<PAGE>
As filed with the Securities and Exchange Commission on April 1, 1996
1933 Act Registration No. 33-10207
1940 Act Registration No. 811-4904
================================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-1A
REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933
---
Pre-Effective Amendment No._____
---
Post-Effective Amendment No. 19 X
---
and/or
REGISTRATION STATEMENT UNDER THE
INVESTMENT COMPANY ACT OF 1940
---
Amendment No. 19 X
---
IAI INVESTMENT FUNDS III, INC.
(Exact Name of Registrant as Specified in Charter)
3700 First Bank Place, P.O. Box 357
Minneapolis, Minnesota 55440
(Address of Principal Executive Offices) (Zip Code)
(612) 376-2700
(Registrant's Telephone Number, including Area Code)
Christopher J. Smith, Esq. Copy to:
3700 First Bank Place Michael J. Radmer, Esq.
P.O. Box 357 Dorsey & Whitney
Minneapolis, Minnesota 55440 220 South Sixth Street
(Name and Address of Agent for Service) Minneapolis, Minnesota 55402
It is proposed that this filing will become effective (check appropriate box)
immediately upon filing pursuant to paragraph (b)
---
on (date) pursuant to paragraph (b)
---
60 days after filing pursuant to paragraph (a)(1)
---
X on June 1, 1996 pursuant to paragraph (a)(1)
---
75 days after filing pursuant to paragraph (a)(2)
---
on (date) pursuant to paragraph (a)(2) of Rule 485
---
If appropriate, check the following box:
this post-effective amendment designates a new effective date for
--- a previously filed post-effective amendment
Registrant has registered an indefinite number of securities under the
Securities Act of 1933 pursuant to Rule 24f-2 under the Investment Company Act
of 1940, as amended. Rule 24f-2 Notices were last filed with the Commission on
March 28, 1996.
<PAGE>
IAI INVESTMENT FUNDS III, INC.
FORM N-1A
CROSS-REFERENCE SHEET
<TABLE>
<CAPTION>
Item Number Caption Prospectus Caption
- ----------- ------- ------------------
<C> <C> <S>
1 Cover Page................................. Cover Page of Prospectus
2 Synopsis................................... Fund Expense Information
3 Condensed Financial Information............ Financial Highlights; Investment Performance
4 General Description of Registrant.......... Investment Objectives and Policies; Description of Common
Stock; Additional Information
5 Management of the Fund..................... Fund Expense Information; Management; Additional
Information; Custodian, Transfer Agent and Dividend
Disbursing Agent
5A Management's Discussion of Fund Performance
Information................................ Information is contained in the Annual Report
6 Capital Stock and Other Securities......... Dividends, Distributions and Tax Status; Description of
Common Stock; Additional Information
7 Purchase of Securities Being Offered....... Distribution of Fund Shares; Computation of Net Asset
Value and Pricing; Purchase of Shares; Automatic
Investment Plan; Exchange Privilege; Automatic Exchange
Plan; Retirement Plans; Authorized Telephone Trading
8 Redemption or Repurchase................... Systematic Cash Withdrawal Plan; Redemption of Shares
9 Pending Legal Proceedings.................. Not Applicable
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Item Number Caption Statement of Additional Information
- ----------- ------- -----------------------------------
<C> <C> <S>
10 Cover Page............................ Cover Page of Statement of Additional Information
11 Table of Contents..................... Table of Contents
12 General Information and History....... History
13 Investment Objectives and Policies.... Investment Objectives and Policies; Investment Restrictions
14 Management of the Fund................ Management
15 Control Persons and Principal
Holders of Securities................. Management
16 Investment Advisory and Other Services Investment Advisory and Administrative Services
17 Brokerage Allocation.................. Portfolio Transactions and Allocation of Brokerage
18 Capital Stock and Other Securities.... Capital Stock
19 Purchase, Redemption and Pricing
of Securities Being Offered........... Net Asset Value and Public Offering Price
20 Tax Status............................ Tax Status
21 Underwriters.......................... Plan of Distribution
22 Calculation of Performance Data....... Investment Performance
23 Financial Statements.................. Financial Statements
</TABLE>
<PAGE>
PROSPECTUS DATED JUNE 1, 1996
IAI DEVELOPING COUNTRIES FUND
IAI INTERNATIONAL FUND
3700 FIRST BANK PLACE
P.O. BOX 357
MINNEAPOLIS, MINNESOTA 55440
TELEPHONE 1-612-376-2700
1-800-945-3863
IAI Developing Countries Fund ("Developing Countries Fund") and IAI
International Fund ("International Fund") are separate portfolios of IAI
Investment Funds III, Inc., a registered investment company authorized to issue
its shares of common stock in more than one series.
Developing Countries Fund seeks to achieve its objective of long-term capital
appreciation by investing primarily in equity securities of companies domiciled
or otherwise having substantial operations in developing countries. There can
be no assurance that Developing Countries Fund's investment objective will be
achieved.
International Fund's primary objective is capital appreciation, with current
income (principally from dividends) being the secondary objective.
International Fund will endeavor to achieve its objectives by investing, under
normal circumstances, at least 95% of its portfolio in equity and equity-related
securities of non-United States issuers.
Investing in Developing Countries Fund or International Fund involves
significant risks and considerations not normally associated with a fund which
invests primarily in securities of U.S. issuers and may be considered
speculative. Shares of either Developing Countries Fund or International Fund
are not designed to be a complete investment program. See "Fund Risk Factors"
on page 13.
This Prospectus sets forth concisely the information which a prospective
investor should know about each Fund before investing and it should be retained
for future reference. A "Statement of Additional Information" dated June 1,
1996, which provides a further discussion of certain areas in this Prospectus
and other matters which may be of interest to some investors, has been filed
with the Securities and Exchange Commission and is incorporated herein by
reference. For a free copy, call or write the Funds at the address or telephone
number shown on the inside back cover of this Prospectus.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
<PAGE>
TABLE OF CONTENTS
<TABLE>
<S> <C>
FUND EXPENSE INFORMATION................................................... 3
FUND DIRECTORS............................................................. 3
FINANCIAL HIGHLIGHTS....................................................... 4
INVESTMENT PERFORMANCE..................................................... 6
INVESTMENT OBJECTIVE AND POLICIES.......................................... 6
PORTFOLIO SECURITIES AND OTHER FUND INVESTMENT TECHNIQUES.................. 10
FUND RISK FACTORS.......................................................... 13
MANAGEMENT................................................................. 16
COMPUTATION OF NET ASSET VALUE AND PRICING................................. 16
PURCHASE OF SHARES......................................................... 17
RETIREMENT PLANS........................................................... 18
AUTOMATIC INVESTMENT PLAN.................................................. 18
REDEMPTION OF SHARES....................................................... 18
EXCHANGE PRIVILEGE......................................................... 19
AUTOMATIC EXCHANGE PLAN.................................................... 19
AUTHORIZED TELEPHONE TRADING............................................... 19
SYSTEMATIC CASH WITHDRAWAL PLAN............................................ 20
DIVIDENDS, DISTRIBUTIONS AND TAX STATUS.................................... 20
DESCRIPTION OF COMMON STOCK................................................ 21
COUNSEL AND AUDITORS....................................................... 22
CUSTODIAN, TRANSFER AGENT AND DIVIDEND DISBURSING AGENT.................... 22
ADDITIONAL INFORMATION..................................................... 22
</TABLE>
2
<PAGE>
FUND EXPENSE INFORMATION
SHAREHOLDER TRANSACTION EXPENSES
<TABLE>
<CAPTION>
Developing Countries International
Fund Fund
-------------------- -------------
<S> <C> <C>
Sales Load Imposed on Purchases......... None None
Sales Load Imposed on Reinvested
Dividends.............................. None None
Redemption Fees......................... None None
Exchange Fees........................... None None
</TABLE>
ANNUAL FUND OPERATING EXPENSES
(AS A PERCENTAGE OF AVERAGE DAILY NET ASSETS)
<TABLE>
<CAPTION>
Developing Countries International
Fund Fund
-------------------- -------------
<S> <C> <C>
Management Fee.......................... 2.00% 1.70%
Rule 12b-1 Distribution Fee............. None None
Other Expenses.......................... None None
---- ----
Total Fund Operating Expenses......... 2.00% 1.70%
</TABLE>
EXAMPLE:
Based upon the levels of Total Fund Operating Expenses listed above, you would
pay the following expenses on a $1,000 investment, assuming a five percent
annual return and redemption at the end of each period:
<TABLE>
<CAPTION>
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
<S> <C> <C> <C> <C>
Developing Countries Fund $20 $63 $108 $233
International Fund $17 $54 $ 92 $201
</TABLE>
The purpose of the above table is to assist you in understanding the
various costs and expenses that an investor in the Funds will bear directly or
indirectly. Because of a change in each Fund's fee structure effective April 1,
1996, the information in the table has been restated to reflect each Fund's
current fees. THE EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR
FUTURE EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN.
FUND DIRECTORS
Madeline Betsch Richard E. Struthers
W. William Hodgson J. Peter Thompson
George R. Long Charles H. Withers
Noel P. Rahn
3
<PAGE>
FINANCIAL HIGHLIGHTS
The following information has been audited by KMPG Peat Marwick LLP, independent
auditors, whose report is included in the Fund's Annual Report. The financial
statements in the Annual Report are incorporated by reference in (and are a part
of) the Statement of Additional Information. Such Annual Report may be obtained
by shareholders on request from the Fund at no charge.
DEVELOPING COUNTRIES FUND
<TABLE>
<CAPTION>
<S> <C>
Period from
2/10/95(1)
to
1/31/96
-----------
NET ASSET VALUE:
Beginning of period $ 10.00
--------
OPERATIONS:
Net investment income --
Net realized and unrealized gains .83
(losses) --------
Total from operations .83
--------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net realized gains (.27)
--------
Total distributions (.27)
--------
NET ASSET VALUE:
End of period $ 10.56
========
Total investment return * 8.53%
Net assets at end of period (000's $ 7,357
omitted)
RATIOS:
Expenses to average daily net 2.15%**
assets***
Expenses to average daily net assets
(net of expenses paid indirectly) 2.00%**
Net investment income to average net .04%**
assets***
Portfolio turnover rate (excluding 41.9%
short-term securities)
</TABLE>
- ------------------
* Total investment return is based on the change in net asset value of a
share during the period and assumes reinvestment of all distributions at
net asset value.
** Annualized
*** The Fund's adviser voluntarily waived $45,293 in expenses for the period
ended January 31, 1996. If the Fund had been charged these expenses, the
ratio of expenses to average daily net assets would have been 3.42% and the
ratio of net investment income to average daily net assets would have been
(1.23%). The ratio of expenses to average daily net assets includes
expenses paid indirectly by the Fund.
(1) Commencement of operations.
4
<PAGE>
INTERNATIONAL FUND
<TABLE>
<CAPTION>
YEAR ENDED YEARS ENDED MARCH 31,
JANUARY 31, -----------------------------------------------------------------------
1996 1995*** 1994 1993 1992 1991 1990 1989 1988(1)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
NET ASSET VALUE:
Beginning of period $ 12.06 $ 13.45 $ 11.22 $ 11.02 $ 10.75 $ 10.70 $ 10.99 $ 9.82 $ 10.02
------------------------------------------------------------------------------------------------
Operations:
Net investment income (loss) .19 .11 .06 .06 .15 .30 .11 .12 (.01)
Net realized and unrealized
gains (losses) 2.17 (.62) 2.56 .60 .67 (.11) .52 1.15 (.19)
------------------------------------------------------------------------------------------------
Total from operations 2.36 (.51) 2.62 .66 .82 .19 .63 1.27 (.20)
------------------------------------------------------------------------------------------------
Distributions to shareholders
from:
Net investment income (.52) - (.34) (.04) (.22) -- (.13) (.10) --
Net realized gains (.66) (.88) (.05) (.42) (.33) (.14) (.79) -- --
------------------------------------------------------------------------------------------------
Total distributions (1.18) (.88) (.39) (.46) (.55) (.14) (.92) (.10) --
------------------------------------------------------------------------------------------------
NET ASSET VALUE:
End of period $ 13.24 $ 12.06 $ 13.45 $ 11.22 $ 11.02 $ 10.75 $ 10.70 $ 10.99 $ 9.82
================================================================================================
Total investment return* 20.15% (4.14%) 23.85% 6.18% 8.10% 1.87% 5.59% 12.99% (1.80%)
Net assets at end of period
(000's omitted) $151,663 $136,474 $134,796 $59,248 $36,239 $34,421 $29,872 $16,374 $11,883
RATIOS:
Expenses to average net
assets**** 1.66% 1.72%** 1.74% 1.91% 2.00% 1.73% 1.88% 2.10% 2.10%**
Expenses to average net assets 1.66% N/A N/A N/A N/A N/A N/A N/A N/A
Net investment income (loss)
to average net assets 1.12% 1.04%** 0.87% 1.42% 1.39% 2.79% 1.01% 1.20% (.20%)**
Portfolio turnover rate
(excluding short-term
securities) 39.2% 27.6% 50.9% 28.6% 35.1% 41.3% 32.9% 71.0% 53.0%
- ---------------------------
</TABLE>
* Total investment return is based on the change in net asset value of a
share during the period and assumes reinvestment of all distributions at
net asset value.
** Annualized.
*** Period from April 1, 1994 to January 31, 1995. Reflects fiscal year-end
change from March 31 to January 31.
**** For fiscal 1996, the ratio of expenses to average net assets include
expenses paid indirectly by the Fund.
(1) Period from April 23, 1987 (commencement of operations) to March 31,
1988.
5
<PAGE>
INVESTMENT PERFORMANCE
From time to time the Funds may advertise performance data including
monthly, quarterly, yearly or cumulative total return and average annual total
return figures. All such figures are based on historical earnings and
performance and are not intended to be indicative of future performance. The
investment return on and principal value of an investment in the Funds will
fluctuate, so that an investor's shares, when redeemed, may be worth more or
less than their original cost.
Total return is the change in value of an investment in a Fund over a given
period, assuming reinvestment of any dividends and capital gains. A cumulative
total return reflects actual performance over a stated period of time. An
average annual total return is a hypothetical rate of return that, if achieved
annually, would have produced the same cumulative total return if performance
had been constant over the entire period.
For additional information regarding the calculation of such total return
figures, see "Investment Performance" in the Statement of Additional
Information. Further information about the performance of the International
Fund is contained in the Fund's Annual Report to shareholders which may be
obtained without charge from the Fund.
Comparative performance information may be used from time to time in
advertising or marketing a Fund's shares, including data on the performance of
other mutual funds, indexes or averages of other mutual funds, indexes of
related financial assets or data, and other competing investment and deposit
products available from or through other financial institutions. The
composition of these indexes, averages or products differs from that of the
Funds. The comparison of a Fund to an alternative investment should be made
with consideration of differences in features and expected performance. A Fund
may also note its mention in newspapers, magazines, or other media from time to
time. The Funds assume no responsibility for the accuracy of such data. For
additional information on the types of indexes, averages and periodicals that
might be utilized by the Funds in advertising and sales literature, see the
section "Investment Performance" in the Statement of Additional Information.
INVESTMENT OBJECTIVE AND POLICIES
DEVELOPING COUNTRIES FUND
The investment objective of Developing Countries Fund is to provide long-
term capital appreciation. The Fund seeks to achieve its objective by investing
primarily in equity securities of companies domiciled or otherwise having
substantial operations in developing countries. Such objective may not be
changed without shareholder approval. There can be no assurance that the Fund
will achieve its investment objective.
Under normal conditions, at least 65% of Developing Countries Fund's total
assets will be invested in securities of companies domiciled or otherwise having
substantial operations in developing countries. Developing countries include
those generally considered to be developing or emerging by the World Bank or the
International Finance Corporation, as well as countries that are classified by
the United Nations or otherwise regarded by their authorities as developing.
Countries presently not considered developing are: Australia, Austria, Belgium,
Canada, Denmark, Finland, France, Germany, Ireland, Italy, Japan, the
Netherlands, New Zealand, Norway, Spain, Sweden, Switzerland, the United Kingdom
and the United States. Developing Countries Fund may also invest in securities
of companies that derive 50% or more of their total revenue from either goods or
services produced in developing countries or sales made in such developing
countries and companies that maintain 50% or more of their assets in developing
countries. Determinations as to eligibility will be based on publicly available
information and inquiries made to the companies.
Developing Countries Fund will not necessarily seek to diversify
investments on a geographic basis or on the basis of the level of economic
development of any particular country. The Fund focuses on equity securities,
however, it may also invest in other types of instruments including debt
securities. The Fund has established no
6
<PAGE>
minimum rating criteria for the debt securities in which it may invest, and such
securities may not be rated at all for creditworthiness. Securities rated in the
medium to lower rating categories of nationally recognized statistical rating
organizations and unrated securities of comparable quality are predominantly
speculative with respect to the capacity to pay interest and repay principal in
accordance with the terms of the security and generally involve a greater
volatility of price than securities in higher rating categories. Such securities
are commonly referred to as junk bonds. Developing Countries Fund does not
currently intend to invest more than 5% of its net assets in junk bonds. See
"Investment Objective and Policies" in the Statement of Additional Information
for additional information regarding ratings of debt securities. In purchasing
such securities, the Fund will rely on IAI's judgment, analysis and experience
in evaluating the creditworthiness of an issuer of such securities. IAI will
take into consideration, among other things, the issuer's financial resources,
its sensitivity to economic conditions and trends, its operating history, the
quality of the issuer's management and regulatory matters. The Fund does not
intend to purchase debt securities that are in default or which IAI believes
will be in default.
Developing Countries Fund can use various techniques to increase or
decrease its exposure to changing security prices, interest rates, currency
exchange rates, commodity prices, or other factors that affect security values.
These techniques include buying and selling options and futures contracts,
entering into currency exchange contracts or swap agreements, purchasing indexed
securities, and selling securities short. Further information regarding such
techniques is contained in the Statement of Additional Information.
INTERNATIONAL FUND
The primary investment objective of International Fund is capital
appreciation with current income (principally from dividends) being a secondary
objective. The Fund pursues its objectives by investing, under normal
circumstances, at least 95% of its portfolio in equity and equity-related
securities (as more fully described below) of non-United States issuers. Such
objectives may not be changed without shareholder approval. There can be no
assurance that International Fund will achieve its investment objectives.
International Fund invests primarily in equity securities which have the
potential for above-average capital appreciation. Equity securities in which
International Fund will invest include, but are not limited to, common stocks,
securities convertible into common stock, preferred stock, partnership interests
and other equity participations.
When the anticipated total return from debt securities significantly
exceeds the anticipated total return from foreign equity securities, or for
temporary defensive purposes, up to 50% of International Fund's portfolio may be
comprised of cash, cash equivalents, bonds and other debt securities of both
United States and foreign issuers including:
(a) Bonds and other fixed income securities of United States issuers
which are rated within the four highest grades ("investment grade") by
Moody's Investors Service, Inc. ("Moody's") or Standard & Poor's
Corporation ("S&P").
(b) Corporate notes, bonds and other debt securities (such as
Eurocurrency instruments) of non-United States issuers judged by IAI as
being equivalent in repayment security to investment grade domestic
obligations, provided that no more than 35% of International Fund's
portfolio will be invested in foreign corporate debt securities with
maturities of greater than one year at the time of investment.
(c) United States dollars or securities with maturities of one year or
less of, or guaranteed by, the United States Government, its agencies and
instrumentalities.
(d) Foreign currencies or securities of, or guaranteed by, foreign
governments or the agencies or instrumentalities of foreign governments, or
securities issued by supranational agencies (such as the World Bank) that
are equivalent in repayment security to investment grade domestic
obligations, provided that not more than 35% of International Fund's
portfolio will be invested in foreign government obligations having a
maturity of greater than one year from the date of investment.
7
<PAGE>
(e) Short-term debt instruments of domestic and foreign issuers such as
commercial paper, bank certificates of deposit, bankers' acceptances, and
repurchase agreements for such securities (provided that International Fund
will not invest in foreign repurchase agreements and provided further that
the Fund may not invest more than 10% of its total assets in domestic
repurchase agreements and may invest in such repurchase agreements for
defensive purposes only). The commercial paper purchased by the Fund will
consist only of (i) obligations rated either Prime-2 or better by Moody's
or A-2 or better by S&P, or (ii) unrated or foreign obligations issued by
companies considered by IAI to offer equivalent repayment security.
International Fund is not required to maintain any particular
geographical or currency mix of its investments. Therefore, at any particular
time, the Fund's investment portfolio may be substantially or primarily invested
in securities of one or more selected markets where it appears that the
available return from investments in such markets will equal or exceed the
return available from investments in securities of other markets. Under normal
circumstances, however, the Fund currently intends to invest a significant
portion of its assets in countries that generally are representative of the
market capitalization of the securities of the countries comprising the Morgan
Stanley Capital International Europe, Australia, Far East ("EAFE") Index, an
unmanaged index of foreign common stocks. The following table sets forth the
approximate weighting of the EAFE Index based upon relative market
capitalizations of securities in countries comprising the EAFE Index as of
January 31, 1996, as well as the composition of International Fund's portfolio
as of the same date:
<TABLE>
<CAPTION>
INTERNATIONAL
EAFE FUND'S
INDEX PORTFOLIO
----- -------------
<S> <C> <C>
FAR EAST
Japan 40% 23%
Australia 3% 2%
Malaysia 2% 3%
Singapore 1% 3%
New Zealand ---- 2%
Hong Kong 3% 3%
EUROPE
United Kingdom 16% 18%
Spain 2% 8%
France 6% 8%
Belgium 1% 5%
Italy 3% 2%
Germany 7% 6%
Netherlands 4% 3%
CASH NA 2%
EMERGING MARKETS NA 3%
BONDS NA 3%
OTHER 12% 6%
--- ---
TOTAL 100% 100%
=== ===
</TABLE>
In making the allocation of assets among the various markets
throughout the world, the Fund considers such factors as prospects for relative
economic growth between foreign countries, expected levels of inflation and
interest rates, government policies influencing business conditions, the range
of individual investment opportunities available to international investors, and
other pertinent financial, tax, social, political and national
8
<PAGE>
factors, all in relation to the prevailing prices of securities in each country
or region. Nearly all foreign securities in which the Fund will invest will be
issued by foreign corporations or traded on foreign stock exchanges.
International Fund may from time to time invest more than 50% of its
total assets in Japan, although not less than four different foreign economies
will, under normal circumstances, at any time be represented in the Fund's
portfolio. Other economies in which management anticipates that the Fund may
from time to time concentrate more than 25% of its total assets include the
United Kingdom and Germany.
International Fund may invest in developing countries, which investments
involve exposure to economic structures that are generally less diverse and
mature than in the United States, and to political systems which may be less
stable. As stated in the "Investment Objective and Policies" section for
Developing Countries Fund, developing countries include those generally
considered to be developing or emerging by the World Bank or the International
Finance Corporation, as well as countries that are classified by the United
Nations or otherwise regarded by their authorities as developing. In the past,
markets of developing countries have been more volatile than the markets of
developed countries. Such markets, however, often have provided investors with
higher returns on their investments. International Fund will limit its
investments in developing countries not included in the EAFE Index to not more
than 15% of its total assets. For purposes of determining the country of an
issuer for percentage limitation purposes, the Fund considers where an issuer is
domiciled or otherwise has substantial operations.
