation. This assessment may take into
consideration obligors such as guarantors, insurers or lessees. Ratings of
foreign obligors do not take into account currency exchange and related
uncertainties. The ratings are based on current information furnished by the
issuer or obtained by S&P from other sources it considers reliable.
The ratings are based, in varying degrees, on the following
considerations:
a. Likelihood of default - capacity and willingness of the
obligor as to the timely payment of interest and repayment of
principal in accordance with the terms of the obligation;
b. Nature of and provisions of the obligation; and
c. Protection afforded by and relative position of the obligation in
the event of bankruptcy, reorganization or other arrangement under the laws of
bankruptcy and other laws affecting creditors' rights.
PLUS (+) OR MINUS (-): To provide more detailed indications of credit
quality, ratings from AA to A may be modified by the addition of a plus or minus
sign to show relative standing within the major rating categories.
Bond ratings are as follows:
1. AAA - Debt rated AAA has the highest rating assigned by S&P.
Capacity to pay interest and repay principal is extremely
strong.
2. AA - Debt rated AA has a very strong capacity to pay interest and
repay principal and differs from the higher rated issues only in small degree.
3. A - Debt rated A has a strong capacity to pay interest and repay
principal although it is somewhat more susceptible to the adverse effects of
changes in circumstances and economic conditions than debt in higher rated
categories.
4. BBB - Debt rated BBB is regarded as having an adequate capacity to
pay interest and repay principal. Whereas it normally exhibits adequate
protection parameters, adverse economic conditions or changing circumstances are
more likely to lead to a weakened capacity to pay interest and repay principal
for debt in this category than in higher rated categories.
5. BB, B, CCC, CC and C - Debt rated BB, B, CCC, CC and C is regarded,
on balance, as predominantly speculative with respect to capacity to pay
interest and repay principal in accordance with the terms of the obligation. BB
indicates the lowest degree of speculation and C the highest degree of
speculation. While such debt will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or major risk
exposures to adverse conditions.
Moody's Corporate Bond Ratings
Moody's ratings are as follows:
1. Aaa - Bonds that are rated Aaa are judged to be of the best quality.
They carry the smallest degree of investment risk and are generally referred to
as "gilt-edge". Interest payments are protected by a large or by an
exceptionally stable margin and principal is secure. While the various
protective elements are likely to change, such changes as can be visualized are
most unlikely to impair the fundamentally strong position of such issues.
2. Aa - Bonds that are rated Aa are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known as
high grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in Aaa securities or fluctuation of protective
elements may be of greater amplitude or there may be other elements present
which make the long term risks appear somewhat larger than in Aaa securities.
3. A - Bonds that are rated A possess many favorable investment
attributes and are to be considered as upper medium grade obligations. Factors
giving security to principal and interest are considered adequate but elements
may be present which suggest a susceptibility to impairment sometime in the
future.
4. Baa - Bonds that are rated Baa are considered as medium grade
obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well.
5. Ba - Bonds that are rated Ba are judged to have speculative
elements. Their future cannot be considered as well assured. Often the
protection of interest and principal payments may be very moderate and thereby
not well safeguarded during both good and bad times over the future.
Uncertainty of position characterizes bonds in this class.
6. B - Bonds that are rated B generally lack characteristics of the
desirable investment. Assurance of interest and principal payments or of
maintenance of other terms of the contract over any long period of time may be
small.
Moody's applies numerical modifiers, 1, 2, and 3 in each generic rating
classification from Aa through B in its corporate bond rating system. The
modifier 1 indicates that the security ranks in the higher end of its generic
rating category; the modifier 2 indicates a mid-range ranking; and the modifier
3 indicates that the issue ranks in the lower end of its generic rating
category.
LIMITED PARTNERSHIPS
The Fund may invest in limited and master limited partnerships. A
limited partnership is a partnership consisting of one or more general partners,
jointly and severally responsible as ordinary partners, and by whom the business
is conducted, and one or more limited partners who contribute cash as capital to
the partnership and who generally are not liable for the debts of the
partnership beyond the amounts contributed. Limited partners are not involved in
the day-to-day management of the partnership. They receive income, capital gains
and other tax benefits associated with the partnership project in accordance
with terms established in the partnership agreement. Typical limited
partnerships are in real estate, oil and gas and equipment leasing, but they
also finance movies, research and development and other projects.
For an organization classified as a partnership under the Internal
Revenue Code, each item of income, gain, loss, deduction and credit is not taxed
at the partnership level but flows through to the holder of the partnership
unit. This allows the partnership to avoid taxation and to pass through income
to the holder of the partnership unit at lower individual rates.
A master limited partnership is a publicly traded limited partnership.
The partnership units are registered with the Securities and Exchange Commission
and are freely exchanged on a securities exchange or in the over-the-counter
market.
MONEY MARKET INSTRUMENTS
The Fund's investments in commercial paper are limited to those rated
A-1 by S&P, Prime-1 by Moody's or F-1 by Fitch Investors Service, Inc. (Fitch).
These ratings and other money market instruments are described as follows:
Commercial Paper Ratings
Commercial paper rated A-1 by Standard & Poor's has the following
characteristics: Liquidity ratios are adequate to meet cash requirements. The
issuer's long-term senior debt is rated A or better, although in some cases BBB
credits may be allowed. The issuer has access to at least two additional
channels of borrowing. Basic earnings and cash flow have an upward trend with
allowance made for unusual circumstances. Typically, the issuer's industry is
well established and the issuer has a strong position within the industry.
The rating Prime-1 is the highest commercial paper rating assigned by
Moody's. Among the factors considered by Moody's in assigning ratings are the
following: (1) evaluation of the management of the issuer; (2) economic
evaluation of the issuer's industry or industries and an appraisal of
speculative-type risks which may be inherent in certain areas; (3) evaluation of
the issuer's products in relation to competition and customer acceptance; (4)
liquidity; (5) amount and quality of long-term debt; (6) trend of earnings over
a period of ten years; (7) financial strength of a parent company and the
relationships which exist with the issuer; and (8) recognition by the management
of obligations which may be present or may arise as a result of public
preparations to meet such obligations. Relative strength or weakness of the
above factors determines how the issuer's commercial paper is rated within
various categories.
The rating F-1 is the highest rating assigned by Fitch. Among the
factors considered by Fitch in assigning this rating are: (1) the issuer's
liquidity; (2) its standing in the industry; (3) the size of its debt; (4) its
ability to service its debt; (5) its profitability; (6) its return on equity;
(7) its alternative sources of financing; and (8) its ability to access the
capital markets. Analysis of the relative strength or weakness of these factors
and others determines whether an issuer's commercial paper is rated F-1.
United States Government Securities
Securities issued or guaranteed by the United States("U.S.") Government
include a variety of Treasury securities that differ only in their interest
rates, maturities and dates of issuance. Treasury bills have maturities of one
year or less. Treasury notes have maturities of one to ten years and Treasury
bonds generally have maturities of greater than ten years at the date of
issuance.
Securities issued or guaranteed by the U.S. Government or its agencies
or instrumentalities include direct obligations of the U.S. Treasury and
securities issued or guaranteed by the Federal Housing Administration, Farmers
Home Administration, Export-Import Bank of the U.S., Small Business
Administration, Government National Mortgage Association, General Services
Administration, Central Bank for Cooperatives, Federal Home Loan Banks, Federal
Loan Mortgage Corporation, Federal Intermediate Credit Banks, Federal Land
Banks, Maritime Administration, The Tennessee Valley Authority, District of
Columbia Armory Board and Federal National Mortgage Association.
Some obligations of U.S. Government agencies and instrumentalities,
such as Treasury bills and Government National Mortgage Association pass-through
certificates, are supported by the full faith and credit of the U.S.; others,
such as securities of Federal Home Loan Banks, by the right of the issuer to
borrow from the Treasury; still others, such as bonds issued by the Federal
National Mortgage Association, a private corporation, are supported only by the
credit of the instrumentality. Because the U.S. Government is not obligated by
law to provide support to an instrumentality it sponsors, the Fund will invest
in the securities issued by such an instrumentality only when Keystone
determines that the credit risk with respect to the instrumentality does not
make its securities unsuitable investments. U.S. Government securities will not
include international agencies or instrumentalities in which the U.S.
Government, its agencies or instrumentalities participate, such as the World
Bank, the Asian Development Bank or the InterAmerican Development Bank, or
issues insured by the Federal Deposit Insurance Corporation.
Certificates of Deposit
Certificates of deposit are receipts issued by a bank in exchange for
the deposit of funds. The issuer agrees to pay the amount deposited plus
interest to the bearer of the receipt on the date specified on the certificate.
The certificate usually can be traded in the secondary market prior to maturity.
Certificates of deposit will be limited to U.S. dollar-denominated
certificates of U.S. banks, (including their branches abroad, and of U.S.
branches of foreign banks, which are members of the Federal Reserve System or
the Federal Deposit Insurance Corporation, and have at least $1 billion in
deposits as of the date of their most recently published financial statements.
The Fund will not acquire time deposits or obligations issued by the
International Bank for Reconstruction and Development, the Asian Development
Bank or the Inter-American Development Bank. Additionally, the Fund does not
currently intend to purchase such foreign securities (except to the extent that
certificates of deposit of foreign branches of U.S. banks may be deemed foreign
securities)or purchase certificates of deposit, bankers' acceptances or other
similar obligations issued by foreign banks.
Bankers' Acceptances
Bankers' acceptances typically arise from short term credit
arrangements designed to enable businesses to obtain funds to finance commercial
transactions. Generally, an acceptance is a time draft drawn on a bank by an
exporter or an importer to obtain a stated amount of funds to pay for specific
merchandise. The draft is then "accepted" by the bank that, in effect,
unconditionally guarantees to pay the face value of the instrument on its
maturity date. The acceptance may then be held by the accepting bank as an
earning asset or it may be sold in the secondary market at the going rate of
discount for a specific maturity. Although maturities for acceptances can be as
long as 270 days, most acceptances have maturities of six months or less.
Bankers' acceptances acquired by the Fund must have been accepted by U.S.
commercial banks, including foreign branches of U.S. commercial banks, having
total deposits at the time of purchase in excess of $1 billion and must be
payable in U.S. dollars.
OPTIONS TRANSACTIONS
The Fund is authorized to write (i.e., sell) covered call options and
to purchase call options to close out covered call options previously written. A
call option obligates a writer to sell, and gives a purchaser the right to buy,
the underlying security at the stated exercise price at any time until the
stated expiration date.
The Fund will write only call options which are covered, which means
that the Fund will own the underlying security (or other securities, such as
convertible securities, which are acceptable for escrow) when it writes the call
option and until the Fund's obligation to sell the underlying security is
extinguished by exercise or expiration of the call option or the purchase of a
call option covering the same underlying security and having the same exercise
price and expiration date. The Fund will receive a premium for writing a call
option, but will give up, until the expiration date, the opportunity to profit
from an increase in the underlying security's price above the exercise price.
The Fund will retain the risk of loss from a decrease in the price of the
underlying security. The writing of covered call options is a conservative
investment technique believed to involve relatively little risk (in contrast to
the writing of naked options which the Fund will not do) but capable of
enhancing the Fund's total return.
The premium received by the Fund for writing a covered call option will
be recorded as a liability in the Fund's statement of assets and liabilities.
This liability will be adjusted daily to the option's current market value,
which will be the latest sale price at the time as of which the net asset value
per share of the Fund is computed (the close of the New York Stock Exchange),
or, in the absence of such sale, at the latest bid quotation. The liability will
be extinguished upon expiration of the option, the purchase of an identical
option in a closing transaction or delivery of the underlying security upon
exercise of the option.
Many options are traded on registered securities exchanges. Options
traded on such exchanges are issued by the Options Clearing Corporation, a
clearing corporation which assumes responsibility for the completion of options
transactions.
The Fund will purchase call options only to close out a covered call
option it has written. When it appears that a covered call option written by the
Fund is likely to be exercised, the Fund may consider it appropriate to avoid
having to sell the underlying security. Or, the Fund may wish to extinguish a
covered call option which it has written in order to be free to sell the
underlying security to realize a profit on the previously written call option or
to write another covered call option on the underlying security. In all such
instances, the Fund can close out the previously written call option by
purchasing a call option on the same underlying security with the same exercise
price and expiration date. (The Fund may, under certain circumstances, also be
able to transfer a previously written call option.) The Fund will realize a
short-term capital gain if the amount paid to purchase the call option plus
transaction costs is less than the premium received for writing the covered call
option. The Fund will realize a short-term capital loss if the amount paid to
purchase the call option plus transaction costs is greater than the premium
received for writing the covered call option.
A previously written call option can be closed out by purchasing an
identical call option only in a secondary market for the call option. Although
the Fund generally will write only those options for which there appears to be
an active secondary market, there is no assurance that a liquid secondary market
will exist for any particular option at any particular time, and for some
options no secondary market may exist. In such event it might not be possible to
effect a closing transaction in a particular option. If the Fund as a covered
call option writer is unable to effect a closing purchase transaction, it will
not be able to sell the underlying securities until the option expires or it
delivers the underlying securities upon exercise.
If a substantial number of the call options written by the Fund are
exercised, the Fund's rate of portfolio turnover may exceed historical levels.
This would result in higher transaction costs, including brokerage commissions.
The Fund will pay brokerage commissions in connection with the writing of
covered call options and the purchase of call options to close out previously
written options. Such brokerage commissions are normally higher than those
applicable to purchases and sales of portfolio securities.
In the past the Fund has qualified for, and elected to receive, the
special tax treatment afforded regulated investment companies under Subchapter M
of the Internal Revenue Code. Although the Fund intends to continue to qualify
for such tax treatment, in order to do so it must, among other things, derive
less than 30% of its gross income from gains from the sale or other disposition
of securities held for less than three months. Because of this, the Fund may be
restricted in the writing of call options where the underlying securities have
been held less than three months, in the writing of covered call options which
expire in less than three months, and in effecting closing purchases with
respect to options which were written less than three months earlier. As a
result, the Fund may elect to forego otherwise favorable investment
opportunities and may elect to avoid or delay effecting closing purchases or
selling portfolio securities, with the risk that a potential loss may be
increased or a potential gain may be reduced or turned into a loss.
Under the Internal Revenue Code of 1954, as amended, gain or loss
attributable to a closing transaction and premiums received by the Fund for
writing a covered call option which is not exercised may constitute short-term
capital gain or loss. Under provisions of the Tax Reform Act of 1986, effective
for taxable years beginning after October 22, 1986, a gain on an option
transaction which qualifies as a "designated hedge" transaction under Treasury
regulations may be offset by realized or unrealized losses on such designated
transaction. The netting of gain against such losses could result in a reduction
in gross income from options transactions for purposes of the 30 percent test.
FUTURES CONTRACTS AND RELATED OPTIONS TRANSACTIONS
The Fund intends to enter into currency and other financial futures
contracts as a hedge against changes in prevailing levels of interest or
currency exchange rates to seek relative stability of principal and to establish
more definitely the effective return on securities held or intended to be
acquired by the Fund or as a hedge against changes in the prices of securities
or currencies held by the Fund or to be acquired by the Fund. The Fund's hedging
may include sales of futures as an offset against the effect of expected
increases in interest or currency exchange rates or securities prices and
purchases of futures as an offset against the effect of expected declines in
interest or currency exchange rates.
For example, when the Fund anticipates a significant market or market
sector advance, it will purchase a stock index futures contract as a hedge
against not participating in such advance at a time when the Fund is not fully
invested. The purchase of a futures contract serves as a temporary substitute
for the purchase of individual securities which may then be purchased in an
orderly fashion. As such purchases are made, an equivalent amount of index based
futures contracts would be terminated by offsetting sales. In contrast, the Fund
would sell stock index futures contracts in anticipation of or in a general
market or market sector decline that may adversely affect the market value of
the Fund's portfolio. To the extent that the Fund's portfolio changes in value
in correlation with a given index, the sale of futures contracts on that index
would substantially reduce the risk to the portfolio of a market decline or
change in interest rates, and, by so doing, provide an alternative to the
liquidation of the Fund's securities positions and the resulting transaction
costs.
The Fund intends to engage in options transactions which are related to
currency and other financial futures contracts for hedging purposes and in
connection with the hedging strategies described above.
Although techniques other than sales and purchases of futures contracts
and related options transactions could be used to reduce the Fund's exposure to
interest rate and/or market fluctuations, the Fund may be able to hedge its
exposure more effectively and perhaps at a lower cost through using futures
contracts and related options transactions. While the Fund does not intend to
take delivery of the instruments underlying futures contracts it holds, the Fund
does not intend to engage in such futures contracts for speculation.
Futures Contracts
Futures contracts are transactions in the commodities markets rather
than in the securities markets. A futures contract creates an obligation by the
seller to deliver to the buyer the commodity specified in the contract at a
specified future time for a specified price. The futures contract creates an
obligation by the buyer to accept delivery from the seller of the commodity
specified at the specified future time for the specified price. In contrast, a
spot transaction creates an immediate obligation for the seller to deliver and
the buyer to accept delivery of and pay for an identified commodity. In general,
futures contracts involve transactions in fungible goods such as wheat, coffee
and soybeans. However, in the last decade an increasing number of futures
contracts have been developed which specify currencies, financial instruments or
financially based indexes as the underlying commodity.
U.S. futures contracts are traded only on national futures exchanges
and are standardized as to maturity date and underlying financial instrument.
The principal financial futures exchanges in the U.S. are The Board of Trade of
the City of Chicago, the Chicago Mercantile Exchange, the International Monetary
Market (a division of the Chicago Mercantile Exchange), the New York Futures
Exchange and the Kansas City Board of Trade. Each exchange guarantees
performance under contract provisions through a clearing corporation, a
nonprofit organization managed by the exchange membership, which is also
responsible for handling daily accounting of deposits or withdrawals of margin.
A futures commission merchant ("Broker") effects each transaction in connection
with futures contracts for a commission. Futures exchanges and trading are
regulated under the Commodity Exchange Act by the Commodity Futures Trading
Commission ("CFTC") and National Futures Association ("NFA").
Interest Rate Futures Contracts
The sale of an interest rate futures contract creates an obligation by
the Fund, as seller, to deliver the type of financial instrument specified in
the contract at a specified future time for a specified price. The purchase of
an interest rate futures contract creates an obligation by the Fund, as
purchaser, to accept delivery of the type of financial instrument specified at a
specified future time for a specified price. The specific securities delivered
or accepted, respectively, at settlement date, are not determined until at or
near that date. The determination is in accordance with the rules of the
exchange on which the futures contract sale or purchase was made.
Currently, interest rate futures contracts can be purchased or sold on
90-day U.S. Treasury bills, U.S. Treasury bonds, U.S. Treasury notes with
maturities between 6 1/2 and 10 years, Government National Mortgage Association
("GNMA") certificates, 90-day domestic bank certificates of deposit, 90- day
commercial paper, and 90-day Eurodollar certificates of deposit. It is expected
that futures contracts trading in additional financial instruments will be
authorized. The standard contract size is $100,000 for futures contracts in U.S.
Treasury bonds, U.S. Treasury notes and GNMA certificates, and $1,000,000 for
the other designated contracts. While U.S. Treasury bonds, U.S. Treasury bills
and U.S. Treasury notes are backed by the full faith and credit of the U.S.
government and GNMA certificates are guaranteed by a U.S. government agency, the
futures contracts in U.S. government securities are not obligations of the U.S.
Treasury.
Index Based Futures Contracts
Stock Index Futures Contracts
A stock index assigns relative values to the common stocks included in
the index. The index fluctuates with changes in the market values of the common
stocks so included. A stock index futures contract is a bilateral agreement by
which two parties agree to take or make delivery of an amount of cash equal to a
specified dollar amount times the difference between the closing value of the
stock index on the expiration date of the contract and the price at which the
futures contract is originally made. No physical delivery of the underlying
stocks in the index is made.
Currently, stock index futures contracts can be purchased or sold on
the Standard and Poor's Corporation (S&P) Index of 500 Stocks, the S&P Index of
100 Stocks, the New York Stock Exchange Composite Index, the Value Line Index
and the Major Market Index. It is expected that futures contracts trading in
additional stock indices will be authorized. The standard contract size is $500
times the value of the index.
The Fund does not believe that differences between existing stock
indexes will create any differences in the price movements of the stock index
futures contracts in relation to the movements in such indexes. However, such
differences in the indexes may result in differences in correlation of the
futures with movements in the value of the securities being hedged.
Other Index Based Futures Contracts
It is expected that bond index and other financially based index
futures contracts will be developed in the future. It is anticipated that such
index based futures contracts will be structured in the same way as stock index
futures contracts but will be measured by changes in interest rates, related
indexes or other measures, such as the consumer price index. In the event that
such futures contracts are developed the Fund will sell interest rate index and
other index based futures contracts to hedge against changes which are expected
to affect the Fund's portfolio.
The purchase or sale of a futures contract differs from the purchase or
sale of a security, in that no price or premium is paid or received. Instead, to
initiate trading an amount of cash, cash equivalents, money market instruments,
or U.S. Treasury bills equal to approximately 1 1/2% (up to 5%) of the contract
amount must be deposited by the Fund with the Broker. This amount is known as
initial margin. The nature of initial margin in futures transactions is
different from that of margin in security transactions. Futures contract margin
does not involve the borrowing of funds by the customer to finance the
transactions. Rather, the initial margin is in the nature of a performance bond
or good faith deposit on the contract which is returned to the Fund upon
termination of the futures contract assuming all contractual obligations have
been satisfied. The margin required for a particular futures contract is set by
the exchange on which the contract is traded, and may be significantly modified
from time to time by the exchange during the term of the contract.
Subsequent payments, called variation margin, to the Broker and from
the Broker, are made on a daily basis as the value of the underlying instrument
or index fluctuates making the long and short positions in the futures contract
more or less valuable, a process known as mark-to-market. For example, when the
Fund has purchased a futures contract and the price of the underlying financial
instrument or index has risen, that position will have increased in value and
the Fund will receive from the Broker a variation margin payment equal to that
increase in value. Conversely, where the Fund has purchased a futures contract
and the price of the underlying financial instrument or index has declined, the
position would be less valuable and the Fund would be required to make a
variation margin payment to the Broker. At any time prior to expiration of the
futures contract, the Fund may elect to close the position. A final
determination of variation margin is then made, additional cash is required to
be paid to or released by the Broker, and the Fund realizes a loss or gain.
