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FPA PERENNIAL FUND, INC.
PROSPECTUS
FPA Perennial Fund, Inc. ("Fund") is a mutual fund designed for
individual, partnership and corporate retirement plans. The Fund's primary
investment objective is long-term growth of capital. Current income is a
secondary consideration. The Fund usually invests principally in common
stocks considered by the Fund's investment adviser, First Pacific Advisors,
Inc. ("Adviser"), on the basis of fundamental analysis, to provide attractive
value relative to their market prices.
This Prospectus briefly outlines information prospective investors
should know before purchasing Fund shares. Investors should read and retain
this Prospectus for future reference.
A Statement of Additional Information about the Fund dated May 1, 1998,
which is incorporated by reference in this Prospectus, has been filed with
the Securities and Exchange Commission. It is available at no charge by
contacting FPA Fund Distributors, Inc. ("Distributor") at 11400 West Olympic
Boulevard, Suite 1200, Los Angeles, California 90064: telephone (310)473-0225
or (800)982-4372, except from Alaska, Hawaii and Puerto Rico.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED
UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE
CONTRARY IS A CRIMINAL OFFENSE.
[LOGO]
DISTRIBUTOR:
FPA FUND DISTRIBUTORS, INC.
11400 WEST OLYMPIC BOULEVARD, SUITE 1200
LOS ANGELES, CA 90064
MAY 1, 1998
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FPA PERENNIAL FUND, INC.
11400 West Olympic Boulevard, Suite 1200
Los Angeles, California 90064
(310) 473-0225
INVESTMENT First Pacific Advisors, Inc.
ADVISER: 11400 West Olympic Boulevard, Suite 1200
Los Angeles, California 90064
DISTRIBUTOR: FPA Fund Distributors, Inc.
11400 West Olympic Boulevard, Suite 1200
Los Angeles, California 90064
(310) 473-0225
(800) 982-4372 except
Alaska, Hawaii, and
Puerto Rico
SHAREHOLDER Boston Financial Data Services, Inc.
SERVICE AGENT: P.O. Box 8500
Boston, Massachusetts 02266-8500
(617) 328-5000
(800) 638-3060 except
Alaska, Hawaii
Massachusetts and
Puerto Rico
CUSTODIAN AND State Street Bank and Trust Company
TRANSFER AGENT: 225 Franklin Street
Boston, Massachusetts 02110
INQUIRIES CONCERNING TRANSFER OF REGISTRATION, DISTRIBUTIONS, REDEMPTIONS AND
SHAREHOLDER SERVICE SHOULD BE DIRECTED TO THE SHAREHOLDER SERVICE AGENT.
INQUIRIES CONCERNING SALES SHOULD BE DIRECTED TO THE DISTRIBUTOR.
TABLE OF CONTENTS
<TABLE>
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PAGE
<S> <C>
Expenses Synopsis..................................................... 3
Financial Highlights.................................................. 4
Suitability........................................................... 4
Investment Objectives and Policies.................................... 5
The Fund and Its Management........................................... 6
Advisory Agreement.................................................. 6
FPA Fund Family..................................................... 6
Prior Performance Information....................................... 7
Purchase of Shares.................................................... 7
Net Asset Value..................................................... 8
Table of Sales Charges.............................................. 8
Cumulative Purchase Discount........................................ 8
Letter of Intent.................................................... 8
Sales at Net Asset Value............................................ 9
Shareholder Services.................................................. 9
FPA Exchange Privilege.............................................. 9
Money Market Fund Exchange Privilege................................ 10
How to Exchange Shares.............................................. 10
Investment Account.................................................. 10
Pre-Authorized Investment Plan...................................... 11
Retirement Plans.................................................... 11
Systematic Withdrawal Plan.......................................... 11
Redemption of Shares.................................................. 11
Telephone Transactions.............................................. 12
<CAPTION>
PAGE
<S> <C>
Reinvestment Privilege.............................................. 12
Dividends, Distributions and Taxes.................................... 12
Dividends........................................................... 13
Capital Gains....................................................... 13
Taxes............................................................... 13
Investment Practices, Risks and Restrictions.......................... 13
Fixed-Income Securities............................................. 13
Risks of Lower-Rated Securities..................................... 13
Securities of Foreign Issuers....................................... 14
Covered Call Options................................................ 14
Short Sales Against the Box......................................... 15
Repurchase Agreements............................................... 15
Brokerage Practices................................................. 15
Portfolio Turnover.................................................. 15
Investment Restrictions............................................. 16
Additional Information................................................ 16
Common Stock........................................................ 16
Voting Rights....................................................... 16
Shareholder Inquiries............................................... 16
Shareholder Service Agent........................................... 16
Custodian........................................................... 16
Legal Counsel....................................................... 16
Independent Auditors................................................ 16
</TABLE>
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NO DEALER, SALESMAN, OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION
OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS OR
IN SUPPLEMENTAL SALES LITERATURE DISTRIBUTED BY THE DISTRIBUTOR IN CONNECTION
WITH THE OFFER CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN OR MADE, SUCH OTHER
INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED
BY THE FUND OR BY THE DISTRIBUTOR. THIS PROSPECTUS DOES NOT CONSTITUTE AN
OFFERING BY THE DISTRIBUTOR IN ANY JURISDICTION IN WHICH SUCH OFFERING MAY NOT
LAWFULLY BE MADE.
2
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EXPENSE SYNOPSIS
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<S> <C>
SHAREHOLDER TRANSACTION EXPENSES
Maximum Sales Load Imposed on
Purchases (as a percentage of
offering price)............... 6.50%
Deferred Sales Load (as a
percentage of original sales
price or redemption proceeds,
as applicable)................ *
Redemption Fee (as a percentage
of amount redeemed)........... None
Exchange Fee.................... $5.00
ANNUAL FUND OPERATING EXPENSES
(as a percentage of average net
assets)
Management Fees................. 0.75%
12b-1 Fees...................... None
Other Expenses (including
financial services)........... 0.41%
-----
Total Fund Operating Expenses... 1.16%
</TABLE>
<TABLE>
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1 YEAR 3 YEARS 5 YEARS 10 YEARS
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<S> <C> <C> <C> <C>
EXAMPLE
You would pay the following
expenses on a $1,000 investment,
assuming (1) five percent annual
return and (2) redemption at the
end of each time period: $76.00 $99.00 $125.00 $197.00
</TABLE>
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* An account management fee is charged by unaffiliated investment advisers or
broker-dealers to certain accounts entitled to purchase shares without sales
charge.
The foregoing synopsis is intended to assist the investor in understanding
the various costs and expenses that an investor in the Fund will bear directly
or indirectly. See "Purchase of Shares" and "The Fund and Its Management." The
example is included to provide a means for the investor to compare expense
levels of funds with different fee structures over varying investment periods.
To facilitate such comparison, all funds are required to utilize a five percent
annual return assumption. This assumption is unrelated to the Fund's prior
performance and is not a projection of future performance. THE EXAMPLE SHOULD
NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE EXPENSES. ACTUAL EXPENSES
MAY BE GREATER OR LESSER THAN THOSE SHOWN.
3
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FINANCIAL HIGHLIGHTS
The following information has been audited by the Fund's independent
auditors. Their report appears in the Statement of Additional Information. This
information should be read in conjunction with the related financial statements
included in the Statement of Additional Information, which can be obtained
without charge from the Distributor at the address shown on the cover page of
this Prospectus.
For one share outstanding throughout each year
<TABLE>
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
---------------------------------------------------------
1997 1996 1995 1994 1993
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<S> <C> <C> <C> <C> <C>
Per share operating performance:
Net asset value at beginning of year.............. $ 22.58 $ 22.36 $ 21.97 $ 23.76 $ 23.94
--------- --------- --------- --------- ---------
Net investment income............................. $ 0.05 $ 0.10 $ 0.36 $ 0.46 $ 0.46
Net realized and unrealized gain (loss) on
investment securities........................... 4.61 3.75 2.95 (0.48) 0.59
--------- --------- --------- --------- ---------
Total from investment operations.................. $ 4.66 $ 3.85 $ 3.31 $ (0.02) $ 1.05
--------- --------- --------- --------- ---------
Less distributions:
Dividends from net investment income.............. $ (0.05) $ (0.22) $ (0.44) $ (0.46) $ (0.47)
Distributions from net realized capital gains..... (3.19) (3.41) (2.48) (1.31) (0.76)
--------- --------- --------- --------- ---------
Total distributions............................... $ (3.24) $ (3.63) $ (2.92) $ (1.77) $ (1.23)
--------- --------- --------- --------- ---------
Net asset value at end of year.................... $ 24.00 $ 22.58 $ 22.36 $ 21.97 $ 23.76
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
Total investment return*.......................... 24.30% 20.39% 17.27% (0.03)% 4.64%
Ratios/supplemental data:
Net assets at end of year (in $000's)............. 50,201 45,798 47,390 51,965 88,301
Ratio of expenses to average net assets........... 1.16% 1.19% 1.19% 1.13% 1.02%
Ratio of net investment income to average net
assets.......................................... 0.21% 0.48% 1.63% 1.95% 2.03%
Portfolio turnover rate........................... 19% 30% 58% 31% 43%
Average brokerage commissions per share........... $ 0.0586 $ 0.0596 -- -- --
<CAPTION>
FOR THE YEARS ENDED DECEMBER 31,
---------------------------------------------------------
1992 1991 1990 1989 1988
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<S> <C> <C> <C> <C> <C>
Per share operating performance:
Net asset value at beginning of year.............. $ 22.40 $ 19.82 $ 22.60 $ 19.28 $ 17.16
--------- --------- --------- --------- ---------
Net investment income............................. $ 0.52 $ 0.64 $ 0.77 $ 0.75 $ 0.70
Net realized and unrealized gain (loss) on
investment securities........................... 2.26 3.38 (0.55) 3.88 2.52
--------- --------- --------- --------- ---------
Total from investment operations.................. $ 2.78 $ 4.02 $ 0.22 $ 4.63 $ 3.22
--------- --------- --------- --------- ---------
Less distributions:
Dividends from net investment income.............. $ (0.57) $ (0.73) $ (1.15) $ (0.72) $ (0.65)
Distributions from net realized capital gains..... (0.67) (0.71) (1.85) (0.59) (0.45)
--------- --------- --------- --------- ---------
Total distributions............................... $ (1.24) $ (1.44) $ (3.00) $ (1.31) $ (1.10)
--------- --------- --------- --------- ---------
Net asset value at end of year.................... $ 23.94 $ 22.40 $ 19.82 $ 22.60 $ 19.28
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
Total investment return*.......................... 13.07% 21.69% 0.97% 25.79% 19.92%
Ratios/supplemental data:
Net assets at end of year (in $000's)............. 76,254 63,757 51,488 55,982 51,607
Ratio of expenses to average net assets........... 1.08% 1.10% 1.14% 1.12% 1.17%
Ratio of net investment income to average net
assets.......................................... 2.37% 3.11% 3.78% 3.45% 3.62%
Portfolio turnover rate........................... 30% 33% 29% 27% 29%
Average brokerage commissions per share........... -- -- -- -- --
</TABLE>
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* Return is based on net asset value per share, adjusted for reinvestment of
distributions, and does not reflect deduction of the sales charge.
SUITABILITY
The Fund is designed to serve chiefly as an investment vehicle for
retirement plans and other entities exempt from federal income taxation,
although Fund shares may be purchased by other investors. The Adviser considers
the Fund especially suitable for those investors who are in a position to hold
Fund shares over the course of a market cycle or longer. The Fund's portfolio is
managed with disciplines similar to those applied to corporate pension accounts
managed by the Adviser. Investment decisions are made without regard to tax
considerations other than maintenance of the Fund's qualification as a regulated
investment company under the Internal Revenue Code.
4
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INVESTMENT OBJECTIVES AND POLICIES
The primary investment objective of the Fund is long-term growth of capital.
Current income is a secondary consideration. The Adviser believes the Fund's
primary objective can best be achieved by investing in a diversified selection
of common stocks of companies which, in the judgment of the Adviser, possess
attractive value relative to price, show good prospects for growth, and have
quality management. The Fund may also invest in United States Government and
government agency obligations, corporate debt securities, preferred stocks and
convertible securities. There is no assurance that the Fund will succeed in
achieving its investment objectives as there is market risk inherent in seeking
capital growth and in owning common stocks and other securities.
Generally, the Adviser favors investments in common stocks of companies
demonstrating a consistently high return on invested capital with a substantial
portion of earnings reinvested in the business to achieve compounded growth. The
Adviser also searches for companies it deems undervalued when considering book
value, replacement cost of assets and/or other relevant factors.
The Adviser attempts to lessen price risk by not overpaying for earnings of
even the best companies. In the Adviser's opinion, better values and less price
risk may often be found among companies with successful records that are
currently out-of-favor as evidenced by such factors as relatively low
price-earnings ratios. There is no assurance, however, that the Adviser's
practices will reduce risk and in any event shares of the Fund may decrease in
value especially during periods of general decline in market prices of equity
securities.
Investments are not limited to any specific industry, market segment or area
of technology. The Adviser emphasizes investments in securities which it
considers offer the best value. Periodically, larger than usual positions in
cash or high-quality short-term debt securities (U.S. Government or government
agency securities, obligations of domestic banks, prime commercial paper notes
and repurchase agreements) may be held for temporary defensive purposes or to
meet liquidity needs.
Up to 15% of the Fund's net assets may be invested in lower-rated or
comparable unrated debt securities as described under "Investment Practices,
Risks and Restrictions--Fixed-Income Securities" and "--Risks of Lower-Rated
Securities." The Fund may invest up to 25% of its net assets in securities of
foreign issuers provided no more than 10% be invested in such securities not
represented by ADRs listed on The New York Stock Exchange ("NYSE") or the
American Stock Exchange. Such investments involve additional risks and
opportunities compared with securities of U.S. issuers. The Fund can write
covered call options which are listed on a national securities exchange. See
"Investment Practices, Risks and Restrictions" herein and "Investment Policies"
in the Statement of Additional Information.
The Adviser's emphasis on fundamental analysis of a company's prospects and
the inherent value of its securities may result in a portion of the Fund's
portfolio being invested in medium or smaller sized companies or companies
perceived by the average investor to be unpopular or unfamiliar. This should not
imply that values are not available in larger, better known companies. Rather,
it is the Adviser's position that value can be found in companies of all sizes.
Substantially all common stocks the Fund purchases, however, will be either
listed on a national securities exchange or included in the National Association
of Securities Dealers Automated Quotation (NASDAQ) National Market System or
National List. The Adviser's value-oriented investment approach may result in a
portfolio which may not reflect all facets of the national economy and which may
differ significantly from the broad market indices.
5
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Security purchases are based primarily on consideration of fundamental value
and earnings expectations rather than short-term stock market expectations.
However, if earnings prospects change, or the value of a security becomes large
in relation to the Fund's total size or it no longer appears to represent an
unusual value, the Fund can sell all or part of the investment regardless of the
length of time held. See "Investment Practices, Risks and
Restrictions--Portfolio Turnover."
THE FUND AND ITS MANAGEMENT
The Fund is a Maryland corporation and a diversified, open-end management
investment company, generally called a mutual fund, which was organized in 1983.
A mutual fund provides the investor a practical and convenient way to invest in
a diversified portfolio of securities by combining resources with others who
have similar investment goals.
A board of four directors is responsible for overseeing the Fund's affairs.
The Adviser selects investments for the Fund, provides administrative services
and manages the Fund's business. Eric S. Ende, President of the Fund and Senior
Vice President of the Adviser, is primarily responsible for the day-to-day
management of the Fund's portfolio. Mr. Ende has been the Chief Investment
Officer of the Fund since September 1995. Previously, Mr. Ende had served as
Executive Vice President (or Vice President) of the Fund for over twelve years.
