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VANGUARD(R)
GROWTH AND INCOME
FUND
Annual Report
December 31, 1999
[SHIP GRAPHIC]
[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
CONTENTS
REPORT FROM THE CHAIRMAN .................1
AFTER-TAX RETURNS REPORT .................4
THE MARKETS IN PERSPECTIVE ...............5
REPORT FROM THE ADVISER ..................7
PERFORMANCE SUMMARY ......................9
FUND PROFILE ............................10
FINANCIAL STATEMENTS ....................12
REPORT OF INDEPENDENT ACCOUNTANTS .......20
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[PHOTO OF JOHN J. BRENNAN]
JOHN J. BRENNAN
REPORT FROM THE CHAIRMAN
Vanguard Growth and Income Fund posted a total return of 26.0% during 1999, an
impressive performance in a year that was outstanding--though not uniformly
so--for U.S. stocks. The fund's quantitative stock selection process helped it
beat the gains of its two comparative standards, the average large-cap core fund
and the Standard & Poor's 500 Index.
The adjacent table presents the fund's total return (capital change plus
reinvested dividends) along with those of the average competing fund and our
unmanaged benchmark index.
The fund's return is based on an increase in net asset value from $30.76
per share on December 31, 1998, to $37.08 on December 31, 1999, and is adjusted
for dividends totaling $0.33 per share paid from net investment income and a
distribution of $1.28 per share paid from net capital gains realized during
1999.
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TOTAL RETURNS
YEAR ENDED
DECEMBER 31, 1999
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Vanguard Growth and Income Fund 26.0%
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Average Large-Cap Core Fund* 22.4%
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S&P 500 Index 21.0%
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*Derived from data provided by Lipper Inc.
FINANCIAL MARKETS IN REVIEW
The U.S. stock market rode an upsurge in prices for technology stocks 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
technology stocks then 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 for 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 (up 28.2%) far outpacing value
stocks (up 12.7%). Among small stocks, technology stocks gained 107%, and the
difference between growth and value was an amazing 44.6 percentage points (a
rise of 43.1% for the Russell 2000 Index's growth stocks but a -1.5% decline for
its value stocks).
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 per-
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centage 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% at year-end, 138 basis points above
its starting position 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
The Growth and Income Fund's 26.0% return for 1999 placed us 3.6 percentage
points ahead of the average return of large-cap core funds and 5.0 percentage
points ahead of the unmanaged S&P 500 Index. It was gratifying to meet our
objective of exceeding the index's total return while maintaining a similar risk
profile. The result was all the more remarkable because of our slight tilt
toward value stocks, which trailed growth stocks during 1999.
We led the index largely because of our returns in two sectors: technology
and the consumer-discretionary group, which includes retailing, entertainment,
and publishing companies. We held a slightly smaller stake than the index in
technology stocks, the market's hottest sector (averaging 18.9% of the fund's
assets during the year versus 19.4% for the index). However, our selections
gained 92%, compared with 74% for the tech stocks in the index. The
consumer-discretionary stocks in our fund rose 36% in 1999, well ahead of that
sector's 28% return in the index. Our holdings in financial services and
utilities were relative laggards, gaining 18% and 14% respectively, but those
results were still well ahead of the index sectors' gains (+5% and +12%).
Our biggest shortfall versus the index was in the producer-durables group,
which includes a mix of manufacturers ranging from "old economy" industrial
products to "new economy" telecommunications and computing network equipment.
Our selections there advanced 18%, compared with a superb 49% gain for the
index.
LONG-TERM PERFORMANCE OVERVIEW
The Growth and Income Fund's strong performance during 1999 maintained our
long-term superiority over the average return of large-cap core funds, as shown
in the following table. For the ten years ended December 31, we provided an
average annual return of 18.5%, or 1.7 percentage points more than the average
large-cap core fund. That is a big advantage when compounded over a decade. An
initial stake of $10,000 invested in Vanguard Growth and Income Fund on December
31, 1989, would have grown to $54,522 over the decade, compared with $47,176 for
our average competitor, assuming reinvestment of dividends and capital gains.
That is a margin of $7,346 in our favor, or nearly three-fourths of the initial
investment.
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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 Growth and Income Fund 18.5% $54,522
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Average Large-Cap Core Fund 16.8% $47,176
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S&P 500 Index 18.2% $53,278
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Your fund also was able to outpace the S&P 500 Index, a very tough bogey
because it is a theoretical construct that incurs neither expenses nor
transaction costs. A major factor in the Growth and Income Fund's strong
performance was our low expense ratio, which in 1999 came to 0.37% (or $3.70 per
$1,000 in assets), less than one-third the 1.28% ($12.80 per $1,000) charged by
our average peer.