The Fund intends to enter into arrangements with its custodian and with
Brokers to enable its initial margin and any variation margin to be held in a
segregated account by its custodian on behalf of the Broker.
Although interest rate futures contracts by their terms call for actual
delivery or acceptance of financial instruments, and index based futures
contracts call for the delivery of cash equal to the difference between the
closing value of the index on the expiration date of the contract and the price
at which the futures contract is originally made, in most cases such futures
contracts are closed out before the settlement date without the making or taking
of delivery. Closing out a futures contract sale is effected by an offsetting
transaction in which the Fund enters into a futures contract purchase for the
same aggregate amount of the specific type of financial instrument or index and
same delivery date. If the price in the sale exceeds the price in the offsetting
purchase, the Fund is paid the difference and thus realizes a gain. If the
offsetting purchase price exceeds the sale price, the Fund pays the difference
and realizes a loss. Similarly, the closing out of a futures contract purchase
is effected by an offsetting transaction in which the Fund enters into a futures
contract sale. If the offsetting sale price exceeds the purchase price, the Fund
realizes a gain. If the purchase price exceeds the offsetting sale price the
Fund realizes a loss. The amount of the Fund's gain or loss on any transaction
is reduced or increased, respectively, by the amount of any transaction costs
incurred by the Fund.
As an example of an offsetting transaction, the contractual obligations
arising from the sale of one contract of September U.S. Treasury bills on an
exchange may be fulfilled at any time before delivery of the contract is
required (i.e., on a specified date in September, the "delivery month") by the
purchase of one contract of September U.S. Treasury bills on the same exchange.
In such instance the difference between the price at which the futures contract
was sold and the price paid for the offsetting purchase after allowance for
transaction costs represents the profit or loss to the Fund.
There can be no assurance, however, that the Fund will be able to enter
into an offsetting transaction with respect to a particular contract at a
particular time. If the Fund is not able to enter into an offsetting
transaction, the Fund will continue to be required to maintain the margin
deposits on the contract and to complete the contract according to its terms.
Options on Currency and Other Financial Futures
The Fund intends to purchase call and put options on currency and other
financial futures contracts and sell such options to terminate an existing
position. Options on currency and other financial futures contracts are similar
to options on stocks except that an option on a currency or other financial
futures contract gives the purchaser the right, in return for the premium paid,
to assume a position in a futures contract (a long position if the option is a
call and a short position if the option is a put) rather than to purchase or
sell stock, currency or other financial instruments at a specified exercise
price at any time during the period of the option. Upon exercise of the option,
the delivery of the futures position by the writer of the option to the holder
of the option will be accompanied by delivery of the accumulated balance in the
writer's futures margin account. This amount represents the amount by which the
market price of the futures contract at exercise exceeds, in the case of a call,
or is less than, in the case of a put, the exercise price of the option on the
futures contract. If an option is exercised on the last trading day prior to the
expiration date of the option, the settlement will be made entirely in cash
equal to the difference between the exercise price of the option and value of
the futures contract.
The Fund intends to use options on currency and other financial futures
contracts in connection with hedging strategies. In the future the Fund may use
such options for other purposes.
Purchase of Put Options on Futures Contracts
The purchase of protective put options on commodity futures contracts
is analogous to the purchase of protective puts on individual stocks, where an
absolute level of protection is sought below which no additional economic loss
would be incurred by the Fund. Put options may be purchased to hedge a portfolio
of stocks or debt instruments or a position in the futures contract upon which
the put option is based.
Purchase of Call Options on Futures Contracts
The purchase of a call option on a currency or other financial futures
contract represents a means of obtaining temporary exposure to market
appreciation at limited risk. It is analogous to the purchase of a call option
on an individual stock which can be used as a substitute for a position in the
stock itself. Depending on the pricing of the option compared to either the
futures contract upon which it is based, or upon the price of the underlying
financial instrument or index itself, the purchase of a call option may be less
risky than the ownership of the interest rate or index based futures contract or
the underlying securities. Call options on currency or other financial futures
contracts may be purchased to hedge against an interest rate increase or a
market advance when the Fund is not fully invested.
Use of New Investment Techniques Involving Currency and Other Financial Futures
Contracts or Related Options
The Fund may employ new investment techniques involving currency and
other financial futures contracts and related options. The Fund intends to take
advantage of new techniques in these areas which may be developed from time to
time and which are consistent with the Fund's investment objective. The Fund
believes that no additional techniques have been identified for employment by
the Fund in the foreseeable future other than those described above.
Limitations on Purchase and Sale of Futures Contracts and Related
Options on Such Futures Contracts
The Fund will not enter into a futures contract if, as a result
thereof, more than 5% of the Fund's total assets (taken at market value at the
time of entering into the contract) would be committed to margin deposits on
such futures contracts.
The Fund intends that its futures contracts and related options
transactions will be entered into for traditional hedging purposes. That is,
futures contracts will be sold to protect against a decline in the price of
securities that the Fund owns or futures contracts will be purchased to protect
the Fund against an increase in the price of securities it intends to purchase.
The Fund does not intend to enter into futures contracts for speculation.
In instances involving the purchase of futures contracts by the Fund,
an amount of cash and cash equivalents, equal to the market value of the futures
contracts will be deposited in a segregated account with the Fund's Custodian
and/or in a margin account with a Broker to collateralize the position and
thereby insure that the use of such futures is unleveraged.
Federal Income Tax Treatment
For federal income tax purposes, the Fund is required to recognize as
income for each taxable year its net unrealized gains and losses on futures
contracts as of the end of the year as well as those actually realized during
the year. Any gain or loss recognized with respect to a futures contract is
considered to be 60% long term and 40% short term, without regard to the holding
period of the contract. In the case of a futures transaction classified as a
"mixed straddle," the recognition of losses may be deferred to a later taxable
year. The federal income tax treatment of gains or losses from transactions in
options on futures is unclear.
In order for the Fund to continue to qualify for federal income tax
treatment as a regulated investment company, at least 90% of its gross income
for a taxable year must be derived from qualifying income. Any net gain realized
from the closing out of futures contracts, for purposes of the 90% requirement,
will be qualifying income. In addition, gains realized on the sale or other
disposition of securities held for less than three months must be limited to
less than 30% of the Fund's annual gross income. The 1986 Tax Act added a
provision which effectively treats both positions in certain hedging
transactions as a single transaction for the purpose of the 30% requirement. The
provision provides that, in the case of any "designated hedge," increases and
decreases in the value of positions of the hedge are to be netted for the
purposes of the 30% requirement. However, in certain situations, in order to
avoid realizing a gain within a three month period, the Fund may be required to
defer the closing out of a contract beyond the time when it would otherwise be
advantageous to do so.
Risks of Futures Contracts
Currency and other financial futures contracts prices are volatile and
are influenced, among other things, by changes in stock prices, market
conditions, prevailing interest rates and anticipation of future stock prices,
market movements or interest rate changes, all of which in turn are affected by
economic conditions, such as government fiscal and monetary policies and
actions, and national and international political and economic events.
At best, the correlation between changes in prices of futures contracts
and of the securities being hedged can be only approximate. The degree of
imperfection of correlation depends upon circumstances, such as variations in
speculative market demand for futures contracts and for securities, including
technical influences in futures contracts trading; differences between the
securities being hedged and the financial instruments and indexes underlying the
standard futures contracts available for trading, in such respects as interest
rate levels, maturities and creditworthiness of issuers, or identities of
securities comprising the index and those in the Fund's portfolio. A decision of
whether, when and how to hedge involves the exercise of skill and judgment, and
even a well-conceived hedge may be unsuccessful to some degree because of market
behavior or unexpected interest rate trends.
Because of the low margin deposits required, futures trading involves
an extremely high degree of leverage. As a result, a relatively small price
movement in a futures contract may result in immediate and substantial loss, as
well as gain, to the investor. For example, if at the time of purchase, 10% of
the value of the futures contract is deposited as margin, a 10% decrease in the
value of the futures contract would result in a total loss of the margin
deposit, before any deduction for the transaction costs, if the account were
then closed out, and a 15% decrease would result in a loss equal to 150% of the
original margin deposit. Thus, a purchase or sale of a futures contract may
result in losses in excess of the amount invested in the futures contract.
However, the Fund would presumably have sustained comparable losses if, instead
of entering into the futures contract, it had invested in the underlying
financial instrument. Furthermore, in order to be certain that the Fund has
sufficient assets to satisfy its obligations under a futures contract, the Fund
will establish a segregated account in connection with its futures contracts
which will hold cash or cash equivalents equal in value to the current value of
the underlying instruments or indexes less the margins on deposit.
Most U.S. futures exchanges limit the amount of fluctuation permitted
in futures contract prices during a single trading day. The daily limit
establishes the maximum amount that the price of a futures contract may vary
either up or down from the previous day's settlement price at the end of a
trading session. Once the daily limit has been reached in a particular type of
contract, no trades may be made on that day at a price beyond that limit. The
daily limit governs only price movement during a particular trading day and
therefore does not limit potential losses because the limit may prevent the
liquidation of unfavorable positions. Futures contract prices have occasionally
moved to the daily limit for several consecutive trading days with little or no
trading, thereby preventing prompt liquidation of futures positions and
subjecting some futures traders to substantial losses.
Risks of Options on Futures Contracts
In addition to the risks described above for currency and other
financial futures contracts, there are several special risks relating to options
on futures contracts. The ability to establish and close out positions on such
options will be subject to the development and maintenance of a liquid secondary
market. There is no assurance that a liquid secondary market will exist for any
particular contract or at any particular time. The Fund will not purchase
options on any futures contract unless and until it believes that the market for
such options has developed sufficiently that the risks in connection with
such options are not greater than the risks in connection with the futures
contracts. Compared to the use of futures contracts, the purchase of options on
such futures involves less potential risk to the Fund because the maximum amount
at risk is the premium paid for the options (plus transaction costs). However,
there may be circumstances when the use of an option on a futures contract would
result in a loss to the Fund, even though the use of a futures contract would
not, such as when there is no movement in the level of the futures contract.
FOREIGN CURRENCY TRANSACTIONS
The Fund may invest in securities of foreign issuers. When the Fund
invests in foreign securities they usually will be denominated in foreign
currencies and the Fund temporarily may hold funds in foreign currencies. Thus,
the Fund's share value will be affected by changes in exchange rates.
Forward Currency Contracts
As one way of managing exchange rate risk, the Fund may en
gage in forward currency exchange contracts (agreements to purchase or sell
currencies at a specified price and date). Under the contract, the exchange rate
for the transaction (the amount of currency the Fund will deliver or receive
when the contract is completed) is fixed when the Fund enters into the contract.
The Fund usually will enter into these contracts to stabilize the U.S. dollar
value of a security it has agreed to buy or sell. The Fund also may use these
contracts to hedge the U.S. dollar value of a security it already owns,
particularly if the Fund expects a decrease in the value of the currency in
which the foreign security is denominated. Although the Fund will attempt to
benefit from using forward contracts, the success of its hedging strategy will
depend on Keystone's ability to predict accurately the future exchange rate
between foreign currencies and the U.S. dollar. The value of the Fund's
investments denominated in foreign currencies will depend on the relative
strength of those currencies and the U.S. dollar, and the Fund may be affected
favorably or unfavorably by changes in the exchange rate or exchange control
regulations between foreign currencies and the dollar. Changes in foreign
currency exchange rates also may affect the value of dividends and interest
earned, gains and losses realized on the sale of securities and net investment
income and gains, if any, to be distributed to shareholders by the Fund.
Currency Futures Contracts
Currency futures contracts are bilateral agreements under which two
parties agree to take or make delivery of a specified amount of a currency at a
specified future time for a specified price. Trading of currency futures
contracts in the U.S. is regulated under the Commodity Exchange Act by the
Commodity Futures Trading Commission (CFTC) and National Futures Association
(NFA). Currently, the only national futures exchange on which currency futures
are traded is the International Monetary Market of the Chicago Mercantile
Exchange. Foreign currency futures trading is conducted in the same manner and
subject to the same regulations as trading in interest rate and index based
futures. The Fund intends to engage in currency futures contracts only for
hedging purposes, and not for speculation. The Fund may enter into currency
futures contracts for other purposes if authorized to do so by the Board. The
hedging strategies which will be used by the Fund in connection with foreign
currency futures contracts are similar to those described above for forward
foreign currency exchange contracts.
Currently, currency futures contracts for the British pound sterling,
Canadian dollar, Dutch guilder, Deutsche mark, Japanese yen, Mexican peso, Swiss
and French francs can be purchased or sold for U.S. dollars through the
International Monetary Market. It is expected that futures contracts trading in
additional currencies will be authorized. The standard contract sizes are
L125,000 for the pound, 125,000 for the guilder, mark and Swiss francs,
C$100,000 for the Canadian dollar, Y12,500,000 for the yen, and 1,000,000 for
the peso. In contrast to Forward Currency Exchange Contracts which can be traded
at any time, only four value dates per year are available, the third Wednesday
of March, June, September and December.
Foreign Currency Options Transactions
Foreign currency options (as opposed to futures) are traded in a
variety of currencies in both the U.S. and Europe. On the Philadelphia Stock
Exchange, for example, contracts for half the size of the corresponding futures
contracts on the Chicago Board Options Exchange are traded with up to nine
months maturity in Marks, Sterling, Yen, Swiss Francs and Canadian Dollars.
Options can be exercised at any time during the contract life and require a
deposit subject to normal margin requirements. Since a futures contract must be
exercised, the Fund must continually make up the margin balance. As a result, a
wrong price move could result in the Fund losing more than the original
investment as it cannot walk away from the futures contract as it can an option
contract.
The Fund will purchase call and put options and sell such options to
terminate an existing position. Options on foreign currency are similar to
options on stocks except that an option on an interest rate and/or index based
futures contract gives the purchaser the right, in return for the premium paid,
to purchase or sell foreign currency, rather than to purchase or sell stock, at
a specified exercise price at any time during the period of the option.
The Fund intends to use foreign currency option transactions in
connection with hedging strategies.
Purchase of Put Options on Foreign Currencies
The purchase of protective put options on a foreign currency is
analogous to the purchase of protective puts on individual stocks, where an
absolute level of protection is sought below which no additional economic loss
would be incurred by the Fund. Put options may be purchased to hedge a portfolio
of foreign stocks or foreign debt instruments or a position in the foreign
currency upon which the put option is based.
Purchase of Call Options on Foreign Currencies
The purchase of a call option on foreign currency represents a means of
obtaining temporary exposure to market appreciation at limited risk. It is
analogous to the purchase of a call option on an individual stock which can be
used as a substitute for a position in the stock itself. Depending on the
pricing of the option compared to either the foreign currency upon which it is
based, or upon the price of the foreign stock or foreign debt instruments, the
purchase of a call option may be less risky than the ownership of the foreign
currency or the foreign securities. The Fund would purchase a call option on a
foreign currency to hedge against an increase in the foreign currency or a
foreign market advance when the Fund is not fully invested.
The Fund may employ new investment techniques involving forward foreign
currency exchange contracts, foreign currency futures contracts and options on
foreign currencies in order to take advantage of new techniques in these areas
which may be developed from time to time and which are consistent with the
Fund's investment objective. The Fund believes that no additional techniques
have been identified for employment by the Fund in the foreseeable future other
than those described above.
Currency Trading Risks
Currency exchange trading may involve significant risks. The four major
types of risk the Fund faces are exchange rate risk, interest rate risk, credit
risk and country risk.
Exchange Rate Risk
Exchange rate risk results from the movement up and down of foreign
currency values in response to shifting market supply and demand. When the Fund
buys or sells a foreign currency, an exposure called an open position is
created. Until the time that position can be "covered" by selling or buying an
equivalent amount of the same currency, the Fund is exposed to the risk that the
exchange rate might move against it. Since exchange rate changes can readily
move in one direction, a position carried overnight or over a number of days
involves greater risk than one carried a few minutes or hours. Techniques such
as foreign currency forward and futures contracts and options on foreign
currency are intended to be used by the Fund to reduce exchange rate risk.
Maturity Gaps and Interest Rate Risk
Interest rate risk arises whenever there are mismatches or gaps in the
maturity structure of the Fund's foreign exchange currency holdings, which is
the total of its outstanding spot and forward or futures contracts.
Foreign currency transactions often involve borrowing short term and
lending longer term to benefit from the normal tendency of interest rates to be
higher for longer maturities. However in foreign exchange trading, while the
maturity pattern of interest rates for one currency is important, it is the
differential between interest rates for two currencies that is decisive.
Credit Risk
Whenever the Fund enters into a foreign exchange contract, it faces a
risk, however small, that the counterparty will not perform under the contract.
As a result there is a credit risk, although no extension of "credit" is
intended. To limit credit risk, the Fund intends to evaluate the
creditworthiness of each other party. The Fund does not intend to trade more
than 5% of its net assets under foreign exchange contracts with one party.
Credit risk exists because the Fund's counterparty may be unable or
unwilling to fulfill its contractual obligations as a result of bankruptcy or
insolvency or when foreign exchange controls prohibit payment. In any foreign
exchange transaction, each party agrees to deliver a certain amount of currency
to the other on a particular date. In establishing its hedges a Fund relies on
each contract being completed. If the contract is not performed, then the Fund's
hedge is eliminated, and the Fund is exposed to any changes in exchange rates
since the contract was originated. To put itself in the same position it would
have been in had the contract been performed, the Fund must arrange a new
transaction. However, the new transaction may have to be arranged at an adverse
exchange rate. The trustee for a bankrupt company may elect to perform those
contracts which are advantageous to the company but disclaim those contracts
which are disadvantageous, resulting in losses to the Fund.
Another form of credit risk stems from the time zone differences
between the U.S. and foreign nations. If the Fund sells sterling it generally
must pay pounds to a counterparty earlier in the day than it will be credited
with dollars in New York. In the intervening hours, the buyer can go into
bankruptcy or can be declared insolvent. Thus, the dollars may never be credited
to the Fund.
Country Risk
At one time or another, virtually every country has interfered with
international transactions in its currency. Interference has taken the form of
regulation of the local exchange market, restrictions on foreign investment by
residents or limits on inflows of investment funds from abroad. Governments take
such measures for example to improve control over the domestic banking system or
to influence the pattern of receipts and payments between residents and
foreigners. In those cases, restrictions on the exchange market or on
international transactions are intended to affect the level or movement of the
exchange rate. Occasionally a serious foreign exchange shortage may lead to
payment interruptions or debt servicing delays, as well as interference in the
exchange market. It has become increasingly difficult to distinguish foreign
exchange or credit risk from country risk.
Changes in regulations or restrictions usually do have an important
exchange market impact. Most disruptive are changes in rules which interfere
with the normal payments mechanism. If government regulations change and a
counterparty is either forbidden to perform or is required to do something
extra, then the Fund might be left with an unintended open position or an
unintended maturity mismatch. Dealing with such unintended long or short
positions could result in unanticipated costs to the Fund.
Other changes in official regulations influence international
investment transactions. If one of the factors affecting the buying or selling
of a currency changes, the exchange rate is likely to respond. Changes in such
controls often are unpredictable and can create a significant exchange rate
response.
Many major countries have moved toward liberalization of exchange and
payments restrictions in recent years or accepted the principle that
restrictions should be relaxed. A few industrial countries have moved in the
other direction. Important liberalizations were carried out by Switzerland, the
United Kingdom and Japan. They dismantled mechanisms for restricting either
foreign exchange inflows (Switzerland), outflows (Britain) or elements of both
(Japan). By contrast, France and Mexico have recently tightened foreign exchange
controls.
Overall, many exchange markets are still heavily restricted. Several
countries limit access to the forward market to companies financing documented
export or import transactions in an effort to insulate the market from purely
speculative activities. Some of these countries permit local traders to enter
into forward contracts with residents but prohibit certain forward transactions
with nonresidents. By comparison, other countries have strict controls on
exchange transactions by residents, but permit free exchange transactions
between local traders and non-residents. A few countries have established tiered
markets, funneling commercial transactions through one market and financial
transactions through another. Outside the major industrial countries, relatively
free foreign exchange markets are rare and control on foreign currency
transactions are extensive.
Another aspect of country risk has to do with the possibility that the
Fund may be dealing with a foreign trader whose home country is facing a
payments problem. Even though the foreign trader intends to perform on its
foreign exchange contracts, the contracts are tied to other external liabilities
the country has incurred. As a result performance may be delayed, and can result
in unanticipated cost to the Fund. This aspect of country risk is a major
element in the Fund's credit judgment as to with whom it will deal and in what
amounts.
<PAGE>
PAGE 1
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Seeks capital growth from a broad spectrum of domestic and foreign securities.
Dear Shareholder:
We would like to take this opportunity to report on the performance of
Keystone Strategic Growth Fund (K-2) for the twelve-month period which ended
October 31, 1996. Following our letter to you we have included a discussion
with your Fund's manager and complete financial information.
Performance
For the twelve-month period which ended October 31, 1996, your Fund returned
12.95%. For the same period, the Standard & Poor's 500 Index (S&P 500), a
broad-based index of large company stocks, returned 24.09%.
Your Fund's short-term results did not meet our expectations. While the
stock market indexes posted strong returns for the Fund's fiscal year, the
timing of some of our investments and individual stock selection could have
been better.
At the beginning of your Fund's fiscal year we anticipated slower economic
growth and no repeat of 1995's excellent market returns. With this in mind,
we attempted to reduce our exposure to stocks that we believed might be most
at risk in a slow growth environment. Our objective was to broaden your
Fund's diversification and emphasize stocks that would be less affected by
the expected slow growth environment. This strategy resulted in an emphasis
on companies with consistent earnings growth rates, rather than companies
with high growth rates.
In the first quarter of 1996 economic growth turned out to be much stronger
than many analysts had expected. Stocks of large, established companies
provided the best returns during the period. Strong corporate earnings,
relatively low interest rates and stronger-than-expected economic growth
propelled blue chip stock indexes to new highs, breaking previous records.
Price volatility increased during the fiscal period as investors attempted to
gauge the strength of the economy during the first half of 1996. In addition,
the smallest earnings disappointment often resulted in sharp stock price
declines. In this environment, our holdings of companies with consistent
growth rates did not benefit as much as higher growth rate companies.
As the fiscal year began, we cut back on overweighted sectors and in areas
that had provided good returns in 1995, such as technology. However, in some
cases these reductions occurred after corrections had occurred. While the
timing of these reductions were late, we believed that a smaller exposure to
technology stocks was a more appropriate long-term strategy, given the high
prices and higher relative volatility of technology stocks.
