Part B
STATEMENT OF ADDITIONAL INFORMATION
THE VICTORY PORTFOLIOS
<TABLE>
<CAPTION>
<S> <C> <C>
Balanced Fund Intermediate Income Fund New York Tax-Free Fund
Convertible Securities Fund International Growth Fund Ohio Municipal Bond Fund
Diversified Stock Fund Investment Quality Bond Fund Ohio Municipal Money Market Fund
Established Value Fund Lakefront Fund Prime Obligations Fund
Federal Money Market Fund LifeChoice Conservative Real Estate Investment Fund
Financial Reserves Fund Investor Fund Small Company Opportunity Fund
Fund for Income LifeChoice Moderate Investor Special Value Fund
Gradison Government Reserves Fund Fund Stock Index Fund
Growth Fund LifeChoice Growth Investor Fund Tax-Free Money Market Fund
Institutional Money Market Fund Limited Term Income Fund U.S. Government Obligations Fund
Nasdaq-100 Index(R) Fund Value Fund
National Municipal Bond Fund
</TABLE>
February 28, 2000, as revised August 28, 2000
This Statement of Additional Information ("SAI") is not a prospectus, but should
be read in conjunction with the prospectuses of the Funds listed above, as
amended or supplemented from time to time (the "Prospectuses"). The Prospectus
for the Gradison Government Reserves Fund is dated January 31, 2000, the
Prospectus for the Nasdaq-100 Index(R) Fund is dated July 31, 2000 and the
Prospectus of each other Fund is dated February 28, 2000. This SAI is
incorporated by reference in its entirety into the Prospectuses. Copies of the
Prospectuses may be obtained by writing The Victory Portfolios at P.O. Box 8527,
Boston, MA 02266-8527, or by calling toll free 800-539-FUND (800-539-3863).
INVESTMENT ADVISER and SUB-ADMINISTRATOR DIVIDEND DISBURSING AGENT
Key Asset Management Inc. and SERVICING AGENT
Boston Financial Data Services, Inc.
ADMINISTRATOR and DISTRIBUTOR
BISYS Fund Services CUSTODIAN
Key Trust Company of Ohio, N.A.
TRANSFER AGENT
State Street Bank and Trust Company INDEPENDENT ACCOUNTANTS
PricewaterhouseCoopers LLP
COUNSEL
Kramer Levin Naftalis & Frankel LLP
Table of Contents
Investment Policies and Limitations.........................................2
Determining Net Asset Value for the Money Market Funds.....................64
Valuation of Portfolio Securities..........................................65
Performance................................................................66
Additional Purchase, Exchange, and Redemption Information..................74
Dividends and Distributions................................................78
Taxes......................................................................78
Trustees and Officers......................................................86
Advisory and Other Contracts...............................................89
Additional Information....................................................104
Appendix..................................................................A-1
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
The Victory Portfolios (the "Trust") is an open-end management investment
company. The Trust consists of 37 series (each a "Fund," and collectively, the
"Funds") of units of beneficial interest ("shares"). Currently, the outstanding
shares of the Trust represent interests in 31 separate investment portfolios.
The following six Funds have no outstanding shares: the Equity Income Fund,
Maine Municipal Bond Fund (Intermediate), Maine Municipal Bond Fund
(Short-Intermediate), Michigan Municipal Bond Fund, National Municipal Bond Fund
(Long) and National Municipal Bond Fund (Short-Intermediate).
This SAI relates to the shares of 31 of the 37 Funds and their respective
classes, and are listed below. Much of the information contained in this SAI
expands on subjects discussed in the Prospectuses. Capitalized terms not defined
herein are used as defined in the Prospectuses. No investment in shares of a
Fund should be made without first reading that Fund's Prospectus.
The Victory Portfolios:
Money Market Funds
Federal Money Market Fund, Select and Investor Shares
Financial Reserves Fund, Class A Shares
Gradison Government Reserves Fund, Class G Shares
Institutional Money Market Fund, Select and Investor Shares
Ohio Municipal Money Market Fund, Class A Shares
Prime Obligations Fund, Class A Shares
Tax-Free Money Market Fund, Class A Shares
U.S. Government Obligations Fund, Select and Investor Shares
Municipal Bond Funds
National Municipal Bond Fund, Class A and G Shares
New York Tax-Free Fund, Class A and G Shares
Ohio Municipal Bond Fund, Class A and G Shares
Taxable Bond Funds
Fund for Income, Class A and G Shares
Intermediate Income Fund, Class A and G Shares
Investment Quality Bond Fund, Class A and G Shares
Limited Term Income Fund, Class A Shares
Equity Funds
Balanced Fund, Class A and G Shares
Convertible Securities Fund, Class A and G Shares
Diversified Stock Fund, Class A and G Shares
Established Value Fund, Class A and G Shares
Growth Fund, Class A and G Shares
International Growth Fund, Class A and G Shares
Lakefront Fund, Class A Shares
Nasdaq-100 Index(R) Fund, Class A and G Shares
Real Estate Investment Fund, Class A and G Shares
Small Company Opportunity Fund, Class A and G Shares
Special Value Fund, Class A and G Shares Stock
Index Fund, Class A and G Shares
Value Fund, Class A and G Shares
LifeChoice Funds
LifeChoice Conservative Investor Fund, Class A Shares
LifeChoice Moderate Investor Fund, Class A Shares
LifeChoice Growth Investor Fund, Class A Shares
<PAGE>
Investment Policies and Limitations
Fundamental Investment Policies of Each Fund.
Certain investment policies of each Fund are fundamental and may not be changed
without a vote of the holders of a majority of the Fund's outstanding voting
securities. Each Fund's investment objective is fundamental. There can be no
assurance that a Fund will achieve its investment objective. A Fund's
classification and sub-classification is a matter of fundamental policy. Each
Fund is classified as an open-end investment company. Five Funds are
sub-classified as non-diversified investment companies: the Nasdaq-100 Index(R),
National Municipal Bond, New York Tax-Free, Ohio Municipal Bond and Real Estate
Investment Funds. All the other Funds are sub-classified as diversified mutual
funds.
The LifeChoice Funds.
The LifeChoice Conservative Investor Fund, LifeChoice Moderate Investor Fund and
LifeChoice Growth Investor Fund (the "LifeChoice Funds") are separately managed,
diversified mutual funds, each with its own investment objective and policies.
Each LifeChoice Fund has been constructed as a "fund of funds," which means that
it pursues its investment objective primarily by allocating its investments
among funds of the Trust (the "Proprietary Portfolios"). The LifeChoice Funds
also may invest a portion of their assets in shares of investment companies that
are not part of the same group of investment companies as the Trust (the "Other
Portfolios"). (Proprietary Portfolios and Other Portfolios are sometimes
referred to herein as "Underlying Portfolios.") From time to time, Key Asset
Management Inc., each Fund's investment adviser ("KAM" or the "Adviser"), may
select other mutual funds that are not listed in the LifeChoice Prospectus.
The Investment Company Act of 1940, as amended (the "1940 Act"), permits the
LifeChoice Funds to invest without limitation in other investment companies that
are part of the same "group of investment companies" (as defined in the 1940
Act) as the Trust, provided that certain limitations are observed. Generally,
these limitations require that a fund of funds (a) limit its investments to
shares of other investment companies that are part of the same "group of
investment companies" (as defined in the 1940 Act) as the fund of funds,
government securities, and short-term paper; (b) observe certain limitations on
the amount of sales loads and distribution-related fees that are borne by
shareholders of the fund of funds; and (c) do not invest in other funds of
funds. Pursuant to an exemptive order issued by the Securities and Exchange
Commission (the "SEC"), the LifeChoice Funds may invest in investment portfolios
of the Proprietary Portfolios and in shares of the Other Portfolios that are not
part of the same group of investment companies as the LifeChoice Funds. A
LifeChoice Fund and its affiliates, collectively, may acquire no more than 3% of
the total outstanding stock of any Other Portfolio.
A LifeChoice Fund may invest in a Proprietary Portfolio or Other Portfolio that
concentrates 25% or more of its total assets in any one industry. Investments by
a LifeChoice Fund in securities issued or guaranteed by the U.S. government or
its agencies or instrumentalities or in repurchase agreements collateralized by
the foregoing equaling 25% or more of the Fund's total assets will not be
considered "concentration" by such Fund in the industry of the issuer(s) of such
securities.
The LifeChoice Funds' Prospectus more fully addresses the subject of each Fund's
and each Proprietary Portfolio's investment objectives, as well as the
investment policies that the Funds apply in seeking to meet those objectives.
"Additional Information Regarding Fund Investments," below, will supplement that
information more specifically by detailing the types of securities and other
instruments in which the Proprietary Portfolios may invest, the strategies
behind, and the risks associated with, such investing. Note that there can be no
assurance given that the respective investment objectives of the LifeChoice
Funds or the Proprietary Portfolios will be achieved.
The LifeChoice Funds may invest in the following Proprietary Portfolios, each of
which is described in this SAI: the Convertible Securities, Diversified Stock,
Financial Reserves, Fund for Income, Growth, Intermediate Income, International
Growth, Investment Quality Bond, Limited Term Income, Real Estate Investment,
Small Company Opportunity, Special Value and Value Funds.
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<PAGE>
Other Portfolios. The LifeChoice Funds do not pay any front end sales loads or
contingent deferred sales charges in connection with the purchase or redemption
of shares of the Other Portfolios. In addition, to the extent required by the
1940 Act or the terms of any exemptive order received by the Funds from the SEC,
the sales charges, distribution related fees and service fees related to shares
of the Funds will not exceed the limits set forth in the Conduct Rules of the
National Association of Securities Dealers, Inc. when aggregated with any sales
charges, distribution related fees and service fees that the Funds pay relating
to Other Portfolio shares.
The Other Portfolios may follow some or all of the investment practices of the
Proprietary Portfolios and/or may follow other investment practices. The
LifeChoice Funds have little or no control over the investment activities of the
Other Portfolios. There may be additional investment practices, not discussed in
this SAI, that the Other Portfolios may engage in from time to time. Some of the
Other Portfolios may limit the ability of the LifeChoice Funds to sell their
investments in those Portfolios at certain times. In this case, the LifeChoice
Funds' investment in those shares will be considered "illiquid" and subject to
the overall limitation on investment in illiquid securities.
Other Investments -- Short-Term Obligations. Normally, each of the LifeChoice
Funds will be predominantly invested in shares of other mutual funds. Under
certain circumstances, however, a LifeChoice Fund may invest in short-term
obligations. To the extent that a LifeChoice Fund's assets are so invested, they
will not be invested so as to meet its investment objective. The instruments may
include high-quality liquid debt securities such as commercial paper,
certificates of deposit, bankers' acceptances, repurchase agreements with
maturities of less than seven days, and debt obligations backed by the full
faith and credit of the U.S. government. These instruments are described below
in the following section of this SAI describing the permissible investments of
the Proprietary Portfolios.
Expenses and Allocations. The table below summarizes the annual net operating
expenses for the fiscal year ended October 31, 1999 of the Underlying
Portfolios, as described in their current prospectuses. Some of these expense
ratios reflect waivers or reimbursements that are currently in effect but that
may be terminated at any time. The actual expenses that the Underlying
Portfolios pay may change from time to time. This table also shows how the
LifeChoice Funds allocate their investments among specific mutual funds. Total
investments in the money market Fund may temporarily exceed the 15% maximum due
to daily investment of cash flows that are expected to be used for next day
settlement of fund purchases by each of the LifeChoice Funds.
<TABLE>
<CAPTION>
--------------------------- ----------------- ----------------- ----------------- -----------------
Victory Funds Expense Ratios Conservative Moderate Growth Investor
(Class A only) (after waivers) Investor Fund Investor Fund Fund
--------------------------- ----------------- ----------------- ----------------- -----------------
<S> <C> <C> <C> <C>
Value 1.20% 0%-25% 0%-35% 0%-45%
--------------------------- ----------------- ----------------- ----------------- -----------------
Diversified Stock 1.13% 0%-30% 0%-40% 0%-50%
--------------------------- ----------------- ----------------- ----------------- -----------------
Growth 1.20% 0%-15% 0%-20% 0%-25%
--------------------------- ----------------- ----------------- ----------------- -----------------
Small Co. Opp'ty 1.02% 0%-10% 0%-15% 0%-20%
--------------------------- ----------------- ----------------- ----------------- -----------------
Special Value 1.35% 0%-20% 0%-25% 0%-30%
--------------------------- ----------------- ----------------- ----------------- -----------------
International Growth 1.83% 0%-20% 0%-25% 0%-30%
--------------------------- ----------------- ----------------- ----------------- -----------------
Real Estate Investment 1.40% 0%-20% 0%-20% 0%-20%
--------------------------- ----------------- ----------------- ----------------- -----------------
Convertible Securities 1.35% 0%-30% 0%-30% 0%-30%
--------------------------- ----------------- ----------------- ----------------- -----------------
Investment Quality Bond 1.10% 0%-50% 0%-40% 0%-30%
--------------------------- ----------------- ----------------- ----------------- -----------------
Fund for Income 1.00% 0%-35% 0%-25% 0%-15%
--------------------------- ----------------- ----------------- ----------------- -----------------
Intermediate Income 0.90% 0%-35% 0%-25% 0%-15%
--------------------------- ----------------- ----------------- ----------------- -----------------
Limited Term Income 0.96% 0%-10% 0%-10% 0%-10%
--------------------------- ----------------- ----------------- ----------------- -----------------
Financial Reserves 0.69% 0%-15% 0%-15% 0%-15%
--------------------------- ----------------- ----------------- ----------------- -----------------
Other Funds*
--------------------------- ----------------- ----------------- ----------------- -----------------
INVESCO Dynamics 1.04% 0%-20% 0%-20% 0%-20%
--------------------------- ----------------- ----------------- ----------------- -----------------
Neuberger Berman Genesis 1.17% 0%-20% 0%-20% 0%-20%
--------------------------- ----------------- ----------------- ----------------- -----------------
Loomis Sayles Bond 0.75% 0%-20% 0%-20% 0%-20%
--------------------------- ----------------- ----------------- ----------------- -----------------
Average Weighted Expense 1.12% 1.18% 1.24%
Ratios
--------------------------- ----------------- ----------------- ----------------- -----------------
</TABLE>
* The LifeChoice Funds' investment in Other Funds is not limited to the ones
shown in the table. The expense ratios shown in the table represent information
current as of October 31, 1999. After this date, the LifeChoice Funds may have
sold these Other Funds and may have invested in Other Funds different from the
ones shown in the table.
The average weighted expense ratios for the LifeChoice Funds' investments in
mutual funds are based on a hypothetical portfolio mix that reflects expected
investments under current market conditions. These figures are
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<PAGE>
approximations of the LifeChoice Funds' indirect expense ratios associated with
their investments in the Underlying Portfolios. The percentage of the LifeChoice
Funds' investments in each of the Victory Funds will vary within the ranges
shown above and investment in Other Funds will total 15% to 20% of each
LifeChoice Fund's total investments.
Performance of Underlying Funds. The table below summarizes the "average annual
total returns" of the mutual funds in which the LifeChoice Funds may invest for
the one, five and ten-year periods, where applicable, and since inception,
through December 31, 1999. The information reflects Fund operating expenses
after waivers, but does not reflect sales charges that other investors would
pay, but which the LifeChoice Funds do not.
<TABLE>
<CAPTION>
-------------------------- ------------ ------------- ------------- -------------- -------------
Victory Funds Inception Since
Class A Date One Year Five Years Ten Years Inception
-------------------------- ------------ ------------- ------------- -------------- -------------
<S> <C> <C> <C> <C> <C>
Value 12/3/93 11.07% 23.97% N/A 19.61%
-------------------------- ------------ ------------- ------------- -------------- -------------
Established Value 8/16/83 17.07% 18.12% 13.18% 14.48%
-------------------------- ------------ ------------- ------------- -------------- -------------
Diversified Stock 10/20/89 20.96% 26.40% 17.54% 17.60%
-------------------------- ------------ ------------- ------------- -------------- -------------
Growth 12/3/93 17.90% 28.40% N/A 22.81%
-------------------------- ------------ ------------- ------------- -------------- -------------
Small Co. Opportunity 8/16/83 -0.86% 12.88% 10.40% 10.10%
-------------------------- ------------ ------------- ------------- -------------- -------------
Special Value 12/3/93 -1.26% 11.64% N/A 10.24%
-------------------------- ------------ ------------- ------------- -------------- -------------
International Growth 5/18/90 41.92% 14.33% N/A 10.52%
-------------------------- ------------ ------------- ------------- -------------- -------------
Real Estate Investment 4/30/97 0.58% N/A N/A 3.47%
-------------------------- ------------ ------------- ------------- -------------- -------------
Convertible Securities 4/14/88 11.75% 13.82% 11.23% 11.34%
-------------------------- ------------ ------------- ------------- -------------- -------------
Investment Quality Bond 12/10/93 -2.45% 6.33% N/A 4.67%
-------------------------- ------------ ------------- ------------- -------------- -------------
Fund for Income 9/16/87 0.69% 7.28% 6.86% 7.62%
-------------------------- ------------ ------------- ------------- -------------- -------------
Intermediate Income 12/10/93 -0.74% 6.07% N/A 4.53%
-------------------------- ------------ ------------- ------------- -------------- -------------
Limited Term Income 10/20/89 1.79% 5.66% 5.83% 5.88%
-------------------------- ------------ ------------- ------------- -------------- -------------
Financial Reserves 4/4/83 4.69% 5.06% 4.87% 6.02%
-------------------------- ------------ ------------- ------------- -------------- -------------
Other Funds*
-------------------------- ------------ ------------- ------------- -------------- -------------
Loomis Sayles Bond 5/31/91 4.50% 12.41% N/A 11.80%
-------------------------- ------------ ------------- ------------- -------------- -------------
INVESCO Dynamics 9/15/67 4.04% 16.64% 12.71% 13.12%
-------------------------- ------------ ------------- ------------- -------------- -------------
Neuberger Berman Genesis 9/27/88 4.04% 16.64% 12.71% 13.12%
-------------------------- ------------ ------------- ------------- -------------- -------------
</TABLE>
* The LifeChoice Funds' investment in Other Funds is not limited to the ones
shown in the table. The performance shown in the table represents information
current as of October 31, 1999. After this date, the LifeChoice Funds may have
sold these Other Funds and may have invested in Other Funds different from the
ones shown in the table.
The SEC has imposed certain limitations on how the LifeChoice Funds may invest
and the fees that they may charge. Whenever you see information on a mutual
fund's performance, do not consider its past performance to be an indication of
the performance you could expect by investing in that mutual fund today. The
past is an imperfect guide to the future. History does not always repeat itself.
Additional Information Regarding Fund Investments.
The following policies and limitations supplement the Funds' investment policies
set forth in the Prospectuses. The Funds' investments in the following
securities and other financial instruments are subject to the other investment
policies and limitations described in the Prospectuses and this SAI.
Unless otherwise noted in the Prospectuses or this SAI, a Fund may invest no
more than 5% of its total assets in any of the securities or financial
instruments described below (unless the context requires otherwise).
Unless otherwise noted, whenever an investment policy or limitation states a
maximum percentage of a Fund's assets that may be invested in any security or
other asset, or sets forth a policy regarding quality standards, such standard
or percentage limitation will be determined immediately after and as a result of
the Fund's acquisition of such security or other asset except in the case of
borrowing (or other activities that may be deemed to result in the issuance of a
"senior security" under the 1940 Act). Accordingly, any subsequent change in
values, net assets, or other circumstances will not be considered when
determining whether the investment complies with a Fund's
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<PAGE>
investment policies and limitations. If the value of a Fund's holdings of
illiquid securities at any time exceeds the percentage limitation applicable at
the time of acquisition due to subsequent fluctuations in value or other
reasons, the Trustees will consider what actions, if any, are appropriate to
maintain adequate liquidity.
The investment policies of a Fund may be changed without an affirmative vote of
the holders of a majority of that Fund's outstanding voting securities unless
(1) a policy expressly is deemed to be a fundamental policy of the Fund or (2) a
policy expressly is deemed to be changeable only by such majority vote. A Fund
may, following notice to its shareholders, take advantage of other investment
practices which presently are not contemplated for use by the Fund or which
currently are not available but which may be developed to the extent such
investment practices are both consistent with the Fund's investment objective
and legally permissible for the Fund. Such investment practices, if they arise,
may involve risks which exceed those involved in the activities described in a
Fund's Prospectus.
The following sections list each Fund's investment policies, limitations, and
restrictions. The securities in which the Funds can invest and the risks
associated with these securities are discussed in the section "Investment
Policies."
Fundamental Investment Restrictions of the Funds
The following investment restrictions are fundamental and may not be changed
without a vote of the holders of a majority of the Fund's outstanding voting
securities.
1. Senior Securities.
The Balanced, Convertible Securities, Diversified Stock, Financial Reserves,
Fund for Income, Growth, Intermediate Income, International Growth, Investment
Quality Bond, Lakefront, LifeChoice, Limited Term Income, Nasdaq-100 Index(R),
National Municipal Bond, Real Estate Investment, Special Value, Stock Index and
Value Funds may not:
Issue any senior security (as defined in the 1940 Act), except that (a) each
such Fund may engage in transactions that may result in the issuance of senior
securities to the extent permitted under applicable regulations and
interpretations of the 1940 Act, an exemptive order or interpretation of the
staff of the SEC; (b) each such Fund may acquire other securities, the
acquisition of which may result in the issuance of a senior security, to the
extent permitted under applicable regulations or interpretations of the 1940
Act; (c) subject to the restrictions described in this SAI, each such Fund may
borrow money as authorized by the 1940 Act; and (d) each such Fund may issue
multiple classes of shares in accordance with regulations of the SEC.
The Institutional Money Market, New York Tax-Free, Ohio Municipal Money Market,
Prime Obligations, Small Company Opportunity, Tax-Free Money Market and U.S.
Government Obligations Funds may not:
Issue any senior security (as defined in the 1940 Act), except that (a) each
such Fund may engage in transactions that may result in the issuance of senior
securities to the extent permitted under applicable regulations and
interpretations of the 1940 Act or an exemptive order; (b) each such Fund may
acquire other securities, the acquisition of which may result in the issuance of
a senior security, to the extent permitted under applicable regulations or
interpretations of the 1940 Act; (c) subject to the restrictions set forth
below, each such Fund may borrow money as authorized by the 1940 Act.
The Gradison Government Reserves Fund will not issue senior securities as
defined in the 1940 Act, except to the extent that such issuance might be
involved with respect to borrowings subject to fundamental restriction number
three below or with respect to transactions involving futures contracts or the
writing of options and provided that the Trust may issue shares of additional
series or classes that the Trustees may establish.
2. Underwriting.
The Balanced, Convertible Securities, Diversified Stock, Financial Reserves,
Fund for Income, Growth, Intermediate Income, International Growth, Investment
Quality Bond, Lakefront, LifeChoice, Limited Term Income,
5
<PAGE>
Nasdaq-100 Index(R), National Municipal Bond, Ohio Municipal Bond, Real Estate
Investment, Special Value, Stock Index and Value Funds may not:
Underwrite securities issued by others, except to the extent that each such Fund
(or, with respect to the LifeChoice Funds, an Underlying Portfolio) may be
considered an underwriter within the meaning of the Securities Act of 1933, as
amended (the "Securities Act"), when reselling securities held in its own
portfolio.
The Established Value and Gradison Government Reserves Funds will not:
Underwrite the securities of other issuers, except insofar as each such Fund may
technically be deemed an underwriter under the Securities Act, in connection
with the disposition of portfolio securities.
The Federal Money Market, Institutional Money Market, New York Tax-Free, Ohio
Municipal Money Market, Prime Obligations, Small Company Opportunity, Tax-Free
Money Market and U.S. Government Obligations Funds may not:
Underwrite securities issued by others, except to the extent that each such Fund
may be considered an underwriter within the meaning of the Securities Act in the
disposition of restricted securities.
3. Borrowing.
The Balanced, Convertible Securities, Diversified Stock, Financial Reserves,
Fund for Income, Growth, Intermediate Income, International Growth, Investment
Quality Bond, Lakefront, LifeChoice, Limited Term Income, Nasdaq-100 Index(R),
National Municipal Bond, Ohio Municipal Bond, Real Estate Investment, Special
Value, Stock Index, and Value Funds may not:
Borrow money, except that each such Fund may (a) enter into commitments to
purchase securities and instruments in accordance with its investment program,
including when-issued and delayed-delivery transactions, reverse repurchase
agreements and "dollar roll" transactions, provided that the total amount of any
borrowing does not exceed 33-1/3% of the Fund's total assets at the time of the
transaction; (b) borrow money in an amount not to exceed 33-1/3% of the value of
its total assets at the time the loan is made; and (c) borrow money on a
short-term basis from investment companies that are part of the same group of
investment companies to the extent allowed by applicable laws, rules or
regulatory orders in an amount not to exceed 33-1/3% of the value of its total
assets at the time the loan is made. Borrowings representing more than 33-1/3%
of each such Fund's total assets must be repaid before the Fund may make
additional investments.
Notwithstanding the foregoing, as a non-fundamental policy, these Funds do not
intend to borrow money for leveraging purposes.
The Established Value Fund will not borrow money, except as a temporary measure
for extraordinary or emergency purposes, and then only in amounts not exceeding
5% of the its total assets, taken at the lower of acquisition cost or market
value.
The Gradison Government Reserves Fund will not borrow money, except from banks
as a temporary measure or for extraordinary or emergency purposes such as to
enable the Fund to satisfy redemption requests where liquidation of portfolio
securities is considered disadvantageous, and not for leverage purposes, and
then only in amounts not exceeding 15% of the total assets of the Fund at the
time of the borrowing. While any borrowing of greater than 5% of the assets is
outstanding, the Fund will not purchase additional portfolio securities.
The Institutional Money Market Fund may not borrow money, except (a) from a bank
for temporary or emergency purposes (not for leveraging or investment) or (b) by
engaging in reverse repurchase agreements, provided that (a) and (b) in
combination ("borrowings") do not exceed an amount equal to one third of the
current value of its total assets (including the amount borrowed) less
liabilities (not including the amount borrowed) at the time the borrowing is
made.
6
<PAGE>
This fundamental limitation is construed in conformity with the 1940 Act, and if
at any time Institutional Money Market Fund borrowings exceed an amount equal to
33-1/3% of the current value of its total assets (including the amount borrowed)
less liabilities (other than borrowings) at the time the borrowing is made due
to a decline in net assets, such borrowings will be reduced within three days
(not including Sundays and holidays) to the extent necessary to comply with the
33-1/3% limitation.
The New York Tax-Free, Prime Obligations, Small Company Opportunity, Tax-Free
Money Market and U.S. Government Obligations Funds may not:
Borrow money, except that (a) each such Fund may enter into commitments to
purchase securities in accordance with its investment program, including
delayed-delivery and when-issued securities and reverse repurchase agreements,
provided that the total amount of any such borrowing does not exceed 33-1/3% of
each such Fund's total assets; and (b) each such Fund may borrow money for
temporary or emergency purposes in an amount not exceeding 5% of the value of
its total assets at the time when the loan is made. Any borrowings representing
more than 5% of each such Fund's total assets must be repaid before the Fund may
make additional investments.
The Ohio Municipal Money Market Fund may (a) borrow money and engage in reverse
repurchase agreements in amounts up to one-third of the value of its net assets
including the amounts borrowed, and (b) purchase securities on a when-issued or
delayed delivery basis. 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 Fund by
enabling it to meet redemption requests when the liquidation of Fund securities
would be inconvenient or disadvantageous. The Fund will not purchase any
securities while any such borrowings (including reverse repurchase agreements)
are outstanding.
4. Real Estate.
The Balanced, Convertible Securities, Diversified Stock, Financial Reserves,
Fund for Income, Growth, Intermediate Income, International Growth, Investment
Quality Bond, Lakefront, LifeChoice, Limited Term Income, Nasdaq-100 Index(R),
National Municipal Bond, Ohio Municipal Bond, Real Estate Investment, Special
Value, Stock Index and Value Funds may not:
Purchase or sell real estate unless acquired as a result of direct ownership of
securities or other instruments. This restriction shall not prevent each such
Fund from investing in securities or other instruments backed by real estate or
securities of companies engaged in the real estate business, including real
estate investment trusts. This restriction does not preclude each such Fund from
buying securities backed by mortgages on real estate or securities of companies
engaged in such activities. This restriction shall not prevent each such Fund
from investing in real estate operating companies and shares of companies
engaged in other real estate related businesses.
The Established Value Fund will not purchase or sell real estate, except that it
is permissible to purchase securities secured by real estate or real estate
interests or issued by companies that invest in real estate or real estate
interests.
The Federal Money Market Fund may not purchase or hold any real estate,
including real estate limited partnerships, except that the Fund may invest in
securities secured by real estate or interests therein or issued by persons
which deal in real estate or interests therein.
The Prime Obligations, Small Company Opportunity and Tax-Free Money Market Funds
may not:
Purchase or sell real estate unless acquired as a result of ownership of
securities or other instruments (but this shall not prevent each such Fund from
investing in securities or other instruments backed by real estate or securities
of companies engaged in the real estate business). Investments by each such Fund
in securities backed by mortgages on real estate or in marketable securities of
companies engaged in such activities are not hereby precluded.
The Gradison Government Reserves Fund will not purchase or sell real estate. The
purchase of securities secured by real estate which are otherwise allowed by the
Fund's investment objective and other investment restrictions shall not be
prohibited by this restriction.
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<PAGE>
The Institutional Money Market Fund may not buy or sell real estate,
commodities, or commodity (futures) contracts or invest in oil, gas or other
mineral exploration or development programs.
The Ohio Municipal Money Market Fund will not purchase or sell real estate,
although it may invest in Ohio municipal securities secured by real estate or
interests in real estate.
The U.S. Government Obligations Fund may not purchase or sell real estate unless
acquired as a result of ownership of securities or other instruments.
5. Lending.
Each of the Balanced, Convertible Securities, Diversified Stock, Financial
Reserves, Fund for Income, Growth, Intermediate Income, International Growth,
Investment Quality Bond, Lakefront, LifeChoice, Limited Term Income, Nasdaq-100
Index(R), National Municipal Bond, Ohio Municipal Bond, Real Estate Investment,
Special Value, Stock Index and Value Funds may not:
Make loans, except each such Fund, consistent with its investment program, may
(a) purchase bonds, debentures, other debt securities and hybrid instruments,
including short-term obligations; (b) enter into repurchase transactions; (c)
lend portfolio securities, provided that the value of loaned securities does not
exceed 33-1/3% of each such Fund's total assets; and (d) make short-term loans
to other investment companies that are part of the same group of investment
companies, as part of an interfund loan program, as allowed by applicable laws,
rules and regulatory orders.
Notwithstanding the foregoing, as a non-fundamental policy, the Fund for Income
will not lend any of its portfolio securities.
The Established Value Fund will not make loans, except (a) through the purchase
of publicly distributed corporate securities, U.S. government obligations,
certificates of deposit, high-grade commercial paper and other money market
instruments, and (b) loans of portfolio securities to persons unaffiliated with
the Trust not in excess of 20% of the value of the Fund's total assets (taken at
market value) made in accordance with the guidelines of the SEC and with any
standards established from time to time by the Trust's Board of Trustees,
including the maintenance of collateral from the borrower at all times in an
amount at least equal to the current market value of the securities loaned.
The Federal Money Market Fund may not lend any cash except in connection with
the acquisition of a portion of an issue of publicly distributed bonds,
debentures, notes or other evidences of indebtedness or in connection with the
purchase of securities subject to repurchase agreements, except as outlined
under "Additional Information on Fund Investments" and the sub-section,
"Securities Lending." The Fund will not lend any other assets except as a
special investment method. See "Investment Objective" in the Prospectus.
The Federal Money Market Fund will not make a loan of its portfolio securities
if, immediately thereafter and as a result thereof, portfolio securities with a
market value of 10% or more of its total assets would be subject to such loans.
The Prime Obligations, Small Company Opportunity, Tax-Free Money Market and
U.S. Government Obligations Funds may not:
Lend any security or make any other loan if, as a result, more than 33-1/3% of
each such Fund's total assets would be lent to other parties, but this
limitation does not apply to purchases of publicly issued debt securities or to
repurchase agreements.
The Gradison Government Reserves Fund will not make loans, except that the
purchase of debt securities as allowed by its investment objective and other
investment restrictions, entering into repurchase agreements, and the lending of
portfolio securities in an amount not to exceed 30% of the value of its total
assets with the collateral value of loaned
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securities marked-to-market daily and in accordance with applicable regulations
or guidelines established by the SEC shall not be prohibited by this
restriction.
The Institutional Money Market Fund may not make loans to other persons, except
(a) by the purchase of debt obligations in which the Fund is authorized to
invest in accordance with its investment objective, and (b) by engaging in
repurchase agreements. In addition, the Fund may lend its portfolio securities
to broker-dealers or other institutional investors, provided that the borrower
delivers cash or cash equivalents as collateral to the Fund and agrees to
maintain such collateral so that it equals at least 100% of the value of the
securities loaned. Any such securities loan may not be made if, as a result
thereof, the aggregate value of all securities loaned exceeds 33-1/3% of the
total assets of the Fund.
The New York Tax-Free Fund may not make loans to other persons except through
the use of repurchase agreements, the purchase of commercial paper or by lending
portfolio securities. For these purposes, the purchase of a portion of an issue
of debt securities which is part of an issue to the public shall not be
considered the making of a loan.
The Ohio Municipal Money Market Fund will not lend any of its assets, except
through the purchase of a position of publicly distributed debt instruments or
repurchase agreements and through the lending of its portfolio securities. The
Fund may lend its securities if collateral values are continuously maintained at
no less than 100% of the current market value of such securities by marking to
market daily.
6. Commodities.
The Diversified Stock, Intermediate Income, International Growth, Investment
Quality Bond, Lakefront, LifeChoice, Limited Term Income, Nasdaq-100 Index(R),
Ohio Municipal Bond, Prime Obligations, Real Estate Investment, Small Company
Opportunity, Stock Index and Tax-Free Money Market Funds may not:
Purchase or sell physical commodities unless acquired as a result of ownership
of securities or other instruments (but this shall not prevent each such Fund
from purchasing or selling options and futures contracts or from investing in
securities or other instruments backed by physical commodities).
The Balanced, Growth, Special Value, U.S. Government Obligations and Value
Funds may not:
Purchase or sell physical commodities unless acquired as a result of ownership
of securities or other instruments.
The Convertible Securities Fund and the Federal Money Market Fund may not:
Deal in commodities or commodity contracts.
The Established Value Fund will not purchase or sell commodities, commodity
contracts, or interests in oil, gas or other mineral exploration or development
programs, except that it is permissible to purchase securities issued by
companies that hold interests in oil, gas or other mineral exploration or
development programs.
The Fund for Income may not purchase or sell commodities or commodity contracts,
oil, gas or other mineral exploration or development programs.
The Gradison Government Reserves Fund will not purchase or sell commodities,
commodity contracts or interests in oil, gas or other mineral exploration or
development programs or leases, except that the purchase or sale of financial
futures contracts or options on financial futures contracts is permissible.
The National Municipal Bond Fund may not purchase or sell physical commodities
(but this shall not prevent the Fund from purchasing or selling futures
contracts and options on futures contracts or from investing in securities or
other instruments backed by physical commodities).
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The New York Tax-Free and Ohio Municipal Money Market Funds may not:
Purchase or sell commodities or commodity contracts.
7. Joint Trading Accounts.
The Prime Obligations, Small Company Opportunity and Tax-Free Money Market Funds
may not:
Participate on a joint or joint and several basis in any securities trading
account.
The Established Value Fund will not participate on a joint, or a joint and
several, basis in any securities trading account.
8. Diversification.
The Small Company Opportunity and U.S. Government Obligations Funds may not:
With respect to 75% of each such Fund's total assets, purchase the securities of
any issuer (other than securities issued or guaranteed by the U.S. government or
any of its agencies or instrumentalities) if, as a result, (a) more than 5% of
the Fund's total assets would be invested in the securities of that issuer, or
(b) the Fund would hold more than 10% of the outstanding voting securities of
that issuer.
The Established Value Fund will not purchase any securities (other than
obligations issued or guaranteed by the U.S. government or its agencies or
instrumentalities) if immediately after such purchase, more than 5% of its total
assets would be invested in securities of any one issuer or more than 10% of the
outstanding securities of any one issuer would be owned by the Trust and held by
the Fund. The Fund will not concentrate more than 25% of its total assets in any
one industry.
The Federal Money Market Fund may not, as to 75% of its total assets, invest
more than 5% in the securities of any one issuer except securities of the U.S.
government, its agencies or its instrumentalities.
The Prime Obligations Fund may not, with respect to 75% of its total assets,
purchase the securities of any issuer (other than securities issued or
guaranteed by the U.S. government or any of its agencies or instrumentalities)
if, as a result, (a) more than 5% of the Fund's total assets would be invested
in the securities of that issuer, or (b) the Fund would hold more than 10% of
the outstanding voting securities of that issuer. (Note: In accordance with Rule
2a-7 under the 1940 Act, the Fund may invest up to 25% of its total assets in
securities of a single issuer for a period of up to three days.)
The New York Tax-Free Fund may not purchase the securities of any issuer (except
the U.S. government, its agencies and instrumentalities, and the State of New
York and its municipalities) if as a result more than 25% of its total assets
are invested in the securities of a single issuer, and with regard to 50% of
total assets, if as a result more than 5% of its total assets would be invested
in the securities of such issuer. In determining the issuer of a tax-exempt
security, each state and each political subdivision, agency, and instrumentality
of each state and each multi-state agency, of which such state is a member, is a
separate issuer. Where securities are backed only by assets and revenues of a
particular instrumentality, facility or subdivision, such entity is considered
the issuer. With respect to non-municipal bond investments, in addition to the
foregoing limitations, the Fund will not purchase securities (other than
securities of the U.S. government, its agencies or instrumentalities), if as a
result of such purchase 25% or more of the Fund's total assets would be invested
in any one industry, or enter into a repurchase agreement if, as a result
thereof, more than 10% of its total assets would be subject to repurchase
agreements maturing in more than seven days.
The Ohio Municipal Money Market Fund will limit, with respect to 75% of its
total assets, investments in one issuer to not more than 10% of the value of its
total assets. The total amount of the remaining 25% of the value of its total
assets could be invested in a single issuer if the Adviser believes such a
strategy to be prudent. Under Rule 2a-7 under the 1940 Act, the Fund also is
subject to certain diversification requirements.
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The Tax-Free Money Market Fund may not purchase securities of any one issuer,
other than obligations issued or guaranteed by the U.S. government or its
agencies or instrumentalities if, immediately after such purchase, more than 5%
of the value of its total assets would be invested in such issuer, except that
up to 25% of the value of its total assets may be invested without regard to
such 5% limitation. For purposes of this limitation, a security is considered to
be issued by the government entity (or entities) whose assets and revenues
guarantee or back the security; with respect to a private activity bond that is
backed only by the assets and revenues of a non-governmental issuer, a security
is considered to be issued by such non-governmental issuer.
9. Concentration.
The Balanced, Convertible Securities, Diversified Stock, Fund for Income,
Growth, Intermediate Income, International Growth, Investment Quality Bond,
Lakefront, Limited Term Income, Nasdaq-100 Index(R), Ohio Municipal Bond,
National Municipal Bond, Special Value, Stock Index and Value Funds may not:
Purchase the securities of any issuer (other than the securities issued or
guaranteed by the U.S. government or any of its agencies or instrumentalities,
repurchase agreements secured thereby, or tax-exempt securities issued by
governments or political subdivisions of governments except tax-exempt
securities backed only by the assets or revenues of non-governmental issuers)
if, as a result, 25% or more of each such Fund's total assets would be invested
in the securities of companies whose principal business activities are in the
same industry. This restriction shall not prevent each such Fund from investing
all of its assets in a "master" fund that has adopted similar investment
objectives, policies and restrictions.
Notwithstanding the foregoing, the Nasdaq-100 Index(R) Fund will concentrate its
investments in a single industry to the extent necessary to track the
broad-based securities market index the performance of which the Fund attempts
to duplicate.
The Federal Money Market Fund may not purchase securities if such purchase would
cause more than 25% of any of its total assets to be invested in the securities
of issuers in any one industry, provided however that the Fund reserves the
right to concentrate in securities issued or guaranteed as to principal and
interest by the U.S. government, its agencies or instrumentalities or U.S. bank
obligations. The Fund, however, will not exercise its right to concentrate in
U.S. bank obligations.
The Financial Reserves Fund may not purchase the securities of any issuer (other
than the securities issued or guaranteed by the U.S. government or any of its
agencies or instrumentalities, repurchase agreements secured thereby, or
tax-exempt securities issued by governments or political subdivisions of
governments except tax-exempt securities backed only by the assets or revenues
of non-governmental issuers) if, as a result, 25% or more of the Fund's total
assets would be invested in the securities of companies whose principal business
activities are in the same industry. This restriction shall not prevent the Fund
from investing all of its assets in a "master" fund that has adopted similar
investment objectives, policies and restrictions.
Consistent with its investment objective and policies, the Financial Reserves
Fund reserves the right to concentrate its investment in obligations issued by
domestic banks.
The Gradison Government Reserves Fund will not invest more than 25% of its total
assets in the securities of issuers in any single industry, provided that there
shall be no limitation on investments in obligations issued or guaranteed by the
U.S. government, its agencies or instrumentalities.
The Institutional Money Market Fund may not purchase the securities of any
issuer (other than obligations issued or guaranteed as to principal and interest
by the U.S. government, its agencies or instrumentalities) if, as a result
thereof: (i) more than 5% of its total assets would be invested in the
securities of such issuer, provided, however, that in the case of certificates
of deposit, time deposits and bankers' acceptances, up to 25% of the Fund's
total assets may be invested without regard to such 5% limitation, but shall
instead be subject to a 10% limitation; (ii) more than 25% of its total assets
would be invested in the securities of one or more issuers having their
principal business activities in the same industry, provided, however, that it
may invest more than 25% of its total assets in the obligations of domestic
banks. Neither finance companies as a group nor utility companies as a group are
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considered a single industry for purposes of this policy (i.e., finance
companies will be considered a part of the industry they finance and utilities
will be divided according to the types of services they provide).
The National Municipal Bond and Ohio Municipal Bond Funds may not:
Purchase the securities of any issuer (other than the securities issued or
guaranteed by the U.S. government or any of its agencies or instrumentalities,
repurchase agreements secured thereby, or tax-exempt securities issued by
governments or political subdivisions of governments except tax-exempt
securities backed only by the assets or revenues of non-governmental issuers)
if, as a result, 25% or more of each such Fund's total assets would be invested
in the securities of companies whose principal business activities are in the
same industry. This restriction shall not prevent either Fund from investing all
of its assets in a "master" fund that has adopted similar investment objectives,
policies and restrictions.
When investing in industrial development bonds, each such Fund will look to the
source of the underlying payments. Each such Fund will not invest 25% or more of
its total assets in industrial development bonds with underlying payments
derived from similar projects.
The New York Tax-Free Fund may not, with respect to non-municipal investments,
purchase securities (other than securities of the U.S. government, its agencies
or instrumentalities), if as a result of such purchase 25% or more of its total
assets would be invested in any one industry, or enter into a repurchase
agreement if, as a result thereof, more than 15% of its net assets would be
subject to repurchase agreements maturing in more than seven days. In addition,
the New York Tax-Free Fund may not invest more than 25% of its total assets in
securities whose interest payments are derived from revenue from similar
projects.
The Ohio Municipal Money Market Fund will not purchase securities (other than
securities issued or guaranteed by the U.S. government, its agencies, or
instrumentalities) if, as a result of such purchase, 25% or more of the value of
its total assets would be invested in any one industry. The Fund will not invest
25% or more of its assets in securities, the interest upon which is paid from
revenues of similar type projects. The Fund may invest 25% or more of its assets
in industrial development bonds.
The Prime Obligations Fund may not purchase the securities of any issuer (other
than securities issued or guaranteed by the U.S. government or any of its
agencies or instrumentalities, or repurchase agreements secured thereby) if, as
a result, more than 25% of its total assets would be invested in the securities
of companies whose principal business activities are in the same industry.
Notwithstanding the foregoing, there is no limitation with respect to
certificates of deposit and banker's acceptances issued by domestic banks, or
repurchase agreements secured thereby. In the utilities category, the industry
shall be determined according to the service provided. For example, gas,
electric, water and telephone will be considered as separate industries.
The Real Estate Investment Fund may not purchase the securities of any issuer
(other than the securities issued or guaranteed by the U.S. government or any of
its agencies or instrumentalities, repurchase agreements secured thereby, or
tax-exempt securities issued by governments or political subdivisions of
governments except tax-exempt securities backed only by the assets or revenues
of non-governmental issuers) if, as a result, 25% or more of its total assets
would be invested in the securities of companies whose principal business
activities are in the same industry. This restriction shall not prevent the Fund
from investing all of its assets in a "master" fund that has adopted similar
investment objectives, policies and restrictions.
Notwithstanding the foregoing, the Real Estate Investment Fund will concentrate
its investments in securities in the real estate industry.
The Small Company Opportunity Fund may not purchase the securities of any issuer
(other than securities issued or guaranteed by the U.S. government or any of its
agencies or instrumentalities, or repurchase agreements secured thereby) if, as
a result, more than 25% of the Fund's total assets would be invested in the
securities of companies whose principal business activities are in the same
industry.
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The Tax-Free Money Market Fund may not purchase the securities of any issuer
(other than securities issued or guaranteed by the U.S. government or any of its
agencies or instrumentalities, or repurchase agreements secured thereby) if, as
a result, more than 25% of the Fund's total assets would be invested in the
securities of companies whose principal business activities are in the same
industry; provided that this limitation shall not apply to municipal securities
or governmental guarantees of municipal securities; but for these purposes only,
industrial development bonds that are backed by the assets and revenues of a
non-governmental user shall not be deemed to be municipal securities.
Notwithstanding the foregoing, with respect to the Tax-Free Money Market Fund,
there is no limitation with respect to certificates of deposit and banker's
acceptances issued by domestic banks, or repurchase agreements secured thereby.
In the utilities category, the industry shall be determined according to the
service provided. For example, gas, electric, water and telephone will be
considered as separate industries.
10. Miscellaneous.
a. Tax-exempt income.
The Ohio Municipal Money Market Fund may not invest its assets so that less than
80% of its annual interest income is exempt from the federal income tax and Ohio
taxes.
b. Investing to Influence Management or to Exercise Control.
The Established Value Fund will not invest in companies for the purpose of
exercising control or management.
The Federal Money Market Fund may not invest in companies for the purpose of
influencing management or exercising control, and will not purchase more than
10% of the voting securities of any one issuer. This will not preclude the
management of the Fund from voting proxies in its discretion.
The LifeChoice Funds may not make investments for the purpose of exercising
control or management (but this shall not prevent a LifeChoice Fund from
purchasing a controlling interest in one or more Underlying Portfolios
consistent with its investment objectives and policies).
c. Margin Purchases and Short Selling.
The Federal Money Market Fund may not purchase securities on margin or sell
securities short.
The Established Value Fund will not make short sales of securities, or purchase
securities on margin, except for short-term credit as is necessary for the
clearance of transactions.
d. Securities of Other Investment Companies.
The Convertible Securities and the Federal Money Market Funds may not:
Purchase the securities of other investment companies except in the open market
and at the usual and customary brokerage commissions or except as part of a
merger, consolidation or other acquisition.
The Established Value Fund will not purchase the securities of other investment
companies, except in connection with a merger, consolidation, reorganization or
acquisition of assets, and except by purchase in the open market of securities
of closed-end investment companies involving only customary broker's
commissions, and then only if immediately after such purchase, no more than 10%
of the value of the total assets of the Fund would be invested in such
securities.
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e. Illiquid and Restricted Securities.
The Federal Money Market Fund may not invest more than 10% of its net assets in
(i) securities restricted as to disposition under the federal securities laws,
(ii) securities as to which there are no readily available market quotations, or
(iii) repurchase agreements with a maturity in excess of seven days.
The Established Value Fund will not (i) purchase securities subject to
restrictions on disposition under the Securities Act or (ii) purchase securities
for which no readily available market quotation exists, if at the time of
acquisition more than 5% of its total assets would be invested in such
securities (repurchase agreements maturing in more than seven days are included
within this restriction).
f. Mortgage, Pledge or Hypothecation of Securities.
The Established Value Fund will not mortgage, pledge or hypothecate securities,
except in connection with a permissible borrowing as set forth in fundamental
investment restriction number three above, and then only in amounts not
exceeding 10% of the value of its assets (taken at the lower of acquisition cost
or market value).
g. Options.
The Established Value Fund will not write, purchase or sell puts, calls or
combinations thereof.
h. Ownership of Portfolio Securities by Trustees or Officers.
The Established Value Fund will not purchase or retain the securities of any
issuer if any Trustee or officer of the Trust is or becomes a director or
officer of such issuer and owns beneficially more than 1/2 of 1% of the
securities of such issuer, or if those directors, trustees and officers of the
Trust and its investment adviser who are directors or officers of such issuer
together own or acquire more than 5% of the securities of such issuer.
i. Unseasoned Issuers.
The Established Value Fund will not purchase any securities of companies which
have (with their predecessors) a record of less than three years of continuous
operation, if at the time of acquisition more than 5% of its total assets would
be invested in such securities.
Non-Fundamental Investment Restrictions of the Funds
The following investment restrictions are non-fundamental and may be changed by
a vote of a majority of the Board of Trustees. Changing a non-fundamental
restriction does not require a vote of the holders of a majority of the Fund's
outstanding voting securities.
1. Illiquid Securities.
Each of the Balanced, Convertible Securities, Diversified Stock, Financial
Reserves, Fund for Income, Growth, Institutional Money Market, Intermediate
Income, International Growth, Investment Quality Bond, Lakefront, LifeChoice,
Limited Term Income, Nasdaq-100 Index(R), National Municipal Bond, New York
Tax-Free, Ohio Municipal Bond, Ohio Municipal Money Market, Prime Obligations,
Real Estate Investment, Small Company Opportunity, Special Value, Stock Index,
Tax-Free Money Market, U.S. Government Obligations and Value Funds may not:
Invest more than 15% (10% in the case of the Money Market Funds listed above) of
its net assets in illiquid securities. Illiquid securities are securities that
are not readily marketable or cannot be disposed of promptly within seven days
and in the usual course of business at approximately the price at which a Fund
has valued them. Such securities include, but are not limited to, time deposits
and repurchase agreements with maturities longer than seven days. Securities
that may be resold under Rule 144A, securities offered pursuant to Section 4(2)
of, or securities otherwise subject to restrictions or limitations on resale
under the Securities Act shall not be deemed illiquid solely by reason of being
unregistered. The Adviser determines whether a particular security is deemed to
be liquid based on the trading markets for the specific security and other
factors.
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2. Short Sales and Purchases on Margin.
The Balanced, Diversified Stock, Growth, Intermediate Income, International
Growth, Investment Quality Bond, the LifeChoice, Limited Term Income, Ohio
Municipal Bond, Prime Obligations, Small Company Opportunity, Special Value,
Stock Index, Tax-Free Money Market, U.S. Government Obligations and Value Funds
may not:
Make short sales of securities, other than short sales "against the box," or
purchase securities on margin except for short-term credits necessary for
clearance of portfolio transactions, provided that this restriction will not be
applied to limit the use of options, futures contracts and related options, in
the manner otherwise permitted by the investment restrictions, policies and
investment program of the Fund, and, with respect to the International Growth
Fund, provided that this restriction shall not limit that Fund's ability to make
margin payments in connection with transactions in currency future options.
The Financial Reserves and Institutional Money Market Funds may not:
(1) Purchase securities on margin (but each such Fund may obtain such credits as
may be necessary for the clearance of purchases and sales of securities) or (2)
make short sales of securities.
The Fund for Income and New York Tax-Free Fund may not:
Make short sales of securities or purchase any securities on margin, except for
such short-term credits as are necessary for the clearance of transactions.
The Gradison Government Reserves Fund will not make short sales of securities,
or purchase securities on margin, except for short-term credit as is necessary
for the clearance of transactions.
The National Municipal Bond Fund may not (1) sell securities short, unless it
owns or has the right to obtain securities equivalent in kind and amount to the
securities sold short; or (2) purchase securities on margin, except that the
Fund may obtain such short-term credits as are necessary for the clearance of
transactions.
The Ohio Municipal Money Market Fund may not sell any securities short or
purchase any securities on margin but may obtain such short-term credits as may
be necessary for clearance of purchases and sales of securities.
The LifeChoice and Small Company Opportunity Funds:
Do not currently intend to purchase securities on margin, except that each such
Fund may obtain such short-term credits as are necessary for the clearance of
transactions and provided that margin payments in connection with futures
contracts shall not constitute purchasing securities on margin.
3. Other Investment Companies.
The Funds (except for the LifeChoice Funds) may not purchase the securities of
any registered open-end investment company or registered unit investment trust
in reliance on Section 12(d)(1)(G) or Section 12(d)(1)(F) of the 1940 Act, which
permits operation as a "fund of funds."
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Each of the Balanced, Convertible Securities, Diversified Stock, Financial
Reserves, Fund for Income, Growth, Institutional Money Market, Intermediate
Income, International Growth, Investment Quality Bond, Lakefront, Limited Term
Income, Nasdaq-100 Index(R), National Municipal Bond, New York Tax-Free, Ohio
Municipal Bond, Ohio Municipal Money Market, Prime Obligations, Real Estate
Investment, Small Company Opportunity, Special Value, Stock Index, Tax-Free
Money Market, U.S. Government Obligations and Value Funds may:
Invest up to 5% of its total assets in the securities of any one investment
company, but may not own more than 3% of the securities of any one investment
company or invest more than 10% of its total assets in the securities of other
investment companies. Pursuant to an exemptive order received by the Trust from
the SEC, each such Fund may invest in the other money market funds of the Trust.
The Adviser will waive the portion of its fee attributable to the assets of each
such Fund invested in such money market funds to the extent required by the laws
of any jurisdiction in which shares of each such Fund are registered for sale.
The Gradison Government Reserves Fund will not purchase securities of other
investment companies except in connection with a reorganization, merger, or
consolidation with another open-end investment company.
The National Municipal Bond Fund may not purchase securities of other investment
companies, except in the open market where no commission except the ordinary
broker's commission is paid. Such limitation does not apply to securities
received as dividends, through offers of exchange, or as a result of a
reorganization, consolidation, or merger.
