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SKYLINE FUNDS
SKYLINE SPECIAL EQUITIES PORTFOLIO
INVESTING IN SMALL-SIZED COMPANIES
- --------------------------------------- STRATEGY
- Value orientation - low price/earnings
ratio- 20% plus discount to the market
- Attention to growth - forecasted EPS
growth in the 10% to 20% range
- Focus on "neglected" companies -
limited Wall Street research coverage
- Market cap range of $100 million to
$700 million
MARCH 31, 1997
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LETTER FROM WILLIAM M. DUTTON, PORTFOLIO MANAGER:(1)
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April 14, 1997
Dear Shareholder:
We are pleased to report a gain of 2.4% in the first quarter compared to a
negative return of 5.2% for the Russell 2000 Index. This substantial degree of
outperformance was due to a combination of good relative strength in
value-oriented stocks, favorable sector weightings in the Fund, and strong stock
selection.
Value oriented stocks performed relatively well during the period due to a
strong economy and attractive valuation levels. In terms of sector weightings,
the Fund benefited by having nearly 20% of its assets in financial stocks, one
of the few areas that showed positive results for the quarter. Also, the Fund
was underweighted in technology and health care stocks, two of the weakest
sectors in the stock market. Finally, within certain sectors, the Fund was
positioned in the right industries. For example, within the consumer sector, the
Fund was positioned in retail stocks which did well and avoided other consumer
areas which did poorly. Stock selection, however, is perhaps a larger reason for
the good results. In every sector of the market, the Fund's stocks performed
better than those in the related market sector. Even in the technology sector,
the holdings showed a positive return of over 6% while the technology stocks in
the Russell 2000 Index showed a loss of almost 20%.
The outlook appears somewhat mixed at the present time. An area of concern
is the valuation level of the overall market, where P/E multiples are high and
dividend yields are low. On the positive side for our strategy, relative
valuations look extremely favorable for small cap stocks. After underperforming
large cap stocks for over three years, small stocks are unusually cheap on a
relative basis according to many measures, including price/earnings, price/book
value, price/sales, and dividend yield. In our opinion, it is highly likely that
small cap stocks will outperform large cap stocks over the next year or two due
to this valuation discrepancy. Perhaps more important, we are currently finding
many attractive opportunities in the market. While we are enthusiastic about our
holdings, we recognize that a good economy is necessary for many of our
investments to perform well.
/s/ William M. Dutton
PORTFOLIO CHARACTERISTICS(1)
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<TABLE>
<CAPTION>
SPECIAL
EQUITIES RUSSELL 2000 S&P 500
<S> <C> <C> <C>
P/E RATIO (MEDIAN) 15.1 19.9 18.9
PRICE/BOOK 2.06 2.31 3.43
PRICE/SALES 0.69 1.19 1.38
EPS GROWTH CURRENT FISCAL 16.9% 20.6% 14.3%
YEAR AVERAGE
MARKET CAP $ WGHTD. MED. $410 million $580 million $26 billion
PORTFOLIO VALUE $270 million $651 billion $5,815 billion
NUMBER OF HOLDINGS 79 1,911 500
</TABLE>
Ticker symbol: SKSEX
1-800-458-5222
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PERFORMANCE (%)(1)
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<TABLE>
<CAPTION>
Qtr 1 Since
1997 1 yr. 3 yrs. 5 yrs. Inception(2)
<S> <C> <C> <C> <C> <C>
SPECIAL EQUITIES 2.42 29.22 14.86 18.54 16.85
RUSSELL 2000 -5.17 5.11 12.69 12.78 9.80
S&P 500 2.62 19.94 22.36 16.46 13.60
</TABLE>
<TABLE>
<CAPTION>
Calendar Years
2
1996 1995 1994 1993 1992 1991 1990 1989 1988 1987
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
SPECIAL EQUITIES 30.4 13.8 -1.2 22.9 42.5 47.4 -9.3 24.0 29.7 -16.9
RUSSELL 2000 16.5 28.4 -1.8 18.9 18.4 46.1 -19.5 16.2 24.9 -24.3
S&P 500 23.3 37.5 1.3 10.0 7.7 30.6 -3.2 31.4 16.5 -12.0
</TABLE>
SECTOR WEIGHTINGS (MARCH 31, 1997)
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Cash 1.9%
Autos & Transportation 12.2%
Consumer Discretionary 19.2%
Consumer Staples 1.1%
Energy 5.3%
Financial Services 19.0%
Health Care 6.5%
Materials & Processing 16.9%
Producer Durables 11.3%
Technology 5.2%
