[SHIP GRAPHIC]
VANGUARD(R)
PRIMECAP
FUND
Annual Report
December 31, 1999
[A MEMBER OF THE VANGUARD GROUP LOGO]
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[PHOTO OF JOHN C. BOGLE]
JOHN C. BOGLE
FELLOW SHAREHOLDERS:
Two roads diverged in a wood, and I--I took the one less traveled by, and
that has made all the difference.
I can think of no better words than those of Robert Frost to begin this special
letter to our shareholders, who have placed such extraordinary trust in me and
in Vanguard over the past quarter century. When the firm was founded 25 years
ago, we deliberately took a new road to managing a mutual fund enterprise.
Instead of having the funds controlled by an outside management company with its
own financial interests, the Vanguard funds--there were only 11 of them
then--would be controlled by their own shareholders and operate solely in their
financial interests. The outcome of our unprecedented decision was by no means
certain. We described it then as "The Vanguard Experiment."
Well, I guess it's fair to say it's an experiment no more. During the past
25 years, the assets we hold in stewardship for investors have grown from $1
billion to more than $500 billion, and I believe that our reputation for
integrity, fair-dealing, and sound investment principles is second to none in
this industry. Our staggering growth--which I never sought--has come in
important part as a result of the simple investment ideas and basic human values
that are the foundation of my personal philosophy. I have every confidence that
they will long endure at Vanguard, for they are the right ideas and right
values, unshakable and eternal.
While Emerson believed that "an institution is the lengthened shadow of one
man," Vanguard today is far greater than any individual. The Vanguard crew has
splendidly implemented and enthusiastically supported our founding ideas and
values, and deserves the credit for a vital role in forging our success over the
years. It is a dedicated crew of fine human beings, working together in an
organization that is well prepared to press on regardless long after I am gone.
Creating and leading this enterprise has been an exhilarating run. Through it
all, I've taken the kudos and the blows alike, enjoying every moment to the
fullest, and even getting a second chance at life with a heart transplant three
years ago. What more could a man ask?
While I shall no longer be serving on the Vanguard Board, I want to assure
you that I will remain vigorous and active in a newly created Vanguard unit,
researching the financial markets, writing, and speaking. I'll continue to focus
whatever intellectual power and ethical strength I possess on my mission to
assure that mutual fund investors everywhere receive a fair shake. In the spirit
of Robert Frost:
But I have promises to keep, and miles to go before I sleep, and miles to
go before I sleep.
You have given me your loyalty and friendship over these long years, and I
deeply appreciate your thousands of letters of support. For my part, I will
continue to keep an eagle eye on your interests, for you deserve no less. May
God bless you all, always.
/S/
JCB
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CONTENTS
Report From The Chairman ...........1 Fund Profile .......................10
After-Tax Returns Report ...........5 Performance Summary ................12
The Markets In Perspective .........6 Financial Statements ...............13
Report From The Adviser ............8 Report Of Independent Accountants ..19
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[PHOTO OF JOHN J. BRENNAN]
JOHN J. BRENNAN
REPORT FROM THE CHAIRMAN
Vanguard PRIMECAP Fund earned a terrific total return of 41.3% during 1999,
nearly doubling the return of the S&P 500 Index. This was the highest return in
the fund's 15-year history. PRIMECAP's excellent performance was due in large
part to its investments in the white-hot technology sector, which left every
other market segment in the dust.
The table at right compares the fund's 12-month total return (capital
change plus reinvested dividends) with those of the average multi-cap core
mutual fund; the unmanaged Standard & Poor's 500 Index, which is dominated by
large companies; and the unmanaged Russell 1000 Growth Index, a broad measure of
large growth stocks. As you can see, your fund's return compared favorably with
those of its index benchmarks and its average mutual fund competitor.
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TOTAL RETURNS
YEAR ENDED
DECEMBER 31, 1999
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Vanguard PRIMECAP Fund 41.3%
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Average Multi-Cap Core Fund* 22.5%
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S&P 500 Index 21.0%
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Russell 1000 Growth Index 33.2%
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*Derived from data provided by Lipper Inc.
The fund's total return is based on an increase in net asset value from
$47.66 per share on December 31, 1998, to $62.07 per share on December 31, 1999,
and is adjusted for dividends totaling $0.27 per share paid from net investment
income and distributions totaling $4.65 per share paid from net realized capital
gains. We expect to make a supplemental distribution of about $1.05 per share in
March from net capital gains realized in November and December 1999.
FINANCIAL MARKETS IN REVIEW
The U.S. stock market rode the technology wave in 1999 to an unprecedented fifth
consecutive year of returns exceeding 20%. Stocks got off to a strong start
during the first four months of the year but, weighed down by higher interest
rates, struggled through most of the summer and into the fall. Through
September, the Wilshire 5000 Total Market Index returned 4.6%. But then
technology stocks led the market on an upward tear over the final three months
of 1999, bringing the Wilshire 5000's full-year return to a remarkable 23.8%.
The S&P 500 Index, which is dominated by large-capitalization stocks,
returned 21.0%. Small-cap stocks, as measured by the Russell 2000 Index,
returned 21.3%--a fine showing for a market segment that had badly lagged
large-cap stocks in the five previous years.
The rise of the major indexes in 1999 suggests a broad advance for the
market, but in fact it was a year of "haves" and "have nots"--a huge number of
stocks did not join in the market's ascent. Fully 60% of those listed on the New
York Stock Exchange actually declined in price in 1999, and so did 48% of the
stocks listed on the Nasdaq market. (In fact, 36% of NYSE stocks and 31% of
Nasdaq stocks fell in value by more than 20%.)
As mentioned, the technology sector was the leading "have"--technology
stocks in the S&P 500 Index gained 74% for the year and were largely responsible
for growth stocks within the index (+28.2%) far outpacing value stocks (+12.7%).
Among small stocks, technology stocks gained 107%, and the difference between
growth and value was an amazing 44.6 percentage points (+43.1% for the Russell
2000 Index's growth stocks and -1.5% for its value stocks).
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Somewhat surprisingly, these stock market returns occurred in a rising
interest rate environment. Rates rose substantially during 1999--a rise
encouraged by Federal Reserve policymakers, who boosted short-term interest
rates in three steps by a total of 0.75 percentage point (75 basis points).
Rising interest rates can depress stock prices, especially for growth issues,
because they lessen the current value of future earnings. But during 1999,
investors decided that improving prospects for corporate profits outweighed the
negative impact of higher rates.
Bond prices are, of course, tightly linked to interest rates, and rising
rates cause prices of existing bonds to fall. Interest rates rose across all
maturities in 1999, and prices dropped accordingly. The yield of the benchmark
30-year U.S. Treasury bond stood at 6.48% on December 31, 1.38 percentage points
above its starting point of 5.10%. The total return of the Lehman Brothers
Aggregate Bond Index, a broad measure of the U.S. bond market, was -0.8%, as a
price decline of -7.0% more than offset interest income of 6.2%.
1999 PERFORMANCE OVERVIEW
PRIMECAP's 1999 return of 41.3% was nearly twice the 21.0% return of the S&P 500
Index. As we noted, the fund's 1999 performance was its best ever, both on an
absolute basis and relative to the S&P 500 Index. PRIMECAP has now topped the
S&P 500 during 10 of the 15 years it has been in existence.
Technology stocks were easily the biggest contributors to our return during
1999. An average of 37% of the fund's net assets were invested in tech stocks
during the period, a figure that rose to nearly 41% by December 31. By way of
comparison, the S&P 500 Index had an average weighting of about 19% in tech
stocks during the year. The fund's heavy commitment to the index's
top-performing sector was certainly beneficial, but so too was its excellent
stock-picking within the group. Overall, the fund's tech investments returned a
spectacular 106%, well above the 74% earned by the index's tech stocks.
PRIMECAP's success was not limited to the tech sector. The fund earned the same
astonishing return--106%--from the producer-durables group. Several companies in
that sector, and several of our holdings in it, have a distinct tech flavor,
including telecommunications concern Nortel Networks.