International Fund can use various techniques to increase or decrease its
exposure to changing security prices, interest rates, currency exchange rates,
commodity prices, or other factors that affect security values. These
techniques include buying and selling options and futures contracts, entering
into currency exchange contracts or swap agreements, purchasing indexed
securities, and selling securities short. Further information regarding such
techniques is contained in the Statement of Additional Information.
THE ECONOMIES OF JAPAN AND THE UNITED KINGDOM
As discussed above, International Fund may from time to time concentrate
more than 25% of its total assets in the economies of Japan, the United Kingdom
and Germany. This section includes a general discussion of the economies of
Japan and the United Kingdom. Although the Fund may concentrate more than 25%
of its assets in the German economy, it does not expect to do so in the upcoming
fiscal year. A discussion of the economy of Germany is set forth in the
Statement of Additional Information.
Reporting, accounting and auditing standards in Japan, the United Kingdom
and Germany differ from American standards in important respects. Corporations
in such countries generally do not provide all of the disclosures required by
U.S. law and accounting practice, and such disclosure may be less timely than
required by such laws and practices.
Japan. Japan is politically organized as a democratic, parliamentary
republic and has a population of approximately 122 million. The Japanese
economy is heavily industrial and export-oriented. Although Japan is dependent
upon foreign economies for raw materials, Japan's balance of payments in recent
years has been strong and positive.
Japan has eight stock exchanges located throughout the country, but over
80% of all trading is conducted on the Tokyo Stock Exchange.
Prices of stocks listed on the Japanese stock exchange are quoted
continuously during regular business hours. Trading commissions are at fixed
scale rates which vary by the type and the value of the transaction, but can be
negotiable for large transactions.
9
<PAGE>
Securities in Japan are denominated and quoted in yen. Yen are fully
convertible and transferable based on floating exchange rates into all
currencies, without administrative or legal restrictions, for both nonresidents
and residents of Japan.
United Kingdom. The United Kingdom is a constitutional monarchy and
consists of England, Scotland, Wales and Northern Ireland. The population of
the United Kingdom is approximately 57 million. Industry in the United Kingdom
is predominantly owned in the private sector except for certain state owned
entities in the transportation and energy industries.
The United Kingdom is centered in London. In October of 1986, stock
exchange commission rates were deregulated and stock exchange membership was
opened up to limited companies and to non-residents of the United Kingdom.
Additionally, the Financial Services Act (the "FSA") substantially restructured
the U.K. securities laws and deregulated the London Stock Exchange's own rules.
FSA created a new regulatory body known as the Securities and Investments Board
(the "SIB"), which has the power to delegate certain of its functions to various
self-regulatory organizations, of which the London Stock Exchange is one. Under
the FSA structure, the London Stock Exchange will continue to be largely self-
regulating with fundamentally the same types of self-regulatory rules in effect
prior to FSA.
Stock prices are continuously quoted during business hours on the London
Stock Exchange, and are negotiable, but have formalized for institutions.
Trading commissions in the U.K. are negotiable.
Securities in the United Kingdom are denominated and quoted in "pounds
sterling". Pounds sterling are fully convertible and transferable based on
floating exchange rates into all currencies, without administrative or legal
restrictions, for both non-residents and residents of the United Kingdom.
PORTFOLIO SECURITIES AND OTHER FUND INVESTMENT TECHNIQUES
The ability of the Funds to utilize certain of the investment techniques
discussed below may be subject to limitations and may subject the Funds to
additional risks. Please refer to the section "Fund Risk Factors" below and to
the Statement of Additional Information for more information regarding such
limitations and risks.
DEPOSITARY RECEIPTS
In addition to investing in such securities directly, each Fund may invest
in the securities of foreign issuers in the form of sponsored and unsponsored
American Depositary Receipts (ADRs), European Depositary Receipts (EDRs), Global
Depositary Receipts (GDRs) or other securities convertible into securities of
foreign issuers. Generally, such securities evidence ownership of and may be
converted into securities issued by a foreign corporation. The issuers of
unsponsored depository receipts are not obligated to disclose material
information in the United States, and therefore, there may not be a correlation
between such information and the market value of such securities.
FOREIGN INDEX LINKED INSTRUMENTS
Each Fund may invest in instruments issued by the U.S. or a foreign
government or by private issuers that return principal and/or pay interest to
investors in amounts which are linked to the level of a particular foreign index
("Foreign Index Linked Instruments"). Foreign Index Linked Instruments may
offer higher yields than comparable securities linked to purely domestic indexes
but also may be more volatile. Foreign Index Linked Instruments are relatively
recent innovations for which the market has not yet been fully developed and,
accordingly, they typically are less liquid than comparable securities linked to
purely domestic indexes. In addition, the value of Foreign Index Linked
Instruments will be affected by fluctuations in foreign exchange rates or in
foreign interest rates. Foreign currency gains and losses with respect to
Foreign Index Linked Instruments may affect the amount and timing of income
recognized by such Fund.
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BRADY BONDS
Each Fund may invest in Brady Bonds and other sovereign debt securities of
countries that have restructured or are in the process of restructuring
sovereign debt pursuant to the Brady Plan. Brady Bonds are debt securities
issued under the framework of the Brady Plan, a mechanism for debtor nations to
restructure their outstanding external indebtedness. Brady Bonds have been
issued only recently and, accordingly, do not have a long payment history.
ZERO COUPON SECURITIES
Each Fund may invest in zero coupon securities. Such securities are debt
obligations which do not entitle the holder to periodic interest payments prior
to maturity and are issued and traded at a discount from their face amounts.
The discount varies depending on the time remaining until maturity, prevailing
interest rates, liquidity of the security and the perceived credit quality of
the issuer. Zero coupon securities can be sold prior to their due date in the
secondary market at the then-prevailing market value which depends primarily on
the time remaining to maturity, prevailing levels of interest rates and the
perceived credit quality of the issuer. The market prices of zero coupon
securities are more volatile than the market prices of securities of comparable
quality and similar maturity that pay interest periodically and may respond to a
greater degree to fluctuations in interest rates than do such non-zero coupon
securities.
FOREIGN CURRENCY TRANSACTIONS
The value of the assets of a Fund as measured in United States dollars or a
foreign currency or currencies may be affected favorably or unfavorably by
changes in foreign currency exchange rates and exchange control regulations, and
each Fund may incur costs in connection with conversions between various
currencies. Each Fund will conduct its foreign currency exchange transactions
either on a spot (i.e., cash) basis at the spot rate prevailing in the foreign
currency exchange market, or through forward contracts to purchase or sell
foreign currencies. A forward foreign currency exchange contract involves an
obligation to purchase or sell a specific currency at a future date, which may
be any fixed number of days from the date of the contract agreed upon by the
parties, at a price set at the time of the contract. These contracts are traded
directly between currency traders (usually large commercial banks) and their
customers.
Each Fund may enter into foreign currency transactions for hedging purposes
only and may not speculate on the fluctuations of foreign currency exchange
rates. Each Fund may hedge against adverse changes in foreign currency exchange
rates between the trade and settlement dates with respect to foreign securities
it is purchasing or during the holding period with respect to foreign securities
in its portfolio. With respect to foreign securities in its portfolio, each
Fund may hedge a maximum of 50% of the value of its investment portfolio by
establishing the value of such securities in U.S. dollars. Additionally, the
Fund may hedge a maximum of 25% of the value of its investment portfolio by
establishing the value of such securities in another foreign currency or
currencies which IAI believes to be more stable than the currencies in which
such securities are denominated.
When a Fund enters into a contract for the purchase or sale of a security
denominated in a foreign currency, it may desire to establish the cost or
proceeds in U.S. dollars or another foreign currency. By entering into a
forward contract in such currency for the purchase or sale of the amount of
foreign currency involved in an underlying security investment, the Fund is able
to protect itself against a possible loss between trade and settlement dates of
a transaction or during the period of an investment in a foreign security
resulting from an adverse change in the relationship between such two
currencies. However, this tends to limit potential gains which might result
from a positive change in such currency relationships. A Fund may also hedge its
foreign currency exchange rate risk by engaging in currency financial futures
and options and forward foreign currency transactions.
When IAI believes that the currency of a particular foreign country may
suffer a substantial decline against the U.S. dollar or another foreign
currency, it may enter into a forward contract to sell an amount of foreign
currency approximating the value of some or all of a Fund's portfolio securities
denominated in such
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foreign currency. The forecasting of short-term currency market movement is
difficult and the successful execution of a short-term hedging strategy is
uncertain.
It is impossible to forecast with absolute precision the market value of
portfolio securities at the expiration of a contract. Accordingly, it may be
necessary for a Fund to purchase additional currency on the spot market (and
bear the expense of such purchase) if the market value of the security is less
than the amount of foreign currency the Fund is obligated to deliver when a
decision is made to sell the security and make delivery of the foreign currency
in settlement of a forward contract. Conversely, it may be necessary to sell on
the spot market some of the foreign currency received upon the sale of the
portfolio security if its market value exceeds the amount of foreign currency
the Fund is obligated to deliver.
If a Fund retains the portfolio security and engages in an offsetting
transaction, the Fund will incur a gain or a loss (as described below) to the
extent that there has been movement in forward contract prices. If a Fund
engages in an offsetting transaction, it may subsequently enter into a new
forward contract to sell the foreign currency. Should forward prices decline
during the period between the Fund's entering into a forward contract for the
sale of foreign currency and the date it enters into an offsetting contract for
the purchase of the foreign currency, the Fund would realize a gain to the
extent the price of the currency it has agreed to sell exceeds the price of the
currency it has agreed to purchase. Should forward prices increase, the Fund
would suffer a loss to the extent the price of the currency it has agreed to
purchase exceeds the price of the currency it has agreed to sell. Although such
contracts tend to minimize the risk of loss due to a decline in the value of the
hedged currency, they also tend to limit any potential gain which might result
should the value of such currency increase. A Fund will have to convert its
holdings of foreign currencies into U.S. dollars from time to time. Although
foreign exchange dealers do not charge a fee for conversion, they do realize a
profit based on the difference (the "spread") between the prices at which they
are buying and selling various currencies.
TEMPORARY INVESTMENTS
The Funds reserve the right, as a temporary defensive measure, to provide
for redemptions or in anticipation of investment in securities of companies
domiciled or otherwise having substantial operations in developing countries, to
hold cash or cash equivalents (in U.S. dollars or foreign currencies) and short-
term securities, including money market securities.
ADJUSTING INVESTMENT EXPOSURE
The Funds can use various techniques to increase or decrease exposure to
changing security prices, interest rates, currency exchange rates, commodity
prices, or other factors that affect security values. These techniques may
involve derivative transactions such as buying and selling options and futures
contracts, entering into currency exchange contracts or swap agreements,
purchasing indexed securities, and selling securities short.
REPURCHASE AGREEMENTS
Each Fund may invest in repurchase agreements relating to the securities in
which it may invest. In a repurchase agreement, a Fund buys a security at one
price and simultaneously agrees to sell it back at a higher price. Delays or
losses could result if the other party to the agreement defaults or becomes
insolvent. Foreign repurchase agreements may be less well secured than U.S.
repurchase agreements, and may be denominated in foreign currencies. They may
involve greater risk of loss if the counterparty defaults. Some counterparties
in these transactions may be less creditworthy than those in U.S. markets.
BORROWING
Each Fund may borrow from banks for temporary or emergency purposes or
through reverse repurchase agreements. If a Fund borrows money, its share price
may be subject to greater fluctuation until the borrowing is paid off. If a
Fund makes additional investments while borrowings are outstanding, this may be
considered a form of leverage.
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CLOSED-END INVESTMENT COMPANIES
A number of countries have authorized the formation of closed-end
investment companies to facilitate indirect foreign investment in their capital
markets. Each Fund may invest up to 10% of its total assets in securities of
closed-end investment companies. Shares of certain closed-end investment
companies may at times be acquired only at market prices representing premiums
to their net asset values. In the event that shares acquired at a premium
subsequently decline in price relative to their net asset value or the value of
portfolio investments held by such closed-end companies declines, a Fund and its
shareholders may experience a loss. If a Fund acquires shares of closed-end
investment companies, Fund shareholders would bear both their proportionate
share of expenses in such Fund (including management and advisory fees) and,
indirectly, the expenses of such closed-end investment companies.
ILLIQUID SECURITIES
The Developing Countries Fund may invest up to 10% of its net assets, while
the International Fund may invest up to 15% of its net assets, in securities
that are considered illiquid. This illiquidity may be due to the absence of a
readily available market or due to legal or contractual restrictions. Difficulty
in selling such securities may result in a loss or may be costly to a Fund.
PORTFOLIO TURNOVER
The Funds will dispose of securities without regard to the time they have
been held when such action appears advisable to management either as a result of
securities having reached a price objective, or by reason of developments not
foreseen at the time of the investment decision. Since investment changes
usually will be made without reference to the length of time a security has been
held, a significant number of short-term transactions may result. Accordingly,
a Fund's annual portfolio turnover rate cannot be anticipated and may be
relatively high. High turnover rates (100% or more) generally result in higher
brokerage and other costs for a Fund and may increase taxable capital gains.
The Funds' historical portfolio turnover rates are set forth in the section
"Financial Highlights."
Further information regarding these and other techniques is contained in
the Statement of Additional Information.
FUND RISK FACTORS
FOREIGN INVESTMENT RISK FACTORS
Developing Countries Fund is designed for aggressive investors interested
in the investment opportunities offered in developing countries. To the extent
that International Fund invests in developing countries, the Fund may be subject
to additional risk. While IAI believes that investing in developing countries
presents the possibility for significant growth over the long-term, it also
entails significant risks. Many investments in developing countries can be
considered speculative, and the price of securities and value of currencies can
be much more volatile than in the more developed markets. This difference
reflects the greater uncertainties of investing in less established markets and
economies.
Investing in foreign securities typically involves additional risks than
investing in securities of U.S. issuers. These risks are often heightened for
investments in developing countries and include, but are not limited to, the
risk of fluctuations in the value of the currencies in which they are
denominated, including the devaluation of the currencies of such countries
relative to the U.S. dollar, the risk of adverse political and economic
developments and the possibility of expropriation, nationalization or
confiscatory taxation or limitations on the removal of funds or other assets of
the Funds. Additionally, the economies of many developing countries continue to
experience significant problems, including high inflation rates, high interest
rates, large external debt and
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continuing trade deficits and are characterized by extreme poverty, high
unemployment and a significant dependence on limited industries. Because the
Funds will invest in securities denominated or quoted in currencies other than
the U.S. dollar, changes in foreign currency exchange rates may affect the value
of securities in the portfolio. Foreign currency exchange rates are determined
by forces of supply and demand in the foreign exchange markets and other
economic and financial conditions affecting the world economy. A decline in the
value of any particular currency against the U.S. dollar will cause a decline in
the U.S. dollar value of a Fund's holdings of securities denominated in such
currency and, therefore, will cause an overall decline in a Fund's net asset
value and net investment income and capital gains, if any, to be distributed in
U.S. dollars to shareholders by such Fund. In many developing countries, there
is less government supervision and regulation of business and industry
practices, stock exchanges, brokers and listed companies than in the United
States. In addition, there also may be less publicly available information about
foreign issuers than domestic issuers, and foreign issuers generally are not
subject to the uniform accounting, auditing and financial reporting standards,
practices and requirements applicable to domestic issuers. The foreign
securities markets of many of the countries in which the Funds may invest may
also be smaller, less liquid and subject to greater price volatility than those
in the United States. As an open-end investment company, each Fund is limited in
the extent to which it may invest in illiquid securities. Further, the Funds may
encounter difficulties or be unable to pursue legal remedies and obtain
judgments in foreign courts. These factors could make foreign investments,
especially those in developing countries, more volatile.
Brokerage commissions, custodial services, and other costs relating to
investment in foreign countries and developing markets are generally more
expensive than in the United States. Such markets have different clearance and
settlement procedures and in certain markets there have been times when
settlements have been unable to keep pace with the volume of securities
transactions, making it difficult to conduct such transactions. The inability of
a Fund to make intended security purchases due to settlement problems could
cause such Fund to miss attractive investment opportunities. Inability to
dispose of a portfolio security due to settlement problems could result either
in losses to a Fund due to subsequent declines in value of the portfolio
security or, if a Fund has entered into a contract to sell the security, could
result in possible liability to the purchaser.
Several countries restrict, to varying degrees, foreign investments in
their securities markets. Government and private restrictions take a variety of
forms, including (a) limitations on the amount of funds that may be introduced
into or repatriated from the country (including limitations on repatriation of
investment income and capital gains); (b) prohibitions or substantial
restrictions on foreign investment in certain industries or market sectors, such
as defense, energy and transportation; (c) restrictions (whether contained in
the charter of an individual company or mandated by the government) on the
percentage of securities of a single issuer which may be owned by a foreign
investor; (d) limitations on the types of securities which a foreign investor
may purchase; and (e) restrictions on a foreign investor's right to invest in
companies whose securities are not publicly traded. In some circumstances, these
restrictions may limit or preclude investment in certain countries or may
increase the cost of investing in securities of particular companies.
A Fund's interest and dividend income from foreign issuers may be subject
to non-U.S. withholding taxes. A Fund also may be subject to taxes on trading
profits or on transfers of securities in some countries. The imposition of these
taxes will increase the cost to a Fund of investing in any country imposing such
taxes. For U.S. tax purposes, U.S. shareholders may be entitled to a credit or
deduction to the extent of any foreign income taxes paid by such Fund. See
"Dividends, Distributions and Tax Status."
Each Fund may purchase sovereign debt instruments issued or guaranteed by
foreign governments or their agencies. Sovereign debt may be in the form of
conventional securities or other types of debt instruments such as loans or loan
participations. The sovereign debt in which a Fund may invest may involve a high
degree of risk, including the risk of default. Governmental entities responsible
for repayment of the debt may be unable or unwilling to repay principal and
interest when due, and may require renegotiations or rescheduling of debt
payments. In addition, prospects for repayment of principal and interest may
depend on political as well as economic factors. A Fund may have limited
recourse in the event of default on a sovereign debt instrument.
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Many of the currencies of developing countries have experienced steady
devaluations relative to the U.S. dollar, and major devaluations have
historically occurred in certain countries. Devaluations in the currencies in
which a Fund's portfolio securities are denominated may have a detrimental
impact on such Fund. Some developing countries also may have managed currencies
which are not free floating against the U.S. dollar. In addition, there is a
risk that certain developing countries may restrict the free conversion of their
currencies into other currencies. Further, the currencies of certain developing
countries may not be internally traded.
Many developing countries have experienced substantial, and in some periods
extremely high, rates of inflation for many years. Inflation and rapid
fluctuations in inflation rates have had and may continue to have very negative
effects on the economies and securities markets of certain developing countries.
The governments of many developing countries have exercised and continue to
exercise a significant influence over many aspects of the private sector.
Government actions concerning the economy could have a significant effect on
market conditions and prices and/or yields of securities in which a Fund
invests.
In some countries, the securities of banks or other financial institutions
are among the most actively traded securities. Each Fund is restricted in its
ability to invest in securities of an issuer which, in its most recent year,
derived more than 15% of its revenues from "securities related activities," as
defined by the rules under the Investment Company Act of 1940.
RISKS OF TRANSACTIONS IN DERIVATIVES
Each Fund will spread investment risk by limiting its holdings in any one
company or industry. IAI may use futures, options, swap and currency exchange
agreements as well as short sales to adjust the risk and return characteristics
of such Fund's portfolio of investments. If IAI judges market conditions
incorrectly or employs a strategy that does not correlate well with a Fund's
investments, use of these techniques could result in a loss, regardless of
whether the intent was to reduce risk or increase return. Use of these
techniques may increase the volatility of a Fund and may involve a small
investment of cash relative to the magnitude of risk assumed. In addition, these
techniques could result in a loss if the counterparty to the transaction is
unable to perform as promised. Moreover, a liquid secondary market for any
futures or options contract may not be available when a futures or options
position is sought to be closed. Please refer to the Statement of Additional
Information which further describes these risks.
RISKS OF LOWER-RATED DEBT SECURITIES
Developing Countries Fund may invest in debt securities commonly known as
"junk" bonds. Such securities are subject to higher risks and greater market
fluctuations than are lower-yielding, higher-rated securities. The price of junk
bonds has been found to be less sensitive to changes in prevailing interest
rates than higher-rated investments, but is likely to be more sensitive to
adverse economic changes or individual corporate developments. During an
economic downturn or substantial period of rising interest rates, highly
leveraged issuers may experience financial stress which would adversely affect
their ability to service their principal and interest payment obligations, to
meet their projected business goals or to obtain additional financing. If the
issuers of a fixed-income security owned by Developing Countries Fund were to
default, Developing Countries Fund might incur additional expenses to seek
recovery. The risk of loss due to default by issuers of junk bonds is
significantly greater than that associated with higher-rated securities because
such securities generally are unsecured and frequently are subordinated to the
prior payment of senior indebtedness. In addition, periods of economic
uncertainty and change can be expected to result in an increased volatility of
market prices of junk bonds and a concomitant volatility in the net asset value
of a share of Developing Countries Fund.
The secondary market for junk bonds is less liquid than the markets for
higher quality securities and, as such, may have an adverse effect on the market
prices of certain securities. The limited liquidity of the market may also
adversely affect the ability of Developing Countries Fund to arrive at a fair
value for certain junk bonds at certain times and could make it difficult for
Developing Countries Fund to sell certain securities.
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Both International and Developing Countries Funds are subject to certain
other investment policies and restrictions described in the Statement of
Additional Information, some of which are fundamental and may not be changed
without the approval of the shareholders of a Fund. Please refer to the
Statement of Additional Information for a further discussion concerning the
risks associated with investing internationally and in developing countries.
MANAGEMENT
Developing Countries Fund and International Fund were created on February
10, 1995 and April 23, 1987, respectively, as separate portfolios represented by
separate classes of common stock of IAI Investment Funds III, Inc., a Minnesota
corporation, created on September 16, 1986. Under Minnesota law, each Fund's
Board of Directors is generally responsible for the overall operation and
management of each Fund. IAI serves as the investment adviser to each Fund. IAI
has delegated to IAI International certain of its responsibilities and
obligations as the Funds' investment adviser pursuant to a written agreement
(the "Subadvisory Agreement"). IAI International is based in London and
maintains a United States representative office with the same address as IAI.
The ultimate corporate parent of IAI and IAI International is Lloyds TSB Group
plc, a publicly held financial services organization headquartered in London,
England. Lloyds TSB Group plc is one of the largest personal and corporate
financial services groups in the United Kingdom and is engaged in a wide range
of activities including commercial and retail banking. The address of IAI is
that of the Funds. IAI also furnishes investment advice to other concerns
including other investment companies, pension and profit sharing plans,
portfolios of foundations, religious, educational and charitable institutions,
trusts, municipalities and individuals, and has total assets under management in
excess of $15 billion.