The Ohio Municipal Money Market Fund will not invest any of its assets in the
securities of other investment companies, except by purchase in the open market
where no commission or profit to a sponsor or dealer results from the purchase
other than the customary broker's commission, or except when the purchase is
part of a plan of merger, consolidation, reorganization or acquisition.
4. Miscellaneous.
a. Investment grade obligations.
Each of the National Municipal Bond, New York Tax-Free and Ohio Municipal Bond
Funds may not:
Hold more than 5% of its total assets in securities that have been downgraded
below investment grade.
b. Concentration.
For purposes of calculating concentration of investments in the utility and
finance categories, each Fund will operate as follows:
Neither finance companies as a group nor utility companies as a group are
considered a single industry for purposes of a Fund's concentration policy
(i.e., finance companies will be considered a part of the industry they finance
and utilities will be divided according to the types of services they provide).
c. Diversification.
The Federal Money Market Fund may not, with respect to 75% of its total assets,
purchase the securities of any one issuer (except in securities of the U.S.
government, its agencies or its instrumentalities) if as a result (a) more than
5% of the Fund's total assets would be invested in the securities of that
issuer, or (b) the Fund would hold more than 10% of the outstanding voting
securities of that issuer. Rule 2a-7 of the 1940 Act permits the Fund to invest
up to 25% of its total assets in securities of a single issuer for a period of
up to three days.
d. Foreign Issuers.
The Convertible Securities Fund may not invest in excess of 10% of its total
assets in the securities of foreign issuers, excluding from such limitation
securities listed on any United States securities exchange.
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The Federal Money Market Fund may not invest in foreign securities.
e. Unseasoned Issuers.
Each of the Convertible Securities and Federal Money Market Funds may not:
Invest in excess of 5% of its total assets in securities of issuers which,
including predecessors, do not have a record of at least three years' operation.
The LifeChoice Funds may not:
Invest more than 5% of its total assets in the securities of issuers which,
together with any predecessors, have a record of less than three years of
continuous operation (except for the Proprietary Portfolios, but a LifeChoice
Fund may invest in Underlying Portfolios that do so invest).
f. Mortgage, Pledge or Hypothecation of Securities or Assets.
Each of the Convertible Securities and Federal Money Market Funds may not:
Pledge or hypothecate any of its assets. For the purpose of this limitation,
collateral arrangements with respect to stock options are not deemed to be a
pledge of assets.
The Gradison Government Reserves Fund will not mortgage, pledge or hypothecate
securities except in connection with permitted borrowings. The Fund has no
current intention of engaging in the lending of portfolio securities.
g. Lending or Borrowing.
The Fund for Income will not lend any of its portfolio securities.
The Federal Money Market Fund may not (a) lend portfolio securities, (b) borrow
money, or (c) invest in shares of other investment companies.
No Fund intends to borrow money for leveraging purposes.
h. Joint Trading Accounts.
The LifeChoice Funds may not participate on a joint or joint and several basis
in any securities trading account.
Investment Restrictions of Certain Underlying Portfolios of the LifeChoice Funds
Notwithstanding the foregoing restrictions, the Other Portfolios in which the
Funds may invest have adopted certain investment restrictions which may be more
or less restrictive than those listed above, thereby allowing a Fund to
participate in certain investment strategies indirectly that are prohibited
under the fundamental and non-fundamental investment restrictions listed above.
The investment restrictions of the Proprietary Portfolios are set forth in this
SAI and the investment restrictions of the Other Portfolios are set forth in
their respective statements of additional information.
Investment Policies
Futures and Options. Where applicable, a Fund that may engage in futures
contracts and options on futures contracts may invest up to 5% of its total
assets in margins and premiums and may hold up to 33-1/3% of its total assets
subject to futures contracts or options thereon. The Established Value, Federal
Money Market, Gradison Government Reserves, Institutional Money Market,
LifeChoice, Ohio Municipal Money Market, Prime Obligations, Tax-Free Money
Market and U.S. Government Money Market Funds may not invest in futures and
related options.
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Other Investment Companies. To the extent that a Fund invests in investment
company securities, the Fund may (i) invest up to 5% in any one investment
company, (ii) acquire up to 3% of the total assets of any one investment
company, and (iii) hold up to 10% of its total assets in securities issued by
investment companies. The Established Value, Federal Money Market and Gradison
Government Reserves Funds may not invest in other investment companies.
Real Estate Investment Trusts. The Tax-Free Money Market, Balanced, Convertible
Securities, Diversified Stock, Established Value, International Growth, Small
Company Opportunity, Special Value and Value Funds each may invest up to 25% of
its total assets in real estate investment trusts ("REITs"). The Growth and
Stock Index Funds each may invest up to 20% of its total assets in these
securities.
The LifeChoice Funds. Permissible investments for the three LifeChoice Funds
will correspond to the Underlying Portfolios comprising the particular
LifeChoice Fund, some of which, the Proprietary Portfolios, are described in
this SAI. For information on the Underlying Portfolios, see the LifeChoice
Funds' Prospectus.
Federal Money Market Fund. The Federal Money Market Fund may not invest in any
instrument that is considered a "derivative" for purposes of the Ohio Uniform
Depository Act, including a financial instrument or contract or obligation whose
value or return is based upon or linked to another asset or index, or both,
separate from the financial instrument, contract, or obligation itself. Any
security, obligation, trust account, or other instrument that is created from an
issue of the U.S. Treasury or is created from an obligation of a federal agency
or instrumentality or is created from both is considered a derivative
instrument. However, the Ohio Uniform Depository Act permits investment in
eligible securities that have a variable interest rate payment based on (a) U.S.
Treasury bills, notes, bonds, or any other obligation or security issued by the
U.S. Treasury or any other obligation guaranteed as to principal or interest by
the United States, including securities issued by the Government National
Mortgage Association; and (b) bonds, notes, debentures, or any other obligations
or securities issued by any federal government agency or instrumentality,
including but not limited to, the Federal National Mortgage Association
("FNMA"), Federal Home Loan Bank ("FHLB"), Federal Farm Credit Bank, Federal
Home Loan Mortgage Corporation ("FHMLC") and Student Loan Marketing Association
("SLMA"). The Ohio Uniform Depository Act does not permit, however, investment
in (a) stripped principal or interest obligations of such eligible securities
and obligations, or (b) variable-rate securities with a maximum maturity that
exceeds two years.
Secondary Investment Strategies. In addition to the principal strategies
described in the Prospectuses, certain Funds may engage in the secondary
investment strategies outlined below. In addition to the strategies described in
the following table, a Fund may engage in certain strategies as described
elsewhere in this SAI.
--------------- ---------------------------------------------------------------
Balanced o May, but is not required to, use derivative
instruments.
--------------- ---------------------------------------------------------------
Convertible o May invest up to 35% of its total assets in corporate
Securities debt securities, common stock, U.S. government
securities and high-quality short-term debt
obligations, preferred stock and repurchase
agreements.
o May invest up to 10% of its total assets in foreign
debt and equity securities.
--------------- ---------------------------------------------------------------
Diversified o May invest up to 20% of its total assets in preferred
Stock stocks, investment grade corporate debt securities,
short-term debt obligations and U.S. government
obligations.
o May, but is not required to, use derivative
instruments.
--------------- ---------------------------------------------------------------
Established o May invest up to 20% of its total assets in
Value short-term U.S. government obligations,
repurchase agreements, short-term debt obligations
and investment grade debt securities.
--------------- ---------------------------------------------------------------
Fund for o May, but is not required to, use derivative
Income instruments.
--------------- ---------------------------------------------------------------
Growth o May invest up to 20% of its total assets in preferred
stocks, investment-grade corporate debt securities,
short-term debt obligations and U.S. government
obligations.
o May, but is not required to, use derivative
instruments.
--------------- ---------------------------------------------------------------
Intermediate o May invest up to 35% of its total assets in
Income high-quality, short-term Income debt obligations.
o May invest up to 20% of its total assets in preferred
and convertible preferred securities and separately
traded interest and principal component parts of U.S.
Treasury obligations.
o May invest in international bonds, foreign
securities, and derivative instruments, such as
futures contracts, options and securities that may
have warrants or options attached.
--------------- ---------------------------------------------------------------
International o May invest up to 35% of its total assets in cash
Growth equivalents and fixed income securities, including
U.S. government obligations.
o May, but is not required to, use derivative
instruments.
--------------- ---------------------------------------------------------------
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<PAGE>
--------------- ---------------------------------------------------------------
Investment o May invest up to 20% of its total assets in preferred
Quality Bond and convertible preferred securities, and separately
traded interest and principal component parts of U.S.
Treasury obligations.
o May invest up to 35% of its total assets in high
quality, short-term debt obligations.
o May, but is not required to, use derivative
instruments.
--------------- ---------------------------------------------------------------
Lakefront o May invest up to 20% of its total assets in preferred
stocks, investment-grade corporate debt securities;
short-term debt obligations; and U.S. government
obligations.
--------------- ---------------------------------------------------------------
LifeChoice o Each LifeChoice Fund may invest a limited portion of
Funds its assets directly in high quality short-term debt
obligations, commercial paper, certificates of
deposit, bankers' acceptances, repurchase agreements
with maturities of less than seven days, debt
obligations backed by the full faith and credit of
the U.S. government, and demand time deposits of
domestic and foreign banks and savings and loan
associations.
--------------- ---------------------------------------------------------------
Limited Term o May invest up to 20% of its total assets in preferred
Income Fund and convertible preferred securities, and separately
traded interest and principal component parts of U.S.
Treasury obligations.
o May invest in international bonds, foreign
securities, and derivative instruments, such as
futures contracts and securities that may have
warrants or options attached.
--------------- ---------------------------------------------------------------
National Muni o May, but is not required to, use derivative
Bond instruments.
--------------- ---------------------------------------------------------------
New York o May, but is not required to, use derivative
Tax-Free instruments.
--------------- ---------------------------------------------------------------
Ohio Muni o May, but is not required to, use derivative
Bond instruments.
--------------- ---------------------------------------------------------------
Real Estate o May invest up to 20% of its total assets in
Investment securities of foreign real estate companies and
American Depositary Receipts (ADRs).
o May, but is not required to, use derivative
instruments.
--------------- ---------------------------------------------------------------
Small Company o May invest up to 20% of its total assets in: equity
Opportunity securities of larger companies (those with market
capitalizations in the top 20% of the 5,000 largest
U.S. companies); investment-grade securities;
preferred stocks; short-term debt obligations; and
repurchase agreements.
--------------- ---------------------------------------------------------------
Special Value o May invest up to 20% of its total assets in
investment-grade debt securities and preferred
stocks.
o May, but is not required to, use derivative
instruments.
--------------- ---------------------------------------------------------------
Value o May invest up to 20% of its total assets in
investment-grade corporate debt securities, preferred
stock, short-term debt obligations and U.S.
government obligations.
o May, but is not required to, use derivative
instruments.
--------------- ---------------------------------------------------------------
The following paragraphs provide a brief description of some of the types of
securities in which the Funds may invest in accordance with their investment
objective, policies, and limitations, including certain transactions the Funds
may make and strategies they may adopt. The following also contains a brief
description of the risk factors related to these securities. The Funds may,
following notice to their shareholders, take advantage of other investment
practices which presently are not contemplated for use by the Funds or which
currently are not available but which may be developed, to the extent such
investment practices are both consistent with a Fund's investment objective and
are legally permissible for the Fund. Such investment practices, if they arise,
may involve risks which exceed those involved in the activities described in a
Fund's Prospectus and this SAI.
Eligible Securities for Money Market Funds. High-quality investments are those
obligations which, at the time of purchase, (i) possess one of the two highest
short-term ratings from a nationally recognized statistical ratings
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<PAGE>
organization ("NRSRO") or (ii) possess, in the case of multiple-rated
securities, one of the two highest short-term ratings by at least two NRSROs; or
(iii) do not possess a rating (i.e. are unrated) but are determined by the
Adviser to be of comparable quality to the rated instruments described in (i)
and (ii). For purposes of these investment limitations, a security that has not
received a rating will be deemed to possess the rating assigned to an
outstanding class of the issuer's short-term debt obligations if determined by
the Adviser to be comparable in priority and security to the obligation selected
for purchase by a Fund. (The above described securities which may be purchased
by the Money Market Funds are referred to as "Eligible Securities.")
A security subject to a tender or demand feature will be considered an Eligible
Security only if both the demand feature and the underlying security possess a
high quality rating, or, if such do not possess a rating, are determined by the
Adviser to be of comparable quality; provided, however, that where the demand
feature would be readily exercisable in the event of a default in payment of
principal or interest on the underlying security, this obligation may be
acquired based on the rating possessed by the demand feature or, if the demand
feature does not possess a rating, a determination of comparable quality by the
Adviser. A security which at the time of issuance had a maturity exceeding 397
days but, at the time of purchase, has remaining maturity of 397 days or less,
is not considered an Eligible Security if it does not possess a high quality
rating and the long-term rating, if any, is not within the two highest rating
categories.
Pursuant to Rule 2a-7 under the 1940 Act, the Money Market Funds maintain a
dollar-weighted average portfolio maturity which does not exceed 90 days.
The weighted average maturity of the U.S. Government Obligations Fund will
usually be 60 days or less since rating agencies normally require shorter
maturities. However, the permitted weighted average maturity for the U.S.
Government Obligations Fund is 90 days.
The Appendix of this SAI identifies each NRSRO which may be utilized by the
Adviser with regard to portfolio investments for the Funds and provides a
description of relevant ratings assigned by each such NRSRO. A rating by an
NRSRO may be utilized only where the NRSRO is neither controlling, controlled
by, or under common control with the issuer of, or any issuer, guarantor, or
provider of credit support for, the instrument.
U.S. Corporate Debt Obligations. U.S. corporate debt obligations include bonds,
debentures, and notes. Debentures represent unsecured promises to pay, while
notes and bonds may be secured by mortgages on real property or security
interests in personal property. Bonds include, but are not limited to, debt
instruments with maturities of approximately one year or more, debentures,
mortgage-related securities, stripped government securities, and zero coupon
obligations. Bonds, notes, and debentures in which the Funds may invest may
differ in interest rates, maturities, and times of issuance. The market value of
a Fund's fixed income investments will change in response to interest rate
changes and other factors. During periods of falling interest rates, the values
of outstanding fixed income securities generally rise. Conversely, during
periods of rising interest rates, the values of such securities generally
decline. Moreover, while securities with longer maturities tend to produce
higher yields, the price of longer maturity securities also are subject to
greater market fluctuations as a result of changes in interest rates.
Changes by NRSROs in the rating of any fixed income security and in the ability
of an issuer to make payments of interest and principal also affect the value of
these investments. Except under conditions of default, changes in the value of a
Fund's securities will not affect cash income derived from these securities but
will affect the Fund's net asset value per share ("NAV").
Temporary Defensive Measures. For temporary defensive purposes in response to
market conditions, each Fund may hold up to 100% of its assets in cash or high
quality, short-term obligations such as domestic and foreign commercial paper
(including variable-amount master demand notes), bankers' acceptances,
certificates of deposit and demand and time deposits of domestic and foreign
branches of U.S. banks and foreign banks, and repurchase agreements. (See
"Foreign Securities" for a description of risks associated with investments in
foreign securities.) These temporary defensive measures may result in
performance that is inconsistent with a Fund's investment objective.
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<PAGE>
Short-Term Corporate Obligations. Short-term corporate obligations are bonds
issued by corporations and other business organizations in order to finance
their short-term credit needs. Corporate bonds in which a Fund may invest
generally consist of those rated in the two highest rating categories of an
NRSRO that possess many favorable investment attributes. In the lower end of
this category, credit quality may be more susceptible to potential future
changes in circumstances. The Balanced, Special Value, Stock Index and Real
Estate Investment Funds each may invest up to 35%, 20%, 33-1/3% and 20%,
respectively, of its total assets in short-term corporate debt obligations.
Demand Features. A Fund may acquire securities that are subject to puts and
standby commitments ("demand features") to purchase the securities at their
principal amount (usually with accrued interest) within a fixed period (usually
seven days) following a demand by the Fund. Each Municipal Bond Fund may invest
in demand features without limit. The demand feature may be issued by the issuer
of the underlying securities, a dealer in the securities or by another third
party, and may not be transferred separately from the underlying security. A
Fund uses these arrangements to obtain liquidity and not to protect against
changes in the market value of the underlying securities. The bankruptcy,
receivership or default by the issuer of the demand feature, or a default on the
underlying security or other event that terminates the demand feature before its
exercise, will adversely affect the liquidity of the underlying security. Demand
features that are exercisable even after a payment default on the underlying
security may be treated as a form of credit enhancement.
Bankers' Acceptances. Bankers' acceptances are negotiable drafts or bills of
exchange typically drawn by an importer or exporter to pay for specific
merchandise, which are "accepted" by a bank, meaning, in effect, that the bank
unconditionally agrees to pay the face value of the instrument on maturity.
Bankers' acceptances will be those guaranteed by domestic and foreign banks, if
at the time of purchase such banks have capital, surplus, and undivided profits
in excess of $100,000,000 (as of the date of their most recently published
financial statements).
Bank Deposit Instruments. Certificates of deposit ("CDs") are negotiable
certificates issued against funds deposited in a commercial bank or a savings
and loan association for a definite period of time and earning a specified
return. The Funds listed above may invest in CDs and demand and time deposits of
domestic and foreign banks and savings and loan associations, if (a) at the time
of purchase such financial institutions have capital, surplus, and undivided
profits in excess of $100,000,000 (as of the date of their most recently
published financial statements) or (b) the principal amount of the instrument is
insured in full by the Federal Deposit Insurance Corporation (the "FDIC") or the
Savings Association Insurance Fund. The Ohio Municipal Money Market and Tax-Free
Money Market Funds may each invest up to 20% of its assets in bank deposit
instruments.
Eurodollar Obligations. Eurodollar certificates of deposit are U.S.
dollar-denominated certificates of deposit issued by branches of foreign and
domestic banks located outside the United States. Eurodollar time deposits are
U.S. dollar-denominated deposits in a foreign branch of a U.S. bank or a foreign
bank. The Financial Reserves, Institutional Money Market and Prime Obligations
Funds may each invest up to 25% of its total assets in Eurodollar obligations.
The Ohio Municipal Money Market and Tax-Free Money Market Funds may each invest
up to 20% of its total assets in these instruments.
Yankee Certificates of Deposit are certificates of deposit issued by a U.S.
branch of a foreign bank denominated in U.S. dollars and held in the United
States. The Prime Obligations Fund may invest in Yankee certificates of
deposit without limit.
Canadian Time Deposits are U.S. dollar-denominated certificates of deposit
issued by Canadian offices of major Canadian Banks.
Commercial Paper. Commercial paper is comprised of unsecured promissory notes,
usually issued by corporations. Except as noted below with respect to variable
amount master demand notes, issues of commercial paper normally have maturities
of less than nine months and fixed rates of return. The Ohio Municipal Money
Market and Tax-Free Money Market Funds may each invest up to 20% of its total
assets in taxable commercial paper. In addition to corporate issuers, tax-exempt
commercial paper also may be issued by borrowers that issue municipal
securities. See "Municipal Securities" below.
The Funds will purchase only commercial paper rated in one of the two highest
categories at the time of purchase by an NRSRO or, if not rated, found by the
Trustees to present minimal credit risks and to be of comparable quality to
21
<PAGE>
instruments that are rated high quality (i.e., in one of the two top ratings
categories) by an NRSRO that is neither controlling, controlled by, or under
common control with the issuer of, or any issuer, guarantor, or provider of
credit support for, the instruments. For a description of the rating symbols of
each NRSRO see the Appendix to this SAI.
International Bonds. International bonds include Euro and Yankee obligations,
which are U.S. dollar-denominated international bonds for which the primary
trading market is in the United States ("Yankee Bonds"), or for which the
primary trading market is abroad ("Eurodollar Bonds"). The Intermediate Income,
Investment Quality Bond and Limited Term Income Funds each may invest up to 20%
of its total assets in Yankee Bonds. International bonds also include Canadian
and supranational agency bonds (e.g., those issued by the International Monetary
Fund). (See "Foreign Debt Securities" for a description of risks associated with
investments in foreign securities.)
Foreign Debt Securities. Investments in securities of foreign companies
generally involve greater risks than are present in U.S. investments. Compared
to U.S. companies, there generally is less publicly available information about
foreign companies and there may be less governmental regulation and supervision
of foreign stock exchanges, brokers and listed companies. Foreign companies
generally are not subject to uniform accounting, auditing, and financial
reporting standards, practices, and requirements comparable to those prevalent
in the U.S. Securities of some foreign companies are less liquid, and their
prices more volatile, than securities of comparable U.S. companies. Settlement
of transactions in some foreign markets may be delayed or may be less frequent
than in the U.S., which could affect the liquidity of a Fund's investment. In
addition, with respect to some foreign countries, there is the possibility of
nationalization, expropriation, or confiscatory taxation; limitations on the
removal of securities, property, or other assets of a Fund; there may be
political or social instability; there may be increased difficulty in obtaining
legal judgments; or diplomatic developments which could affect U.S. investments
in those countries. The Adviser will take such factors into consideration in
managing a Fund's investments. A Fund will not hold foreign currency in amounts
exceeding 5% of its assets as a result of such investments. The Intermediate
Income, Investment Quality Bond, Limited Term Income and International Growth
Funds each may invest up to 20% of its total assets in foreign debt securities.
The Balanced Fund may invest up to 10% of its total assets in these securities.
Repurchase Agreements.
General. Securities held by a Fund may be subject to repurchase agreements.
Under the terms of a repurchase agreement, a Fund would acquire securities from
financial institutions or registered broker-dealers deemed creditworthy by the
Adviser pursuant to guidelines adopted by the Trustees, subject to the seller's
agreement to repurchase such securities at a mutually agreed upon date and
price. The seller is required to maintain the value of collateral held pursuant
to the agreement at not less than the repurchase price (including accrued
interest). The Fund for Income and the Balanced, Convertible Securities,
Intermediate Income, Investment Quality Bond, Limited Term Income and
International Growth Funds each may invest up to 35% of its total assets in
repurchase agreements. The Ohio Municipal Money Market, Tax-Free Money Market,
National Municipal Bond, Ohio Municipal Bond, Diversified Stock, Established
Value, Growth, Lakefront, Real Estate Investment, Small Company Opportunity,
Special Value, Stock Index and Value Funds each may invest up to 20% of its
total assets in repurchase agreements. The New York Tax-Free Fund may invest up
to 10% of its total assets in these instruments.
If the seller were to default on its repurchase obligation or become insolvent,
a Fund would suffer a loss to the extent that the proceeds from a sale of the
underlying portfolio securities were less than the repurchase price, or to the
extent that the disposition of such securities by the Fund is delayed pending
court action.
Convertible Securities and Federal Money Market Funds. With respect to
repurchase agreement transactions entered into by the Convertible Securities
Fund, the underlying securities are ordinarily U.S. Treasury or other
governmental obligations or high quality money market instruments. With respect
to repurchase agreement transactions entered into by the Federal Money Market
Fund, the underlying securities are bonds, notes or other obligations of or
guaranteed by the United States, or those for which the faith of the United
States is pledged for the payment of principal and interest thereon, and bonds,
notes, debentures or any other obligations or securities in which the Fund may
invest.
A Fund will not enter into repurchase agreements with maturities of more than
seven days if, taken together with illiquid securities and other securities for
which there are no readily available quotations, more than 15% of its net
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<PAGE>
assets (10% of net assets with respect to the Money Market Funds) would be so
invested. Repurchase agreements are considered to be loans by the Funds
collateralized by the underlying securities.
Reverse Repurchase Agreements. A Fund may borrow funds for temporary purposes by
entering into reverse repurchase agreements. Reverse repurchase agreements are
considered to be borrowings under the 1940 Act.
Pursuant to such an agreement, a Fund would sell a portfolio security to a
financial institution, such as a bank or a broker-dealer, and agree to
repurchase such security at a mutually agreed-upon date and price. At the time a
Fund enters into a reverse repurchase agreement, it will place in a segregated
custodial account assets (such as cash or liquid securities) consistent with the
Fund's investment restrictions having a value equal to the repurchase price
(including accrued interest). The collateral will be marked-to-market on a daily
basis, and will be monitored continuously to ensure that such equivalent value
is maintained. Reverse repurchase agreements involve the risk that the market
value of the securities sold by a Fund may decline below the price at which the
Fund is obligated to repurchase the securities.
Short-Term Funding Agreements. Short-term funding agreements (sometimes referred
to as guaranteed interest contracts or "GICs") issued by insurance companies.
Pursuant to such agreements, a Fund makes cash contributions to a deposit fund
of the insurance company's general account. The insurance company then credits
the Fund, on a monthly basis, guaranteed interest which is based on an index.
The short-term funding agreement provides that this guaranteed interest will not
be less than a certain minimum rate. Because the principal amount of a
short-term funding agreement may not be received from the insurance company on
seven days notice or less, the agreement is considered to be an illiquid
investment and, together with other instruments in a Fund which are not readily
marketable, will not exceed, for Money Market Funds, 10% of the Fund's net
assets and for all other Funds, 15% of the Fund's net assets. In determining
dollar-weighted average portfolio maturity, a short-term funding agreement will
be deemed to have a maturity equal to the period of time remaining until the
next readjustment of the guaranteed interest rate. The Financial Reserves,
Institutional Money Market and Prime Obligations Funds each may invest up to 10%
of its net assets in short-term funding agreements.
Variable Amount Master Demand Notes. Variable amount master demand notes are
unsecured demand notes that permit the indebtedness thereunder to vary and
provide for periodic adjustments in the interest rate according to the terms of
the instrument. Although there is no secondary market for these notes, a Fund
may demand payment of principal and accrued interest at any time and may resell
the notes at any time to a third party. The absence of an active secondary
market, however, could make it difficult for a Fund to dispose of a variable
amount master demand note if the issuer defaulted on its payment obligations,
and the Fund could, for this or other reasons, suffer a loss to the extent of
the default. While the notes typically are not rated by credit rating agencies,
issuers of variable amount master demand notes must satisfy the same criteria as
set forth above for unrated commercial paper, and the Adviser will monitor
continuously the issuer's financial status and ability to make payments due
under the instrument. Where necessary to ensure that a note is of "high
quality," a Fund will require that the issuer's obligation to pay the principal
of the note be backed by an unconditional bank letter or line of credit,
guarantee or commitment to lend. For purposes of a Fund's investment policies, a
variable amount master demand note will be deemed to have a maturity equal to
the longer of the period of time remaining until the next readjustment of its
interest rate or the period of time remaining until the principal amount can be
recovered from the issuer through demand. The Balanced, Convertible Securities,
Intermediate Income, International Growth and Investment Quality Bond Funds may
each invest up to 35% of its total assets in variable amount master demand
notes. The Diversified Stock, Growth, Lakefront, National Municipal Bond, New
York Tax-Free, Ohio Municipal Money Market, Ohio Municipal Bond, Real Estate
Investment, Special Value, Tax-Free Money Market and Value Funds may each invest
up to 20% of its total assets in variable amount master demand notes.
Variable Rate Demand Notes. Variable rate demand notes are tax-exempt
obligations containing a floating or variable interest rate adjustment formula,
together with an unconditional right to demand payment of the unpaid principal
balance plus accrued interest upon a short notice period, generally not to
exceed seven days. The Funds also may invest in participation variable rate
demand notes, which provide a Fund with an undivided interest in underlying
variable rate demand notes held by major investment banking institutions. Any
purchase of variable rate demand notes will meet applicable diversification and
concentration requirements.
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Variable and Floating Rate Notes. A variable rate note is one whose terms
provide for the readjustment of its interest rate on set dates and which, upon
such readjustment, reasonably can be expected to have a market value that
approximates its par value. A floating rate note is one whose terms provide for
the readjustment of its interest rate whenever a specified interest rate changes
and which, at any time, reasonably can be expected to have a market value that
approximates its par value. Such notes frequently are not rated by credit rating
agencies; however, unrated variable and floating rate notes purchased by the
Fund will only be those determined by the Adviser, under guidelines established
by the Trustees, to pose minimal credit risks and to be of comparable quality,
at the time of purchase, to rated instruments eligible for purchase under the
Fund's investment policies. In making such determinations, the Adviser will
consider the earning power, cash flow and other liquidity ratios of the issuers
of such notes (such issuers include financial, merchandising, bank holding and
other companies) and will continuously monitor their financial condition.
Although there may be no active secondary market with respect to a particular
variable or floating rate note purchased by a Fund, the Fund may resell the note
at any time to a third party. The absence of an active secondary market,
however, could make it difficult for a Fund to dispose of a variable or floating
rate note in the event that the issuer of the note defaulted on its payment
obligations and a Fund could, for this or other reasons, suffer a loss to the
extent of the default. Variable or floating rate notes may be secured by bank
letters of credit.
The maturities of variable or floating rate notes are determined as follows:
1. A variable or floating rate note that is issued or guaranteed by the U.S.
government or any agency thereof and which has a variable rate of interest
readjusted no less frequently than annually will be deemed to have a maturity
equal to the period remaining until the next readjustment of the interest rate.
2. A variable or floating rate note, the principal amount of which is scheduled
on the face of the instrument to be paid in one year or less, will be deemed by
the Fund to have a maturity equal to the period remaining until the next
readjustment of the interest rate.
3. A variable or floating rate note that is subject to a demand feature
scheduled to be paid in one year or more will be deemed to have a maturity equal
to the longer of the period remaining until the next readjustment of the
interest rate or the period remaining until the principal amount can be
recovered through demand.
4. A variable or floating rate note that is subject to a demand feature will be
deemed to have a maturity equal to the period remaining until the principal
amount can be recovered through demand.
As used above, a note is "subject to a demand feature" where a Fund is entitled
to receive the principal amount of the note either at any time on no more than
30 days' notice or at specified intervals not exceeding one year and upon no
more than 30 days' notice. The Convertible Securities Fund may invest up to 35%
of its total assets in variable and floating rate notes and the Established
Value and Lakefront Funds each may invest up to 20% of its total assets in these
securities. The Fund for Income may invest up to 35% of its total assets in
variable and floating rate U.S. government securities.
Prime Rate Indexed Adjustable Rate Securities. Floating rate notes include prime
rate-indexed adjustable rate securities, which are securities whose interest
rate is calculated based on the prime rate, that is, the interest rate that
banks charge to their most creditworthy customers. The prime rate is determined
by market forces affecting a bank's cost of funds and the rates that borrowers
will accept. The prime rate tends to become standard across the banking industry
when a major bank moves its prime rate up or down. The Federal Money Market,
Financial Reserves, Gradison Government Reserves, Institutional Money Market and
Prime Obligations Funds each may invest up to 25% of its total assets in prime
rate indexed adjustable rate securities.
Extendible Debt Securities. Extendible debt securities are securities that can
be retired at the option of a Fund at various dates prior to maturity. In
calculating average portfolio maturity, a Fund may treat Extendible Debt
Securities as maturing on the next optional retirement date.
Receipts. Receipts are separately traded interest and principal component parts
of bills, notes, and bonds issued by the U.S. Treasury that are transferable
through the federal book entry system, known as "separately traded registered
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interest and principal securities" ("STRIPS") and "coupon under book entry
safekeeping" ("CUBES"). These instruments are issued by banks and brokerage
firms and are created by depositing Treasury notes and Treasury bonds into a
special account at a custodian bank; the custodian holds the interest and
principal payments for the benefit of the registered owners of the certificates
or receipts. The custodian arranges for the issuance of the certificates or
receipts evidencing ownership and maintains the register. Receipts include
Treasury receipts ("TRs"), Treasury investment growth receipts ("TIGRs"), and
certificates of accrual on Treasury securities ("CATS"). The Fund for Income may
invest up to 20% of its total assets in U.S. government security receipts. The
Diversified Stock, Established Value, Growth, Intermediate Income, International
Growth, Investment Quality Bond, Lakefront, Limited Term Income, Real Estate
Investment, Small Company Opportunity, Stock Index and Value Funds each may
invest up to 20% of its total assets in receipts. The Balanced Fund may invest
up to 10% of its total assets in these securities.
Zero Coupon Bonds. Zero coupon bonds are purchased at a discount from the face
amount because the buyer receives only the right to a fixed payment on a certain
date in the future and does not receive any periodic interest payments. The
effect of owning instruments which do not make current interest payments is that
a fixed yield is earned not only on the original investment but also, in effect,
on accretion during the life of the obligations. This implicit reinvestment of
earnings at the same rate eliminates the risk of being unable to reinvest
distributions at a rate as high as the implicit yields on the zero coupon bond,
but at the same time eliminates the holder's ability to reinvest at higher
rates. For this reason, zero coupon bonds are subject to substantially greater
price fluctuations during periods of changing market interest rates than are
comparable securities which pay interest currently. This fluctuation increases
in accordance with the length of the period to maturity. The Financial Reserves,
Institutional Money Market, Prime Obligations and the Municipal Bond Funds may
invest in zero coupon bonds without limit. The Gradison Government Reserves and
U.S. Government Obligations Funds may invest in zero coupon U.S. government
securities without limit. The Ohio Municipal Money Market and Tax-Free Money
Market Funds each may invest in tax-exempt zero coupon bonds without limit. Each
Taxable Bond Funds may invest up to 20% of its total assets in zero coupon bonds
(the Fund for Income may only invest in zero coupon U.S. government securities).
High-Yield Debt Securities. High-yield debt securities are below-investment
grade debt securities, commonly referred to as "junk bonds" (those rated Ba to C
by Moody's Investors Service ("Moody's") or BB to C by Standard & Poor's
("S&P")), that have poor protection with respect to the payment of interest and
repayment of principal, or may be in default. These securities are often
considered to be speculative and involve greater risk of loss or price changes
due to changes in the issuer's capacity to pay. The market prices of high-yield
debt securities may fluctuate more than those of higher-rated debt securities
and may decline significantly in periods of general economic difficulty, which
may follow periods of rising interest rates.
While the market for high-yield debt securities has been in existence for many
years and has weathered previous economic downturns, the 1980s brought a
dramatic increase in the use of such securities to fund highly-leveraged
corporate acquisitions and restructurings. Past experience may not provide an
accurate indication of future performance of the high yield bond market,
especially during periods of economic recession. In fact, from 1989 to 1991, the
percentage of high-yield debt securities that defaulted rose significantly above
prior levels, although the default rate decreased in 1992.
The market for high-yield debt securities may be thinner and less active than
that for higher-rated debt securities, which can adversely affect the prices at
which the former are sold. If market quotations are not available, high-yield
debt securities will be valued in accordance with procedures established by the
Trust's Board of Trustees, including the use of outside pricing services.
Judgment plays a greater role in valuing high-yield debt securities than is the
case for securities for which more external sources for quotations and last-sale
information are available. Adverse publicity and changing investor perceptions
may affect the ability of outside pricing services to value high-yield debt
securities and a Fund's ability to sell these securities.
Since the risk of default is higher for high-yield debt securities, the
Adviser's research and credit analysis are an especially important part of
managing securities of this type held by a Fund. In considering investments for
a Fund, the Adviser will attempt to identify those issuers of high-yielding debt
securities whose financial condition is adequate to meet future obligations, has
improved, or is expected to improve in the future. Analysis by the Adviser
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focuses on relative values based on such factors as interest or dividend
coverage, asset coverage, earnings prospects, and the experience and managerial
strength of the issuer.
A Fund may choose, at its expense or in conjunction with others, to pursue
litigation or otherwise exercise its rights as security holder to seek to
protect the interests of security holders if it determines this to be in the
best interest of the Fund's shareholders.
The Convertible Securities Fund. The Convertible Securities Fund will purchase
convertible securities that may or may not be rated by an NRSRO. When purchasing
rated securities, the Fund may make substantial investments in securities rated
Baa, Ba B or Caa by Moody's and BB, BB, B or CCC by S&P.
The Convertible Securities Fund is not restricted from investing in
below-investment grade securities. However, the Fund will not invest in
securities rated Ba or lower by Moody's or BB or lower by S&P or unrated
securities, unless the Adviser believes that positive factors mitigate or reduce
the investment risks and that the investment is expected to provide a return
commensurate with such risks. Positive factors would include operating strengths
or improvements, such as growing market share or improved cost structure or
margins, that would enable a company to service its debt with a wider margin of
comfort than anticipated by rating agencies.
Loans and Other Direct Debt Instruments. Loans and other direct debt instruments
are interests in amounts owed by a corporate, governmental, or other borrower to
another party. They may represent amounts owed to lenders or lending syndicates
(loans and loan participations), to suppliers of goods or services (trade claims
or other receivables), or to other parties. Direct debt instruments involve a
risk of loss in case of default or insolvency of the borrower and may offer less
legal protection to a Fund in the event of fraud or misrepresentation. In
addition, loan participations involve a risk of insolvency of the lending bank
or other financial intermediary. Direct debt instruments also may include
standby financing commitments that obligate a Fund to supply additional cash to
the borrower on demand. Each Municipal Bond Fund may invest up to 20% of its
total assets in loan participations.
Securities of Other Investment Companies. A Fund (other than the LifeChoice
Funds) may invest up to 5% of its total assets in the securities of any one
investment company, but may not own more than 3% of the securities of any one
investment company or invest more than 10% of its total assets in the securities
of other investment companies. Pursuant to an SEC exemptive order, a Fund may
invest in the money market funds of the Trust. The Adviser will waive its
investment advisory fee with respect to assets of a Fund invested in any of the
Money Market Funds of the Trust, and, to the extent required by the laws of any
state in which a Fund's shares are sold, the Adviser will waive its investment
advisory fee as to all assets invested in other investment companies. The
LifeChoice Funds may invest in the Proprietary Portfolios without limitation.
See "Investment Policies and Limitations -- The LifeChoice Funds" in this SAI.
U.S. Government Securities. U.S. government securities are obligations issued
or guaranteed by the U.S. government, its agencies, and instrumentalities.
Obligations of certain agencies and instrumentalities of the U.S. government
are supported by the full faith and credit of the U.S. Treasury; others are
supported by the right of the issuer to borrow from the U.S. Treasury; others
are supported by the discretionary authority of the U.S. government to
purchase the agency's obligations; and still others are supported only by the
credit of the agency or instrumentality. No assurance can be given that the
U.S. government will provide financial support to U.S. government-sponsored
agencies or instrumentalities if it is not obligated to do so by law. The
Balanced Fund may invest up to 60% of its total assets in U.S. government
securities. The Convertible Securities and International Growth Funds each
may invest up to 35% of its total assets in these securities. The Ohio
Municipal Money Market Fund, the Municipal Bond Funds, and the Diversified
Stock, Established Value, Growth, Lakefront, Real Estate Investment, Small
Company Opportunity, Special Value, Stock Index (only U.S. Treasurys) and
Value Funds each may invest up to 20% of its total assets in U.S. government
securities.
Municipal Securities. Municipal securities are obligations, typically bonds and
notes, issued by or on behalf of states, territories, and possessions of the
United States and the District of Columbia and their political subdivisions,
agencies, authorities, and instrumentalities, the interest on which, in the
opinion of the issuer's bond counsel at the time of issuance, is both exempt
from federal income tax and not treated as a preference item for individuals for
purposes of the federal alternative minimum tax.
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Two specific types of municipal securities are "Ohio Tax-Exempt Obligations" and
"New York Tax-Exempt Obligations." Ohio Tax-Exempt Obligations are municipal
securities issued by the State of Ohio and its political subdivisions, the
interest on which is, in the opinion of the issuer's bond counsel at the time of
issuance, excluded from gross income for purposes of both regular federal income
taxation and Ohio personal income tax. New York Tax-Exempt Obligations are
municipal securities issued by the State of New York and its political
subdivisions, the interest on which is, in the opinion of the issuer's bond
counsel at the time of issuance, excluded from gross income for purposes of both
regular federal income taxation and New York personal income tax.
Generally, municipal securities are issued by governmental entities to obtain
funds for various public purposes, such as the construction of a wide range of
public facilities, the refunding of outstanding obligations, the payment of
general operating expenses, and the extension of loans to other public
institutions and facilities. Municipal securities may include fixed, variable,
or floating rate obligations. Municipal securities may be purchased on a
when-issued or delayed-delivery basis (including refunding contracts). Each
Municipal Bond Fund may invest in refunding contracts without limit.
The two principal categories of municipal securities are "general obligation"
issues and "revenue" issues. Other categories of municipal securities are "moral
obligation" issues, private activity bonds, and industrial development bonds.
The prices and yields on municipal securities are subject to change from time to
time and depend upon a variety of factors, including general money market
conditions, the financial condition of the issuer (or other entities whose
financial resources are supporting the municipal security), general conditions
in the market for tax-exempt obligations, the size of a particular offering, the
maturity of the obligation, and the rating(s) of the issue. There are variations
in the quality of municipal securities, both within a particular category of
municipal securities and between categories. Current information about the
financial condition of an issuer of tax-exempt bonds or notes usually is not as
extensive as that which is made available by corporations whose securities are
publicly traded.
The term "municipal securities," as used in this SAI, includes private activity
bonds issued and industrial development bonds by or on behalf of public
authorities to finance various privately-operated facilities if the interest
paid thereon is both exempt from federal income tax and not treated as a
preference item for individuals for purposes of the federal alternative minimum
tax. The term "municipal securities" also includes short-term instruments issued
in anticipation of the receipt of tax funds, the proceeds of bond placements, or
other revenues, such as short-term general obligation notes, tax anticipation
notes, bond anticipation notes, revenue anticipation notes, tax-exempt
commercial paper, construction loan notes, and other forms of short-term
tax-exempt loans. Additionally, the term "municipal securities" includes project
notes, which are issued by a state or local housing agency and are sold by the
Department of Housing and Urban Development. The Intermediate Income, Investment
Quality Bond and Limited Term Income Funds each may invest in tax, revenue and
bond anticipation notes without limit.
An issuer's obligations under its municipal securities are subject to the
provisions of bankruptcy, insolvency, and other laws affecting the rights and
remedies of creditors, such as the federal bankruptcy code. Congress or state
legislatures may enact laws extending the time for payment of principal or
interest, or both, or imposing other constraints upon the enforcement of such
obligations or upon the ability of municipalities to levy taxes. The power or
ability of an issuer to meet its obligations for the payment of interest on and
principal of its municipal securities may be materially adversely affected by
litigation or other conditions. There also is the possibility that, as a result
of litigation or other conditions, the power or ability of certain issuers to
meet their obligations to pay interest on and principal of their tax-exempt
bonds or notes may be materially impaired or their obligations may be found to
be invalid or unenforceable. Such litigation or conditions may, from time to
time, have the effect of introducing uncertainties in the market for tax-exempt
obligations or certain segments thereof, or may materially affect the credit
risk with respect to particular bonds or notes. Adverse economic, business,
legal, or political developments might affect all or a substantial portion of
the Fund's tax-exempt bonds and notes in the same manner.
From time to time, proposals have been introduced before Congress for the
purpose of restricting or eliminating the federal income tax exemption for
interest on tax-exempt bonds, and similar proposals may be introduced in the
future. The U.S. Supreme Court has held that Congress has the constitutional
authority to enact such legislation. It is not possible to determine what effect
the adoption of such proposals could have on the availability of tax-exempt
bonds for investment by the Fund and the value of its portfolio. Proposals also
may be introduced before state
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legislatures that would affect the state tax treatment of municipal securities.
If such proposals were enacted, the availability of municipal securities and
their value would be affected.
The Internal Revenue Code of 1986, as amended (the "Code"), imposes certain
continuing requirements on issuers of tax-exempt bonds regarding the use,
expenditure and investment of bond proceeds and the payment of rebate to the
United States of America. Failure by the issuer to comply with certain of these
requirements subsequent to the issuance of tax-exempt bonds could cause interest
on the bonds to become includable in gross income retroactive to the date of
issuance.
General obligation issues are backed by the full taxing power of a state or
municipality and are payable from the issuer's general unrestricted revenues and
not from any particular fund or source. The characteristics and method of
enforcement of general obligation bonds vary according to the law applicable to
the particular issuer. Revenue issues or special obligation issues are backed
only by the revenues from a specific tax, project, or facility. "Moral
obligation" issues are normally issued by special purpose authorities.
Private activity bonds and industrial development bonds generally are revenue
bonds and not payable from the resources or unrestricted revenues of the issuer.
The credit and quality of industrial development revenue bonds is usually
directly related to the credit of the corporate user of the facilities. Payment
of principal of and interest on industrial development revenue bonds is the
responsibility of the corporate user (and any guarantor). Each Municipal Bond
Fund may invest in revenue bonds and resource recovery bonds without limit.
Private activity bonds, as discussed above, may constitute municipal securities
depending on their tax treatment. The source of payment and security for such
bonds is the financial resources of the private entity involved; the full faith
and credit and the taxing power of the issuer normally will not be pledged. The
payment obligations of the private entity also will be subject to bankruptcy as
well as other exceptions similar to those described above. Certain debt
obligations known as "industrial development bonds" under prior federal tax law
may have been issued by or on behalf of public authorities to obtain funds to
provide certain privately operated housing facilities, sports facilities,
industrial parks, convention or trade show facilities, airport, mass transit,
port or parking facilities, air or water pollution control facilities, sewage or
solid waste disposal facilities, and certain local facilities for water supply
or other heating or cooling facilities. Other private activity bonds and
industrial development bonds issued to fund the construction, improvement or
equipment of privately-operated industrial, distribution, research or commercial
facilities also may be municipal securities, but the size of such issues is
limited under current and prior federal tax law. The aggregate amount of most
private activity bonds and industrial development bonds is limited (except in
the case of certain types of facilities) under federal tax law by an annual
"volume cap." The volume cap limits the annual aggregate principal amount of
such obligations issued by or on behalf of all government instrumentalities in
the state. Such obligations are included within the term "municipal securities"
if the interest paid thereon is, in the opinion of bond counsel, at the time of
issuance, excluded from gross income for purposes of both federal income
taxation (including any alternative minimum tax) and state personal income tax.
Funds that invest in private activity bonds may not be a desirable investment
for "substantial users" of facilities financed by private activity bonds or
industrial development bonds or for "related persons" of substantial users.
Project notes are secured by the full faith and credit of the United States
through agreements with the issuing authority which provide that, if required,
the U.S. government will lend the issuer an amount equal to the principal of and
interest on the project notes, although the issuing agency has the primary
obligation with respect to its project notes.
Some municipal securities are insured by private insurance companies, while
others may be supported by letters of credit furnished by domestic or foreign
banks. Insured investments are covered by an insurance policy applicable to a
specific security, either obtained by the issuer of the security or by a third
party from a private insurer. Insurance premiums for the municipal bonds are
paid in advance by the issuer or the third party obtaining such insurance. Such
policies are noncancellable and continue in force as long as the municipal bonds
are outstanding and the respective insurers remain in business.
The insurer generally unconditionally guarantees the timely payment of the
principal of and interest on the insured municipal bonds when and as such
payments become due but shall not be paid by the issuer, except that in the
event of any acceleration of the due date of the principal by reason of
mandatory or optional redemption (other than
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acceleration by reason of a mandatory sinking fund payment), default, or
otherwise, the payments guaranteed will be made in such amounts and at such
times as payments of principal would have been due had there not been such
acceleration. The insurer will be responsible for such payments less any amounts
received by the bondholder from any trustee for the municipal bond issuers or
from any other source. The insurance does not guarantee the payment of any
redemption premium, the value of the shares of a Fund, or payments of any tender
purchase price upon the tender of the municipal bonds. With respect to small
issue industrial development municipal bonds and pollution control revenue
municipal bonds, the insurer guarantees the full and complete payments required
to be made by or on behalf of an issuer of such municipal bonds if there occurs
any change in the tax-exempt status of interest on such municipal bonds,
including principal, interest, or premium payments, if any, as and when required
to be made by or on behalf of the issuer pursuant to the terms of such municipal
bonds. This insurance is intended to reduce financial risk, but the cost thereof
will reduce the yield available to shareholders of a Fund.
The ratings of NRSROs represent their opinions as to the quality of municipal
securities. In this regard, it should be emphasized that the ratings of any
NRSRO are general and are not absolute standards of quality, and municipal
securities with the same maturity, interest rate, and rating may have different
yields, while municipal securities of the same maturity and interest rate with
different ratings may have the same yield. Subsequent to purchase by a Fund, an
issue of municipal securities may cease to be rated or its rating may be reduced
below the minimum rating required for purchase by the Fund. The Adviser will
consider such an event in determining whether the Fund should continue to hold
the obligation.
The Adviser believes that it is likely that sufficient municipal securities will
be available to satisfy investment objective and policies of each Fund that
invests in municipal securities ("Municipal Bond Funds"). In meeting its
investment policies, a Municipal Bond Fund may invest part of its total assets
in municipal securities which are private activity bonds. Moreover, although no
Municipal Bond Fund currently intends to do so on a regular basis, each such
Fund may invest more than 25% of its total assets in municipal securities which
are related in such a way that an economic, business or political development or
change affecting one such security would likewise affect the other municipal
securities. Examples of such securities are obligations, the repayment of which
is dependent upon similar types of projects or projects located in the same
state. Such investments would be made only if deemed necessary or appropriate by
the Adviser.
Risk Factors Associated with Certain Issuers of Municipal Securities. A number
of factors could impair a municipal issuer's ability to service its debt.
General Obligation. The following may negatively affect a general
obligation issuer's debt service ability: reduced voter support for taxes;
statutory tax limits; a reduction in state and/or federal support; adverse
economic, demographic and social trends; and loss of a significant taxpayer,
such as the closing of a major manufacturing plant in a municipality that is
heavily dependent on that facility.
Hospital and Health Care Facilities. The following may negatively
affect hospital and health care facilities that issue municipal securities:
changes in federal and state statutes, regulations, and policies affecting the
health care industry; changes in policies and practices of major managed care
providers, private insurers, third party payors and private purchasers of health
care services; reductions in federal Medicare and Medicaid payments;
insufficient occupancy; large malpractice lawsuits.
Housing. The following may diminish these issuers' ability to service
debt: accelerated prepayment of underlying mortgages; insufficient mortgage
origination due to inadequate supply of housing or qualified buyers; higher than
expected default rates on the underlying mortgages; losses from receiving less
interest from escrowed new project funds than is payable to bondholders
Utilities. The following may impair the debt service ability of
utilities: deregulation; environmental regulations; and adverse population
trends, weather conditions and economic developments.
Mass Transportation. The following could negatively affect airport
facilities: a sharp rise in fuel prices; reduced air traffic; closing of
smaller, money-losing airports; adverse local economic and social trends;
changes in environmental, Federal Aviation Administration and other regulations.
The following could affect ports: natural hazards, such as drought and flood
conditions; reliance on a limited number of products or trading partners;
changes
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in federal policies on trade, currency and agriculture. The debt service ability
of toll roads is affected by: changes in traffic demand resulting from adverse
economic and employment trends, fuel shortages, and sharp fuel price increases;
dependence on tourist-oriented economies; and declines in motor fuel taxes,
vehicle registration fees, license fees, and penalties and fines.
Higher Education. The following could diminish a higher education
issuer's debt service ability: legislative or regulatory actions; local economic
conditions; reduced enrollment; increased competition with other universities or
colleges; reductions in state financial support and the level of private grants.
Ohio Tax-Exempt Obligations. As used in the Prospectuses and this SAI, the term
"Ohio Tax-Exempt Obligations" refers to debt obligations issued by or on behalf
of the State of Ohio and its political subdivisions, the interest on which is,
in the opinion of the issuer's bond counsel, rendered on the date of issuance,
excluded from gross income for purposes of both federal income taxation and Ohio
personal income tax (as used herein the terms "income tax" and "taxation" do not
include any possible incidence of any alternative minimum tax). Ohio Tax-Exempt
Obligations are issued to obtain funds for various public purposes, including
the construction of a wide range of public facilities such as bridges, highways,
roads, schools, water and sewer works, and other utilities. Other public
purposes for which Ohio Tax-Exempt Obligations may be issued include refunding
outstanding obligations and obtaining funds to lend to other public institutions
and facilities. In addition, certain debt obligations known as "private activity
bonds" may be issued by or on behalf of municipalities and public authorities to
obtain funds to provide certain water, sewage and solid waste facilities,
qualified residential rental projects, certain local electric, gas and other
heating or cooling facilities, qualified hazardous waste facilities, high-speed
inter-city rail facilities, government-owned airports, docks and wharves and
mass commuting facilities, certain qualified mortgages, student loan and
redevelopment bonds and bonds used for certain organizations exempt from federal
income taxation. Certain debt obligations known as "industrial development
bonds" under prior federal tax law may have been issued by or on behalf of
public authorities to obtain funds to provide certain privately operated housing
facilities, sports facilities, industrial parks, convention or trade show
facilities, airport, mass transit, port or parking facilities, air or water
pollution control facilities, sewage or solid waste disposal facilities, and
certain local facilities for water supply or other heating or cooling
facilities. Other private activity bonds and industrial development bonds issued
to fund the construction, improvement or equipment of privately-operated
industrial, distribution, research or commercial facilities also may be Ohio
Tax-Exempt Obligations, but the size of such issues is limited under current and
prior federal tax law. The aggregate amount of most private activity bonds and
industrial development bonds is limited (except in the case of certain types of
facilities) under federal tax law by an annual "volume cap." The volume cap
limits the annual aggregate principal amount of such obligations issued by or on
behalf of all government instrumentalities in the state. Such obligations are
included within the term Ohio Tax-Exempt Obligations if the interest paid
thereon is, in the opinion of bond counsel, rendered on the date of issuance,
excluded from gross income for purposes of both federal income taxation
(including, in certain cases, any alternative minimum tax) and Ohio personal
income tax. A Fund which invests in Ohio Tax-Exempt Obligations may not be a
desirable investment for "substantial users" of facilities financed by private
activity bonds or industrial development bonds or for "related persons" of
substantial users. See "Dividends, Distributions, and Taxes" in the
Prospectuses.
Prices and yields on Ohio Tax-Exempt Obligations are dependent on a variety of
factors, including general money market conditions, the financial condition of
the issuer, general conditions in the market for tax-exempt obligations, the
size of a particular offering, the maturity of the obligation and ratings of
particular issues, and are subject to change from time to time. Current
information about the financial condition of an issuer of tax-exempt bonds or
notes is usually not as extensive as that which is made available by
corporations whose securities are publicly traded.