Besides keying in on some big winners, PRIMECAP also managed to avoid big
losers in several market segments. The fund stayed away from the
consumer-staples group (mainly food companies), allocating less than 2% of its
net assets to what proved to be the index's worst-performing sector. And the
fund scratched out a slight gain from its health-care stocks, whereas the
health-care stocks in the index declined nearly -10%. PRIMECAP Fund held about
12% of its net assets in cash during the year. Placing money on the sidelines
during a market advance dampens returns, but our adviser, PRIMECAP Management
Company, is selective in putting cash to work.
On the negative side, the fund had a large commitment (about 18% of net
assets, on average) to airlines and other companies in the auto & transportation
sector, which declined -4% overall during the year. (The index has a roughly 2%
stake in the sector.) And our picks within the consumer-discretionary group
(about 7% of average net assets) and the materials & processing sector (about 5%
of net assets) were subpar relative to the index.
PRIMECAP's 1999 return was significantly ahead of the 22.5% return of the
average fund in Lipper's multi-cap core group, which comprises funds that invest
in large- and medium-sized companies, some growth-oriented and some
value-oriented. In previous reports to you, we compared PRIMECAP's performance
with that of Lipper's average growth fund. We began using the multi-cap core
group following Lipper's recent reclassification
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of its fund groupings, and we believe it is a reasonable fit for Vanguard
PRIMECAP Fund. However, we believe that PRIMECAP is primarily a growth fund, and
its fine performance relative to its average peer was the result of the
fund's--and the market's--emphasis on growth-oriented companies.
LONG-TERM PERFORMANCE OVERVIEW
The table below presents the average annual returns of the PRIMECAP Fund and its
comparative benchmarks over the past ten years. It also presents the results of
hypothetical $10,000 investments made a decade ago in the fund, its average
competitor, and the S&P 500 Index.
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TOTAL RETURNS
TEN YEARS ENDED DECEMBER 31, 1999
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AVERAGE FINAL VALUE OF
ANNUAL A $10,000
RETURN INITIAL INVESTMENT
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Vanguard PRIMECAP Fund 21.8% $72,114
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Average Multi-Cap Core Fund* 15.9% $43,550
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S&P 500 Index 18.2% $53,278
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Over this period, PRIMECAP Fund has built an impressive performance margin
over its comparative measures. A $10,000 initial investment in the PRIMECAP Fund
would have grown to $72,114 over the decade, compared with the $53,278 that
would have resulted from a $10,000 investment in the S&P 500 Index. The
difference of $18,836 is equal to nearly twice the original investment and was
due, in part, to the fact that growth stocks within the S&P 500 performed much
better than value stocks during the decade. Our margin over our average peer is
even more impressive, amounting to $28,564--nearly three times the initial
investment.
Year after year--and especially over the long run--our low costs aid us in
our quest to provide returns superior to those of similar mutual funds. In 1999,
our expense ratio (annual expenses as a percentage of average net assets) was
0.51%, a little more than one-third of the 1.38% charged by the average
multi-cap core fund. Of course, the index, which exists only on paper, bears no
expenses and thus is a tough competitor for all mutual funds. As such,
PRIMECAP's record of exceeding the S&P 500 Index by an average of 3.6 percentage
points per year during the 1990s was a notable feat.
PRIMECAP Management Company--our investment adviser since we launched the
fund in 1984--has done an outstanding job of selecting stocks. In seeking to top
the market averages over the long term, a fund must by definition differ from
the market. And PRIMECAP's holdings often differ dramatically from those of the
S&P 500 Index, both in weightings among market sectors and in holdings of
particular issues. Also, PRIMECAP Management will, from time to time,
concentrate a significant share of the fund's assets in a certain market
segment--as it did with technology during 1999--and may allocate a major portion
of the fund's assets to its largest holdings. (On December 31, 1999, about 39%
of the fund's assets were held in its ten largest issues.) Needless to say, this
strategy does not guarantee market-beating returns; PRIMECAP trailed the S&P 500
Index in three of the previous four years. The lesson, we believe, is that
investors in PRIMECAP Fund should have a long-term horizon and should be
prepared for occasional periods of underperformance versus the market averages.
The final year of the 1990s capped an amazing decade for stocks. The U.S.
stock market, as measured by the Wilshire 5000 Index, produced an average annual
return of 17.6% during the 1990s, more than 11/2 times the average return of
about 11% achieved by stocks since 1925. In part, the outsized returns reflect
the underlying growth in the
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U.S. economy and in corporate profits. But part of the gains can be traced to
growing optimism about stocks and less fear about their risks. These changes in
perception are reflected in the extraordinary rise in the average stock's
price/earnings ratio--from about 16 as the decade of the 1990s began to an
unprecedented 33 when it ended. No one knows whether or how investor perceptions
may change. But the moods of markets, like those of the millions of individuals
who make up the markets, can shift dramatically.
In constructing long-term plans, we believe it is prudent to recognize that
financial markets will go through bad times as well as good times and to adopt
realistic assumptions about future returns. The odds are heavily stacked against
the stock market repeating its performance of the 1990s in the decade ahead.
This isn't a forecast of doom. If inflation remains in the neighborhood of 3%
annually, it would take stock returns of only 8% to 9% a year to provide decent
real, or inflation-adjusted, returns of 5% to 6%.
IN SUMMARY
As we enter a new century, the temptation for investors to chase hot performance
may be stronger than ever. But building an investment program around a
relatively narrow group of stocks that have recently skyrocketed is a
dangerous--and unnecessary--gamble. The financial markets are ever cyclical.
Stocks of all styles and sizes--as well as entire asset classes--move in and out
of favor in unpredictable patterns. That is why we recommend that investors hold
balanced, diversified portfolios of stock funds, bond funds, and short-term
reserves that are suited to their individual goals, investment time horizon, and
temperament for risk-taking. Such balanced portfolios are a solid foundation for
long-term investment success.
/S/
John J. Brennan
Chairman and Chief Executive Officer
January 14, 2000
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A Note of Thanks to Our Founder
================================================================================
As you may have read on the inside cover of our report, our founder, John C.
Bogle, retired on December 31, 1999, as Senior Chairman of our Board after
nearly 25 years of devoted service to Vanguard and our shareholders. Vanguard
investors have Jack to thank for creating a truly mutual mutual fund company
that operates solely in the interest of its fund shareholders. And mutual fund
investors everywhere have benefited from his energetic efforts to improve this
industry. Finally, on a personal note, I am forever grateful to Jack for giving
me the opportunity to join this great company in 1982.
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A REPORT ON YOUR FUND'S AFTER-TAX RETURNS
Beginning with this annual report, Vanguard is pleased to provide a review of
the PRIMECAP Fund's after-tax performance. The figures on this page demonstrate
the considerable impact that federal income taxes can have on a fund's
return--an important consideration for investors who own mutual funds in taxable
accounts. While the pretax return is most often used to tally a fund's
performance, the fund's after-tax return, which accounts for taxes on
distributions of capital gains and income dividends, is a better representation
of the return that many investors actually received. If you own the PRIMECAP
Fund in a tax-deferred account such as an individual retirement account or a
401(k), this information does not apply to you. Such accounts are not subject to
current taxes.
The table below presents the pretax and after-tax returns for your fund and
an appropriate peer group of mutual funds. Two things to keep in mind:
o The after-tax return calculations use the top federal income tax rates in
effect at the time of each distribution. The tax burden, therefore, would be
somewhat less, and the after-tax return somewhat more, for those in lower tax
brackets.
o The peer funds' returns are based on data from Morningstar, Inc.
(Elsewhere in this report, returns for comparable mutual funds are derived from
data provided by Lipper Inc., which differ somewhat.)
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AVERAGE ANNUAL RETURNS: PRETAX AND AFTER-TAX
PERIODS ENDED DECEMBER 31, 1999
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1 YEAR 5 YEARS 10 YEARS
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PRETAX AFTER-TAX PRETAX AFTER-TAX PRETAX AFTER-TAX
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Vanguard PRIMECAP Fund 41.3% 38.8% 31.2% 29.6% 21.8% 20.5%
Average Large-Cap
Growth Fund* 38.6 35.9 28.5 25.4 18.6 16.1
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*Based on data from Morningstar, Inc.
