BARON ASSET FUND, N-30D, 1998-12-01

BARON ASSET FUND
N-30D, 1998-12-01

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BARON FUNDS
LOGO

1 BARON ASSET
FUND

PERFORMANCE.........................................................1

INVESTMENT STRATEGY.................................................2

PORTFOLIO HOLDINGS..................................................3

OTHER DEVELOPMENTS..................................................7

2 BARON GROWTH
& INCOME FUND

PERFORMANCE........................................................10

RECENT DEVELOPMENTS................................................11

RECENT BUSINESS NEWS...............................................12

OTHER DEVELOPMENTS.................................................14

3 BARON SMALL
CAP FUND

PERFORMANCE &
PHILOSOPHY.........................................................15

PORTFOLIO COMPOSITION
AND HOLDINGS.......................................................16

RECENT DEVELOPMENTS................................................17

767 Fifth Avenue
NY, NY 10153
212-583-2100
1-800-99-BARON
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THIS ANNUAL REPORT CONTAINS
INFORMATION FOR THREE FUNDS

BARON ASSET FUND

ANNUAL REPORT SEPTEMBER 30, 1998

Dear Baron Asset
Fund Shareholder:
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Performance

The performance of Baron Asset Fund has been uncomfortably and closely aligned
with the dismal performance of the small cap Russell 2000 index from mid-July
through early October. Since then, Baron Asset Fund has recovered even more
rapidly than the rapidly rising, but still depressed, small cap index. We
expect that virtually any company's share price may fall 20-30% at virtually
any time for virtually any reason. We just don't expect virtually all
companies' shares to fall 20-30-40%, or more, at the same time, for reasons not
related to individual business fundamentals. Except during world crises like
the global economic and political crises this summer that engendered the two
and a half month "severe correction," "crash" or "financial panic." There have
been eight such broad market declines and subsequent recoveries since I began
my career as an investment analyst in 1970. Baron Asset Fund was able to take
advantage of the very attractive prices many of our small and mid cap
companies' securities reached during the past few months and added to several
of our most attractive investments.

The stock price changes in Vail Resorts, to choose one nearly random example,
were almost the norm among small and mid sized public companies during last
summer's "financial panic." Adam Aron, chairman of Vail Resorts, the Colorado
ski resort business in which we are a major shareholder, visited us in New York
in late October. "In early July, Vail reported terrific earnings . . . record
earnings . . . and our shares immediately fell three points . . . from $30 to
$27. Vail's stock price then dropped to $15 during the next two months," Adam
told us, as if we somehow missed it. He went on. "This month, eco-terrorists
attacked Vail and burned one of our restaurants and our ski patrol quarters to
the ground . . . our shares then jumped seven points to $27! WHY is that, Ron?"
Although

<TABLE>
<CAPTION>
BARON
ASSET S&P RUSSELL
FUND 500* 2000*
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<S> <C> <C> <C>
PERFORMANCE FOR ONE YEAR ENDED SEPTEMBER 30, 1998 -15.8% 9% -19%

ANNUALIZED PERFORMANCE FOR FIVE YEARS ENDED SEPTEMBER 30, 1998 14.3% 19.9% 9.1%

CUMULATIVE PERFORMANCE SINCE INCEPTION JUNE 12, 1987 THROUGH SEPTEMBER 30, 1998 420% 360% 169%
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</TABLE>

* THE S&P 500 AND RUSSELL 2000 ARE UNMANAGED INDEXES. THE S&P MEASURES THE
PERFORMANCE OF THE STOCK MARKET IN GENERAL: THE RUSSELL 2000 OF SMALL SIZED
COMPANIES.
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B A R O N A S S E T F U N D
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we could not provide Adam with a good explanation for this manic trading, we
did purchase 500,000 additional Vail shares when they fell below $20 per share.

Although the share price of Baron Asset Fund has fallen during the past twelve
months, the businesses in which the Fund is an investor, a part owner, are, on
average, about 25% larger, 25% more profitable and, we believe, 25% more
valuable than they were a year ago. We continue to estimate that each of the
businesses in which we have invested will at least double in size by the year
2002, and that their stock prices will reflect this growth. We believe the
stock prices of businesses we own remain undervalued relative to their current
results, their expected growth rates and prevailing long term interest rates.
Our companies are especially undervalued when compared to current and projected
earnings valuations for the large cap S & P 500 index. We remain committed to
our goal that Baron Asset Fund double its per share asset value every three to
five years. Although there can obviously be no assurances that we will achieve
our goals, we expect Baron Asset Fund to continue to recover from its recent
losses and meet our long term growth objectives. Our long term goal for Baron
Asset Fund remains $100 per share during 2002. This was our objective at the
start of calendar 1998 and, in November 1998 remains our goal.

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Investment Strategy

Invest in great businesses . . . for the long term.

Our philosophy? . . . how do we manage your . . . and our . . . money? We don't
think it's just about numbers, about more stocks . . . or fewer stocks . . .
it's not just about growth, momentum, or value . . . it's not just about small
cap, big cap, or all cap . . .. and, it's not just about asset allocation,
about continually rebalancing our investment portfolio, although we do have
opinions about all these choices. We focus our investments in a relatively few,
entrepeneurially managed, small and medium sized, very profitable, fast growing
businesses, with strong barriers to competitors . . . businesses that have an
opportunity to get BIGGER! A lot BIGGER! And, we expect that when these
companies do get bigger, we'll still be shareholders. That's how we think we'll
achieve the best returns for our fellow shareholders with what we regard as
acceptable risk. Start to invest when businesses are small. Learn as much as
you can about that business, its prospects and its management over time through
our own research. Then, take advantage of market volatility, inefficiencies, to
purchase more stock in successful businesses at opportune times when share
prices don't reflect current business values and growth prospects. And,
finally, invest for the long term in businesses. Don't just trade stocks.

A business must pass the test of time. It must be a survivor.

Will a business pass the test of time? Can we visualize this business as a
successful enterprise, a much larger, successful enterprise in five years? Ten
years? That's the test. We don't want to invest in a business that manufactures
textiles in high cost New England, textiles that could be produced for a lot
less elsewhere. Business is hard enough. We don't want to invest in one that's
competitively disadvantaged from the start. But, we also don't want to invest
in a business that exists only because it sells goods or services at a cheaper
price . . . we think that's also a losing strategy. Just think about all the
discount retailers that have failed during the past couple of decades. It's
about a lot more than just price. Someone can always offer products at a
cheaper price. You don't want a business that to prosper must always sell at
the lowest price. Individuals are willing to pay a fair price for a quality
service.
<PAGE>

We don't want our businesses to be disadvantaged by change.

We want to invest in businesses that will not be disadvantaged by change. And
whose business can benefit from long lasting mega-trends created by change.
Like the internet. The internet will allow many businesses to reduce costs and
improve results achieved through direct marketing of merchandise. The trick
here will be to identify businesses that can use technology to create
sustainable competitive advantage. We have always preferred to invest in
businesses that use technology, not create it. But, you might reasonably ask,
as futurists, why don't we invest directly in technology? Because, we believe,
even if you have the best software, computer chip, super-fast modem or portal
to the internet today, your product or service will not necessarily be the best
in five or ten years.

Not too much debt is key.

We invest principally in businesses that are well financed . . . but, we also
invest a smaller portion of our assets in businesses that, we believe, soon
will be. We want time to be on our side, not ticking against us, as it often is
when you invest in highly leveraged businesses.

We're looking for "sunrise" industries.

Baron Funds invests in "sunrise" industries. That's what we're looking for. Job
creating, sunrise industries. Communications. Healthcare. Financial services.
Media and entertainment. Leisure. Education and training. Marketing. Industries
in which your children and grandchildren will find their careers. Growth
businesses offer opportunities to employees, communities and shareholders. We
are not interested in the "sunset" industries in which your parents and
grandparents worked. Not steel. Not automobiles. Not railroads. Not utilities.
Not industries that must fire workers and consolidate to improve or maintain
profitability.

If you get it right, it really works. David Pottruck, co-ceo and president of
Charles Schwab, met our chief operating officer, Morty Schaja, and me in late
October in Orlando at Schwab's annual conference for financial planners. We
have been shareholders of Schwab for more than six years, and David asked me

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B A R O N A S S E T F U N D
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whether we had sold any of our shares. No, I told him, even though we began to
purchase Schwab's shares in the fall of 1992 at an adjusted price below $3 per
share. In fact, I went on, during the first quarter of 1998, when Schwab's
stock price fell from $42 in December 1997 to the low $30's, we bought an
additional 4.5 million shares. Baron Capital's clients, including Baron Asset
Fund, now own nearly 15 million shares of Charles Schwab, making our clients
among Schwab's largest owners. David shouted down the escalator as he rushed to
his next meeting, "Vote your proxies for higher salaries!" During a nationwide
telephone meeting of his top executives last week, David informed them that Ron
Baron thinks Schwab's stock could reach $200 per share in four or five years
. . . "From Ron's lips to God's ears," David superstitiously commented.

Our executive friends help us a lot.

Another benefit of long term investing? In addition to how profitable it can
be? If you seek their help, executives usually try hard to help you better
understand their businesses so you can be a better informed shareholder. And,
they try to help you understand the intricacies and subtleties of other
businesses and their strategies and prospects and people, as well. It sure
makes it easier. This benefit I don't think you can underestimate. After I met
Jay Pritzker more than twenty years ago, and helped him purchase the Hyatt
Hotel company, he continued to give me advice on other investments, about doing
the "right thing" and about investing with strong and ethical individuals.
("What goes around, comes around.") It was Jay I turned to for a recommendation
on Adam Aron . . . Adam had worked for Jay . . . before we invested in Vail.
Jay couldn't have spoken more highly about Vail's chairman. And he was right.
By the way, Jay always relied upon the assessments of his friends, fellow
executives, before he considered an investment . . . and achieved enviable and
outstanding results during his career.

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Portfolio Holdings

We own businesses with significant and sustainable competitive advantages,
important barriers to competition.

So, what's so special about the companies in which we are shareholders, in
which we are part owners? Competitive barriers to competition, sustainable
competitive advantage, that's a big part of it. Of course, like most successful
investments, ours are well managed, highly profitable businesses with favorable
and strong, open-ended, long term growth prospects. Our growth businesses also
have important barriers to competition . . . we think this focus on sustainable
competitive advantage distinguishes our portfolio companies from those of most
other funds. Brand names, government licenses, patents, trademarks, reputation,
unique competitive positions . . . as long term investors, not short term
traders, we want to be sure the businesses in which we invest will continue to
prosper over the several year time horizon in which we intend to be
shareholders. Barriers to competitors will help them do so.

Polo Ralph Lauren will receive this year about $210 million in license fees, a
revenue source growing 15-20% per year, for granting others rights to
manufacture and market home furnishings, women's wear, accessories, sneakers
and jeans using the Polo trade dress and marks. For the right to use the Polo
name! Polo provides design and marketing assistance and concept development to
its licensees. But, it doesn't own the factories and inventories or assume the
capital risk necessary for these businesses to grow. Thirty years, hundreds of
millions spent for promotion and painstaking attention to detail have
established the Polo brand. Due to consumer perception of quality and style for
Polo's branded products, and resultant strong demand for those products,
licensees pay Polo . . . a lot . . . to use its name. With significant Polo
oversight, of course.
<PAGE>

Sotheby's is really a retailer of fine arts and antiques, jewelry, and other
collectibles . . . but, unlike other retailers, it doesn't own the items it
sells! Items sold by Sotheby's are consigned to it for sale. Sotheby's bears
the expense of marketing items to be sold through its auctions, but if those
items are unsold, the works are returned to their owners, not marked down and
placed on sale by Sotheby's. Why do the owners of expensive art and antiques
around the world trust Sotheby's with their property? Because Sotheby's over
the past 254 years has established a reputation for probity and expertise, for
integrity, and, of course, for the ability to sell these items. When Sotheby's
says an armoire is worth $10,000 or a picture $10 million, its customers . . .
consignors and purchasers alike . . . believe.

Charles Schwab will spend nearly $375 million next year on technology to make
its internet based investment services easier to use and services provided its
customers more robust. Schwab will also spend $150 million next year marketing
its services and enhancing its brand. The huge scale of these expenditures is
unmatched by other "competitive" financial services businesses. It is a
continuation of the trend of substantial capital expenditures begun by Charles
Schwab twenty years ago when his then young company, with only $2 million in
the bank, bought $2 million computers.

NIMBY . . . not in my backyard . . . as we noted in our last quarterly report,
zoning requirements . . . keep those billboards, amusement parks, prisons and
mobile home parks away from my neighborhood . . . are often an important
barrier to competition. If you own one, like Clear Channel Communications,
Premier Parks, CCA Prison Realty or Sun Communities do, you'll likely
experience strong and increasing returns from this ownership since you're not
likely to get much competition.

Vail Resorts . . . it should be obvious that they're not building any more
resort mountain communities with thirty six year

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reputations and cache and infrastructure . . . and they're not building any
more mountains. Choice Hotels has a brand so well established that owners of
independent hotels pay 5% of their revenues for the right to use the Choice
brand and the Choice reservations system . . . which fills about 30% of their
beds with heads every night. Of course, Choice is not required to make any
capital investment in its licensees to receive this revenue stream. I just love
licensing businesses . . . if there are good controls on the quality of
customer service provided by your franchisees and if you are confident you're
not being short changed. NTL has a license granted by the British government to
encourage that company to compete with British Telephone, a notoriously poor,
and expensive, service provider. NTL's license prevents others, except BT, from
offering a competitive service in its markets. Demand for NTL's local
telephone, long distance, cable television and internet services has been
exceptional. Robert Half operates the biggest permanent placement business for
accounting professionals. This service provides it with candidates for its
rapidly growing temporary accountants business. Robert Half's customers, small
and medium sized businesses, not Fortune 1000 companies, are more difficult to
service than larger businesses and therefore provide additional barriers to
competition. It is difficult to compete with Robert Half's reputation, its
brand, which has established over fifty years as a quality provider of
specialty professional workers.

