FEDERATED EQUITY INCOME FUND, INC.
CLASS A SHARES
CLASS B SHARES
CLASS C SHARES
CLASS F SHARES
STATEMENT OF ADDITIONAL INFORMATION
This Statement of Additional Information should be read with the prospectus for
Class A Shares, Class B Shares, and Class C Shares, and the prospectus for Class
F Shares of Federated Equity Income Fund, Inc. (the "Fund"), dated July 31,
1997. This Statement is not a prospectus itself. You may request a copy of
either prospectus or a paper copy of this Statement, if you received it
electronically, free of charge by calling 1-800-341-7400.
FEDERATED EQUITY INCOME FUND, INC.
FEDERATED INVESTORS FUNDS
5800 CORPORATE DRIVE PITTSBURGH, PA 15237-7000 Statement dated July 31, 1997
(Revised January 31, 1998)
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Federated Investors
Federated Securities Corp., Distributor
Federated Investors Tower
1001 Liberty Avenue
Pittsburgh, PA 15222-3779
1-800-341-7400
www.federatedinvestors.com
Cusip 313915100 Cusip 313915209 Cusip 313915308 Cusip 313915407 8062806B (1/98)
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TABLE OF CONTENTS
GENERAL INFORMATION ABOUT THE FUND 1
INVESTMENT OBJECTIVES AND POLICIES 1
Convertible Securities 1
Temporary Investments 1
Warrants 2
When-Issued and Delayed Delivery Transactions 2
Repurchase Agreements 2
Futures and Options Transactions 2
Restricted and Illiquid Securities 4
Lending of Portfolio Securities 4
Reverse Repurchase Agreements 4
Portfolio Turnover 4
Investing in Securities of Other Investment Companies 4
INVESTMENT LIMITATIONS 5
Buying on Margin 5
Selling Short 5
Issuing Senior Securities and Borrowing Money 5
Pledging Assets 5
Investing in Minerals or Real Estate 5
Investing in Commodities 5
Investing in Restricted Securities 5
Underwriting 5
Lending Cash or Securities 5
Concentration of Investments 5
Diversifications of Investments 6
Arbitrage Transactions 6
Acquiring Securities 6
Writing Covered Call Options and Purchasing Put Options 6
Investing in Illiquid Securities 6
FEDERATED EQUITY INCOME FUND, INC. MANAGEMENT 7
Fund Ownership 10
Directors Compensation 11
Director Liability 11
INVESTMENT ADVISORY SERVICES 11
Adviser to the Fund 11
Advisory Fees 12
BROKERAGE TRANSACTIONS 12
OTHER SERVICES 12
Fund Administration 12
Custodian and Portfolio Accountant 12
Transfer Agent 12
Independent Auditors 12
PURCHASING SHARES 13
Quantity Discounts and Accumulated Purchases 13
Concurrent Purchases 13
Letter of Intent 13
Reinvestment Privilege 14
Conversion of Class BShares 14
Distribution Plan and Shareholder Services 14
Conversion to Federal Funds 15
Purchases by Sales Representatives, Fund Directors,
and Employees 15
Exchanging Securities for Fund Shares 15
DETERMINING NET ASSET VALUE 16
Determining Market Value of Securities 16
REDEEMING SHARES 16
Redemption in Kind 16
Contingent Deferred Sales Charge 16
TAX STATUS 17
The Fund's Tax Status 17
Shareholders' Tax Status 17
TOTAL RETURN 18
YIELD 18
CURRENT DISTRIBUTIONS 18
PERFORMANCE COMPARISONS 19
Economic and Market Information 20
ABOUT FEDERATED INVESTORS 20
Mutual Fund Market 20
Institutional Clients 21
Bank Marketing 21
Broker/Dealers and Bank Broker/Dealer Subsidiaries 21
FINANCIAL STATEMENTS 21
GENERAL INFORMATION ABOUT THE FUND
The Fund was incorporated under the laws of the State of Maryland on July 29,
1986. It is qualified to do business as a foreign corporation in Pennsylvania.
On February 26, 1996, the Board of Directors approved an amendment to the
Articles of Incorporation of the Fund to change the name of the Fund from
Liberty Equity Income Fund, Inc. to Federated Equity Income Fund, Inc. On
December 21, 1992, shareholders of the Fund approved changing the name of the
Fund from Convertible Securities and Income, Inc., to Liberty Equity Income
Fund, Inc. Shares of the Fund are offered in four classes known as Class A
Shares, Class B Shares, Class C Shares, and Class F Shares (individually and
collectively referred to as "Shares," as the context may require). This
Statement of Additional Information relates to all classes of Shares of the
Fund.
INVESTMENT OBJECTIVES AND POLICIES
The Fund's investment objective is to provide above average income and capital
appreciation. The investment objective cannot be changed without approval of
shareholders.
CONVERTIBLE SECURITIES
DECS, or similar instruments marketed under different names, offer a substantial
dividend advantage with the possibility of unlimited upside potential if the
price of the underlying common stock exceeds a certain level. DECS convert to
common stock at maturity. The amount received is dependent on the price of the
common at the time of maturity. DECS contain two call options at different
strike prices. The DECS participate with the common up to the first call price.
They are effectively capped at that point unless the common rises above a second
price point, at which time they participate with unlimited upside potential.
PERCS, or similar instruments marketed under different names, offer a
substantial dividend advantage, but capital appreciation potential is limited to
a predetermined level. PERCS are less risky and less volatile than the
underlying common stock because their superior income mitigates declines when
the common falls, while the cap price limits gains when the common rises.
TEMPORARY INVESTMENTS
The temporary investments in which the Fund may invest include, but are not
limited to:
* commercial paper rated A-1 or A-2 by Standard & Poor's Ratings Group,
Prime-1 or Prime-2 by Moody's Investors Service, Inc., or F-1 or F-2 by
Fitch Investors Service, Inc., and Europaper rated A-1, A-2, Prime-1, or
Prime-2. In the case where commercial paper or Europaper has received
different ratings from different rating services, such commercial paper or
Europaper is an acceptable temporary investment so long as at least one
rating is one of the preceding high-quality ratings and provided the Fund's
investment Adviser, Federated Advisers (the "Adviser"), has determined that
such investment presents minimal credit risks;
* instruments of domestic and foreign banks and savings associations if they
have capital, surplus, and undivided profits of over $100,000,000, or if
the principal amount of the instrument is insured by the Federal Deposit
Insurance Corporation. These instruments may include Eurodollar
Certificates of Deposits ("ECDs"), Yankee Certificates of Deposit ("Yankee
CDs"), and Eurodollar Time Deposits ("ETDs");
* obligations of the U.S. government or its agencies or
instrumentalities;
* repurchase agreements; and
* other short-term instruments which are not rated but are determined by the
Adviser to be of comparable quality to the other temporary obligations in
which the Fund may invest.
INVESTMENT RISKS
ECDs, ETDs, Yankee CDs, and Europaper are subject to different risks than
domestic obligations of domestic banks or corporations. Examples of these risks
include international economic and political developments, foreign governmental
restrictions that may adversely affect the payment of principal or interest,
foreign withholding or other taxes on interest income, difficulties in obtaining
or enforcing a judgment against the issuing entity, and the possible impact of
interruptions in the flow of international currency transactions. Different
risks may also exist for ECDs, ETDs, and Yankee CDs because the banks issuing
these instruments, or their domestic or foreign branches, are not necessarily
subject to the same regulatory requirements that apply to domestic banks, such
as reserve requirements, loan limitations, examinations, accounting, auditing,
recordkeeping, and the public availability of information. These factors will be
carefully considered by the Adviser in selecting investments for the Fund.
WARRANTS
Warrants basically are options to purchase common stock at a specific price
(usually at a premium above the market value of the optioned common stock at
issuance) valid for a specific period of time. Warrants may have a life ranging
from less than a year to twenty years or may be perpetual. However, warrants
have expiration dates after which they are worthless. In addition, if the market
price of the common stock does not exceed the warrant's exercise price during
the life of the warrant, the warrant will expire as worthless. Warrants have no
voting rights, pay no dividends, and have no rights with respect to the assets
of the corporation issuing them. The percentage increase or decrease in the
market price of the warrant may tend to be greater than the percentage increase
or decrease in the market price of the optioned common stock.
WHEN-ISSUED AND DELAYED DELIVERY TRANSACTIONS
These transactions are made to secure what is considered to be an advantageous
price or yield for the Fund. No fees or other expenses, other than normal
transaction costs, are incurred. However, liquid assets of the Fund sufficient
to make payment for the securities to be purchased are segregated on the Fund's
records at the trade date. These assets are marked to market daily and are
maintained until the transaction has been settled. The Fund does not intend to
engage in when-issued and delayed delivery transactions to an extent that would
cause the segregation of more than 20% of the total value of its assets.
