Value Investing In Small Companies For Over 20 Years
THE
ROYCE
FUNDS
Pennsylvania Mutual Fund
PMF II
Royce GiftShares Fund
1997 Semi-Annual Report
<PAGE>
THE ROYCE FUNDS ROAD MAP
- --------------------------------------------------------------------------------
FOR OVER TWENTY YEARS, ROYCE & ASSOCIATES HAS FOCUSED EXCLUSIVELY ON SMALL AND
MICRO-CAP INVESTING. WHILE WE OFFER A VARIETY OF FUNDS, WE REMAIN COMMITTED TO A
RISK-AVERSE INVESTMENT STYLE. SINCE 1990, THE FIRM HAS DEVOTED ITS ENERGIES TO
TWO PORTFOLIO STRATEGIES.
^ TWO CORE PORTFOLIO STRATEGIES
CONCENTRATED SMALL-CAP MICRO-CAP
ROYCE PREMIER ROYCE MICRO-CAP
Small-Cap Orientation Micro-Cap Orientation
Concentrated Portfolio Broadly Diversified Portfolio
Portfolios revolve around two main criteria: CAPITALIZATION (small or
micro-cap) and CONCENTRATION. The small-cap universe (companies with market
caps between $300 million and $1 billion) is no longer small, unknown or
under-owned; therefore, WE BELIEVE THAT THIS GREATER LEVEL OF EFFICIENCY
REQUIRES GREATER PORTFOLIO CONCENTRATION. The micro-cap universe (companies
with market caps between $5 million and $300 million) provides more choices
(approximately 7,000 companies), yet greater trading difficulties;
therefore, WE BELIEVE THAT BROAD DIVERSIFICATION IS REQUIRED GIVEN THE
LIQUIDITY CONSTRAINTS OF THIS SECTOR.
^ OPPORTUNISTIC THEMES
ROYCE TOTAL RETURN ROYCE LOW-PRICED
Dividend-Paying Securities Stocks Below $15
We have identified two other attributes for delivering strong risk-adjusted
returns -- one has low-risk characteristics (dividends) and the other
(low-priced stocks) has the potential for high returns. When these
attributes are found in stocks we selected for our core portfolios, we
designate them for our specific theme funds. Performance and volatility may
be substantially different for each of these portfolios.
^ COMBINED PORTFOLIOS - OUR FLAGSHIP APPROACH
PENNSYLVANIA MUTUAL PMF II ROYCE GIFTSHARES
Combine Small and Micro-Cap Companies
The combined portfolios encompass approximately EQUAL WEIGHTINGS of each
core strategy. Two of our portfolios, including our flagship fund
Pennsylvania Mutual, are suitable for both individuals and institutions,
while GiftShares offers a unique gifting and estate planning portfolio.
<PAGE>
SEMI-ANNUAL REPORT REFERENCE GUIDE
- --------------------------------------------------------------------------------
PENNSYLVANIA MUTUAL FUND'S EARLY 1996 PORTFOLIO
STRUCTURING HAS RESULTED IN BETTER SIX-MONTH AND
ONE-YEAR PERFORMANCE VERSUS THE RUSSELL 2000 INDEX
OF SMALL-CAP COMPANIES 8
PMF II NOW HAS $19 MILLION IN NET ASSETS AND SOLID
SIX-MONTH AND SINCE INCEPTION RESULTS. 10
ROYCE GIFTSHARES FUND, A GIFTING AND ESTATE PLANNING
PORTFOLIO OF SMALL AND MICRO-CAP COMPANIES, HAS PROVIDED
AN AVERAGE ANNUAL TOTAL RETURN SINCE INCEPTION OF 25.6%. 12
SCHEDULES OF INVESTMENTS AND FINANCIAL STATEMENTS. 16-24
POSTSCRIPT: ALL THAT JAZZ. INSIDE BACK COVER
FOR OVER TWENTY YEARS, OUR RISK-AVERSE APPROACH HAS FOCUSED ON EVALUATING A
COMPANY'S "PRIVATE WORTH" -- WHAT WE BELIEVE AN ENTERPRISE WOULD SELL FOR IN A
PRIVATE TRANSACTION BETWEEN RATIONAL PARTIES. THIS REQUIRES A THOROUGH
UNDERSTANDING OF THE FINANCIAL AND OPERATING DYNAMICS OF A BUSINESS, AS THOUGH
WE WERE PURCHASING THE ENTIRE COMPANY. THE PRICE WE WILL PAY FOR A SECURITY MUST
BE SIGNIFICANTLY LOWER THAN OUR APPRAISAL OF ITS PRIVATE WORTH.
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------
PERFORMANCE RESULTS
YEAR-TO-DATE SINCE
FUND (INCEPTION) RETURN 1-YEAR INCEPTION
- ---------------- ---------------------------------------
<S> <C> <C> <C>
Pennsylvania Mutual Fund (6/30/73) 13.1% 20.7% 16.4%
- --------------------------------------------------------------------------------
PMF II (11/20/96) 10.5% N/A 16.2%*
- --------------------------------------------------------------------------------
Royce GiftShares Fund (12/27/95) 12.2% 22.7% 25.6%
- --------------------------------------------------------------------------------
*Not Annualized
</TABLE>
<PAGE>
[Photo of Charles M. Royce, President]
Charles M. Royce, President
[BEGIN SIDEBAR]
The small-cap world has evolved dramatically during the last ten to fifteen
years, especially in terms of capitalization. When we began managing money in
the early '70's, small-cap was a much less efficient sector; but today, all
that has changed. The small-cap market now behaves more like the large-cap
market.
Small and micro-cap are distinct markets, which require distinct strategies.
The idea of two distinct markets inside small-cap is one that we believe will be
the party line in another half dozen years.
[END SIDEBAR]
[Drawing of man speaking with child]
Drawing by Weber; Copy Rights 1997
The New Yorker Magazine, Inc.
LETTER TO OUR SHAREHOLDERS
- --------------------------------------------------------------------------------
[cartoon of little girl asking father, "How come Jasper's mutual fund is up
twelve per cent and mine's up only eight?"]
Drawing by Weber; Copyright 1997
The New Yorker Magazine, Inc.
BIGGER WAS BETTER . . .
In light of 1997's results to date, investors in small-cap funds
are probably asking similar questions to that posed in the cartoon. Performance
in the first six months resembled that of the last half of 1996. Investors'
preference for easy-to-trade securities enabled larger, more well-known stocks
to perform better, even within the small-cap universe.
After a sluggish start, small-cap securities came roaring back in
the second quarter, posting their best results since 1991. They, however, still
trailed their large company counterparts, which provided impressive second
quarter results to go along with their solid early 1997 returns. For the first
six months, the Russell 2000 Index of small company stocks was up 10.2% versus
a gain of 20.6% for the large-cap oriented S&P 500 Index. The disparity between
large and small-cap is even more dramatic for the one-year period ended June 30,
1997: 34.7% for the S&P 500 versus 16.3% for the Russell 2000. In fact, this is
the widest margin of outperformance by the S&P 500 since the Russell 2000's
inception in 1979. COINCIDENTALLY, THE PREVIOUS TWO PERIODS OF SUBSTANTIAL
SMALL-CAP, ONE-YEAR UNDERPERFORMANCE (APRIL '87 AND MAY '90) OCCURRED JUST PRIOR
TO THE LAST TWO GENERAL MARKET DECLINES. Although periods of large-cap dominance
are not unusual, the magnitude of the current outperformance is almost
unprecedented. Over the last three and one-half calendar years, the S&P 500 has
provided a 23.1% average annual total return versus 14.8% for the Russell 2000.
While not matching the S&P 500, recent small-cap returns, as
measured by the Russell 2000, are excellent in both the absolute and the
historical contexts. It is hard to imagine how anyone who invested in a sector
that produced average annual total returns for the one, five, ten and fifteen-
year periods of 16.3%, 17.9%, 11.1% and 15.1%, respectively, would be
disappointed. It is only through the lens of relative performance that one can
find fault.
2 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
...AND SO WAS VALUE
Over the last twelve months, small-cap investors experienced
greater volatility than in recent years. Increased volatility tends to benefit
value investing, as evidenced by year-to-date and one-year performance results.
Despite strong returns in May for growth stocks within the Russell 2000, sparked
by a decline in interest rates in mid-April, value stocks within the small-cap
index retained the performance edge that began in the second half of 1996.
Through the first six months of 1997, the Russell 2000 Value Index was up 14.8%
versus a gain of 5.2% for the Russell 2000 Growth Index. This performance
disparity is even more evident when reviewing the last twelve months. We believe
that the higher level of volatility will continue within the small-cap sector.
This favors our value approach, which takes advantage of price fluctuations.
WE ARE PLEASED TO REPORT SOLID ABSOLUTE AND RELATIVE SIX AND
TWELVE-MONTH RESULTS. FOR A COMPLETE DISCUSSION OF HOW WE DID, INCLUDING BOTH
PERFORMANCE AND PORTFOLIO DIAGNOSTICS, PLEASE SEE PAGES 8-13.
SMALL-CAP AIN'T WHAT IT USED TO BE
It has been documented by Ibbotson and Associates that small-cap
companies have outperformed their larger counterparts by approximately 2%
annually, on average, since 1926. This performance premium is known as the
"small-cap effect." While this is not an every year occurrence and 2% per annum
may not seem like much, the results are eye-popping when one compounds this
differential over the last 70 years! Even though this performance rule of thumb
is generally accepted, we believe that it can be misleading. The index utilized
to calculate the small-cap effect includes only the "smallest" of small-cap
companies, those in the 9th and 10th deciles of market capitalization. Today,
this roughly equates to companies under $300 million in market capitalization.
In contrast, the world has generally redefined small-cap to include companies
under $1 billion. WHAT HAS BEEN LABELED A SMALL-CAP EFFECT SHOULD IN FACT NOW BE
VIEWED AS A MICRO-CAP PHENOMENON. This has important implications for all
investors.
The case for two distinct markets--small and micro-cap--is
apparent in other ways as well. The annual rebalancing of the Russell 2000 in
June produced an estimated 30% increase in the index's weighted average market
cap ($609 million versus $468 million at 6/30/96), and for the second year in a
row, no companies with market caps below $100 million were included in the
reconstituted index. Also, according to Morningstar, there are now over 500
small-cap mutual funds, totaling approximately $100 billion in assets. AS THE
WORLD GETS SMALLER, SMALL-CAP STOCKS ARE GETTING BIGGER, AND MICRO-CAP STOCKS
ARE GETTING MORE INTERESTING.
NO SMOKE, NO MIRRORS
Just recently, one of our children asked a question that parents
often hear, "WHAT EXACTLY DO YOU DO?" This question is posed to us frequently by
shareholders and investment advisers as well, and it often leads to more
questions. We thought it would be useful to employ a "Q and A" format to
communicate our core beliefs, which have been developed over the last 25 years,
principally by Chuck Royce.
[Drawing of man speaking with boy]
Copyright 1997 John M. Melton
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 3
<PAGE>
[BEGIN SIDEBAR]
Within the small-cap market ($300 million to $1 billion), we utilize a
concentrated approach. We focus our efforts on identifying those forty to fifty
companies that we believe will give us the absolute best performance in this
slightly more efficient area.
The micro-cap area (below $300 million) is really what the small-cap area was
twenty years ago, in that these stocks represent the last frontier of domestic
equity opportunity. We use a diversified approach because of liquidity
constraints and the higher-than-usual volatility in this sector.
[END SIDEBAR]
[PULL QUOTE]
ONE OF THE MOST IMPORTANT AND UNDER APPRECIATED SOURCES OF INFORMATION IS THE
ANNUAL REPORT.
[END QUOTE]
[PULL QUOTE]
...AN ORGANIZED AND INTENSIVE PROCESS THAT INCLUDES INTERVIEWING A COMPANY'S
CUSTOMERS, COMPETITORS AND SUPPLIERS. THIS "DETECTIVE WORK" UNIVERSALLY IS NOT
DONE ON WALL STREET.