Pursuant to a written agreement with each Fund (the "Management
Agreement"), IAI provides each Fund with investment advisory services and is
responsible for the overall management of each Fund's business affairs subject
to the authority of the Board of Directors. The Management Agreement also
provides that, except for brokerage commissions and other expenditures in
connection with the purchase and sale of portfolio securities, interest and, in
certain circumstances, taxes and extraordinary expenses, IAI shall pay all of a
Fund's operating expenses. As compensation under the Management Agreement,
Developing Countries Fund has agreed to pay IAI a monthly advisory fee at the
initial annual rate of 2.00% of the Fund's average daily net assets, which fee
declines to 1.65% of the Fund's average daily net assets as the amount of assets
in Developing Countries Fund grows. With respect to International Fund, the Fund
has agreed to pay a monthly advisory fee at the initial annual rate of 1.70% of
the Fund's average daily net assets, which fee declines to 1.30% of the Fund's
average daily net assets as the amount of assets in the International Fund
grows. IAI pays IAI International a portion of its management fees at the annual
rate of .625% of average daily net assets which declines to .50% as the assets
in Developing Countries Fund grows. IAI pays IAI International a portion of its
management fee at the annual rate of .50% of average daily net assets which
declines to .35% as the assets in International Fund grows. Because IAI is
paying Fund operating expenses, these fees represent each Fund's total expenses.
With respect to certain of the services for which it is responsible under the
Management Agreement, IAI may also pay qualifying broker-dealers, financial
institutions and other entities for providing such services to Fund
shareholders. IAI shall not be liable for any loss suffered by a Fund in the
absence of willful misfeasance, bad faith or negligence in the performance of
its duties and obligations.
Roy Gillson has responsibility for the management of both Developing
Countries Fund and International Fund. Mr. Gillson is IAI International's Chief
Investment Officer and a member of its Board of Directors. Mr. Gillson joined
IAI International in 1983 and has managed International Fund since 1990 and the
Developing Countries Fund since its inception in February 1995.
COMPUTATION OF NET ASSET VALUE AND PRICING
Each Fund is open for business each day the New York Stock Exchange
("NYSE") is open. IAI normally calculates a Fund's net asset value ("NAV") as of
the close of business of the NYSE, normally 3 p.m. Central time.
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A Fund's NAV is the value of a single share. The NAV is computed by adding
up the value of a Fund's investments, cash, and other assets, subtracting its
liabilities, and then dividing the result by the number of shares outstanding.
A Fund's investments with remaining maturities of 60 days or less may be
valued on the basis of amortized cost. This method minimizes the effect of
changes in a security's market value. Other portfolio securities and assets are
valued primarily on the basis of market quotations or, if quotations are not
readily available, by a method that the Board of Directors believes accurately
reflects fair value. Foreign securities are valued on the basis of quotations
from the primary market in which they are traded.
Because of the Funds' need to obtain prices as of the close of trading on
various exchanges throughout the world, the calculation of net asset value does
not take place contemporaneously with the determination of the prices of a
Fund's portfolio securities. For purposes of determining a Fund's net asset
value, all assets and liabilities initially expressed in foreign currency values
will be converted into U.S. dollar values using current exchange rates. If an
event were to occur after the value of a Fund instrument was so established but
before the net asset value per share is determined which was likely to
materially change the net asset value, such instrument shall be valued using
fair value considerations by the Board of Directors or its delegates.
The offering price (price to buy one share) and redemption price (price to
sell one share) are referred to as a Fund's NAV.
PURCHASE OF SHARES
Each Fund offers its shares continually to the public at the net asset
value of such shares. Shares may be purchased directly from a Fund or through
certain security dealers who have responsibility to promptly transmit orders and
may charge a processing fee, provided that the Fund whose shares are being
purchased is duly registered in the state of the purchaser's residence, if
required. No sales load or commission is charged in connection with the purchase
of Fund shares.
The minimum initial investment to establish a retail account with the IAI
Family of Funds is $5,000. Such initial investment may be allocated among a Fund
and other funds in the IAI Family of Funds as desired, provided that no less
than $1,000 is allocated to any one fund. The minimum initial investment for IRA
accounts is $2,000, provided that the minimum amount that may be allocated to
any one fund is $1,000. Once the account minimum has been met, subsequent
purchases can be made in a Fund for $100 or more. Such minimums may be waived
for participants in the IAI Investment Club.
Investors may satisfy the minimum investment requirement by participating
in the STAR Program. Participation in the STAR Program requires an initial
investment of $1,000 per Fund and a commitment to invest an aggregate of $5,000
within 24 months. If a STAR Program participant does not invest an aggregate of
$5,000 in the IAI Family of Funds within 24 months, IAI may, at its option,
redeem such shareholder's interest. Investors wishing to participate in the STAR
Program should contact a Fund to obtain a STAR Program application.
To purchase shares, forward the completed application and a check payable
to "IAI Funds" to a Fund. Upon receipt, your account will be credited with the
number of full and fractional shares which can be purchased at the net asset
value next determined after receipt of the purchase order by a Fund.
Purchases of shares are subject to acceptance or rejection by a Fund on the
same day the purchase order is received and are not binding until so accepted.
It is the policy of the Funds and the Underwriter to keep confidential
information contained in the application and regarding the account of an
investor or potential investor in the Funds.
All correspondence relating to the purchase of shares should be directed to
the office of the Fund, P.O. Box 357, Minneapolis, Minnesota 55440 or, if using
overnight delivery, to 601 2nd Avenue South, Minneapolis,
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Minnesota 55402. For assistance in completing the application please contact IAI
Mutual Fund Shareholder Services at 1-800-945-3863.
RETIREMENT PLANS
Shares of Developing Countries and International Fund may be an appropriate
investment medium for various Retirement Plans. Persons desiring information
about establishing an Individual Retirement Account (IRA) (for employed persons
and their spouses) or other Retirement Plans should contact a Fund at 1-800-945-
3863. All Retirement Plans involve a long-term commitment of assets and are
subject to various legal requirements and restrictions. The legal and tax
implications may vary according to the circumstances of the individual investor.
Therefore, you are urged to consult with an attorney or tax adviser prior to the
establishment of such a plan.
AUTOMATIC INVESTMENT PLAN
Investors may arrange to make regular investments of $100 or more per fund
on a monthly basis, effective as of the 4th or 18th day of each month (or the
next business day), through automatic deductions from their checking or savings
account. Such investors may, of course, terminate their participation in the
Automatic Investment Plan at anytime upon written notice to a Fund. Any changes
or instructions to terminate existing Automatic Investment Plans must be
received 30 days preceding the day on which the change or termination is to take
place. Investors interested in participating in the Automatic Investment Plan
should complete the Automatic Investment Plan application and return it to a
Fund.
REDEMPTION OF SHARES
Registered holders of Fund shares may at any time require a Fund to redeem
their shares upon their written request. Shareholders may redeem shares by phone
(subject to a limit of $50,000) provided such shareholders have authorized the
Fund to accept telephone instructions.
With respect to International Fund only, shareholders who redeem shares by
presenting stock certificates must endorse on the back of the certificate with
the signature of the person whose name appears on the certificate. If no
certificate has been issued, redemption instructions must be signed by the
person(s) in whose name the shares are registered.
If the redemption proceeds are to be paid or mailed to any person other
than the shareholder of record or if redemption proceeds are in excess of
$50,000, a Fund will require that the signature on the written instructions be
guaranteed by a participant in a signature guarantee program, which may include
certain national banks or trust companies or certain member firms of national
securities exchanges. (Notarization by a Notary Public is NOT ACCEPTED.) If the
shares are held of record in the name of a corporation, partnership, trust or
fiduciary, the Fund may require additional evidence of authority prior to
accepting a request for redemption. A Fund will not send redemption proceeds
until checks (including certified checks or cashiers checks) received in payment
for shares have cleared.
The redemption proceeds received by the investor are based on the net asset
value next determined after redemption instructions in good order are received
by a Fund. Since the value of shares redeemed is based upon the value of the
Fund investment at the time of redemption, it may be more or less than the price
originally paid for the shares.
Payment for shares redeemed will ordinarily be made within seven days after
a request for redemption has been made. Normally a Fund will mail payment for
shares redeemed on the business day following receipt of the redemption request.
Following a redemption or transfer request, if the value of a shareholder's
interest in a Fund falls below $500, such Fund reserves the right to redeem such
shareholder's entire interest and remit such amount. Such a redemption will only
be effected following: (a) a redemption or transfer by a shareholder which
causes the value
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of such shareholder's interest in the Fund to fall below $500; (b) the mailing
by such Fund to such shareholder of a notice of intention to redeem; and (c) the
passage of at least six months from the date of such mailing, during which time
the investor will have the opportunity to make an additional investment in such
Fund to increase the value of such investor's account to at least $500.
EXCHANGE PRIVILEGE
The Exchange Privilege enables shareholders to purchase, in exchange for
shares of a Fund, shares of certain other funds managed by IAI. These funds have
different investment objectives from the Funds. Shareholders may exchange shares
of a Fund for shares of another fund managed by IAI, provided that the fund
whose shares will be acquired is duly registered in the state of the
shareholder's residence and the shareholder otherwise satisfies the fund's
purchase requirements. Although the Funds do not currently charge a fee for use
of the Exchange Privilege, they reserve the right to do so in the future.
Because excessive trading can hurt Fund performance and shareholders, there
is a limit of four exchanges out of each Fund per calendar year per account.
Accounts under common ownership or control, including accounts with the same
taxpayer identification number, will be counted together for purposes of the
four exchange limit. Each Fund reserves the right to temporarily or permanently
terminate the Exchange Privilege of any investor who exceeds this limit. The
limit may be modified for certain retirement plan accounts, as required by the
applicable plan document and/or relevant Department of Labor regulations, and
for Automatic Exchange Plan participants. Each Fund also reserves the right to
refuse or limit exchange purchases by any investor if, in IAI's judgment, such
Fund would be unable to invest the money effectively in accordance with its
investment objectives and policies, or would otherwise potentially be adversely
affected.
Fund shareholders wishing to exercise the Exchange Privilege should notify
a Fund in writing or, provided such shareholders have authorized a Fund to
accept telephone instructions, by telephone. At the time of the exchange, if the
net asset value of the shares redeemed in connection with the exchange is
greater than the investor's cost, a taxable capital gain will be realized. A
capital loss will be realized if at the time of the exchange the net asset value
of the shares redeemed in the exchange is less than the investor's cost. Each
Fund reserves the right to terminate or modify the Exchange Privilege in the
future.
AUTOMATIC EXCHANGE PLAN
Investors may arrange to make regular exchanges of $100 or more between any
of the funds in the IAI Mutual Fund Family on a monthly basis. Exchanges will
take place at the closing price of the fifth day of each month (or the next
business day). Shareholders are responsible for making sure sufficient shares
exist in the Fund account from which the exchange takes place. If there are not
sufficient funds in a Fund account to meet the requested exchange amount, the
Automatic Exchange Plan will be suspended. Shareholders may not close Fund
accounts through the Automatic Exchange Plan. Investors interested in
participating in the Automatic Exchange Plan should complete the Automatic
Exchange Plan portion of their application. For assistance in completing the
application contact IAI Mutual Fund Shareholder Services at 1-800-945-3863.
AUTHORIZED TELEPHONE TRADING
Investors can transact account exchanges and redemptions via the telephone
by completing the Authorized Telephone Trading section of the IAI Mutual Fund
application and returning it to a Fund. Investors requesting telephone trading
privileges will be provided with a personal identification number ("PIN") that
must accompany any instructions by phone. Shares will be redeemed or exchanged
at the next determined net asset value. All proceeds must be made payable to the
owner(s) of record and delivered to the address of record.
In order to confirm that telephone instructions for redemptions and
exchanges are genuine, the Fund has established reasonable procedures, including
the requirement that a personal identification number accompany telephone
instructions. If a Fund or transfer agent fails to follow these procedures, such
Fund may be liable for losses due to unauthorized or fraudulent instructions. To
the extent the reasonable procedures are followed, none
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of the Funds, its transfer agent, IAI, or any affiliated broker-dealer will be
liable for any loss, injury, damage, or expense for acting upon telephone
instructions believed to be genuine, and will otherwise not be responsible for
the authenticity of any telephone instructions, and, accordingly, the investor
bears the risk of loss resulting from telephone instructions. All telephone
redemptions and exchange requests will be tape recorded. Telephone redemptions
are not permitted on IRA or Simplified Employee Pension ("SEP") accounts. Please
call a Fund for a distribution form.
SYSTEMATIC CASH WITHDRAWAL PLAN
Each Fund has available a Systematic Cash Withdrawal Plan for any investor
desiring to follow a program of systematically withdrawing a fixed amount of
money from an investment in shares of a Fund. An investment of $10,000 is
required to establish the plan. Payments under the plan will be made monthly or
quarterly in amounts of $100 or more. Shares will be sold with the closing price
of the 15th of the applicable month (or the next business day). To provide funds
for payment, a Fund will redeem as many full and fractional shares as necessary
at the redemption price, which is net asset value.
Payments under this plan, unless pursuant to a retirement plan, should not
be considered income. Withdrawal payments may exceed dividends and distributions
and, to this extent, there will be a reduction in the investor's equity. An
investor should also understand that this plan cannot insure profit, nor does it
protect against any loss in a declining market. Careful consideration should be
given to the amount withdrawn each month. Excessive withdrawals could lead to a
serious depletion of equity, especially during periods of declining market
values. Fund management will be available for consultation in this matter.
Plan application forms are available through the Funds. If you would like
assistance in completing the application contact IAI Mutual Fund Shareholder
Services at 1-800-945-3863.
DIVIDENDS, DISTRIBUTIONS AND TAX STATUS
The policy of Developing Countries Fund is to pay dividends from net
investment income and to make distributions of realized capital gains, if any,
annually. The policy of International Fund is to pay dividends from net
investment income semiannually and to make distributions of realized capital
gains, if any, annually. However, provisions in the Internal Revenue Code of
1986, as amended (the "Code"), may result in additional net investment income
and capital gains distributions by a Fund. When you open an account, you should
specify on your application how you want to receive your distributions. Each
Fund offers three options: Full Reinvestment--your dividend and capital gain
distributions will be automatically reinvested in additional shares of the Fund;
Capital Gains Reinvestment--your capital gain distributions will be
automatically reinvested, but your income dividend distribution will be paid in
cash; and Cash--your income dividends and capital gain distributions will be
paid in cash. Distributions taken in cash can be sent via check or transferred
directly to your account at any bank, savings and loan or credit union that is a
member of the Automated Clearing House (ACH) network. UNLESS INDICATED OTHERWISE
BY THE SHAREHOLDER, EACH FUND WILL AUTOMATICALLY REINVEST ALL SUCH DISTRIBUTIONS
INTO FULL AND FRACTIONAL SHARES AT NET ASSET VALUE.
The Funds' Directed Dividend service allows you to invest your dividends
and/or capital gain distributions directly into another IAI Mutual Fund. Contact
IAI Mutual Fund Shareholder Services at 1-800-945-3863 for details.
Each Fund intends to qualify as a regulated investment company under
Subchapter M of the Code during its current taxable year. If so qualified, such
Fund will not be subject to federal income tax on income that it distributes to
its shareholders.
Distributions by the Funds to shareholders, except distributions to
shareholders not subject to federal income taxation, are generally taxable to
the shareholders, whether received in cash or additional Fund shares.
Distributions paid out of the Funds' net investment income and net short-term
capital gains are taxable to shareholders as ordinary income. Distributions paid
out of the Funds' net long-term capital gains and designated
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as such are taxable to shareholders as long-term capital gains, regardless of
the length of time that they have held their shares in a Fund.
A Fund may be required to pay withholding and other taxes imposed by
foreign countries, generally at rates from 10% to 40%, which would reduce such
Fund's investment income. Tax conventions between certain countries and the
United States may reduce or eliminate such taxes. If a Fund has more than 50% of
its assets invested in the stock or securities of foreign corporations at the
end of such Fund's taxable year, the Fund may make an election to allow
shareholders either to claim U.S. foreign tax credits with respect to foreign
taxes paid by the Fund or to deduct such amounts as an itemized deduction on
their tax return. In the event such an election is made, shareholders would have
to increase their taxable income by the amount of such taxes and the Fund would
not be able to deduct such taxes in computing its taxable income.
Alternatively, if the amount of foreign taxes paid by a Fund is not large
enough to warrant its making the election described above, such Fund may claim
the amount of foreign taxes paid as a deduction against its own gross income. In
that case, shareholders would not be required to include any amount of foreign
taxes paid by the Fund in their income and would not be permitted either to
deduct any portion of foreign taxes from their own income or to claim any amount
of foreign tax credit for taxes paid by the Fund.
Information about the tax status of dividends and distributions from a Fund
will be mailed to such Fund's shareholders annually.
In general, upon redemption of shares of a Fund, the shareholder will
recognize taxable gain or loss equal to the difference between the amount
realized on the redemption and the shareholder's adjusted basis in such shares.
Such gain or loss will be capital gain or loss for any shareholder who is not a
dealer in securities. Under the Code, the deductibility of capital losses is
subject to certain limitations.
The foregoing relates to federal income taxation as in effect as of the
date of the Prospectus. Distributions from net investment income and from net
realized capital gains may also be subject to state and local taxes. For a more
detailed discussion of the federal income tax consequences of investing in
shares of a Fund, see "Tax Status" in the Statement of Additional Information.
DESCRIPTION OF COMMON STOCK
All shares of each Fund have equal rights as to redemption, dividends and
liquidation, and will be fully paid and nonassessable when issued and will have
no preemptive or conversion rights.
The shares of each Fund have noncumulative voting rights, which means that
the holders of more than 50% of the shares voting for the election of directors
can elect 100% of the directors if they choose to do so. On some issues, such as
the election of directors, all shares of IAI Investment Funds III, Inc. vote
together as one series. On an issue affecting only a particular series, such as
voting on the Advisory Agreement, only the approval of a particular series is
required to make the agreement effective with respect to such series.
Annual or periodically scheduled regular meetings of shareholders will not
be held except as required by law. Minnesota corporation law does not require an
annual meeting; instead, it provides for the Board of Directors to convene
shareholder meetings when it deems appropriate. In addition, if a regular
meeting of shareholders has not been held during the immediately preceding
fifteen months, shareholders holding three percent or more of the voting shares
of each Fund may demand a regular meeting of shareholders of such Fund by
written notice of demand given to the chief executive officer or the chief
financial officer of such Fund. Within thirty days after receipt of the demand
by one of those officers, the Board of Directors shall cause a regular meeting
of shareholders to be called and held no later than ninety days after receipt of
the demand, all at the expense of such Fund. An annual meeting will be held on
the removal of a director or directors of a Fund if requested in writing by
holders of not less than 10% of the outstanding shares of a Fund.
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The shares of each Fund are transferable by delivery to the Fund of
transfer instructions. Transfer instructions should be delivered to the office
of the Fund. The Fund is not bound to recognize any transfer until it is
recorded on the stock transfer books maintained by the Fund. Certificates
representing Fund shares will not be issued.
COUNSEL AND AUDITORS
The firm of Dorsey & Whitney LLP, 220 South Sixth Street, Minneapolis,
Minnesota 55402, provides legal counsel to the Funds. KPMG Peat Marwick LLP,
4200 Norwest Center, Minneapolis, Minnesota 55402, serves as independent
auditors for the Funds.
CUSTODIAN, TRANSFER AGENT AND DIVIDEND DISBURSING AGENT
The Custodian for each Fund is Norwest Bank Minnesota, N.A., Norwest
Center, Sixth and Marquette, Minneapolis, Minnesota 55479. Norwest employs
foreign subcustodians and depositories, which were approved by such Fund's Board
of Directors in accordance with the rules and regulations of the Securities and
Exchange Commission, for the purpose of providing custodial services for such
Fund's assets held outside the United States. The directors of the Funds monitor
the activities of the Custodian and subcustodians, as well as the economic
conditions and applicable laws of the foreign countries in which the Fund's
assets are held. For a listing of the subcustodians and depositories currently
employed by such Fund, see the Statement of Additional Information. IAI acts as
the Funds' transfer agent, dividend disbursing agent and IRA Custodian, at P.O.
Box 357, Minneapolis, Minnesota 55440.
ADDITIONAL INFORMATION
Each Fund sends to its shareholders a six-month unaudited and an annual
audited financial report, each of which includes a list of investment securities
held. To reduce the volume of mail you receive, only one copy of most Fund
reports, such as the Fund's Annual Report, may be mailed to your household (same
surname, same address). Please call IAI Mutual Fund Shareholder Services at 1-
800-945-3863 if you wish to receive additional shareholder reports.
Shareholder inquiries should be directed to the Funds at the telephone
number or mailing address listed on the inside back cover page of this
Prospectus.
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IAI DEVELOPING COUNTRIES FUND
IAI INTERNATIONAL FUND
STATEMENT OF ADDITIONAL INFORMATION
DATED JUNE 1, 1996
THIS STATEMENT OF ADDITIONAL INFORMATION IS NOT A PROSPECTUS. THIS
STATEMENT OF ADDITIONAL INFORMATION RELATES TO A PROSPECTUS DATED JUNE 1, 1996,
AND SHOULD BE READ IN CONJUNCTION THEREWITH. A COPY OF THE PROSPECTUS MAY BE
OBTAINED FROM THE FUND, 3700 FIRST BANK PLACE, P.O. BOX 357, MINNEAPOLIS,
MINNESOTA 55440 (TELEPHONE: 1-612-376-2700 OR 1-800-945-3863).
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
<S> <C>
INVESTMENT OBJECTIVE AND POLICIES..................................... 3
Repurchase Agreements............................................ 3
Reverse Repurchase Agreements.................................... 3
Securities of Foreign Issuers.................................... 3
Illiquid Securities.............................................. 4
Lending Portfolio Securities..................................... 4
Swap Agreements.................................................. 4
Indexed Securities............................................... 5
Limitations on Futures and Options Transactions.................. 5
Futures Contracts................................................ 6
Futures Margin Payments.......................................... 6
Purchasing Put and Call Options.................................. 6
Writing Put and Call Options..................................... 7
Combined Positions............................................... 7
Correlation of Price Changes..................................... 7
Liquidity of Options and Futures Contracts....................... 8
OTC Options...................................................... 8
Asset Coverage for Futures and Options Positions................. 8
Economies of Japan, the United Kingdom and Germany............... 8
No Rating Criteria for Debt Securities........................... 9
Additional Risk Considerations................................... 10
INVESTMENT RESTRICTIONS............................................... 11
Portfolio Turnover............................................... 13
INVESTMENT PERFORMANCE................................................ 13
MANAGEMENT............................................................ 15
History.......................................................... 18
Management Agreement............................................. 18
Allocation of Expenses........................................... 20
Duration of Agreements........................................... 20
CUSTODIAL SERVICE..................................................... 20
PORTFOLIO TRANSACTIONS AND ALLOCATION OF BROKERAGE.................... 24
CAPITAL STOCK......................................................... 25
NET ASSET VALUE AND PUBLIC OFFERING PRICE............................. 26
TAX STATUS............................................................ 27
LIMITATION OF DIRECTOR LIABILITY...................................... 29
</TABLE>
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INVESTMENT OBJECTIVE AND POLICIES
The investment objective and policies of IAI Developing Countries Fund
("Developing Countries Fund") and IAI International Fund ("International Fund")
are summarized on the front page of the Prospectus and in the text of the
Prospectus under "Investment Objective and Policies." Investors should
understand that all investments are subject to various risks. There can be no
guarantee against loss resulting from an investment in the Funds, and there can
be no assurance that a Fund's investment policies will be successful, or that
its investment objective will be attained. Certain of the investment practices
of the Funds are further explained below.