Our diversified portfolio of great businesses with strong barriers to prevent
competition also have business opportunities that are unusually large . . . in
some instances, positively vast . . .

. . . with $440 billion customer assets growing 35-40% per year, Charles Schwab
can poach the $4 trillion customer assets in banks, the $5 trillion invested in
U.S. mutual funds, the $4 trillion invested in full service brokerage firms
. . . and offer internet bank services to its customers to increase the return
to Schwab of these assets . . . the internet permits clients to bring assets to
Schwab easily and provides Schwab means to provide its customers increasingly
robust services . . .

. . . $2 billion annual auction revenues Sotheby's, an 11-12% annual revenues
growth business for thirty years, has the opportunity to address a vast, tens
of billions of annual estate sales, opportunity using the internet . . .estate
sales currently take place through private dealers, classified ads, in small
retail stores and in farmers markets . . .

. . . a recent article in the Wall Street Journal poignantly outlined huge
demand in the United States for long term care and assisted living facilities
capable of caring for Alzheimer's patients. There are currently 4 million
Americans with Alzheimer's disease. The incurable disease results in
progressive deterioration of the patient's mental facilities, and families are
usually soon unable to care for their loved one. A dramatic increase in
Alzheimer's in our country is expected. About 50% of our population over age 85
has the disease. The number of people who are over age 85 is growing three
times as rapidly as those under age 85. But, there are just 1.7 million nursing
home beds, 100,000 fewer than were available ten years ago. And, nursing homes
are increasingly being used to provide care for sicker patients, not older,
enfeebled, long term care, Alzheimer's patients. Managed care, rather than
extending hospital stays for its patients, encourages nursing homes to be used
instead. This is because nursing homes are a lot cheaper and the care provided
is hospital equivalent. HCR Manor Care is the leading, and most profitable,
nursing home chain; the first nursing chain to offer dedicated Alzheimer's
wings; and the leading provider of assisted living Alzheimer's care.
<PAGE>

. . .Vail Resorts could boost its annual resort cash flow from $106 million
last year and an estimated $126 million this fiscal year to $200 million in
2002. This principally by increasing revenue per daily ski pass only $10. By
that time, Vail also expects to attract more guests, especially in off-peak
"shoulder" periods. Category III, a 19% Vail terrain expansion in 2000, will
help. Vail also will continue to own and operate more lodging, restaurants and
retail facilities. Summer activities will become more important to this unique
resort. Spectacular golf courses and other amenities are now on the drawing
board. In fact, my friends who live in Colorado already tell me they live there
for the summers, not the winters! With continued investment in its four
mountain resort towns and the 65% increase in prime baby boomer vacation
candidates expected in the next ten years, not to mention the big increases
anticipated in echo-boomers, Vail should be able to double its resort cash flow
again by 2007 or 2008. If it is able to purchase another important mountain
resort or accelerate its investments, our second doubling target date could be
a little conservative.

. . . women's apparel sales in the United States are about twice men's. Polo
Ralph Lauren's sales are the opposite. Polo's recent efforts with women's
licensing agreements could double the size of its entire business.
International markets, where we believe Polo is synonymous with Americana,
could double the size of the company again. The niche $350 million Polo Jeans
business, just two years old, offers the $1.5 billion company huge opportunity,
especially when measured against the $7 billion annual sales jeans business.
And, the Polo brand is extendable. It has already worked on home furnishings,
another huge opportunity, and even housepaints. It can go further. And,
finally, profits. Polo's pre tax profits currently only approximate its license
income as it has spent heavily over the past thirty years to establish its
brand. Polo has a huge opportunity to increase the profitability of all its
other businesses.

. . . the United States will probably need more than 100,000 communications
towers within a few years. There are now about 60,000. Increasing wireless
phone usage due to sharply declining monthly charges for cellular and pcs
phones are an important

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factor. Also driving increased demand for towers is the apparently insatiable
potential demand for wireless data applications, including pagers and the
internet. High definition television broadcasters will also require more
towers. The two licensed satellite radio broadcasters will require lots of
repeaters on towers to enable their signals to be received in urban areas.
American Tower is the largest independent communications tower owner. It owns
just 3000 towers and intends to build 1500 to 2000 towers per year as well as
acquire a lot more. Existing telecommunications company towers often have just
one tenant, themselves, on towers that could accommodate several. Towers that
represent cost centers to them are revenue opportunities to an independent
owner. American Tower's chairman, Steve Dodge, formerly the chairman of
American Radio, apparently wants to own them all. Starting from a small base
should offer this well financed business very strong growth opportunities.

I think the prospects for the businesses we own . . . and therefore, for Baron
Funds . . .are best described by Oprah . . . "When I try to look at the future,
it's so bright it burns my eyes." I found this quote on the internet while
trying to help our youngest son with his high school senior yearbook page. When
he decided not to use it, I couldn't resist.

Largest Investments: September 30,1998 . . .relatively concentrated. Top
sixteen holdings represent 57.8% of net assets.

Market Value
Charles Schwab $ 344.3 million
Sotheby's 323.4
HCR Manor Care 303.4
Vail Resorts 188.9
Polo Ralph Lauren 172.6
Choice Hotels 165.2
NTL 134.0
American Tower 130.6
Heftel Broadcast 123.4
Dollar Tree 115.5
Sun International 109.1
DeVry 108.6
Robert Half 100.8
Spieker Properties 88.9
Libbey 78.2
Premier Parks 61.8
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PORTFOLIO CHANGES: September 30, 1997-September 30, 1998

Purchases

Sotheby's $ 381.1 million
AMF Bowling 234.9
Polo Ralph Lauren 201.5
Vail Resorts 156.7
Charles Schwab 131.7
HCR Manor Care 127.2
American Tower 113.7
Spieker Properties 74.9
Libbey 68.6
Premier Parks 57.1
NTL 54.0
Choicepoint 45.1
Budget 47.0
Sun International 44.7
ITT Educational 40.6
Mirage Resorts 40.2
Industrie Natuzzi 33.9
Federated Investor 30.4

Stock market volatility and investor disinterest in smaller and mid sized
companies during the past year have allowed us to make significant investments
. . . at attractive prices . . . in well managed, fast growing, small and
medium sized businesses.

"Core Holdings"

Retail

Sotheby's auction revenues in 1998 will approximate the $2 billion sales
achieved in 1989, yet its stock price is only about 65% the level it reached
then, its second year as a public company. Although Sotheby's is now battling
its only real competitor, Christie's, for dominant auction market share,
Sotheby's balance sheet is significantly stronger than it was nine years ago.
Sotheby's now has a large real estate brokerage business that was then small;
it has a substantial art financing business that was then small; it has a
retail jewelry sales business offering great potential that was then nearly
non-existent; it will soon open an auction business in Paris, France, a market
closed to outsiders for 480 years; and Sotheby's "arcade" business, lower
priced jewelry, art and antiquity sales, is growing nicely and also did not
then exist. The company's greatly expanded facility in New York City will open
in 2000 and should both significantly increase sales and materially reduce
handling costs.

What's really exciting is the prospect for Sotheby's both to auction lower
priced goods on the internet and to allow individuals unable to physically
attend an auction to be "present" in the auction room during a sale, also
through the internet. Estate sales of lower priced goods each year approximate
tens of billions, sales

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that neither Sotheby's nor its $2 billion annual auction sales revenue, fierce
competitor Christie's now share. Of course, Sotheby's reputation for expertise
and integrity established over 254 years should give it competitive advantage
over all but Christie's in sourcing and having the credibility to authenticate
and value goods to be auctioned on the internet. Although we have followed
Sotheby's since its initial public offering in 1988, we have been purchasing
its shares only for the past year.

"Farm Team"

Wholesale

Industrie Natuzzi, based in southern Italy and traded publicly only on the New
York Stock Exchange, is the world's leading, most profitable and fastest
growing manufacturer of upholstered leather furniture. Its location in southern
Italy provides this integrated furniture manufacturer with significant
competitive cost and quality advantages. Pasquale Natuzzi, the company's 55
year-old founder, still gives final approval to all designs and personally sits
on all furniture before it is mass produced. Mr. Natuzzi is generally regarded
as the preeminent furniture designer in the world. Wall Street research
coverage on this company? Virtually nil.

Although leather covered furniture represents just 15% of the chairs and
couches sold in the United States, and 35% of upholstered furniture sold in
Europe, leather's growth is more rapid than fabric's in both markets. And,
Natuzzi is growing faster than aggregate demand for upholstered leather
furniture. Natuzzi's leather market share in the United States is currently
25%, and in the more fragmented European markets, just 5%. Natuzzi has been
increasing its production capacity more than 15% per year, runs its unique,
highly automated factories at 96% of capacity and still struggles to keep up
with demand.

Natuzzi currently expects to increase its sales in the highly fragmented
European market more rapidly than in the United States during the next several
years. U.S. sales currently represent about half the company's revenues.
Natuzzi opened 97 Divani & Divani retail furniture showrooms throughout the
continent during the past three years. There are no large furniture retailers
in those markets. We expect the Divani & Divani chain to grow at least 20% per
year for the next several years.

Natuzzi recently introduced unique, fabric slip covered furniture that is
virtually impossible to distinguish from regular upholstered furniture.
Natuzzi's slipcovered couches are intended to be competitive for 80% of the $25
billion annual, world, upholstered furniture sales not now served. Fabric
currently represents just 5-7% of Natuzzi revenues. Slipcover results this year
will be restrained since production will be modest, but early retailer and
consumer response is extremely favorable.

We have been small shareholders of Natuzzi, we've owned about 100,000 shares
since its initial public offering in 1993, and had about quadrupled our money
through last spring. When Natuzzi's share price fell 50% this summer, we
purchased more than 3.2 million additional shares at less than 10 times our
estimate for 1999 earnings per share. Natuzzi has no debt, regularly earns
mid-teens profit margins and low-twenties after tax returns on equity, and
grows 15-20% per year. When our young analyst Andrew Peck visited Natuzzi in
Highpoint, North Carolina, and then in southern Italy this fall, he was asked
by Mr. Natuzzi, a flamboyant dresser but a sincere and straightforward man,
what Natuzzi's stock price was. When Andrew relayed the bad news, Mr. Natuzzi,
according to Andrew, jumped out of his chair in surprise, shocking Andrew, and
shouted, "Mama mia! Can that be?!! We've got to buy more stock!"
<PAGE>

Sales . . . although we consider ourselves long term investors, we do not hold
all our investments forever . . .

On occasion, companies in which we invest are acquired by others and we must
sell our shares. Big deals and big profits this year included the acquisition
of American Radio by CBS and the announced acquisition of Delta & Pine Land by
Monsanto. In both instances, Baron Asset Fund earned several fold returns on
its initial investments. American Radio's shares were tendered for cash; Delta
& Pine Land's shares were sold in open market transactions rather than accept
large company Monsanto's shares as consideration. Culligan Water, Equity
Corporation and Telemundo were smaller investments and were all sold for
substantial percentage profit gains after merger or acquisition agreements were
announced. Shares in Universal Outdoor were tendered to Clear Channel
Communications for shares of that larger company which, to date, have been
retained. This also resulted in a significant gain. Vitalink and Chartwell were
tendered for cash to acquiring companies for more modest profits.

When markets uniformly decline, as they did from July through October, we often
make modest adjustments to our portfolio. Last summer, we added to our
investments in our favorite businesses, and sold or reduced less important
holdings and received tax benefits in the process. When all stocks fall, all
stocks fall. But, when markets recover, not all stocks recover.

If we think business fundamentals have changed and investments we believed
promising no longer offer prospects for significant gain, we also sell. If we
believe we've made mistakes, we sell. Last year we described sales of Olsten,
Mercury Finance and Heilig & Meyers "in the nick of time" when fundamental
prospects for these businesses seemed to us deteriorating. We believed Olsten
would likely be adversely impacted when reimbursement rules for home care
visits were changed. We believed Mercury Finance was likely to experience
increased loan defaults and that its small loan business in Hispanic
communities was not going to be as successful as we initially expected. Heilig
& Meyers seemed to be able to generate improved sales only if it lent its
customers money on very lenient terms to buy its stores' furniture. All were
sold before their shares fell sharply.

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This year we also had a few escapes for modest losses that could have been a
lot worse. Circus Circus shares were sold after it had invested $300 million in
additional rooms at its Luxor casino hotel and Circus did not increase its
earnings from this property. Genesis Health was sold after that company
acquired Multicare at what we believed a very full price and aggravated the
problem when it borrowed to complete the deal at burdensome cost. Phycor shares
were sold when we saw no evidence that the physician practices acquired by that
company actually improved their revenues post acquisition. Crescent Realty was
sold when it made several acquisitions at what seemed high prices, and financed
these cash flow multiple deals with borrowings secured by the promise to sell
additional shares of Crescent. Nine West was sold when we became concerned that
an ongoing government investigation would be a burdensome management
distraction. Starwood Lodging was sold after it acquired ITT since a large
component of those earnings were gaming where we already had significant
investments. All were sold before their shares fell sharply. Starwood was sold
for a significant profit. These investments were part of our "Farm Team" and
represented about 4% of our investment portfolio.

We were not fast enough selling small investments in Pediatric Services,
Registry, Youth Services, American Homepatient, Shaw and TV Azteca when
fundamentals deteriorated. Their share prices fell substantially in price
before we sold. These investments, which we considered members of our "Little
League," represented, in aggregate, less than 2% of our investment portfolio.