REPURCHASE AGREEMENTS
The Fund or its custodian will take possession of the securities subject to
repurchase agreements, and these securities will be marked to market daily. To
the extent that the original seller does not repurchase the securities from the
Fund, the Fund could receive less than the repurchase price on any sale of such
securities. In the event that such a defaulting seller filed for bankruptcy or
became insolvent, disposition of such securities by the Fund might be delayed
pending court action. The Fund believes that under the regular procedures
normally in effect for custody of the Fund's portfolio securities subject to
repurchase agreements, a court of competent jurisdiction would rule in favor of
the Fund and allow retention or disposition of such securities. The Fund will
only enter into repurchase agreements with banks and other recognized financial
institutions, such as broker/dealers, which are deemed by the Adviser to be
creditworthy pursuant to guidelines established by the Board of Directors (the
"Directors").
FUTURES AND OPTIONS TRANSACTIONS
The Fund may attempt to hedge all or a portion of its portfolio by buying and
selling financial futures contracts, buying put options on portfolio securities
and listed put options on futures contracts, and writing call options on futures
contracts. The Fund may also write covered call options on portfolio securities
to attempt to increase its current income.
FINANCIAL FUTURES CONTRACTS
A futures contract is a firm commitment by two parties: the seller who agrees to
make delivery of the specific type of security called for in the contract
("going short") and the buyer who agrees to take delivery of the security
("going long") at a certain time in the future. In the fixed-income securities
market, price moves inversely to interest rates. A rise in rates means a drop in
price. Conversely, a drop in rates means a rise in price. In order to hedge its
holdings of fixed-income securities against a rise in market interest rates, the
Fund could enter into contracts to deliver securities at a predetermined price
(i.e., "go short") to protect itself against the possibility that the prices of
its fixed-income securities may decline during the Fund's anticipated holding
period. The Fund would "go long" (agree to purchase securities in the future at
a predetermined price) to hedge against a decline in market interest rates.
PUT OPTIONS ON FINANCIAL FUTURES CONTRACTS
The Fund may purchase listed put options on financial futures contracts. Unlike
entering directly into a futures contract, which requires the purchaser to buy a
financial instrument on a set date at a specified price, the purchase of a put
option on a futures contract entitles (but does not obligate) its purchaser to
decide on or before a future date whether to assume a short position at the
specified price.
The Fund would purchase put options on futures contracts to protect portfolio
securities against decreases in value resulting from an anticipated increase in
market interest rates. Generally, if the hedged portfolio securities decrease in
value during the term of an option, the related futures contracts will also
decrease in value and the option will increase in value. In such an event, the
Fund will normally close out its option by selling an identical option. If the
hedge is successful, the proceeds received by the Fund upon the sale of the
second option will be large enough to offset both the premium paid by the Fund
for the original option plus the decrease in value of the hedged securities.
Alternatively, the Fund may exercise its put option. To do so, it would
simultaneously enter into a futures contract of the type underlying the option
(for a price less than the strike price of the option) and exercise the option.
The Fund would then deliver the futures contract in return for payment of the
strike price. If the Fund neither closes out nor exercises an option, the option
will expire on the date provided in the option contract, and the premium paid
for the contract will be lost.
CALL OPTIONS ON FINANCIAL FUTURES CONTRACTS
In addition to purchasing put options on futures, the Fund may write listed call
options on futures contracts to hedge its portfolio against an increase in
market interest rates. When the Fund writes a call option on a futures contract,
it is undertaking the obligation of assuming a short futures position (selling a
futures contract) at the fixed strike price at any time during the life of the
option if the option is exercised. As market interest rates rise, causing the
prices of futures to go down, the Fund's obligation under a call option on a
future (to sell a futures contract) costs less to fulfill, causing the value of
the Fund's call option position to increase.
In other words, as the underlying futures price goes down below the strike
price, the buyer of the option has no reason to exercise the call, so that the
Fund keeps the premium received for the option. This premium can offset the drop
in value of the Fund's fixed-income portfolio which is occurring as interest
rates rise.
Prior to the expiration of a call written by the Fund, or exercise of it by the
buyer, the Fund may close out the option by buying an identical option. If the
hedge is successful, the cost of the second option will be less than the premium
received by the Fund for the initial option. The net premium income of the Fund
will then offset the decrease in value of the hedged securities.
The Fund will not maintain open positions in futures contracts it has sold or
call options it has written on futures contracts if, in the aggregate, the value
of the open positions (marked to market) exceeds the current market value of its
securities portfolio plus or minus the unrealized gain or loss on those open
positions, adjusted for the correlation of volatility between the hedged
securities and the futures contracts. If this limitation is exceeded at any
time, the Fund will take prompt action to close out a sufficient number of open
contracts to bring its open futures and options positions within this
limitation.
"MARGIN" IN FUTURES TRANSACTIONS
Unlike the purchase or sale of a security, the Fund does not pay or receive
money upon the purchase or sale of a futures contract. Rather, the Fund is
required to deposit an amount of "initial margin" in cash or U.S. Treasury bills
with its custodian (or the broker, if legally permitted). The nature of initial
margin in futures transactions is different from that of margin in securities
transactions in that futures contract initial margin does not involve the
borrowing of funds by the Fund to finance the transactions. Initial margin is in
the nature of a performance bond or good-faith deposit on the contract which is
returned to the Fund upon termination of the futures contract, assuming all
contractual obligations have been satisfied.
A futures contract held by the Fund is valued daily at the official settlement
price of the exchange on which it is traded. Each day the Fund pays or receives
cash, called "variation margin," equal to the daily change in value of the
futures contract. This process is known as "marking to market." Variation margin
does not represent a borrowing or loan by the Fund but is instead settlement
between the Fund and the broker of the amount one would owe the other if the
futures contract expired. In computing its daily net asset value, the Fund will
mark to market its open futures positions.
The Fund is also required to deposit and maintain margin when it writes call
options on futures contracts.
PURCHASING PUT OPTIONS ON PORTFOLIO SECURITIES
The Fund may purchase put options on portfolio securities to protect against
price movements in particular securities in its portfolio. A put option gives
the Fund, in return for a premium, the right to sell the underlying security to
the writer (seller) at a specified price during the term of the option.
WRITING COVERED CALL OPTIONS ON PORTFOLIO SECURITIES
The Fund may also write covered call options to generate income. As writer of a
call option, the Fund has the obligation upon exercise of the option during the
option period to deliver the underlying security upon payment of the exercise
price. The Fund may only sell call options either on securities held in its
portfolio or on securities which it has the right to obtain without payment of
further consideration (or has segregated cash in the amount of any additional
consideration).
RESTRICTED AND ILLIQUID SECURITIES
The Fund expects that any restricted securities would be acquired either from
institutional investors who originally acquired the securities in private
placements or directly from the issuers of the securities in private placements.
Restricted securities and securities that are not readily marketable may sell at
a discount from the price they would bring if freely marketable.
The Directors may consider the following criteria in determining the liquidity
of certain restricted securities:
* the frequency of trades and quotes for the security;
* the number of dealers willing to purchase or sell the security and the
number of other potential buyers;
* dealer undertakings to make a market in the security; and * the nature of
the security and the nature of the marketplace trades.
LENDING OF PORTFOLIO SECURITIES
The collateral received when the Fund lends portfolio securities must be valued
daily and, should the market value of the loaned securities increase, the
borrower must furnish additional collateral to the Fund. During the time
portfolio securities are on loan, the borrower pays the Fund any dividends or
interest paid on such securities. Loans are subject to termination at the option
of the Fund or the borrower. The Fund may pay reasonable administrative and
custodial fees in connection with a loan and may pay a negotiated portion of the
interest earned on the cash or equivalent collateral to the borrower or placing
broker. The Fund does not have the right to vote securities on loan, but would
terminate the loan and regain the right to vote if that were considered
important with respect to the investment.
REVERSE REPURCHASE AGREEMENTS
The Fund may also enter into reverse repurchase agreements. This transaction is
similar to borrowing cash. In a reverse repurchase agreement the Fund transfers
possession of a portfolio instrument to another person, such as a financial
institution, broker, or dealer, in return for a percentage of the instrument's
market value in cash, and agrees that on a stipulated date in the future the
Fund will repurchase the portfolio instrument by remitting the original
consideration plus interest at an agreed upon rate. The use of reverse
repurchase agreements may enable the Fund to avoid selling portfolio instruments
at a time when a sale may be deemed to be disadvantageous, but the ability to
enter into reverse repurchase agreements does not ensure that the Fund will be
able to avoid selling portfolio instruments at a disadvantageous time.
When effecting reverse repurchase agreements, liquid assets of the Fund, in a
dollar amount sufficient to make payment for the obligations to be purchased,
are segregated at the trade date. These securities are marked to market daily
and maintained until the transaction is settled.