REPURCHASE AGREEMENTS
Each Fund may invest in repurchase agreements relating to the
securities in which it may invest. A repurchase agreement involves the purchase
of securities with the condition that, after a stated period of time, the
original seller will buy back the securities at a predetermined price or yield.
A Fund's custodian will have custody of, and will hold in a segregated account,
securities acquired by such Fund under a repurchase agreement or other
securities as collateral. In the case of a security registered on a book entry
system, the book entry will be maintained in a Fund's name or that of its
custodian. Repurchase agreements involve certain risks not associated with
direct investments in securities. For example, if the seller of the agreement
defaults on its obligation to repurchase the underlying securities at a time
when the value of the securities has declined, a Fund may incur a loss upon
disposition of such securities. In the event that bankruptcy proceedings are
commenced with respect to the seller of the agreement, a Fund's ability to
dispose of the collateral to recover its investment may be restricted or
delayed. While collateral will at all times be maintained in an amount equal to
the repurchase price under the agreement (including accrued interest due
thereunder), to the extent proceeds from the sale of collateral were less than
the repurchase price, a Fund could suffer a loss.
REVERSE REPURCHASE AGREEMENTS
Each Fund may invest in reverse repurchase agreements. In a reverse
repurchase agreement, a Fund sells a portfolio instrument to another party, such
as a bank or broker-dealer, in return for cash and agrees to repurchase the
instrument at a particular price and time. While a reverse repurchase agreement
is outstanding, a Fund will maintain appropriate liquid assets in a segregated
custodial account to cover its obligation under the agreement. Such transactions
may increase fluctuations in the market value of a Fund's assets and may be
viewed as a form of leverage. The Funds will enter into reverse repurchase
agreements only with parties whose creditworthiness has been found satisfactory
by Investment Advisers, Inc. ("IAI"), the Funds' investment adviser and manager
or IAI International Limited (hereinafter references to IAI shall include IAI
International Limited where appropriate), the subadviser to the Funds.
SECURITIES OF FOREIGN ISSUERS
Investing in foreign securities may result in greater risk than that
incurred by investing in domestic securities. There is generally less publicly
available information about foreign issuers comparable to reports and ratings
that are published about companies in the United States. Also, foreign issuers
are not subject to uniform accounting, auditing and financial reporting
standards, practices and requirements comparable to those applicable to United
States companies.
It is contemplated that most foreign securities will be purchased in
over-the-counter markets or on stock exchanges located in the countries in which
the respective principal offices of the issuers of the various securities are
located, if that is the best available market. Foreign stock markets are
generally not as developed or efficient as those in the United States. While
growing in volume, they usually have substantially less volume than the New York
Stock Exchange, and securities of some foreign companies are less liquid and
more volatile than securities of comparable United States companies. Similarly,
volume and liquidity in most foreign bond markets are less than in the United
States and at times volatility of price can be greater than in the United
States. Commissions on foreign stock exchanges are generally higher than
commissions on United States exchanges, although the Funds will endeavor to
achieve the most favorable net results on its portfolio transactions. There is
generally less
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government supervision and regulation of foreign stock exchanges, brokers and
listed companies than in the United States.
With respect to certain foreign countries, there is the possibility of
adverse changes in investment or exchange control regulations, expropriation or
confiscatory taxation, limitations on the removal of funds or other assets of
the Funds, political or social instability, or diplomatic developments which
could affect United States investments in those countries. Moreover, individual
foreign economies may differ favorably or unfavorably from the United States'
economy in such respects as growth of gross national product, rate of inflation,
capital reinvestment, resource self-sufficiency and balance of payments
position.
The dividends and interest payable on certain of a Fund's foreign
portfolio securities may be subject to foreign withholding taxes, thus reducing
the net amount of income available for distribution to such Fund's shareholders.
ILLIQUID SECURITIES
Developing Countries Fund may invest up to 10% of its net assets in
illiquid securities, and the International Fund may invest up to 15% of its net
assets in illiquid securities. The sale of illiquid securities often requires
more time and results in higher brokerage charges or dealer discounts and other
selling expenses than does the sale of securities eligible for trading on
national securities exchanges or in the over-the-counter markets. A Fund may be
restricted in its ability to sell such securities at a time when IAI deems it
advisable to do so. In addition, in order to meet redemption requests, a Fund
may have to sell other assets, rather than such illiquid or restricted
securities, at a time which is not advantageous.
LENDING PORTFOLIO SECURITIES
In order to generate additional income, the Funds may lend portfolio
securities to broker-dealers, banks or other financial borrowers of securities.
As with other extensions of credit, there are risks of delay in recovery or even
loss of rights in the collateral should the borrower of the securities fail
financially. However, a Fund will only enter into loan arrangements with broker-
dealers, banks or other institutions which IAI or IAI International has
determined are creditworthy under guidelines established by the Funds' Board of
Directors. The Funds may also experience a loss if, upon the failure of a
borrower to return loaned securities, the collateral is not sufficient in value
or liquidity to cover the value of such loaned securities (including accrued
interest thereon). However, a Fund will receive collateral in the form of cash,
United States Government securities, certificates of deposit or other high-
grade, short-term obligations or interest-bearing cash equivalents equal to at
least 102% of the value of the securities loaned. The value of the collateral
and of the securities loaned will be marked to market on a daily basis. During
the time portfolio securities are on loan, the borrower pays a Fund an amount
equivalent to any dividends or interest paid on the securities and a Fund may
invest the cash collateral and earn additional income or may receive an agreed
upon amount of interest income from the borrower. However, the amounts received
by a Fund may be reduced by finders' fees paid to broker-dealers and related
expenses.
SWAP AGREEMENTS
Swap agreements can be individually negotiated and structured to
include exposure to a variety of different types of investments or market
factors. Depending on their structure, swap agreements may increase or decrease
a Fund's exposure to long- or short-term interest rates (in the U.S. or abroad),
foreign currency values, mortgage securities, corporate borrowing rates, or
other factors such as security prices or inflation rates. Swap agreements can
take many different forms and are known by a variety of names. A Fund is not
limited to any particular form of swap agreement if IAI determines it is
consistent with such Fund's investment objectives and policies.
Swap agreements will tend to shift a Fund's investment exposure from
one type of investment to another. For example, if a Fund agrees to exchange
payments in dollars for payments in foreign currency, the swap agreement would
tend to decrease a Fund's exposure to U.S. interest rates and increase its
exposure to foreign
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currency and interest rates. Depending on how they are used, swap agreements may
increase or decrease the overall volatility of a Fund's investments and its
share price.
The most significant factor in the performance of swap agreements is
the change in the specific interest rate, currency, or other factors that
determine the amounts of payments due to and from a Fund. If a swap agreement
calls for payments by a Fund, such Fund must be prepared to make such payments
when due. In addition, if the counterparty's creditworthiness declined, the
value of a swap agreement would be likely to decline, potentially resulting in
losses. Each Fund expects to be able to eliminate its exposure under swap
agreements either by assignment or other disposition, or by entering into an
offsetting swap agreement with the same party or a similarly creditworthy party.
Each Fund will maintain appropriate liquid assets in a segregated
custodial account to cover its current obligations under swap agreements. If a
Fund enters into a swap agreement on a net basis, it will segregate assets with
a daily value at least equal to the excess, if any, of a Fund's accrued
obligations under the swap agreement over the accrued amount such Fund is
entitled to receive under the agreement. If a Fund enters into a swap agreement
on other than a net basis, it will segregate assets with a value equal to the
full amount of such Fund's accrued obligations under the agreement.
INDEXED SECURITIES
Each Fund may purchase securities whose prices are indexed to the
prices of other securities, securities indexes, currencies, precious metals or
other commodities, or other financial indicators. Indexed securities typically,
but not always, are debt securities or deposits whose value at maturity or
coupon rate is determined by reference to a specific instrument or statistic.
Gold-indexed securities, for example, typically provide for a maturity value
that depends on the price of gold, resulting in a security whose price tends to
rise and fall together with gold prices. Currency-indexed securities typically
are short-term to intermediate-term debt securities whose maturity values or
interest rates are determined by reference to the values of one or more
specified foreign currencies, and may offer higher yields than U.S. dollar-
denominated securities of equivalent issuers. Currency-indexed securities may be
positively or negatively indexed; that is, their maturity value may increase
when the specified currency value increases, resulting in a security that
performs similarly to a foreign-denominated instrument, or their maturity value
may decline when foreign currencies increase, resulting in a security whose
price characteristics are similar to a put on the underlying currency. Currency-
indexed securities may also have prices that depend on the values of a number of
different foreign currencies relative to each other.
The performance of indexed securities depends to a great extent on the
performance of the security, currency, or other instrument to which they are
indexed, and may also be influenced by interest rate changes in the U.S. and
abroad. At the same time, indexed securities are subject to the credit risks
associated with the issuer of the security, and their values may decline
substantially if the issuer's creditworthiness deteriorates. Recent issuers of
indexed securities have included banks, corporations, and certain U.S.
government agencies. IAI will use its judgment in determining whether indexed
securities should be treated as short-term instruments, bonds, stocks, or as a
separate asset class for purposes of a Fund's investment policies, depending on
the individual characteristics of the securities. Indexed securities may be more
volatile than the underlying instruments.
LIMITATIONS ON FUTURES AND OPTIONS TRANSACTIONS
Each Fund has filed a notice of eligibility for exclusion from the
definition of the term "commodity pool operator" with the Commodity Futures
Trading Commission (CFTC) and the National Futures Association, which regulate
trading in the futures markets, before engaging in any purchases or sales of
futures contracts or options on futures contracts. Each Fund intends to comply
with Section 4.5 of the regulations under the Commodity Exchange Act, which
limits the extent to which a Fund can commit assets to initial margin deposits
and option premiums.
In addition, each Fund will not: (a) sell futures contracts, purchase
put options, or write call options if, as a result, more than 25% of a Fund's
total assets would be hedged with futures and options under normal conditions;
(b) purchase futures contracts or write put options if, as a result, a Fund's
total obligations upon settlement or
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exercise of purchased futures contracts and written put options would exceed 25%
of its total assets; or (c) purchase call options if, as a result, the current
value of option premiums for call options purchased by a Fund would exceed 5% of
such Fund's total assets. These limitations do not apply to options attached to
or acquired or traded together with their underlying securities, and do not
apply to securities that incorporate features similar to options.
The above limitations on a Fund's investments in futures contracts and
options, and such Fund's policies regarding futures contracts and options
discussed elsewhere in this Statement of Additional Information may be changed
as regulatory agencies permit.
FUTURES CONTRACTS
When a Fund purchases a futures contract, it agrees to purchase a
specified underlying instrument at a specified future date. When a Fund sells a
futures contract, it agrees to sell the underlying instrument at a specified
future date. The price at which the purchase and sale will take place is fixed
when a Fund enters into the contract. Some currently available futures contracts
are based on specific securities, such as U.S. Treasury bonds or notes, and some
are based on indexes of securities prices, such as the Standard & Poor's 500
Composite Stock Price Index (S&P 500). Futures can be held until their delivery
dates, or can be closed out before then if a liquid secondary market is
available.
The value of a futures contract tends to increase and decrease in
tandem with the value of its underlying instrument. Therefore, purchasing
futures contracts will tend to increase a Fund's exposure to positive and
negative price fluctuations in the underlying instrument, much as if it had
purchased the underlying instrument directly. When a Fund sells a futures
contract, by contrast, the value of its futures position will tend to move in a
direction contrary to the market. Selling futures contracts, therefore, will
tend to offset both positive and negative market price changes, much as if the
underlying instrument had been sold.
FUTURES MARGIN PAYMENTS
The purchaser or seller of a futures contract is not required to
deliver or pay for the underlying instrument unless the contract is held until
the delivery date. However, both the purchaser and seller are required to
deposit "initial margin" with a futures broker, known as a futures commission
merchant (FCM), when the contract is entered into. Initial margin deposits are
typically equal to a percentage of the contract's value. If the value of either
party's position declines, that party will be required to make additional
"variation margin" payments to settle the change in value on a daily basis. The
party that has a gain may be entitled to receive all or a portion of this
amount. Initial and variation margin payments do not constitute purchasing
securities on margin for purposes of a Fund's investment limitations. In the
event of the bankruptcy of an FCM that holds margin on behalf of a Fund, such
Fund may be entitled to return of margin owed to it only in proportion to the
amount received by the FMC's other customers, potentially resulting in losses to
such Fund.
PURCHASING PUT AND CALL OPTIONS
By purchasing a put option, a Fund obtains the right (but not the
obligation) to sell the option's underlying instrument at a fixed strike price.
In return for this right, a Fund pays the current market price for the option
(known as the option premium). Options have various types of underlying
instruments, including specific securities, indexes of securities prices, and
futures contracts. A Fund may terminate its position in a put option it has
purchased by allowing it to expire or by exercising the option. If the option is
allowed to expire, a Fund will lose the entire premium it paid. If a Fund
exercises the option, it completes the sale of the underlying instrument at the
strike price. A Fund may also terminate a put option position by closing it out
in the secondary market at its current price, if a liquid secondary market
exists.
The buyer of a typical put option can expect to realize a gain if
security prices fall substantially. However, if the underlying instrument's
price does not fall enough to offset the cost of purchasing the option, a put
buyer can expect to suffer a loss (limited to the amount of the premium paid,
plus related transaction costs).
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The features of call options are essentially the same as those of put
options, except that the purchaser of a call option obtains the right to
purchase, rather than sell, the underlying instrument at the option's strike
price. A call buyer typically attempts to participate in potential price
increases of the underlying instrument with risk limited to the cost of the
option if security prices fall. At the same time, the buyer can expect to suffer
a loss if security prices do not rise sufficiently to offset the cost of the
option.
WRITING PUT AND CALL OPTIONS
When a Fund writes a put option, it takes the opposite side of the
transaction from the option's purchaser. In return for receipt of the premium,
such Fund assumes the obligation to pay the strike price for the option's
underlying instrument if the other party to the option chooses to exercise it.
When writing an option on a futures contract a Fund would be required to make
margin payments to an FCM as described above for futures contracts. A 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 a Fund has written, however,
such 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. If security prices rise, a put writer would
generally expect to profit, although its gain would be limited to the amount of
the premium it received.
If security prices remain the same over time, it is likely that the
writer will also profit, because it should be able to close out the option at a
lower price. If security prices fall, the put writer would expect to suffer a
loss. This loss should be less than the loss from purchasing the underlying
instrument directly, however, because the premium received for writing the
option should mitigate the effects of the decline.
Writing a call option obligates a Fund to sell or deliver the option's
underlying instrument, in return for the strike price, upon exercise of the
option. The characteristics of writing call options are similar to those of
writing put options, except that writing calls generally is a profitable
strategy if prices remain the same or fall. Through receipt of the option
premium, a call writer mitigates the effects of a price decline. At the same
time, because a call writer must be prepared to deliver the underlying
instrument in return for the strike price, even if its current value is greater,
a call writer gives up some ability to participate in security price increases.
COMBINED POSITIONS
A Fund may purchase and write options in combination with each other,
or in combination with futures or forward contracts, to adjust the risk and
return characteristics of the overall position. For example, a Fund may purchase
a put option and write a call option on the same underlying instrument, in order
to construct a combined position whose risk and return characteristics are
similar to selling a futures contract. Another possible combined position would
involve writing a call option at one strike price and buying a call option at a
lower price, in order to reduce the risk of the written call option in the event
of a substantial price increase. Because combined options positions involve
multiple trades, they result in higher transaction costs and may be more
difficult to open and close out.
CORRELATION OF PRICE CHANGES
Because there are a limited number of types of exchange-traded options
and futures contracts, it is likely that the standardized contracts available
will not match a Fund's current or anticipated investments exactly. The Fund may
invest in options and futures contracts based on securities with different
issuers, maturities, or other characteristics from the securities in which it
typically invests, which involves a risk that the options or futures position
will not track the performance of such Fund's other investments.
Options and futures prices can also diverge from the prices of their
underlying instruments, even if the underlying instruments match a Fund's
investments well. Options and futures prices are affected by such factors as
current and anticipated short-term interest rates, changes in volatility of the
underlying instrument, and the time remaining until expiration of the contract,
which may not affect security prices the same way. Imperfect correlation may
also result from differing levels of demand in the options and futures markets
and the securities markets, from structural differences in how options and
futures and securities are traded, or from imposition of
7
<PAGE>
daily price fluctuation limits or trading halts. A Fund may purchase or sell
options and futures contracts with a greater or lesser value than the securities
it wishes to hedge or intends to purchase in order to attempt to compensate for
differences in volatility between the contract and the securities, although this
may not be successful in all cases. If price changes in a Fund's options or
futures positions are poorly correlated with its other investments, the
positions may fail to produce anticipated gains or result in losses that are not
offset by gains in other investments.
LIQUIDITY OF OPTIONS AND FUTURES CONTRACTS
There is no assurance a liquid secondary market will exist for any
particular options or futures contract at any particular time. Options may have
relatively low trading volume and liquidity if their strike prices are not close
to the underlying instrument's current price. In addition, exchanges may
establish daily price fluctuation limits for options and futures contracts, and
may halt trading if a contract's price moves upward or downward more than the
limit in a given day. On volatile trading days when the price fluctuation limit
is reached or a trading halt is imposed, it may be impossible for a Fund to
enter into new positions or close out existing positions. If the secondary
market for a contract is not liquid because of price fluctuation limits or
otherwise, it could prevent prompt liquidation of unfavorable positions, and
potentially could require a Fund to continue to hold a position until delivery
or expiration regardless of changes in its value. As a result, a Fund's access
to other assets held to cover its options or futures positions could also be
impaired.
OTC OPTIONS
Unlike exchange-traded options, which are standardized with respect to
the underlying instrument, expiration date, contract size, and strike price, the
terms of over-the-counter options (options not traded on exchanges) generally
are established through negotiation with the other party to the option contract.
While this type of arrangement allows a Fund greater flexibility to tailor an
option to its needs, OTC options generally involve greater credit risk than
exchange-traded options, which are guaranteed by the clearing organization of
the exchanges where they are traded.
ASSET COVERAGE FOR FUTURES AND OPTIONS POSITIONS
Each Fund will comply with guidelines established by the Securities
and Exchange Commission with respect to coverage of options and futures
strategies by mutual funds, and if the guidelines so require will set aside
appropriate liquid assets in a segregated custodial account in the amount
prescribed. Securities held in a segregated account cannot be sold while the
futures or option strategy is outstanding, unless they are replaced with other
suitable assets. As a result, there is a possibility that segregation of a large
percentage of a Fund's assets could impede portfolio management or a Fund's
ability to meet redemption requests or other current obligations.
ECONOMIES OF JAPAN, THE UNITED KINGDOM AND GERMANY
As discussed in the Prospectus, International Fund may from time to
time concentrate more than 25% of its total assets in the economies of Japan,
the United Kingdom and Germany. This section includes a general discussion of
the economy of Germany. The economies of Japan and the United Kingdom are
further described in the Prospectus.
Germany is a federated republic with a population of approximately 80
million and a democratic parliamentary form of government. The German economy is
organized primarily on the basis of private sector ownership, with the state
exerting major influence through ownership in certain sectors, including
transportation, communication and energy. Unification of West Germany with the
formerly communist controlled East Germany took place in 1990.
Industrial activity makes the largest contribution to the German gross
national product. Although only 5% of German businesses are large-scale
enterprises, such large-scale businesses account for over half of industrial
production and employ over half the industrial labor force. Trading volume,
therefore, tends to concentrate on relatively few companies with both large
capitalizations and broad stock ownership. Historically
8
<PAGE>
the German economy has been strongly export oriented. Privatization of formerly
state owned enterprise in what was once East Germany is in progress, but will
make little difference to the predominance of large scale businesses in overall
industrial activity and the stock market.
German equity securities trade predominantly on the country's eight
independent local stock exchanges, the Frankfurt exchange accounting for 70% of
turnover. Subject to the provisions of pertinent securities law, mainly the
Stock Exchange Law of 1896, as amended, the council, management and other
executive organs of the stock exchanges constitute self-administering and self-
regulatory bodies. The "Working Group of German Stock Exchanges" headquartered
in Frankfurt, of which all eight stock exchanges are members, addresses all
policy and administrative questions of national and international character.
Prices for active stocks, including those for larger companies are
quoted continuously during stock exchange hours. Less actively traded stocks are
quoted only once a day. Equity shares are normally fully-paid and non-
assessable.
Orders for stock executed for large customers on the stock exchanges
are negotiable. A federal stock exchange turnover tax, ranging up to 0.25%, is
levied on all securities transactions other than those between banks acting as
principal. Nonresidents such as the Fund are charged half these rates.
German equity securities are denominated in Deutchemarks. Deutchemarks
are fully convertible and transferable into all currencies, without
administrative or legal restrictions, for both nonresidents and residents of
Germany. Since 1974, the Deutchemark has traded on a floating exchange rate
basis against all currencies.
NO RATING CRITERIA FOR DEBT SECURITIES
Developing Countries Fund has established no rating criteria for the
debt securities in which it may invest. Therefore, Developing Countries Fund may
invest in debt securities either (a) which are rated in one of the top four
rating categories by a nationally recognized rating organization or which
possess similar credit characteristics ("investment grade securities") or (b)
which are rated below the top four rating categories or which possess similar
credit characteristics ("high yield securities"). Ratings are one of several
factors utilized in performing a credit analysis of issuers.
Issuers of high yield securities may be highly leveraged and may not
have available to them more traditional methods of financing. Therefore, the
risks associated with acquiring the securities of such issuers generally are
greater than is the case with higher rated securities. For example, during an
economic downturn or a sustained period of rising interest rates, issuers of
high yield securities may be more likely to experience financial stress,
especially if such issuers are highly leveraged. During such periods, such
issuers may not have sufficient revenues to meet their interest payment
obligations. The issuer's ability to service its debt obligations also may be
adversely affected by specific issuer developments or the issuer's inability to
meet specific projected business forecasts or the unavailability of additional
financing. The risk of loss due to default by the issuer is significantly
greater for the holders of high yield securities because such securities may be
unsecured and may be subordinated to other creditors of the issuer.
High yield securities frequently have call or redemption features
which would permit an issuer to repurchase the security from the Fund. If a call
were exercised by the issuer during a period of declining interest rates, the
Fund likely would have to replace such called security with a lower yielding
security, thus decreasing the net investment income to the Fund and dividends to
shareholders.
Developing Countries Fund may have difficulty disposing of certain
high yield securities because there may be a thin trading market for such
securities. The secondary trading market for high yield securities is generally
not as liquid as the secondary market for higher rated securities. Reduced
secondary market liquidity may have an adverse impact on market price and
Developing Countries Fund's ability to dispose of particular issues when
necessary to meet Developing Countries Fund's liquidity needs or in response to
a specific economic event such as a deterioration in the creditworthiness of the
issuer.