Mistakes: AMF

The most notable mistake we made this year was AMF Bowling. AMF's results this
year were penalized by the sales decline of equipment to Asian bowling alleys,
but, more importantly, the company was so successful buying so many bowling
alleys in the United States, it was unable to operate them well. Bain
Consulting was retained; new managers with significant multi-unit operating
experience were hired; AMF's chief executive officer resigned; and systems and
operating protocols will soon be added. The good news? AMF's problems appear
fixable, and as poorly run as the AMF bowling alleys have been, the business
still produces very high 28.5% facility operating margins! With a lot of hard
work by its new managers, AMF can become a profitable investment for us,
although I am skeptical we will ever earn a good return on our initial
investment. Until AMF's operations improve and its balance sheet is
strengthened, there's still cause to worry about this one. But, you can't lose
the same money more than once. Our AMF investment penalized our performance an
estimated 4% this year and is our biggest error since Tokos Medical in 1993.

In the aggregate Baron Asset Fund now has about $98 million in loss
carryforwards to shelter future portfolio gains. In addi-tion, it currently has
significant unrealized losses in its AMF
investment.
<PAGE>

- --------------------------------------------------------------------------------
Other Developments

October 9th , New York City: More than 1300 shareholders attend Seventh Annual
Baron Investment Conference.

About 80 guests attended the First Annual Baron Investment Conference six years
ago in October 1992. Most of our guests that year were family and friends. It
was then difficult for us to fill about a third of the small room we had
rented. I certainly did not expect then that our annual conferences would
become what they have.

Preceding our annual conference this year, 2100 individuals responded they
would attend. This is about twice the number of responses we received just a
year ago. We received more than 400 RSVPs this year before we had even sent
invitations. Using our time-honed yield management tool of 65% physical
attendance compared to RSVPs, we were prepared for 1400 guests. More than 1300
came. One of our speakers, George Blumenthal, Chairman of NTL, remarked that
there were about twice as many guests at our conference than at the Goldman
Sachs' investment conference at which he had spoken only the day before.

This was the first year I have had to address our shareholders after we had
lost money. Our two teenage sons have attended the last several Baron
conferences. My wife, concerned that I would not be favorably received this
year at first insisted that our boys not attend. She finally relented when I
convinced her that, whether or not the audience reaction was favorable, our
children should attend. Our shareholder audience this year was thoughtful,
engaged and generally positive. I believe investors had come to make sure that
the businesses in which we have invested their assets . . . and our assets
. . . are continuing to do well, that we hadn't changed our investment style,
and that our analysts and I remain involved and committed.

Chief executives of five businesses in which we are shareholders spoke, as
usual. They each described their businesses, prospects and strategies and then
answered questions from our shareholders. Sotheby's President and CEO Diana
Brooks described the long term growth of auction revenues, 12-13% per year for
decades, several new Sotheby's growth initiatives, and the effect of the
economy on art prices, prices which in most instances are still below the
extraordinary levels reached nine years ago in 1989. Internet auctions were
briefly addressed. (Make sure you watch for them. We think they'll be great.)
NTL Chairman and CEO George Blumenthal, after accepting a little teasing for
his cameo roles in his friend Michael Douglas' movies, wowed the crowd with
what Morningstar.Net called "his breathtaking projections" for NTL's U.K. fibre
optic networks' voice and data telephony, cable television and internet access
services. Budget Chairman and CEO Sandy Miller drew laughs with a Seinfeld clip
of a frustrated Jerry and Elaine trying to rent a car at an airport, "That's
what we do, and we're darn proud of it!" and his frustration when our sound
system failed twice, "I bet this won't

7
<PAGE>

- --------------------------------------------------------------------------------
B A R O N A S S E T F U N D
- --------------------------------------------------------------------------------

happen to Ralph Lauren." When Sandy was asked about the impact of a recession
on Budget, he noted, "The cost of our cars will go down, and Budget actually
increased its earnings in the last recession." Sandy impressed everyone with
the prospects for significant savings from his acquisition of Ryder Truck
Rental. MetroNetworks' Chairman and CEO David Saperstein described how he
founded his helicopter outsourced traffic and news service for radio and t.v.
stations . . . he traded rush hour traffic reports for plugs for his Baltimore
car dealerships on local radio stations. David also spoke about the opportunity
to offer expanded news services to more radio and television stations and to
sell a greater part of the ad time he receives in return. Polo Ralph Lauren's
Chairman, CEO and namesake, Ralph Lauren, spoke without slides and without
notes. His disarming manner charmed the audience, and he drew an especially
warm response with his story about his first office, "actually not an office at
all, but a drawer in a desk in an office . . . but I told my wife it was an
office." Ralph did talk about the huge opportunities Polo has in the jeans
business, in womens' wear, in foreign countries, and other licensing
opportunities. And, the impact a recession would have on his business, "not
significant, due to our substantial licensing income and strong balance sheet."
During the Q & A, a member of the audience who attended DeWitt Clinton High
School in the Bronx, Ralph's high school, questioned him and thought they had
played ball together when they were kids. It was great! I think it was obvious
from the executive presentations that there was little that had occurred in
these businesses to account for sharp stock price declines.

Following the executives' presentations, I first spoke briefly about the
"financial panic" this summer, the EIGHTH "financial panic," "bear market," or
"severe correction" since I began my investment career in 1970, but, "that
still doesn't make it any easier . . . and it's been the most virulent in
twenty five years . . . the market's already anticipating a recession . . . if
we don't have one, stock prices will quickly rebound . . . if we do, the
rebound will be delayed months . . . not years." I then spoke about our
investment style. That day my focus was on brands and other barriers to
competition, elements that I believe distinguish our small and mid-sized growth
stock portfolio investments from those of most other funds. I also described
"kick the tires" research, our long term investment approach, "if you don't
want to invest in a business for ten years, you shouldn't think about investing
in it for ten minutes" (Warren Buffett), megatrends, and, the importance of
people in the investment equation, "as often as not, when we make a mistake,
it's about people." I spoke about why we think it's important for an investor
to think like an owner of a business, a partner with its management, employees,
community and other shareholders, and to ask the questions you would want
answered if you owned the entire business.

Following my presentation, I answered questions from our shareholders for
nearly two hours. I believe that, by the time most of our shareholders filed
out to Billy Joel's "New York State of Mind," they were satisfied that the long
term prospects for the businesses in which we are shareholders remain strong,
and that we are continuing to identify and invest in well managed, small and
mid-sized businesses with exciting growth prospects. At good prices. The mood
when people were leaving seemed not just relieved, but upbeat. Your friends who
attended will confirm this.

Many of our shareholders traveled quite far to be with us at this year's
conference. We are appreciative of your interest and of the time and effort you
spent. In addition to helping you learn more about your investments, we want
you to enjoy yourselves . . . thus, our New York bar mitzvah food and
Beatlemania and string rock n' roll entertainment during breaks and lunch. We
hope you'll return year after year and that next year you'll be a lot richer
than you are this year. We gave our departing guests "party favor" Baron Funds
NYC-1998 t-shirts. This year's Baron t-shirts are emblazoned with a colorful
Andy Warhol print, "Moonwalk," depicting Neil Armstrong, a lunar lander and an
American flag planted firmly on the moon. We thought the Warhol t-shirts would
be a good compliment to New York City pop artist Peter Max' colorful Baron
Funds NYC-1997 "Statue of Liberty" shirts last year. Shareholders who were
unable to attend, but who would like a t-shirt, should call us at
1-800-99-BARON. Of course, there will be no charge.

Baron Funds NYC-98 t-shirts have already been spotted at resorts, in gyms, on
jogging trails and tennis courts and, even on a New York subway. One of my
friends claims to have never lost a tennis match wearing one of our early, gray
Baron Asset Fund t-shirt models. Maybe the new ones will be as charmed. Many of
our conference attendees have also asked whether my formal remarks and slides
could be made available. Any shareholder who would like a copy should call us.
We'd be happy to furnish it.
<PAGE>

Baron Asset Fund is tax efficient. Taxable dividends to Baron Asset Fund's
shareholders will again be nominal.

As a long term investor in businesses, not a short term trader of stocks, Baron
Asset Fund has been tax efficient. For the fiscal year ended September 30,
1998, Baron Asset Fund will distribute only a nominal ordinary income dividend,
which we currently estimate to be $0.05 per share, to its shareholders. The
Fund did not distribute a dividend last year. This is because the Fund's most
successful investments, those responsible for its largest gains, have been held
for several years, and taxable gains, to date, have been avoided.

Baron Asset Fund has been a shareholder of specialty professional temporary
help provider Robert Half since 1991; discount broker, mutual fund distributor,
internet financial services provider Charles Schwab since 1992; private pay
nursing home provider HCR Manor Care since 1989; and leading private college
DeVry since 1990. All have increased several fold since our initial purchases
and, we believe, continue to offer the potential

8
<PAGE>

- --------------------------------------------------------------------------------
B A R O N A S S E T F U N D
- --------------------------------------------------------------------------------

to at least double again by the end of 2002. Other core holdings acquired in
the past few years, including leading Hispanic broadcaster Heftel Broadcasting;
discount dollar retailer of consumer staples Dollar Tree; leading cable
television/telephony/internet service provider in England NTL; and
communications tower company American Tower all have already at least doubled
in price and also offer the opportunity to do so again within the next four
years. More recent acquisitions include Vail Resorts, the leading ski resort in
the United States; Sun International, the owner of a spectacular, brand new and
soon to open, ocean and ancient ruins themed, family oriented resort, The
Atlantis, on Paradise Island, Bahamas; Sotheby's, the 254 year old, esteemed
auctioneer of fine art and antiquities; and Polo Ralph Lauren, the branded
producer of aspirational, lifestyle consumer products, also offer the potential
to double within four years.

Thank you for investing in Baron Asset Fund.

We recognize it cannot be an easy decision for most individuals when you choose
to invest in stocks through mutual funds. Your decision must be especially
difficult when you must consider how to invest hard earned savings to fund your
children's education, a new home or your retirement. Your task has become even
more daunting in recent years since there are now more mutual funds than there
are stocks . . . and, widely published, and well respected, advice is often
conflicting.

We hope our quarterly shareholder letters, interviews in the press, investment
advisor conference calls and annual investment conferences have made it easier
for you to decide if Baron Asset Fund is an appropriate investment for you and
your family.

We want to thank you for joining us as fellow shareholders of Baron Asset Fund.
We will continue to work hard to justify your confidence. Again, thank you.

Sincerely,

/s/ Ronald Baron
- --------------------
Ronald Baron
President
November 23, 1998

<PAGE>

BARON FUNDS
LOGO

2 BARON GROWTH
& INCOME FUND

PERFORMANCE........................................................10

RECENT DEVELOPMENTS................................................11

RECENT BUSINESS NEWS...............................................12

OTHER DEVELOPMENTS.................................................14

767 Fifth Avenue
NY, NY 10153
212-583-2100
1-800-99-BARON
<PAGE>

BARON GROWTH & INCOME FUND

ANNUAL REPORT SEPTEMBER 30, 1998

Dear Baron Growth & Income
Fund Shareholder:
- --------------------------------------------------------------------------------
Performance

Baron Growth & Income Fund is a non-traditional small cap growth fund. The Fund
invests a significant portion of its portfolio, generally 20-30% of its net
assets, in income producing securities issued by small and mid-sized
businesses. This is intended to provide our shareholders with more consistent,
less volatile, long term returns than could be obtained by funds that invest
only in non-dividend paying, fast growing, small cap stocks. This is because a
significant portion of total annual returns from income producing securities
are derived from dividends and interest. Baron Growth & Income Fund is, as a
result, somewhat less dependent upon capital appreciation to achieve
satisfactory returns. Dividends and interest, of course, are more predictable
than capital gains.

Baron Growth & Income Fund is also a non-traditional growth and income fund.
Most growth and income funds derive income and, presumably, more modest growth,
by investing in slower growing, larger, S & P 500, dividend paying businesses.
Baron Growth & Income Fund obtains income from the 20-30% of our assets
invested in income producing securities issued primarily by small and mid-sized
companies. We expect to achieve growth, capital appreciation, from the
approximately 70% of our assets invested in equity securities issued by fast
growing, smaller businesses.

We expect this mix of assets to provide our Fund's shareholders with strong and
very competitive long term performance. This was the case for the Fund's first
three years of operations.

Our Fund's results this year, though, haven't been consistent with our long
term performance. As investors attempted to escape risk in all markets,
established country markets outperformed emerging markets; treasury securities
outperformed corporate debt; and the large cap S & P 500 stock index
outperformed

<TABLE>
<CAPTION>
BARON
G&I S&P RUSSELL
FUND 500* 2000*
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
PERFORMANCE FOR ONE YEAR ENDED SEPTEMBER 30, 1998 -18.1% 9% -19%

ANNUALIZED PERFORMANCE FOR FIVE YEARS ENDED SEPTEMBER 30, 1998 12.2% 22.6% 6.9%

CUMULATIVE PERFORMANCE SINCE INCEPTION JANUARY 3, 1995 THROUGH SEPTEMBER 30, 1998 109% 139% 53%
- -----------------------------------------------------------------------------------------------------------------------------------
</TABLE>

* THE S&P 500 AND RUSSELL 2000 ARE UNMANAGED INDEXES. THE S&P MEASURES THE
PERFORMANCE OF THE STOCK MARKET IN GENERAL: THE RUSSELL 2000 OF SMALL
COMPANIES.
<PAGE>

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B A R O N G R O W T H & I N C O M E F U N D
- --------------------------------------------------------------------------------

the small cap Russell 2000 index . . . significantly. A record 31.25%
performance spread separates the S & P and Russell indexes this year . . . the
S & P 500 has gained 21.9% through late November while the Russell 2000 has
declined 9.25%.