[END PULL QUOTE]
In the exchange that follows, Whitney George and Jack Fockler
discuss some of these tenets. Whitney joined our firm six years ago as a "maitre
d'" serving on the front line of our investment activity. Whitney's talent and
steady contributions have enabled him to move to chef status as a portfolio
manager in our "restaurant." Jack joined us eight years ago primarily working
with clients. Jack's and Whitney's responsibilities have expanded into a central
role; both are now managing directors. We hope this helps you become more
familiar with our investment philosophy.
WHAT DO YOU LOOK FOR IN A COMPANY? Essentially, we are interested in three
things--strong balance sheets, strong evidence of success and strong prospects.
Small and micro-cap entities can be very fragile; and, as a result, we look for
companies that can survive during times that are difficult for their products or
their particular industry as a whole. We maintain primary focus on internal
returns: namely, return on assets and return on invested capital. Both measures
provide a deeper insight into a company's health. In essence, we seek growing
businesses that produce free cash flow.
IS A COMPANY'S ANNUAL REPORT WORTH READING? One of the most important and under
appreciated sources of information is the annual report. We are enthusiastic and
diligent readers of annual reports and not just for the numbers. We look for the
obvious and the not-so-obvious signals that a CEO or Chairman is sending in the
various discussions. We look at what is being said and not said, and compare
what we find to previous years' reports. Dog-eared annual reports are our
standard.
DO YOU CONSIDER THE QUANTITATIVE OR QUALITATIVE ASPECTS OF YOUR RESEARCH TO BE
THE MOST IMPORTANT? While quantitative research remains the cornerstone of our
process, it is the qualitative aspects that take on an increasingly important
role. Information is readily available to everyone, so being the fastest reader
or collector of documents no longer affords the advantage it once did. The
non-quantitative effort is where we add value, and it is also the most fun.
WHAT DO YOU WANT TO ACCOMPLISH WHEN YOU MEET WITH COMPANY MANAGEMENT TEAMS? We
listen carefully to their plans, aspirations and dreams for the business. The
research process begins as we assess their credibility and that of their plans.
As careful investors, we must be able to trust management.
HOW DO YOU CONFIRM THEIR ASPIRATIONS AND DREAMS? Management meetings are just a
starting point. It's very important to be able to validate what we have been
told. We
4 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
do this through an organized and intensive process that includes interviewing a
company's customers, competitors and suppliers. This "detective work"
universally is not done on Wall Street.
ARE THERE CERTAIN STANDARDS THAT YOU LOOK FOR WHEN YOU TALK TO MANAGEMENT?
Honesty is paramount, both in actions and thought processes. We try to
understand motivations and make certain management's intentions are consistent
with ours. We look for confirmation of integrity in all corporate actions. We
spend considerable time reviewing proxies for conflicts and governance issues
that others often gloss over.
HOW DO YOU FIND NEW IDEAS FOR THE PORTFOLIOS? We are open-minded and
non-discriminating about how new ideas find their way into the firm. We think of
ourselves as "shop-a-holics" when it comes to finding a new name, and we are
prepared to talk to anyone or look anywhere to learn about an idea. This means
shopping at Wall Street "supermarkets," regional firms and research boutiques.
We even go to "garage sales" where there is no analytical coverage. But, at the
end of the day, we are exceptionally discriminating about our purchases.
DO YOU INVEST IN INITIAL PUBLIC OFFERINGS (IPOS)? We do significant analyses of
IPOs, although this does not necessarily mean that we are significant investors.
While IPOs represent a wonderful source of new ideas, our interest in them tends
to be six to eighteen months following the initial offering, when the prices are
more to our liking.
DO YOU INVEST IN TECHNOLOGY STOCKS? While we believe the technology sector is a
vibrant and important part of our economy, we view the investment opportunity
somewhat differently. Most of the attention in this sector is on cutting-edge
companies. While this is an exciting and potentially rewarding area, it is also
very difficult. These companies tend to be consumers, not producers, of cash,
and it's hard for us to feel comfortable that the financial characteristics we
are looking for will be in place five years from now. Our preferred type of
technology investment, while not on the front line, is able to deliver
comparable growth without the inherent risk. Electronics distributors are a good
example of a low-risk way to participate in what has historically been a
high-risk sector.
HOW DIFFICULT IS IT TO KEEP TRACK OF NAMES IN THE PORTFOLIOS? It is not as big a
project as one might think. The business world does not change as rapidly as the
stock market. While a company's stock price may change daily, earnings are only
reported quarterly, and the balance sheet evolves even more slowly. We combine a
running evaluation of these slower developments with a very disciplined and
rigorous tracking process that continually focuses on the relationship of
"private worth" to market price.
[BEGIN PULL QUOTE]
WE SPEND CONSIDERABLE TIME REVIEWING PROXIES FOR CONFLICTS AND GOVERNANCE ISSUES
THAT OTHERS OFTEN GLOSS OVER.
[END PULL QUOTE]
[BEGIN PULL QUOTE]
WHILE IPOS REPRESENT A WONDERFUL SOURCE OF NEW IDEAS, OUR INTEREST IN THEM TENDS
TO BE SIX TO EIGHTEEN MONTHS FOLLOWING THE INITIAL OFFERING, WHEN THE PRICES ARE
MORE TO OUR LIKING.
[END PULL QUOTE]
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 5
<PAGE>
[BEGIN SIDEBAR]
Value works because markets are cyclical. We think of ourselves as risk
managers. It is not a fruitful idea to focus only on risk.
We're committed to the idea of finding stocks that we believe can double in
value over approximately a four-year time frame while keeping risk levels
relatively low.
[END SIDEBAR]
HOW DO ROYCE ANALYSTS INTERACT WITH THE PORTFOLIO MANAGERS? We sit together in
an open environment that encourages constant dialogue; there are no offices in
which to hide. Our analysts generally work together in teams; multiple eyes
reduce nearsightedness. They are not industry specialists, but generalists. This
is in contrast to most firms, which organize their research effort around
specific industries and designate analysts to cover narrow niches. The problem
with industry analysts is that they tend to fall in love with their sectors.
We want our analysts to be able to recognize good companies,
regardless of sector. We require written records of our thought processes; this
minimizes the human tendency to reinvent a story as circumstances change.
HOW IMPORTANT IS TRADING EXECUTION? Execution is critical to successful
small-cap investing because costs are higher than in the large-cap market.
Indeed, spreads of 5% or more between a stock's bid and ask price are not
uncommon. Daily trading volume is often low, demanding significant patience on
the part of the trader/buyer. Many a good large-cap manager who ventures into
the small and micro-cap universes becomes immediately frustrated by the trading
nuances of the sector. We work hard at this part of our business and believe
that our 20+ years of experience give us an edge.
HOW DO YOU WEIGH YOUR OWN EVALUATIONS VERSUS THOSE OF OUTSIDE ANALYSTS? It's
only through doing your own work that you're able to develop confidence and
conviction. Much of Wall Street's research is directed toward those companies
that provide opportunities for making money through trading or investment
banking. While we use outside research, it is for general context purposes only.
WHAT HAPPENS WHEN A STOCK THAT YOU LIKE GOES DOWN IN PRICE? This gives us a
reason to go back and review the work to gain an understanding as to why the
stock has declined. If we find we have missed something, then we re-evaluate how
bad the situation is and how much is already reflected in the price. Hopefully,
the outcome is higher conviction coinciding with a more attractive purchase
price. We are not afraid to average down (buy more shares at lower prices) when
our conviction level is in place.
HOW DOES ONE AVOID UNDERPERFORMANCE? It's not clear that one can avoid
underperformance in the short-run because the greatest opportunities come when
conditions are at their worst. We try to address this by being realistic in
terms of our holding period, which is generally four years on average, and by
[BEGIN PULL QUOTE]
IT'S ONLY THROUGH DOING YOUR OWN WORK THAT YOU'RE ABLE TO DEVELOP CONFIDENCE AND
CONVICTION.
[END PULL QUOTE]
[BEGIN PULL QUOTE]
OUR ANALYSTS GENERALLY WORK TOGETHER IN TEAMS; MULTIPLE EYES REDUCE
NEARSIGHTEDNESS.
[END PULL QUOTE]
6 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
recognizing that this year's poor performer may be the stock that everyone wants
to own several years later. Stock selection and performance are not related in
the short-term.
WHAT SHOULD BE EXPECTED FROM AN INVESTMENT MANAGER? Investors should look for a
return that is reasonable and an approach that stresses absolute, not relative,
performance goals. Although relative performance comparisons are useful, they
should not drive the evaluation process; you cannot eat from the table of
relative performance. We also think managers should communicate openly, sharing
their successes, failures and expectations with their investors.
[drawing--sun over road]
Copyright 1997 John M. Melton
THE ROAD AHEAD
While the last two and one-half calendar years have produced only
one down quarter for small-cap stocks, there is plenty of evidence to suggest
the road ahead will be different. Since May '96 volatility has been higher in
the small and micro-cap sectors, usually a prelude to lower returns. We believe
that active management and a value orientation are especially appropriate in
this more volatile environment. Although large-cap stocks have been market
leaders for over three years, we do not believe that this is a permanent
condition. The market's preference for large and liquid securities will run its
course as it has before.
Although absolute returns for the market are likely to diminish
following this extraordinary return period, we remain excited about near and
long-term prospects for our risk-averse style of investing. Your continued
confidence is appreciated.
[photo of Jack Fockler, Whitney George, Chuck Royce]
Jack Fockler, Whitney George, Chuck Royce
Sincerely,
/s/ Charles M. Royce /s/ W. Whitney George /s/ Jack E. Fockler, Jr.
Charles M. Royce W. Whitney George Jack E. Fockler, Jr.
President Vice President Vice President
July 25, 1997
- --------------------------------------------------------------------------------
We want to pay tribute to our friend and colleague, Tom Ebright, who passed away
on July 14, 1997. For over sixteen years, Tom was a substantial contributor and
valued partner of our firm. He is survived by his wife, Joyce, his two
daughters, Jennifer and Ellen, and many shareholders and friends who knew and
loved Tom.
- --------------------------------------------------------------------------------
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 7
<PAGE>
PENNSYLVANIA MUTUAL FUND
- -------------------------------------------------------------------------------
[BEGIN SIDEBAR]
WHAT WE DO PENNSYLVANIA MUTUAL FUND ("PMF"), our flagship fund, seeks long-term
capital appreciation by investing in a blended portfolio that combines
approximately equal weightings of small and micro-cap securities.
HOW WE DID PENNSYLVANIA MUTUAL FUND combined a solid first quarter start with a
strong second quarter showing to conclude the first six months of 1997 up 13.1%.
This compares favorably to the Russell 2000 index of small-cap companies, which
was up 10.2% for the same period. Since PMF's portfolio restructuring in early
1996, the Fund has enjoyed a performance advantage over the small-cap index. For
the year ended June 30, PMF was up 20.7% vs. 16.3% for the Russell 2000. Average
annual total return for the 24 years that we have managed the Fund was 16.4%.
Pennsylvania Mutual Fund now has $612 million in assets, attributable, in
part, to its recent merger with Royce Value Fund, a fund with a similar
investment objective. While the merger of the two funds will not have an impact
on the investment policies of the Fund, it will result in lower operating
expense ratios. The Pennsylvania Mutual Fund style of investing remains the
flagship approach of The Royce Funds.
Since the small-cap sector has always been more volatile, we believe that
paying attention to risk is critical to delivering above-average, long-term
returns. Risk is typically evaluated in terms of uncertainty, by measuring fund
volatility through standard deviation and beta, and also in terms of possibility
of loss, by measuring actual down market performance. Pennsylvania Mutual Fund's
risk-averse orientation has resulted in low risk rankings and superior down
market performance versus the Russell 2000 and its small-cap peers.