As you can see, the PRIMECAP Fund's pretax total return of 41.3% for the 12
months ended December 31, 1999, was reduced by taxes to 38.8%. In other words,
for investors in the highest bracket, taxes cut the fund's return by 2.5
percentage points. In comparison, the average comparable fund earned a pretax
return of 38.6% and an after-tax return of 35.9%, a difference of 2.7 percentage
points.
Over longer periods, taxes have taken a smaller portion of PRIMECAP's
return, and the fund has fared very well in comparison with peer funds. Over the
five- and ten-year periods ended December 31, 1999, your fund generated higher
returns than its peer-group average, both before and after taxes.
We stress that because many interrelated factors affect how tax-friendly a
fund may be, it's very difficult to predict tax efficiency. A fund's tax
efficiency can be influenced by its turnover rate, the types of securities it
holds, the accounting practices it uses when selling shares, and the net cash
flow it receives.
Finally, it's important to understand that our calculation does not reflect
the effect of your own investment activities. Specifically, you may incur
additional capital gains taxes--thereby lowering your after-tax return--if you
decide to sell all or some of your shares.
A NOTE ABOUT OUR CALCULATIONS: Pretax total returns assume that all
distributions received (income dividends, short-term capital gains, and
long-term capital gains) are reinvested in new shares, while our after-tax
returns assume that distributions are reduced by any taxes owed on them before
reinvestment. When calculating the taxes due, we used the highest individual
federal income tax rates at the time of the distributions. Those rates are
currently 39.6% for dividends and short-term capital gains and 20% for long-term
capital gains. State and local income taxes were not considered. The competitive
group returns provided by Morningstar are calculated in a manner consistent with
that used for Vanguard funds.
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THE MARKETS IN PERSPECTIVE
YEAR ENDED DECEMBER 31, 1999
A global expansion in economic activity bolstered stocks at home and abroad
during 1999. The muscular U.S. economy provided a good bit of the oomph, but it
got an assist from solid growth in Asian, European, and Latin American economies
that had slumped in 1997 and 1998.
Interest rates increased significantly--causing bond prices to fall--as
both investors and monetary policymakers grew concerned that economic growth was
so vigorous that it would cause inflation to accelerate.
U.S. STOCK MARKETS
The booming economy and growing corporate profits provided plenty of fuel for
stock prices during 1999. However, higher interest rates restrained the rise,
especially for financial-services and electric utility stocks regarded as
interest rate sensitive.
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AVERAGE ANNUAL RETURNS
PERIODS ENDED DECEMBER 31, 1999
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1 YEAR 3 YEARS 5 YEARS
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STOCKS
S&P 500 Index 21.0% 27.6% 28.6%
Russell 2000 Index 21.3 13.1 16.7
Wilshire 5000 Index 23.8 26.1 27.1
MSCI EAFE Index 27.3 16.1 13.2
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BONDS
Lehman Aggregate Bond Index -0.8% 5.7% 7.7%
Lehman 10 Year Municipal Bond Index -1.3 4.8 7.1
Salomon Smith Barney 3-Month
U.S. Treasury Bill Index 4.7 5.0 5.2
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OTHER
Consumer Price Index 2.7% 2.0% 2.4%
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U.S. economic output increased at an inflation-adjusted rate of about 4%--a
very rapid pace for such a large, mature economy. Analysts estimated that
corporate profits would grow by 14% in 1999 and again in 2000. Consumer
spending, which accounts for roughly two-thirds of economic activity, was
strong. People felt prosperous, thanks to the long bull market, plentiful jobs,
and rising incomes. (After-tax personal income grew by more than 5% in 1999, and
unemployment at year-end was at a three-decade low of 4.1% of the workforce.)
The stock market, as measured by the Wilshire 5000 Index, gained 23.8%,
with more than three-quarters of the gain coming in the final quarter of 1999.
For the first time in several years, smaller stocks outpaced
large-capitalization issues. The S&P 500 Index, which is dominated by large-cap
stocks and accounts for more than three-quarters of the U.S. stock market's
total value, gained 21.0% during the year; the rest of the market gained 35.4%.
Hidden in the market averages was an amazing divergence in stock
performance. Prices soared for most technology-related stocks, but performance
was pedestrian, at best, for most other issues. Indeed, three-fifths of stocks
on the New York Stock Exchange fell in 1999. The technology sector of the S&P
500 Index gained 74%, and the producer-durables sector, driven by huge gains for
some makers of telecommunications and technology gear, was up 49%. These results
were in stark contrast to the declines suffered by food and beverage companies
in the consumer-staples sector (-16%) and by many companies in the health-care
group (-10%).
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Investors seemed bedazzled by the prospects for growth in revenue and
profits among tech stocks, but less interested in the actual profits for nontech
companies. Remarkably, the average S&P 500 stock without earnings gained 36.5%
in 1999, while the average stock with earnings rose 11.5%. There is general
agreement that growth in Internet commerce, computers, software, wireless
communications, and other key tech sectors will be stupendous. However, there is
much disagreement about whether profits will grow so impressively, given the
intense competition. During 1999, optimists clearly ruled.
U.S. BOND MARKETS
The pickup in worldwide economic activity buoyed stock prices but depressed bond
prices. Interest rates, which move in the opposite direction from bond prices,
rose sharply. The rate increase stemmed from increased borrowing by corporations
and individuals and from investors' fears that a sizzling economy was bound to
send inflation soaring.
The inflation evidence was ambiguous. Price increases were greater in 1999
than in 1998 at both the wholesale and consumer levels. Wholesale prices rose
3.0%, the biggest gain since 1990. And the Consumer Price Index advanced 2.7% in
1999 after a gain of just 1.6% in 1998. However, energy prices, which plunged in
1998 and shot up in 1999, skewed the figures in both periods. At the consumer
level, the "core rate" of inflation, which excludes food and energy prices, was
up just 1.9% in 1999, the smallest increase in 35 years.
At midyear, the Federal Reserve Board, aiming to cool the economy a bit to
head off price pressures, began raising short-term interest rates. In all, the
Fed pushed up rates by 0.75 percentage point in three quarter-point steps. The
bond market anticipated the Fed--interest rates began rising sharply in
February--and at year-end the yield of 30-year U.S. Treasury bonds was up 1.38
percentage points (138 basis points) to 6.48%. The 10-year Treasury note--a
benchmark for mortgage lenders--rose 179 basis points, from 4.65% to 6.44%.
Short-term rates didn't rise as far; 3-month Treasury bill yields were up 88
basis points to 5.33% at year-end.
Price declines, as usual, were greatest for long-term bonds and least for
short-term bonds. The overall market, as measured by the Lehman Aggregate Bond
Index, which has an intermediate-term average maturity, posted a -0.8% total
return in 1999. Short-term bonds generally provided returns of 2% to 3%.
Long-term bonds suffered significant price declines, and the Lehman Long
Government/Corporate Index recorded a -7.7% total return.
INTERNATIONAL STOCK MARKETS
Bullishness among stock investors was an international phenomenon in 1999. The
biggest gains came in Pacific-region and emerging markets that had suffered most
from economic slumps and currency crises during 1997 and 1998.
Overall, the Morgan Stanley Capital International Europe, Australasia, Far
East (EAFE) Index of major developed markets produced a 27.3% return for U.S.
dollar-based investors. The MSCI Pacific Free Index gained an astounding 56.4%
for U.S. investors, as a strong rise in the Japanese yen against the U.S. dollar
tacked on about 12.5 percentage points to a 43.9% return in local currencies. In
Europe, currency fluctuations had the opposite effect: European currencies,
including the new 11-nation common currency, the euro, mostly fell against the
dollar, and the 30.3% return in local currencies was nearly halved to 15.8% in
U.S. dollars.
Emerging markets managed a stunning turnaround, as the Select Emerging
Markets Free Index rose 60.9% in U.S.-dollar terms after having plummeted -18.4%
in 1998 and -16.4% in 1997.
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REPORT FROM THE ADVISER
Vanguard PRIMECAP Fund's total return of 41.3% in 1999 significantly outpaced
the 21.0% return recorded by the unmanaged S&P 500 Index and the 22.5% gain
achieved by the average multi-cap core fund. It was an outstanding year for the
fund owing to our overweighted positions in the technology and producer-durables
sectors, and excellent stock selections within those sectors.