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 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's 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, such as that of technology stocks in the past year, 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 18, 2000
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A NOTE OF THANKS TO OUR FOUNDER
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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 Growth and Income 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 Growth and
Income 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:
- 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.
- The peer funds' returns are provided by 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
----------------- ----------------- -----------------
PRETAX AFTER-TAX PRETAX AFTER-TAX PRETAX AFTER-TAX
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Growth and Income Fund 26.0% 24.5% 28.8% 25.8% 18.5% 15.9%
Average Large Blend Fund* 19.5 17.5 23.9 21.2 15.7 13.3
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*Based on data from Morningstar, Inc.
As you can see, the Growth and Income Fund's pretax total return of 26.0%
for the 12 months ended December 31, 1999, was reduced by taxes to 24.5%. In
other words, for investors in the highest tax bracket, taxes cut the fund's
pretax return by 1.5 percentage points. The average comparable fund earned a
pretax return of 19.5% and an after-tax return of 17.5%, a difference of 2
percentage points.
Over longer periods, taxes have taken a larger portion of the Growth and
Income Fund's return, yet the fund has fared well in comparison with peer funds.
Over the five- and ten-year periods ended December 31, 1999, your fund generated
significantly 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.
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.)
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AVERAGE ANNUAL RETURNS
PERIODS ENDED DECEMBER 31, 1999
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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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
We are pleased to report on our investment results for 1999. Both Vanguard
Growth and Income Fund and the U.S. stock market in general experienced yet
another year of returns well above long-term norms. We continue to be pleasantly
surprised by the resiliency and staying power of this bull market.
We outperformed the S&P 500 Index for the year with a total return of 26.0%
versus 21.0% for the index. After lagging the index in the first quarter of
1999, we regainedthe lost ground and more, outperforming the index in each of
the next three quarters. Our return also exceeded the 22.4% average return of
Lipper Inc.'s large-cap core fund category and the 19.5% return of Morningstar
Inc.'s large blend group. The adjacent table shows how your fund has performed
in comparison with its peers, as reported by fund analyst Morningstar.
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RANK OF VANGUARD GROWTH AND INCOME FUND
AMONG LARGE BLEND FUNDS
THROUGH DECEMBER 31, 1999
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Last 10 years 17th out of 136
Last 5 years 23rd out of 383
Last 3 years 65th out of 594
Last 1 year 175th out of 910
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Source: Morningstar, Inc.
We remain concerned about the excesses that we see in the marketplace. The
market environment continues to be extreme. A marked increase in price
volatility occurred in late 1998, and this trend continued throughout last
year--indeed, it worsened toward year-end. Any lessening of volatility would be
a good sign for the market.
Very large-cap growth stocks dominated investment results in 1999, just as
they did in 1998, although the disparity was less pronounced last year. In fact,
the small-cap Russell 2000 Index outperformed the large-cap Russell 1000 Index.
The industry sectors emphasized by a fund and the growth characteristics of its
stock holdings mattered a great deal in 1999. The prime example, of course, was
the technology sector's fantastic gains. To keep up with the market averages, a
fund almost had to have significant exposure to technology stocks. Clearly,
market participants favored rapid growth over other characteristics in 1999.
Such trends don't last forever. History suggests that over long periods,
investors are well advised to have exposure to both large and small companies.
We manage the fund by making a series of analytical measurements on a large
group of stocks--about 3,900 at present. We use three basic types of measures:
- Fundamental momentum measures. These are intended to identify companies
whose near-term business prospects are relatively strong.
- Relative value measures. These quantify the attractiveness of a stock's
price in relation to its own past levels and to such current financial measures
as book value, sales, or earnings.
- Future cash flow. These analytical tools screen for value by trying to
identify likely favorable payoffs in future earnings and dividends.
We use these measures of value and momentum to select investments because
we believe that applying a variety of yardsticks will help us to deliver
consistent results. Our experience reinforces our belief in the efficacy of an
approach that combines analytic models to uncover attractively valued
securities.
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INVESTMENT PHILOSOPHY
The fund reflects a belief that superior long-term investment results can be
achieved by using quantitative methods to select stocks that, in the aggregate,
have risk characteristics similar to the S&P 500 Index but that are currently
undervalued by the market.
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7
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In 1999, our momentum measures proved more useful than our value-based
measurements. What we saw was clearly a momentum market, one that rewarded
strong growth in fundamentals (though not necessarily earnings), and one in
which price increases tended to attract more buyers, helping a stock's price to
build upon itself. Our experience suggests that such conditions will not
continue indefinitely.