The Adviser, together with its predecessors, has been in the investment advisory
business since 1954, serving as investment adviser to the Fund since its
inception. Presently, the Adviser manages assets of approximately $4.5 billion
for seven investment companies, including one closed-end investment company, and
30 institutional accounts. All officers of the Fund are also officers of the
Adviser. Certain officers of the Fund are also officers of the Distributor. The
Adviser and the Distributor are indirect wholly owned subsidiaries of United
Asset Management Corporation ("UAM"), a New York Stock Exchange listed holding
company principally engaged, through affiliated firms, in providing
institutional investment management and acquiring institutional investment
management firms.
ADVISORY AGREEMENT. Under the Investment Advisory Agreement dated June 27,
1991, the Fund pays the Adviser a monthly fee computed on the average daily net
assets of the Fund at the annual rate of 0.75% on the first $50 million of net
assets and 0.65% on net assets over $50 million. In addition, the Adviser
receives an amount equal to 0.10% of the Fund's average daily net assets for
each fiscal year in reimbursement for the provision of financial services to the
Fund. The advisory fee is higher than the fee paid by some other mutual funds.
For the last fiscal year, advisory fees plus the cost of financial services paid
by the Fund equaled 0.85% of the Fund's average net assets.
The Fund also pays for shareholder service agent fees, custodian fees, legal
and audit fees, directors' fees, reports to shareholders and proxy statements,
registration of Fund shares under federal and state laws, and all other expenses
incurred in the operation of the Fund except those assumed by the Adviser. For
the last fiscal year, the Fund's total operating expenses were 1.16% of average
net assets.
FPA FUND FAMILY. The Fund is one of four mutual funds in the FPA Fund
Family (collectively, the "FPA Funds"). FPA Capital Fund, Inc. ("Capital"),
which currently is not open to new investors, seeks long-term capital growth but
current income is also a factor. FPA New Income, Inc. ("New Income"), a
fixed-income fund, seeks current income and long-term total return. FPA
Paramount Fund, Inc. ("Paramount") seeks a high total investment return,
including capital appreciation and income.
6
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The FPA Funds offer exchange privileges and telephone redemptions plus
combined shareholdings for cumulative purchase discounts and letters of intent.
These privileges are more fully described under "Purchase of Shares,"
"Shareholder Services" and "Redemption of Shares." The account information form
should be used to change information and authorize these services. Authorizing
exchange privileges or telephone redemptions requires a signature guarantee,
which is described under "Redemption of Shares." The account information form is
available from authorized securities dealers ("dealers") or the Distributor.
PRIOR PERFORMANCE INFORMATION. From time to time, the Fund's total average
annual return for one, five and ten year periods may be quoted in
advertisements. Other total return quotations, aggregate or average, over other
time periods may also be included. Average annual total return reflects the
average annual percentage change in value of an investment in the Fund over the
measuring period. Aggregate total return reflects the total percentage change in
value over the measuring period. Total return calculations assume that dividends
and capital gain distributions paid by the Fund during the period are reinvested
in Fund shares at net asset value. Quotations of total returns reflect the
maximum sales charge, except that the Fund may also provide, in conjunction with
such quotations, additional quotations that do not reflect a sales charge.
Comparative performance information may also be used from time to time in
advertising or marketing of the Fund's shares. The Fund's total return may be
compared to that of other mutual funds with similar investment objectives and to
stock and other relevant indices or to rankings prepared by independent services
or other financial or industry publications that monitor the performance of
mutual funds. For example, the total return on Fund shares may be compared to
data prepared by Lipper Analytical Services, Inc. or to a stock index such as
the Standard & Poor's 500 Stock Index. Such comparative performance information
may be stated in the same terms in which the comparative data and indices are
stated. For these purposes, the performance of the Fund, as well as the
performance of other mutual funds or indices, would not reflect sales charges,
the inclusion of which would reduce such performance quotations.
Performance figures represent historic earnings, and should not be
considered as representative of future results. The investment return and
principal value of an investment in the Fund will fluctuate so that an
investor's shares, when redeemed, may be worth more or less than their original
cost. Since performance will fluctuate, performance data for the Fund should not
be used to compare an investment in the Fund's shares with bank deposits,
savings accounts and similar investment alternatives which often provide an
agreed or guaranteed fixed yield for a stated period of time. Investors should
remember that performance is generally a function of the kind and quality of the
securities held in a portfolio, operating expenses and market conditions.
Further information about the Fund's performance is contained in the annual
report to shareholders which may be obtained without charge from the Distributor
at the address shown on the cover page of this Prospectus.
PURCHASE OF SHARES
Fund shares are sold in a continuous offering through dealers. The
Distributor serves as principal underwriter. The account information form should
be used for initial purchases. The minimum initial investment is $1,500. Each
subsequent investment must be at least $100. Minimum investment requirements can
be changed by the Fund or waived by the Distributor. All purchases made by check
should be
7
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in U.S. dollars and made payable to the FPA Funds or State Street Bank and Trust
Company. Third party checks will not be accepted. A charge may be imposed if any
check used for investment does not clear.
The offering price equals the net asset value per share plus the applicable
sales charge. Orders received by dealers before the NYSE closes (currently 4:00
p.m., New York time) on any business day are priced based on the net asset value
for that day if Boston Financial Data Services, Inc. ("Shareholder Service
Agent"), as agent for the Distributor, receives the order prior to its close of
business. Orders received by the Shareholder Service Agent after such time
generally are priced based on net asset value for the next business day.
However, orders received by certain retirement plans and certain other financial
intermediaries before the NYSE closes and communicated to the Shareholder
Service Agent by 9:30 a.m., Eastern time, on the following business day are
priced at the net asset value for the prior business day.
NET ASSET VALUE. Net asset value is computed as of the close of the NYSE on
each day the NYSE is open. Net asset value, rounded to the nearest cent per
share, equals the market value of all portfolio securities plus other assets,
less all liabilities, divided by the number of Fund shares outstanding.
TABLE OF SALES CHARGES. The following table shows the sales charge at
various investment levels. The sales charge applies to purchases made at one
time by any combination of an individual, his or her spouse and these related
investors (and their spouses): grandparents, parents, siblings, children or
grandchildren; or by the individual, his or her spouse and a trustee or other
fiduciary purchasing securities for related trusts, estates or fiduciary
accounts, including employee benefit plans.
<TABLE>
<CAPTION>
SALES SALES REALLOWED TO
SIZE OF INVESTMENT CHARGE(1) CHARGE(2) DEALERS(2)
- -------------------------------------------------------------------------- ----------- ----------- -------------
<S> <C> <C> <C>
Less than $10,000......................................................... 6.95% 6.50% 6.00%
$10,000 but less than $25,000............................................. 6.38% 6.00% 5.50%
$25,000 but less than $50,000............................................. 5.54% 5.25% 4.75%
$50,000 but less than $100,000............................................ 4.71% 4.50% 4.25%
$100,000 but less than $250,000........................................... 3.90% 3.75% 3.50%
$250,000 but less than $500,000........................................... 2.04% 2.00% 1.75%
$500,000 but less than $1,000,000......................................... 1.01% 1.00% 0.80%
$1,000,000 and over....................................................... 0.00% 0.00% 0.00%
</TABLE>
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(1) As a percentage of net amount invested.
(2) As a percentage of public offering price.
CUMULATIVE PURCHASE DISCOUNT. The size of investment may be determined by
adding the amount being invested to the current value, at offering price, of all
presently held shares of the FPA Funds. If such holdings qualify for a reduced
sales charge, information sufficient to permit verification must be furnished to
the Shareholder Service Agent on the account information form or when the order
is placed.
LETTER OF INTENT. A letter of intent ("LOI") allows investors to obtain a
reduced sales charge by aggregating investments made during a 13-month period.
The value of all presently held shares of the FPA Funds may also be used to
determine the applicable sales charge. The account information form contains the
LOI which must be signed at the time of initial purchase, or within 30 days.
Each investment made under an LOI during the period receives the sales charge
for the total investment goal. If the goal is
8
<PAGE>
not achieved within the period, the shareholder must pay the amount equal to the
sales charge applicable to the purchases made minus those actually paid.
SALES AT NET ASSET VALUE. Fund shares may be purchased at net asset value,
without a sales charge, by these investors and their spouses (and their
immediate relatives): (a) current and former directors, officers and employees
of the Adviser, UAM and its affiliates; (b) current and former directors,
officers and employees of Angeles Corporation (the former parent of the Adviser)
and its affiliates; (c) current and former directors of, and partners and
employees of legal counsel to, the investment companies advised by the Adviser;
(d) investment advisory clients of the Adviser and pension consultants to such
clients and their directors, officers and employees; (e) employees (including
registered representatives) of a dealer which has a selling group agreement with
the Distributor and consents to such purchases; (f) any employee benefit plan
maintained for the benefit of such qualified investors; and (g) directors,
officers and employees of a company whose employee benefit plan holds shares of
one or more of the FPA Funds. Immediate relatives include grandparents, parents,
siblings, children and grandchildren of a qualified investor, and the spouse of
any immediate relative. The foregoing purchasers must represent that the shares
are purchased for investment and will not be resold except through redemption or
repurchase by the Fund.
The Fund also offers shares at net asset value without imposition of a sales
charge to the following persons: (i) trustees or other fiduciaries purchasing
shares for employee benefit plans of employers with 20 or more employees; (ii)
trust companies, bank trust departments and registered investment advisers
purchasing for accounts over which they exercise investment authority and which
are held in a fiduciary, agency, advisory, custodial or similar capacity,
provided that the amount collectively invested or to be invested by such
accounts during the subsequent 13-month period in the Fund and/or the FPA Funds
totals at least $1,000,000; (iii) tax-exempt organizations enumerated in Section
501(c)(3), (9), or (13) of the Internal Revenue Code; and (iv) accounts upon
which an investment adviser, financial planner or broker-dealer charges an
account management or consulting fee, provided such organization has entered
into an agreement with the Distributor regarding such accounts or purchases Fund
shares for such accounts or for its own accounts through an omnibus account
maintained by a broker-dealer that has entered into such an agreement with the
Fund or the Distributor.
No sales charge is imposed because the Distributor anticipates that such
purchases should result in economies in the sales effort and related expenses
compared to sales made through normal distribution channels. A special
application form, which is available from the Distributor, must be submitted
with the initial purchase. All net asset value sales require specific
notification to the Distributor of the purchaser's eligibility at the time the
order is placed. If a purchaser places such an order through a securities
broker, the broker may charge a service fee. No such fee is charged if shares
are purchased directly from the Distributor or the Fund.
SHAREHOLDER SERVICES
FPA EXCHANGE PRIVILEGE. Subject to the following requirements, Fund shares
may be exchanged for shares of another FPA Fund, except FPA Capital Fund, Inc.,
whose shares may only be acquired by existing Capital shareholders. An exchange
may establish a new or increase an existing FPA Fund account. Both accounts must
bear the same registration. A sales charge applies to purchases by exchange
unless (a) a sales charge equivalent to that applicable to the acquired shares
was previously paid; (b) the shareholder is entitled to purchase shares at net
asset value; or (c) the shares being
9
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exchanged were acquired by reinvestment. Shares of the Fund to be acquired must
be registered for sale in the investor's state. A $5.00 service fee applies to
each exchange.
MONEY MARKET FUND EXCHANGE PRIVILEGE. The Distributor has arranged for
shares of the money market portfolio of the Cash Equivalent Fund, a no-load
diversified open-end money market mutual fund ("Money Market Fund") to be
available in exchange for shares of the Fund. Shares of the Money Market Fund so
acquired plus any shares acquired through reinvestment of dividends and
distributions may be re-exchanged for shares of any FPA Fund without sales
charge, provided that in the case of Capital, the investor has maintained his
shareholder account because shares of Capital, are currently offered only to
existing shareholders. The $5.00 exchange fee is paid by the Distributor which
receives a fee from Kemper Financial Services, the administrator for the Money
Market Fund, of 0.15 of 1% per year or more of the average daily net asset value
of shares of the Money Market Fund acquired through this exchange privilege.
This exchange privilege does not constitute an offering or recommendation by the
Fund of the Money Market Fund. The Money Market Fund is separately managed and
is not one of the FPA Funds. FPA Fund investments held in Fund-Sponsored
Individual Retirement Accounts may not be exchanged into the Cash Equivalent
Fund.
HOW TO EXCHANGE SHARES. The above described exchange privileges may be
exercised by sending written instructions to the Shareholder Service Agent. See
"Redemption of Shares" for applicable signature and signature guarantee
requirements. Exchange privileges may also be exercised by telephone as
described under "Redemption of Shares--Telephone Transactions." Only four
exchanges may be made in one account during any calendar year; exchanges
exceeding this limit may be considered null and void, if the investor has been
notified that this limit has been reached. Shares must be owned for 15 days
before exchanging and cannot be in certificate form unless the certificate is
tendered with the request for exchange. An exchange requires the purchase of
shares of the acquired Fund with a value of at least $1,000. Exchange
redemptions and purchases are effected on the basis of the net asset values next
determined after receipt of the request in proper order by the Shareholder
Service Agent. In the case of exchanges into the Money Market Fund, dividends
generally commence on the following business day. For federal and state income
tax purposes, an exchange is treated as a sale and may result in a capital gain
or loss, although if the shares exchanged have been held less than 91 days, the
sales charge paid on such shares is not included in the tax basis of the
exchanged shares, but is carried over and included in the tax basis of the
shares acquired. See the Statement of Additional Information.
Additional information concerning this privilege and prospectuses for other
FPA Funds and/or for the Money Market Fund may be obtained from dealers or the
Distributor. A shareholder should read such prospectuses and consider
differences in objectives and policies before making any exchange. The Fund or
the Distributor can change or discontinue this privilege upon 60 days' advance
notice and investors who had exchanged into the Money Market Fund would be
permitted to reacquire shares of the Fund without sales charge for at least 60
days after notice of termination of the Money Market Fund exchange privilege.
INVESTMENT ACCOUNT. Each shareholder has an investment account in which the
Shareholder Service Agent holds Fund shares. Unless the Shareholder Service
Agent receives a written request, stock certificates will not be issued.
Certificates are only issued for full shares. The shareholder receives a
statement showing account activity after each transaction.
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PRE-AUTHORIZED INVESTMENT PLAN. An investor desiring to make automatic
monthly investments may use the optional shareholder services form, available
from dealers or the Distributor. The Shareholder Service Agent withdraws funds
from the investor's bank account monthly for $100 or more as specified through
the Automated Clearing House.
RETIREMENT PLANS. An eligible investor may establish an IRA (individual
retirement account) and/ or other retirement plan with a $100 minimum initial
investment and an expressed intention to increase the investment to $1,500
within 12 months. Each subsequent investment must be at least $100. Neither the
Fund nor the Distributor imposes additional fees for these plans, but the plan
custodian does. Persons with earned income ineligible for deductible
contributions generally may make non-deductible contributions and earnings on
shares held in an IRA are tax-deferred. The Taxpayer Relief Act of 1997 expanded
opportunities for certain investors to make deductible contributions to IRAs and
also created two new tax-favored accounts, the Roth IRA and the Education IRA,
in which earnings (subject to certain restrictions) are not taxed even on
withdrawal. Investors should consult their tax advisers. Applicable forms and
information regarding plan administration, custodial fees and other plan
provisions are available from the Distributor or dealers.
