January 22, 1996
Dear Fellow Shareholder:
The Merger Fund had a good year. As previously reported, the Fund's NAV rose
14.3% in the fiscal year ended November 30. For calendar 1995, we were up 14.2%.
In contrast to virtually all other equity mutual funds, our results last year
owed little to the bull market. Because we routinely hedge against market risk
in stock-for-stock acquisitions, our approach to merger arbitrage offers few
opportunities for "windfalls." It is this same discipline, however, that has
served the Fund well - and will do so again - in less favorable market
environments.
M&A activity ran at record levels in 1995, and the Fund invested in 114 new
mergers, takeovers and other corporate reorganizations. By year-end, 100 of
these positions had been closed out at a profit or showed unrealized gains,
while only seven had resulted in realized losses. There were many other failed
deals last year, but our selectivity kept us out of them.
Continuing a trend seen in recent years, almost all of last year's acquisitions
were strategic in nature. Highly leveraged, financially driven transactions
involving public companies remained few and far between. The paucity of LBOs and
the surge in stock prices are closely linked; the gap between private market
values and public market values has been closed, if not reversed. For the same
reason, stock is still the currency of choice for the majority of corporate
acquirers.
As shown in the accompanying financial statements, The Merger Fund's holdings at
the end of fiscal 1995 were well diversified by industry, although investments
in the financial services sector continue to represent a sizable percentage of
our portfolio. Our year-end financials also reflect a further decline in the
Fund's expense ratio to 1.41%, down from 1.58% in fiscal 1994. Our expense
ratio is now in line with the industry average for growth funds. While this key
ratio will move somewhat lower as our assets grow, we also recognize that too-
rapid growth could jeopardize the Fund's returns. Before that happens, however,
we would close the Fund to new investors.
Underscoring the perceived importance of strategic acquisitions, a number of
blue-chip companies, including IBM, Wells Fargo, Moore Corp., Johnson & Johnson
and Glaxo, launched hostile takeover attempts last year. In an increasingly
competitive marketplace, corporate culture has undergone a dramatic
transformation; hostile takeovers are now viewed as just one more arrow in the
corporate quiver. Of course, not all of these deals, whether hostile or
friendly, will stand the test of time, but as long as buyers remain highly
motivated, The Merger Fund should benefit from a continuing stream of attractive
investment opportunities. The consolidation of Corporate America appears to have
a long way to go.
Sincerely,
/s/ Frederick W. Green
Frederick W. Green
President
Comparison of Change in Value of $10,000 Investment
in the Merger Fund and the S&P 500.
One Year
- --------
S&P 500 The Merger Fund
-------- ---------------
11/94 10,000 10,000
10,148 10,120
10,411 10,311
2/95 10,817 10,434
11,140 10,503
11,468 10,433
5/95 11,927 10,502
12,201 10,681
12,603 10,884
8/95 12,641 11,025
13,175 11,202
13,127 11,232
11/95 13,704 11,426
Five Years
- -----------
S&P 500 The Merger Fund
-------- ---------------
11/90 10,000 10,000
10,279 10,115
10,726 10,161
2/91 11,493 10,190
11,771 10,489
11,799 10,778
5/91 12,308 10,843
11,744 11,012
12,292 11,217
8/91 12,583 11,282
12,373 11,301
12,539 11,394
11/91 12,034 11,684
13,410 11,818
13,160 12,016
2/92 13,330 12,016
13,071 12,085
13,455 12,075
5/92 13,521 12,006
13,320 11,936
13,864 12,302
8/92 13,580 12,441
13,740 12,540
13,787 12,639
11/92 14,256 12,203
14,431 12,449
14,552 12,709
2/93 14,750 12,793
15,062 12,730
14,698 12,897
5/93 15,091 13,063
15,135 13,428
15,074 13,691
8/93 15,648 13,847
15,526 13,941
15,847 14,150
11/93 15,696 14,307
15,886 14,656
16,426 14,825
2/94 15,979 14,769
15,282 14,803
15,478 14,961
5/94 15,732 15,063
15,346 15,199
15,850 15,346
8/94 16,500 15,606
16,095 15,696
15,458 15,628
11/94 15,858 15,515
16,093 15,702
16,510 15,998
2/95 17,154 16,189
17,660 16,296
18,179 16,188
5/95 18,906 16,295
19,341 16,572
19,979 16,887
8/95 20,039 17,106
20,885 17,380
20,810 17,427
11/95 21,723 17,721
10 YEAR
- --------
S&P 500 The Merger Fund
-------- ---------------
1/89 10,000 10,000
9,751 10,099
9,978 10,396
10,496 10,472
5/89 10,921 10,540