At present, a significant portion of Baron Growth & Income Fund's income
producing investments comprise real estate investment trusts. The trusts were
outstanding stock market performers for the three years from 1995 through the
end of 1997. Fears of overbuilding and impending recession have caused these
investments to perform poorly in 1998, although so far investors' fears have
not been realized. The NAREIT index measuring the performance of real estate
investment trusts has fallen about 15.6% in 1998. Our real estate investment
trusts didn't do much better. We managed to make money on only three trusts
this year, Kimco, Taubman Centers and CBL, all of which own shopping malls.

In addition to the disappointing stock price performance of small caps and real
estate investment trusts this year . . . I sort of feel that blaming small caps
and reits for our poor performance is my equivalent to a retailer trying to
blame poor sales results on the weather . . . not a great excuse . . . I made
my biggest investment mistake, AMF Bowling, since our Fund's inception in 1995.
The biggest and most recent investment error I have made that's comparable was
Tokos Medical, in 1993, and preceded the formation of Baron Growth & Income
Fund. (Please see our discussion on AMF in the immediately preceding Baron
Asset Fund annual report section titled "Portfolio Changes: September 30, 1997
through September 30, 1998") Our investment in AMF penalized our year's
performance by an estimated 6%.

So, where do we go from here? The small and medium sized businesses in which we
are investors are, on average, about 25% larger, 25% more profitable and, in
our opinion, about 25% more valuable than they were last year. Our businesses
that should be valued based upon earnings per share growth, are expected to
grow, on average, more than 25% again in the current year. Even after the
strong recovery of Baron Growth & Income Fund from early October through today,
we believe these stocks are significantly undervalued. They trade at a
significant price earnings ratio discount to the 26.5 multiple currently
accorded the 7% estimated growth S & P 500 businesses.

Businesses in which we have invested that should be more properly valued based
upon their cash flows or asset values are also attractively valued, in our
opinion. Our real estate trusts are generally now selling below building
replacement costs. We expect that our REITs' 10-15% estimated cash flow growth,
when coupled with substantial dividend yields, offer potential annualized
returns of better than our long term 15-20% REIT growth objectives for the next
year or two. Further, as we noted in our prior discussion of AMF, you can't
lose the same money twice, and our AMF investment does seem to offer good
opportunity from current levels...
<PAGE>

- --------------------------------------------------------------------------------
Recent Developments

Management changes at Baron Growth & Income Fund

With the numerous, and attractive, investment opportunities available in
publicly owned small and mid-sized businesses, and the relatively small size of
this Fund that enables it, along with Baron Small Cap, to take advantage of
these opportunities, I decided to increase the resources we will allocate to
the management of Baron Growth & Income Fund. Effective January 1st, Baron
Growth & Income Fund will be managed by a team of analysts rather than solely
by me. Included on the team will be myself, as the team leader, Matt Ervin and
Mitch Rubin. Me, you already know about. Matt and Mitch I have written about in
past quarterly reports, and both have also been introduced to our shareholders
at our last two annual investment conferences. Matt first.

Matt is 29 years old and has worked as an analyst responsible for media,
entertainment and communications at Baron Capital for four years. He worked as
an analyst for a large institutional money manager for two years before that.
Matt's the guy who reads books about satellites before our visits with
satellite broadcasters and probably understands the way they work better than
the chief executives we're interviewing. He has made important contributions to
our performance in the past year with his work on contract electronics
manufacturer Flextronics, U.K. telephony, cable television, long distance and
internet services provider NTL, communications tower operator American Tower,
Hispanic radio broadcaster Heftel and small market radio broadcaster Saga
Communications. Matt graduated from Harvard College after majoring in Physics
and has a Masters degree in applied sciences from Harvard University.

Mitch is 32 years old and has worked as an analyst for over three years at
Baron Capital. Mitch is responsible for leisure, real estate and retail
businesses. Before that he worked as a special situations analyst for two years
at a large brokerage firm and for three years as a lawyer specializing in
corporate finance transactions for a large New York law firm. Mitch has made
important contributions to our portfolio structure during the past year with
his thorough and thoughtful work on esteemed auctioneer Sotheby's, ski resort
Vail Resorts, dollar retailer Dollar Tree and, at the other end of the
spectrum, branded lifestyle retailer Polo Ralph Lauren. Mitch is a graduate of
University of Michigan and Harvard Law School. He also captained our
championship intramural league basketball team, which, as I've commented
before, says a lot about the league in which we compete.

Neither Matt nor Mitch will be relieved of their existing responsibilities as
senior analysts for Baron Asset Fund, where they will both continue to work
closely with me and our two other senior analysts, Susan Robbins, our senior
health, education and business services analyst, and Cliff Greenberg, who also
doubles as

11
<PAGE>

Baron Small Cap Fund's portfolio manager. Both will also continue to work
closely with Cliff on Baron Small Cap's portfolio, as well. Our entire analyst
team wishes Matt and Mitch good luck with their expanded responsibilities.
During the 1950's, the New York Yankees were renown for their two home run
hitting sluggers, the original M & M boys, Mickey Mantle and Roger Marris. We
have great expectations for our two M & M boys, Matt and Mitch.

- --------------------------------------------------------------------------------
Recent Business News

Communications

American Tower acquires two competitors.

American Tower announced the purchase of Omni America and Telecom Towers. Omni
America was controlled by Hicks Muse, the largest owner of radio stations in
the United States, and Telecom Towers by the Cox family, the controlling
shareholder in both Cox Radio, the radio broadcaster, and Cox Communications,
the cable television business. Consideration paid for the two businesses was
$585 million. American Tower believes this transaction will represent five
times five year forward cash flow. These transactions make American Tower by
far the largest owner operator of communications towers in the United States.
The company also acquired two competitors which will likely allow American
Tower to buy additional towers for less (there will be less competition).
American Tower will also receive the support of additional media groups,
potential clients on its towers. New low rate cellular plans and wireless data
products should boost demand for wireless services that will require additional
tower locations.

Financial

Medallion's loan portfolios and taxi top advertising revenues continue to grow.

The most unconventional of our income producing investments is taxi medallion
lender/taxi top advertising company Medallion Financial, a business currently
qualifying as a regulated investment company. First and foremost, TAXI is the
leading lender to fleet owners and individuals purchasing taxi cab medallions
predominantly in New York City but also in Boston, Philadelphia and Chicago.
Medallion Financial has never had a default on a taxi loan in over 30 years of
medallion lending and, over the past 12 months, has grown its medallion loan
portfolio by 43% to over $275 million. In addition, Medallion conducts a
broader commercial lending business which currently lends primarily to dry
cleaning/laundromat business owners and radio stations. This portfolio has
grown 20% in the past year to $93 million, also with virtually no defaults.
Finally, Medallion's taxi-top advertising business is enjoying explosive
growth. The company currently has approximately 4,000 tops in service (nearly
twice as many as a year ago) and quarterly revenues grew 210% in the most
recent period. We believe that the taxi top business, in particular, is
extremely valuable given the high prices paid for companies focused on other
forms of outdoor advertising in recent acquisitions. Through the combination of
steady, growing dividends and stock appreciation, Medallion should offer its
shareholders a total return potential during the next two years of nearly 20%
per year.
<PAGE>

Healthcare

Counsel sells division for substantial consideration. Investors don't even
notice...

Counsel is but one example, there are many in our portfolio, of the unusually
low valuations currently accorded smaller businesses. Counsel is sort of the
Rodney "I can't get no respect" Dangerfield stock of our holdings. Counsel
recently announced the sale of its largest division, specialty drug
distribution company, Stadtlanders, to Bergen Brunswig. Counsel received $328
million net consideration for its Stadtlanders division, $178 million cash, and
$150 million in Bergen Brunswig stock. The Bergen Brunswig stock has since
increased in price and has a current market value of $185 million. Counsel,
after paying $28 million in taxes, now has about $13 per share in cash, no
debt, $15 million of other publicly traded securities and two other divisions,
Faro and Sage. Faro is an emerging pharmaceutical company that purchases
"orphan" drugs from large pharmaceutical companies and more aggressively
markets them. Sage is a new drug development business that has met with some
success in Europe. As of the date of this report, Counsel's shares were trading
at $73/4 per share.

Hotels

Choice's franchise system continues to expand; a new ceo is hired to accelerate
growth.

Choice is currently the second largest hotel franchisor in the world with over
3,600 properties representing over 300,000 guest rooms in its franchise system.
Moreover, the Choice system has over 1,300 hotels under development with over
100,000 additional rooms to be added to its systems over the next several
years. This represents a potential 33% increase in the company's installed base
over the next several years.

Hotel stocks have not performed well during 1998 as investors focused on a
combination of a fear of overbuilding in the hotel sector, a deceleration in
the growth rate of room rates in the industry, and the fear of a recession
having a negative impact on the travel industry in the next 12 months. It is
important to note, however, that Choice is a pure play franchise company. As a
franchisor, Choice will earn steady fee income based on revenues (not profits),
even during an industry slowdown. Each new franchisee in the Choice system pays
approximately $40,000 as a one-time franchise fee and a royalty fee of
approximately 3.5% of revenues. Importantly, Choice has been increasing its
royalty rate

12
<PAGE>

over the past several years from 3% to over 4% of property revenues. When
combined with the backlog of new properties expected to open over the next
several years, Choice's revenues should grow at a steady 10-15% per year even
in a slowing economy. This should translate into annual earnings growth between
18 and 25% for the foreseeable future.

Choice's Board of Directors, led by long-term chairman Stewart Bainum, Jr.,
recently hired a new chief executive officer, Chuck Ledsinger, who, we believe,
will help lead the company on an accelerated growth track in the next several
years. Chuck was most recently the president and chief operating officer of St.
Joe Company (a land holding company in Florida) and, prior to that, had over 20
years of experience in the hospitality industry with Holiday Inns, Promus and
Harrah's. Chuck's initiatives include expanding Choice's preferred vendor
programs, clarifying the company's brands awareness for the consumer, and
finding investment alternatives for Choice's ever expanding stream of free cash
flow.

Manufacturing

Flextronics announces new relationships with high profile customers; potential
$1 billion increase in revenue.

Flextronics is a fast growing leader in the emerging industry of electronics
manufacturing services. Many of the world's premier technology companies are
now choosing to outsource their manufacturing requirements to specialized
manufacturing service companies such as Flextronics. Through outsourcing, large
technology companies are able to reduce risk, lower capital requirements and
stabilize margins while still producing the highest quality products to their
specifications. With approximately $1.7 billion in current annual revenue,
Flextronics already serves premium customers such as Ericsson, Phillips,
Microsoft, Nortel and Cisco. In the last few months, Flextronics has announced
a host of new relationships with industry giants such as Hewlett Packard,
Intel, Qualcomm, Compaq, Rockwell, Alcatel and Eastman Kodak. In the aggregate,
these new relationships could add over $1 billion in new annual revenue to
Flextronics within 2 years. As a result, we believe that Flextronics should at
least double the size of its current business within 3 years. Flextronics is
particularly well positioned in Europe, where large technology players such as
Siemens or Alcatel are just beginning to recognize the strategic importance of
outsourcing.

Real Estate

Spieker Properties continues to achieve strong rent increases on tenant lease
renewals. Important barriers to new construction in its markets make its
properties even more valuable...

During a recent visit to specialty temporary help provider Robert Half in Menlo
Park, California, I was once again struck by how attractive their offices are.
The weather was crisp and perfect the day of my visit, as it usually is. The
park like and serene setting of Robert Half's Sandhill Road office, amidst
spectacular flowers and trees and cute little paths, couldn't have offered a
greater contrast to my office in the center of New York City. Max Messmer,
Robert Half's chairman, then asked me to guess his rent. As pretty as the
setting was, I was amazed to discover per foot rents in his suburban office
were only a little less than we paid at the corner of Fifth Avenue and 59th
Street in New York City high above Central Park. "How can that be?" I wanted to
know. "What about all that vacant land overlooking the ocean on the drive down
from San Francisco? Why can't you just build an office there? A few more
offices out there and they could never charge these rents!" Max explained
zoning and entitlements in California were close to impossible to obtain and
the even more beautiful land I was referring to was "wetlands" and ineligible
for permitting.
<PAGE>

Ned Spieker, Spieker Properties' chairman, is a close friend of Max' and, as a
favor to Max, negotiated a long term lease for Robert Half with this office
property owner two years ago...at about half the current market rent. But, the
point of this story is that when supply is constrained, when there are
important barriers to new construction, to competition, you can make very good,
and sustainable, returns through real estate ownership. Spieker Properties owns
and operates suburban office properties, principally in California, including
buildings nearby Robert Half's quarters. The buildings acquired by Spieker cost
less than it would to replace these properties... and had rents in place
significantly below market. As Spieker's tenants' leases expire, leases are
renewed at prices, on average, about a third more than Spieker presently
receives. There is little new supply in Spieker markets that could put pressure
on its rents, due to important zoning and permitting barriers. Spieker should,
therefor, improve its properties' earnings substantially during the next few
years. Barriers to entry. They sure work for real estate businesses...whether
you're in New York at 59th and Fifth or on Sandhill Road in Menlo Park,
California.

Utilities

Southern Union is now the 14th largest natural gas utility in the US.