The fund closed the year with more than 57% of its stock holdings in the
technology sector or the tech-laden producer-durables sector. This compares with
a combined weighting of approximately 29% for these groups in the S&P 500 Index.
Technology and producer durables posted the market's greatest returns in 1999,
gaining 74% and 49%, respectively. The fund's holdings in these sectors fared
even better, soaring 106%. The strong performance of these holdings, combined
with our decision to overweight the two sectors, explains PRIMECAP Fund's margin
over its index benchmark.
Within the technology and producer-durables sectors, Nortel Networks, LSI
Logic, and Sony were the most notable performers. Nortel and LSI Logic more than
quadrupled in price during the 12-month period, and Sony closed $2 shy of
quadrupling. As a major vendor of telecommunications infrastructure, Nortel has
benefited from the seemingly insatiable demand for bandwidth and has captured a
leading position in the rapidly growing area of optical networking. Sony, the
premier brand name in consumer electronics, is capitalizing on consumers'
infatuation with a wide array of innovative digital products. LSI Logic, a
leading vendor of partially customized semiconductors, supplies many of the
chips that power these digital products.
The ongoing explosive growth of wireless communications around the world
resulted in excellent returns for the major providers of wireless telephony
equipment. Nokia's shares more than tripled during the year. The shares of
Ericsson and Motorola appreciated 177% and 142%, respectively.
Although the fund's combined weighting in the technology and
producer-durables sectors closed the year near an all-time high, we have
actually been reducing our holdings in these groups. However, price appreciation
has kept the weightings at a high level. By most traditional measures,
valuations are looking somewhat extended, and leave little room for weathering
even minor disappointments.
Aside from technology and producer durables, we are maintaining our major
commitments to transportation and health-care stocks. Although our returns in
both areas were significantly better than the index sectors' returns,
emphasizing these sectors hampered our results nonetheless. The fund's
transportation stocks (primarily airlines and air-freight companies) declined
- -1.7%, and our health-care stocks gained just 1.2%. Although airline profits
nearly set records, profit margins suffered from a dramatic increase in fuel
prices and disappointed analysts' expectations. Higher fuel prices also hurt
results at FDX and Airborne Freight. However, we admittedly expected incremental
demand from the shipping of goods ordered over the Internet to generate more
growth than actually occurred.
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INVESTMENT PHILOSOPHY
The fund reflects a belief that superior long-term investment results can be
achieved by selecting stocks with prices lower than the fundamental value of the
underlying companies, based on the investment adviser's assessment of such
factors as their industry positions, growth potential, and expected
profitability.
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As we mentioned in the semiannual report, we have been increasing our
exposure to biotechnology companies within the health-care group. Our efforts in
this regard took a step backward in the fourth quarter when Johnson & Johnson
acquired Centocor, our largest holding in the group and one of the fund's 15
largest holdings. Although our biotechnology investments performed well, they
still represent a small portion of the fund. Consequently, our overall results
in the health-care arena were dominated by poor returns from major
pharmaceutical and medical device firms, which constitute an overwhelming
majority of our holdings in the sector.
In summary, 1999 was an excellent year for Vanguard PRIMECAP Fund--one not
likely to be repeated in the near future. Given the extraordinary price
appreciation in several of the fund's major holdings, considerable potential has
already been realized, and valuations on many stocks look high. We continue to
search for companies that offer attractive growth potential at reasonable
valuations, and to prune positions in holdings that we think have become
overvalued.
Howard B. Schow Theo A. Kolokotrones
Portfolio Manager Portfolio Manager
Joel P. Fried
Portfolio Manager
PRIMECAP Management Company
January 11, 2000
9
<PAGE>
FUND PROFILE
PRIMECAP FUND
This Profile provides a snapshot of the fund's characteristics as of December
31, 1999, compared where appropriate to an unmanaged index. Key elements of this
Profile are defined on page 11.
PORTFOLIO CHARACTERISTICS INVESTMENT FOCUS
- ----------------------------------- -------------------------------------------
PRIMECAP S&P 500 [GRID]
- ----------------------------------- STYLE..........GROWTH
Number of Stocks 104 500 MARKET CAP.....LARGE
Median Market Cap $18.1B $86.7B
Price/Earnings Ratio 27.8x 29.8x
Price/Book Ratio 4.2x 5.5x
Yield 0.7% 1.1%
Return on Equity 18.1% 23.4%
Earnings Growth Rate 9.0% 16.6%
Foreign Holdings 10.3% 1.3%
Turnover Rate 19% --
Expense Ratio 0.51% --
Cash Reserves 12.5% --
TEN LARGEST HOLDINGS
VOLATILITY MEASURES (% OF TOTAL NET ASSETS)
- ----------------------------------- -------------------------------------------
PRIMECAP S&P 500 Texas Instruments, Inc. 5.7%
- ----------------------------------- Sony Corp. ADR 4.8
R-Squared 0.84 1.00 Micron Technology, Inc. 4.1
Beta 1.02 1.00 Adobe Systems, Inc. 3.8
AMR Corp. 3.7
Motorola, Inc. 3.7
Nortel Networks Corp. 3.6
LM Ericsson Telephone Co. ADR Class B 3.4
FDX Corp. 3.2
General Motors Corp. Class H 3.1
-------------------------------------------
Top Ten 39.1%
SECTOR DIVERSIFICATION (% OF COMMON STOCKS)
- --------------------------------------------------------------------------------
DECEMBER 31, 1998 DECEMBER 31, 1999
- --------------------------------------------------------------------------------
PRIMECAP PRIMECAP S&P 500
- --------------------------------------------------------------------------------
Auto & Transportation ....... 17.1% 14.4% 1.9%
Consumer Discretionary ...... 8.4 4.8 13.9
Consumer Staples ............ 1.9 0.3 6.3
Financial Services .......... 3.9 1.8 13.8
Health Care ................. 13.4 11.1 9.3
Integrated Oils ............. 0.0 0.0 4.8
Other Energy ................ 2.3 1.4 1.3
Materials & Processing ...... 6.1 3.1 3.2
Producer Durables ........... 11.0 10.9 3.6
Technology .................. 33.8 46.6 25.4
Utilities ................... 0.0 0.0 10.2
Other ....................... 2.1 5.6 6.3
- --------------------------------------------------------------------------------
10
<PAGE>
BETA. A measure of the magnitude of a fund's past share-price fluctuations in
relation to the ups and downs of the overall market (or appropriate market
index). The market (or index) is assigned a beta of 1.00, so a fund with a beta
of 1.20 would have seen its share price rise or fall by 12% when the overall
market rose or fell by 10%.
CASH RESERVES. The percentage of a fund's net assets invested in "cash
equivalents"--highly liquid, short-term, interest-bearing securities. This
figure does not include cash invested in futures contracts to simulate stock
investment.
EARNINGS GROWTH RATE. The average annual rate of growth in earnings over the
past five years for the stocks now in a fund.
EXPENSE RATIO. The percentage of a fund's average net assets used to pay its
annual administrative and advisory expenses. These expenses directly reduce
returns to investors.
FOREIGN HOLDINGS. The percentage of a fund's equity assets represented by stocks
or American Depositary Receipts of companies based outside the United States.
INVESTMENT FOCUS. This grid indicates the focus of a fund in terms of two
attributes: market capitalization (large, medium, or small) and relative
valuation (growth, value, or a blend).
MEDIAN MARKET CAP. An indicator of the size of companies in which a fund
invests; the midpoint of market capitalization (market price x shares
outstanding) of a fund's stocks, weighted by the proportion of the fund's assets
invested in each stock. Stocks representing half of the fund's assets have
market capitalizations above the median, and the rest are below it.
NUMBER OF STOCKS. An indicator of diversification. The more stocks a fund holds,
the more diversified it is and the more likely to perform in line with the
overall stock market.
PRICE/BOOK RATIO. The share price of a stock divided by its net worth, or book
value, per share. For a fund, the weighted average price/book ratio of the
stocks it holds.