10,859 10,676
11,840 10,913
8/89 12,071 11,168
12,022 10,625
11,743 10,184
11/89 11,982 10,209
12,270 10,680
11,446 10,057
2/90 11,594 10,226
11,901 10,571
11,604 10,637
5/90 12,735 10,917
12,649 10,973
12,609 10,739
8/90 11,469 10,683
10,911 9,871
10,865 10,179
11/90 11,568 10,674
11,890 10,796
12,407 10,846
2/91 13,295 10,876
13,617 11,195
13,649 11,504
5/91 14,238 11,574
13,585 11,754
14,219 11,973
8/91 14,556 12,043
14,312 12,063
14,504 12,162
11/91 13,920 12,471
15,512 12,614
15,223 12,825
2/92 15,420 12,825
15,120 12,899
15,564 12,889
5/92 15,640 12,815
15,407 12,741
16,037 13,131
8/92 15,709 13,279
15,893 13,385
15,948 13,490
11/92 16,491 13,028
16,693 13,288
16,833 13,566
2/93 17,062 13,655
17,423 13,588
17,001 13,766
5/93 17,456 13,944
17,507 14,333
17,437 14,613
8/93 18,099 14,781
17,960 14,881
18,331 15,104
11/93 18,156 15,271
16,376 16,644
19,001 15,825
2/94 18,484 15,764
17,678 15,801
17,904 15,970
5/94 18,198 16,078
17,752 16,223
18,334 16,380
8/94 19,086 16,658
18,618 16,754
19,037 16,682
11/94 18,344 16,561
18,616 16,760
19,098 17,077
2/95 19,843 17,280
20,428 17,394
21,029 17,279
5/95 21,870 17,393
22,373 17,689
23,111 18,025
8/95 23,181 18,259
24,159 18,551
24,072 18,601
11/95 25,129 18,920
THE MERGER FUND
SCHEDULE OF INVESTMENTS
NOVEMBER 30, 1995
Shares Value
------- ------
COMMON STOCKS - 90.7% <F1>
BANKS - 19.1% <F1>
208,800 Civic BanCorp <F2><F4> $ 1,592,104
76,300 First Interstate Bancorp <F5> 10,224,200
283,231 Fleet Financial Group, Inc. 11,824,881
219,500 Midlantic Corporation Inc. 13,197,438
46,500 Pacific Bank N.A. 778,875
371,730 Premier Bancorp, Inc. 8,782,121
-----------
46,399,619
-----------
BROADCASTING - 6.9% <F1>
33,375 CAI Wireless Systems, Inc. <F2> 287,859
113,700 Capital Cities/ABC, Inc. <F4> 14,056,163
54,900 Outlet Communications, Inc. <F2> <F4> 2,566,575
-----------
16,910,597
-----------
BUSINESS FORMS - 3.1% <F1>
130,000 Wallace Computer Services, Inc. 7,507,500
-----------
COMPUTER HARDWARE - 5.6% <F1>
302,300 Conner Peripherals, Inc. <F2> 6,839,538
101,600 NetWorth, Inc. <F2> 4,241,800
35,000 Xylogics, Inc. <F2> 2,485,000
-----------
13,566,338
-----------
COMPUTER SOFTWARE - 3.2% <F1>
164,000 Minnesota Educational Computing
Corporation <F2> 5,412,000
92,110 Symantec Corporation <F2> 2,440,915
-----------
7,852,915
-----------
FOREST PRODUCTS & PAPER - 5.6% <F1>
127,000 Federal Paper Board Company <F4> 6,604,000
122,644 Scott Paper Company 7,006,039
-----------
13,610,039
-----------
HEALTH SERVICES - 3.4% <F1>
254,400 Surgical Care Affiliates, Inc. $8,268,000
-----------
INDUSTRIAL GASES - 1.2% <F1>
83,700 CBI Industries, Inc.<F5> 2,814,413
-----------
INSURANCE & INVESTMENT MANAGEMENT - 12.1% <F1>
222,000 Capital Guaranty Corporation 4,911,750
29,700 GEICO Corporation 2,060,438
174,200 Independent Insurance Group, Inc. 4,676,181
218,100 Kemper Corporation 10,741,425
243,381 Liberty Financial Companies, Inc. 7,118,894
-----------
29,508,688
-----------
PHARMACEUTICALS - 0.0% <F1>
12,150 Lynx Therapeutics, Inc. <F2> 2,430
-----------
PUBLISHING - 2.3% <F1>
45,400 CCH Inc. - Class A 2,474,300
57,900 CCH Inc. - Class B 3,155,550
-----------
5,629,850
-----------
RAILROADS - 3.3% <F1>
331,740 Southern Pacific Rail Corporation <F2> <F4> 7,920,293
-----------
RETAIL - 2.1% <F1>
206,883 Younkers, Inc. <F2> 5,197,935
-----------
SAVINGS & LOANS - 13.1% <F1>
370,800 Bay Ridge Bancorp, Inc. <F2> 8,111,250
154,500 Brooklyn Bancorp, Inc. <F2> <F4> 6,218,625
159,700 Conestoga Bancorp, Inc. 3,213,963
96,000 First Federal Savings Bank of Brunswick, Georgia 2,976,000
66,000 Long Island Bancorp, Inc. <F5> 1,699,500
79,000 RS Financial Corporation 3,090,875
187,000 SFFed Corporation <F4> 5,820,375
21,700 Sunrise Bancorp, Inc. 683,550
-----------
31,814,138
-----------
SURGICAL DEVICES - 5.9% <F1>
135,500 Cordis Corporation <F2> <F5> $14,363,000
------------
TELECOMMUNICATIONS - 1.2% <F1>
87,250 Associated Group, Inc. - Class A 1,570,500
72,750 Associated Group, Inc. - Class B 1,309,500
------------
2,880,000
------------
TRANSACTION PROCESSING SERVICES - 1.6% <F1>
161,800 Comdata Holdings Corporation <F2> 3,883,200
------------
WRITING INSTRUMENTS - 1.0% <F1>
60,900 BIC Corporation <F4> 2,458,838
------------
TOTAL COMMON STOCKS (Cost $202,301,785) 220,587,793
------------
Contracts (100 shares per contract)
- -----------------------------------
PUT OPTIONS PURCHASED - 0.3% <F1>
2,832 Fleet Financial Group, Inc.
