VANGUARD MORGAN GROWTH FUND INC, 497, 1994-05-19

VANGUARD MORGAN GROWTH FUND INC
497, 1994-05-19

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PART B

VANGUARD/MORGAN GROWTH FUND, INC.

STATEMENT OF ADDITIONAL INFORMATION

APRIL 27, 1994; REVISED MAY 19, 1994

This Statement is not a prospectus but should be read in conjunction with
the Fund's current Prospectus (dated April 27, 1994). To obtain the Prospectus
please call the Investor Information Department:

1-800-662-7447

TABLE OF CONTENTS

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PAGE
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Investment Objective and Policies.......................................................... 1
Investment Limitations..................................................................... 4
Purchase of Shares......................................................................... 5
Redemption of Shares....................................................................... 5
Management of the Fund..................................................................... 7
Investment Advisory Services............................................................... 9
Portfolio Transactions..................................................................... 15
Yield and Total Return..................................................................... 16
Performance Measures....................................................................... 16
Financial Statements....................................................................... 19
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INVESTMENT OBJECTIVE AND POLICIES

PORTFOLIO TURNOVER While the rate of portfolio turnover is not a limiting
factor when management deems changes appropriate, it is anticipated that the
Fund's annual portfolio turnover rate will not normally exceed 100%. A rate of
turnover of 100% could occur, for example, if all of the securities in the
Fund's portfolio are replaced within a period of one year. The Fund's portfolio
turnover rate for each of its last ten fiscal years is set forth under
"Financial Highlights," in the Fund's Prospectus.

REPURCHASE AGREEMENTS The Fund may invest in repurchase agreements with
commercial banks, brokers or dealers either for defensive purposes due to market
conditions or to generate income from its excess cash balances. A repurchase
agreement is an agreement under which the Fund acquires a money market
instrument (generally a security issued by the U.S. Government or an agency
thereof, a banker's acceptance or a certificate of deposit) from a commercial
bank, broker or dealer, subject to resale to the seller at an agreed upon price
and date (normally, the next business day). A repurchase agreement may be
considered a loan collateralized by securities. The resale price reflects an
agreed upon interest rate effective for the period the instrument is held by the
Fund and is unrelated to the interest rate on the underlying instrument. In
these transactions, the securities acquired by the Fund (including accrued
interest earned thereon) must have a total value in excess of the value of the
repurchase agreement and are held by the Fund's custodian bank until
repurchased. In addition, the Fund's Board of Directors will monitor the Fund's
repurchase agreement transactions generally and will establish guidelines and
standards for review by the investment adviser of the creditworthiness of any
bank, broker or dealer party to a repurchase agreement with the Fund. No more
than an aggregate of 15% of the Fund's assets, at the time of investment, will
be invested in repurchase agreements having maturities longer than seven days
and securities subject to legal or contractual restrictions on resale, or for
which there are no readily available market quotations.

The use of repurchase agreements involves certain risks. For example, if
the other party to the agreement defaults on its obligation to repurchase the
underlying instrument at a time when the value of the security has declined, the
Fund may incur a loss upon disposition of the security. If the other party to
the agreement becomes insolvent and subject to liquidation or reorganization
under the Bankruptcy Code or other laws, a court may determine that the
underlying security is collateral for a loan by the Fund not within the control
of the Fund and therefore the realization by the Fund on such collateral may be
automatically stayed. Finally, it is possible that the Fund may not be able to
substantiate its

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interest in the underlying security and may be deemed an unsecured creditor of
the other party to the agreement. While the Fund's management acknowledges these
risks, it is expected that they can be controlled through careful monitoring
procedures.

LENDING OF SECURITIES The Fund may lend its securities on a short-term or
long-term basis to qualified institutional investors who need to borrow
securities in order to complete certain transactions, such as covering short
sales, avoiding failures to deliver securities or completing arbitrage
operations. By lending its portfolio securities, the Fund attempts to increase
its net investment income through the receipt of interest on the loan. Any gain
or loss in the market price of the securities loaned that might occur during the
term of the loan would be for the account of the Fund. The Fund may lend its
portfolio securities to qualified brokers, dealers, banks or other financial
institutions, so long as the terms, the structure and the aggregate amount of
such loans are not inconsistent with the Investment Company Act of 1940, or the
Rules and Regulations or interpretations of the Securities and Exchange
Commission (the "Commission") thereunder, which currently require that (a) the
borrower pledge and maintain with the Fund collateral consisting of cash, an
irrevocable letter of credit issued by a domestic U.S. bank, or securities
issued or guaranteed by the U.S. Government having a value at all times not less
than 100% of the value of the securities loaned, (b) the borrower add to such
collateral whenever the price of the securities loaned rises (i.e. the borrower
"marks to the market" on a daily basis), (c) the loan be made subject to
termination by the Fund at any time and (d) the Fund receive reasonable interest
on the loan (which may include the Fund's investing any cash collateral in
interest bearing short-term investments), any distribution on the loaned
securities and any increase in their market value. Loan arrangements made by the
Fund will comply with all other applicable regulatory requirements, including
the rules of the New York Stock Exchange, which rules presently require the
borrower, after notice, to redeliver the securities within the normal settlement
time of five business days. All relevant facts and circumstances, including the
creditworthiness of the broker, dealer or institution, will be considered in
making decisions with respect to the lending of securities, subject to review by
the Fund's Board of Directors.

At the present time, the Staff of the Commission does not object if an
investment company pays reasonable negotiated fees in connection with loaned
securities, so long as such fees are set forth in a written contract and
approved by the investment company's directors. In addition, voting rights may
pass with the loaned securities, but if a material event will occur affecting an
investment on loan, the loan must be called and the securities voted.

FUTURES CONTRACTS The Fund may enter into futures contracts, options, and
options on futures contracts for the purpose of remaining fully invested and
reducing transactions costs. Futures contracts provide for the future sale by
one party and purchase by another party of a specified amount of a specific
security at a specified future time and at a specified price. Futures contracts
which are standardized as to maturity date and underlying financial instrument
are traded on national futures exchanges. Futures exchanges and trading are
regulated under the Commodity Exchange Act by the Commodity Futures Trading
Commission ("CFTC"), a U.S. Government Agency.

Although futures contracts by their terms call for actual delivery or
acceptance of the underlying securities, in most cases the contracts are closed
out before the settlement date without the making or taking of delivery. Closing
out an open futures position is done by taking an opposite position ("buying" a
contract which has previously been "sold," or "selling" a contract previously
purchased) in an identical contract to terminate the position. Brokerage
commissions are incurred when a futures contract is bought or sold.

Futures traders are required to make a good faith margin deposit in cash or
government securities with a broker or custodian to initiate and maintain open
positions in futures contracts. A margin deposit is intended to assure
completion of the contract (delivery or acceptance of the underlying security)
if it is not terminated prior to the specified delivery date. Minimal initial
margin requirements are established by the futures exchange and may be changed.
Brokers may establish deposit requirements which are higher than the exchange
minimums. Futures contracts are customarily purchased and sold on margin which
may range upward from less than 5% of the value of the contract being traded.

After a futures contract position is opened, the value of the contract is
marked to market daily. If the futures contract price changes to the extent that
the margin on deposit does not satisfy margin requirements, payment of
additional "variation" margin will be required. Conversely, change in the
contract value may reduce the required margin, resulting in a repayment of
excess margin to the contract holder. Variation margin payments are made to and
from the futures broker for as long as the contract remains open. The Fund
expects to earn interest income on its margin deposits.

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Traders in futures contracts may be broadly classified as either "hedgers"
or "speculators." Hedgers use the futures markets primarily to offset
unfavorable changes in the value of securities otherwise held for investment
purposes or expected to be acquired by them. Speculators are less inclined to
own the securities underlying the futures contracts which they trade, and use
futures contracts with the expectation of realizing profits from fluctuations in
the prices of underlying securities. The Fund intends to use futures contracts
only for bonafide hedging purposes.