Southern Union is a natural gas distribution company serving approximately 1
million customers in Texas, Missouri, Florida and Mexico. Although nearly sixty
years old, SUG was close to bankruptcy in 1989 when the current management team
came on board. Unlike most utilities, this new team, headed by chairman George
Lindemann, with whom we have successfully invested in both cable and cellular,
and ceo Pete Kelly, had an innovative and entreprenneurial approach to grow the
company through a combination of aggressive sales and marketing, creative
acquisitions and cost saving initiatives. This is contrary to most utility
industry executives who lack incentive for innovation. Since 1990, the company
has acquired 8 distribution systems adding nearly 600,000 customers and
approximately $327

13
<PAGE>

million in annual sales. With over $700 million in current annualized sales,
Southern Union is now the 14th leading natural gas distribution system in the
US.

The company's goal is to grow core natural gas sales and capitalize on the
company's gas energy expertise. Key growth initiatives include natural gas
vehicle conversions and sales, intrastate and interstate natural gas pipeline
systems and natural gas fired air conditioning. The company's focus is to offer
one-stop shopping for a customer's energy needs beyond core residential heating
and address those needs with natural gas. Earnings growth from the core company
is projected at approximately 10% per year (which is double the usual
distribution company) from a combination of rate upgrades, modest customer use
increases, weather normalization clauses and internal overhead efficiency.
Incremental growth should also be expected as further acquisitions are
consummated. Management has a 10-year vision in place to double the company by
the year 2002.

- --------------------------------------------------------------------------------
Other Developments

All sections of the preceding Baron Asset Fund report are relevant to your
investment in Baron Growth & Income Fund. Please take the time to read that
report as well. The "Performance" section of Baron Asset Fund's report
discusses turmoil in all markets during the past summer. "Investment Strategy"
describes, of course, our investment philosophy. "Portfolio Holdings" discusses
the significant and sustainable competitive advantages of several of our
businesses. It also discusses the huge business opportunities that our
businesses have. The businesses discussed are also holdings of Baron Growth &
Income Fund. "Portfolio Changes" describes how we took advantage of market
volatility to increase our holdings in a "core holding," Sotheby's, and
establish holdings in two "farm team" investments, one of which, Industrie
Natuzzi, is a common holding. It also describes our AMF investment. "Other
Developments" discusses our October 9th annual investment conference and tells
you how to obtain a Baron Funds-NYC 1998 t-shirt. Baron Growth & Income Fund is
tax efficient, for the same reasons described for Baron Asset Fund. Baron
Growth & Income Fund will pay a nominal ordinary dividend to its shareholders
this year, an estimated $.06 per share.

Thank you for investing in Baron Growth & Income Fund.

We recognize that it must be a very difficult decision for most individuals
when deciding how to invest your hard earned savings that you intend to use to
buy a new home, pay for your children's education or fund your retirement. When
considering mutual funds, it must be especially difficult. This because there
are now thousands of mutual funds from which to choose . . . in fact, even more
mutual funds than there are stocks. We hope that our quarterly shareholder
letters, financial magazine interviews, and annual shareholder meetings have
allowed you to make an informed decision about whether Baron Growth & Income
Fund is an appropriate investment for you and your family.

We are disappointed with the performance of Baron Growth & Income Fund this
year, and are greatly appreciative of the continued strong support of our
fellow shareholders. We will continue to work hard to justify your confidence.
We remain confident that the businesses in which we are shareholders have very
favorable growth prospects and that these prospects will soon again be
reflected in their stock prices...and, as a result, that we will soon again
have favorable results to report.

Again, thank you for investing in Baron Growth & Income Fund.

Sincerely,

/s/ Ronald Baron
- -------------------
Ronald Baron
President
November 23, 1998

14
<PAGE>

BARON FUNDS
LOGO

3 BARON SMALL
CAP FUND

PERFORMANCE &
PHILOSOPHY.........................................................15

PORTFOLIO COMPOSITION
AND HOLDINGS.......................................................16

RECENT DEVELOPMENTS................................................17

767 Fifth Avenue
NY, NY 10153
212-583-2100
1-800-99-BARON
<PAGE>

BARON SMALL CAP FUND

ANNUAL REPORT SEPTEMBER 30, 1998

Dear Baron Small Cap
Fund Shareholder:
- --------------------------------------------------------------------------------
Performance &
Philosophy

Baron Small Cap (BSC) was launched September 30, 1997 and has just finished its
first year. For the year, we lost 13.9%, comparing favorably to the Russell
2000, which declined 19% in the same period, but trailed the S&P 500 which was
up 9%. In a year of extreme volatility in the financial markets, our
performance was also volatile. The Fund performed very well in the December,
March and June quarters and then slumped in the September quarter. At our peak
in May we were up 23% and at our low in October we were down 31%. As of the
date of this letter, we have made up most of the deficit and are down 7%. What
a rollercoaster.

Through it all, our mission and modus has remained the same. We invest in small
companies with big opportunities. We invest only in businesses with super
executives whom we respect and trust. We only invest when we believe we can
make significant returns - at least a double in the next three years. We expect
to hold the investments for long periods of time as long as the company's
opportu-nities are large, management is executing to our approval, and we can
still be handsomely rewarded as shareholders. This is the same philosophy we
stated when we started the Fund, the ideals which both I and others at Baron
share.

We invest primarily in "growth stocks", unique companies that have significant
competitive advantages and can grow for many years. When we find them early,
we, as investors, benefit not just from their growth but from multiple
expansion as the market appreciates their prospects. And you'd be surprised how
often good management teams create additional opportunities that are not
presently on our radar screen. We invest in "fallen angels" to take advantage
of the market's often myopic focus on near term results. We try to sort out
perceived problems from real ones and purchase stocks of businesses that are
intact and are trading at substantial discounts to their intrinsic value. We
also invest in "special situations," which we define as spinoffs,
restructurings, split-ups and merger securities. These securities are often
overlooked or misunderstood and offer tremendous opportunities for those
willing to do the work to understand them. Since we have experience and success
with these three complimentary types of investing, BSC's portfolio is an
eclectic mix of all three. As this is the end of our first year, let's examine
in more detail the make-up of our portfolio and briefly review each of our
important investments.

<TABLE>
<CAPTION>
BARON
S&C S&P RUSSELL
FUND 500* 2000*
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
PERFORMANCE FOR ONE YEAR ENDED SEPTEMBER 30, 1998 -13.9% 9.0% -19.0%
- ------------------------------------------------------------------------------------------------------------
</TABLE>
* THE S&P 500 AND RUSSELL 2000 ARE UNMANAGED INDEXES. THE S&P MEASURES THE
PERFORMANCE OF THE STOCK MARKET IN GENERAL: THE RUSSELL 2000 OF SMALL
COMPANIES.
<PAGE>

- --------------------------------------------------------------------------------
B A R O N S M A L L C A P F U N D
- --------------------------------------------------------------------------------

- --------------------------------------------------------------------------------
Portfolio Composition and Holdings

As of this writing, we have about $425M under management. The portfolio has 40
positions. The top ten positions make up 45% of our portfolio, the top fifteen
equal 60%. We strongly believe the portfolio should be relatively concentrated
so we can best benefit from our strongest ideas. The portfolio is also
relatively concentrated in certain industries in which we have particular
expertise and are growing or evolving such that our companies have
opportunities to distinguish themselves. The areas of greatest concentration
are Media and Entertainment, Business Services, Communications and Amusement
and Recreation.

Media and Entertainment

We are very excited about developments in the cable television industry. As
cable companies have upgraded their plant, it enables them to offer enhanced
digital entertainment services and also local telephone service and internet
access. Century Communications is the ninth largest U.S. operator and owns the
best systems in Los Angeles. They recently completed a joint venture with TCI
to consolidate their operations in Los Angeles and will seek to purchase other
small operators and offer enhanced services in this fertile market. United
International Holdings (UIH) is a cable company with primary operations in
Europe. UIH is completing a major plant upgrade, which will allow it to offer
U.S. style cable television in its cities for the first time, dramatically
increasing their channel offering which could double the average monthly bill.
They also have a big opportunity as the alternate provider of local telephone
service and the superior internet provider, competing against sleepy incumbent
PTTs. Baron Asset Fund's holding, NTL, has had great success in England,
garnering 40% market share, and we expect UIH to be similarly successful on the
continent. Metro Networks is a provider of traffic and weather services to the
radio industry in exchange for spot time, which it sells to advertisers. Metro
recently introduced a new service, Metro Source, a dedicated news terminal
which is a major improvement to the wire services the stations presently use.
It has been very well received and will provide Metro with more advertising
spots so it can maintain its 30% a year growth rate. Clear Channel
Communications (CCU) is a multi-media company owning billboards, radio stations
and television stations. We became CCU shareholders when they acquired our
holding, Universal Outdoor, earlier in the year and remain enthusiastic holders
as the larger enterprise successfully promotes and cross sells the different
advertising mediums and purchases assets abroad to replicate its domestic
business plan.

SFX Entertainment (SFX) is a live entertainment company, that owns outdoor
amphitheaters that stage concerts and develops and promotes touring theatrical
shows and sporting events. SFX was spun out of a radio company in early 1998
and we purchased stock before and after the spinout. By consolidating
manytheaters which previously were individually owned, SFX can enhance booking,
pricing, merchandising and ticketing and also overlay national sponsorship
deals much like NASCAR or the NFL.
<PAGE>

Business Services

Another area of concentration is Business Services. Iron Mountain is America's
largest records management company principally providing for off-premise
storage of business records, medical records and data tapes. The business has
proven to be highly stable, almost annuity-like, in that outsourcing customers
typically store goods for close to a decade and generate additional storage
materials each year. Iron Mountain is growing rapidly because of this strong
same customer growth, as additional companies decide to outsource, and as they
acquire smaller competitors. The company plans also to grow profits by raising
prices, improving operating margins and growing internationally with its
present client base.

United Stationers is a well-managed wholesaler of business supplies. United is
benefiting as customers in their channels, contract stationers, catalog
re-sellers, and local dealers, are deciding to utilize an independent
wholesaler for more of their product needs rather than stocking the goods
themselves. Also, Stationers has successfully developed complimentary wholesale
product lines - janitorial supplies and computer supplies to augment its
growth. ChoicePoint (CPS) is a provider of security information to insurance
companies, commercial accounts and government agencies. Spun out of a larger
company, CPS has exited slower growing business segments, acquired a number of
smaller service providers and dramatically improved its operating margins and
growth prospects by focusing on database products.

Communications

We have three significant positions in Communications. Centennial Cellular is a
leading provider of cellular telephone services in two rural clusters. As we've
stated before, we are very excited about the prospects for rural cellular
operators since we expect them to experience the same rapid growth in wireless
usage that has occurred in urban markets with much less competition. Centennial
is one of two operators in its markets, compared to as many as seven providers
in big cities. Centennial signed an agreement to be acquired by a buyout group
but the deal is still pending. We expect further consolidation in this area as
larger cellular companies seek to own greater footprints to more profitably
offer their "one-rate" service plans.

American Tower is the largest independent owner of communication towers. Like
SFX, American Tower was spun out of a successful radio consolidator and is run
by the terrific former radio management team. The tower business is highly
profitable and will become even more so as additional capacity is co-located on
existing towers. American Tower also is aggressively building new towers and
hopes to purchase towers now owned by the cellular

16
<PAGE>

- --------------------------------------------------------------------------------
B A R O N S M A L L C A P F U N D
- --------------------------------------------------------------------------------

carriers themselves. The cellular "one-rate" plans and new wireless data
offerings will accelerate demand for increased transmission capacity and the
towers will be prime beneficiaries.

Commonwealth Telephone became a public company with the split up of another
telecom company, CTEC. Commonwealth owns a well-protected local telephone
company in rural Pennsylvania. Management is redeploying its substantial cash
flow to build a competitive local exchange carrier (CLEC), offering local and
long distance telephone services in neighboring markets which previously were
served exclusively by Bell Atlantic. Early results are encouraging and we like
our partners in this investment, Level 3 Communications. This group built MFS
Communications into a very successful urban CLEC, and is the majority
shareholder of Commonwealth.

Amusements and Recreation

Amusements and recreation is a fourth area of significant investment. Premier
Parks, as we have discussed before, is an operator of regional theme parks and
the new owner of the Six Flags brand and chain of parks. We feel the company's
cash flow can more than double through better management of the Six Flags
parks, branding the previously owned parks with the Six Flags moniker and,
importantly, reinvesting its cash flow back into the parks to add attractions
and fuel their continued growth in attendance and in-park spending. Additional
opportunities exist in the continuation of an aggressive acquisition plan of
under-developed or under-managed parks here and abroad. Loews Cineplex is the
largest operator of movie theaters in the United States with about 10% market
share. The exhibition business is going through a metamorphosis in that older,
smaller theaters are being replaced by new megaplexes which offer more choice,
better amenities and greater convenience. We are at an inflection point where
the new screen construction is fueling profit growth as opposed to
cannibalizing existing cash flow. Loews is opening 20 new complexes in the
States in 1999 and 2000 and is beginning a substantial international building
program.

Other Investments

Some other important investment positions include IT Group (IT), a leader in
the waste remediation business. IT has proven that bigger is better, in that it
has acquired large competitors and greatly improved profits by leveraging its
overhead structure, while growing the top line through improved service
capabilities. Career Education is one of the largest providers of private, for
profit, post-secondary education in North America. Core curricula focus is on
computer technologies, visual communication and design, business studies and
culinary arts. Their plan is to acquire local "schools of excellence" which
usually specialize in just one curriculum, then better operate and market the
existing school and begin to offer additional programs in which the company has
expertise. For instance, the Katherine Gibbs schools, which are familiar to
many as strictly a secretarial school, now offer programs in business
administration and PC network administration. The chain, which earned $ 4.5M
when acquired by Career Education in 1997, is on track to make $8M in 1998 with
the potential to do over $20M in three years.