[END SIDEBAR]
<TABLE>
<CAPTION>
TOTAL RETURNS*
THROUGH 6/30/97
======================================
<S> <C>
1997 (through 6/30) 13.1%
1-Year 20.7%
5-Year Average Annual 13.2%
10-Year Average Annual 11.2%
15-Year Average Annual 16.4%
20-Year Average Annual 16.4%
- --------------------------------------
</TABLE>
DOWN MARKET PERFORMANCE COMPARISON*
(ALL DOWN PERIODS OF 5% OR GREATER)
IN PERCENTAGES (%)
[typeset representation of bar chart]
<TABLE>
<S> <C> <C> <C> <C> <C> <C>
PMF -23.2 -20.9 -2.6 -7.6 -6.5 -2.5
Russell 2000 -39.2 -34.3 -12.6 -13.3 -15.6 -9.2
8/25/87- 10/9/89- 2/12/92- 3/18/94- 5/22/96- 1/22/97-
10/28/87 10/30/90 7/8/92 12/9/94 7/24/96 4/25/97
</TABLE>
PENNSYLVANIA MUTUAL'S RISK-AVERSE INVESTMENT ORIENTATION HAS RESULTED IN STRONG
RELATIVE RETURNS IN DOWN MARKETS.
[end bar chart]
RISK/RETURN COMPARISON*
FIFTEEN-YEAR PERIOD ENDED 6/30/97
<TABLE>
<CAPTION>
Average Annual Standard
Total Return Deviation RUR
==========================================================
<S> <C> <C> <C>
PMF 16.4% 12.1 1.36
- ----------------------------------------------------------
Russell 2000 15.1% 18.0 0.84
- ----------------------------------------------------------
</TABLE>
PENNSYLVANIA MUTUAL*
VERSUS RUSSELL 2000
VALUE OF $10,000 INVESTED ON 6/30/82[dag]
[typeset representation of line chart]
<TABLE>
<CAPTION>
PMF Russell 2000
<S> <C> <C>
1982 10,000 10,000
1985 23,791 19,735
1988 36,261 26,833
1991 46,443 31,558
1994 63,044 47,529
1997* 98,006 82,255
</TABLE>
[end line chart]
[dag] Current year returns through June 30.
Includes reinvestment of distributions.
[BEGIN PULL QUOTE]
Over the last fifteen years, PENNSYLVANIA MUTUAL FUND HAS OUTPERFORMED
THE RUSSELL 2000 on BOTH an absolute and a risk-adjusted basis.
[END PULL QUOTE]
*All performance and risk information presented herein is for PMF's Investment
Class. Shares of PMF's Consultant Class, which commenced operations on June 18,
1997, bear an annual distribution expense of approximately 0.67% of its net
assets, after waivers, which is not borne by the Investment Class.
8 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
PERFORMANCE & PORTFOLIO REVIEW
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
MARKET CAP EXPOSURE
% OF PORTFOLIO
IN MILLIONS
===================================
<S> <C>
[Greater than symbol] $1,000 8
- -----------------------------------
$500-$1,000 24
- -----------------------------------
$300-$500 22
- -----------------------------------
[Less than symbol] $300 46
- -----------------------------------
</TABLE>
<TABLE>
<CAPTION>
TOP TEN POSITIONS
% OF NET ASSETS
======================================
<S> <C> <C>
1. Stanhome 1.4
- --------------------------------------
2. Wesco Financial 1.3
- --------------------------------------
3. Marshall Industries 1.2
- --------------------------------------
4. Arthur J. Gallagher & Co. 1.2
- --------------------------------------
5. Lilly Industries Cl. A 1.1
- --------------------------------------
6. Florida Rock Industries 1.1
- --------------------------------------
7. Trenwick Group 1.1
- --------------------------------------
8. Velcro Industries 1.1
- --------------------------------------
9. Air Express International 1.1
- --------------------------------------
10. CalMat 1.1
- --------------------------------------
</TABLE>
<TABLE>
<CAPTION>
PORTFOLIO INDUSTRY BREAKDOWN
% OF NET ASSETS
===================================
<S> <C>
Industrial Products 24
- -----------------------------------
Financial Intermediaries 16
- -----------------------------------
Industrial Services 15
- -----------------------------------
Consumer Products 15
- -----------------------------------
Financial Services 8
- -----------------------------------
Technology 7
- -----------------------------------
Retail 5
- -----------------------------------
Consumer Services 4
- -----------------------------------
Natural Resources 4
- -----------------------------------
Health 2
- -----------------------------------
</TABLE>
*Excludes cash and cash equivalents.
<TABLE>
<CAPTION>
PORTFOLIO
DIAGNOSTICS
===========================================================
<S> <C>
Median Market Cap $374 million
- -----------------------------------------------------------
Weighted Average P/E Ratio 16.2x
- -----------------------------------------------------------
Weighted Average P/B Ratio 1.7x
- -----------------------------------------------------------
Weighted Average Yield 1.3%
- -----------------------------------------------------------
Net Assets $612 million
- -----------------------------------------------------------
Turnover Rate 7%
- -----------------------------------------------------------
Symbol Investment Class: PENNX
Consultant Class: RYPCX
- -----------------------------------------------------------
</TABLE>
The Fund's P/E and P/B ratios remained low.
<TABLE>
<CAPTION>
GOOD IDEAS THAT WORKED
===========================================================
SECURITY REALIZED AND UNREALIZED GAIN
- -----------------------------------------------------------
<S> <C>
Wesco Financial $4,159,913
- -----------------------------------------------------------
Air Express International 2,528,080
- -----------------------------------------------------------
Marshall Industries 2,346,846
- -----------------------------------------------------------
Florida Rock Industries 2,074,951
- -----------------------------------------------------------
Merrill Corporation 2,024,706
- -----------------------------------------------------------
</TABLE>
During 1997's first half, the above companies made the largest positive
contributions, in dollar terms, to our overall performance. Among these winners,
there were no examples of hot new issues, high-priced takeovers or momentum
miracles. Rather, our top five performers emerged from a series of long-term
investment decisions. We built our positions when business conditions were
difficult and other investors had voted negatively on future prospects.
<TABLE>
<CAPTION>
GOOD IDEAS AT THE TIME
===========================================================
SECURITY REALIZED AND UNREALIZED LOSS
- -----------------------------------------------------------
<S> <C>
Midwest Grain Products $1,006,603
- -----------------------------------------------------------
Rush Enterprises 939,525
- -----------------------------------------------------------
Guy F. Atkinson Company 705,809
- -----------------------------------------------------------
Scitex Corporation 704,289
- -----------------------------------------------------------
Lifetime Hoan Corporation 584,372
- -----------------------------------------------------------
</TABLE>
Even the best small-cap companies can have periods of declining performance. We
believe if their balance sheets are strong and they have a history of high
internal returns, these companies will recover. We are generally well-rewarded
for our persistence, although market price rebounds can take longer than we
anticipated. Occasionally, we elect to redeploy the assets into other
opportunities. The above companies had the largest negative impact on the Fund's
performance in the first half of 1997.
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 9
<PAGE>
PMF II
- -------------------------------------------------------------------------------
[BEGIN SIDEBAR]
WHAT WE DO PMF II, like its older sibling Pennsylvania Mutual Fund, seeks
long-term capital appreciation by investing in a blend of small and micro-cap
stocks. In both funds, we employ a risk-averse, value approach that emphasizes
solid balance sheets and high internal rates of return.
HOW WE DID After more than holding its own in the difficult first quarter, PMF
II enjoyed a strong second quarter to finish the first half up 10.5%. This
compares favorably to a 10.2% total return for the Russell 2000 index of
small-cap companies for the same time period. Since the Fund was launched on
November 20, 1996, it has exceeded the Russell 2000 in total return performance
(16.2% vs. 15.2%). PMF II now has approximately $20 million in net assets.
Although the Fund's newness prevents the calculation of any risk
statistics, a low risk profile is nevertheless a goal of the Fund. In the
small-cap sector, which has historically generated higher volatility, we believe
that paying attention to risk is critical to delivering above-average long-term
returns. This risk-averse orientation, which is embedded in Pennsylvania Mutual
Fund's roots, is also a part of PMF II's philosophy.
[END SIDEBAR]
TOTAL RETURNS
THROUGH 6/30/97
<TABLE>
=====================================
<S> <C>
1997 (through 6/30) 10.5%
- -------------------------------------
Since Inception (11/20/96) 16.2%
- -------------------------------------
</TABLE>
TOP TEN POSITIONS
% OF NET ASSETS
<TABLE>
=======================================
<S> <C> <C>
1. Sevenson Environmental
Services 3.0
- ---------------------------------------
2. Stanhome 3.0
- ---------------------------------------
3. Trenwick Group 2.7
- ---------------------------------------
4. Standard Commercial 2.6
- ---------------------------------------
5. Arnold Industries 2.6
- ---------------------------------------
6. National Computer
Systems 2.4
- ---------------------------------------
7. Stone & Webster 2.1
- ---------------------------------------
8. Zenith National Insurance 2.1
- ---------------------------------------
9. Oshkosh B'Gosh 2.1
- ---------------------------------------
10. Bassett Furniture
Industries 2.1
- ---------------------------------------
</TABLE>
[BEGIN PULL QUOTE]
PMF II has outperformed the Russell 2000 since its inception.
[END PULL QUOTE]
PMF II VERSUS RUSSELL 2000 [LINE CHART]
VALUE OF $10,000 INVESTED ON 11/20/96*
<TABLE>
=======================================
PMF II Russell 2000
<S> <C> <C>
11/20/96 10,000 10,000
12/31/96 10,520 10,456
2/28/97 10,580 10,406
4/30/97 10,459 9,943
6/30/97 11,619 11,523
- ----------------------------------------
</TABLE>
*Current year returns through June 30.
10 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
PERFORMANCE & PORTFOLIO REVIEW
- --------------------------------------------------------------------------------
MARKET CAP EXPOSURE [BAR CHART]
% OF PORTFOLIO
IN MILLIONS
<TABLE>
===================================
<S> <C>
[Greater than symbol] $1,000 3%
- -----------------------------------
$500-$1,000 21%
- -----------------------------------
$300-$500 25%
- -----------------------------------
[Less than symbol] $300 51%
- -----------------------------------
</TABLE>
73% of the companies owned by the Fund have market caps of $500 million or
less as of 6/30/97.
PORTFOLIO INDUSTRY BREAKDOWN
% OF NET ASSETS*
<TABLE>
===================================
<S> <C>
Consumer Products 18
- -----------------------------------
Industrial Services 16
- -----------------------------------
Financial Services 13
- -----------------------------------
Financial Intermediaries 13
- -----------------------------------
Industrial Products 12
- -----------------------------------
Retail 11
- -----------------------------------
Technology 7
- -----------------------------------
Natural Resources 5
- -----------------------------------
Consumer Services 3
- -----------------------------------
Health 2
- -----------------------------------
</TABLE>
*Excludes cash and cash equivalents.
PORTFOLIO
DIAGNOSTICS
<TABLE>
===========================================
<S> <C>
Median Market Cap $333 million
- -------------------------------------------
Weighted Average P/E Ratio 16.5x
- -------------------------------------------
Weighted Average P/B Ratio 1.3x
- -------------------------------------------
Weighted Average Yield 1.1%
- -------------------------------------------
Net Assets $20 million
- -------------------------------------------
Turnover Rate 55%
- -------------------------------------------
Symbol RYPNX
- -------------------------------------------
</TABLE>
GOOD IDEAS THAT WORKED
<TABLE>
<CAPTION>
==================================================
SECURITY REALIZED AND UNREALIZED GAIN
- --------------------------------------------------
<S> <C>
Rykoff-Sexton $142,032
- --------------------------------------------------
PalEx 119,832
- --------------------------------------------------
Oshkosh B'Gosh Cl. A 114,666
- --------------------------------------------------
Stanhome 113,475
- --------------------------------------------------
The Talbots 112,261
- --------------------------------------------------
</TABLE>
During 1997's first half, the above companies made the largest positive
contributions, in dollar terms, to our overall performance. Among these winners,
there were no examples of hot new issues, high-priced takeovers or momentum
miracles. Rather, our top five performers emerged from a series of decisions
consistent with our long-term investment orientation. Positions were built when
market prices were low, reflecting differing opinions on future prospects.