PORTFOLIO TURNOVER
The Fund will not attempt to set or meet a portfolio turnover rate since any
turnover would be incidental to transactions undertaken in an attempt to achieve
the Fund's investment objective. Securities in the Fund's portfolio will be sold
whenever the Adviser believes it is appropriate to do so in light of the Fund's
investment objective, without regard to the length of time a particular security
may have been held. The Adviser does not anticipate that portfolio turnover will
result in adverse tax consequences. Any such trading will increase the Fund's
portfolio turnover rate and transaction costs. For the fiscal years ended March
31, 1997 and 1996, the portfolio turnover rates were 75% and 96%, respectively.
INVESTING IN SECURITIES OF OTHER INVESTMENT COMPANIES
The Fund may invest in the securities of affiliated money market funds as an
efficient means of managing the Fund's uninvested cash.
INVESTMENT LIMITATIONS
BUYING ON MARGIN
The Fund will not purchase any securities on margin but may obtain such
short-term credits as are necessary for clearance of transactions. The deposit
or payment by the Fund of initial or variation margin in connection with
financial futures contracts or related options transactions is not considered
the purchase of a security on margin.
SELLING SHORT
The Fund will not sell securities short unless during the time the short
position is open, it owns an equal amount of the securities sold or securities
readily and freely convertible into or exchangeable, without payment of
additional consideration, for securities of the same issue as, and equal in
amount to, the securities sold short; and not more than 10% of the Fund's net
assets (taken at current value) is held as collateral for such sales at any one
time.
ISSUING SENIOR SECURITIES AND BORROWING MONEY
The Fund will not issue senior securities except that the Fund may borrow money
and engage in reverse repurchase agreements in amounts up to one-third of the
value of its total assets, including the amounts borrowed.
The Fund will not borrow money or engage in reverse repurchase agreements for
investment leverage, but rather as a temporary, extraordinary, or emergency
measure or to facilitate management of the portfolio by enabling the Fund to
meet redemption requests when the liquidation of portfolio securities is deemed
to be inconvenient or disadvantageous. The Fund will not purchase any securities
while any borrowings are outstanding.
PLEDGING ASSETS
The Fund will not mortgage, pledge, or hypothecate any assets except to secure
permitted borrowings. In those cases, it may pledge assets having a market value
not exceeding the lesser of the dollar amounts borrowed or 10% of the value of
total assets at the time of the borrowing. Margin deposits for the purchase and
sale of financial futures contracts and related options are not deemed to be a
pledge.
INVESTING IN MINERALS OR REAL ESTATE
The Fund will not invest in oil, gas, or other mineral exploration or
development programs, or real estate, except that it may purchase portfolio
instruments issued by companies that invest in or sponsor such interests.
INVESTING IN COMMODITIES
The Fund will not purchase or sell commodities, except that the Fund may
purchase and sell financial futures contracts and related options.
INVESTING IN RESTRICTED SECURITIES
The Fund will not invest more than 10% of its net assets in securities subject
to restrictions on resale under federal securities law (except for commercial
paper issued under Section 4(2) of the Securities Act of 1933).
UNDERWRITING
The Fund will not underwrite any issue of securities, except as it may be deemed
to be an underwriter under the Securities Act of 1933 in connection with the
sale of restricted securities which the Fund may purchase pursuant to its
investment objectives, policies, and limitations.
LENDING CASH OR SECURITIES
The Fund will not lend any of its assets except portfolio securities up to
one-third of the value of its total assets. This shall not prevent the purchase
or holding of corporate bonds, debentures, notes, certificates of indebtedness
or other debt securities of an issuer, repurchase agreements, or other
transactions which are permitted by the Fund's investment objectives and
policies.
CONCENTRATION OF INVESTMENTS
The Fund will not purchase portfolio instruments if, as a result of such
purchase, 25% or more of the value of its total assets would be invested in any
one industry.
DIVERSIFICATION OF INVESTMENTS
The Fund will not invest more than 5% of the value of its total assets in
securities of one issuer (except cash and cash items, repurchase agreements, and
U.S. government obligations) or acquire more than 10% of any class of voting
securities of any issuer. For these purposes, the Fund takes all common stock
and all preferred stock of an issuer each as a single class, regardless of
priorities, series, designations, or other differences.
The above investment limitations cannot be changed without shareholder approval.
The following limitations, however, may be changed by the Directors without
shareholder approval. Shareholders will be notified before any material change
in these limitations becomes effective.
ARBITRAGE TRANSACTIONS
The Fund will not engage in arbitrage transactions.
ACQUIRING SECURITIES
The Fund will not purchase securities of a company for the purpose of exercising
control or management. However, the Fund may purchase up to 10% of the voting
securities of any one issuer and may exercise its voting powers consistent with
the best interests of the Fund. In addition, the Fund, other companies advised
by the Adviser, and other affiliated companies may together buy and hold
substantial amounts of voting stock of a company and may vote together in regard
to such company's affairs. In some cases, the Fund and its affiliates might
collectively be considered to be in control of such company. In some cases,
Directors and other persons associated with the Fund and its affiliates might
possibly become directors of companies in which the Fund holds stock.
WRITING COVERED CALL OPTIONS AND PURCHASING PUT OPTIONS
The Fund will not write call options on securities unless the securities are
held in the Fund's portfolio or unless the Fund is entitled to them in
deliverable form without further payment or after segregating cash in the amount
of any further payment. The Fund will not purchase put options on securities
unless the securities are held in the Fund's portfolio. The Fund will not commit
more than 5% of the value of its total assets to premiums on open option
positions.
INVESTING IN ILLIQUID SECURITIES
The Fund will not invest more than 15% of its net assets in illiquid securities,
including certain restricted securities (except for Section 4(2) commercial
paper and restricted securities which the Adviser believes can be sold within
seven days), non-negotiable time deposits in repurchase agreements providing for
settlement in more than seven days after notice.
Except with respect to borrowing money, if a percentage limitation is adhered to
at the time of investment, a later increase or decrease in percentage resulting
from any change in value or net assets will not result in a violation of such
restriction.
The Fund did not borrow money, invest in reverse repurchase agreements, pledge
securities, or sell securities short in excess of 5% of the value of its total
assets during the last fiscal year and has no present intention to do so in the
current fiscal year.
For purposes of its policies and limitations, the Fund considers certificates of
deposit and demand and time deposits issued by a U.S. branch of a domestic bank
or savings association having capital, surplus, and undivided profits in excess
of $100,000,000 at the time of investment to be "cash items."
FEDERATED EQUITY INCOME FUND, INC. MANAGEMENT
Officers and Directors are listed with their addresses, birthdates, present
positions with Federated Equity Income Fund, Inc., and principal occupations.
John F. Donahue@*
Federated Investors Tower
Pittsburgh, PA
Birthdate: July 28, 1924
Chairman and Director
Chairman and Trustee, Federated Investors, Federated Advisers, Federated
Management, and Federated Research; Chairman and Director, Federated
Research Corp. and Federated Global Research Corp.; Chairman, Passport
Research, Ltd.; Chief Executive Officer and Director or Trustee of the
Funds. Mr. Donahue is the father of J. Christopher Donahue, Executive Vice
President of the Company.
Thomas G. Bigley
15 Old Timber Trail
Pittsburgh, PA
Birthdate: February 3, 1934
Director
Chairman of the Board, Children's Hospital of Pittsburgh; formerly, Senior
Partner, Ernst & Young LLP; Director, MED 3000 Group, Inc.; Director, Member of
Executive Committee, University of Pittsburgh; Director or Trustee of the Funds.
John T. Conroy, Jr.
Wood/IPC Commercial Department
John R. Wood and Associates, Inc., Realtors
3255 Tamiami Trail North
Naples, FL
Birthdate: June 23, 1937
Director
President, Investment Properties Corporation; Senior Vice-President, John R.
Wood and Associates, Inc., Realtors; Partner or Trustee in private real
estate ventures in Southwest Florida; formerly, President, Naples Property
Management, Inc. and Northgate Village Development Corporation; Director or
Trustee of the Funds.
William J. Copeland
One PNC Plaza--23rd Floor
Pittsburgh, PA
Birthdate: July 4, 1918
Director
Director and Member of the Executive Committee, Michael Baker, Inc.; formerly,
Vice Chairman and Director, PNC Bank, N.A., and PNC Bank Corp.; Director, Ryan
Homes, Inc.; Director or Trustee of the Funds.
James E. Dowd
571 Hayward Mill Road
Concord, MA
Birthdate: May 18, 1922
Director
Attorney-at-law; Director, The Emerging Germany Fund, Inc.; Director or
Trustee of the Funds.