SYSTEMATIC WITHDRAWAL PLAN. Any shareholder whose account value is $10,000
or more may make monthly, quarterly, semi-annual or annual withdrawals of $50 or
more by completing the optional shareholder services form. Under this plan,
sufficient Fund shares to cover these withdrawals are redeemed and proceeds are
forwarded as directed on the optional shareholder services form. Dividends and
capital gains distributions on Fund shares held under this plan are
automatically reinvested in additional Fund shares at net asset value. If these
withdrawals continuously exceed reinvestments, the shareholder's account is
correspondingly reduced and ultimately exhausted. Concurrent withdrawals and
purchases are ordinarily disadvantageous to the shareholder due to additional
sales charges. The shareholder recognizes any taxable gain or loss on
redemptions.
REDEMPTION OF SHARES
Shareholders can redeem for cash, without charge, any or all of their Fund
shares at any time by sending a written request in proper form to the
Shareholder Service Agent. Facsimile transmissions are not acceptable.
Shareholders can also place redemption requests through dealers, who may charge
a fee. Shareholders redeeming Fund shares from retirement plans should consult
the plan documents concerning federal tax consequences and their plan custodian
regarding procedures.
All persons in whose name the account is established must sign the
redemption request exactly as registered. If the redemption exceeds $10,000, if
the proceeds are not paid to the record owner at the record address, or if the
shareholder is a corporation, partnership, trust or fiduciary, the signature(s)
must be guaranteed by a bank or trust company; a broker or dealer; a credit
union; a national securities exchange, registered securities association or
clearing agency; or a savings and loan association.
In most cases, only a properly signed request with any necessary signature
guarantee is required for a redemption. However, stock certificates if held by
shareholders must accompany requests. Additional documents are required if a
corporation, partnership, trust, fiduciary, executor or administrator requests
the redemption.
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Redemptions are only processed on days the NYSE is open. The redemption
price is the first net asset value determined after the Shareholder Service
Agent receives the redemption request in proper form, except that redemption
orders received by an authorized dealer, certain retirement plans and certain
other financial intermediaries before the NYSE closes are priced at the closing
price for that day if communicated to the Shareholder Service Agent within the
times specified under "Purchase of Shares." A check for the proceeds is mailed
within seven days after the Shareholder Service Agent receives the request in
good order. If Fund shares redeemed were recently purchased by check, the
Shareholder Service Agent may delay payment of the redemption proceeds until it
confirms the purchase check has cleared, usually a period of up to 15 days.
The Fund may direct the Shareholder Service Agent to redeem all Fund shares
of any shareholder whose account value is less than $500 as a result of a
redemption. In such case, the shareholder is notified in writing that the
account value is insufficient and allowed up to 60 days to increase it to $500.
TELEPHONE TRANSACTIONS. Telephone exchange privileges are available unless
declined by an investor on the account information form. Telephone redemption
privileges are available only if elected on the optional shareholder services
form. A properly completed request with a signature guarantee is required if a
telephone redemption election is made or changed after the account is opened.
Telephone redemptions are not available for shares held in a Fund-sponsored
retirement account. Shares held in certificate form cannot be redeemed or
exchanged by telephone. The Shareholder Service Agent (the "Agent") employs
procedures considered by it to be reasonable to confirm that instructions
communicated by telephone are genuine, including requiring account registration
verification from the caller and recording telephone instructions. If reasonable
procedures are employed, neither the Agent nor the Fund is responsible for
following telephone instructions the Agent reasonably believes to be genuine.
The Agent and the Fund may be liable for any losses due to unauthorized or
fraudulent instructions if such loss results from a failure to employ reasonable
procedures. Proceeds of telephone redemptions are paid to the bank account the
shareholder designates when establishing this privilege. Telephone redemptions
of $5,000 or more are wired unless the designated bank cannot receive Federal
Reserve wires. Telephone redemptions under $5,000 are mailed unless a wire is
requested. There is a $3.50 charge for wires. During periods of significant
economic or market changes, telephone instructions may be difficult to place. If
an investor is unable to contact the Agent by telephone, instructions may be
sent to the Agent at the address set forth on page 2. The Fund may change or
discontinue telephone redemption privileges without notice.
REINVESTMENT PRIVILEGE. Proceeds from a redemption can be reinvested in
Fund shares within 30 days without paying a sales charge. Such reinvestment is
made at the first net asset value determined after the Shareholder Service Agent
receives the order. This privilege can be exercised only once for each Fund
investment. Information sufficient to permit verification must be furnished to
the Shareholder Service Agent when the purchase is placed. Such redemption and
reinvestment is a taxable transaction but losses on the redemption are not
deductible for federal income tax purposes.
DIVIDENDS, DISTRIBUTIONS AND TAXES
Shareholders may receive dividends and/or capital gains distributions in
addition to any increase or decrease in the value of Fund shares. Dividends and
distributions are automatically reinvested in additional Fund shares at the net
asset value determined at the close of business on the day after the
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record date, unless the Shareholder Service Agent receives a written request for
cash payment before the record date. The account information form may be used
for this purpose.
DIVIDENDS. The Fund's investment income consists principally of dividends
and interest earned on its portfolio securities. All of this income, after
payment of expenses, is distributed semi-annually as dividends to shareholders.
CAPITAL GAINS. When the Fund sells portfolio securities, it realizes
capital gains and losses, depending upon whether the selling price is higher or
lower than the purchase price. Net realized capital gains from sales of
securities equal profits minus losses, including any losses carried forward from
prior years. The Fund distributes any net realized capital gains to shareholders
annually.
TAXES. Because the Fund plans to distribute all of its net investment
income and net realized capital gains to shareholders, it does not expect to pay
any federal income tax. Dividends and distributions paid to shareholders are
subject to federal income tax, and any state and local income tax. Shareholders
are notified annually of the federal tax status of these distributions.
Dividends from net investment income and distributions from short-term capital
gains are taxable to shareholders as ordinary income. Distributions from
long-term capital gains and distributions from mid-term capital gains are
taxable to shareholders as such. All distributions are taxable whether paid in
cash or reinvested. To avoid a 31% federal withholding tax on dividends,
distributions and redemptions, shareholders must certify their taxpayer
identification number to the Shareholder Service Agent. The account information
form may be used for this purpose.
INVESTMENT PRACTICES, RISKS AND RESTRICTIONS
FIXED-INCOME SECURITIES. The market price of fixed-income securities held
by the Fund can be expected to vary inversely to changes in prevailing interest
rates. Investments in fixed-income securities with longer maturities generally
produce higher yields but are subject to greater market fluctuation. The Fund
may invest up to 15% of its net assets in fixed-income securities, including
convertible securities, which are rated BB or lower, by Standard & Poor's
Corporation ("S&P") or Ba or lower by Moody's Investors Service, Inc.
("Moody's"), which ratings are considered by the rating agencies to be
speculative, and unrated securities considered by the Adviser to be of
comparable quality. Debt securities with a rating of BB/Ba or lower are commonly
referred to as "junk bonds." See "Risks of Lower-Rated Securities" below.
RISKS OF LOWER-RATED SECURITIES. To the extent that convertible securities
or other debt securities acquired by the Fund are rated lower than investment
grade or are not rated, there is a greater risk as to the timely repayment of
the principal of, and timely payment of interest on, such securities. Decisions
to purchase and sell these securities are based on the Adviser's evaluation of
their investment potential and not on the ratings assigned by credit agencies.
Because investment in lower-rated securities involves greater investment risk,
achievement of the Fund's investment objective is more dependent on the
Adviser's credit analysis than with respect to the Fund's investments in
higher-rated securities. Lower-rated securities may be more susceptible to real
or perceived adverse economic and competitive industry conditions than
investment grade securities. A projection of an economic downturn, for example,
could cause a decline in the prices of lower-rated securities because the advent
of a recession could lessen the ability of a highly leveraged company to make
principal and interest payments on its debt securities. In addition, the
secondary trading market for lower-rated securities may be less liquid than the
market for higher-rated securities.
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Prices of lower-rated securities may decline rapidly in the event a
significant number of holders decide to sell. Changes in expectations regarding
an individual issuer, an industry or lower-rated securities generally could
reduce market liquidity for such securities and make their sale by the Fund more
difficult, at least in the absence of price concessions. The lower-rated bond
market has grown primarily during a period of long economic expansion and it is
uncertain how it would perform during an extended economic downturn. An economic
downturn or an increase in interest rates could severely disrupt the market for
lower-rated bonds and adversely affect the value of outstanding bonds and the
ability of the issuers to repay principal and interest. See "Risk Factors
Relating to Lower-Rated Securities" in the Statement of Additional Information
for a further discussion.
The lower-rated securities in which the Fund may invest from time to time
include debt securities of companies that are financially troubled, in default
or are in bankruptcy or reorganization ("Deep Discount Securities"). These
securities may be rated C, C1 or D by S&P or C by Moody's or may be unrated.
Debt obligations of such companies are usually available at a deep discount from
the face value of the instrument. The Fund may invest in Deep Discount
Securities when the Adviser believes that existing factors are likely to improve
the company's financial condition. Such factors include a restructuring of debt,
management changes, existence of adequate assets, or other special
circumstances.
A debt instrument purchased at a deep discount, but prior to default, may
currently pay a very high effective yield. In addition, if the financial
condition of the issuer improves, the underlying value of the securities may
increase, resulting in a capital gain. If the issuer defaults on its obligations
or remains in default, or if the plan of reorganization is insufficient for
debt-holders, the Deep Discount Securities may stop generating income and lose
value or become worthless. The Adviser will balance the benefits of Deep
Discount Securities with their risks. While a diversified portfolio may reduce
the overall impact of a Deep Discount Security that is in default or loses its
value, the risk cannot be eliminated.
As of December 31, 1997, 1.2% of the Fund's net assets were invested in
convertible securities and 4.8% of the Fund's net assets were invested in
high-grade, short-term securities.
SECURITIES OF FOREIGN ISSUERS. Investments in securities of foreign issuers
may be affected favorably or unfavorably by changes in currency rates and
exchange control regulations. Compared to U.S. companies, there may be less
publicly available information about foreign companies which generally are
subject to less stringent accounting, auditing and financial reporting standards
and requirements. Securities of some foreign companies may be less liquid or
more volatile than those of U.S. companies. Foreign brokerage commissions and
custodial fees are generally higher than in the United States. Investments in
foreign securities may involve additional risks, including local political or
economic developments, expropriation or nationalization of assets and imposition
of withholding taxes on dividend or interest payments. In the event of a default
on any foreign debt obligation, it may be more difficult for the Fund to obtain
or enforce a judgment against the issuer.
COVERED CALL OPTIONS. When the Fund writes a listed call option, the
purchaser has the right to buy a security from the Fund at a fixed exercise
price any time before the option contract expires, regardless of changes in the
market price of the underlying security. The Fund writes options only on
securities it owns (covered options) and must retain ownership of the underlying
security while the
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option is outstanding. Until the option expires, the Fund cannot profit from a
rise in the market price of the underlying security over the exercise price,
except insofar as the premium which the Fund receives, net of commissions,
represents a profit. The premium paid to the Fund is the consideration for
undertaking this obligation.
The Fund may not write any option which, at the time, would cause its
outstanding options to cover securities comprising more than 10% of its asset
value. Writing option contracts is a highly specialized activity and may limit
investment flexibility at certain times. The maximum term for listed options
exceeds two years, but the Fund expects that most options it writes will not
exceed six months.
SHORT SALES AGAINST THE BOX. The Fund can make short sales of securities or
maintain a short position if the Fund contemporaneously owns or has the right to
obtain at no added cost securities identical to those sold short (short sales
"against the box") or if the securities sold are "when issued" or "when
distributed" securities which the Fund expects to receive in a recapitalization,
reorganization, or other exchange for securities the Fund contemporaneously owns
or has the right to obtain at no added cost. The principal purpose of making
short sales is to enable the Fund to obtain the current market price of a
security which the Fund desires to sell but which cannot be currently delivered
for settlement. The Fund may not make short sales or maintain a short position
if to do so would cause more than 25% of its total net assets (exclusive of
proceeds from short sales) to be allocated to a segregated account in connection
with short sales.
REPURCHASE AGREEMENTS. The Fund may invest in repurchase agreements with
domestic banks or dealers to earn interest on temporarily available cash. A
repurchase agreement is a short-term investment in which the purchaser (i.e.,
the Fund) acquires a debt security which the seller agrees to repurchase at a
future time and set price, thereby determining the yield during the holding
period. Repurchase agreements are collateralized by the underlying debt
securities and may be considered loans under the Investment Company Act of 1940
("Investment Company Act"). In the event of bankruptcy or other default by the
seller, the Fund may experience delays and expenses liquidating the underlying
security, loss from decline in value of such security, and lack of access to
income on such security. The Fund will not invest more than 10% of its total net
assets in repurchase agreements which mature in more than seven days and/or
other securities which are not readily marketable.
BROKERAGE PRACTICES. The Adviser is responsible for placing orders for the
purchase and sale of portfolio securities and negotiating brokerage commissions
on such transactions. Brokerage firms are selected for their professional
capability and the overall value and quality of their execution services. The
Adviser is authorized to pay higher commissions to brokerage firms providing
investment and research information if the Adviser deems such commissions
reasonable in relation to the overall services provided. The Adviser may also
use information received to manage the assets of other advisory accounts. The
Fund does not pay any mark-up over the market price of securities acquired in
principal transactions with dealers.
PORTFOLIO TURNOVER. The Fund purchases securities primarily for investment
rather than short-term trading. However, changes are made in the portfolio
whenever it appears advisable. The Fund's annual portfolio turnover rate is
shown in the table of "Financial Highlights." Greater portfolio activity
increases the Fund's transaction costs, including brokerage commissions.
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INVESTMENT RESTRICTIONS. The Fund has adopted investment restrictions
which, like its investment objectives, cannot be changed without approval by a
majority (as defined in the Investment Company Act) vote of the Fund's
shareholders. These restrictions provide, in part, that the Fund shall not:
1. Purchase any securities which would cause more than 5% of the Fund's total
assets at the time of such purchase to be invested in the securities of any
one issuer, excepting securities issued or guaranteed by the U.S.
Government; or purchase more than 10% of any class of securities of any one
issuer.
2. Concentrate its investment in particular industries by investing more than
25% of the value of its total assets in the securities of companies
primarily engaged in any one industry.
Percentage limitations are calculated and applied at the time of investment.
Additional information concerning the Fund's investment practices and
restrictions is contained in the Statement of Additional Information.
ADDITIONAL INFORMATION
COMMON STOCK. Each Fund share outstanding participates equally in dividend
and liquidation rights. Fund shares are transferable, fully paid and
non-assessable, and do not have any preemptive or conversion rights. The Fund
has authorized 25 million shares of $0.01 par value Common Stock.
VOTING RIGHTS. The By-Laws of the Fund provide that shareholder meetings
are required to be held to elect directors only when required by the Investment
Company Act. Such event is likely to occur infrequently. In addition, a special
meeting of the shareholders will be called, if requested by the holders of ten
percent of the Fund's outstanding shares, for the purposes, and to act upon the
matters, specified in the request (which may include election or removal of
directors). When matters are submitted for a shareholder vote, each shareholder
is entitled to one vote for each share owned.
SHAREHOLDER INQUIRIES. Shareholders who have questions concerning (1) the
Fund may contact the Distributor; (2) their account may contact the Shareholder
Service Agent; and (3) their retirement plan may contact the Shareholder Service
Agent. The applicable addresses and telephone numbers appear on page 2 of this
Prospectus.
SHAREHOLDER SERVICE AGENT. Boston Financial Data Services, Inc., P. O. Box
8500, Boston, Massachusetts 02266-8500, serves as shareholder service and
dividend disbursing agent for the Fund. State Street Bank and Trust Company
serves as transfer agent for the Fund.