The biggest contributors to our margin over the S&P 500 Index last year
were heavier-than-index weightings in QUALCOMM (it soared more than 2,600%),
AirTouch (which was acquired at a premium by Vodafone), and Morgan Stanley Dean
Witter (which gained 103%). Positions that hurt our performance versus the index
included an underweighting in Cisco Systems (up 131% on the year) and
overweightings in FleetBoston Financial (down nearly -20%) and Cardinal Health
(down nearly -37%).
We are long-term investors. We do not expect to win every short-term
performance comparison--though, naturally, we are happy when we do. Our goal is
to provide superior equity returns over long periods. Our investors should have
a desire for equity exposure, because we expect to be fully invested in stocks
as a matter of investment policy.
We believe that our record illustrates the effectiveness of our game
plan--seeking to provide superior performance on a regular basis and to avoid
periods of major shortfalls. Our goal with your assets is to be above-average as
consistently as we can. We believe that such consistency leads to strong
long-term performance.
John Nagorniak, CFA, CEO
John S. Cone, President
Franklin Portfolio Associates LLC
January 5, 2000
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PERFORMANCE SUMMARY
GROWTH AND INCOME 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: DECEMBER 10, 1986-DECEMBER 31, 1999
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GROWTH AND INCOME FUND S&P 500
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------
1986 -3.1% 0.0% -3.1% -3.3%
1987 1.8 2.2 4.0 5.3
1988 13.1 3.7 16.8 16.6
1989 27.6 4.4 32.0 31.7
1990 -5.7 3.3 -2.4 -3.1
1991 26.4 3.9 30.3 30.5
1992 4.2 2.8 7.0 7.6
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GROWTH AND INCOME FUND S&P 500
FISCAL CAPITAL INCOME TOTAL TOTAL
YEAR RETURN RETURN RETURN RETURN
- --------------------------------------------
1993 11.4% 2.4% 13.8% 10.1%
1994 -3.1 2.5 -0.6 1.3
1995 33.1 2.8 35.9 37.6
1996 20.9 2.2 23.1 23.0
1997 33.5 2.1 35.6 33.4
1998 22.6 1.3 23.9 28.6
1999 24.9 1.1 26.0 21.0
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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
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[GRAPH]
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AVERAGE ANNUAL TOTAL RETURNS
PERIODS ENDED DECEMBER 31, 1999
------------------------------- FINAL VALUE OF A
1 YEAR 5 YEARS 10 YEARS $10,000 INVESTMENT
- --------------------------------------------------------------------------------
Growth and Income Fund 26.04% 28.79% 18.48% $54,522
Average Large-Cap Core Fund* 22.35 25.71 16.78 47,176
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
- --------------------------------------------------------------------------------
Growth and Income Fund 12/10/1986 26.04% 28.79% 15.99% 2.49% 18.48%
- --------------------------------------------------------------------------------
9
<PAGE>
FUND PROFILE
GROWTH AND INCOME 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
- ----------------------------------------------------
GROWTH AND INCOME S&P 500
- ----------------------------------------------------
Number of Stocks 150 500
Median Market Cap $64.8B $86.7B
Price/Earnings Ratio 26.9x 29.8x
Price/Book Ratio 4.4x 5.5x
Yield 1.1% 1.1%
Return on Equity 19.9% 23.4%
Earnings Growth Rate 13.2% 16.6%
Foreign Holdings 1.8% 1.3%
Turnover Rate 54% --
Expense Ratio 0.37% --
Cash Reserves 0.8% --
INVESTMENT FOCUS
- ----------------------------------------------------
[GRID]
STYLE .......... BLEND
MARKET CAP ..... LARGE
VOLATILITY MEASURES
- ----------------------------------------------------
GROWTH AND INCOME S&P 500
- ----------------------------------------------------
R-Squared 0.97 1.00
Beta 1.01 1.00
TEN LARGEST HOLDINGS
(% OF TOTAL NET ASSETS)
- ----------------------------------------------------
Microsoft Corp. 4.2%
Wal-Mart Stores, Inc. 3.2
QUALCOMM, Inc. 3.1
MCI WorldCom, Inc. 2.7
Lucent Technologies, Inc. 2.7
AT&T Corp. 2.7
Cisco Systems, Inc. 2.5