Four Seasons Hotels manages and operates a chain of 41 luxury hotels around the
world. Because the hotels they manage generate REVPAR (Revenue Per Available
Room) that is 20% in excess of its closest luxury competitor, property owners
and developers are anxious to affiliate with the Four Seasons brand. The
company's pipeline of new projects is the strongest in its long history and
other opportunities such as time share and branded condominiums are in the
start-up phase. We feel its profits can grow in excess of 20% per year for the
next five years.
<PAGE>

- --------------------------------------------------------------------------------
Recent Developments
Since our last quarterly, there have been some important developments. Premier
Parks reported terrific earnings for its September quarter, and importantly,
improved attendance at the Six Flags parks which had been weak early in the
season due to previous management's poor marketing decisions. Premier's stock
re-bounded 65% as the market regained its confidence in the company's
management - confidence that we had all along.

IT announced the successful integration of its OHM acquisition and announced
the purchase of Fluor Daniel GTI. It is paying only 3.5X pro forma cash flow
for GTI and the deal will add $.20 to reported earnings. Its stock is up 75%
from the lows.

On the negative side, AMF Bowling reported weak results in both its
manufacturing business and U.S. lane operations and the suspension of its
acquisition program. We decided to sell our holdings and could return to the
investment when business trends improve. We also sold our holdings in Mariner
Post Acute, another disappointing investment, when it became evident that the
changing regulations in the nursing home industry would dampen results for the
foreseeable future and we became concerned that the company's balance sheet was
too leveraged to allow it sufficient flexibility.

- --------------------------------------------------------------------------------
Thank You

We would like to thank you, our fellow shareholders, in Baron Small Cap Fund.
If you have been here for the duration, it's been an exciting year. We will
continue to work our hardest to come up with winning investments in special,
growing, well-managed, small businesses and do our best to describe in these
letters our companies and why we are so enthusiastic about their prospects. We
appreciate your support.

Sincerely,

/s/ Cliff Greenberg
- -----------------------
Cliff Greenberg

17
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

Table I
- --------------------------------------------------------------------------------
Portfolio Market Capitalization
- --------------------------------------------------------------------------------

The Funds invest primarily in small and medium sized companies. Table 1 ranks
the Funds' investments by market capitalization and displays the percentage of
the Funds' portfolios invested in each market capitalization category. At times
the Funds will invest in companies with market capitalizations greater than
$3.5 billion. These larger cap companies have increased in value since the
Funds first invested in them and still offer attractive opportunities for
further appreciation.

Baron Asset Fund
- ---------------------------------------------------------------------------
Equity % of
Company Market Cap Portfolio
- ----------------------------------------------- ------------ ----------
Large Capitalization
- ---------------------------------------------------------------------------
Clear Channel Communications, Inc. ............ 11,796 0.6%
Charles Schwab Corp. .......................... 10,510 7.8
Robert Half Intl., Inc. ....................... 3,980 2.3
Outdoor Systems, Inc. ......................... 3,594 0.8
----
11.5%
Medium Capitalization
- ---------------------------------------------------------------------------
HCR Manor Care, Inc. .......................... 3,238 6.9%
Public Storage, Inc. .......................... 3,123 0.1
Mirage Resorts, Inc. .......................... 3,011 1.3
Vornado Realty Trust .......................... 2,760 0.4
American Tower Corp. .......................... 2,730 3.0
Univision Communications, Inc. ................ 2,568 0.5
Promus Hotel Corp. ............................ 2,407 0.7
Spieker Properties, Inc. ...................... 2,246 2.0
Kimco Realty Corp. ............................ 2,159 0.7
Polo Ralph Lauren Corp. ....................... 1,993 3.9
Dollar Tree Stores, Inc. ...................... 1,851 2.6
Boston Properties, Inc. ....................... 1,810 0.1
NTL, Inc. ..................................... 1,776 2.7
Delta and Pine Land Co. ....................... 1,686 1.0
FelCor Lodging Trust, Inc. .................... 1,644 1.6
Stewart Enterprises, Inc. ..................... 1,642 1.0
DeVRY, Inc. ................................... 1,625 2.5
----
31.0%
Small Capitalization
- ---------------------------------------------------------------------------
Saks, Inc. (formerly Proffitt's Inc.) ......... 1,438 0.1%
Post Properties, Inc. ......................... 1,394 0.2
Heftel Broadcasting Corp. ..................... 1,328 2.8
Premier Parks, Inc. ........................... 1,320 1.4
Sun Intl. Hotels, Ltd. ........................ 1,250 2.5
Federated Investors, Inc. ..................... 1,241 0.6
Quorum Health Group, Inc. ..................... 1,225 0.7
Williams-Sonoma, Inc. ......................... 1,185 0.3
Sylvan Learning Systems, Inc. ................. 1,133 0.7
Industrie Natuzzi SPA ......................... 1,123 0.7
Corrections Corp. of America .................. 1,092 0.7
Sotheby's Holdings, Inc. ...................... 1,020 7.3
Cox Radio, Inc. ............................... 999 0.7
Storage USA, Inc. ............................. 941 0.2
Unova, Inc. ................................... 900 0.3
Iron Mountain, Inc. ........................... 876 0.6
ITT Educational Services, Inc. ................ 864 1.1
Centennial Cellular Corp. ..................... 825 0.6
<PAGE>

- ---------------------------------------------------------------------------
Equity % of
Company Market Cap Portfolio
- ----------------------------------------------- ------------ ----------
Small Capitalization (Continued)
- ---------------------------------------------------------------------------
Budget Group, Inc. ............................ 820 1.1%
Century Communications Corp. .................. 780 0.6
Choice Hotels Intl., Inc. ..................... 744 3.7
Taubman Centers, Inc. ......................... 740 0.2
Flextronics Intl. Ltd. ........................ 726 1.1
ChoicePoint, Inc. ............................. 705 1.1
Four Seasons Hotels, Inc. ..................... 694 0.3
Vail Resorts, Inc. ............................ 684 4.3
Cross Timbers Oil Co. ......................... 677 1.6
OM Group, Inc. ................................ 622 1.0
Amphenol Corp. ................................ 612 0.1
Metro Networks, Inc. .......................... 608 1.0
Intrawest Corp. ............................... 587 0.1
Sun Communities, Inc. ......................... 573 0.2
Southern Union Co. ............................ 564 0.4
Seacor Smith, Inc. ............................ 547 0.9
AMF Bowling, Inc. ............................. 526 2.0
Libbey, Inc. .................................. 520 1.8
Education Management Corp. .................... 513 0.7
Young Broadcasting, Inc. ...................... 490 0.9
United Stationers, Inc. ....................... 459 0.4
Commonwealth Telephone Ent., Inc. ............. 440 0.1
CCA Prison Realty Trust ....................... 388 0.8
Alexander's, Inc. ............................. 384 0.4
United Intl. Hldgs., Inc. ..................... 382 0.2
Stein Mart, Inc. .............................. 365 0.5
CD Radio, Inc. ................................ 335 0.4
Learning Tree Intl., Inc. ..................... 282 0.9
DVI, Inc. ..................................... 207 0.5
Saga Communications, Inc. ..................... 200 1.1
American Mobile Satellite Corp. ............... 169 0.4
Avatar Holdings, Inc. ......................... 169 0.3
Smart and Final, Inc. ......................... 160 0.4
Cellular Communications of P.R., Inc. ......... 158 0.3
CoreComm, Ltd. ................................ 144 0.3
Counsel Corp. ................................. 129 0.3
Sunburst Hospitality Corp. .................... 90 0.4
Bristol Hotels & Resorts, Inc. ................ 79 0.2
Caliber Learning Network, Inc. ................ 75 0.3
American Healthcorp, Inc. ..................... 65 0.0
American HomePatient, Inc. .................... 28 0.0
EduTrek Intl., Inc. ........................... 18 0.0
Patient Infosystems, Inc. ..................... 14 0.0
----
52.8%

18
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

Baron Growth & Income Fund
- -----------------------------------------------------------------------
Equity % of
Company Market Cap Portfolio
- ------------------------------------------- ------------ ----------
Large Capitalization
- -----------------------------------------------------------------------
Charles Schwab Co. ........................ 10,510 9.6%
Robert Half Intl., Inc. ................... 3,980 3.6
----
13.2%
Medium Capitalization
- -----------------------------------------------------------------------
HCR Manor Care, Inc. ...................... 3,238 6.7%
Public Storage, Inc. ...................... 3,123 1.4
Mirage Resorts, Inc. ...................... 3,011 0.9
Vornado Realty Trust ...................... 2,760 1.1
American Tower Corp. ...................... 2,730 3.7
Spieker Properties, Inc. .................. 2,246 3.3
Kimco Realty Corp. ........................ 2,159 2.0
Polo Ralph Lauren Corp. ................... 1,993 1.4
Dollar Tree Stores, Inc. .................. 1,851 3.3
Boston Properties, Inc. ................... 1,810 1.8
NTL, Inc. ................................. 1,776 3.4
FelCor Lodging Trust, Inc. ................ 1,644 2.2
DeVRY, Inc. ............................... 1,625 2.8
----
34.0%
Small Capitalization
- -----------------------------------------------------------------------
Post Properties, Inc. ..................... 1,394 1.7%
Heftel Broadcasting Corp. ................. 1,328 5.0
Sun Intl. Hotels, Ltd. .................... 1,250 2.6
Industrie Natuzzi SPA ..................... 1,123 0.2
Sotheby's Holdings, Inc. .................. 1,020 1.4
Storage USA, Inc. ......................... 941 1.7
Choice Hotels Intl., Inc. ................. 744 9.7
Taubman Centers, Inc. ..................... 740 1.8
Flextronics Intl., Ltd. ................... 726 1.6
CBL & Associates Properties, Inc. ......... 695 0.7
Vail Resorts, Inc. ........................ 684 1.5
Cross Timbers Oil Co. ..................... 677 2.1
OM Group, Inc. ............................ 622 1.2
Metro Networks, Inc. ...................... 608 1.3
Sun Communities, Inc. ..................... 573 2.0
Southern Union Co. ........................ 564 2.8
Healthcare Realty Trust, Inc. ............. 532 0.9
AMF Bowling, Inc. ......................... 526 3.4
Libbey, Inc. .............................. 520 0.4
Education Management Corp. ................ 513 0.7
CCA Prison Realty Trust ................... 388 0.9
Alexander's, Inc. ......................... 384 0.5
Stein Mart, Inc. .......................... 365 0.4
Medallion Financial Corp. ................. 220 1.0
DVI Health Services Corp. ................. 207 1.0
Saga Communications, Inc. ................. 200 1.7
American Mobile Satellite Corp. ........... 169 0.8
Smart and Final, Inc. ..................... 160 0.9
Sunburst Hospitality Corp. ................ 90 1.1
Bristol Hotels & Resorts, Inc. ............ 79 0.3
----
51.3%

<PAGE>

Baron Small Cap Fund
- -----------------------------------------------------------------------

Equity % of
Company Market Cap Portfolio
- -------------------------------------------- ------------ ---------
Large Capitalization
- -----------------------------------------------------------------------
Clear Channel Communications, Inc. ......... 11,796 3.7%

Medium Capitalization
- -----------------------------------------------------------------------
American Tower Corp. ....................... 2,730 3.8%
Kimco Realty Corp. ......................... 2,159 2.4
---
6.2%
Small Capitalization
- -----------------------------------------------------------------------
Premier Parks, Inc. ........................ 1,320 4.3%
Sun Intl. Hotels, Ltd. ..................... 1,250 1.4
Williams-Sonoma, Inc. ...................... 1,185 1.8
SFX Entertainment, Inc. .................... 948 3.0
Unova, Inc. ................................ 900 2.9
Iron Mountain, Inc. ........................ 876 6.3
Centennial Cellular Corp. .................. 825 4.7
Budget Group, Inc. ......................... 820 1.4
United Rentals, Inc. ....................... 805 1.9
Century Communications Corp. ............... 780 4.6
ChoicePoint, Inc. .......................... 705 2.7
Four Seasons Hotels, Inc. .................. 694 3.4
Paging Network, Inc. ....................... 625 0.8
Amphenol Corp. ............................. 612 1.3
Metro Network, Inc. ........................ 608 3.5
Intrawest Corp. ............................ 587 1.5
El Paso Electric Co. ....................... 582 2.1
Commscope, Inc. ............................ 569 0.6
Province Healthcare Co. .................... 535 1.7
AMF Bowling, Inc. .......................... 526 1.0
Young Broadcasting, Inc. ................... 490 1.6
United Stationers, Inc. .................... 459 3.5
Commonwealth Telephone Enterprises,
Inc. .................................... 440 1.8
Loews Cineplex Entertainment Corp. ......... 394 2.2
CCA Prison Realty Trust .................... 388 0.4
United Intl. Hldgs., Inc. .................. 382 2.4
U.S. Office Products Co. ................... 297 0.9
Commnet Cellular, Inc. ..................... 249 1.0
Mariner Post-Acute Network, Inc. ........... 224 0.6
Caribiner Intl., Inc. ...................... 201 1.4
Dispatch Management Services Corp. ......... 156 1.1
Career Education Corp. ..................... 156 2.8
International Technology Corp. ............. 153 2.9
CoreComm, Ltd. ............................. 144 0.3
Morton's Restaurant Group, Inc. ............ 143 1.9
ResortQuest Intl., Inc. .................... 140 1.8
The Sports Club Co. ........................ 131 1.4
Kenneth Cole Productions, Inc. ............. 130 2.5
Counsel Corp. .............................. 129 1.0
Rural Cellular Corp. ....................... 107 1.8
Strategic Distribution, Inc. ............... 100 0.6
Crescent Operating, Inc. ................... 80 0.3
Bristol Hotels & Resorts, Inc. ............. 79 0.1
Caliber Learning Network, Inc. ............. 75 0.5

19
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

Equity % of
Company Market Cap Portfolio
- -------------------------------- ------------ ----------
Small Capitalization (Continued)
- ------------------------------------------------------------------------
AVTEAM, Inc. ............................... 64 1.1%
U.S. Diagnostic, Inc. ...................... 47 0.3
Equity Marketing, Inc. ......... ........... 38 0.6
----
87.7%
Table II
- --------------------------------------------------------------------------------
Portfolio Risk Characteristics
- --------------------------------------------------------------------------------

The Funds are diversified not only by industry, but also by external risk
factors that might impact the companies in which the Funds invest. Table II
displays some of the risk factors that are currently monitored and the
percentage of each portfolio considered exposed to these factors. The Funds use
this tool to avoid concentration of risk within the portfolios.