The strong performance of blue chip stocks continued into the spring of
1996. However, in April and May small company stocks provided some of the
best returns, as investors searched for companies with high earnings growth
rates at more attractive valuations than blue chip stocks. Your Fund
participated only modestly in the small company stock rally because we had
steadily increased our holdings of stocks with consistent earnings records,
primarily large company stocks.
We also increased the Fund's exposure to Japanese stocks during much of the
period, based on expectations for an improving economic environment in Japan.
These investments provided positive performance in local currency terms.
However, the weak yen and strong U.S. dollar hurt performance when converted
into U.S. dollars, despite hedging a portion of our investments to protect it
from currency changes.
(continued on next page)
<PAGE>
PAGE 2
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Our outlook
We expect the favorable economic fundamentals of 1996 to continue into 1997.
We believe that the economy should grow at a moderate rate, inflation should
remain under control, despite some wage pressures, which should allow
interest rates to remain relatively stable.
For investors with long-term goals, we continue to believe that stocks offer
the best potential returns. However, we are now in the sixth year of a stock
market rally--the longest since the end of World War II. While we have a
favorable outlook for 1997, history has shown that strong performance does
not persist indefinitely. Stocks periodically experience price declines. We
witnessed this type of "correction" in June and July, followed by a recovery.
With this in mind, we encourage you to keep the above average stock market
returns of the last few years in perspective.
Keystone acquired by First Union Corporation
On another note, we are pleased to inform you that Keystone has been acquired
by First Union Corporation. First Union is a financial services firm based in
Charlotte, North Carolina. It is the nation's sixth largest bank holding
company with assets of approximately $130 billion. First Union, through its
wholly-owned subsidiary Evergreen Asset Management Corp., together with
Keystone mutual funds, manages more than $30 billion in 70 mutual funds.
While Keystone will remain a separate entity and will continue to provide
investment advisory and management services to the Fund, services will be
provided under the 'Evergreen Keystone Funds' name. We believe First Union's
acquisition of Keystone strengthens the investment management services we
provide you.
Thank you for your continued support of Keystone Strategic Growth Fund
(K-2). If you have any questions or comments about your investments, we
encourage you to write to us.
Sincerely,
/s/ Albert H. Elfner, III
- -------------------------
Albert H. Elfner, III
Chairman
Keystone Investment Management Company
/s/ George S. Bissell
- -------------------------
George S. Bissell
Chairman of the Board
Keystone Funds
December 1996
[PHOTO OF ALBERT H. ELFNER, III]
Albert H. Elfner, III
[PHOTO OF GEORGE S. BISSELL]
George S. Bissell
<PAGE>
PAGE 3
- ------------------------------------
A Discussion With
Your Fund Manager
Maureen E. Cullinane is senior portfolio manager of your Fund and leads
Keystone's growth stock team. A Chartered Financial Analyst, Ms. Cullinane
has over 20 years of investment experience. She received BA and MA degrees
from Emmanuel College with post-graduate study at the Universite de Paris.
She holds an MBA from Boston University. Together with Margery C. Parker,
portfolio manager of Keystone Mid-Cap Growth Fund (S-3), the team focuses on
selecting companies with growing earnings.
Q What was the environment like during the twelve-month period?
A At the end of 1995, economic growth was moderate, inflation was contained,
and interest rates had declined. This had been a favorable environment for
stocks. At the beginning of 1996, the environment changed. While stock prices
rose, they fluctuated broadly as virtually every new economic statistic
triggered a debate over growth and inflation and whether or not the Federal
Reserve Board would raise interest rates. In June and July, stock prices
experienced steep declines. We believe this short-term correction helped
wring out the excesses in the market and brought stock prices to more
reasonable levels. During August, September and October, stocks generally
rose in value.
Q How did you manage the Fund during this period?
A Because of uncertainties in the market, we attempted to reduce risk by
focusing on consistency and diversification. In order to minimize the effects
of the market's gyrations on the portfolio, we invested in stable growth
companies. These are companies that tend to grow regardless of the state of
the economy. We emphasized companies that have had consistent earnings growth
rates of approximately 20%. On October 31, 1996, nearly 60% of the
portfolio's assets were invested in stable growth companies. We increased the
diversification of the portfolio, because we wanted the Fund to have broad
representation in a number of market sectors.
Q How did your focus on consistency and diversification change the
composition of the Fund?
A At the beginning of the period, finance companies accounted for the Fund's
largest industry weighting, and drug companies composed the Fund's second
largest industry. On October 31, 1996, these two industry sectors still
occupied the number one and two positions in the fund, however, the
percentage of assets in each category was reduced.
Twelve months ago, technology stocks (software services, telecommunications,
and electronics products companies) were among the Fund's top five industry
sectors. On October 31, 1996, there were fewer technology stocks in the
portfolio. Oil services, business services, and food companies were more
prominent in the portfolio
Fund Profile
Objective: Seeks capital growth from a broad spectrum of domestic and foreign
securities.
Number of stocks: 70
Commencement of investment operations: September 11, 1935
Net assets: $497 million
Newspaper Symbol: "StrGrK2"
<PAGE>
PAGE 4
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Your Fund Invests In . . .
(bullet) Companies with strong management teams, leading market positions and
solid balance sheets
(bullet) Stocks of any size in any industry: small-, mid-, and large-cap
(bullet) U.S. stocks and stocks of established foreign companies
and were among the Fund's top five industry sectors. We believed this more
diverse portfolio of growth stocks would benefit the Fund over the long term.
Q How do you decide which industries are most attractive?
A We take a "top-down" and "bottoms-up," approach. First we analyze trends
in the economy, and then look at how certain industries and companies may
benefit from those trends. In selecting stocks for the portfolio, we focus on
a company's fundamentals, that is, we assess its management, financials,
product line, and potential earnings growth.
Q Why were finance stocks a consistent theme in the portfolio throughout
the twelve months?
A On October 31, 1996, finance stocks accounted for 14.7% of the Fund's net
assets. We believe the stocks of finance companies benefitted from relatively
low interest rates and from consolidation in the industry. Strong
performers in this area included Bank of Boston and BankAmerica, two large
banks that have expanded their businesses by acquiring smaller banks. During
the last six months of the period, we broadened the Fund's financial holdings
to include Morgan Stanley, and Travelers Group. Travelers is the parent
company of Smith Barney, a brokerage firm. The addition of these two stocks
increased the Fund's exposure to firms that were benefitting from the
strength of the securities markets.
Q You reduced the drug position in the portfolio from 10.2% of net assets
on October 31, 1995 to 8.1% on October 31, 1996. Why?
A Even though we took profits in some of the companies that had performed in
line with our expectations, drug stocks were the Fund's second largest
industry weighting on October 31, 1996. Drug businesses benefitted from cost
efficiencies following restructurings and major acquisitions. We invested in
American Home Products, Johnson & Johnson, and Warner Lambert. We also owned
two foreign drug companies during the period--Rhone Poulenc Rorer and
Smithkline Beecham.
Q Energy companies composed a significant portion of portfolio assets. Why
were these companies attractive?
A Energy companies, which include oil services businesses, large oil
companies, and natural gas firms, accounted for 14.2% of net assets on
October 31, 1996. We believe that energy companies have benefitted from
restructuring efforts of the last several years, improved drilling and
exploration techniques, and an increase in demand.
In particular, oil services businesses, which support the drilling
activities of the industry by supplying
Top 5 Industries
as of October 31, 1996
Percentage of
Industry net assets
- -----------------------------------------
Finance 14.7
- -----------------------------------------
Drugs 8.1
- -----------------------------------------
Oil services 7.1
- -----------------------------------------
Business services 6.8
- -----------------------------------------
Telecommunications 6.7
- -----------------------------------------
<PAGE>
PAGE 5
- ------------------------------------
Diversification by
Market Capitalization
as of October 31, 1996
[TABULAR REPRESENTATION OF PIE CHART]
Large-cap(1) 70%
Small-cap stocks (U.S.) 5%
Mid-cap stocks (U.S.) 25%
(as a percentage of long-term portfolio assets)
A stock's market capitalization, or market cap, is its stock price multiplied
by the number of shares outstanding.
- -----------------
(1)Includes 15% of net assets invested in foreign stocks.
rigs, boats, pumping and seismology equipment, were among the best
performers. In the oil services area, we held ENSCO International,
Schlumberger, and Tidewater. We also invested in two large oil companies--
Exxon and Mobil. In the natural gas area, we invested in Anadarko, a company
that is exploring several new gas fields, and United Meridian, a company that
is conducting a drilling operation off the coast of Africa.
Q During the last six months of the period, you increased the retail
portion of the portfolio from 3% to 4.8% of net assets on October 31, 1996.
Why did retail stocks offer opportunity?
A Over the past year, unemployment declined, wages increased modestly, and
there were fewer headlines announcing layoffs at major corporations. We
believe these conditions helped boost consumer confidence. Historically,
heightened consumer confidence has been beneficial to the retail industry. In
the retail area, we invested in Loehmann's and Saks, two stores that market
to upscale consumers. We also invested in Abercrombie & Fitch, a store that
caters to older teens and young adults. In addition, we held Staples, a
leader in the discount office supply business.
Q You increased the foreign investments in the portfolio from 9% to 13.6%.
How did you manage the foreign component of the Fund?
A We were very selective in our approach to foreign markets. In Western
Europe, fiscal discipline and restructuring led to lower interest rates and
stronger corporate earnings. The rising U.S. dollar helped boost earnings of
large, multinational corporations that sell goods in the United States. In
Japan, the economic recovery was stalled by the weakness of the yen relative
to the U.S. dollar. Anticipating economic successes in Europe, we increased
the Fund's holdings there and reduced the Fund's weighting in Japan.
Q What is your outlook?
A We expect the environment for growth stocks to remain healthy. As we enter
1997, we expect economic growth to be moderate and inflation and interest
rates to remain relatively low. These factors, along with our expectations
for positive earnings, should favor growth stocks. However, we believe that
returns in 1997 may be less than those of 1996. We would not be surprised to
see some short-term pullback in stock prices in the months ahead. Should a
'correction' in the stock market occur, we would view it as a normal part of
the investing cycle, and use it as an opportunity to purchase more high
quality stocks at lower prices.
<PAGE>
PAGE 6
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Top 10 Holdings
as of October 31, 1996
Percentage of
Stock Industry net assets
- -------------------------------------------------------------------
General Electric Capital goods 4.3
- -------------------------------------------------------------------
ENSCO International Oil services 2.8
- -------------------------------------------------------------------
USA Waste Services Business services 2.6
- -------------------------------------------------------------------
Microsoft Software services 2.3
- -------------------------------------------------------------------
Travelers Group Insurance 2.3
- -------------------------------------------------------------------
Bank of Boston Finance 2.3
- -------------------------------------------------------------------
Intel Electronic products 2.3
- -------------------------------------------------------------------
Coca-Cola Foods 2.2
- -------------------------------------------------------------------
HFS Amusements 2.2
- -------------------------------------------------------------------
Tidewater Oil services 2.1
- -------------------------------------------------------------------
[DIAMOND]
This column is intended to answer
questions about your Fund.
If you have a question you would like answered, please write to:
Evergreen Keystone Investment Services, Inc.
Attn: Shareholder Communications, 22nd Floor
200 Berkeley Street, Boston, Massachusetts 02116-5034.
<PAGE>
PAGE 7
- ------------------------------------
Your Fund's Performance
Growth of an investment in
Keystone Strategic Growth Fund (K-2)
In Thousands
[MOUNTAIN CHART]
Initial Reinvested
Investment Distributions
10/86 10000 10000
8269 10015
10/88 7152 10789
8401 13135
10/90 7141 11815
8959 16396
10/92 8324 17441
9858 21797
10/94 8258 22571
8817 25968
10/96 9507 29331
A $10,000 investment in Keystone Strategic Growth Fund (K-2) made on
October 31, 1986 with all distributions reinvested was worth $29,331 on
October 31, 1996. Past performance is no guarantee of future results.
Twelve-Month Performance as of October 31, 1996
=========================================================
Total return* 12.95%
Net asset value 10/31/95 $ 8.05
10/31/96 $ 8.68
Dividends $ 0.01
Capital gains $ 0.36
* Before deduction of contingent deferred sales charge (CDSC).
Historical Record as of October 31, 1996
=========================================================
If you If you did
Cumulative total return redeemed not redeem
1-year 9.95% 12.95%
5-year 78.89% 78.89%
10-year 193.31% 193.31%
Average annual total return
1-year 9.95% 12.95%
5-year 12.34% 12.34%
10-year 11.36% 11.36%
The "if you redeemed" returns reflect the deduction of the 3% CDSC for those
investors who bought and sold Fund shares after one calendar year. Investors
who retained their fund investment earned the returns reported in the second
column of the table.
The investment return and principal value will fluctuate so that your
shares, when redeemed, may be worth more or less than the original cost.
Shareholders may exchange shares for another Keystone fund by calling or
writing to Keystone directly, or through Keystone's Automated Response Line
(KARL). The Fund reserves the right to change or terminate the exchange
offer.
<PAGE>
PAGE 8
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Growth of an Investment
Comparison of change in value of a $10,000 investment
in Keystone Strategic Growth Fund (K-2), the Standard
& Poor's 500 Index and the Consumer Price Index.
In Thousands October 1986 through October 1996
Fund Average
Annual Total Return
- ----------------------------------
1 Year 5 Year 10 Year
9.95% 12.34% 11.36%
[LINE CHART]
Fund S&P CPI
10/86 10000 10000 10000
10015 10642 10453
10/88 10789 12192 10898
13135 15346 11387
10/90 11815 14184 12103
16396 18930 12457
10/92 17441 20816 12856
21797 23926 13209
10/94 22571 24852 13554
25968 31424 13935
10/96 29331 38993 14306
Past performance is no guarantee of future results. The one-year return
reflects the deduction of the Fund's 3% contingent deferred sales charge for
shares held for at least one year. The Consumer Price Index is through
September 30, 1996.
This chart graphically compares your Fund's total return performance to
certain investment indexes. It is the result of fund performance guidelines
issued by the Securities and Exchange Commission. The intent is to provide
investors with more information about their investment.
Components of the chart
The chart is composed of three lines that represent the accumulated value of
an initial $10,000 investment for the period indicated. The lines illustrate
a hypothetical investment in:
1. Keystone Strategic Growth Fund (K-2)
The Fund seeks capital growth from a broad spectrum of domestic and foreign
securities. The return is quoted after deducting sales charges (if
applicable), fund expenses and transaction costs and assumes reinvestment of
all distributions.
2. Standard & Poor's 500 Index (S&P 500)
The S&P 500 is a broad-based unmanaged index of common stock prices. It is
comprised of stocks of the largest U.S. companies. These stocks are selected
and compiled by Standard & Poor's Corporation according to criteria that may
be unrelated to your Fund's investment objective.
4. Consumer Price Index (CPI)
This index is a widely recognized measure of the cost of goods and services
produced in the U.S.. The index contains factors such as prices of services,
housing, food, transportation and electricity which are compiled by the U.S.
Bureau of Labor Statistics. The CPI is generally considered a valuable
benchmark for investors who seek to outperform increases in the cost of
living.
These indexes do not include transaction costs associated with buying and
selling securities, and do not hold cash to meet redemptions. It would be
difficult for most individual investors to duplicate these indexes.
Understanding what the chart means
The chart demonstrates your Fund's total return performance in relation to a
well known investment index and to increases in the cost of living. It is
important to understand what the chart shows and does not show.
This illustration is useful because it charts Fund and index performance
over the same time frame and over a long period. Long-term performance is a
more reliable and useful measure of performance than measurements of
short-term returns or temporary swings in the market. Your financial adviser
can help you evaluate fund performance in conjunction with the other
important financial considerations such as safety, stability and consistency.
<PAGE>
PAGE 9
- ------------------------------------
Limitations of the chart
The chart, however, limits the evaluation of Fund performance in several
ways. Because the measurement is based on total returns over an extended
period of time, the comparison often favors those funds which emphasize
capital appreciation when the market is rising. Likewise, when the market is
declining, the comparison usually favors those funds which take less risk.
Performance can be distorted
Funds which are more conservative in their orientation and which place an
emphasis on capital preservation will tend to compare less favorably when the
market is rising. In addition, funds which have income as one of their
objectives also will tend to compare less favorably to relevant indexes.
Indexes may also reflect the performance of some securities which a fund may
be prohibited from buying. A bond fund, for example, may be limited to
investments in only high quality bonds, or a stock fund may only be able to
buy stocks that have been traded on a stock exchange for a minimum number of
years or of a certain company size. Indexes usually do not have the same
investment restrictions as your Fund.
Indexes do not include costs of investing
The comparison is further limited in its utility because the index does not
take into account any deductions for sales charges, transaction costs or
other fund expenses. Your Fund's performance figures do reflect such
deductions. Sales charges--whether up-front or deferred--pay for the cost of
the investment advice of your financial adviser. Transaction costs pay for
the costs of buying and selling securities for your Fund's portfolio. Fund
expenses pay for the costs of investment management and various shareholder
services. None of these costs are reflected in index total returns. The
comparison is not completely realistic because an index cannot be duplicated
by an investor--even an unmanaged index--without incurring some charges and
expenses.
One of several measures
The chart is one of several tools you can use to understand your investment.
It should be read in conjunction with the Fund's prospectus, and annual and
semiannual reports. Also, your financial adviser, who understands your
personal financial situation, can best explain the features of your Keystone
fund and how it applies to your financial needs.
Future returns may be different
Shareholders also should be mindful that the long-run performance of either
the Fund or the indexes is not representative of what shareholders should
expect to receive from their Fund investment in the future; it is presented
to illustrate only past performance and is not a guarantee of future returns.
<PAGE>
PAGE 10
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Glossary of
Mutual Fund Terms
MUTUAL FUND--A company which combines the investment money of many people
whose financial goals are similar, and invests that money in a variety of
securities. A mutual fund allows the smaller investor the benefits of
diversification, professional management and constant supervision usually
available only to large investors.
PORTFOLIO MANAGER--An investment professional who is responsible for
managing a portfolio's assets prudently and making appropriate investment
decisions, such as which securities to buy, hold and sell, based on the
investment objectives of the portfolio.
STOCK--Equity or ownership interest in a corporation, which represents a
claim on the corporation's assets and earnings.
BOND--Security issued by a government or corporation to those from whom it
has borrowed money. A bond usually promises to pay interest income to the
bondholder at regular intervals and to repay the entire amount borrowed at
maturity date.
CONVERTIBLE SECURITY--A corporate security (usually preferred stock or
bonds) that is exchangeable for a set number of another security type
(usually common stocks) at a pre-stated price.
MONEY MARKET FUND--A mutual fund whose assets are invested in a diversified
portfolio of short-term securities, including commercial paper, bankers'
acceptances, certificates of deposit and other short-term instruments. The
fund pays income which can fluctuate daily. Liquidity and safety of principal
are primary objectives.
NET ASSET VALUE (NAV) PER SHARE--The value of one share of a mutual fund.
The NAV per share is determined by subtracting a fund's total liabilities
from its total assets, and dividing that amount by the number of fund shares
outstanding.
DIVIDEND--A per share distribution of the income earned from the fund's
portfolio holdings. When a dividend distribution is made, the fund's net
asset value drops by the amount of the distribution because the distribution
is no longer considered part of the fund's assets.
CAPITAL GAIN--The profit from the sale of securities, less any losses.
Capital gains are paid to fund shareholders on a per share basis. When a
capital gain distribution is made, the fund's net asset value drops by the
amount of the distribution because the distribution is no longer considered
part of the fund's assets.
YIELD--The annualized rate of income as measured against the current net
asset value of fund shares.
TOTAL RETURN--The change in value of a fund investment over a specified
period of time, taking into account the change in a fund's market price and
the reinvestment of all fund distributions.
SHORT-TERM--An investment with a maturity of one year or less.
LONG-TERM--An investment with a maturity of greater than one year.
AVERAGE MATURITY--The average number of days until the notes, drafts,
acceptances, bonds or other debt instruments in a portfolio become due and
payable.
OFFERING PRICE--The offering price of a share of a mutual fund is the price
at which the share is sold to the public.