Regulations of the CFTC applicable to the Fund require that all of its
futures transactions constitute bonafide hedging transactions. The Fund will
only sell futures contracts to protect securities it owns against price declines
or purchase contracts to protect against an increase in the price of securities
it intends to purchase. As evidence of this hedging interest, the Fund expects
that approximately 75% of its futures contract purchases will be "completed,"
that is, equivalent amounts of related securities will have been purchased or
are being purchased by the Fund upon sale of open futures contracts.

Although techniques other than the sale and purchase of futures contracts
could be used to control the Fund's exposure to market fluctuations, the use of
futures contracts may be a more effective means of hedging this exposure. While
the Fund will incur commission expenses in both opening and closing out futures
positions, these costs are lower than transaction costs incurred in the purchase
and sale of the underlying securities.

RESTRICTIONS ON THE USE OF FUTURES CONTRACTS The Fund will not enter into
futures contract transactions to the extent that, immediately thereafter, the
sum of its initial margin deposits on open contracts exceeds 5% of the market
value of the Fund's total assets. In addition, the Fund will not enter into
futures contracts to the extent that its outstanding obligations to purchase
securities under these contracts would exceed 20% of the Fund's total assets.

RISK FACTORS IN FUTURES TRANSACTIONS Positions in futures contracts may be
closed out only on an Exchange which provides a secondary market for such
futures. However, there can be no assurance that a liquid secondary market will
exist for any particular futures contract at any specific time. Thus, it may not
be possible to close a futures position. In the event of adverse price
movements, the Fund would continue to be required to make daily cash payments to
maintain its required margin. In such situations, if the Fund has insufficient
cash, it may have to sell portfolio securities to meet daily margin requirements
at a time when it may be disadvantageous to do so. In addition, the Fund may be
required to make delivery of the instruments underlying futures contracts it
holds. The inability to close options and futures positions also could have an
adverse impact on the ability to effectively hedge it.

The Fund will minimize the risk that it will be unable to close out a
futures contract by only entering into futures which are traded on national
futures exchanges and for which there appears to be a liquid secondary market.
The principal interest rate futures exchanges in the United States are the Board
of Trade of the City of Chicago and the Chicago Mercantile Exchange.

The risk of loss in trading futures contracts in some strategies can be
substantial, due both to the low margin deposits required, and the extremely
high degree of leverage involved in futures pricing. As a result, a relatively
small price movement in a futures contract may result in immediate and
substantial loss (as well as gain) to the investor. For example, if at the time
of purchase, 10% of the value of the futures contract is deposited as margin, a
subsequent 10% decrease in the value of the futures contract would result in a
total loss of the margin deposit, before any deduction for the transaction
costs, if the account were then closed out. A 15% decrease would result in a
loss equal to 150% of the original margin deposit if the contract were closed
out. Thus, a purchase or sale of a futures contract may result in losses in
excess of the amount invested in the contract. However, because the futures
strategies of the Fund are engaged in only for hedging purposes, the Adviser
does not believe that the Fund is subject to the risks of loss frequently
associated with futures transactions. The Fund would presumably have sustained
comparable losses if, instead of the futures contract, it had invested in the
underlying financial instrument and sold it after the decline.

Utilization of futures transactions by the Fund does involve the risk of
imperfect or no correlation where the securities underlying futures contracts
have different maturities than the portfolio securities being hedged. It is also
possible that the Fund could both lose money on futures contracts and also
experience a decline in value of its portfolio securities. There is also the
risk of loss by the Fund of margin deposits in the event of bankruptcy of a
broker with whom the Fund has an open position in a futures contract or related
option. Additionally, investments in futures contracts and options involve the
risk that the investment advisers will incorrectly predict stock market and
interest rate trends.

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Most futures exchanges limit the amount of fluctuation permitted in futures
contract prices during a single trading day. The daily limit establishes the
maximum amount that the price of a futures contract may vary either up or down
from the previous day's settlement price at the end of a trading session. Once
the daily limit has been reached in a particular type of contract, no trades may
be made on that day at a price beyond that limit. The daily limit governs only
price movement during a particular trading day and therefore does not limit
potential losses, because the limit may prevent the liquidation of unfavorable
positions. Futures contract prices have occasionally moved to the daily limit
for several consecutive trading days with little or no trading, thereby
preventing prompt liquidation of future positions and subjecting some futures
traders to substantial losses.

FEDERAL TAX TREATMENT OF FUTURES CONTRACTS Except for transactions the
Fund has identified as hedging transactions, the Fund is required for federal
income tax purposes to recognize as income for each taxable year its net
unrealized gains and losses on certain futures contracts as of the end of the
year as well as those actually realized during the year. In most cases, any gain
or loss recognized with respect to a futures contract is considered to be 60%
long-term capital gain or loss and 40% short-term capital gain or loss, without
regard to the holding period of the contract. Furthermore, sales of futures
contracts which are intended to hedge against a change in the value of
securities held by the Fund may affect the holding period of such securities
and, consequently, the nature of the gain or loss on such securities upon
disposition.

In order for the Fund to continue to qualify for federal income tax
treatment as a regulated investment company, at least 90% of its gross income
for a taxable year must be derived from qualifying income; i.e., dividends,
interest, income derived from loans of securities, gains from the sale of
securities or of foreign currencies or other income derived with respect to the
Fund's business of investing in securities. In addition, gains realized on the
sale or other disposition of securities held for less than three months must be
limited to less than 30% of the Fund's annual gross income. It is anticipated
that any net gain realized from the closing out of futures contracts will be
considered gain from the sale of securities and therefore be qualifying income
for purposes of the 90% requirement. In order to avoid realizing excessive gains
on securities held less than three months, the Fund may be required to defer the
closing out of futures contracts beyond the time when it would otherwise be
advantageous to do so. It is anticipated that unrealized gains on futures
contracts, which have been open for less than three months as of the end of the
Fund's fiscal year and which are recognized for tax purposes, will not be
considered gains on sales of securities held less than three months for the
purpose of the 30% test.

The Fund will distribute to shareholders annually any net capital gains
which have been recognized for federal income tax purposes (including unrealized
gains at the end of the Fund's fiscal year) on futures transactions. Such
distributions will be combined with distributions of capital gains realized on
the Fund's other investments and shareholders will be advised on the nature of
the transactions.

INVESTMENT LIMITATIONS

The following restrictions and fundamental policies (except for item 10
which is not a "fundamental" policy) cannot be changed without approval of the
holders of a majority of the outstanding shares of the Fund (as defined in the
Investment Company Act of 1940). The Fund may not under any circumstances:

1) Borrow money, except from banks (or through reverse repurchase
agreements), for temporary or emergency (not leveraging) purposes, and
then in an amount not exceeding 10% of the value of the Fund's net
assets (including the amount borrowed and the value of any outstanding
reverse repurchase agreements) at the time the borrowing is made.
Whenever borrowings exceed 5% of the value of the Fund's net assets,
the Fund will not make any additional investments;

2) With respect to 75% of the value of its total assets, purchase the
securities of any issuer (except obligations of the United States
government and its instrumentalities) if as a result the Fund would
hold more than 10% of the outstanding voting securities of the issuer,
or more than 5% of the value of the Fund's total assets would be
invested in the securities of such issuer;

3) Invest for the purpose of exercising control of management of any
company;

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4) The Fund will not invest in securities of other investment companies,
except as may be acquired as a part of a merger, consolidation or
acquisition of assets approved by the Fund's shareholders or otherwise
to the extent permitted by Section 12 of the Investment Company Act of
1940. The Fund will invest only in investment companies which have
investment objectives and investment policies consistent with those of
the Fund.

5) Engage in the business of underwriting securities issued by others,
except to the extent that the Fund may technically be deemed to be an
underwriter under the Securities Act of 1933, as amended, in disposing
of portfolio securities.