Exxon Mobil Corp. 2.5
Home Depot, Inc. 2.4
General Electric Co. 2.1
- ----------------------------------------------------
Top Ten 28.1%
SECTOR DIVERSIFICATION (% OF COMMON STOCKS)
- --------------------------------------------------------------------------------
DECEMBER 31, 1998 DECEMBER 31, 1999
GROWTH AND INCOME GROWTH AND INCOME S&P 500
------------------------------------------------
Auto & Transportation .......... 2.5% 1.7% 1.9%
Consumer Discretionary ......... 14.8 14.5 13.9
Consumer Staples ............... 4.6 4.9 6.3
Financial Services ............. 17.0 15.2 13.8
Health Care .................... 13.1 8.3 9.3
Integrated Oils ................ 3.3 5.8 4.8
Other Energy ................... 0.0 0.8 1.3
Materials & Processing ......... 3.0 3.8 3.2
Producer Durables .............. 4.2 3.2 3.6
Technology ..................... 15.1 24.5 25.4
Utilities ...................... 17.5 11.5 10.2
Other .......................... 4.9 5.8 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 past year. 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>
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, but may differ because certain investments or
transactions may be treated differently for financial statement and tax
purposes. 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*
GROWTH AND INCOME FUND SHARES (000)
- -----------------------------------------------------
COMMON STOCKS (98.1%)(1)
- -----------------------------------------------------
AUTO & TRANSPORTATION (1.7%)
Ford Motor Co. 1,046,000 $ 55,896
TRW, Inc. 680,000 35,317
General Motors Corp. 467,100 33,952
Union Pacific Corp. 315,000 13,742
Genuine Parts Co. 200,000 4,962
PACCAR, Inc. 99,300 4,400
Cooper Tire & Rubber Co. 53,500 833
-----------
149,102
-----------
CONSUMER DISCRETIONARY (14.2%)
Wal-Mart Stores, Inc. 4,047,800 279,804
Home Depot, Inc. 3,042,000 208,567
oViacom Inc. Class B 2,996,000 181,071
oAmerica Online, Inc. 1,187,000 89,544
Carnival Corp. 1,588,100 75,931
Gannett Co., Inc. 701,400 57,208
Tribune Co. 1,017,000 55,999
Kimberly-Clark Corp. 824,700 53,812
Eastman Kodak Co. 693,000 45,911
oClear Channel
Communications, Inc. 436,400 38,949
Whirlpool Corp. 592,700 38,563
oFederated Department
Stores, Inc. 511,600 25,868
May Department Stores Co. 800,000 25,800
Knight Ridder 400,000 23,800
R.R. Donnelley & Sons Co. 942,000 23,373
Hasbro, Inc. 720,200 13,729
Circuit City Stores, Inc. 193,000 8,697
The Stanley Works 152,000 4,579
Darden Restaurants Inc. 228,800 4,147
-----------
1,255,352
CONSUMER STAPLES (4.9%)
Anheuser-Busch Cos., Inc. 1,140,000 80,797
PepsiCo, Inc. 2,277,000 80,264
ConAgra, Inc. 2,630,000 59,339
The Quaker Oats Co. 865,400 56,792
Philip Morris Cos., Inc. 2,133,200 49,464
General Mills, Inc. 1,114,000 39,825
oSafeway, Inc. 695,000 24,716
SuperValu Inc. 1,007,600 20,152
UST, Inc. 626,600 15,782
-----------
427,131
-----------
FINANCIAL SERVICES (14.9%)
Citigroup, Inc. 3,152,600 175,166
Morgan Stanley Dean
Witter & Co. 1,160,055 165,598
American International
Group, Inc. 1,292,452 139,746
Bank of America Corp. 1,873,371 94,020
FleetBoston Financial Corp. 2,700,000 93,994
Marsh & McLennan Cos., Inc. 906,500 86,741
Associates First
Capital Corp. 2,464,400 67,617
J.P. Morgan & Co., Inc. 500,000 63,312
MBNA Corp. 1,873,400 51,050
Lehman Brothers
Holdings, Inc. 538,700 45,621
SunTrust Banks, Inc. 640,000 44,040
American General Corp. 545,200 41,367
Wachovia Corp. 469,000 31,892
12
<PAGE>
- -----------------------------------------------------
MARKET
VALUE*
SHARES (000)
- -----------------------------------------------------
Golden West Financial Corp. 921,900 30,884
Merrill Lynch & Co., Inc. 326,400 27,254
KeyCorp 1,209,700 26,765
Fifth Third Bancorp 319,000 23,407
St. Paul Cos., Inc. 556,700 18,754
PNC Bank Corp. 327,800 14,587
Conseco Inc. 717,100 12,818
H & R Block, Inc. 280,000 12,250
The Chase Manhattan Corp. 142,828 11,096
SouthTrust Corp. 241,100 9,117
AmSouth Bancorp 411,900 7,955
Deluxe Corp. 279,300 7,663
Freddie Mac 115,500 5,436
Aegon NV ARS 50,000 4,775
BB&T Corp. 171,600 4,698
-----------