<PAGE>
PAGE 11
- ------------------------------------
SCHEDULE OF INVESTMENTS--October 31, 1996
<TABLE>
<CAPTION>
Market
Shares Value
=============================================================================================
<S> <C> <C>
COMMON STOCKS (89.3%)
BRAZIL (1.0%)
Telecommunications (1.0%)
Telecomunicacoes Brasileiras S.A. ADR 65,000 $ 4,842,500
- ---------------------------------------------------------------------------------------------
GERMANY (0.5%)
Retail (0.5%)
Adidas AG 27,000 2,314,184
- ---------------------------------------------------------------------------------------------
JAPAN (2.2%)
Appliances and Furnishings (1.2%)
Sony Corp. 100,000 5,998,858
- ---------------------------------------------------------------------------------------------
Automotive (0.5%)
Fuji Heavy Industry 570,000 2,653,375
- ---------------------------------------------------------------------------------------------
Drugs (0.5%)
Taisho Pharmaceutical 130,000 2,580,475
- ---------------------------------------------------------------------------------------------
TOTAL JAPAN 11,232,708
- ---------------------------------------------------------------------------------------------
MEXICO (3.4%)
Advertising and Publishing (0.6%)
Grupo Televisa S.A. de C.V. ADR 120,000 3,150,000
- ---------------------------------------------------------------------------------------------
Auto Industry (0.9%)
Desc S.A. de C.V. ADR (c) 230,000 4,427,500
- ---------------------------------------------------------------------------------------------
Foods (1.1%)
PanAmerican Beverages, Inc. ADR 130,000 5,671,250
- ---------------------------------------------------------------------------------------------
Finance (0.8%)
Grupo Financiero Banamex 1,837,000 3,885,412
- ---------------------------------------------------------------------------------------------
TOTAL MEXICO 17,134,162
- ---------------------------------------------------------------------------------------------
NETHERLANDS (1.5%)
Advertising & Publishing (1.5%)
Wolters Kluwer N.V. (c) 56,719 7,290,867
- ---------------------------------------------------------------------------------------------
TAIWAN (0.2%)
Finance (0.2%)
Chronicle 2001 Mutual Fund (c) 1,653,374 748,041
- ---------------------------------------------------------------------------------------------
UNITED KINGDOM (2.6%)
Advertising and Publishing (1.2%)
Pearson PLC 500,000 6,168,620
- ---------------------------------------------------------------------------------------------
Business Services (1.4%)
Compass Group PLC 675,000 6,712,647
- ---------------------------------------------------------------------------------------------
TOTAL UNITED KINGDOM 12,881,267
- ---------------------------------------------------------------------------------------------
UNITED STATES (77.9%)
Aerospace (1.5%)
Boeing Co. 80,000 $ 7,630,000
- ---------------------------------------------------------------------------------------------
Amusement (2.2%)
HFS, Inc. (c) 149,000 10,914,250
- ---------------------------------------------------------------------------------------------
Automotive (0.5%)
Danaher Corp. 65,000 2,656,875
- ---------------------------------------------------------------------------------------------
Building (0.7%)
Fastenal Co. 75,000 3,478,125
- ---------------------------------------------------------------------------------------------
Business Services (5.4%)
Thermo Electron Corp. 240,000 8,760,000
USA Waste Services, Inc. (c) 400,000 12,800,000
U.S. Filter Corp. (c) 153,400 5,292,300
- ---------------------------------------------------------------------------------------------
26,852,300
- ---------------------------------------------------------------------------------------------
Capital Goods (4.3%)
General Electric Co. 220,000 21,285,000
- ---------------------------------------------------------------------------------------------
Chemicals (1.1%)
DuPont E. I. DeNemours and Co. 60,000 5,565,000
- ---------------------------------------------------------------------------------------------
Consumer Goods (2.4%)
CUC International, Inc. (c) 251,400 6,159,300
Procter & Gamble Co. 60,000 5,940,000
- ---------------------------------------------------------------------------------------------
12,099,300
- ---------------------------------------------------------------------------------------------
Drugs (7.6%)
Amercian Home Products Corp. 94,200 5,769,750
Gilead Sciences, Inc. (c) 151,300 3,508,269
Johnson & Johnson Co. 130,000 6,402,500
Rhone Poulenc Rorer Inc. 125,000 8,390,625
Smithkline Beecham P L C 100,000 6,262,500
Warner Lambert Co. 115,000 7,316,875
- ---------------------------------------------------------------------------------------------
37,650,519
- ---------------------------------------------------------------------------------------------
Electronics Products (3.4%)
Analog Devices, Inc. (c) 200,000 5,200,000
Intel Corp. 105,000 11,530,312
- ---------------------------------------------------------------------------------------------
16,730,312
- ---------------------------------------------------------------------------------------------
Finance (12.0%)
Bank of Boston Corp. 181,700 11,628,800
BankAmerica Corp. 68,900 6,304,350
Federal Home Loan Mortgage Corp. 90,000 9,090,000
Morgan Stanley Group Inc. 100,000 5,025,000
NationsBank Corp. 71,800 6,767,150
Norwest Corp. 212,400 9,319,050
<PAGE>
PAGE 12
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
SCHEDULE OF INVESTMENTS--October 31, 1996
Market
Shares Value
=============================================================================================
United States -- (cont'd)
Finance -- (cont'd)
Travelers Group, Inc. 215,000 $ 11,663,750
- ---------------------------------------------------------------------------------------------
59,798,100
- ---------------------------------------------------------------------------------------------
Foods (5.2%)
Coca-Cola Co. 220,000 11,110,000
Flowers Industries, Inc. 357,600 8,358,900
Philip Morris Cos., Inc. 51,000 4,723,875
Richfood Holdings, Inc. 65,900 1,602,194
- ---------------------------------------------------------------------------------------------
25,794,969
- ---------------------------------------------------------------------------------------------
Insurance (1.2%)
American International Group, Inc. 55,000 5,974,375
- ---------------------------------------------------------------------------------------------
Metals & Mining (0.6%)
Aluminum Co. of America 50,000 2,931,250
- ---------------------------------------------------------------------------------------------
Natural Gas (3.8%)
Anadarko Petroleum Corp. 115,200 7,329,600
Noble Affiliates, Inc. 175,000 7,612,500
United Meridian Corp. (c) 87,100 4,104,587
- ---------------------------------------------------------------------------------------------
19,046,687
- ---------------------------------------------------------------------------------------------
Office Products (2.8%)
Compaq Computer Corp. (c) 80,000 5,570,000
EMC Corp. (c) 280,300 7,357,875
Synopsys, Inc. (c) 20,200 914,050
- ---------------------------------------------------------------------------------------------
13,841,925
- ---------------------------------------------------------------------------------------------
Oil (3.3%)
Exxon Corp. 95,000 8,419,375
Mobil Corp. 67,500 7,880,625
- ---------------------------------------------------------------------------------------------
16,300,000
- ---------------------------------------------------------------------------------------------
Oil Services (7.1%)
ENSCO International, Inc. (c) 325,000 14,056,250
Halliburton Co. 100,000 5,662,500
Schlumberger, Ltd. 50,437 4,999,568
Tidewater, Inc. 238,800 10,447,500
- ---------------------------------------------------------------------------------------------
35,165,818
- ---------------------------------------------------------------------------------------------
Retail (4.8%)
Abercrombie & Fitch Co. (c) 204,700 4,503,400
Federated Department Stores, Inc. (c) 100,000 3,300,000
Loehmann's Holdings, Inc. (c) 100,000 2,662,500
Saks Holdings, Inc. (c) 165,000 5,775,000
Staples, Inc. (c) 418,450 7,845,938
- ---------------------------------------------------------------------------------------------
24,086,838
- ---------------------------------------------------------------------------------------------
United States -- (cont'd)
Software Services (2.3%)
Microsoft Corp. (c) 85,000 $ 11,671,562
- ---------------------------------------------------------------------------------------------
Telecommunications (5.7%)
Cisco Systems, Inc. (c) 85,000 5,254,062
Teleport Communications Group (c) 189,800 4,673,825
3Com Corp. (c) 75,000 5,076,563
U.S. Robotics Corp. 120,000 7,552,500
Lucent Technologies, Inc. 116,800 5,489,600
- ---------------------------------------------------------------------------------------------
28,046,550
- ---------------------------------------------------------------------------------------------
TOTAL UNITED STATES 387,519,755
- ---------------------------------------------------------------------------------------------
TOTAL COMMON STOCKS
(Cost--$369,300,279) 443,963,484
- ---------------------------------------------------------------------------------------------
PREFERRED STOCK (2.2%)
BRAZIL (2.2%)
Finance (1.7%)
Banco Bradesco S.A. 645,300,000 5,502,071
Banco Itau S.A. 6,441,000 2,789,804
- ---------------------------------------------------------------------------------------------
8,291,875
- ---------------------------------------------------------------------------------------------
Metals & Mining (0.5%)
Companhia Vale do Rio Doce Navegacao S.A. 115,000 2,384,174
- ---------------------------------------------------------------------------------------------
TOTAL BRAZIL 10,676,049
- ---------------------------------------------------------------------------------------------
TOTAL PREFERRED STOCK
(Cost--$9,558,296) 10,676,049
- ---------------------------------------------------------------------------------------------
Maturity
Value
=============================================================================================
REPURCHASE AGREEMENT (6.5%)
Investment in repurchase agreements in a joint trading
account, purchased 10/31/96, 5.565%, maturing 11/1/96
(Cost--$32,250,000) (a) $ 32,254,985 32,250,000
- ---------------------------------------------------------------------------------------------
TOTAL INVESTMENTS
(Cost--$411,108,575) (d) 486,889,533
- ---------------------------------------------------------------------------------------------
FOREIGN CURRENCY HOLDINGS
(Cost--$10,523) (0.0%) (b) 10,491
OTHER ASSETS AND LIABILITIES--NET (2.0%) 9,976,437
- ---------------------------------------------------------------------------------------------
NET ASSETS (100%) $496,876,461
- ---------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
PAGE 13
- ------------------------------------
(a) The repurchase agreement is fully collateralized by U.S. government
and/or agency obligations based on market prices at the date of the
portfolio.
(b) Investments denominated in the local currency and/or foreign currency
holdings of certain foreign countries are considered illiquid due to
current foreign exchange restrictions of these foreign markets.
(c) Non-income producing security.
(d) The cost of investments for federal income tax purposes amounted to
$411,116,314.
Gross unrealized appreciation and depreciation of investments, based on
identified tax cost, at October 31, 1996 are as follows:
Gross unrealized appreciation $80,887,005
Gross unrealized depreciation (5,113,786)
-----------
Net unrealized appreciation $75,773,219
===========
Legend of Portfolio Abbreviations:
ADR--American Depository Receipt
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS
<TABLE>
<CAPTION>
Net Unrealized
Exchange U.S. $ Value at In Exchange Appreciation/
Date October 31, 1996 for U.S. $ (Depreciation)
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Forward Foreign Currency Exchange Contracts to Sell:
Contracts to Deliver
- ---------------------------------------
11/20/96 1,757,628 Pound Sterling $2,859,466 $2,720,000 ($139,466)
1/27/97 668,790,000 Japanese Yen 5,946,510 6,000,000 53,490
</TABLE>
See Notes to Financial Statments.
<PAGE>
PAGE 14
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
FINANCIAL HIGHLIGHTS
(For a share outstanding throughout each year)
<TABLE>
<CAPTION>
Year Ended October 31,
-----------------------------------------------------------
1996 1995 1994 1993 1992
==================================================================================================
<S> <C> <C> <C> <C> <C>
Net asset value
beginning of year $ 8.05 $ 7.54 $ 9.00 $ 7.60 $ 8.18
- --------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income (loss) (0.04) (0.02) 0 (0.06) (0.01)
Net realized and unrealized gain
(loss) on investments and foreign
currency related transactions 1.04 1.13 0.23 1.89 0.42
- --------------------------------------------------------------------------------------------------
Total from investment operations 1.00 1.11 0.23 1.83 0.41
- --------------------------------------------------------------------------------------------------
Less distributions from:
Net investment income (0.01) 0 0 0 (0.01)
In excess of net investment income 0 0 0 (0.03) (0.05)
Net realized gain on investments
and foreign currency related
transactions (0.36) (0.60) (1.66) (0.40) (0.93)
In excess of net realized gain on
investments and foreign currency
related transactions 0 0 (0.03) 0 0
- --------------------------------------------------------------------------------------------------
Total distributions (0.37) (0.60) (1.69) (0.43) (0.99)
- --------------------------------------------------------------------------------------------------
Net asset value end of year $ 8.68 $ 8.05 $ 7.54 $ 9.00 $ 7.60
==================================================================================================
Total return (a) 12.95% 15.05% 3.55% 24.97% 6.38%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 1.91%(b) 2.01%(b) 1.73% 1.83% 1.58%
Net investment income (loss) (0.48%) (0.25%) (0.17%) (0.57%) (0.15%)
Portfolio turnover rate 156% 140% 68% 65% 62%
Average commission rate paid $ 0.0042 N/A N/A N/A N/A
- --------------------------------------------------------------------------------------------------
Net assets end of year (thousands) $496,876 $491,610 $416,684 $403,693 $321,794
==================================================================================================
</TABLE>
<TABLE>
<CAPTION>
1991 1990 1989 1988 1987
=================================================================================================
<S> <C> <C> <C> <C> <C>
Net asset value
beginning of year $ 6.52 $ 7.67 $ 6.53 $ 7.55 $ 9.13
------------------------------------------------------------------------------------------------
Income from investment operations:
Net investment income (loss) 0.08 0.08 0.16 0.18 0.02
Net realized and unrealized gain
(loss) on investments and foreign
currency related transactions 2.24 (0.80) 1.21 0.19 0.04
------------------------------------------------------------------------------------------------
Total from investment operations 2.32 (0.72) 1.37 0.37 0.06
------------------------------------------------------------------------------------------------
Less distributions from:
Net investment income (0.16) (0.18) (0.18) (0.14) (0.13)
In excess of net investment income 0 0 0 0 0
Net realized gain on investments
and foreign currency related
transactions (0.50) (0.25) (0.05) (1.25) (1.51)
In excess of net realized gain on
investments and foreign currency
related transactions 0 0 0 0 0
------------------------------------------------------------------------------------------------
Total distributions (0.66) (0.43) (0.23) (1.39) (1.64)
------------------------------------------------------------------------------------------------
Net asset value end of year $ 8.18 $ 6.52 $ 7.67 $ 6.53 $ 7.55
=================================================================================================
Total return (a) 38.77% (10.05%) 21.74% 7.73% 0.15%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 1.52% 1.65% 1.59% 1.69% 2.12%
Net investment income (loss) 0.99% 1.64% 2.06% 2.14% 0.23%
Portfolio turnover rate 86% 30% 40% 89% 104%
Average commission rate paid N/A N/A N/A N/A N/A
------------------------------------------------------------------------------------------------
Net assets end of year (thousands) $339,359 $234,060 $329,994 $328,205 $298,748
=================================================================================================
</TABLE>
(a) Excluding applicable sales charges.
(b) Ratio of total expenses to average net assets includes indirectly paid
expenses. Excluding indirectly paid expenses, the expense ratio would have
been 1.90% and 2.00% for the years ended October 31, 1996 and 1995,
respectively.
See Notes to Financial Statements.
<PAGE>
PAGE 15
- ------------------------------------
STATEMENT OF ASSETS AND LIABILITIES
October 31, 1996
==================================================================
Assets
Investments at market value (identified cost--
$411,108,575) $486,889,533
Foreign currency holdings (identified cost--
$10,523) 10,491
Cash 11,459
Receivable for:
Investments sold 16,837,391
Unrealized appreciation on forward foreign
currency exchange contracts 53,490
Fund shares sold 19,663
Dividends and interest 464,949
Foreign tax reclaims 19,943
Prepaid expenses and other assets 40,500
- ------------------------------------------------------------------
Total assets 504,347,419
- ------------------------------------------------------------------
Liabilities
Payable for:
Investments purchased 6,995,054
Unrealized depreciation on forward foreign
currency exchange contracts 139,466
Fund shares redeemed 214,474
Foreign taxes to be withheld 17,860
Other accrued expenses 104,104
- ------------------------------------------------------------------
Total liabilities 7,470,958
- ------------------------------------------------------------------
Net assets $496,876,461
==================================================================
Net assets represented by (Note 3)
Paid-in capital $361,396,355
Undistributed net investment income 85,978
Accumulated net realized gain on investment and
foreign currency related transactions 59,696,846
Net unrealized appreciation (depreciation) on
investments and foreign currency related
transactions 75,697,282
- ------------------------------------------------------------------
Total net assets $496,876,461
- ------------------------------------------------------------------
Net asset value per share
Net assets of $496,876,461 / 57,242,129 shares
outstanding $ 8.68
- ------------------------------------------------------------------
STATEMENT OF OPERATIONS
Year Ended October 31, 1996
========================================================================
Investment income
Dividends (Net of foreign withholding
taxes of $103,251) $ 5,944,232
Interest 1,151,763
- ------------------------------------------------------------------------
Total income 7,095,995
- ------------------------------------------------------------------------
Expenses
Management fee $2,994,500
Transfer agent fees 1,227,881
Accounting, auditing and legal 70,044
Custodian fees 270,162
Printing 30,540
Trustees' fees and expenses 31,034
Distribution Plan expenses 4,845,352
Registration fees 57,858
Miscellaneous expenses 25,534
- ------------------------------------------------------------------------
Total expenses 9,552,905
Less: Expenses paid indirectly (Note 6) (44,293)
- ------------------------------------------------------------------------
Net expenses 9,508,612
- ------------------------------------------------------------------------
Net investment loss (2,412,617)
- ------------------------------------------------------------------------
Net realized and unrealized gain (loss) on
investments and foreign currency related
transactions (Note 3)
Net realized gain on investments and
foreign currency related transactions 70,337,618
- ------------------------------------------------------------------------
Net change in unrealized appreciation on
investments and foreign currency
related transactions (7,283,970)
- ------------------------------------------------------------------------
Net realized and unrealized gain on
investments and foreign currency
related transactions 63,053,648
- ------------------------------------------------------------------------
Net increase in net assets resulting
from operations $60,641,031
========================================================================
See Notes to Financial Statements.
<PAGE>
PAGE 16
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
STATEMENTS OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
Year Ended October 31,
------------------------------
1996 1995
===========================================================================================================
<S> <C> <C>
Operations
Net investment loss ($ 2,412,617) ($ 1,153,028)
Net realized gain on investments and foreign currency related
transactions 70,337,618 60,454,842
Net change in unrealized appreciation on investments and foreign
currency transactions (7,283,970) 8,987,189
- -----------------------------------------------------------------------------------------------------------
Net increase in net assets resulting from operations 60,641,031 68,289,003
- -----------------------------------------------------------------------------------------------------------
Distributions to shareholders from
Net investment income (478,981) 0
Net realized gain on investments and foreign currency related
transactions (22,079,862) (34,582,438)
- -----------------------------------------------------------------------------------------------------------
Total distributions to shareholders (22,558,843) (34,582,438)
- -----------------------------------------------------------------------------------------------------------
Capital share transactions
Proceeds from shares sold 65,085,209 101,411,115
Payments for shares redeemed (118,085,204) (91,086,308)
Net asset value of shares issued in reinvestment of distributions 20,184,450 30,894,379
- -----------------------------------------------------------------------------------------------------------
Net increase (decrease) in net assets resulting from capital share
transactions (32,815,545) 41,219,186
- -----------------------------------------------------------------------------------------------------------
Total increase in net assets 5,266,643 74,925,751
- -----------------------------------------------------------------------------------------------------------
Net assets:
Beginning of period 491,609,818 416,684,067
- -----------------------------------------------------------------------------------------------------------
End of period [including undistributed net investment income as follows:
1996--$85,978 and 1995--$478,981] $ 496,876,461 $491,609,818
===========================================================================================================
</TABLE>
See Notes to Financial Statements.
<PAGE>
PAGE 17
- ------------------------------------
NOTES TO FINANCIAL STATEMENTS
(1.) Significant Accounting Policies
Keystone Strategic Growth Fund (K-2) (the "Fund") is a Pennsylvania common
law trust for which Keystone Management, Inc. ("KMI") is the Investment
Manager and Keystone Investment Management Company ("Keystone") is the
Investment Adviser. Keystone is a wholly owned subsidiary of Keystone
Investments, Inc. ("KII") and KMI is, in turn, a wholly-owned subsidiary of
Keystone. The Fund is registered under the Investment Company Act of 1940, as
amended (the "1940 Act"), as a diversified, open-end investment company. The
Fund's investment objective is to provide shareholders with growth of
capital.
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. The
policies are in conformity with generally accepted accounting principles,
which require management to make estimates and assumptions that affect
amounts reported herein. Although actual results could differ from these
estimates, any such differences are expected to be immaterial to the net
assets of the Fund.
A. Valuation of Securities
Investments are usually valued at the closing sales price, or, in the absence
of sales and for over-the- counter securities, the mean of the bid and asked
prices. Securities for which valuations are not available from an independent
pricing service (including restricted securities) are valued at fair value as
determined in good faith according to procedures established by the Board of
Trustees.
Short-term investments with remaining maturities of 60 days or less are
carried at amortized cost, which approximates market value. Short-term
securities with greater than 60 days to maturity are valued at market value.
B. Repurchase Agreements
Pursuant to an exemptive order issued by the Securities and Exchange
Commission, the Fund, along with certain other Keystone funds, may transfer
uninvested cash balances into a joint trading account. These balances are
invested in one or more repurchase agreements that are fully collateralized
by U.S. Treasury and/or Federal Agency obligations.
Securities pledged as collateral for repurchase agreements are held by the
custodian on the Fund's behalf. The Fund monitors the adequacy of the
collateral daily and will require the seller to provide additional collateral
in the event the market value of the securities pledged falls below the
carrying value of the repurchase agreement.
C. Foreign Currency
The books and records of the Fund are maintained in United States (U.S.)
dollars. Foreign currency amounts are translated into U.S. dollars as
follows: market value of investments, assets and liabilities at the daily
rate of exchange; purchases and sales of investments, income and expenses at
the rate of exchange prevailing on the respective dates of such transactions.
Net unrealized foreign exchange gain (loss) resulting from changes in foreign
currency exchange rates is a component of net unrealized appreciation
(depreciation) on investments and foreign currency related transactions. Net
realized foreign currency gains and losses resulting from changes in exchange
rates include foreign currency gains and losses between trade date and
settlement date on investment securities transactions, foreign currency
transactions and the difference between the amounts of interest and dividends
recorded on the books of the Fund and the amount actually received. The
portion of foreign currency gains and losses related to fluctuations in
exchange rates between the initial purchase trade date and subsequent
<PAGE>
PAGE 18
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
sale trade date is included in realized gain (loss) on foreign currency
related transactions.
D. Forward Foreign Currency Exchange Contracts
The Fund may enter into forward foreign currency exchange contracts ("forward
contracts") to settle portfolio purchases and sales of securities denominated
in a foreign currency and to hedge certain foreign currency assets or
liabilities. Forward contracts are recorded at the forward rate and are
marked-to-market daily. Realized gains and losses arising from such
transactions are included in net realized gain (loss) on foreign currency
related transactions. The Fund bears the risk of an unfavorable change in the
foreign currency exchange rate underlying the forward contract and is subject
to the credit risk that the other party will not fulfill their obligations
under the contract. Forward contracts involve elements of market risk in
excess of the amount reflected in the statement of assets and liabilities.
E. Security Transactions and Investment Income
Securities transactions are accounted for no later than one business day
after the trade date. Realized gains and losses are computed on the
identified cost basis. Interest income is recorded on the accrual basis and
includes amortization of discounts and premiums. Dividend income is recorded
on the ex-dividend date.
F. Federal Income Taxes
The Fund has qualified and intends to qualify in the future as a regulated
investment company under the Internal Revenue Code of 1986, as amended (the
"Code"). Thus, the Fund is relieved of any federal income tax liability by
distributing all of its net taxable investment income and net taxable capital
gains, if any, to its shareholders. The Fund also intends to avoid excise tax
liability by making the required distributions under the Code. Accordingly,
no provision for federal income tax is required.
G. Distributions
The Fund distributes net investment income and net capital gains, if any, at
least annually. Distributions to shareholders are recorded at the close of
business on the ex-dividend date.
Income and capital gains distributions to shareholders are determined in
accordance with income tax regulations, which may differ from generally
accepted accounting principles. These differences are primarily due to the
differing treatment of foreign currency gains and losses and the
classification of short term capital gains for book and tax purposes.
(2.) Capital Share Transactions
The Fund's Restatement of Trust Agreement authorizes the issuance of an
unlimited number of shares of beneficial interest with a par value of $1.00.