9
<PAGE>
Adverse publicity and investor perceptions, which may not be based on
fundamental analysis, also may decrease the value and liquidity of high yield
securities, particularly in a thinly traded market. Factors adversely affecting
the market value of high yield securities are likely to adversely affect
Developing Countries Fund's net asset value. In addition, the Fund may incur
additional expenses to the extent it is required to seek recovery upon a default
on a portfolio holding or participate in the restructuring of the obligation.
ADDITIONAL RISK CONSIDERATIONS
Investors should consider carefully the substantial risks involved
with respect to investing in securities of companies and governments of foreign
nations, which are in addition to the usual risks inherent in domestic
investments. Such risks are heightened with respect to investments in developing
countries. There may be less publicly available information about foreign
companies comparable to the reports and ratings published about companies in the
United States. Foreign companies are not generally subject to uniform
accounting, auditing and financial reporting standards, and auditing practices
and requirements may not be comparable to those applicable to United States
companies. Foreign markets typically have substantially less volume than the New
York Stock Exchange and securities of some foreign companies are less liquid and
more volatile than securities of comparable United States companies. Commission
rates in foreign countries, which are generally fixed rather than subject to
negotiation as in the United States, are likely to be higher. In many foreign
countries there is less government supervision and regulation of stock
exchanges, brokers and listed companies than in the United States.
Investments in developing countries may be subject to potentially
higher risks than investments in developed countries. These risks include (i)
less social, political and economic stability; (ii) the small current size of
the markets for such securities and the currently low or nonexistent volume of
trading, which may result in a lack of liquidity and in greater price
volatility; (iii) certain national policies which may restrict the Fund's
investment opportunities, including restrictions on investment in issuers or
industries deemed sensitive to national interests; (iv) foreign taxation; (v)
the absence of developed structures governing private or foreign investment or
allowing for judicial redress for injury to private property; (vi) the limited
development and recent emergence, in certain countries, of a capital market
structure or market-oriented economy; and (vii) the possibility that recent
favorable economic developments in certain countries may be slowed or reversed
by unanticipated political or social events in such countries.
Despite the recent dissolution of the Soviet Union, the Communist
Party may continue to exercise a significant role in certain (particularly
Eastern European) countries. To the extent of the Communist Party's influence,
investments in such countries will involve risks of nationalization,
expropriation and confiscatory taxation. The communist governments of a number
of such countries expropriated large amounts of private property in the past, in
many cases without adequate compensation, and there can be no assurance that
such expropriation will not occur in the future. In the event of such
expropriation, a Fund could lose a substantial portion of any investments it has
made in the affected countries. Further, no accounting standards exist in many
developing countries. Finally, even though certain currencies may be convertible
into U.S. dollars, the conversion rates may be artificial to the actual market
values and may be adverse to Fund shareholders.
Certain countries, which do not have market economies, are
characterized by an absence of developed legal structures governing private and
foreign investments and private property. Certain countries require governmental
approval prior to investments by foreign persons, or limit the amount of
investment by foreign persons in a particular company, or limit the investment
of foreign persons to only a specific class of securities of a company that may
have less advantageous terms than securities of the company available for
purchase by nationals.
Authoritarian governments in certain countries may require that a
governmental or quasi-governmental authority to act as custodian of a Fund's
assets invested in such country. To the extent such governmental or quasi-
governmental authorities do not satisfy the requirements of the 1940 Act to act
as foreign custodians of the Fund's cash and securities, a Fund's investment in
such countries may be limited or may be required to be effected through
intermediaries. The risk of loss through governmental confiscation may be
increased in such countries.
A Fund endeavors to buy and sell foreign currencies on as favorable a
basis as practicable. Some price spread on currency exchange (to cover service
charges) may be incurred, particularly when a Fund changes
10
<PAGE>
investments from one country to another or when proceeds from the sale of shares
in U.S. dollars are used for the purchase of securities in foreign countries.
Also, some countries may adopt policies which would prevent a Fund from
transferring cash out of the country, withhold portions of interest and
dividends at the source, or impose other taxes, with respect to a Fund's
investments in securities of issuers of that country. Although a Fund invests
only in foreign nations which it considers as having relatively stable and
friendly governments, there is the possibility of expropriation,
nationalization, confiscatory or other taxation, foreign exchange controls
(which may include suspension of the ability to transfer currency from a given
country), default in foreign government securities, political or social
instability or diplomatic developments that could affect investments in
securities of issuers in those nations.
A Fund may be affected either unfavorably or favorably by fluctuations
in the relative rates of exchange between the currencies of different nations,
by exchange control regulations and by indigenous economic and political
developments. Through a Fund's flexible policy, management endeavors to avoid
unfavorable consequences and to take advantage of favorable developments in
particular nations where from time to time it places a Fund's investments.
The exercise of this flexible policy may include decisions to purchase
securities with substantial risk characteristics and other decisions such as
changing the emphasis on investments from one nation to another and from one
type of security to another. Some of these decisions may later prove profitable
and others may not. No assurance can be given that profits, if any, will exceed
losses. However, in the absence of willful misfeasance, bad faith or gross
negligence on the part of the investment manager, any losses resulting from the
holding of a Fund's portfolio securities in foreign countries and/or with
securities depositories will be at the risk of the shareholders.
A Fund's ability to reduce or eliminate its futures and related
options positions will depend upon the liquidity of the secondary markets for
such futures and options. Each Fund intends to purchase or sell futures and
related options only on exchanges or boards of trade where there appears to be
an active secondary market, but there is no assurance that a liquid secondary
market will exist for any particular contract or at any particular time. Use of
stock index futures and related options for hedging may involve risks because of
imperfect correlations between movements in the prices of the futures or related
options and movements in the prices of the securities being hedged. Successful
use of futures and related options by a Fund for hedging purposes also depends
upon the investment manager's ability to predict correctly movements in the
direction of the market, as to which no assurance can be given.
INVESTMENT RESTRICTIONS
As indicated in the Prospectus, each Fund is subject to certain
policies and restrictions which are "fundamental" and may not be changed without
shareholder approval. Shareholder approval consists of the approval of the
lesser of (i) more than 50% of the outstanding voting securities of a Fund, or
(ii) 67% or more of the voting securities present at a meeting if the holders of
more than 50% of the outstanding voting securities of the Fund are present or
represented by proxy. Limitations 1 through 8 below are deemed fundamental
limitations. The remaining limitations set forth below serve as operating
policies of each Fund and may be changed by the Board of Directors without
shareholder approval.
Each Fund may not:
1. Purchase the securities of any issuer if such purchase would cause the
Fund to fail to meet the requirements of a "diversified company" as defined
under the Investment Company Act of 1940, as amended (the "1940 Act").
As defined in the 1940 Act, "diversified company" means a management
company which meets the following requirements: at least 75 per centum of the
value of its total assets is represented by cash and cash items (including
receivables), Government securities, securities of other investment companies,
and other securities for the purposes of this calculation limited in respect of
any one issuer to an amount not greater in value than 5 per
11
<PAGE>
centum of the value of the total assets of such management company and not more
than 10 per centum of the outstanding voting securities of such issuer.
2. Purchase the securities of any issuer (other than "Government
securities" as defined under the 1940 Act) if, as a result, more than 25% of the
value of the Fund's total assets would be invested in the securities of
companies whose principal business activities are in the same industry.
3. Issue any senior securities, except as permitted by the 1940 Act or
the Rules and Regulations of the Securities and Exchange Commission.
4. Borrow money, except from banks for temporary or emergency purposes
provided that such borrowings may not exceed 33-1/3% of the value of the Fund's
net assets (including the amount borrowed). Any borrowings that come to exceed
this amount will be reduced within three days (not including Sundays and
holidays) to the extent necessary to comply with the 33-1/3% limitation. This
limitation shall not prohibit the Fund from engaging in reverse repurchase
agreements, making deposits of assets to margin or guarantee positions in
futures, options, swaps or forward contracts, or segregating assets in
connection with such agreements or contracts.
To the extent a Fund engages in reverse repurchase agreements, because
such transactions are considered borrowing, reverse repurchase agreements are
included in the 33-1/3% limitation.
5. Act as an underwriter of securities of other issuers, except to the
extent that in connection with the disposition of portfolio securities the Fund
may be deemed to be an underwriter under applicable laws.
6. Purchase or sell real estate unless acquired as a result of ownership
of securities or other instruments. This restriction shall not prevent the Fund
from investing in securities or other instruments backed by real estate or
securities of companies engaged in the real estate business.
7. Purchase or sell physical commodities unless acquired as a result of
ownership of securities or other instruments (but this shall not prevent the
Fund from purchasing or selling options and future contracts or from investing
in securities or other instruments backed by physical commodities).
8. Make loans to other persons except to the extent not inconsistent with
the 1940 Act or the Rules and Regulations of the Securities and Exchange
Commission. This limitation does not apply to purchases of commercial paper,
debt securities or repurchase agreements, or to the lending of portfolio
securities.
9. Purchase securities on margin, except that the Fund may obtain such
short-term credits as may be necessary for the clearance of purchases or sales
of securities and provided that margin payments in connection with transactions
in options, futures, swaps and forward contracts shall not be deemed to
constitute purchasing securities on margin.
10. Sell securities short, unless it owns or has the right to obtain
securities equivalent in kind and amount to the securities sold short, and
provided that transactions in options, swaps and forward futures contracts are
not deemed to constitute selling securities short.
11. Except as part of a merger, consolidation, acquisition, or
reorganization, invest more than 5% of the value of its total assets in the
securities of any one investment company or more than 10% of the value of its
total assets, in the aggregate, in the securities of two or more investment
companies, or acquire more than 3% of the total outstanding voting securities of
any one investment company.
12. Mortgage, pledge or hypothecate its assets except to the extent
necessary to secure permitted borrowings. This limitation does not apply to
reverse repurchase agreements or in the case of assets deposited to margin or
guarantee positions in futures, options, swaps or forward contracts or placed in
a segregated account in connection with such contracts.
12
<PAGE>
13. Participate on a joint or a joint and several basis in any securities
trading account.
14. Developing Countries Fund may not invest more than 10% of its net
assets in illiquid investments. International Fund may not invest more than 15%
of its net assets in illiquid investments.
15. Invest directly in interests (including partnership interests) in oil,
gas or other mineral exploration or development leases or programs, except the
Fund may purchase or sell securities issued by corporations engaging in oil, gas
or other mineral exploration or development business.
Any of the Fund's investment policies set forth under "Investment Objective
and Policies" in the Prospectus, or any restriction set forth above under
"Investment Restrictions" which involves a maximum percentage of securities or
assets shall not be considered to be violated unless an excess over the
percentage occurs immediately after an acquisition of securities or utilization
of assets and results therefrom. With respect to Restriction 14, a Fund is under
a continuing obligation to ensure that it does not violate the maximum
percentage either by acquisition or by virtue of a decrease in the value of the
Fund's liquid assets.
PORTFOLIO TURNOVER
The portfolio turnover rate is calculated by dividing the lesser of
purchases or sales of portfolio securities for the particular fiscal year by the
monthly average of the value of portfolio securities owned by the Fund during
the same fiscal year. "Portfolio securities" for purposes of this calculation do
not include securities with a maturity date of less than twelve (12) months from
the date of investment. A 100% portfolio turnover rate would occur, for example,
if the lesser of the value of purchases or sales of portfolio securities for a
particular year were equal to the average monthly value of the portfolio
securities owned during such year. The International Fund's historical portfolio
turnover rates are set forth in the prospectus section "Financial Highlights".
INVESTMENT PERFORMANCE
Advertisements and other sales literature for each Fund may refer to
monthly, quarterly, yearly, cumulative and average annual total return. Each
such calculation assumes all dividends and capital gain distributions are
reinvested at net asset value on the appropriate reinvestment dates as described
in the Prospectus, and includes all recurring fees, such as investment advisory
and management fees, charged as expenses to all shareholder accounts. Each of
monthly, quarterly and yearly total return is computed in the same manner as
cumulative total return, as set forth below.
Cumulative total return is computed by finding the cumulative rate of
return over the period indicated in the advertisement that would equate the
initial amount invested to the ending redeemable value, according to the
following formula:
CTR = (ERV-P) 100
-----
P
Where: CTR = Cumulative total return;
ERV = ending redeemable value at the end of the
period of a hypothetical $1,000 payment made
at the beginning of such period; and
P = initial payment of $1,000
Average annual total return is computed by finding the average annual
compounded rates of return over the periods indicated in the advertisement that
would equate the initial amount invested to the ending redeemable value,
according to the following formula:
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<PAGE>
P(1+T)/n/ = ERV
Where: P = a hypothetical initial payment of $1,000;
T = average annual total return;
n = number of years; and
ERV = ending redeemable value at the end of the
period of a hypothetical $1,000 payment made
at the beginning of such period.
The table below shows the yearly total return for the Funds for the periods
indicated.
<TABLE>
<CAPTION>
Year
Ended 12/31 Developing Countries Fund International Fund
----------- ------------------------- ------------------
<S> <C> <C>
1987............ N/A (7.2%)*
1988............ N/A 18.0%
1989............ N/A 18.4%
1990............ N/A (13.1%)
1991............ N/A 16.6%
1992............ N/A (6.3%)
1993............ N/A 39.50%
1994............ N/A .46%
1995............ (.51%)** 9.10%
- ----------------
* Commenced operations on April 23, 1987
** Commenced operations on February 10, 1995
</TABLE>
The total return of Developing Countries Fund for the period from
February 10, 1995 through January 31, 1996 was 8.53%.
The average annual total return of International Fund for the one and
five year periods ended January 31, 1996 and from April 23, 1987 (commencement
of operations) through January 31, 1995 was 20.15%, 11.07% and 7.92%,
respectively.
In advertising and sales literature, each Fund may compare its
performance with that of other mutual funds, indexes or averages of other mutual
funds, indexes of related financial assets or data, and other competing
investment and deposit products available from or through other financial
institutions. The composition of these indexes, averages or products differs
from that of a Fund. The comparison of a Fund to an alternative investment
should be made with consideration of differences in features and expected
performance. A Fund may also note its mention in newspapers, magazines, or other
media from time to time. However, a Fund assumes no responsibility for the
accuracy of such data.
For example, (1) a Fund's performance or P/E ratio may be compared to
any one or a combination of the following: (i) the Standard & Poor's 500 Stock
Index and Dow Jones Industrial Average so that you may compare a Fund's results
with those of a group of unmanaged securities widely regarded by investors as
representative of the U.S. stock market in general; (ii) other groups of mutual
funds, including the IAI Funds, tracked by: (A) Lipper Analytical Services,
Inc., a widely used independent research firm which ranks mutual funds by
overall performance, investment objectives, and assets; (B) Morningstar, Inc.,
another widely used independent research firm which rates mutual funds; or (C)
other financial or business publications, which may include, but are not limited
to, Business Week, Money Magazine, Forbes and Barron's, which provide similar
information; (iii) The Financial Times (a London based international financial
newspaper)-Actuaries World Indices, including Europe and sub indices comprising
this Index (a wide range of comprehensive measures of stock price performance
for the
14
<PAGE>
major stock markets, as well as for regional areas, broad economic sectors and
industry groups); (iv) Morgan Stanley Capital International Indices, including
the EAFE Index; (v) Baring International Investment Management Limited (an
international securities trading, research, and investment management firm), as
a source for market capitalization, GDP and GNP; (vi) the International Finance
Corporation (an affiliate of the World Bank established to encourage economic
development in less developed countries), World Bank, OECD (Organization for
Economic Co-Operation and Development) and IMF (International Monetary Fund) as
a source of economic statistics; and (ix) the performance of U.S. government and
corporate bonds, notes and bills. (The purpose of these comparisons would be to
illustrate historical trends in different market sectors so as to allow
potential investors to compare different investment strategies.); (2) the
Consumer Price Index (measure for inflation) may be used to assess the real rate
of return from an investment in a Fund; (3) other U.S. or foreign government
statistics such as GNP, and net import and export figures derived from
governmental publications, e.g., The Survey of Current Business, may be used to
illustrate investment attributes of a Fund or the general economic business,
investment, or financial environment in which a Fund operates; (4) the effect of
tax-deferred compounding on a Fund's investment returns, or on returns in
general, may be illustrated by graphs, charts, etc. where such graphs or charts
would compare, at various points in time, the return from an investment in a
Fund (or returns in general) on a tax-deferred basis (assuming reinvestment of
capital gains and dividends and assuming one or more tax rates) with the return
on a taxable basis; and (5) the sectors or industries in which a Fund invests
may be compared to relevant indices or surveys (e.g., S&P Industry Surveys) in
order to evaluate a Fund's historical performance or current or potential value
with respect to the particular industry or sector.
MANAGEMENT
The names, addresses, positions and principal occupations of the directors and
executive officers of the Fund are given below.
<TABLE>
<CAPTION>
Name and Address Age Position Principal Occupation(s) During Past 5 Years
- ---------------- --- -------- -------------------------------------------
<S> <C> <C> <C>
Noel P. Rahn* 57 Chairman of the Chief Executive Officer and a Director of IAI since 1974.
3700 First Bank Place Board Mr. Rahn is also Chairman of the other IAI Mutual Funds.
P.O. Box 357
Minneapolis, Minnesota 55440
Richard E. Struthers* 43 President, Director Executive Vice President and a Director of IAI and has served IAI
3700 First Bank Place in many capacities since 1979. Mr. Struthers is also President
P.O. Box 357 of the other IAI Mutual Funds.
Minneapolis, Minnesota 55440
Madeline Betsch 53 Director Currently retired; until April 1994, was Executive Vice President,
19 South 1st Street Director of Client Services, of CME-KHBB Advertising since May 1985,
Minneapolis, Minnesota 55401 and prior thereto was a Vice President with Campbell-Mithun, Inc.
(advertising agency) since February 1977.
W. William Hodgson 71 Director Currently retired; served as information manager for the North
1698 Dodd Road Central Home Office of the Prudential Insurance Company of America
Mendota Heights, Minnesota 55118 from 1961 until 1984.
</TABLE>
15
<PAGE>
<TABLE>
<CAPTION>
Name and Address Age Position Principal Occupation(s) During Past 5 Years
- ---------------- --- -------- -------------------------------------------
<S> <C> <C> <C>
George R. Long 66 Director Chairman of Mayfield Corp. (financial consultants and venture
29 Las Brisas Way capitalists) since 1973.
Naples, Florida 33963
J. Peter Thompson 64 Director Grain farmer in southwestern Minnesota since 1974. Prior to
Route 1 that, Mr. Thompson was employed by Paine Webber, Jackson &
Mountain Lake, Minnesota 56159 Curtis, Incorporated, (a diversified financial services concern),
most recently as Senior Vice President and General Partner.
Charles H. Withers 69 Director Currently retired; was Editor of the Rochester Post-Bulletin,
Rochester Post Bulletin Rochester, Minnesota from 1960 through March 31, 1980.
P.O. Box 6118
Rochester, Minnesota 55903
Archie C. Black, III 33 Treasurer Senior Vice President and Chief Financial Officer of IAI
3700 First Bank Place has served IAI in several capacities since 1987. Mr. Black
P.O. Box 357 is also Treasurer of the other IAI Mutual Funds.
Minneapolis, Minnesota 55440
William C. Joas 33 Secretary Vice President of IAI and has served as an attorney for IAI
3700 First Bank Place since 1990. Mr. Joas is also Secretary of the other IAI
P.O. Box 357 Mutual Funds.
Minneapolis, Minnesota 55440
Roy C. Gillson 43 Vice President, Chief Investment Officer and Director of IAI International
10 Fleet Place Investments Limited. Mr. Gillson joined IAI International in 1983.
London, England Ec4M 7RH, U.K.
Kirk Gove 33 Vice President, Vice President of IAI. Prior to joining IAI in 1992, Mr. Gove
3700 First Bank Place Marketing served as an Associate Vice President of Dain Bosworth,
P.O. Box 357 Incorporated (a diversified financial services concern).
Minneapolis, Minnesota 55440 Mr. Gove is also Vice President, Marketing of the other IAI
Mutual Funds.
Susan J. Haedt 33 Vice President, Vice President of IAI and Director of Fund Operations. Prior to
3700 First Bank Place Director of joining IAI in 1992, Ms. Haedt served as a Senior Manager at
P.O. Box 357 Operations KPMG Peat Marwick LLP (an international tax, accounting and
Minneapolis, Minnesota 55440 consulting firm). Ms. Haedt is also Vice President, Director of
Operations of the other IAI Mutual Funds.
</TABLE>
- ----------------
* Directors of the Funds who are interested persons (as that term is defined by
the Investment Company Act of 1940) of IAI and the Funds.
Each Fund has agreed to reduced initial subscription requirements for
employees and directors of a Fund or IAI, their spouses, children and
grandchildren. With respect to such persons, the minimum initial investment in
16
<PAGE>
one or more of the IAI Family of Funds is $500; provided that the minimum amount
that can be allocated to any one of the Funds is $250. Subsequent subscriptions
are limited to a minimum of $100 for each of the Funds.
No compensation is paid by the Fund to any of its officers. As of
January 1, 1996, directors who are not affiliated with IAI receive from the IAI
Mutual Funds a $15,000 annual retainer, $2,500 for each Board meeting attended,
$3,600 for each Audit Committee meeting attended (as applicable) and $1,800 for
each Securities Valuation Committee meeting attended. Each Fund will pay its pro
rata share of these fees based on its net assets. Such unaffiliated directors
also are reimbursed for expenses incurred in connection with attending
meetings.
<TABLE>
<CAPTION>
Aggregate
Aggregate Compensation Aggregate Projected Aggregate
Compensation from Compensation Compensation
from Developing from the 18 from the 19
Name of Person, Position International Fund* Countries Fund IAI Mutual Funds** IAI Mutual Funds***
------------------------ ------------------ -------------- ---------------- ----------------
<S> <C> <C> <C> <C>
Betsch, Madeline - Director $1,950 $1,425 $28,725 $32,200
Hodgson, W. William - Director $1,950 $1,425 $28,725 $32,200
Long, George R. - Director $1,550 $1,225 $27,725 $32,200
Thompson, J. Peter - Director $1,950 $1,425 $28,725 $32,200
Withers, Charles H. - Director $1,550 $1,225 $27,725 $32,200
- -------------------------
* For the fiscal year ended January 31, 1996.
** For the calendar year ended December 31, 1995.
*** For the calendar year ended December 31, 1996 and includes the new IAI
Capital Appreciation Fund; provided that a director misses no meetings;
excludes expenses incurred in connection with attending meetings.
</TABLE>
The Board of Directors for each of the Funds has approved a Code of
Ethics. The Code permits access persons to engage in personal securities
transactions subject to certain policies and procedures. Such procedures
prohibit certain persons from acquiring of any securities in an initial public
offering. In addition, securities acquired through private placement must be
pre-cleared. Procedures have been adopted which would implement blackout periods
for certain securities, as well as a ban on short-term trading profits.
Additional policies prohibit the receipt of gifts in certain instances.