PRICE/EARNINGS RATIO. The ratio of a stock's current price to its per-share
earnings over the past year. For a fund, the weighted average P/E of the stocks
it holds. P/E is an indicator of market expectations about corporate prospects;
the higher the P/E, the greater the expectations for a company's future growth.
R-SQUARED. A measure of how much of a fund's past returns can be explained by
the returns from the overall market (or its benchmark index). If a fund's total
return were precisely synchronized with the overall market's return, its
R-squared would be 1.00. If a fund's returns bore no relationship to the
market's returns, its R-squared would be 0.
RETURN ON EQUITY. The annual average rate of return generated by a company
during the past five years for each dollar of shareholder's equity (net income
divided by shareholder's equity). For a fund, the weighted average return on
equity for the companies whose stocks it holds.
SECTOR DIVERSIFICATION. The percentages of a fund's common stocks that come from
each of the major industry groups that compose the stock market.
TEN LARGEST HOLDINGS. The percentage of net assets that a fund has invested in
its ten largest holdings. (The average for stock mutual funds is about 35%.) As
this percentage rises, a fund's returns are likely to be more volatile because
they are more dependent on the fortunes of a few companies.
TURNOVER RATE. An indication of trading activity during the period. Funds with
high turnover rates incur higher transaction costs and are more likely to
distribute capital gains (which are taxable to investors).
YIELD. A snapshot of a fund's income from interest and dividends. The yield,
expressed as a percentage of the fund's net asset value, is based on income
earned over the past 30 days and is annualized, or projected forward for the
coming year. The index yield is based on the current annualized rate of
dividends paid on stocks in the index.
11
<PAGE>
PERFORMANCE SUMMARY
PRIMECAP FUND
All of the data on this page represent past performance, which cannot be used to
predict future returns that may be achieved by the fund. Note, too, that both
share price and return can fluctuate widely. An investor's shares, when
redeemed, could be worth more or less than their original cost.
TOTAL INVESTMENT RETURNS: NOVEMBER 1, 1984-DECEMBER 31, 1999
- --------------------------------------------------------------------------------
PRIMECAP FUND S&P 500
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------------------------------
1984 4.9% 0.0% 4.9% 0.6%
1985 35.6 0.2 35.8 31.8
1986 21.8 1.7 23.5 18.7
1987 -3.2 0.9 -2.3 5.3
1988 13.7 1.0 14.7 16.6
1989 20.2 1.4 21.6 31.7
1990 -3.8 1.0 -2.8 -3.1
1991 31.8 1.3 33.1 30.5
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
PRIMECAP FUND S&P 500
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------------------------------------------
1992 8.2% 0.8% 9.0% 7.6%
1993 17.6 0.4 18.0 10.1
1994 10.7 0.7 11.4 1.3
1995 34.4 1.1 35.5 37.6
1996 17.5 0.8 18.3 23.0
1997 36.1 0.7 36.8 33.4
1998 24.5 0.9 25.4 28.6
1999 40.7 0.6 41.3 21.0
- --------------------------------------------------------------------------------
See Financial Highlights table on page 17 for dividend and capital gains
information for the past five years.
CUMULATIVE PERFORMANCE: DECEMBER 31, 1989-DECEMBER 31, 1999
- --------------------------------------------------------------------------------
[MOUNTAIN CHART]
AVERAGE
PRIMECAP MULTI-CAP S&P 500
DATE FUND CORE FUND* INDEX
- --------------------------------------------------------------------------------
1989/12 10000 10000 10000
1990/03 10080 9769 9699
1990/06 10852 10380 10309
1990/09 8512 8911 8892
1990/12 9721 9601 9690
1991/03 11974 11060 11097
1991/06 11608 11001 11072
1991/09 12046 11774 11664
1991/12 12943 12723 12642
1992/03 12833 12640 12322
1992/06 12462 12431 12557
1992/09 12590 12889 12953
1992/12 14107 13859 13605
1993/03 14831 14268 14199
1993/06 15216 14314 14268
1993/09 16021 14960 14637
1993/12 16650 15342 14976
1994/03 16592 14861 14408
1994/06 16728 14590 14469
1994/09 18152 15354 15176
1994/12 18550 15098 15174
1995/03 20399 16258 16651
1995/06 23240 17630 18241
1995/09 25224 19080 19690
1995/12 25132 19797 20876
1996/03 25985 20936 21996
1996/06 27294 21713 22983
1996/09 27747 22547 23694
1996/12 29733 23913 25669
1997/03 31143 23947 26357
1997/06 36001 27445 30958
1997/09 43104 30308 33277
1997/12 40672 30128 34233
1998/03 44931 33954 39008
1998/06 45531 34138 40296
1998/09 39600 29677 36288
1998/12 51021 35566 44016
1999/03 54056 36439 46209
1999/06 60126 39525 49466
1999/09 60148 37183 46377
1999/12 72114 43550 53278
- --------------------------------------------------------------------------------
AVERAGE ANNUAL TOTAL RETURNS
PERIODS ENDED DECEMBER 31, 1999
---------------------------------- FINAL VALUE OF A
1 Year 5 Years 10 Years $10,000 INVESTMENT
- --------------------------------------------------------------------------------
PRIMECAP Fund 41.34% 31.20% 21.84% $72,114
Average Multi-Cap Core Fund* 22.45 23.60 15.85 43,550
S&P 500 Index 21.04 28.56 18.21 53,278
- --------------------------------------------------------------------------------
*Derived from data provided by Lipper Inc.
AVERAGE ANNUAL TOTAL RETURNS: PERIODS ENDED DECEMBER 31, 1999
- --------------------------------------------------------------------------------
10 YEARS
INCEPTION -----------------------------
DATE 1 YEAR 5 YEARS CAPITAL INCOME TOTAL
- --------------------------------------------------------------------------------
PRIMECAP Fund 11/1/1984 41.34% 31.20% 21.00% 0.84% 21.84%
- --------------------------------------------------------------------------------
12
<PAGE>
FINANCIAL STATEMENTS
DECEMBER 31, 1999
STATEMENT OF NET ASSETS
This Statement provides a detailed list of the fund's holdings, including each
security's market value on the last day of the reporting period. Securities are
grouped and subtotaled by asset type (common stocks, bonds, etc.) and by
industry sector. Other assets are added to, and liabilities are subtracted from,
the value of Total Investments to calculate the fund's Net Assets. Finally, Net
Assets are divided by the outstanding shares of the fund to arrive at its share
price, or Net Asset Value (NAV) Per Share.
At the end of the Statement of Net Assets, you will find a table displaying
the composition of the fund's net assets on both a dollar and per-share basis.
Because all income and any realized gains must be distributed to shareholders
each year, the bulk of net assets consists of Paid in Capital (money invested by
shareholders). The amounts shown for Undistributed Net Investment Income and
Accumulated Net Realized Gains usually approximate the sums the fund had
available to distribute to shareholders as income dividends or capital gains as
of the statement date. Any Accumulated Net Realized Losses, and any cumulative
excess of distributions over net income or net realized gains, will appear as
negative balances. Unrealized Appreciation (Depreciation) is the difference
between the market value of the fund's investments and their cost, and reflects
the gains (losses) that would be realized if the fund were to sell all of its
investments at their statement-date values.
- --------------------------------------------------------------------------------
MARKET
VALUE*
PRIMECAP FUND SHARES (000)
- --------------------------------------------------------------------------------
COMMON STOCKS (87.5%)
- --------------------------------------------------------------------------------
AUTO & TRANSPORTATION (12.6%)
o(1)AMR Corp. 9,950,000 $ 666,650
o FDX Corp. 14,146,000 579,102
(1)Delta Air Lines, Inc. 10,000,000 498,125
Southwest Airlines Co. 13,058,250 211,380
UAL Corp. 2,300,000 178,394
(1)Airborne Freight Corp. 3,400,000 74,800
Fleetwood Enterprises, Inc. 1,238,100 25,536
Arvin Industries, Inc. 780,000 22,133
-----------
2,256,120
-----------
CONSUMER DISCRETIONARY (4.2%)
(1)Harcourt General, Inc. 4,332,200 174,371
o Costco Wholesale Corp. 1,000,000 91,250
o(1)The Neiman Marcus Group, Inc.