Lawrence D. Ellis, M.D.*
3471 Fifth Avenue, Suite 1111
Pittsburgh, PA
Birthdate: October 11, 1932
Director
Professor of Medicine, University of Pittsburgh; Medical Director, University of
Pittsburgh Medical Center - Downtown; Member, Board of Directors, University of
Pittsburgh Medical Center; formerly, Hematologist, Oncologist, and Internist,
Presbyterian and Montefiore Hospitals; Director or Trustee of the Funds.
Edward L. Flaherty, Jr.@
Miller, Ament, Henny & Kochuba
205 Ross Street
Pittsburgh, PA
Birthdate: June 18, 1924
Director
Attorney of Counsel, Miller, Ament, Henny & Kochuba; Director, Eat'N Park
Restaurants, Inc.; formerly, Counsel, Horizon Financial, F.A., Western
Region; Director or Trustee of the Funds.
Peter E. Madden
One Royal Palm Way
100 Royal Palm Way
Palm Beach, FL
Birthdate: March 16, 1942
Director
Consultant; Former State Representative, Commonwealth of Massachusetts;
formerly, President, State Street Bank and Trust Company and State Street Boston
Corporation; Director or Trustee of the Funds.
Gregor F. Meyer
203 Kensington Ct.
Pittsburgh, PA
Birthdate: October 6, 1926
Director
Attorney, Retired Member of Miller, Ament, Henny & Kochuba; Chairman,
Meritcare, Inc.; Director, Eat'N Park Restaurants, Inc.; Director or Trustee
of the Funds.
John E. Murray, Jr., J.D., S.J.D.
President, Duquesne University
Pittsburgh, PA
Birthdate: December 20, 1932
Director
President, Law Professor, Duquesne University; Consulting Partner, Mollica &
Murray; Director or Trustee of the Funds.
Wesley W. Posvar
1202 Cathedral of Learning
University of Pittsburgh
Pittsburgh, PA
Birthdate: September 14, 1925
Director
Professor, International Politics; Management Consultant; Trustee, Carnegie
Endowment for International Peace, RAND Corporation, Online Computer Library
Center, Inc., National Defense University and U.S. Space Foundation; President
Emeritus, University of Pittsburgh; Founding Chairman, National Advisory Council
for Environmental Policy and Technology, Federal Emergency Management Advisory
Board and Czech Management Center, Prague; Director or Trustee of the Funds.
Marjorie P. Smuts
4905 Bayard Street
Pittsburgh, PA
Birthdate: June 21, 1935
Director
Public Relations/Marketing/Conference Planning; Director or Trustee of the
Funds.
Richard B. Fisher
Federated Investors Tower
Pittsburgh, PA
Birthdate: May 17, 1923
President
Executive Vice President and Trustee, Federated Investors; Chairman and
Director, Federated Securities Corp.; President or Vice President of some of
the Funds; Director or Trustee of some of the Funds.
J. Christopher Donahue
Federated Investors Tower
Pittsburgh, PA
Birthdate: April 11, 1949
Executive Vice President
President and Trustee, Federated Investors, Federated Advisers, Federated
Management, and Federated Research; President and Director, Federated
Research Corp. and Federated Global Research Corp.; President, Passport
Research, Ltd.; Trustee, Federated Shareholder Services Company, and
Federated Shareholder Services; Director, Federated Services Company;
President or Executive Vice President of the Funds; Director or Trustee of
some of the Funds. Mr. Donahue is the son of John F. Donahue, Chairman and
Director of the Company.
Edward C. Gonzales
Federated Investors Tower
Pittsburgh, PA
Birthdate: October 22, 1930
Executive Vice President
Vice Chairman, Treasurer, and Trustee, Federated Investors; Vice President,
Federated Advisers, Federated Management, Federated Research, Federated Research
Corp., Federated Global Research Corp. and Passport Research, Ltd.; Executive
Vice President and Director, Federated Securities Corp.; Trustee, Federated
Shareholder Services Company; Trustee or Director of some of the Funds;
President, Executive Vice President and Treasurer of some of the Funds.
John W. McGonigle
Federated Investors Tower
Pittsburgh, PA
Birthdate: October 26, 1938
Executive Vice President, Secretary, and Treasurer
Executive Vice President, Secretary, and Trustee, Federated Investors; Trustee,
Federated Advisers, Federated Management, and Federated Research; Director,
Federated Research Corp. and Federated Global Research Corp.; Trustee, Federated
Shareholder Services Company; Director, Federated Services Company; President
and Trustee, Federated Shareholder Services; Director, Federated Securities
Corp.; Executive Vice President and Secretary of the Funds; Treasurer of some of
the Funds.
* This Director is deemed to be an "interested person" as defined in the
Investment Company Act of 1940.
@ Member of the Executive Committee. The Executive Committee of the Board of
Directors handles the responsibilities of the Board between meetings of the
Board.
As used in the table above, "The Funds" and "Funds" mean the following
investment companies: 111 Corcoran Funds; Arrow Funds; Automated Government
Money Trust; Blanchard Funds; Blanchard Precious Metals Fund, Inc.; Cash Trust
Series II; Cash Trust Series, Inc.; DG Investor Series; Edward D. Jones & Co.
Daily Passport Cash Trust; Federated Adjustable Rate U.S. Government Fund, Inc.;
Federated American Leaders Fund, Inc.; Federated ARMs Fund; Federated Equity
Funds; Federated Equity Income Fund, Inc.; Federated Fund for U.S. Government
Securities, Inc.; Federated GNMA Trust; Federated Government Income Securities,
Inc.; Federated Government Trust; Federated High Income Bond Fund, Inc.;
Federated High Yield Trust; Federated Income Securities Trust; Federated Income
Trust; Federated Index Trust; Federated Institutional Trust; Federated Insurance
Series; Federated Investment Portfolios; Federated Investment Trust; Federated
Master Trust; Federated Municipal Opportunities Fund, Inc.; Federated Municipal
Securities Fund, Inc.; Federated Municipal Trust; Federated Short-Term Municipal
Trust; Federated Short-Term U.S. Government Trust; Federated Stock and Bond
Fund, Inc.; Federated Stock Trust; Federated Tax-Free Trust; Federated Total
Return Series, Inc.; Federated U.S. Government Bond Fund; Federated U.S.
Government Securities Fund: 1-3 Years; Federated U.S. Government Securities
Fund: 2-5 Years; Federated U.S. Government Securities Fund: 5-10 Years;
Federated Utility Fund, Inc.; First Priority Funds; Fixed Income Securities,
Inc.; High Yield Cash Trust; Intermediate Municipal Trust; International Series,
Inc.; Investment Series Funds, Inc.; Investment Series Trust; Liberty Term
Trust, Inc.--1999; Liberty U.S. Government Money Market Trust; Liquid Cash
Trust; Managed Series Trust; Money Market Management, Inc.; Money Market
Obligations Trust; Money Market Obligations Trust II; Money Market Trust;
Municipal Securities Income Trust; Newpoint Funds; Peachtree Funds; RIMCO
Monument Funds; Targeted Duration Trust; Tax-Free Instruments Trust; The
Planters Funds; The Starburst Funds; The Starburst Funds II; The Virtus Funds;
Trust for Financial Institutions; Trust for Government Cash Reserves; Trust for
Short-Term U.S. Government Securities; Trust for U.S. Treasury Obligations;
Wesmark Funds; and World Investment Series, Inc.
FUND OWNERSHIP
As of July 7, 1997, the following shareholder of record owned 5% or more of the
outstanding Class A Shares of the Fund: Merrill Lynch Pierce Fenner & Smith (as
record owner holding Class A Shares for its clients), Jacksonville, Florida,
owned approximately 1,859,539 Class A Shares (5.84%).
As of July 7, 1997, the following shareholder of record owned 5% or more of the
outstanding Class A Shares of the Fund: Sheldon & Co., National City Bank,
Cleveland, Ohio, owned approximately 2,413,236 Class A Shares (7.57%).
As of July 7, 1997, the following shareholder of record owned 5% or more of the
outstanding Class B Shares of the Fund: Merrill Lynch Pierce Fenner & Smith (as
record owner holding Class B Shares for its clients), Jacksonville, Florida,
owned approximately 2,701,139 Class B Shares (8.11%).
As of July 7, 1997, the following shareholder of record owned 5% or more of the
outstanding Class C Shares of the Fund: Merrill Lynch Pierce Fenner & Smith (as
record owner holding Class C Shares for its clients), Jacksonville, Florida,
owned approximately 3,046,357 Class C Shares
(43.88%).
As of July 7, 1997, the following shareholder of record owned 5% or more of the
outstanding Class F Shares of the Fund: Merrill Lynch Pierce Fenner & Smith (as
record owner holding Class F Shares for its clients), Jacksonville, Florida,
owned approximately 1,331,590 Class F Shares
(22.36%).