Expiration December 1995, Exercise Price $40.00 833,175
------------
TOTAL PUT OPTIONS PURCHASED (Cost $1,178,697) 833,175
------------
Principal Amount
- -----------------
SHORT-TERM INVESTMENTS - 8.0% <F1><F3>
U.S. TREASURIES -8.0% <F1>
U.S. Treasury Bills:
$15,200,000 4.29%, 12/07/95 15,187,325
4,200,000 5.00%, 12/14/95 4,192,038
------------
TOTAL SHORT-TERM INVESTMENTS (COST $19,379,363) 19,379,363
------------
TOTAL INVESTMENTS (COST $222,859,845) $240,800,331
============
<F1> Calculated as a percentage of net assets.
<F2> Non-income producing.
<F3> Securities have been committed as collateral for open short positions.
<F4> All or a portion of the shares have been committed as collateral for the
credit facility.
<F5> Securities have been committed as collateral for written call options.
See notes to the financial statements.
THE MERGER FUND
SCHEDULE OF CALL OPTIONS WRITTEN
NOVEMBER 30, 1995
Contracts (100 shares per contract) Value
- ----------------------------------- -------
600 CBI Industries
Expiration January 1995, Exercise Price $35.00 $ 27,188
--------
Cordis Corporation:
706 Expiration December 1995, Exercise Price $105.00 92,663
313 Expiration December 1995, Exercise Price $110.00 1,956
--------
94,619
--------
First Interstate Bancorp:
242 Expiration December 1995, Exercise Price $120.00 347,875
150 Expiration December 1995, Exercise Price $125.00 142,500
50 Expiration December 1995, Exercise Price $130.00 26,250
150 Expiration January 1996, Exercise Price $125.00 160,312
171 Expiration January 1996, Exercise Price $130.00 117,562
--------
794,499
--------
Long Island Bancorp
600 Expiration January 1996, Exercise Price $25.00 97,500
--------
TOTAL CALL OPTIONS WRITTEN
(Premiums received $1,617,928) $1,013,806
==========
See notes to the financial statements.
THE MERGER FUND
SCHEDULE OF SECURITIES SOLD SHORT
NOVEMBER 30, 1995
Shares Value
------ -------
229,640 Banc One Corporation $ 8,755,025
55,125 Bay Networks, Inc. 2,480,625
92,226 Ceridian Corporation 3,873,492
113,700 The Walt Disney Company 6,836,212
62,800 Financial Security Assurance Holdings Ltd. 1,640,650
226,000 HEALTHSOUTH Rehabilitation Corporation 6,836,500
25,400 International Paper Company 968,375
93,704 Kimberly-Clark Corporation 7,203,495
39,750 Liberty Media Class A 1,113,000
449,805 PNC Bank Corporation 13,156,796
202,680 Proffitts, Inc. 5,472,360
133,622 Seagate Technology, Inc. 7,048,561
62,200 Softkey International, Inc. 2,099,250
92,030 Symantec Corporation 2,438,795
156,500 Tele-Communications, Inc. 2,895,250
107,450 Union Pacific Corporation 7,279,738
-----------
TOTAL SECURITIES SOLD SHORT
(Proceeds $71,952,942) $80,098,124
===========
See notes to the financial statements.