GOOD IDEAS AT THE TIME
<TABLE>
<CAPTION>
==================================================
SECURITY REALIZED AND UNREALIZED LOSS
- --------------------------------------------------
<S> <C>
Rush Enterprises $105,000
- --------------------------------------------------
Catherines Stores Corporation 83,425
- --------------------------------------------------
Chico's FAS 74,906
- --------------------------------------------------
Resurgence Properties 73,125
- --------------------------------------------------
ILC Technology 65,025
- --------------------------------------------------
</TABLE>
Even the best small-cap companies can have periods of declining performance. We
believe if their balance sheets are strong and they have a history of high
internal returns, these companies will recover. We are generally well-rewarded
for our persistence, although market price rebounds can take longer than we
anticipated. Occasionally, we elect to redeploy the assets into other
opportunities. The above companies had the largest negative impact on the Fund's
performance in the first half of 1997.
The Royce Funds Semi-Annual Report 1997 | 11
<PAGE>
ROYCE GIFTSHARES FUND
- --------------------------------------------------------------------------------
[BEGIN SIDEBAR]
WHAT WE DO Royce GiftShares Fund ("GiftShares") is a blended portfolio of
primarily small and micro-cap securities with an investment objective of
long-term capital appreciation. GiftShares is designed for investors who want to
make gifts for college funding, long-term financial security or estate planning.
HOW WE DID Royce GiftShares Fund continued its winning ways into 1997. After
posting a positive return in the difficult first quarter, the Fund flourished
during the strong second quarter. For the first six months GiftShares was up
12.2% vs. 10.2% for the Russell 2000 index of small-cap companies. The Fund's
strategy of investing in a limited portfolio of small and micro-cap companies
has also enabled it to outperform the small-cap index for the one-year (22.7%
vs. 16.3%) and since inception (25.6% vs. 18.8%) periods. Royce GiftShares Fund,
which was launched on December 27, 1995, now has approximately $1.6 million in
assets.
We are enthused about the early results that this special purpose fund has
provided.
[END SIDEBAR]
TOTAL RETURNS
THROUGH 6/30/97
<TABLE>
======================================
<S> <C>
1997 (through 6/30) 12.2%
- --------------------------------------
1-Year 22.7%
- --------------------------------------
Since Inception (12/27/95)
Average Annual 25.6%
- --------------------------------------
</TABLE>
TOP TEN POSITIONS
% OF NET ASSETS
<TABLE>
=======================================
<S> <C> <C>
1. Arthur J. Gallagher & Co. 3.6
- ---------------------------------------
2. Bassett Furniture
Industries 3.6
- ---------------------------------------
3. Sevenson Environmental
Services 3.5
- ---------------------------------------
4. CalMat 3.4
- ---------------------------------------
5. Stanhome 3.3
- ---------------------------------------
6. Weyco Group 3.3
- ---------------------------------------
7. Insituform Technologies
Cl. A 3.1
- ---------------------------------------
8. The Dress Barn 3.1
- ---------------------------------------
9. The Topps Company 3.1
- ---------------------------------------
10. Frozen Food Express
Industries 3.0
- ---------------------------------------
</TABLE>
The top 10 positions represent 33% of the Fund's net assets.
[BEGIN PULL QUOTE]
ROYCE GIFTSHARES FUND HAS SIGNIFICANTLY OUTPERFORMED THE RUSSELL 2000 SINCE ITS
INCEPTION.
[END PULL QUOTE]
ROYCE GIFTSHARES FUND
VERSUS RUSSELL 2000
VALUE OF $10,000 INVESTED ON 12/27/95* [LINE CHART]
<TABLE>
<CAPTION>
=====================================
RGF Russell 2000
<S> <C> <C>
12/27/95 10,000 10,000
12/31/95 10,020 10,100
3/31/96 10,600 10,616
6/30/96 11,500 11,147
9/30/96 11,600 11,185
12/31/96 12,580 11,766
3/31/97 12,645 11,157
6/30/97 14,111 12,967
- -------------------------------
</TABLE>
*Current year returns through June 30.
Includes reinvestment of distributions.
12 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
PERFORMANCE & PORTFOLIO REVIEW
- --------------------------------------------------------------------------------
MARKET CAP EXPOSURE [BAR CHART]
% OF PORTFOLIO
IN MILLIONS
<TABLE>
===================================
<S> <C>
[Greater than symbol] $1,000 6%
- -----------------------------------
$500-$1,000 21%
- -----------------------------------
$300-$500 27%
- -----------------------------------
[Less than symbol] $300 46%
- -----------------------------------
</TABLE>
PORTFOLIO
DIAGNOSTICS
<TABLE>
===========================================
<S> <C>
Median Market Cap $371 million
- -------------------------------------------
Weighted Average P/E Ratio 19.8x
- -------------------------------------------
Weighted Average P/B Ratio 1.5x
- -------------------------------------------
Weighted Average Yield 0.9%
- -------------------------------------------
Net Assets $1.6 million
- -------------------------------------------
Turnover Rate 47%
- -------------------------------------------
</TABLE>
73% of the companies owned by the Fund have market caps of $500 million or less
as of 6/30/97.
PORTFOLIO INDUSTRY
BREAKDOWN
% OF NET ASSETS*
<TABLE>
===================================
<S> <C>
Industrial Services 21
- -----------------------------------
Consumer Products 20
- -----------------------------------
Retail 15
- -----------------------------------
Financial Services 11
- -----------------------------------
Financial Intermediaries 9
- -----------------------------------
Technology 8
- -----------------------------------
Industrial Products 6
- -----------------------------------
Natural Resources 6
- -----------------------------------
Consumer Services 2
- -----------------------------------
Health 2
- -----------------------------------
</TABLE>
*Excludes cash and cash equivalents.
GOOD IDEAS THAT WORKED
<TABLE>
<CAPTION>
==================================================
SECURITY REALIZED AND UNREALIZED GAIN
- --------------------------------------------------
<S> <C>
Weyco Group $20,292
- --------------------------------------------------
Radiant Systems 11,523
- --------------------------------------------------
The Dress Barn 11,249
- --------------------------------------------------
Oshkosh B'Gosh Cl. A 10,557
- --------------------------------------------------
PalEx 10,198
- --------------------------------------------------
</TABLE>
During 1997's first half, the above companies made the largest positive
contributions, in dollar terms, to our overall performance. Among these winners,
there were no examples of high-priced takeovers or momentum miracles. Rather,
our top five performers emerged from a series of long-term investment decisions.
We built our positions when business conditions were difficult and other
investors had voted negatively on future prospects.
GOOD IDEAS AT THE TIME
<TABLE>
<CAPTION>
==================================================
SECURITY REALIZED AND UNREALIZED LOSS
- --------------------------------------------------
<S> <C>
Rush Enterprises $11,278
- --------------------------------------------------
Catherines Stores Corporation 6,825
- --------------------------------------------------
ILC Technology 6,780
- --------------------------------------------------
Midwest Grain Products 5,070
- --------------------------------------------------
Lifetime Hoan Corporation 3,188
- --------------------------------------------------
</TABLE>
Even the best small-cap companies can have periods of declining performance. We
believe if their balance sheets are strong and they have a history of high
internal returns, these companies will recover. We are generally well-rewarded
for our persistence, although market price rebounds can take longer than we
anticipated. Occasionally, we elect to redeploy the assets into other
opportunities. The above companies had the largest negative impact on the Fund's
performance in the first half of 1997.
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 13
<PAGE>
UPDATES & NOTES TO PERFORMANCE AND RISK INFORMATION
- -------------------------------------------------------------------------------
[GRAPHIC OF COMPUTER]
[THE ROYCE FUNDS]
THE ROYCE FUNDS UNVEILS AN UPDATED WEB SITE
We want to draw your attention to our newly enhanced internet web site
(www.roycefunds.com) where you can find out more about our small and micro-cap
mutual fund offerings, obtain the most recent quarterly performance and review
recent articles and Fund write-ups as well as up-to-the minute topics.
ROYCE & ASSOCIATES, INC. NAME CHANGE (FORMERLY QUEST ADVISORY CORP.)
We recently announced a name change of the Funds' Investment Adviser,
from Quest Advisory Corp. to Royce & Associates, Inc. The new name change
more closely identifies the name of the Adviser with that of the Funds that it
manages and recognizes the important contributions of the Adviser's
associates.
NOTES TO PERFORMANCE AND RISK INFORMATION
Performance for Pennsylvania Mutual Fund is for the Fund's Investment
Class. Shares of PMF's Consultant Class, which commenced operations on June
18, 1997, bear an annual distribution expense of approximately 0.67% of its
net assets, after waivers, which is not borne by the Investment Class. All
performance information is presented on a total return basis and reflects the
reinvestment of distributions. Past performance is no guarantee of future
results. Share prices will fluctuate, so that shares may be worth more or
less than their original cost when redeemed. Please read the prospectus
carefully before investing or sending money.
Beta is a measure of sensitivity to market movements compared to the
unmanaged S&P 500 index, with the beta of the S&P 500 equal to 1.00. A low
beta means that a fund's market related volatility has been low. Standard
deviation is a statistical measure within which a fund's total returns have
varied over time. The greater the standard deviation, the greater a fund's
volatility. The indices referred to in this report are unmanaged indices of
domestic common stocks.