6) Purchase or otherwise acquire any security if, as a result, more than
15% of its net assets would be invested in securities that are illiquid
(including the Fund's investment in The Vanguard Group, Inc., as
described on page 8).

7) Invest in commodities (except that the Fund may invest in stock futures
contracts and options to the extent that not more than 5% of the Fund's
assets are required as deposit to secure obligations under futures
contracts and not more than 20% of the Fund's assets are invested in
futures and options at any time) or real estate although the Fund may
purchase and sell securities of companies which deal in real estate, or
interests therein;

8) Purchase securities on margin or sell any securities short (except as
specified in 7) above;

9) Invest more than 5% of the assets of the Fund, at the time of
investment, in the securities of any issuers which have (with
predecessors) a record of less than three years' continuous operation;

10) Purchase or retain any security if (i) one or more officers or
directors of the Fund or its investment adviser individually own or
would own, directly or beneficially, more than 1/2 of 1 per cent of the
securities of such issuer, and (ii) in the aggregate such persons own
or would own more than 5% of such securities;

11) Lend money to any person except (i) by purchasing bonds, debentures or
similar obligations (including repurchase agreements) which are either
publicly distributed or customarily purchased by institutional
investors, and (ii) by lending its portfolio securities as provided
under "Lending of Securities";

12) Pledge, mortgage, or hypothecate any of its assets to an extent greater
than 5% of its total assets; and

13) Invest more than 25% of the value of its total assets in any one
industry.

These investment limitations are considered at the time investment
securities are purchased.

Although not fundamental policies subject to shareholder vote, as long as
the Fund's shares are registered for sale in certain states, it will not (i)
invest in put, call, straddle or spread options, and (ii) invest in interests in
oil, gas or other mineral exploration or development programs.

Notwithstanding these limitations, the Fund may own all or any portion of
the securities of, or make loans to, or contribute to the costs or other
financial requirements of any company which will be wholly owned by the Fund and
one or more other investment companies and is primarily engaged in the business
of providing, at-cost, management, administrative, distribution or related
services to the Fund and other investment companies. See "Management of the
Fund."

PURCHASE OF SHARES

The Fund reserves the right in its sole discretion (i) to suspend the
offerings of its shares, (ii) to reject purchase orders when in the judgment of
management such rejection is in the best interest of the Fund, and (iii) to
reduce or waive the minimum for initial and subsequent investments for certain
fiduciary accounts or under circumstances where certain economies can be
achieved in sales of the Fund's shares.

REDEMPTION OF SHARES

The Fund may suspend redemption privileges or postpone the date of payment
(i) during any period that the New York Stock Exchange is closed, or trading on
the Exchange is restricted as determined by the Securities and Exchange

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Commission (the "Commission"), (ii) during any period when an emergency exists
as defined by the rules of the Commission as a result of which it is not
reasonably practicable for the Fund to dispose of securities owned by it, or
fairly to determine the value of its assets, and (iii) for such other periods as
the Commission may permit.

The Fund has made an election with the Commission to pay in cash all
redemptions requested by any shareholder of record limited in amount during any
90-day period to the lesser of $250,000 or 1% of the net assets of the Fund at
the beginning of such period. Such commitment is irrevocable without the prior
approval of the Commission. Redemptions in excess of the above limits may be
paid in whole or in part, in investment securities or in cash, as the Directors
may deem advisable; however, payment will be made wholly in cash unless the
Directors believe that economic or market conditions exist which would make such
a practice detrimental to the best interests of the Fund. If redemptions are
paid in investment securities, such securities will be valued as set forth in
the Prospectus under "The Fund's Share Price" and a redeeming shareholder would
normally incur brokerage expenses if he converted these securities to cash.

No charge is made by the Fund for redemptions. Any redemption may be more
or less than the shareholder's cost depending on the market value of the
securities held by the Fund.

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MANAGEMENT OF THE FUND

OFFICERS AND DIRECTORS

The Fund's officers, under the supervision of the Board of Directors,
manage the day to day operations of the Fund. The Directors, who are elected
annually by shareholders, set broad policies for the Fund and choose its
officers. A list of the Directors and officers of the Fund and a brief statement
of their present positions and principal occupations during the past 5 years is
set forth below. The mailing address of the Directors and officers of the Fund
is Post Office Box 876, Valley Forge, PA 19487.

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JOHN C. BOGLE, Chairman, Chief Executive ALFRED M. RANKIN, JR., Director
Officer and Director* President, Chief Executive Officer and
Chairman, Chief Executive Officer, and Director of NACCO Industries, Inc.; Director
Director of The Vanguard Group, Inc., and of The BFGoodrich Company, The Standard
each of the investment companies in The Products Company and The Reliance Electric
Vanguard Group; Director of The Mead Company.
Corporation, and General Accident Insurance. JOHN C. SAWHILL,
JOHN J. BRENNAN, President & Director* President and Chief Executive Officer, The
President and Director of The Vanguard Nature Conservancy; formerly, Director and
Group, Inc., and of each of the investment Senior Partner, McKinsey & Co.; President,
companies in The Vanguard Group. New York University; Director of Pacific Gas
ROBERT E. CAWTHORN, Director and Electric Company and NACCO Industries.
Chairman and Chief Executive Officer, JAMES O. WELCH, JR., Director
Rhone-Poulenc Rorer, Inc.; Director of Retired Chairman of Nabisco Brands, Inc.,
Immune Response Corp. and Sun Company, Inc.; retired Vice Chairman and Director of RJR
Trustee, Universal Health Realty Income Nabisco; Director of TECO Energy, Inc.
Trust. J. LAWRENCE WILSON, Director
BARBARA BARNES HAUPTFUHRER, Director Chairman and Director of Rohm & Haas Company;
Director of The Great Atlantic and Pacific Director of Cummins Engine Company and
Tea Company, ALCO Standard Corp., Raytheon Vanderbilt University; Trustee of the Culver
Company, Knight-Ridder, Inc., and Mas- Educational Foundation.
sachusetts Mutual Life Insurance Co. RAYMOND J. KLAPINSKY, Secretary*
BRUCE K. MACLAURY, Director Senior Vice President and Secretary of The
President, The Brookings Institution; Vanguard Group, Inc.; Secretary of each of the
Director of Dayton Hudson Corporation, investment companies in The Vanguard Group.
American Express Bank, Ltd., and The St.
Paul Companies, Inc. RICHARD F. HYLAND, Treasurer*
Treasurer of The Vanguard Group, Inc. and of
BURTON G. MALKIEL, Director each of the investment companies in The
Chemical Bank Chairman's Professor of Vanguard Group.
Economics, Princeton University; Director of
Prudential Insurance Co. of America, Amdahl KAREN E. WEST, Controller*
Corporation, Baker Fentress & Co., Jeffrey Vice President of The Vanguard Group, Inc.;
Co., and The Southern New England Telephone Controller of each of the investment companies
Company. in The Vanguard Group.
---------------
*Officers of the Fund are "interested persons"
as defined in the Investment Company Act of
1940.
</TABLE>

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THE VANGUARD GROUP

Vanguard/Morgan Growth Fund, Inc. is a member of The Vanguard Group of
Investment Companies.

Through their jointly-owned subsidiary, The Vanguard Group, Inc.
("Vanguard"), the Fund and the other Funds in the Group obtain at cost virtually
all of their corporate management, administrative and distribution services.
Vanguard also provides investment advisory services on an at-cost basis to
certain Vanguard Funds.

Vanguard employs a supporting staff of management and administrative
personnel needed to provide the requisite services to the Funds and also
furnishes the Funds with necessary office space, furnishings and equipment. Each
Fund pays its share of Vanguard's net expenses which are allocated among the
Funds under methods approved by the Board of Directors (Trustees) of each Fund.
In addition, each Fund bears its own direct expenses such as legal, auditing and
custodian fees.

The Fund's officers are also officers and employees of Vanguard. No officer
or employee owns, or is permitted to own, any securities of any external adviser
for the Funds.