THE MERGER FUND
STATEMENT OF ASSETS AND LIABILITIES
NOVEMBER 30, 1995
ASSETS:
Investments, at value (Cost $222,859,845)
See accompanying schedule $240,800,331
Cash 97,052
Deposit at broker for short sales 51,000,028
Receivable from broker for proceeds on securities
sold short 80,900,037
Receivable for investments sold 217,340
Interest receivable 134,669
Dividends receivable 194,844
Other receivables 106,124
-----------
Total Assets 373,450,425
LIABILITIES:
Loan payable (Note 10) $27,900,000
Securities sold short, at value (Proceeds of
$71,952,942) See accompanying schedule 80,098,124
Payable for investment securities purchased 15,413,826
Short-term borrowings 5,100,000
Call options written, at value (Premiums
received $1,617,928) See accompanying schedule 1,013,806
Accrued interest payable 451,173
Investment advisory fee payable 202,320
Distribution fees payable 18,505
Accrued expenses and other payables 170,404
-----------
Total Liabilities 130,368,158
-----------
NET ASSETS $243,082,267
===========
NET ASSETS consist of:
Accumulated undistributed net investment income $ 1,031,840
Accumulated undistributed net realized gain on
investments sold, securities sold short and
option contracts expired or closed 12,375,064
Net unrealized appreciation (depreciation) on:
Investments 17,940,486
Short positions (8,145,182)
Call options 604,122
Paid-in capital 219,275,937
------------
Total Net Assets $243,082,267
============
NET ASSET VALUE, offering price and redemption price
per share ($243,082,267/16,348,772 shares of
beneficial interest outstanding) $14.87
======
See notes to the financial statements.
THE MERGER FUND
STATEMENT OF OPERATIONS
FOR THE YEAR ENDED NOVEMBER 30, 1995
INVESTMENT INCOME:
Interest $ 6,657,217
Dividend income on long positions
(net of foreign withholding taxes of $29,408) 2,323,672
-----------
Total Investment Income 8,980,889
-----------
EXPENSES:
Investment advisory fee $2,040,921
Distribution fees 122,593
Transfer agent and shareholder servicing agent fees 247,023
Federal and state registration fees 56,035
Professional fees 133,028
Trustees+ fees and expenses 20,192
Custody fees 53,079
Administration fee 94,423
Reports to shareholders 64,179
Other 40,004
---------
Total Operating Expenses Before Interest
Expense and Dividends on Short Positions 2,871,477
Interest expense 3,897,408
Dividends on short positions
(net of foreign withholding taxes of $9,972) 1,047,438
-----------
Total Expenses 7,816,323
-----------
NET INVESTMENT INCOME 1,164,566
-----------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS:
Realized gain (loss) on:
Long transactions 24,665,194
Short transactions (10,675,531)
Options contracts expired or closed (1,445,616)
------------
Total Realized Gain 12,544,047
Change in unrealized appreciation (depreciation) on:
Investments 23,590,640
Short positions (11,142,607)
Call options 555,421
-------------
NET REALIZED AND UNREALIZED GAIN ON INVESTMENTS 25,547,501
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $ 26,712,067
============
See notes to the financial statements.
THE MERGER FUND
STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED NOVEMBER 30, 1995
CASH PROVIDED (USED) BY FINANCING ACTIVITIES:
Sales of Capital Shares $ 172,107,462
Repurchases of Capital Shares (125,534,792)
-------------
Cash Provided by Capital Share Transactions 46,572,670
Cash Used to Repay Borrowings (23,090,000)
Distributions Paid in Cash <F6> (546,649)
-------------
$22,936,021
-----------
CASH (USED) PROVIDED BY OPERATIONS:
Purchases of Portfolio Securities (804,433,234)
Net Purchases of Short-Term Investments (19,379,363)
Proceeds from Sales of Portfolio Securities 792,595,423
-------------
(31,217,174)
-------------
Decrease in Deposit at Broker for Short Sales 4,928,059
Net Investment Income 1,164,566
Net Change in Receivables/Payables related
to Operations (154,782)
-------------
5,937,843
-------------
(25,279,331)
-----------
Net Decrease in Cash (2,343,310)
Cash, Beginning of Year 2,440,362
-----------
Cash, End of Year $ 97,052
==========
<F6> Non-cash financing activities include reinvestment of
dividends of $8,066,925.
See notes to the financial statements.
THE MERGER FUND
STATEMENT OF CHANGES IN NET ASSETS
Year Ended Year Ended
Nov. 30, 1995 Nov. 30, 1994
------------- -------------
Net investment income (loss) $ 1,164,566 $ (27,595)
Net realized gain on investments sold,
securities sold short and
option contracts expired or closed 12,544,047 8,312,449
Change in unrealized appreciation
(depreciation) of investments,
short positions and call and put options 13,003,454 (3,238,901)
------------ ------------
Net increase in net assets resulting from
operations 26,712,067 5,045,953
Distributions to shareholders from:
Net realized gains (8,613,574) (2,034,795)
Net increase in net assets from capital
share transactions (Note 6) 54,639,595 142,159,845
------------ ------------
Net increase in net assets 72,738,088 145,171,003
NET ASSETS:
Beginning of period 170,344,179 25,173,176
------------ -----------
End of period (including accumulated
undistributed net investment income
(loss) of $1,031,840 and $(27,595),
respectively) $243,082,267 $170,344,179
============= ============
<TABLE>
THE MERGER FUND
FINANCIAL HIGHLIGHTS
Selected per share data is based on a share of beneficial interest outstanding throughout each year.