14 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
FINANCIAL STATEMENTS
==============================================================
Schedules of Investments 16-20
Statements of Assets and Liabilities 21
Statements of Changes in Net Assets 22
Statements of Operations 23
Financial Highlights 24
Notes to Financial Statements 25-26
<PAGE>
SCHEDULES OF INVESTMENTS
- --------------------------------------------------------------------------
PENNSYLVANIA MUTUAL FUND JUNE 30, 1997 (UNAUDITED)
- --------------------------------------------------------------------------
COMMON STOCKS -- 95.3%
<TABLE>
<CAPTION>
SHARES VALUE
========= =============
<S> <C> <C>
CONSUMER PRODUCTS -- 14.6%
Allen Organ Company Cl. B 75,211 $ 2,999,038
Baldwin Piano & Organ Company* 30,700 422,125
Bassett Furniture Industries 169,075 4,786,936
Burnham Corporation Cl. A 43,876 1,579,536
Burnham Corporation Cl. B 4,040 145,440
Conso Products Co.* 144,225 1,766,756
Ethan Allen Interiors 49,400 2,815,800
Farmer Bros. 31,675 4,022,725
Fedders Corporation Cl. A 71,700 403,313
Flexsteel Industries 88,600 1,041,050
Garan Incorporated 192,800 3,880,100
Gibson Greetings* 130,600 2,938,500
Haggar Corp. 69,800 889,950
J & J Snack Foods Corp.* 50,100 770,287
Johnson Worldwide Associates Cl. A* 130,370 1,678,514
Juno Lighting 304,500 4,948,125
K-Swiss Cl. A 106,700 1,680,525
La-Z-Boy 94,500 3,402,000
Lazare Kaplan International* 172,100 2,882,675
Liberty Homes Cl. A 93,350 886,825
Liberty Homes Cl. B 21,950 222,244
Lifetime Hoan Corporation* 346,599 3,032,741
Lund International Holdings* 52,300 588,375
Matthews International Cl. A 54,900 2,003,850
Midwest Grain Products* 309,122 4,095,867
Oakley* 120,700 1,697,344
Oshkosh B'Gosh Cl. A 112,000 2,436,000
The Rival Company 165,700 2,444,075
Semi-Tech Corporation Cl. A 83,100 181,781
Skyline Corporation 196,800 4,846,200
Sturm, Ruger & Company 207,200 4,066,300
Thomaston Mills Cl. A 195,400 1,831,875
Thor Industries 201,500 5,012,312
The Topps Company* 616,800 2,582,850
Velcro Industries 81,400 6,674,800
WLR Foods 64,686 525,574
Weyco Group 45,700 2,970,500
------------
89,152,908
------------
CONSUMER SERVICES -- 3.5%
ASA Holdings 85,600 2,450,300
Bowl America Cl. A 121,500 865,688
Buffets* 333,400 2,813,063
Jenny Craig* 239,100 1,658,756
Grey Advertising 12,031 3,970,230
International Dairy Queen Cl. A* 156,400 3,753,600
International Dairy Queen Cl. B* 33,600 814,800
The Marcus Corporation 35,250 868,031
PCA International 100,100 2,002,000
Shoney's* 367,582 2,182,518
True North Communications 8,300 205,425
------------
21,584,411
------------
SHARES VALUE
========= =============
FINANCIAL INTERMEDIARIES -- 14.6%
Alleghany Corporation* 25,403 $ 5,525,153
ALLIED Group 143,075 5,436,850
ALLIED Life Financial 37,400 738,650
Baker Boyer Bancorp 31,300 1,228,525
Baldwin & Lyons Cl. B 125,678 2,843,465
The Commerce Group 222,642 5,482,559
Community Banks 41,700 1,501,200
F & M Bancorporation 13,800 641,700
Farmers & Merchants Bank
of Long Beach 1,306 2,788,310
Fremont General Corporation 106,770 4,297,492
Gryphon Holdings* 211,700 3,281,350
Hanmi Bank* 23,018 371,165
Highlands Insurance Group* 162,500 3,270,313
Intercargo Corporation 77,900 915,325
Leucadia National Corporation 200,128 6,191,460
Medical Assurance* 77,711 3,157,009
National Bancorp of Alaska 14,265 1,205,392
Nobel Insurance 74,400 1,106,700
Oriental Financial Group 50,900 1,437,925
Orion Capital Corporation 35,393 2,610,234
PXRE Corporation 186,541 5,736,136
Pennsylvania Manufacturers Cl. A 301,350 4,670,925
Piper Jaffray Companies 134,100 2,749,050
RLI Corp. 27,825 1,013,873
Trenwick Group 178,800 6,705,000
Wesco Financial 24,300 7,903,575
Zenith National Insurance 231,000 6,237,000
------------
89,046,336
------------
FINANCIAL SERVICES -- 7.8%
E.W. Blanch Holdings 196,200 5,236,087
Crawford & Company Cl. A 302,625 4,652,859
Crawford & Company Cl. B 74,975 1,218,344
Duff & Phelps Credit Rating 110,299 3,350,332
Eaton Vance Corp. 162,200 4,511,188
Arthur J. Gallagher & Co. 192,500 7,266,875
Hilb, Rogal & Hamilton 203,300 3,456,100
Investors Financial Services 58,404 2,774,190
The John Nuveen Company Cl. A 67,800 2,118,750
New England Investment
Companies, L.P. 56,000 1,449,000
Phoenix Duff & Phelps 271,400 2,001,575
The Pioneer Group 227,900 5,241,700
Willis Corroon Group ADR[dbldag] 424,200 4,745,737
------------
48,022,737
------------
HEALTH -- 1.4%
Haemonetics Corporation* 326,200 6,238,575
Life Technologies 77,960 2,163,390
------------
8,401,965
------------
INDUSTRIAL PRODUCTS -- 21.9%
Ag-Chem Equipment Co.* 142,300 3,272,900
American Filtrona 142,800 5,854,800
</TABLE>
16 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
SCHEDULES OF INVESTMENTS
- --------------------------------------------------------------------------
PENNSYLVANIA MUTUAL FUND JUNE 30, 1997 (UNAUDITED)
- --------------------------------------------------------------------------
COMMON STOCKS -- (continued)
<TABLE>
<CAPTION>
SHARES VALUE
========= ==============
<S> <C> <C>
INDUSTRIAL PRODUCTS -- (continued)
Ash Grove Cement Company 48,018 $ 2,881,080
BHA Group 132,871 2,458,117
Blessings Corporation 198,500 2,059,437
Carbo Ceramics 50,400 1,373,400
Cascade Corp. 151,000 2,916,188
CLARCOR 75,450 1,867,387
Curtiss-Wright Corporation 101,600 5,918,200
Delta Woodside Industries* 168,736 1,138,968
DeVlieg-Bullard* 38,000 130,625
Fab Industries 162,732 5,095,546
Falcon Products 98,600 1,324,938
Fansteel* 47,800 352,525
P. H. Glatfelter Company 194,200 3,884,000
C. H. Heist* 88,512 591,924
Holophane Corporation* 3,600 72,000
International Aluminum 153,500 4,067,750
Kaydon Corporation 120,100 5,959,962
Kimball International Cl. B 103,700 4,173,925
LeaRonal 72,372 2,062,602
Lilly Industries Cl. A 344,261 6,928,253
The Lincoln Electric Company Cl. A 124,690 4,769,393
Liqui-Box Corporation 110,500 3,729,375
MacDermid 16,500 756,937
Minuteman International 80,100 740,925
Myers Industries 171,575 2,895,328
Nordson Corporation 27,300 1,754,025
Oil-Dri Corporation of America 54,916 882,088
The Oilgear Company 13,400 232,825
Oregon Steel Mills 194,300 3,873,856
Oshkosh Truck Corporation Cl. B 253,500 3,612,375
Penn Engineering and
Manufacturing 221,750 4,351,844
Penn Engineering and
Manufacturing Cl. A 49,550 947,644
Preformed Line Products 94,893 4,127,846
Puerto Rican Cement Company 135,100 4,399,194
Quaker Chemical 57,064 991,487
Robroy Industries Cl. A 94,535 1,465,293
Simpson Manufacturing Co.* 180,900 4,793,850
The Standard Register Company 176,610 5,408,681
Synalloy Corporation 82,100 1,447,012
Tecumseh Products Company Cl. A 67,000 4,011,625
Todd Shipyards Corporation* 129,250 533,156
Unifi 93,800 3,505,775
Versa Technologies 110,932 1,747,179
Woodward Governor Company 153,072 5,510,592
Zero Corporation 130,400 3,423,000
-------------
134,295,832
-------------
INDUSTRIAL SERVICES -- 13.6%
ABM Industries 96,600 1,865,588
Aceto Corporation 79,364 1,160,698
Air Express International 167,887 6,673,508
SHARES VALUE
========= ==============
Arnold Industries 371,548 $ 6,316,316
Guy F. Atkinson Company* 178,500 1,246,711
Bowne & Co. 116,900 4,076,888
Circle International Group 248,074 6,542,952
Devcon International* 64,500 298,312
Devon Group* 15,400 550,550
Ennis Business Forms 229,600 2,209,900
Frozen Food Express Industries 414,867 3,578,228
Kenan Transport 70,800 1,442,550
Lufkin Industries 137,300 3,604,125
Merrill Corporation 121,300 4,412,288
Morrison Knudsen* 186,500 2,541,062
New England Business Service 250,600 6,593,913
Pittston Burlington Group 50,900 1,431,562
Plenum Publishing Corporation 115,450 4,444,825
Rykoff-Sexton 249,556 5,817,774
Sevenson Environmental Services 146,500 2,856,750
Standard Commercial* 207,545 3,606,094
Stone & Webster 79,600 3,397,925
TBC Corporation* 148,277 1,241,820
The Turner Corporation* 32,500 507,813
Vallen Corporation* 248,000 4,526,000
Werner Enterprises 2,700 52,312
Willbros Group* 133,500 2,119,313
-------------
83,115,777
-------------
NATURAL RESOURCES -- 3.4%
Alico 30,676 602,016
Barrett Resources* 5,300 158,669
Tom Brown* 54,700 1,162,375
CalMat 310,300 6,671,450
Consolidated-Tomoka Land Co. 51,800 841,750
FRP Properties* 85,900 2,319,300
Florida Rock Industries 168,500 6,845,313
The Newhall Land and Farming
Company 108,400 2,344,150
-------------
20,945,023
-------------
RETAIL -- 5.0%
Catherines Stores Corporation* 80,700 302,625
Cato Corporation Cl. A 73,000 396,937
Charming Shoppes* 558,100 2,912,584
Deb Shops 50,800 203,200
The Dress Barn* 235,900 4,600,050
Family Dollar Stores 113,000 3,079,250
Lillian Vernon 10,500 177,188
Mikasa 153,000 2,180,250
Sotheby's Holdings Cl. A 249,500 4,210,313
Stanhome 257,400 8,462,025
The Talbots 122,900 4,178,600
-------------
30,703,022
-------------
TECHNOLOGY -- 6.2%
BGS Systems, Inc. 128,200 3,525,500
CEM Corporation* 70,000 603,750
</TABLE>
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 17
<PAGE>
SCHEDULES OF INVESTMENTS
- --------------------------------------------------------------------------
PENNSYLVANIA MUTUAL FUND JUNE 30, 1997 (UNAUDITED)
- --------------------------------------------------------------------------
COMMON STOCKS -- (continued)
<TABLE>
<CAPTION>
SHARES VALUE
========= =============
<S> <C> <C>
TECHNOLOGY -- (continued)
DH Technology* 89,762 $ 1,458,632
Dionex Corporation* 65,638 3,363,948
Electroglas* 114,400 2,881,450
Exar Corporation* 137,400 2,954,100
Hach Company 54,361 1,073,630
ILC Technology* 73,400 789,050
MacNeal-Schwendler 12,800 139,200
Marshall Industries* 197,600 7,360,600
Modern Controls 55,600 750,600
National Computer Systems 211,903 5,641,917
Newport Corporation 138,900 1,562,625
Richardson Electronics 187,162 1,555,784
Scitex Corporation 331,000 2,916,937
Woodhead Industries 64,250 1,212,719
-------------
37,790,442
-------------
UTILITIES -- 0.3%
Southern Union Company* 81,317 1,860,126
-------------
MISCELLANEOUS -- 3.0% 18,184,926
-------------
TOTAL COMMON STOCKS
(Cost $366,736,420) 583,103,505
-------------
SHARES VALUE
========= =============
PREFERRED STOCK -- 0.1%
Bird Corp. ($1.85 Cv. Pfd.)
(Cost $477,514) 32,700 $ 572,250
-------------
REPURCHASE AGREEMENT -- 3.8%
State Street Bank and Trust Company,
5.15% dated 6/30/97, due 7/01/97,
maturity value $23,003,290
(collateralized by U.S. Treasury Notes,
6.0% due 5/31/98, valued at $23,461,912)
(Cost $23,000,000) 23,000,000
-------------
TOTAL INVESTMENTS -- 99.2%
(Cost $390,213,934) 606,675,755
CASH AND OTHER ASSETS LESS
LIABILITIES -- 0.8% 5,185,194
-------------
NET ASSETS -- 100.0% $611,860,949
-------------
</TABLE>
- -------------------------------------------------------------------------
* NON-INCOME PRODUCING.
[DAG] A PORTION OF THESE SECURITIES ARE ON LOAN AT JUNE 30, 1997. TOTAL MARKET
VALUE OF ALL SECURITIES ON LOAN IS $9,193,028, FOR WHICH THE FUND RECEIVED
$9,737,759 AS COLLATERAL.
[DBLDAG] AMERICAN DEPOSITORY RECEIPT.