The Vanguard Group was established and operates under a Funds' Service
Agreement which was approved by the shareholders of each of the Funds. The
amounts which each of the Funds have invested are adjusted from time to time in
order to maintain the proportionate relationship between each Fund's relative
net assets and its contribution to Vanguard's capital. At December 31, 1993, the
Fund had contributed capital of $186,000 to Vanguard, representing .9% of
Vanguard's capitalization. The Fund's Service Agreement provides as follows: (a)
each Vanguard Fund may invest up to .40% of its current assets in Vanguard, and
(b) there is no other limitation on the amount that each Vanguard Fund may
contribute to Vanguard's capitalization.

MANAGEMENT Corporate management and administrative services include: (1)
executive staff; (2) accounting and financial; (3) legal and regulatory; (4)
shareholder account maintenance; (5) monitoring and control of custodian
relationships; (6) shareholder reporting; and (7) review and evaluation of
advisory and other services provided to the Funds by third parties. During the
fiscal year ended December 31, 1993, the Fund's share of Vanguard's actual net
costs of operation relating to management and administrative services (including
transfer agency) totaled approximately $3,303,000.

DISTRIBUTION Vanguard provides all distribution and marketing activities
for the Funds in the Group. Vanguard Marketing Corporation, a wholly-owned
subsidiary of The Vanguard Group, Inc., acts as Sales Agent for the shares of
the Funds in connection with any sales made directly to investors in the states
of Florida, Missouri, New York, Ohio, Texas and such other states as it may be
required.

The principal distribution expenses are for advertising, promotional
materials and marketing personnel. Distribution services may also include
organizing and offering to the public, from time to time, one or more new
investment companies which will become members of the Group. The directors and
officers of Vanguard determine the amount to be spent annually on distribution
activities, the manner and amount to be spent on each Fund, and whether to
organize new investment companies.

One half of the distribution expenses of a marketing and promotional nature
is allocated among the Funds based upon relative net assets. The remaining one
half of those expenses is allocated among the Funds based upon each Fund's sales
for the preceding 24 months relative to the total sales of the Funds as a Group,
provided, however, that no Fund's aggregate quarterly rate of contribution for
distribution expenses of a marketing and promotional nature shall exceed 125% of
average distribution expense rate for the Group, and that no Fund shall incur
annual distribution expenses in excess of 20/100 of 1% of its average month-end
net assets. During the fiscal year ended December 31, 1993, the Fund paid
approximately $225,000 of the Group's distribution and marketing expenses.

INVESTMENT ADVISORY SERVICES Vanguard also provides Vanguard Money Market
Reserves, Vanguard Municipal Bond Fund, several Portfolios of Vanguard Fixed
Income Securities Fund, Vanguard's State Tax-Free Funds (California, New York,
New Jersey, Florida, Pennsylvania and Ohio), Vanguard Institutional Portfolios,
Vanguard Admiral Funds, Vanguard Municipal Bond Fund, Vanguard Institutional
Index Fund, Vanguard Bond Index Fund, Vanguard Balanced Index Fund, Vanguard
Index Trust and Vanguard International Equity Index Fund with investment
advisory services. These services are provided on an at-cost basis from a money
management staff employed directly by Vanguard. The compensation and other
expenses of this staff are paid by the Funds utilizing these services.

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REMUNERATION OF DIRECTORS AND OFFICERS The Fund pays each Director, who is
not also an officer, an annual fee plus travel and other expenses incurred in
attending Board meetings. The Fund's officers and employees are paid by Vanguard
which, in turn, is reimbursed by the Fund and each other Fund in the Group, for
its proportionate share of officers' and employees' salaries and retirement
benefits.

During the fiscal year ended December 31, 1993, the Fund paid approximately
$3,000 in Directors' fees and expenses to its "non-interested" Directors. The
Fund's proportionate share of remuneration paid by Vanguard (and reimbursed by
the Fund) during the fiscal year to all officers of the Fund, as a group, was
approximately $50,455.

Under its retirement plan, Vanguard contributes annually an amount equal to
10% of each officer's annual compensation plus 5.7% of that part of an eligible
officer's compensation during the year, if any, that exceeds the Social Security
Taxable Wage Base then in effect. Under its thrift plan, all employees are
permitted to make pre-tax basic contributions in an amount up to 4% of total
compensation which Vanguard matches on a 100% basis. Directors who are not
Officers are paid an annual fee based on the number of years of service on the
board, up to fifteen years of service, upon retirement. The fee is equal to
$1,000 for each year of service and each investment company member of The
Vanguard Group contributes a proportionate amount to this fee based on its
relative net assets. This fee is paid, subsequent to a Director's retirement,
for a period of ten years or until the death of a retired Director. The Fund's
proportionate share of retirement benefits paid by Vanguard on behalf of all
eligible officers of the Fund, as a group, during the fiscal year ended December
31, 1993 was approximately $5,524.

INVESTMENT ADVISORY SERVICES

The Fund currently employs three separate investment advisers each of whom
manages the investment and reinvestment of a portion of the Fund's assets. Prior
to April 24, 1990 Wellington Management Company served as the Fund's sole
investment adviser.

WELLINGTON MANAGEMENT COMPANY The Fund employs Wellington Management
Company ("WMC") under an investment advisory agreement dated as of April 24,
1990 to manage the investment and reinvestment of approximately 40% of the
assets of the Fund and to continuously review, supervise and administer the
Fund's investment program. WMC discharges its responsibilities subject to the
control of the officers and Directors of the Fund.

The Fund pays WMC a Basic Fee at the end of each fiscal quarter, calculated
by applying a quarterly rate, based on the following annual percentage rates, to
the Fund's average month-end net assets for the quarter:

<TABLE>
<CAPTION>
NET ASSETS RATE
---------------------------------------------------- -----
<S> <C>
First $50 million................................... 0.325%
Next $100 billion................................... 0.225%
Over $150 billion................................... 0.150%
</TABLE>

The Basic Fee may be increased or decreased by applying an
incentive/penalty fee based on the investment performance of the assets of the
Fund managed by WMC relative to the investment record of The Growth Fund Stock
Index (the "Index") which is described in detail in the Prospectus.

The following table sets forth the incentive/penalty fee rates payable by
the Fund to WMC under the proposed investment advisory agreement:

<TABLE>
<CAPTION>
THREE YEAR PERFORMANCE ANNUAL INCENTIVE(+)/
DIFFERENTIAL VS. THE PENALTY (-) FEE
INDEX RATE
--------------------------------------------------- --------------------
<S> <C>
+12% or more above................................. +.075%
+6% but less than +12%............................. +.0375%
Between +6% and -6%................................ --0--
-6% but less than -12%............................. -.0375%
-12% or more below................................. -.075%
</TABLE>

The investment performance or the WMC Portfolio, for any period, expressed
as a percentage of the "WMC Portfolio unit value" at the beginning of such
period, will be the sum of: (i) the change in the WMC Portfolio unit

9
<PAGE> 10

value during such period; (ii) the unit value of the Fund's cash distributions
from the WMC Portfolio net investment income and realized net capital gains
(whether long-term or short-term) having an ex-dividend date occurring within
such period; and (iii) the unit value of capital gains taxes paid or accrued
during such period by the Fund for undistributed realized long-term capital
gains realized from the WMC Portfolio.

The "WMC Portfolio unit value" will be determined by dividing the total net
assets of the WMC Portfolio by a given number of units. On the initial date of
the agreement, the number of units in the WMC Portfolio will equal the total
shares outstanding of the Fund. After such initial date, as assets are added to
or are withdrawn from the WMC Portfolio, the number of units of the WMC
Portfolio will be adjusted based on the unit value of the WMC Portfolio on the
day such changes are executed.

The investment record of the Index will be calculated quarterly by (i)
multiplying the total return for the quarter (change in market price plus
dividends) of each stock included in the Index by its weighting in the Index at
the beginning of the quarter, and (ii) adding the values discussed in (i). For
any period, therefore, the investment record of the Index will be the compounded
quarterly returns of the Index.