<CAPTION>
Year Ended November 30,
1995 1994 1993 1992 1991
------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
Net Asset Value,
beginning of year $13.72 $13.70 $12.34 $12.51 $11.43
------- ------- ------- ------- ------
Income from investment operations:
Net investment income (loss) 0.08 <F9><F10> - <F9><F10> (0.07)<F9><F10> (0.12) <F9> 0.02 <F9>
Net realized and unrealized gain
on investments 1.78 1.08 2.10 0.65 1.79
------ ------- ------- ------- ------
Total from investment operations 1.86 1.08 2.03 0.53 1.81
Less distributions:
Dividends from net investment income - - - (0.03) -
Distributions from net realized gains (0.71) (1.06) (0.67) (0.67) (0.73)
------- ------- ------- ------- -------
Total distributions (0.71) (1.06) (0.67) (0.70) (0.73)
------- ------- ------- ------- -------
Net Asset Value, end of year $14.87 $13.72 $13.70 $12.34 $12.51
====== ====== ====== ====== ======
Total Return 14.26% 8.41% 17.24% 4.45% 16.84%
Supplemental Data and Ratios:
Net assets, end of period (000+s) $243,082 $170,344 $25,173 $11,611 $10,281
Ratio of operating expenses
to average net assets 1.41% <F8> 1.58% <F8> 2.19% <F8> 2.75% <F8> 3.05% <F7><F8>
Ratio of interest expense and dividends on
short positions to average net assets 2.42% 1.72% 1.91% 2.28% 1.01%
Ratio of net investment income (loss) to
average net assets 0.57% (0.03)% (0.57)% (1.42)% 0.21%
Portfolio turnover rate <F11> 418.63% 390.34% 186.00% 231.40% 311.51%
<FN>
<F7> Reflects certain non-recurring expenses associated with the Fund's restructuring as of January 31, 1989.
<F8> For the years ended November 30, 1995, 1994, 1993, 1992 and 1991, the operating expense ratio
excludes interest expense and dividends on short positions. The ratios including interest expense
and dividends on short positions for the years ended November 30, 1995, 1994, 1993, 1992 and 1991,
were 3.83%, 3.30%, 4.10%, 5.03% and 4.06%, respectively.
<F9> Net investment income before interest expense and dividends on short positions for the years
ended November 30, 1995, 1994, 1993, 1992 and 1991, was $0.42, $0.21, $0.17, $0.07 and $0.10, respectively.
<F10>Net investment income (loss) per share represents net investment income for the respective year divided
by the monthly average shares of beneficial interest outstanding throughout each year.
<F11>The numerator for the portfolio turnover rate includes the lesser of purchases or sales (including both
long and short positions). The denominator includes the average long position throughout the year. The portfolio
turnover rate excluding short positions from the numerator for the year ended November 30, 1995 is 290.48%.
</TABLE>
THE MERGER FUND
NOTES TO THE FINANCIAL STATEMENTS NOVEMBER 30, 1995
NOTE 1 - ORGANIZATION
The Merger Fund (the "Fund") is a no-load, open-end, non-diversified
investment company organized as a trust under the laws of the Commonwealth
of Massachusetts on April 12, 1982, and registered under the Investment
Company Act of 1940 (the "1940 Act"), as amended. The Fund was formerly known
as the Risk Portfolio of The Ayco Fund. In January of 1989, the Fund's
fundamental policies were amended to permit the Fund to engage exclusively
in merger arbitrage. At the same time, Westchester Capital Management, Inc.
became the Fund's investment adviser, and the Fund began to do business
as The Merger Fund. Merger arbitrage is a highly specialized investment
approach generally designed to profit from the successful completion of
proposed mergers, takeovers, tender offers, leveraged buyouts, liquidations
and other types of corporate reorganizations.
NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements.
These policies are in conformity with generally accepted accounting
principles.
A. Investment Valuation
Investments in securities and commodities (including options) are valued
at the last sales price on the securities or commodities exchange on
which such financial instruments are primarily traded. Securities not
listed on an exchange or securities for which there were no transactions
are valued at the average of the current bid and asked prices. Securities
for which there are no such valuations are valued at fair value as
determined in good faith by management under the supervision
of the Board of Trustees. The investment adviser reserves the right to
value securities, including options, at prices other than last-sale
prices or the average of current bid and asked prices when such prices
are believed unrepresentative of fair market value as determined in good
faith by the adviser. Investments in United States government securities
(other than short-term securities) are valued at the average of the
quoted bid and asked prices in the over-the-counter market. Short term
investments are carried at amortized cost, which approximates market value.
B. Transactions with Brokers for Short Sales
Cash and Treasury securities in the amount of $70,379,391 have been
committed as collateral for open short investment positions and are
on deposit in segregated accounts with the broker and custodian.
The Fund's receivable from broker for proceeds on securities sold short
and deposit at broker for short sales is with one major security dealer.
The Fund does not require the broker to maintain collateral in support
of the receivable from broker for proceeds on securities sold short.
C. Federal Income Taxes
No provision for federal income taxes has been made since the Fund has complied
to date with the provisions of the Internal Revenue Code available to regulated
investment companies and intends to continue to so comply in future years.