Obligations of subdivision issuers of tax-exempt bonds and notes may be subject
to the provisions of bankruptcy, insolvency and other laws, such as the Federal
Bankruptcy Reform Act of 1978, as amended, affecting the rights and remedies of
creditors. Congress or state legislatures may seek to extend the time for
payment of principal or interest, or both, or to impose other constraints upon
enforcement of such obligations. There also is the possibility that, as a result
of litigation or other conditions, the power or ability of certain issuers to
meet their obligations to pay interest on and principal of their tax-exempt
bonds or notes may be materially impaired or their obligations may be found to
be invalid or unenforceable. Such litigation or conditions may, from time to
time, have the effect of introducing uncertainties in the market for tax-exempt
obligations or certain segments thereof, or may materially
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affect the credit risk with respect to particular bonds or notes. Adverse
economic, business, legal or political developments might affect all or a
substantial portion of the Funds' tax-exempt bonds and notes in the same manner.
From time to time, proposals have been introduced before Congress for the
purpose of restricting or eliminating the federal income tax exemption for
interest on tax-exempt bonds, and similar proposals may be introduced in the
future. A 1988 decision of the U.S. Supreme Court held that Congress has the
constitutional authority to enact such legislation. It is not possible to
determine what effect the adoption of such proposals could have on the
availability of tax-exempt bonds for investment by a Fund and the value of its
portfolio.
The Code imposes certain continuing requirements on issuers of tax-exempt bonds
regarding the use, expenditure and investment of bond proceeds and the payment
of rebate to the United States of America. Failure by the issuer to comply
subsequent to the issuance of tax-exempt bonds with certain of these
requirements could cause interest on the bonds to become includable in gross
income, including retroactively to the date of issuance.
A Fund may invest in Ohio Tax-Exempt Obligations either by purchasing them
directly or by purchasing certificates of accrual or similar instruments
evidencing direct ownership of interest payments or principal payments, or both,
on Ohio Tax-Exempt Obligations, provided that, in the opinion of counsel to the
initial seller of each such certificate or instrument, any original issue
discount accruing on such certificate or instrument that is purchased at a yield
not greater than the coupon rate of interest on the related Ohio Tax-Exempt
Obligations will be exempt from federal income tax and Ohio personal income tax
to the same extent as interest on such Ohio Tax-Exempt Obligations. A Fund also
may invest in Ohio Tax-Exempt Obligations by purchasing from banks participation
interests in all or part of specific holdings of Ohio Tax-Exempt Obligations.
Such participations may be backed in whole or in part by an irrevocable letter
of credit or guarantee of the selling bank. The selling bank may receive a fee
from the Fund in connection with the arrangement. A Fund will not purchase
participation interests unless it receives an opinion of counsel or a ruling of
the Internal Revenue Service that interest earned by it on Ohio Tax-Exempt
Obligations in which it holds such a participation interest is exempt from
federal income tax and Ohio personal income tax.
Municipal Lease Obligations. Municipal lease obligations and participation
interests therein, which may take the form of a lease, an installment purchase,
or a conditional sale contract, are issued by state and local governments and
authorities to acquire land and a wide variety of equipment and facilities.
Generally, a Fund will not hold such obligations directly as a lessor of the
property, but will purchase a participation interest in a municipal obligation
from a bank or other third party. A participation interest gives a Fund a
specified, undivided interest in the obligation in proportion to its purchased
interest in the total amount of the obligation. Each Municipal Bond Fund may
invest up to 30% of its total assets in municipal lease obligations.
Municipal leases frequently have risks distinct from those associated with
general obligation or revenue bonds. State constitutions and statutes set forth
requirements that states or municipalities must meet to incur debt. These may
include voter referenda, interest rate limits, or public sale requirements.
Leases, installment purchases, or conditional sale contracts (which normally
provide for title to the leased asset to pass to the governmental issuer) have
evolved as a means for governmental issuers to acquire property and equipment
without meeting their constitutional and statutory requirements for the issuance
of debt. Many leases and contracts include "non-appropriation clauses" providing
that the governmental issuer has no obligation to make future payments under the
lease or contract unless money is appropriated for such purposes by the
appropriate legislative body on a yearly or other periodic basis.
Non-appropriation clauses free the issuer from debt issuance limitations.
Below-Investment Grade Municipal Securities. No Municipal Bond Fund currently
intends to invest in below-investment grade municipal securities. However, each
Municipal Bond Fund may hold up to 5% of its assets in municipal securities that
have been downgraded below investment grade. While the market for municipal
securities is considered to be substantial, adverse publicity and changing
investor perceptions may affect the ability of outside pricing services used by
the Fund to value portfolio securities, and the Fund's ability to dispose of
below-investment grade securities. Outside pricing services are consistently
monitored to assure that securities are valued by a method that the Board of
Trustees believes accurately reflects fair value. The impact of changing
investor perceptions may be especially pronounced in markets where municipal
securities are thinly traded.
A Municipal Bond Fund may choose, at its expense, or in conjunction with others,
to pursue litigation seeking to protect the interests of security holders if it
determines this to be in the best interest of shareholders.
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Federally Taxable Obligations. No Municipal Bond Fund intends to invest in
securities whose interest is federally taxable; however, from time to time, a
Municipal Bond Fund may invest a portion of its assets on a temporary basis in
fixed-income obligations whose interest is subject to federal income tax. For
example, a Municipal Bond Fund may invest in obligations whose interest is
federally taxable pending the investment or reinvestment in municipal securities
of proceeds from the sale of its shares of portfolio securities. Each Municipal
Bond Fund may invest up to 20% of its total assets in taxable obligations. In
addition, the Tax-Free Money Market Fund may invest up to 20% of its total
assets in taxable obligations.
Should a Municipal Bond Fund invest in federally taxable obligations, it would
purchase securities which in the Adviser's judgment are of high quality. This
would include obligations issued or guaranteed by the U.S. government, its
agencies or instrumentalities; obligations of domestic banks; and repurchase
agreements. The Municipal Bond Funds' standards for high quality taxable
obligations are essentially the same as those described by Moody's in rating
corporate obligations within its two highest ratings of Prime-1 and Prime-2, and
those described by S&P in rating corporate obligations within its two highest
ratings of A-1 and A-2. In making high quality determinations a Municipal Bond
Fund also may consider the comparable ratings of other NRSROs.
The Supreme Court has held that Congress may subject the interest on municipal
obligations to federal income tax. Proposals to restrict or eliminate the
federal income tax exemption for interest on municipal obligations are
introduced before Congress from time to time. Proposals also may be introduced
before the New York legislature that would affect the state tax treatment of the
Municipal Bond Funds' distributions. If such proposals were enacted, the
availability of municipal obligations and the value of the Municipal Bond Funds'
holdings would be affected and the Trustees would reevaluate the Funds'
investment objective and policies.
The Municipal Bond Funds anticipate being as fully invested as practicable in
municipal securities; however, there may be occasions when, as a result of
maturities of portfolio securities, sales of Fund shares, or in order to meet
redemption requests, a Municipal Bond Fund may hold cash that is not earning
income. In addition, there may be occasions when, in order to raise cash to meet
redemptions, a Municipal Bond Fund may be required to sell securities at a loss.
Refunded Municipal Bonds. Investments by a Fund in refunded municipal bonds that
are secured by escrowed obligations issued or guaranteed by the U.S. government
or its agencies or instrumentalities are considered to be investments in U.S.
government obligations for purposes of the diversification requirements to which
the Funds is subject under the 1940 Act. As a result, more than 5% of a Fund's
total assets may be invested in such refunded bonds issued by a particular
municipal issuer. The escrowed securities securing such refunded municipal bonds
will consist exclusively of U.S. government obligations, and will be held by an
independent escrow agent or be subject to an irrevocable pledge of the escrow
account to the debt service on the original bonds.
When-Issued Securities. A Fund may purchase securities on a when-issued basis
(i.e., for delivery beyond the normal settlement date at a stated price and
yield). When a Fund agrees to purchase securities on a when issued basis, the
custodian will set aside cash or liquid securities equal to the amount of the
commitment in a separate account. Normally, the custodian will set aside
portfolio securities to satisfy the purchase commitment, and in such a case, the
Fund may be required subsequently to place additional assets in the separate
account in order to assure that the value of the account remains equal to the
amount of the Fund's commitment. It may be expected that a Fund's net assets
will fluctuate to a greater degree when it sets aside portfolio securities to
cover such purchase commitments than when it sets aside cash. When a Fund
engages in when-issued transactions, it relies on the seller to consummate the
trade. Failure of the seller to do so may result in the Fund incurring a loss or
missing the opportunity to obtain a price considered to be advantageous. The
Funds do not intend to purchase when-issued securities for speculative purposes,
but only in furtherance of their investment objectives.
Delayed-Delivery Transactions. A Fund may buy and sell securities on a
delayed-delivery basis. These transactions involve a commitment by the Fund to
purchase or sell specific securities at a predetermined price or yield, with
payment and delivery taking place after the customary settlement period for that
type of security (and more than seven days in the future). Typically, no
interest accrues to the purchaser until the security is delivered. The Fund may
receive fees for entering into delayed delivery transactions.
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When purchasing securities on a delayed-delivery basis, a Fund assumes the
rights and risks of ownership, including the risks of price and yield
fluctuations in addition to the risks associated with the Fund's other
investments. Because a Fund is not required to pay for securities until the
delivery date, these delayed-delivery purchases may result in a form of
leverage. When delayed-delivery purchases are outstanding, the Fund will set
aside cash and appropriate liquid assets in a segregated custodial account to
cover its purchase obligations. When a Fund has sold a security on a
delayed-delivery basis, it does not participate in further gains or losses with
respect to the security. If the other party to a delayed-delivery transaction
fails to deliver or pay for the securities, the Fund could miss a favorable
price or yield opportunity or suffer a loss.
A Fund may renegotiate delayed-delivery transactions after they are entered into
or may sell underlying securities before they are delivered, either of which may
result in capital gains or losses.
Mortgage-Backed Securities--In General. Mortgage-backed securities are backed by
mortgage obligations including, among others, conventional 30-year fixed rate
mortgage obligations, graduated payment mortgage obligations, 15-year mortgage
obligations, and adjustable-rate mortgage obligations. All of these mortgage
obligations can be used to create pass-through securities. A pass-through
security is created when mortgage obligations are pooled together and undivided
interests in the pool or pools are sold. The cash flow from the mortgage
obligations is passed through to the holders of the securities in the form of
periodic payments of interest, principal, and prepayments (net of a service
fee). Prepayments occur when the holder of an individual mortgage obligation
prepays the remaining principal before the mortgage obligation's scheduled
maturity date. As a result of the pass-through of prepayments of principal on
the underlying securities, mortgage-backed securities are often subject to more
rapid prepayment of principal than their stated maturity indicates. Because the
prepayment characteristics of the underlying mortgage obligations vary, it is
not possible to predict accurately the realized yield or average life of a
particular issue of pass-through certificates. Prepayment rates are important
because of their effect on the yield and price of the securities. Accelerated
prepayments have an adverse impact on yields for pass-throughs purchased at a
premium (i.e., a price in excess of principal amount) and may involve additional
risk of loss of principal because the premium may not have been fully amortized
at the time the obligation is repaid. The opposite is true for pass-throughs
purchased at a discount. A Fund may purchase mortgage-backed securities at a
premium or at a discount. Among the U.S. government securities in which a Fund
may invest are Government mortgage-backed securities (or government guaranteed
mortgage-related securities). Such guarantees do not extend to the value of
yield of the mortgage-backed securities themselves or of the Fund's shares. Each
Money Market Fund may invest in mortgage-backed securities without limit. The
Balanced Fund may invest up to 40% of its total assets in mortgage-backed
securities. Each Municipal Bond Fund and the Convertible Securities Fund may
invest up to 35% of its total assets in tax-exempt mortgage-backed securities.
The Diversified Stock Fund may invest up to 20% in these securities.
Federal Farm Credit Bank Securities. A U.S. government-sponsored institution,
the Federal Farm Credit Bank consolidates the financing activities of the
component banks of the Federal Farm Credit System, established by the Farm
Credit Act of 1971 to provide credit to farmers and farm-related enterprises.
The Federal Farm Credit Bank sells short-term discount notes maturing in 1 to
365 days, short-term bonds with three- and six-month maturities, and adjustable
rate securities through a national syndicate of securities dealers. Several
dealers also maintain an active secondary market in these securities. Federal
Farm Credit Bank Securities are not guaranteed by the U.S. government and no
assurance can be given that the U.S. government will provide financial support
to this instrumentality.
Federal Home Loan Bank Securities. Similar to the role played by the Federal
Reserve System with respect to U.S. commercial banks, the Federal Home Loan Bank
System (the "FHLB"), created in 1932, supplies credit reserves to savings and
loans, cooperative banks and other mortgage lenders. The FHLB sells short-term
discount notes maturing in one to 360 days and variable rate securities, and
lends the money to mortgage lenders based on the amount of collateral provided
by the institution. FHLB securities are not guaranteed by the U.S. government
and no assurance can be given that the U.S. government will provide financial
support to this instrumentality.
U.S. Government Mortgage-Backed Securities. Certain obligations of certain
agencies and instrumentalities of the U.S. government are mortgage-backed
securities. Some such obligations, such as those issued by GNMA are supported
by the full faith and credit of the U.S. Treasury; others, such as those of
FNMA, are supported by the right of the issuer to borrow from the Treasury;
others are supported by the discretionary authority of the U.S. government
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to purchase the agency's obligations; still others, such as those of the Federal
Farm Credit Banks or FHLMC, are supported only by the credit of the
instrumentality. No assurance can be given that the U.S. government would
provide financial support to U.S. government-sponsored agencies and
instrumentalities if it is not obligated to do so by law.
The principal governmental (i.e., backed by the full faith and credit of the
U.S. government) guarantor of mortgage-backed securities is GNMA. GNMA is a
wholly owned U.S. government corporation within the Department of Housing and
Urban Development. GNMA is authorized to guarantee, with the full faith and
credit of the U.S. government, the timely payment of principal and interest on
securities issued by institutions approved by GNMA (such as savings and loan
institutions, commercial banks, and mortgage bankers) and pools of FHA-insured
or VA-guaranteed mortgages. Government-related (i.e., not backed by the full
faith and credit of the U.S. government) guarantors include FNMA and FHLMC.
FNMA and FHLMC are government-sponsored corporations owned entirely by private
stockholders. Pass-through securities issued by FNMA and FHLMC are guaranteed
as to timely payment of principal and interest, but are not backed by the full
faith and credit of the U.S. government.
GNMA Certificates. GNMA Certificates are mortgage-backed securities which
evidence an undivided interest in a pool or pools of mortgages. GNMA
Certificates that a Fund may purchase are the "modified pass-through" type,
which entitle the holder to receive timely payment of all interest and principal
payments due on the mortgage pool, net of fees paid to the "issuer" and GNMA,
regardless of whether or not the mortgagor actually makes the payment.
The National Housing Act authorizes GNMA to guarantee the timely payment of
principal and interest on securities backed by a pool of mortgages insured by
the Federal Housing Administration ("FHA") or guaranteed by the Veterans
Administration ("VA"). The GNMA guarantee is backed by the full faith and credit
of the U.S. government. GNMA also is empowered to borrow without limitation from
the U.S. Treasury if necessary to make any payments required under its
guarantee.
The estimated average life of a GNMA Certificate is likely to be substantially
shorter than the original maturity of the underlying mortgages. Prepayments of
principal by mortgagors and mortgage foreclosures usually will result in the
return of the greater part of principal investment long before the maturity of
the mortgages in the pool. Foreclosures impose no risk to principal investment
because of the GNMA guarantee, except to the extent that a Fund has purchased
the certificates above par in the secondary market.
FHLMC Securities. FHLMC was created in 1970 to promote development of a
nationwide secondary market in conventional residential mortgages. FHLMC issues
two types of mortgage pass-through securities ("FHLMC Certificates"), mortgage
participation certificates, and collateralized mortgage obligations ("CMOs").
Participation Certificates resemble GNMA Certificates in that each Participation
Certificate represents a pro rata share of all interest and principal payments
made and owed on the underlying pool. FHLMC guarantees timely monthly payment of
interest on PCs and the ultimate payment of principal. FHLMC Gold Participation
Certificates guarantee the timely payment of both principal and interest.
FHLMC CMOs are backed by pools of agency mortgage-backed securities and the
timely payment of principal and interest of each tranche is guaranteed by the
FHLMC. The FHLMC guarantee is not backed by the full faith and credit of the
U.S. government.
FNMA Securities. FNMA was established in 1938 to create a secondary market in
mortgages insured by the FHA, but has expanded its activity to the secondary
market for conventional residential mortgages. FNMA primarily issues two types
of mortgage-backed securities, guaranteed mortgage pass-through certificates
("FNMA Certificates") and CMOs. FNMA Certificates resemble GNMA Certificates in
that each FNMA Certificate represents a pro rata share of all interest and
principal payments made and owed on the underlying pool. FNMA guarantees timely
payment of interest and principal on FNMA Certificates and CMOs. The FNMA
guarantee is not backed by the full faith and credit of the U.S. government.
SLMA Securities. Established by federal decree in 1972 to increase the
availability of education loans to college and university students, the Student
Loan Marketing Association ("SLMA") is a publicly traded corporation that
guarantees student loans traded in the secondary market. SLMA purchases student
loans from participating financial institutions that originate these loans and
provides financing to state education loan agencies. SLMA
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issues short- and medium-term notes and floating rate securities. SLMA
securities are not guaranteed by the U.S. government and no assurance can be
given that the U.S. government will provide financial support to this
instrumentality.
Collateralized Mortgage Obligations. Mortgage-backed securities also may include
CMOs. CMOs are securities backed by a pool of mortgages in which the principal
and interest cash flows of the pool are channeled on a prioritized basis into
two or more classes, or tranches, of bonds. The Balanced Fund may invest up to
40% of its total assets in CMOs. The Convertible Securities and International
Growth Funds may each invest up to 35% of its total assets in CMOs. Each
Municipal Bond Fund may invest up to 25% of its total assets in CMOs. The
Diversified Stock Fund may invest up to 20% of its total assets in these
securities.
Non-Government Mortgage-Backed Securities. A Fund may invest in mortgage-related
securities issued by non-government entities. Commercial banks, savings and loan
institutions, private mortgage insurance companies, mortgage bankers, and other
secondary market issuers also create pass-through pools of conventional
residential mortgage loans. Such issuers also may be the originators of the
underlying mortgage loans as well as the guarantors of the mortgage-related
securities. Pools created by such non-government issuers generally offer a
higher rate of interest than government and government-related pools because
there are not direct or indirect government guarantees of payments in the former
pools. However, timely payment of interest and principal of these pools is
supported by various forms of insurance or guarantees, including individual
loan, title, pool, and hazard insurance. The insurance and guarantees are issued
by government entities, private insurers and the mortgage poolers. Such
insurance and guarantees and the creditworthiness of the issuers, thereof will
be considered in determining whether a non-government mortgage-backed security
meets a Fund's investment quality standards. There can be no assurance that the
private insurers can meet their obligations under the policies. A Fund may buy
non-government mortgage-backed securities without insurance or guarantees if,
through an examination of the loan experience and practices of the poolers, the
Adviser determines that the securities meet the Fund's quality standards.
Although the market for such securities is becoming increasingly liquid,
securities issued by certain private organizations may not be readily
marketable. A Fund will not purchase mortgage-related securities or any other
assets which in the opinion of the Adviser are illiquid if, as a result, more
than 15% of the value of the Fund's net assets will be invested in illiquid
securities.
A Fund may purchase mortgage-related securities with stated maturities in excess
of 10 years. Mortgage-related securities include CMOs and participation
certificates in pools of mortgages. The average life of mortgage-related
securities varies with the maturities of the underlying mortgage instruments,
which have maximum maturities of 40 years. The average life is likely to be
substantially less than the original maturity of the mortgage pools underlying
the securities as the result of mortgage prepayments. The rate of such
prepayments, and hence the average life of the certificates, will be a function
of current market interest rates and current conditions in the relevant housing
markets. The impact of prepayment of mortgages is described under "Government
Mortgage-Backed Securities." Estimated average life will be determined by the
Adviser. Various independent mortgage-related securities dealers publish
estimated average life data using proprietary models, and in making such
determinations, the Adviser will rely on such data except to the extent such
data are deemed unreliable by the Adviser. The Adviser might deem data
unreliable which appeared to present a significantly different estimated average
life for a security than data relating to the estimated average life of
comparable securities as provided by other independent mortgage-related
securities dealers.
Asset-Backed Securities. Asset-backed securities are debt securities backed by
pools of automobile or other commercial or consumer finance loans. The
collateral backing asset-backed securities cannot be foreclosed upon. These
issues are normally traded over-the-counter and typically have a short to
intermediate maturity structure, depending on the paydown characteristics of the
underlying financial assets which are passed through to the security holder. The
Prime Obligations Fund may invest up to 25% of its total assets in asset-backed
securities. The Municipal Bond and Taxable Bond Funds and the Lakefront Fund
each may invest up to 35% of its total assets in these securities and the
Balanced Fund may invest up to 20% of its total assets in these securities.
Futures and Options
Futures Contracts. A Fund may enter into futures contracts, options on futures
contracts, and stock index futures contracts and options thereon for the
purposes of remaining fully invested and reducing transaction costs. Futures
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contracts provide for the future sale by one party and purchase by another party
of a specified amount of a specific security, class of securities, or an index
at a specified future time and at a specified price. A stock index futures
contract is a bilateral agreement pursuant to which two parties agree to take or
make delivery of an amount of cash equal to a specified dollar amount times the
difference between the stock index value at the close of trading of the
contracts and the price at which the futures contract is originally struck.
Futures contracts which are standardized as to maturity date and underlying
financial instrument are traded on national futures exchanges. Futures exchanges
and trading are regulated under the Commodity Exchange Act by the Commodity
Futures Trading Commission (the "CFTC"), a U.S. government agency.
A Fund may enter into contracts for the future delivery of securities and
futures contracts based on a specific security, class of securities or an index,
purchase or sell options on any such futures contracts and engage in related
closing transactions. A futures contract on a securities index is an agreement
obligating either party to pay, and entitling the other party to receive, while
the contract is outstanding, cash payments based on the level of a specified
securities index.
Although futures contracts by their terms call for actual delivery and
acceptance of the underlying securities, in most cases the contracts are closed
out before the settlement date without the making or taking of delivery. Closing
out an open futures position is done by taking an opposite position (buying a
contract which has previously been "sold," or "selling" a contract previously
purchased) in an identical contract to terminate the position. The acquisition
of put and call options on futures contracts will, respectively, give a Fund the
right (but not the obligation), for a specified price, to sell or to purchase
the underlying futures contract, upon exercise of the option, at any time during
the option period. Brokerage commissions are incurred when a futures contract is
bought or sold.
Futures traders are required to make a good faith margin deposit in cash or
government securities with a broker or custodian to initiate and maintain open
positions in futures contracts. A margin deposit is intended to assure
completion of the contract (delivery or acceptance of the underlying security)
if it is not terminated prior to the specified delivery date. Minimal initial
margin requirements are established by the futures exchange and may be changed.
Brokers may establish deposit requirements which are higher than the exchange
minimums. Initial margin deposits on futures contracts are customarily set at
levels much lower than the prices at which the underlying securities are
purchased and sold, typically ranging upward from less than 5% of the value of
the contract being traded.
After a futures contract position is opened, the value of the contract is
marked-to-market daily. If the futures contract price changes to the extent that
the margin on deposit does not satisfy margin requirements, payment of
additional "variation" margin will be required. Conversely, change in the
contract value may reduce the required margin, resulting in a repayment of
excess margin to the contract holder. Variation margin payments are made to and
from the futures broker for as long as the contract remains open. The Funds
expect to earn interest income on their margin deposits.
When interest rates are expected to rise or market values of portfolio
securities are expected to fall, a Fund can seek through the sale of futures
contracts to offset a decline in the value of its portfolio securities. When
interest rates are expected to fall or market values are expected to rise, a
Fund, through the purchase of such contracts, can attempt to secure better rates
or prices for a Fund than might later be available in the market when it effects
anticipated purchases.
A Fund will only sell futures contracts to protect securities it owns against
price declines or purchase contracts to protect against an increase in the price
of securities it intends to purchase. A Fund also may enter into futures
contracts as a temporary substitute to maintain exposure to a particular market
or security pending the purchase or sale of that security.
A Fund's ability to use futures trading effectively depends on several factors.
First, it is possible that there will not be a perfect price correlation between
a futures contract and its underlying stock index. Second, it is possible that a
lack of liquidity for futures contracts could exist in the secondary market,
resulting in an inability to close a futures position prior to its maturity
date. Third, the purchase of a futures contract involves the risk that a Fund
could lose more than the original margin deposit required to initiate a futures
transaction.
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Futures transactions involve brokerage costs and require a Fund to segregate
assets to cover contracts that would require it to purchase securities or
currencies. A Fund may lose the expected benefit of futures transactions if
interest rates, exchange rates or securities prices move in an unanticipated
manner. Such unanticipated changes also may result in poorer overall performance
than if a Fund had not entered into any futures transactions. In addition, the
value of a Fund's futures positions may not prove to be perfectly or even highly
correlated with the value of its portfolio securities, limiting a Fund's ability
to hedge effectively against interest rate and/or market risk and giving rise to
additional risks. There is no assurance of liquidity in the secondary market for
purposes of closing out futures positions.
Restrictions on the Use of Futures Contracts. A Fund will not enter into futures
contract transactions for purposes other than bona fide hedging purposes to the
extent that, immediately thereafter, the sum of its initial margin deposits on
open contracts exceeds 5% of the market value of a Fund's total assets. In
addition, a Fund will not enter into futures contracts to the extent that the
value of the futures contracts held would exceed 1/3 of the Fund's total assets.
Futures transactions will be limited to the extent necessary to maintain a
Fund's qualification as a regulated investment company.
The Trust has undertaken to restrict their futures contract trading as follows:
first, the Trust will not engage in transactions in futures contracts for
speculative purposes; second, the Trust will not market its Funds to the public
as commodity pools or otherwise as vehicles for trading in the commodities
futures or commodity options markets; third, the Trust will disclose to all
prospective shareholders the purpose of and limitations on its Funds' commodity
futures trading; fourth, the Trust will submit to the CFTC special calls for
information. Accordingly, registration as a Commodities Pool Operator with the
CFTC is not required.
In addition to the margin restrictions discussed above, transactions in futures
contracts may involve the segregation of funds pursuant to requirements imposed
by the SEC. Under those requirements, where a Fund has a long position in a
futures contract, it may be required to establish a segregated account (not with
a futures commission merchant or broker) containing cash or liquid securities
equal to the purchase price of the contract (less any margin on deposit). For a
short position in futures or forward contracts held by the Fund, those
requirements may mandate the establishment of a segregated account (not with a
futures commission merchant or broker) with cash or liquid securities that, when
added to the amounts deposited as margin, equal the market value of the
instruments underlying the futures contracts (but are not less than the price at
which the short positions were established). However, segregation of assets is
not required if a Fund "covers" a long position. For example, instead of
segregating assets, a Fund, when holding a long position in a futures contract,
could purchase a put option on the same futures contract with a strike price as
high or higher than the price of the contract held by a Fund. In addition, where
a Fund takes short positions, or engages in sales of call options, it need not
segregate assets if it "covers" these positions. For example, where a Fund holds
a short position in a futures contract, it may cover by owning the instruments
underlying the contract. A Fund also may cover such a position by holding a call
option permitting it to purchase the same futures contract at a price no higher
than the price at which the short position was established. Where a Fund sells a
call option on a futures contract, it may cover either by entering into a long
position in the same contract at a price no higher than the strike price of the
call option or by owning the instruments underlying the futures contract. A Fund
also could cover this position by holding a separate call option permitting it
to purchase the same futures contract at a price no higher than the strike price
of the call option sold by a Fund.
In addition, the extent to which a Fund may enter into transactions involving
futures contracts may be limited by the Code's requirements for qualification as
a registered investment company and a Fund's intention to qualify as such.
Risk Factors in Futures Transactions. Positions in futures contracts may be
closed out only on an exchange which provides a secondary market for such
futures. However, there can be no assurance that a liquid secondary market will
exist for any particular futures contract at any specific time. Thus, it may not
be possible to close a futures position. In the event of adverse price
movements, a Fund would continue to be required to make daily cash payments to
maintain the required margin. In such situations, if a Fund has insufficient
cash, it may have to sell portfolio securities to meet daily margin requirements
at a time when it may be disadvantageous to do so. In addition, a Fund may be
required to make delivery of the instruments underlying the futures contracts
that it holds. The inability to close options and futures positions also could
have an adverse impact on the ability to effectively hedge them. A Fund will
minimize the risk that it will be unable to close out a futures contract by only
entering into
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futures contracts which are traded on national futures exchanges and for which
there appears to be a liquid secondary market.
The risk of loss in trading futures contracts in some strategies can be
substantial, due both to the low margin deposits required, and the extremely
high degree of leverage involved in futures pricing. Because the deposit
requirements in the futures markets are less onerous than margin requirements in
the securities markets, there may be increased participation by speculators in
the futures market which also may cause temporary price distortions. A
relatively small price movement in a futures contract may result in immediate
and substantial loss (as well as gain) to the investor. For example, if at the
time of purchase, 10% of the value of the futures contract is deposited as
margin, a subsequent 10% decrease in the value of the futures contract would
result in a total loss of the margin deposit, before any deduction for the
transaction costs, if the account were then closed out. A 15% decrease would
result in a loss equal to 150% of the original margin deposit if the contract
were closed out. Thus, a purchaser or sale of a futures contract may result in
losses in excess of the amount invested in the contract. However, because the
futures strategies engaged in by the Funds are only for hedging purposes, the
Adviser does not believe that the Funds are subject to the risks of loss
frequently associated with futures transactions. The Funds would presumably have
sustained comparable losses if, instead of the futures contract, it had invested
in the underlying financial instrument and sold it after the decline.
Use of futures transactions by the Funds involves the risk of imperfect or no
correlation where the securities underlying futures contract have different
maturities than the portfolio securities being hedged. It also is possible that
the Funds could both lose money on futures contracts and also experience a
decline in value of its portfolio securities. There also is the risk of loss by
the Funds of margin deposits in the event of bankruptcy of a broker with whom
the Funds have open positions in a futures contract or related option.
Options. The following Funds may sell (write) call options that are traded on
national securities exchanges with respect to common stock in its portfolio. The
Balanced, Diversified Stock, Growth, International Growth, Lakefront, Small
Company Opportunity, Special Value, Stock Index and Value Funds each may write
covered calls on up to 25% of its total assets. The Real Estate Investment Fund
may write covered calls and puts on up to 25% of its total assets. In addition,
the Fund for Income also may write covered call options on up to 25% of its
total assets and may invest up to 5% of its total assets to purchase options or
to close out open options transactions. A Fund must at all times have in its
portfolio the securities which it may be obligated to deliver if the option is
exercised, except that the Small Company Opportunity Fund may write uncovered
calls or puts on up to 5% of its total assets, that is, call options on
securities that it does not own. The risk of writing uncovered call options is
that the writer of the option may be forced to acquire the underlying security
at a price in excess of the exercise price of the option, that is, the price at
which the writer has agreed to sell the underlying security to the purchaser of
the option. A Fund may write call options in an attempt to realize a greater
level of current income than would be realized on the securities alone. A Fund
also may write call options as a partial hedge against a possible stock market
decline. In view of its investment objective, a Fund generally would write call
options only in circumstances where the Adviser does not anticipate significant
appreciation of the underlying security in the near future or has otherwise
determined to dispose of the security. As the writer of a call option, a Fund
receives a premium for undertaking the obligation to sell the underlying
security at a fixed price during the option period, if the option is exercised.
So long as a Fund remains obligated as a writer of a call option, it forgoes the
opportunity to profit from increases in the market price of the underlying
security above the exercise price of the option, except insofar as the premium
represents such a profit. A Fund retains the risk of loss should the value of
the underlying security decline. A Fund also may enter into "closing purchase
transactions" in order to terminate its obligation as a writer of a call option
prior to the expiration of the option. Although the writing of call options only
on national securities exchanges increases the likelihood of a Fund's ability to
make closing purchase transactions, there is no assurance that a Fund will be
able to effect such transactions at any particular time or at any acceptable
price. The writing of call options could result in increases in a Fund's
portfolio turnover rate, especially during periods when market prices of the
underlying securities appreciate.
The Convertible Securities Fund. The Convertible Securities Fund may purchase
and write (i.e., sell) call options that are traded on U.S. securities
exchanges, such as the Chicago Board Options Exchange, the American Stock
Exchange, the Philadelphia Stock Exchange and the Pacific Stock Exchange. The
Fund may write call options only if they are covered, on portfolio securities
amounting to up to 25% of its total assets, and the options must remain covered
so long as the Fund is obligated as a writer.
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Puts. A put is a right to sell a specified security (or securities) within a
specified period of time at a specified exercise price. A Fund may sell,
transfer, or assign a put only in conjunction with the sale, transfer, or
assignment of the underlying security or securities. The amount payable to a
Fund upon its exercise of a "put" is normally (i) a Fund's acquisition cost of
the securities (excluding any accrued interest which a Fund paid on the
acquisition), less any amortized market premium or plus any amortized market or
original issue discount during the period a Fund owned the securities, plus (ii)
all interest accrued on the securities since the last interest payment date
during that period.
Puts may be acquired by a Fund to facilitate the liquidity of its portfolio
assets. Puts also may be used to facilitate the reinvestment of a Fund's assets
at a rate of return more favorable than that of the underlying security. Puts
may, under certain circumstances, also be used to shorten the maturity of
underlying variable rate or floating rate securities for purposes of calculating
the remaining maturity of those securities and the dollar-weighted average
portfolio maturity of a Fund's assets. See "Variable and Floating Rate Notes"
and "Valuation" in this SAI.
A Fund generally will acquire puts only where the puts are available without the
payment of any direct or indirect consideration. However, if necessary or
advisable, a Fund may pay for puts either separately in cash or by paying a
higher price for portfolio securities which are acquired subject to the puts
(thus reducing the yield to maturity otherwise available for the same
securities). The Funds intends to enter into puts only with dealers, banks, and
broker-dealers which, in the Adviser's opinion, present minimal credit risks.
The Special Value Fund may write put options from time to time. Such options may
be listed on a national securities exchange and issued by the Options Clearing
Corporation or traded over-the-counter. The Small Company Opportunity Fund may
seek to terminate its position in a put option it writes before exercise by
closing out the option in the secondary market at its current price. If the
secondary market is not liquid for a put option the Small Company Opportunity
Fund has written, however, the Small Company Opportunity Fund must continue to
be prepared to pay the strike price while the option is outstanding, regardless
of price changes, and must continue to set aside assets to cover its position.
Upon the exercise of an option, the Fund is not entitled to the gains, if any,
on securities underlying the options. The Small Company Opportunity Fund also
may purchase index put and call options and write index options. Through the
writing or purchase of index options, the Small Company Opportunity Fund can
achieve many of the same objectives as through the use of options on individual
securities. Utilizing options is a specialized investment technique that entails
a substantial risk of a complete loss of the amounts paid as premiums to writers
of options.
Illiquid Investments. Illiquid investments are investments that cannot be sold
or disposed of, within seven business days, in the ordinary course of business
at approximately the prices at which they are valued.
Under the supervision of the Trust's Board of Trustees, the Adviser determines
the liquidity of the Funds' investments and, through reports from the Adviser,
the Trustees monitor investments in illiquid instruments. In determining the
liquidity of a Fund's investments, the Adviser may consider various factors,
including (1) the frequency of trades and quotations, (2) the number of dealers
and prospective purchasers in the marketplace, (3) dealer undertakings to make a
market, (4) the nature of the security (including any demand or tender
features), and (5) the nature of the marketplace for trades (including the
ability to assign or offset the Funds' rights and obligations relating to the
investment).
Investments currently considered by a Fund to be illiquid include repurchase
agreements not entitling the holder to payment of principal and interest within
seven days, over the counter options and non-government stripped fixed-rate
mortgage-backed securities.
Also, the Adviser may determine a security to be illiquid.
However, with respect to over-the-counter options a Fund writes, all or a
portion of the value of the underlying instrument may be illiquid depending on
the assets held to cover the option and the nature and terms of any agreement a
Fund may have to close out the option before expiration.
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In the absence of market quotations, illiquid investments are priced at fair
value as determined in good faith by a committee appointed by the Trustees.
If through a change in values, net assets, or other circumstances, a Fund were
in a position where more than 15% of its net assets were invested in illiquid
securities, the Fund would seek to take appropriate steps to protect liquidity.
Each of the Money Market Funds may invest up to 10% of its net assets in
illiquid securities.
Restricted Securities. Restricted securities generally can be sold in privately
negotiated transactions, pursuant to an exemption from registration under the
Securities Act, or in a registered public offering. Where registration is
required, a Fund may be obligated to pay all or part of the registration expense
and a considerable period may elapse between the time it decides to seek
registration and the time the Fund may be permitted to sell a security under an
effective registration statement. If, during such a period, adverse market
conditions were to develop, a Fund might obtain a less favorable price than
prevailed when it decided to seek registration of the shares. The Convertible
Securities, Prime Obligations, Intermediate Income, Investment Quality Bond and
Limited Term Income Funds may invest in restricted securities without limit. The
Balanced, International Growth and Small Company Opportunity Funds each may
invest up to 35% of its total assets in these securities. The Diversified Stock,
Growth, Lakefront, Special Value, Stock Index and Value Funds each may invest up
to 20% of its total assets in these securities. The Real Estate Investment Fund
may invest up to 15% of its total assets in restricted securities. The Ohio
Municipal Money Market and Tax-Free Money Market Funds each may invest 20% of
its total assets in taxable restricted securities. The Federal Money Market Fund
may invest up to 10% of its net assets in these securities.
Securities Lending Transactions. The Funds (with the exception of the tax-exempt
funds) may from time to time lend securities from their portfolio to
broker-dealers, banks, financial institutions and institutional borrowers of
securities and receive collateral in the form of cash or U.S. government
obligations. Key Trust Company of Ohio, N.A., an affiliate of the Adviser ("Key
Trust"), serves as lending agent for the Funds, except the tax-exempt funds,
pursuant to a Securities Lending Agency Agreement that was approved by the
Trustees of the Funds. Under the Funds' current practices (which are subject to
change), a Fund must receive initial collateral equal to 102% of the market
value of the loaned securities, plus any interest due in the form of cash or
U.S. government obligations. Pursuant to an SEC exemptive order, Key Trust has
entered into a fee splitting arrangement with the Funds whereby Key Trust
receives a fee based on a percentage of the net returns generated by the lending
transactions. Under the Securities Lending Agency Agreement, Key Trust receives
a pre-negotiated percentage of the net earnings on the investment of the
collateral. The Funds will not lend portfolio securities to: (a) any "affiliated
person" (as that term is defined in the 1940 Act) of any Fund; (b) any
affiliated person of the Adviser; or (c) any affiliated person of such an
affiliated person. This collateral must be valued daily and should the market
value of the loaned securities increase, the borrower must furnish additional
collateral to a Fund sufficient to maintain the value of the collateral equal to
at least 100% of the value of the loaned securities. During the time portfolio
securities are on loan, the borrower will pay the Fund any dividends or interest
paid on such securities plus any interest negotiated between the parties to the
lending agreement. Loans will be subject to termination by the Funds or the
borrower at any time. While a Fund will not have the right to vote securities on
loan, they intend to terminate loans and regain the right to vote if that is
considered important with respect to the investment. A Fund will only enter into
loan arrangements with broker-dealers, banks or other institutions that the
Adviser has determined are creditworthy under guidelines established by the
Trustees. The Funds will limit their securities lending to 33-1/3% of total
assets.
Short Sales Against-the-Box. The Funds will not make short sales of securities,
other than short sales "against-the-box." In a short sale against-the-box, a
Fund sells a security that it owns, or a security equivalent in kind and amount
to the security sold short that the Fund has the right to obtain, for delivery
at a specified date in the future. A Fund will enter into short sales
against-the-box to hedge against unanticipated declines in the market price of
portfolio securities. If the value of the securities sold short increases prior
to the scheduled delivery date, a Fund loses the opportunity to participate in
the gain.
Investment Grade and High Quality Securities. The Funds may invest in
"investment grade" obligations, which are those rated at the time of purchase
within the four highest rating categories assigned by an NRSRO or, if unrated,
are obligations that the Adviser determines to be of comparable quality. The
applicable securities ratings are described in the Appendix. "High-quality"
short-term obligations are those obligations which, at the time of purchase, (1)
possess a rating in one of the two highest ratings categories from at least one
NRSRO (for example, commercial paper rated "A-1" or "A-2" by S&P or "P-1" or
"P-2" by Moody's) or (2) are unrated by an NRSRO but
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are determined by the Adviser to present minimal credit risks and to be of
comparable quality to rated instruments eligible for purchase by the Funds under
guidelines adopted by the Board of Trustees.
Participation Interests. The Funds may purchase interests in securities from
financial institutions such as commercial and investment banks, savings and loan
associations and insurance companies. These interests may take the form of
participation, beneficial interests in a trust, partnership interests or any
other form of indirect ownership. The Funds invest in these participation
interests, in order to obtain credit enhancement or demand features that would
not be available through direct ownership of the underlying securities.
Warrants. Warrants are securities that give a Fund the right to purchase equity
securities from the issuer at a specific price (the strike price) for a limited
period of time. The strike price of warrants typically is much lower than the
current market price of the underlying securities, yet they are subject to
greater price fluctuations. As a result, warrants may be more volatile
investments than the underlying securities and may offer greater potential for
capital appreciation as well as capital loss. Each Equity Fund, other than the
Convertible Securities Fund, may invest up to 10% of its total assets in
warrants. The Convertible Securities Fund may invest up to 5% of its total
assets in warrants that are attached to the underlying securities.
Convertible Securities. A convertible security is typically a bond or preferred
stock that may be converted at a stated price within a specified period of time
into a specified number of shares of common stock of the same or a different
issuer. Convertible securities are usually senior to common stock in a
corporation's capital structure, but usually are subordinate to similar
non-convertible securities. While providing a fixed income stream (generally
higher in yield than the income derivable from a common stock but lower than
that afforded by a similar non-convertible security), a convertible security
also affords an investor the opportunity, through its conversion feature, to
participate in the capital appreciation of the common stock into which it is
convertible.
In general, the market value of a convertible security is at least the higher of
its "investment value" (i.e., its value as a fixed income security) or its
"conversion value" (i.e., the value of the underlying share of common stock if
the security is converted). As a fixed-income security, a convertible security
tends to increase in market value when interest rates decline and tends to
decrease in value when interest rates rise. However, the price of a convertible
security also is influenced by the market value of the security's underlying
common stock. Thus, the price of a convertible security tends to increase as the
market value of the underlying stock increases, and tends to decrease as the
market value of the underlying stock declines. While no securities investment is
without some risk, investments in convertible securities generally entail less
risk than investments in the common stock of the same issuer.
Securities received upon conversion of convertible securities or upon exercise
of call options or warrants forming elements of synthetic convertibles
(described below) may be retained temporarily to permit orderly disposition or
to defer realization of gain or loss for federal tax purposes, and will be
included in calculating the amount of the Fund's total assets invested in true
and synthetic convertibles.
Synthetic Securities. The Convertible Securities Fund also may invest in
"synthetic convertibles". A synthetic convertible is create by combining
separate securities which possess the two principal characteristics of a true
convertible security, i.e., fixed income ("fixed-income component") and the
right to acquire equity securities ("convertibility component"). The
fixed-income component is achieved by investing in non-convertible bonds,
preferred stocks and money market instruments. The convertibility component is
achieved by investing in warrants or exchange listed call options or stock index
call options granting the holder the right to purchase a specified quantity of
securities within a specified period of time at a specified price or to receive
cash in the case of stock index options.
A holder of a synthetic convertible faces the risk of a decline in the price of
the stock or the level of the index involved in the convertibility component,
causing a decline in the value of the option or warrant. Should the price of the
stock fall below the exercise price and remain there throughout the exercise
period, the entire amount paid for the call option or warrant would be lost.
Since a synthetic convertible includes the fixed-income component as well, the
holder of a synthetic convertible also faces the risk that interest rates will
rise, causing a decline in the value of the fixed-income instrument.
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Refunding Contracts. A Fund generally will not be obligated to pay the full
purchase price if it fails to perform under a refunding contract. Instead,
refunding contracts generally provide for payment of liquidated damages to the
issuer (currently 15-20% of the purchase price). A Fund may secure its
obligations under a refunding contract by depositing collateral or a letter of
credit equal to the liquidated damages provisions of the refunding contract.
When required by SEC guidelines, a Fund will place liquid assets in a segregated
custodial account equal in amount to its obligations under refunding contracts.
Standby Commitments. A Fund may enter into standby commitments, which are puts
that entitle holders to same-day settlement at an exercise price equal to the
amortized cost of the underlying security plus accrued interest, if any, at the
time of exercise. The Funds may acquire standby commitments to enhance the
liquidity of portfolio securities.
Ordinarily, the Funds may not transfer a standby commitment to a third party,
although they could sell the underlying municipal security to a third party at
any time. The Funds may purchase standby commitments separate from or in
conjunction with the purchase of securities subject to such commitments. In the
latter case, the Funds would pay a higher price for the securities acquired,
thus reducing their yield to maturity.
Standby commitments are subject to certain risks, including the ability of
issuers of standby commitments to pay for securities at the time the commitments
are exercised; the fact that standby commitments are not marketable by the
Funds; and the possibility that the maturities of the underlying securities may
be different from those of the commitments.
Foreign Investments. A Fund may invest in securities issued by foreign branches
of U.S. banks, foreign banks, or other foreign issuers, including sponsored and
unsponsored American Depositary Receipts ("ADRs") and securities purchased on
foreign securities exchanges. Such investment may subject a Fund to significant
investment risks that are different from, and additional to, those related to
investments in obligations of U.S. domestic issuers or in U.S. securities
markets. Unsponsored ADRs may involve additional risks. The Balanced,
Convertible Securities, Diversified Stock, Growth, Lakefront, Small Company
Opportunity, Special Value and Value funds each may invest up to 10% in ADRs.
The value of securities denominated in or indexed to foreign currencies, and of
dividends and interest from such securities, can change significantly when
foreign currencies strengthen or weaken relative to the U.S. dollar.
Foreign securities markets generally have less trading volume and less liquidity
than U.S. markets, and prices on some foreign markets can be highly volatile.
Many foreign countries lack uniform accounting and disclosure standards
comparable to those applicable to U.S. companies, and it may be more difficult
to obtain reliable information regarding an issuer's financial condition and
operations. In addition, the costs of foreign investing, including withholding
taxes, brokerage commissions, and custodial costs, are generally higher than for
U.S. investments. The Real Estate Investment Fund may invest up to 20% of its
total assets in foreign equity securities traded on a foreign exchange. The
Balanced and Lakefront Funds each may invest up to 10% of its total assets in
these securities.
Foreign markets may offer less protection to investors than U.S. markets.
Foreign issuers, brokers, and securities markets may be subject to less
government supervision. Foreign security trading practices, including those
involving the release of assets in advance of payment, may involve increased
risks in the event of a failed trade or the insolvency of a broker-dealer, which
may result in substantial delays. It also may be difficult to enforce legal
rights in foreign countries.
Investing abroad also involves different political and economic risks. Foreign
investments may be affected by actions of foreign governments adverse to the
interests of U.S. investors, including the possibility of expropriation or
nationalization of assets, confiscatory taxation, restrictions on U.S.
investment or on the ability to repatriate assets or convert currency into U.S.
dollars, or other government intervention. There may be a greater possibility of
default by foreign governments or foreign government-sponsored enterprises.
Investments in foreign countries also involve a risk of local political,
economic, or social instability, military action or unrest, or adverse
diplomatic developments. There is no assurance that the Advisers will be able to
anticipate these potential events or counter their effects.
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The considerations noted above generally are intensified for investments in
developing countries. Developing countries may have relatively unstable
governments, economies based on only a few industries, and securities markets
that trade a small number of securities.
A Fund may invest in foreign securities that impose restrictions on transfer
within the U.S. or to U.S. persons. Although securities subject to transfer
restrictions may be marketable abroad, they may be less liquid than foreign
securities of the same class that are not subject to such restrictions.
The International Growth Fund currently invests in the securities of issuers
based in a number of foreign countries. The Adviser and IIIS, the sub-adviser of
the International Growth Fund, continuously evaluate issuers based in countries
all over the world. Accordingly, the Fund may invest in the securities of
issuers based in any country, subject to approval by the Trustees, when such
securities meet the investment criteria of the Adviser and IIIS and are
consistent with the investment objective and policies of the Fund.
Preferred Stocks. Preferred stocks are instruments that combine qualities both
of equity and debt securities. Individual issues of preferred stock will have
those rights and liabilities that are spelled out in the governing document.
Preferred stocks usually pay a fixed dividend per quarter (or annum) and are
senior to common stock in terms of liquidation and dividends rights, and
preferred stocks typically do not have voting rights. The Convertible Securities
and International Growth Funds each may invest up to 35% of its total assets in
preferred stocks. The Diversified Stock, Growth, Intermediate Income, Investment
Quality Bond, Lakefront, Limited Term, Real Estate Investment, Small Company
Opportunity, Special Value and Value Funds each may invest up to 35% of its
total assets in preferred stocks.
Additional Information Concerning Ohio Issuers
The Ohio Municipal Bond Fund and Ohio Municipal Money Market Fund will each
invest most of its net assets in securities issued by or on behalf of (or in
certificates of participation in lease - purchase obligations of) the State of
Ohio, political subdivisions of the State, or agencies or instrumentalities of
the State or its political subdivisions ("Ohio Obligations"). The Ohio Municipal
Bond Fund and Ohio Municipal Money Market Fund are therefore susceptible to
general or particular economic, political or regulatory factors that may affect
issuers of Ohio Obligations. The following information constitutes only a brief
summary of some of the many complex factors that may have an effect. The
information does not apply to "conduit" obligations on which the public issuer
itself has no financial responsibility. This information is derived from
official statements of certain Ohio issuers published in connection with their
issuance of securities and from other publicly available information, and is
believed to be accurate. No independent verification has been made of any of the
following information.
Generally, the creditworthiness of Ohio Obligations of local issuers is
unrelated to that of obligations of the State itself, and the State has no
responsibility to make payments on those local obligations.
There may be specific factors that at particular times apply in connection with
investment in particular Ohio Obligations or in those obligations of particular
Ohio issuers. It is possible that the investment may be in particular Ohio
Obligations, or in those of particular issuers, as to which those factors apply.
However, the information below is intended only as a general summary, and is not
intended as a discussion of any specific factors that may affect any particular
obligation or issuer.
Ohio is the seventh most populous state. The 1990 Census count of 10,847,000
indicated a 0.5% population increase from 1980. The Census estimate for 1998 is
11,209,000.
While diversifying more into the service and other non-manufacturing areas, the
Ohio economy continues to rely in part on durable goods manufacturing largely
concentrated in motor vehicles and equipment, steel, rubber products and
household appliances. As a result, general economic activity, as in many other
industrially-developed states, tends to be more cyclical than in some other
states and in the nation as a whole. Agriculture is an important segment of the
economy, with over half the State's area devoted to farming and approximately
16% of total employment in agribusiness.
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In prior years, the State's overall unemployment rate was commonly somewhat
higher than the national figure. For example, the reported 1990 average monthly
State rate was 5.7%, compared to the 5.5% national figure. However, in recent
years, the State rates were below the national rates (4.3% versus 4.5% in 1998).
The unemployment rate and its effects vary among geographic areas of the State.
There can be no assurance that future national, regional or state-wide economic
difficulties, and the resulting impact on State or local government finances
generally, will not adversely affect the market value of Ohio Obligations held
in the Ohio Municipal Bond Fund and Ohio Municipal Money Market Fund or the
ability of particular obligors to make timely payments of debt service on (or
lease payments relating to) those Obligations.
The State operates on the basis of a fiscal biennium for its appropriations and
expenditures, and is precluded by law from ending its July 1 to June 30 fiscal
year ("FY") or fiscal biennium in a deficit position. Most State operations are
financed through the General Revenue Fund ("GRF"), for which the personal income
and sales-use taxes are the major sources. Growth and depletion of GRF ending
fund balances show a consistent pattern related to national economic conditions,
with the ending FY balance reduced during less favorable and increased during
more favorable economic periods. The State has well-established procedures for,
and has timely taken, necessary actions to ensure resource/expenditure balances
during less favorable economic periods. Those procedures included general and
selected reductions in appropriations spending.
The 1992-93 biennium presented significant challenges to State finances,
successfully addressed. To allow time to resolve certain budget differences an
interim appropriations act was enacted effective July 1, 1991; it included GRF
debt service and lease rental appropriations for the entire biennium, while
continuing most other appropriations for a month. Pursuant to the general
appropriations act for the entire biennium, passed on July 11, 1991, $200
million was transferred from the Budget Stabilization Fund ("BSF," a cash and
budgetary management fund) to the GRF in FY 1992.
Based on updated results and forecasts in the course of that FY, both in light
of a continuing uncertain nationwide economic situation, there was projected and
then timely addressed an FY 1992 imbalance in GRF resources and expenditures. In
response, the Governor ordered most State agencies to reduce GRF spending in the
last six months of FY 1992 by a total of approximately $184 million; the $100.4
million BSF balance and additional amounts from certain other funds were
transferred late in the FY to the GRF, and adjustments were made in the timing
of certain tax payments.
A significant GRF shortfall (approximately $520 million) was then projected for
FY 1993. It was addressed by appropriate legislative and administrative actions,
including the Governor's ordering $300 million in selected GRF spending
reductions and subsequent executive and legislative action (a combination of tax
revisions and additional spending reductions). The June 30, 1993 ending GRF fund
balance was approximately $111 million, of which, as a first step to
replenishment, $21 million was deposited in the BSF.
None of the spending reductions were applied to appropriations needed for debt
service or lease rentals relating to any State obligations.
The 1994-95 biennium presented a more affirmative financial picture. Based on
June 30, 1994 balances, an additional $260 million was deposited in the BSF. The
biennium ended June 30, 1995 with a GRF ending fund balance of $928 million, of
which $535.2 million was transferred into the BSF. The significant GRF fund
balance, after leaving in the GRF an unreserved and undesignated balance of $70
million, was transferred to the BSF and other funds including school assistance
funds and, in anticipation of possible federal program changes, a human services
stabilization fund.