1,317,623
-----------
HEALTH CARE (8.2%)
Merck & Co., Inc. 2,328,000 156,121
Johnson & Johnson 1,439,500 134,053
Pfizer, Inc. 3,229,300 104,750
Pharmacia & Upjohn, Inc. 1,851,500 83,317
Cardinal Health, Inc. 1,548,950 74,156
Abbott Laboratories 2,039,480 74,059
Aetna Inc. 776,200 43,322
Allergan, Inc. 620,600 30,875
Warner-Lambert Co. 134,200 10,996
United Healthcare Corp. 154,300 8,197
-----------
719,846
-----------
INTEGRATED OILS (5.7%)
Exxon Mobil Corp. 2,702,768 217,742
Royal Dutch Petroleum
Co. ADR 2,460,100 148,682
Kerr-McGee Corp. 944,500 58,559
Coastal Corp. 787,000 27,889
USX-Marathon Group 1,091,100 26,937
Occidental Petroleum Corp. 1,182,600 25,574
-----------
505,383
-----------
OTHER ENERGY (0.8%)
Enron Corp. 704,000 31,240
Apache Corp. 831,300 30,706
Anadarko Petroleum Corp. 240,000 8,190
-----------
70,136
-----------
MATERIALS & PROCESSING (3.7%)
Georgia Pacific Group 1,659,500 84,220
Dow Chemical Co. 417,400 55,775
International Paper Co. 973,400 54,936
Weyerhaeuser Co. 690,500 49,587
Sherwin-Williams Co. 942,500 19,792
Temple-Inland Inc. 182,400 12,027
Alcan Aluminium Ltd. 280,600 11,557
oInco Ltd. 393,600 9,250
Louisiana-Pacific Corp. 624,400 8,898
Willamette Industries, Inc. 153,200 7,114
oFreeport-McMoRan Copper &
Gold Inc. Class B 307,900 6,504
Sigma-Aldrich Corp. 203,700 6,124
-----------
325,784
-----------
PRODUCER DURABLES (3.2%)
The Boeing Co. 2,671,500 111,034
oApplied Materials, Inc. 505,500 64,041
oLexmark International Group,
Inc. Class A 402,400 36,417
Ingersoll-Rand Co. 579,850 31,928
Centex Corp. 598,100 14,766
Dover Corp. 216,800 9,837
Cummins Engine Co., Inc. 135,500 6,546
Pulte Corp. 285,300 6,419
-----------
280,988
-----------
TECHNOLOGY (24.0%)
oMicrosoft Corp. 3,172,100 370,343
oQUALCOMM, Inc. 1,539,200 271,092
Lucent Technologies, Inc. 3,194,024 238,953
oCisco Systems, Inc. 2,047,800 219,371
Intel Corp. 2,160,400 177,828
oOracle Corp. 1,000,675 112,138
oEMC Corp. 803,200 87,750
Motorola, Inc. 541,500 79,736
oGeneral Instrument Corp. 905,700 76,984
oSolectron Corp. 800,400 76,138
Texas Instruments, Inc. 725,000 70,234
oAdaptec, Inc. 1,339,000 66,783
oNovell, Inc. 1,371,900 54,619
Electronic Data Systems Corp. 612,000 40,966
General Dynamics Corp. 587,500 30,991
oMicron Technology, Inc. 320,600 24,927
oNational Semiconductor Corp. 515,000 22,048
oLSI Logic Corp. 326,400 22,032
oCompuware Corp. 539,200 20,085
oSeagate Technology Inc. 415,900 19,365
International Business
Machines Corp. 121,200 13,090
oUnisys Corp. 359,900 11,494
Scientific-Atlanta, Inc. 152,000 8,455
-----------
2,115,422
-----------
UTILITIES (11.3%)
oMCI WorldCom, Inc. 4,520,100 239,848
AT&T Corp. 4,698,229 238,435
Comcast Corp. Class A
Special 1,749,200 88,444
oNEXTEL Communications, Inc. 671,700 69,269
Texas Utilities Co. 1,710,000 60,812
Public Service Enterprise
Group, Inc. 1,289,700 44,898
PG&E Corp. 2,048,800 42,000
Southern Co. 1,778,700 41,799
Duke Energy Corp. 718,500 36,015
BellSouth Corp. 643,000 30,100
Central & South West Corp 1,187,100 23,742
FPL Group, Inc. 545,500 23,354
Edison International 515,500 13,500
Consolidated Natural Gas Co. 173,100 11,241
DTE Energy Co. 335,000 10,511
Unicom Corp. 264,000 8,844
Constellation Energy Group 231,800 6,722
Reliant Energy, Inc. 264,400 6,048
-----------
995,582
-----------
OTHER (5.5%)
General Electric Co. 1,205,000 186,474
Tyco International Ltd. 4,103,400 159,520
Minnesota Mining &
Manufacturing Co. 876,200 85,758
13
<PAGE>
- -----------------------------------------------------
MARKET
VALUE*
GROWTH AND INCOME FUND SHARES (000)
- -----------------------------------------------------
Johnson Controls, Inc. 440,700 25,065
Fortune Brands, Inc. 501,400 16,578
oThermo Electron Corp. 680,000 10,200
Brunswick Corp. 112,000 2,492
-----------
486,087
-----------
- -----------------------------------------------------
TOTAL COMMON STOCKS
(COST $6,534,892) 8,648,436
- -----------------------------------------------------
Face
Amount
(000)
- -----------------------------------------------------
TEMPORARY CASH INVESTMENTS (2.1%)(1)