DIRECTOR COMPENSATION
AGGREGATE
NAME, COMPENSATION
POSITION WITH FROM TOTAL COMPENSATION PAID
FUND FUND*# FROM FUND COMPLEX+
John F. Donahue, $0 $0 for the Fund and
Chairman and Director 56 other investment companies in
the Fund Complex
J. Christopher Donahue, $0 $0 for the Fund and
Executive Vice President 18 other investment companies in
and Director the Fund Complex
Thomas G. Bigley, $1,426.98 $108,725 for the Fund and
Director 56 other investment companies in
the Fund Complex
John T. Conroy, Jr., $1,569.91 $119,615 for the Fund and
Director 56 other investment companies in
the Fund Complex
William J. Copeland, $1,569.91 $119,615 for the Fund and
Director 56 other investment companies in
the Fund Complex
James E. Dowd, $1,569.91 $119,615 for the Fund and
Director 56 other investment companies in
the Fund Complex
Lawrence D. Ellis, M.D., $1,426.98 $108,725 for the Fund and
Director 56 other investment companies in
the Fund Complex
Edward L. Flaherty, Jr., $1,569.91 $119,615 for the Fund and
Director 56 other investment companies in
the Fund Complex
Peter E. Madden, $1,426.98 $108,725 for the Fund and
Director 56 other investment companies in
the Fund Complex
Gregor F. Meyer, $1,426.98 $108,725 for the Fund and
Director 56 other investment companies in
the Fund Complex
John E. Murray, Jr., $1,426.98 $108,725 for the Fund and
Director 56 other investment companies in
the Fund Complex
Wesley W. Posvar, $1,426.98 $108,725 for the Fund and
Director 56 other investment companies in
the Fund Complex
Marjorie P. Smuts, $1,426.98 $108,725 for the Fund and
Director 56 other investment companies in
the Fund Complex
* Information is furnished for the fiscal year ended March 31, 1997.
# The aggregate compensation is provided for the Corporation which was comprised
of one portfolio, as of March 31, 1997.
+ The information is provided for the last calendar year.
DIRECTOR LIABILITY
The Articles of Incorporation provide that the Directors will not be liable for
errors of judgment or mistakes of fact or law. However, they are not protected
against any liability to which they would otherwise be subject by reason of
willful misfeasance, bad faith, gross negligence, or reckless disregard of the
duties involved in the conduct of their office.
INVESTMENT ADVISORY SERVICES
ADVISER TO THE FUND
The Fund's investment Adviser is Federated Advisers. It is a subsidiary of
Federated Investors. All the voting securities of Federated Investors are
owned by a trust, the trustees of which are John F. Donahue, his wife, and
his son, J. Christopher Donahue.
The Adviser shall not be liable to the Fund or any shareholder for any losses
that may be sustained in the purchase, holding, or sale of any security or for
anything done or omitted by it, except acts or omissions involving willful
misfeasance, bad faith, gross negligence, or reckless disregard of the duties
imposed upon it by its contract with the Fund.
ADVISORY FEES
For its advisory services, the Adviser receives an annual investment advisory
fee as described in the respective prospectuses. During the fiscal years ended
March 31, 1997, 1996, and 1995, the Fund's Adviser earned $4,100,883,
$1,573,643, and $960,072, respectively, of which $0, $418,318, and $570,904,
respectively, were voluntarily waived because of undertakings to limit the
Fund's expenses.
BROKERAGE TRANSACTIONS
The Adviser may select brokers and dealers who offer brokerage and research
services. These services may be furnished directly to the Fund or to the Adviser
and may include: advice as to the advisability of investing in securities;
security analysis and reports; economic studies; industry studies; receipt of
quotations for portfolio evaluations; and similar services. Research services
provided by brokers and dealers may be used by the Adviser or its affiliates in
advising the Fund and other accounts. To the extent that receipt of these
services may supplant services for which the Adviser or its affiliates might
otherwise have paid, it would tend to reduce their expenses. The Adviser and its
affiliates exercise reasonable business judgment in selecting brokers who offer
brokerage and research services to execute securities transactions. They
determine in good faith that commissions charged by such persons are reasonable
in relationship to the value of the brokerage and research services provided.
During the fiscal years ended March 31, 1997, 1996, and 1995, the Fund paid
total brokerage commissions of $1,109,630, $611,535, and $363,114, respectively.
Although investment decisions for the Fund are made independently from those of
the other accounts managed by the Adviser, investments of the type the Fund may
make may also be made by those other accounts. When the Fund and one or more
other accounts managed by the Adviser are prepared to invest in, or desire to
dispose of, the same security, available investments or opportunities for sales
will be allocated in a manner believed by the Adviser to be equitable to each.
In some cases, this procedure may adversely affect the price paid or received by
the Fund or the size of the position obtained or disposed of by the Fund. In
other cases, however, it is believed that coordination and the ability to
participate in volume transactions will be to the benefit of the Fund.
OTHER SERVICES
FUND ADMINISTRATION
Federated Services Company, a subsidiary of Federated Investors, provides
administrative personnel and services to the Fund for a fee as described in the
respective prospectuses. From March 1, 1994, to March 1, 1996, Federated
Administrative Services, a subsidiary of Federated Investors, served as the
Fund's Administrator. For purposes of this Statement of Additional Information,
Federated Services Company and Federated Administrative Services may hereinafter
collectively be referred to as the "Administrators." For the fiscal years ended
March 31, 1997, 1996, and 1995, the Administrators earned $516,371, $214,999,
and $200,945, respectively.
CUSTODIAN AND PORTFOLIO ACCOUNTANT
State Street Bank and Trust Company, Boston, MA, is custodian for the securities
and cash of the Fund. Federated Services Company, Pittsburgh, PA, provides
certain accounting and recordkeeping services with respect to the Fund's
portfolio investments. The fee paid for this service is based upon the level of
the Fund's average net assets for the period plus out-of-pocket expenses.
TRANSFER AGENT
Federated Services Company, through it registered transfer agent, Federated
Shareholder Services Company, maintains all necessary shareholder records. For
its services, the transfer agent receives a fee based on the size, type and
number of accounts and transactions made by shareholders.
INDEPENDENT AUDITORS
The independent auditors for the Fund are Ernst & Young LLP, Pittsburgh, PA.
PURCHASING SHARES
Except under certain circumstances described in the respective prospectuses,
Shares are sold at their net asset value (plus a sales charge on Class A Shares
and Class F Shares only) on days the New York Stock Exchange is open for
business. The procedure for purchasing Shares is explained in the respective
prospectuses under "Investing in the Fund" and "Purchasing Shares."
QUANTITY DISCOUNTS AND ACCUMULATED PURCHASES
As described in the prospectuses, larger purchases reduce or eliminate the sales
charge paid. The Fund will combine purchases of Class A Shares and Class F
Shares made on the same day by the investor, the investor's spouse, and the
investor's children under age 21 when it calculates the sales charge. In
addition, the sales charge, if applicable, is reduced for purchases made at one
time by a trustee or fiduciary for a single trust estate or a single fiduciary
account.
If an additional purchase of Class A Shares and Class F Shares is made, the Fund
will consider the previous purchases still invested in the Fund. For example, if
a shareholder already owns Class A Shares having a current value at the public
offering price of $90,000 and he purchases $10,000 more at the current public
offering price, the sales charge on the additional purchase according to the
schedule now in effect would be 3.75%, not 4.50%.
In addition, the Fund will also combine purchases for the purpose of reducing
the contingent deferred sales charge imposed on Class F Share redemptions. For
example, if a shareholder already owns Class F Shares having current value at
the public offering price of $1 million and purchases an additional $1 million
at the current public offering price, the applicable contingent deferred sales
charge would be reduced to 0.50% of those additional Class F Shares.
To receive the sales charge reduction, Federated Securities Corp. must be
notified by the shareholder in writing or by his financial intermediary at the
time the purchase is made that Class A Shares or Class F Shares are already
owned or that purchases are being combined. The Fund will reduce or eliminate
the sales charge after it confirms the purchases.
CONCURRENT PURCHASES
For purposes of qualifying for a sales charge reduction or elimination, a
shareholder has the privilege of combining concurrent purchases of Class A
Shares or Class F Shares of two or more funds for which affiliates of Federated
Investors serve as investment adviser and principal underwriter (the "Federated
Funds"), the purchase prices of which include a sales charge. For example, if a
shareholder concurrently invested $30,000 in the Class A Shares of one of the
other Federated Funds with a sales charge, and $20,000 in this Fund, the sales
charge would be reduced.
To receive this sales charge reduction or elimination, Federated Securities
Corp. must be notified by the shareholder in writing or by his financial
intermediary at the time the concurrent purchases are made. The Fund will reduce
or eliminate the sales charge after it confirms the purchases.