CUSTODIAN. All cash and securities of the Fund are held by the Fund's
custodian, State Street Bank and Trust Company, 225 Franklin Street, Boston,
Massachusetts 02110.
LEGAL COUNSEL. O'Melveny & Myers LLP, 400 South Hope Street, Los Angeles,
California 90071, provides legal services to the Fund.
INDEPENDENT AUDITORS. Ernst & Young LLP, 515 South Flower Street, Los
Angeles, California 90071, performs annual audits of the Fund's financial
statements.
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STATEMENT OF ADDITIONAL INFORMATION
May 1, 1998
FPA PERENNIAL FUND, INC.
This Statement of Additional Information ("Statement") supplements the current
Prospectus of FPA Perennial Fund, Inc. ("Fund") dated May 1, 1998. This
Statement does not present a complete picture of the various topics discussed
and should be read in conjunction with the Fund's Prospectus. Although this
Statement is not itself a Prospectus, it is, in its entirety, incorporated by
reference into the Prospectus. The Fund's Prospectus may be obtained by
contacting your securities dealer or the Fund's principal underwriter, FPA Fund
Distributors, Inc. ("Distributor"), at 11400 West Olympic Boulevard, Suite 1200,
Los Angeles, California 90064; telephone (310) 473-0225 or (800) 982-4372,
except Alaska, Hawaii and Puerto Rico.
TABLE OF CONTENTS
Page
General Information. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2
Voting Rights . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2
Reports to Shareholders . . . . . . . . . . . . . . . . . . . . . . . . .2
Year 2000 Problem . . . . . . . . . . . . . . . . . . . . . . . . . . . .2
Investment Policies. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2
Covered Call Options. . . . . . . . . . . . . . . . . . . . . . . . . . .2
Short Sales Against the Box . . . . . . . . . . . . . . . . . . . . . . .3
Repurchase Agreements . . . . . . . . . . . . . . . . . . . . . . . . . .3
Leverage. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4
Ratings. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4
Debt Security Ratings . . . . . . . . . . . . . . . . . . . . . . . . . .4
Moody's . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4
S&P . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .5
Commercial Paper Ratings. . . . . . . . . . . . . . . . . . . . . . . . .6
Risk Factors Relating to Lower-Rated Securities. . . . . . . . . . . . . . . .6
Investment Restrictions. . . . . . . . . . . . . . . . . . . . . . . . . . . .7
Additional Restrictions . . . . . . . . . . . . . . . . . . . . . . . . .9
Directors and Officers of the Fund . . . . . . . . . . . . . . . . . . . . . .9
Five Percent Shareholders . . . . . . . . . . . . . . . . . . . . . . . 11
Investment Advisory Agreement. . . . . . . . . . . . . . . . . . . . . . . . 12
Prior Performance Information. . . . . . . . . . . . . . . . . . . . . . . . 13
Portfolio Transactions and Brokerage . . . . . . . . . . . . . . . . . . . . 14
Portfolio Turnover . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
Distributor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15
Purchase and Redemption of Shares. . . . . . . . . . . . . . . . . . . . . . 16
Net Asset Value . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
Sales Charges . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
Authorized Financial Intermediaries . . . . . . . . . . . . . . . . . . 16
Sales at Net Asset Value. . . . . . . . . . . . . . . . . . . . . . . . 16
Letter of Intent. . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
FPA Exchange Privilege. . . . . . . . . . . . . . . . . . . . . . . . . 17
Redemption of Shares. . . . . . . . . . . . . . . . . . . . . . . . . . 18
Telephone Redemption. . . . . . . . . . . . . . . . . . . . . . . . . . 18
Tax Sheltered Retirement Plans . . . . . . . . . . . . . . . . . . . . . . . 19
Dividends, Distributions and Taxes . . . . . . . . . . . . . . . . . . . . . 19
Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
<PAGE>
GENERAL INFORMATION
VOTING RIGHTS. Fund shares do not have cumulative voting rights, which means
holders of more than 50% of Fund shares voting for the election of directors can
elect 100% of the directors if they so choose. In such event, holders of the
remaining Fund shares are not able to elect any person or persons to the Fund's
Board of Directors.
REPORTS TO SHAREHOLDERS. Shareholders receive semi-annual and annual reports
which show the portfolio of investments, major portfolio changes and other
information. Financial statements accompanied by an opinion of independent
auditors are furnished to shareholders after the Fund's fiscal year-end.
Unaudited financial statements prepared by the Fund are provided after the first
six months of the fiscal year.
YEAR 2000 PROBLEM. Like other mutual funds, financial and business
organizations and individuals around the world, the Fund could be adversely
affected if the computer systems used by the Adviser and other service providers
do not properly process and calculate date-related information and data from and
after January 1, 2000. This is commonly known as the "Year 2000 Problem." The
Adviser is taking steps that it believes are reasonably designed to address the
Year 2000 Problem with respect to computer systems that it uses and to obtain
reasonable assurances that comparable steps are being taken by the Fund's other
major service providers. At this time, however, there can be no assurance that
these steps will be sufficient to avoid any adverse impact to the Fund.
INVESTMENT POLICIES
The following supplements information set forth under the captions "Investment
Objectives and Policies" and "Investment Practices, Risks and Restrictions" in
the Prospectus. Readers must also refer to the Prospectus.
COVERED CALL OPTIONS. In an effort to increase potential income, the Fund is
authorized to write (i.e., sell) covered call options listed on national
securities exchanges. Listed call options are presently traded only with
respect to a limited number of larger companies. Since the Fund does not intend
to purchase securities for the purpose of writing options, it may only be able
to write options on a small portion of its portfolio.
The Fund may terminate its obligation under a previously written option, without
delivery of the underlying security, by effecting a closing transaction, which
is the purchase of a call option on the same security with the same exercise
price and expiration date. The Fund's ability to enter into a closing
transaction may be limited. If the Fund cannot close its position, it is unable
to sell the underlying security until the call expires or is exercised.
Accordingly, the Fund may not be able to sell the underlying security at an
advantageous time. The Fund realizes a profit or loss from a closing
transaction if the cost of the transaction is less or more than the option
premium received. Also, because increases in the market price of an option
generally reflect increases in the market price of the underlying security, any
loss realized from a closing transaction is likely to be offset in whole or in
part by the increased value of the underlying security.
The Fund's portfolio turnover rate may increase to the extent underlying
securities are delivered upon exercise of options written by the Fund.
Brokerage commissions associated with writing call options and effecting closing
transactions are normally proportionately higher than those associated with
general securities transactions.
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SHORT SALES AGAINST THE BOX. In an effort to increase investment flexibility,
the Fund is authorized to make certain short sales. In a short sale, the Fund
does not immediately deliver the securities sold and does not receive the
proceeds from the sale. The Fund is said to have a short position in the
securities sold until it delivers such securities, at which time it receives the
proceeds of the sale. The Fund must pay the broker the amount of any dividend
paid on the securities while the short position is maintained. To secure its
obligation to deliver the securities sold short, the Fund deposits in escrow in
a segregated account with its custodian an equal amount of the securities sold
short or securities convertible into or exchangeable for such securities.
Common stocks issuable upon conversion of a convertible security sometimes can
be sold at a better price than the convertible security owned by the Fund. In
such circumstances the Fund could sell the common stock short "against the box"
while tendering the convertible security to the issuer for conversion. Upon
receipt of the certificates for the underlying common stock, delivery would be
made to close the short sale.
Similarly, when the Fund expects to receive new securities in a reorganization
in exchange for securities owned by the Fund, and the new securities are traded
on a "when issued" basis, the Fund could sell in the "when issued" market and
deliver the new securities when received following the consummation of the
reorganization. If the reorganization is not consummated, all transactions in
the "when issued" market are canceled in which event the Fund would realize no
gain or loss on the short sale, except for brokerage commissions.
The limited authority to utilize short sales as described above and in the
Prospectus would not subject the Fund to the risk of loss generally associated
with short sales. A short sale "against the box" does eliminate the potential
for gain or loss from subsequent changes in the market price of the security.
It constitutes a form of hedging under which the Fund obtains a current market
price considered attractive by the Adviser, rather than remain subject to future
fluctuations in the price of the security sold short. Such authority would be
utilized only in furtherance of the Fund's primary investment objective of
long-term growth of capital.
For federal income tax purposes, a short sale against the box involving stock or
securities (except conventional debt such as ordinary corporate or United Stated
Treasury bonds) that could be sold at a gain is treated as a constructive sale
requiring recognition of taxable gain.
REPURCHASE AGREEMENTS. The Fund pays for repurchase agreements only upon
physical delivery or evidence of book entry transfer of the underlying debt
security to a segregated account of State Street Bank and Trust Company, the
Fund's custodian, or its agents. The Fund only enters into repurchase
agreements involving securities in which the Fund can otherwise invest. The
underlying security (normally a security of the United States Government, its
agencies or instrumentalities) may have a maturity date exceeding one year.
Repurchase agreements usually mature not more than seven days after purchase by
the Fund. It is the Fund's policy that the market value of the security
collateralizing the repurchase agreement at all times equal or exceed the amount
of the repurchase agreement. The Fund does not bear the risk of a decline in
value of the underlying security unless the seller defaults under its repurchase
obligation. In the event of bankruptcy or other default of a seller, the Fund
might experience both loss and delay in liquidating the underlying security,
including: (a) possible decline in the value of such security while the Fund
seeks to enforce its rights thereto, (b) possible lack of access to income on
such security during this period and (c) expenses of enforcing its rights.
3
<PAGE>
LEVERAGE. The Fund is authorized to borrow from banks in order to raise
additional monies for investment. Such borrowings may be made periodically when
it is expected that the potential return, including capital appreciation and/or
income, from the investment of these funds will exceed the cost. Any return
from investment of the borrowed funds in excess of the interest cost will cause
the net asset value of Fund shares to rise faster than would otherwise be the
case. Conversely, if the return on the investment of the borrowed funds fails
to cover the interest cost, the net asset value will decrease faster than
normal. This speculative factor is known as leverage. This policy permitting
bank borrowing may not be changed without the approval of the holders of a
majority (as defined under "Investment Restrictions") of the Fund's outstanding
voting securities. The Fund may collateralize any bank borrowing by depositing
portfolio securities with, or segregating such securities for, the account of
the lending bank. See "Investment Restrictions."
The amount of money the Fund may borrow is restricted by the Investment Company
Act of 1940 ("Investment Company Act") so that, immediately after such
transaction, the Fund has an asset coverage of at least 300% of the amount
borrowed. Asset coverage means total assets, including borrowings, less
liabilities, excluding borrowings. If the Fund's asset coverage falls below
such requirement due to market fluctuations, redemptions or other reasons, the
Fund must reduce its bank debt as necessary within three business days. To do
this, the Fund may have to sell a portion of its investments at a
disadvantageous time. The amount of any borrowing is also limited by the
applicable Federal Reserve Board's margin limitations.
The Fund has not borrowed since its inception and has no present intention to do
so during the coming year.
RATINGS
DEBT SECURITY RATINGS. Moody's Investor Services, Inc. ("Moody's") and Standard
& Poor's Corporation ("S&P") employ the designations set forth below to rate
debt securities.
MOODY'S
Aaa - Bonds judged to be of the best quality. They carry the smallest degree of
investment risk and are generally referred to as gilt-edge. Interest payments
are protected by a large or an exceptionally stable margin and principal is
secure. While the various protective elements are likely to change, such
changes as can be visualized are most unlikely to impair the fundamentally
strong position of such issues.
Aa - Bonds judged to be of high quality by all standards. Together with the Aaa
group they comprise what are generally known as high-grade bonds. They are
rated lower than the best bonds because margins of protection may not be as
large as in Aaa securities, fluctuation of protective elements may be of greater
amplitude, or there may be other elements present which make the long-term risks
appear somewhat larger.
A - Bonds which possess many favorable investment attributes and are to be
considered as upper medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment some time in the future.
Baa - Bonds considered as medium-grade obligations (i.e., they are neither
highly protected nor poorly secured). Interest payments and principal security
appear adequate for the present but certain protective elements may be lacking
or may be characteristically unreliable over any great length of time. Such
bonds lack outstanding investment characteristics and, in fact, have speculative
characteristics as well.
4
<PAGE>
Ba - Bonds judged to have speculative elements. Their future cannot be
considered as well assured. Often the protection of interest and principal
payments may be very moderate and thereby not well safeguarded during other good
and bad times over the future. Uncertainty of position characterizes bonds in
this class.
B - Bonds which generally lack characteristics of the desirable investment.
Assurance of interest and principal payments or of maintenance of other terms of
the contract over any long period of time may be small.
Caa - Bonds of poor standing. Such issues may be in default or there may be
present elements of danger with respect to principal or interest.
Ca - Bonds which represent obligations which are speculative in a high degree.
Such issues are often in default or have other marked shortcomings.
C - The lowest rated class of bonds and issues so rated can be regarded as
having extremely poor prospects of ever attaining any real investment standing.
Nonrated - Where no rating has been assigned or where a rating has been
suspended or withdrawn, it may be for reasons unrelated to the quality of the
issue.
Should no rating be assigned, the reason may be one of the following:
1. An application for rating was not received or accepted.
2. The issue or issuer belongs to a group of securities that are not rated as
a matter of policy.
3. There is a lack of essential data pertaining to the issue or issuer.
4. The issue was privately placed, in which case the rating is not published
in Moody's publications.
Suspension or withdrawal may occur if new and material circumstances arise, the
effects of which preclude satisfactory analysis; if there is no longer available
reasonable up-to-date data to permit a judgment to be formed; if a bond is
called for redemption; or for other reasons.
Note: Those bonds in the Aa, A, Baa, Ba and B groups which Moody's believe
possess the strongest investment attributes are designated by the symbols Aa 1,
A 1, Baa 1, Ba 1 and B 1.
S&P
AAA - Capacity to pay interest and repay principal is extremely strong.
AA - Capacity to pay interest and repay principal is very strong and these bonds
differ from AAA issues only in small degree.
A - Capacity to pay interest and repay principal is strong although they are
somewhat more susceptible to the adverse effects of changes in circumstances and
economic conditions than bonds in higher rated categories.
5
<PAGE>
BBB - Capacity to pay interest and repay principal is adequate. Whereas these
bonds normally exhibit adequate protection parameters, adverse economic
conditions or changing circumstances are more likely to lead to a weakened
capacity to pay interest and repay principal than for bonds in higher rated
categories.
BB, B, CCC, CC, C - Debt rated BB, B, CCC, CC and C is regarded, on balance as
predominantly speculative with respect to capacity to pay interest and repay
principal in accordance with the terms of the obligations. BB indicates the
lowest degree of speculation and C the highest degree of speculation. While
such debt will likely have some quality and protective characteristics, these
are outweighed by large uncertainties or major risk exposures to adverse
conditions.
CI - reserved for income bonds on which no interest is being paid.
D - in default, and payment of interest and/or repayment of principal is in
arrears.
Plus (+) or Minus (-): The ratings from "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
NR: Indicates that no rating has been requested, that there is insufficient
information on which to base a rating, or that Standard & Poor's does not rate a
particular type of obligation as a matter of policy.
COMMERCIAL PAPER RATINGS. Moody's and S&P employ the designations set forth
below to rate commercial paper.
Moody's designations, all judged to be investment grade, indicate the relative
repayment capacity of rated issuers. Issuers rated Prime-1 have a superior
capacity for repayment of short-term promissory obligations. Issuers rated
Prime-2 have a strong capacity for repayment of short-term promissory
obligations. Issuers rated Prime-3 have an acceptable capacity for repayment of
short-term promissory obligations.