Class A 3,140,600 87,741
News Corp. Ltd. Pfd. ADR 2,250,000 75,234
Manpower Inc. 1,829,400 68,831
TJX Cos., Inc. 2,320,000 47,415
Lowe's Cos., Inc. 728,000 43,498
(1)The McClatchy Co. Class A 1,000,000 43,250
o(1)The Neiman Marcus Group, Inc.
Class B 1,124,511 30,292
Dillard's Inc. 1,241,500 25,063
Dayton Hudson Corp. 270,000 19,828
NIKE, Inc. Class B 366,000 18,140
Block Drug Co. Class A 286,443 8,880
o GC Cos. 200,000 5,175
The Gap, Inc. 108,750 5,002
Mattel, Inc. 250,000 3,281
-----------
747,251
-----------
CONSUMER STAPLES (0.2%)
Brown-Forman Corp. Class B 732,200 41,918
-----------
- --------------------------------------------------------------------------------
MARKET
VALUE*
SHARES (000)
- --------------------------------------------------------------------------------
FINANCIAL SERVICES (1.6%)
Torchmark Corp. 2,600,000 $ 75,563
The CIT Group, Inc. 3,000,000 63,375
Bank One Corp. 1,828,000 58,610
Transatlantic Holdings, Inc. 562,500 43,910
St. Paul Cos., Inc. 1,100,000 37,056
-----------
278,514
-----------
HEALTH CARE (9.7%)
Pharmacia & Upjohn, Inc. 12,013,900 540,626
Johnson & Johnson 4,903,104 456,602
o Guidant Corp. 8,796,264 413,424
Medtronic, Inc. 3,465,000 126,256
PE Corp.-Celera Genomics Group 650,000 96,850
o Boston Scientific Corp. 2,210,000 48,344
Eli Lilly & Co. 546,640 36,352
o BioChem Pharma Inc. 655,200 14,251
o Biogen, Inc. 13,600 1,149
-----------
1,733,854
-----------
ENERGY (1.3%)
Union Pacific Resources Group, Inc. 4,800,000 61,200
(1) Pogo Producing Co. 2,600,000 53,300
Noble Affiliates, Inc. 2,100,000 45,019
Schlumberger Ltd. 793,500 44,634
Burlington Resources, Inc. 475,100 15,708
Transocean Sedco Forex Inc. 153,622 5,175
-----------
225,036
-----------
MATERIALS & PROCESSING (2.7%)
Engelhard Corp. 5,200,000 98,150
Potash Corp. of Saskatchewan,
Inc. 2,000,000 96,375
Temple-Inland Inc. 1,300,000 85,719
(1) MacDermid, Inc. 1,701,000 69,847
13
<PAGE>
- --------------------------------------------------------------------------------
MARKET
VALUE*
PRIMECAP FUND SHARES (000)
- --------------------------------------------------------------------------------
Sigma-Aldrich Corp. 2,000,000 $ 60,125
(1)Granite Construction Co. 2,100,000 38,719
OM Group, Inc. 1,036,400 35,691
-----------
484,626
-----------
PRODUCER DURABLES (9.5%)
Nortel Networks Corp. 6,424,600 648,885
(1)Tektronix, Inc. 3,400,000 132,175
Caterpillar, Inc. 2,770,000 130,363
o Lexmark International
Group, Inc. Class A 1,400,000 126,700
Pitney Bowes, Inc. 2,400,000 115,950
o(1)Plantronics, Inc. 1,608,000 115,073
(1)Millipore Corp. 2,820,000 108,923
Deere & Co. 2,448,500 106,204
o Nokia Corp. ADR 308,000 58,520
Kennametal, Inc. 1,260,000 42,367
o Dionex Corp. 1,020,000 42,011
Donaldson Co., Inc. 1,080,000 25,987
Pall Corp. 750,000 16,172
Belden, Inc. 558,000 11,718
Molex, Inc. 195,312 11,072
Molex, Inc. Class A 195,312 8,838
-----------
1,700,958
-----------
TECHNOLOGY (40.7%)
COMMUNICATIONS TECHNOLOGY (11.0%)
Motorola, Inc. 4,481,850 659,952
LM Ericsson Telephone Co.
ADR Class B 9,200,000 604,325
o General Motors Corp. Class H 5,700,000 547,200
o Tellabs, Inc. 2,400,000 154,050
LM Ericsson Telephone Co.
4.25% Cvt. Pfd. 620,000 12,012
COMPUTER SERVICES, SOFTWARE & SYSTEM (4.5%)
(1)Adobe Systems, Inc. 10,130,000 681,242
o(1)The SABRE Group Holdings,
Inc. 2,309,200 118,347
COMPUTER TECHNOLOGY (3.5%)
Hewlett-Packard Co. 3,930,000 447,774
Compaq Computer Corp. 6,500,000 175,906
o(1)Evans & Sutherland Computer
Corp. 840,000 9,607
ELECTRONICS (4.8%)
Sony Corp. ADR 3,019,000 859,660
ELECTRONICS--SEMICONDUCTORS/COMPONENTS (14.1%)
Texas Instruments, Inc. 10,457,000 1,013,022
o Micron Technology, Inc. 9,468,500 736,176
Intel Corp. 6,550,000 539,147
o Xilinx, Inc. 4,000,000 181,875
o LSI Logic Corp. 700,000 47,250
ELECTRONICS--TECHNOLOGY (1.1%)
Symbol Technologies, Inc. 2,400,000 152,550
o(1)Coherent, Inc. 1,800,000 48,150
SCIENTIFIC EQUIPMENT & SUPPLIES (1.7%)
o PE Corp.-PE Biosystems Group 2,600,000 312,813
-----------
7,301,058
-----------
- --------------------------------------------------------------------------------
MARKET
VALUE*
SHARES (000)
- --------------------------------------------------------------------------------
OTHER (5.0%)
The Seagram Co. Ltd. 3,100,000 $ 139,306
Miscellaneous (4.2%) 760,279
-----------
899,585
-----------
- --------------------------------------------------------------------------------
TOTAL COMMON STOCKS
(COST $7,669,721) 15,668,920
- --------------------------------------------------------------------------------
FACE
AMOUNT
(000)
- --------------------------------------------------------------------------------
TEMPORARY CASH INVESTMENTS (12.6%)
- --------------------------------------------------------------------------------
REPURCHASE AGREEMENT
Collateralized by U.S. Government
Obligations in a Pooled
Cash Account
3.25%, 1/3/2000 $1,264,994 1,264,994
FEDERAL HOME LOAN
MORTGAGE CORP.
4.50%, 1/5/2000 1,000,000 999,572
- --------------------------------------------------------------------------------
TOTAL TEMPORARY CASH INVESTMENTS
(COST $2,264,566) 2,264,566
- --------------------------------------------------------------------------------
TOTAL INVESTMENTS (100.1%)
(COST $9,934,287) 17,933,486
- --------------------------------------------------------------------------------
OTHER ASSETS AND LIABILITIES (-0.1%)
- --------------------------------------------------------------------------------
Other Assets--Note C 56,657
Liabilities (78,279)
-----------
(21,622)
- --------------------------------------------------------------------------------
NET ASSETS (100%)
- --------------------------------------------------------------------------------
Applicable to 288,571,613 outstanding
$.001 par value shares of beneficial
interest (unlimited authorization) $17,911,864
================================================================================
NET ASSET VALUE PER SHARE $62.07
================================================================================
* See Note A in Notes to Financial Statements.
o Non-Income-Producing Security.
(1) Considered an affiliated company as the fund owns more than 5% of the
outstanding voting securities of such company. The total market value of
investments in affiliated companies was $2,950,612,000.
ADR--American Depositary Receipt.
- --------------------------------------------------------------------------------
AT DECEMBER 31, 1999, NET ASSETS CONSISTED OF:
- --------------------------------------------------------------------------------
AMOUNT PER
(000) SHARE
- --------------------------------------------------------------------------------
Paid in Capital $9,616,236 $33.32
Overdistributed Net
Investment Income (6,804) (.02)
Accumulated Net
Realized Gains 303,233 1.05
Unrealized Appreciation--
Note F 7,999,199 27.72
- --------------------------------------------------------------------------------
NET ASSETS $17,911,864 $62.07
================================================================================
14
<PAGE>
STATEMENT OF OPERATIONS
This Statement shows dividend and interest income earned by the fund during the
reporting period, and details the operating expenses charged to the fund. These
expenses directly reduce the amount of investment income available to pay to
shareholders as dividends. This Statement also shows any Net Gain (Loss)
realized on the sale of investments, and the increase or decrease in the
Unrealized Appreciation (Depreciation) on investments during the period.