For the purposes of determining the incentive/penalty fee, the net assets
of the WMC Portfolio will be averaged over the same period as the investment
performance of the WMC Portfolio and the investment record of the S&P 500 or the
Index are computed.

In April 1972, the Securities and Exchange Commission ("SEC") issued
Release No. 7113 under the Investment Company Act of 1940 to call attention of
directors and investment advisers to certain factors which must be considered in
connection with investment company incentive fee arrangements. One of these
factors is to "avoid basing significant fee adjustments upon random or
insignificant differences" between the investment performance of a fund and that
of the particular index with which it is being compared. The Release provides
that "preliminary studies (of the SEC staff) indicate that as a 'rule of thumb'
the performance difference should be at least 10 percentage points" annually
before the maximum performance adjustment may be made. However, the Release also
states that "because of the preliminary nature of these studies, the Commission
is not recommending, at this time, that any particular performance difference
exist before the maximum fee adjustment may be made." The Release concludes that
the directors of a fund "should satisfy themselves that the maximum performance
adjustment will be made only for performance differences that can reasonably be
considered significant." The Board of Directors of the Fund has fully considered
the SEC Release and believes that the performance adjustments as included in the
proposed agreement are entirely appropriate although not within the 10
percentage points per year range suggested in the Release. Under the Fund's
investment advisory agreement, the maximum performance adjustment is made at a
difference of 12 percentage points from the performance of the index over a
thirty-six month period, which would effectively be the equivalent of
approximately P4 percentage points difference per year. The Fund's investment
advisory agreement provides for no performance adjustment at a difference of
less than 6 percentage points from the performance of the index over a
thirty-six month period, which would be the equivalent of approximately 2
percentage points per year.

Duration and Termination. The new agreement with WMC became effective
April 24, 1990. Since April 23, 1992, the agreement has been renewable for
successive one year periods, only if each renewal is specifically approved by a
vote of the Fund's Board of Directors, including the affirmative votes of a
majority of the Directors who are not parties to the contract or "interested
persons" (as defined in the Investment Company Act of 1940) of any such party,
cast in person at a meeting called for the purpose of considering such approval.
In addition, the question of continuance of the agreement may be presented to
the shareholders of the Fund; in such event, continuance shall be effected only
if approved by the affirmative vote of a majority of the outstanding voting
securities of the Fund. The agreement is automatically terminated if assigned,
and may be terminated without penalty at any time (1) either by vote of the
Board of Directors of the Fund or by vote of a majority of the outstanding
voting securities of the Fund on sixty (60) days' written notice to WMC, or (2)
by WMC upon ninety (90) days' written notice to the Fund.

The Fund's Board of Directors may, without the approval of shareholders,
provide for:

A. The employment of a new investment adviser pursuant to the terms of a
new advisory agreement, either as a replacement for an existing adviser or as an
additional adviser.

B. A change in the terms of an advisory agreement.

10
<PAGE> 11

C. The continued employment of an existing adviser on the same advisory
contract terms where a contract has been assigned because of a change in control
of the adviser.

Any such change will only be made upon not less than 30 days' prior written
notice to shareholders, which shall include the information concerning the
adviser that would have normally been included in a proxy statement.

PORTFOLIO TRANSACTIONS The new investment advisory agreement, as does the
present agreement, authorizes WMC (with the approval of the Fund's Board of
Directors) to select the brokers or dealers that will execute the purchases and
sales of portfolio securities for the Fund and directs WMC to use its best
efforts to obtain the best available price and most favorable execution as to
all transactions for the Fund. WMC has undertaken to execute each investment
transaction at a price and commission which provides the most favorable total
cost or proceeds reasonably obtainable under the circumstances.

In placing portfolio transactions, WMC will use its best judgment to choose
the broker most capable of providing the brokerage services necessary to obtain
best available price and most favorable execution. The full range and quality of
brokerage services available will be considered in making these determinations.
In those instances where it is reasonably determined that more than one broker
can offer the brokerage services needed to obtain the best available price and
most favorable execution, consideration may be given to those brokers which
supply investment research and statistical information and provide other
services in addition to execution services to the Fund and/or WMC. WMC considers
such information useful in the performance of its obligations under the
agreement but is unable to determine the amount by which such services may
reduce its expenses.

The investment advisory agreement also incorporates the concepts of Section
28(e) of the Securities Exchange Act of 1934 by providing that, subject to the
approval of the Fund's Board of Directors, WMC may cause the Fund to pay a
broker-dealer which furnishes brokerage and research services a higher
commission than that which might be charged by another broker-dealer for
effecting the same transactions; provided that such commission is deemed
reasonable in terms of either that particular transaction or the overall
responsibilities of WMC to the Fund and the other Funds in the Group.

Currently, it is the Fund's policy that WMC may at times pay higher
commissions in recognition of brokerage services felt necessary for the
achievement of better execution of certain securities transactions that
otherwise might not be available. WMC will only pay such higher commissions if
it believes this to be in the best interest of the Fund. Some brokers or dealers
who may receive such higher commissions in recognition of brokerage services
related to execution of securities transactions are also providers of research
information to WMC and/or the Fund. However, WMC has informed the Fund that it
will not pay higher commission rates specifically for the purpose of obtaining
research services.

Since the Fund does not market its shares through intermediary brokers or
dealers, it is not the Fund's practice to allocate brokerage or principal
business on the basis of sales of its shares which may be effected through such
firms. However, the Fund may place portfolio orders with qualified
broker-dealers who recommend the Fund to other clients, or who act as agent in
the purchase of the Fund's shares for their clients, and may, when a number of
brokers and dealers can provide comparable best price and execution on a
particular transaction, consider the sale of Fund shares by a broker or dealer
in selecting among qualified broker-dealers.

RELATED INFORMATION CONCERNING WMC WMC is a professional investment
counseling firm which provides investment services to investment companies,
other institutions and individuals. Among the clients of WMC are 12 of the other
32 investment companies of The Vanguard Group. As of December 31, 1993, WMC held
discretionary management authority with respect to approximately $82.8 billion
of assets. WMC and its predecessor organizations have provided investment
advisory services to investment companies since 1933 and to investment
counseling clients since 1960. WMC is a Massachusetts general partnership of
which the following persons are managing partners: Messrs. Robert W. Doran,
Duncan M. McFarland and John B. Neff.

11
<PAGE> 12

Prior to April 24, 1990, WMC served as investment adviser with regard to
100% of the Fund's assets and the increase/decrease in the Basic Fee was based
on the Fund's performance relative to the S&P 500 Composite Stock Price Index.
During the last three fiscal years, the Fund paid the following advisory fees to
WMC:

<TABLE>
<CAPTION>
1991 1992 1993
---------- ---------- ----------
<S> <C> <C> <C>
Basic Fee................................... $1,022,000 $1,146,158 $1,198,679
Increase (Decrease) for Performance
Adjustment................................ (169,000) -- (235,201)
---------- ---------- ----------
Total.................................. $ 853,000 $1,146,158 $ 963,478
---------- ---------- ----------
---------- ---------- ----------
</TABLE>

FRANKLIN PORTFOLIO ASSOCIATES TRUST The Fund employs Franklin Portfolio
Associates Trust ("Franklin") under an investment advisory agreement dated as of
April 24, 1990 to manage the investment and reinvestment of approximately 33% of
the Fund's assets. Franklin discharges its responsibilities subject to the
control of the Officers and Directors of the Fund.