Procedures have been implemented to monitor employee trading. Each access person
is required to certify annually that they have read and understood the Code of
Ethics. An annual report is provided to the Funds' Board of Directors
summarizing existing procedures and changes, identifying material violations and
recommending any changes needed.
IAI, the Fund's investment adviser, is an affiliate of the Hill Samuel
Group ("Hill Samuel"). Hill Samuel is an international merchant banking and
financial services firm headquartered in London, England. In addition to its
ownership of IAI, Hill Samuel owns controlling interests in over seventy
insurance, merchant banking and financial services subsidiaries located in
Western Europe, Asia, the United States, Australia, New Zealand and Great
Britain. The principal offices of Hill Samuel are located at 100 Wood Street,
London EC2 P2AJ.
Hill Samuel, in turn, is owned by Lloyds TSB Group, plc ("Lloyds
TSB"), a publicly-held financial services organization headquartered in London,
England. Lloyds TSB is one of the largest personal and corporate financial
services groups in the United Kingdom, engaged in a wide range of activities
including commercial and retail banking. The principal offices of Lloyds TSB are
located at St. George's House, 6 - 8 Eastcheap, London, EC3M 1LL.
17
<PAGE>
HISTORY
Each Fund is a separate portfolio of IAI Investment Funds III, Inc., a
Minnesota corporation whose shares of common stock are currently issued in two
series (Series A and B). The investment portfolio represented by Series A common
shares is referred to as "IAI International Fund." The investment portfolio
represented by Series B common shares is referred to as "IAI Developing
Countries Fund."
MANAGEMENT AGREEMENT
Effective March 31, 1996, pursuant to a Management Agreement between
each Fund and IAI, IAI has agreed to provide each Fund with investment advice,
statistical and research facilities, and certain equipment and services,
including, but not limited to, office space and necessary office facilities,
equipment, and the services of required personnel and, in connection therewith,
IAI has the sole authority and responsibility to make and execute investment
decisions for each Fund within the framework of a Fund's investment policies,
subject to review by the directors of a Fund. In addition, IAI has agreed to
provide or arrange for the provision of all required administrative, stock
transfer, redemption, dividend disbursing, accounting, and shareholder services
including, without limitation, the following: (1) the maintenance of a Fund's
accounts, books and records; (2) the calculations of the daily net asset value
in accordance with a Fund's current Prospectus and Statement of Additional
Information; (3) daily and periodic reports; (4) all information necessary to
complete tax returns, questionnaires and other reports requested by a Fund; (5)
the maintenance of stock registry records; (6) the processing of requested
account registration changes, stock certificate issuances and redemption
requests; (7) the administration of payments and dividends and distributions
declared by a Fund; (8) answering shareholder questions, (9) providing reports
and other information and (10) other services designed to maintain shareholder
accounts. IAI may also pay qualifying broker-dealers, financial institutions and
other entities that provide such services. In return for these services, each
Fund has agreed to pay IAI an annual fee as a percentage of the Fund's average
daily net assets as set forth below:
DEVELOPING COUNTRIES FUND
Daily Net Assets Fee IAI Receives Annually
---------------- -------------------------
For the first $100 million 2.00%
For the next $100 - $250 million 1.95%
For the next $250 - $500 million 1.75%
Above $500 million 1.65%
INTERNATIONAL FUND
Daily Net Assets Fee IAI Receives Annually
---------------- -------------------------
For the first $100 million 1.70%
For the next $100 - $250 million 1.45%
For the next $250 - $500 million 1.30%
Above $500 million 1.30%
Under the Management Agreement, except for brokerage commissions and
other expenditures in connection with the purchase and sale of portfolio
securities, interest expense, and, subject to the specific approval of a
majority of the disinterested directors of a Fund, taxes and extraordinary
expenses, IAI has agreed to pay all of a Fund's other costs and expenses,
including, for example, costs incurred in the purchase and sale of assets,
taxes, charges of the custodian of a Fund's assets, costs of reports and proxy
material sent to Fund shareholders, fees paid for independent accounting and
legal services, costs of printing Prospectuses for Fund shareholders and
registering a Fund's shares, postage, insurance premiums, and costs of attending
investment conferences. The Management Agreement further provides that IAI will
either reimburse a Fund for the fees and expenses it pays to directors who are
not "interested persons" of a Fund or reduce its fee by an equivalent amount.
IAI is not liable
18
<PAGE>
for any loss suffered by a Fund in the absence of willful misfeasance, bad faith
or negligence in the performance of its duties and obligations.
PRIOR AGREEMENTS
Effective March 31, 1996, the Investment Advisory Agreement and
Administrative Agreement between each Fund and IAI were terminated and replaced
by the Management Agreement described above. The services provided by IAI under
each of these agreements are substantially similar in nature as those provided
under the new Management Agreement.
Under the Investment Advisory Agreement, Developing Countries Fund had
agreed to pay IAI an advisory fee at an annual rate of 1.25% of the Fund's
average daily net assets of the first $100,000,000 in assets, 1.10% for the next
$100,000,00 in assets and 1.00% for assets above $400,000,000. For the fiscal
period ended January 31, 1996, IAI voluntarily agreed to waive certain fees so
that total Developing Countries Fund expenses do not exceed 2.00% of average
daily net assets on an annual basis. As of January 31, 1996, Developing
Countries Fund had net assets of $7,357,009. For the fiscal period from February
10, 1995 through January 31, 1996, Developing Countries Fund paid IAI advisory
fees of $8,362. International Fund had agreed to pay IAI a monthly fee of 1.00%
per year of International Fund's average month-end net assets for the first
$100,000,000 in assets, 0.85% for the next $100,000,000 in assets, 0.75% for the
next $100,000,000 in assets, and 0.70% for assets above $300,000,000. As of
January 31, 1996, International Fund had net assets of $151,663,260. For its
fiscal year ended March 31, 1994, for the fiscal period ended January 31, 1995,
and the year ended January 31, 1996, the Fund paid IAI $960,110, $1,213,486, and
$1,368,001, respectively, in advisory fees.
With respect to the Administrative Agreement, Developing Countries
Fund was obligated to pay IAI a monthly fee at the annual rate of .30% of the
Fund's average daily net assets. As stated above, IAI had voluntarily agreed to
waive certain fees so that total Developing Countries Fund expenses did not
exceed 2.00% of the Funds average daily net assets on an annual basis. For the
fiscal period from February 10, 1995 (inception) through January 31, 1996,
Developing Countries Fund paid IAI administrative fees of $10,731. International
Fund agreed to pay IAI a monthly fee equal to .30% of the Fund's average month-
end net assets. For the fiscal year ended January 31, 1996, International Fund
paid IAI administrative fees of $429,883.
Effective March 31, 1996, each Fund's Plan of Distribution (the
"Plan") terminated. Prior to termination, each Fund had entered into a
Distribution and Shareholder Services Agreement (the "Agreement") with IAI
Securities, Inc. ("IAIS"). Pursuant to such Plan and Agreement, each Fund paid
IAIS .25% of the Fund's average month-end net assets (daily net assets for
Developing Countries Fund) to cover expenses incurred by IAIS in connection with
the servicing of shareholder accounts and the distribution of such Fund's
shares, subject to the contractual expense limitations discussed above. For the
fiscal period from February 10, 1995 to January 31, 1996, IAI waived $8,943 in
distribution expenses pursuant to the voluntary agreement to absorb expenses for
the Developing Countries Fund. The distribution fee paid by International Fund
during the fiscal year ended January 31, 1996 was $358,236. Such distribution
fees (along with amounts paid out of IAIS' own assets) were utilized in
connection with the distribution of International Fund's shares as follows:
<TABLE>
<CAPTION>
<S> <C>
Advertising............................. $ 60,900
Printing and mailing of prospectuses to
other than current shareholders........ $ 42,988
Payments to brokers or dealers.......... $ 68,065
Direct payments to sales personnel...... $154,041
Other................................... $ 32,242
</TABLE>
19
<PAGE>
ALLOCATION OF EXPENSES
Prior to the termination of the Advisory and Administrative Agreements
on March 31, 1996 as discussed above, each Fund paid all its other costs and
expenses, including, for example, costs incurred in the purchase and sale of
assets, interest, taxes, charges of the custodian of a Fund's assets, costs of
reports and proxy material sent to Fund shareholders, fees paid for independent
accounting and legal services, costs of printing Prospectuses for Fund
shareholders and registering the Fund's shares, postage, fees to directors who
are not "interested persons" of a Fund, distribution expenses pursuant to each
Fund's Rule 12b-1 plan, insurance premiums, costs of attending investment
conferences and such other costs which may be designated as extraordinary. With
respect to International Fund, IAI agreed to reimburse the Fund for expenses
(other than brokerage commissions and other expenditures in connection with the
purchase and sale of portfolio securities, interest expense, and subject to the
specific approval of a majority of the disinterested directors of International
Fund, taxes and extraordinary expenses which exceed on an annual basis, 2.00% of
the International Fund's average month-end net assets (the "expense limit").
Certain state securities commissions may impose limitations on certain of a
Fund's expenses, and IAI may be required by such state commissions to reimburse
a Fund for expenses in excess of any limitations as a requirement to selling
shares of the Fund in those states. IAI is not liable for any loss suffered by a
Fund in the absence of willful misfeasance, bad faith or gross negligence in the
performance of its duties and obligations.
DURATION OF AGREEMENTS
Each Management Agreement will terminate automatically in the event of
its assignment. In addition, each Agreement is terminable at any time without
penalty by the Board of Directors of a Fund or by vote of a majority of a Fund's
outstanding voting securities on not more than 60 days' written notice, and by
IAI (or IAI International) on 60 days' notice to the counterparty. Each
Agreement shall continue in effect from year to year only so long as such
continuance is specifically approved at least annually by either the Board of
Directors of the Fund or by vote of a majority of the outstanding voting
securities, provided that in either event such continuance is also approved by
the vote of a majority of directors who are not parties to the Agreement or
interested persons of such parties cast in person at a meeting called for the
purpose of voting on such approval.
CUSTODIAL SERVICE
The custodian for the Funds is Norwest Bank Minnesota, N.A. Norwest
Center, Sixth and Marquette, Minneapolis, MN 55479. Norwest has entered into an
agreement with Morgan Stanley Trust Company, 1 Pierrepont Plaza, Brooklyn, New
York ("Morgan Stanley") which enables Developing Countries Fund and
International Fund to utilize the subcustodian and depository network of Morgan
Stanley. Such agreements, subcustodians and depositories were approved by the
Funds' Board of Directors in accordance with the rules and regulations of the
Securities and Exchange Commission, for the purpose of providing custodial
services for the Funds' assets held outside the United States.
The following is a listing of the subcustodians and depositories
currently approved by Developing Countries and International Funds' directors
and the countries in which such subcustodians and depositories are located:
<TABLE>
<CAPTION>
BRANCHES OF THE CUSTODIAN
AND SUBCUSTODIAN BANKS
----------------------
<S> <C>
Argentina Citibank, N.A., Buenos Aires Branch
Australia Australia & New Zealand Banking Group, Ltd.
Austria Credit Austalt Bankverein
</TABLE>
20
<PAGE>
<TABLE>
<CAPTION>
<S> <C>
Bangladesh Standard Chartered Bank
Belgium Banque Bruxelles Lambert (BBL)
Botswana Barclays Bank of Botswana
Brazil Banco de Boston
Canada Toronto Dominion Bank
Chile Citibank, N.A., Santiago Branch
China Hong Kong & Shanghai Banking, Corp. Ltd.
Columbia Citibank, N.A./Cititrust Columbia S.A.
Cyprus Barclays Bank PLC
Czech Republic ING Bank
Denmark Den Danske Banke
Finland Merita Bank
France Banque Indosuez
Germany Dresdner Bank, A.G.
Ghana Barclays Bank of Ghana
Greece Citibank, N.A., Athens Branch
Hong Kong Hong Kong & Shanghai Banking Corp. Ltd.
Hungary Citibank, N.A., Budapest Branch
India Standard Chartered Bank
Indonesia Hong Kong & Shanghai Banking Corp. Ltd.
Ireland Allied Irish Bank
Israel Bank Leumi
Italy Barclays Bank PLC
Japan The Mitsubishi Bank Limited
Jordan Arab Bank plc
Kenya Barclays Bank Kenya
Korea Standard Chartered Bank
Luxembourg Banque Bruxelles Lambert
</TABLE>
21
<PAGE>
<TABLE>
<CAPTION>
<S> <C>
Malaysia Oversea Chinese Banking Corporation
Mauritius Hong Kong and Shanghai Bank Corporation
Mexico Citibank, N.A., Mexico City Branch
Morocco Banque Commerciale du Maroc
Netherlands ABN Amro Bank
New Zealand Bank of New Zealand
Norway Den Norske Bank
Pakistan Standard Chartered Bank
Papua New Guinea Australia and New Zealand Banking Group
Peru Citibank N.A., Lima Branch
Philippines Hong Kong & Shanghai Banking Corp. Ltd.
Poland Citibank Poland, S.A.
Portugal Banco Commercial Portugues
Singapore Oversea Chinese Banking Corporation
South Africa First National Bank of Southern Africa
Spain Banco Santader
Sri Lanka Hong Kong & Shanghai Banking, Corp. Ltd.
Swaziland Barclays Bank of Swaziland
Sweden Svenska Handelsbanken
Switzerland Bank Leu Ltd.
Taiwan Hong Kong & Shanghai Banking Corp. Ltd.
Thailand Standard Chartered Bank
Turkey Citibank, N.A., Istanbul Branch
United Kingdom Barclays Bank PLC
Uruguay Citibank, N.A., Montevideo Branch
Venezuela Citibank, N.A., Caracas Branch
Zambia Barclays Bank of Zambia
</TABLE>
22
<PAGE>
<TABLE>
<CAPTION>
<S> <C>
Zimbabwe Barclays Bank of Zimbabwe
DEPOSITORIES
------------
Argentina Caja de Valores
Australia Clearing House Electronic Subregister
System
Austria Wertpapiersammelbank
Belgium Caisse Interprofessionelle de Depot et de
Titres
Botswana Stock Exchange Talisman System
Brazil Bolsa de Valores de Sao Paulo
Bolsa de Valores de Rio de Janeiro
Canada The Canadian Depository for Securities
China Shangai Stock Exchange
Czech Republic Center for Securities (SCP)
Denmark Vaerdipapircentralen
France SICOVAM (Societe Interprofessionelle la
Compensacion des Valuers Mobilieres)
Societe de Compensacion des Marches
Conditionnels
Chambre de Compensation des Instruments
Financiers de Paris
Germany Deutscher Kassenverein AG
Greece Central Clearing Office of Athens Stock
Exchange
Hong Kong Hong Kong Securities Clearing Company
Ireland Stock Exchange Talisman System
Israel SECH
Italy Monte Titoli, S.p.A
Japan Japan Securities Depository Center
Korea The Korean Central Depository
Malaysia The Malaysian Central Depository
Mexico Instituto para el Deposito de Valores
Morocco Casablanca Stock Exchange
</TABLE>
23
<PAGE>
<TABLE>
<CAPTION>
<S> <C>
Netherlands NECIGEF (Nederlands Centraal Institut
voor Giraal Effectenverkeer B.V.
New Zealand Austraclear New Zealand System
Norway Verdipapirsentralen
Pakistan The Karachi Stock Exchange Clearinghouse
Papua New Guinea Clearing House Electronic Subregister
System
Poland National Depository of Securities
Portugal Lisbon Stock Exchange (SICOB system)
Oporto Stock Exchange (CAMBIUM system)
Singapore Central Depository Pte Ltd.
South Africa Central Depository (Pty) Ltd.
Spain Servicio de Compensacion y Liquidacion de
Valores
Sri Lanka Central Depository System Piri Ltd.
Sweden Vardepapperscentralen
Switzerland SEGA (Schweizerische Effekten Giro A.G.)
Taiwan Taiwan Securities Depository Co.
Thailand Share Depository Center
United Kingdom Stock Exchange Talisman System
Zimbabwe Stock Exchange Talisman System
</TABLE>
PORTFOLIO TRANSACTIONS AND ALLOCATION OF BROKERAGE
Most of the Fund's portfolio transactions are effected with dealers
without the payment of brokerage commissions but at a net price which usually
includes a spread or markup. In effecting such portfolio transactions on behalf
of a Fund, IAI seeks the most favorable net price consistent with the best
execution.
Generally, however, a Fund must deal with brokers. IAI selects and
(where applicable) negotiates commissions with the brokers who execute the
transactions for such Fund. The primary criteria for the selection of a broker
is the ability of the broker, in the opinion of IAI, to secure prompt execution
of the transactions on favorable terms, including the reasonableness of the
commission and considering the state of the market at the time. In selecting a
broker, IAI may consider whether such broker provides brokerage and research
services (as defined in the Securities Exchange Act of 1934). IAI may direct
Fund transactions to brokers who furnish research services to IAI. Such research
services include advice, both directly and in writing, as to the value of
securities, the advisability of investing in, purchasing or selling securities,
and the availability of securities or purchasers or sellers of securities, as
well as analyses and reports concerning issues, industries, securities, economic
factors and trends, portfolio strategy, and the performance of accounts. By
allocating brokerage business in order to obtain research services for IAI, a
Fund enables IAI to supplement its own investment research activities and allows
IAI
24
<PAGE>
to obtain the views and information of individuals and research staffs of many
different securities research firms prior to making investment decisions for a
Fund. To the extent such commissions are directed to brokers who furnish
research services to IAI, IAI receives a benefit, not capable of evaluation in
dollar amounts, without providing any direct monetary benefit to the Fund from
these commissions. Generally a Fund pays higher than the lowest commission rates
available.
IAI believes that most research services obtained by it generally
benefit one or more of the investment companies or other accounts which it
manages. Normally research services obtained through commissions paid by the
managed fund investing in common stocks and managed accounts investing in common
stocks would primarily benefit the fund and accounts.
There is no formula for the allocation by IAI of each Fund's brokerage
business to any broker-dealers for brokerage and research services. However, IAI
will authorize a Fund to pay an amount of commission for effecting a securities
transaction in excess of the amount of commission another broker would have
charged only if IAI determines in good faith that such amount of commission is
reasonable in relation to the value of the brokerage and research services
provided by such broker viewed in terms of either that particular transaction or
IAI's overall responsibilities with respect to the accounts as to which it
exercises investment discretion.
Although investment decisions for a Fund are made independently from
other accounts as to which IAI gives investment advice, it may occasionally
develop that the same security is suitable for more than one account. If and
when more than one account simultaneously purchase or sell the same security,
the transactions will be averaged as to price and allocated as to amount in
accordance with arrangements equitable to each Fund and such accounts. The
simultaneous purchase or sale of the same securities by a Fund and other
accounts may have detrimental effects on the Fund, as they may affect the price
paid or received by a Fund or the size of the position obtainable by a Fund.
Consistent with the Rules of Fair Practice of the National Association
of Securities Dealers, Inc. and subject to the policies set forth in the
preceding paragraphs and such other policies as the Board of Directors of the
Fund may determine, IAI may consider sales of shares of a Fund as a factor in
the selection of broker-dealers to execute the Fund's securities transactions.
CAPITAL STOCK
Each Fund is a separate portfolio of IAI Investment Funds III, Inc., a
Minnesota corporation whose shares of common stock are currently issued in two
series (Series A and B). Each share of a series is entitled to participate pro
rata in any dividends and other distributions of such series and all shares of a
series have equal rights in the event of liquidation of that series. The Board
of Directors of IAI Investment Funds III, Inc., is empowered under the Articles
of Incorporation of such company to issue other series of the company's common
stock without shareholder approval. IAI Investment Funds III, Inc., has
authorized 10,000,000,000 shares of $.01 par value common stock to be issued as
Series A common shares, and 10,000,000,000 shares of $.01 par value common stock
to be issued as Series B common shares. As of January 31, 1996, Developing
Countries Fund had 696,842 shares outstanding and International Fund has
11,458,824 shares outstanding.
As of May____, 1996, no person held of record or, to the knowledge of
International Fund, beneficially owned more than 5% of the outstanding shares of
International Fund, except as set forth in the following table:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------
Name and Address Number of Percent of
of Shareholder Shares Class
- -------------------------------------------------------------------------------
<S> <C> <C>
Greater Cleveland Hospital Association
1226 Huron Rd., Playhouse Square
Cleveland, OH 44115
</TABLE>
25
<PAGE>
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------
Name and Address Number of Percent of
of Shareholder Shares Class
- -------------------------------------------------------------------------------
<S> <C> <C>
Charles Schwab & Co., Inc.
101 Montgomery Street
San Francisco, CA 94104
</TABLE>
In addition, as of May ______, 1996, the Fund's officers and directors
as a group owned less than 1% of the Fund's outstanding shares.
As of May ______, 1996, no person held of record or, to the knowledge
of Developing Countries Fund, beneficially owned more than 5% of the outstanding
shares of Developing Countries Fund, except as set forth in the following table:
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------
Name and Address Number of Percent of
of Shareholder Shares Class
- -------------------------------------------------------------------------------
<S> <C> <C>
Donaldson, Lufkin, Jenrette Securities C
Pershing Division, Mutual Fund Balancing
PO Box 2052
Jersey City, NJ 07303
IAI Trust Company as Trustee
fbo Investment Advisers, Inc.
Profit Sharing and Pension Trust
3700 First Bank Place
PO Box 357
Minneapolis, MN 55440
Camden Physicians, LTD PST
fbo Glenn Schiffler
Camden Emerson Clinics
4010 Orleans Lane N.
Plymouth, MN 55441
Norwest Capital Management & Trust Co.
North Dakota Meritcare PST IA
Attn: Barb
4th and Main
Fargo, ND 58126
</TABLE>
In addition, as of May_____, 1996, Developing Countries Fund officers
and directors as a group owned approximately ____ shares, representing
approximately ___% of Developing Countries Fund's outstanding shares.
NET ASSET VALUE AND PUBLIC OFFERING PRICE
The portfolio securities in which each Fund invests fluctuate in
value, and hence, for each Fund, the net asset value per share also fluctuates.
The net asset value per share of a Fund is determined once daily as of
the close of trading on the New York Stock Exchange on each business day on
which the New York Stock Exchange is open for trading, and may be determined on
additional days as required by the Rules of the Securities and Exchange
Commission. The New
26
<PAGE>
York Stock Exchange is closed, and the net asset value per share of a Fund is
not determined, on the following national holidays: New Year's Day, Presidents'
Day, Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day,
and Christmas Day.
On January 31, 1996, the net asset value and public offering price per
share of Developing Countries Fund was calculated as follows:
NAV = Net Assets ($7,357,009) = $10.56
----------------------------
Shares Outstanding (696,842)
On January 31, 1996, the net asset value and public offering price per
share of International Fund was calculated as follows:
NAV = Net Assets ($151,663,260) = $13.24
-------------------------------
Shares Outstanding (11,458,824)
TAX STATUS
The tax status of the Funds and the distributions of the Funds are
summarized in the Prospectus under "Dividends, Distributions and Tax Status."
Because it is expected that no portion of the net investment income of
the Funds will derive from dividends from domestic corporations, it is probable
that no portion of the dividends paid by the Funds will qualify for the 70%
deduction for dividends received under the provisions of Internal Revenue Code
of 1986, as amended (the "Code").