Transactions in shares of the Fund were as follows:
Year Ended October 31,
-----------------------------
1996 1995
- -------------------------------------------------------------------
Shares sold 8,012,349 13,738,533
Shares redeemed (14,456,998) (11,918,556)
Shares issued in reinvestment of
distributions 2,591,072 3,996,685
- -------------------------------------------------------------------
Net increase/(decrease) (3,853,577) 5,816,662
===================================================================
(3.) Securities Transactions
Cost of purchases and proceeds from sales of investment securities (excluding
short-term securities and U.S. government securities) for the year ended
October 31, 1996, were $744,597,577 and $824,803,255, respectively.
(4.) Distribution Plan
The Fund bears some of the costs of selling its shares under a Distribution
Plan (the "Plan") adopted pursuant to Rule 12b-1 under the 1940 Act. Under
the
<PAGE>
PAGE 19
- ------------------------------------
Plan, the Fund pays its principal underwriter, Keystone Investment
Distributors Company ("KIDC"), a wholly-owned subsidiary of Keystone, amounts
that are calculated and paid daily.
Under the Plan, the Fund pays a distribution fee, which may not exceed 1.00%
of the Fund's average daily net assets. Of that amount, 0.75% is used to pay
distribution expenses and 0.25% may be used to pay service fees.
The Plan may be terminated at any time by vote of the Independent Trustees
or by vote of a majority of the outstanding voting shares of the Fund.
However, after the termination of the Plan, at the discretion of the Board of
Trustees, payments to KIDC may continue as compensation for its services that
had been earned while the Plan was in effect.
KIDC intends, but is not obligated, to continue to pay distribution costs
that exceed the current annual payments from the Fund. KIDC intends to seek
full payment of such distribution costs from the Fund at such time in the
future as, and to the extent that, payment thereof by the Fund would be
within permitted limits.
Contingent deferred sales charges paid by redeeming shareholders may be paid
to KIDC.
(5.) Investment Management Agreement and Other Affiliated Transactions
Under the terms of the Investment Management Agreement between KMI and the
Fund, KMI provides investment management and administrative services to the
Fund. In return, KMI is paid a management fee, computed and paid daily, at an
amount determined by applying percentage rates starting at 0.70% and
declining as net assets increase to 0.35% per annum, to the average daily net
asset value of the Fund.
KMI has entered into an Investment Advisory Agreement with Keystone under
which Keystone provides investment advisory and management services to the
Fund. In return for its services, Keystone receives an annual fee equal to
85% of the management fee received by KMI.
During the year ended October 31, 1996, the Fund paid or accrued $24,446 to
Keystone for certain accounting services. The Fund paid or accrued $1,227,881
to Keystone Investor Resource Center, Inc., a wholly-owned subsidiary of
Keystone, for services rendered as the Fund's transfer and dividend
disbursing agent.
Certain officers and/or Directors of Keystone are also officers and/or
Trustees of the Fund. Officers of Keystone and affiliated Trustees receive no
compensation directly from the Fund.
(6.) Expense Offset Arrangement
The Fund has entered into an expense offset arrangement with its custodian.
For the year ended October 31, 1996, the Fund incurred total custody fees of
$270,162 and received a credit of $44,293 pursuant to this expense offset
arrangement, resulting in a net custody expense of $225,869. The assets
deposited with the custodian under this expense offset arrangement could have
been invested in income-producing assets.
(7.) Distributions to Shareholders
A capital gain distribution of $1.04 per share was declared payable on
November 27, 1996 to shareholders of record November 25, 1996. The capital
gain distribution consists of $0.94 per share long-term and $0.10 per share
short-term. This distribution is not reflected in the accompanying financial
statements.
<PAGE>
PAGE 20
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
(8.) Agreement and Plan of Acquisition
On September 6, 1996, KII entered into an Agreement and Plan of Acquisition
and Merger with First Union Corporation ("First Union"), First Union National
Bank of North Carolina ("FUNB-NC") and certain other parties pursuant to
which KII will be merged with and into a wholly-owned subsidiary of FUNB-NC.
Subject to the receipt of required regulatory and shareholder approvals, the
proposed merger is expected to take place in December 1996.
===============================================================================
FEDERAL TAX STATUS--FISCAL 1996 DISTRIBUTIONS (Unaudited)
For the fiscal year ended October 31, 1996 a capital gain distribution of
$0.36 per share and an income distribution of $0.01 per share was paid. Of
the capital gain distribution $0.19 is considered long term and $0.17 is
considered short term. The distribution is taxable to shareholders in the
year in which received by them or credited to their accounts.
In January 1997, we will send you complete information on the distributions
paid during the calendar year to help you in completing your federal tax
return.
<PAGE>
PAGE 21
- ------------------------------------
INDEPENDENT AUDITORS' REPORT
The Trustees and Shareholders
Keystone Strategic Growth Fund (K-2)
We have audited the accompanying statement of assets and liabilities of
Keystone Strategic Growth Fund (K-2) including the schedule of investments,
as of October 31, 1996, and the related statement of operations for the year
then ended, the statements of changes in net assets for each of the years in
the two-year period then ended, and the financial highlights for each of the
years in the ten-year period then ended. These financial statements and
financial highlights are the responsibility of the Fund's management. Our
responsibility is to express an opinion on these financial statements and
financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements and
financial highlights are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures
in the financial statements. Our procedures included confirmation of
securities owned as of October 31, 1996 by correspondence with the custodian
and brokers. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide
a reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Keystone Strategic Growth Fund (K-2) as of October 31, 1996, the results of
its operations for the year then ended, the changes in its net assets for
each of the years in the two-year period then ended, and the financial
highlights for each of the years in the ten-year period then ended in
conformity with generally accepted accounting principles.
KPMG Peat Marwick LLP
Boston, Massachusetts
November 29, 1996
<PAGE>
PAGE 22
- ------------------------------------
Keystone Strategic Growth Fund (K-2)
Keystone's Services
for Shareholders
KEYSTONE AUTOMATED RESPONSE LINE (KARL)--Receive up-to-date account
information on your balance, last transaction and recent Fund distribution.
You may also process transactions such as investments, redemptions and
exchanges using a touch-tone telephone as well as receive quotes on price,
yield, and total return of your Keystone Fund. Call toll-free,
1-800-346-3858.
EASY ACCESS TO INFORMATION ON YOUR ACCOUNT--Information about your Keystone
account is available 24 hours a day through KARL. To speak with a Shareholder
Services representative about your account, call toll-free 1-800-343-2898
between 8:00 A.M. and 6:00 P.M. Eastern time. Retirement Plan investors
should call 1-800-247-4075.
ADDITIONS TO YOUR ACCOUNT--You can buy additional shares for your account at
any time, with no minimum additional investment.
REINVESTMENT OF DISTRIBUTIONS--You can compound the return on your
investment by automatically reinvesting your Fund's distributions at net
asset value with no sales charge.
EXCHANGE PRIVILEGE--You may move your money among funds in the same Keystone
family quickly and easily for a nominal service fee. KARL gives you the added
ability to move your money any time of day, any day of the week. Keystone
offers a variety of funds with different investment objectives for your
changing investment needs.
ELECTRONIC FUNDS TRANSFER (EFT)-- Referred to as the "paper-less
transaction," EFT allows you to take advantage of a variety of preauthorized
account transactions, including automatic monthly investments and systematic
monthly or quarterly withdrawals. EFT is a quick, safe and accurate way to
move money between your bank account and your Keystone account.
CHECK WRITING--Shareholders of Keystone Liquid Trust may exercise the check
writing privilege to draw from their accounts.
EASY REDEMPTION--KARL makes redemption services available to you 24 hours a
day, every day of the year. The amount you receive may be more or less than
your original account value depending on the value of fund shares at time of
redemption.
RETIREMENT PLANS--Keystone offers a full range of retirement plans,
including IRA, SEP-IRA, profit sharing, money purchase, and defined
contribution plans. For more information, please call Retirement Plan
Services, toll-free at 1-800-247-4075.
Keystone is committed to providing you with quality, responsive account
service. We will do our best to assist you and your financial adviser in
carrying out your investment plans.
<PAGE>
Page 1
- -----------------------------------------------------------------------------
Keystone Mid-Cap Growth Fund (S-3)
Seeks growth of capital from mid-cap stocks.
Dear Shareholder:
We are writing to report to you on the performance of Keystone Mid-Cap Growth
Fund (S-3) for the twelve-month period which ended August 31, 1996. Following
our letter we have included a discussion with your Fund's manager and
Complete financial information.
Performance
For the twelve-month period, your Fund produced a return of 10.07%, which
nearly matched the 11.87% return of its benchmark, the Standard & Poor's 400
Mid-Cap Index.
These returns reflect the positive performance of the markets and our
careful stock selection during the twelve-month period. Your Fund's returns
were particularly attractive during the first nine months of the period when
mid-cap growth stocks recorded strong performance.
The market was led by stocks of large, high quality companies. Strong
corporate earnings, relatively low interest rates, and controlled inflation
sent stocks to new highs in 1996. However, concerns over the sustainability
of earnings growth rates in a higher interest rate environment mounted in the
Spring of 1996. Stocks declined in response during June and July, with small
and medium market capitalization issues experiencing steeper declines than
large-cap issues. The declines were short-lived, as indications of slower
economic growth appeared and stocks rallied in August and September. Although
selected stocks recovered, this was a period of readjustment for some mid-cap
stocks.
Individual stock selection
In selecting stocks for the portfolio, we seek high-quality medium-sized
companies that we believe have attractive and consistent earnings growth
rates. We attempt to identify businesses with well-established products,
services and management teams. Many of these companies are still in the
accelerated growth phase of their life cycle and offer the potential for
continued strong growth. By investing in mid-cap growth stocks, your Fund
seeks to offer greater growth potential than investing solely in large
company stocks, and more consistent performance than investing only in small
company stocks.
Our outlook
We are expecting the favorable economic fundamentals of 1996 to continue into
1997. However, the stronger-than-expected economic growth of the first half
of 1996 has already begun to show signs of slowing to more moderate levels.
Inflation should remain under control, despite some wage pressures, which
should allow interest rates to remain relatively stable.
For investors with long-term goals, we continue to believe that stocks offer
the best potential returns. However, we are now in the sixth year of a stock
market rally--the longest since the end of World War II. While we have a
favorable outlook for next year, history has shown that strong performance
does not persist indefinitely. Stocks periodically experience price declines.
We witnessed this type of "correction" in June and July, followed by a
recovery in August. With this in mind, we encourage you to keep the above
average stock market returns of the last few years in perspective.
We are pleased to inform you that Keystone has agreed to be acquired by
First Union Corporation. The acquisition is subject to a number of
conditions, including approvals of investment advisory agreements with
Keystone
--Continued--
<PAGE>
Page 2
- -----------------------------------------------------------------------------
by fund shareholders. First Union is a financial services firm based in
Charlotte, North Carolina. It is the nation's sixth largest bank holding
company with assets of approximately $140 billion. First Union, through its
wholly-owned subsidiary Evergreen Asset Management Corp., manages more than
$16 billion in 36 mutual funds. Keystone will remain a separate entity after
its acquisition and will continue to provide investment advisory and
management services to the Fund. We believe First Union's acquisition of
Keystone should strengthen the investment management services we provide to
you.
We appreciate your continued support of Keystone Mid-Cap Growth Fund (S-3).
If you have any questions or comments about your investment, please feel free
to write to us.
Sincerely,
/s/ Albert H. Elfner, III
Albert H. Elfner, III
Chairman and President
Keystone Investments, Inc.
/s/ George Bissell
George S. Bissell
Chairman of the Board
Keystone Funds
(Photos of Albert H. Elfner, III
and George S. Bissell)
Albert H. Elfner, III George S. Bissell
October 1996
(Dalbar logo)
Dalbar Key Honors
Honoring Commitment to Excellence
Keystone was recently recognized by Dalbar, an independent mutual fund rating
organization, for demonstrating a commitment to serving the needs of
customers. The award is intended to distinguish companies who are committed
to investors and have a proven ability to provide good service.
Keystone Investment Insight Line for Shareholders
Now you can keep up-to-date on your fund's current strategy and outlook by
calling Keystone Investment Insight Line. You can hear Keystone portfolio
managers discuss their latest strategies, or listen to Keystone's
overall market outlook from James McCall, chief investment officer. Of
course, your financial adviser can provide you with more complete information
on Keystone funds. This service is available 24 hours a day, seven days a
week and updated at least monthly.
Keystone Investment Insight Line1-800-346-3858, Press 2 after the greeting
(Graphic of telephone)
<PAGE>
Page 3
- -----------------------------------------------------------------------------
A Discussion With
Your Fund Manager
(Photo of Margery C. Parker)
Margery C. Parker is portfolio manager of your Fund and
Keystone Global Opportunities Fund. Ms. Parker has more than
15 years of investment management experience. She holds a BA
from Wellesley College and an MBA from Babson College.
Together with senior portfolio manager Maureen Cullinane,
head of Keystone's growth stock group, she selects mid-cap stocks
for your Fund.
Q What was the economic environment like?
A This was a favorable environment for medium market capitalization
(mid-cap) stocks for most of the twelve-month period. At the end of 1995,
economic growth was moderate, inflation was contained, and interest rates had
declined. At the beginning of 1996, this environment changed. While stock
prices generally rose, they fluctuated broadly during the period as virtually
every new economic report triggered a debate over growth and inflation and
whether or not the Federal Reserve Board would raise interest rates.
Q In relation to other types of stocks, how did mid-cap stocks perform?
A Mid-cap stocks provided attractive returns, but lagged the large-cap
Standard and Poor's 500 Index (S&P 500) for the twelve-month period which
ended August 31, 1996. However, we believe that mid-cap stocks have greater
growth potential than many large-cap stocks. In addition, mid-cap stocks
generally do not carry the risks and price volatility associated with
small-cap stocks, which experienced sharp price declines this summer. This
correction effected most all stocks, and we believe it helped to wring out
the excesses of the market, bringing stock prices down to more reasonable
levels.
Q What is the attraction of mid-cap stocks for investors?
A In a few words: attractive growth with lower price volatility.
Historically, mid-capitalization stocks have tended to exhibit higher growth
rates than larger-cap stocks, such as those in the S&P 500. They also
generally have provided more consistent earnings than smaller companies. We
define mid-cap as stocks of companies with market capitalizations generally
between $750 million and $3 billion. A stock's market capitalization is
determined by multiplying its current price by the number of shares
outstanding.
Fund Profile
Objective: Seeks growth of capital from mid-cap stocks.
Commencement of investment operations: September 11, 1935
Number of stocks: 76
Net assets: $285 million
Newspaper listing: "MidCapS3"
<PAGE>
Page 4
- -----------------------------------------------------------------------------
Keystone Mid-Cap Growth Fund (S-3)
Your Fund Invests In . . .
(bullet) Dynamic companies with earnings growth rates of 20% or more
(bullet) Companies with strong management, a leading market position, and a
solid balance sheet
(bullet) Primarily medium-sized companies with market capitalizations between
$750 million and $3 billion
(bullet) U.S. stocks and stocks of established foreign companies
Q How do you decide where to invest?
A In managing your Fund, we pursue a disciplined approach to investing that
begins with a detailed analysis of the economy, industry trends and the
business cycle. We consider the effects of economic growth, interest rates,
stock price changes and other measures in our evaluation. Through this
process, we seek to uncover attractive areas for further investigation.
We then conduct individual company research, focusing on a company's
management, financials, product line, and potential to grow earnings at 20%
or more a year. We seek to invest in a diverse group of companies that have a
strong earnings growth records. We conduct extensive analysis on the
company's financial condition including projections for earnings, profits,
and revenues. We also believe it is important to be in frequent contact with
company managements to determine if the company will live up to our
expectations.
Q What companies were you attracted to during the twelve-month period?
A We emphasized a number of companies that fell into the category of
business services. These companies accounted for 12.9% of net assets as of
August 31, 1996. This is not an economic sector, per se. It is a group of
unique companies with specialized products and services. These companies
often have limited competition and are less dependent on the direction of the
economy than other types of businesses. Typically these companies expand
their business through aggressive selling, opening new geographical
territories, or by acquiring smaller firms. This is an eclectic group. One
example is G&K Services, a company that supplies uniforms to a number of
businesses in the Midwest. Uniform companies tend to be small "mom and pop"
operations, and G&K is expanding its business by purchasing some of these
smaller concerns.
Q Energy services companies represented 5.2% of net assets on August 31,
1996. What was attractive here?
A Energy services companies, which are listed as 'oil services' in the
Schedule of Investments beginning on page 9, support the drilling activities
of the energy industry. They may supply oil rigs, tool bits, boats, pumping
equipment or seismology services. Many of these companies undertook major
restructuring programs over the last several years. Their managements have
become more aggressive and they have increased productivity. In addition,
demand for their expertise has increased. This is because, after several
years of overcapacity, demand for energy has increased. In order to rebuild
inventories, the major oil companies have been enlisting the help of energy
services firms. Some of these companies we held in the portfolio include
Diamond Offshore, BJ Services, and Tidewater.
Top 5 Industries
as of August 31, 1996
Percentage of
Industry net assets
- ------------------------------------------------------------
Business services 12.9
- ------------------------------------------------------------
Finance 10.7
- ------------------------------------------------------------
Retail 8.2
- ------------------------------------------------------------
Software services 6.1
- ------------------------------------------------------------
Oil services 5.2
- ------------------------------------------------------------
<PAGE>
Page 5
- -----------------------------------------------------------------------------
Top 10 Holdings
as of August 31, 1996
Percentage of
Stock Industry net assets
- -----------------------------------------------------------------------------
PETsMART Retail 2.3
- -----------------------------------------------------------------------------
U.S. Filter Business services 2.2
- -----------------------------------------------------------------------------
HFS Amusements 2.1
- -----------------------------------------------------------------------------
BMC Software Software services 2.1
- -----------------------------------------------------------------------------
Louisiana Land & Exploration Oil services 2.0
- -----------------------------------------------------------------------------
TCF Financial Finance 2.0
- -----------------------------------------------------------------------------
Cardinal Health Health care services 1.9
- -----------------------------------------------------------------------------
USA Waste Services Business services 1.9
- -----------------------------------------------------------------------------
Staples Retail 1.8
- -----------------------------------------------------------------------------
Gentex Automotive 1.7
- -----------------------------------------------------------------------------
Q The financial sector has been an important part of the portfolio for
several years. What did you find attractive among financial stocks?
A Many of these companies have been benefitting from a consolidation in the
industry. Banks in particular are attempting to lower internal costs, expand
their franchises, and to reach a size where they can be more competitive in a
deregulated environment. One way that many financial institutions are
accomplishing this is through mergers with or acquisitions of other financial
institutions.
We have maintained many of the same financial stocks in the portfolio over
the twelve-month period. As of August 31, 1996, these holdings represented
10.7% of net assets. In the Northeast, Bank of Boston acquired BayBank and
South Boston Savings Bank. Washington Mutual, a bank in Washington state
recently acquired a financial institution in California. With this
acquisition, Washington Mutual expanded into a new market. TCF Financial, a
Midwestern bank, has carved out a niche market for itself. It caters to
customers at the lower end of the retail banking market. Through an extensive
branch network, TCF provides a complete spectrum of financial services,
including checking accounts, savings accounts, mortgages, and investment
services. Another company that has benefitted from the growth in the
financial services industry is BISYS Group. As an outsourcing provider, BISYS
supplies financial services firms with transaction processing, recordkeeping,
and other administrative services.
Q Retail stocks were among the Fund's top industry sectors. After several
years in the doldrums, did retail stocks come into favor?
A It has been a mixed bag for retailers. However, we have continued to focus
on individual specialty retailers that we believe have had solid financial
results and good growth rates. At 8.2% of net assets as of August 31, 1996,
retailers were the Fund's third largest industry weighting. Two companies we
found particularly attractive were PETsMART, a top ten holding, and Kohls.
PETsMART is a national pet supply chain of superstores. It is expanding its
business to include veterinary services and equine products and services. We
believe PETsMART has the potential to continue its rapid growth rate. Kohls
is a high quality Midwest department store. It is planning an expansion into
the Northeast.
Q What is your outlook for mid-cap stocks?
A We believe the combination of moderate economic growth and relatively low
interest rates and inflation should continue to provide a positive investment
environment for growth stocks. In the months ahead, we will continue to stay
with our investment strategy of searching for high quality growth companies
that we believe can provide the Fund with capital appreciation over the long
term.
(diamond)
This column is intended to answer
questions about your Fund. If you have a question
you would like answered, please write to:
Keystone Investment Distributors Company
Attn: Shareholder Communications, 22nd Floor
200 Berkeley Street,
Boston, Massachusetts 02116-5034.
<PAGE>
Page 6
- -----------------------------------------------------------------------------
Keystone Mid-Cap Growth Fund (S-3)
Your Fund's Performance
- --------------------------------------------------------------------------------
[PLOT POINTS FOR MOUNTAIN CHART]
Growth of an investment in
Keystone Mid-Cap Growth Fund (S-3)
8/86 10000 10000
10334 13124
8/88 6806 10526
8904 14055
8/90 7502 12539
9209 16478
8/92 8561 16694
9457 19917
8/94 8942 20158
8789 24475
8/96 8723 26940
A $10,000 investment in Keystone Mid-Cap Growth Fund (S-3) made
on August 31, 1986 with all distributions reinvested was worth
$26,940 on August 31, 1996. Past performance is no guarantee of
future results.
- --------------------------------------------------------------------------------
There is no sales charge when you buy Fund shares. The Fund currently imposes
a contingent deferred sales charge that declines from 4% to 1% if you redeem
shares within four years of purchase. The one- year return reflects the
deduction of the 3% contingent deferred sales charge for those investors who
sold Fund shares after one calendar year. Investors who retained their fund
investment received the one-year return reported in the second column of the
table.
Twelve-Month Performance as of August 31, 1996
- ------------------------------------------------------------------------------
Total return* 10.07%
Net asset value 8/31/95 $9.22
8/31/96 $9.15
Dividends $0.59
Capital gains $0.33
*Before deduction of contingent deferred sales charge (CDSC).
Historical Record as of August 31, 1996
- ------------------------------------------------------------------------------
If you If you did
Cumulative total returns redeemed not redeem
1-year 7.09% 10.07%
5-year 63.49% 63.49%
10-year 169.40% 169.40%
Average annual total return
1-year 7.09% 10.07%
5-year 10.33% 10.33%
10-year 10.42% 10.42%
The investment return and principal value will fluctuate so that your
shares, when redeemed, may be worth more or less than the original cost.