- -----------------------------------------------------
U.S. TREASURY BILL
(2) 5.28%, 3/16/2000 $ 5,400 5,344
REPURCHASE AGREEMENT
Collateralized by U.S. Government
Obligations in a Pooled
Cash Account
3.25%, 1/3/2000 180,403 180,403
- -----------------------------------------------------
TOTAL TEMPORARY CASH INVESTMENTS
(COST $185,745) 185,747
- -----------------------------------------------------
TOTAL INVESTMENTS (100.2%)
(COST $6,720,637) 8,834,183
- -----------------------------------------------------
OTHER ASSETS AND LIABILITIES (-0.2%)
- -----------------------------------------------------
Other Assets--Note C 42,715
Liabilities (60,514)
-----------
(17,799)
- -----------------------------------------------------
NET ASSETS (100%)
- -----------------------------------------------------
Applicable to 237,772,780 outstanding
$.001 par value shares of beneficial interest
(unlimited authorization) $8,816,384
=====================================================
NET ASSET VALUE PER SHARE $37.08
=====================================================
* See Note A in Notes to Financial Statements.
o Non-Income-Producing Security.
(1)The fund invests a portion of its cash reserves in equity
markets through the use of index futures contracts. After
giving effect to futures investments, the fund's effective
common stock and temporary cash investment positions
represent 99.2% and 1.0%, respectively, of net assets. See
Note E in Notes to Financial Statements.
(2)Security segregated as initial margin for open
futures contracts.
ADR--American Depositary Receipt.
ARS--American Registered Share.
- -----------------------------------------------------
AMOUNT PER
(000) SHARE
- -----------------------------------------------------
AT DECEMBER 31, 1999, NET ASSETS CONSISTED OF:
- -----------------------------------------------------
Paid in Capital $6,439,162 $27.08
Overdistributed Net
Investment Income (1,970) (.01)
Accumulated Net
Realized Gains 262,517 1.11
Unrealized Appreciation--
Note E
Investment Securities 2,113,546 8.89
Futures Contracts 3,129 .01
- -----------------------------------------------------
NET ASSETS $8,816,384 $37.08
=====================================================
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. If the
fund invested in futures contracts during the period, the results of these
investments are shown separately.
- --------------------------------------------------------------------------------
GROWTH AND INCOME FUND
YEAR ENDED DECEMBER 31, 1999
(000)
- --------------------------------------------------------------------------------
INVESTMENT INCOME
INCOME
Dividends $ 86,243
Interest 7,527
Security Lending 396
-----------
Total Income 94,166
-----------
EXPENSES
Investment Advisory Fees--Note B
Basic Fee 6,021
Performance Adjustment (309)
The Vanguard Group--Note C
Management and Administrative 17,764
Marketing and Distribution 1,212
Custodian Fees 26
Auditing Fees 11
Shareholders' Reports 284
Trustees' Fees and Expenses 9
-----------
Total Expenses 25,018
Expenses Paid Indirectly--Note C (323)
-----------
Net Expenses 24,695
- --------------------------------------------------------------------------------
NET INVESTMENT INCOME 69,471
- --------------------------------------------------------------------------------
REALIZED NET GAIN
Investment Securities Sold 555,527
Futures Contracts 14,140
- --------------------------------------------------------------------------------
REALIZED NET GAIN 569,667
- --------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION)
Investment Securities 991,855
Futures Contracts (2,059)
- --------------------------------------------------------------------------------
CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) 989,796
- --------------------------------------------------------------------------------
NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS $1,628,934
================================================================================
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.