D. Written Option Accounting
The Fund writes covered call options to hedge portfolio investments. When
the Fund sells an option, an amount equal to the premium received by the
Fund is included in the Statement of Assets and Liabilities as an asset
and an equivalent liability. The amount of the liability is subsequently
marked-to-market to reflect the current value of the option written.
Option contracts are valued at the last sales price reported on the
date of valuation. If no sale is reported the option contract written
is valued at the last asked price. When an option expires on its stipulated
expiration date or the Fund enters into a closing purchase transaction,
the Fund realizes a gain or loss if the cost of the closing purchase
transaction differs from the premium received when the option was sold
without regard to any unrealized gain or loss on the underlying security,
and the liability related to such option is eliminated. When an option
is exercised, the Fund realizes a gain or loss from the sale of the
underlying security, and the proceeds from such sale are increased by
the premium originally received.
E. Purchased Option Accounting
The Fund purchases put options to hedge portfolio investments. Premiums
paid for option contracts purchased are included in the Statement
of Assets and Liabilities as an asset. Option contracts are valued at
the last sales price reported on the date of valuation. If no sale is
reported, the option contract purchased is valued at the last bid price.
When option contracts expire or are closed, realized gains or losses
are recognized without regard to any unrealized gains or losses on
the underlying securities.
F. Distributions to Shareholders
Dividends from net investment income and net realized capital gains,
if any, are declared and paid annually.
G. Other
Investment and shareholder transactions are recorded no later than the first
business day after the trade date. Realized gains and losses from security
transactions are recorded on the identified cost basis. Dividend income and
distributions to shareholders are recorded on the ex-dividend date. Interest is
accounted for on the accrual basis. Investment income includes $4,821,286 of
interest earned on receivables from brokers for proceeds on securities sold
short and deposits. Generally accepted accounting principles require that
permanent financial reporting and tax differences be reclassified to capital
stock.
NOTE 3 - AGREEMENTS
The Fund's investment adviser is Westchester Capital Management, Inc.
(the "Adviser") pursuant to an investment advisory agreement dated
January 31, 1989. Under the terms of this agreement, the Adviser
is entitled to receive a fee, calculated daily and payable
monthly, at the annual rate of 1.00% of the Fund's average daily net assets.
Firstar Trust Company, a subsidiary of Firstar Corporation, a publicly
held bank holding company, serves as custodian, transfer agent, administrator
and accounting services agent for the Fund.
Distribution services are performed pursuant to distribution contracts with
Mercer Allied Company, L.P., the Fund's principal underwriter, and other
broker-dealers.
NOTE 4 - SHORT POSITIONS
The Fund may sell securities short for hedging purposes. For financial
statement purposes, an amount equal to the settlement amount is included in the
Statement of Assets and Liabilities as an asset and an equivalent liability.
The amount of the liability is subsequently marked-to-market to reflect the
current value of the short position. Subsequent fluctuations in the market
prices of securities sold, but not yet purchased, may require purchasing the
securities at prices which may differ from the market value reflected on the
Statement of Assets and Liabilities. The Fund is liable for any dividends
payable on securities while those securities are in a short position. As
collateral for its short positions, the Fund is required under the 1940 Act to
maintain segregated assets consisting of cash or liquid high-grade debt
obligations. These segregated assets are required to be adjusted daily to
reflect changes in the value of the securities sold short. At various times
throughout the year ended November 30, 1995, the Fund failed to adjust these
segregated assets to reflect fluctuations in the market value of its short
positions. As a result, the Fund did not always maintain sufficient segregated
assets as collateral for its short positions. At November 30, 1995, the short
positions of the Fund were undercollateralized by $7.3 million. As of January
11, 1996, this undercollateralization was rectified, and new procedures were
implemented to ensure that securities sold short are properly valued for
collateralization purposes.
NOTE 5 - RELATED PARTY TRANSACTIONS
William H. Bohnett, Esq., a partner of Fulbright & Jaworski L.L.P., serves as a
Trustee and Assistant Secretary of the Fund. Fulbright & Jaworski L.L.P.
furnishes legal services to the Fund. For the year ended November 30, 1995, the
Fund incurred $81,684 for such services.
Certain officers of the Fund are also officers of the Adviser.
NOTE 6 - SHARES OF BENEFICIAL INTEREST
The Trustees have the authority to issue an unlimited amount of shares of
beneficial interest without par value.
Changes in shares of beneficial interest were as follows:
Year Ended Year Ended
November 30, 1995 November 31, 1994
----------------------- ------------------------
Shares Amount Shares Amount
---------- ------------ ----------- -------------
Sold 12,380,985 $172,107,462 12,018,681 $161,946,089)
Issued as reinvestment
of dividends 617,682 8,066,925 150,407 1,941,752)
Redeemed (9,065,402) (125,534,792) (1,590,598) (21,727,996)
------------ -------------- ------------ -------------
Net increase 3,933,265 $54,639,595 10,578,490 $142,159,845)
============ ============ =========== =============
NOTE 7 - INVESTMENT TRANSACTIONS
Purchases and sales of securities for the year ended November 30, 1995
(excluding short-term investments and options) aggregated $809,230,749 and
$804,028,763, respectively.