- --------------------------------------------------------------------------------
PRIMECAP FUND
YEAR ENDED DECEMBER 31, 1999
(000)
- --------------------------------------------------------------------------------
INVESTMENT INCOME
INCOME
Dividends* $ 69,122
Interest 69,293
Security Lending 712
-----------
Total Income 139,127
-----------
EXPENSES
Investment Advisory Fees--Note B 26,764
The Vanguard Group--Note C
Management and Administrative 41,236
Marketing and Distribution 1,978
Custodian Fees 16
Auditing Fees 13
Shareholders' Reports 498
Trustees' Fees and Expenses 20
-----------
Total Expenses 70,525
Expenses Paid Indirectly--Note D (61)
-----------
Net Expenses 70,464
- --------------------------------------------------------------------------------
NET INVESTMENT INCOME 68,663
- --------------------------------------------------------------------------------
REALIZED NET GAIN ON INVESTMENT SECURITIES SOLD* 1,384,850
- --------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) OF
INVESTMENT SECURITIES 3,525,163
- --------------------------------------------------------------------------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $4,978,676
================================================================================
*Dividend income and realized net gain from affiliated companies were $9,614,000
and $9,377,000, respectively.
15
<PAGE>
STATEMENT OF CHANGES IN NET ASSETS
This Statement shows how the fund's total net assets changed during the two most
recent reporting periods. The Operations section summarizes information detailed
in the Statement of Operations. The amounts shown as Distributions to
shareholders from the fund's net income and capital gains may not match the
amounts shown in the Operations section, because distributions are determined on
a tax basis and may be made in a period different from the one in which the
income was earned or the gains were realized on the financial statements. The
Capital Share Transactions section shows the amount shareholders invested in the
fund, either by purchasing shares or by reinvesting distributions, as well as
the amounts redeemed. The corresponding numbers of Shares Issued and Redeemed
are shown at the end of the Statement.
- --------------------------------------------------------------------------------
PRIMECAP FUND
YEAR ENDED DECEMBER 31,
-------------------------
1999 1998
(000) (000)
- --------------------------------------------------------------------------------
INCREASE (DECREASE) IN NET ASSETS
OPERATIONS
Net Investment Income $ 68,663 $ 76,585
Realized Net Gain 1,384,850 433,652
Change in Unrealized Appreciation (Depreciation) 3,525,163 1,697,719
----------------------------
Net Increase in Net Assets Resulting
from Operations 4,978,676 2,207,956
----------------------------
DISTRIBUTIONS
Net Investment Income (72,408) (80,088)
Realized Capital Gain (1,230,786) (348,822)
----------------------------
Total Distributions (1,303,194) (428,910)
----------------------------
CAPITAL SHARE TRANSACTIONS1
Issued 3,367,477 3,038,897
Issued in Lieu of Cash Distributions 1,274,413 418,210
Redeemed (1,615,394) (2,212,430)
----------------------------
Net Increase from Capital Share Transactions 3,026,496 1,244,677
- --------------------------------------------------------------------------------
Total Increase 6,701,978 3,023,723
- --------------------------------------------------------------------------------
NET ASSETS
Beginning of Year 11,209,886 8,186,163
----------------------------
End of Year $17,911,864 $11,209,886
================================================================================
1Shares Issued (Redeemed)
Issued 61,046 71,476
Issued in Lieu of Cash Distributions 21,809 9,174
Redeemed (29,493) (52,348)
----------------------------
Net Increase in Shares Outstanding 53,362 28,302
================================================================================
16
<PAGE>
FINANCIAL HIGHLIGHTS
This table summarizes the fund's investment results and distributions to
shareholders on a per-share basis. It also presents the fund's Total Return and
shows net investment income and expenses as percentages of average net assets.
These data will help you assess: the variability of the fund's net income and
total returns from year to year; the relative contributions of net income and
capital gains to the fund's total return; how much it costs to operate the fund;
and the extent to which the fund tends to distribute capital gains. The table
also shows the Portfolio Turnover Rate, a measure of trading activity. A
turnover rate of 100% means that the average security is held in the fund for
one year.
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------
PRIMECAP FUND
YEAR ENDED DECEMBER 31,
-------------------------------------------------
<S> <C> <C> <C> <C> <C>
FOR A SHARE OUTSTANDING THROUGHOUT EACH YEAR 1999 1998 1997 1996 1995
- ------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, BEGINNING OF YEAR $47.66 $39.56 $30.08 $26.23 $19.98
INVESTMENT OPERATIONS
Net Investment Income .26 .34 .21 .19 .22
Net Realized and Unrealized Gain (Loss)
on Investments 19.07 9.63 10.77 4.59 6.84
-------------------------------------------------
Total from Investment Operations 19.33 9.97 10.98 4.78 7.06
-------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment Income (.27) (.35) (.20) (.20) (.22)
Distributions from Realized Capital Gains (4.65) (1.52) (1.30) (.73) (.59)
-------------------------------------------------
Total Distributions (4.92) (1.87) (1.50) (.93) (.81)
- ------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF YEAR $62.07 $47.66 $39.56 $30.08 $26.23
============================================================================================================
TOTAL RETURN 41.34% 25.44% 36.79% 18.31% 35.48%
============================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Year (Millions) $17,912 $11,210 $8,186 $4,204 $3,237
Ratio of Total Expenses to Average Net Assets 0.51% 0.51% 0.51% 0.59% 0.58%
Ratio of Net Investment Income to Average Net Assets 0.50% 0.78% 0.69% 0.69% 0.99%
Portfolio Turnover Rate 19% 13% 13% 10% 7%
============================================================================================================
</TABLE>
17
<PAGE>
NOTES TO FINANCIAL STATEMENTS
Vanguard PRIMECAP Fund is registered under the Investment Company Act of 1940 as
a diversified open-end investment company, or mutual fund.
A. The following significant accounting policies conform to generally accepted
accounting principles for mutual funds. The fund consistently follows such
policies in preparing its financial statements.
1. SECURITY VALUATION: Equity securities are valued at the latest quoted
sales prices as of the close of trading on the New York Stock Exchange
(generally 4:00 p.m. Eastern time) on the valuation date; such securities not
traded on the valuation date are valued at the mean of the latest quoted bid and
asked prices. Prices are taken from the primary market in which each security
trades. Temporary cash investments are valued at amortized cost, which
approximates market value. Securities for which market quotations are not
readily available are valued by methods deemed by the Board of Trustees to
represent fair value.
2. FEDERAL INCOME TAXES: The fund intends to continue to qualify as a
regulated investment company and distribute all of its taxable income.
Accordingly, no provision for federal income taxes is required in the financial
statements.
3. REPURCHASE AGREEMENTS: The fund, along with other members of The
Vanguard Group, transfers uninvested cash balances to a Pooled Cash Account,
which is invested in repurchase agreements secured by U.S. government
securities. Securities pledged as collateral for repurchase agreements are held
by a custodian bank until the agreements mature. Each agreement requires that
the market value of the collateral be sufficient to cover payments of interest
and principal; however, in the event of default or bankruptcy by the other party
to the agreement, retention of the collateral may be subject to legal
proceedings.
4. DISTRIBUTIONS: Distributions to shareholders are recorded on the
ex-dividend date.
5. OTHER: Dividend income is recorded on the ex-dividend date. Security
transactions are accounted for on the date securities are bought or sold. Costs
used to determine realized gains (losses) on the sale of investment securities
are those of the specific securities sold.
B. PRIMECAP Management Company provides investment advisory services to the fund
for a fee calculated at an annual percentage rate of average net assets. For the
year ended December 31, 1999, the advisory fee represented an effective annual
rate of 0.19% of the fund's average net assets.