S&P ratings are an assessment of the likelihood of timely payment of debt having
an original maturity of no more than 365 days. Issuers assigned the highest
rating by S&P ("A") are regarded as having the greatest capacity for timely
payment. Issuers in this category are further refined with the designations 1,
2 and 3 to indicate the relative degree of safety. A-1 indicates that the
degree of safety regarding timely payment is either overwhelming (denoted with a
plus sign) or very strong. A-2 indicates that capacity for timely payment is
strong; however, the relative degree of safety is not as high as for issuers
designated A-1. A-3 indicates a satisfactory capacity for timely payment. They
are, however, somewhat more vulnerable to the adverse effects of changes in
circumstances than obligations carrying the higher designations.
RISK FACTORS RELATING TO LOWER RATED SECURITIES
As described in the Prospectus, the Fund may invest up to 15% of its assets in
convertible securities and other fixed-income securities which are not rated in
the four highest categories by Moody's and S&P. Ratings of debt securities are
described above. The Prospectus discussion of the risks of investing in lower
rated high yield bonds is supplemented as follows:
1. YOUTH AND GROWTH OF THE HIGH YIELD BOND MARKET. The high yield bond market
is relatively new, its growth has paralleled a long economic expansion, and
it has not weathered a lengthy recession in its present size and form. An
economic downturn or increase in interest rates is likely to have a
6
<PAGE>
negative effect on the high yield bond market and on the value of the high
yield bonds in the Fund's portfolio, as well as on the ability of the
bonds' issuers to repay principal and interest.
2. SENSITIVITY TO INTEREST RATE AND ECONOMIC CHANGES. The economy and
interest rates affect high yield securities differently from other
securities. The prices of high yield bonds have been found to be less
sensitive to interest rate changes than higher rated investments, but more
sensitive to adverse economic changes or individual issuer developments.
During an economic downturn or substantial period of rising interest rates,
highly leveraged issuers are likely to experience financial stress which
would adversely affect their ability to service their principal and
interest payment obligations, to meet projected business goals, and to
obtain additional financing. If the issuer of a bond owned by the Fund
defaults, the Fund may incur additional expenses to seek recovery. In
addition, periods of economic uncertainty and changes can be expected to
result in increased volatility of market prices of high yield bonds and the
Fund's asset value. Furthermore, in the case of high yield bonds
structured as zero coupon or pay-in-kind securities, their market prices
are affected to a greater extent by interest rate changes and thereby tend
to be more volatile than securities which pay interest periodically and in
cash.
3. LIQUIDITY AND VALUATION. To the extent that there is no established retail
secondary market, there may be thin trading of high yield bonds, and there
may be a negative impact on the Fund's Board of Directors' ability to
accurately value high yield bonds and the Fund's assets and on the Fund's
ability to dispose of the bonds. Adverse publicity and investor
perceptions, whether or not based on fundamental analysis, may decrease the
values and liquidity of high yield bonds, especially in a thinly traded
market. To the extent the Fund owns or may acquire illiquid high yield
bonds, these securities may involve special liquidity and valuation
difficulties.
4. LEGISLATION. New laws and proposed new laws may have a negative impact on
the market for high yield bonds. For example, several years ago
legislation required federally-insured savings and loan associations to
divest their investments in high yield bonds.
5. TAXATION. Special tax considerations are associated with investing in high
yield bonds structured as zero coupon or pay-in-kind securities. The Fund
accrues the interest on these securities as income even though it receives
no cash interest until the security's maturity or payment date. The Fund
is required to distribute such income to its shareholders in order to
maintain its qualification for pass-through treatment under the Internal
Revenue Code. Thus, the Fund may have to dispose of portfolio securities
at a time it otherwise might not want to do so in order to provide the cash
necessary to make distributions to those shareholders who do not reinvest
dividends.
6. CREDIT RATINGS. Certain risks are associated with applying credit ratings
as a method of evaluating high yield bonds. Credit ratings evaluate the
safety of principal and interest payments, not market value risk of high
yield bonds. Since credit rating agencies may fail to timely change the
credit ratings to reflect subsequent events, the Adviser monitors the
issuers of high yield bonds in the Fund's portfolio to determine if the
issuers appear to have sufficient cash flow to meet required principal and
interest payments. The Fund may retain a portfolio security whose rating
has been changed.
INVESTMENT RESTRICTIONS
The Fund has adopted the investment restrictions set forth below, which apply at
the time securities are purchased or other relevant action is taken. These
restrictions and the Fund's investment objectives cannot
7
<PAGE>
be changed without approval of the holders of a majority of outstanding Fund
shares. Such majority is defined in the Investment Company Act as the lesser of
(a) 67% or more of the voting securities present in person or represented by
proxy at a meeting, if the holders of more than 50% of the outstanding voting
securities are present or represented by proxy; or (b) more than 50% of the
outstanding voting securities. Percentage limitations applicable to investments
are calculated and applied at the time of investment. In addition to those
described in the Prospectus, these restrictions provide that the Fund shall not:
1. Purchase securities of other registered investment companies if immediately
after such purchase the Fund will own (a) more than 3% of the total
outstanding voting stock of any such companies, (b) securities issued by
any of such companies having an aggregate value in excess of 5% of the
value of the total assets of the Fund or (c) securities issued by
investment companies having an aggregate value in excess of 10% of the
value of the total assets of the Fund.
2. Purchase or sell real property, including limited partnership interests,
but excluding readily marketable interests in real estate investment trusts
or readily marketable securities of companies which invest in real estate.
3. Engage in short sales, margin purchases, puts, calls, straddles or spreads,
except that the Fund may write covered call options and effect closing
transactions to the extent described in the Prospectus under "Investment
Policies - Covered Call Options," and the Fund may make certain short sales
of securities or maintain a short position if the Fund contemporaneously
owns or has the right to obtain at no added cost securities identical to
those sold short (short sales "against the box") or if the securities sold
are "when issued" or "when distributed" securities which the Fund expects
to receive in a recapitalization, reorganization, or other exchange for
securities the Fund contemporaneously owns or has the right to obtain at no
added cost.
4. Make loans, except that the Fund may invest in repurchase agreements. The
Fund will not invest in repurchase agreements maturing in more than seven
days if any such investment, together with any illiquid securities held by
the Fund, exceeds 10% of the value of its net assets. See "Investment
Policies - Repurchase Agreements." The purchase of publicly distributed
debt securities shall not constitute the making of loans.
5. Participate on a joint or a joint and several basis in any trading account
in securities.
6. Purchase securities for the purpose of exercising control or management.
However, once investments have been acquired, the Fund may exercise its
vote as a shareholder in its best interests even though such vote may
affect management or control of a company.
7. Underwrite the sale of securities of others, except when the Fund might be
deemed to be a statutory underwriter because of its disposing of restricted
securities. The Fund will not purchase restricted securities.
8. Purchase or sell commodities or commodity contracts.
9. Purchase from, or sell to, any officers, directors or employees of the Fund
or its investment adviser or underwriter, or any of their officers or
directors, any securities other than the shares of the Fund's capital
stock. Such persons or firms, however, may act as brokers for the Fund for
customary commissions.
8
<PAGE>
10. Issue any senior securities except that the Fund may borrow from banks to
the extent described above under "Investment Policies - Leverage."
ADDITIONAL RESTRICTIONS. The Fund is also subject to the policies set forth
below which its Board of Directors may amend and which apply at the time of
purchase of securities. These restrictions provide that the Fund shall not:
1. Invest more than 5% of its net assets in warrants valued at the lower of
cost or market, nor more than 2% of its net assets in warrants (valued on
such basis) which are not listed on The New York Stock Exchange ("NYSE") or
the American Stock Exchange. Warrants acquired in units or attached to
other securities are not subject to the foregoing limitations.
2. Purchase interests in oil, gas or other mineral leases, except that it may
acquire securities of public companies which are engaged in such
activities, or invest in arbitrage transactions.
3. Purchase securities of other investment companies except through purchase
in the open market in a transaction involving no commission or profit to a
sponsor or dealer (other than the customary broker's commission) or except
as part of a merger, consolidation or other acquisition.
4. Purchase or retain securities of any issuer if those officers and directors
of the Fund or its investment adviser who own individually more than 0.5%
of the securities of such issuer together own more than 5% of the
securities of such issuer.
5. Invest more than 5% of its total assets in securities of unseasoned issuers
which have been in operation directly or through predecessors for less than
three years, or in equity securities for which market quotations are not
readily available.
6. Pledge, mortgage or hypothecate portfolio securities or other assets to the
extent that the percentage of such encumbered assets plus the sales charge
exceed 15% of the offering price of Fund shares.
DIRECTORS AND OFFICERS OF THE FUND
All directors and officers of the Fund are also directors and/or officers of one
or more of four other investment companies advised by the Adviser, which is an
indirect wholly owned subsidiary of United Asset Management Corporation ("UAM").
These investment companies are FPA Capital Fund, Inc. ("Capital"), FPA New
Income, Inc. ("New Income"), FPA Paramount Fund, Inc. ("Paramount") and Source
Capital, Inc. ("Source") (collectively, the "FPA Fund Complex").
The directors and officers of the Fund and their principal occupations during
the past five years follow. Their address is 11400 West Olympic Boulevard,
Suite 1200, Los Angeles, California 90064.
Julio J. de Puzo, Jr., Director and Executive Vice President (1)
Director (since October 1995), Principal (since March 1996) and Chief Executive
Officer (since March 1996) of the Adviser; Director and President since March
1996 of Source; Director and Executive Vice President since April 1996 of
Paramount; and Executive Vice President since August 1996 of Capital and of New
Income. President (since January 1997), Chief Executive Officer (since January
1997), and Director for more than the past five years of the Distributor.
Executive Vice President from October 1995 to March 1996, Chief Administrative
Officer from October 1995 to March 1996, Chief Financial Officer
9
<PAGE>
from June 1991 to March 1996, Treasurer from June 1991 to March 1996, Senior
Vice President from February 1993 to October 1995, and First Vice President from
April 1985 to February 1993, of the Adviser. Treasurer from June 1981 to August
1996 of the Fund, from May 1982 to August 1996 of Source, from September 1983 to
August 1996 of Paramount, and from July 1984 to August 1996 of Capital and of
New Income. Chief Financial Officer from October 1991 to March 1998, and
Executive Vice President (or Senior Vice President or First Vice President) from
October 1991 to January 1997 of the Distributor.
John P. Endicott, Director
Independent management consultant since January 1983 and from April 1979 to
March 1981; Associate, Case and Company, Inc. (management consultants) from
April 1981 to January 1983; President and Director, Sierracin Corporation
(manufacturer of high technology products) from 1969 to March 1979. Director of
Paramount for more than the past five years.
Leonard Mautner, Director
President, Leonard Mautner Associates (management consultants) for more than the
past five years; General Partner, Goodman & Mautner Ltd. (venture capital
partnership) and President, Goodman & Mautner, Inc. (investment manager) from
1969 to 1979. Director of Paramount for more than the past five years and
Director of MRV Communications Inc. since April 1992.
Lawrence J. Sheehan, Director (1)
Of counsel to, and partner (1969 to 1994) of, the law firm of O'Melveny & Myers
LLP, legal counsel to the Fund. Director of Source, of Capital and of New
Income. Director of TCW Convertible Securities Fund, Inc., a closed-end
investment company.
Eric S. Ende, President and Chief Investment Officer
Senior Vice President (or Vice President) of the Adviser for more than the past
five years, and Chief Investment Officer since May 1997 and Senior Vice
President for more than the past five years of Source, and Vice President of
Capital, of New Income and of Paramount for more than the past five years.
Executive Vice President of the Fund from August 1995 to September 1995, and
Vice President of the Fund from May 1985 to August 1995.
Steven R. Geist, Vice President
Vice President of the Adviser since December 1994, and of Source since August
1996. Investment Analyst of the Adviser from July 1992 to December 1994.
Janet M. Pitman, Vice President
Vice President of the Adviser for more than the past five years, of Source and
of Paramount since April 1996, and of Capital and of New Income since February
1997.
J. Richard Atwood, Treasurer
Senior Vice President, Chief Financial Officer and Treasurer of the Adviser
since January 1997, and Chief Financial Officer (since March 1998), Senior Vice
President and Treasurer of the Distributor since January 1997. Treasurer of
Source, of Paramount, of Capital, and of New Income since January 1997. Vice
President and Chief Financial Officer of Transamerica Investment Services, Inc.
from January 1995 to January 1997. Vice President (or Assistant Vice President)
and Controller of the Adviser from July 1988 to January 1995, and Assistant
Treasurer of the Distributor from May 1991 to January 1995. Assistant Treasurer
of the Fund, of Capital, of New Income, of Paramount, and of Source from 1988 to
1995.
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<PAGE>
Sherry Sasaki, Secretary
Assistant Vice President and Secretary of the Adviser, and Secretary of Source,
of Paramount, of Capital, of New Income, and of the Distributor for more than
the past five years.
Christopher H. Thomas, Assistant Treasurer
Vice President and Controller of the Adviser and of the Distributor since March
1995, and Assistant Treasurer of Capital, of New Income, of Source and of
Paramount since April 1995. Staff Accountant with the Office of Inspection of
the Securities and Exchange Commission from 1994 to March 1995. School
Administrator of the Calvary Road Christian Academy from 1988 to 1993.
- ------------------------------
(1) Director who is an interested person, as defined in the Investment Company
Act, by virtue of his affiliation with the Adviser in the case of Mr. de
Puzo, and by virtue of his affiliation with legal counsel to the Fund in
the case of Mr. Sheehan.
The directors and officers of the Fund as a group own approximately 1.95% of the
outstanding Fund shares. During the last fiscal year, the directors then in
office who were not affiliated with the Adviser received as a group $20,000 in
directors' fees. Such directors are also reimbursed for certain out-of-pocket
expenses by the Fund. The following information relates to director
compensation. The Fund does not pay any salaries to its officers, all of whom
are compensated by the Adviser.
<TABLE>
<CAPTION>
TOTAL COMPENSATION*
AGGREGATE COMPENSATION* FROM THE FPA FUND COMPLEX
NAME OF DIRECTORS FROM THE FUND INCLUDING THE FUND
<S> <C> <C>
Julio J. de Puzo, Jr. $ -0- $ -0-
John P. Endicott 5,000 16,000**
Leonard Mautner 5,000 16,000**
Lawrence J. Sheehan 5,000 36,000***
Kenneth L. Trefftzs (resigned 3/12/98) 5,000 36,000***
</TABLE>
* No pension or retirement benefits are provided to Directors by the Fund or
the FPA Fund Complex.
** Includes compensation from the Fund and from one open-end investment
company.
*** Includes compensation from the Fund, from two open-end investment
companies, and from one closed-end investment company.
Currently, the personnel of the Adviser consists of seven persons engaged full
time in portfolio management or investment research in addition to 26 persons
engaged full time in trading, administrative, financial or clerical activities.
The Adviser is registered as an investment adviser with the Securities and
Exchange Commission, which does not imply supervision by said Commission of the
Adviser's activities. The Adviser's parent company, UAM, is a publicly held
corporation. No person is known by UAM to own or hold with power to vote 25% or
more of its outstanding shares of common stock.
FIVE PERCENT SHAREHOLDERS. As of March 31, 1998, no person was known by the
Fund to own, of record or beneficially, 5% or more of the outstanding Fund
shares, except Bank of New York Custodian for American Federation of Musicians
and Employees Pension Fund, Amivest Corporation Discretionary Investment
Manager, 52 William Street, New York, New York 10005-2802, which held 114,462
shares (5.05%).