From a higher than forecast 1996-97 mid-biennium GRF fund balance, $100 million
was transferred for elementary and secondary school computer network purposes
and $30 million to a new State transportation infrastructure fund. Approximately
$400.8 million served as a basis for temporary 1996 personal income tax
reductions aggregating that amount. The 1996-97 biennium-ending GRF fund balance
was $834.9 million. Of that, $250 million went to school building construction
and renovation, $94 million to the school computer network, $44.2 million for
school textbooks and instructional materials and a distance learning program,
and $34 million to the BSF, and the $263 million balance to a State income tax
reduction fund.
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The 1998-99 biennium ending GRF balances were $1.5 billion (cash) and $976
million (fund). Of that fund balance, $325.7 million has been transferred to
school building assistance, $46.3 million to the BSF, $90 million to supply
classroom computers and for interactive video distance learning, and the
remaining amount to the State income tax reduction fund.
The BSF had a September 30, 1999 balance of over $953 million.
The GRF appropriations acts for the current 2000-01 biennium (one for all
education purposes, and one for general GRF purposes) passed on June 24 and June
28, 1999, respectively, and promptly signed (after selective vetoes) by the
Governor. Those acts provided for total GRF biennial expenditures of over $39.8
billion. Necessary GRF debt service and lease-rental appropriations for the
entire biennium were requested in the Governor's proposed budget and
incorporated in the appropriations bills as introduced, and were included in the
bills versions as passed by the House and the Senate and in the acts as passed
and signed.
The State's incurrence or assumption of debt without a vote of the people is,
with exceptions noted below, prohibited by current State constitutional
provisions. The State may incur debt, limited in amount to $750,000, to cover
casual deficits or failures in revenues or to meet expenses not otherwise
provided for. The Constitution expressly precludes the State from assuming the
debts of any local government or corporation. (An exception is made in both
cases for any debt incurred to repel invasion, suppress insurrection or defend
the State in war.)
By 16 constitutional amendments approved from 1921 to date (the latest adopted
in 1999) Ohio voters authorized the incurrence of State debt and the pledge of
taxes or excises to its payment. At September 30, 1999 over $1.2 billion
(excluding certain highway bonds payable primarily from highway use receipts) of
this debt was outstanding or awaiting delivery. The only such State debt at that
date still authorized to be incurred were portions of the highway bonds, and the
following: (a) up to $100 million of obligations for coal research and
development may be outstanding at any one time ($22.3 million outstanding); (b)
$240 million of obligations previously authorized for local infrastructure
improvements, no more than $120 million of which may be issued in any calendar
year (over $1.06 billion outstanding or awaiting delivery) and (c) up to $200
million in general obligation bonds for parks, recreation and natural resources
purposes which may be outstanding at any one time ($112.7 million outstanding,
with no more than $50 million to be issued in any one year).
The electors in 1995 approved a constitutional amendment extending the local
infrastructure bond program (authorizing an additional $1.2 billion of State
full faith and credit obligations to be issued over 10 years for the purpose),
and authorizing additional highway bonds (expected to be payable primarily from
highway use receipts). The latter supersedes the prior $500 million outstanding
authorization, and authorizes not more than $1.2 billion to be outstanding at
any time and not more than $220 million to be issued in a fiscal year.
A constitutional amendment approved by the voters at the November 1999 general
election authorizes State general obligation debt to pay costs of facilities for
a system of common schools throughout the State and facilities for state
supported and assisted institutions of higher education. That, and other debt
represented by direct obligations of the State (such as that authorized by the
Ohio Public Facilities Commission and Ohio Building Authority, and some
authorized by the Treasurer), may not be issued if future FY total debt service
on those direct obligations to be paid from the GRF or net lottery proceeds
exceeds 5% of total estimated revenues of the State for the GRF and from net
State lottery proceeds during the FY of issuance.
The Constitution also authorizes the issuance of State obligations for certain
purposes, the owners of which do not have the right to have excises or taxes
levied to pay debt service. Those special obligations include obligations issued
by the Ohio Public Facilities Commission and the Ohio Building Authority, and
certain obligations issued by the State Treasurer, over $5.5 billion of which
were outstanding at September 30, 1999.
In recent years, State agencies have participated in transportation and office
building projects that may have some local as well as State use and benefit, in
connection with which the State enters into lease purchase agreements with terms
ranging from 7 to 20 years. Certificates of participation, or special obligation
bonds of the State or a local agency, are issued that represent fractionalized
interests in or are payable from the State's anticipated payments. The State
estimates highest future FY payments under those agreements (as of September 30,
1999) to be approximately $31.9 million (of which $27 million is payable from
sources other than the GRF, such as federal highway money
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distributions). State payments under all those agreements are subject to
biennial appropriations, with the lease terms being two years subject to renewal
if appropriations are made.
A 1990 constitutional amendment authorizes greater State and political
subdivision participation (including financing) in the provision of housing. The
General Assembly may for that purpose authorize the issuance of State
obligations secured by a pledge of all or such portion as it authorizes of State
revenues or receipts (but not by a pledge of the State's full faith and credit).
A 1994 constitutional amendment pledges the full faith and credit and taxing
power of the State to meeting certain guarantees under the State's tuition
credit program which provides for purchase of tuition credits, for the benefit
of State residents, guaranteed to cover a specified amount when applied to the
cost of higher education tuition. (A 1965 constitutional provision that
authorized student loan guarantees payable from available State moneys has never
been implemented, apart from a "guarantee fund " approach funded essentially
from program revenues.)
State and local agencies issue obligations that are payable from revenues from
or relating to certain facilities (but not from taxes). By judicial
interpretation, these obligations are not "debt" within constitutional
provisions. In general, payment obligations under lease -purchase agreements of
Ohio public agencies (in which certificates of participation may be issued) are
limited in duration to the agency's fiscal period, and are renewable only upon
appropriations being made available for the subsequent fiscal period.
Local school districts in Ohio receive a major portion (state - wide aggregate
approximately 46% in recent years) of their operating moneys from State
subsidies, but are dependent on local property taxes, and in 126 districts (as
of November 3, 1999) on voter-authorized income taxes, for significant portions
of their budgets. Litigation, similar to that in other states, has been pending
questioning the constitutionality of Ohio's system of school funding. The Ohio
Supreme Court has concluded that aspects of the system (including basic
operating assistance and the loan program referred to below) are
unconstitutional, and ordered the State to provide for and fund a system
complying with the Ohio Constitution, staying its order to permit time for
responsive corrective actions. After a further hearing, the trial court has
decided that steps taken to date by the State to enhance school funding have not
met the requirements of the Supreme Court decision. The State has appealed to
the Supreme Court, before which oral arguments were heard on November 16, 1999.
That Court has issued a stay, pending appeal, of the implementation of the trial
court's order. A small number of the State's 612 local school districts have in
any year required special assistance to avoid year-end deficits. A now
superseded program provided for school district cash need borrowing directly
from commercial lenders, with diversion of State subsidy distributions to
repayment if needed. Recent borrowings under this program totaled $87.2 million
for 20 districts in FY 1996 (including $42.1 million for one), $113.2 million
for 12 districts in FY 1997 (including $90 million to one for restructuring its
prior loans), and $23.4 million for 10 districts in FY 1998.
Ohio's 943 incorporated cities and villages rely primarily on property and
municipal income taxes for their operations. With other subdivisions, they also
receive local government support and property tax relief moneys distributed by
the State.
For those few municipalities and school districts that on occasion have faced
significant financial problems, there are statutory procedures for a joint
State/local commission to monitor the fiscal affairs and for development of a
financial plan to eliminate deficits and cure any defaults. (Similar procedures
have recently been extended to counties and townships.) Since inception for
municipalities in 1979, these "fiscal emergency" procedures have been applied to
26 cities and villages; for 20 of them the fiscal situation was resolved and the
procedures terminated (no municipality is currently in preliminary "fiscal
watch" status). As of September 24, 1999, a school district "fiscal emergency"
provision was applied to eight districts, and 10 were on preliminary "fiscal
watch" status.
At present the State itself does not levy ad valorem taxes on real or tangible
personal property. Those taxes are levied by political subdivisions and other
local taxing districts. The Constitution has since 1934 limited to 1% of true
value in money the amount of the aggregate levy (including a levy for unvoted
general obligations) of property taxes by all overlapping subdivisions, without
a vote of the electors or a municipal charmer provision, and statutes limit the
amount of that aggregate levy to 10 mills per $1 of assessed valuation (commonly
referred to as the "ten-mill limitation"). Voted general obligations of
subdivisions are payable from property taxes that are unlimited as to amount or
rate.
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Additional Information Concerning New York Issuers
The New York Tax-Free Fund will invest substantially all of its assets in New
York municipal securities. In addition, the specific New York municipal
securities in which the New York Tax-Free Fund will invest will change from time
to time. The New York Tax-Free Fund is therefore susceptible to political,
economic, regulatory or other factors affecting issuers of New York municipal
securities. The following information constitutes only a brief summary of a
number of the complex factors which may affect issuers of New York municipal
securities and does not purport to be a complete or exhaustive description of
all adverse conditions to which issuers of New York municipal securities may be
subject. Such information is derived from official statements utilized in
connection with the issuance of New York municipal securities, as well as from
other publicly available documents. Such information has not been independently
verified by the New York Tax-Free Fund, and the Fund assumes no responsibility
for the completeness or accuracy of such information. Additionally, many
factors, including national, economic, social and environmental policies and
conditions, which are not within the control of such issuers, could have a
material adverse impact on the financial condition of such issuers. The New York
Tax-Free Fund cannot predict whether or to what extent such factors or other
factors may affect the issuers of New York municipal securities, the market
value or marketability of such securities or the ability of the respective
issuers of such securities acquired by the Fund to pay interest on or principal
of such securities. The creditworthiness of obligations issued by local New York
issuers may be unrelated to the creditworthiness of obligations issued by the
State of New York, and there is no responsibility on the part of the State of
New York to make payments on such local obligations. There may be specific
factors that are applicable in connection with investment in the obligations of
particular issuers located within New York, and it is possible the Fund will
invest in obligations of particular issuers as to which such specific factors
are applicable. However, the information set forth below is intended only as a
general summary and not as a discussion of any specific factors that may affect
any particular issuer of New York municipal securities.
The New York Tax-Free Fund may invest in municipal securities issued by New York
State (the "State"), by its various public bodies (the "Agencies") and/or by
other entities located within the State, including the city of New York (the
"City") and political subdivisions thereof and/or their agencies.
New York State. New York State's current fiscal year began on April 1, 2000 and
ends on March 31, 2001. On March 30, 2000, the State adopted the debt service
portion of the budget for the 2000-01 fiscal year; the remainder of the budget
was enacted by the State Legislature on May 5, 2000, 35 days after the statutory
deadline of April 1. Governor George E. Pataki approved the budget as passed by
the Legislature. Prior to passing the budget, the State enacted interim
appropriations that permitted it to continue its operations. Following enactment
of the budget, the State prepared a Financial Plan that sets forth projected
receipts and disbursements based on the actions taken by the Legislature. The
State expects to update the Financial Plan quarterly.
General Fund disbursements, including transfers to support capital projects,
debt service and other funds, are estimated at $38.92 billion, an increase of
$1.75 billion (4.72%). Projected spending is $992 million above the Governor's
recommendations. The Financial Plan projects closing balances in the General
Fund and other reserves of $3.2 billion, including $1.71 billion in the General
Fund. This closing balance is comprised of $675 million in reserves for
potential labor costs resulting from new collective bargaining agreements and
other spending commitments, $547 million in the Tax Stabilization Reserve Fund
(TSRF) (for unanticipated deficits), $150 million in the Contingency Reserve
Fund (CRF) (offsets litigation risks), and $338 million in the Community
Projects Fund (CPF) (finances legislative initiatives). In addition, $1.2
billion is projected for reserve in the School Tax Relief (STAR) Special Revenue
Fund and $250 million in the Debt Reduction Reserve Fund (DRRF).
Several developments arising from budget negotiations will affect State finances
in subsequent years. First, a portion of Legislative additions to the Executive
Budget will recur at higher spending levels, including increased funding for
school aid, tuition assistance, and prescription drug coverage for the elderly.
Second, the Legislature enacted the Debt Reform Act of 2000, which applies to
State-supported debt issued on or after April 1, 2000, and imposes caps on new
debt outstanding and new debt service costs, restricts the use of debt to
capital purposes only, and restricts the maximum term of debt issuances to 30
years. Finally, the State adopted tax relief measures that will reduce receipts
by $1.2 billion, including elimination or reduction of gross receipts taxes on
energy ($330 million), the expansion of the energy tax credit ($125 million), a
college tuition deduction or credit ($200 million), and reduction of the
marriage penalty ($200 million).
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Many complex political, social and economic forces influence the State's economy
and finances, which may in turn affect the Financial Plan. These forces may
affect the State unpredictably from year to year and are influenced by
governments, institutions, and organizations that are not subject to the State's
control. The Financial Plan is also necessarily based upon forecasts of national
and State economic activity. Economic forecasts have frequently failed to
predict accurately the timing and magnitude of national and State economic
changes.
2000-01 State Financial Plan. Four governmental fund types comprise the State
Financial Plan: the General Fund, the Special Revenue Funds the Capital
Projects Funds, and the Debt Service Funds. The fund structure adheres to the
accounting standards of the Governmental Accounting Standards Board.
The General Fund is the State's principal operating fund and is used to account
for all financial transactions except those required to be accounted for in
another fund. It is the State's largest fund and receives almost all State taxes
and other resources not dedicated to particular purposes. The General Fund
(exclusive of transfers) is expected to account for approximately 46.6% of All
Governmental Funds disbursements and 67.8% of total State Funds disbursements.
General Fund moneys are also transferred to other funds, primarily to support
certain capital projects and debt service payments in other fund types.
Total General Fund receipts and transfers from other funds are projected to be
$39.72 billion, an increase of $2.32 billion. This total includes $36.35 billion
in tax receipts, $1.34 billion in miscellaneous receipts, and $2.03 billion in
transfers from other funds. The transfer of $3.4 billion in net resources
through the tax refund reserve account from 1999-2000 to the 2000-01 fiscal
period has the effect of exaggerating the growth in State receipts by depressing
reported 1999-2000 figures and inflating current projections. Total General Fund
disbursements and transfers to other funds are projected to be $38.92 billion,
an increase of $1.75 billion.
The Personal Income Tax is imposed on the income of individuals, estates and
trusts and is based, with certain modifications, on federal definitions of
income and deductions. Net General Fund personal income tax collections are
projected to reach $24.33 billion, well over half of all General Fund receipts,
an increase of nearly $4 billion. Much of this increase is associated with the
$3.4 billion net impact of the transfer of the surplus to the current year as
partially offset by the diversion of $1.99 billion in income tax receipts to the
STAR Fund. The STAR program was created in 1998 as a local property tax relief
program funded through the use of personal income tax receipts. Adjusted for
these transactions, the growth in net income tax receipts is roughly $1.3
billion, an increase of nearly 5%. This growth is largely a function of two
factors: (i) the 9% growth in income tax liability projected for tax year 2000;
and (ii) the impact of the 1999 tax year settlement recorded early in this
fiscal year. Significant statutory changes made this fiscal year provide for: an
increase, phased in over two years, in the earned income tax credit from 25% to
30% of the federal credit; a three-year phased-in reduction of the marriage
penalty; a four-year phased-in deduction or credit for college tuition; and
enhancement of the child and dependent care credit.
User taxes and fees are comprised of three-quarters of the State's 4% sales and
use tax, cigarette, tobacco products, alcoholic beverage, and auto rental taxes,
and a portion of the motor fuel excise levies. This category also includes
receipts from the motor vehicle fees and alcoholic beverage license fees.
Dedicated transportation funds outside of the General Fund receive a portion of
the motor fuel tax and motor vehicle registration fees and all of the highway
use taxes and fees. Receipts from user taxes and fees are projected to total
$7.02 billion, a decrease of $583 million. The sales tax and cigarette tax
components of this category account for virtually all of the decline. Growth in
base sales tax yield, after adjusting for tax law changes and other factors, is
projected at 4.5%. The projected decrease in sales tax cash receipts of 3.4%
reflects the impact of the permanent exemption for clothing and footwear items
costing under $110. Cigarette tax and tobacco products tax receipts are
projected to decline by $146 million primarily due to reduced taxable
consumption associated with the increase in the cigarette tax of 55 cents per
pack. The decline in the motor fuel taxes and motor vehicle fees in the General
Fund largely reflect the increased dedication of these revenue sources to the
Dedicated Highway and Bridge Trust Fund and the Dedicated Mass Transportation
Trust Fund. Alcoholic beverage taxes are expected to decline modestly,
consistent with historical trends. Alcoholic beverage license fees are projected
to increase significantly as 2000-01 is the final year in the transition to the
new license renewal schedule. A modest increase in auto rental tax receipts is
projected.
Business taxes include franchise taxes based generally on net income of general
business, bank and insurance corporations, as well as gross receipts-based taxes
on utilities and gallonage-based petroleum business taxes. Total business tax
collections are now projected to be $4.23 billion, a decrease of $332 million.
The category includes
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receipts from: (1) franchise tax levies imposed on general business
corporations, banks, and insurance companies; (2) gross receipts taxes on energy
and telecommunication service providers; and (3) a tax imposed at various rates
on petroleum businesses. The decline in projected receipts in business tax
collections is largely attributable to statutory changes, including the first
year impact of a scheduled bank and insurance franchise tax rate reduction, a
reduction in the cap on tax liability for non-life insurers, and the expansion
of the economic development zone (renamed Empire Zones) and equivalent tax
credits. Ongoing tax reductions include the second year of the corporation
franchise rate reduction, the gross receipts tax rate cut from 3.25% to 2.5%,
the continuation of the "Power for Jobs" program, and the use of tax credits for
investments in certified capital companies. Legislation enacted this fiscal year
affecting receipts in this category include: a phased reduction in the gross
receipts tax, an expansion of the "Power for Jobs" program, expansion of the tax
credit for investments in certified capital companies, establishment of the
Empire Zones program, reforms to allocation rules for financial service
companies, tax rate reductions for small businesses and S-corporations, a new
tax credit for investments in "green buildings," and a new tax credit for
investment in low- and moderate-income housing.
Other taxes include the estate and gift tax, the real property gains tax and
pari-mutuel taxes. Other tax receipts are now projected to total $766 million, a
decrease of $341 million, primarily due to legislation that repealed both the
real property gains tax and the gift tax and significantly reduced the estate
tax and the pari-mutuel tax.
Miscellaneous receipts include investment income, abandoned property receipts,
medical provider assessments, minor federal grants, receipts from public
authorities, and certain other license and fee revenues. Total miscellaneous
receipts are expected to reach $1.34 billion, down $309 million. This reflects
the absence of non-recurring receipts and the phase-out of the medical provider
assessments. The State Comptroller has restated medical provider assessments in
the General Fund, which has the effect of increasing reported miscellaneous
receipts and spending in grants to local governments by $120 million in 1997-98
and $82 million in 1998-99.
Transfers from other funds to the General Fund consist primarily of tax revenues
in excess of debt service requirements, including the 1% sales tax used to
support the Local Government Assistance Corporation (LGAC). Transfers from other
funds are expected to total $2.03 billion, a decrease of $108 million. Total
transfers of sales taxes in excess of LGAC debt service requirements are
expected to decrease by $74 million, consistent with the sales tax projections
described above, while transfers from all other funds are expected to decrease
by $34 million.
Projected General Fund Disbursements. General Fund disbursements, including
transfers to support capital projects, debt service and other funds, are
estimated at $38.92 billion, an increase of $1.75 billion (4.7%). Following the
pattern of the last three fiscal years, education programs receive the largest
share of increased funding in the Financial Plan. School aid is projected to
grow by $850 million (8.0%). Spending on other local education and higher
education programs will also increase significantly, growing by $376 million
(13.3%). Outside of education, the largest growth in State spending is for
operations ($507 million) and general charges ($104 million). Projected spending
in the Financial Plan is $992 million above the Executive Budget projections,
comprised of legislative additions (primarily in education), offset by various
spending reestimates, including lower projected spending for Medicaid, welfare,
debt service and general charges. The Financial Plan also reflects the use of
resources from the Health Care Reform Act of 2000 (HCRA 2000) that will help
finance several health and mental hygiene programs in Special Revenue Funds,
including prescription drug assistance for the elderly, supplemental Medicare
insurance, and other public health services.
Grants to Local Governments is the largest category of General Fund
disbursements and includes financial aid to local governments and not-for-profit
organizations, and entitlement payments for individuals. The largest areas of
spending in this category are for aid to public schools (43%) and for the
State's share of Medicaid payments (21%). Grants to local governments are
projected at $26.83 billion, an increase of $1.20 billion (4.7%). General Fund
spending on school aid is projected at $11.47 billion, an increase of $850
million. School aid will grow by $1.2 billion (8.7%), and funds operating,
building, transportation, and other programs. For all other education programs,
disbursements are projected to grow by $376 million to $3.23 billion, including
an increase in the maximum award under the Tuition Assistance Program (TAP) to
$5,000, as well as the expansion of the income ceiling for TAP eligibility to
$80,000. Spending for Medicaid is projected to total $5.59 billion, reflecting
underlying spending growth of 4%, and efforts to maximize federal moneys. In
addition, resources from HCRA 2000 and the tobacco settlement revenues are
utilized to support overall health care spending. The Comptroller has restated
medical
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provider assessments in the General Fund, increasing reported miscellaneous
receipts and spending in grants to local governments by $120 million in 1997-98
and $82 million in 1998-99.
Welfare spending is projected at $1.20 billion, down $77 million, resulting from
a projected case load decline of approximately 65,000 recipients (7.4%) to an
average annual total of approximately 814,000 recipients. Welfare spending also
reflects increased federal Temporary Assistance for Needy Families (TANF) Block
Grant funds. Disbursements for all other health and social welfare programs are
projected to total $1.93 billion, an increase of $262 million, including an
expansion of the EPIC prescription drug program that increases income
eligibility to $35,000 for single seniors and $50,000 for married couples, and a
reduction in certain fees. Unrestricted aid programs to local governments are
projected at $923 million, an increase of $98 million. This additional funding
includes a 5% revenue sharing increase for all cities, towns, and villages
outside New York City, and $87 million in additional aid to counties and
selected cities, towns, villages, and school districts.
State operations pays for the costs of operating the executive, legislative, and
judicial branches of government. Spending in this category is projected at $7.11
billion, an increase of $507 million (7.7%). This growth is attributable in part
to a reduction in receipts from the State University that had offset General
Fund spending ($38 million), and a decrease in federal grant awards from the
Department of Correctional Services ($56 million).
Other sources of growth in State operations include salary increases and
inflation ($100 million), the labor contract with State University professionals
($30 million), the development of State agency computer systems ($80 million),
increases in the judiciary budget ($52 million), and higher costs in the
Department of Correctional Services, including two new State prisons ($32
million). The estimate does not include new labor contracts that have not been
approved by the Legislature. These costs will be funded through collective
bargaining reserves of $675 million, which are carried separately in the
Financial Plan. These reserves, when paid, will be reflected in various
financial plan spending categories and will cover costs for both 1999-2000 and
2000-01 fiscal years.
The State has reached agreement with most of its major unions on a new four-year
contract. The Financial Plan has reserved sufficient money for the added costs
incurred under collective bargaining agreements, and reserves are contained in
the preliminary outyear projection for 2001-02 to cover the projected recurring
costs of new agreements. The State's workforce is projected to be approximately
195,000 employees, up about 2,700.
General State charges (GSCs) account for the costs of providing fringe benefits
to employees and retirees of the executive, legislature and judiciary. These
payments, many of which are mandated by statute and collective bargaining
agreements, include employer contributions for pensions, social security, health
insurance, workers' compensation, and unemployment insurance. GSCs also cover
payments-in-lieu of-taxes to local governments for certain State-owned lands,
and the costs of defending lawsuits against the State and its officers.
Disbursements for GSCs are estimated at $2.19 billion, an increase of $104
million, reflecting higher health insurance rates to cover the increasing cost
of prescription drug benefits. The estimate continues to assume the $250 million
in offset funds related to the dissolution of the Medical Malpractice Insurance
Association.
This category accounts for the interest costs on the State's commercial paper
program, expected to have a maximum of $45 million outstanding, as this program
is being replaced with additional variable rate general obligation bonds. The
majority of the State's debt service is for long-term bonds, and is shown in the
Financial Plan as a transfer to the General Debt Service Fund.
Transfers to other funds from the General Fund are made primarily to finance
certain portions of State capital projects spending and debt service on
long-term bonds where these costs are not funded from other sources. Long-term
debt service transfers are projected at $2.26 billion, an increase of $18
million. The increase reflects debt service costs from prior year bond sales
(net of refunding saving), and certain sales to support new capital spending,
primarily for economic development, the environment and education.
Transfers for capital projects provide General Fund support for projects that
are not financed by bond proceeds, dedicated taxes, other revenues, or federal
grants. Transfers for capital projects of $234 million are projected to increase
$23 million. All other transfers, which reflect the remaining transfers from the
General Fund to other funds, are estimated to total $294 million, a decrease of
$94 million. This amount takes into account the use of HCRA 2000 funding to
subsidize the Roswell Park Cancer Institute.
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The DRRF is assumed by Division of the Budget (DOB) to be reclassified from the
General Fund to the Capital Projects fund type. The Financial Plan reflects the
deposit of an additional $250 million in General Fund receipts to DRRF, as well
as $250 million in one-time resources from the State's share of tobacco
settlement proceeds.
Non-recurring Resources. The DOB estimates that the Financial Plan contains new
actions in the enacted budget that provide non-recurring resources totaling
approximately $36 million, excluding the surplus.
Fund Balances. The Financial Plan projects closing balances in the General Fund
and other reserves of $3.2 billion, including $1.71 billion in the General Fund.
This closing balance is comprised of $675 million in reserves for collective
bargaining and other spending commitments, $547 million in the TSRF, $150
million in the CRF, and $338 million in the CPF. In addition to the $1.71
billion reserved in the General Fund, $1.2 billion is projected for reserve in
the STAR Special Revenue Fund and $250 million in DRRF.
Outyear Projections of Receipts and Disbursements. State law requires the
Governor to propose a balanced budget each year. Preliminary analysis by DOB
indicates that the State will have a 2001-02 budget gap of approximately $2
billion, which is comparable with gaps projected following enactment of recent
budgets. This estimate includes the projected costs of new collective bargaining
agreements, no assumed operating efficiencies, and the planned application of
approximately $1.2 billion in STAR tax reduction reserves.
In recent years, the State has closed projected budget gaps which have ranged
from $5 billion to less than $1 billion. Sustained growth in the State's economy
could contribute to closing potential budget imbalances over the next several
years, both in terms of higher-than-projected tax receipts and in
lower-than-expected entitlement spending. Savings from initiatives by State
agencies to deliver services more efficiently, workforce management efforts, and
maximization of federal and non-General Fund spending offsets could also help
bring projected disbursements and receipts into balance. The DOB will formally
update its projections of receipts and disbursements for future years as part of
the Governor's 2001-02 Executive Budget submission. The revised expectations for
these years will reflect updated estimates of receipts and disbursements as well
as new recommendations.
Tobacco Settlement Proceeds and Uses. On November 23, 1998, the attorneys
general for forty-six states (including New York) entered into a master
settlement agreement (MSA) with the nation's largest tobacco manufacturers,
under which the states agreed to release the manufacturers from all
smoking-related claims in exchange for specified payments and the imposition of
restrictions on tobacco advertising and marketing. New York is projected to
receive $25 billion over 25 years, with payments apportioned among the State
(51%), counties (22%), and New York City (27%). The projected payments (but not
their apportionment) are estimated and are subject to adjustments for the annual
change in the volume of cigarette shipments and the rate of inflation. Through
2002-03, the State expects to receive $1.54 billion under the nationwide
settlement with cigarette manufacturers. Counties, including New York City, are
projected to receive settlement payments of $1.47 billion.
The Financial Plan utilizes certain resources from HCRA 2000, which continues
the negotiated reimbursement system for non-governmental payors, and provides
funding for, among other things, graduate medical education, indigent care, and
the expansion of health insurance coverage for uninsured adults and children.
HCRA 2000 will help finance several health-related programs, including
prescription drug assistance for the elderly, supplemental Medicare insurance,
and other public health services that were previously funded from the General
Fund. These programs will be financed with revenues generated from the financing
mechanisms continued from predecessor legislation, a share of the State's
tobacco settlement and revenues from an increased excise tax on cigarettes. The
State plans to use $1.29 billion in tobacco settlement money over the next three
years to finance health programs under HCRA 2000 ($1.01 billion) and projected
increased costs in Medicaid ($274 million). The remaining $250 million in
one-time tobacco payments from will be deposited to DRRF.
Other Governmental Funds. In addition to the General Fund, the Financial Plan
includes Special Revenue Funds, Capital Projects Funds and Debt Service Funds.
Amounts below do not include other sources and uses of funds transferred to or
from other fund types. All Governmental Funds spending is estimated at $77.53
billion, an increase of $4.17 billion or 5.7%. Excluding spending for the STAR
tax relief program, spending growth is 4.6%, comprised of changes in the General
Fund ($1.81 billion excluding transfers), Special Revenue Funds ($2.03 billion),
Capital Projects Funds ($124 million) and Debt Service Funds ($206 million).
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Special Revenue Funds. Total disbursements for programs supported by Special
Revenue Funds are projected at $33.25 billion, an increase of $2.03 billion or
6.5%, including federal grants and State special revenue funds. Federal grants
comprise 69% of all Special Revenue spending, comparable to prior years.
Disbursements from federal funds are estimated at $22.87 billion, up by $798
million (3.6%). Medicaid is the largest program, accounting for over half of
total spending in this category. Federal support for Medicaid is projected at
$14.93 billion, up $396 million. The remaining growth in federal funds is
primarily for the Child Health Plus program, which is estimated to increase by
$86 million, as well as increased spending in various social services programs.
State special revenue spending is projected to be $10.38 billion, up $1.23
billion (13.5%), reflecting the next phase of the STAR program valued at $2.0
billion (up $785 million), and $617 million in additional spending from HCRA
2000. This growth is offset by a decrease of $176 million due to the elimination
of medical provider assessments.
Capital Projects Funds. Spending from Capital Projects Funds is projected at
$4.35 billion, up $124 million (2.9%), attributable to $184 million for new
capital projects, primarily transportation, economic development, the
environment and education, and planned increases for school construction and
economic development.
Debt Service Funds. Spending from Debt Service Finds is estimated at $3.79
billion, an increase of $206 million (5.7%). Transportation, including debt
service on bonds issued for State and local highway and bridge programs financed
through the New York State Thruway Authority and supported by the Dedicated
Highway and Bridge Trust Fund, account for $127 million of the increase. Debt
service for education, including university programs financed through the
Dormitory Authority, will increase by $59 million. The remaining growth is for a
variety of programs in mental health and corrections, and for general obligation
financings.
Special Considerations. Despite recent State budgetary surpluses, actions
affecting receipts and disbursements, the relative strength of the State and
regional economy, and actions by the federal government could impact projected
budget gaps for the State, resulting from a disparity between recurring revenues
and the costs of increasing the level of support for State programs. To address
a potential imbalance, the State is required to take actions to increase
receipts and/or reduce disbursements as it enacts the budget for that year, and,
under the State Constitution, the Governor is to propose a balanced budget each
year. The Legislature may not, however, enact the Governor's proposals or the
State's actions may not be sufficient to preserve budgetary balance in a given
fiscal year or to align recurring receipts and disbursements in future fiscal
years.
Many complex political, social and economic forces influence the State's economy
and finances, which may in turn affect the Financial Plan. These forces may
affect the State unpredictably from year to year and are influenced by
governments, institutions, and events that are not subject to the State's
control. The Plan is based upon forecasts of national and State economic
activity developed through both internal analysis and review of economic
forecasts prepared by commercial forecasting services and other public and
private forecasters. Many uncertainties exist in national and State economic
forecasts that could have an adverse effect on the State, including consumer
spending attitudes, corporate and governmental restructuring, the financial
sector, federal fiscal and monetary policies, interest rates, and the world
economy. The State economy may, however, experience results in the current
fiscal year that are worse than predicted, with corresponding material and
adverse effects on receipts and disbursements.
Projections of total State receipts in the Financial Plan are based on the tax
structure in effect during the current fiscal year and on assumptions relating
to basic economic factors and their historical relationships to tax receipts. In
preparing projections of receipts, economic forecasts relating to personal
income, wages, consumption, profits and employment have been particularly
important. The projection of receipts from most tax or revenue sources is
generally made by estimating the change in yield of such tax or revenue source
caused by economic and other factors, rather than by estimating the total yield
of such tax or revenue source from its estimated tax base. The forecasting
methodology, however, ensures that collection estimates for taxes that are based
on a computation of annual liability, such as the business and personal income
taxes, are consistent with estimates of total tax liability.
Projections of total State disbursements are based on assumptions relating to
economic and demographic factors, potential collective bargaining agreements,
disbursements for local government services (partially reimbursed by the State),
and the results of various administrative and statutory mechanisms in
controlling disbursements for State operations. Factors that may affect
disbursements include uncertainties relating to the economy, federal policies,
collective bargaining negotiations and changes in the demand for and use of
State services.
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Uncertainties with regard to the economy present the largest potential risk to
future budget balance in New York State. For example, a downturn in the
financial markets or the wider economy is possible, a risk that is heightened by
the lengthy expansion currently underway. The securities industry is more
important to the New York economy than the national economy as a whole,
potentially amplifying the impact of an economic downturn. A large change in
stock market performance could result in significantly different wage, bonus,
and unemployment levels from those in the Financial Plan forecast. Merging and
downsizing, as a consequence of deregulation or continued foreign competition,
may also have more significant adverse effects on employment than expected.
An ongoing risk to the Financial Plan arises from the potential impact of
pending litigation and federal disallowances, which could adversely affect
receipts and disbursements. The Financial Plan contains projected reserves of
$150 million for such events, but assumes no significant federal disallowances
or other federal actions.
Additional risks to the Financial Plan may arise from the enactment by the U.S.
Congress of the Personal Responsibility and Work Opportunity Reconciliation Act
of 1996, which created the new TANF program partially funded with a federal
block grant to states. Congress has recently debated proposals under which the
federal government would take a portion of state reserves from the TANF block
grant for use in funding other federal programs. It has also considered
proposals that would lower the State's share of mass transit operating
assistance. Finally, several proposals to alter federal tax law that have
surfaced in recent years could adversely affect State revenues, since many State
taxes depend on federal definitions of income. While Congress has not enacted
these proposals, it may do so in the future, or it may take other actions that
could adversely affect State finances.
The Financial Plan assumes the availability of certain resources to finance
portions of General Fund spending for fringe benefits, health and welfare
programs. These resources could become unavailable or decrease, placing
additional pressures on budget balance.
The DOB believes that its projections of receipts and disbursements relating to
the current Financial Plan, and the assumptions on which they are based, are
reasonable. Actual results, however, could differ materially and adversely from
these projections. In the past, the State has taken management actions to
address potential financial plan shortfalls, and DOB believes it could take
similar actions should adverse variances occur in its projections for the
current fiscal year. In addition, the State has projected year-end fund balances
of up to $3.2 billion.
Tax Refund Reserve Account. Personal income tax net collections in recent years
have been affected by the pattern of refund payments made and reflect
transactions in the tax refund reserve account, which is designated to pay tax
refunds. The Comptroller deposits into this account tax moneys as determined by
the Commissioner of Taxation and Finance. This deposit has the effect of
reducing receipt, and the withdrawal of moneys from the account has the effect
of increasing receipts. The tax refund reserve account also includes amounts
made available as a result of the LGAC financing program that are required to be
on deposit in this account. Beginning in 1998-99, a portion of personal income
tax collections was deposited directly in the STAR Fund to be used to make
payments to reimburse local governments for their revenue decreases due to the
STAR program. The Financial Plan also assumes an additional $250 million deposit
of personal income taxes to the DRRF.
Cash-Basis Results for Prior Fiscal Years. The State reports its financial
results on two bases of accounting: the cash basis, showing receipts and
disbursements; and the modified accrual basis, prescribed by Generally Accepted
Accounting Principles (GAAP), showing revenues and expenditures.
General Fund 1997-98 through 1999-2000. New York State's financial operations
have improved during recent fiscal years. During its last eight fiscal years,
the State has recorded balanced budgets on a cash basis, with positive year-end
fund balances.
1999-2000 Fiscal Year . The State ended its 1999-2000 fiscal year in balance on
a cash basis, with a General Fund surplus of $1.51 billion. As in recent years,
strong growth in receipts above forecasted amounts produced most of the year-end
surplus. Spending was also modestly below projections, further adding to the
surplus. The State reported a closing balance of $1.17 billion in the General
Fund, an increase of $275 million. The balance is comprised of $547 million in
the TSRF after a deposit of $74 million; $107 million in the CRF; $250 million
in the DRRF; and $263 million in the CPF. The closing fund balance excludes
$3.97 billion that the State deposited into the tax refund reserve account to
pay for tax refunds of which $521 million was made available as a result of the
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LGAC financing program and was required to be on deposit as of March 31, 2000.
The tax refund reserve account transaction has the effect of decreasing reported
personal income tax receipts in 1999-2000, while increasing reported receipts in
2000-01. General Fund receipts and transfers from other funds (net of tax refund
reserve account activity) totaled $37.40 billion, an increase of 1.6%. General
Fund disbursements and transfers to other funds totaled $37.17 billion, an
increase of 1.6%.
1998-99 Fiscal Year. The State ended its 1998-99 fiscal year in balance on a
cash basis, with a General Find surplus of $1.82 billion. The surplus was
derived primarily from higher-than-projected tax collections as a result of
continued economic growth, particularly in the financial markets and the
securities industries. The State reported a General Fund closing cash balance of
$892 million, an increase of $254 million. The TSRF closing balance was $473
million, following an additional deposit of $73 million. The CRF closing balance
was $107 million, following a deposit of $39 million. The CPF closed the fiscal
year with a balance of $312 million. The closing fund balance excluded $2.31
billion that the State deposited into the tax refund reserve account to pay for
tax refunds. The remaining balance of $521 million in the tax refund reserve
account was made available as a result of the LGAC financing program and was
required to be on deposit as of March 31, 1999. General Fund receipts and
transfers from other funds (net of tax refund reserve account activity) totaled
$36.82 billion, an increase of 6.2%. General Fund disbursements and transfers to
other funds totaled $36.57 billion, an increase of 6.1%.
1997-98 Fiscal Year. The State ended its 1997-98 fiscal year in balance on a
cash basis, with a General Fund surplus of approximately $2.04 billion. The
surplus was derived primarily from higher-than anticipated receipts and lower
spending on welfare, Medicaid, and other entitlement programs. The General Fund
had a closing balance of $638 million, an increase of $205 million. The TSRF
closing balance was $400 million, following a required deposit of $15 million
and an additional deposit of $68 million. The CRF closing balance was $68
million, following a $27 million deposit. The CPF closed the fiscal year with a
balance of $170 million. The General Fund closing balance did not include $2.39
billion in the tax refund reserve account, of which $521 million was available
as a result of the LGAC financing program and was required to be on deposit on
March 31, 1998. General Fund receipts and transfers from other funds (net of tax
refund reserve account activity) totaled $34.67 billion, an annual increase of
4.9%. General Fund disbursements and transfers to other funds were $34.47
billion, an increase of 4.8%.
Other Governmental Funds (1997-98 through 1999-2000). The size of the three
other governmental fund types has grown over the last three fiscal years, with
federally-funded programs comprising approximately one-third of these funds. The
most significant changes in the structure of these funds has been the
redirection of a portion of transportation-related revenues from the General
Fund to two dedicated funds in the Special Revenue and Capital Projects fund
types support the capital programs of the Department of Transportation, the
Metropolitan Transportation Authority (MTA) and other transit entities, and the
creation of the STAR program through the diversion of personal income tax
receipts to a special revenue fund.
In the Special Revenue Funds, disbursements increased from $27.65 billion to
$31.22 billion, primarily as a result of increased costs for the federal share
of Medicaid and the initial costs of the STAR program. Other activity reflected
dedication of taxes for mass transportation purposes, new lottery games, and new
fees for criminal justice programs.
Disbursements in the Capital Projects Funds increased from $3.57 billion to $422
billion, primarily for education, environment, public protection and
transportation programs. The composition of this fund type's receipts has also
changed as dedicated taxes, federal grants and reimbursements from public
authority bonds increased, while general obligation bond proceeds declined.
Activity in the Debt Service Funds reflected increased use of bonds for
improvements to the State's capital facilities and the ongoing costs of the LGAC
fiscal reform program. The increases were moderated by the refunding savings
achieved by the State over the last several years. Disbursements in this fund
type increased from $3.09 billion to $3.59 billion.
GAAP-Basis Results for Prior Fiscal Years. The Comptroller prepares a
comprehensive annual financial report on a GAAP basis for governments as
promulgated by the Governmental Accounting Standards Board, which contains
general purpose financial statements with a Combined Balance Sheet and its
Combined Statement of Revenues, Expenditures and Changes in Fund Balances. These
statements are audited by independent certified public accountants.
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1998-99 Fiscal Year. The State completed its 1998-99 fiscal year with an
operating surplus of $1.32 billion, including surpluses in the General Fund
($1.078 billion), Debt Service Funds ($209 million) and Capital Projects Funds
($154 million) offset, in part, by an operating deficit in Special Revenue Funds
($117 million).
General Fund . The State reported a General Fund operating surplus of $1.078
billion, as compared to a surplus of $1.562 billion for the 1997-98 fiscal year.
As a result, the State reported an accumulated fund balance of $1.645 billion in
the General Fund. The surplus resulted, in part, from an increase in taxes
receivable of $516 million, a decrease in payables to local government of $262
million, a decrease in accrued liabilities of $129 million and a decrease in
deferred revenues of $69 million. These gains were partially offset by a
decrease in other assets of $117 million and an increase in tax refunds payable
of $102 million. Revenues increased $1.969 billion (5.7%) with increases in
personal income, consumption and use and other taxes, and miscellaneous
revenues. Business tax revenues fell from the prior fiscal year. Personal income
taxes grew $1.733 billion, an increase of nearly 9.3%. The increase in personal
income taxes was caused by strong employment and wage growth and the continued
strong performance by the financial markets during 1998. Consumption and use
taxes increased $269 million, or 3.8%, due to increased consumer confidence.
Other taxes increased $73 million, or 6.9%. Miscellaneous revenues increased
$145 million, a 5.6% increase, primarily because of an increase in
reimbursements from regulated industries (e.g., banking and insurance) to fund
the State's administrative costs. Business taxes decreased nearly $252 million,
or 4.9%, because of prior year refunds and carry forwards which were applied
against 1998 liabilities. Expenditures increased $1.826 billion (5.5%), with the
largest increases occurring in State aid for education and general purpose aid
spending. Education expenditures grew $1.014 billion (9.1%) due to an increase
in spending for support for public schools, handicapped pupil education and
local colleges. General purpose aid increased nearly $329 million (56.5%) due to
statutory changes in the payment schedule. Personal service and fringe benefit
costs increased due to increases in wages and continuing fringe benefits
required by collective bargaining agreements. Net other financing sources
decreased $626 million (159.3%) because appropriated transfers from the Special
Revenue Funds declined by over $230 million with increases of $265 million in
appropriated transfers to Special Revenue, Debt Service and College and
University Funds. In addition, transfers to public benefit corporations
increased over $170 million primarily because of a change in reporting for the
Roswell Park Cancer Institute.
Special Revenue, Debt Service and Capital Projects Fund Types. An operating
deficit of $117 million was reported for the Special Revenue Funds which
decreased the accumulated fund balance to $464 million. Revenues increased
$1.108 billion (4.0%) as a result of increases in tax and federal grants
revenues. Expenditures increased $1.308 billion (5.3%) as a result of increased
costs for local assistance grants. Net other financing uses increased $34
million (1.0%). Debt Service Funds ended the fiscal year with an operating
surplus of $209 million and, as a result, the accumulated fund balance increased
to $2.07 billion. Revenues increased $160 million (6.3%) primarily because of
increases in dedicated taxes. Debt service expenditures increased $162 million
(6.0%). Net other financing sources increased $253 million (227.4%) due
primarily to increases in transfers from the General Fund, patient revenue
transfers and the establishment of the Debt Reduction Reserve Fund. An operating
surplus of $154 million was reported in the Capital Projects Funds and, as a
result, the accumulated deficit fund balance decreased to $228 million. Revenues
increased $242 million (10.6%) primarily because tax revenues increased $101
million and federal grant revenues increased $94 million for transportation
projects. Expenditures increased $355 million (10.5%) primarily because of
increases in capital construction spending for transportation and correctional
services projects. Net other financing sources increased by $35 million.
1997-98 Fiscal Year. The State completed its 1997-98 fiscal year with a combined
Governmental Funds operating surplus of $1.80 billion, which included an
operating surplus in the General Fund of $1.56 billion, in Capital Projects
Funds of $232 million and in Special Revenue Funds of $49 million, offset in
part by an operating deficit of $43 million in Debt Service Funds.
General Fund. The State reported a General Fund operating surplus of $1.56
billion, as compared to an operating surplus of $1.93 billion for the 1996-97
fiscal year. As a result, the State reported an accumulated surplus of $567
million in the General Fund for the first time since it began reporting its
operations on a GAAP-basis. The operating surplus reflects several major
factors, including the cash-basis operating surplus resulting from the
higher-than-anticipated personal income tax receipts, an increase in taxes
receivable of $681 million, an increase in other assets of $195 million and a
decrease in pension liabilities of $144 million. This was partially offset by an
increase in payables to local governments of $308 million and tax refunds
payable of $147 million. Revenues increased $617 million (1.8%), with increases
in personal income, consumption and use, and business taxes, and
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decreases reported for other taxes, federal grants and miscellaneous revenue.
Personal income taxes grew $746 million, an increase of nearly 4.2%. The
increase in personal income taxes resulted from strong employment and wage
growth and the strong performance by the financial markets during 1997.
Consumption and use taxes increased $334 million (5.0%) as a result of increased
consumer confidence. Business taxes grew $28 million (0.5%). Other taxes fell
primarily because revenues for estate and gift taxes decreased. Miscellaneous
revenues decreased $380 million (12.7%), due to a decline in receipts from the
Medical Malpractice Insurance Association and medical provider assessments.
Expenditures increased $147 million (0.4%), with the largest increases occurring
in State aid for education and social services spending. Education expenditures
grew $391 million (3.6%) due mainly to an increase in spending for support for
public schools. This growth was offset, in part, by a reduction in spending for
municipal and community colleges. Social services expenditures increased $233
million (2.6%) due mainly to program growth. Increases in other State aid
spending were offset by a decline in general purpose aid of $235 million (28.8%)
due to statutory changes in the payment schedule. Increases in personal and
non-personal service costs were offset by a decrease in pension contribution of
$660 million, a result of the refinancing of the State's pension amortization
that occurred in 1997. Net other financing sources decreased $841 million
(68.2%) due to the nonrecurring use of bond proceeds ($769 million) provided by
the Dormitory Authority of the State of New York (DASNY) to pay the outstanding
pension amortization liability incurred in 1997.
Special Revenue, Debt Service and Capital Projects Fund Types. An operating
surplus of $49 million was reported for the Special Revenue Funds, which
increased the accumulated fund balance to $581 million. Revenues rose by $884
million (3.3%) as a result of increases in tax and federal grant revenues.
Expenditures increased $795 million (3.3%) as a result of increased costs for
local assistance grants. Net other financing uses decreased $105 million (3.3%).
Debt Service Funds ended the fiscal year with an operating deficit of $43
million and, as a result, the accumulated fund balance declined to $1.86
billion. Revenues increased $246 million (10.6%) as a result of increases in
dedicated taxes. Debt service expenditures increased $341 million (14.4%). Net
other financing sources increased $89 million (401.3%) due primarily to savings
achieved through advance refundings of outstanding bonds. An operating surplus
of $232 million was reported in the Capital Projects Funds and, as a result, the
accumulated deficit in this fund type decreased to $381 million. Revenues
increased $180 million (8.6%) primarily as a result of a $54 million increase in
dedicated tax revenues and an increase of $101 million in federal grants for
transportation and local wastewater treatment projects. Expenditures increased
$146 million (4.5%) primarily as a result of increased capital construction
spending for transportation and local waste water treatment projects. Net other
financing sources increased by $100 million primarily as a result of a decrease
in transfers to certain public benefit corporations engaged in housing programs.
The New York Economy. New York is the third most populous state in the nation
and has a relatively high level of personal wealth. The State's economy is
diverse, with a comparatively large share of the nation's finance, insurance,
transportation, communications and services employment, and a very small share
of the nation's farming and mining activity. The State's location and its air
transport facilities and natural harbors have made it an important link in
international commerce. Travel and tourism constitute an important part of the
economy. Like the rest of the nation, New York has a declining proportion of its
workforce engaged in manufacturing, and an increasing proportion engaged in
service industries.
Services: The services sector, which includes entertainment, personal services,
such as health care and auto repairs, and business-related services, such as
information processing, law and accounting, is the State's leading economic
sector. The services sector accounts for more than three of every ten
nonagricultural jobs in New York and has a noticeably higher proportion of total
jobs than does the rest of the nation. In recent years, many industries in the
services sector, especially high-technology firms, have been prospering.
Manufacturing: Manufacturing employment continues to decline in New York, as in
most other states, and New York's economy is less reliant on this sector than in
the past. However, it remains an important sector of the State economy,
particularly for the upstate economy, as high concentrations of manufacturing
industries for transportation equipment, optics and imaging, materials
processing, and refrigeration, heating, and electrical equipment products are
located upstate.
Trade: Wholesale and retail trade is the second largest sector in terms of
nonagricultural jobs in New York but is considerably smaller when measured by
income share. Trade consists of wholesale businesses and retail businesses, such
as department stores and eating and drinking establishments.
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Finance Insurance and Real Estate: New York City is the nation's leading center
of banking and finance and, as a result, this is a far more important sector in
the State than in the nation as a whole. Although this sector accounts for under
one-tenth of all nonagricultural jobs in the State, it contributes about
one-fifth of total wages.
Agriculture: Farming is an important part of the economy in rural areas,
although it constitutes a very minor part of total State output. Principal
agricultural products of the State include milk and dairy products, greenhouse
and nursery products, fruits, and vegetables. New York ranks among the nation's
leaders in the production of these commodities.
Government: Federal, state and local governments together are the third largest
sector in terms of nonagricultural jobs, with the bulk of the employment
accounted for by local governments. Public education is the source of nearly
one-half of total State and local government employment.
Relative to the nation, the State has a smaller share of manufacturing and
construction and a larger share of service-related industries. The State's
finance, insurance, and real estate share, as measured by wages, is particularly
large relative to the nation. The State is likely to be less affected than the
nation as a whole during an economic recession that is concentrated in
manufacturing and construction, but likely to be more affected by any economic
downturn that is concentrated in the services sector.
The forecast of the State's economy shows continued expansion throughout 2000.
Most major sectors recorded significant employment gains for the first quarter
of 2000, with the services sector accounting for most of the increase. Much of
this increase occurred in business services. The employment growth rate in 2000
is expected to be 2.1%, which, although lower than 1999's 2.6%, represents
another strong year relative to recent historical performance. The unemployment
rate is expected to be 4.9% in 2000, down from 5.1% in 1999.
Personal income is expected to rise 6.1% in 2000, with a 7.5% increase in wages.
Two major factors are working to produce this impressive growth in wages. One is
the overall tightness in the labor market, and the other is strong growth in
financial sector bonus payments.
Given the importance of the securities industry in the New York State economy, a
significant change in stock market performance during the forecast horizon could
result in financial sector profits and bonuses that are significantly different
from those embodied in the forecast. Any actions by the Federal Reserve Board to
moderate inflation by increasing interest rates more than anticipated may have
an adverse impact in New York given the sensitivity of financial markets to
interest rate shifts and the prominence of these markets in the New York
economy. In addition, there is a possibility that greater-than-anticipated
mergers, downsizing, and relocation of firms caused by deregulation and global
competition may have a significant adverse effect on employment growth.
Debt and Other Financing Activities
Legal Categories of State Debt and Other Financings. Financing activities of the
State include general obligation debt and State-guaranteed debt, to which the
full faith and credit of the State has been pledged, as well as lease-purchase
and contractual-obligation financings, moral obligation and other financings
through public authorities and municipalities, where the State's legal
obligation to make payments to those public authorities and municipalities for
their debt service is subject to annual appropriation by the Legislature. The
State has never defaulted on any of its general obligation indebtedness or its
obligations under lease purchase or contractual-obligation financing
arrangements and has never been called upon to make any direct payments pursuant
to its guarantees.
General Obligation and State-Guaranteed Financing. There are a number of methods
by which the State itself may incur debt. The State may issue general obligation
bonds. Under the State Constitution, the State may not, with limited exceptions
for emergencies, undertake long-term general obligation borrowing (i.e.,
borrowing for more than one year) unless the borrowing is authorized in a
specific amount for a single work or purpose by the Legislature and approved by
the voters. There is no constitutional limitation on the amount of long-term
general obligation debt that may be so authorized and subsequently incurred by
the State. With the exception of general obligation housing bonds (which must be
paid in equal annual installments or installments that result in substantially
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level or declining debt service payments, within 50 years after issuance,
commencing no more than three year after issuance), general obligation bonds
must be paid in equal annual installments or installments that result in
substantially level or declining debt service payments, within 40 years after
issuance, beginning not more than one year after issuance of such bonds.
The State may undertake short-term borrowings without voter approval (i) in
anticipation of the receipt of taxes and revenues, by issuing tax and revenue
anticipation notes (TRANs), and (ii) in anticipation of the receipt of proceeds
from the sale of duly authorized but unissued general obligation bonds, by
issuing bond anticipation notes (BANs). TRANs must mature within one year from
their dates of issuance and may not be refunded or refinanced beyond such
period. However, since 1990, the State's ability to issue TRANs has been limited
due to enactment of the fiscal reform program that created LGAC. BANs may only
be issued for the purposes and within the amounts for which bonds may be issued
pursuant to voter authorizations. BANs must be paid from the proceeds of the
sale of bonds in anticipation of which they were issued or from other sources
within two years of the date of issuance or, in the case of BANs for housing
purposes, within five years of the date of issuance. In order to provide
flexibility within these maximum term limits, the State has utilized the BANs
authorization to conduct a commercial paper program to fund disbursements
eligible for general obligation bond financing. The State expects to redeem the
remaining BANs outstanding and does not anticipate issuing new BANs during the
2000-01 fiscal year.