If Fund shares are sold or otherwise disposed of more than one year
from the date of acquisition, the difference between the price paid for the
shares and the sales price will result in long-term capital gain or loss to the
Fund shareholder if, as is usually the case, the Fund shares are a capital asset
in the hands of the Fund shareholder at that time. However, under a special
provision in the Code, if Fund shares with respect to which a long-term capital
gain distribution has been, or will be, made are held for six months or less,
any loss on the sale or other disposition of such shares will be long-term
capital loss to the extent of such gain distribution.
Ordinarily, distributions and redemption proceeds earned by Fund
shareholders are not subject to withholding of federal income tax. However, each
Fund is required to withhold 31% of a shareholder's distributions and redemption
proceeds upon the occurrence of certain events specified in Section 3406 of the
Code and regulations promulgated thereunder. These events include the failure of
a Fund shareholder to supply the Fund with such shareholder's taxpayer
identification number, and the failure of a Fund shareholder who is otherwise
exempt from withholding to properly document such shareholder's status as an
exempt recipient. Additionally, distributions may be subject to state and local
income taxes, and the treatment thereunder may differ from the federal income
tax consequences discussed above.
Under the Code, each Fund will be subject to a non-deductible excise
tax equal to 4% of the excess, if any, of the amount of investment income and
capital gains required to be distributed pursuant to the Code for each calendar
year over the amount actually distributed. In order to avoid this excise tax,
each Fund generally must declare dividends by the end of each calendar year
representing 98% of each Fund's ordinary income for such calendar year and 98%
of its capital gain net income (both long-term and short-term) for the twelve-
month period ending October 31 of the same calendar year. The excise tax is not
imposed, however, on undistributed income that is already subject to corporate
income tax. It is each Fund's policy not to distribute capital gains until
capital loss carryovers, if any, either are utilized or expire.
The amount of any gain or loss realized by each Fund on closing out a
futures contract may result in a capital gain or loss for federal income tax
purposes. Generally, futures contracts held by each Fund at the close of the
Fund's taxable year will be treated for federal income tax purposes as sold for
their fair market value on the last business day of such year. Forty percent of
any gain or loss resulting from such constructive sale will be treated as
27
<PAGE>
short-term capital gain or loss, and 60% of such gain or loss will be treated as
long-term capital gain or loss. The amount of any capital gain or loss actually
realized by a Fund in a subsequent sale or other disposition of these futures
contracts will be adjusted to reflect any capital gain or loss taken into
account by a Fund in a prior year as a result of the constructive sale of the
contract. Notwithstanding the rules described above, with respect to certain
futures contracts, a Fund may make an election which will have the effect of
exempting all or a part of those identified futures contracts from being treated
for federal income tax purposes as sold on the last business day of a Fund's
taxable year. All or part of any loss realized by a Fund on any closing of a
futures contract may be deferred until all of a Fund's offsetting positions with
respect to the futures contract are closed.
Generally, in order to qualify as a regulated investment company under
Subchapter M of the Code, each Fund must derive at least 90% of its gross income
from dividends, interest, and gains from the sale or other disposition of stock
or securities. Under the Code, each Fund may include income from options,
futures and forward contracts and other gains derived from the Fund's business
of investing in stock, securities or currencies in determining qualifying income
for purposes of the 90% test. Treasury regulations may exclude foreign currency
gains not directly related to a Fund's principal business of investing in stocks
or securities (or options and futures with respect to stock or securities). It
is impossible to predict what amount of such gains, if any, future Treasury
regulations will exclude from qualifying income.
Subchapter M of the Code also requires that less than 30% of each
Fund's gross income for any year be derived from gains realized on the sale or
other disposition of securities, options, futures contracts or forward contracts
held by a Fund for less than three months. This rule, under certain
circumstances, could require the Fund to defer the closing out of futures
contracts until after three months from the date a Fund acquired the contracts,
even if it would be more advantageous to close out the contracts prior to that
time. However, a special rule is provided with respect to certain designated
hedging transactions which has the effect of allowing a Fund to engage in such
short-term transactions in limited circumstances. Any gains realized by a Fund
as a result of the constructive sales of futures contracts held by a Fund at the
end of its taxable year will be treated as derived from the sale of securities
held for three months or more, regardless of the actual period for which a Fund
has held the futures contracts at the end of the year.
Under the Code, dividends of net investment income received from a
Fund by a shareholder who, as to the United States, is a nonresident alien
individual, nonresident fiduciary of a foreign trust or estate, foreign
corporation or foreign partnership ("foreign shareholder") are subject to a
withholding tax of 30% (or such lower rate as is prescribed by the income tax
convention, if any, in force between the U.S. and the foreign shareholder's
country) without regard to the amount of gross income that a Fund derives from
sources within the United States. Distributions of net long-term capital gains
to a foreign shareholder will not be subject to U.S. tax unless the foreign
shareholder is engaged in a U.S. trade or business to which the distributions
are attributable, the gains are attributable to the disposition of a United
States real property interest, or, in the case of a foreign shareholder who is a
nonresident alien individual, such foreign shareholder is physically present in
the United States for more than 182 days during the taxable year.
A disposition of shares in a Fund by a foreign shareholder resulting
in alternative minimum taxable income or net United States real property gain to
the foreign shareholder may be subject to U.S. tax and withholding if the shares
constitute United States real property interests under the Code. It is not
expected that the shares of a Fund will constitute such interests, and a Fund
will furnish affidavits to such effect if necessary and appropriate to avoid
application of U.S. tax or withholding on a disposition of shares.
Income received from sources within foreign countries may be subject
to withholding and other taxes imposed by such countries. Tax conventions
between certain countries and the United States may reduce or eliminate such
taxes. It is impossible to determine the effective rate of foreign tax
applicable to such income in advance since the precise amount of a Fund's assets
to be invested in various countries is not known. Any amount of taxes paid by
the Fund to foreign countries will reduce the amount of income available to a
Fund for distributions to shareholders.
If a Fund is liable for foreign taxes, such Fund expects to meet the
requirements of the Code for passing through to its shareholders foreign taxes
paid, but there can be no assurance that a Fund will be able to do so.
28
<PAGE>
Under the Code, if more than 50% of the value of a Fund's total assets at the
close of its taxable year consist of stock or securities of foreign
corporations, a Fund may file an election with the Internal Revenue Service to
pass through to the Fund's shareholders the amount of foreign taxes paid by the
Fund. Pursuant to this election, shareholders will be required to: (i) include
in gross income their pro rata share of the foreign taxes paid by a Fund; (ii)
treat their pro rata share of foreign taxes as paid by them; and (iii) either
deduct their pro rata share of foreign taxes in computing their taxable income
or use their share as a foreign tax credit against U.S. income taxes. No
deduction for foreign taxes may be claimed by a shareholder who does not itemize
deductions. Each shareholder will be notified within 60 days after the close of
a Fund's taxable year whether the foreign taxes paid by a Fund will pass through
for that year.
Under the Code, the amount of foreign taxes for which a shareholder
may claim a foreign tax credit is subject to limitation based on certain
categories applicable to the income subjected to foreign tax. Specifically, the
available foreign tax credit must be determined separately with respect to nine
categories of income. Each Fund may have foreign source income allocable to the
four following categories: (i) passive income; (ii) high withholding tax
interest; (iii) dividends from a noncontrolled foreign corporation pursuant to
Section 902 of the Code; and (iv) other income not specifically categorized. Of
these categories, a substantial part of a Fund income is likely to constitute
passive income. However, in the absence of specific regulatory guidance on the
application of the income categories, such Fund cannot assure shareholders of
the correctness of any allocation made.
The foregoing is a general and abbreviated summary of the Code and
Treasury regulations in effect as of the date of the Funds' Prospectus and this
Statement of Additional Information.
LIMITATION OF DIRECTOR LIABILITY
Under Minnesota law, each Fund's Board of Directors owes certain
fiduciary duties to the Fund and to its shareholders. Minnesota law provides
that a director "shall discharge the duties of the position of director in good
faith, in a manner the director reasonably believes to be in the best interest
of the corporation, and with the care an ordinarily prudent person in a like
position would exercise under similar circumstances." Fiduciary duties of a
director of a Minnesota corporation include, therefore, both a duty of "loyalty"
(to act in good faith and act in a manner reasonably believed to be in the best
interests of the corporation) and a duty of "care" (to act with the care an
ordinarily prudent person in a like position would exercise under similar
circumstances). Minnesota law authorizes corporations to eliminate or limit the
personal liability of a director to the corporation or its shareholders for
monetary damages for breach of the fiduciary duty of "care." Minnesota law does
not, however, permit a corporation to eliminate or limit the liability of a
director (i) for any breach of the director's duty of "loyalty" to the
corporation or its shareholders, (ii) for acts or omissions not in good faith or
that involve intentional misconduct or a knowing violation of law, (iii) for
authorizing a dividend, stock repurchase or redemption or other distribution in
violation of Minnesota law or for violation of certain provisions of Minnesota
securities laws, or (iv) for any transaction from which the director derived an
improper personal benefit. The Articles of Incorporation of IAI Investment Funds
III, Inc., limit the liability of directors to the fullest extent permitted by
Minnesota statutes, except to the extent that such liability cannot be limited
as provided in the Investment Company Act of 1940 (which Act prohibits any
provisions which purport to limit the liability of directors arising from such
directors' willful misfeasance, bad faith, gross negligence, or reckless
disregard of the duties involved in the conduct of their role as directors).
Minnesota law does not eliminate the duty of "care" imposed upon a
director. It only authorizes a corporation to eliminate monetary liability for
violations of that duty. Minnesota law, further, does not permit elimination or
limitation of liability of "officers" of the corporation for breach of their
duties as officers (including the liability of directors who serve as officers
for breach of their duties as officers.) Minnesota law does not permit
elimination or limitation of the availability of equitable relief, such as
injunctive or rescissionary relief. Further, Minnesota law does not permit
elimination or limitation of a director's liability under the Securities Act of
1933 or the Securities Exchange Act of 1934, and it is uncertain whether and to
what extent the elimination of monetary liability would extend to violations of
duties imposed on directors by the Investment Company Act of 1940 and the rules
and regulations adopted under such Act.
29
<PAGE>
FINANCIAL STATEMENTS
The financial statements, included as part of the Funds' 1996 Annual
Report to Shareholders, are incorporated herein by reference. Such Annual Report
may be obtained by shareholders on request from the Funds at no additional
charge.
30
<PAGE>
APPENDIX A
RATINGS OF DEBT SECURITIES
--------------------------
RATINGS BY MOODY'S
- ------------------
CORPORATE BONDS
Aaa. Bonds 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 edge." 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 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 risks appear somewhat larger than in Aaa
securities.
A. Bonds 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 sometime in the future.
Baa. Bonds rated Baa are considered 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 other good and bad times over the future.
Uncertainty of position characterizes bonds in this class.
B. Bonds rated B generally lack characteristics of the desirable
investment. Assurances of interest and principal payment or maintenance of other
terms of the contract over any long period of time may be small.
Caa. Bonds rated Caa are of poor standing. Such issues may be in
default or there may be present elements of danger with respect to principal or
interest.
Ca. Bonds rated Ca represent obligations which are speculative in a
high degree. Such issues are often in default or have other marked shortcomings.
C. Bonds rated C are the lowest-rated class of bonds and
issued so rated can be regarded as having extremely poor prospects of ever
attaining any real investment standing.
Conditional Ratings. The designation "Con." followed by a rating
indicates bonds for which the security depends upon the completion of some act
or the fulfillment of some condition. These are bonds secured by (a) earnings
of projects under construction, (b) earnings or projects unseasoned in operating
experience, (c) rentals which begin when facilities are completed, or (d)
payments to which some other limiting condition attaches. Parenthetical rating
denotes probable credit stature upon completion of construction or elimination
of basis of condition.
<PAGE>
Note: Moody's applies numerical modifiers 1, 2, and 3 in the Aa and A
classifications of its corporate bond rating system. The modifier 1 indicates
that the security ranks in the higher end of its generic rating category; the
modifier 2 indicates a mid-range ranking; and the modifier 3 indicates that the
issue ranks in the lower end of its generic rating category. With respect to
municipal securities, those bonds in the Aa, A, Baa, Ba, and B groups which
Moody's believes possess the strongest investment attributes are designated by
the symbols Aa1, A1, Baa1, Ba1, and B1.
COMMERCIAL PAPER
Moody's employs the following three designations, all judged to be
investment grade, to indicate the relative repayment capacity of rated issuers:
Prime - 1 Superior ability for repayment of senior short-
term debt obligations
Prime - 2 Strong ability for repayment of senior short-
term debt obligations
Prime - 3 Acceptable ability for repayment of senior short-
term debt obligations
If an issuer represents to Moody's that its Commercial Paper
obligations are supported by the credit of another entity or entities, Moody's,
in assigning ratings to such issuers, evaluates the financial strength of the
indicated affiliated corporations, commercial banks, insurance companies,
foreign governments, or other entities, but only as one factor in the total
rating assessment.
RATINGS BY S&P
- --------------
CORPORATE BONDS
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 has less near-term vulnerability to default than
other speculative issues. However, it faces major ongoing uncertainties or
exposure to adverse business, financial, or economic conditions which could lead
to inadequate capacity to meet timely interest and principal payments.
B. Debt rated B has a greater vulnerability to default but
currently has the capacity to meet interest payments and principal repayments.
Adverse business, financial, or economic conditions will likely impair capacity
or willingness to pay interest and repay principal. The B rating category is
also used for debt subordinated to senior debt that is assigned an actual or
implied BB-rating.
<PAGE>
CCC. Debt rated CCC has a currently identifiable
vulnerability to default, and is dependent upon favorable business, financial,
and economic conditions to meet timely payment of interest and repayment of
principal. In the event of adverse business, financial or economic conditions,
it is not likely to have the capacity to pay interest and repay principal.
CC. Debt rated CC is typically applied to debt subordinated
to senior debt which is assigned an actual or implied CCC debt rating.
C. The rating C typically applied to debt subordinated to senior
debt which assigned an actual or implied CCC-debt rating. The C rating may be
used to cover a situation where a bankruptcy petition has been filed but debt
service payments are continued.
C1. The rating C1 is reserved for income bonds on which no
interest is being paid.
D. Debt rated D is in payment default. The D rating
category is used when interest payments or principal payments are not made on
the date due even if the applicable grace period has not expired, unless S & P
believes that such payments will be made during such grace period. The D rating
will be used upon the filing of a bankruptcy petition if debt service payments
are jeopardized.
In order to provide more detailed indications of credit quality, S&P's
bond letter ratings described above (except for the AAA category) may be
modified by the addition of a plus or a minus sign to show relative standing
within the rating category.
COMMERCIAL PAPER
A. This highest rating category indicates the greatest
capacity for timely payment. Issues in this category are further defined with
the designations 1, 2, and 3 to indicate the relative degree to safety.
A-1. This designation indicates that the degree of safety regarding
timely payment is either overwhelming or very strong. Those issues determined to
possess overwhelming safety characteristics are designed A-1+.
A-2. Capacity for timely payments on issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designed A-1.
A-3. Issues carrying this designation have adequate capacity for
timely repayment. They are, however, more vulnerable to the adverse effects of
changes in circumstances than obligations carrying the higher designations.
<PAGE>
PART C
Item 24. Financial Statements and Exhibits
(a) Financial Statements (1)
(b) Exhibits
(1) Articles of Incorporation (3)
(2) Bylaws (4)
(5A) Investment Advisory Agreement (4)
(5B) Subadvisory Agreement (4)
(5C) Management Agreement
(6A) Distribution and Shareholders Services Agreement (5)
(6B) Dealer Sales Agreement
(6C) Shareholder Services Agreement
(8) Custodian Agreement (4)
(9) Administrative Agreement (4)
(11) Consent of Independent Auditors
(15) Plan of Distribution (5)
(16) Calculations of Total Returns (2)
(99) Annual Report (6)
____________________
(1) Incorporated by reference in Part B of the Registration Statement.
(2) Incorporated by reference to Post-Effective Amendment No. 3 to Registrant's
Registration Statement on Form N-1A filed on March 31, 1988.
(3) Incorporated by reference to Post-Effective Amendment No. 13 to
Registrant's Registration Statement on Form N-1A filed on June 3, 1993.
(4) Incorporated by reference to Post-Effective Amendment No. 15 to
Registrant's Registration Statement on Form N-1A filed on November 18,
1994.
(5) Incorporated by reference to Post-Effective Amendment No. 17 to
Registrant's Registration Statement on Form N-1A filed on June 1, 1995.
(6) Incorporated by reference to the Annual Report filed electronically on Form
N-30D on March 29, 1996.
<PAGE>
Item 25. Persons Controlled by or Under Common Control with Registrant.
See the sections of the Prospectus entitled "Management" and "Description
of Common Stock" and the section of the Statement of Additional Information
entitled "Management," filed as part of this Registration Statement.
Item 26. Number of Holders Securities.
<TABLE>
<CAPTION>
Number of Record Holders
Portfolio Title of Class as of February 29, 1996
- --------- -------------- -----------------------
<S> <C> <C>
IAI International Fund Common Stock (Series A) 3,121
IAI Developing Countries Fund Common Stock (Series B) 548
</TABLE>
Item 27. Indemnification.
No change from information supplied in Post-Effective Amendment, filed in
February 1987.
Item 28. Business and Other Connections of Investment Adviser.
Information on the business of Investment Advisers, Inc. ("IAI") is
described in the Prospectus section "Management" and in Part B of this
Registration Statement in the section "Management."
The senior officers and directors of IAI and their titles are as follows:
<TABLE>
<CAPTION>
Name Title
---- -----
<S> <C>
Jeffrey R. Applebaum Senior Vice President
Charles P. Barrington Director
Scott Allen Bettin Senior Vice President
Archie Campbell Black, III Senior Vice President/Treasurer
Stephen C. Coleman Senior Vice President
Hugh Freedberg Chairman
Larry Ray Hill Executive Vice President/Director
Richard A. Holway Senior Vice President
Irving Philip Knelman Executive Vice President/Director
Rick D. Leggott Senior Vice President
Timothy A. Palmer Senior Vice President
Douglas Rugh Platt Senior Vice President
Andrew Scott Plummer Director
Noel Paul Rahn Chief Executive Officer/Director
James S. Sorenson Senior Vice President
R. David Spreng Senior Vice President
Christopher John Smith Senior Vice President/Secretary
Eric St. C. Stobart Director
Richard Edward Struthers Executive Vice President/Director
Suzanne F. Zak Senior Vice President
</TABLE>
2
<PAGE>
All of such persons have been affiliated with IAI for more than two
years except Messrs. Barrington, Freedberg, Plummer and Stobart. Prior to being
appointed to the Board in 1994, Mr. Barrington was and remains Managing Director
of Hill Samuel Bank, 100 Wood Street, London, England EC2P 2AJ, since 1991.
Prior to being appointed to the Board in 1994, Mr. Freedberg was and remains
Chief Executive Officer of Hill Samuel Bank, 100 Wood Street, London, England
EC2P 2AJ, since 1991. Prior to being appointed to the Board in 1994, Mr.
Plummer was and remains Legal Adviser to Lloyds TSB Group plc, 60 Lombard
Street, London, England EC3V 9DN, since 1988. Prior to being appointed to the
Board in 1994, Mr. Stobart was and remains Director of Hill Samuel Bank, 100
Wood Street, London, England EC2P 2AJ, since 1977.
Certain directors and officers of IAI are directors and/or officers of
the Registrant, as described in the section of the Statement of Additional
Information entitled "Management," filed as a part of this Registration
Statement.
The address of the officers and directors of IAI is that of IAI, which
is 3700 First Bank Place, P. O. Box 357, Minneapolis, Minnesota 55440.
Certain of the officers and directors of IAI also serve as officers
and directors of IAI International Ltd. Both IAI and IAI International are
wholly-owned subsidiaries of Hill Samuel Group BV, a London-based merchant
banking and financial services firm which, in turn, is owned by Lloyds TSB Group
plc, a publicly-held financial services organization based in London, England.
The senior officers and directors of IAI International and their titles are as
follows:
<TABLE>
<CAPTION>
Name Title
- ---- -----
<S> <C>
Noel Paul Rahn Chairman of the Board of Directors
Roy C. Gillson Chief Investment Officer/Director
Irving Philip Knelman Director
Hilary Fane Deputy Chief Investment Officer/Director
Feidhlim O'Broin Associate Director
</TABLE>
Certain of the officers and directors of IAI also serve as officers and
directors of IAI Trust Company, a wholly-owned subsidiary of IAI. The officers
and directors of IAI Trust Company and their titles are as follows:
<TABLE>
<CAPTION>
Name Title
- ---- -----
<S> <C>
Richard E. Struthers Chairman of the Board
Christopher J. Smith Director/Secretary
Archie C. Black Director/Treasurer
Christie Haagensen Director of Trust Services
</TABLE>
Item 29. Principal Underwriters
(a) Not applicable
3
<PAGE>
(b) The officers and directors of IAI Securities and the positions, if
any, such officers and directors hold with the Registrant are set forth below.
The business address of such persons is 3700 First Bank Place, Minneapolis,
Minnesota 55402.
<TABLE>
<CAPTION>
Name and Principal Positions and Offices Positions and Offices
Business Address with Underwriter with Registrant
- ------------------ --------------------- ---------------------
<S> <C> <C>
Noel P. Rahn Chairman of the Board Chairman of the Board
Richard E. Struthers President/Director President/Director
Douglas R. Platt Vice President/Director None
R. David Spreng Vice President/Director None
Christopher J. Smith Secretary None
Archie C. Black, III CFO/Treasurer Treasurer
William C. Joas Chief Compliance Officer Secretary
</TABLE>
Item 30. Location of Accounts and Records.
The Custodian for Registrant is Norwest Bank Minnesota, N.A., Norwest
Center, Sixth & Marquette, Minneapolis, Minnesota 55479. The Custodian
maintains records of all cash transactions of Registrant. All other books and
records of Registrant, including books and records of Registrant's investment
portfolios, are maintained by IAI. IAI also acts as Registrant's transfer agent
and dividend disbursing agent, at 3700 First Bank Place, Minneapolis, Minnesota
55402.
Item 31. Management Services.
Not applicable.
Item 32. Undertakings.
(a) Not applicable.
(b) Registrant undertakes to furnish each person to whom a prospectus
is delivered with a copy of its latest annual report to shareholders, upon
request and without charge.
4
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933 and the
Investment Company Act of 1940, Registrant certifies that it meets all of the
requirements for effectiveness of this Registration Statement pursuant to Rule
485(a) under the Securities Act of 1933 and has duly caused this Post-Effective
Amendment to its Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Minneapolis, and State of
Minnesota, on the 29th day of March, 1996.
IAI INVESTMENT FUNDS III, INC.