LETTER OF INTENT
If a shareholder intends to purchase at least $50,000 of Class A Shares or at
least $1 million of Class F Shares of Federated Funds (excluding money market
funds) over the next 13 months, the sales charge may be reduced by signing a
letter of intent to that effect. This letter of intent includes a provision for
a sales charge adjustment depending on the amount actually purchased within the
13-month period and a provision for the custodian to hold up to 5.50% (in the
case of Class A Shares) or 1.00% (in the case of Class F Shares) of the total
amount intended to be purchased in escrow (in Shares) until such purchase is
completed.
The Shares held in escrow in the shareholder's account will be released upon
fulfillment of the letter of intent or the end of the 13-month period, whichever
comes first. If the amount specified in the letter of intent is not purchased,
an appropriate number of escrowed Shares may be redeemed in order to realize the
sales charge.
The letter of intent for Class F Shares also includes a provision for reductions
in the contingent deferred sales charge and holding period depending on the
amount actually purchased within the 13-month period.
While this letter of intent will not obligate the shareholder to purchase Class
A Shares or Class F Shares, each purchase during the period will be at the sales
charge applicable to the total amount intended to be purchased. At the time a
letter of intent is established, current balances in accounts in any Class A
Shares or Class F Shares of any Federated Funds, excluding money market
accounts, will be aggregated to provide a purchase credit towards fulfillment of
the letter of intent. The letter may be dated as of a prior date to include any
purchase made within the past 90 days. Prior trade prices will not be adjusted.
REINVESTMENT PRIVILEGE
The reinvestment privilege is available for all Shares of the Fund. If Class A
Shares in the Fund have been redeemed, the shareholder has the privilege, within
120 days, to reinvest the redemption proceeds at the next-determined net asset
value without any sales charge. Similarly, shareholders who redeem Class B
Shares, Class C Shares or Class F Shares may be reinvested in the same Share
class within 120 days but would not be entitled to a reimbursement of the
contingent deferred sales charge if paid at the time of redemption. However,
such reinvested shares would not be subject to a contingent deferred sales
charge upon later redemption. In addition, if the Class B, Class C or Class F
Shares were reinvested through a financial intermediary, the financial
intermediary would not be entitled to an advanced payment from Federated
Securities Corp. on the reinvested Shares. Federated Securities Corp. must be
notified by the shareholder in writing or by his financial intermediary of the
reinvestment in order to eliminate a sales charge or a contingent deferred sales
charge. If the shareholder redeems Shares in the Fund, there may be tax
consequences.
CONVERSION OF CLASS B SHARES
Class B Shares will automatically convert into Class A Shares on or around the
15th of the month eight full years from the purchase date and will no longer be
subject to a fee under the distribution plan. For purposes of conversion to
Class A Shares, Shares purchased through the reinvestment of dividends and
distributions paid on Class B Shares will be considered to be held in a separate
sub-account. Each time any Class B Shares in the shareholder's account (other
than those in the sub-account) convert to Class A Shares, an equal pro rata
portion of the Class B Shares in the sub-account will also convert to Class A
Shares. The conversion of Class B Shares to Class A Shares is subject to the
continuing availability of a ruling from the Internal Revenue Service or an
opinion of counsel that such conversions will not constitute taxable events for
federal tax purposes. There can be no assurance that such ruling or opinion will
be available, and the conversion of Class B Shares to Class A Shares will not
occur if such a ruling or opinion is not available. In such event, Class B
Shares would continue to be subject to higher expenses than Class A Shares for
an indefinite period.
DISTRIBUTION PLAN AND SHAREHOLDER SERVICES
With respect to all classes of Shares, the Fund has adopted a Distribution Plan
in accordance with Investment Company Act Rule 12b-1. Additionally, the Fund has
adopted a Shareholder Services Agreement with respect to all classes of Shares.
These arrangements permit the payment of fees to financial institutions, the
distributor, and Federated Shareholder Services, to stimulate distribution
activities and to cause services to be provided to shareholders by a
representative who has knowledge of the shareholder's particular circumstances
and goals. These activities and services may include, but are not limited to:
marketing efforts; providing office space, equipment, telephone facilities, and
various clerical, supervisory, computer, and other personnel as necessary or
beneficial to establish and maintain shareholder accounts and records;
processing purchase and redemption transactions and automatic investments of
client account cash balances; answering routine client inquiries; and assisting
clients in changing dividend options, account designations, and addresses.
By adopting the Distribution Plan, the Directors expects that the Fund will be
able to achieve a more predictable flow of cash for investment purposes and to
meet redemptions. This will facilitate more efficient portfolio management and
assist the Fund in pursuing its investment objectives. By identifying potential
investors whose needs are served by the Fund's objectives, and properly
servicing these accounts, it may be possible to curb sharp fluctuations in rates
of redemptions and sales.
Other benefits, which may be realized under either arrangement, may include: (1)
providing personal services to shareholders; (2) investing shareholder assets
with a minimum of delay and administrative detail; (3) enhancing shareholder
recordkeeping systems; and (4) responding promptly to shareholders' requests and
inquiries concerning their accounts.
For the fiscal year ended March 31, 1997, payment in the amounts of $1,645,601
(Class B Shares), $556,995 (Class C Shares) and $176,501 (Class F Shares), were
made pursuant to the Distribution Plans. The Fund is not currently making
payments under the Distribution Plan for Class A Shares, nor does it anticipate
doing so in the immediate future. In addition, for the fiscal year ended March
31, 1997, payment in the amounts of $798,002 (Class A Shares), $548,534 (Class B
Shares), $185,665 (Class C Shares), and $176,501 (Class F Shares), was made
pursuant to the Shareholder Services Agreement, of which $127,680 (Class A
Shares), $0 (Class B Shares), $0 (Class C Shares), and $7,703 (Class F Shares)
was waived.
CONVERSION TO FEDERAL FUNDS
It is the Fund's policy to be as fully invested as possible so that maximum
interest may be earned. To this end, all payments from shareholders must be in
federal funds or be converted into federal funds before shareholders begin to
earn dividends. Federated Shareholders Services acts as the shareholder's agent
in depositing checks and converting them to federal funds.
PURCHASES BY SALES REPRESENTATIVES, FUND DIRECTORS, AND EMPLOYEES
The following individuals and their immediate family members may buy Class A
Shares and Class F Shares at net asset value without a sales charge:
* Directors, employees, and sales representatives of the Fund, Federated
Advisers, and Federated Securities Corp. and its affiliates;
* Federated Life Members (Class A Shares only); and
* any associated person of an investment dealer who has a sales agreement
with Federated Securities Corp. Shares may also be sold without a sales
charge to trusts, pensions, or profit-sharing plans for these individuals.
These sales are made with the purchaser's written assurance that the purchase is
for investment purposes and that the securities will not be resold except
through redemption by the Fund.
EXCHANGING SECURITIES FOR FUND SHARES
Investors may exchange convertible securities they already own for Shares, or
they may exchange a combination of convertible securities and cash for Shares.
Any securities to be exchanged must meet the investment objective and policies
of the Fund, must have a readily ascertainable market value, and must not be
subject to restrictions on resale.
The Fund will prepare a list of securities which are eligible for acceptance and
furnish this list to brokers upon request. The Fund reserves the right to reject
any security, even though it appears on the list, and the right to amend the
list of acceptable securities at any time without notice to brokers or
investors.
An investment broker acting for an investor should forward the securities in
negotiable form with an authorized letter of transmittal to Federated Securities
Corp. Federated Securities Corp. will determine that transmittal papers are in
good order and will forward them to the Fund's custodian, State Street Bank and
Trust Company. The Fund will notify the broker of its acceptance and valuation
of the securities within five business days of their receipt by State Street
Bank and Trust Company.
The Fund values such securities in the same manner as the Fund values its
portfolio securities. The basis of the exchange will depend upon the net asset
value of Shares on the day the securities are valued. One Share will be issued
for each equivalent amount of securities accepted.
Any interest earned on the securities prior to the exchange will be considered
in valuing the securities. All interest, dividends, subscription, conversion, or
other rights attached to the securities become the property of the Fund, along
with the securities.
TAX CONSEQUENCES
Exercise of this exchange privilege is treated as a sale for federal income tax
purposes. Depending upon the cost basis of the securities exchanged for Shares,
a gain or loss may be realized by the investor.
DETERMINING NET ASSET VALUE
The Fund's net asset value per Share fluctuates and is based on the market value
of all securities and other assets of the Fund. The net asset value for each
class of Shares may differ due to the variance in daily net income realized by
each class.
Net asset value is not determined on (i) days on which there are not sufficient
changes in the value of the Fund's portfolio securities that its net asset value
might be materially affected; (ii) days during which no Shares are tendered for
redemption and no orders to purchase Shares are received; or (iii) the following
holidays: New Year's Day, Martin Luther King Day, President's Day, Good Friday,
Memorial Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day.