Baron Baron
Baron Growth Small
Asset & Income Cap
Fund Fund Fund
----------- ----------- ----------
% of % of % of
Portfolio Portfolio Portfolio
----------- ----------- ----------
Oil Price Sensitivity ........... 20.3% 22.2% 18.7%
Leverage (Debt > 40% of
Market Cap) .................. 29.2 37.8 51.9
Foreign Sales Dependent
(Sales > 10%) ................ 23.1 15.4 21.1
Volatility (Beta > 1.2) ......... 22.1 21.1 19.6
Over-the-Counter Securities ..... 21.0 18.1 45.6
Unseasoned Securities
(Publicly owned
for less than 3 years) ...... 27.1 26.7 48.5
(Publicly owned
for less than 1 year) ....... 7.4 7.1 23.4
Turnarounds ..................... 2.7 3.4 13.9
Development Companies ........... 3.5 1.3 10.1

20
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

Table III
- --------------------------------------------------------------------------------
Historical Information (Unaudited)
- --------------------------------------------------------------------------------

Table III displays on a quarterly basis the Funds' closing net assets and net
asset value per share, dividend distributions and the value of $10,000 invested
in a Fund at the time of its inception.

- --------------------------------------------------------------------------------
Baron Asset Fund
- --------------------------------------------------------------------------------

<TABLE>
<CAPTION>
Net Asset Value of Shares
Value Owned, if Initial
Date Fund Net Assets Per Share Dividends Investment was $10,000*
- -------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
06/12/87 $ 108,728 $10.00 $10,000
- -------------------------------------------------------------------------------------
06/30/87 1,437,521 10.71 10,710
- -------------------------------------------------------------------------------------
09/30/87 3,905,221 11.95 11,950
- -------------------------------------------------------------------------------------
12/31/87 4,406,972 10.10 $ 0.197 10,298
- -------------------------------------------------------------------------------------
03/31/88 6,939,435 11.56 11,786
- -------------------------------------------------------------------------------------
06/30/88 9,801,677 12.68 12,928
- -------------------------------------------------------------------------------------
09/30/88 11,734,509 12.98 13,234
- -------------------------------------------------------------------------------------
12/31/88 15,112,031 12.87 0.701 13,843
- -------------------------------------------------------------------------------------
03/31/89 22,269,578 14.75 15,864
- -------------------------------------------------------------------------------------
06/30/89 31,397,929 16.06 17,273
- -------------------------------------------------------------------------------------
09/30/89 47,658,616 17.22 18,521
- -------------------------------------------------------------------------------------
12/31/89 49,007,084 14.66 1.409 17,299
- -------------------------------------------------------------------------------------
03/31/90 50,837,946 13.87 16,367
- -------------------------------------------------------------------------------------
06/30/90 54,413,786 14.32 16,898
- -------------------------------------------------------------------------------------
09/30/90 40,002,612 10.88 12,838
- -------------------------------------------------------------------------------------
12/31/90 42,376,625 11.75 0.198 14,100
- -------------------------------------------------------------------------------------
03/31/91 47,104,889 13.88 16,656
- -------------------------------------------------------------------------------------
<PAGE>

06/30/91 45,600,730 13.81 16,572
- -------------------------------------------------------------------------------------
09/30/91 47,409,180 14.80 17,760
- -------------------------------------------------------------------------------------
12/31/91 46,305,042 15.71 0.035 18,895
- -------------------------------------------------------------------------------------
03/31/92 48,011,634 16.72 20,109
- -------------------------------------------------------------------------------------
06/30/92 42,289,409 15.28 18,377
- -------------------------------------------------------------------------------------
09/30/92 43,816,305 16.20 19,484
- -------------------------------------------------------------------------------------
12/31/92 47,955,530 17.73 0.162 21,522
- -------------------------------------------------------------------------------------
03/31/93 50,015,244 18.82 22,845
- -------------------------------------------------------------------------------------
06/30/93 52,432,090 19.70 23,912
- -------------------------------------------------------------------------------------
09/30/93 59,916,570 21.91 26,595
- -------------------------------------------------------------------------------------
12/31/93 64,069,114 21.11 0.774 26,576
- -------------------------------------------------------------------------------------
03/31/94 63,099,109 20.69 26,047
- -------------------------------------------------------------------------------------
06/30/94 68,880,300 20.40 25,682
- -------------------------------------------------------------------------------------
09/30/94 80,258,542 22.82 28,728
- -------------------------------------------------------------------------------------
12/31/94 87,058,228 22.01 0.656 28,547
- -------------------------------------------------------------------------------------
03/31/95 160,603,528 24.29 31,505
- -------------------------------------------------------------------------------------
06/30/95 202,259,502 25.79 33,450
- -------------------------------------------------------------------------------------
09/30/95 289,973,331 29.30 38,003
- -------------------------------------------------------------------------------------
12/31/95 353,095,409 29.74 0.034 38,618
- -------------------------------------------------------------------------------------
03/31/96 638,297,904 34.14 44,332
- -------------------------------------------------------------------------------------
06/30/96 1,124,647,802 36.65 47,591
- -------------------------------------------------------------------------------------
09/30/96 1,166,057,654 35.50 46,098
- -------------------------------------------------------------------------------------
12/31/96 1,326,321,785 36.23 0.039 47,097
- -------------------------------------------------------------------------------------
03/31/97 1,663,347,667 34.98 45,472
- -------------------------------------------------------------------------------------
06/30/97 2,306,228,855 41.74 54,260
- -------------------------------------------------------------------------------------
09/30/97 3,224,498,394 47.43 61,656
- -------------------------------------------------------------------------------------
12/31/97 3,793,013,753 48.51 0.000 63,060
- -------------------------------------------------------------------------------------
03/31/98 5,187,450,337 53.68 69,781
- -------------------------------------------------------------------------------------
06/30/98 5,545,334,568 52.20 67,857
- -------------------------------------------------------------------------------------
09/30/98 4,410,506,448 39.96 51,946
- -------------------------------------------------------------------------------------
</TABLE>

* Assumes all dividends were reinvested and no shares were redeemed.
<PAGE>

BARON ASSET FUND'S
AVERAGE ANNUAL RETURN

Period ended September 30, 1998

One year (15.7%)
- -----------------------------------------
Two years 6.2%
- -----------------------------------------
Three years 11.0%
- -----------------------------------------
Four years 16.0%
- -----------------------------------------
Five years 14.3%
- -----------------------------------------
Ten years 14.7%
- -----------------------------------------
Since inception June 12, 1987 15.7%
- -----------------------------------------

- --------------------------------------------------------------------------------
Baron Growth & Income Fund
- --------------------------------------------------------------------------------

<TABLE>
<CAPTION>
Net Asset Value of Shares
Value Owned, if Initial
Date Fund Net Assets Per Share Dividends Investment was $10,000*
- ----------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
01/03/95 $ 741,000 $10.00 $10,000
- ----------------------------------------------------------------------------------------
03/31/95 3,425,507 11.78 11,780
- ----------------------------------------------------------------------------------------
06/30/95 7,231,619 13.18 13,180
- ----------------------------------------------------------------------------------------
09/30/95 28,632,467 14.77 14,770
- ----------------------------------------------------------------------------------------
12/31/95 41,043,705 15.11 $ 0.142 15,254
- ----------------------------------------------------------------------------------------
03/31/96 77,337,831 16.90 17,061
- ----------------------------------------------------------------------------------------
06/30/96 172,070,435 18.20 18,373
- ----------------------------------------------------------------------------------------
09/30/96 207,234,494 18.40 18,575
- ----------------------------------------------------------------------------------------
12/31/96 243,983,507 19.04 0.255 19,483
- ----------------------------------------------------------------------------------------
03/31/97 273,907,177 18.57 19,002
- ----------------------------------------------------------------------------------------
06/30/97 316,981,759 21.82 22,328
- ----------------------------------------------------------------------------------------
09/30/97 390,831,861 24.89 25,469
- ----------------------------------------------------------------------------------------
12/31/97 415,134,319 24.88 0.073 25,535
- ----------------------------------------------------------------------------------------
03/31/98 511,405,730 27.28 27,998
- ----------------------------------------------------------------------------------------
06/30/98 478,748,484 26.07 26,757
- ----------------------------------------------------------------------------------------
09/30/98 315,557,850 20.32 20,855
- ----------------------------------------------------------------------------------------
</TABLE>
* Assumes all dividends were reinvested and no shares were redeemed.

BARON GROWTH & INCOME FUND'S
AVERAGE ANNUAL RETURN

Period ended September 30, 1998

One year (18.1%)
- -------------------------------------------
Two years 6.0%
- -------------------------------------------
Three years 12.2%
- -------------------------------------------
Since inception January 3, 1995 21.7%
- -------------------------------------------

<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

- --------------------------------------------------------------------------------
Baron Small Cap Fund
- --------------------------------------------------------------------------------

* Assumes all dividends were reinvested and no shares were redeemed.

BARON SMALL CAP FUND'S
AVERAGE ANNUAL RETURN

Period ended September 30, 1998

Since inception October 1, 1997 (13.9%)
- -------------------------------------------

The performance data represents past performance. Investment returns and
principal value will fluctuate so that an investor's shares, when redeemed, may
be worth more or less than their cost. For more complete information about
Baron Funds, including charges and expenses, call or write for a prospectus.
Read it carefully before you invest or send money. This report is not
authorized for use as an offer of sale or a solicitation of an offer to buy
shares of Baron Funds unless accompanied or preceded by the Funds' current
prospectus.

<PAGE>

- --------------------------------------------------------------------------------
B A R O N A S S E T F U N D
- --------------------------------------------------------------------------------

- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS
- --------------------------------------------------------------------------------
September 30, 1998

Shares Value
- -------------------------------------------------------------------------
Common Stocks (97.02%)
- -------------------------------------------------------------------------
Amusement and Recreation Services (11.48%)
9,895,000 AMF Bowling, Inc.*# $ 87,199,688
243,800 Intrawest Corp. 3,733,187
3,325,000 Mirage Resorts, Inc.* 55,693,750
3,530,000 Premier Parks, Inc.* 61,775,000
2,875,000 Sun Intl. Hotels, Ltd.*# 109,070,312
5,678,900 Vail Resorts, Inc. Class A*# 113,223,069
4,000,000 Vail Resorts, Inc. Class A*#@ 75,762,400
------------
506,457,406
Business Services (3.82%)
1,015,300 ChoicePoint, Inc.*# 48,861,313
100,000 Commonwealth Telephone Ent., Inc.* 2,393,750
20,000 Commonwealth Telephone Ent., Inc. Rts* 57,483
2,335,000 Robert Half Intl., Inc.* 100,842,812
685,000 United Stationers, Inc.* 16,354,375
------------
168,509,733
Chemical (1.00%)
1,557,500 OM Group, Inc. # 43,902,031
Communications (7.30%)
3,500,000 American Mobile Satellite Corp.*# 18,375,000
5,120,000 American Tower Corp. Class A* 130,560,000
1,272,500 Cellular Communications of P.R., Inc.*# 14,792,813
855,000 Centennial Cellular Corp.* 27,360,000
1,272,500 CoreComm, Ltd.*# 13,838,437
2,724,500 NTL, Inc.*# 117,153,500
------------
322,079,750
Consumer Services (1.05%)
2,770,000 Stewart Enterprises, Inc. Class A 46,397,500
Education (6.17%)
1,840,000 Caliber Learning Network, Inc.*# 11,155,000
4,635,200 DeVry, Inc.*# 108,637,500
880,000 Education Management Corp.*# 31,240,000
85,500 EduTrek Intl., Inc.* 598,500
1,562,500 ITT Educational Services, Inc.*# 50,000,000
3,145,000 Learning Tree Intl., Inc.*# 40,295,313
1,297,500 Sylvan Learning Systems, Inc.* 30,329,062
------------
272,255,375
Energy (2.55%)
4,747,500 Cross Timbers Oil Co.# 71,509,219
990,000 Seacor Smit, Inc.*# 41,085,000
------------
112,594,219
Financial (8.91%)
8,745,000 Charles Schwab Corp. 344,334,375
1,605,000 DVI, Inc.*# 23,573,438
1,750,000 Federated Investors, Inc. 25,156,250
------------
393,064,063
Food and Agriculture (1.00%)
1,000,001 Delta and Pine Land Co. 44,000,044