INCOME TAX INFORMATION: THE COST OF TOTAL INVESTMENTS FOR FEDERAL INCOME TAX
PURPOSES WAS $390,213,934. AT JUNE 30, 1997, NET UNREALIZED APPRECIATION FOR
ALL SECURITIES AMOUNTED TO $216,461,821, CONSISTING OF AGGREGATE GROSS
UNREALIZED APPRECIATION OF $228,597,206 AND AGGREGATE GROSS UNREALIZED
DEPRECIATION OF $12,135,385.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
18 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
SCHEDULES OF INVESTMENTS
- --------------------------------------------------------------------------
PMF II JUNE 30, 1997 (UNAUDITED)
- --------------------------------------------------------------------------
COMMON STOCKS -- 87.5%
<TABLE>
<CAPTION>
SHARES VALUE
======== ============
<S> <C> <C>
CONSUMER PRODUCTS -- 15.6%
Bassett Furniture Industries 14,300 $ 404,869
Garan Incorporated 10,000 201,250
Gibson Greetings* 12,800 288,000
Jean-Philippe Fragrances* 26,600 166,250
Johnson Worldwide Associates Cl. A* 25,650 330,244
Midwest Grain Products* 21,200 280,900
Oshkosh B'Gosh Cl. A 18,700 406,725
Skyline Corporation 13,000 320,125
Thor Industries 10,900 271,138
The Topps Company* 95,000 397,813
------------
3,067,314
------------
CONSUMER SERVICES -- 3.0%
Buffets* 42,900 361,969
PCA International 11,200 224,000
------------
585,969
------------
FINANCIAL INTERMEDIARIES -- 11.0%
The Commerce Group 13,400 329,975
Leucadia National Corporation 6,300 194,906
Pennsylvania Manufacturers Cl. A 24,000 372,000
Resurgence Properties 45,000 320,625
Trenwick Group 14,100 528,750
Zenith National Insurance 15,100 407,700
------------
2,153,956
------------
FINANCIAL SERVICES -- 11.3%
Crawford & Company Cl. A 18,000 276,750
Duff & Phelps Credit Rating 10,000 303,750
Arthur J. Gallagher & Co. 9,100 343,525
Old Guard Group 25,000 376,563
Phoenix Duff & Phelps 35,000 258,125
The Pioneer Group 13,100 301,300
Willis Corroon Group ADR[DAG] 32,400 362,475
------------
2,222,488
------------
HEALTH -- 2.0%
Haemonetics Corporation* 20,000 382,500
------------
INDUSTRIAL PRODUCTS -- 10.2%
American Buildings Company* 10,000 270,000
Blessings Corporation 23,300 241,737
Curtiss-Wright Corporation 6,200 361,150
PalEx 20,000 205,000
Penn Engineering and
Manufacturing 18,200 357,175
Puerto Rican Cement Company 8,000 260,500
Unifi 8,000 299,000
------------
1,994,562
------------
SHARES VALUE
======== ============
INDUSTRIAL SERVICES -- 13.9%
Arnold Industries 30,000 $ 510,000
Frozen Food Express Industries 28,400 244,950
Insituform Technologies Cl. A* 50,300 308,087
Sevenson Environmental Services 30,400 592,800
Standard Commercial* 29,653 515,221
Stone & Webster 9,800 418,337
Vallen Corporation* 7,800 142,350
------------
2,731,745
------------
NATURAL RESOURCES -- 4.0%
CalMat 18,300 393,450
Florida Rock Industries 9,700 394,062
------------
787,512
------------
RETAIL -- 10.1%
Catherines Stores Corporation* 56,800 213,000
Charming Shoppes* 54,500 284,422
The Dress Barn* 12,000 234,000
Lechters* 83,200 364,000
Stanhome 17,800 585,175
The Talbots 9,000 306,000
------------
1,986,597
------------
TECHNOLOGY -- 6.4%
ILC Technology* 32,500 349,375
Marshall Industries* 700 26,075
National Computer Systems 18,000 479,250
Richardson Electronics 47,500 394,844
------------
1,249,544
------------
TOTAL COMMON STOCKS
(Cost $15,798,466) 17,162,187
------------
TOTAL INVESTMENTS -- 87.5%
(Cost $15,798,466) 17,162,187
CASH AND OTHER ASSETS
LESS LIABILITIES -- 12.5% 2,455,649
------------
NET ASSETS -- 100.0% $19,617,836
------------
</TABLE>
- -------------------------------------------------------------------------
* NON-INCOME PRODUCING.
[DAG] AMERICAN DEPOSITORY RECEIPT.
INCOME TAX INFORMATION: THE COST OF TOTAL INVESTMENTS FOR FEDERAL INCOME TAX
PURPOSES WAS $15,798,466. AT JUNE 30, 1997, NET UNREALIZED APPRECIATION FOR ALL
SECURITIES AMOUNTED TO $1,363,721, CONSISTING OF AGGREGATE GROSS UNREALIZED
APPRECIATION OF $1,631,576 AND AGGREGATE GROSS UNREALIZED DEPRECIATION OF
$267,855.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 19
<PAGE>
SCHEDULES OF INVESTMENTS
- --------------------------------------------------------------------------
ROYCE GIFTSHARES FUND JUNE 30, 1997 (UNAUDITED)
- --------------------------------------------------------------------------
COMMON STOCKS -- 90.9%
<TABLE>
<CAPTION>
SHARES VALUE
======== ===========
<S> <C> <C>
CONSUMER PRODUCTS -- 17.7%
Aldila* 3,000 $ 16,688
Bassett Furniture Industries 2,000 56,625
Johnson Worldwide Associates Cl. A* 1,500 19,312
Lifetime Hoan Corporation* 1,650 14,438
Mackie Designs* 1,500 13,125
Midwest Grain Products* 2,000 26,500
Oshkosh B'Gosh Cl. A 1,500 32,625
The Topps Company* 11,500 48,156
Weyco Group 800 52,000
-----------
279,469
-----------
CONSUMER SERVICES -- 2.1%
Buffets* 4,000 33,750
-----------
FINANCIAL INTERMEDIARIES -- 8.1%
Leucadia National Corporation 1,500 46,406
Nobel Insurance 2,000 29,750
Pennsylvania Manufacturers Cl. A 1,900 29,450
Zenith National Insurance 800 21,600
-----------
127,206
-----------
FINANCIAL SERVICES -- 9.9%
E.W. Blanch Holdings 1,200 32,025
Arthur J. Gallagher & Co. 1,500 56,625
Old Guard Group 1,600 24,100
Phoenix Duff & Phelps 2,000 14,750
Willis Corroon Group ADR[DAG] 2,500 27,969
-----------
155,469
-----------
HEALTH -- 2.1%
Haemonetics Corporation* 1,700 32,512
-----------
Industrial Products -- 5.5%
BHA Group 330 6,105
The Lincoln Electric Company Cl. A 400 15,300
Penn Engineering and
Manufacturing 1,500 29,438
Woodward Governor Company 1,000 36,000
-----------
86,843
-----------
INDUSTRIAL SERVICES -- 19.4%
Arnold Industries 2,000 34,000
DIMON Incorporated 1,500 39,750
SHARES VALUE
======== ===========
Frozen Food Express Industries 5,500 $ 47,437
Insituform Technologies Cl. A* 8,000 49,000
Kenan Transport 1,000 20,375
New England Business Service 1,000 26,313
Sevenson Environmental Services 2,800 54,600
Standard Commercial* 2,020 35,097
-----------
306,572
-----------
NATURAL RESOURCES -- 5.4%
Tom Brown* 1,500 31,875
CalMat 2,500 53,750
-----------
85,625
-----------
RETAIL -- 13.4%
Catherine Stores Corporation* 3,900 14,625
Charming Shoppes* 7,400 38,619
The Dress Barn* 2,500 48,750
Sotheby's Holdings Cl. A 2,000 33,750
Stanhome 1,600 52,600
The Talbots 700 23,800
-----------
212,144
-----------
TECHNOLOGY -- 7.3%
BGS Systems, Inc. 800 22,000
ILC Technology* 4,000 43,000
Marshall Industries* 600 22,350
National Computer Systems 100 2,662
Richardson Electronics 3,000 24,938
-----------
114,950
-----------
TOTAL COMMON STOCKS
(Cost $1,271,031) 1,434,540
-----------
TOTAL INVESTMENTS -- 90.9%
(Cost $1,271,031) 1,434,540
CASH AND OTHER ASSETS
LESS LIABILITIES -- 9.1% 142,950
-----------
NET ASSETS -- 100.0% $1,577,490
-----------
</TABLE>
- -------------------------------------------------------------------------
* NON-INCOME PRODUCING.
[DAG] AMERICAN DEPOSITORY RECEIPT.
INCOME TAX INFORMATION: THE COST OF TOTAL INVESTMENTS FOR FEDERAL INCOME TAX
PURPOSES WAS $1,271,031. AT JUNE 30, 1997, NET UNREALIZED APPRECIATION FOR ALL
SECURITIES WAS $163,509, CONSISTING OF AGGREGATE GROSS UNREALIZED APPRECIATION
OF $186,232 AND AGGREGATE GROSS UNREALIZED DEPRECIATION OF $22,723.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
20 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
STATEMENTS OF ASSETS AND LIABILITIES JUNE 30, 1997 (UNAUDITED)
- --------------------------------------------------------------------------
<TABLE>
<CAPTION>
PENNSYLVANIA ROYCE
MUTUAL FUND PMF II GIFTSHARES FUND
ASSETS: ============== ============= ================
<S> <C> <C> <C>
Investments at value (identified cost $367,213,934, $15,798,466, and
$1,271,031, respectively) $583,675,755 $17,162,187 $1,434,540
Repurchase agreements (at cost and value) 23,000,000 -- --
Cash 386,314 740,311 114,128
Receivable for investments sold 5,941,467 1,415,025 9,738
Receivable for capital shares sold 133,220 286,000 37,500
Receivable for dividends and interest 761,292 23,059 2,328
Prepaid expenses and other assets 46,737 25,891 14,495
- ---------------------------------------------------------------------------------------------------------------------------
Total Assets 613,944,785 19,652,473 1,612,729
- ---------------------------------------------------------------------------------------------------------------------------
LIABILITIES:
Payable for investments purchased 1,084,936 -- 30,903
Payable for capital shares redeemed 480,137 13,376 --
Payable for investment advisory fees 168,164 -- --
Accrued expenses 350,599 21,261 4,336
- ---------------------------------------------------------------------------------------------------------------------------
Total Liabilities 2,083,836 34,637 35,239
- ---------------------------------------------------------------------------------------------------------------------------
Net Assets $611,860,949 $19,617,836 $1,577,490
- ---------------------------------------------------------------------------------------------------------------------------
ANALYSIS OF NET ASSETS:
Undistributed net investment income $ 1,643,026 $ 191,237 $ 1,201
Accumulated net realized gain on investments 51,499,660 795,819 80,570
Net unrealized appreciation on investments 216,461,821 1,363,721 163,509
Capital shares 76,097 3,377 241
Additional paid-in capital 342,180,345 17,263,682 1,331,969
- ---------------------------------------------------------------------------------------------------------------------------
Net Assets $611,860,949 $19,617,836 $1,577,490
- ---------------------------------------------------------------------------------------------------------------------------
SHARES OUTSTANDING:
(unlimited number of $.001 par value shares authorized for each Fund) 3,376,866 241,331
- ---------------------------------------------------------------------------------------------------------------------------
Investment Class 57,854,744
- ---------------------------------------------------------------------------------------------------------------------------
Consultant Class 18,242,341
- ---------------------------------------------------------------------------------------------------------------------------
NET ASSET VALUE:
(offering and redemption price per share) $5.81 $6.54
- ---------------------------------------------------------------------------------------------------------------------------
Investment Class $8.04
- ---------------------------------------------------------------------------------------------------------------------------
Consultant Class $8.04
- ---------------------------------------------------------------------------------------------------------------------------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 21
<PAGE>
STATEMENTS OF CHANGES IN NET ASSETS
- --------------------------------------------------------------------------
<TABLE>
<CAPTION>
-------------------------------------------
PENNSYLVANIA MUTUAL FUND
-------------------------------------------
SIX MONTHS ENDED YEAR ENDED
JUNE 30, 1997 DECEMBER 31,
INVESTMENT (UNAUDITED) 1996
OPERATIONS: -------------------------------------------
<S> <C> <C>
Net investment income (loss) $ 1,643,026 $ 5,687,395
Net realized gain (loss) on investments 26,937,131 107,094,818
Net change in unrealized
appreciation on investments 29,104,286 (50,091,647)
- ----------------------------------------------------------------------------------
Net increase in net assets from
investment operations 57,684,443 62,690,566