<TABLE>
- --------------------------------------------------------------------------------------------
GROWTH AND INCOME FUND
YEAR ENDED DECEMBER 31,
-----------------------
1999 1998
(000) (000)
- --------------------------------------------------------------------------------------------
INCREASE (DECREASE) IN NET ASSETS
OPERATIONS
<S> <C> <C>
Net Investment Income 69,471 47,107
Realized Net Gain 569,667 102,254
Change in Unrealized Appreciation (Depreciation) 989,796 593,025
-----------------------
Net Increase in Net Assets Resulting from Operations 1,628,934 742,386
-----------------------
DISTRIBUTIONS
Net Investment Income (70,403) (48,169)
Realized Capital Gain (288,660) (171,988)
-----------------------
Total Distributions (359,063) (220,157)
-----------------------
CAPITAL SHARE TRANSACTIONS(1)
Issued 3,205,474 2,901,578
Issued in Lieu of Cash Distributions 338,671 209,301
Issued in Exchange for Net Assets of Trustees'-U.S. Portfolio--Note F -- 186,395
Redeemed (1,158,132) (800,812)
-----------------------
Net Increase from Capital Share Transactions 2,386,013 2,496,462
- --------------------------------------------------------------------------------------------
Total Increase 3,655,884 3,018,691
- --------------------------------------------------------------------------------------------
NET ASSETS
Beginning of Year 5,160,500 2,141,809
-----------------------
End of Year $8,816,384 $5,160,500
============================================================================================
(1)Shares Issued (Redeemed)
Issued 94,634 100,722
Issued in Lieu of Cash Distributions 9,544 7,069
Issued in Exchange for Net Assets of Trustees'-U.S. Portfolio--Note F -- 6,578
Redeemed (34,150) (28,413)
-----------------------
Net Increase in Shares Outstanding 70,028 85,956
============================================================================================
</TABLE>
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>
- --------------------------------------------------------------------------------------------------
GROWTH AND INCOME FUND
YEAR ENDED DECEMBER 31,
------------------------------------------------------
FOR A SHARE OUTSTANDING THROUGHOUT EACH YEAR 1999 1998 1997 1996 1995
- --------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
NET ASSET VALUE, BEGINNING OF YEAR $30.76 $26.19 $22.23 $19.95 $15.56
- --------------------------------------------------------------------------------------------------
INVESTMENT OPERATIONS
Net Investment Income .33 .32 .41 .41 .41
Net Realized and Unrealized
Gain (Loss) on Investments 7.60 5.86 7.15 4.09 5.14
------------------------------------------------------
Total from Investment
Operations 7.93 6.18 7.56 4.50 5.55
------------------------------------------------------
DISTRIBUTIONS
Dividends from Net Investment
Income (.33) (.33) (.42) (.40) (.42)
Distributions from Realized
Capital Gains (1.28) (1.28) (3.18) (1.82) (.74)
------------------------------------------------------
Total Distributions (1.61) (1.61) (3.60) (2.22) (1.16)
- --------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF YEAR $37.08 $30.76 $26.19 $22.23 $19.95
==================================================================================================
TOTAL RETURN 26.04% 23.94% 35.59% 23.06% 35.93%
==================================================================================================
RATIOS/SUPPLEMENTAL DATA
Net Assets, End of Year (Millions) $8,816 $5,161 $2,142 $1,285 $909
Ratio of Total Expenses to Average
Net Assets 0.37% 0.36% 0.36% 0.38% 0.47%
Ratio of Net Investment Income to
Average Net Assets 1.04% 1.27% 1.74% 1.97% 2.25%
Portfolio Turnover Rate 54% 47% 66% 75% 59%
==================================================================================================
</TABLE>
17
<PAGE>
NOTES TO FINANCIAL STATEMENTS
Vanguard Growth and Income 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 acquired over 60 days to maturity are valued
using the latest bid prices or using valuations based on a matrix system (which
considers such factors as security prices, yields, maturities, and ratings),
both as furnished by independent pricing services. Other 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. Futures Contracts: The fund uses S&P 500 Index futures contracts to a
limited extent, with the objectives of maintaining full exposure to the stock
market while maintaining liquidity. The fund may purchase or sell futures
contracts to achieve a desired level of investment, whether to accommodate fund
turnover or cash flows from capital share transactions. The primary risks
associated with the use of futures contracts are imperfect correlation between
changes in market values of stocks held by the fund and the prices of futures
contracts, and the possibility of an illiquid market.