You may exchange your shares to another Keystone fund for a $10 fee by
contacting Keystone directly. The exchange fee is waived for individual
investors who make an exchange using Keystone's Automated Response Line
(KARL). The Fund reserves the right to change or terminate the exchange
offer.
<PAGE>
Page 7
- -----------------------------------------------------------------------------
Growth of an Investment
- --------------------------------------------------------------------------------
[PLOT POINTS FOR LINE CHART]
Comparison of change in value of a $10,000 investment in Keystone
Mid-Cap Growth Fund (S-3), the Standard and Poor's 400 MidCap
Index, and the Consumer Price Index.
Fund Average
Annual Total Return
-------------------------------
1 Year 5 Year 10 Year
7.09% 10.33% 10.42%
8/86 10000 10000 10000
13124 12036 10428
8/88 10526 10461 10848
14055 14748 11358
8/90 12539 13589 11996
16478 19235 12452
8/92 16694 21263 12844
19917 26467 13200
8/94 20158 27696 13583
24475 34181 13938
8/96 26940 37333 14339
Past performance is no guarantee of future results. The one-year
return reflects the deduction of the Fund's 3% contingent deferred
sales charge for shares held for more than one year.
- --------------------------------------------------------------------------------
This chart graphically compares your Fund's total return performance to
certain investment indexes. It is the result of fund performance guidelines
issued by the Securities and Exchange Commission. The intent is to provide
investors with more information about their investment.
Components of the chart
The chart is composed of several lines that represent the accumulated value
of an initial $10,000 investment for the period indicated. The lines
illustrate a hypothetical investment in:
1. Keystone Mid-Cap Growth Fund (S-3)
The Fund seeks growth of capital from mid-cap stocks. The return is quoted
after deducting sales charges (if applicable), fund expenses and transaction
costs and assumes reinvestment of all distributions.
2. Standard & Poor's 400 MidCap Index (S&P 400)
The S&P 400 is a broad-based unmanaged index of common stock prices. The
index is comprised of stocks of medium-sized U.S. companies. The average
market capitalization of the index is $2.8 billion with stocks ranging from
approximately $200 million to $6.5 billion.
3. Consumer Price Index (CPI)
This index is a widely recognized measure of the cost of goods and services
produced in the U.S. The index contains factors such as prices of services,
housing, food, transportation and electricity which are compiled by the U.S.
Bureau of Labor Statistics. The CPI is generally considered a valuable
benchmark for investors who seek to outperform increases in the cost of
living.
These indexes do not include transaction costs associated with buying and
selling securities, and do not hold cash to meet redemptions. Stocks that
comprise S&P indexes are selected and compiled by Standard & Poor's
Corporation according to criteria that may be unrelated to your Fund's
investment objective. It would be difficult for most individual investors to
duplicate these indexes.
Understanding what the chart means
The chart demonstrates your Fund's total return performance in relation to a
well known investment index and to increases in the cost of living. It is
important to understand what the chart shows and does not show.
This illustration is useful because it charts Fund and index performance
over the same time frame and over a long period. Long-term performance is a
more reliable and useful measure of performance than measurements of
short-term returns or temporary swings
<PAGE>
Page 8
- -----------------------------------------------------------------------------
Keystone Mid-Cap Growth Fund (S-3)
in the market. Your financial adviser can help you evaluate fund performance
in conjunction with the other important financial considerations such as
safety, stability and consistency.
Limitations of the chart
The chart, however, limits the evaluation of Fund performance in several
ways. Because the measurement is based on total returns over an extended
period of time, the comparison often favors those funds which emphasize
capital appreciation when the market is rising. Likewise, when the market is
declining, the comparison usually favors those funds which take less risk.
Performance can be distorted
Funds which are more conservative in their orientation and which place an
emphasis on capital preservation will tend to compare less favorably when the
market is rising. In addition, funds which have income as one of their
objectives also will tend to compare less favorably to relevant indexes.
Indexes may also reflect the performance of some securities which a fund may
be prohibited from buying. A bond fund, for example, may be limited to
investments in only high quality bonds, or a stock fund may only be able to
buy stocks that have been traded on a stock exchange for a minimum number of
years or stocks that have a certain market capitalization. Indexes usually do
not have the same investment restrictions as your Fund.
Indexes do not include costs of investing
The comparison is further limited in its utility because the indexes do not
take into account any deductions for sales charges, transaction costs or
other fund expenses. Your Fund's performance figures do reflect such
deductions. Sales charges--whether up-front or deferred--pay for the cost of
the investment advice of your financial adviser. Transaction costs pay for
the costs of buying and selling securities for your Fund's portfolio. Fund
expenses pay for the costs of investment management and various shareholder
services. None of these costs are reflected in index total returns. The
comparison is not completely realistic because an index cannot be duplicated
by an investor--even an unmanaged index--without incurring some charges and
expenses.
One of several measures
The chart is one of several tools you can use to understand your investment.
It should be read in conjunction with the Fund's prospectus, and annual and
semiannual reports. Also, your financial adviser, who understands your
personal financial situation, can best explain the features of your Keystone
fund and how it applies to your financial needs.
Future returns may be different
Shareholders also should be mindful that the long-run performance of either
the Fund or the indexes is not representative of what shareholders should
expect to receive from their Fund investment in the future; it is presented
to illustrate only past performance and is not a guarantee of future returns.
<PAGE>
Page 9
- -----------------------------------------------------------------------------
SCHEDULE OF INVESTMENTS--August 31, 1996 Market
Shares Value
- --------------------------------------------------------------------------
COMMON STOCKS (88.4%)
ADVERTISING & PUBLISHING (1.5%)
Clear Channel Communications, Inc. (a) 53,800 $4,431,775
- --------------------------------------------------------------------------
AEROSPACE (1.3%)
Rohr Industries, Inc. (a) 175,900 3,671,913
- --------------------------------------------------------------------------
AIR TRANSPORTATION (0.2%)
America West Airlines, Inc.,
Class B (a) 35,300 472,138
- --------------------------------------------------------------------------
AMUSEMENTS (4.2%)
Electronic Arts (a) 80,000 2,480,000
HFS, Inc. (a) 100,000 5,987,500
MGM Grand, Inc. (a) 90,000 3,397,500
- --------------------------------------------------------------------------
11,865,000
- --------------------------------------------------------------------------
AUTOMOTIVE (3.4%)
Danaher Corp. 115,000 4,772,500
Gentex Corp. (a) 203,400 4,907,025
- --------------------------------------------------------------------------
9,679,525
- --------------------------------------------------------------------------
BUILDING MATERIALS (2.5%)
Fastenal Co. 85,000 3,984,375
Oakwood Homes Corp. 130,000 3,055,000
- --------------------------------------------------------------------------
7,039,375
- --------------------------------------------------------------------------
BUSINESS SERVICES (12.9%)
Alternative Resource Corp. (a) 120,000 4,350,000
G & K Services, Inc., Class A 150,000 4,500,000
Molten Metal Technology, Inc. (a) 109,900 3,365,687
Paychex, Inc. 21,900 1,177,125
Thermedics, Inc. (a) 130,000 3,542,500
Thermo Electron Corp. 123,000 4,873,875
US Filter Corp. (a) 240,900 6,293,513
USA Waste Services, Inc. (a) 200,000 5,500,000
Viking Office Products, Inc. (a) 130,000 3,363,750
- --------------------------------------------------------------------------
36,966,450
- --------------------------------------------------------------------------
CAPITAL GOODS (1.2%)
Industrie Natuzzi SP ADR 68,300 3,449,150
- --------------------------------------------------------------------------
CHEMICALS (2.6%)
Hanna M.A. Co. 180,000 $3,915,000
OM Group, Inc. 95,000 3,610,000
- --------------------------------------------------------------------------
7,525,000
- --------------------------------------------------------------------------
CONSUMER GOODS (1.2%)
CUC International, Inc. (a) 100,000 3,437,500
- --------------------------------------------------------------------------
DIVERSIFIED COMPANIES (0.7%)
Diebold, Inc. 40,000 2,055,000
- --------------------------------------------------------------------------
DRUGS (2.9%)
Amylin Pharmaceuticals, Inc. (a) 300,000 3,206,250
Gilead Sciences, Inc. (a) 121,400 2,974,300
Guidant Corp. 40,000 2,030,000
- --------------------------------------------------------------------------
8,210,550
- --------------------------------------------------------------------------
ELECTRONICS PRODUCTS (1.3%)
Analog Devices, Inc. (a) 150,000 3,618,750
- --------------------------------------------------------------------------
FINANCE (9.3%)
Bank of Boston Corp. 69,600 3,671,400
BISYS Group, Inc. (a) 120,000 4,312,500
First USA Paymentech, Inc. (a) 77,000 2,906,750
Greenpoint Financial Corp. 110,000 3,918,750
Northern Trust Corp. 45,000 2,961,562
TCF Financial Corp. 149,300 5,580,088
Washington Mutual, Inc. 90,000 3,262,500
- --------------------------------------------------------------------------
26,613,550
- --------------------------------------------------------------------------
FOODS (2.0%)
PanAmerican Beverages, Inc., Class A 75,000 3,168,750
Richfood Holdings, Inc. 70,000 2,642,500
- --------------------------------------------------------------------------
5,811,250
- --------------------------------------------------------------------------
HEALTHCARE SERVICES (4.7%)
Cardinal Health, Inc. 75,000 5,503,125
IDEXX Laboratories, Inc. (a) 86,500 3,384,313
Lifecore Biomedical, Inc. (a) 185,000 3,422,500
Medaphis Corp. (a) 89,000 1,134,750
- --------------------------------------------------------------------------
13,444,688
- --------------------------------------------------------------------------
INSURANCE (1.3%)
SunAmerica, Inc. 55,000 3,746,875
<PAGE>
Page 10
- ---------------------------------------------------------------------------
Keystone Mid-Cap Growth Fund (S-3)
SCHEDULE OF INVESTMENTS--August 31, 1996
Market
Shares Value
- ---------------------------------------------------------------------------
METALS & MINING (1.4%)
UCAR International, Inc. (a) 100,000 $3,900,000
-------------------------------------------------------------------------
NATURAL GAS (2.7%)
CMS Energy Corp. 65,000 1,941,875
Louisiana Land & Exploration Co. 100,000 5,687,500
-------------------------------------------------------------------------
7,629,375
-------------------------------------------------------------------------
OFFICE & BUSINESS EQUIPMENT (1.6%)
EMC Corp. (a) 144,800 2,787,400
Synopsys, Inc. (a) 44,500 1,693,781
-------------------------------------------------------------------------
4,481,181
-------------------------------------------------------------------------
OIL SERVICES (5.2%)
BJ Services Co. (a) 104,000 3,913,000
Diamond Offshore Drilling, Inc. (a) 42,000 2,142,000
Tidewater, Inc. 125,000 4,796,875
Weatherford Enterra, Inc. (a) 135,000 3,881,250
-------------------------------------------------------------------------
14,733,125
-------------------------------------------------------------------------
PAPER & PACKAGING (2.4%)
Temple Inland, Inc. 60,000 2,962,500
Willamette Industries, Inc. 64,000 3,976,000
-------------------------------------------------------------------------
6,938,500
-------------------------------------------------------------------------
RETAIL (8.2%)
Autozone, Inc. (a) 80,000 2,180,000
Global Directmail Corp. (a) 75,000 3,393,750
Kohls Corp. (a) 80,000 3,040,000
PETsMART, Inc. (a) 240,600 6,586,425
Staples, Inc. (a) 263,750 5,225,546
Tiffany & Co. 84,600 2,950,425
-------------------------------------------------------------------------
23,376,146
-------------------------------------------------------------------------
SOFTWARE SERVICES (6.1%)
America Online, Inc. (a) 82,100 2,488,656
BMC Software, Inc. (a) 80,000 5,980,000
Informix Corp. (a) 100,700 2,272,043
Intuit (a) 75,000 2,765,625
McAfee Associates, Inc. (a) 10,600 634,675
SOFTWARE SERVICES -- CONTINUED
Parametric Technology Corp. (a) 60,300 $2,736,113
Transaction System Architects, Inc.,
Class A (a) 14,200 438,425
-------------------------------------------------------------------------
17,315,537
-------------------------------------------------------------------------
TELECOMMUNICATIONS (4.6%)
Brooks Fiber Properties, Inc. (a) 93,000 2,801,625
Heartland Wireless Communications,
Inc. (a) 135,000 2,835,000
Tellabs, Inc. (a) 75,000 4,753,125
Winstar Communications, Inc. (a) 141,500 2,723,875
- ---------------------------------------------------------------------------
13,113,625
- ---------------------------------------------------------------------------
UTILITIES (3.0%)
Allegheny Power Systems, Inc. 120,000 3,555,000
Compania Bolivia de Energia ADR 9,500 408,500
Hawaiian Electric Industries, Inc. 65,000 2,266,875
Teco Energy, Inc. 100,000 2,387,500
- ---------------------------------------------------------------------------
8,617,875
- ---------------------------------------------------------------------------
TOTAL COMMON STOCKS
(Cost--$226,220,239) 252,143,853
===========================================================================
PREFERRED STOCKS (1.4%)
FINANCE (1.4%)
Banco Bradesco S.A. 256,350,000 2,168,825
Banco Itau S.A. 4,134,400 1,700,127
- ---------------------------------------------------------------------------
TOTAL PREFERRED STOCKS
(COST--$3,530,687) 3,868,952
===========================================================================
Maturity
Value
- ---------------------------------------------------------------------------
SHORT-TERM INVESTMENTS (9.4%)
REPURCHASE AGREEMENTS (9.4%)
Investment in repurchase agreements,
in a joint trading account
purchased 8/30/96, 5.243%, maturing
9/03/96 (b) $27,011,728 26,996,000
===========================================================================
<PAGE>
Page 11
- ---------------------------------------------------------------------------
SCHEDULE OF INVESTMENTS--August 31, 1996
Market
Value
--------------------------------------------------------
TOTAL SHORT-TERM INVESTMENTS
(Cost--$26,996,000) $26,996,000
=========================================================
TOTAL INVESTMENTS
(Cost--$256,746,926) 283,008,805
------------------------------------------------------
OTHER ASSETS AND LIABILITIES--NET
(0.8%) 2,365,503
------------------------------------------------------
NET ASSETS (100%) $285,374,308
------------------------------------------------------
(a) Non-income-producing security.
(b) The repurchase agreements are fully collateralized by U.S. government
and/or agency obligations based on market prices at August 31, 1996.
(c) The cost of investments for federal income tax purposes amounted to
$256,746,926.
Gross unrealized appreciation and depreciation of investments, based on
identified tax cost, at August 31, 1996 are as follows:
Gross unrealized
appreciation $36,278,383
Gross unrealized
depreciation (10,016,504)
---------
Net unrealized
appreciation $26,261,879
=========
Legend of Portfolio Abbreviations:
ADR--American Depository Receipt
<PAGE>
Page 12
- -----------------------------------------------------------------------------
Keystone Mid-Cap Growth Fund (S-3)
FINANCIAL HIGHLIGHTS
(For a share outstanding throughout each year)
<TABLE>
<CAPTION>
Year Ended August 31,
-----------------------------------------------------------------------
1996 1995 1994 1993 1992 1991
--------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Net asset value beginning of year $9.22 $9.38 $9.92 $8.98 $9.66 $7.87
--------------------------------------------------------------------------------------------------------------
Income from investment operations
Net investment income (loss) (0.09) 0.04 0.02 (0.02) (0.01) 0.05
Net realized and unrealized gain
(loss) on investments and foreign
currency related transactions 0.94 1.72 0.09 1.69 0.10 2.23
--------------------------------------------------------------------------------------------------------------
Total from investment operations 0.85 1.76 0.11 1.67 0.09 2.28
--------------------------------------------------------------------------------------------------------------
Less distributions from
Net investment income (0.39) (0.04) (0.02) 0.00 (0.03) (0.08)
In excess of net investment income (0.20) (0.02) (0.01) 0.00 (0.05) 0.00
Net realized gain on investments (0.33) (1.72) (0.57) (0.73) (0.69) (0.41)
In excess of net realized gain on
investments 0.00 (0.14) 0.00 0.00 0.00 0.00
Tax basis return of capital 0.00 0.00 (0.05) 0.00 0.00 0.00
--------------------------------------------------------------------------------------------------------------
Total distributions (0.92) (1.92) (0.65) (0.73) (0.77) (0.49)
--------------------------------------------------------------------------------------------------------------
Net asset value end of year $9.15 $9.22 $9.38 $9.92 $8.98 $9.66
===============================================================================================================
Total return (a) 10.07% 21.42% 1.21% 19.31% 1.31% 31.42%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 1.74%(b) 1.32% 1.35% 1.74% 1.69% 1.47%
Net investment income (loss) (0.78%) 0.43% 0.16% (0.21%) (0.12%) 0.74%
Portfolio turnover rate 158% 172% 58% 69% 99% 66%
Average commissions rate paid $0.0053 N/A N/A N/A N/A N/A
--------------------------------------------------------------------------------------------------------------
Net assets end of year (thousands) $285,374 $276,034 $252,351 $292,965 $262,696 $256,070
==============================================================================================================
</TABLE>
<TABLE>
<CAPTION>
Year Ended August 31,
--------------------------------------------------
1990 1989 1988 1987
- ---------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net asset value beginning of year $9.34 $7.14 $10.84 $10.49
- ---------------------------------------------------------------------------------------------
Income from investment operations
Net investment income (loss) 0.05 0.17 0.12 0.01
Net realized and unrealized gain
(loss) on investments and foreign
currency related transactions (1.02) 2.18 (2.00) 2.41
- ---------------------------------------------------------------------------------------------
Total from investment operations (0.97) 2.35 (1.88) 2.42
- ---------------------------------------------------------------------------------------------
Less distributions from
Net investment income (0.25) (0.12) (0.16) (0.14)
In excess of net investment income 0.00 0.00 0.00 0.00
Net realized gain on investments (0.25) (0.03) (1.66) (1.93)
In excess of net realized gain on
investments 0.00 0.00 0.00 0.00
Tax basis return of capital 0.00 0.00 0.00 0.00
- ---------------------------------------------------------------------------------------------
Total distributions (0.50) (0.15) (1.82) (2.07)
- ---------------------------------------------------------------------------------------------
Net asset value end of year $7.87 $9.34 $7.14 $10.84
=============================================================================================
Total return (a) (10.79%) 33.53% (19.80%) 31.24%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 1.54% 1.50% 1.44% 2.05%
Net investment income (loss) 0.93% 2.27% 1.43% 0.08%
Portfolio turnover rate 65% 65% 117% 118%
Average commissions rate paid N/A N/A N/A N/A
- ---------------------------------------------------------------------------------------------
Net assets end of year (thousands) $199,881 $280,084 $223,624 $325,105
=============================================================================================
</TABLE>
(a) Excluding applicable sales charges.
(b) The expense ratio includes indirectly paid expenses for the year ended
August 31, 1996. Excluding indirectly paid expenses, the expense ratio
would have been 1.73%.
See Notes to Financial Statements.
<PAGE>
Page 13
- -----------------------------------------------------------------------------
STATEMENT OF ASSETS AND LIABILITIES
August 31, 1996
Assets
Investments at market value (identified
cost--$256,746,926) $283,008,805
Cash 909
Receivable for:
Investments sold 4,654,139
Fund shares sold 93,685
Dividends and interest 177,332
Prepaid expenses and other assets 39,383
-------------------------------------------------------------------
Total assets 287,974,253
-------------------------------------------------------------------
Liabilities
Payable for:
Investments purchased 2,480,366
Fund shares redeemed 43,360
Other accrued expenses 76,219
-------------------------------------------------------------------
Total liabilities 2,599,945
-------------------------------------------------------------------
Net assets $285,374,308
===================================================================
Net assets represented by (Note 3)
Paid-in-capital $227,343,435
Accumulated undistributed net investment income 15,092,027
Accumulated net realized gain on investment
transactions 16,676,962
Net unrealized appreciation (depreciation) on
investments and foreign currency related
transactions 26,261,884
-------------------------------------------------------------------
Total net assets $285,374,308
-------------------------------------------------------------------
Net asset value
Net assets of $285,374,308 / 31,173,078 shares
outstanding $9.15
===================================================================
STATEMENT OF OPERATIONS
Year Ended August 31, 1996
Investment income
Dividends (net of foreign withholding
tax of $17,982) $1,820,256
Interest 943,004
- --------------------------------------------------------------------
Total income 2,763,260
- --------------------------------------------------------------------
Expenses (Notes 4 and 5)
Management fee $1,908,509
Transfer agent fees 711,550
Accounting 24,767
Auditing and legal 36,250
Custodian fees 189,739
Printing 30,409
Distribution Plan expenses 2,099,791
Trustees' fees and expenses 9,417
Registration fees 43,514
Miscellaneous expenses 15,881
- --------------------------------------------------------------------
Total expenses 5,069,827
Less: Expenses paid indirectly
(Note 6) (24,378)
- ---------------------------------------------------------------------
Net expenses 5,045,449
- ---------------------------------------------------------------------
Net investment loss (2,282,189)
- ---------------------------------------------------------------------
Net realized and unrealized gain
(loss) on investments and foreign
currency related transactions (Note 3)
Net realized gain on investments 43,961,482
Net realized loss on foreign currency
related transactions (87,947)
- ---------------------------------------------------------------------
Net realized gain on investments and
foreign currency related
transactions 43,873,535
- ---------------------------------------------------------------------
Net change in unrealized appreciation
or depreciation on investments and
foreign currency related
transactions (13,929,242)
- ---------------------------------------------------------------------
Net realized and unrealized gain on
investments and foreign currency
related transactions 29,944,293
- ---------------------------------------------------------------------
Net increase in net assets resulting
from operations $27,662,104
=====================================================================
<PAGE>
Page 14
- -----------------------------------------------------------------------------
Keystone Mid-Cap Growth Fund (S-3)
<TABLE>
<CAPTION>
STATEMENTS OF CHANGES IN NET ASSETS Year Ended August 31,
-----------------------------
1996 1995
==============================================================================================================
<S> <C> <C>
Operations
Net investment income (loss) ($2,282,189) $1,042,062
Net realized gain on investments and foreign currency related transactions 43,873,535 52,906,920
Net change in unrealized appreciation or depreciation on investments and
foreign currency related transactions (13,929,242) (3,702,097)
-------------------------------------------------------------------------------------------------------------
Net increase in net assets resulting from operations 27,662,104 50,246,885
-------------------------------------------------------------------------------------------------------------
Distributions to shareholders from (Note 5)
Net investment income (11,703,529) (1,042,062)
In excess of net investment income (6,074,672) (525,125)
Net realized gain on investment transactions (9,943,735) (49,683,115)
-------------------------------------------------------------------------------------------------------------
Total distributions to shareholders (27,721,936) (51,250,302)
-------------------------------------------------------------------------------------------------------------
Capital share transactions (Note 2)
Proceeds from shares sold 49,458,379 27,462,149
Payments for shares redeemed (64,895,935) (47,931,858)
Net asset value of shares issued in reinvestment of distributions 24,837,684 45,156,148
-------------------------------------------------------------------------------------------------------------
Net increase in net assets resulting from capital share transactions 9,400,128 24,686,439
-------------------------------------------------------------------------------------------------------------
Total increase in net assets 9,340,296 23,683,022
Net assets
Beginning of year 276,034,012 252,350,990
-------------------------------------------------------------------------------------------------------------
End of year [including undistributed net investment income as follows:
1996--$15,092,027 and 1995--$13,985,718] $285,374,308 $276,034,012
=============================================================================================================
</TABLE>
See Notes to Financial Statements.