Pursuant to specific constitutional authorization, the State may also directly
guarantee certain public authority obligations. The State Constitution provides
for the State guarantee of the repayment of certain borrowings for designated
projects of the Job Development Authority (JDA). The State has never been called
upon to make any direct payments pursuant to any such guarantees.
In February 1997, the JDA issued approximately $85 million of State-guaranteed
bonds to refinance certain of its outstanding bonds and notes in order to
restructure and improve its capital finances. Due to concerns regarding the
economic viability of its programs, JDA's loan and loan guarantee activities
were suspended in 1995. JDA resumed its lending activities in 1997 under a
revised set of lending programs and underwriting guidelines. As a result of the
structural imbalances in JDA's capital structure, and defaults in its loan
portfolio and loan guarantee program incurred between 1991 and 1996, JDA would
have experienced a debt service cash flow shortfall had it not completed the
1997 refinancing. JDA anticipates that it will transact an additional
refinancing in 2003 to complete its long-term plan of finance and further
alleviate cash flow imbalances which are likely to occur in future years. The
State does not anticipate that it will be called upon to make any payments
pursuant to the State guarantee in the 2000-01 fiscal year.
Payments of debt service on State general obligation and State-guaranteed bonds
and notes are legally enforceable obligations of the State.
Lease-Purchase and Contractual-Obligation Financing. The State employs
additional long-term financing mechanisms, lease-purchase and
contractual-obligation financings, which involve obligations of public
authorities or municipalities that are State-supported but not general
obligations of the State. Under these financing arrangements, certain public
authorities and municipalities have issued obligations to finance the
construction and rehabilitation of facilities or the acquisition and
rehabilitation of equipment, and expect to meet their debt service requirements
through the receipt of rental or other contractual payments made by the State.
Although these financing arrangements involve a contractual agreement by the
State to make payments to a public authority, municipality or other entity, the
State's obligation to make such payments is generally expressly made subject to
appropriation by the Legislature and the actual availability of money to the
State for making the payments. The State has also entered into a financing
arrangement with LGAC to restructure the way the State makes certain local aid
payments.
The State also participates in the issuance of certificates of participation
(COPs) in a pool of leases entered in to by the State's Office of General
Services on behalf of several State departments and agencies interested in
acquiring operational equipment, or in certain cases, real property. Legislation
enacted in 1986 established restrictions upon and centralized State control,
through the Comptroller and the Director of the Budget, over the issuance of
COPs representing the State's contractual obligation, subject to annual
appropriation by the Legislature and availability of money, to make installment
or lease-purchase payments for the State's acquisition of such equipment or real
property.
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The State is also committed under numerous capital lease-purchase agreements
covering electronic data processing and telecommunications equipment and real
property capital lease-purchase agreements. Expenditures for these obligations
during the 1999-2000 fiscal year were $35.1 million comprised of $22.4 million
attributable to principal and $12.7 million attributable to interest. As of
March 31, 2000, the remaining State liability for scheduled payments pursuant to
these capital lease-purchase agreements is approximately $380 million, comprised
of approximately $226 million attributable to principal and $154 million
attributable to interest. Included in these amounts is approximately $171
million attributable to principal and $148 million attributable to interest for
real property capital lease-purchase agreements. As such obligations do not
entail a traditional bond, note, or COPs financing, these amounts are not
reflected in the tables describing State-supported debt.
Moral Obligation and Other Financing. Moral obligation financing generally
involves the issuance of debt by a public authority to finance a
revenue-producing project or other activity. The debt is secured by project
revenues and includes statutory provisions requiring the State, subject to
appropriation by the Legislature, to make up any deficiencies which may occur in
the issuer's debt service reserve fund. There has never been a default on any
moral obligation debt of any public authority. The State does not intend to
increase statutory authorizations for moral obligation bond programs. From 1976
through 1987, the State was called upon to appropriate and make payments
totaling $162.8 million to make up deficiencies in the debt service reserve
funds of the Housing Finance Agency (HFA) pursuant to moral obligation
provisions. In the same period, the State also expended additional funds to
assist the Project Finance Agency, the Urban Development Corporation (UDC) and
other public authorities which had moral obligation debt outstanding. The State
has not been called upon to make any payments pursuant to any moral obligations
since the 1986-87 fiscal year and no such requirements are anticipated during
the 2000-01 fiscal year.
In addition to the moral obligation financing arrangements described above,
State law provides for the creation of State municipal assistance corporations,
which are public authorities established to aid financially troubled localities.
The Municipal Assistance Corporation for the City of New York (NYC MAC) was
created in 1975 to provide financing assistance to New York City. To enable NYC
MAC to pay debt service on its obligations, NYC MAC receives, subject to annual
appropriation by the Legislature, receipts from the 4% New York State sales tax
for the benefit of New York City, the State-imposed stock transfer tax and
subject to certain prior liens, certain local assistance payments otherwise
payable to New York City. The NYC MAC legislation also includes a moral
obligation provision. Under its enabling legislation, NYC MAC's authority to
issue moral obligation bonds and notes (other than refunding bonds and notes)
expired on December 3l, 1984 and no such bonds are outstanding. In 1995, the
State created the Municipal Assistance Corporation for the City of Troy (Troy
MAC). The bonds issued by Troy MAC do not include moral obligation provisions.
The State also provides for contingent contractual-obligation financing for the
Secured Hospital Program pursuant to legislation enacted in 1985. Under this
financing method, the State entered into service contracts which obligate the
State to pay debt service, subject to annual appropriations, on bonds either
formerly issued by the New York State Medical Care Facilities Finance Agency
(MCFFA) and now included as debt of the DASNY, or bonds issued directly by
DASNY, in the event there are shortfalls of revenues from other sources. The
State has never been required to make any payments pursuant to this financing
arrangement, nor does it anticipate being required to do so during the 2000-01
fiscal year. The statutory authorization to issue bonds under this program
expired on March 1, 1998.
Local Government Assistance Corporation. In 1990, as part of a State fiscal
reform program, legislation was enacted creating LGAC, a public benefit
corporation empowered to issue long-term obligations to fund certain payments to
local governments that had been traditionally funded through the State's annual
seasonal borrowing. The legislation authorized LGAC to issue its bonds and notes
in an amount to yield net proceeds not in excess of $4.7 billion (exclusive of
certain refunding bonds). Over a period of years, the issuance of these
long-term obligations, which are to be amortized over no more than 30 years, was
expected to eliminate the need for continued short-term seasonal borrowing. The
legislation also dedicated revenues equal to 1% of the 4% State sales and use
tax to pay debt service on these bonds. The legislation also imposed a cap on
the annual seasonal borrowing of the State at $4.7 billion, less net proceeds of
bonds issued by LGAC and bonds issued to provide for capitalized interest,
except in cases where the Governor and the legislative leaders have certified
the need for additional borrowing and provided a schedule for reducing it to the
cap. If borrowing above the cap is thus permitted in any fiscal year, it is
required by law to be reduced to the cap by the fourth fiscal year after the
limit was first exceeded. This provision
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capping the seasonal borrowing was included as a covenant with LGAC's
bondholders in the resolution authorizing such bonds. As of June 1995, LGAC had
issued bonds and notes to provide net proceeds of $4.7 billion, completing the
program. The impact of LGAC's borrowing, as well as other changes in revenue and
spending patterns, is that the State has been able to meet its cash flow needs
throughout the fiscal year without relying on short term seasonal borrowings.
2000-01 Borrowing Plan. The State Finance Law requires the Governor to submit
the five-year Capital Program and Financing Plan with the Executive Budget. A
copy of this plan can be obtained by contacting the Division of the Budget,
State Capitol, Albany, NY 12224, (518) 473-8705, or by visiting its website at
www.state.ny.us/dob.
The State's borrowing plan projects issuances of $367 million in general
obligation bonds, including $45 million for purposes of redeeming the remaining
outstanding BANs. The State does not anticipate issuing new BANs. The State is
expected to issue up to $276 million in COPs to finance equipment purchases
(including costs of issuance, reserve funds, and other costs). Of this amount,
it is anticipated that approximately $76 million will be used to finance agency
equipment acquisitions. Approximately $200 million is expected to finance the
purchase of new welfare computer systems designed to improve case management,
fraud detection and child support collection capabilities. Borrowing; by public
authorities pursuant to lease-purchase and contractual-obligation financings for
capital programs of the State are projected to total approximately $2.91
billion, including costs of issuance, reserve finds, and other costs, net of
anticipated refundings and other adjustments. Included therein are borrowing by:
(i) DASNY for the State University of New York (SUNY); the City University of
New York (CUNY); health and mental health facilities; child care facilities;
biomedical facilities; the Judicial Training Institute; school construction; and
university facilities (Jobs 2000); (ii) the Thruway Authority for the Dedicated
Highway and Bridge Trust Fund and Consolidated Highway Improvement Program;
(iii) UDC (doing business as the Empire State Development Corporation) for
prisons, youth facilities; and economic development purposes, including sports
facilities and projects within the Buffalo inner harbor area; (iv) the
Environmental Facilities Corporation (EFC) for environmental projects, including
Pipeline for Jobs (Jobs 2000); and (v) HFA for housing programs. Borrowings
include the Community Enhancement Facilities Assistance Program (CEFAP) for
economic development purposes. Four public authorities (Thruway Authority,
DASNY, UDC and HFA) are authorized to issue bonds under this program. Borrowings
also include the Strategic Investment Program (SIP) for environmental, historic
preservation, economic development, arts, and cultural purposes. Three public
authorities (DASNY, UDC and EFC) are authorized to issue bonds under this
program. The projections of State borrowings are subject to change as market
conditions, interest rates and other factors vary.
Outstanding Debt of the State and Certain Authorities. For purposes of analyzing
the financial condition of the State, debt of the State and of certain public
authorities may be classified as State-supported debt, which includes general
obligation debt of the State and lease purchase and contractual obligations of
public authorities (and municipalities) where debt service is paid from State
appropriations (including dedicated tax sources, and other revenues such as
patient charges and dormitory facilities rentals). In addition, a broader
classification, referred to as State-related debt, includes State supported
debt, as well as certain types of contingent obligations, including moral
obligation financing, certain contingent contractual-obligation financing
arrangements, and State-guaranteed debt described above, where debt service is
expected to be paid from other sources and State appropriations are contingent
in that they may be made and used only under certain circumstances.
State-Supported Debt Outstanding
General Obligation Bond Programs. The first type of State-supported debt,
general obligation debt, is currently authorized for transportation, environment
and housing purposes. The amount of general obligation bonds and BANs issued in
the 1997-98 through 1999-2000 fiscal years (excluding bonds issued to redeem
BANs) were $486 million, $249 million, and $208 million, respectively.
Transportation-related bonds are issued for State highway and bridge
improvements, aviation, highway and mass transportation projects and purposes,
and rapid transit, rail, canal, port and waterway programs and projects.
Environmental bonds are issued to fund environmentally-sensitive land
acquisitions, air and water quality improvements, municipal non-hazardous waste
landfill closures and hazardous waste site cleanup projects. As of March 31,
2000, the total amount of outstanding general obligation debt was $4.6 billion,
including $45 million in BANs. Chapter 58 of the laws of 2000 enacted the
proposed $3.8 billion Transportation Infrastructure Bond Act of 2000, which will
be presented to the voters for approval in the State's November 2000 general
election.
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Lease-Purchase and Contractual-Obligation Financing Programs. The second type of
State-supported debt, lease-purchase and contractual-obligation financing
arrangements with public authorities and municipalities, has been used primarily
by the State to finance the State's highway and bridge program, SUNY and CUNY
buildings, health and mental hygiene facilities, prison construction and
rehabilitation, and various other State capital projects. The State has utilized
and expects to continue to utilize lease-purchase and contractual-obligation
financing arrangements to finance its capital programs, in addition to
authorized general obligation bonds.
Transportation. The State Department of Transportation is primarily responsible
for maintaining and rehabilitating the State's system of highways and bridges,
which includes 40,000 State highway lane miles and 7,500 State bridges. The
Department also oversees and funds programs for rail, port, transit and aviation
projects and programs that help defray local capital expenses associated with
road and bridge projects.
Legislation enacted in 1991 established the Dedicated Highway and Bridge Trust
Fund to provide for the dedication of a portion of the petroleum business tax
and certain other transportation-related taxes and fees for transportation
improvements. Since 1993, periodic legislation has authorized a series of
multi-year capital plans for the State's transportation programs. Most recently,
legislation enacted in 2000 authorized a $17.1 billion 2000-01 through 2004-05
capital program for highways and bridges, canals, rail, ports, aviation, and
non-MTA transit systems. The new program will be financed by a combination of
Federal grants, pay-as-you-go capital and bond proceeds supported by the
Dedicated Highway and Bridge Trust Fund, revenues from the Dedicated Mass
Transportation Trust Fund and a portion of the proceeds of bonds issued pursuant
to the $3.8 billion Transportation Infrastructure Bond Act of 2000, if approved
by the voters in the November 2000 general election.
The State has supported the capital plans of the MTA in part by entering into
service contracts relating to certain bonds issued by the MTA. Legislation
adopted in 1992 and 1993 also authorized payments, subject to appropriation, of
a portion of the petroleum business tax from the State's Dedicated Mass
Transportation Trust Fund to the MTA and authorized it to be used as a source of
payment for bonds to be sold by the MTA to support its capital program.
Legislation adopted in 2000 provided for increases in amounts dedicated to the
MTA through the Dedicated Mass Transportation Trust Fund by increasing the
portion of the petroleum less tax and other transportation-related taxes and
fees that would flow to that Fund. The legislation schedules these increases
throughout the 2000-01 through 2004-05 period.
Education. The State finances the physical infrastructure of SUNY and CUNY and
their respective community colleges and the State Education Department through
direct State capital spending and through financing arrangements with DASNY,
paying all capital costs of the senior colleges and sharing equally with local
governments for the community colleges, except that SUNY dormitories are
financed through dormitory fees. The 34 SUNY campuses include more than 2,300
buildings, including classrooms, dormitories, libraries, athletic and student
facilities and other buildings of which 84% are over 20 years of age. Together
with the 30 SUNY community colleges, the SUNY system serves nearly 370,000
students. The CUNY system is comprised of 11 senior colleges and 6 community
colleges that serve approximately 199,000 degree credit students.
Mental Hygiene/Health. The State provides care for its citizens with mental
illness, mental retardation and developmental disabilities, and for those with
chemical dependencies, through the Office of Mental Health (OMH), the Office of
Mental Retardation and Developmental Disabilities (OMRDD) and the Office of
Alcoholism and Substance Abuse Services. Historically, this care has been
provided at large State institutions. Beginning in the 1980s the State adopted
policies to provide institutional care to those most in need and to expand care
in community residences. OMRDD's capital program supports a State institutional
infrastructure comprising 13 Developmental Disabilities Services Offices with
almost 400 buildings, and a State- and non-profit operated community network of
approximately 25,000 beds. The program continues the recent shift in emphasis
from the development of new facilities (primarily in the community) to the
improvement and maintenance of existing State- and non-profit infrastructure.
OMH's capital program supports an institutional physical plant consisting of 23
campuses with over 1,000 buildings as well as 10,000 State- and non-profit
operated community residential beds. The overall policy direction of this
program has limited institutional capital projects to those that are necessary
to ensure the health and safety of clients and staff, retain program
accreditation, and maintain the condition of existing facilities. In addition,
the program supports the preservation of the existing capital base of State-and
nonprofit operated community beds and the development of new non-profit operated
community beds. As the need for institutional beds has declined over recent
years, both OMRDD and OMH have consolidated, reconfigured or closed many of
their campuses,
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permitting the planned development of alternate uses for the surplus facilities.
Capital investments for these programs are primarily supported by patient
revenues through financing arrangements with DASNY. Various capital programs for
Department of Health facilities have also been financed by DASNY using
contractual-obligation financing arrangements.
Corrections. During the 10-years ended 1992, the State's prison system more than
doubled in size due to the unprecedented increase in demand for prison space.
Today, the system houses approximately 72,000 inmates in 70 facilities with
3,400 buildings. Although the Department of Correctional Services capital
program was focused primarily on rehabilitation of existing facilities in the
early 1990s, continued inmate population growth and projected future growth
indicate the need for both expansion of existing facilities and new facilities.
The State has added approximately 4,600 beds in response to this population
growth.
Other Programs. The State also uses lease-purchase and contractual-obligation
financing arrangements for the institutional facilities of the Office of
Children and Family Services, the State's housing programs, and various
environmental, economic development, and State building programs. In addition,
DASNY has issued taxable pension bonds to refinance the balance of a preexisting
State pension liability, for the purpose of achieving present value savings.
Debt authorizations for certain programs are approved or enacted all at one time
and are expected to be fully issued over time. Authorizations for other capital
programs are enacted annually by the Legislature and are usually consistent with
bondable capital projects appropriations. Authorization does not, however,
indicate an intent to sell bonds for the entire amount of those authorizations,
because capital appropriations often include projects that do not materialize or
are financed from other sources. For example, there are no current plans for the
Thruway Authority to issue any of the authorizations for the suburban
transportation program or the remaining emergency highway authorizations.
The Debt Reform Act of 2000, which implements statutory initiatives intended to
improve the State's borrowing practices and applies to all new State-supported
debt issued on and after April 1, 2000, includes the following provisions: (i) a
phased-in cap on new State-supported debt outstanding of 4% of personal income
(the existing State-supported debt level is 6% of personal income); (ii) a
phased-in cap on new State-supported debt service costs of 5% of total
governmental funds receipts (the existing State-supported debt service costs are
5% of total governmental receipts); (iii) a limit on the use of debt to capital
works and purposes only; and (iv) a limit on the maximum term of new
State-supported debt to 30 years.
The cap on new State-supported debt outstanding begins at 0.75% of personal
income and is gradually increased until it is fully phased in at 4% of personal
income in 2010-11. Similarly, the phased-in cap on new State-supported debt
service costs begins at 0.75% of total governmental funds receipts and is
gradually increased until it is fully phased in at 5% in 2013-14.
State-supported bond issuances during the 2000-01 borrowing plan are projected
by DOB to be within the Debt Reform Act's statutory caps.
The Debt Reform Act requires the limitations on the issuance of State-supported
debt and debt service costs to be calculated by October 31st of each year and
reported in the quarterly Financial Plan Update most proximate to October 3lst
of each year. If the calculations for new State-supported debt outstanding and
debt service costs are less than the State-supported debt outstanding and debt
service costs permitted under the Debt Reform Act, new State-supported debt may
continue to be issued. However, if either the debt outstanding or the debt
service cap is met or exceeded, the State would be precluded from contracting
new State-supported debt until the next annual cap calculation is made and
State-supported debt is found to be within the appropriate limitations. The DOB
expects that the prohibition on issuing new State-supported debt if the caps are
met or exceeded will provide an incentive to treat the debt caps as absolute
limits that should not be reached, and therefore DOB intends to manage
subsequent capital plans and issuance schedules under these limits.
Litigation
General. The legal proceedings listed below involve State finances and programs
and miscellaneous civil rights, real property, contract and other tort claims in
which the State is a defendant and the potential monetary claims against the
State are substantial, generally in excess of $100 million. These proceedings
could adversely affect the
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financial condition of the State. As of May 31, 2000, except as described below,
no current litigation involves the State's authority, as a matter of law, to
contract indebtedness, issue its obligations, or pay such indebtedness when due,
or affects the State's power or ability, as a matter of law, to impose or
collect significant amounts of taxes and revenues. The State is party to other
claims and litigation which its legal counsel has advised are not probable of
adverse court decisions or are not deemed adverse and material. Although the
amounts of potential losses resulting from this litigation, if any, are not
presently determinable, it is the State's opinion that its ultimate liability in
these cases is not expected to have a material and adverse effect on the State's
financial position. The General Purpose Financial Statements for the 1999-2000
fiscal year report estimated probable awarded and anticipated unfavorable
judgments of $895 million, of which $132 million was expected to be paid during
the 1999-2000 fiscal year.
Adverse developments in the proceedings described below, other proceedings for
which there are unanticipated, unfavorable and material judgments, or the
initiation of new proceedings could affect the ability of the State to maintain
a balanced Financial Plan. The State believes that the proposed Financial Plan
includes sufficient reserves to offset the costs associated with the payment of
judgments that may be required during the 2000-01 fiscal year. These reserves
include (but are not limited to) amounts appropriated for Court of Claims
payments and projected fund balances in the General Fund. In addition, any
amounts ultimately required to be paid by the State may be subject to settlement
or may be paid over a multi-year period. Adverse decisions in legal proceedings
against the State may, however, exceed the amount of all potential Financial
Plan resources available for the payment of judgments, and could therefore
affect the ability of the State to maintain a balanced Financial Plan.
Tax Law. In New York Association of Convenience Stores v. Urbach, petitioners
are seeking to compel the Department of Taxation and Finance and its
Commissioner to enforce sales and excise taxes imposed on tobacco products and
motor fuel sold to non-Indian consumers on Indian reservations. In August 1996,
the New York Supreme Court ordered equal implementation and enforcement of these
taxes for sales to non-Indian consumers on and off Indian reservations, and
further ordered that, if respondents failed to comply within 120 days, no
tobacco products or motor fuel could be introduced onto Indian reservations
other than for Indian consumption or, alternately, the collection and
enforcement of such taxes would be suspended statewide. Respondents obtained a
stay of the orders pending appeal. In May 1997, the Third Department deleted the
portion of the orders that provided for the statewide suspension of the
enforcement and collection of the sales and excise taxes on motor fuel and
tobacco products, holding that petitioners had not sought such relief and that
it was an error for the Supreme Court to have awarded such undemanded relief
without adequate notice of its intent to do so. In July 1998, the New York Court
of Appeals reversed the Third Department and remanded the matter to the Supreme
Court, holding that while the petitioners had standing to assert an equal
protection claim, their claim did not implicate racial discrimination. The Court
remanded the case to resolve whether there was a rational basis for the Tax
Department's policy of non-enforcement of the sales and excise taxes on
reservation sales of cigarettes and motor fuel to non-Indians. In July 1999, the
Supreme Court, Albany County, dismissed the petition. Petitioners' appeal of
this dismissal is pending.
Line Item Veto. In an action commenced in June 1998 (Silver v. Pataki), the
Speaker of the Assembly challenged the Governor's application of his
constitutional line item veto authority to certain portions of budget bills
adopted by the State Legislature. The State is currently appealing the denial of
its motion to dismiss.
Real Property Claims. In March 1985 in Oneida Indian Nation of New York v.
County of Oneida, the U.S. Supreme Court affirmed a Second Circuit judgment that
the Oneida Indians have a common-law right of action against Madison and Oneida
counties for wrongful possession of 872 acres of land illegally sold to the
State in 1795. At the same time, however, the Court reversed the Second Circuit
by holding that a third-party claim by the counties against the State for
indemnification was not properly before the federal courts. The case was
remanded to the District Court for an assessment of damages, which action is
still pending. The counties may still seek indemnification in State court. In
1998, the United States filed a complaint in intervention in Oneida Indian
Nation of New York. In December 1998, both the United States and the tribal
plaintiffs moved to amend their complaints to assert claims for 250,000 acres,
to add the State as a defendant, and to certify a class made up of all
individuals who currently purport to hold title within said 250,000 acre area.
These motions were argued and are still awaiting determination. In February
1999, the District Court appointed a federal settlement master.
Several other federal actions involving Indian claims to land in upstate New
York are also pending, including Cayuga Indian Nation of New York v. Cuomo,
Canadian St. Regis Band of Mohawk Indians v. State of New York
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and Seneca Nation of Indians v. State of New York. The Supreme Court's holding
in Oneida Indian Nation may impair or eliminate certain of the State's defenses
to these actions, but may enhance others. In Cayuga Indian Nation, in March
1999, the District Court appointed a federal settlement master. In October 1999,
the District Court granted the federal government's motion to have the State
held jointly and severally liable for any damages owed to the plaintiffs. At the
conclusion of the damages phase of the trial of this case, a jury verdict of $35
million in damages surplus $1.9 million representing the fair rental value of
the properties at issue was rendered against the defendants. In Canadian St.
Regis, the District Court directed the parties to re-brief outstanding motions
to dismiss brought by the defendants. No decision has been rendered on these
motions. In Seneca Nation, in November 1999, the District Court confirmed the
magistrate's report, which recommended granting the State's motion to dismiss
that portion of the action relating to the right of way where the New York State
Thruway crosses the Cattaraugus Reservation in Erie and Chatauqua Counties and
denying the State's motion to dismiss the Federal Government's damage claims.
The District Court has set a trial date of October 17, 2000 for that portion of
the case related to the plaintiff s claim of ownership of the islands in the
Niagara River.
Determining Net Asset Value for the Money Market Funds
The Money Market Funds use the amortized cost method to determine their NAV.
Use of the Amortized Cost Method. The Money Market Funds' use of the amortized
cost method of valuing their instruments depends on their compliance with
certain conditions contained in Rule 2a-7 of the 1940 Act. Under Rule 2a-7, the
Trustees must establish procedures reasonably designed to stabilize the NAV, as
computed for purposes of distribution and redemption, at $1.00 per share, taking
into account current market conditions and the Money Market Funds' investment
objectives.
The Money Market Funds have elected to use the amortized cost method of
valuation pursuant to Rule 2a-7. This involves valuing an instrument at its cost
initially and thereafter assuming a constant amortization to maturity of any
discount or premium, regardless of the impact of fluctuating interest rates on
the market value of the instrument. This method may result in periods during
which value, as determined by amortized cost, is higher or lower than the price
a Money Market Fund would receive if it sold the instrument. The value of
securities in a Money Market Fund can be expected to vary inversely with changes
in prevailing interest rates.
Pursuant to Rule 2a-7, the Money Market Funds will maintain a dollar-weighted
average portfolio maturity appropriate to its objective of maintaining a stable
NAV provided that a Money Market Fund will not purchase any security with a
remaining maturity of more than 397 days (securities subject to repurchase
agreements may bear longer maturities) nor maintain a dollar-weighted average
portfolio maturity which exceeds 90 days. Should the disposition of a Money
Market Fund's security result in a dollar weighted average portfolio maturity of
more than 90 days, the Money Market Fund will invest its available cash to
reduce the average maturity to 90 days or less as soon as possible.
The Trust's Trustees also have established procedures reasonably designed,
taking into account current market conditions and the Trust's investment
objectives, to stabilize the NAV of the Money Market Funds for purposes of sales
and redemptions at $1.00. These procedures include review by the Trustees, at
such intervals as they deem appropriate, to determine the extent, if any, to
which the NAV of the Money Market Funds calculated by using available market
quotations deviates from $1.00 per share. In the event such deviation exceeds
one-half of one percent, Rule 2a-7 requires that the Board promptly consider
what action, if any, should be initiated. If the Trustees believe that the
extent of any deviation from a Money Market Fund's $1.00 amortized cost price
per share may result in material dilution or other unfair results to new or
existing investors, they will take such steps as they consider appropriate to
eliminate or reduce to the extent reasonably practicable any such dilution or
unfair results. These steps may include selling portfolio instruments prior to
maturity, shortening the dollar-weighted average portfolio maturity, withholding
or reducing dividends, reducing the number of a Money Market Fund's outstanding
shares without monetary consideration, or using a NAV determined by using
available market quotations.
Monitoring Procedures
The Trustee's procedures include monitoring the relationship between the
amortized cost value per share and the NAV based upon available indications of
market value. The Trustees will decide what, if any, steps should be taken
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if there is a difference of more than 0.5% between the two values. The Trustees
will take any steps they consider appropriate (such as redemption in kind or
shortening a Money Market Fund's average maturity) to minimize any material
dilution or other unfair results arising from differences between the two
methods of determining NAV.
Investment Restrictions
Rule 2a-7 requires that the Money Market Funds limit their investments to
instruments that, in the opinion of the Trustees, present minimal credit risks
and are "Eligible Securities" as defined in Rule 2a-7. See "Investments in Which
the Funds Can Invest." An Eligible Security generally must be rated by at least
one NRSRO. Such rating may be of the particular security or of a class of debt
obligations or a debt obligation in that class that is comparable in priority
and security issued by that issuer. If the instruments are not rated, the
Trustees or their delegate must determine that they are of comparable quality.
The Money Market Funds will limit the percentage allocation of their investments
so as to comply with Rule 2a-7, which generally (except in the case of the Ohio
Municipal Money Market Fund) limits to 5% of total assets the amount which may
be invested in the securities of any one issuer. Rule 2a-7 provides an exception
to this 5% limit: certain money market funds may invest up to 25% of their total
assets in the First-Tier Securities (as that term is defined by Rule 2a-7
(generally, a First-Tier Security is a security that has received a rating in
the highest short-term rating category)) of a single issuer for a period of up
to three days after the purchase of such a security. This exception is available
to all Money Market Funds other than the Ohio Municipal Money Market Fund.
Additionally, under Rule 2a-7 the Ohio Municipal Money Market Fund, as a single
state money market fund, must limit the amount which it invests in the
securities of any one issuer to 5% of its total assets only with respect to 75%
of its total assets; provided, however, that no more than 5% of its total assets
may be invested in the securities of any one issuer unless those securities are
First-Tier Securities.
The Money Market Funds will purchase only First-Tier Securities. However, a
Money Market Fund will not necessarily dispose of a security if it ceases to be
a First-Tier Security, although if a First-Tier Security is downgraded to a
Second-Tier Security (as that term is defined by Rule 2a-7) the Adviser will
reassess promptly whether such security continues to present minimal credit
risks and will cause the Money Market Fund to take such action as it determines
is in the best interests of the Money Market Fund and its shareholders.
Rule 2a-7 imposes special diversification requirements on puts. Generally, with
respect to 75% of its total assets, immediately after the acquisition of a put,
a money market fund may have no more than 10% of its total assets invested in
securities issued by, or subject to puts from, the same institution. With
respect to the remaining 75% of its total assets, a money market fund may invest
more than 10% of its assets in puts issued by a non-controlled person so long as
the puts are First-Tier Securities. Where a put is a Second-Tier Security, no
more than 5% of the money market fund's total assets may be invested in
securities issued by, or subject to puts from, the same institution.
The Money Market Funds may attempt to increase yield by trading portfolio
securities to take advantage of short-term market variations. This policy may,
from time to time, result in high portfolio turnover. Under the amortized cost
method of valuation, neither the amount of daily income nor the NAV is affected
by any unrealized appreciation or depreciation of the portfolio.
In periods of declining interest rates, the indicated daily yield on shares of
the Money Market Funds computed by dividing the annualized daily income on a
Money Market Fund's portfolio by the NAV computed as above may tend to be higher
than a similar computation made by using a method of valuation based upon market
prices and estimates.
In periods of rising interest rates, the indicated daily yield on shares of the
Money Market Funds computed the same way may tend to be lower than a similar
computation made by using a method of calculation based upon market prices and
estimates.
Valuation of Portfolio Securities
The NAV of each Fund is determined and the shares of each Fund are priced as of
the valuation time(s) indicated in the Prospectuses on each Business Day. A
"Business Day" is a day on which the New York Stock Exchange, Inc.
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(the "NYSE") is open. With respect to the Money Market Funds, a "Business Day is
a day on which the NYSE and the Federal Reserve Bank of Cleveland are open. The
NYSE will not open in observance of the following holidays: New Year's Day,
Martin Luther King, Jr. Day, Presidents' Day, Good Friday, Memorial Day,
Independence Day, Labor Day, Thanksgiving, and Christmas.
Valuation of Portfolio Securities for the Taxable Bond Funds and the Tax-Free
Bond Funds.
Investment securities held by the Fund for Income, the Intermediate Income Fund,
the Investment Quality Bond Fund, and the Limited Term Income Fund (the "Taxable
Bond Funds") and the National Municipal Bond Fund, the New York Tax-Free Fund,
and the Ohio Municipal Bond Fund (the "Tax-Free Bond Funds") are valued on the
basis of security valuations provided by an independent pricing service,
approved by the Trustees, which determines value by using information with
respect to transactions of a security, quotations from dealers, market
transactions in comparable securities, and various relationships between
securities. Specific investment securities which are not priced by the approved
pricing service will be valued according to quotations obtained from dealers who
are market makers in those securities. Investment securities with less than 60
days to maturity when purchased are valued at amortized cost which approximates
market value. Investment securities not having readily available market
quotations will be priced at fair value using a methodology approved in good
faith by the Trustees.
Valuation of Portfolio Securities for the Equity Funds.
Each equity security held by a Fund is valued at the last sales price on the
exchange where the security is principally traded or, lacking any sales on a
particular day, the security is valued at the last available bid quotation on
that day. Exchange listed convertible debt securities are valued at the bid
obtained from broker-dealers or a comparable alternative, such as Bloomberg or
Reuters, based upon pricing procedures approved by the Board of Trustees. Each
security traded in the over-the-counter market (but not including securities
reported on the Nasdaq National Market System) is valued at the bid based upon
quotes furnished by market makers for such securities. Each security reported on
the Nasdaq National Market System is valued at the sales price on the valuation
date or absent a last sales price, at the mean between the closing bid and asked
prices on that day. Non-convertible debt securities are valued on the basis of
prices provided by independent pricing services. Prices provided by the pricing
service may be determined without exclusive reliance on quoted prices, and may
reflect appropriate factors such as institution-sized trading in similar groups
of securities, developments related to special securities, yield, quality,
coupon rate, maturity, type of issue, individual trading characteristics and
other market data. Securities for which market quotations are not readily
available are valued at fair value as determined in good faith by or under the
supervision of The Victory Portfolios' officers in a manner specially authorized
by the Board of Trustees. Short-term obligations having 60 days or less to
maturity are valued on the basis of amortized cost. For purposes of determining
NAV, futures and options contracts generally will be valued 15 minutes after the
close of trading of the NYSE.
Generally, trading in foreign securities, corporate bonds, U.S. government
securities and money market instruments is substantially completed each day at
various times prior to the close of the NYSE. The values of such securities used
in computing the NAV of each Fund's shares are determined at such times. Foreign
currency exchange rates are also generally determined prior the close of the
NYSE. Occasionally, events affecting the values of such securities and such
exchange rates may occur between the times at which such values are determined
and the close of the NYSE which will not be reflected in the computation of a
Fund's NAV. If events materially affecting the value of such securities occur
during such period, then these securities will be valued at their fair value as
determined in good faith by or under the supervision of the Board of Trustees.
Performance
Performance of the Money Market Funds.
Performance for a class of shares of a Money Market Fund depends upon such
variables as:
o portfolio quality;
o average portfolio maturity;
o type of instruments in which the portfolio is invested;
o changes in interest rates on money market instruments;
o changes in Fund (class) expenses; and
66
<PAGE>
o the relative amount of Fund (class) cash flow.
From time to time the Money Market Funds may advertise the performance of each
class compared to similar funds or portfolios using certain indices, reporting
services, and financial publications.
Yield. The Money Market Funds calculate the yield for a class daily, based
upon the seven days ending on the day of the calculation, called the "base
period." This yield is computed by:
o determining the net change in the value of a hypothetical
account with a balance of one share at the beginning of the
base period, with the net change excluding capital changes but
including the value of any additional shares purchased with
dividends earned from the original one share and all dividends
declared on the original and any purchased shares;
o dividing the net change in the account's value by the value of
the account at the beginning of the base period to determine
the base period return; and
o multiplying the base period return by (365/7).
To the extent that financial institutions and broker/dealers charge fees in
connection with services provided in conjunction with the Money Market Funds,
the yield for a class will be reduced for those shareholders paying those fees.
The seven-day yields of the Money Market Funds for the seven-day period ending
October 31, 1999 are listed in the following table.
<TABLE>
<CAPTION>
------------------------------------- ------------ ----------------------------------- ------------
<S> <C> <C> <C>
Federal Money Market: Investor 5.07% Ohio Municipal Money Market 2.69%
------------------------------------- ------------ ----------------------------------- ------------
Federal Money Market: Select 4.81% Prime Obligations 4.81%
------------------------------------- ------------ ----------------------------------- ------------
Financial Reserves 4.88% Tax-Free Money Market 2.76%
------------------------------------- ------------ ----------------------------------- ------------
Gradison Government Reserves 4.66% U.S. Government Obligations: 4.71%
Investor
------------------------------------- ------------ ----------------------------------- ------------
Institutional Money Market: 5.28% U.S. Government Obligations: 4.45%
Investor Select
------------------------------------- ------------ ----------------------------------- ------------
Institutional Money Market: Select 4.95%
------------------------------------- ------------
</TABLE>
Effective Yield. The Money Market Funds' effective yields are computed by
compounding the unannualized base period return by:
o adding 1 to the base period return;
o raising the sum to the 365/7th power; and
o subtracting 1 from the result.
The effective yields of Money Market Funds for the seven-day period ending
October 31, 1999 are listed below.
<TABLE>
<CAPTION>
--------------------------------------- ---------- ----------------------------------- ------------
<S> <C> <C> <C>
Federal Money Market: Investor 5.20% Ohio Municipal Money Market 2.73%
--------------------------------------- ---------- ----------------------------------- ------------
Federal Money Market: Select 4.93% Prime Obligations 4.92%
--------------------------------------- ---------- ----------------------------------- ------------
Financial Reserves 4.99% Tax-Free Money Market 2.80%
--------------------------------------- ---------- ----------------------------------- ------------
Gradison Government Reserves 4.77% U.S. Government Obligations: 4.82%
Investor
--------------------------------------- ---------- ----------------------------------- ------------
Institutional Money Market: Investor 5.42% U.S. Government Obligations: 4.55%
Select
--------------------------------------- ---------- ----------------------------------- ------------
Institutional Money Market: Select 5.08%
--------------------------------------- ----------
</TABLE>
Total Return Calculations. Total returns quoted in advertising reflect all
aspects of a Fund's return, including the effect of reinvesting dividends and
net capital gain distributions (if any), and any change in the NAV of a Fund
over the period. Average annual total returns are calculated by determining the
growth or decline in value of a hypothetical historical investment in a Fund
over a stated period, and then calculating the annually compounded percentage
rate that would have produced the same result if the rate of growth or decline
in value had been constant over the period. For example, a cumulative total
return of 100% over ten years would produce an average annual total return of
7.18%, which is the steady annual rate of return that would equal 100% growth on
an annually
67
<PAGE>
compounded basis in ten years. While average annual total returns (or
"annualized total return") are a convenient means of comparing investment
alternatives, investors should realize that performance for a Fund is not
constant over time, but changes from year to year, and that average annual total
returns represent averaged figures as opposed to the actual year-to-year
performance of a Fund. When using total return and yield to compare a Fund with
other mutual funds, investors should take into consideration permitted portfolio
composition methods used to value portfolio securities and computing offering
price. The total returns of the Money Market Funds for the one year, five year,
and ten year periods ending October 31, 1999 and the period since inception are
as follows:
<TABLE>
<CAPTION>
--------------------------------------- ------------ ------------ ------------ ------------ ------------
Inception Since
Date One-Year Five-Year Ten-Year Inception
--------------------------------------- ------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Federal Money Market: Investor 3/23/88 4.82% 4.99% 4.85% 5.30%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
Federal Money Market: Select 3/23/98 4.56% N/A N/A 4.81%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
Financial Reserves 4/4/83 4.62% 5.06% 4.92% 6.03%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
Gradison Government Reserves 4/26/76 4.44% 4.85% 4.71% 7.13%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
Institutional Money Market: Investor 1/10/83 5.03% 5.44% 5.22% 6.42%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
Institutional Money Market: Select 6/5/95 4.72% N/A N/A 4.88%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
Ohio Municipal Money Market 7/3/85 2.49% 2.99% 3.17% 3.60%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
Prime Obligations 11/18/86 4.52% 4.89% 4.91% 5.48%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
Tax-Free Money Market 8/24/88 2.55% 3.00% 3.19% 3.48%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
U.S. Government Obligations: Investor 1/8/97 4.27% 4.85% 4.77% 5.26%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
U.S. Government Obligations: Select 11/18/86 4.54% N/A N/A 4.94%
--------------------------------------- ------------ ------------ ------------ ------------ ------------
</TABLE>
In addition to average annual total returns, the Money Market Funds, on behalf
of a class, may quote unaveraged or cumulative total returns reflecting the
total income over a stated period. Average annual and cumulative total returns
may be quoted as a percentage or as a dollar amount, and may be calculated for a
single investment, a series of investments, or a series of redemptions, over any
time period. Total returns may be broken down into their components of income
and capital (including capital gains and changes in share price) in order to
illustrate the relationship of these factors and their contributions to total
return. Total returns, yields, and other performance information may be quoted
numerically or in a table, graph, or similar illustration. The cumulative total
returns of the Money Market Funds for the five year and ten year periods ending
October 31, 1999 and the period since inception are as follows:
<TABLE>
<CAPTION>
------------------------------------------ ------------- ------------ ------------- -------------
Inception Since
Date Five-Year Ten-Year Inception
------------------------------------------ ------------- ------------ ------------- -------------
<S> <C> <C> <C> <C>
Federal Money Market: Investor 3/23/88 27.58% 60.65% 82.12%
------------------------------------------ ------------- ------------ ------------- -------------
Federal Money Market: Select 3/23/98 N/A N/A 7.84%
------------------------------------------ ------------- ------------ ------------- -------------
Financial Reserves 4/4/83 27.98% 61.60% 164.01%
------------------------------------------ ------------- ------------ ------------- -------------
Gradison Government Reserves 4/26/76 26.72% 58.42% 404.70%
------------------------------------------ ------------- ------------ ------------- -------------
Institutional Money Market: Investor 1/10/83 30.34% 66.29% 184.64%
------------------------------------------ ------------- ------------ ------------- -------------
Institutional Money Market: Select 6/5/95 N/A N/A 23.36%
------------------------------------------ ------------- ------------ ------------- -------------
Ohio Municipal Money Market 7/3/85 15.90% 36.66% 66.03%
------------------------------------------ ------------- ------------ ------------- -------------
Prime Obligations 11/18/86 26.95% 61.55% 99.59%
------------------------------------------ ------------- ------------ ------------- -------------
Tax-Free Money Market 8/24/88 15.93% 36.85% 46.58%
------------------------------------------ ------------- ------------ ------------- -------------
U.S. Government Obligations: Investor 1/8/97 26.72% 59.39% 94.21%
------------------------------------------ ------------- ------------ ------------- -------------
U.S. Government Obligations: Select 11/18/86 N/A N/A 14.52%
------------------------------------------ ------------- ------------ ------------- -------------
</TABLE>
Performance of the Non-Money Market Funds.
From time to time, the "standardized yield," "distribution return," "dividend
yield," "average annual total return," "total return," and "total return at NAV"
of an investment in each class of Non-Money Market Fund shares may be
advertised. An explanation of how yields and total returns are calculated for
each class and the components of those calculations are set forth below.
68
<PAGE>
Yield and total return information may be useful to investors in reviewing the
Non-Money Market Fund's performance. A Non-Money Market Fund's advertisement of
its performance must, under applicable SEC rules, include the average annual
total returns for each class of shares of a Non-Money Market Fund for the 1, 5,
and 10-year period (or the life of the class, if less) as of the most recently
ended calendar quarter. This enables an investor to compare the Non-Money Market
Fund's performance to the performance of other funds for the same periods.
However, a number of factors should be considered before using such information
as a basis for comparison with other investments. Investments in a Non-Money
Market Fund are not insured; their yield and total return are not guaranteed and
normally will fluctuate on a daily basis. When redeemed, an investor's shares
may be worth more or less than their original cost. Yield and total return for
any given past period are not a prediction or representation by the Trust of
future yields or rates of return on its shares. The yield and total returns of
the Class A shares of the Non-Money Market Funds are affected by portfolio
quality, portfolio maturity, the type of investments the Non-Money Market Fund
holds, and operating expenses.
Standardized Yield. The "yield" (referred to as "standardized yield") of the
Non-Money Market Funds for a given 30-day period for a class of shares is
calculated using the following formula set forth in rules adopted by the SEC
that apply to all funds that quote yields:
6
Standardized Yield = 2 [(a-b + 1) - 1]
---
cd
The symbols above represent the following factors:
a = dividends and interest earned during the 30-day period.
b = expenses accrued for the period (net of any expense
reimbursements).
c = the average daily number of shares of that class outstanding
during the 30-day period that were entitled to receive
dividends.
d = the maximum offering price per share of the class on the last
day of the period, adjusted for undistributed net investment
income.
The standardized yield of a class of shares for a 30-day period may differ from
its yield for any other period. The SEC formula assumes that the standardized
yield for a 30-day period occurs at a constant rate for a six-month period and
is annualized at the end of the six-month period. This standardized yield is not
based on actual distributions paid by a Fund to shareholders in the 30-day
period, but is a hypothetical yield based upon the net investment income from a
Fund's portfolio investments calculated for that period. The standardized yield
may differ from the "dividend yield" of that class, described below.
Additionally, because each class of shares of a Fund is subject to different
expenses, it is likely that the standardized yields of the share classes of the
Funds will differ. The yields on the Funds for the 30-day period ended October
31, 1999 were as follows:
------------------------ ----------- ------------------------------ ----------
Balanced: A 2.29% LifeChoice Growth 1.45%
------------------------ ----------- ------------------------------ ----------
Convertible Securities 4.50% LifeChoice Moderate 2.48%
------------------------ ----------- ------------------------------ ----------
Diversified Stock: A 0.26% Limited Term Income 5.31%
------------------------ ----------- ------------------------------ ----------
Diversified Stock: G 0.05% National Muni Bond: A 3.55%
------------------------ ----------- ------------------------------ ----------
Established Value: G 0.17% New York Tax-Free: A 3.84%
------------------------ ----------- ------------------------------ ----------
Fund for Income: A 5.77% Ohio Municipal Bond: A 4.15%
------------------------ ----------- ------------------------------ ----------
Fund for Income: G 6.00% Ohio Municipal Bond: G 4.45%
------------------------ ----------- ------------------------------ ----------
Growth (0.19)% Real Estate Investment Fund 4.88%
------------------------ ----------- ------------------------------ ----------
Intermediate Income 5.57% Small Co. Opp'ty: A (0.09)%
------------------------ ----------- ------------------------------ ----------
International Growth: A N/A Small Co. Opp'ty: G (0.33)%
------------------------ ----------- ------------------------------ ----------
International Growth: G N/A Special Value: A 0.58%
------------------------ ----------- ------------------------------ ----------
Investment Quality Bond 5.66% Stock Index: A 1.08%
------------------------ ----------- ------------------------------ ----------
Lakefront 0.14% Stock Index: G 0.90%
------------------------ ----------- ------------------------------ ----------
LifeChoice Conservative 3.56% Value 0.35%
------------------------ ----------- ------------------------------ ----------
Dividend Yield and Distribution Returns. From time to time a Non-Money Market
Fund may quote a "dividend yield" or a "distribution return" for each class.
Dividend yield is based on the dividends of a class of shares derived from net
investment income during a one-year period. Distribution return includes
dividends derived from net
69
<PAGE>
investment income and from net realized capital gains declared during a one-year
period. The distribution return for a period is not necessarily indicative of
the return of an investment since it may include capital gain distributions
representing gains not earned during the period. Distributions, since they
result in the reduction in the price of Fund shares, do not, by themselves,
result in gain to shareholders. The "dividend yield" is calculated as follows:
Dividend Yield of the Class = Dividends of the Class for a Period of One-Year
-----------------------------------------------
Max. Offering Price of the Class (last day of
period
For Class A shares, the maximum offering price includes the maximum front-end
sales charge.
From time to time similar yield or distribution return calculations may also be
made using the Class A NAV (instead of its respective maximum offering price) at
the end of the period. The dividend yields on Class A shares at maximum offering
price and NAV, and distribution returns on Class A shares at maximum offering
price and NAV for the one year period ended October 31, 1999 were as follows:
<TABLE>
<CAPTION>
--------------------------------- ------------- ------------- ------------- ---------------
Dividend Distribution
Yield at Return at
Maximum Dividend Maximum Distribution
Offering Yield at Offering Return at Net
Price Net Asset Price Asset Value
Value
--------------------------------- ------------- ------------- ------------- ---------------
<S> <C> <C> <C> <C>
Balanced 1.96% 2.08% 7.69% 8.16%
--------------------------------- ------------- ------------- ------------- ---------------
Convertible Securities 5.09% 5.40% 5.27% 5.59%
--------------------------------- ------------- ------------- ------------- ---------------
Diversified Stock 0.30% 0.32% 20.32% 21.56%
--------------------------------- ------------- ------------- ------------- ---------------
Fund for Income 5.97% 6.09% 5.97% 6.09%
--------------------------------- ------------- ------------- ------------- ---------------
Growth 0.00% 6.75% 0.00% 7.16%
--------------------------------- ------------- ------------- ------------- ---------------
Intermediate Income 5.06% 5.37% 5.18% 5.49%
--------------------------------- ------------- ------------- ------------- ---------------
International Growth 0.00% 0.00% 2.72% 2.89%
--------------------------------- ------------- ------------- ------------- ---------------
Investment Quality Bond 5.29% 5.61% 5.29% 5.61%
--------------------------------- ------------- ------------- ------------- ---------------
Lakefront 0.59% 0.63% 11.39% 12.08%
--------------------------------- ------------- ------------- ------------- ---------------
LifeChoice Conservative Investor N/A 5.37% N/A 7.43%
--------------------------------- ------------- ------------- ------------- ---------------
LifeChoice Growth Investor N/A 2.03% N/A 4.55%
--------------------------------- ------------- ------------- ------------- ---------------
LifeChoice Moderate Investor N/A 3.07% N/A 5.25%
--------------------------------- ------------- ------------- ------------- ---------------
Limited Term Income 5.00% 5.10% 5.00% 5.10%
--------------------------------- ------------- ------------- ------------- ---------------
National Municipal Bond 3.77% 4.00% 6.01% 6.38%
--------------------------------- ------------- ------------- ------------- ---------------
New York Tax-Free 4.79% 5.09% 4.79% 5.09%
--------------------------------- ------------- ------------- ------------- ---------------
Ohio Municipal Bond 4.13% 4.38% 5.68% 6.03%
--------------------------------- ------------- ------------- ------------- ---------------
Real Estate Investment 4.98% 5.29% 4.98% 5.29%
--------------------------------- ------------- ------------- ------------- ---------------
Small Company Opportunity 0.22% 0.24% 0.45% 0.47%
--------------------------------- ------------- ------------- ------------- ---------------
Special Value 0.58% 0.62% 4.79% 5.09%
--------------------------------- ------------- ------------- ------------- ---------------
Stock Index 1.18% 1.25% 9.34% 9.91%
--------------------------------- ------------- ------------- ------------- ---------------
Value 0.20% 0.22% 15.87% 16.83%
--------------------------------- ------------- ------------- ------------- ---------------
</TABLE>
The dividend yield and distribution returns on Class G shares for the period
from commencement of operations to October 31, 1999 were as follows.
<TABLE>
<CAPTION>
--------------------------------- ---------------------- ----------------- --------------------
Commencement Date Dividend Yield Distribution
Returns
--------------------------------- ---------------------- ----------------- --------------------
<S> <C> <C> <C>
Diversified Stock March 29, 1999 0.23% 21.47%
--------------------------------- ---------------------- ----------------- --------------------
Established Value April 5, 1999 0.33% 2.96%
--------------------------------- ---------------------- ----------------- --------------------
Fund for Income March 29, 1999 6.16% 6.16%
--------------------------------- ---------------------- ----------------- --------------------
International Growth March 29, 1999 0.00% 2.90%
--------------------------------- ---------------------- ----------------- --------------------
Ohio Municipal Bond March 29, 1999 4.40% 6.06%
--------------------------------- ---------------------- ----------------- --------------------
Small Company Opportunity March 29, 1999 0.24% 0.48%
--------------------------------- ---------------------- ----------------- --------------------
Stock Index June 30, 1999 1.21% 9.87%
--------------------------------- ---------------------- ----------------- --------------------
</TABLE>
70
<PAGE>
Total Returns. The "average annual total return" of a Fund, or of each class of
a Fund, is an average annual compounded rate of return for each year in a
specified number of years. It is the rate of return based on the change in value
of a hypothetical initial investment of $1,000 ("P" in the formula below) held
for a number of years ("n") to achieve an Ending Redeemable Value ("ERV"),
according to the following formula:
1/n
(ERV/P) -1 = Average Annual Total Return
The cumulative "total return" calculation measures the change in value of a
hypothetical investment of $1,000 over an entire period greater than one year.
Its calculation uses some of the same factors as average annual total return,
but it does not average the rate of return on an annual basis. Total return is
determined as follows:
ERV - P = Total Return
-------
P
In calculating total returns for Class A shares of the Funds, the current
maximum sales charge (as a percentage of the offering price) is deducted from
the initial investment ("P") (unless the return is shown at NAV, as discussed
below). Total returns also assume that all dividends and net capital gains
distributions during the period are reinvested to buy additional shares at NAV,
and that the investment is redeemed at the end of the period.
The average annual total return and cumulative total return on Class A and G
shares, for the period from the commencement of operations to October 31, 1999
(life of Fund) at maximum offering price is shown on the table that follows. The
average annual total return for the one and five year periods (when applicable)
ended October 31, 1999 also are shown on this table.