- ----------------------------------------------------------------------------------
DIVIDENDS AND DISTRIBUTIONS:
Net investment income -- (5,996,455)
Net realized gain on investments -- (78,458,463)
- ----------------------------------------------------------------------------------
Total dividends and distributions -- (84,454,918)
- ----------------------------------------------------------------------------------
CAPITAL SHARE TRANSACTIONS:
Net proceeds from shares sold
Investment Class 18,717,531 42,163,541
Consultant Class 318,299
Value of shares issued in connection with the merger of Royce Value Fund
Consultant Class 144,531,292
Dividends reinvested
Investment Class -- 75,355,767
Cost of shares redeemed
Investment Class (65,532,278) (269,005,617)
Consultant Class (726,288)
- ----------------------------------------------------------------------------------
Net increase (decrease) in net assets
from capital share transactions 97,308,556 (151,486,309)
- ----------------------------------------------------------------------------------
NET INCREASE (DECREASE)
IN NET ASSETS 154,992,999 (173,250,661)
NET ASSETS:
Beginning of period 456,867,950 630,118,611
- ----------------------------------------------------------------------------------
End of period $611,860,949(b) $456,867,950(b)
==================================================================================
CAPITAL SHARE TRANSACTIONS:
Shares sold
Investment Class 2,552,183 5,372,907
Consultant Class 38,740
Shares issued in connection with the merger of Royce Value Fund
Consultant Class 18,295,100
Shares issued for reinvestment of dividends and distributions
Investment Class -- 10,873,360
Shares redeemed (e)
Investment Class (8,947,716) (33,697,985)
Consultant Class (91,499)
- ----------------------------------------------------------------------------------
Net increase (decrease) in shares
outstanding 11,846,808 (17,451,718)
- ----------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
------------------------------------------------------------------------------
PMF II ROYCE GIFTSHARES FUND
---------------------------------- --------------------------------------
SIX MONTHS ENDED PERIOD ENDED SIX MONTHS ENDED YEAR ENDED
JUNE 30, 1997 DECEMBER 31, JUNE 30, 1997 DECEMBER 31,
INVESTMENT (UNAUDITED) 1996(a) (UNAUDITED) 1996
OPERATIONS: ------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net investment income (loss) $ 180,259 $ 10,136 $ 1,201 $ (289)
Net realized gain (loss) on investments 798,691 (2,872) 66,577 68,063
Net change in unrealized
appreciation on investments 892,219 471,502 86,553 76,117
- ---------------------------------------------------------------------------------------------------------------------
Net increase in net assets from
investment operations 1,871,169 478,766 154,331 143,891
- ---------------------------------------------------------------------------------------------------------------------
DIVIDENDS AND DISTRIBUTIONS:
Net investment income -- -- -- --
Net realized gain on investments -- -- -- (53,781)
- ---------------------------------------------------------------------------------------------------------------------
Total dividends and distributions -- -- -- (53,781)
- ---------------------------------------------------------------------------------------------------------------------
CAPITAL SHARE TRANSACTIONS:
Net proceeds from shares sold 1,538,609 17,511,040 369,770 418,047
Investment Class
Consultant Class
Value of shares issued in connection with the merger of Royce Value Fund
Consultant Class
Dividends reinvested -- -- -- 53,593
Investment Class
Cost of shares redeemed (1,649,123) (133,625) (10,200) --
Investment Class
Consultant Class
- ---------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in net assets
from capital share transactions (110,514) 17,377,415 359,570 471,640
- ---------------------------------------------------------------------------------------------------------------------
NET INCREASE (DECREASE)
IN NET ASSETS 1,760,655 17,856,181 513,901 561,750
NET ASSETS:
Beginning of period 17,857,181 1,000 1,063,589 501,839
- ---------------------------------------------------------------------------------------------------------------------
End of period $19,617,836(c) $17,857,181(c) $1,577,490(d) $1,063,589(d)
=====================================================================================================================
CAPITAL SHARE TRANSACTIONS:
Shares sold 287,993 3,419,221 60,581 72,903
Investment Class
Consultant Class
Shares issued in connection with the merger of Royce Value Fund
Consultant Class
Shares issued for reinvestment of dividends
and distributions -- -- -- 9,402
Investment Class
Shares redeemed (e) (305,026) (25,522) (1,755) --
Investment Class
Consultant Class
- --------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in shares
outstanding (17,033) 3,393,699 58,826 82,305
- ---------------------------------------------------------------------------------------------------------------------
</TABLE>
(a) PMF II COMMENCED OPERATIONS ON NOVEMBER 19, 1996.
(b) INCLUDES UNDISTRIBUTED NET INVESTMENT INCOME OF $1,643,026 IN 1997 AND $0
IN 1996.
(c) INCLUDES UNDISTRIBUTED NET INVESTMENT INCOME OF $191,237 IN 1997 AND
$10,978 IN 1996.
(d) INCLUDES UNDISTRIBUTED NET INVESTMENT INCOME OF $1,201 IN 1997 AND $0 IN
1996.
(e) SHARES REDEEMED WITHIN ONE YEAR OF PURCHASE ARE SUBJECT TO A 1% REDEMPTION
FEE, PAYABLE TO THE FUNDS, WHICH IS USED TO OFFSET COSTS ASSOCIATED WITH
THE REDEMPTION.
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
22 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
STATEMENTS OF OPERATIONS SIX MONTHS ENDED JUNE 30, 1997 (UNAUDITED)
- ------------------------------------------------------------------------------
<TABLE>
<CAPTION>
PENNSYLVANIA ROYCE
MUTUAL FUND PMF II GIFTSHARES FUND
INVESTMENT INCOME: -------------- ------------- ----------------
<S> <C> <C> <C>
INCOME:
Dividends $ 3,880,443 $ 263,682 $ 9,442
Interest 353,639 6,268 828
- -----------------------------------------------------------------------------------------------------
Total Income 4,234,082 269,950 10,270
- -----------------------------------------------------------------------------------------------------
EXPENSES:
Investment advisory fees 1,783,350 90,737 7,570
Distribution fees (Consultant Class Shares) 51,550 -- --
Custodian and shareholder servicing fees 232,014 30,469 7,004
Administrative and office facilities expenses 184,504 12,556 393
Professional fees 40,054 12,655 1,385
Trustees' fees 57,675 1,679 59
Other expenses 270,777 10,303 8,686
- -----------------------------------------------------------------------------------------------------
Total Expenses 2,619,924 158,399 25,097
Fees Waived by Investment Adviser and Distributor (28,868) (68,708) (7,570)
Expenses Reimbursed by Investment Adviser -- -- (8,458)
- -----------------------------------------------------------------------------------------------------
Net Expenses 2,591,056 89,691 9,069
- -----------------------------------------------------------------------------------------------------
Net Investment Income 1,643,026 180,259 1,201
- -----------------------------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN ON INVESTMENTS:
Net realized gain on investments 26,937,131 798,691 66,577
Net change in unrealized appreciation on investments 29,104,286 892,219 86,553
- -----------------------------------------------------------------------------------------------------
Net realized and unrealized gain on investments 56,041,417 1,690,910 153,130
- -----------------------------------------------------------------------------------------------------
NET INCREASE IN NET ASSETS FROM
INVESTMENT OPERATIONS $57,684,443 $1,871,169 $154,331
- -----------------------------------------------------------------------------------------------------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS.
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 23
<PAGE>
FINANCIAL HIGHLIGHTS
- --------------------------------------------------------------------------
This table is presented to show selected data for a share outstanding
throughout each period, and to assist shareholders in evaluating the Funds'
performance for the periods presented.
- --------------------------------------------------------------------------
<TABLE>
<CAPTION>
NET ASSET VALUE, NET INVESTMENT NET REALIZED AND DIVIDENDS FROM
BEGINNING INCOME UNREALIZED GAIN (LOSS) ON NET INVESTMENT
OF PERIOD (LOSS) INVESTMENTS INCOME
- --------------------------------------------------------------------------------------------------
PENNSYLVANIA MUTUAL FUND - INVESTMENT CLASS (a)
<S> <C> <C> <C> <C> <C>
[dbldag] 1997 $7.11 $0.03 $ 0.90 $ --
1996 7.71 0.11 0.84 (0.11)
1995 7.41 0.11 1.27 (0.11)
1994 8.31 0.12 (0.18) (0.11)
1993 8.00 0.11 0.79 (0.11)
1992 7.29 0.11 1.07 (0.10)
PENNSYLVANIA MUTUAL FUND - CONSULTANT CLASS (b)
[dbldag] 1997 $7.90 $ -- $ 0.14 $ --
PMF II (c)
[dbldag] 1997 $5.26 $0.05 $ 0.50 $ --
1996 5.00 -- 0.26 --
ROYCE GIFTSHARES FUND (d)
[dbldag] 1997 $5.83 $ -- $ 0.71 $ --
1996 5.01 -- 1.27 --
1995 5.00 -- 0.01 --
</TABLE>
<TABLE>
<CAPTION>
RATIO OF RATIO OF NET
DISTRIBUTIONS FROM NET ASSET NET ASSETS, EXPENSES INVESTMENT PORTFOLIO
NET REALIZED GAIN VALUE, END TOTAL END OF PERIOD TO AVERAGE INCOME (LOSS) TO TURNOVER
ON INVESTMENTS OF PERIOD RETURN (IN THOUSANDS) NET ASSETS AVERAGE NET ASSETS RATE
- ------------------------------------------------------------------------------------------------------------------------
PENNSYLVANIA MUTUAL FUND - INVESTMENT CLASS (a)
<S> <C> <C> <C> <C> <C> <C> <C>
[dbldag] $ -- $8.04 13.1% $ 465,203 1.13%* 0.75%* 7%
(1.44) 7.11 12.8% 456,868 0.99% 1.05% 29%
(0.97) 7.71 18.7% 630,119 0.98% 1.18% 10%
(0.73) 7.41 (0.7)% 771,417 0.98% 1.33% 17%
(0.48) 8.31 11.3% 1,022,161 0.98% 1.23% 24%
(0.37) 8.00 16.2% 1,102,224 0.91% 1.48% 22%
PENNSYLVANIA MUTUAL FUND - CONSULTANT CLASS (b)
[dbldag] $ -- $8.04 1.8% $ 146,658 1.65%* .01%* 7%
PMF II (c)
[dbldag] $ -- $5.81 10.5% $ 19,618 0.99%* 1.99%* 55%
-- 5.26 5.2% 17,857 0.97%* 0.83%* 1%
ROYCE GIFTSHARES FUND (d)
[dbldag] $ -- $6.54 12.2% $ 1,577 1.50%* 0.20%* 47%
(0.45) 5.83 25.6% 1,064 1.49% (0.05)% 93%
-- 5.01 0.2% 502 0.70%* 0.00%* 0%
</TABLE>
<TABLE>
<CAPTION>
AVERAGE
COMMISSION
RATE PAID[DAG]
-----------
PENNSYLVANIA MUTUAL FUND - INVESTMENT C
CLASS (a)
<S> <C>
[dbldag] $0.0659
0.0588
--
--
--
--
PENNSYLVANIA MUTUAL FUND - CONSULTANT CLASS (b)
[dbldag] $0.0659
PMF II (c)
[dbldag] $0.0601
0.0586
ROYCE GIFTSHARES FUND (d)
[dbldag] $0.0602
0.0566
--
</TABLE>
- --------------------------------------------------------------------------
(a) EXPENSE RATIOS ARE SHOWN AFTER FEE WAIVERS BY THE INVESTMENT ADVISER.
FOR THE YEARS ENDED DECEMBER 31, 1996 AND 1995, THE EXPENSE RATIOS
BEFORE THE WAIVERS WOULD HAVE BEEN 1.03% AND .99%, RESPECTIVELY.
(b) EXPENSE RATIO IS SHOWN AFTER FEE WAIVERS BY THE DISTRIBUTOR . FOR
THE PERIOD ENDED JUNE 30, 1997, THE EXPENSE RATIO BEFORE THE WAIVER
WOULD HAVE BEEN 2.21%. THE CLASS COMMENCED OPERATIONS ON JUNE 18,
1997.
(c) EXPENSE RATIOS ARE SHOWN AFTER FEE WAIVERS BY THE INVESTMENT ADVISER.
FOR THE PERIODS ENDED JUNE 30, 1997 AND DECEMBER 31, 1996, THE
EXPENSE RATIOS BEFORE THE WAIVERS WOULD HAVE BEEN 1.75% AND 1.97%,
RESPECTIVELY. THE FUND COMMENCED OPERATIONS ON NOVEMBER 19, 1996.