<PAGE>
Page 15
- -----------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
(1.) Significant Accounting Policies
Keystone Mid-Cap Growth Fund (S-3) (the "Fund") is a common law trust for
which Keystone Management, Inc. ("KMI") is the Investment Manager and
Keystone Investment Management Company ("Keystone") is the Investment
Adviser. Keystone is a wholly-owned subsidiary of Keystone Investments, Inc.
("KII") and KMI is in turn a wholly-owned subsidiary of Keystone. The Fund is
registered under the Investment Company Act of 1940, as amended (the "1940
Act"), as a diversified, open-end investment company. The Fund's investment
objective is to provide shareholders with growth of capital.
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. The
policies are in conformity with generally accepted accounting principles,
which require management to make estimates and assumptions that affect
amounts reported herein. Although actual results could differ from these
estimates, any such differences are expected to be immaterial to the net
assets of the Fund.
A. Valuation of Securities
Investments are usually valued at the closing sales price or, in the absence
of sales and for over-the-counter securities, the mean of the bid and asked
prices. Securities for which valuations are not available from an independent
pricing service (including restricted securities) are valued at fair value as
determined in good faith according to procedures established by the Board of
Trustees.
Short-term investments with remaining maturities of 60 days or less are
carried at amortized cost, which approximates market value. Short-term
securities with greater than 60 days to maturity are valued at market value.
B. Repurchase Agreements
Pursuant to an exemptive order issued by the Securities and Exchange
Commission, the Fund, along with certain other Keystone funds, may transfer
uninvested cash balances into a joint trading account. These balances are
invested in one or more repurchase agreements that are fully collateralized
by U.S. Treasury and/or Federal Agency obligations.
Securities pledged as collateral for repurchase agreements are held by the
custodian on the Fund's behalf. The Fund monitors the adequacy of the
collateral daily and will require the seller to provide additional collateral
in the event the market value of the securities pledged falls below the
carrying value of the repurchase agreement.
C. Foreign Currency
The books and records of the Fund are maintained in United States ("U.S.")
dollars. Foreign currency amounts are translated into U.S. dollars as
follows: market value of investments, assets and liabilities at the daily
rate of exchange; purchases and sales of investments, income and expenses at
the rate of exchange prevailing on the respective dates of such transactions.
Net unrealized foreign exchange gain (loss) resulting from changes in foreign
currency exchange rates is a component of net unrealized appreciation
(depreciation) on investments and foreign currency transactions. Net realized
foreign currency gains and losses resulting from changes in exchange rates
include foreign currency gains and losses between trade date and settlement
date on investment securities transactions, foreign currency transactions and
the difference between the amounts of interest and dividends recorded on the
books of the Fund and the amount actually received. The portion of foreign
currency gains and losses related to fluctuations in exchange rates between
the initial purchase trade date and sub-
<PAGE>
Page 16
- -----------------------------------------------------------------------------
Keystone Mid-Cap Growth Fund (S-3)
sequent sale trade date is included in realized gain (loss) on foreign
currency transactions.
D. Security Transactions and Investment Income
Securities transactions are accounted for no later than one business day
after the trade date. Realized gains and losses are computed on the
identified cost basis. Interest income is recorded on the accrual basis and
includes amortization of discounts and premiums. Dividend income is recorded
on the ex-dividend date.
E. Federal Income Taxes
The Fund has qualified and intends to qualify in the future as a regulated
investment company under the Internal Revenue Code of 1986, as amended (the
"Code"). Thus, the Fund is relieved of any federal income tax liability by
distributing all of its net taxable investment income and net taxable capital
gains, if any, to its shareholders. The Fund also intends to avoid excise tax
liability by making the required distributions under the Code. Accordingly,
no provision for federal income tax is required.
F. Distributions
The Fund distributes net investment income and net capital gains, if any, at
least annually. Distributions to shareholders are recorded at the close of
business on the ex-dividend date.
Income and capital gains distributions to shareholders are determined in
accordance with income tax regulations, which may differ from generally
accepted accounting principles. These differences are primarily due to
differing treatment of short-term gains.
(2.) Capital Share Transactions
The Fund's Declaration of Trust authorizes the issuance of an unlimited
number of shares of beneficial interest with a par value of $1.00.
Transactions in shares of the Fund were as follows:
Year ended August 31,
----------------------------
1996 1995
-----------------------------------------------
Shares sold 5,434,642 3,189,451
Shares redeemed (7,136,623) (5,383,518)
Shares issued in
reinvestment of
distributions 2,946,344 5,233,815
---------------- ----------- -------------
Net increase 1,244,363 3,039,748
================ =========== =============
(3.) Securities Transactions
Cost of purchases and proceeds from sales of investment securities (excluding
short-term securities) for the year ended August 31, 1996, were $434,199,796
and $477,408,817, respectively.
(4.) Distribution Plan
The Fund bears some of the costs of selling its shares under a Distribution
Plan (the "Plan") adopted pursuant to Rule 12b-1 under the 1940 Act. Under
the Plan, the Fund pays its principal underwriter, Keystone Investment
Distributors Company ("KIDC"), a wholly-owned subsidiary of Keystone, amounts
which are calculated and paid daily.
Under the Plan, the Fund pays a distribution fee amount which may not exceed
1.00% of the Fund's average daily net assets. Of that amount, 0.75% is used
to pay distribution expenses and 0.25% may be used to pay service fees.
Contingent deferred sales charges paid by redeeming shareholders may be paid
to KIDC. During the year ended August 31, 1996, the Fund received $54,272 in
contingent deferred sales charges.
The Plan may be terminated at any time by vote of the Independent Trustees
or by vote of a majority of the outstanding voting shares of the Fund.
However, after the termination of the Plan, at the discretion of the Board of
Trustees, payments to KIDC may con-
<PAGE>
Page 17
- -----------------------------------------------------------------------------
tinue as compensation for its services which had been earned while the Plan
was in effect.
KIDC intends, but is not obligated, to continue to pay distribution costs
that exceed the current annual payments from the Fund. KIDC intends to seek
full payment of such distribution costs from the Fund at such time in the
future as, and to the extent that, payment thereof by the Fund would be
within permitted limits.
(5.) Investment Management Agreement and Other Affiliated Transactions
Under the terms of the Investment Management Agreement between KMI and the
Fund, KMI provides investment management and administrative services to the
Fund. In return, KMI is paid a management fee, computed and paid daily,
determined by applying percentage rates starting at 0.70% and declining as
net assets increase to 0.35% per annum, to the average daily net asset value
of the Fund.
KMI has entered into an Investment Advisory Agreement with Keystone under
which Keystone provides investment advisory and management services to the
Fund. In return for its services, Keystone receives an annual fee equal to
85% of the management fee received by KMI.
During the year ended August 31, 1996, the Fund paid or accrued $24,767 to
Keystone for certain accounting services. The Fund paid or accrued $711,550
to Keystone Investor Resource Center, Inc., a wholly-owned subsidiary of
Keystone, for services rendered as the Fund's transfer and dividend
disbursing agent.
Certain officers and/or Directors of Keystone are also officers and/or
Trustees of the Fund. Officers of Keystone and affiliated Trustees receive no
compensation directly from the Fund.
(6.) Expense Offset Arrangement
The Fund has entered into an expense offset arrangement with its custodian.
For the year ended August 31, 1996, the Fund incurred total custody fees of
$189,739 and received a credit of $24,378 pursuant to this expense offset
arrangement, resulting in a net custody expense of $165,361. The assets
deposited with the custodian under this expense offset arrangement could have
been invested in income-producing assets.
(7.) Subsequent Event
On September 6, 1996, Keystone Investments, Inc. entered into an Agreement
and Plan of Acquisition and Merger (the "Acquisition") with First Union
Corporation and First Union National Bank of North Carolina ("First Union")
whereby First Union would acquire all the assets and liabilities of Keystone
Investments, Inc. in exchange for shares of First Union. Subject to the
receipt of the required regulatory and shareholder approvals, the Acquisition
is expected to take place in late December 1996.
<PAGE>
Page 18
- -----------------------------------------------------------------------------
Keystone Mid-Cap Growth Fund (S-3)
INDEPENDENT AUDITORS' REPORT
The Trustees and Shareholders
Keystone Mid-Cap Growth Fund (S-3)
We have audited the accompanying statement of assets and liabilities of
Keystone Mid-Cap Growth Fund (S-3), including the schedule of investments, as
of August 31, 1996, and the related statement of operations for the year then
ended, the statements of changes in net assets for each of the years in the
two-year period then ended, and the financial highlights for each of the
years in the ten-year period then ended. These financial statements and
financial highlights are the responsibility of the Fund's management. Our
responsibility is to express an opinion on these financial statements and
financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements and
financial highlights are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures
in the financial statements. Our procedures included confirmation of
securities owned as of August 31, 1996 by correspondence with the custodian
and brokers. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide
a reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Keystone Mid-Cap Growth Fund (S-3), as of August 31, 1996, the results of its
operations for the year then ended, the changes in its net assets for each of
the years in the two-year period then ended, and the financial highlights for
each of the years in the ten-year period then ended, in conformity with
generally accepted accounting principles.
KPMG Peat Marwick LLP
Boston, Massachusetts
September 27, 1996
<PAGE>
Page 19
- ------------------------------------------------------------------------------
FEDERAL TAX STATUS--FISCAL 1996 DISTRIBUTIONS (Unaudited)
During the fiscal year ended August 31, 1996, distributions of $0.92 per
share were paid in shares or cash. This total includes a taxable long-term
capital gain distribution of $0.33 per share. The remaining $0.59 per share
is short-term capital gains taxable to shareholders as ordinary income in the
year in which received by them or credited to their accounts. Of the ordinary
income distributions, 36% is eligible for the corporate dividend received
deduction.
The above figures may differ from those cited elsewhere in this report due
to differences in the calculation of income and capital gains for accounting
(book) purposes and Internal Revenue Service (tax) purposes.
In January 1997, we will send you complete information on the distributions
paid during the calendar year 1996 to help you in completing your federal tax
return.
<PAGE>
PRO FORMA FINANCIAL STATEMENTS
See Notes to Pro Forma Financial Statements
Keystone Strategic Growth Fund (K-2)
Pro-Forma Combining Financial Statements (unaudited)
Portfolio of Investments (000's omitted)
October 31, 1996
<TABLE>
<CAPTION>
Keystone Strategic Keystone Mid-Cap Pro-Forma
Growth Fund (K-2) Growth Fund (S-3) Combined
Shares Market Value Shares Market Value Adjustments Shares Market Value
<S> <C> <C> <C> <C> <C> <C>
COMMON STOCKS (89.1%)(d)
BRAZIL (0.6%)
Telecommunications (0.6%)
Telecomunicacoes Brasileiras S.A. ADR 65 $4,843 65 4,843
GERMANY (0.3%)
Retail (0.3%)
Adidas AG 27 2,314 27 2,314
INDIA (1.1%)
Drugs (1.1%)
Rhone Poulenc Rorer Inc. 125 8,391 125 8,391
ITALY (0.4%)
Capital Goods (0.4%)
Industrie Natuzzi SP ADR 68 3,099 68 3,099
JAPAN (1.4%)
Appliances and Furnishings (0.8%)
Sony Corp. 100 5,999 100 5,999
Automotive(0.3%)
Fuji Heavy Industry 570 2,653 570 2,653
Drugs (0.3%)
Taisho Pharmaceutical 130 2,580 130 2,580
TOTAL JAPAN 11,232 11,232
MEXICO (2.7%)
Advertising and Publishing (0.4%)
Grupo Televisa S.A. de C.V. ADR 120 3,150 120 3,150
Auto Industry (0.6%)
Desc S.A. de C.V. ADR (a) 230 4,428 230 4,428
Foods (1.2%)
PanAmerican Beverages Inc. ADR 130 5,671 75 3,272 205 8,943
Finance (0.5%)
Grupo Financiero Banamex 1,837 3,885 1,837 3,885
TOTAL MEXICO 17,134 3,272 20,406
NETHERLANDS (1.6%)
Advertising & Publishing (0.9%)
Wolters Kluwer N.V.(a) 57 7,291 57 7,291
Software Services (0.7%)
Baan Co. 150 5,550 150 5,550
TOTAL NETHERLANDS 7,291 5,550 12,841
TAIWAN (0.1%)
Finance(0.1%)
Chronicle 2001 Mutual Fund (a) 1,653 748 1,653 748
UNITED KINGDOM (2.4%)
Advertising and Publishing (0.8%)
Pearson PLC 500 6,169 500 6,169
Business Services (0.8%)
Compass Group PLC 675 6,713 675 6,713
Drugs (0.8%)
Smithkline Beecham P L C 100 6,263 100 6,263
TOTAL UNITED KINGDOM 19,145 19,145
UNITED STATES (78.5%)
Aerospace (1.1%)
Boeing Co. 80 7,630 80 7,630
Rohr Industries, Inc. (a) 73 1,358 73 1,358
7,630 1,358 8,988
Amusement (2.8%)
HFS, Inc. (a) 149 10,914 100 7,325 249 18,239
MGM Grand, Inc.(a) 90 3,488 90 3,488
10,914 10,813 21,727
Automotive (1.5%)
Danaher Corp. 65 2,657 115 4,701 180 7,358
Gentex Corp.(a) 203 4,779 203 4,779
2,657 9,480 12,137
Building (1.1%)
Fastenal Co. 75 3,478 40 1,855 115 5,333
Oakwood Homes Corp. 130 3,445 130 3,445
3,478 5,300 8,778
Business Services (8.0%)
Alternative Resource Corp.(a) 120 2,393 120 2,393
G & K Services, Inc., Class A 150 4,350 150 4,350
Paychex, Inc. 38 2,184 38 2,184
Thermedics, Inc.(a) 130 2,698 130 2,698
Thermo Electron Corp. 240 8,760 123 4,490 363 13,250
US Filter Corp. (a) 153 5,292 241 8,311 394 13,603
USA Waste Services, Inc. (a) 400 12,800 250 8,000 650 20,800
Viking Office Products, Inc.(a) 130 3,794 130 3,794
26,852 36,220 63,072
Capital Goods (2.7%)
General Electric Co. 220 21,285 220 21,285
Chemicals (1.7%)
duPont (E. I.) deNemours and Co. 60 5,565 60 5,565
Hanna M.A. Co. 180 3,825 180 3,825
OM Group, Inc. 95 3,848 95 3,848
5,565 7,673 13,238
Consumer Goods (2.0%)
CUC International, Inc. (a) 251 6,159 251 6,159
Manpower, Inc. 125 3,547 125 3,547
Procter & Gamble Co. 60 5,940 60 5,940
12,099 3,547 15,646
Drugs (4.1%)
Amercian Home Products Corp. 94 5,770 94 5,770
Amylin Pharmaceuticals, Inc.(a) 300 3,338 300 3,338
Gilead Sciences, Inc. (a) 151 3,508 121 2,815 272 6,323
Guidant Corp. 70 3,229 70 3,229
Johnson & Johnson Co. 130 6,403 130 6,403
Warner Lambert Co. 115 7,317 115 7,317
22,998 9,382 32,380
Electronics Products (2.6%)
Analog Devices, Inc. (a) 200 5,200 150 3,900 350 9,100
Intel Corp. 105 11,530 105 11,530
16,730 3,900 20,630
Finance(11.3%)
Bank of Boston Corp. 182 11,629 70 4,454 252 16,083
BankAmerica Corp. 69 6,304 69 6,304
BISYS Group, Inc.(a) 120 4,478 120 4,478
Federal Home Loan Mortgage Corp. 90 9,090 90 9,090
First USA Paymentech, Inc.(a) 77 2,849 77 2,849
Greenpoint Financial Corp. 110 5,115 110 5,115
Money Store, Inc. 75 1,950 75 1,950
Morgan Stanley Group Inc. 100 5,025 100 5,025
NationsBank Corp. 72 6,767 72 6,767
Northern Trust Corp. 45 3,128 45 3,128
Norwest Corp. 212 9,319 212 9,319
TCF Financial Corp. 100 3,875 100 3,875
Travelers Group, Inc. 215 11,660 215 11,660
Washington Mutual, Inc. 90 3,791 90 3,791
59,794 29,640 89,434
Foods (3.7%)
Coca Cola Co. 220 11,110 220 11,110
Flowers Industries, Inc. 358 8,359 358 8,359
Phillip Morris Cos., Inc. 51 4,724 51 4,724
Richfood Holdings, Inc. 66 1,602 132 3,219 198 4,821
25,795 3,219 29,014
Healthcare Services(1.6%)
Cardinal Health, Inc. 75 5,888 75 5,888
IDEXX Laboratories, Inc. (a) 87 3,384 87 3,384
Lifecore Biomedical, Inc.(a) 185 3,110 185 3,110
12,382 12,382
Insurance (1.3%)
American International Group, Inc. 55 5,974 55 5,974
SunAmerica, Inc. 110 4,125 110 4,125
5,974 4,125 10,099
Metals & Mining (0.9%)
Aluminum Co. of America 50 2,931 50 2,931
UCAR International, Inc.(a) 100 3,913 100 3,913
2,931 3,913 6,844
Natural Gas (3.3%)
Anadarko Petroleum Corp. 115 7,330 115 7,330
CMS Energy Corp. 100 3,163 100 3,163
Noble Affiliates, Inc. 175 7,613 85 3,698 260 11,311
United Meridian Corp. (a) 87 4,105 87 4,105
19,048 6,861 25,909
Office Products(2.7%)
Compaq Computer Corp. (a) 80 5,570 80 5,570
EMC Corp. (a) 280 7,358 145 3,801 425 11,159
Synopsys, Inc. (a) 20 914 79 3,588 99 4,502
13,842 7,389 21,231
Oil (2.1%)
Exxon Corp. 95 8,419 95 8,419
Mobil Corp. 68 7,881 68 7,881
16,300 16,300
Oil Services(6.2%)
BJ Services Co.(a) 104 4,667 104 4,667
Devon Energy Corp. 30 1,046 30 1,046
Diamond Offshore Drilling, Inc.(a) 42 2,557 42 2,557
ENSCO International, Inc. (a) 325 14,056 325 14,056
Halliburton Co. 100 5,663 100 5,663
Schlumberger, Ltd. 50 4,999 50 4,999
Tidewater, Inc. 239 10,448 125 5,469 364 15,917
35,166 13,739 48,905
Paper & Packaging (0.9%)
Temple Inland, Inc. 60 3,075 60 3,075
Willamette Industries, Inc. 64 4,304 64 4,304
7,379 7,379
Restaurants (0.5%)
Applebees Int'l, Inc. 155 3,768 155 3,768
Sabre Group Holdings, Inc. 15 465 15 465
4,233 4,233
Retail (6.0%)
Abercrombie & Fitch Co. (a) 205 4,503 205 4,503
Autozone, Inc.(a) 80 2,050 80 2,050
Federated Department Stores, Inc.(a) 100 3,300 100 3,300
Global Directmail Corp.(a) 75 3,694 75 3,694
Kohls Corp.(a) 80 2,880 80 2,880
Loehmann's Holdings, Inc. (a) 100 2,663 100 2,663
Mossimo, Inc. 51 1,096 51 1,096
PETsMART, Inc. (a) 212 5,674 212 5,674
Saks Holdings, Inc. (a) 165 5,775 165 5,775
Staples, Inc. (a) 418 7,846 242 4,544 660 12,390
Tiffany & Co. 85 3,130 85 3,130
24,087 23,068 47,155
Software Services (3.4%)
America Online, Inc. (a) 89 2,414 89 2,414
BMC Software, Inc.(a) 80 6,630 80 6,630
Informix Corp.(a) 111 2,456 111 2,456
McAfee Associates, Inc.(a) 16 724 16 724
Microsoft Corp. (a) 85 11,672 85 11,672
Parametric Technology Corp. (a) 60 2,943 60 2,943
Transaction System Architects, Inc.,
Class A (a) 14 582 14 582
11,672 15,749 27,421
Telecommunications (5.9%)
3Com Corp. (a) 75 5,077 40 2,708 115 7,785
Andrew Corp. 100 4,875 100 4,875
Cisco Systems, Inc. (a) 85 5,254 85 5,254
Lucent Technlogies, Inc. 117 5,490 117 5,490
Teleport Communications Group (a) 190 4,674 190 4,674
Tellabs, Inc.(a) 75 6,384 75 6,384
U.S. Robotics Corp. 120 7,553 40 2,518 160 10,071
Winstar Communications, Inc. (a) 102 2,125 102 2,125
28,048 18,610 46,658
Utilities (1.1%)
Allegheny Power Systems, Inc. 120 3,585 120 3,585
Hawaiian Electric Industries, Inc. 65 2,316 65 2,316
Teco Energy, Inc. 100 2,463 100 2,463
8,364 8,364
TOTAL UNITED STATES 372,865 246,344 619,209
TOTAL COMMON STOCKS
(Proforma combined cost - $593,548) 443,963 258,265 702,228
PREFERRED STOCK (1.3%)
BRAZIL (1.3%)
Finance (1.1%)
Banco Bradesco S.A. 645,300 5,502 645,300 5,502
Banco Itau S.A. 6,441 2,790 6,441 2,790
8,292 8,292
Metals & Mining (0.2%)
Companhia Vale do Rio Doce
Navegacao S.A. 115 2,384 115 2,384
TOTAL BRAZIL 10,676 10,676
TOTAL PREFERRED STOCK
(Pro forma combined cost - $9,558) 10,676 10,676
</TABLE>
<TABLE>
<CAPTION>
Maturity Maturity Maturity
Value Value Value
<S> <C> <C> <C>
REPURCHASE AGREEMENT (8.2%)
"Investment in repurchase
agreements in a joint trading
account," "purchased 10/31/96,
5.565%, maturing 11/1/96
(Pro forma combined cost -
$64,544) (c) " "$32,255" "32,250" "$32,304" "32,294" "$64,559" "64,544"
"TOTAL INVESTMENTS
(Pro forma combined cost-$667,650) (98.6%) "486,889" "290,559" "777,448"
FOREIGN CURRENCY HOLDINGS
(Pro forma combined cost-$10) (0.0%) (b) 10 10
OTHER ASSETS AND LIABILITIES
- -- NET (1.4%) "9,977" 761 "10,738"
NET ASSETS (100%) "$496,876" "$291,320" "$788,196"
</TABLE>
(a) Non-income-producing security.