C. The Vanguard Group furnishes at cost corporate management, administrative,
marketing, and distribution services. The costs of such services are allocated
to the fund under methods approved by the Board of Trustees. The fund has
committed to provide up to 0.40% of its net assets in capital contributions to
Vanguard. At December 31, 1999, the fund had contributed capital of $3,342,000
to Vanguard (included in Other Assets), representing 0.02% of the fund's net
assets and 3.3% of Vanguard's capitalization. The fund's Trustees and officers
are also Directors and officers of Vanguard.
D. Vanguard has asked the fund's investment adviser to direct certain security
trades, subject to obtaining the best price and execution, to brokers who have
agreed to rebate to the fund part of the commissions generated. Such rebates are
used solely to reduce the fund's management and administrative expenses. The
fund's custodian bank has also agreed to reduce its fees when the fund maintains
cash on deposit in the non-interest-bearing custody account. For the year ended
December 31, 1999, directed brokerage and custodian fee offset arrangements
reduced expenses by $54,000 and $7,000, respectively.
E. During the year ended December 31, 1999, the fund purchased $2,574,500,000 of
investment securities and sold $2,329,275,000 of investment securities, other
than temporary cash investments.
F. At December 31, 1999, net unrealized appreciation of investment securities
for financial reporting and federal income tax purposes was $7,999,199,000,
consisting of unrealized gains of $8,292,529,000 on securities that had risen in
value since their purchase and $293,330,000 in unrealized losses on securities
that had fallen in value since their purchase.
18
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Trustees of
Vanguard PRIMECAP Fund
In our opinion, the accompanying statement of net assets and the related
statements of operations and of changes in net assets and the financial
highlights present fairly, in all material respects, the financial position of
Vanguard PRIMECAP Fund (the "Fund") at December 31, 1999, 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 for each of
the five years in the period then ended, in conformity with accounting
principles generally accepted in the United States. These financial statements
and financial highlights (hereafter referred to as "financial statements") are
the responsibility of the Fund's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these financial statements in accordance with auditing standards
generally accepted in the United States, which require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audits, which included confirmation of securities at December
31, 1999 by correspondence with the custodian, provide a reasonable basis for
the opinion expressed above.
PricewaterhouseCoopers LLP
Thirty South Seventeenth Street
Philadelphia, Pennsylvania 19103
February 2, 2000
19
<PAGE>
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SPECIAL 1999 TAX INFORMATION (UNAUDITED) FOR
VANGUARD PRIMECAP FUND
This information for the fiscal year ended December 31, 1999, is included
pursuant to provisions of the Internal Revenue Code.
The fund distributed $1,113,147,000 as capital gain dividends (from net
long-term capital gains) to shareholders during the fiscal year ended December
1999, all of which is designated as a 20% rate gain distribution.
For corporate shareholders, 28.3% of investment income (dividend income
plus short-term gains, if any) qualifies for the dividends-received deduction.
- --------------------------------------------------------------------------------
20
<PAGE>
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THE PEOPLE WHO GOVERN YOUR FUND
The Trustees of your mutual fund are there to see that the fund is operated and
managed in your best interests since, as a shareholder, you are part owner of
the fund. Your fund Trustees also serve on the Board of Directors of The
Vanguard Group, which is owned by the funds and exists solely to provide
services to them on an at-cost basis.
Seven of Vanguard's nine board members are independent, meaning that they
have no affiliation with Vanguard or the funds they oversee, apart from the
sizable personal investments they have made as private individuals. They bring
distinguished backgrounds in business, academia, and public service to their
task of working with Vanguard officers to establish the policies and oversee the
activities of the funds.
Among board members' responsibilities are selecting investment advisers for
the funds; monitoring fund operations, performance, and costs; reviewing
contracts; nominating and selecting new Trustees/Directors; and electing
Vanguard officers.
The list below provides a brief description of each Trustee's professional
affiliations. Noted in parentheses is the year in which the Trustee joined the
Vanguard Board.
TRUSTEES
JOHN C. BOGLE * (1967) Founder, Senior Chairman of the Board, and
Director/Trustee of The Vanguard Group, Inc., and each of the investment
companies in The Vanguard Group.
JOHN J. BRENNAN * (1987) Chairman of the Board, Chief Executive Officer, and
Director/Trustee of The Vanguard Group, Inc., and each of the investment
companies in The Vanguard Group.
JOANN HEFFERNAN HEISEN * (1998) Vice President, Chief Information Officer, and a
member of the Executive Committee of Johnson & Johnson; Director of Johnson &
JohnsonoMerck Consumer Pharmaceuticals Co., The Medical Center at Princeton, and
Women's Research and Education Institute.
BRUCE K. MACLAURY * (1990) President Emeritus of The Brookings Institution;
Director of American Express Bank Ltd., The St. Paul Companies, Inc., and
National Steel Corp.
BURTON G. MALKIEL * (1977) Chemical Bank Chairman's Professor of Economics,
Princeton University; Director of Prudential Insurance Co. of America, Banco
Bilbao Gestinova, Baker Fentress & Co., The Jeffrey Co., and Select Sector SPDR
Trust.
ALFRED M. RANKIN, JR. * (1993) Chairman, President, Chief Executive Officer, and
Director of NACCO Industries, Inc.; Director of The BFGoodrich Co.
JOHN C. SAWHILL * (1991) President and Chief Executive Officer of The Nature
Conservancy; formerly, Director and Senior Partner of McKinsey & Co. and
President of New York University; Director of Pacific Gas and Electric Co.,
Procter & Gamble Co., NACCO Industries, and Newfield Exploration Co.
JAMES O. WELCH, JR. * (1971) Retired Chairman of Nabisco Brands, Inc.; retired
Vice Chairman and Director of RJR Nabisco; Director of TECO Energy, Inc., and
Kmart Corp.
J. LAWRENCE WILSON * (1985) Retired Chairman of Rohm & Haas Co.; Director of
Cummins Engine Co. and The Mead Corp.; Trustee of Vanderbilt University.
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OTHER FUND OFFICERS
RAYMOND J. KLAPINSKY * Secretary; Managing Director and Secretary of The
Vanguard Group, Inc.; Secretary of each of the investment companies in The
Vanguard Group.
THOMAS J. HIGGINS * Treasurer; Principal of The Vanguard Group, Inc.; Treasurer
of each of the investment companies in The Vanguard Group.
VANGUARD MANAGING DIRECTORS
R. GREGORY BARTON * Legal Department.
ROBERT A. DISTEFANO * Information Technology.
JAMES H. GATELY * Individual Investor Group.
KATHLEEN C. GUBANICH * Human Resources.
IAN A. MACKINNON * Fixed Income Group.
F. WILLIAM MCNABB, III * Institutional Investor Group.
MICHAEL S. MILLER * Planning and Development.
RALPH K. PACKARD * Chief Financial Officer.
GEORGE U. SAUTER * Core Management Group.
<PAGE>
ABOUT OUR COVER
Our cover art, depicting HMS Vanguard at sea, is a
reproduction of Leading the
Way, a 1984 work created
and copyrighted by noted naval artist Tom Freeman,
of Forest Hill, Maryland.
All comparative mutual fund data are from Lipper Inc. or Morningstar,
Inc., unless otherwise noted.
"Standard & Poor's(R)," "S&P(R)," "S&P 500(R)," "Standard & Poor's 500,"
and "500" are trademarks of The McGraw-Hill Companies, Inc.
Frank Russell Company is the owner of trademarks and copyrights
relating to the Russell Indexes. "Wilshire 4500" and "Wilshire 5000"
are trademarks of Wilshire Associates.
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Post Office Box 2600
Valley Forge, Pennsylvania 19482-2600
WORLD WIDE WEB
www.vanguard.com
FUND INFORMATION
1-800-662-7447
INDIVIDUAL ACCOUNT SERVICES
1-800-662-2739
INSTITUTIONAL INVESTOR SERVICES
1-800-523-1036
This report is intended for the fund's
shareholders. It may not be distributed
to prospective investors unless it
is preceded or accompanied by the
current fund prospectus.
Q590-02/11/2000
(C) 2000 The Vanguard Group, Inc.
All rights reserved.
Vanguard Marketing
Corporation, Distributor.