At November 30, 1995, gross unrealized appreciation and depreciation of
investments for federal income tax purposes were:
Appreciation $19,347,762)
(Depreciation) (2,462,005)
-------------
Net unrealized appreciation on investments $16,885,757)
=============
At November 30, 1995, the cost of investments for federal income tax
purposes was $223,914,574.
NOTE 8 - OPTION CONTRACTS WRITTEN
The premium amount and the number of option contracts written during
the year ended November 30, 1995, were as follows:
Premium Number of
Amount Contracts
--------- -----------
Options outstanding at November 30, 1994 $ 113,951 540
Options written 7,275,690 19,036
Options closed (2,183,813) (5,649)
Options exercised (3,203,572) (8,714)
Options expired (384,328) (2,231)
------------ --------
Options outstanding at November 30, 1995 $1,617,928 2,982
============ ========
NOTE 9 - DISTRIBUTION PLAN
The Fund has adopted a Plan of Distribution (the "Plan") dated July 1, 1993,
as amended, pursuant to Rule 12b-1 under the Investment Company Act of 1940.
Under the Plan, the Fund will compensate its principal underwriter, Mercer
Allied Company, L.P. ("Mercer"), and any other broker-dealers with whom
Mercer or the Fund has entered into a contract to distribute Fund shares
("Dealers"). Under the Plan, the amount of compensation paid in any one year
shall not exceed 0.25% of the average daily net assets of the Fund, payable as
a service fee to Mercer and Dealers for providing personal service and
maintenance of shareholder accounts. For the year ended November 30, 1995, the
Fund incurred $122,593 pursuant to the Plan.
The Plan will remain in effect from year to year provided such continuance is
approved at least annually by a vote either of a majority of the Trustees,
including a majority of the non-interested Trustees, or a majority of the Fund's
outstanding shares.
NOTE 10 - CREDIT FACILITY
Custodial Trust Company has made available to the Fund a $125 million credit
facility pursuant to a Loan and Security Agreement ("Agreement") dated March 18,
1992, and amended January 1, 1995, for the purpose of purchasing portfolio
securities. The Agreement can be terminated by either the Fund or Custodial
Trust Company with three months' prior notice. Outstanding principal amounts
under the credit facility bear interest at a rate per annum of 0.50% plus the
Broker Call Rate quoted by Bear Stearns Securities Corp. at its office in New
York on credit extended up to $25 million on any given day and the Broker Call
Rate plus 0.25% for the amount of the loan which exceeds $25 million (weighted
average rate of 7.18% during the year ended November 30, 1995). Advances are
collateralized by securities owned by the Fund and held separately in a special
custody account pursuant to a Special Custody Agreement dated March 31, 1994.
During the year ended November 30, 1995, the Fund had an outstanding average
daily balance of $52,480,055. The maximum amount outstanding during the year
ended November 30, 1995, was $104,900,000. Interest expense amounted to
$3,897,408 for the year ended November 30, 1995. At November 30, 1995, the Fund
had a loan payable balance of $27,900,000, and the securities collateralizing
the Agreement amounted to $43,849,643.
The Fund had short-term borrowings at November 30, 1995, in the amount of
$5,100,000 from Firstar Corporation. The short-term borrowings were repaid
within seven days.
Pursuant to the 1940 Act, the Fund is required to satisfy asset coverage
requirements on its outstanding borrowings. At November 30, 1995, the Fund
satisfied all asset coverage requirements of the 1940 Act.
NOTE 11 - DISTRIBUTION
On December 28, 1995, an ordinary income distribution of $.902 per share
aggregating $14,741,869 was declared. The distribution was paid on December 28,
1995, to shareholders of record on December 27, 1995. Fifteen percent of the
dividends paid qualifies for the dividend received deduction available to
corporate shareholders.
END OF NOTES TO FINANCIAL STATEMENTS
Effective October 31, 1995, Grant Thornton L.L.P. was terminated as the Fund's
independent accountants. For the years ended November 30, 1991 through November
30, 1994, Grant Thornton L.L.P. expressed an unqualified opinion on the Fund's
financial statements. There were no disagreements between Fund management and
Grant Thornton L.L.P. prior to their termination. The Board of Trustees
approved the termination of Grant Thornton L.L.P. and the appointment of Price
Waterhouse L.L.P. as the Fund's independent accountants.