DETERMINING MARKET VALUE OF SECURITIES
Market values of the Fund's portfolio securities are determined as follows:
* according to the last sale price on a national securities exchange, if
available, or on the basis of prices provided by an independent pricing
service;
* for most short-term obligations, according to the average of the last offer
to buy and the last offer to sell the security, as provided by independent
pricing services;
* for options traded in the over-the-counter market, according to the mean
between the last bid and the last asked price for the option as provided by
an investment dealer or other financial institution that deals in the
option;
* for short-term obligations with remaining maturities of 60 days or less
at the time of purchase, at amortized cost; or
* at fair value as determined in good faith by the Directors.
Prices provided by independent pricing services may be determined without
relying exclusively on quoted prices and may consider yield, quality, coupon
rate, maturity, type of issue, trading characteristics, and other market data.
REDEEMING SHARES
The Fund redeems Shares at the next computed net asset value after the Fund
receives the redemption request. Shareholder redemptions may be subject to a
contingent deferred sales charge. Redemption procedures are explained in the
respective prospectuses under "Redeeming and Exchanging Shares." Although the
transfer agent does not charge for telephone redemptions, it reserves the right
to charge a fee for the cost of wire-transferred redemptions of less than
$5,000.
REDEMPTION IN KIND
Although the Fund intends to redeem Shares in cash, it reserves the right under
certain circumstances to pay the redemption price in whole or in part by a
distribution of securities from the Fund's portfolio.
Redemption in kind will be made in conformity with applicable SEC rules, taking
such securities at the same value employed in determining net asset value and
selecting the securities in a manner the Directors determine to be fair and
equitable.
The Fund has elected to be governed by Rule 18f-1 of the Investment Company Act
of 1940 under which the Fund is obligated to redeem Shares for any shareholder
in cash up to the lesser of $250,000 or 1% of the Fund's net asset value during
any 90-day period.
Redemption in kind is not as liquid as a cash redemption. If redemption is made
in kind, shareholders receiving their securities and selling them before their
maturity could receive less than the redemption value of their securities and
could incur certain transaction costs.
CONTINGENT DEFERRED SALES CHARGE
In computing the amount of the applicable Contingent Deferred Sales Charge,
redemptions are deemed to have occurred in the following order: (1) Shares
acquired through the reinvestment of dividends and long-term capital gains; (2)
Shares held for more than six full years from the date of purchase with respect
to Class B Shares and one full year from the date of purchase with respect to
Class C Shares; (3) Shares held for fewer than six years with respect to Class B
Shares and for less than one full year from the date of purchase with respect to
Class C Shares on a first-in, first-out basis.
ELIMINATION OF THE CONTINGENT DEFERRED SALES CHARGE--CLASS B SHARES
To qualify for elimination of the contingent deferred sales charge through a
Systematic Withdrawal Program, the redemptions of Class B Shares must be from an
account that is at least 12 months old, has all Fund distributions reinvested in
Fund Shares, and has an account value of at least $10,000 when the Systematic
Withdrawal Program is established. Qualifying redemptions may not exceed 1.00%
monthly of the account value as periodically determined by the Fund. The amounts
that a shareholder may withdraw under a Systematic Withdrawal Program that
qualify for elimination of the Contingent Deferred Sales Charge may not exceed
12% annually with reference initially to the value of the Class B Shares upon
establishment of the Systematic Withdrawal Program and then as calculated at the
annual valuation date. Redemptions on a qualifying Systematic Withdrawal Program
can be made at a rate of 1.00% monthly, 3.00% quarterly, or 6.00% semi-annually
with reference to the applicable account valuation amount. Amounts that exceed
the 12.00% annual limit for redemption, as described, may be subject to the
Contingent Deferred Sales Charge. To the extent that a shareholder exchanges
Shares for Class B Shares of other Federated Funds, the time for which the
exchanged-for Shares are to be held will be added to the time for which
exchanged-from Shares were held for purposes of satisfying the 12-month holding
requirement. However, for purposes of meeting the $10,000 minimum account value
requirement, Class B Share accounts will be not be aggregated. Any Shares
purchased prior to the termination of this program would have the contingent
deferred sales charge eliminated as provided in the Fund's prospectus at the
time of the purchase of the Shares.
TAX STATUS
THE FUND'S TAX STATUS
The Fund will pay no federal income tax because it expects to meet the
requirements of Subchapter M of the Internal Revenue Code applicable to
regulated investment companies and to receive the special tax treatment afforded
to such companies. To qualify for this treatment, the Fund must, among other
requirements:
* derive at least 90% of its gross income from dividends, interest, and
gains from the sale of securities;
* derive less than 30% of its gross income from the sale of securities held
less than three months;
* invest in securities within certain statutory limits; and * distribute to
its shareholders at least 90% of its net income earned
during the year.
SHAREHOLDERS' TAX STATUS
Shareholders are subject to federal income tax on dividends and capital gains
received as cash or additional Shares. The dividends received deduction for
corporations will apply to ordinary income distributions to the extent the
distribution represents amounts that would qualify for the dividends received
deduction to the Fund if the Fund were a regular corporation and to the extent
designated by the Fund as so qualifying. These dividends, and any short-term
capital gains, are taxable as ordinary income.
CAPITAL GAINS
Capital gains or losses may be realized on the sale of portfolio securities and
as a result of discounts from par value on securities held to maturity.
Sales would generally be made because of:
* the availability of higher relative yields; * differentials in market
values; * new investment opportunities; * changes in creditworthiness of an
issuer; or * an attempt to preserve gains or limit losses.
Distributions of long-term capital gains are taxed as such, whether they are
taken in cash or reinvested, and regardless of the length of time the
shareholder has owned the Shares. Any loss by a shareholder on Shares held for
less than six months and sold after a capital gains distribution will be treated
as a long-term capital loss to the extent of the capital gains distribution.
TOTAL RETURN
The Fund's average annual total returns based on offering price for the
following periods ended March 31, 1997 were:
<TABLE>
<CAPTION>
DATE OF INITIAL
PUBLIC
SHARE CLASS INVESTMENT ONE-YEAR FIVE-YEARS TEN-YEARS SINCE INCEPTION
<S> <C> <C> <C> <C> <C>
Class A 12/30/86 12.28% 14.72% 12.17% 12.53%
Class B 9/27/94 12.02% -- -- 18.88%
Class C 5/3/93 16.84% -- -- 15.11%
Class F 11/12/93 16.29% -- -- 14.12%
</TABLE>
The average annual total return for all classes of Shares of the Fund is the
average compounded rate of return for a given period that would equate a $1,000
initial investment to the ending redeemable value of that investment. The ending
redeemable value is computed by multiplying the number of Shares owned at the
end of the period by the offering price per Share at the end of the period. The
number of Shares owned at the end of the period is based on the number of Shares
purchased at the beginning of the period with $1,000, less any applicable sales
charge, adjusted over the period by any additional Shares, assuming a quarterly
reinvestment of all dividends and distributions. Any applicable contingent
deferred sales charge is deducted from the ending value of the investments based
on the lesser of the original purchase price or the offering price of Shares
redeemed.
Cumulative total return reflects Class B Shares' total performance over a
specific period of time. This total return assumes and is reduced by the payment
of the maximum sales charge and contingent deferred sales charge, if applicable.
The Class B Shares' total return is representative of only six months of
investment activity since the date of initial public offering.
YIELD
The Fund's yields for the thirty-day period ended March 31, 1997 were:
SHARE CLASS YIELD
Class A 2.28%
Class B 1.60%
Class C 1.60%
Class F 2.10%
The yield for all classes of Shares of the Fund is determined by dividing the
net investment income per Share (as defined by the Securities and Exchange
Commission) earned by any class of Shares over a thirty-day period by the
maximum offering price per Share of any class of Shares on the last day of the
period. This value is then annualized using semi-annual compounding. This means
that the amount of income generated during the thirty-day period is assumed to
be generated each month over a twelve-month period and is reinvested every six
months. The yield does not necessarily reflect income actually earned by any
class of Shares because of certain adjustments required by the Securities and
Exchange Commission and, therefore, may not correlate to the dividends or other
distributions paid to shareholders.
To the extent that financial institutions and broker/dealers charge fees in
connection with services provided in conjunction with an investment in any class
of Shares, the performance will be reduced for those shareholders paying those
fees.
CURRENT DISTRIBUTIONS
Class A Shares', Class B Shares', Class C Shares', and Class F Shares average
net annualized current distributions rate for the thirty days ended March 31,
1997, were 4.36%, 3.86%, 3.84% and 4.32%, respectively.