The Fund pays Franklin Basic Fee by applying various percentage rates to
the average net assets of the Fund managed by Franklin. The fee schedule is as
follows:

<TABLE>
<CAPTION>
NET ASSETS RATE
---------------------------------------------------- -----
<S> <C>
First $100 million.................................. 0.250%
Next $200 billion................................... 0.200%
Over $300 billion................................... 0.150%
</TABLE>

The Basic Fee may be increased or decreased by applying an
incentive/penalty fee based on the investment performance of the Fund relative
to the investment record of the Index. Such incentive/penalty fee provides for
an increase or decrease in Franklin's basic fee in an amount equal to .100% per
annum (.025% per quarter) of the average month-end net assets of the portion of
the Fund managed by Franklin if the investment performance of that portion of
the Fund for the thirty-six months preceding the end of the quarter is six
percentage points or more above or below, respectively, the investment record of
the Index for the same period.

The following table sets forth the incentive/penalty fee rates payable by
the Fund to Franklin under the investment advisory agreement:

<TABLE>
<CAPTION>
THREE YEAR PERFORMANCE ANNUAL INCENTIVE(+)/
DIFFERENTIAL VS. THE PENALTY (-) FEE
INDEX RATE
------------------------------------------------------------- --------------------
<S> <C>
+6% or more above............................................ +.100%
Between +6% and -6%.......................................... --0--
-6% or more below............................................ -.100%
</TABLE>

The investment performance of the FPA Portfolio, the "FPA Portfolio unit
value" and the "investment record of the Index" will be calculated in the same
manner as set forth under the discussion of the WMC Agreement on page 10.

For the purposes of determining the incentive/penalty fee, the net assets
of the FPA Portfolio will be averaged over the same period as the investment
performance of the FPA Portfolio and the investment record of the Index are
computed.

The formula used to determine the performance adjustments, differs from the
view taken by the staff of the Securities and Exchange Commission. For a more
detailed discussion, see page 10. The Board of Directors of the Fund believes
that the performance adjustments, as included in the proposed agreement with
FPA, are appropriate although less than the 10 percentage points per year range
suggested in SEC Release No. 7113. Under the proposed agreement, the maximum
performance adjustment is made at a difference of approximately 2 percentage
points per year.

The agreement with FPA is dated April 24, 1990 and continued until April
23, 1992. The agreement became renewable thereafter for successive one year
periods, only if each renewal is specifically approved by a vote of the Fund's
Board of Directors, including the affirmative votes of a majority of the
Directors who are not parties to the contract or "interested persons" (as
defined in the Investment Company Act of 1940) of any such party, cast in person
at a meeting called for the purpose of considering such approval. In addition,
the question of continuance of the

12
<PAGE> 13

agreement may be presented to the shareholders of the Fund; in such event, such
continuance shall be effected only if approved by the affirmative vote of a
majority of the outstanding voting securities of the Fund. The agreement is
automatically terminated if assigned, and may be terminated without penalty at
any time (1) either by vote of the Board of Directors of the Fund or by vote of
a majority of the outstanding voting securities of the Fund on 60 days' written
notice to FPA, or (2) by FPA upon 90 days' written notice to the Fund.

During the last three fiscal years, the Fund paid FPA the following
advisory fees:

<TABLE>
<CAPTION>
1991 1992 1993
-------- ------- --------
<S> <C> <C> <C>
Basic Fee......................................... $322,618 $96,012 $470,526
Increase (Decrease) for Performance Adjustment.... 92,051 -- --
-------- ------- --------
Total........................................ $414,669 $96,012 $470,526
-------- ------- --------
-------- ------- --------
</TABLE>

PORTFOLIO TRANSACTIONS The provisions of the agreement with FPA relating
to portfolio transactions are identical to those under the agreement between the
Fund and WMC, as described under "Portfolio Transactions" on page 11.

The Fund's Board of Directors may, without the approval of shareholders,
provide for:

A. The employment of a new investment adviser pursuant to the terms of a
new advisory agreement, either as a replacement for an existing adviser or as an
additional adviser.

B. A change in the terms of an advisory agreement.

C. The continued employment of an existing adviser on the same advisory
contract terms where a contract has been assigned because of a change in control
of the adviser.

RELATED INFORMATION CONCERNING FPA FPA is a Massachusetts business trust,
which is a wholly owned subsidiary of Mellon Financial Service Corporation #1,
which is itself a wholly owned subsidiary of Mellon Bank Corporation. FPA is
managed by a Board of Trustees consisting of Messrs. John J. Nagorniak,
Chairman, Donald A. McMullen, Jr. and G. Christian Lantzsch.

FPA is a professional investment counseling firm which specializes in the
management of common stock portfolios through the use of quantitative investment
models. As of December 31, 1993, FPA provided investment advisory services with
respect to approximately $5.12 billion of client assets, including approximately
$529.9 million for Vanguard Quantitative Portfolios, Inc., another mutual fund
member of The Vanguard Group. During the year ended December 31, 1993, Vanguard
Quantitative Portfolios, Inc. paid FPA an annual advisory fee equal to .18 of 1%
before an increase of .05 of 1% based on performance.

HUSIC CAPITAL MANAGEMENT

The Fund also employs Husic Capital Management ("Husic") under an
investment advisory agreement dated as of September 24, 1993 to manage the
investment and reinvestment of approximately 13% of the Fund's assets. Husic
discharges its responsibilities subject to the control of the Officers and
Directors of the Fund.

For the services provided by Husic under the investment advisory agreement
the Fund will pay Husic a basic fee at the end of each fiscal quarter,
calculated by applying a quarterly rate, based on the following annual
percentage rates, to the average month-end net assets of the Husic Portfolio for
the quarter:

<TABLE>
<CAPTION>
NET ASSETS RATE
----------------------------------------------------- ----
<S> <C>
First $25 million.................................... 0.40%
Next $125 million.................................... 0.35%
Next $350 million.................................... 0.25%
Next $500 million.................................... 0.20%
Over $1 billion...................................... 0.15%
</TABLE>

13
<PAGE> 14

Effective with the quarter ending September 30, 1994, the basic fee paid to
Husic, as provided above, may be increased or decreased by applying an
incentive/penalty fee based on the investment performance of the Husic Portfolio
relative to the investment record of the Growth Fund Stock Index ("Growth
Index"). Under the incentive/penalty fee schedule, the basic fee payable to
Husic may be increased or decreased by as much as 75% of the basic fee depending
on the investment performance of the equity investment managed by Husic.

The incentive/penalty fee rates will be determined by measuring the
investment performance of the Husic Portfolio relative to the investment record
of the Index in accordance with the following table:

<TABLE>
<CAPTION>
ANNUAL RATES
AS A PERCENTAGE OF BASIC FEE
--------------------------------------
THREE YEAR PERFORMANCE FIRST ASSETS
DIFFERENTIAL VS. THE $200 MILLION IN EXCESS
GROWTH INDEX OF ASSETS OF $200 MILLION
--------------------------------------------- ------------ -----------------
<S> <C> <C>
+12% points or more above.................... 175.0% 150.0%
Between +6% points and +12% points above..... 137.5% 125.0%
Between +6% points and -6% points............ 100.0% 100.0%
Between -6% points and -12% points........... 62.5% 75.0%
-12% points or more below.................... 25.0% 50.0%
</TABLE>

Until the Quarter ending September 30, 1996, the incentive/penalty fee for
Husic will be calculated according to the following transition rules:

(a) Prior to June 30, 1994. For the quarters ending on or prior to June 30,
1994, the incentive/penalty fee adjustment will not be operable. The advisory
fee payable by the Fund shall be the basic fee, calculated as set forth above.

(b) July 1, 1994 through September 30, 1996. Beginning with the quarter
ending September 30, 1994, and until the quarter ending September 30, 1996, the
incentive/penalty fee will be computed based upon a comparison of the investment
performance of the Husic Portfolio and that of the Growth Index over the number
of months that have elapsed between October 1, 1993 and the end of the quarter
for which the fee is computed. The number of percentage points by which the
investment performance of the Husic Portfolio must exceed or fall below the
investment record of the Growth Index for the quarters ending during this period
are as follows:

<TABLE>
<CAPTION>
NUMBER OF
QUARTER ENDING PERCENTAGE POINTS
----------------------------------------- ------------------
<S> <C>
September 30, 1994....................... 4
December 31, 1994........................ 5
March 31, 1995........................... 6
June 30, 1995............................ 7
September 30, 1995....................... 8
December 31, 1995........................ 9
March 31, 1996........................... 10
June 30, 1996............................ 11
September 30, 1996....................... 12
</TABLE>

(c) On and After September 30, 1996. For the quarter ending September 30,
1996 and thereafter, the period used to calculate the incentive/penalty fee
shall be the 36 months preceding the end of the quarter for which the fee is
being computed and the number of percentage points used shall be 12.