11
<PAGE>
INVESTMENT ADVISORY AGREEMENT
The Fund has entered into an Investment Advisory Agreement dated June 27, 1991
("Advisory Agreement"), with the Adviser pursuant to which the Adviser provides
continuing supervision of the Fund's investment portfolio. The Adviser is
authorized, subject to the control of the Fund's Board of Directors, to
determine which securities are to be bought or sold and in what amounts. In
addition to providing investment advisory and management services, the Adviser
furnishes office space, facilities and equipment, and maintains the Fund's books
and records. It also compensates all officers and other personnel of the Fund,
all of whom are employed by the Adviser, subject to reimbursement from the Fund
for personnel involved in providing financial services as indicated below.
Other than the expenses the Adviser specifically assumes under the Advisory
Agreement, the Fund bears all costs of its operation. These costs include
brokerage commissions and other costs of portfolio transactions; fees and
expenses of directors not affiliated with the Adviser; taxes; transfer agent,
dividend disbursement, reinvestment and custodian fees; legal and audit fees;
printing and mailing of reports to shareholders and proxy materials;
shareholders' and directors' meetings; registration of Fund shares under federal
and state laws; printing and engraving stock certificates; trade association
membership fees; premiums for the fidelity bond and errors and omissions
insurance maintained by the Fund; litigation; interest on indebtedness; and
reimbursement of the Adviser's expenses in providing financial services to the
Fund as described below.
For services rendered, the Adviser is paid a monthly fee computed at the annual
rate of 0.75% of the first $50 million, and 0.65% of the excess over $50
million, of the Fund's average net assets. The advisory fee is higher than the
fee paid by some other mutual funds. The average net assets are determined by
taking the average of all the daily determinations of net assets made, in the
manner provided in the Fund's Articles of Incorporation, during a calendar
month.
In addition to the advisory fee, the Fund reimburses the Adviser monthly for
costs incurred in providing financial services to the Fund. Such financial
services include (a) maintaining the accounts, books and other documents which
constitute the record forming the basis for the Fund's financial statements,
(b) preparing such financial statements and other Fund documents and reports of
a financial nature required by federal and state laws, (c) calculating daily net
assets and (d) participating in the production of the Fund's registration
statements, prospectuses, proxy materials and reports to shareholders (including
compensation of the Treasurer or other principal financial officer of the Fund,
compensation of personnel working under such person's direction and expenses of
office space, facilities and equipment such persons use to perform their
financial services duties). However, for any fiscal year, the cost of such
financial services paid by the Fund may not exceed 0.10% of the average daily
net assets of the Fund.
The advisory fee and cost of financial services is reduced in the amount by
which certain defined operating expenses of the Fund (including the advisory fee
and cost of financial services) for any fiscal year exceed 1.50% of the first
$30 million of average net assets, plus 1% of the remaining average net assets.
Such values are calculated at the close of business on the last business day of
each calendar month. Any required reduction or refund is computed and paid
monthly. Operating expenses (as defined in the Advisory Agreement) exclude
(a) interest, (b) taxes, (c) brokerage commissions and (d) any extraordinary
expenses, such as litigation, merger, reorganization or recapitalization, to the
extent such extraordinary expenses are permitted to be excluded by the rules or
policies of the states in which Fund shares are registered for sale. All
expenditures, including costs connected with the purchase, retention or sale of
portfolio securities, which are capitalized in accordance with generally
accepted accounting principles applicable to investment companies, are accounted
for as capital items and not as expenses. This expense limitation provision
does not require any payment by the Adviser beyond the return of the advisory
fee and cost of financial services paid to it by the Fund for a fiscal year.
12
<PAGE>
The Advisory Agreement provides that the Adviser does not have any liability to
the Fund or any of its shareholders for any error of judgment, any mistake of
law or any loss the Fund suffers in connection with matters related to the
Advisory Agreement, except for liability resulting from willful misfeasance, bad
faith or negligence on the part of the Adviser or the reckless disregard of its
duties under the Advisory Agreement.
The Advisory Agreement is renewable annually if such renewal is specifically
approved each year (a) by the Fund's Board of Directors or by the vote of a
majority (as defined in the Investment Company Act) of the Fund's outstanding
voting securities and (b) by the vote of a majority of the Fund's directors who
are not parties to the Advisory Agreement or interested persons (as defined in
the Investment Company Act) of any such party, by votes cast in person at a
meeting called for the purpose of voting on such approval. The continuation of
the Advisory Agreement to April 30, 1999, has been approved by the Board of
Directors and a majority of the Fund's directors who are not parties to the
Advisory Agreement or interested persons of any such party (as defined in the
Investment Company Act). The Advisory Agreement may be terminated without
penalty by the Fund's Board of Directors or the vote of a majority (as defined
in the Investment Company Act) of the Fund's outstanding voting securities on 60
days' written notice to the other party. The Advisory Agreement automatically
terminates in the event of its assignment (as defined in the Investment Company
Act).
For the fiscal years ended December 31, 1995, 1996 and 1997, the Adviser
received gross advisory fees of $363,810, $336,004 and $348,236, respectively,
plus $48,516, $44,801 and $46,431, respectively, for costs incurred in providing
financial services to the Fund.
PRIOR PERFORMANCE INFORMATION
For the purposes of quoting and comparing the performance of the Fund to that of
other mutual funds and to other relevant market indices in advertisements,
performance may be stated in terms of total return. Under regulations adopted
by the Securities and Exchange Commission ("SEC"), funds that intend to
advertise performance must include total return quotations calculated according
to the following formula:
n
P(1 + T) = ERV
Where: P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years (1, 5 or 10)
ERV = ending redeemable value of a hypothetical $1,000
payment, made at the beginning of the 1, 5 or 10 year
period, at the end of such period (or fractional portion
thereof).
Under the foregoing formula, the time periods used in advertising will be based
on rolling calendar quarters, updated to the last day of the most recent quarter
prior to submission of the advertising for publication, and cover 1, 5 and 10
year periods of a fund's existence or such shorter period dating from the
effectiveness of a fund's registration statement. In calculating the ending
redeemable value, the maximum sales load is deducted from the initial $1,000
payment and all dividends and distributions by a fund are assumed to have been
reinvested at net asset value as described in the Prospectus on the reinvestment
dates during the period. Total return, or "T" in the formula above, is computed
by finding the average annual compounded rates of return over the 1, 5 and 10
year periods (or fractional portion thereof) that would equate the initial
amount invested to the ending redeemable value.
13
<PAGE>
The Fund may also from time to time include in such advertising a total return
figure that is not calculated according to the formula set forth above in order
to compare the performance of the Fund with other measures of investment return.
For example, in comparing the Fund's total return with a stock index such as the
Standard & Poor's 500 Stock Index, the Fund calculates its aggregate total
return for the specified periods of time by assuming the investment of $10,000
in Fund shares and assuming the reinvestment of each dividend or other
distribution at net asset value on the reinvestment date. Percentage increases
are determined by subtracting the initial value of the investment from the
ending value and by dividing the remainder by the beginning value. The Fund
does not, for these purposes, deduct from the initial value invested any amount
representing sales charges. The Fund, however, discloses the maximum sales
charge and also discloses that inclusion of sales charges would reduce the
performance quoted. Such alternative total return information will be given no
greater prominence in such advertising than the information prescribed under SEC
regulations.
The Fund's average annual total return (calculated in accordance with the SEC
regulations described above) for the one, five and ten-year periods ended
December 31, 1997, was 16.22%, 11.41% and 13.66%, respectively. The Fund's
average annual total return (determined pursuant to the alternative computation
which does not include the maximum initial sales charge of 6.5% of the offering
price) for the same periods was 24.30%, 12.92% and 14.42%, respectively. These
results are based on historical earnings and asset value fluctuations and are
not intended to indicate future performance.
The foregoing information should be considered in light of the Fund's investment
objectives and policies, as well as the risks incurred in the Fund's investment
practices. Future results will be affected by the future composition of the
Fund's portfolio, as well as by changes in the general price level of equity
securities, and general economic and other market conditions. The past 1, 5 and
10 year periods have been ones of generally rising common stock prices subject
to short-term fluctuations.
PORTFOLIO TRANSACTIONS AND BROKERAGE
The Adviser makes decisions to buy and sell securities for the Fund, selects
broker-dealers and negotiates commission rates or net prices. In
over-the-counter transactions, orders are placed directly with a principal
market maker unless it is believed better prices and executions are available
elsewhere. Portfolio transactions are effected with broker-dealers selected for
their abilities to give prompt execution at prices favorable to the Fund. In
selecting broker-dealers and in negotiating commissions, the Adviser considers
each firm's reliability, the quality of its execution services on a continuing
basis and its financial condition. When more than one firm is believed to meet
these criteria, preference may be given to broker-dealers providing research
services to the Fund or the Adviser. Subject to seeking best execution, the
Adviser may also consider sales of Fund shares as a factor in selecting
broker-dealers to execute portfolio transactions for the Fund. Any solicitation
fees which the Adviser receives in connection with acceptance of an exchange or
tender offer of the Fund's portfolio securities are applied to reduce the
advisory fees.
The Advisory Agreement authorizes the Adviser to pay commissions on security
transactions to broker-dealers furnishing research services in an amount higher
than the lowest available rate. The Adviser must determine in good faith that
such amount is reasonable in relation to the brokerage and research services
provided (as required by Section 28(e) of the Securities Exchange Act of 1934)
viewed in terms of the particular transaction or the Adviser's overall
responsibilities with respect to accounts for which it exercises investment
discretion. The term brokerage and research services is defined to include (a)
providing advice as to the value of securities, the advisability of investing
in, purchasing or selling securities, and the availability of securities or
purchasers or sellers of securities; (b) furnishing analyses and reports
concerning issuers, industries, securities, economic factors and trends,
portfolio strategy and performance of accounts; and (c) effecting securities
transactions and performing functions incidental thereto, such as
14
<PAGE>
clearance, settlement and custody. The advisory fee is not reduced as a result
of the Adviser's receipt of such research.
Research services furnished by broker-dealers effecting securities transactions
for the Fund may be used by the Adviser for all advisory accounts. However, the
Adviser may not use all such research services in managing the Fund's portfolio.
In the opinion of the Adviser, it is not possible to measure separately the
benefits from research services to each advisory account. Because the volume
and nature of the trading activities of advisory accounts are not uniform, the
amount of commissions in excess of the lowest available rate paid by each
advisory account for brokerage and research services will vary. However, the
Adviser believes the total commissions the Fund pays are not disproportionate to
the benefits it receives on a continuing basis.
The Adviser attempts to allocate portfolio transactions equitably whenever
concurrent decisions are made to purchase or sell securities for the Fund and
other advisory accounts. In some cases, this procedure could have an adverse
effect on the price or amount of securities available to the Fund. The main
factors considered in such allocations are the respective investment objectives,
the relative size of portfolio holdings of the same or comparable securities,
the availability of cash for investment, the size of investment commitments
generally held, and the opinion of the persons responsible for recommending the
investments.
Brokerage commissions paid by the Fund on portfolio transactions for the fiscal
years ended December 31, 1995, 1996 and 1997, totaled $79,604, $47,406 and
$27,196, respectively. During the last fiscal year, $24,000 of commissions were
paid on transactions having a total value of $14,254,510 to brokers selected
because of research services provided to the Adviser.
PORTFOLIO TURNOVER
The portfolio turnover rate is calculated by dividing the lesser of purchases or
sales of portfolio securities for a fiscal year by the average monthly value of
portfolio securities during such fiscal year. Securities maturing in one year
or less at the time of acquisition are not included in this computation. The
turnover rate for prior periods is shown in the Prospectus under the caption
"Financial Highlights." This rate may vary greatly from year to year as well as
within a year.
DISTRIBUTOR
The Distributor acts as principal underwriter of Fund shares pursuant to the
distribution agreement dated September 3, 1991 ("Distribution Agreement"). The
Distributor receives commissions from the sale of Fund shares and has the
exclusive right to distribute Fund shares through dealers. From the commissions
received, the Distributor pays sales commissions to dealers; its own overhead
and general administrative expenses; the cost of printing and distributing
prospectuses used in connection with this offering; and the cost of preparing,
printing and distributing sales literature and advertising relating to the Fund.
The Fund pays expenses attributable to registering Fund shares under federal and
state laws (including registration and filing fees), the cost of preparing the
prospectus (including typesetting and printing copies required for regulatory
filings by the Fund) and related legal and audit expenses.
The Distribution Agreement is renewable annually if such renewal is specifically
approved each year (a) by the Fund's Board of Directors or by a vote of a
majority (as defined in the Investment Company Act) of the Fund's outstanding
voting securities and (b) by a majority of the Fund's directors who are not
parties to the Distribution Agreement or interested persons (as defined in the
Investment Company Act) of any such party, by votes cast in person at a meeting
called for such purpose. The continuation of the Distribution Agreement to
September 3, 1998 has been approved by the Board of Directors and a majority
15
<PAGE>
of the Fund's directors who are not parties to the Distribution Agreement or
interested persons of any such party (as defined in the Investment Company Act).
The Distribution Agreement terminates if assigned (as defined in the Investment
Company Act) and may be terminated, without penalty, by either party on 60 days'
written notice.
The Distributor's obligation under the Distribution Agreement is an agency or
best efforts arrangement pursuant to which the Distributor is required to take
and pay for only those Fund shares sold to the public. The Distributor is not
obligated to sell any stated number of Fund shares.
During the fiscal years ended December 31, 1995, 1996 and 1997, total
underwriting commissions on the sale of Fund shares were $67,564, $98,261 and
$31,200, respectively. Of such totals, the amount retained each year by the
Distributor, after reallowance to other dealers, was $4,400, $5,863 and $2,382,
respectively.
PURCHASE AND REDEMPTION OF SHARES
NET ASSET VALUE. Net asset value is computed as of the close of the NYSE on
each business day during which the NYSE is open. Net asset value, rounded to
the nearest cent per share, is the total market value of all of the Fund's
portfolio securities plus other assets (including any accrued reimbursement of
expenses), less all liabilities, divided by the total number of Fund shares
outstanding. The NYSE is closed not only on weekends but also on customary
holidays, which currently are New Year's Day, Martin Luther King, Jr. Day,
President's Day, Good Friday, Memorial Day, Independence Day, Labor Day,
Thanksgiving Day and Christmas Day. Such computation is made by (a) valuing
securities listed or traded on a national securities exchange or on the NASDAQ
National Market System at the last sale price or, if there has been no sale that
day, at the last bid price, (b) valuing unlisted securities for which quotations
are readily available at the last representative bid price as supplied by the
National Association of Securities Dealers Automated Quotations (NASDAQ) or by
dealers and (c) appraising all other portfolio securities and assets at fair
value as determined in good faith by the Fund's Board of Directors.
SALES CHARGES. The maximum sales charge is 6.5%, as a percentage of the
offering price, but lower sales charges apply for larger purchases. A portion
of the sales charge is allocated to dealers selling Fund shares in amounts
ranging from 80% to 94%, depending on the size of the investment. During
special promotions, the Distributor may reallow up to 100% of the sales charge
to dealers. At such times dealers may be deemed to be underwriters for purposes
of the Securities Act of 1933. Discounts are alike to all dealers.
AUTHORIZED FINANCIAL INTERMEDIARIES. The Fund has authorized certain financial
intermediaries including one or more brokers to accept on its behalf purchase
and redemption orders; such brokers are authorized to designate other
intermediaries to accept purchase and redemption orders on the Fund's behalf;
the Fund is deemed to have received a purchase or redemption order when an
authorized financial intermediary including an authorized broker or if
applicable a broker's authorized designee accepts the order; and customer orders
are priced at the Fund's net asset value next computed after they are accepted
by an authorized financial intermediary including an authorized broker or the
broker's authorized designee.