Each class of Shares calculates its current distributions daily based upon its
past twelve months' income dividends and short-term capital gains distributions
per Share divided by its offering price per Share on that day. Each class of
Shares may reduce the time period upon which it bases its calculation of current
distributions if the Adviser believes a shortened period would be more
representative in light of current market conditions.
PERFORMANCE COMPARISONS
The Fund's performance of each class of Shares depends upon such variables as:
* portfolio quality;
* average portfolio maturity;
* type of instruments in which the portfolio is invested; * changes in
interest rates and market value of portfolio securities; * changes in the
Fund's or a class of Shares' expenses; and * various other factors.
The Fund's performance fluctuates on a daily basis largely because net earnings
and offering price per Share fluctuate daily. Both net earnings and offering
price per Share are factors in the computation of yield and total return.
The Fund may compare the performance of equity income funds to other types of
stock funds and indices.
Investors may use financial publications and/or indices to obtain a more
complete view of the Fund's performance. When comparing performance, investors
should consider all relevant factors such as the composition of any index used,
prevailing market conditions, portfolio compositions of other funds, and methods
used to value portfolio securities and compute offering price. The financial
publications and/or indices which the Fund uses in advertising may include:
* Lipper Analytical Services, Inc., ranks funds in various fund categories by
making comparative calculations using total return. Total return assumes
the reinvestment of all capital gains distributions and income dividends
and takes into account any change in net asset value over a specific period
of time. From time to time, the Fund will quote its Lipper ranking in the
convertible securities and fixed income funds categories in advertising and
sales literature.
* Dow Jones Industrial Average ("DJIA") represents share prices of selected
blue-chip industrial corporations as well as public utility and
transportation companies. The DJIA indicates daily changes in the average
price of stocks in any of its categories. It also reports total sales for
each group of industries. Because it represents the top corporations of
America, the DJIA index is a leading economic indicator for the stock
market as a whole.
* Standard & Poor's Ratings Group Daily Stock Price Index of 500 Common
Stocks is a composite index of common stocks in industry, transportation,
and financial and public utility companies which compares total returns of
funds whose portfolios are invested primarily in common stocks. In
addition, the Standard & Poor's index assumes reinvestment of all dividends
paid by stocks listed on the index. Taxes due on any of these distributions
are not included, nor are brokerage or other fees calculated, in the
Standard & Poor's figures.
* Morningstar, Inc., an independent rating service, is the publisher of the
bi-weekly Mutual Fund Values. Mutual Fund Values rates more than 1,000
NASDAQ-listed mutual funds of all types, according to their risk-adjusted
returns. The maximum rating is five stars, and ratings are effective for
two weeks.
* Lehman Brothers High Yield Index covers the universe of fixed rate,
publicly issued, noninvestment grade debt registered with the SEC. All
bonds included in the High Yield Index must be dollar-denominated and
nonconvertible and have at least one year remaining to maturity and an
outstanding par value of at least $100 million. Generally securities must
be rated Ba1 or lower by Moody's Investors Service, including defaulted
issues. If no Moody's rating is available, bonds must be rated BB+ or lower
by S&P; and if no S&P rating is available, bonds must be rated below
investment grade by Fitch Investor's Service. A small number of unrated
bonds is included in the index; to be eligible they must have previously
held a high-yield rating or have been associated with a high-yield issuer,
and must trade accordingly.
In addition, the Fund will, from time to time, use the following standard
convertible securities indices against which it will compare its performance:
Goldman Sachs Convertible 100; Kidder Peabody Convertible Bond Index; Value Line
Convertible Bond Index; and Dow Jones Utility Index.
Advertisements and other sales literature for any class of Shares may quote
total returns which are calculated on nonstandardized base periods. These total
returns also represent the historic change in the value of an investment in any
class of Shares based on quarterly reinvestment of dividends over a specified
period of time.
From time to time, the Fund may advertise the performance of any class of Shares
using charts, graphs, and descriptions, compared to federally insured bank
products, including certificates of deposit and time deposits, and to money
market funds using the Lipper Analytical Services money market instruments
average. In addition, advertising and sales literature for the Fund may use
charts and graphs to illustrate the principals of dollar-cost averaging and may
disclose the amount of dividends paid by the Fund over certain periods of time.
Advertisements may quote performance information which does not reflect the
effect of a sales charge or contingent deferred sales charge, as applicable.
Advertising and other promotional literature may include charts, graphs and
other illustrations using the Fund's returns, or returns in general, that
demonstrate basic investment concepts such as tax-deferred compounding,
dollar-cost averaging and systematic investment. In addition, the Fund can
compare its performance, or performance for the types of securities in which it
invests, to a variety of other investments, such as bank savings accounts,
certificates of deposit, and Treasury bills.
ECONOMIC AND MARKET INFORMATION
Advertising and sales literature for the Fund may include discussions of
economic, financial and political developments and their effect on the
securities market. Such discussions may take the form of commentary on these
developments by Fund portfolio managers and their views and analysis on how such
developments could affect the Funds. In addition, advertising and sales
literature may quote statistics and give general information about the mutual
fund industry, including the growth of the industry, from sources such as the
Investment Company Institute.
ABOUT FEDERATED INVESTORS
Federated Investors is dedicated to meeting investor needs which is reflected in
its investment decision making--structured, straightforward, and consistent.
This has resulted in a history of competitive performance with a range of
competitive investment products that have gained the confidence of thousands of
clients and their customers.
The company's disciplined security selection process is firmly rooted in sound
methodologies backed by fundamental and technical research. Investment decisions
are made and executed by teams of portfolio managers, analysts, and traders
dedicated to specific market sectors. These traders handle trillions of dollars
in annual trading volume.
In the equity sector, Federated Investors has more than 25 years' experience. As
of December 31, 1996, Federated Investors managed 31 equity funds totaling
approximately $7.6 billion in assets across growth, value, equity income,
international, index and sector (i.e. utility) styles. Federated's
value-oriented management style combines quantitative and qualitative analysis
and features a structured, computer-assisted composite modeling system that was
developed in the 1970s.
In the corporate bond sector, as of December 31, 1996, Federated Investors
managed 10 money market funds, and 14 bond funds with assets approximating $17.2
billion, and $4.0 billion, respectively. Federated's corporate bond decision
making--based on intensive, diligent credit analysis--is backed by over 21 years
of experience in the corporate bond sector. In 1972, Federated Investors
introduced one of the first high-yield bond funds in the industry. In 1983,
Federated Investors was one of the first fund managers to participate in the
asset-backed securities market, a market totaling more than $200 billion.
J. Thomas Madden, Executive Vice President, oversees Federated Investors' equity
and high yield corporate bond management while William D. Dawson, Executive Vice
President, oversees Federated Investors' domestic fixed income management. Henry
A. Frantzen, Executive Vice President, oversees the management of Federated
Investors' international and global portfolios.
MUTUAL FUND MARKET
Thirty-seven percent of American households are pursuing their financial goals
through mutual funds. These investors, as well as businesses and institutions,
have entrusted over $3.5 trillion to the more than 6,000 funds available.*
Federated Investors, through its subsidiaries, distributes mutual funds for a
variety of investment applications. Specific markets include:
* Source: Investment Company Institute
INSTITUTIONAL CLIENTS
Federated Investors meets the needs of more than 4,000 institutional clients
nationwide by managing and servicing separate accounts and mutual funds for a
variety of applications, including defined benefit and defined contribution
programs, cash management, and asset/liability management. Institutional clients
include corporations, pension funds, tax-exempt entities,
foundations/endowments, insurance companies, and investment and financial
advisors. The marketing effort to these institutional clients is headed by John
B. Fisher, President, Institutional Sales Division.
BANK MARKETING
Other institutional clients include close relationships with more than 1,600
banks and trust organizations. Virtually all of the trust divisions of the top
100 bank holding companies use Federated funds in their clients' portfolios. The
marketing effort to trust clients is headed by Timothy C. Pillion, Senior Vice
President, Bank Marketing & Sales.
BROKER/DEALERS AND BANK BROKER/DEALER SUBSIDIARIES
Federated funds are available to consumers through major brokerage firms
nationwide--we have over 2,200 broker/dealer and bank/broker dealer
relationships across the country--supported by more wholesalers than any other
mutual fund distributor. Federated Investor's service to financial professionals
and institutions has earned it high rankings in several surveys performed by
DALBAR, Inc. DALBAR is recognized as the industry benchmark for service quality
measurement. The marketing effort to these firms is headed by James F. Getz,
President, Federated Securities Corp.
FINANCIAL STATEMENTS
The Financial Statements for the fiscal year ended March 31, 1997, are
incorporated herein by reference to the Annual Report of the Fund dated March
31, 1997 (File Nos. 33-6901 and 811-4743). A copy of this Report may be obtained
without charge by contacting the Fund.