Futures contracts are valued at their quoted daily settlement prices. The
aggregate principal amounts of the contracts are not recorded in the financial
statements. Fluctuations in the value of the contracts are recorded in the
Statement of Net Assets as an asset (liability) and in the Statement of
Operations as unrealized appreciation (depreciation) until the contracts are
closed, when they are recorded as realized futures gains (losses).
5. Distributions: Distributions to shareholders are recorded on the
ex-dividend date. Distributions are determined on a tax basis and may differ
from net investment income and realized capital gains for financial reporting
purposes.
6. 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. Franklin Portfolio Associates LLC provides investment advisory services to
the fund for a fee calculated at an annual percentage rate of average net
assets. The basic fee is subject to quarterly adjustments based on performance
for the preceding three years relative to the S&P 500 Index. For the year ended
December 31, 1999, the advisory fee represented an effective annual basic rate
of 0.09% of the fund's average net assets before a decrease of $309,000 (0.01%)
based on performance.
18
<PAGE>
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 $1,645,000
to Vanguard (included in Other Assets), representing 0.02% of the fund's net
assets and 1.60% of Vanguard's capitalization. The fund's Trustees and officers
are also Directors and officers of Vanguard.
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, these arrangements reduced the fund's expenses by $320,000
and $3,000, respectively. The total expense reduction represented an effective
annual rate of 0.01% of the fund's average net assets.
D. During the year ended December 31, 1999, the fund purchased $5,640,606,000 of
investment securities and sold $3,572,171,000 of investment securities, other
than U.S. government securities and temporary cash investments.
E. At December 31, 1999, net unrealized appreciation of investment securities
for financial reporting and federal income tax purposes was $2,113,546,000,
consisting of unrealized gains of $2,422,635,000 on securities that had risen in
value since their purchase and $309,089,000 in unrealized losses on securities
that had fallen in value since their purchase.
At December 31, 1999, the aggregate settlement value of open futures
contracts expiring in March 2000 and the related unrealized appreciation were:
- --------------------------------------------------------------------------------
(000)
-------------------------------
AGGREGATE
NUMBER OF SETTLEMENT UNREALIZED
FUTURES CONTRACTS LONG CONTRACTS VALUE APPRECIATION
- --------------------------------------------------------------------------------
S&P 500 Index 270 $100,184 $3,129
- --------------------------------------------------------------------------------
F. On August 13, 1998, the fund acquired the net assets of Vanguard Trustees'
Equity Fund-U.S. Portfolio ("Trustees'-U.S. Portfolio") pursuant to an agreement
approved by the shareholders of Trustees'-U.S. Portfolio on July 31, 1998. The
acquisition was accomplished by a tax-free exchange of 6,577,635 of the Growth
and Income Fund's capital shares for the 4,850,642 outstanding Trustees'-U.S.
Portfolio shares. Trustees'-U.S. Portfolio's net assets of $186,395,000,
including $36,784,000 of unrealized appreciation, were combined with the Growth
and Income Fund's net assets of $4,097,538,000, resulting in combined net assets
of $4,283,933,000 on August 13, 1998.
19
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
TO THE SHAREHOLDERS AND TRUSTEES OF
VANGUARD GROWTH AND INCOME 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 Growth and Income 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 and brokers, provide a reasonable
basis for the opinion expressed above.
PricewaterhouseCoopers LLP
Thirty South Seventeenth Street
Philadelphia, Pennsylvania 19103
February 2, 2000
- --------------------------------------------------------------------------------
SPECIAL 1999 TAX INFORMATION (UNAUDITED) FOR VANGUARD GROWTH AND INCOME FUND
This information for the fiscal year ended December 31, 1999, is included
pursuant to provisions of the Internal Revenue Code.
The fund distributed $224,382,000 as capital gain dividends (from net
long-term capital gains) to shareholders during the fiscal year ended December
31, 1999, all of which is designated as a 20% rate gain distribution.
For corporate shareholders, 34.4% of investment income (dividend income
plus short-term gains, if any) qualifies for the dividends-received deduction.
- --------------------------------------------------------------------------------
20
<PAGE>
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 &
Johnson*Merck 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.
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.
[PHOTO OF SHIP]
[THE VANGUARD GROUP LOGO]
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.
Q930-02/14/2000
(C) 2000 The Vanguard Group, Inc.
All rights reserved.
Vanguard Marketing
Corporation, Distributor.