<TABLE>
<CAPTION>
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Average Cumulative
Annual Total Return One-Year Five-Year Ten-Year
Total for the Life Average Average Average
Maximum Return for of the Fund Annual Annual Annual Total
Inception Sales the Life of at Maximum Total Total Return at
Fund -- Class Date Charge the Fund at Offering Return at Return at Maximum
Maximum Price Maximum Maximum Offering
Offering Offering Offering Price
Price Price Price
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balanced -- A 12/10/93 5.75% 12.29% 97.89% 5.34% 14.75% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Convertible Sec's 4/14/88 5.75% 10.59% 219.61% 5.96% 10.59% 10.27%
-- A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Diversified Stock 10/20/89 5.75% 16.08% 346.14% 12.52% 22.03% 16.25%
-- A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Diversified Stock - 3/26/99 None N/A 4.73% N/A N/A N/A
G
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Established Value 8/16/83 None 14.26% 767.19% 17.63% 16.54% 12.80%
-- G
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Fund for Income -- A 9/16/87 2.00% 7.57% 142.13% (0.25)% 6.99% 6.83%
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Fund for Income -- G 3/26/99 None N/A 0.72% N/A N/A N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Growth -- A 12/3/93 5.75% 20.70% 203.93% 17.10% 24.12% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Intermediate Inc. 12/10/93 5.75% 3.67% 23.65% (5.91)% 4.87% N/A
-- A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Int'l Growth -- A 5/18/90 5.75% 7.73% 102.24% 22.03% 7.11% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Int'l Growth -- G 3/26/99 None N/A 20.03% N/A N/A N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Inv. Quality Bond 12/10/93 5.75% 3.84% 24.87% (6.86)% 5.37% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Lakefront 3/3/97 5.75% 13.76% 40.96% 17.85% N/A N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
LifeChoice Cons. 12/31/96 None 7.76% 23.59% 8.24% N/A N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
LifeChoice Growth 12/31/96 None 10.84% 33.87% 15.33% N/A N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
LifeChoice Moderate 12/31/96 None 9.36% 28.85% 12.42% N/A N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Limited Term Income 10/20/89 2.00% 5.76% 75.32% (0.36)% 5.12% 5.73%
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Nat'l Muni Bond -- A 2/3/94 5.75% 4.04% 25.55% (6.72)% 5.64% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
NY Tax-Free -- A 2/11/91 5.75% 5.07% 53.90% (7.38)% 3.78% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Ohio Muni Bond -- A 5/18/90 5.75% 6.07% 74.53% (7.88)% 5.42% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Ohio Muni Bond -- G 3/26/99 None N/A (3.59)% N/A N/A N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Real Estate Inv. --A 4/30/97 5.75% 0.66% 1.67% (5.70)% N/A N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Small Co. Opp'ty -- 3/26/99 5.75% N/A 4.20% N/A N/A N/A
A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Small Co. Opp'ty -- 8/16/83 None 9.62% 342.84% (3.14)% 10.37% 9.73%
G
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Special Value -- A 12/3/93 5.75% 8.46% 61.59% (4.98)% 8.81% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Stock Index -- A 12/3/93 5.75% 20.46% 200.43% 17.74% 23.72% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Stock Index -- G 6/30/99 None N/A (0.46)% N/A N/A N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
</TABLE>
71
<PAGE>
<TABLE>
<CAPTION>
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
Average Cumulative
Annual Total Return One-Year Five-Year Ten-Year
Total for the Life Average Average Average
Maximum Return for of the Fund Annual Annual Annual Total
Inception Sales the Life of at Maximum Total Total Return at
Fund -- Class Date Charge the Fund at Offering Return at Return at Maximum
Maximum Price Maximum Maximum Offering
Offering Offering Offering Price
Price Price Price
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
<S> <C> <C> <C> <C> <C> <C> <C>
Value -- A 12/3/93 5.75% 18.52% 172.90% 13.10% 21.45% N/A
--------------------- ---------- --------- ------------- -------------- ------------- ------------- --------------
</TABLE>
From time to time the Non-Money Market Funds also may quote an "average annual
total return at NAV" or a cumulative "total return at NAV." It is based on the
difference in NAV at the beginning and the end of the period for a hypothetical
investment in that class of shares (without considering front-end or contingent
deferred sales charges) and takes into consideration the reinvestment of
dividends and capital gains distributions. The average annual total return and
cumulative total return on Class A shares of the Funds, at NAV for the period
from the commencement of operations to October 31, 1999 (life of Fund) are shown
in the table that follows.
<TABLE>
<CAPTION>
----------------------- ------------- -------------- -------------------- -------------- -------------
Average Cumulative Average Cumulative
Annual Total Return Annual Total Total
Total at Net Asset Return at Return at
Return at Value Net Asset Net Asset
Net Asset Value Value
Value
----------------------- ------------- -------------- -------------------- -------------- -------------
<S> <C> <C> <C> <C>
Balanced 13.42% 109.96% LifeChoice 9.36% 28.85%
Moderate
----------------------- ------------- -------------- -------------------- -------------- -------------
Convertible Sec's 11.15% 239.10% Limited Term 5.97% 78.83%
Income
----------------------- ------------- -------------- -------------------- -------------- -------------
Diversified Stock 16.77% 373.36% Nat'l Muni Bond 5.12% 33.21%
----------------------- ------------- -------------- -------------------- -------------- -------------
Fund for Income 7.75% 147.17% NY Tax-Free 5.78% 63.26%
----------------------- ------------- -------------- -------------------- -------------- -------------
Growth 21.91% 222.47% Ohio Muni Bond 6.73% 85.18%
----------------------- ------------- -------------- -------------------- -------------- -------------
Intermediate Income 4.72% 31.19% Real Estate Inv. 3.07% 7.87%
----------------------- ------------- -------------- -------------------- -------------- -------------
Int'l Growth 8.41% 114.58% Small Co. Opp'ty 9.63% 343.68%
----------------------- ------------- -------------- -------------------- -------------- -------------
Inv. Quality Bond 4.89% 32.49% Special Value 9.55% 71.44%
----------------------- ------------- -------------- -------------------- -------------- -------------
Lakefront 16.32% 49.55% Stock Index 21.67% 218.75%
----------------------- ------------- -------------- -------------------- -------------- -------------
LifeChoice Cons. 7.76% 23.59% Value 19.71% 189.55%
----------------------- ------------- -------------- -------------------- -------------- -------------
LifeChoice Growth 10.84% 33.84%
----------------------- ------------- --------------
</TABLE>
Other Performance Comparisons.
From time to time a Fund may publish the ranking of its performance or the
performance of a particular class of Fund shares by Lipper, Inc. ("Lipper"), a
widely-recognized independent mutual fund monitoring service. Lipper monitors
the performance of regulated investment companies, including the Non-Money
Market Funds, and ranks the performance of the Funds and their classes against
all other funds in similar categories, for both equity and fixed income funds.
The Lipper performance rankings are based on total return that includes the
reinvestment of capital gains distributions and income dividends but does not
take sales charges or taxes into consideration.
From time to time a Fund may publish the ranking of its performance or that of a
particular class of Fund shares by Morningstar, Inc., an independent mutual fund
monitoring service that ranks mutual funds, including the Non-Money Market
Funds, in broad investment categories (domestic equity, international equity
taxable bond, municipal bond or other) monthly, based upon each Fund's three,
five, and ten-year average annual total returns (when available) and a risk
adjustment factor that reflects Fund performance relative to three-month U.S.
Treasury bill monthly returns. Such returns are adjusted for fees and sales
loads. There are five ranking categories with a corresponding number of stars:
highest (5), above average (4), neutral (3), below average (2), and lowest (1).
Ten percent of the funds, series or classes in an investment category receive
five stars, 22.5% receive four stars, 35% receive three stars, 22.5% receive two
stars, and the bottom 10% receive one star.
The total return on an investment made in a Fund or in a particular class of
Fund shares may be compared with the performance for the same period of one or
more of the following indices: the Consumer Price Index, the Salomon Smith
Barney World Government Bond Index, the S&P 500 Index, the Russell 2000 Index,
the Lehman Brothers Government/Corporate Bond Index, the Lehman Brothers
Aggregate Bond Index, the Lehman Brothers Mortgage-Backed Securities Index, the
Lehman GNMA Index, the J.P. Morgan Government Bond Index and the Morgan
72
<PAGE>
Stanley All Country World Index Free ex US. Other indices may be used from time
to time. The Consumer Price Index generally is considered to be a measure of
inflation. The Salomon Smith Barney World Government Bond Index generally
represents the performance of government debt securities of various markets
throughout the world, including the United States. The S&P 500 Index is a
composite index of 500 common stocks generally regarded as an index of U.S.
stock market performance. The Russell 2000 Index is a broad-based unmanaged
index that represents the general performance of domestically traded common
stock of small- to mid-sized companies. The Lehman Brothers Government/Corporate
Bond Index generally represents the performance of intermediate and long-term
government and investment grade corporate debt securities. The Lehman Brothers
Mortgage-Backed Securities Index is a broad-based unmanaged index that
represents the general performance of fixed-rate mortgage bonds. The Lehman
Brothers Aggregate Bond Index measures the performance of U.S. corporate bond
issues, U.S. government securities and mortgage-backed securities. The J.P.
Morgan Government Bond Index generally represents the performance of government
bonds issued by various countries including the United States. The Morgan
Stanley All Country World Index is a widely recognized, unmanaged index of
common stock prices with country weightings of international companies. The
foregoing indices are unmanaged indices of securities that do not reflect
reinvestment of capital gains or take investment costs into consideration, as
these items are not applicable to indices.
From time to time, the yields and the total returns of the Funds or of a
particular class of Fund shares may be quoted in and compared to other mutual
funds with similar investment objectives in advertisements, shareholder reports
or other communications to shareholders. A Fund also may include calculations in
such communications that describe hypothetical investment results. (Such
performance examples are based on an express set of assumptions and are not
indicative of the performance of any Fund.) Such calculations may from time to
time include discussions or illustrations of the effects of compounding in
advertisements. "Compounding" refers to the fact that, if dividends or other
distributions on a Fund's investment are reinvested by being paid in additional
Fund shares, any future income or capital appreciation of a Fund would increase
the value, not only of the original Fund investment, but also of the additional
Fund shares received through reinvestment. As a result, the value of a Fund
investment would increase more quickly than if dividends or other distributions
had been paid in cash.
A Fund also may include discussions or illustrations of the potential investment
goals of a prospective investor (including but not limited to tax and/or
retirement planning), investment management techniques, policies or investment
suitability of a Fund, economic conditions, legislative developments (including
pending legislation), the effects of inflation and historical performance of
various asset classes, including but not limited to stocks, bonds and Treasury
bills.
From time to time advertisements or communications to shareholders may summarize
the substance of information contained in shareholder reports (including the
investment composition of a Fund, as well as the views of the investment adviser
as to current market, economic, trade and interest rate trends, legislative,
regulatory and monetary developments, investment strategies and related matters
believed to be of relevance to a Fund). A Fund may also include in
advertisements, charts, graphs or drawings which illustrate the potential risks
and rewards of investment in various investment vehicles, including but not
limited to stock, bonds, and Treasury bills, as compared to an investment in
shares of a Fund, as well as charts or graphs which illustrate strategies such
as dollar cost averaging, and comparisons of hypothetical yields of investment
in tax-exempt versus taxable investments. In addition, advertisements or
shareholder communications may include a discussion of certain attributes or
benefits to be derived by an investment in a Fund. Such advertisements or
communications may include symbols, headlines or other material which highlight
or summarize the information discussed in more detail therein. With proper
authorization, a Fund may reprint articles (or excerpts) written regarding a
Fund and provide them to prospective shareholders. Performance information with
respect to the Funds is generally available by calling the Funds at
800-539-FUND.
Investors also may judge, and a Fund may at times advertise, the performance of
a Fund or of a particular class of Fund shares by comparing it to the
performance of other mutual funds or mutual fund portfolios with comparable
investment objectives and policies, which performance may be contained in
various unmanaged mutual fund or market indices or rankings such as those
prepared by Dow Jones & Co., Inc., S&P, Lehman Brothers, Merrill Lynch, and
Salomon Smith Barney, and in publications issued by Lipper and in the following
publications: iMoneyNet Money Fund Report, Value Line Mutual Fund Survey,
Morningstar, CDA/Wiesenberger, Money, Forbes, Barron's, The Wall Street Journal,
The New York Times, Business Week, American Banker, Fortune, Institutional
Investor,
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Ibbotson Associates, and U.S.A. Today. In addition to yield information, general
information about a Fund that appears in a publication such as those mentioned
above may also be quoted or reproduced in advertisements or in reports to
shareholders.
Advertisements and sales literature may include discussions of specifics of a
portfolio manager's investment strategy and process, including, but not limited
to, descriptions of security selection and analysis. Advertisements may also
include descriptive information about the investment adviser, including, but not
limited to, its status within the industry, other services and products it makes
available, total assets under management, and its investment philosophy.
When comparing yield, total return, and investment risk of an investment in
shares of a Fund with other investments, investors should understand that
certain other investments have different risk characteristics than an investment
in shares of a Fund. For example, certificates of deposit may have fixed rates
of return and may be insured as to principal and interest by the FDIC, while a
Fund's returns will fluctuate and its share values and returns are not
guaranteed. Money market accounts offered by banks also may be insured by the
FDIC and may offer stability of principal. U.S. Treasury securities are
guaranteed as to principal and interest by the full faith and credit of the U.S.
government. Money market mutual funds may seek to maintain a fixed price per
share.
Additional Purchase, Exchange, and Redemption Information
The NYSE holiday closing schedule indicated in this SAI under "Valuation of
Portfolio Securities" is subject to change.
When the NYSE is closed (and, in the case of the Money Market Funds, when the
Federal Reserve Board of Cleveland is closed), or when trading is restricted for
any reason other than its customary weekend or holiday closings, or under
emergency circumstances as determined by the SEC to warrant such action, the
Funds may not be able to accept purchase or redemption requests. A Fund's NAV
may be affected to the extent that its securities are traded on days that are
not Business Days.
The Trust has elected, pursuant to Rule 18f-1 under the 1940 Act, to redeem
shares of each Fund, other than the Money Market Funds, solely in cash up to the
lesser of $250,000 or 1% of the NAV of the Fund during any 90-day period for any
one shareholder. The remaining portion of the redemption may be made in
securities or other property, valued for this purpose as they are valued in
computing the NAV of each class of the Fund. Shareholders receiving securities
or other property on redemption may realize a gain or loss for tax purposes and
may incur additional costs as well as the associated inconveniences of holding
and/or disposing of such securities or other property.
Pursuant to Rule 11a-3 under the 1940 Act, the Funds are required to give
shareholders at least 60 days' notice prior to terminating or modifying a Fund's
exchange privilege. The 60-day notification requirement may, however, be waived
if (1) the only effect of a modification would be to reduce or eliminate an
administrative fee, redemption fee, or deferred sales charge ordinarily payable
at the time of exchange or (2) a Fund temporarily suspends the offering of
shares as permitted under the 1940 Act or by the SEC or because it is unable to
invest amounts effectively in accordance with its investment objective and
policies.
The Funds reserve the right at any time without prior notice to shareholders to
refuse exchange purchases by any person or group if, in the Adviser's judgment,
a Fund would be unable to invest effectively in accordance with its investment
objective and policies, or would otherwise be adversely affected.
Purchasing Shares.
Alternative Sales Arrangements - Class A and Class G Shares. The alternative
sales arrangements permit an investor to choose the method of purchasing shares
that is more beneficial depending on the amount of the purchase, the length of
time the investor expects to hold shares and other relevant circumstances. When
comparing Class A and Class G shares, investors should understand that the
purpose and function of the Class G asset-based sales charge are the same as
those of the Class A initial sales charge. Any salesperson or other person
entitled to receive
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compensation for selling Fund shares may receive different compensation with
respect to one class of shares in comparison to another class of shares on
behalf of a single investor (not including dealer "street name" or omnibus
accounts). Generally, Class A shares have lower ongoing expenses than Class G
shares, but are subject to an initial sales charge. Which class would be
advantageous to an investor depends on the number of years the shares will be
held. Over very long periods of time, the lower expenses of Class A shares may
offset the cost of the Class A initial sales charge. Investors also should
evaluate the benefits of investing in Class G shares.
Each class of shares represents interests in the same portfolio investments of a
Fund. However, each class has different shareholder privileges and features. The
net income attributable to a particular class and the dividends payable on these
shares will be reduced by incremental expenses borne solely by that class,
including any asset-based sales charge to which these shares may be subject.
Effective December 15, 1999, the Trust discontinued offering Class B shares of
the Funds. Holders of Class B shares of the Diversified Stock Fund may continue
to reinvest their dividends in additional Class B shares of that Fund. With the
exception of the Diversified Stock Fund, each Fund that offered Class B shares
prior to December 15, 1999 has converted all of its outstanding Class B shares
to Class A shares.
The methodology for calculating the NAV, dividends and distributions of the
share classes of each Fund recognizes two types of expenses. General expenses
that do not pertain specifically to a class are allocated to the shares of each
class, based upon the percentage that the net assets of such class bears to a
Fund's total net assets, and then pro rata to each outstanding share within a
given class. Such general expenses include (1) management fees, (2) legal,
bookkeeping and audit fees, (3) printing and mailing costs of shareholder
reports, prospectuses, statements of additional information and other materials
for current shareholders, (4) fees to the Trustees who are not affiliated with
the Adviser, (5) custodian expenses, (6) share issuance costs, (7) organization
and start-up costs, (8) interest, taxes and brokerage commissions, and (9)
non-recurring expenses, such as litigation costs. Other expenses that are
directly attributable to a class are allocated equally to each outstanding share
within that class. Such expenses include (1) Rule 12b-1 distribution fees and
shareholder servicing fees, (2) incremental transfer and shareholder servicing
agent fees and expenses, (3) registration fees, and (4) shareholder meeting
expenses, to the extent that such expenses pertain to a specific class rather
than to a Fund as a whole.
Dealer Reallowances. The following table shows the amount of the front end sales
load that is reallowed to dealers as a percentage of the offering price of Class
A Shares of the Balanced, Convertible Securities, Diversified Stock, Growth,
Intermediate Income, Investment Quality Bond, International Growth, Lakefront,
Nasdaq-100 Index(R), National Municipal Bond, New York Tax-Free, Ohio Municipal
Bond, Real Estate Investment, Small Company Opportunity, Special Value, Stock
Index and Value Funds.
Initial Sales Charge: Concession to Dealers:
Amount of Purchase % of Offering Price % of Offering Price
------------------ ------------------- -------------------
Up to $49,999 5.75% 5.00%
$50,000 to $99,999 4.50% 4.00%
$100,000 to $249,999 3.50% 3.00%
$250,000 to $499,999 2.50% 2.00%
$500,000 to $999,999 2.00% 1.75%
$1,000,000 and above 0.00% *
The following table shows the amount of the front end sales load that is
reallowed to dealers as a percentage of the offering price of the Class A Shares
of the Fund for Income and Limited Term Income Fund
Initial Sales Charge: Concession to Dealers:
Amount of Purchase % of Offering Price % of Offering Price
------------------ ------------------- -------------------
Up to $49,999 2.00% 1.50%
$50,000 to $99,999 1.75% 1.25%
$100,000 to $249,999 1.50% 1.00%
$250,000 to $499,999 1.25% 0.75%
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Initial Sales Charge: Concession to Dealers:
Amount of Purchase % of Offering Price % of Offering Price
------------------ ------------------- -------------------
$500,000 to $999,999 1.00% 0.50%
$1,000,000 and above 0.00% *
* Except as indicated in the last sentence of this note, there is no initial
sales charge on purchases of $1 million or more. However, a CDSC of up to
1.00% will be imposed on any of such shares redeemed within the first year
after purchase, or a 0.50% CDSC will be charged on any of such shares
redeemed within two years of purchase. This charge will be based on the
lower of the cost of the shares or net asset value at the time of
redemption. No CDSC is imposed on reinvested distributions. Investment
professionals may be paid at a rate of 1.00% of the purchase price on
amounts from $1 million to $2,999,999; 0.75% on amounts from $3 million to
$4,999,999; and 0.50% on amounts of $5 million or more. The initial sales
charge exemption for investments of $1 million or more does not apply to
tax deferred retirement accounts (except IRA accounts); the sales charge on
investments by such tax deferred retirement accounts of $1 million or more
is the same as for investments between $500,000 and $999,999.
The Trust's distributor reserves the right to pay the entire commission to
dealers. If that occurs, the dealer may be considered an "underwriter" under
federal securities laws.
The Money Market Funds, the LifeChoice Funds and Class G shares of the Funds do
not impose initial or deferred sales charges on their shares.
Reduced Sales Charge. Reduced sales charges are available for purchases of
$50,000 or more of Class A shares of a Fund alone or in combination with
purchases of other Class A shares of the Trust (except Funds that do not impose
a sales charge). To obtain the reduction of the sales charge, you or your
Investment Professional must notify the transfer agent at the time of purchase
whenever a quantity discount is applicable to your purchase. An "Investment
Professional" is an investment consultant, salesperson, financial planner,
investment adviser, or trust officer who provides investment information.
In addition to investing at one time in any combination of Class A shares of the
Trust's in an amount entitling you to a reduced sales charge, you may qualify
for a reduction in the sales charge under the following programs:
Combined Purchases. When you invest in Class A shares of the Trust, excluding
Funds that do not impose a sales charge, for several accounts at the same time,
you may combine these investments into a single transaction if the total is
$50,000 or more in order to pay the lower sales loads applicable to these
amounts. The following may qualify for this privilege: an individual, or
"company" as defined in Section 2(a)(8) of the 1940 Act; an individual, spouse,
and their children under age 21 purchasing for his, her, or their own account; a
trustee, administrator or other fiduciary purchasing for a single trust estate
or single fiduciary account or for a single or a parent-subsidiary group of
"employee benefit plans" (as defined in Section 3(3) of ERISA); and tax-exempt
organizations under Section 501(c)(3) of the Code.
Rights of Accumulation. "Rights of Accumulation" permit reduced sales charges on
future purchases of Class A shares after you have reached a new breakpoint. You
can add the value of existing Trust's Class A shares held by you, your spouse,
and your children under age 21, determined at the previous day's NAV at the
close of business, to the amount of your new purchase valued at the current
offering price to determine your reduced sales charge.
Letter of Intent. If you anticipate purchasing $50,000 or more of shares of a
Fund alone or in combination with Class A shares of certain other Funds
(excluding Funds that do not impose a sales charge) within a 13-month period,
you may obtain shares of the portfolios at the same reduced sales charge as
though the total quantity were invested in one lump sum, by filing a non-binding
Letter of Intent (the "Letter") within 90 days of the start of the purchases.
Each investment you make after signing the Letter will be entitled to the sales
charge applicable to the total investment indicated in the Letter. For example,
a $2,500 purchase toward a $60,000 Letter would receive the same reduced sales
charge as if the $60,000 had been invested at one time. To ensure that the
reduced price will be received on future purchases, you or your Investment
Professional must inform the transfer agent that the Letter is in effect each
time shares are purchased. Neither income dividends nor capital gain
distributions taken in additional shares will apply toward the completion of the
Letter.
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You are not obligated to complete the additional purchases contemplated by a
Letter. If you do not complete your purchase under the Letter within the
13-month period, your sales charge will be adjusted upward, corresponding to the
amount actually purchased, and if after written notice, you do not pay the
increased sales charge, sufficient escrowed shares will be redeemed to pay such
charge.
If you purchase more than the amount specified in the Letter and qualify for a
further sales charge reduction, the sales charge will be adjusted to reflect
your total purchase at the end of 13 months. Surplus funds will be applied to
the purchase of additional shares at the then current offering price applicable
to the total purchase.
Class G Shares. As a result of the 1998 acquisition of McDonald & Company
Securities Inc., a major regional broker-dealer, by KeyCorp, the parent of the
Adviser, seven funds previously managed by McDonald's Gradison Division
reorganized into Class G shares of the Diversified Stock, Established Value,
Fund for Income, Gradison Government Reserves, International Growth, Ohio
Municipal Bond and Small Company Opportunity Funds. This reorganization took
place on March 26, 1999.
In addition, the Stock Index Fund began offering Class G Shares on June 30, 1999
and the Intermediate Income, Investment Quality Bond, National Municipal Bond,
New York Tax-Free, Value, Growth, Special Value, Balanced, Convertible
Securities and Real Estate Investment Funds began offering Class G Shares on
December 15, 1999. The Nasdaq-100 Index(R) Fund began offering Class G shares on
July 31, 2000.
No inital or deferred sales charges are imposed on Class G shares. McDonald
Investments Inc., an affiliate of the Adviser, compensates its own employees,
and may compensate its affiliates, for Class G share sales, some of which
compensation may be recouped in the event of share redemptions made during the
first nine months after sale. See "How to Sell Shares" in the Prospectuses.
Except for the Stock Index and Nasdaq-100 Index(R) Funds, which do not carry any
12b-1 fees, Class G shares are subject to the Rule 12b-1 fees described in this
SAI under "Advisory and Other Contracts -- Class G Share Rule 12b-1 Plan." There
is no conversion feature applicable to Class G shares. Distributions paid to
holders of a Fund's Class G shares may be reinvested in additional Class G
shares of that Fund or Class G shares of a different Fund.
Exchanging Shares.
Shares of any Money Market Fund may be exchanged for Class A shares of any of
the Funds and may be subject to payment of a sales charge.
Shares of a Fund may be exchanged for the same class of shares of any other Fund
of the Trust. For example, an investor can exchange Class A shares of a Fund
only for Class A shares of another Fund. At present, not all Funds of the Trust
offer multiple classes of shares. Shareholders owning shares of more than one
class of shares must specify the class that they intend to exchange. If you do
not make a selection, your exchange will be made in Class A shares.
You may only exchange your shares for shares of a Fund that is currently
offering shares.
Class G shares of any Fund may be exchanged for Class G shares, Select shares,
or any single class money market shares of a Fund offered by the Trust.
Shareholders who owned Class G shares on the closing date of the Gradison Fund
reorganization can exchange into Class A shares of any Fund that does not offer
Class G Shares without paying a sales charge.
An exchange of a Fund's shares for shares of another Fund will be treated as a
sale for federal income tax purposes. A shareholder must recognize any gain or
loss in connection with any such exchange.
Redeeming Shares.
Reinstatement Privilege. Within 90 days of a redemption, a shareholder may
reinvest all or part of the redemption proceeds of Class A shares in Class A
shares of a Fund or any of the other Funds into which shares of the Fund are
exchangeable as described above, at the NAV next computed after receipt by the
transfer agent of the reinvestment order. No service charge is currently made
for reinvestment in shares of the Funds. The shareholder must ask the
Distributor for such privilege at the time of reinvestment. Any capital gain
that was realized when the shares were
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redeemed is taxable, and reinvestment will not alter any capital gains tax
payable on that gain. If there has been a capital loss on the redemption, some
or all of the loss may not be tax deductible, depending on the timing and amount
of the reinvestment. Under the Code, if the redemption proceeds of Fund shares
on which a sales charge was paid are reinvested in shares of the same Fund or
another Fund offered by the Trust within 90 days of payment of the sales charge,
the shareholder's basis in the shares of the Fund that were redeemed may not
include the amount of the sales charge paid. That would reduce the loss or
increase the gain recognized from redemption. The Funds may amend, suspend, or
cease offering this reinvestment privilege at any time as to shares redeemed
after the date of such amendment, suspension, or cessation. The reinstatement
must be into an account bearing the same registration.
Dividends and Distributions
The Funds distribute substantially all of their net investment income and net
capital gains, if any, to shareholders within each calendar year as well as on a
fiscal year basis to the extent required for the Funds to qualify for favorable
federal tax treatment. The Funds ordinarily declare and pay dividends separately
for each class of shares, from their net investment income. Each Fund declares
and pays capital gains annually. The Money Market Funds declare dividends daily
and pay them monthly. The Balanced Fund, the Taxable Bond Funds and the
Municipal Bond Funds declare and pay dividends monthly. The LifeChoice Funds and
each Equity Fund, other than the Balanced Fund, declare and pay dividends
quarterly.
The amount of a class's distributions may vary from time to time depending on
market conditions, the composition of a Fund's portfolio, and expenses borne by
a Fund or borne separately by a class. Dividends are calculated in the same
manner, at the same time and on the same day for shares of each class. However,
dividends attributable to a particular class will differ in amount as a
consequence of any differences in NAV among the classes due to differences in
distribution expenses and other class-specific expenses.
For this purpose, the net income of a Fund, from the time of the immediately
preceding determination thereof, shall consist of all interest income accrued on
the portfolio assets of the Fund, dividend income, if any, income from
securities loans, if any, and realized capital gains and losses on the Fund's
assets, less all expenses and liabilities of the Fund chargeable against income.
Interest income shall include discount earned, including both original issue and
market discount, on discount paper accrued ratably to the date of maturity.
Expenses, including the compensation payable to the Adviser, are accrued each
day. The expenses and liabilities of a Fund shall include those appropriately
allocable to the Fund as well as a share of the general expenses and liabilities
of the Trust in proportion to the Fund's share of the total net assets of the
Trust.
Taxes
Information set forth in the Prospectuses and this SAI that relates to federal
taxation is only a summary of certain key federal tax considerations generally
affecting purchasers of shares of the Funds. The following is only a summary of
certain additional tax considerations generally affecting each Fund and its
shareholders that are not described in the Prospectuses. No attempt has been
made to present a complete explanation of the federal tax treatment of the Funds
or the implications to shareholders, and the discussions here and in each Fund's
prospectus are not intended as substitutes for careful tax planning.
Accordingly, potential purchasers of shares of the Funds are urged to consult
their tax advisers with specific reference to their own tax circumstances.
Special tax considerations may apply to certain types of investors subject to
special treatment under the Code (including, for example, insurance companies,
banks and tax-exempt organizations). In addition, the tax discussion in the
Prospectuses and this SAI is based on tax law in effect on the date of the
Prospectuses and this SAI; such laws and regulations may be changed by
legislative, judicial, or administrative action, sometimes with retroactive
effect.
Qualification as a Regulated Investment Company
Each Fund has elected to be taxed as a regulated investment company under
Subchapter M of the Code. As a regulated investment company, a Fund is not
subject to federal income tax on the portion of its net investment income (i.e.,
taxable interest, dividends, and other taxable ordinary income, net of expenses)
and capital gain net income (i.e., the excess of capital gains over capital
losses) that it distributes to shareholders, provided that it distributes at
least 90% of its investment company taxable income (i.e., net investment income
and the excess of net short-term capital gain over net long-term capital loss)
and at least 90% of its tax-exempt income (net of expenses
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allocable thereto) for the taxable year (the "Distribution Requirement"), and
satisfies certain other requirements of the Code that are described below.
Distributions by a Fund made during the taxable year or, under specified
circumstances, within twelve months after the close of the taxable year, will be
considered distributions of income and gains for the taxable year and will
therefore count toward satisfaction of the Distribution Requirement.
If a Fund has a net capital loss (i.e., an excess of capital losses over capital
gains) for any year, the amount thereof may be carried forward up to eight years
and treated as a short-term capital loss which can be used of offset capital
gains in such future years. As of October 31, 1999, the Prime Obligations Fund
had capital loss carryforwards of approximately $11,000 which expire in 2007;
the Tax-Free Money Market Fund had capital loss carryforwards of approximately
$4,000 and $27,000 which expire in 2006 and 2007, respectively; the Ohio
Municipal Money Market Fund had capital loss carryforwards of approximately
$5,000 which expire in 2007; the Limited Term Income Fund had capital loss
carryforwards of approximately $1,335,000, $553,000, $906,000 and $1,116 which
expire in 2002, 2003, 2005 and 2007, respectively; Intermediate Income Fund had
capital loss carryforwards of approximately $5,229 which expire in 2007; the
Fund for Income had capital loss carryforwards of approximately $585,000,
$5,491,000, $864,000, $62,000 and $606,000 which expire in 2001, 2002, 2003,
2004 and 2007, respectively; the Investment Quality Bond Fund had capital loss
carryforwards of approximately $3,961,000 and $6,428,000 which expire in 2002
and 2007; respectively; the New York Tax-Free Fund had capital loss
carryforwards of approximately $2,000 and $16,000 which expire in 2006 and 2007,
respectively; the Ohio Municipal Bond Fund had capital loss carryforwards of
approximately $497,000 which expire in 2007; the Real Estate Investment Fund had
capital loss carryforwards of approximately $497,000 and $1,400 which expire in
2006 and 2007, respectively; and the Small Company Opportunity Fund had capital
loss carryforwards of approximately $6,164,000 and $701,000 which expire in 2006
and 2007, respectively. The Investment Quality Bond Fund has additional capital
loss carryforwards of $2,498,000, $2,760,000, $755,000 and $6,000 for 2001,
2002, 2003 and 2004, respectively, as the successor to the Government Bond Fund;
however, as explained below, such carryforwards are subject to limitations on
availability. Under Code Sections 382 and 383, if a Fund has an "ownership
change," then the Fund's use of its capital loss carryforwards in any year
following the ownership change will be limited to an amount equal to the NAV of
the Fund immediately prior to the ownership change multiplied by the long-term
tax-exempt rate (which is published monthly by the Internal Revenue Service (the
"IRS")) in effect for the month in which the ownership change occurs (the rate
for July 2000 is 5.79%). The Funds will use their best efforts to avoid having
an ownership change. However, because of circumstances which may be beyond the
control or knowledge of a Fund, there can be no assurance that a Fund will not
have, or has not already had, an ownership change. If a Fund has or has had an
ownership change, then the Fund will be subject to federal income taxes on any
capital gain net income for any year following the ownership change in excess of
the annual limitation on the capital loss carryforwards unless distributed by
the Fund. Any distributions of such capital gain net income will be taxable to
shareholders as described under "Distributions" below.
In addition to satisfying the Distribution Requirement, a regulated investment
company must derive at least 90% of its gross income from dividends, interest,
certain payments with respect to securities loans, gains from the sale or other
disposition of stock or securities or foreign currencies (to the extent such
currency gains are directly related to the regulated investment company's
principal business of investing in stock or securities) and other income
(including but not limited to gains from options, futures, or forward contracts)
derived with respect to its business of investing in such stock, securities, or
currencies (the "Income Requirement").
In general, gain or loss recognized by a Fund on the disposition of an asset
will be a capital gain or loss. In addition, gain will be recognized as a result
of certain constructive sales, including short sales "against the box." However,
gain recognized on the disposition of a debt obligation (including municipal
obligations) purchased by a Fund at a market discount (generally, at a price
less than its principal amount) will be treated as ordinary income to the extent
of the portion of the market discount which accrued while the Fund held the debt
obligation. In addition, under the rules of Code Section 988, gain or loss
recognized on the disposition of a debt obligation denominated in a foreign
currency or an option with respect thereto, and gain or loss recognized on the
disposition of a foreign currency forward contract, futures contract, option or
similar financial instrument, or of foreign currency itself, except for
regulated futures contracts or non-equity options subject to Code Section 1256
(unless a Fund elects otherwise), generally will be treated as ordinary income
or loss to the extent attributable to changes in foreign currency exchange
rates.
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Further, the Code also treats as ordinary income a portion of the capital gain
attributable to a transaction where substantially all of the expected return is
attributable to the time value of a Fund's net investment in the transaction
and: (1) the transaction consists of the acquisition of property by the Fund and
a contemporaneous contract to sell substantially identical property in the
future; (2) the transaction is a straddle within the meaning of Section 1092 of
the Code; (3) the transaction is one that was marketed or sold to the Fund on
the basis that it would have the economic characteristics of a loan but the
interest-like return would be taxed as capital gain; or (4) the transaction is
described as a conversion transaction in the Treasury Regulations. The amount of
such gain that is treated as ordinary income generally will not exceed the
amount of the interest that would have accrued on the net investment for the
relevant period at a yield equal to 120% of the applicable federal rate, reduced
by the sum of: (1) prior inclusions of ordinary income items from the conversion
transaction and (2) the capitalized interest on acquisition indebtedness under
Code Section 263(g), among other amounts. However, if a Fund has a built-in loss
with respect to a position that becomes a part of a conversion transaction, the
character of such loss will be preserved upon a subsequent disposition or
termination of the position. No authority exists that indicates that the
character of the income treated as ordinary under this rule will not pass
through to the Funds' shareholders.
In general, for purposes of determining whether capital gain or loss recognized
by a Fund on the disposition of an asset is long-term or short-term, the holding
period of the asset may be affected (as applicable, depending on the type of the
Fund involved) if (1) the asset is used to close a "short sale" (which includes
for certain purposes the acquisition of a put option) or is substantially
identical to another asset so used, (2) the asset is otherwise held by the Fund
as part of a "straddle" (which term generally excludes a situation where the
asset is stock and Fund grants a qualified covered call option (which, among
other things, must not be deep-in-the-money) with respect thereto), or (3) the
asset is stock and the Fund grants an in-the-money qualified covered call option
with respect thereto. In addition, a Fund may be required to defer the
recognition of a loss on the disposition of an asset held as part of a straddle
to the extent of any unrecognized gain on the offsetting position.
Any gain recognized by a Fund on the lapse of, or any gain or loss recognized by
a Fund from a closing transaction with respect to, an option written by the Fund
will be treated as a short-term capital gain or loss.
Certain transactions that may be engaged in by a Fund (such as regulated futures
contracts, certain foreign currency contracts, and options on stock indexes and
futures contracts) will be subject to special tax treatment as "Section 1256
Contracts." Section 1256 Contracts are treated as if they are sold for their
fair market value on the last business day of the taxable year, even though a
taxpayer's obligations (or rights) under such Section 1256 Contracts have not
terminated (by delivery, exercise, entering into a closing transaction, or
otherwise) as of such date. Any gain or loss recognized as a consequence of the
year-end deemed disposition of Section 1256 Contracts is taken into account for
the taxable year together with any other gain or loss that was recognized
previously upon the termination of Section 1256 Contracts during that taxable
year. Any capital gain or loss for the taxable year with respect to Section 1256
Contracts (including any capital gain or loss arising as a consequence of the
year-end deemed sale of such Section 1256 Contracts) generally is treated as 60%
long-term capital gain or loss and 40% short-term capital gain or loss. A Fund,
however, may elect not to have this special tax treatment apply to Section 1256
Contracts that are part of a "mixed straddle" with other investments of the Fund
that are not Section 1256 Contracts.
A Fund may enter into notional principal contracts, including interest rate
swaps, caps, floors, and collars. Treasury Regulations provide, in general, that
the net income or net deduction from a notional principal contract for a taxable
year is included in or deducted from gross income for that taxable year. The net
income or deduction from a notional principal contract for a taxable year equals
the total of all of the periodic payments (generally, payments that are payable
or receivable at fixed periodic intervals of one year or less during the entire
term of the contract) that are recognized from that contract for the taxable
year and all of the non-periodic payments (including premiums for caps, floors,
and collars) that are recognized from that contract for the taxable year. No
portion of a payment by a party to a notional principal contract is recognized
prior to the first year to which any portion of a payment by the counterparty
relates. A periodic payment is recognized ratably over the period to which it
relates. In general, a non-periodic payment must be recognized over the term of
the notional principal contract in a manner that reflects the economic substance
of the contract. A non-periodic payment that relates to an interest rate swap,
cap, floor, or collar is recognized over the term of the contract by allocating
it in accordance with the values of a series of cash-settled forward or option
contracts that reflect the specified index and notional principal amount upon
which the notional principal contract is based (or under an alternative method
provided in Treasury Regulations).
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<PAGE>
A Fund may purchase securities of certain foreign investment funds or trusts
which constitute passive foreign investment companies ("PFICs") for federal
income tax purposes. If a Fund invests in a PFIC, it has three separate options.
First, it may elect to treat the PFIC as a qualified electing fund (a "QEF"), in
which event the Fund will each year have ordinary income equal to its pro rata
share of the PFIC's ordinary earnings for the year and long-term capital gain
equal to its pro rata share of the PFIC's net capital gain for the year,
regardless of whether the Fund receives distributions of any such ordinary
earnings or capital gains from the PFIC. Second, a Fund that invests in stock of
a PFIC may make a mark-to-market election with respect to such stock. Pursuant
to such election, the Fund will include as ordinary income any excess of the
fair market value of such stock at the close of any taxable year over the Fund's
adjusted tax basis in the stock. If the adjusted tax basis of the PFIC stock
exceeds the fair market value of the stock at the end of a given taxable year,
such excess will be deductible as ordinary loss in an amount equal to the lesser
of the amount of such excess or the net mark-to-market gains on the stock that
the Fund included in income in previous years. The Fund's holding period with
respect to its PFIC stock subject to the election will commence on the first day
of the first taxable year beginning after the last taxable year in which the
mark-to-market election applied. If the Fund makes the mark-to-market election
in the first taxable year it holds PFIC stock, it will not incur the tax
described below under the third option.
Finally, if a Fund does not elect to treat the PFIC as a QEF and does not make a
mark-to-market election, then, in general, (1) any gain recognized by the Fund
upon the sale or other disposition of its interest in the PFIC or any excess
distribution received by the Fund from the PFIC will be allocated ratably over
the Fund's holding period of its interest in the PFIC stock, (2) the portion of
such gain or excess distribution so allocated to the year in which the gain is
recognized or the excess distribution is received shall be included in the
Fund's gross income for such year as ordinary income (and the distribution of
such portion by the Fund to shareholders will be taxable as an ordinary income
dividend, but such portion will not be subject to tax at the Fund level), (3)
the Fund shall be liable for tax on the portions of such gain or excess
distribution so allocated to prior years in an amount equal to, for each such
prior year, (i) the amount of gain or excess distribution allocated to such
prior year multiplied by the highest tax rate (individual or corporate) in
effect for such prior year, plus (ii) interest on the amount determined under
clause (i) for the period from the due date for filing a return for such prior
year until the date for filing a return for the year in which the gain is
recognized or the excess distribution is received, at the rates and methods
applicable to underpayments of tax for such period, and (4) the distribution by
the Fund to its shareholders of the portions of such gain or excess distribution
so allocated to prior years (net of the tax payable by the Fund thereon) will be
taxable to the shareholders as an ordinary income dividend.
Treasury Regulations permit a regulated investment company, in determining its
investment company taxable income and net capital gain (i.e., the excess of net
long-term capital gain over net short-term capital loss) for any taxable year,
to elect (unless it has made a taxable year election for excise tax purposes as
discussed below) to treat all or any part of any net capital loss, any net
long-term capital loss or any net foreign currency loss (including, to the
extent provided in Treasury Regulations, losses recognized pursuant to the PFIC
mark-to-market election) incurred after October 31 as if it had been incurred in
the succeeding year.
In addition to satisfying the requirements described above, a Fund must satisfy
an asset diversification test in order to qualify as a regulated investment
company. Under this test, at the close of each quarter of a Fund's taxable year,
at least 50% of the value of the Fund's assets must consist of cash and cash
items, U.S. government securities, securities of other regulated investment
companies, and securities of other issuers (provided that, with respect to each
issuer, the Fund has not invested more than 5% of the value of the Fund's total
assets in securities of each such issuer and the Fund does not hold more than
10% of the outstanding voting securities of each such issuer), and no more than
25% of the value of its total assets may be invested in the securities of any
one issuer (other than U.S. government securities and securities of other
regulated investment companies), or in two or more issuers which the Fund
controls and which are engaged in the same or similar trades or businesses.
Generally, an option (call or put) with respect to a security is treated as
issued by the issuer of the security, not the issuer of the option. For purposes
of asset diversification testing, obligations issued or guaranteed by certain
agencies or instrumentalities of the U.S. Government, such as the Federal
Agricultural Mortgage Corporation, the Farm Credit System Financial Assistance
Corporation, a Federal Home Loan Bank, the Federal Home Loan Mortgage
Corporation, the Federal National Mortgage Association, the Government National
Mortgage Association, and the Student Loan Marketing Association, are treated as
U.S. government securities.
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If for any taxable year a Fund does not qualify as a regulated investment
company, all of its taxable income (including its net capital gain) will be
subject to tax at regular corporate rates without any deduction for
distributions to shareholders, and such distributions will be taxable to the
shareholders as ordinary dividends to the extent of the Fund's current and
accumulated earnings and profits. Such distributions may be eligible for the
dividends-received deduction in the case of corporate shareholders.
Excise Tax on Regulated Investment Companies
A 4% non-deductible excise tax is imposed on a regulated investment company that
fails to distribute in each calendar year an amount equal to 98% of its ordinary
taxable income for the calendar year and 98% of its capital gain net income for
the one-year period ended on October 31 of such calendar year (or, with respect
to capital gain net income, at the election of a regulated investment company
having a taxable year ending November 30 or December 31, for its taxable year (a
"taxable year election")). (Tax-exempt interest on municipal obligations is not
subject to the excise tax.) The balance of such income must be distributed
during the next calendar year. For the foregoing purposes, a regulated
investment company is treated as having distributed any amount on which it is
subject to income tax for any taxable year ending in such calendar year.
For purposes of calculating the excise tax, a regulated investment company: (1)
reduces its capital gain net income (but not below its net capital gain) by the
amount of any net ordinary loss for the calendar year and (2) excludes foreign
currency gains and losses and ordinary gains or losses arising as a result of a
PFIC mark-to-market election (or upon the actual disposition of the PFIC stock
subject to such election) incurred after October 31 of any year (or after the
end of its taxable year if it has made a taxable year election) in determining
the amount of ordinary taxable income for the current calendar year (and,
instead, includes such gains and losses in determining the company's ordinary
taxable income for the succeeding calendar year).
Each Fund intends to make sufficient distributions or deemed distributions of
its ordinary taxable income and capital gain net income prior to the end of each
calendar year to avoid liability for the excise tax. However, investors should
note that a Fund may in certain circumstances be required to liquidate portfolio
investments to make sufficient distributions to avoid excise tax liability.
Fund Distributions
Each Fund anticipates distributing substantially all of its investment company
taxable income for each taxable year. Such distributions will be taxable to
shareholders as ordinary income and treated as dividends for federal income tax
purposes. Distributions attributable to dividends received by a Fund from
domestic corporations will qualify for the 70% dividends-received deduction
("DRD") for corporate shareholders only to the extent discussed below.
Distributions attributable to interest received by a Fund will not, and
distributions attributable to dividends paid by a foreign corporation generally
should not, qualify for the DRD. In general, dividends paid on the various
Funds' share classes are calculated at the same time and in the same manner. In
general, dividends may differ among classes as a result of differences in
distribution expenses and other class specific expenses.
Ordinary income dividends paid by a Fund with respect to a taxable year may
qualify for the 70% DRD generally available to corporations (other than
corporations such as S corporations, which are not eligible for the deduction
because of their special characteristics, and other than for purposes of special
taxes such as the accumulated earnings tax and the personal holding company tax)
to the extent of the amount of dividends received by the Fund from domestic
corporations for the taxable year. No DRD will be allowed with respect to any
dividend (1) if it has been received with respect to any share of stock that the
Fund has held for less than 46 days (91 days in the case of certain preferred
stock) during the 90-day period (180-day period in the case of certain preferred
stock) beginning on the date which is 45 days (90 days in the case of certain
preferred stock) before the date on which such share becomes ex-dividend with
respect to such dividend, excluding for this purpose under the rules of Code
Section 246(c) any period during which the Fund has an option to sell, is under
a contractual obligation to sell, has made and not closed a short sale of, is
the grantor of a deep-in-the-money or otherwise nonqualified option to buy, or
has otherwise diminished its risk of loss by holding other positions with
respect to, such (or substantially identical) stock; (2) to the extent that the
Fund is under an obligation (pursuant to a short sale or otherwise) to make
related payments with respect to positions in substantially similar or related
property; or (3) to the extent the stock on which the dividend is paid is
treated as debt-financed under the rules of Code Section 246A. Moreover, the DRD
for a corporate
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shareholder may be disallowed or reduced (1) if the corporate shareholder fails
to satisfy the foregoing requirements with respect to its shares of the Fund or
(2) by application of Code Section 246(b), which in general limits the DRD to
70% of the shareholder's taxable income (determined without regard to the DRD
and certain other items). With respect to the International Growth Fund, only an
insignificant portion of the Fund will be invested in stock of domestic
corporations; therefore the ordinary dividends distributed by that Fund will not
qualify for the DRD for corporate shareholders.
A Fund may either retain or distribute to shareholders its net capital gain for
each taxable year. Each Fund currently intends to distribute any such amounts.
If net capital gain is distributed and designated as a capital gain dividend, it
will be taxable to shareholders as long-term capital gain, regardless of the
length of time the shareholder has held his shares or whether such gain was
recognized by the Fund prior to the date on which the shareholder acquired his
shares. The Code provides, however, that under certain conditions only 50% of
the capital gain recognized upon a Fund's disposition of domestic qualified
"small business" stock will be subject to tax.
Conversely, if a Fund elects to retain its net capital gain, the Fund will be
subject to tax thereon (except to the extent of any available capital loss
carryovers) at the 35% corporate tax rate. If a Fund elects to retain its net
capital gain, it is expected that the Fund also will elect to have shareholders
of record on the last day of its taxable year treated as if each received a
distribution of his pro rata share of such gain, with the result that each
shareholder will be required to report his pro rata share of such gain on his
tax return as long-term capital gain, will receive a refundable tax credit for
his pro rata share of tax paid by the Fund on the gain, and will increase the
tax basis for his shares by an amount equal to the deemed distribution less the
tax credit.
Each of the New York Tax-Free, National Municipal Bond, Ohio Municipal Bond,
Ohio Municipal Money Market and Tax-Free Money Market Funds (the "Tax Exempt
Funds") intends to qualify to pay exempt-interest dividends by satisfying the
requirement that at the close of each quarter of the Tax-Exempt Fund's taxable
year at least 50% of its total assets consists of tax-exempt municipal
obligations. Distributions from a Tax-Exempt Fund will constitute
exempt-interest dividends to the extent of such Fund's tax-exempt interest
income (net of expenses and amortized bond premium). Exempt-interest dividends
distributed to shareholders of a Tax-Exempt Fund are excluded from gross income
for federal income tax purposes. However, shareholders required to file a
federal income tax return will be required to report the receipt of
exempt-interest dividends on their returns. Moreover, while exempt-interest
dividends are excluded from gross income for federal income tax purposes, they
may be subject to alternative minimum tax ("AMT") in certain circumstances and
may have other collateral tax consequences as discussed below. Distributions by
a Tax-Exempt Fund of any investment company taxable income or of any net capital
gain will be taxable to shareholders as discussed above.
AMT is imposed in addition to, but only to the extent it exceeds, the regular
income tax and is computed at a maximum marginal rate of 28% for non-corporate
taxpayers and 20% for corporate taxpayers on the excess of the taxpayer's
alternative minimum taxable income ("AMTI") over an exemption amount.
Exempt-interest dividends derived from certain "private activity" municipal
obligations issued after August 7, 1986 will generally constitute an item of tax
preference includable in AMTI for both corporate and non-corporate taxpayers. In
addition, exempt-interest dividends derived from all municipal obligations,
regardless of the date of issue, must be included in adjusted current earnings,
which are used in computing an additional corporate preference item (i.e., 75%
of the excess of a corporate taxpayer's adjusted current earnings over its AMTI
(determined without regard to this item and the AMT net operating loss
deduction)) includable in AMTI. For purposes of the corporate AMT, the corporate
dividends- received deduction is not itself an item of tax preference that must
be added back to taxable income or is otherwise disallowed in determining a
corporation's AMTI. However, corporate shareholders will generally be required
to take the full amount of any dividend received from a Fund into account
(without a dividends-received deduction) in determining their adjusted current
earnings. Each Municipal Bond Fund may invest up to 20% of its total assets in
tax preference items.
Exempt-interest dividends must be taken into account in computing the portion,
if any, of social security or railroad retirement benefits that must be included
in an individual shareholder's gross income and subject to federal income tax.
Further, a shareholder of a Tax-Exempt Fund is denied a deduction for interest
on indebtedness incurred or continued to purchase or carry shares of a
Tax-Exempt Fund. Moreover, a shareholder who is (or is related to) a
"substantial user" of a facility financed by industrial development bonds held
by a Tax-Exempt Fund will likely be subject to tax on dividends paid by the
Tax-Exempt Fund which are derived from interest on such bonds. Receipt of
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<PAGE>
exempt-interest dividends may result in other collateral federal income tax
consequences to certain taxpayers, including financial institutions, property
and casualty insurance companies, and foreign corporations engaged in a trade or
business in the United States. Prospective investors should consult their own
advisers as to such consequences.
Investment income that may be received by the International Growth Fund from
sources within foreign countries may be subject to foreign taxes withheld at the
source. The United States has entered into tax treaties with many foreign
countries which entitle the Fund to a reduced rate of, or exemption from, taxes
on such income. It is impossible to determine the effective rate of foreign tax
in advance since the amount of the Fund's assets to be invested in various
countries is not known. If more than 50% of the value of the Fund's total assets
at the close of its taxable year consist of the stock or securities of foreign
corporations, the Fund may elect to "pass through" to the Fund's shareholders
the amount of foreign taxes paid by the Fund. If the Fund so elects, each
shareholder would be required to include in gross income, even though not
actually received, his pro rata share of the foreign taxes paid by the Fund, but
would be treated as having paid his pro rata share of such foreign taxes and
would therefore be allowed to either deduct such amount in computing taxable
income or use such amount (subject to various Code limitations) as a foreign tax
credit against federal income tax (but not both). For purposes of the foreign
tax credit limitation rules of the Code, each shareholder would treat as foreign
source income his pro rata share of such foreign taxes plus the portion of
dividends received from the Fund representing income derived from foreign
sources. No deduction for foreign taxes could be claimed by an individual
shareholder who does not itemize deductions. Each shareholder should consult his
own tax adviser regarding the potential application of foreign tax credit rules.
Distributions by a Fund that do not constitute ordinary income dividends,
exempt-interest dividends, or capital gain dividends will be treated as a return
of capital to the extent of (and in reduction of) the shareholder's tax basis in
his shares; any excess will be treated as gain from the sale of his shares, as
discussed below.
Distributions by a Fund will be treated in the manner described above regardless
of whether such distributions are paid in cash or reinvested in additional
shares of the Fund (or of another Fund). Shareholders receiving a distribution
in the form of additional shares will be treated as receiving a distribution in
an amount equal to the fair market value of the shares received, determined as
of the reinvestment date. In addition, if the NAV at the time a shareholder
purchases shares of a Fund reflects undistributed net investment income,
recognized net capital gain, or unrealized appreciation in the value of the
assets of the Fund, distributions of such amounts will be taxable to the
shareholder in the manner described above, although such distributions
economically constitute a return of capital to the shareholder.
Ordinarily, shareholders are required to take distributions by a Fund into
account in the year in which the distributions are made. However, dividends
declared in October, November or December of any year and payable to
shareholders of record on a specified date in such a month will be deemed to
have been received by the shareholders (and paid by a Fund) on December 31 of
such calendar year if such dividends are actually paid in January of the
following year. Shareholders will be advised annually as to the U.S. federal
income tax consequences of distributions made (or deemed made) during the year.
Each Fund will be required in certain cases to withhold and remit to the U.S.
Treasury 31% of ordinary income dividends and capital gain dividends, and the
proceeds of redemption of shares, paid to any shareholder (1) who has failed to
provide a correct taxpayer identification number, (2) who is subject to backup
withholding for failure to report the receipt of interest or dividend income
properly, or (3) who has failed to certify to the Fund that it is not subject to
backup withholding or is an "exempt recipient" (such as a corporation).