The "investment performance of the Husic Portfolio," the "Husic Portfolio
unit value" and the "investment record of the Index" will be calculated in the
same manner as set forth under the discussion of the WMC Agreement on page 10.

For the purposes of determining the incentive/penalty fee, the net assets
of the Husic Portfolio will be averaged over the same period as the investment
performance of the Husic Portfolio and the investment record of the Growth Index
are computed.

14
<PAGE> 15

The formula used to determine the performance adjustments differs from the
view taken by the staff of the Securities and Exchange Commission. For a more
detailed discussion, see page 10. The Board of Directors of the Fund believes
that the performance adjustments, as included in the proposed agreement with
Husic are appropriate although not within the P10 percentage point per year
range suggested in SEC Release No. 7113. Under the proposed agreement, the
maximum performance adjustment is made at a difference of approximately 4
percentage points per year.

The new agreement with Husic dated September 24, 1993, will continue until
September 23, 1995. After this date the agreement is renewable for successive
one year periods in the same manner as the WMC agreement, as described under
"Duration and Termination" on page 11.

During the period ended December 31, 1993, Vanguard/Morgan Growth Fund paid
Husic the following advisory fees:

<TABLE>
<CAPTION>
1993
--------
<S> <C>
Basic Fee........................................ $140,254
Increase (Decrease) for Performance Adjustment... --
--------
Total....................................... $140,254
--------
--------
</TABLE>

The Fund also paid an investment advisory fee to Roll and Ross Asset
Management Corporation ("R&R"), 585 Skippack Pike, Blue Bell, Pa. 19422, for the
period January 1, 1993 to June 30, 1993 when R&R resigned as investment adviser
to the Fund. The Fund paid R&R an advisory fee of $113,678 after a decrease of
$86,664 based on performance.

PORTFOLIO TRANSACTIONS The provisions of the agreement with Husic relating
to portfolio transactions are identical to those under the agreement between the
Fund and WMC, as described under "Portfolio Transactions."

The Fund's Board of Directors may, without the approval of shareholders,
provide for:

A. The employment of a new investment adviser pursuant to the terms of a
new advisory agreement, either as a replacement for an existing adviser or as an
additional adviser.

B. A change in the terms of an advisory agreement.

C. The continued employment of an existing adviser on the same advisory
contract terms where a contract has been assigned because of a change in control
of the adviser.

RELATED INFORMATION CONCERNING HUSIC Husic Capital Management, 555
California Street, Suite 2900, San Francisco, California 94104, a California
limited partnership founded in 1986, provides investment advisory services to
investment companies, other institutions, and individuals. Frank J. Husic,
managing partner, is a controlling person of Husic. Husic's general partner is
Frank J. Husic & Co., a California corporation that is wholly owned by Frank J.
Husic. As of July 1, 1993, Husic provided investment advisory services to
clients having assets with an approximate value of $2.2 billion.

PORTFOLIO TRANSACTIONS

The investment advisory agreements authorize the Advisers (with the
approval of the Fund's Board of Directors) to select the brokers or dealers that
will execute the purchases and sales of portfolio securities for the Fund and
directs the Advisers to use their best efforts to obtain the best available
price and most favorable execution as to all transactions for the Fund. The
Advisers have undertaken to execute each investment transaction at a price and
commission which provides the most favorable total cost or proceeds reasonably
obtainable under the circumstances. During the fiscal years ended December 31,
1991, 1992 and 1993 the Fund paid $1,025,516, $1,402,721 and $1,577,672,
respectively, in brokerage commissions.

In placing portfolio transactions, the Advisers will use their best
judgment to choose the broker most capable of providing the brokerage services
necessary to obtain best available price and most favorable execution. The full
range

15
<PAGE> 16

and quality of brokerage services available will be considered in making these
determinations. In those instances where it is reasonably determined that more
than one broker can offer the brokerage services needed to obtain the best
available price and most favorable execution, consideration may be given to
those brokers which supply investment research and statistical information and
provide other services in addition to execution services to the Fund and/or the
Advisers. The Advisers consider such information useful in the performance of
their obligations under the agreement but are unable to determine the amount by
which such services may reduce its expenses.

The investment advisory agreements also incorporate the concepts of Section
28(e) of the Securities Exchange Act of 1934 by providing that, subject to the
approval of the Fund's Board of Directors, the Advisers may cause the Fund to
pay a broker-dealer which furnishes brokerage and research services a higher
commission than that which might be charged by another broker-dealer for
effecting the same transaction; provided that such commission is deemed
reasonable in terms of either that particular transaction or the overall
responsibilities of the Advisers to the Fund and the other Funds in the Group.

Currently, it is the Fund's policy that the Advisers may at times pay
higher commissions in recognition of brokerage services felt necessary for the
achievement of better execution of certain securities transactions that
otherwise might not be available. The Advisers will only pay such higher
commissions if they believe this to be in the best interest of the Fund. Some
brokers or dealers who may receive such higher commissions in recognition of
brokerage services related to execution of securities transactions are also
providers of research information to the Advisers and/or the Fund. However, the
Advisers have informed the Fund that they will not pay higher commission rates
specifically for the purpose of obtaining research services.

Since the Fund does not market its shares through intermediary brokers or
dealers, it is not the Fund's practice to allocate brokerage or principal
business on the basis of sales of its shares which may be through such firms.
However, the Fund may place portfolio orders with qualified broker-dealers who
recommend the Fund to other clients, or who act as agent in the purchase of the
Fund's shares for their clients, and may, when a number of brokers and dealers
can provide comparable best price and execution on a particular transaction,
consider the sale of Fund shares by a broker or dealer in selecting among
qualified broker-dealers.

Some securities considered for investment by the Fund may also be
appropriate for other Funds and/or clients served by the Advisers. If purchase
or sale of securities consistent with the investment policies of the Fund and
one or more of these other Funds or clients serviced by the Advisers are
considered at or about the same time, transactions in such securities will be
allocated among the several Funds and clients in a manner deemed equitable by
the Advisers.

YIELD AND TOTAL RETURN

The yield of the Fund for the 30 day period ended December 31, 1993 was
+1.16%.

The average annual total return of the Fund for the one, five and ten year
periods ending December 31, 1993 was +7.32%, +12.93% and +12.03%, respectively.
Total return is computed by finding the average compounded rates of return over
the one, five and ten year periods set forth above that would equate an initial
amount invested at the beginning of the periods to the ending redeemable value
of the investment.

PERFORMANCE MEASURES

There are a number of different ways to measure the performance of a mutual
fund. One of the these methods is to calculate the current yield of a fund or
portfolio. This is done by dividing the total amount of dividends per share paid
by a fund during the past twelve months by a current offering price (including
the sales charge, if any). Under certain circumstances, such as when there has
been a fundamental change in investment or dividend policies, it might be
appropriate to annualize the dividends paid over the period such policies were
in effect, rather than using the dividends paid during the past twelve months.
An alternate method is to calculate a compound yield. This is derived by
computing the total compounded dividends paid by a fund during the past twelve
months on the assumption that all dividends were reinvested in additional shares
(and giving no effect to capital gains distributions or taxes) and dividing this
by a current offering price. Another method is to calculate the total return by
dividing the change in value of an investment in shares over a period of time
(generally ten years or more), assuming the reinvestment of all dividends and

16
<PAGE> 17

capital gains distributions, by the original net asset value of the shares.
Regardless of the method used, past performance is not necessarily indicative of
future results, but are an indication of the return to shareholders only for the
limited historical period used.