(b) Foreign currency holdings of certain foreign countries are considered
illiquid due to current foreign exchange restrictions of these foreign
markets.
(c) The repurchase agreement is fully collateralized by U.S. government and/or
agency obligations based on market prices at the date of the portfolio.
(d) % of pro forma combined net assets.
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS
"HELD BY KEYSTONE STRATEGIC GROWTH FUND (K-2)
AT OCTOBER 31, 1996 (000's omitted)"
<TABLE>
<CAPTION>
Net Unrealized
Exchange U.S. $ Value at In Exchange Appreciation/
Date "October 31, 1996" for U.S. $ (Depreciation)
<S> <C> <C> <C>
Forward Foreign Currency
Exchange Contracts to Sell:
Contracts to Deliver
11/20/96 "1,758 Pound Sterling" "$2, 859" "$2,720" ($139)
1/27/97 "668,790 Japanese Yen" "5,947" "6,000" 53
</TABLE>
See Notes to Pro-Forma Combining Financial Statements.
<PAGE>
KEYSTONE STRATEGIC GROWTH FUND
Pro-Forma Combining Financial Statements (unaudited)
Statement of Assets and Liabilities
October 31, 1996 (000's omitted)
<TABLE>
<CAPTION>
Keystone Keystone
Strategic Mid-Cap Pro-Forma
Growth Growth Adjustments Combined
(K-2) (S-3)
<S> <C> <C> <C> <C>
Assets:
Investments at value (cost $667,650) $486,889 $290,559 $777,448
Cash 11 0 11
Foreign currency holdings (cost $10) 10 0 10
Receivable for investment sold 16,837 1,456 18,293
Dividend and interest receivable 465 91 556
Unrealized appreciation on forward foreign
currency exchange contracts 53 0 53
Receivable for Fund shares sold 20 16 36
Foreign tax reclaims 20 6 26
Prepaid expenses 41 29 70
--------- -------- --------
Total Assets 504,346 292,157 796,503
Liabilities:
Payable for investments purchased 6,995 644 7,639
Payable for Fund shares redeemed 214 133 347
Unrealized depreciation on forward foreign
currency exchange contracts 139 0 139
Foreign tax withheld 18 0 18
Accrued expenses 104 60 164
--------- -------- --------
Total Liabilities 7,470 837 8,307
--------- -------- --------
Net Assets $496,876 $291,320 $788,196
--------- -------- --------
Net assets are comprised of:
Paid-in capital $361,396 $224,359 $585,755
Accumulated net realized gain 59,697 18,076 77,773
Undistributed net investment income 86 14,784 14,870
Net unrealized appreciation
of investments 75,697 34,101 109,798
-------- -------- ---------
Net Assets 496,876 291,320 788,196
-------- -------- ---------
Net Assets $496,876 $291,320 $788,196
Shares of Beneficial Interest Outstanding 57,242 30,864 2,702 90,808
Net Asset Value $8.68 $9.44 $8.68
</TABLE>
See Notes to Pro-Forma Combining Financial Statements.
KEYSTONE STRATEGIC GROWTH FUND
Pro-Forma Combining Financial Statements (unaudited)
Statement of Operations
Year Ended October 31, 1996 (000's omitted)
<TABLE>
<CAPTION>
Keystone Keystone
Strategic Mid-Cap Pro-Forma
Growth Growth Adjustments Combined
(K-2) (S-3)
<S> <C> <C> <C> <C>
Interest income $1,152 $971 $2,123
Dividend income (Net of foreign withholding
tax of $103, $17 and $120, respectively) 5,944 1,783 7,727
------ ----- -----
Total Income 7,096 2,754 9,850
Expenses:
Distribution Plan expenses 4,845 1,854 6,699
Advisory fee 2,994 1,910 (242)(a) 4,662
Transfer Agent fee 1,228 708 (291)(b) 1,645
Custodian fees and expenses 226 195 (63)(b) 358
Professional fees 46 78 (73)(b) 51
Trustees' fees and expenses 31 15 (14)(c) 32
Registration and filing fees 58 44 (44)(b) 58
Accounting expenses 24 28 (28)(b) 24
Reports and notices to shareholders 31 36 (26)(b) 41
Other expenses 26 24 (24)(b) 26
------ ------ -------- ---------
Total Expenses 9,509 4,892 (805) 13,596
Net Investment loss (2,413) (2,138) 805 (3,746)
Net realized and unrealized gain/(loss) on investments:
Net realized gain on investments 70,338 34,820 105,158
Net change in unrealized appreciation/
(depreciation) on investments (7,284) 3,308 (3,976)
------ ------ -------
Net gain on investments 63,054 38,128 101,182
------ ------ -------
Net increase in net assets resulting
from operations $60,641 $35,990 $805 $97,436
------ ------ ----- -------
</TABLE>
(a) Reflects a decrease in the investment advisory fee based on the surviving
Fund's fee schedule.
(b) Reflects expected cost savings when the funds combine based on elimination
of duplicate costs..
(c) Reflects allocation of complex-wide Trustees' fees based on combined assets.
See Notes to Pro-Forma Combining Financial Statements.
Keystone Strategic Growth Fund (K-2)
Notes to Pro-Forma Combining Financial Statements (Unaudited)
October 31, 1996
1. Basis of Combination - The Pro-Forma Statement of Assets and Liabilities,
including the Pro- Forma Portfolio of Investments, and the related Pro-Forma
Statement of Operations ("Pro-Forma Statements") reflect the accounts of
Keystone Strategic Growth Fund (K-2) and Keystone Mid-Cap Growth Fund (S-3) at
October 31, 1996 and for the year then ended.
The Pro-Forma Statements give effect to the proposed transfer of all assets and
certain identified liabilities of S-3 shares in exchange for shares of K-2. The
Pro-Forma Statements do not reflect the expense of each Fund in carrying out its
obligations under the Agreement and Plan of Reorganization (the
"Reorganization") as though the merger occurred at the beginning of the period
presented.
Under the Reorganization, K-2 will acquire substantially all of the assets of
S-3 and assume certain identified liabilities of S-3. Thereafter, there will be
a distribution of shares of K-2 to shareholders of S-3 in liquidation and
subsequent termination thereof. The information contained herein is based on the
experience of each Fund for the year ended October 31, 1996 and is designed to
permit shareholders of the consolidating mutual funds to evaluate the financial
effect of the proposed Reorganization. The expenses of K-2 and S-3 in connection
with the Reorganization (including the cost of any proxy soliciting agents),
will be borne by First Union National Bank of North Carolina.
The Pro-Forma Statements should be read in conjunction with the historical
financial statements of each Fund incorporated by reference in the Statement of
Additional Information.
2. Shares of Beneficial Interest - The Pro-Forma net asset values per share
assumes the issuance of additional shares of K-2 which would have been issued at
October 31, 1996 in connection with the proposed Reorganization. The amount of
additional shares assumed to be issued was calculated based on the net assets of
S-3 as of October 31, 1996 of $291,320 (reported in 000's), and the net asset
value per share of K-2 of $8.68.
The Pro-Forma shares outstanding of 90,808 (reported in 000's) consist of 33,566
(reported in 000's) additional shares of K-2 to be issued in the proposed
Reorganization, as calculated above, in addition to the shares of K-2
outstanding as of October 31, 1996.
3. Pro-Forma Operations - Pro-Forma operating expenses include the actual
expenses of each Fund and the combined Fund, with certain expenses adjusted to
reflect the expected expenses of the combined entity. The investment advisory
and distribution fees have been calculated for the combined Fund based on the
fee schedule in effect for K-2 at the combined level of average net assets for
the year ended October 31, 1996.
<PAGE>
KEYSTONE STRATEGIC GROWTH FUND (K-2)
PART C
OTHER INFORMATION
Item 15. Indemnification.
The response to this item is incorporated by reference to "Liability and
Indemnification of Trustees" under the caption "Comparative Information on
Shareholders' Rights" in Part A of this Registration Statement.
Item 16. Exhibits:
Number Description
1 Declaration of Trust, as amended(1)
2 By-laws(1)
3 Not applicable
4 Agreement and Plan of Reorganization (included as Exhibit A to the
Proxy Statement/Prospectus contained in Part A to this registration
statement)
5 Declaration of Trust Articles III, V, VI and VIII;
By-Laws Article 2, Section 2.5(1)
6 Investment Advisory Agreement between Keystone Investment Management
Company and Registrant(2)
7(A) Form of Principal Underwriting Agreements for Registrant's Class A, B
and C shares between Registrant and Evergreen Keystone Distributor,
Inc. ("EKD")(2)
(B) Principal Underwriting Agreements for Registrant's Class A, B and C
shares between Registrant and Evergreen Keystone Investment Services,
Inc. ("EKIS") (2)
(C) Form of Dealer Agreements for Class A, B and C shares used by EKD.(2)
(D) Underwriting Agreements with Kokusai Securities Co., Ltd. and Nomura
Securities, Ltd.(1)
8 Not applicable
9 Custodian, Fund Accounting and Recordkeeping Agreement, as amended
between State Street Bank and Trust Company and Registrant(1)
10 Rule 12b-1 Distribution Plan.
11 Opinion and consent of Kirkpatrick & Lockhart LLP as to the
legality of the shares being issued(3)
12 Tax opinion and consent of Sullivan & Worcester LLP(6)
13 Not applicable
14 Consent of KPMG Peat Marwick LLP
15 Not applicable
16 Powers of Attorney(3) (See signature page included herewith.)
17(A) Form of Proxy Card(3)
(B) Registrant's Rule 24f-2 Declaration(5)
- -------------------
(1) Incorporated by reference to post-effective amendment no. 99 to
Registrant's registration statement (No.2-10660) (the "Registration
Statement") dated January 24, 1996.
(2) Incorporated by reference to post-effective amendment no. 100 to the
Registration Statement dated December 27, 1996.
(3) Filed herewith.
(4) Incorporated by reference to post-effective amendment no. 88 to the
Registration Statement.
(5) Registrant is unable to determine the exact post-effective amendment to its
Registration Statement containing its Declaration purusuant to Rule 24f-2
(the "Declaration"). To the best of Registrant's knowledge, its Declaration
was made within one year of adoption of Rule 24f-2.
(6) To be filed by amendment.
Item 17. Undertakings.
(1) The undersigned Registrant agrees that prior to any public reoffering
of the securities registered through the use of a prospectus that is a part of
this Registration Statement by any person or party who is deemed to be an
underwriter within the meaning of Rule 145(c) of the Securities Act, the
reoffering prospectus will contain the information called for by the applicable
registration form for reofferings by persons who may be deemed underwriters, in
addition to the information called for by the other items of the applicable
form.
(2) The undersigned Registrant agrees that every prospectus that is filed
under paragraph (1) above will be filed as a part of an amendment to the
Registration Statement and will not be used until the amendment is effective,
and that, in determining any liability under the Securities Act of 1933, each
post-effective amendment shall be deemed to be a new Registration Statement for
the securities offered therein, and the offering of the securities at that time
shall be deemed to be the initial bona fide offering of them.
(3) The undersigned Registrant agrees to file, by post-effective amendment,
an opinion of counsel or a copy of an Internal Revenue Service ruling supporting
the tax consequences of the proposed reorganization within a rasonable time
after receipt of such opinion or ruling.
<PAGE>
SIGNATURES
As required by the Securities Act of 1933, this Registration Statement has
been signed on behalf of the Registrant, in the City of New York and State of
New York, on the 11th day of April, 1997.
KEYSTONE STRATEGIC GROWTH FUND (K-2)
By: /s/ John J. Pileggi
------------------------
Name: John J. Pileggi
Title: President
Know all men by these presents that each person whose signature appears
below hereby severally constitutes and appoints Dorothy E. Bourassa, Terrence
J. Cullen, Rosemary D. Van Antwerp, James P. Wallin and Martin J. Wolin, and
each of them singly, his or her true and lawful attorneys-in-fact and agents,
with full power of substitution, for the undersigned and in the undersigned's
name, place and stead, in any and all capacities, to sign and affix the
undersigned's name to any and all amendments to this Registration Statement,
and to file the same, with all exhibits thereto and other documents in
connection therewith, with the Securities and Exchange Commission, granting
unto said attorneys-in-fact and agents, and each of them, full power and
authority to do and perform each and every act and thing necessary or
incidental to the performance and execution of the powers herein granted,
hereby ratifying and confirming all that said attorneys-in-fact and agents, or
any of them or their substitutes, may lawfully do or cause to be done by virtue
hereof.
As required by the Securities Act of 1933, the following persons have
signed this Registration Statement in the capacities indicated on the 11th day
of April, 1997.
<TABLE>
<S> <C> <C>
/s/ George S. Bissell /s/ Charles F.Chapin /s/ William Walt Pettit
- ------------------------ ------------------------- -------------------------
George S. Bissell Charles F. Chapin William Walt Pettit
Chairman of the Board of Trustees Trustee Trustee
and Chief Executive Officer
/s/ John J. Pileggi /s/ K. Dun Gifford /s/ David M. Richardson
- ------------------------- ------------------------- -------------------------
John J. Pileggi K. Dun Gifford David M. Richardson
President and Treasurer (Principal Trustee Trustee
Financial and Accounting Officer)
/s/ Frederick Amling /s/ James S. Howell /s/ Russell A. Salton, III, M.D.
- ------------------------- ------------------------- -------------------------
Frederick Amling James S. Howell Russell A. Salton, III MD
Trustee Trustee Trustee
/s/ Laurence B. Ashkin /s/ Leroy Keith, Jr. /s/ Michael S. Scofield
- ------------------------- ------------------------- -------------------------
Laurence B. Ashkin Leroy Keith, Jr. Michael S. Scofield
Trustee Trustee Trustee
/s/ Charles A. Austin, III /s/ F. Ray Keyser, Jr. /s/ Richard J. Shima
- -------------------------- ------------------------- -------------------------
Charles A. Austin, III F. Ray Keyser, Jr. Richard J. Shima
Trustee Trustee Trustee
/s/ Foster Bam /s/ Gerald M. McDonnell /s/ Andrew J. Simons
- ------------------------- ------------------------- -------------------------
Foster Bam Gerald M. McDonell Andrew J. Simons
Trustee Trustee Trustee
/s/ Edwin D. Campbell /s/ Thomas L. McVerry
- ------------------------- -------------------------
Edwin D. Campbell Thomas L. McVerry
Trustee Trustee
</TABLE>
<PAGE>
INDEX TO EXHIBITS
N-14
EXHIBIT NO. Page
11 Opinion and Consent of Kirkpatrick & Lockhart LLP
14 Consent of KPMG Peat Marwick LLP
17 Form of Proxy Card
-------------------
KIRKPATRICK & LOCKHART LLP
1500 Oliver Building
Pittsburgh, Pennsylvania 15222-2312
Telephone (412) 355-6500
Facsimile (412) 355-6501
April 11, 1997
Keystone Strategic Growth Fund (K-2)
200 Berkeley Street
Boston, Massachusetts 02116-5034
Ladies and Gentlemen:
You have requested our opinion with respect to the matters set forth
below in connection with the issuance by Keystone Strategic Growth Fund (K-2), a
Pennsylvania common law business trust (the "Trust"), of shares of beneficial
interest, $1.00 par value per share (the "Shares"), of its Keystone Strategic
Growth Fund (K-2) series (the "Acquiring Fund") pursuant to an Agreement and
Plan of Reorganization (the "Plan") to be entered into between the Trust and
Keystone Mid-Cap Growth Fund (S-3) with respect to its Keystone Mid-Cap Growth
Fund (S-3) series (the "Selling Fund"). Under the Plan, the Acquiring Fund will
acquire all the assets of the Selling Fund in exchange solely for the Shares and
the assumption by the Acquiring Fund of all the liabilities of the Selling Fund.
In connection with the Plan, the Trust intends to file a Registration Statement
on Form N-14 (the "Registration Statement") for the purpose of registering the
Shares under the Securities Act of 1933 ("1933 Act").
We have examined copies of the Trust's Declaration of Trust and
By-Laws, both as amended to date, and resolutions adopted by its Board of
Trustees relating to the execution and pereformance of the Plan by the Trust,
all as certified by the Secretary of the Trust. We have also examined the form
of the Plan and such other documents relating to the authorization and issuance
of the Shares as we have deemed necessary in order to express an informed
opinion on the matters set forth below.
On the basis of the foregoing, it is our opinion that (i) the Shares
are duly authorized, (ii) assuming that a consideration therefor not less than
the net asset value and not less than the par value thereof will be paid, the
Shares may be issued in accordance with the Plan and the Trust's Declaration of
Trust and By-Laws, subject to compliance with the 1933 Act, the
<PAGE>
Keystone Strategic Growth Fund (K-2)
April 11, 1997
Page 2
Investment Company Act of 1940, and applicable state laws regulating the
distribution of securities, and (ii) when so issued, the Shares will be legally
issued and outstanding, fully paid and non-assessable.
The Trust is a Pennsylvania common law business trust. Under
Pennsylvania law, shareholders of a common law business trust could, under
certain circumstances, be held personally liable for the obligations of the
Trust or a series of the Trust, including the Acquiring Fund. The Trust's
Declaration of Trust provides that the Trustees of the Trust shall have no power
to bind any shareholder personally or to call upon any shareholder for any
payment that the shareholder has not personally agreed to pay. It also requires
that every note, bond, contract or other undertaking issued by or on behalf of
the Trust or the Trustees relating to the Trust include a recitation limiting
the obligation represented thereby to the Trust and its assets (but that the
omission of such a recitation shall not operate to bind any shareholder). The
Declaration of Trust further provides for indemnification from the assets of the
Trust for all loss and expense of any shareholder held to be personally liable
for the obligations of the Trust or Series solely by reason of his being or
having been a shareholder of the Trust. Thus, the risk of a shareholder
incurring financial loss on account of shareholder liability is limited to
circumstances in which the disclaimer would be inoperative and the Trust would
be unable to meet its obligations.
We are opining herein only as to the laws of the Commonwealth of
Pennsylvania, excluding its conflict of laws rules, and we express no opinion as
to the possible applicability to, or effect on, any of the matters covered
herein of the laws of any other jurisdiction or the federal laws of the United
States.
We hereby consent to the filing of this opinion as an exhibit to the
Registration Statement and to the reference to this firm under the caption
"Legal Matters" in the Prospectus/Proxy Statement to be filed as part of the
Registration Statement.
Yours truly,
/s/ Kirkpatrick & Lockhart LLP
KIRKPATRICK & LOCKHART LLP
CONSENT OF INDEPENDENT AUDITORS
The Trustees and Shareholders
Keystone Strategic Growth Fund (K-2)
We consent to the use of our reports incorporated herein by reference and
to the references to our firm under the caption "FINANCIAL STATEMENTS AND
EXPERTS" in the prospectus/proxy statement.
/s/ KPMG Peat Marwick LLP
KPMG Peat Marwick LLP
Boston, Massachusetts
April 11, 1997
KEYSTONE MID-CAP GROWTH FUND (S-3)
PROXY FOR THE MEETING OF SHAREHOLDERS
TO BE HELD ON JUNE 30, 1997
The undersigned, revoking all Proxies heretofore given, hereby appoints
[Name], [Name], and [Name] or any of them as Proxies of the undersigned, with
full power of substitution, to vote on behalf of the undersigned all shares of
Keystone Mid-Cap Growth Fund (S-3) (the "Mid-Cap Growth Fund") that the
undersigned is entitled to vote at the special meeting of shareholders of the
Mid-Cap Growth Fund to be held at 3:00 p.m. on Monday, June 30, 1997 at the
offices of Keystone Investment Management Company, 26th Floor, 200 Berkeley
Street, Boston, Massachusetts 02116 and at any adjournments thereof, as fully as
the undersigned would be entitled to vote if personally present, as follows:
To approve an Agreement and Plan of Reorganization whereby Keystone
Strategic Growth Fund (K-2) will (i) acquire all of the assets of the Keystone
Mid-Cap Growth Fund in exchange for Shares of Keystone Strategic Growth Fund
(K-2); and (ii) assume [_______________] liabilities of the Mid-Cap Growth Fund,
as substantially described in the accompanying Prospectus/Proxy Statement.
___________ FOR ___________ AGAINST ___________ ABSTAIN
<PAGE>
PROXY SOLICITED ON BEHALF OF THE BOARD OF TRUSTEES OF THE MID-CAP GROWTH FUND.
THE BOARD OF TRUSTEES OF THE MID-CAP GROWTH FUND RECOMMENDS A VOTE FOR THE
PROPOSAL.
THE SHARES REPRESENTED HEREBY WILL BE VOTED AS INDICATED OR FOR THE PROPOSAL IF
NO CHOICE IS INDICATED.
THE PROXIES ARE AUTHORIZED IN THEIR DISCRETION TO VOTE UPON SUCH
OTHER MATTERS AS MAY COME BEFORE THE MEETING OR ANY
ADJOURNMENTS THEREOF.
.
NOTE: PLEASE SIGN EXACTLY AS YOUR
NAME(S) APPEAR ON THIS CARD.
Dated: , 199_
Signature(s):
Signature (of joint owner,
if any):
NOTE: When signing as attorney, executor, administrator, trustee, guardian, or
as custodian for a minor, please sign your name and give your full title as
such. If signing on behalf of a corporation, please sign full corporate name and
your name and indicate your title. If you are a partner signing for a
partnership, please sign the partnership name and your name. Joint owners should
each sign this proxy. Please sign, date and return.
19471