Sale or Redemption of Shares
The Money Market Funds seek to maintain a stable NAV of $1.00 per share;
however, there can be no assurance that the Money Market Funds will do this. In
such a case, and for all the Funds other than the Money Market Funds, a
shareholder will recognize gain or loss on the sale or redemption of shares of a
Fund (including an exchange of shares of a Fund for shares of another Fund) in
an amount equal to the difference between the proceeds of the sale or redemption
and the shareholder's adjusted tax basis in the shares. All or a portion of any
loss so recognized may be disallowed if the shareholder purchases other shares
of the same Fund within 30 days before or after the sale or redemption. In
general, any gain or loss arising from (or treated as arising from) the sale or
redemption of shares of
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a Fund will be considered capital gain or loss and will be long-term capital
gain or loss if the shares were held for longer than one year. However, any
capital loss arising from the sale or redemption of shares held for six months
or less will be disallowed to the extent of the amount of exempt-interest
dividends received on such shares and (to the extent not disallowed) will be
treated as a long-term capital loss to the extent of the amount of capital gain
dividends received on such shares. For this purpose, the special holding period
rules of Code Section 246(c) (discussed above in connection with the
dividends-received deduction for corporations) generally will apply in
determining the holding period of shares. Capital losses in any year are
deductible only to the extent of capital gains plus, in the case of a
noncorporate taxpayer, $3,000 of ordinary income.
If a shareholder (1) incurs a sales load in acquiring shares of a Fund, (2)
disposes of such shares less than 91 days after they are acquired and (3)
subsequently acquires shares of the Fund or another Fund at a reduced sales load
pursuant to a right acquired in connection with the acquisition of the shares
disposed of, then the sales load on the shares disposed of (to the extent of the
reduction in the sales load on the shares subsequently acquired) shall not be
taken into account in determining gain or loss on such shares but shall be
treated as incurred on the acquisition of the subsequently acquired shares.
Foreign Shareholders
Taxation of a shareholder who, as to the United States, is a nonresident alien
individual, foreign trust or estate, foreign corporation, or foreign partnership
("foreign shareholder"), depends on whether the income from a Fund is
"effectively connected" with a U.S. trade or business carried on by such
shareholder.
If the income from a Fund is not effectively connected with a U.S. trade or
business carried on by a foreign shareholder, ordinary income dividends paid to
such foreign shareholder will be subject to U.S. withholding tax at the rate of
30% (or lower applicable treaty rate) upon the gross amount of the dividend.
Furthermore, such a foreign shareholder in the International Growth Fund may be
subject to U.S. withholding tax at the rate of 30% (or lower applicable treaty
rate) on the gross income resulting from the Fund's election to treat any
foreign taxes paid by it as paid by its shareholders, but may not be allowed a
deduction against such gross income or a credit against the U.S. withholding tax
for the foreign shareholder's pro rata share of such foreign taxes which it is
treated as having paid. Such a foreign shareholder would generally be exempt
from U.S. federal income tax on gains realized on the sale of shares of a Fund,
capital gain dividends and exempt-interest dividends, and amounts retained by
the Fund that are designated as undistributed capital gains.
If the income from a Fund is effectively connected with a U.S. trade or business
carried on by a foreign shareholder, then ordinary income dividends, capital
gain dividends, and any gains realized upon the sale of shares of the Fund will
be subject to U.S. federal income tax at the rates applicable to U.S. citizens
or domestic corporations.
In the case of foreign noncorporate shareholders, a Fund may be required to
withhold U.S. federal income tax at a rate of 31% on distributions that are
otherwise exempt from withholding tax (or taxable at a reduced treaty rate)
unless such shareholders furnish the Fund with proper notification of their
foreign status.
The tax consequences to a foreign shareholder entitled to claim the benefits of
an applicable tax treaty may be different from those described herein. Foreign
shareholders are urged to consult their own tax advisers with respect to the
particular tax consequences to them of an investment in a Fund, including the
applicability of foreign taxes.
Effect of Future Legislation, Local Tax Considerations
The foregoing general discussion of U.S. federal income tax consequences is
based on the Code and the Treasury Regulations issued thereunder as in effect on
the date of this SAI. Future legislative or administrative changes or court
decisions may significantly change the conclusions expressed herein, and any
such changes or decisions may have a retroactive effect.
Rules of state and local taxation of ordinary income dividends, exempt-interest
dividends, and capital gain dividends from regulated investment companies may
differ from the rules for U.S. federal income taxation described above.
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Shareholders are urged to consult their tax advisers as to the consequences of
these and other state and local tax rules affecting investment in a Fund.
Trustees and Officers
Board of Trustees.
Overall responsibility for management of the Trust rests with the Trustees. The
Trust is managed by the Trustees in accordance with the laws of the State of
Delaware. There are currently seven Trustees, five of whom are not "interested
persons" of the Trust within the meaning of that term under the 1940 Act
("Independent Trustees"). The Trustees, in turn, elect the officers of the Trust
to supervise actively its day-to-day operations.
The Trustees of the Trust, their ages, addresses, and their principal
occupations during the past five years are as follows. Each of the following
individuals holds the same position with The Victory Variable Insurance Funds, a
registered investment company in the same Fund complex as the Trust.
<TABLE>
<CAPTION>
Position(s)
Held
with the
Name, Age and Address Trust Principal Occupation During Past 5 Years
--------------------- ---------- ----------------------------------------
<S> <C> <C>
Theodore H. Emmerich, 74 Trustee Retired; until 1986, managing partner (Cincinnati
1201 Edgecliff Place, office) Ernst & Whinney (now Ernst & Young LLP);
Apt. 102 Director of Carillon Fund, Inc. (investment company),
Cincinnati, Ohio 45206 American Financial Group (insurance), and Cincinnati
Milacron Commercial Corporation (financing); Trustee
of Summit Investment Trust (investment company).
Dr. Harry Gazelle, 72 Trustee Retired radiologist, Drs. Hill and Thomas Corporation.
17822 Lake Road
Lakewood, Ohio 44107
Frankie D. Hughes, 47 Trustee Since 1993, Principal and Chief Investment Officer of
Hughes Capital Management, Hughes Capital Management, Inc. (fixed income asset
Inc. management).
315 Cameron Street, 2nd Fl.
Alexandria, Virginia 22314
Eugene J. McDonald, 67 Trustee Since 1990, Executive Vice President and Chief
Duke Management Company Investment Officer for Asset Management of Duke
2200 West Main Street University and President and CEO of Duke Management
Suite 1000 Company; Director of CCB Financial Corporation, Flag
Durham, North Carolina Group of Mutual Funds, Greater Triangle Community
27705 Foundation, and North Carolina Bar Association
Investment Committee.
Dr. Thomas F. Morrissey, 66 Trustee Since 1970, Professor, Weatherhead School of
Weatherhead School of Management, Case Western Reserve University; from 1989
Management to 1995, Associate Dean of Weatherhead School of
Case Western Reserve Univ. Management.
10900 Euclid Avenue
Cleveland, Ohio 44106-7235
Roger Noall, 65 * Chairman Since 1996, Executive of KeyCorp; from 1995 to 1996,
c/o Brighton Apt. 1603 and General Counsel and Secretary of KeyCorp; from 1994 to
8231 Bay Colony Drive Trustee 1996, Senior Executive Vice President and Chief
Naples, Florida 34108 Administrative Officer of KeyCorp; Director of
Alleghany Corporation (insurance,
financial services and industrial
minerals) and Elite Information Systems,
Inc. (financial, legal and professional
software).
</TABLE>
-----------------
* Messrs. Noall and Weston are "interested persons" and "affiliated
persons" of the Trust.
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<TABLE>
<CAPTION>
Position(s)
Held
with the
Name, Age and Address Trust Principal Occupation During Past 5 Years
--------------------- ---------- ----------------------------------------
<S> <C> <C>
H. Patrick Swygert, 57 Trustee Since 1995, President, Howard University; from 1990 to
Howard University 1995, President, State University of New York at
2400 6th St. N.W., Ste. 402 Albany; Director of Hartford Financial Services Group,
Washington, D.C. 20059 Hartford Life Insurance and Federal National Mortgage
Association; Chairman, Community Business Partnership,
Greater Washington Board of Trade.
Frank A. Weil, 69 Trustee Since 1984, Chairman and Chief Executive Officer of
Abacus & Associates Abacus & Associates, Inc. (private investment firm);
147 E. 47th Street Director and President of the Hickrill Foundation.
New York, New York 10017
Donald E. Weston, 65 * Trustee Since October 1998, Chairman of Gradison McDonald
McDonald Investments Inc. Investments, a division of McDonald Investments Inc.;
580 Walnut Street until October 1998, Chairman of the Gradison Division
Cincinnati, Ohio 45202 of McDonald & Company Securities, Inc. and a Director
of McDonald & Company Investments Inc.; Director of
Cincinnati Milacron Commercial Corporation (financing)
and Katchall Industries Int'l, Inc. (food industry
disease prevention and safety).
Leigh A. Wilson, 55 ** President Since 1989, Chairman and Chief Executive Officer, New
New Century Care, Inc. and Century Care, Inc. (merchant bank); since 1995,
53 Sylvan Road North Trustee Principal of New Century Living, Inc. (assisted living
Westport, Connecticut facilities); since 1989, Director of Chimney Rock
06880 Vineyard and Chimney Rock Winery.
</TABLE>
The Board currently has an Investment Committee, a Business, Legal, and Audit
Committee, and a Board Process and Nominating Committee. The members of the
Investment Committee are Messrs. Weil (Chairman), Morrissey, Weston and Wilson.
The function of the Investment Committee is to review the existing investment
policies of the Trust, including the levels of risk and types of funds available
to shareholders, and make recommendations to the Trustees regarding the revision
of such policies or, if necessary, the submission of such revisions to the
Trust's shareholders for their consideration. The members of the Business, Legal
and Audit Committee are Messrs. Gazelle (Chairman), Emmerich, McDonald and
Swygert. The function of the Business, Legal, and Audit Committee is to
recommend independent auditors and monitor accounting and financial matters and
to review compliance and contract matters. Mr. Swygert is the Chairman of the
Board Process and Nominating Committee (consisting of all the Trustees), which
nominates persons to serve as Independent Trustees and Trustees to serve on
committees of the Board. This Committee also reviews Trustee performance and
compensation issues. The Board Process and Nominating Committee has a Nominating
Subcommittee, composed of Messrs. Swygert, Emmerich, McDonald and Weil and Drs.
Gazelle and Morrissey. This Subcommittee makes recommendations to the Board
Process and Nominating Committee concerning candidates to serve as trustees.
Remuneration of Trustees and Certain Executive Officers.
The Trust pays each Trustee (other than Messrs. Noall and Weston) an annual fee
of $31,500 for serving as Trustee of all the Funds of the Trust, and an
additional per meeting fee ($3,500 in person and $1,500 per telephonic meeting).
Mr. Wilson receives an annual fee of $37,500 for serving as President and
Trustee for all of the Funds of the Trust, and an additional per meeting fee
($4,100 in person and $1,800 per telephonic meeting). The Adviser pays the
expenses of Messrs. Noall and Weston, who receive no payment from the Trust.
-------------
** Mr. Wilson is deemed to be an "interested person" of the Trust under
the 1940 Act solely by reason of his position as President.
87
<PAGE>
The following table indicates the estimated compensation received by each
Trustee from the Victory "Fund Complex"(1) for the fiscal year ended October 31,
1999.
<TABLE>
<CAPTION>
Pension or
Retirement Aggregate Aggregate
Benefits Accrued Estimated Compensation Compensation
as Portfolio Annual Benefits from Victory from Victory
Expenses Upon Retirement Portfolios "Fund Complex"
----------------- --------------- ------------ ---------------
<S> <C> <C> <C> <C>
Roger Noall............... -0- -0- None None
Leigh A. Wilson........... -0- -0- $56,000 $61,500
Edward P. Campbell*....... -0- -0- $9,150 $10,275
Theordore H. Emmerich#.... -0- -0- $32,750 $35,635
Frankie D. Hughes+........ -0- -0- None None
Harry Gazelle............. -0- -0- $43,400 $47,900
Eugene J. McDonald........ -0- -0- $46,400 $50,900
Thomas F. Morrissey....... -0- -0- $46,400 $50,900
H. Patrick Swygert........ -0- -0- $41,400 $46,400
Frank A. Weil............. -0- -0- $46,400 $50,900
Donald E. Weston.......... -0- -0- None None
</TABLE>
(1) There are currently 41 mutual funds in the Victory "Fund Complex" for
which the above-named Trustees are compensated, but not all of these
Trustees serve on the board of each fund of the "Fund Complex."
* Mr. Campbell resigned as of December 31, 1998.
# Mr. Emmerich commenced service on the Board as of January 1, 1999.
+ Ms. Hughes commenced service on the Board as of January 1, 2000.
Officers.
The officers of the Trust, their ages, and principal occupations during the past
five years, are as follows:
Position(s)
with the
Name and Age Trust Principal Occupation During Past 5 Years
------------ ----- ----------------------------------------
Leigh A. Wilson, 55 President See biographical information under "Board of
and Trustees" above.
Trustee
J. David Huber, 53 Vice President of BISYS Fund Services Inc.
President ("BISYS"); officer of BISYS since June 1987.
Robert D.Hingston, 47 Secretary Since November 1998,Vice President of BISYS;
from January 1995 to October 1998, founder
and principalof RDH Associates (mutual
fund management consulting firm).
Joel B. Engle, 34 Treasurer Since September 1998, Vice President of
BISYS; from March 1995 to September 1998,
Vice President, Northern Trust Company.
The mailing address of each officer of the Trust is 3435 Stelzer Road, Columbus,
Ohio 43219-3035.
The officers of the Trust (other than Mr. Wilson) receive no compensation
directly from the Trust for performing the duties of their offices. BISYS
receives fees from the Trust as Administrator.
As of November 30, 1999, the Trustees and officers as a group owned beneficially
less than 1% of all classes of outstanding shares of the Funds.
The LifeChoice Funds -- Conflicts of Interest. The Trustees and officers of the
Trust are subject to conflicts of interest in managing both the LifeChoice Funds
described here and some of the underlying Proprietary Portfolios. This conflict
is most evident in the Board's supervision of KAM. KAM and certain of its
affiliates may provide
88
<PAGE>
services to, and receive fees from, not just the Funds, but also some of the
Proprietary and Other Portfolios. Their selection of investments and allocation
of Fund assets will be continuously and closely scrutinized by the Board in
order to avoid even the appearance of improper practices. It is possible,
however, that a situation might arise where one course of action for a
LifeChoice Fund would be detrimental to a Proprietary Portfolio, or vice versa.
In that unlikely event, the Trustees and officers of the Trust will exercise
good business judgment in upholding their fiduciary duties to each set of Funds,
thus minimizing such conflicts, if any should arise.
Advisory and Other Contracts
The following sections describe each Fund's material agreements for investment
advisory, administration, distribution, transfer agency and fund accounting
services. Generally, this SAI presents payments made pursuant to these
agreements for the three fiscal years ended October 31, 1999. This SAI also
describes Fund portfolio turnover for the two fiscal years ended October 31,
1999 and distribution expenses for the fiscal year ended October 31, 1999.
However, for certain Funds, service fee, portfolio turnover and distribution
expense information related to 1999, 1998 and 1997 reflects periods other than
the 12 month periods ended October 31, as shown in the following table.
<TABLE>
<CAPTION>
Service fees, portfolio turnover and distribution expenses
shown reflect information for the following periods
------------------ --------------------- -----------------------
1999 1998 1997
-------------------------------- ------------------ --------------------- -----------------------
<S> <C> <C> <C>
Convertible Securities and Fiscal year Ten months ended Fiscal year November
Federal Money Market ended October October 31, 1998. 30, 1997.
31, 1999.
-------------------------------- ------------------ --------------------- -----------------------
Established Value and Seven months Fiscal year ended Fiscal year ended
Small Company Opportunity ended October March 31, 1999. March 31, 1998.
30, 1999.
-------------------------------- ------------------ --------------------- -----------------------
Fund for Income Ten months ended Fiscal year ended Fiscal year ended
October 31, 1999. December 31, 1998. December 31, 1997.
-------------------------------- ------------------ --------------------- -----------------------
Gradison Government Reserves Fiscal year Fiscal year ended Fiscal year ended
ended September September 30, 1998. September 30, 1997.
30, 1999.
-------------------------------- ------------------ --------------------- -----------------------
LifeChoice Funds Fiscal year Eleven months ended Eleven months ended
ended October October 31, 1998. November 30, 1997.
31, 1999.
-------------------------------- ------------------ --------------------- -----------------------
</TABLE>
With respect to the Fund for Income and the Small Company Opportunity Fund,
payments made prior to March 29, 1999 for investment advisory, administration,
distribution, transfer agency and fund accounting services reflect payments to
other service providers made by these Funds' predecessors, Gradison Income Fund
and Gradison Opportunity Value Fund, respectively. Similarly, with respect to
the Established Value Fund and Gradison Government Reserves Fund, payments made
prior to April 5, 1999 for investment advisory, administration, distribution,
transfer agency and fund accounting services reflect payments to other service
providers made by these Funds' predecessors, Gradison Established Value Fund and
Gradison U.S. Government Reserves, respectively.
Investment Adviser.
One of the Fund's most important contracts is with its investment adviser, KAM,
a New York corporation registered as an investment adviser with the SEC. KAM, a
wholly owned subsidiary of KeyCorp. Affiliates of the Adviser manage
approximately $73 billion for numerous clients including large corporate and
public retirement plans, Taft-Hartley plans, foundations and endowments, high
net worth individuals, and mutual funds.
KeyCorp, a financial services holding company, is headquartered at 127 Public
Square, Cleveland, Ohio 44114. As of June 30, 2000, KeyCorp had an asset base
of approximately $84.7 billion, with banking offices in 13 states from Maine to
Alaska, and trust and investment offices in 14 states. KeyCorp's McDonald
Investments Inc., a registered broker dealer, is located primarily in the
midwestern United States. KeyCorp's major business activities include providing
traditional banking and associated financial services to consumer, business and
commercial
89
<PAGE>
markets. Its non-bank subsidiaries include investment advisory, securities
brokerage, insurance, bank credit card processing, and leasing companies.
The following schedule lists the advisory fees for each Fund, as an annual
percentage of its average daily net assets.
-------------------- ----------------------------------------------------------
0.20% Each LifeChoice Fund, Institutional Money Market
-------------------- ----------------------------------------------------------
0.25% Federal Money Market
-------------------- ----------------------------------------------------------
0.35% Prime Obligations, Tax-Free Money Market, U.S. Government
Obligations
-------------------- ----------------------------------------------------------
0.50% Financial Reserves, Fund for Income, Limited Term Income,
Ohio Municipal Money Market
-------------------- ----------------------------------------------------------
0.50% of the first Gradison Government Reserves
$400 million,
0.45% of the next
$600 million,
0.40% of the next
$1 billion and
0.35% thereafter
-------------------- ----------------------------------------------------------
0.55% National Municipal Bond, New York Tax-Free
-------------------- ----------------------------------------------------------
0.60% Ohio Municipal Bond, Stock Index, Nasdaq-100 Index(R)
-------------------- ----------------------------------------------------------
0.65% Diversified Stock
-------------------- ----------------------------------------------------------
0.65% of the first Established Value, Small Company Opportunity *
$100 million,
0.55% of the next
$100 million, and
0.45% in excess of
$200 million
-------------------- ----------------------------------------------------------
0.80% Balanced, Real Estate Investment, Special Value
-------------------- ----------------------------------------------------------
0.75% Convertible Securities, Growth, Intermediate Income,
Investment Quality Bond, Value
-------------------- ----------------------------------------------------------
1.00% Lakefront
-------------------- ----------------------------------------------------------
1.10% International Growth
-------------------- ----------------------------------------------------------
Investment Advisory Services to the LifeChoice Funds
KAM continuously monitors the allocation of each Fund's investment in Underlying
Portfolios in three distinct investment categories according to certain
percentage ranges predetermined by the Trustees as follows:
------------------------ --------------- ---------------- --------------------
Conservative Growth Moderate
Investor Fund Investor Fund Investor Fund
------------------------ --------------- ---------------- --------------------
Equity Funds 30-50% 70-90% 50-70%
------------------------ --------------- ---------------- --------------------
Bond/Fixed Income Funds 50-70% 10-30% 30-50%
------------------------ --------------- ---------------- --------------------
Money Market Funds/Cash 0-15% 0-15% 0-15%
------------------------ --------------- ---------------- --------------------
KAM rebalances or reallocates the LifeChoice Funds' investments across
Underlying Portfolios as market conditions warrant. All reallocations are
expected to occur within the above-described ranges.
--------------
* Prior to March 29, 1999, the Small Company Opportunity Fund paid an
advisory fee equal to 1.00% of its average daily net assets.
90
<PAGE>
The selection of the Proprietary Portfolios in which the LifeChoice Funds will
invest, as well as the percentage of assets which can be invested in each type
of underlying mutual fund, are not fundamental investment policies and can be
changed without the approval of a majority of the respective Fund's
shareholders. Any changes to the percentage ranges shown above for allocation
across types of Underlying Portfolios or for allocation in Proprietary
Portfolios and Other Portfolios requires the approval of the Trust's Board of
Trustees. Investors desiring more information on a Proprietary Portfolio listed
above may call the Trust at 800-539-FUND to request a prospectus, which is
available without charge. The selection of the Other Portfolios also is within
the Adviser's discretion.
The Portfolio Managers of the Proprietary Portfolios
As a shareholder in the Proprietary Portfolios, the LifeChoice Funds will bear
their proportionate share of the investment advisory fees paid by the
Portfolios. Set forth below is a description of the investment advisory
agreements for each Proprietary Portfolio. The persons primarily responsible for
the investment management of the Proprietary Portfolios are as follows (unless
otherwise noted, a portfolio manager has managed the Portfolio since
commencement of the Fund's operations):
-------------- ---------------------- ------------------------------------------
Victory Fund Portfolio Manager Experience
-------------- ---------------------- ------------------------------------------
Convertible Amy Bush Research Analyst with KAM and has been associated
Securities (since July 2000) with KAM or its affiliates since 1992.
-------------- ---------------------- ------------------------------------------
Richard A. Janus Senior Managing Director of KAM, and has
(since April 1996) been in the investment advisory business
since 1977.
-------------- ---------------------- ------------------------------------------
James K. Kaesberg Portfolio Manager and Managing Director
(since April 1996) of Convertible Securities Investments for
KAM and has been in the investment
advisory business since 1985.
-------------- ---------------------- ------------------------------------------
Diversified Lawrence G. Babin Senior Portfolio Manager and Managing
Stock Director of KAM and has been in the
investment business since 1982.
-------------- ---------------------- ------------------------------------------
Paul Danes Portfolio Manager and Director of KAM
(since July 2000) and has been in the investment business
since 1987.
-------------- ---------------------- ------------------------------------------
Established William J. Leugers, Portfolio Manager and Managing Director
Value and Jr. of Gradison McDonald and has been
Small (since November 1998) associated with Gradison McDonald since
Company 1975.
Opportunity
-------------- ---------------------- ------------------------------------------
Daniel R. Shick Portfolio Manager and Managing Director
(since November 1998) of Gradison McDonald and has been
associated with McDonald since 1972.
-------------- ---------------------- ------------------------------------------
Gary H. Miller Vice-President and Portfolio Manager of
(since November 1998) Gradison McDonald and has been associated
with Gradison McDonald since 1987.
-------------- ---------------------- ------------------------------------------
Fund for Thomas M. Seay Served as portfolio manager of the
Income (since April 1998) Gradison Government Income Fund since
April 1998, prior to which he served
as vice president and fixed income
portfolio manager of Lexington Management
Corporation.
-------------- ---------------------- ------------------------------------------
Trenton Fletcher Portfolio Manager and Director of KAM and
(since January 1998) has been associated with KAM or its
affiliates since 1989.
-------------- ---------------------- ------------------------------------------
Growth William F. Ruple Senior Portfolio Manager and Director
(since June 1995) of KAM and has been in the investment
advisory business since 1970.
-------------- ---------------------- ------------------------------------------
Intermediate Matthew D. Meyer Senior Portfolio Manager and Director
Income (since May 1999) in the Taxable Fixed Income Group of KAM
since January 1999, prior to which
he was employed by McDonald & Company as
a First Vice President, Senior Mortgage-
Backed Securities Trader from January 1996
to January 1999 and a Mortgage-Backed and
Agency Securities Trader with First
Tennessee National Corporation from
February 1993 to December 1995.
-------------- ---------------------- ------------------------------------------
International Conrad Metz Senior Portfolio Manager and Managing Director
Growth (since October 1995) of KAM since October 1995; from 1993 to
1995 he was Senior of Vice President,
International Equities, at Bailard Biehl
& Kaiser. He has been in the investment
business since 1978.
91
<PAGE>
-------------- ---------------------- ------------------------------------------
Victory Fund Portfolio Manager Experience
-------------- ---------------------- ------------------------------------------
Leslie Globits Portfolio Manager and Managing Director
(since June 1998) of KAM. He has been employed by KAM or
an affiliate since 1987.
-------------- ---------------------- ------------------------------------------
Ayaz Ebrahim Director and Portfolio Manager of IIIS,
(since June 1998) Hong Kong, and has been employed by IIIS
or an affiliate since 1991.
-------------- ---------------------- ------------------------------------------
Didier LeConte Senior Portfolio Manager - European
(since June 1998) Equities at IIIS and has been employed by
IIIS or an affiliate since 1996.
-------------- ---------------------- ------------------------------------------
Jean-Claude Kaltenbach Head of Equity Management at IIIS and has
(since June 1998) been employed by IIIS or an affiliate
since 1994.
-------------- ---------------------- ------------------------------------------
Miren Etcheverry Senior Portfolio Manager at IIIS since
(since January 2000) January 2000. From 1996 until January
2000, Senior Vice President, John
Hancock Funds, prior to which, she
was a Senior Vice President with Baring
Asset Management.
-------------- ---------------------- ------------------------------------------
Investment Richard T. Heine Vice President and Portfolio Manager
Quality Bond with KAM, and has been in the investment
advisory business since 1977
-------------- ---------------------- ------------------------------------------
Limited Term Deborah Svoboda Portfolio Manager and Managing Director
Income (since September of KAM since September 1998, prior to
1998) which she was a Senior Vice President
responsible for asset-backed securities
syndication and marketing for McDonald &
Company Investments Inc.
-------------- ---------------------- ------------------------------------------
Real Estate Patrice Derrington Managing Director and Portfolio Manager
Investment of KAM, and has been in the real estate,
investment, and finance business since
1991.
-------------- ---------------------- ------------------------------------------
Richard E. Salomon Director of, and a Senior Managing
Director with KAM, and has been in the
investment advisory business since
1982.
-------------- ---------------------- ------------------------------------------
Special Value Paul Danes See biography under Diversified Stock
(since October 1995) Fund.
-------------- ---------------------- ------------------------------------------
Value Neil A. Kilbane Portfolio Manager and Managing
(since April 1998) Director of KAM, and has been in the
investment business since 1986.
-------------- ---------------------- ------------------------------------------
Investment Sub-Advisers.
The Lakefront Fund. Lakefront Capital Investors, Inc. ("Lakefront") serves as
sub-adviser to the Lakefront Fund. Pursuant to an agreement with the Adviser
dated as of March 1, 1997, the Adviser pays Lakefront from its advisory fee a
monthly fee at an annual rate of 0.50% of the Lakefront Fund's average daily
net assets.
Lakefront is a registered investment adviser with the SEC. As of November 30,
1999, Lakefront managed approximately $20 million for its clients.
The International Growth Fund -- Manager of Managers. As the "Manager of
Managers" of the International Growth Fund, KAM may select one or more
sub-advisers to manage the Fund's assets. KAM evaluates each sub-adviser's
skills, investment styles and strategies in light of KAM's analysis of the
international securities markets. Under its Advisory Agreement with the Trust,
KAM oversees the investment advisory services that a sub-adviser provides to the
International Growth Fund. If KAM engages more than one sub-adviser, KAM may
reallocate assets among sub-advisers when it believes it is appropriate. KAM
provides investment advice with respect to short-term debt securities. KAM has
the ultimate responsibility for the International Growth Fund's investment
performance because it is responsible for overseeing all sub-advisers and
recommending to the Trust's Board of Trustees that it hire, terminate or replace
a particular sub-adviser.
The Trust and KAM have obtained an order from the SEC that allows KAM to serve
as a Manager of Managers. The order lets KAM, subject to certain conditions,
select new sub-advisers with the approval of the Board, without obtaining
shareholder approval. The order also allows KAM to change the terms of
agreements with the sub-advisers or to keep a sub-adviser even if certain events
would otherwise require that a sub-advisory agreement terminate. The Trust will
notify shareholders of any sub-adviser change. Shareholders, however, also have
the right
92
<PAGE>
to terminate an agreement with a particular sub-adviser. If KAM hires more than
one sub-adviser, the order also allows the International Growth Fund to disclose
only the aggregate amount of fees paid to all sub-advisers.
IIIS (collectively with Lakefront, the "Sub-Advisers") serves as sub-adviser to
the International Growth Fund. Pursuant to an agreement with the Adviser dated
as of June 1, 1998, the Adviser pays IIIS a monthly fee of 0.55% of the
International Growth Fund's average daily net assets from its advisory fee.
IIIS is a registered investment adviser with the SEC. As of June 30, 1999, IIIS
and its affiliates managed approximately $145 billion for their clients. IIIS
also serves as investment adviser to the France Growth Fund and sub-adviser to
the BNY Hamilton International Equity Fund and the John Hancock European Equity
Fund.
The Investment Advisory and Investment Sub-Advisory Agreements.
Unless sooner terminated, the Investment Advisory Agreement between the Adviser
and the Trust, on behalf of the Funds (the "Investment Advisory Agreement"),
provides that it will continue in effect as to the Funds for an initial two-year
term and for consecutive one-year terms thereafter, provided that such renewal
is approved at least annually by the Trustees or by vote of a majority of the
outstanding shares of each Fund (as defined under "Additional Information -
Miscellaneous"), and, in either case, by a majority of the Trustees who are not
parties to the Agreement or interested persons (as defined in the 1940 Act) of
any party to the Agreement, by votes cast in person at a meeting called for such
purpose. The Investment Advisory Agreement is terminable as to any particular
Fund at any time on 60 days' written notice without penalty by vote of a
majority of the outstanding shares of the Fund, by vote of the Board, or by the
Adviser. The Investment Advisory Agreement also terminates automatically in the
event of any assignment, as defined in the 1940 Act.
The Investment Advisory Agreement provides that the Adviser shall not be liable
for any error of judgment or mistake of law or for any loss suffered by the
Funds in connection with the performance of services pursuant thereto, except a
loss resulting from a breach of fiduciary duty with respect to the receipt of
compensation for services or a loss resulting from willful misfeasance, bad
faith, or gross negligence on the part of the Adviser in the performance of its
duties, or from reckless disregard by the Adviser of its duties and obligations
thereunder.
For the three fiscal years ended October 31, 1999, KAM earned the following
advisory fees with respect to each Fund. The amount of fees paid to the Adviser
is shown net of the amount of fee reduction.
<TABLE>
<CAPTION>
1999 1998 1997
Fee Fee Fee
Fees Paid Reduction Fees Paid Reduction Fees Paid Reduction
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
------------------------------------------------------------------------------------------------------------------------------------
Balanced $3,446,546 $1,041,454 $3,019,535 $ 943,992 $2,810,294 $ 353,372
------------------------------------------------------------------------------------------------------------------------------------
Convertible Securities 696,000 0 794,188 0 595,753 0
------------------------------------------------------------------------------------------------------------------------------------
Diversified Stock 6,855,681 503,319 5,039,529 1,022,826 4,560,843 0
------------------------------------------------------------------------------------------------------------------------------------
Established Value 1,224,467 246,533 2,580,124 0 2,093,562 0
------------------------------------------------------------------------------------------------------------------------------------
Federal Money Market 1,413,628 1,136,372 589,340 732,604 0 277,326
------------------------------------------------------------------------------------------------------------------------------------
Financial Reserves 4,192,000 0 3,761,563 123,455 3,786,668 301,812
------------------------------------------------------------------------------------------------------------------------------------
Fund for Income 698,399 128,601 16,446 103,873 5,722 92,630
------------------------------------------------------------------------------------------------------------------------------------
Gradison Gov't Res.# 9,118,000 737,000 7,875,357 0 6,956,236 0
------------------------------------------------------------------------------------------------------------------------------------
Growth 3,260,024 280,976 1,936,780 304,983 1,709,722 0
------------------------------------------------------------------------------------------------------------------------------------
Inst. Money Market 3,442,030 1,887,970 2,051,053 1,279,243 1,638,661 855,791
------------------------------------------------------------------------------------------------------------------------------------
Intermediate Income 1,183,269 640,731 1,159,701 681,558 1,622,286 340,846
------------------------------------------------------------------------------------------------------------------------------------
International Growth 1,572,373 160,373 1,082,604 123,169 1,317,383 0
------------------------------------------------------------------------------------------------------------------------------------
Inv. Quality Bond 779,464 389,732 880,262 436,244 993,289 208,773
------------------------------------------------------------------------------------------------------------------------------------
Lakefront 6,839 6,839 6,293 6,293 2,144 5,022
------------------------------------------------------------------------------------------------------------------------------------
---------------------
* For the month ended October 31, 1999, the Gradison Government Reserves
Fund paid $630,000 to the Adviser, after a fee reduction of $120,000.
93
<PAGE>
1999 1998 1997
Fee Fee Fee
Fees Paid Reduction Fees Paid Reduction Fees Paid Reduction
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
------------------------------------------------------------------------------------------------------------------------------------
LifeChoice Cons 7,869 7,869 9,198 4,473 4,311 139
------------------------------------------------------------------------------------------------------------------------------------
LifeChoice Growth 14,973 14,973 11,797 5,708 6,130 128
------------------------------------------------------------------------------------------------------------------------------------
LifeChoice Moderate 22,903 22,902 15,484 9,367 6,565 1,024
------------------------------------------------------------------------------------------------------------------------------------
Limited Term Income 275,101 97,708 271,020 123,743 418,588 15,636
------------------------------------------------------------------------------------------------------------------------------------
National Muni Bond 82,964 179,176 0 295,779 0 239,815
------------------------------------------------------------------------------------------------------------------------------------
New York Tax-Free 56,745 47,287 54,279 60,020 23,901 73,540
------------------------------------------------------------------------------------------------------------------------------------
Ohio Municipal Bond 590,452 340,548 301,873 174,387 376,962 79,594
------------------------------------------------------------------------------------------------------------------------------------
Ohio Muni Mon. Mkt 3,865,335 1,109,110 2,513,242 1,026,186 2,281,185 833,236
------------------------------------------------------------------------------------------------------------------------------------
Prime Obligations 6,046,488 0 3,673,976 0 1,870,850 0
------------------------------------------------------------------------------------------------------------------------------------
Real Estate Investment 39,999 118,156 14,049 111,672 0 15,464
------------------------------------------------------------------------------------------------------------------------------------
Small Co. Opportunity 551,294 95,047 881,658 0 699,336 0
------------------------------------------------------------------------------------------------------------------------------------
Special Value 2,553,867 283,759 3,814,898 443,848 3,525,053 0
------------------------------------------------------------------------------------------------------------------------------------
Stock Index 3,847,517 842,483 2,681,381 798,447 1,715,703 574,290
------------------------------------------------------------------------------------------------------------------------------------
Tax-Free Money Mkt 2,428,741 0 1,829,130 29,470 1,283,064 37,520
------------------------------------------------------------------------------------------------------------------------------------
U.S. Gov't Obl's 7,639,953 0 6,864,953 0 5,387,642 0
------------------------------------------------------------------------------------------------------------------------------------
Value 5,595,907 280,784 4,505,880 613,276 4,396,880 0
------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
Sub-Advisory Agreements. Under the Investment Advisory Agreement, the Adviser
may delegate a portion of its responsibilities to a sub-adviser. In addition,
the Investment Advisory Agreement provides that the Adviser may render services
through its own employees or the employees of one or more affiliated companies
that are qualified to act as an investment adviser of the Funds and are under
the common control of KeyCorp as long as all such persons are functioning as
part of an organized group of persons, managed by authorized officers of the
Adviser.
Each Sub-Adviser's Agreement with KAM is terminable at any time, without
penalty, by the Board of Trustees, by the Adviser or by vote of a majority of
the respective Fund's outstanding voting securities on 60 days' written notice
to the Adviser. Unless sooner terminated, each Sub-Advisory Agreement shall
continue in effect from year to year if approved at least annually by a majority
vote of the Board of Trustees, including a majority of the Trustees who are not
interested persons of the Adviser or the respective Sub-Adviser, cast in person
at a meeting called for the purpose of voting on the relevant Sub-Advisory
Agreement.
Glass-Steagall Act.
In 1971 the United States Supreme Court held in Investment Company Institute v.
Camp that the federal statute commonly referred to as the Glass-Steagall Act
prohibits a national bank from operating a fund for the collective investment of
managing agency accounts. Subsequently, the Board of Governors of the Federal
Reserve System (the "Board") issued a regulation and interpretation to the
effect that the Glass-Steagall Act and such decision: (a) forbid a bank holding
company registered under the Federal Bank Holding Company Act of 1956 (the
"Holding Company Act") or any non-bank affiliate thereof from sponsoring,
organizing, or controlling a registered, open-end investment company
continuously engaged in the issuance of its shares, but (b) do not prohibit such
a holding company or affiliate from acting as investment adviser, transfer
agent, and custodian to such an investment company. In 1981 the United States
Supreme Court held in Board of Governors of the Federal Reserve System v.
Investment Company Institute that the Board did not exceed its authority under
the Holding Company Act when it adopted its regulation and interpretation
authorizing bank holding companies and their non-bank affiliates to act as
investment advisers to registered closed-end investment companies. In the Board
of Governors case, the Supreme Court also stated that if a national bank
complied with the restrictions imposed by the Board in its regulation and
interpretation authorizing bank holding companies and their non-bank affiliates
to act as investment advisers to investment companies, a national bank
performing investment advisory services for an investment company would not
violate the Glass-Steagall Act.
On November 12, 1999, President Clinton signed a bill repealing the
Glass-Steagall Act. As a result, the Adviser may in the future perform certain
functions for the Funds that previously were not permitted under federal law.
94
<PAGE>
From time to time, advertisements, supplemental sales literature and information
furnished to present or prospective shareholders of the Funds may include
descriptions of Key Trust and the Adviser including, but not limited to, (1)
descriptions of the operations of Key Trust and the Adviser; (2) descriptions of
certain personnel and their functions; and (3) statistics and rankings related
to the operations of Key Trust and the Adviser.
Code of Ethics.
The Funds, the Adviser, and the Sub-Advisers have each adopted a Code of Ethics
to which all investment personnel and all other access persons of the Funds must
conform. Investment personnel must refrain from certain trading practices and
are required to report certain personal investment activities. Violations of the
Code of Ethics can result in penalties, suspension, or termination of
employment.
Portfolio Transactions.
The Money Market Funds. Pursuant to the Investment Advisory Agreement between
the Adviser and the Trust, on behalf of the Money Market Funds, the Adviser
determines, subject to the general supervision of the Trustees of the Trust, and
in accordance with each Money Market Fund's investment objective, policies and
restrictions, which securities are to be purchased and sold by the Money Market
Funds, and which brokers are to be eligible to execute its portfolio
transactions. Since purchases and sales of portfolio securities by the Money
Market Funds are usually principal transactions, the Money Market Funds incur
little or no brokerage commissions. For the three fiscal years ended October 31,
1999, the Money Market Funds paid no brokerage commissions. Securities of the
Money Market Funds are normally purchased directly from the issuer or from a
market maker for the securities. The purchase price paid to dealers serving as
market makers may include a spread between the bid and asked prices. The Money
Market Funds also may purchase securities from underwriters at prices which
include the spread retained by the underwriter from the proceeds of the offering
to the issuer.
The Money Market Funds do not seek to profit from short-term trading, and will
generally (but not always) hold portfolio securities to maturity, but the
Adviser may seek to enhance the yield of the Funds by taking advantage of yield
disparities or other factors that occur in the money markets. For example,
market conditions frequently result in similar securities trading at different
prices. The Adviser may dispose of any portfolio security prior to its maturity
if such disposition and reinvestment of proceeds are expected to enhance yield
consistent with the Adviser's judgment as to desirable portfolio maturity
structure or if such disposition is believed to be advisable due to other
circumstances or conditions. The investment policies of the Money Market Funds
require that investments mature in 90 days or less. Thus, there is likely to be
relatively high portfolio turnover, but since brokerage commissions are not
normally paid on money market instruments, the high rate of portfolio turnover
is not expected to have a material effect on the net income or expenses of the
Money Market Funds.
The Adviser's primary consideration in effecting a security transaction is to
obtain the best net price and the most favorable execution of the order.
Allocation of transactions, including their frequency, among various dealers is
determined by the Adviser in its best judgment and in a manner deemed fair and
reasonable to shareholders.
Income and Equity Funds. Pursuant to the Investment Advisory Agreement (and for
the Lakefront and the International Growth Funds, the Sub-Advisory Agreements),
the Adviser* determines, subject to the general supervision of the Trustees of
the Trust, and in accordance with each Fund's investment objective and
restrictions, which securities are to be purchased and sold by the Funds, and
which brokers are to be eligible to execute its portfolio transactions.
Purchases from underwriters and/or broker-dealers of portfolio securities
include a commission or concession paid by the issuer to the underwriter and/or
broker-dealer and purchases from dealers serving as market makers may include
the spread between the bid and asked price. While the Adviser generally seeks
competitive spreads or commissions, each Fund may not necessarily pay the lowest
spread or commission available on each transaction, for reasons discussed below.
-------------------
* For purposes fo the following discussion, the term "Adviser" refers to
the Adviser and any sub-advisers.
95
<PAGE>
Allocation of transactions to dealers is determined by the Adviser in its best
judgment and in a manner deemed fair and reasonable to shareholders. The primary
consideration is prompt execution of orders in an effective manner at the most
favorable price. Subject to this consideration, dealers who provide supplemental
investment research to the Adviser may receive orders for transactions by the
Trust. Information so received is in addition to and not in lieu of services
required to be performed by the Adviser and does not reduce the investment
advisory fees payable to the Adviser by the Funds. Such information may be
useful to the Adviser in serving both the Trust and other clients and,
conversely, such supplemental research information obtained by the placement of
orders on behalf of other clients may be useful to the Adviser in carrying out
its obligations to the Trust. The Trustees have authorized the allocation of
brokerage to affiliated broker-dealers on an agency basis to effect portfolio
transactions. The Trustees have adopted procedures incorporating the standards
of Rule 17e-1 of the 1940 Act, which require that the commission paid to
affiliated broker-dealers must be "reasonable and fair compared to the
commission, fee or other remuneration received, or to be received, by other
brokers in connection with comparable transactions involving similar securities
during a comparable period of time." At times, the Funds may also purchase
portfolio securities directly from dealers acting as principals, underwriters or
market makers. As these transactions are usually conducted on a net basis, no
brokerage commissions are paid by the Funds.
All Funds. The Trust will not execute portfolio transactions through, acquire
portfolio securities issued by, make savings deposits in, or enter into
repurchase or reverse repurchase agreements with the Adviser, the Sub-Advisers,
Key Trust or their affiliates, or BISYS or its affiliates, and will not give
preference to Key Trust's correspondent banks or affiliates, or BISYS with
respect to such transactions, securities, savings deposits, repurchase
agreements, and reverse repurchase agreements.
Investment decisions for each Fund are made independently from those made for
the other Funds of the Trust or any other investment company or account managed
by the Adviser. Such other investment companies or accounts may also invest in
the securities and may follow similar investment strategies as the Funds. When a
purchase or sale of the same security is made at substantially the same time on
behalf of a Fund and any other Fund, investment company or account, the
transaction will be averaged as to price, and available investments allocated as
to amount, in a manner which the Adviser believes to be equitable to such Funds,
investment company or account. In some instances, this investment procedure may
affect the price paid or received by a Fund or the size of the position obtained
by the Fund in an adverse manner relative to the result that would have been
obtained if only that particular Fund had participated in or been allocated such
trades. To the extent permitted by law, the Adviser may aggregate the securities
to be sold or purchased for a Fund with those to be sold or purchased for the
other Funds of the Trust or for other investment companies or accounts in order
to obtain best execution. In making investment recommendations for the Trust,
the Adviser will not inquire or take into consideration whether an issuer of
securities proposed for purchase or sale by a Fund is a customer of the Adviser,
their parents or subsidiaries or affiliates and, in dealing with their
commercial customers, the Adviser, its parents, subsidiaries, and affiliates
will not inquire or take into consideration whether securities of such customers
are held by the Trust.
Brokerage commissions paid by each of the Funds listed below were as follows for
the three fiscal years ended October 31, 1999.
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
----------------------------------------------------------------------------------------------
Balanced $244,757.56 $197,179.88 $212,666.31
----------------------------------------------------------------------------------------------
Convertible Securities 50,636.98 73,375.17 46,738
----------------------------------------------------------------------------------------------
Diversified Stock 1,883,933.41 1,533,314.33 906,124.85
----------------------------------------------------------------------------------------------
Established Value 255,565.92 512,565.00 200,205.00
----------------------------------------------------------------------------------------------
Growth 294.718.62 150,360.66 68,970.96
----------------------------------------------------------------------------------------------
Intermediate Income 48,267.61 1,271.88 3,242.20
----------------------------------------------------------------------------------------------
International Growth 860,704.76 619,297.58 1,103,488.08
----------------------------------------------------------------------------------------------
Investment Quality Bond 285.95 773.44 1,734.39
----------------------------------------------------------------------------------------------
Lakefront 1,513.52 1,927.90 2,513.90
----------------------------------------------------------------------------------------------
Limited Term Income 0 0 468.75
----------------------------------------------------------------------------------------------
Real Estate Investment 45,149.04 46,584.80 0
----------------------------------------------------------------------------------------------
Small Company Opportunity 137,765.82 136,378 92,853
----------------------------------------------------------------------------------------------
Special Value 564,320.18 581,672.43 428,514.23
----------------------------------------------------------------------------------------------
96
<PAGE>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C>
----------------------------------------------------------------------------------------------
Stock Index 97,107.95 107,718.60 43,190.22
----------------------------------------------------------------------------------------------
Value 369,846.12 391,275.21 218,946.60
----------------------------------------------------------------------------------------------
</TABLE>
Portfolio Turnover.
The portfolio turnover rates stated in the Prospectuses are calculated by
dividing the lesser of each Fund's purchases or sales of portfolio securities
for the year by the monthly average value of the portfolio securities. The
calculation excludes all securities whose maturities, at the time of
acquisition, were one year or less. Portfolio turnover is calculated on the
basis of the Fund as a whole without distinguishing between the classes of
shares issued. As indicated below, the Limited Term Income Fund experienced
higher-than-usual portfolio turnover for the fiscal year ended October 31, 1999
due to extraordinarily volatile market conditions. The portfolio turnover rates
for each of the Funds listed below were as follows for the two fiscal years
ended October 31, 1999.
<TABLE>
<CAPTION>
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C> <C>
----------------------------------------------------------------------------------------------
Balanced 177% 231% LifeChoice Growth 52% 30%
----------------------------------------------------------------------------------------------
Convertible Securities 73% 77% LifeChoice Moderate 69% 42%
----------------------------------------------------------------------------------------------
Diversified Stock 83% 84% Limited Term Income 220% 177%
----------------------------------------------------------------------------------------------
Established Value 11% 37% National Muni Bond 127% 152%
----------------------------------------------------------------------------------------------
Fund for Income 24% 36% New York Tax-Free 28% 38%
----------------------------------------------------------------------------------------------
Growth 33% 29% Ohio Municipal Bond 112% 95%
----------------------------------------------------------------------------------------------
Intermediate Income 303% 318% Real Estate Inv. 62% 53%
----------------------------------------------------------------------------------------------
International Growth 106% 86% Small Co. Opp'ty 16% 42%
----------------------------------------------------------------------------------------------
Inv. Quality Bond 398% 492% Special Value 43% 44%
----------------------------------------------------------------------------------------------
Lakefront 23% 36% Stock Index 3% 8%
----------------------------------------------------------------------------------------------
LifeChoice Cons. 57% 78% Value 36% 40%
----------------------------------------------------------------------------------------------
</TABLE>
Administrator.
BISYS Fund Services Ohio, Inc. (the "Administrator") serves as administrator to
the Funds pursuant to an administration agreement dated October 1, 1999 (the
"Administration Agreement"). The Administrator assists in supervising all
operations of the Funds (other than those performed by the Adviser or the
Sub-Advisers under their respective agreements), subject to the supervision of
the Board of Trustees.
For the services rendered to the Funds and related expenses borne by the
Administrator, each Fund pays the Administrator an annual fee, computed daily
and paid monthly, at the following annual rates based on each Fund's average
daily net assets: 0.15% for portfolio assets of $300 million and less, 0.12% for
the next $300 million through $600 million of portfolio assets, and 0.10% for
portfolio assets greater than $600 million. The Administrator may periodically
waive all or a portion of its fee with respect to any Fund in order to increase
the net income of one or more of the Funds available for distribution to
shareholders.
Unless sooner terminated, the Administration Agreement will continue in effect
as to each Fund for a period of two years, and for consecutive two-year terms
thereafter, provided that such continuance is ratified by the Trustees or by
vote of a majority of the outstanding shares of each Fund, and in either case by
a majority of the Trustees who are not parties to the Administration Agreement
or interested persons (as defined in the 1940 Act) of any party to the
Agreement, by votes cast in person at a meeting called for such purpose.
The Administration Agreement provides that the Administrator shall not be liable
for any error of judgment or mistake of law or any loss suffered by the Trust in
connection with the matters to which the Agreement relates, except a loss
resulting from willful misfeasance, bad faith, or negligence in the performance
of its duties, or from the reckless disregard of its obligations and duties
thereunder.
Under the Administration Agreement, the Administrator assists in each Fund's
administration and operation, including providing statistical and research data,
clerical services, internal compliance and various other
97
<PAGE>
administrative services, including among other responsibilities, forwarding
certain purchase and redemption requests to the transfer agent, participation in
the updating of the prospectus, coordinating the preparation, filing, printing
and dissemination of reports to shareholders, coordinating the preparation of
income tax returns, arranging for the maintenance of books and records and
providing the office facilities necessary to carry out the duties thereunder.
Under the Administration Agreement, the Administrator may delegate all or any
part of its responsibilities thereunder.
The following table reflects the aggregate administration fees earned after fee
reductions by the Administrator in connection with the sale of shares of each
Fund for the three fiscal years ended October 31, 1999.
<TABLE>
<CAPTION>
1999 1998 1997
-----------------------------------------------------------------------------------------------------
Fee Fee Fee
Fees Reductions Fees Reductions Fees Reductions
-----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balanced $628,622 $0 $565,625 $0 $472,961 $0
-----------------------------------------------------------------------------------------------------
Convertible Sec's 139,306 0 174,181 0 169,130 0
-----------------------------------------------------------------------------------------------------
Diversified Stock 1,342,629 0 1,142,672 0 1,034,997 0
-----------------------------------------------------------------------------------------------------
Established Value 217,967 172,809 384,111 0 336,673 0
-----------------------------------------------------------------------------------------------------
Federal Money Market 611,922 618,007 429,784 0 213,167 0
-----------------------------------------------------------------------------------------------------
Financial Reserves 1,048,129 0 987,007 0 1,209,552 0
-----------------------------------------------------------------------------------------------------
Fund for Income 70,556 135,575 14,438 21,658 11,799 17,707
-----------------------------------------------------------------------------------------------------
Gradison Gov't Res. * 841,000 498,000 2,799,248 0 2,408,388 0
-----------------------------------------------------------------------------------------------------
Growth 514,406 0 336,265 0 256,459 0
-----------------------------------------------------------------------------------------------------
Inst. Money Mkt 1,279,335 1,063,780 799,361 742,945 340,471 1,156,193
-----------------------------------------------------------------------------------------------------
Intermediate Inc. 364,835 0 368,253 0 392,489 0
-----------------------------------------------------------------------------------------------------
Int'l Growth 236,458 0 164,424 0 179,643 0
-----------------------------------------------------------------------------------------------------
Inv. Quality Bond 233,840 0 263,302 0 240,312 0
-----------------------------------------------------------------------------------------------------
Lakefront 2,052 0 1,888 0 1,045 0
-----------------------------------------------------------------------------------------------------
LifeChoice Cons. 12,001 0 11,015 0 0 0
-----------------------------------------------------------------------------------------------------
LifeChoice Growth 12,001 0 11,015 0 0 0
-----------------------------------------------------------------------------------------------------
LifeChoice Moderate 12,001 0 11,015 0 0 0
-----------------------------------------------------------------------------------------------------
Limited Term Income 115,008 0 118,429 0 130,222 0
-----------------------------------------------------------------------------------------------------
National Muni Bond 71,493 0 80,667 0 65,363 0
-----------------------------------------------------------------------------------------------------
New York Tax-Free 11,349 17,023 12,437 18,656 10,626 15,949
-----------------------------------------------------------------------------------------------------
Ohio Municipal Bond 229,950 0 119,065 0 114,083 0
-----------------------------------------------------------------------------------------------------
Ohio Muni Money Mkt 1,204,892 0 917,889 0 548,673 375,708
-----------------------------------------------------------------------------------------------------
Prime Obligations 1,937,569 0 1,259,710 0 790,839 0
-----------------------------------------------------------------------------------------------------
Real Estate Inv. 23,723 0 11,216 7,642 0 2,320
-----------------------------------------------------------------------------------------------------
Small Co. Opp'ty 57,100 103,295 160,216 0 138,080 0
-----------------------------------------------------------------------------------------------------
Special Value 422,304 0 601,051 0 525,357 0
-----------------------------------------------------------------------------------------------------
Stock Index 1,327 990,722 0 782,953 0 567,979
-----------------------------------------------------------------------------------------------------
Tax-Free Money Mkt 900,367 0 726,665 0 562,890 0
-----------------------------------------------------------------------------------------------------
U.S. Gov't Obl's 2,392,790 0 2,171,416 0 2,258,117 0
-----------------------------------------------------------------------------------------------------
Value 794,321 0 704,301 0 654,663 0
-----------------------------------------------------------------------------------------------------
</TABLE>
----------------------
* For the month ended October 31, 1999, the Gradison Government Reserves
Fund paid $92,000 in administration fees, after a fee reduction of
$99,000.