From time to time, advertisements, reports and promotional literature
regarding the Fund may compare its yield or total return (as calculated above)
to yields or returns reported by other investments and to various indices and
averages to assist an investor's calculation of how an investment in the Fund
might satisfy his investment objectives.

COMPARATIVE INDEXES

Each of the investment company members of the Vanguard Group, including
Vanguard/Morgan Growth Fund, Inc., may, from time to time, use one or more of
the following unmanaged indices for comparative performance purposes.

VANGUARD GROWTH STOCK INDEX -- The Index is composed of the various common
stocks that are held in the Portfolios of the approximately 250 growth stock
mutual funds monitored by Morningstar, Inc. The percentage weighting of each
stock in each Fund is summed across all Funds within the universe and then
divided by the number of Funds within the universe. To calculate the total
return of the Index, the total return of each stock is multiplied by the stock's
weighting in the Index at the beginning of the period for which total return is
being calculated. This value represents each stock's contribution to the return
of the Index and the total of such contributions is equal to the total return of
the Index. Under an agreement with the Fund, Morningstar, Inc. develops the
composition of the Index and its total return each quarter. Neither Vanguard
Group, Inc. WMC, Franklin, nor Roll & Ross are affiliated with Morningstar in
any way.

STANDARD AND POOR'S 500 COMPOSITE STOCK PRICE INDEX -- is a well diversified
list of 500 companies representing the U.S. Stock Market.

WILSHIRE 5000 EQUITY INDEXES -- consists of nearly 5,000 common equity
securities, covering all stocks in the U.S. for which daily pricing is
available.

WILSHIRE 4500 EQUITY INDEX -- consists of all stocks in the Wilshire 5000 except
for the 500 stocks in the Standard and Poor's 500 Index.

MORGAN STANLEY CAPITAL INTERNATIONAL EAFE INDEX -- is an arithmetic, market
value-weighted average of the performance of over 900 securities listed on the
stock exchanges of countries in Europe, Australia and the Far East.

GOLDMAN SACHS 100 CONVERTIBLE BOND INDEX -- currently includes 67 bonds and 33
preferreds. The original list of names was generated by screening for
convertible issues of 100 million or greater in market capitalization. The index
is priced monthly.

SALOMON BROTHERS GNMA INDEX -- includes pools of mortgages originated by private
lenders and guaranteed by the mortgage pools of the Government National Mortgage
Association.

SALOMON BROTHERS HIGH-GRADE CORPORATE BOND INDEX -- consists of publicly issued,
non-convertible corporate bonds rated AA or AAA. It is a value-weighted, total
return index, including approximately 800 issues with maturities of 12 years or
greater.

SHEARSON LEHMAN LONG-TERM TREASURY BOND -- is composed of all bonds covered by
the Shearson Lehman Hutton Treasury Bond Index with maturities of 10 years or
greater.

MERRILL LYNCH CORPORATE & GOVERNMENT BOND -- consists of over 4,500 U.S.
Treasury, Agency and investment grade corporate bonds.

SHEARSON LEHMAN CORPORATE (BAA) BOND INDEX -- all publicly offered fixed rate,
nonconvertible domestic corporate bonds rated Baa by Moody's, with a maturity
longer than 1 year and with more than $25 million outstanding. This index
includes over 1,000 issues.

BOND BUYER MUNICIPAL INDEX (20 YEAR) BOND -- is a yield index on current coupon
high grade general obligation municipal bonds.

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STANDARD & POOR'S PREFERRED INDEX -- is a yield index based upon the average
yield for four high grade, non-callable preferred stock issues.

NASDAQ INDUSTRIAL INDEX -- is composed of more than 3,000 industrial issues. It
is a value-weighted index calculated on price change only and does not include
income.

COMPOSITE INDEX -- 70% Standard & Poor's 500 Index and 30% NASDAQ Industrial
Index.

COMPOSITE INDEX -- 35% Standard & Poor's 500 Index and 65% Salomon Brothers High
Grade Bond Index.

COMPOSITE INDEX -- 65% Standard & Poor's 500 Index and 35% Salomon Brothers High
Grade Bond Index.

RUSSELL 2000 SMALL COMPANY STOCK INDEX -- consists of the smallest 2,000 stocks
within the Russell 3000; a widely used benchmark for small capitalization common
stocks.

LIPPER BALANCED FUND AVERAGE -- An industry benchmark of average balanced funds
with similar investment objectives and policies, as measured by Lipper
Analytical Services, Inc.

LIPPER NON-GOVERNMENT MONEY MARKET FUND AVERAGE -- An industry benchmark of
average non-government money market funds with similar investment objectives and
policies, as measured by Lipper Analytical Services, Inc.

LIPPER GOVERNMENT MONEY MARKET FUND AVERAGE -- An industry benchmark of average
government money market funds with similar investment objectives and policies,
as measured by Lipper Analytical Services, Inc.

LIPPER SMALL COMPANY GROWTH FUND AVERAGE -- the average performance of small
company growth funds as defined by Lipper Analytical Services, Inc. Lipper
defines a small company growth fund as a fund that by prospectus or portfolio
practice, limits its investments to companies on the basis of the size of the
company. From time to time, Vanguard may advertise using the average performance
and/or the average expense ratio of the small company growth funds. (This fund
category was first established in 1982. For years prior to 1982, the results of
the Lipper Small Company Growth category were estimated using the returns of the
Funds that constituted the Group at its inception.)

LEHMAN BROTHERS AGGREGATE BOND INDEX -- is a market weighted index that contains
individually priced U.S. Treasury, agency, corporate, and mortgage pass-through
securities corporate rated BBB- or better. The Index has a market value of over
$4 trillion.

LEHMAN BROTHERS MUTUAL FUND SHORT (1-5) GOVERNMENT/CORPORATE INDEX -- is a
market weighted index that contains individually priced U.S. Treasury, agency,
and corporate investment grade bonds rated BBB- or better with maturities
between 1 and 5 years. The index has a market value of over $1.3 trillion.

LEHMAN BROTHERS MUTUAL FUND INTERMEDIATE (5-10) GOVERNMENT/CORPORATE INDEX -- is
a market weighted index that contains individually priced U.S. Treasury, agency,
and corporate securities rated BBB- or better with maturities between 5 and 10
years. The index has a market value of over $600 billion.

LEHMAN BROTHERS MUTUAL FUND LONG (10+) GOVERNMENT/CORPORATE INDEX -- is a market
weighted index that contains individually priced U.S. Treasury, agency and
corporate securities rated BBB- or better with maturities greater than 10 years.
The index has a market value of over $900 billion.

RUSSELL 3000 INDEX -- consists of the 3,000 largest stocks of U.S. domiciled
companies commonly traded on the New York and American Stock Exchanges or the
NASDAQ over-the-counter market, accounting for over 90% of the market value of
publicly traded Stocks in the U.S.

Advertisements which refer to the use of the Fund as a potential investment
for Individual Retirement Accounts may quote a total return based upon
compounding of dividends on which it is presumed no federal income tax applies.

In assessing such comparisons of yields, an investor should keep in mind
that the composition of the investments in the reported averages is not
identical to the Fund's Portfolio and that the items included in the
calculations of such averages may not be identical to the formula used by the
Fund to calculate its yield. In addition there can be no assurance that the Fund
will continue its performance as compared to such other averages.

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FINANCIAL STATEMENTS

The Fund's financial statements for the year ended December 31, 1993,
including the financial highlights for each of the five fiscal years in the
period ended December 31, 1993, appearing in the Vanguard/Morgan Growth Fund
1993 Annual Report to Shareholders, and the report thereon of Price Waterhouse,
independent accountants, also appearing therein, are incorporated by reference
in this Statement of Additional Information. The Fund's 1993 Annual Report to
Shareholders is enclosed with this Statement of Additional Information.