SALES AT NET ASSET VALUE. Full-time employees of the Adviser may purchase Fund
shares at net asset value via payroll deduction provided the minimum initial
investment is $250. Each subsequent investment must be at least $50.
LETTER OF INTENT. To be eligible, the investor must sign at the time of initial
purchase, or within 30 days, a Letter of Intent ("LOI") covering investments to
be made within a period of 13 months ("Period") from
16
<PAGE>
such initial purchase. The investor thereby becomes eligible for a reduced
sales charge based on the total amount of the specified intended investment
("LOI Goal"), provided such amount is not less than $10,000. A minimum initial
purchase of $1,500 and minimum subsequent purchases of $100 each are required.
Fund shares may also be purchased to fulfill a letter of intent entered into
with respect to shares of the other FPA Funds. The account information form,
which should be used to establish an LOI, is available from dealers or the
Distributor.
All transactions under an LOI must be indicated as such and must be placed by
the dealer (in the case of an initial purchase) or the shareholder (in the case
of any subsequent purchase) directly through Boston Financial Data Services,
Inc. ("Shareholder Service Agent"). Shareholders should review for accuracy all
confirmations of transactions, especially purchases made pursuant to an LOI.
If the LOI Goal is completed before the end of the Period, any subsequent
purchases within the Period receive the reduced sales charge applicable. In
addition, during the Period, the shareholder may increase his or her LOI Goal
and all subsequent purchases are treated as a new LOI (including escrow of
additional Fund shares) except as to the Period, which does not change.
Signing an LOI does not bind the shareholder to complete his or her LOI Goal,
but the LOI Goal must be completed to obtain the reduced sales charge. The LOI
is binding on the Fund and the Distributor. However, the Distributor may
withdraw a shareholder's LOI privileges for future purchases upon receiving
information that the shareholder has resold or transferred his or her Fund
shares within the Period.
The LOI requires the Shareholder Service Agent, as escrow agent, to hold 5% of
the LOI Goal in escrow until completion of the LOI Goal within the Period. The
escrowed Fund shares are taken from the first purchase and, if necessary, from
each successive purchase. If the LOI Goal is completed within the Period, the
escrowed Fund shares are promptly delivered to, or as directed by, the
shareholder.
If the LOI Goal is not completed within the Period, the shareholder must pay the
Distributor an amount equal to the sales charge applicable to a single purchase
in the total amount of the purchases made under the LOI minus the sales charges
actually paid. If the Distributor does not receive such unpaid sales charge
within 20 days after requesting payment in writing, the Distributor instructs
the Shareholder Service Agent to redeem escrowed Fund shares sufficient to cover
the unpaid sales charge. Under the LOI, the shareholder irrevocably appoints
the Shareholder Service Agent as his or her attorney with full power of
substitution in the premises to surrender for redemption any or all escrowed
Fund shares. If the redemption proceeds are inadequate, the shareholder is
liable to the Distributor for the difference. The Shareholder Service Agent
delivers to, or as directed by, the shareholder all Fund shares remaining after
such redemption, together with any excess cash proceeds.
Any income dividends and capital gains distributions on the escrowed Fund shares
are paid to, or as directed by, the shareholder.
FPA EXCHANGE PRIVILEGE. The procedures for exchanging shares between FPA Funds
are set forth under "Purchase of Shares - FPA Exchange Privilege" in the Fund's
Prospectus. If the account registration information for the two FPA Fund
accounts involved in the exchange are different in any respect, the exchange
instructions must be in writing and must contain a signature guarantee as
described under "Redemption of Shares" in the Fund's Prospectus.
By use of the exchange privilege, the investor authorizes the Shareholder
Service Agent ("Agent") to act on telephonic, telegraphic or written exchange
instructions from any person representing himself to be the
17
<PAGE>
investor or the agent of the investor and believed by the Agent to be genuine.
The Agent's records of such instructions are binding.
For purposes of determining the sales charge rate previously paid, all sales
charges paid on the exchanged security and on any security previously exchanged
for such security or for any of its predecessors shall be included. If the
exchanged security was acquired through reinvestment, that security may be
exchanged without a sales charge. If a shareholder exchanges less than all of
his securities, the security requiring no or the lowest incremental sales charge
is deemed exchanged first.
Exchange requests received on a business day prior to the time shares of the
Funds involved in the request are priced, are processed on the date of receipt
by the Shareholder Service Agent. "Processing " a request means that shares in
the Fund from which the shareholder is withdrawing an investment will be
redeemed at the net asset value per share next determined after receipt. Shares
of the new Fund into which the shareholder is investing will also normally be
purchased at the net asset value per share, plus any applicable sales charge,
next determined after receipt by the Shareholder Service Agent. Exchange
requests received on a business day after the time shares of the Funds involved
in the request are priced, are processed on the next business day in the manner
described above.
REDEMPTION OF SHARES. Redemptions are not made on days during which the NYSE is
closed, including those holidays listed under "Purchase and Redemption of Shares
- - Net Asset Value." The right of redemption may be suspended and the payment
therefore may be postponed for more than seven days during any period when
(a) the NYSE is closed for other than customary weekends or holidays;
(b) trading on the NYSE is restricted; (c) an emergency exists as a result of
which disposal by the Fund of securities it owns is not reasonably practicable
or it is not reasonably practical for the Fund to fairly determine the value of
its net assets or (d) the Securities and Exchange Commission, by order, so
permits.
TELEPHONE REDEMPTION. Redemptions may be made by telephone once the shareholder
has properly completed and returned to the Shareholder Service Agent the
optional shareholder services form including the designation of a bank account
to which the redemption payment is to be sent ("Designated Bank"). The proceeds
will not be mailed or wired to other than the Designated Bank. New investors
who wish to establish the telephone redemption privilege must complete the
appropriate section on the optional shareholder services form. Existing
shareholders who wish to establish the telephone redemption privilege or change
the Designated Bank should either enter the new information on an optional
shareholder services form, marking it for "change of information" purposes, or
send a letter identifying the Fund account and specifying the exact information
to be changed. The letter must be signed exactly as the shareholder's name(s)
appear on the account. All signatures require a guarantee as described under
"Redemption of Shares" in the Fund's Prospectus. The optional shareholder
services form is available from authorized securities dealers or the
Distributor.
Shareholders who want to use a savings and loan ("S&L") as their Designated Bank
are advised that if the S&L is not a participant in the Federal Reserve System,
redemption proceeds must be wired through a commercial bank which is a
correspondent of the S&L. As this may delay receipt by the shareholder's
account, it is suggested that shareholders who wish to use an S&L discuss wire
procedures with their S&L and submit any special wire transfer information with
the telephone redemption authorization. If appropriate wire information is not
supplied, redemption proceeds will be mailed to such Designated Bank.
The shareholder may cancel the telephone redemption authorization upon written
notice. If the shareholder has authorized telephone redemptions, neither the
Fund nor the Shareholder Service Agent is responsible for any unauthorized
telephone redemptions. If the Fund shares to be redeemed by telephone
(technically
18
<PAGE>
a repurchase by agreement between the Fund and the shareholder) were recently
purchased by check, the Shareholder Service Agent can delay transmitting the
proceeds until the purchasing check has cleared.
TAX SHELTERED RETIREMENT PLANS
Through the Distributor, prototype retirement plans are available for purchase
of Fund shares. These include plans for self-employed individuals and plans for
individuals buying shares under an Individual Retirement Account. The investor
should be aware that a penalty tax applies, in general, to distributions made
before age 59-1/2, excess contributions and failure to commence distribution of
the account at age 70-1/2. Borrowing from or against the account may also
result in plan disqualification. Distributions from these retirement plans
generally are taxable as ordinary income when received.
State Street Bank and Trust Company ("Bank") presently acts as custodian for
these retirement plans and imposes fees for administering them. Purchases of
Fund shares for a retirement plan must be made by direct remittance to the Bank.
When contributions for any tax-qualified plan are invested in Fund shares, all
dividends and capital gains distributions paid on those Fund shares are retained
in such plan and automatically reinvested in additional Fund shares at net asset
value. All earnings accumulate tax-free until distribution.
The investor should consult his or her own tax adviser concerning the tax
ramifications of establishment of and distributions from a retirement plan.
DIVIDENDS, DISTRIBUTIONS AND TAXES
The Fund qualified during the last fiscal year for the tax treatment applicable
to regulated investment companies under the Internal Revenue Code ("Code") and
intends to so qualify in the future. Such qualification requires distributing
at least 90% of its investment company taxable income to shareholders and
meeting asset diversification and other requirements of the Code. As long as
the Fund so qualifies, it does not pay federal income tax on its net investment
income or on any net realized capital gains provided such income and capital
gains are distributed to shareholders. If for any taxable year the Fund does
not so qualify, all of its taxable income, including any net realized capital
gains, will be taxed at regular corporate rates (without any deduction for
distributions to shareholders).
The Fund is subject to a 4% excise tax to the extent it does not make certain
distributions to its shareholders. Such distributions must total (1) at least
98% of ordinary income (investment company taxable income subject to certain
adjustments) for any calendar year and (2) 98% of capital gains net income for
the year. The Fund intends to distribute sufficient amounts to avoid liability
for this excise tax.
If shares of the Fund are sold or exchanged within 90 days of acquisition, and
shares of the same or a related mutual fund are acquired, to the extent the
sales charge is reduced or waived on the subsequent acquisition, the sales
charge may not be used to determine the basis in the disposed shares for
purposes of determining gain or loss. To the extent the sales charge is not
allowed in determining gain or loss on the initial shares, it is capitalized in
the basis of the subsequent shares.
Under federal tax law, any loss a shareholder realizes on redemption of Fund
shares held for less than six months is treated as a long-term capital loss to
the extent of any long-term capital gain distribution which was paid on such
Fund shares.
Prior to purchasing Fund shares, the impact of dividends or capital gains
distributions should be carefully considered. Any such payments made to a
shareholder shortly after purchasing Fund shares reduce the
19
<PAGE>
net asset value of such Fund shares to that extent and unnecessarily increase
sales charges. All or a portion of such dividends or distributions, although in
effect a return of capital, is subject to taxes, possibly at ordinary income tax
rates.
Dividends and distributions declared payable to shareholders of record after
September 30 of any year and paid before February 1 of the following year are
considered taxable income to shareholders on the record date even though paid in
the next year. To the extent determined each year, a portion of the dividends
paid to shareholders from the Fund's net investment income qualifies for the 70%
dividends received deduction for corporations.
Some shareholders may be subject to 31% withholding on reportable dividends,
capital gains distributions and redemption payments ("backup withholding").
Generally, shareholders subject to backup withholding are those for whom a
taxpayer identification number is not on file with the Fund or who, to the
Fund's knowledge, furnished an incorrect number. When establishing an account,
an investor must certify under penalty of perjury that such number is correct
and that he or she is not subject to backup withholding.
Under existing provisions of the Code, dividends paid to shareholders who are
nonresident aliens may be subject to a 30% federal withholding tax applicable to
foreign individuals and entities unless a reduced rate of withholding or a
withholding exemption is provided under applicable treaty law. Nonresident
shareholders are urged to consult their own tax advisers concerning the
applicability of the federal withholding tax.
The foregoing is a general and abbreviated summary of the applicable provisions
of the Code and treasury regulations presently in effect. For the complete
provisions, reference should be made to the pertinent Code sections and treasury
regulations. The Code and these treasury regulations are subject to change by
legislative or administrative action either prospectively or retroactively.
Each investor should consult his or her own tax adviser as to federal tax laws
and the effect of state and local tax laws which may differ from federal tax
laws.
FINANCIAL STATEMENTS
DETERMINATION OF NET ASSET VALUE, REDEMPTION PRICE AND OFFERING PRICE PER
SHARE - DECEMBER 31, 1997
Net asset value and redemption price per share
(net assets divided by shares outstanding)..................$24.00
Offering price per share
(100/93.5 of per share net asset value).....................$25.67
The offering price is reduced on purchases of $10,000 or more; see "Purchase and
Redemption of Shares - Sales Charge" herein and "Purchase of Shares - Table of
Sales Charges" in the Prospectus.