(Registrant)
By /s/ Richard E. Struthers, President
-----------------------------------
Richard E. Struthers, President
Pursuant to the requirements of the Securities Act of 1933, this Post-
Effective Amendment to the Registration Statement has been signed below by the
following persons in the capacities and on the dates indicated:
/s/ Richard E. Struthers President (principal March 29, 1996
- -------------------------------- executive officer) & Director
Richard E. Struthers
/s/ Archie C. Black III Treasurer (principal March 29, 1996
- -------------------------------- financial and accounting
Archie C. Black III officer)
Noel P. Rahn (1)
Director
Madeline Betsch (1)
Director
W. William Hodgson (1)
Director
George R. Long (1)
Director
J. Peter Thompson (1)
Director
Charles H. Withers (1)
Director
/s/ William C. Joas March 29, 1996
- -------------------------------
William C. Joas
Attorney-in-fact
(1) Registrant's directors executing Powers of Attorney dated August 18, 1993,
and filed with the Commission on June 28, 1994.
<PAGE>
EXHIBIT INDEX
-------------
Exhibit No. Exhibit Description Sequential Page No.
- ----------- ------------------- -------------------
5C Management Agreement
6B Dealer Sales Agreement
6C Shareholder Services Agreement
11 Consent of Independent Auditors
<PAGE>
EXHIBIT 5C
MANAGEMENT AGREEMENT
<PAGE>
MANAGEMENT AGREEMENT
This Agreement is made and entered into as of _____________ , 1996 by
and between Investment Advisers, Inc., a Delaware corporation ("IAI"), and IAI
Investment Funds III, Inc., a Minnesota corporation (the "Company"), on behalf
of IAI International Fund and IAI Developing Countries Fund, the portfolios
represented by the Company's Series A and Series B, respectively, Common Shares
(collectively, the "Funds").
1. ENGAGEMENT OF IAI; SERVICES.
----------------------------
(a) Investment Advisory Services. The Company hereby engages IAI
on behalf of the Funds, and IAI hereby agrees, pursuant to the terms and
conditions hereinafter set forth, to furnish the Funds continuously with
investment planning, to provide investment advice with regard to the Fund's
portfolio, to prepare and make available to the Funds necessary research and
statistical data in connection therewith, to supervise the acquisition and
disposition of specific securities by the Funds and to perform such other
services as are reasonably incidental to the foregoing duties as investment
adviser for, and to manage the investment of the assets of, the Funds. IAI
covenants and agrees that, in effecting acquisitions and dispositions of
specific investments on behalf of the Funds, IAI shall at all times be governed
by the Fund's investment objectives, restrictions and policies as delineated and
limited by the disclosures contained in the various documents filed with the
Securities and Exchange Commission on behalf of the Funds, as such documents may
from time to time be amended or supplemented. IAI shall report to the Company's
Board of Directors regularly at such times and in such detail as the Board may
from time to time determine appropriate, in order to permit the Board to
determine the adherence of IAI to the Fund's investment objectives, policies and
limitations.
(b) Dividend Disbursing, Accounting, Administrative and Transfer
Agency Services. The Company on behalf of the Funds hereby engages IAI, and IAI
hereby agrees, to provide to the Funds with all dividend disbursing, accounting,
administrative and transfer agency services required by the Funds, including,
without limitation, the following services:
(1) The calculation of net asset value per share at such times and in
such manner as specified in the Fund's current Prospectus and Statement of
Additional Information and at such other times upon which the parties
hereto may from time to time agree. The pricing services or other sources
from which daily price quotations on portfolio securities are to be
obtained for purposes of calculating the Fund's daily net asset value shall
be paid for by IAI and approved by the Company;
(2) Upon the receipt of funds for the purchase of Fund shares or the
receipt of redemption requests with respect to Fund shares outstanding, the
calculation of the number of shares to be purchased or redeemed,
respectively;
(3) Upon the Fund's distribution of dividends, (i) the calculation of
the amount of such dividends to be received per Fund share, (ii) the
calculation of the number of additional Fund shares to be received by each
Fund shareholder, other than any shareholder who has elected to receive
such dividends in cash, and (iii) the mailing of payments with respect to
such dividends to shareholders who have elected to receive such dividends
in cash;
(4) The provision of transfer agency services as described below:
(i) IAI shall make original issues of shares of the Fund in
accordance with the Fund's current Prospectus and Statement of
Additional Information and with instructions from the Company;
(ii) Prior to the daily determination of net asset value of the
Fund, IAI shall process all purchase orders received since the last
determination of the Fund's net asset value;
(iii) Transfers of shares shall be registered;
(iv) IAI will maintain stock registry records in the usual form
in which it will note the issuance, transfer and redemption of Fund
shares, and is also authorized to maintain an account in which it will
record the Fund shares and fractions issued and outstanding from time
to time for which issuance of Fund share certificates is deferred; and
1
<PAGE>
(v) IAI will, in addition to the aforementioned duties and
functions, perform the usual duties and functions of a stock transfer
agent for a registered investment company;
(5) The creation and maintenance of such records relating to the
business of the Fund as the Company may from time to time reasonably
request;
(6) The preparation of tax forms, reports, notices, proxy statements,
proxies and other Fund shareholder communications, and the mailing thereof
to Fund shareholders; and
(7) The provision of such other dividend disbursing, accounting,
administrative, accounting and transfer agency services upon which the
parties hereto may from time to time agree.
(8) The Fund hereby authorizes IAI to contract with qualified entities
for the provision of any of the services to be performed pursuant to this
Section 1(b).
(c) Shareholder Services. The Company on behalf of the Fund hereby
engages, and IAI hereby agrees, to provide the Fund with all services to
shareholders not otherwise the subject of Section 1(b) above. These shareholder
services may include personal services provided to shareholders, such as
answering shareholder inquiries regarding a Fund and providing reports and other
information and services related to the maintenance of shareholder accounts.
The Fund hereby also authorizes IAI to contract with qualifying broker-dealers,
financial institutions and other such entities for the provision of such
services to Fund shareholders.
(d) Filings, Office Facilities, Equipment and Personnel. IAI shall, at
its own expense, file all documents with all relevant regulatory agencies and
governmental authorities on the Company's behalf, furnish the Company and the
Fund with all office facilities, equipment and personnel necessary to discharge
its responsibilities and duties hereunder. IAI shall arrange, if requested by
the Company, for officers or employees of IAI to serve without compensation from
the Company as directors, officers, or employees of the Company if duly elected
to such positions by the shareholders or directors of the Company.
(e) Other Services. IAI shall, at its own expense, provide or arrange for
the provision of all services required by the Company on behalf of the Fund not
otherwise addressed in this Agreement.
(f) Books and Records. IAI hereby acknowledges that all records
pertaining to the services rendered hereunder are the sole and exclusive
property of the Company, and in the event that a transfer of any of the services
currently rendered hereunder to someone other than IAI should ever occur, IAI
will promptly, and at its own cost, take all steps necessary to segregate such
records and deliver them to the Company.
(g) No Separate Charges to Shareholders. IAI hereby covenants and agrees
that it will make no separate charge to any Fund shareholder or his individual
account for any services rendered to said shareholder, the Fund or the Company
unless such charge for special services is specifically approved by the Board
including a majority of the directors who are not "interested persons" (as such
term is defined in the Investment Company Act of 1940, as amended, which act, as
amended and together with all rules and regulations promulgated thereunder, is
hereinafter referred to as the "1940 Act") of IAI. No special charge will be
levied retroactively or without appropriate notice to affected shareholders.
(h) Limitation of Liability. IAI, in carrying out and performing the terms
and conditions of this Agreement, shall incur no liability for its status
hereunder or for any actions taken or omitted in good faith and without
negligence. Without limitation of the foregoing:
(1) IAI may rely upon, and shall not be liable to any person or party
for any actions taken or omitted to be taken in good faith in reliance
upon, the advice of the Company, or of counsel, who may be counsel for the
Company or counsel for IAI, and upon statements of accountants, brokers and
other persons believed by IAI in good faith to be expert in the matters
upon which they are consulted; and
(2) IAI may rely upon, and shall not be liable to any person or party
for any actions taken or omitted to be taken in good faith in reliance
upon, any signature, instruction, request, letter of transmittal,
certificate, opinion of counsel, statement, instrument, report, notice,
consent, order or other paper or document that IAI in good faith believes
to be genuine and to have been signed, presented or authorized by the
purchaser, Company or other proper party or parties.
2
<PAGE>
2. COMPENSATION FOR SERVICES; ALLOCATION OF EXPENSES
-------------------------------------------------
(a) In payment for the services to be provided or arranged by IAI
hereunder, the Company (on behalf of the Funds) shall pay to IAI a fee based on
the Fund's average daily net assets (as determined in accordance with the
Company's Bylaws and with the Fund's Prospectus and Statement of Additional
Information, as the same may from time to time be amended or supplemented) as
set forth in Exhibit A attached hereto. This fee shall be paid to IAI on a
monthly basis not later than the tenth business day of the month following the
month in which the services were rendered and shall be prorated for any fraction
of a month at the commencement or termination of this Agreement.
(b) Except for brokerage commissions and other expenditures in connection
with the purchase and sale of portfolio securities, interest expense and,
subject to the specific approval of a majority of the directors of the Company
who are not "interested persons" (as defined in the 1940 Act) of IAI or the
Company, taxes and extraordinary expenses, IAI shall bear all of the Fund's
expenses; provided however, that IAI will either pay the fees and the ordinary
and reasonable expenses of the Fund's disinterested directors or reduce the fee
due under this Agreement by an equivalent amount paid by the Fund to such
directors.
3. FREEDOM TO DEAL WITH THIRD PARTIES.
-----------------------------------
IAI shall be free to render services to others similar to those rendered
under this Agreement or of a different nature except as such services may
conflict with the services to be rendered or the duties to be assumed hereunder.
4. EFFECTIVE DATE, DURATION, AMENDMENT AND TERMINATION OF AGREEMENT.
----------------------------------------------------------------
(a) Unless sooner terminated as hereinafter provided, this Agreement shall
continue in effect for a period more than two years from the date of its
execution but only as long as such continuance is specifically approved at least
annually by (i) the Board of Directors of the Company or by the vote of a
majority of the outstanding voting securities of the Fund, and (ii) by the vote
of a majority of the directors of the Company who are not parties to this
Agreement or "interested persons" (as defined in the 1940 Act) of IAI or of the
Company cast in person at a meeting called for the purpose of voting on such
approval.
(b) This Agreement may be terminated at any time, without the payment of
any penalty, by the Board of Directors of the Company or by the vote of a
majority of the outstanding voting securities of the Fund, or by IAI, upon 60
days' written notice to the other party.
(c) This Agreement shall automatically terminate in the event of its
"assignment" (as defined in the Investment Company Act of 1940, as amended).
(d) No amendment to this Agreement shall be effective until approved by the
vote of: (i) a majority of the directors of the Company who are not parties to
this Agreement or "interested persons" (as defined in the 1940 Act) of IAI or of
the Company cast in person at a meeting called for the purpose of voting on such
approval; and (ii) a majority of the outstanding voting securities of the Fund.
(e) Wherever referred to in this Agreement, the vote or approval of the
holders of a majority of the outstanding voting securities or shares of the Fund
shall mean the lesser of (i) the vote of 67% or more of the voting securities of
the Fund present at a regular or special meeting of shareholders duly called, if
more than 50% of the Fund's outstanding voting securities are present or
represented by proxy, or (ii) the vote of more than 50% of the outstanding
voting securities of the Fund.
(f) To the extent the provisions of this Section 4 are based on legislative
or regulatory requirements in effect at the time of this Agreement's initial
approval by the Fund's Board of Directors and/or shareholders and any such
legislative or regulatory requirements change, the relevant provision of this
Section 4 will be deemed to have been so amended without further action by the
Fund's Board of Directors or its shareholders.
5. NOTICES.
-------
Any notice under this Agreement shall be in writing, addressed, delivered
or mailed, postage prepaid, to the other party at such address as such other
party may designate in writing for receipt of such notice.
3
<PAGE>
6. REPRESENTATION.
---------------
IAI hereby represents that it will maintain registrations with and/or
approvals by all relevant governmental authorities necessary for the provision
of services pursuant to this Agreement.
7. INTERPRETATION; GOVERNING LAW.
-----------------------------
This Agreement shall be subject to and interpreted in accordance with all
applicable provisions of law including, but not limited to, the 1940 Act. To the
extent that the provisions herein contained conflict with any such applicable
provisions of law, the latter shall control. The laws of the State of Minnesota
shall otherwise govern the construction, validity and effect of this Agreement.
IN WITNESS WHEREOF, the Company and IAI have caused this Agreement to be
executed by their duly authorized officers as of the day and year first above
written.
IAI INVESTMENT FUNDS III, INC.
By___________________________
Richard E. Struthers, President
INVESTMENT ADVISERS, INC.
By___________________________
Noel P. Rahn, Chief Executive Officer
4
<PAGE>
EXHIBIT 6B
DEALER SALES AGREEMENT
<PAGE>
DEALER SALES AGREEMENT
Ladies and Gentlemen:
We invite you to join a selling group for the distribution of shares of those
mutual funds available to the public for which we serve as the investment
adviser (the "Funds"). Upon execution of this Agreement, you agree to
participate in the distribution of the Funds to the public subject to the terms
set forth herein.
1. In all sales of the Funds to the public, you shall act as dealer of your
own account and shall not be authorized to act as agent for the Funds, for any
other dealer, or for us.
2. All orders will be accepted only at the price, in the amount and subject to
the terms set forth in the then current Prospectuses and Statements of
Additional Information of the Funds. The procedure relating to the handling of
orders shall be subject to instructions which we shall forward to you from time
to time. Certificates representing shares of the Funds will not be issued.
3. You agree to provide distribution and marketing services in the marketing
of shares of the Funds and services to your customers who are Fund shareholders.
Such shareholder services may include personal services provided to
shareholders, such as answering shareholder inquiries regarding a Fund and
providing reports and other information, and services related to the maintenance
of shareholder accounts. For all services, we will pay you a fee, as
established by us from time to time. Such fee will be based upon the following
percentages of the average month-end or daily net assets of each Fund
represented by shares of the Fund owned, during the quarter for which payment is
being made, by customers for which you maintain a servicing relationship as
evidenced by their execution of such agreements as we may from time to time
require. We specifically reserve the right to discontinue paying fees with
respect to those assets for which such customer authorizations which we may
require are not provided.
<PAGE>
<TABLE>
<CAPTION>
Fund Annual Fee*
------------------- -----------
<S> <C>
Reserve Fund 0
Money Market Fund 0
Minnesota Tax Free Fund .10%
Bond Fund .15%
Government Fund .15%
Growth and Income Fund .25%
Regional Fund .25%
Value Fund .25%
Developing Countries Fund .25%
International Fund .25%
Midcap Growth Fund .25%
Balanced Fund .25%
Growth Fund .25%
Emerging Growth Fund .25%
Capital Appreciation Fund .25%
</TABLE>
______________________________
* as a % of average daily net assets or average month-end net assets as set
forth in a Fund's then-current prospectus.
Such fee will be paid on a quarterly basis and, subject to the last
sentence of this section 3, will be paid so long as the accounts of your clients
remain in the Funds and this Agreement and such other agreements as we may
require have not been terminated. Upon such termination, any such obligation to
pay such fee shall cease. You agree to furnish us or the Funds with such
information as may be reasonably requested with respect to such fees paid to you
pursuant to this Agreement.
4. If any Fund shares sold under the terms of this Agreement are repurchased
by the Funds or are tendered for redemption within seven business days after
confirmation of the original purchase, it is agreed that you shall forfeit the
right to receive the fees hereunder with respect to such shares.
5. No person is authorized to make any representations concerning the Funds
except those contained in the then current Prospectuses and in such printed
information as may be furnished for use as information supplemental to the
Prospectuses. Additional copies of the Prospectuses and any printed information
supplementing the Prospectuses will be supplied in reasonable quantities upon
request.
6. You acknowledge and agree that the Funds reserve the right, in their sole
discretion and without notice, to suspend sales or withdraw the offering of
shares of the Funds.
2
<PAGE>
7. This Agreement may be terminated by either party at any time upon seven
days' notice to the other party with or without cause. We reserve the right to
amend this Agreement at any time upon written notice.
8. You represent that you are a member in good standing of the National
Association of Securities Dealers, Inc. and agree that termination or suspension
of such membership shall automatically terminate this Agreement. You further
agree that you will immediately advise us of any such termination or suspension.
You also represent that you are authorized under relevant federal and state laws
and regulations to receive the fees payable hereunder and that you will
immediately advise us of any termination or suspension of such authorization.
9. You agree to indemnify and hold harmless the Funds and us from and against
any and all claims, liability, expense (including attorneys' fees) or loss in
the event that you, or any of your employees or agents, should violate any law,
rule or regulation or any provisions of this Agreement, including, without
limitation, any representations, verbal or otherwise, of any untrue or alleged
untrue statements of a material fact relating to the offer and sale of the
Funds. In the event we determine to refund any amounts paid by any investor by
reason of any such violation on your part, you shall return to us any fees
previously paid by us to you in connection with the transaction for which the
refund is made.
10. All communications to us should be sent to us at 3700 First Bank Place,
P.O. Box 357, Minneapolis, MN 55440. Any notice to you shall be duly given if
mailed or telegraphed to you at the address specified by you below. This
Agreement shall be governed by and construed in accordance with the laws of the
State of Minnesota.
The undersigned hereby accepts
the offer set forth herein:
DEALER INVESTMENT ADVISERS, INC.
By____________________________ By______________________________
Its___________________________ Its_____________________________
Address_______________________ Date of Acceptance_______, 19___
_______________________
_______________________
3
<PAGE>
EXHIBIT 6C
SHAREHOLDER SERVICES AGREEMENT
<PAGE>
SHAREHOLDER SERVICE AGREEMENT
Ladies and Gentlemen:
We invite you to enter into an agreement with us for the servicing of
shareholders of, and the maintenance of shareholder accounts for those mutual
funds available to the public for which Investment Advisers, Inc., our
affiliate, serves as the investment adviser (the "Funds") and the shares of
which are offered to the public at net asset value, as described in the Funds'
Prospectuses. Subject to your acceptance of this Agreement, the terms and
conditions of this Agreement shall be as follows:
1. You shall provide shareholder services for certain shareholders of the
Funds who purchase shares of the Funds as a result of their relationship to
you. Such shareholder services may include personal services provided to
shareholders, such as answering shareholder inquiries regarding a Fund and
providing reports and other information, and services related to the
maintenance of shareholder accounts, to the extent you are permitted by
applicable statue, rule or regulation to provide such information or
services.
2. If shares of the Funds are to be purchased or held by you on behalf of your
clients:
(i) Such shares will be registered in your name or in the name of your
nominee. The client will be the beneficial owner of the shares of the
Funds purchased and held by you in accordance with the client's
instructions and the client may exercise all rights of a shareholder
of the Funds. You agree to transmit to the Funds' transfer agent
(Investment Advisers, Inc.), in a timely manner, all purchase orders
and redemption requests of your clients and to forward to each client
all proxy statements, periodic shareholder reports and other
communications received from the Funds by you on behalf of your
clients. The Funds have agreed to pay all reasonable out-of-pocket
expenses actually incurred by you in connection with the transfer by
you of such proxy statements and reports to your clients.
(ii) You agree to transfer to the Funds' transfer agent, on the date such
purchase orders are effective, federal funds in an amount equal to
the amount of all purchase orders placed by you on behalf of your
clients and accepted by the Funds. In the event that the Funds fail
to receive such federal funds on such date (other than through fault
of the Funds or their transfer agent), you shall indemnify the Funds
against any expense (including overdraft charges) incurred by the
Funds as a result of their failure to receive such federal funds.
<PAGE>
(iii) You agree to make available to the Funds, upon the Funds' request,
such information relating to your clients who are beneficial owners
of shares of the Funds and their transactions in shares of the Funds,
as may be required by applicable laws and regulations or as may be
reasonably requested by the Funds.
(iv) You agree to transfer record ownership of a client's shares of the
Funds to the client promptly upon the request of a client. In
addition, record ownership will be promptly transferred to the client
in the event that the person or entity ceases to be your client.
3. You shall provide to us copies of the lists of members of your organization
and identify to us any publications and other facilities of your
organization for the placement of advertisements or promotional materials
and for sending information regarding the Funds to enable us to solicit for
sale and to sell shares to your members.
4. Neither you nor any of your employees or agents are authorized to make any
representation concerning the shares of the Funds except those contained in
the then current Prospectuses of the Funds, copies of which will be
supplied to you; and you shall have no authority to act as agent for the
Funds or for us. You agree to indemnify and hold harmless the Funds, us,
and Investment Advisers, Inc. from and against any and all claims,
liability, expense (including attorneys' fees) and loss in the event that
you, or any of your employees or agents, should violate any law, rule, or
regulation, or any provisions of this Agreement and, in the event we
determine to refund any amounts paid by any investor by reason of any such
violation on your part, you shall return to us any fees previously paid by
us to you in connection with the transaction for which the refund is made.
5. In consideration for the services described herein, you shall be entitled
to receive from us such fees as established by us from time to time as set
forth on Exhibit A. Such fee will be based upon assets of each Fund
represented by shares of the Fund owned, during the quarter for which
payment is being made, by shareholders for which you maintain a servicing
relationship as evidenced by their execution of such agreements as we may
from time to time require. We specifically reserve the right to
discontinue paying fees with respect to those assets for which such
customer authorization which we may require is not provided.
Such fee will be paid on a quarterly basis and, subject to the last
sentence of this section, will be paid so long as the accounts for your
clients and this Agreement and such other agreements as we may require have
not been terminated. Upon such termination any such obligation to pay such
fee shall cease. You agree to furnish us and the Funds with any such
information as may be reasonably requested with respect to such fees paid
to you pursuant to this Agreement.
<PAGE>
6. You acknowledge and agree that the Funds reserve the right, in their sole
discretion and without notice, to suspend the sale of shares or withdraw
the sale of shares of the Funds.
7. This Agreement may be terminated by either party at any time upon seven
days notice to the other party with or without cause. We reserve the right
to amend this Agreement at any time upon written notice.
8. All communications to us should be sent to us at 3700 First Bank Place,
P.O. Box 357, Minneapolis, MN 55440. Any notice to you shall be duly given
if mailed or telegraphed to you at the address specified by you below.
This Agreement shall be governed by and construed under the laws of the
State of Minnesota.
The undersigned hereby accepts IAI Securities, Inc.
the offer set forth herein
_______________________________ By _____________________________
Firm
By_____________________________ Its ____________________________
Its ___________________________ Date of Acceptance______________
Address________________________
__________________________
__________________________
<PAGE>
EXHIBIT 11
CONSENT OF INDEPENDENT AUDITORS
<PAGE>
[LETTERHEAD OF KPMG PEAT MARWICK LLP]
Independent Auditors' Consent
-----------------------------
The Board of Directors
IAI Investment Funds III, Inc.:
We consent to the use of our report incorporated herein by reference and to the
references to our Firm under the headings "FINANCIAL HIGHLIGHTS" and "COUNSEL
AND AUDITORS" in Part A of the Registration Statement.
/s/ KPMG PEAT MARWICK LLP
---------------------------------
KPMG Peat Marwick LLP
Minneapolis, Minnesota
March 28, 1996
[LETTERHEAD OF KPMG PEAT MARWICK LLP]