98
<PAGE>
Sub-Administrator.
KAM serves as sub-administrator to the Trust pursuant to a sub-administration
agreement dated October 1, 1997 (the "Sub-Administration Agreement"). As
sub-administrator, KAM assists the Administrator in all aspects of the
operations of the Trust, except those performed by KAM under its Investment
Advisory Agreement.
For services provided under the Sub-Administration Agreement, the Administrator
pays KAM a fee, with respect to each Fund, calculated at the annual rate of up
to five one-hundredths of one percent (0.05%) of such Fund's average daily net
assets. Except as otherwise provided in the Administration Agreement, KAM shall
pay all expenses incurred by it in performing its services and duties as
sub-administrator. Unless sooner terminated, the Sub-Administration Agreement
will continue in effect as to each Fund for a period of two years, and for
consecutive one-year terms thereafter, unless written notice not to renew is
given by the non-renewing party.
Under the Sub-Administration Agreement, KAM's duties include maintaining office
facilities, furnishing statistical and research data, compiling data for various
state and federal filings by the Trust, assist in mailing and filing the Trust's
annual and semi-annual reports to shareholders, providing support for board
meetings, and arranging for the maintenance of books and records and providing
the office facilities necessary to carry out the duties thereunder.
Distributor.
BISYS Fund Services Limited Partnership serves as distributor (the
"Distributor") for the continuous offering of the shares of the Funds pursuant
to a Distribution Agreement between the Distributor and the Trust. Unless
otherwise terminated, the Distribution Agreement will remain in effect with
respect to each Fund for two years, and will continue thereafter for consecutive
one-year terms, provided that the renewal is approved at least annually (1) by
the Trustees or by the vote of a majority of the outstanding shares of each
Fund, and (2) by the vote of a majority of the Trustees of the Trust who are not
parties to the Distribution Agreement or interested persons of any such party,
cast in person at a meeting called for the purpose of voting on such approval.
The Distribution Agreement will terminate in the event of its assignment, as
defined under the 1940 Act.
The following table reflects the total underwriting commissions earned and the
amount of those commissions retained by the Distributor in connection with the
sale of shares of each Fund for the three fiscal years ended October 31, 1999.
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------
1999 1998 1997
----------------------------------------------------------------------------------------------
Underwriting Amount Underwriting Amount Underwriting Amount
Commissions Retained Commissions Retained Commission Retained
----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balanced $305,269 $192,988 $148,456 $5,744 $96,700 $4,600
----------------------------------------------------------------------------------------------
Conv't Securities $29,522 0 48,035 6,080 N/A N/A
----------------------------------------------------------------------------------------------
Diversified Stock 1,105,926 660,339 1,362,247 83,232 1,412,000 448,000
----------------------------------------------------------------------------------------------
Fund for Income 20,060 0 11,928 3,160 30,601+/- 0
----------------------------------------------------------------------------------------------
Growth 211,016 0 45,898 5,927 15,300 2,200
----------------------------------------------------------------------------------------------
Intermediate Income 18,376 0 665 89 2,600 300
----------------------------------------------------------------------------------------------
International 12,434 8,430 19,553 1,565 11,600 1,300
Growth
----------------------------------------------------------------------------------------------
Inv. Quality Bond 16,083 0 3,437 448 15,700 2,200
----------------------------------------------------------------------------------------------
Lakefront 633 0 2,620 380 3,000 500
----------------------------------------------------------------------------------------------
Ltd. Term Income 746 0 406 100 400 100
----------------------------------------------------------------------------------------------
National Muni Bond 42,241 23,673 37,577 2,273 30,200 1,300
----------------------------------------------------------------------------------------------
New York Tax-Free 38,993 24,397 19,708 1,281 51,300 3,900
----------------------------------------------------------------------------------------------
Ohio Municipal Bond 42,050 0 29,884 3,834 26,000 3,500
----------------------------------------------------------------------------------------------
Real Estate 6,946 0 12,709 1,631 16,600 2,300
Investment
----------------------------------------------------------------------------------------------
Small Co. Opp'ty 6,334 0 14,615 2,156 18,200 2,800
----------------------------------------------------------------------------------------------
-------------
+ Reflects sales charges paid by the Gradison Government Income Fund, the
predecessor to the Fund for Income, to McDonald Securities for the six
months ended July 1, 1997. (The Gradison Government Income Fund eliminated
its sales charge effective July 7, 1997.)
99
<PAGE>
----------------------------------------------------------------------------------------------
1999 1998 1997
----------------------------------------------------------------------------------------------
Underwriting Amount Underwriting Amount Underwriting Amount
Commissions Retained Commissions Retained Commission Retained
----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Special Value 21,072 7,437 58,381 3,770 76,000 4,600
----------------------------------------------------------------------------------------------
Stock Index 198,404 0 123,439 17,022 91,700 12,800
----------------------------------------------------------------------------------------------
Value 89,154 0 18,412 2,472 12,800 2,000
----------------------------------------------------------------------------------------------
</TABLE>
The following table reflects miscellaneous service fees paid to an affiliate by
Gradison Government Income Fund, Gradison Established Value Fund and Gradison
Opportunity Value Fund, predecessor funds to the Victory Fund for Income,
Victory Established Value Fund and Victory Small Company Opportunity Fund,
respectively.
<TABLE>
<CAPTION>
----------------------- ------------------- ------------ ------------ ------------ -------------
Fiscal
Expense Year Ended 1999 1998 1997
----------------------- ------------------- ------------ ------------ ------------ -------------
<S> <C> <C> <C> <C> <C>
Gradison Government Data processing December 31 N/A $39,970 $40,302
Income Fund services
----------------------- ------------------- ------------ ------------ ------------ -------------
Gradison Government Shareholder December 31 N/A $59,992 $53,667
Income Fund servicing
personnel costs
----------------------- ------------------- ------------ ------------ ------------ -------------
Gradison Established Transfer agent March 31 $418,827 $384,111 $333,673
Value Fund and accounting
services
----------------------- ------------------- ------------ ------------ ------------ -------------
Gradison Opportunity Transfer agent March 31 $195,530 $384,111 $154,756
Value Fund and accounting
services
----------------------- ------------------- ------------ ------------ ------------ -------------
</TABLE>
Transfer Agent.
State Street Bank and Trust Company ("State Street") serves as transfer agent
for the Funds. Boston Financial Data Services, Inc. serves as the dividend
disbursing agent and shareholder servicing agent for the Funds, pursuant to a
Transfer Agency and Service Agreement. Under its agreement with the Trust, State
Street has agreed (1) to issue and redeem shares of the Funds; (2) to address
and mail all communications by the Funds to their shareholders, including
reports to shareholders, dividend and distribution notices, and proxy material
for its meetings of shareholders; (3) to respond to correspondence or inquiries
by shareholders and others relating to its duties; (4) to maintain shareholder
accounts and certain sub-accounts; and (5) to make periodic reports to the
Trustees concerning the Trust's operations.
Shareholder Servicing Plan.
Payments made under the Shareholder Servicing Plan to Shareholder Servicing
Agents (which may include affiliates of the Adviser and each Sub-Adviser) are
for administrative support services to customers who may from time to time
beneficially own shares, which services may include: (1) aggregating and
processing purchase and redemption requests for shares from customers and
transmitting promptly net purchase and redemption orders to our distributor or
transfer agent; (2) providing customers with a service that invests the assets
of their accounts in shares pursuant to specific or pre-authorized instructions;
(3) processing dividend and distribution payments on behalf of customers; (4)
providing information periodically to customers showing their positions in
shares; (5) arranging for bank wires; (6) responding to customer inquiries; (7)
providing sub-accounting with respect to shares beneficially owned by customers
or providing the information to the Funds as necessary for sub-accounting; (8)
if required by law, forwarding shareholder communications from us (such as
proxies, shareholder reports, annual and semi-annual financial statements and
dividend, distribution and tax notices) to customers; (9) forwarding to
customers proxy statements and proxies containing any proposals which require a
shareholder vote; and (10) providing such other similar services as we may
reasonably request to the extent you are permitted to do so under applicable
statutes, rules or regulations.
Distribution and Service Plan.
"Defensive" Rule 12b-1 Plan. The Trust has adopted a Distribution and Service
Plan (the "Plan") pursuant to Rule 12b-1 under the 1940 Act (the "Rule 12b-1")
on behalf of the following: Class A shares of the Balanced, Convertible
Securities, Diversified Stock, Established Value, Financial Reserves, Fund for
Income, Growth,
100
<PAGE>
Institutional Money Market, Intermediate Income, International Growth,
Investment Quality Bond, Lakefront, LifeChoice, Limited Term Income, National
Municipal Bond, New York Tax-Free, Ohio Municipal Bond, Ohio Municipal Money
Market, Real Estate Investment, Small Company Opportunity, Special Value, Stock
Index and Value Funds; the Class G shares of the Stock Index Fund; and the
Investor and Select shares of the Institutional Money Market and U.S. Government
Obligations Funds. Rule 12b-1 provides in substance that a mutual fund may not
engage directly or indirectly in financing any activity that is primarily
intended to result in the sale of shares of such mutual fund except pursuant to
a plan adopted by the fund under Rule 12b-1. The Board of Trustees has adopted
the Plan to allow the Adviser, any Sub-Adviser and the Distributor to incur
certain expenses that might be considered to constitute indirect payment by the
Funds of distribution expenses. No separate payments are authorized to be made
by the Funds pursuant to the Plan. Under the Plan, if a payment to the Advisers
or a Sub-Adviser of management fees or to the Distributor of administrative fees
should be deemed to be indirect financing by the Trust of the distribution of
their shares, such payment is authorized by the Plan.
The Plan specifically recognizes that the Adviser, any Sub-Adviser or the
Distributor, directly or through an affiliate, may use its fee revenue, past
profits, or other resources, without limitation, to pay promotional and
administrative expenses in connection with the offer and sale of shares of the
Funds. In addition, the Plan provides that the Adviser, a Sub-Adviser and the
Distributor may use their respective resources, including fee revenues, to make
payments to third parties that provide assistance in selling the Funds' shares,
or to third parties, including banks, that render shareholder support services.
The Plan has been approved by the Board of Trustees. As required by Rule 12b-1,
the Trustees carefully considered all pertinent factors relating to the
implementation of the Plan prior to its approval, and have determined that there
is a reasonable likelihood that the Plan will benefit the Funds and their
shareholders. In particular, the Trustees noted that the Plan does not authorize
payments by the Funds other than the advisory and administrative fees authorized
under the investment advisory and administration agreements. To the extent that
the Plan gives the Adviser, a Sub-Adviser or the Distributor greater flexibility
in connection with the distribution of shares of the Funds, additional sales of
the Funds' shares may result. Additionally, certain shareholder support services
may be provided more effectively under the Plan by local entities with whom
shareholders have other relationships.
Class G Share Rule 12b-1 Plan. The Trust has adopted a Class G share Rule 12b-1
Distribution and Service Plan, pursuant to which Class G shares of each of the
Diversified Stock, Established Value, Fund for Income, Growth, Intermediate
Income, Investment Quality Bond, International Growth, National Municipal Bond,
New York Tax-Free, Ohio Municipal Bond, Special Value, Small Company Opportunity
and Value Funds pay the Distributor a service fee of up to 0.25%. In addition,
Class G shares of the Gradison Government Reserves Fund pay the Distributor a
distribution fee of up to 0.10%, and Class G shares of each of the Diversified
Stock, Established Value, Growth, Special Value, International Growth, Small
Company Opportunity and Value Funds pay the Distributor a distribution fee of up
to 0.25%.
The Distributor may use Rule 12b-1 fees for: (a) costs of printing and
distributing each such Fund's prospectus, statement of additional information
and reports to prospective investors in these Funds; (b) costs involved in
preparing, printing and distributing sales literature pertaining to these Funds;
(c) an allocation of overhead and other branch office distribution-related
expenses of the Distributor; (d) payments to persons who provide support
services in connection with the distribution of each such Fund's Class G shares,
including but not limited to, office space and equipment, telephone facilities,
answering routine inquiries regarding the Funds, processing shareholder
transactions and providing any other shareholder services not otherwise provided
by the Funds' transfer agent; (e) accruals for interest on the amount of the
foregoing expenses that exceed the distribution fee and the CDSCs received by
the Distributor; and (f) any other expense primarily intended to result in the
sale of the Funds' Class G shares, including, without limitation, payments to
salesmen and selling dealers at the time of the sale of such shares, if
applicable, and continuing fees to each such salesmen and selling dealers, which
fee shall begin to accrue immediately after the sale of such shares.
The amount of the Rule 12b-1 fees payable by any such Fund under the Rule 12b-1
Plan is not related directly to expenses incurred by the Distributor and the
Plan does not obligate the Funds to reimburse the Distributor for such expenses.
The fees set forth in the Rule 12b-1 Plan will be paid by each such Fund to the
Distributor unless and until the Plan is terminated or not renewed with respect
to such Fund; any distribution or service expenses incurred by the Distributor
on behalf of the Funds in excess of payments of the distribution fees specified
above which the
101
<PAGE>
Distributor has accrued through the termination date are the sole responsibility
and liability of the Distributor and not an obligation of any such Fund.
The Rule 12b-1 Plan specifically recognizes that either the Adviser or the
Distributor, directly or through an affiliate, may use its fee revenue, past
profits, or other resources, without limitation, to pay promotional and
administrative expenses in connection with the offer and sale of Class G shares
of these Funds. In addition, the Rule 12b-1 Plan provides that the Adviser and
the Distributor may use their respective resources, including fee revenues, to
make payments to third parties that provide assistance in selling these Funds'
Class G shares, or to third parties, including banks, that render shareholder
support services.
The Rule 12b-1 Plan was approved by the Trustees, including the independent
Trustees, at a meeting called for that purpose. As required by Rule 12b-1, the
Trustees carefully considered all pertinent factors relating to the
implementation of the Rule 12b-1 Plan prior to its approval, and have determined
that there is a reasonable likelihood that the Plan will benefit the Funds and
their Class G shareholders. To the extent that the Rule 12b-1 Plan gives the
Adviser or the Distributor greater flexibility in connection with the
distribution of Class G shares of the Funds, additional sales of these shares
may result. Additionally, certain Class G shareholder support services may be
provided more effectively under the Rule 12b-1 Plan by local entities with whom
shareholders have other relationships. The following table reflects the payment
of Rule 12b-1 fees to the Distributor pursuant to the Rule 12b-1 Plan during the
fiscal year ended October 31, 1999.
---------------------------------------- ---------------------------------------
1999
---------------------------------------- ------------------- -------------------
Fund -- Class G Shares Distribution Fees Service Fees
---------------------------------------- ------------------- -------------------
Diversified Stock $141,443 $141,444
---------------------------------------- ------------------- -------------------
Established Value 599,449 599,450
---------------------------------------- ------------------- -------------------
Fund for Income 0 363,244
---------------------------------------- ------------------- -------------------
Gradison Government Reserves * 0 2,109,294
---------------------------------------- ------------------- -------------------
International Growth 50,543 50,544
---------------------------------------- ------------------- -------------------
Ohio Municipal Bond 0 181,761
---------------------------------------- ------------------- -------------------
Small Company Opportunity 176,279 176,279
---------------------------------------- ------------------- -------------------
Fund Accountant.
BISYS Fund Services Ohio, Inc. serves as Fund Accountant for the all of the
Funds pursuant to a fund accounting agreement with the Trust dated June 1, 1999.
The Fund Accountant calculates each Fund's NAV, the dividend and capital gain
distribution, if any, and the yield. The Fund Accountant also provides a current
security position report, a summary report of transactions and pending
maturities, a current cash position report, and maintains the general ledger
accounting records for the Funds. With respect to each Fund other than the
LifeChoice Funds, the Fund Accountant is entitled to receive annual fees of
0.03% of the first $100 million of each Fund's daily average net assets, 0.02%
of the next $100 million of its daily average net assets, and 0.01% of the next
$300 million and 0.005% of daily average net assets over $500 million. These
annual fees are subject to a minimum monthly assets charge of $2,500 per taxable
Fund, $2,917 per tax-free Fund and $3,333 per international Fund. With respect
to the LifeChoice Funds, the Fund Accountant is entitled to receive annual fees
of 0.02% of the first $100 million of a LifeChoice Fund's average daily net
assets and 0.01% of assets over $100 million. Annual fund accounting fees for
the LifeChoice Funds are subject to a minimum monthly assets charge of $1,666.66
per LifeChoice Fund. With respect to each Fund (including the LifeChoice Funds),
the charges described above do not include out-of-pocket expenses or multiple
class charges of $833 per month assessed for each class of shares after the
first class.
For the three fiscal years ended October 31, 1999, the Fund Accountant earned
the following fund accounting fees:
-------------------
* For the month ended October 31, 1999, the Gradison Government Reserves Fund
paid $172,892 in service fees pursuant to the Rule 12b-1 Plan.
102
<PAGE>
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------
1999 1998 1997
----------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Balanced $156,195 $134,087 $89,610
----------------------------------------------------------------------------------------------
Convertible Securities 44,702 38,972
----------------------------------------------------------------------------------------------
Diversified Stock 158,881 148,523 119,767
----------------------------------------------------------------------------------------------
Established Value 53,878
----------------------------------------------------------------------------------------------
Federal Money Market 104,540 65,217
----------------------------------------------------------------------------------------------
Financial Reserves 105,892 94,228 88,998
----------------------------------------------------------------------------------------------
Fund for Income 69,375 56,497 48,449
----------------------------------------------------------------------------------------------
Gradison Government Reserves * 137,587 N/A N/A
----------------------------------------------------------------------------------------------
Growth 78,057 63,019 51,705
----------------------------------------------------------------------------------------------
Institutional Money Market 120,329 107,693 102,437
----------------------------------------------------------------------------------------------
Intermediate Income 98,898 77,887 67,260
----------------------------------------------------------------------------------------------
International Growth 77,447 66,653 70,707
----------------------------------------------------------------------------------------------
Investment Quality Bond 93,846 73,539 57,053
----------------------------------------------------------------------------------------------
Lakefront 35,918 35,620 24,280
----------------------------------------------------------------------------------------------
LifeChoice Conservative Investor 42,259 36,056 N/A
----------------------------------------------------------------------------------------------
LifeChoice Growth Investor 38,219 33,290 N/A
----------------------------------------------------------------------------------------------
LifeChoice Moderate Investor 42,209 36,454 N/A
----------------------------------------------------------------------------------------------
Limited Term Income 66,656 41,478 33,524
----------------------------------------------------------------------------------------------
National Municipal Bond 57,954 62,558 57,061
----------------------------------------------------------------------------------------------
New York Tax-Free 51,138 52,402 49,575
----------------------------------------------------------------------------------------------
Ohio Municipal Bond 74,043 51,323 46,445
----------------------------------------------------------------------------------------------
Ohio Municipal Money Market 104,079 96,726 99,579
----------------------------------------------------------------------------------------------
Prime Obligations 112,910 97,944 92,710
----------------------------------------------------------------------------------------------
Real Estate Investment 35,204 34,750 15,520
----------------------------------------------------------------------------------------------
Small Company Opportunity 42,588 41,005 39,041
----------------------------------------------------------------------------------------------
Special Value 81,552 97,582 87,704
----------------------------------------------------------------------------------------------
Stock Index 156,204 153,032 120,844
----------------------------------------------------------------------------------------------
Tax-Free Money Market 97,408 93,791 79,661
----------------------------------------------------------------------------------------------
U.S. Government Obligations 112,492 106,407 97,657
----------------------------------------------------------------------------------------------
Value 96,760 92,444 83,739
----------------------------------------------------------------------------------------------
</TABLE>
Custodian.
General. Cash and securities owned by each of the Funds are held by Key Trust as
custodian pursuant to a Custodian Agreement dated August 1, 1996. Under this
Agreement, Key Trust (1) maintains a separate account or accounts in the name of
each Fund; (2) makes receipts and disbursements of money on behalf of each Fund;
(3) collects and receives all income and other payments and distributions on
account of portfolio securities; (4) responds to correspondence from security
brokers and others relating to its duties; and (5) makes periodic reports to the
Trustees concerning the Trust's operations. Key Trust may, with the approval of
a Fund and at the custodian's own expense, open and maintain a sub-custody
account or accounts on behalf of a Fund, provided that Key Trust shall remain
liable for the performance of all of its duties under the Custodian Agreement.
Cash and securities owned by the Funds are also held by The Bank of New York
("BNY") as sub-custodian, and certain foreign sub-custodians, pursuant to a
Global Custody Agreement dated October 14, 1999.
Foreign Custody. Rule 17f-5 under the 1940 Act, which governs the custody of
investment company assets outside the United States, allows a mutual fund's
board of directors to delegate to a "Foreign Custody Manager" the selection and
monitoring of foreign sub-custodian arrangements for the Trust's assets.
Accordingly, the Board delegated these responsibilities to BNY pursuant to a
Foreign Custody Manager Agreement dated February 17, 2000. As Foreign Custody
Manager, BNY must (a) determine that Trust assets held by a foreign
sub-custodian will
-------------------
* For the month ended October 31, 1999, the Gradison Government Reserves
Fund paid $10,843 in fund accounting fees.
103
<PAGE>
be subject to reasonable care, based on the standards applicable to custodians
in the relevant market; (b) determine that the Trust's foreign custody
arrangements are governed by written contracts in compliance with Rule 17f-5
(or, in the case of a compulsory depository, by such a contract and/or
established practices or procedures); and (c) monitor the appropriateness of
these arrangements and any material change in the relevant contract, practices
or procedures. In determining appropriateness, BNY will not evaluate a
particular country's investment risks, such as (a) the use of compulsory
depositories, (b) such country's financial infrastructure, (c) such country's
prevailing custody and settlement practices, (d) nationalization, expropriation
or other governmental actions, (e) regulation of the banking or securities
industry, (f) currency controls, restrictions, devaluations or fluctuations, and
(g) market conditions that affect the orderly execution of securities
transactions or affect the value of securities. BNY will provide to the Trust
quarterly written reports regarding the Trust's foreign custody arrangements.
Independent Accountants.
PricewaterhouseCoopers LLP, 100 East Broad Street, Columbus, Ohio 43215, serves
as the Trust's auditors.
Legal Counsel.
Kramer Levin Naftalis & Frankel LLP, 919 Third Avenue, New York, New York 10022,
is the counsel to the Trust.
Expenses.
The Funds bear the following expenses relating to its operations, including:
taxes, interest, brokerage fees and commissions, fees of the Trustees, SEC fees,
state securities qualification fees, costs of preparing and printing
prospectuses for regulatory purposes and for distribution to current
shareholders, outside auditing and legal expenses, advisory and administration
fees, fees and out-of-pocket expenses of the custodian and transfer agent,
certain insurance premiums, costs of maintenance of the Funds' existence, costs
of shareholders' reports and meetings, and any extraordinary expenses incurred
in the Funds' operation.
Additional Information
Description of Shares.
The Trust is a Delaware business trust. The Delaware Trust Instrument authorizes
the Trustees to issue an unlimited number of shares, which are units of
beneficial interest, without par value. The Trust currently has six series of
shares, which represent interests in the Funds and their respective classes
listed below (described in separate Statements of Additional Information) in
addition to those listed on the first page of this SAI. These Funds are not
currently in operation.
1. Equity Income Fund, Class A Shares
2. Maine Municipal Bond Fund (Intermediate), Class A Shares
3. Maine Municipal Bond Fund (Short-Intermediate), Class A Shares
4. Michigan Municipal Bond Fund, Class A Shares
5. National Municipal Bond Fund (Long), Class A Shares
6. National Municipal Bond Fund (Short-Intermediate), Class A Shares
The Trust Instrument authorizes the Trustees to divide or redivide any unissued
shares of the Trust into one or more additional series by setting or changing in
any one or more aspects their respective preferences, conversion or other
rights, voting power, restrictions, limitations as to dividends, qualifications,
and terms and conditions of redemption.
Shares have no subscription or preemptive rights and only such conversion or
exchange rights as the Trustees may grant in their discretion. When issued for
payment as described in the Prospectuses and this SAI, the Trust's shares will
be fully paid and non-assessable. In the event of a liquidation or dissolution
of the Trust, shares of a Fund are entitled to receive the assets available for
distribution belonging to the Fund, and a proportionate distribution, based upon
the relative asset values of the respective Funds, of any general assets not
belonging to any particular Fund that are available for distribution.
104
<PAGE>
Additional Information about the Nasdaq-100 Index(R) Fund.
The Nasdaq-100 Index(R) Fund is not sponsored, endorsed, sold or promoted by The
Nasdaq Stock Market, Inc. ("Nasdaq" and, with its affiliates, the
"Corporations"). The Corporations have not passed on the legality or suitability
of, or the accuracy or adequacy of descriptions and disclosures relating to, the
Fund. The Corporations make no representation or warranty, express or implied to
the owners of the Fund or any member of the public regarding the advisability of
investing in securities generally or in the Fund particularly, or the ability of
the Nasdaq-100 Index(R) to track general stock market performance. The
Corporations' only relationship to the Trust is in the licensing of the
Nasdaq-100(R), Nasdaq-100 Index(R), and Nasdaq(R) trademarks or service marks,
and certain trade names of the Corporations and the use of the Nasdaq-100
Index(R) which is determined, composed and calculated by Nasdaq without regard
to Licensee or the Fund. Nasdaq has no obligation to take the needs of the
Licensee or the owners of the Fund into consideration in determining, composing
or calculating the Nasdaq-100 Index(R). The Corporations are not responsible for
and has not participated in the determination of the timing of, prices at, or
quantities of the Fund to be issued or in the determination or calculation of
the equation by which the Fund is to be converted into cash. The Corporations
have no liability in connection with the administration, marketing or trading of
the Fund.
The Corporations do not guarantee the accuracy and/or uninterrupted calculation
of the Nasdaq-100 Index(R) or any data included therein. The Corporations make
no warranty, express or implied, as to results to be obtained by the Trust,
owners of the Nasdaq-100 Index(R) Fund, or any other person or entity from the
use of the Nasdaq-100 Index(R) or any data included therein. The Corporations
make no express or implied warranties, and expressly disclaim all warranties of
merchantability or fitness for a particular purpose or use with respect to the
Nasdaq-100 Index(R) or any data included therein. Without limiting any of the
foregoing, in no event shall the Corporations have any liability for any lost
profits or special, incidental, punitive, indirect, or consequential damages,
even if notified of the possibility of such damages.
Principal Holders of Securities.
To the best knowledge of the Trust, the names and addresses of the holders of 5%
or more of the outstanding shares of each class of the Funds' Class A, Class G,
Investor Class and Select Class equity securities as of November 30, 1999, and
the percentage of the outstanding shares held by such holders are set forth in
the table below. To the best knowledge of the Trust, none of the indicated
shareholders were beneficial owners of those shares.
<TABLE>
<CAPTION>
------------------- ------------------------------------------------------------- -------------
Percent
Victory Fund Name and Address of Owner Owned of
Record
------------------- ------------------------------------------------------------- -------------
<S> <C> <C>
Balanced - Class A SNBOC and Company 96.62%
4900 Tiedeman Road
Cleveland, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Convertible Charles Schwab & Co., Special Custody Account #2 27.37%
Securities - FOB Customers, Attn: Mutual Funds Department, 101
Class A Montgomery Street
San Francisco, CA 94104-4122
------------------- ------------------------------------------------------------- -------------
Key Trust 37.28%
Attn: Jim Osborne, OH-01-49-0330, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Norman Foundation Inc 5.01%
147 E 48th Street
New York NY 10017-1223
------------------- ------------------------------------------------------------- -------------
Diversified Stock SNBOC and Company 73.86%
- Class A Attn: Jim Osborne, OH-01-49-0330, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Diversified McDonald & Co. Securities, The Exclusive Benefit of 98.53%
Stock- Class G Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, Ohio 45202-3110
------------------- ------------------------------------------------------------- -------------
105
<PAGE>
------------------- ------------------------------------------------------------- -------------
Percent
Victory Fund Name and Address of Owner Owned of
Record
------------------- ------------------------------------------------------------- -------------
<S> <C> <C>
Established McDonald & Co. Securities, The Exclusive Benefit of 98.65%
Value- Class G Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, OH 45202
------------------- ------------------------------------------------------------- -------------
Federal Money KeyCorp Investment Products 85.78%
Market - Investor Attn: Robin Knutsen, 127 Public Square
Class Cleveland, OH 44114-1216
------------------- ------------------------------------------------------------- -------------
Federal Money KeyCorp Investment Products 97.02%
Market - Select Attn: Robin Knutsen, 127 Public Square
Class Cleveland, OH 44114-1216
------------------- ------------------------------------------------------------- -------------
Financial SNBOC and Company 92.19%
Reserves Attn: Jim Osborne OH-01-49-0330, 4900 Tiedeman Road
Cleveland, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Fund for Income Key Trust Cleveland 57.11%
-- Class A PO Box 93971, 4900 Tiedeman Road
Cleveland, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Metalex Manufacturing Inc., Profit Sharing Plan, 8.27%
5750 Cornell Road
Cincinnati OH 45242-2083
------------------- ------------------------------------------------------------- -------------
Fund for Income McDonald & Co. Securities, The Exclusive Benefit of 95.78%
-- Class G Customers
Attn: Jeff Carter, c/o Gradison Division
580 Walnut Street
Cincinnati, Ohio 45202-3110
------------------- ------------------------------------------------------------- -------------
Gradison Gov't McDonald & Co. Securities, The Exclusive Benefit of 98.69%
Reserves Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, OH 45202
------------------- ------------------------------------------------------------- -------------
Growth SNBOC and Company 88.64%
PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Institutional KeyCorp Investment Products 6.19%
Money Market - Attn: Robin Knutsen, 127 Public Square
Investor Shares Cleveland, OH 44114-1216
------------------- ------------------------------------------------------------- -------------
Liefke & Co. 72.22%
c/o KeyCorp Trust Services, PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
McDonald & Co. Securities, The Exclusive Benefit of 7.41%
Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, Ohio 45202-3110
------------------- ------------------------------------------------------------- -------------
American Axel & Manufacturing Inc., Attn Mark Umlauf 6.45%
1840 Holbrook Avenue
Detroit MI 48212-3442
------------------- ------------------------------------------------------------- -------------
Institutional KeyCorp Investment Products 6.82%
Money Market - Attn: Robin Knutsen, 127 Public Square
Select Shares Cleveland, OH 44114-1216
------------------- ------------------------------------------------------------- -------------
BISYS Fund Services Ohio Inc., The Benefit of our Customers 92.72%
Attn: Victory Cash Control Dept., 3435 Stelzer Road
Columbus, OH 43219-6004
------------------- ------------------------------------------------------------- -------------
Intermediate SNBOC and Company 96.85%
Income PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
International SNBOC and Company 87.39%
Growth - Class A PO Box 93971, 4900 Tiedeman Road
Cleveland, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
106
<PAGE>
------------------- ------------------------------------------------------------- -------------
Percent
Victory Fund Name and Address of Owner Owned of
Record
------------------- ------------------------------------------------------------- -------------
<S> <C> <C>
International McDonald & Co. Securities, The Exclusive Benefit of 95.81%
Growth- Class G Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, Ohio 45202-3110
------------------- ------------------------------------------------------------- -------------
Investment SNBOC and Company 82.87%
Quality Bond -- PO Box 93971, 4900 Tiedeman Road
Class A Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Lakefront SNBOC and Company 41.02%
PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
BISYS Fund Services 26.04%
Attn: Fund Administration & Reg. Serv., 3435 Stelzer Road
Columbus, OH 43219-6004
------------------- ------------------------------------------------------------- -------------
Merrill Lynch, For Sole Benefit of its Customers 23.10%
Attn: Fund Admin Team, 4800 Deer Lake Drive East 3rd Floor
Jacksonville, FL 32246-6484
------------------- ------------------------------------------------------------- -------------
LifeChoice - SNBOC and Company 93.86%
Conservative 4900 Tiedeman Road
Investor Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
LifeChoice - SNBOC and Company 91.67%
Growth Investor 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
CoreLink Financial Inc. 6.30%
PO Box 4054
Concord, CA 94524-4054
------------------- ------------------------------------------------------------- -------------
LifeChoice - SNBOC and Company 92.85%
Moderate Investor 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
CoreLink Financial Inc. 6.60%
PO Box 4054
Concord, CA 94524-4054
------------------- ------------------------------------------------------------- -------------
Limited Term SNBOC and Company 96.78%
Income PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
National Muni Key Trust Cleveland 29.76%
Bond - Class A PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Estate of Richard B Salomon 6.16%
Park Square Station, PO Box 15490
Stamford, CT 06901-0490
------------------- ------------------------------------------------------------- -------------
New York Tax-Free Key Trust Cleveland 18.79%
- Class A PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Ohio Muni Bond - SNBOC and Company 83.15%
Class A PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Ohio Muni Bond - McDonald & Co. Securities, The Exclusive Benefit of 98.85%
Class G Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, OH 45202
------------------- ------------------------------------------------------------- -------------
Ohio Municipal McDonald & Co. Securities, The Exclusive Benefit of 31.90%
Money Market Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, OH 45202
------------------- ------------------------------------------------------------- -------------
107
<PAGE>
------------------- ------------------------------------------------------------- -------------
Percent
Victory Fund Name and Address of Owner Owned of
Record
------------------- ------------------------------------------------------------- -------------
<S> <C> <C>
SNBOC and Company 17.71%
PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Private Banking, c/o Society National Bank 41.87%
Attn: Joe Caroscio, 2025 Ontario Street
Cleveland, OH 44115-1022
------------------- ------------------------------------------------------------- -------------
Prime Obligations Private Banking, c/o Society National Bank 39.65%
Attn: Joe Caroscio, 2025 Ontario Street
Cleveland, OH 44115-1022
------------------- ------------------------------------------------------------- -------------
McDonald & Co. Securities, The Exclusive Benefit of 21.53%
Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, Ohio 45202-3110
------------------- ------------------------------------------------------------- -------------
KeyCorp Investment Products 33.48%
Attn: Robin Knutsen, 127 Public Square
Cleveland, OH 44114-1216
------------------- ------------------------------------------------------------- -------------
Real Estate SNBOC and Company 87.37%
Investment -- PO Box 93971, 4900 Tiedeman Road
Class A Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Small Company SNBOC and Company 93.01%
Opportunity- PO Box 93971, 4900 Tiedeman Road
Class A Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Small Company McDonald & Co. Securities, The Exclusive Benefit of 99.42%
Opportunity- Customers
Class G Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, Ohio 45202-3110
------------------- ------------------------------------------------------------- -------------
Special Value - SNBOC and Company 94.59%
Class A PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Stock Index SBNOC and Company 95.48%
4900 Tiedeman Road
Cleveland, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Stock Index - McDonald & Co. Securities, The Exclusive Benefit of 99.86%
Class G Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, OH 45202
------------------- ------------------------------------------------------------- -------------
Tax-Free Money SNBOC and Company 25.65%
Market PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Private Banking, c/o Society National Bank 34.48%
Attn: Joe Caroscio, 2025 Ontario Street
Cleveland, OH 44115-1022
------------------- ------------------------------------------------------------- -------------
McDonald & Co. Securities, The Exclusive Benefit of 34.28%
Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, OH 45202
------------------- ------------------------------------------------------------- -------------
US Gov't SNBOC and Company 99.49%
Obligations - PO Box 93971, 4900 Tiedeman Road
Investor Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
US Gov't SNBOC and Company 14.27%
Obligations - PO Box 93971, 4900 Tiedeman Road
Select Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
Private Banking, c/o Society National Bank 30.92%
Attn: Joe Caroscio, 2025 Ontario Street
Cleveland, OH 44115-1022
------------------- ------------------------------------------------------------- -------------
108
<PAGE>
------------------- ------------------------------------------------------------- -------------
Percent
Victory Fund Name and Address of Owner Owned of
Record
------------------- ------------------------------------------------------------- -------------
<S> <C> <C>
KeyCorp Investment Products 40.49%
Attn: Robin Knutsen, 127 Public Square
Cleveland, OH 44114-1216
------------------- ------------------------------------------------------------- -------------
McDonald & Co. Securities, The Exclusive Benefit of 7.10%
Customers
Attn: Jeff Carter, c/o Gradison Division, 580 Walnut Street
Cincinnati, Ohio 45202-3110
------------------- ------------------------------------------------------------- -------------
Value -- Class A SNBOC and Company 95.83%
PO Box 93971, 4900 Tiedeman Road
Brooklyn, OH 44144-2338
------------------- ------------------------------------------------------------- -------------
</TABLE>
Shareholders of the Funds are entitled to one vote per share (with proportional
voting for fractional shares) on such matters as shareholders are entitled to
vote ("share-based voting"). Alternatively (except where the 1940 Act requires
share-based voting), the Board in its discretion may determine that shareholders
are entitled to one vote per dollar of NAV (with proportional voting for
fractional dollar amounts). Shareholders vote as a single class on all matters
except that (1) when required by the 1940 Act, shares shall be voted by
individual Fund or class, and (2) when the Trustees have determined that the
matter affects only the interests of one or more Funds, then only shareholders
of such Funds shall be entitled to vote thereon.
There will normally be no meetings of shareholders for the purpose of electing
Trustees unless and until such time as less than a majority of the Trustees have
been elected by the shareholders, at which time the Trustees then in office will
call a shareholders' meeting for the election of Trustees. A meeting shall be
held for such purpose upon the written request of the holders of not less than
10% of the outstanding shares. Upon written request by ten or more shareholders
meeting the qualifications of Section 16(c) of the 1940 Act, (i.e., persons who
have been shareholders for at least six months, and who hold shares having a NAV
of at least $25,000 or constituting 1% of the outstanding shares) stating that
such shareholders wish to communicate with the other shareholders for the
purpose of obtaining the signatures necessary to demand a meeting to consider
removal of a Trustee, the Trust will provide a list of shareholders or
disseminate appropriate materials (at the expense of the requesting
shareholders). Except as set forth above, the Trustees shall continue to hold
office and may appoint their successors.
Rule 18f-2 under the 1940 Act provides that any matter required to be submitted
to the holders of the outstanding voting securities of an investment company
such as the Trust shall not be deemed to have been effectively acted upon unless
approved by the holders of a majority of the outstanding shares of each Fund of
the Trust affected by the matter. For purposes of determining whether the
approval of a majority of the outstanding shares of a Fund will be required in
connection with a matter, a Fund will be deemed to be affected by a matter
unless it is clear that the interests of each Fund in the matter are identical,
or that the matter does not affect any interest of the Fund. Under Rule 18f-2,
the approval of an investment advisory agreement or any change in investment
policy would be effectively acted upon with respect to a Fund only if approved
by a majority of the outstanding shares of such Fund. However, Rule 18f-2 also
provides that the ratification of independent accountants, the approval of
principal underwriting contracts, and the election of Trustees may be
effectively acted upon by shareholders of the Trust voting without regard to
series.
Shareholder and Trustee Liability.
The Trust is organized as a Delaware business trust. The Delaware Business Trust
Act provides that a shareholder of a Delaware business trust shall be entitled
to the same limitation of personal liability extended to shareholders of
Delaware corporations, and the Delaware Trust Instrument provides that
shareholders of the Trust shall not be liable
109
<PAGE>
for the obligations of the Trust. The Delaware Trust Instrument also provides
for indemnification out of the trust property of any shareholder held personally
liable solely by reason of his or her being or having been a shareholder. The
Delaware Trust Instrument also provides that the Trust shall, upon request,
assume the defense of any claim made against any shareholder for any act or
obligation of the Trust, and shall satisfy any judgment thereon. Thus, the risk
of a shareholder incurring financial loss on account of shareholder liability is
considered to be extremely remote.
The Delaware Trust Instrument states further that no Trustee, officer, or agent
of the Trust shall be personally liable in connection with the administration or
preservation of the assets of the funds or the conduct of the Trust's business;
nor shall any Trustee, officer, or agent be personally liable to any person for
any action or failure to act except for his own bad faith, willful misfeasance,
gross negligence, or reckless disregard of his duties. The Declaration of Trust
also provides that all persons having any claim against the Trustees or the
Trust shall look solely to the assets of the Trust for payment.
Financial Statements.
The audited financial statements of the Trust, with respect to all the Funds,
for the fiscal period or year ended October 31, 1999 are incorporated by
reference herein. The audited financial statements of the Trust, with respect to
the Gradison Government Reserves Fund, for the fiscal year ended September 30,
1999 are also incorporated by reference herein. These financial statements have
been audited by PricewaterhouseCoopers LLP as set forth in their report
incorporated by reference herein, and are included in reliance upon such report
and on the authority of such firm as experts in auditing and accounting. The
audited financial statements of Gradison U.S. Government Reserves and Gradison
Government Income Fund for the fiscal years ended September 30, 1998 and
December 31, 1998, respectively, and the audited financial statements of the
Established Value Fund and Small Company Opportunity Fund for the fiscal year
ended March 31, 1999 are incorporated by reference herein. These financial
statements have been audited by Arthur Andersen L.L.P. as set forth in their
report incorporated by reference herein, and are included in reliance upon such
report and on the authority of such firm as experts in auditing and accounting.
Arthur Andersen LLP's address is 425 Walnut Street, Cincinnati, Ohio 45202.
Miscellaneous.
As used in the Prospectuses and in this SAI, "assets belonging to a fund" (or
"assets belonging to the Fund") means the consideration received by the Trust
upon the issuance or sale of shares of a Fund, together with all income,
earnings, profits, and proceeds derived from the investment thereof, including
any proceeds from the sale, exchange, or liquidation of such investments, and
any funds or payments derived from any reinvestment of such proceeds and any
general assets of the Trust, which general liabilities and expenses are not
readily identified as belonging to a particular Fund that are allocated to that
Fund by the Trustees. The Trustees may allocate such general assets in any
manner they deem fair and equitable. It is anticipated that the factor that will
be used by the Trustees in making allocations of general assets to a particular
Fund of the Trust will be the relative NAV of each respective Fund at the time
of allocation. Assets belonging to a particular Fund are charged with the direct
liabilities and expenses in respect of that Fund, and with a share of the
general liabilities and expenses of each of the Funds not readily identified as
belonging to a particular Fund, which are allocated to each Fund in accordance
with its proportionate share of the NAVs of the Trust at the time of allocation.
The timing of allocations of general assets and general liabilities and expenses
of the Trust to a particular Fund will be determined by the Trustees and will be
in accordance with generally accepted accounting principles. Determinations by
the Trustees as to the timing of the allocation of general liabilities and
expenses and as to the timing and allocable portion of any general assets with
respect to a particular Fund are conclusive.
As used in the Prospectuses and in this SAI, a "vote of a majority of the
outstanding shares" of the Fund means the affirmative vote of the lesser of (a)
67% or more of the shares of the Fund present at a meeting at which the holders
of more than 50% of the outstanding shares of the Fund are represented in person
or by proxy, or (b) more than 50% of the outstanding shares of the Fund. The
Trust is registered with the SEC as an open-end management investment company.
Such registration does not involve supervision by the SEC of the management or
policies of the Trust. The Prospectuses and this SAI omit certain of the
information contained in the Registration Statement filed with the SEC. Copies
of such information may be obtained from the SEC upon payment of the prescribed
fee.
110
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The Prospectuses and this SAI are not an offering of the securities described in
these documents in any state in which such offering may not lawfully be made. No
salesman, dealer, or other person is authorized to give any information or make
any representation other than those contained in the Prospectuses and this SAI.
111
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Appendix
Description of Security Ratings.
The NRSROs that may be utilized by the Adviser or the Sub-Advisers with regard
to portfolio investments for the Funds include Moody's, S&P, Thomson Financial
BankWatch ("Thomson") and Fitch IBCA, Duff & Phelps ("Fitch"). Set forth below
is a description of the relevant ratings of each such NRSRO. The NRSROs that may
be utilized by the Adviser or a Sub-Adviser and the description of each NRSRO's
ratings is as of the date of this SAI, and may subsequently change.
Moody's
Long-Term Debt Ratings (may be assigned, for example, to corporate and
municipal bonds). The following describes the five highest long-term debt
ratings by Moody's (Moody's applies numerical modifiers (e.g., 1, 2, and 3) in
each rating category to indicate the security's ranking within the category).
Aaa. Bonds which are rated Aaa are judged to be of the best quality. They carry
the smallest degree of investment risk and are generally referred to as "gilt
edged." Interest payments are protected by a large or by an exceptionally stable
margin and principal is secure. While the various protective elements are likely
to change, such changes as can be visualized are most unlikely to impair the
fundamentally strong position of such issues.
Aa. Bonds which are rated Aa are judged to be of high quality by all standards.
Together with the Aaa group they comprise what are generally known as high grade
bonds. They are rated lower than the best bonds because margins of protection
may not be as large as in Aaa securities or fluctuation of protective elements
may be of greater amplitude or there may be other elements present which make
the long-term risk appear somewhat larger than in Aaa securities.
A. Bonds which are rated A possess many favorable investment attributes and are
to be considered as upper-medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
which suggest a susceptibility to impairment some time in the future.
Baa. Bonds which are rated Baa are considered as medium grade obligations, i.e.,
they are neither highly protected nor poorly secured. Interest payments and
principal security appear adequate for the present but certain protective
elements may be lacking or may be characteristically unreliable over any great
length of time. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba. Bonds which are rated Ba are judged to have speculative elements - their
future cannot be considered as well assured. Often the protection of interest
and principal payments may be very moderate and thereby not well safeguarded
during both good and bad times in the future. Uncertainty of position
characterizes bonds in this class.
Short-Term Debt Ratings (may be assigned, for example, to commercial
paper, master demand notes, bank instruments, and letters of credit). The
following describes Moody's three highest short-term debt ratings.
Prime-1. Issuers rated Prime-1 (or supporting institutions) have a superior
capacity for repayment of senior short-term promissory obligations. Prime-1
repayment capacity will normally be evidenced by many of the following
characteristics:
- Leading market positions in well-established industries.
- High rates of return on funds employed.
- Conservative capitalization structures with moderate reliance on debt
and ample asset protection.
- Broad margins in earnings coverage of fixed financial charges and high
internal cash generation.
- Well-established access to a range of financial markets and assured
sources of alternate liquidity.
Prime-2. Issuers rated Prime-2 (or supporting institutions) have a strong
capacity for repayment of senior short-term debt obligations. This will normally
be evidenced by many of the characteristics cited above but to a lesser degree.
A-1
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Earnings trends and coverage ratios, while sound, may be more subject to
variation. Capitalization characteristics, while still appropriate, may be more
affected by external conditions. Ample alternate liquidity is maintained.
Prime-3. Issuers rated Prime-3 (or supporting institutions) have an acceptable
ability for repayment of senior short-term obligations. The effect of industry
characteristics and market compositions may be more pronounced. Variability in
earnings and profitability may result in changes in the level of debt protection
measurements and may require relatively high financial leverage. Adequate
alternate liquidity is maintained.
Short-Term Loan/Municipal Note Ratings. The following describes Moody's
two highest short-term loan/municipal note ratings.
MIG-1/VMIG-1. This designation denotes best quality. There is present strong
protection by established cash flows, superior liquidity support or
demonstrated broad-based access to the market for refinancing.
MIG-2/VMIG-2. This designation denotes high quality. Margins of protection
are ample although not so large as in the preceding group.
S&P
Long-Term Debt Ratings (may be assigned, for example, to corporate and
municipal bonds). The following describes the five highest long-term debt
ratings by S&P (S&P may apply a plus (+) or minus (-) to a particular rating
classification to show relative standing within that classification).
AAA. Debt rated AAA has the highest rating assigned by S&P. Capacity to pay
interest and repay principal is extremely strong.
AA. Debt rated AA has a very strong capacity to pay interest and repay principal
and differs from the higher rated issues only in small degree.
A. Debt rated A has a strong capacity to pay interest and repay principal
although it is somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than debt in higher rated categories.
BBB. Debt rated BBB is regarded as having an adequate capacity to pay interest
and repay principal. Whereas it normally exhibits adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay interest and repay principal for
debt in this category than in higher rated categories.
BB. Debt rated BB is regarded, on balance, as predominately speculative with
respect to capacity to pay interest and repay principal in accordance with the
terms of the obligation. While such debt will likely have some quality and
protective characteristics, these are outweighed by large uncertainties or major
risk exposure to adverse conditions.
Short-Term Debt Ratings (may be assigned, for example, to commercial
paper, master demand notes, bank instruments, and letters of credit). The
following describes S&P's three highest short-term debt ratings.
A-1. This designation indicates that the degree of safety regarding timely
payment is strong. Those issues determined to have extremely strong safety
characteristics are denoted with a plus sign (+).
A-2. Capacity for timely payment on issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designated "A-1."
A-3. Issues carrying this designation have adequate capacity for timely payment.
They are, however, more vulnerable to the adverse effects of changes in
circumstances than obligations carrying the higher designations.
A-2
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Short-Term Loan/Municipal Note Ratings. The following describes S&P's
two highest municipal note ratings.
SP-1. Very strong or strong capacity to pay principal and interest. Those
issues determined to possess overwhelming safety characteristics will be given
a plus (+) designation.
SP-2. Satisfactory capacity to pay principal and interest.
Thomson Short-Term Debt Ratings
Thomson ("TBW") Short-Term ratings are based upon a qualitative and quantitative
analysis of all segments of the organization including, where applicable,
holding company and operating subsidiaries. These Ratings do not constitute a
recommendation to buy or sell securities of any of these companies. Further,
Thomson does not suggest specific investment criteria for individual clients.
TBW Short-Term Ratings apply to commercial paper, other senior short-term
obligations and deposit obligations of the entities to which the rating has been
assigned. These Ratings apply only to unsecured instruments that have a maturity
of one year or less. TBW Short-Term Ratings specifically assess the likelihood
of an untimely payment of principal or interest.
TBW-1. The highest category; indicates a very high degree of likelihood that
principal and interest will be paid on a timely basis.
TBW-2. The second highest category; while the degree of safety regarding timely
repayment of principal and interest is strong, the relative degree of safety is
not as high as for issues rated "TBW-1."
TBW-3. The lowest investment grade category; indicates that while more
susceptible to adverse developments (both internal and external) than
obligations with higher ratings, capacity to service principal and interest in a
timely fashion is considered adequate.
TBW-4. The lowest rating category; this rating is regarded as non-investment
grade and therefore speculative.
Fitch Credit Ratings
Long-Term Debt -- Investment Grade
AAA. Highest credit quality. "AAA" ratings denote the lowest expectation of
credit risk. They are assigned only in case of exceptionally strong capacity for
timely payment of financial commitments. This capacity is highly unlikely to be
adversely affected by foreseeable events.
AA. Very high credit quality. "AA" ratings denote a very low expectation of
credit risk. They indicate very strong capacity for timely payment of
financial commitments. This capacity is not significantly vulnerable to
foreseeable events.
A. High credit quality. "A" ratings denote a low expectation of credit risk. The
capacity for timely payment of financial commitments is considered strong. This
capacity may, nevertheless, be more vulnerable to changes in circumstances or in
economic conditions than is the case for higher ratings.
BBB. Good credit quality. "BBB" ratings indicate that there is currently a low
expectation of credit risk. The capacity for timely payment of financial
commitments is considered adequate, but adverse changes in circumstances and in
economic conditions are more likely to impair this capacity. This is the lowest
investment-grade category.
A-3
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Long-Term Debt -- Speculative Grade
BB. Speculative. "BB" ratings indicate that there is a possibility of credit
risk developing, particularly as the result of adverse economic change over
time; however, business or financial alternatives may be available to allow
financial commitments to be met. Securities rated in this category are not
investment grade.
B. Highly speculative. "B" ratings indicate that significant credit risk is
present, but a limited margin of safety remains. Financial commitments are
currently being met; however, capacity for continued payment is contingent upon
a sustained, favorable business and economic environment.
CCC, CC, C. High default risk. Default is a real possibility. Capacity for
meeting financial commitments is solely reliant upon sustained, favorable
business or economic developments. A "CC" rating indicates that default of some
kind appears probable. "C" ratings signal imminent default.
DDD, DD, D. Default. The ratings of obligations in this category are based on
their prospects for achieving partial or full recovery in a reorganization or
liquidation of the obligor. While expected recovery values are highly
speculative and cannot be estimated with any precision, the following serve as
general guidelines. "DDD" obligations have the highest potential for recovery,
around 90%-100% of outstanding amounts and accrued interest. "DD" indicates
potential recoveries in the range of 50%-90%, and "D" the lowest recovery
potential, i.e., below 50%.
Entities rated in this category have defaulted on some or all of their
obligations. Entities rated "DDD" have the highest prospect for resumption of
performance or continued operation with or without a formal reorganization
process. Entities rated "DD" and "D" are generally undergoing a formal
reorganization or liquidation process; those rated "DD" are likely to satisfy a
higher portion of their outstanding obligations, while entities rated "D" have a
poor prospect for repaying all obligations.
Short-Term Debt
F1. Highest credit quality. Indicates the best capacity for timely payment
of financial commitments; may have an added "+" to denote any exceptionally
strong credit feature.
F2. Good credit quality. A satisfactory capacity for timely payment of
financial commitments, but the margin of safety is not as great as in the case
of the higher ratings.
F3. Fair credit quality. The capacity for timely payment of financial
commitments is adequate; however, near-term adverse changes could result in a
reduction to non-investment grade.
B. Speculative. Minimal capacity for timely payment of financial
commitments, plus vulnerability to near-term adverse changes in financial and
economic conditions.
C. High default risk. Default is a real possibility. Capacity for meeting
financial commitments is solely reliant upon a sustained, favorable business
and economic environment.
D. Default. Denotes actual or imminent payment default.
A-4
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Notes for Fitch Ratings:
"+" or "--" may be appended to a rating to denote relative status within major
rating categories. Such suffixes are not added to the "AAA" long-term rating
category, to categories below "CCC" or to short-term ratings other than "F1."
"NR" indicates that Fitch does not rate the issuer or issue in question.
"Withdrawn": A rating is withdrawn when Fitch deems the amount of information
available to be inadequate for rating purposes, or when an obligation matures,
is called, or refinanced.
Rating Watch: Ratings are placed on Rating Watch to notify investors that there
is a reasonable probability of a rating change and the likely direction of such
change. These are designated as "Positive," indicating a potential upgrade,
"Negative," for a potential downgrade, or "Evolving," if ratings may be raised,
lowered or maintained. Rating Watch is typically resolved over a relatively
short period.
A-5