(d) EXPENSE RATIOS ARE SHOWN AFTER FEE WAIVERS AND EXPENSE
REIMBURSEMENTS BY THE INVESTMENT ADVISER . FOR THE PERIODS ENDED
JUNE 30, 1997, AND DECEMBER 31, 1996 AND 1995, THE EXPENSE RATIOS
BEFORE THE WAIVERS AND REIMBURSEMENTS WOULD HAVE BEEN 4.14%, 6.53%,
AND 1.95%, RESPECTIVELY. THE FUND COMMENCED OPERATIONS ON DECEMBER
27, 1995.
* ANNUALIZED.
[DAG] FOR FISCAL YEARS BEGINNING ON OR AFTER OCTOBER 1, 1995, THE FUND IS
REQUIRED TO DISCLOSE ITS AVERAGE COMMISSION RATE PAID PER SHARE FOR
PURCHASES AND SALES OF INVESTMENTS.
[DBLDAG] PERIOD ENDED JUNE 30, 1997 (UNAUDITED).
24 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
- --------------------------------------------------------------------------
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Pennsylvania Mutual Fund, PMF II and Royce GiftShares Fund ("Fund" or
"Funds") are three series of The Royce Fund (the "Trust").
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of income and expenses during the
reporting period. Actual results could differ from those estimates.
VALUATION OF INVESTMENTS:
Securities listed on an exchange or on the Nasdaq National Market System
are valued on the basis of the last reported sale prior to the time the
valuation is made or, if no sale is reported for such day, at their bid price
for exchange-listed securities and at the average of their bid and asked
prices for Nasdaq securities. Quotations are taken from the market where the
security is primarily traded. Other over-the-counter securities for which
market quotations are readily available are valued at their bid price.
Securities for which market quotations are not readily available are valued at
their fair value under procedures established and supervised by the Board of
Trustees. Bonds and other fixed income securities may be valued by reference
to other securities with comparable ratings, interest rates and maturities,
using established independent pricing services.
INVESTMENT TRANSACTIONS AND RELATED INVESTMENT INCOME:
Investment transactions are accounted for on the trade date and dividend
income is recorded on the ex-dividend date. Interest income is recorded on the
accrual basis. Realized gains and losses from investment transactions and
unrealized appreciation and depreciation are determined on the basis of
identified cost for book and tax purposes.
EXPENSES:
Expenses directly attributable to each Fund or Class are charged to that
Fund's or Class' operations while expenses applicable to all Funds or all
Classes of a Fund are allocated in an equitable manner.
TAXES:
As qualified regulated investment companies under Subchapter M of the
Internal Revenue Code, the Funds are not subject to income taxes to the extent
that each Fund distributes substantially all of its taxable income for its
fiscal year. The Schedules of Investments include information regarding income
taxes under the caption "Income Tax Information."
DISTRIBUTIONS:
Any dividend and capital gain distributions are recorded on the
ex-dividend date and paid annually in December. These distributions are
determined in accordance with income tax regulations which may differ from
generally accepted accounting principles. Permanent book and tax basis
differences relating to shareholder distributions will result in
reclassification to paid-in capital and may affect net investment income per
share. Undistributed net investment income may include temporary book and tax
basis differences which will reverse in a subsequent period. Any taxable
income or gain remaining at fiscal year end is distributed in the following
year.
REPURCHASE AGREEMENTS:
The Funds enter into repurchase agreements with respect to portfolio
securities solely with State Street Bank and Trust Company ("SSB&T"), the
custodian of the Funds' assets. Each Fund restricts repurchase agreements to
maturities of no more than seven days. Securities pledged as collateral for
repurchase agreements are held by SSB&T until maturity of the repurchase
agreements. Repurchase agreements could involve certain risks in the event of
default or insolvency of SSB&T, including possible delays or restrictions upon
the ability of each Fund to dispose of its underlying securities.
SECURITY LENDING:
Pennsylvania Mutual Fund loans securities to qualified institutional
investors for the purpose of realizing additional income. This income is
included in interest income. Loans of securities of Pennsylvania Mutual Fund
are collateralized by cash and/or securities issued or guaranteed by the U.S.
Government or its agencies or instrumentalities. The collateral is equal to at
least 100% of the current market value of the loaned securities.
THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997 | 25
<PAGE>
NOTES TO FINANCIAL STATEMENTS (UNAUDITED) (CONTINUED)
- --------------------------------------------------------------------------
INVESTMENT ADVISER AND DISTRIBUTOR:
Under the Trust's investment advisory agreement with Royce & Associates,
Inc. ("Royce") (formerly Quest Advisory Corp.), Royce is entitled to receive
management fees which are computed daily and payable monthly. For the six
months ended June 30, 1997, Pennsylvania Mutual Fund and PMF II recorded
advisory fees of $1,783,350 and $22,029 (net of voluntary waivers of $68,708),
respectively. Royce voluntarily waived advisory fees of $7,570 for Royce
GiftShares Fund. The agreements provide for advisory fees for Pennsylvania
Mutual Fund equal to 1.0% per annum of the first $50 million of the Fund's
average net assets, 0.875% per annum of the next $50 million of such net
assets and 0.75% per annum of additional amounts of average net assets, and
for PMF II and Royce GiftShares Fund 1.0% and 1.25% per annum of average net
assets, respectively.
Royce Fund Services, Inc. ("RFS") (formerly Quest Distributors, Inc.),
the distributor of The Royce Fund's shares, is an affiliate of Royce. RFS
received 12b-1 distribution fees from Pennsylvania Mutual Fund's Consultant
Class totaling $36,601 for the period ended June 30, 1997. This amount is net
of $14,949 of fees which were voluntarily waived by RFS. The distribution
agreement provides for maximum fees of 1.0% per annum of Pennsylvania Mutual
Fund's Consultant Class average net assets.
PURCHASES AND SALES OF INVESTMENT SECURITIES:
For the six months ended June 30, 1997, the cost of purchases and the
proceeds from sales of investment securities, other than short-term securities,
were as follows:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------
PENNSYLVANIA ROYCE
MUTUAL FUND PMF II GIFTSHARES FUND
-------------- ------------- ----------------
<S> <C> <C> <C>
Purchases $32,835,099 $ 9,579,098 $1,103,241
- ----------------------------------------------------------------
Sales $65,121,246 $10,073,843 $ 473,775
- ----------------------------------------------------------------
</TABLE>
TRANSACTIONS IN SHARES OF AFFILIATED COMPANIES:
An "Affiliated Company", as defined in the Investment Company Act of 1940,
is a company in which the Fund owns at least 5% of the company's outstanding
voting securities. The Fund effected the following transactions in shares of
such companies for the six months ended June 30, 1997.
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------
PURCHASES SALES
------------------- --------------- REALIZED DIVIDEND
AFFILIATED COMPANY SHARES COST SHARES COST GAIN/LOSS INCOME
- -------------------- -------- ---------- -------- ------ ---------- ---------
<S> <C> <C> <C> <C> <C> <C>
Allen Organ
Company
Cl. B 16,500 $641,438 -- -- -- $33,309
- -----------------------------------------------------------------------------
</TABLE>
MERGER INFORMATION:
On June 17, 1997, Pennsylvania Mutual Fund acquired all of the assets and
assumed all of the liabilities of Royce Value Fund. Based on the opinion of
Fund counsel, the acquisition, which was approved by the shareholders of Royce
Value Fund on May 28, 1997, qualifies as a tax-free reorganization for federal
income tax purposes with no gain or loss recognized to the Funds or their
shareholders. Royce Value Fund's net assets, including $40,233,294 of
unrealized appreciation, were combined with Pennsylvania Mutual Fund for total
net assets after the acquisition of $604,764,550. Costs associated with the
acquisition were borne by the Investment Adviser.
26 | THE ROYCE FUNDS SEMI-ANNUAL REPORT 1997
<PAGE>
BLANK PAGE
<PAGE>
BLANK PAGE
<PAGE>
[BEGIN SIDEBAR]
So while the "bulls" of both basketball and the market may reach dazzling new
heights this year, we will continue to hone our approach and emphasize building
returns over the long term.
[END SIDEBAR]
POSTSCRIPT
- --------------------------------------------------------------------------------
ALL THAT JAZZ
[Photo of basketball over 1st paragraph of text]
This year's National Basketball Association Championship Finals
pitted the high-flying exploits of Michael Jordan and the Chicago Bulls against
the Utah Jazz. The appearance this year of the Jazz represented the culmination
of over a decade's work for two of the game's premier players, John Stockton and
league MVP Karl Malone. To achieve a consistent level of success, these two
players have relied on a style of play that is the complete antithesis of Jordan
& Co.'s acrobatic airborne style. The Jazz are patient; they rely on the
fundamentals of intelligent ballhandling and passing, smart shot selection and
tough defense.
Their two stalwarts, Stockton & Malone, specialize in one of
basketball's oldest and most reliable plays, the pick and roll. Stockton
dribbles the ball toward the 6'10" Malone, who sets the "pick," standing in the
way of the player defending the smaller, quicker Stockton, in effect taking that
opponent out of the play. Malone then "rolls" toward the basket to receive a
pass from Stockton and make an easy score. This formula has been confounding the
team's opponents for years, in spite of the fact that every team the Jazz plays
knows what is coming. The key to the duo's success lies in their execution, in
their ability to master a fundamentally sound approach.
You might describe the fundamental approach we bring to small-cap
value investing as our version of the pick and roll. Whether in basketball or
stock selection, each approach hinges on two elements working closely in sync
with one another to achieve success. We employ the "pick" on small-cap stocks
with the "roll" toward a disciplined value approach. Consistent application over
the years may have made what we do predictable, but we have been no less
successful for being so. For over twenty years, we have emphasized the
fundamentals of investing when looking for small company stocks. As value
investing continues to "score points" with solid returns in 1997, we are
witnessing what looks like a return to a period of higher volatility. This
environment gives us the "home-court advantage," as a more volatile market
demands active management and closer attention to risk factors. The importance
we place on a company's financial characteristics at the time of purchase is the
essential element to our risk-averse value approach.
<PAGE>
Why Value Investors Rely on
THE ROYCE FUNDS
^ ONE OF THE MOST WELL-RESPECTED AND OLDEST SMALL-CAP INVESTMENT MANAGERS
WITH A VALUE ORIENTATION -- We are an independent small-cap manager with
over 20 years of investment management experience. Based in New York, ROYCE
has more than $2 billion in total assets under management -- all focused on
small and micro-cap value investing. We offer a full range of small-cap,
open-end mutual funds and closed-end funds, providing investors and
advisors with a wide variety of small-cap alternatives.
^ DEDICATED PROFESSIONALS WITH A SINGULAR FOCUS -- Over the last 20 years,
we have built substantial trading and research relationships in an attempt
to provide shareholders with the best possible small-cap portfolios
available. Our time-tested investment approach is supported by 12
professionals. Charles M. Royce, Chief Investment Officer, remains the
primary portfolio manager.
^ REALISTIC EXPECTATIONS AND CONSISTENT RESULTS -- ROYCE PREMIER, ROYCE TOTAL
RETURN and PENNSYLVANIA MUTUAL are consistently ranked among the "lowest
risk" small-cap equity funds available. We offer a systematic and
disciplined investment approach that avoids style and capitalization drift.
All the funds seek to provide above average full market cycle total returns
with below average risk.
^ CO-OWNERSHIP OF FUNDS -- We believe it is important for our employees'
financial interests to be congruent with our shareholders' financial
interests. The Firm's officers and employees currently have more than $30
million invested in the Funds.
VALUE INVESTING IN SMALL COMPANIES FOR OVER 20 YEARS
=====================
For General Information, Adviser Services
Additional Report Copies For Fund Materials, Performance Updates,
& Prospectus Inquiries Transactions or Account Inquiries
(800) 221-4268 (800) 59-ROYCE (597-6923)
Shareholder Services Automated Telephone Services
(800) 841-1180 (800) 78-ROYCE (787-6923)
E-mail: [email protected] Web address: www.roycefunds.com
The Royce Funds 1414 Avenue of the Americas New York, NY 10019
This report must be accompanied by or preceded by a current prospectus
of each of the Funds.
Please read the prospectus carefully before investing or sending money.