REPORT OF INDEPENDENT ACCOUNTANTS
TO THE BOARD OF TRUSTEES
AND SHAREHOLDERS OF
THE MERGER FUND
In our opinion, the accompanying statement of assets and liabilities, including
the schedules of investments, of call options written and of securities sold
short, and the related statements of operations, of cash flows and of changes
in net assets and the financial highlights present fairly, in all material
respects, the financial position of The Merger Fund (the "Fund") at November
30, 1995, the results of its operations, its cash flows, and the changes in its
net assets and the financial highlights for the year then ended, in conformity
with generally accepted accounting principles. These financial statements and
financial highlights (hereafter referred to as "financial statements")
are the responsibility of the Fund's management; our responsibility is to
express an opinion on these financial statements based on our audit. We
conducted our audit of these financial statements in accordance with generally
accepted auditing standards which require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audit, which included confirmation of securities at November 30, 1995 by
correspondence with the custodian and brokers, provides a reasonable basis for
the opinion expressed above. The financial statements of The Merger Fund for
the years ended November 30, 1991 through November 30, 1994 were audited by
other independent accountants whose report dated December 21, 1994 expressed an
unqualified opinion on those statements.
/s/ Price Waterhouse LLP
Price Waterhouse LLP
Milwaukee, Wisconsin
January 11, 1996
Investment Adviser
Westchester Capital Management, Inc.
100 Summit Lake Drive
Valhalla, NY 10595
(914) 741-5600
Administrator, Transfer Agent, Dividend Paying Agent,
Shareholder Servicing Agent & Custodian Firstar Trust Company
P.O. Box 701
Milwaukee, WI 53201-0701
(800) 343-8959
Trustees
Frederick W. Green
William H. Bohnett
Michael J. Downey
James P. Logan III
Frank A. McDermott, Jr.
Executive Officers
Frederick W. Green, President
Bonnie L. Smith, Vice President, Treasurer and Secretary
Counsel
Fulbright & Jaworski L.L.P.
666 Fifth Avenue
New York, NY 10103
Auditors
Price Waterhouse LLP
100 E. Wisconsin Avenue
Suite 1500
Milwaukee, WI 53202
The Merger Fund
Annual Report
November 30, 1995
[ARTICLE] 6
[CIK] 0000701804
[NAME] THE MERGER FUND
[MULTIPLIER] 1000
<TABLE>
<S> <C>
[PERIOD-TYPE] 12-MOS
[FISCAL-YEAR-END] NOV-30-1995
[PERIOD-START] DEC-01-1994
[PERIOD-END] NOV-30-1995
[INVESTMENTS-AT-COST] 222,860
[INVESTMENTS-AT-VALUE] 240,800
[RECEIVABLES] 132,553
[ASSETS-OTHER] 97
[OTHER-ITEMS-ASSETS] 0
[TOTAL-ASSETS] 373,450
[PAYABLE-FOR-SECURITIES] 15,414
[SENIOR-LONG-TERM-DEBT] 27,900
[OTHER-ITEMS-LIABILITIES] 87,054
[TOTAL-LIABILITIES] 130,368
[SENIOR-EQUITY] 0
[PAID-IN-CAPITAL-COMMON] 219,276
[SHARES-COMMON-STOCK] 16,349
[SHARES-COMMON-PRIOR] 12,416
[ACCUMULATED-NII-CURRENT] 1,032
[OVERDISTRIBUTION-NII] 0
[ACCUMULATED-NET-GAINS] 12,375
[OVERDISTRIBUTION-GAINS] 0
[ACCUM-APPREC-OR-DEPREC] 10,399
[NET-ASSETS] 243,082
[DIVIDEND-INCOME] 2,324
[INTEREST-INCOME] 6,657
[OTHER-INCOME] 0
[EXPENSES-NET] 7,816
[NET-INVESTMENT-INCOME] 1,165
[REALIZED-GAINS-CURRENT] 12,544
[APPREC-INCREASE-CURRENT] 13,003
[NET-CHANGE-FROM-OPS] 26,712
[EQUALIZATION] 0
[DISTRIBUTIONS-OF-INCOME] 0
[DISTRIBUTIONS-OF-GAINS] 8,614
[DISTRIBUTIONS-OTHER] 0
[NUMBER-OF-SHARES-SOLD] 12,381
[NUMBER-OF-SHARES-REDEEMED] 9,065
[SHARES-REINVESTED] 617
[NET-CHANGE-IN-ASSETS] 72,738
[ACCUMULATED-NII-PRIOR] (28)
[ACCUMULATED-GAINS-PRIOR] 8,139
[OVERDISTRIB-NII-PRIOR] 0
[OVERDIST-NET-GAINS-PRIOR] 0
[GROSS-ADVISORY-FEES] 2,041
[INTEREST-EXPENSE] 3,897
[GROSS-EXPENSE] 7,816
[AVERAGE-NET-ASSETS] 204,273
[PER-SHARE-NAV-BEGIN] 13.72
[PER-SHARE-NII] 0.08
[PER-SHARE-GAIN-APPREC] 1.78
[PER-SHARE-DIVIDEND] 0
[PER-SHARE-DISTRIBUTIONS] 0.71
[RETURNS-OF-CAPITAL] 0
[PER-SHARE-NAV-END] 14.87
[EXPENSE-RATIO] 1.41
[AVG-DEBT-OUTSTANDING] 52,480
[AVG-DEBT-PER-SHARE] 3.58
</TABLE>