Utilities 1.4%
<TABLE>
<CAPTION>
SECTOR PERFORMANCE (FIRST QUARTER 1997)
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SPECIAL RUSSELL
EQUITIES 2000
<S> <C> <C>
CONSUMER STAPLES 27.1% 2.3%
TECHNOLOGY 6.3 -19.1
MATERIALS & PROCESSING 6.2 -2.6
PRODUCER DURABLES 5.7 -5.0
UTILITIES 3.4 -4.9
CONSUMER DISCRETIONARY 2.8 -4.4
FINANCIAL SERVICES 1.9 0.3
HEALTH CARE 0.9 -8.4
OTHER 0.0 -1.4
AUTOS & TRANSPORTATION -0.5 -1.0
ENERGY -9.3 -10.2
</TABLE>
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STOCK HIGHLIGHTS(3)
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CHICAGO BRIDGE & IRON COMPANY, N.V. (CBI)
Chicago Bridge and Iron is the world's largest engineer and constructor of large
steel storage tanks. As a provider of storage tanks for the petroleum,
chemicals, metals, utility, and pulp and paper industries, CBI is benefiting
from the growing infrastructure demands of emerging markets worldwide. A
restructuring program implemented by the recently installed management team has
reduced costs and improved project performance. The combination of a lower cost
structure, worldwide name recognition, and strong relationships with the
companies that are expanding overseas puts CBI in a strong position to
capitalize on the growth in emerging markets. At 10x this year's earnings
estimate, CBI is selling at a significant discount to the S&P 500's 18x
multiple.
DELPHI FINANCIAL GROUP, INC. (DFG)
Delphi is an insurance underwriter focusing on group employee benefits and asset
accumulation products. Delphi's key strength is its 24 sales offices located
throughout the U.S., which help Delphi develop and maintain strong relationships
with a nationwide network of insurance brokers and independent agents. Delphi's
strategy is to leverage this network by acquiring companies with strong products
but limited distribution and marketing the acquired company's products through
Delphi's existing sales channel. Despite an excellent record of earnings growth,
above average returns on equity, and strong demand for their key products,
Delphi sells at only 10x trailing 12-months EPS versus 13.9x for the average
life insurance company.
<TABLE>
<CAPTION>
TOP TEN HOLDINGS % OF NET ASSETS
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<S> <C>
ALLIED GROUP, INC.
Personal lines insurance 2.2%
INTERPOOL, INC.
Container leasing firm 2.2%
FURON COMPANY
Polymer-based products 2.1%
INTERFACE, INC.
Carpet producer 2.0%
DELPHI FINANCIAL GROUP, INC.
Accident & health insurance 1.9%
CITATION CORP.
Castings manufacturer 1.8%
IHOP CORP.
Restaurant operator 1.8%
FBL FINANCIAL GROUP, INC.
Sells insurance endorsed by Farm Bureau 1.8%
EXCEL INDUSTRIES, INC.
OEM auto parts supplier 1.8%
LANDSTAR SYSTEM, INC.
Truckload carrier 1.7%
TOP TEN HOLDINGS 19.3%
</TABLE>
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(1) The performance for the one, three, and five years ended March 31, 1997,
and for the period April 23, 1987 (inception) through March 31, 1997, is
an average annual total return calculation which is described in the
Funds' prospectus. Of course, past performance is no guarantee of future
results. The principal value and return on your investment will fluctuate
and on redemption may be worth more or less than your original cost.
The Russell 2000 Index is an unmanaged, market value weighted index
comprised of small-sized companies. The S&P 500 Index, a widely quoted
stock market index, includes 500 of the largest companies publicly traded
in America. All figures take into account reinvested dividends. All
indexes and portfolio characteristics are compiled by Frank Russell
Company.
Sources: Lipper Analytical Services & Frank Russell Company.
(2) Return is calculated from the Fund's inception on April 23, 1987.
(3) Fund holdings are subject to change and should not be considered a
recommendation to buy individual securities.
This report is not authorized for distribution unless accompanied or preceded by
a current prospectus.
There are risks of investing in a fund of this type which invests in stocks of
small companies, which tend to be more volatile and less liquid than stocks of
large companies.
Distributor: Funds Distributor, Inc.
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SKYLINE FUNDS
311 South Wacker Dr.
Suite 4500
Chicago, Illinois 60606
fax 312.913.1980
telephone 312.913.0900
800.458.5222