20
<PAGE>
PORTFOLIO OF INVESTMENTS
December 31, 1997
<TABLE>
<CAPTION>
COMMON STOCKS Shares Cost Value
- ------------------------------------------------- --------- ------------ ------------
<S> <C> <C> <C>
PRODUCER DURABLE GOODS -- 21.8%
Denison International plc (ADR)* . . . . . . . . . 42,400 $ 721,313 $ 731,400
Donaldson Company, Inc.. . . . . . . . . . . . . . 19,300 490,582 869,706
Federal Signal Corporation . . . . . . . . . . . . 23,300 515,245 503,863
Graco Inc. . . . . . . . . . . . . . . . . . . . . 36,100 717,626 1,346,981
Holophane Corporation* . . . . . . . . . . . . . . 69,100 1,212,795 1,710,225
IDEX Corporation . . . . . . . . . . . . . . . . . 51,250 1,212,524 1,787,344
Kaydon Corporation . . . . . . . . . . . . . . . . 60,000 848,458 1,957,500
Leggett & Platt, Incorporated. . . . . . . . . . . 19,500 451,380 816,562
TriMas Corporation . . . . . . . . . . . . . . . . 35,900 812,761 1,234,062
------------ ------------
$ 6,982,684 $ 10,957,643
------------ ------------
BUSINESS SERVICES & SUPPLIES -- 18.7%
Arrow Electronics, Inc.* . . . . . . . . . . . . . 30,400 $ 588,770 $ 986,100
Bacou USA, Inc.* . . . . . . . . . . . . . . . . . 38,700 587,318 677,250
Devon Group, Inc.* . . . . . . . . . . . . . . . . 67,000 2,315,396 3,082,000
Franklin Covey Co.*. . . . . . . . . . . . . . . . 40,000 863,681 880,000
Galileo International, Inc.. . . . . . . . . . . . 47,300 1,225,767 1,306,663
Kennametal Inc.. . . . . . . . . . . . . . . . . . 9,100 315,771 471,494
Manpower Inc.. . . . . . . . . . . . . . . . . . . 39,500 1,244,268 1,392,375
Strayer Education, Inc.. . . . . . . . . . . . . . 18,600 124,000 613,800
------------ ------------
$ 7,264,971 $ 9,409,682
------------ ------------
RETAILING -- 10.1%
Arbor Drugs, Inc.. . . . . . . . . . . . . . . . . 55,312 $ 305,243 $ 1,023,272
Bob Evans Farms, Inc.. . . . . . . . . . . . . . . 24,200 440,960 535,425
Circuit City Stores, Inc.. . . . . . . . . . . . . 31,200 874,792 1,109,550
O'Reilly Automotive, Inc.* . . . . . . . . . . . . 31,000 509,768 813,750
Toys "R" Us, Inc.* . . . . . . . . . . . . . . . . 35,100 900,766 1,103,456
Viking Office Products, Inc.*. . . . . . . . . . . 21,000 296,050 458,063
------------ ------------
$ 3,327,579 $ 5,043,516
------------ ------------
MATERIALS -- 9.9%
Caraustar Industries, Inc. . . . . . . . . . . . . 75,000 $ 1,395,625 $ 2,568,750
Nucor Corporation. . . . . . . . . . . . . . . . . 21,700 1,055,485 1,048,381
OM Group, Inc. . . . . . . . . . . . . . . . . . . 37,000 717,046 1,355,125
------------ ------------
$ 3,168,156 $ 4,972,256
------------ ------------
</TABLE>
21
<PAGE>
PORTFOLIO OF INVESTMENTS
December 31, 1997
<TABLE>
<CAPTION>
COMMON STOCKS--CONTINUED Shares Cost Value
- ------------------------------------------------- --------- ------------ ------------
<S> <C> <C> <C>
HEALTH CARE -- 7.7%
Allergan, Inc. . . . . . . . . . . . . . . . . . . 38,900 $ 865,594 $ 1,305,581
DENTSPLY International Inc.. . . . . . . . . . . . 38,000 654,062 1,159,000
Landauer, Inc. . . . . . . . . . . . . . . . . . . 50,000 1,003,288 1,400,000
------------ ------------
$ 2,522,944 $ 3,864,581
------------ ------------
CONSUMER NON-DURABLE GOODS -- 7.1%
Lancaster Colony Corporation . . . . . . . . . . . 33,800 $ 1,147,690 $ 1,905,475
Newell Co. . . . . . . . . . . . . . . . . . . . . 15,000 353,550 637,500
Tupperware Corporation . . . . . . . . . . . . . . 37,000 1,492,892 1,031,375
------------ ------------
$ 2,994,132 $ 3,574,350
------------ ------------
TECHNOLOGY -- 6.7%
Belden Inc.. . . . . . . . . . . . . . . . . . . . 30,600 $ 870,248 $ 1,078,650
Channell Commercial Corporation* . . . . . . . . . 48,900 542,192 611,250
KEMET Corporation* . . . . . . . . . . . . . . . . 28,100 520,870 544,437
Methode Electronics, Inc. (Class A). . . . . . . . 68,900 1,084,573 1,119,625
------------ ------------
$ 3,017,883 $ 3,353,962
------------ ------------
ENTERTAINMENT -- 3.8%
Carnival Corporation (Class A) . . . . . . . . . . 34,800 $ 761,136 $ 1,927,050
------------ ------------
CONSUMER DURABLE GOODS -- 3.5%
Cooper Tire & Rubber Company . . . . . . . . . . 57,700 $ 1,337,385 $ 1,406,438
Juno Lighting, Inc.. . . . . . . . . . . . . . . . 20,500 298,386 358,750
------------ ------------
$ 1,635,771 $ 1,765,188
------------ ------------
INSURANCE -- 3.4%
Poe & Brown, Inc.. . . . . . . . . . . . . . . . . 24,100 $ 583,188 $ 1,075,462
Progressive Corporation, The . . . . . . . . . . . 5,300 205,036 635,338
------------ ------------
$ 788,224 $ 1,710,800
------------ ------------
</TABLE>
22
<PAGE>
PORTFOLIO OF INVESTMENTS
December 31, 1997
<TABLE>
<CAPTION>
Shares or
Principal
COMMON STOCKS--CONTINUED Amount Cost Value
- ------------------------------------------------- --------- ------------ ------------
<S> <C> <C> <C>
ENERGY -- 1.0%
North European Oil Royalty Trust (CBI) . . . . . . 30,300 $ 192,023 $ 488,588
------------ ------------
TOTAL COMMON STOCKS -- 93.7% . . . . . . . . . . . $ 32,655,503 $ 47,067,616
------------ ------------
CONVERTIBLE DEBENTURE -- 1.2%
Reptron Electronics, Inc. -- 6 3/4% 2004 . . . . . $ 775,000 $ 705,250 $ 596,750
------------ ------------
TOTAL INVESTMENT SECURITIES -- 94.9% . . . . . . . $ 33,360,753 $ 47,664,366
------------ ------------
------------
SHORT-TERM INVESTMENTS -- 4.8%
Short-term Corporate Note:
Winn-Dixie Stores, Inc. -- 6% 1/06/98. . . . . . $2,000,000 $ 1,998,333
State Street Bank Repurchase Agreement -- 5%
1/02/98 (Dated 12/31/97; to be repurchased
at $408,113; collateralized by U.S. Treasury
Bond -- 7 1/4% 2016, market value $417,295). . . 408,000 408,057
------------
TOTAL SHORT-TERM INVESTMENTS . . . . . . . . . . . $ 2,406,390
------------
TOTAL INVESTMENTS -- 99.7% . . . . . . . . . . . . $ 50,070,756
Other assets less liabilities -- 0.3%. . . . . . . 130,226
------------
TOTAL NET ASSETS -- 100% . . . . . . . . . . . . . $ 50,200,982
------------
------------
</TABLE>
*Non-income producing security
See notes to financial statements.
23
<PAGE>
STATEMENT OF ASSETS AND LIABILITIES
December 31, 1997
<TABLE>
<S> <C> <C>
ASSETS
Investments at value:
Investment securities -- at market value
(identified cost $33,360,753). . . . . . . . . . . . . . . . . . $ 47,664,366
Short-term investments -- at cost plus interest earned
(maturities 60 days or less) . . . . . . . . . . . . . . . . . . 2,406,390 $ 50,070,756
------------
Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 974
Receivable for:
Investment securities sold . . . . . . . . . . . . . . . . . . . . $ 104,609
Dividends and accrued interest . . . . . . . . . . . . . . . . . . 83,183
Capital Stock sold . . . . . . . . . . . . . . . . . . . . . . . . 1,232 189,024
------------ ------------
$ 50,260,754
LIABILITIES
Payable for:
Advisory fees and financial services . . . . . . . . . . . . . . . $ 34,861
Accrued expenses . . . . . . . . . . . . . . . . . . . . . . . . . 16,630
Capital stock repurchased. . . . . . . . . . . . . . . . . . . . . 8,281 59,772
------------ ------------
NET ASSETS -- equivalent to $24.00 per share on 2,091,280
shares of Capital Stock outstanding. . . . . . . . . . . . . . . . . $ 50,200,982
------------
------------
SUMMARY OF SHAREHOLDERS' EQUITY
Capital Stock -- par value $0.01 per share; authorized
25,000,000 shares; outstanding 2,091,280 shares. . . . . . . . . . $ 20,913
Additional Paid-in Capital . . . . . . . . . . . . . . . . . . . . . 31,244,149
Undistributed net investment income. . . . . . . . . . . . . . . . . 91,184
Undistributed net realized gain on investments . . . . . . . . . . . 4,541,123
Unrealized appreciation of investments . . . . . . . . . . . . . . . 14,303,613
------------
Net assets at December 31, 1997. . . . . . . . . . . . . . . . . . . $ 50,200,982
------------
------------
</TABLE>
See notes to financial statements.
24
<PAGE>
STATEMENT OF OPERATIONS
For the Year Ended December 31, 1997
<TABLE>
<S> <C> <C>
INVESTMENT INCOME
Interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 96,442
Dividends. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 538,856
------------
$ 635,298
EXPENSES -- Note 3:
Advisory fees. . . . . . . . . . . . . . . . . . . . . . . . . . . $ 348,236
Financial services . . . . . . . . . . . . . . . . . . . . . . . . 46,431
Transfer agent fees and expenses . . . . . . . . . . . . . . . . . 37,940
Audit fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27,025
Custodian fees . . . . . . . . . . . . . . . . . . . . . . . . . . 21,902
Directors' fees and expenses . . . . . . . . . . . . . . . . . . . 20,242
Registration fees. . . . . . . . . . . . . . . . . . . . . . . . . 17,835
Reports to shareholders. . . . . . . . . . . . . . . . . . . . . . 13,381
Legal fees . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,403
Other expenses . . . . . . . . . . . . . . . . . . . . . . . . . . 3,222 539,617
------------ ------------
Net investment income. . . . . . . . . . . . . . . . . . . $ 95,681
------------
NET REALIZED AND UNREALIZED GAIN ON INVESTMENTS
Net realized gain on investments:
Proceeds from sales of investment securities (excluding
short-term investments with maturities 60 days or less). . . . . $ 14,956,385
Cost of investment securities sold . . . . . . . . . . . . . . . . 10,401,859
------------
Net realized gain on investments . . . . . . . . . . . . . . . . $ 4,554,526
Unrealized appreciation of investments:
Unrealized appreciation at beginning of year . . . . . . . . . . . $ 8,867,497
Unrealized appreciation at end of year . . . . . . . . . . . . . . 14,303,613
------------
Increase in unrealized appreciation of investments . . . . . . . 5,436,116
------------
Net realized and unrealized gain on investments. . . . . . $ 9,990,642
------------
NET INCREASE IN NET ASSETS RESULTING
FROM OPERATIONS. . . . . . . . . . . . . . . . . . . . . . . . . . . $ 10,086,323
------------
------------
</TABLE>
See notes to financial statements.
25
<PAGE>
STATEMENT OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
For the Year Ended December 31,
---------------------------------------------------------
1997 1996
--------------------------- ---------------------------
<S> <C> <C>
INCREASE (DECREASE) IN NET ASSETS
Operations:
Net investment income. . . . . . . . . . . $ 95,681 $ 216,385
Net realized gain on investments . . . . . 4,554,526 6,458,334
Increase in unrealized
appreciation of investments. . . . . . . 5,436,116 1,634,018
------------ ------------
Increase in net assets resulting
from operations. . . . . . . . . . . . . . $ 10,086,323 $ 8,308,737
Distributions to shareholders from:
Net investment income. . . . . . . . . . . $ (101,427) $ (473,568)
Net realized capital gains . . . . . . . . (6,471,057) (6,572,484) (7,224,334) (7,697,902)
------------ ------------
Capital Stock transactions:
Proceeds from Capital Stock sold . . . . . $ 2,537,977 $ 3,446,804
Proceeds from shares issued to
shareholders upon reinvestment
of dividends and distributions . . . . . 6,007,187 6,824,920
Cost of Capital Stock repurchased. . . . . (7,655,864) 889,300 (12,475,048) (2,203,324)
------------ ------------ ------------ ------------
Total increase (decrease) in net assets. . . $ 4,403,139 $ (1,592,489)
NET ASSETS
Beginning of year, including
undistributed net investment income
of $96,930 and $354,113. . . . . . . . . . 45,797,843 47,390,332
------------ ------------
End of year, including
undistributed net investment income
of $91,184 and $96,930 . . . . . . . . . . $ 50,200,982 $ 45,797,843
------------ ------------
------------ ------------
CHANGE IN CAPITAL STOCK
OUTSTANDING
Shares of Capital Stock sold . . . . . . . . 119,107 171,914
Shares issued to shareholders
upon reinvestment of dividends
and distributions. . . . . . . . . . . . . 314,183 360,490
Shares of Capital Stock repurchased. . . . . (370,541) (623,524)
------------ ------------
Increase (decrease) in Capital Stock outstanding 62,749 (91,120)
------------ ------------
------------ ------------
</TABLE>
See notes to financial statements.
26
<PAGE>
NOTES TO FINANCIAL STATEMENTS
NOTE 1 -- SIGNIFICANT ACCOUNTING POLICIES
The Fund is registered under the Investment Company Act of 1940 as a
diversified, open-end, management investment company. The Fund's primary
investment objective is long-term growth of capital. Current income is a
secondary consideration. The following is a summary of significant accounting
policies consistently followed by the Fund in the preparation of its financial
statements.
A. Security Valuation
Securities listed or traded on a national securities exchange or on
the NASDAQ National Market System are valued at the last sale price on the
last business day of the year, or if there was not a sale that day, at the
last bid price. Securities which are unlisted are valued at the most
recent bid price. Short-term investments with maturities 60 days or less
are valued at cost plus interest earned which approximates market value.
B. Federal Income Tax
No provision for federal income tax is required because the Fund has
elected to be taxed as a "regulated investment company" under the Internal
Revenue Code and intends to maintain this qualification and to distribute
each year to its shareholders, in accordance with the minimum distribution
requirements of the Code, all of its taxable net investment income and
taxable net realized gains on investments.
C. Securities Transactions and Related
Investment Income
Securities transactions are accounted for on the date the securities
are purchased or sold. Dividend income and distributions to shareholders
are recorded on the ex-dividend date. Interest income and expenses are
recorded on an accrual basis.
D. Use of Estimates
The preparation of the financial statements in accordance with
generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported. Actual results
could differ from those estimates.
NOTE 2 -- PURCHASES OF INVESTMENT SECURITIES
The cost of purchases of investment securities (excluding short-term
investments with maturities of 60 days or less) aggregated $8,320,256 for the
year ended December 31, 1997. Realized gains or losses are based on the
specific-certificate identification method. The cost of securities held at
December 31, 1997 was the same for federal income tax and financial reporting
purposes.
NOTE 3 -- ADVISORY FEES AND OTHER
AFFILIATED TRANSACTIONS
Pursuant to an Investment Advisory Agreement, advisory fees were paid by
the Fund to First Pacific Advisors, Inc. (the "Adviser"). Under the terms of
this Agreement, the Fund pays the Adviser a monthly fee calculated at the annual
rate of 0.75% of the first $50 million of the Fund's average daily net assets
and 0.65% of the average daily net assets in excess of $50 million. In
addition, the Fund pays the Adviser an amount equal to 0.10% of the average
daily net assets for each fiscal year in reimbursement for the provision of
financial services to the Fund. The Agreement obligates the Adviser to reduce
its fee to the extent necessary to reimburse the Fund for any annual expenses
(exclusive of interest, taxes, the cost of any supplemental statistical and
research information, and extraordinary expenses such as litigation) in excess
of 1 1/2% of the first $30 million and 1% of the remaining average net assets of
the Fund for the year.
For the year ended December 31, 1997, the Fund paid aggregate fees of
$20,000 to all Directors who are not affiliated persons of the Adviser. Legal
fees were for services rendered by O'Melveny & Myers LLP, counsel for the Fund.
A Director of the Fund is of counsel to, and a retired partner of, that firm.
Certain officers of the Fund are also officers of the Adviser and FPA Fund
Distributors, Inc.
27
<PAGE>
NOTE 4 -- DISTRIBUTOR
For the year ended December 31, 1997, FPA Fund Distributors, Inc.
("Distributor"), a wholly owned subsidiary of the Adviser, received $2,382 in
net Fund share sales commissions after reallowance to other dealers. The
Distributor pays its own overhead and general administrative expenses, the cost
of supplemental sales literature, promotion and advertising.
NOTE 5 -- DISTRIBUTION TO SHAREHOLDERS
On December 26, 1997, the Board of Directors declared a dividend from net
investment income of $0.05 per share and a distribution from net realized
capital gains of $2.17 per share payable January 7, 1998 to shareholders of
record on December 31, 1997. For financial statement purposes, this dividend
and distribution was recorded on the ex-dividend date, January 2, 1998.
28
<PAGE>
REPORT OF INDEPENDENT AUDITORS
TO THE BOARD OF DIRECTORS AND
SHAREHOLDERS OF FPA PERENNIAL FUND, INC.
We have audited the accompanying statement of assets and liabilities of FPA
Perennial Fund, Inc., including the portfolio of investments, as of December
31, 1997, and the related statement of operations for the year then ended, the
statement of changes in net assets for each of the two years in the period then
ended, and the financial highlights on page 4 of the Prospectus for each of the
ten years in the period then ended. These financial statements and financial
highlights are the responsibility of the Fund's management. Our responsibility
is to express an opinion on these financial statements and financial highlights
based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of
December 31, 1997, by correspondence with the custodian and brokers. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of FPA
Perennial Fund, Inc. at December 31, 1997, the results of its operations for the
year then ended, the changes in its net assets for each of the two years in the
period then ended, and the financial highlights on page 4 of the Prospectus, for
each of the ten years in the period then ended in conformity with generally
accepted accounting principles.
/s/ERNST & YOUNG LLP
ERNST & YOUNG LLP
Los Angeles, California
January 20, 1998
29