Government Services (0.68%)
2,200,000 Corrections Corp. of America* 29,837,500

<PAGE>

Shares Value
- -------------------------------------------------------------------------
Health Services (7.89%)
130,000 American Healthcorp., Inc.* $ 1,048,125
475,000 American HomePatient, Inc.* 890,625
2,408,200 Counsel Corp.*# 11,137,925
10,350,700 HCR Manor Care, Inc.*# 303,404,894
230,000 Patient Infosystems, Inc.* 416,875
1,900,000 Quorum Health Group, Inc.* 30,875,000
------------
347,773,444
Hotels and Lodging (5.32%)
2,191,150 Bristol Hotels & Resorts, Inc.*# 9,723,228
13,021,300 Choice Hotels Intl., Inc.*# 165,207,744
680,000 Four Seasons Hotels, Inc. 13,940,000
1,060,000 Promus Hotel Corp.* 29,216,250
3,650,036 Sunburst Hospitality Corp.*# 16,425,162
------------
234,512,384
Manufacturing (1.56%)
131,000 Amphenol Corp.* 4,568,625
1,393,000 Flextronics Intl. Ltd.*# 49,364,437
915,000 Unova, Inc.* 15,040,313
------------
68,973,375
Media and Entertainment (9.42%)
860,200 CD Radio, Inc.* 16,343,800
1,185,500 Century Communications Corp.* 28,303,812
544,762 Clear Channel Communications, Inc.* 25,876,195
830,000 Cox Radio, Inc.* 29,153,750
3,270,000 Heftel Broadcasting Corp. Class A*# 123,442,500
1,250,000 Metro Networks, Inc.*# 45,781,250
1,740,750 Outdoor Systems, Inc.* 33,944,625
2,932,002 Saga Communications, Inc. Class A*# 46,179,032
738,600 United Intl. Hldgs., Inc.* 7,155,188
740,000 Univision Communications, Inc.* 22,015,000
1,102,000 Young Broadcasting, Inc. Class A* 37,468,000
------------
415,663,152
Real Estate and REITs (8.00%)
252,000 Alexander's, Inc.*# 19,341,000
774,000 Avatar Holdings, Inc.*# 14,222,250
165,000 Boston Properties, Inc. 4,702,500
1,990,000 CCA Prison Realty Trust # 35,820,000
2,988,175 FelCor Lodging Trust, Inc. 72,650,005
900,000 Iron Mountain, Inc.* 27,000,000
810,000 Kimco Realty Corp. 30,780,000
179,999 Post Properties, Inc. 6,963,711
240,000 Public Storage, Inc. 6,435,000
2,420,000 Spieker Properties, Inc. 88,935,000
205,000 Storage USA, Inc. 6,970,000
335,000 Sun Communities, Inc. 11,243,437
800,000 Taubman Centers, Inc. 11,200,000
500,000 Vornado Realty Trust 16,562,500
------------
352,825,403
Retail Trade and Restaurants (15.17%)
3,690,000 Dollar Tree Stores, Inc.*# 115,543,125
8,654,600 Polo Ralph Lauren Corp.* 172,551,088
280,000 Saks, Inc.*(formerly Proffitt's, Inc.) 6,282,500
2,237,900 Smart and Final, Inc.# 15,945,037
18,030,000 Sotheby's Holdings, Inc. Class A# 323,413,125
2,825,000 Stein Mart, Inc.*# 22,600,000
600,000 Williams-Sonoma, Inc.* 12,787,500
------------
669,122,375

See Notes to Financial Statements.

<PAGE>

- --------------------------------------------------------------------------------
B A R O N A S S E T F U N D
- --------------------------------------------------------------------------------

Shares Value
- -------------------------------------------------------------------------
Transportation (1.09%)
2,100,000 Budget Group, Inc. Class A* $ 47,906,250
Utility Services (0.38%)
832,500 Southern Union Co.* 16,650,000
Wholesale Trade (2.47%)
1,565,500 Industrie Natuzzi SPA ADR 30,918,625
2,650,000 Libbey, Inc.# 78,175,000
--------------
109,093,625
Miscellaneous (1.76%) 77,494,189
--------------
Total Common Stocks
(Cost $4,257,925,532) 4,279,111,818
--------------

- ------------------------------------------------------------------------
Convertible Preferred Stock (0.41%)
- ------------------------------------------------------------------------
Transportation
400,000 Budget Group Capital Trust Conv. Pref +
(Cost $20,000,000) 18,200,000
--------------

Principal Amount Value
- -------------------------------------------------------------------------
Corporate Bonds (0.38%)
- -------------------------------------------------------------------------
Communications
$14,000,000 Intl. CableTel, Inc. 7.0% Conv. Sub.
Notes due 06/15/2008
(Cost $13,882,500) $ 16,870,000
--------------
- --------------------------------------------------------------------------------
Short Term Money Market Instruments (1.93%)
- --------------------------------------------------------------------------------
85,000,000 Associates Corp. of N.A. 5.73% due
10/01/1998 (Cost $85,000,000) 85,000,000
--------------
Total Investments (99.74%)
(Cost $4,376,808,032**) 4,399,181,818
--------------
Cash and Other Assets
Less Liabilities (0.26%) 11,324,630
--------------
Net Assets (Equivalent to $39.96 per share
based on 110,366,720 shares of beneficial
interest outstanding) (100.00%) $4,410,506,448
==============
% Represents percentage of net assets
+ Rule 144A securities
@ Restricted securities (See Note 5)
# Issuers that may be deemed to be "affiliated"
* Non-income producing securities
**For Federal income tax purposes the cost basis is $4,379,180,910. Aggregate
unrealized appreciation and depreciation of investments are $781,730,911
and $761,730,003, respectively.

See Notes to Financial Statements.

<PAGE>

Shares Value
- -------------------------------------------------------------------------
Common Stocks (98.52%)
- -------------------------------------------------------------------------
Amusement and Recreation Services (8.30%)
1,200,000 AMF Bowling, Inc.* $ 10,575,000
160,000 Mirage Resorts, Inc.* 2,680,000
217,000 Sun Intl. Hotels, Ltd.* 8,232,438
235,000 Vail Resorts, Inc. Class A* 4,685,312
------------
26,172,750
Business Services (3.63%)
265,000 Robert Half Intl., Inc.* 11,444,688
Chemical (1.25%)
140,000 OM Group, Inc. 3,946,250
Communications (7.90%)
497,000 American Mobile Satellite Corp.* 2,609,250
458,120 American Tower Corp. Class A* 11,682,060
247,568 NTL, Inc.* 10,645,424
------------
24,936,734
Education (3.48%)
380,000 DeVry, Inc.* 8,906,250
58,000 Education Management Corp.* 2,059,000
------------
10,965,250
Energy (2.15%)
450,500 Cross Timbers Oil Co. 6,785,656
Financial (11.62%)
769,500 Charles Schwab Corp. 30,299,063
220,000 DVI, Inc.* 3,231,250
200,000 Medallion Financial Corp. 3,150,000
------------
36,680,313
Health Services (6.74%)
725,000 HCR Manor Care, Inc.* 21,251,563
Hotels and Lodging (11.10%)
218,800 Bristol Hotels & Resorts, Inc.* 970,925
2,400,000 Choice Hotels Intl., Inc.* 30,450,000
800,000 Sunburst Hospitality Corp.* 3,600,000
------------
35,020,925
Manufacturing (1.57%)
140,000 Flextronics Intl., Ltd.* 4,961,250
Media and Entertainment (7.96%)
415,000 Heftel Broadcasting Corp. Class A * 15,666,250
110,000 Metro Networks, Inc.* 4,028,750
343,750 Saga Communications, Inc. Class A * 5,414,062
------------
25,109,062
Real Estate and REITs (22.07%)
20,000 Alexander's, Inc.* 1,535,000
200,000 Boston Properties, Inc. 5,700,000
90,000 CBL & Associates Properties, Inc. 2,317,500
155,000 CCA Prison Realty Trust 2,790,000
290,000 FelCor Lodging Trust, Inc. 7,050,625
110,000 Healthcare Realty Trust, Inc. 2,805,000
170,000 Kimco Realty Corp. 6,460,000
139,999 Post Properties, Inc. 5,416,211

<PAGE>

Shares Value
- -------------------------------------------------------------------------
Real Estate and REITs (continued)
170,000 Public Storage, Inc. $ 4,558,125
280,000 Spieker Properties, Inc. 10,290,000
160,000 Storage USA, Inc. 5,440,000
190,000 Sun Communities, Inc. 6,376,875
400,000 Taubman Centers, Inc. 5,600,000
100,000 Vornado Realty Trust 3,312,500
------------
69,651,836
Retail Trade and Restaurants (7.31%)
330,000 Dollar Tree Stores, Inc.* 10,333,125
220,000 Polo Ralph Lauren Corp.* 4,386,250
400,000 Smart and Final, Inc. 2,850,000
240,000 Sotheby's Holdings, Inc. Class A 4,305,000
150,000 Stein Mart, Inc.* 1,200,000
------------
23,074,375
Utility Services (2.85%)
449,995 Southern Union Co.* 8,999,900
Wholesale Trade (0.59%)
35,000 Industrie Natuzzi SPA ADR 691,250
40,000 Libbey, Inc. 1,180,000
------------
1,871,250
------------
Total Common Stocks
(Cost $272,217,418)
310,871,802
------------

Principal Amount Value
- -------------------------------------------------------------------------
Corporate Bonds (1.25%)
- -------------------------------------------------------------------------
Communications (0.76%)
$2,000,000 Intl. CableTel, Inc. 7.00% Conv. Sub.
Notes due 6/15/2008 2,410,000
Energy (0.49%)
1,700,000 Seacor Holdings, Inc. 5.375%
Conv. Sub. Notes due 11/15/2006+ 1,542,750
------------
Total Corporate Bonds
(Cost $3,651,250) 3,952,750
------------
Total Investments (99.77%)
(Cost $275,868,668**) 314,824,552
------------
Cash and Other Assets
Less Liabilities (0.23%) 733,298
------------
Net Assets (Equivalent to $20.32 per
share based on 15,527,447 shares of
beneficial interest outstanding)(100.00%) $ 315,557,850
=============
% Represents percentage of net assets
+ Rule 144A securities
* Non-income producing securities
** For Federal income tax purposes the cost basis is $275,205,732. Aggregate
unrealized appreciation and depreciation of investments are $76,154,897 and
$36,536,077, respectively.

See Notes to Financial Statements.

<PAGE>

- --------------------------------------------------------------------------------
B A R O N S M A L L C A P F U N D
- --------------------------------------------------------------------------------
STATEMENT OF NET ASSETS
- --------------------------------------------------------------------------------

September 30, 1998
Shares Value
- -------------------------------------------------------------------------
Common Stocks (97.62%)
- -------------------------------------------------------------------------
Amusement and Recreation Services (11.77%)
440,000 AMF Bowling, Inc. * $ 3,877,500
400,000 Intrawest Corp. 6,125,000
1,000,000 Loews Cineplex Entertainment Corp.* 8,687,500
1,000,000 Premier Parks, Inc.* 17,500,000
150,000 Sun Intl. Hotels, Ltd.* 5,690,625
900,000 The Sports Club Co.* 5,625,000
------------
47,505,625
Business Services (10.26%)
675,000 Caribiner Intl., Inc.* 5,737,500
225,000 ChoicePoint, Inc.* 10,828,125
318,800 Dispatch Management Services Corp.* 4,263,950
800,000 Strategic Distribution, Inc.* 2,550,000
600,000 United Stationers, Inc.* 14,325,000
460,000 U.S. Office Products Co.* 3,737,500
------------
41,442,075
Communications (14.23%)
600,000 American Tower Corp.* 15,300,000
590,000 Centennial Cellular Corp.* 18,880,000
300,000 Commonwealth Telephone Ent., Inc.* 7,181,250
70,000 Commonwealth Telephone Ent., Inc. Rts* 201,241
382,000 Commnet Cellular, Inc.* 4,202,000
108,600 CoreComm, Ltd.* 1,181,025
550,000 Paging Network, Inc.* 3,317,160
600,000 Rural Cellular Corp. Class A* 7,200,000
------------
57,462,676
Consumer Products (0.62%)
400,000 Equity Marketing, Inc.*# 2,500,000
Education (3.27%)
300,000 Caliber Learning Network, Inc.* 1,818,750
520,000 Career Education Corp.*# 11,375,000
------------
13,193,750
Environmental (2.93%)
1,750,000 International Technology Corp.*# 11,812,500
Health Services (3.70%)
900,000 Counsel Corp.* 4,162,500
500,000 Mariner Post-Acute Network, Inc.* 2,562,500
200,000 Province Healthcare Co.* 6,812,500
690,000 U.S. Diagnostic, Inc.* 1,423,125
------------
14,960,625
Hotels and Lodging (5.36%)
118,400 Bristol Hotels & Resorts, Inc.* 525,400
675,000 Four Seasons Hotels, Inc. 13,837,500
825,000 ResortQuest Intl., Inc.*# 7,270,313
------------
21,633,213
Manufacturing (5.83%)
150,000 Amphenol Corp.* 5,231,250
750,000 AVTEAM, Inc.* # 4,312,500
200,000 Commscope, Inc.* 2,312,500
710,000 Unova, Inc.* 11,670,625
------------
23,526,875

<PAGE>

Shares Value
- -------------------------------------------------------------------------
Media and Entertainment (18.79%)
775,000 Century Communications Corp.* $ 18,503,125
314,900 Clear Channel Communications, Inc.* 14,957,750
390,000 Metro Networks, Inc.* 14,283,750
385,000 SFX Entertainment, Inc.* 11,983,125
1,000,000 United Intl. Hldgs., Inc.* 9,687,500
190,000 Young Broadcasting, Inc. Class A* 6,460,000
------------
75,875,250
Real Estate and REITs (9.32%)
100,000 CCA Prison Realty Trust 1,800,000
150,500 Crescent Operating, Inc.* 1,053,500
842,500 Iron Mountain, Inc.* 25,275,000
250,000 Kimco Realty Corp. 9,500,000
------------
37,628,500
Retail Trade and Restaurants (8.07%)
560,000 Kenneth Cole Productions, Inc. * 10,045,000
350,000 Morton's Restaurant Group, Inc.*# 7,525,000
315,000 United Rentals, Inc.* 7,540,312
350,000 Williams-Sonoma, Inc.* 7,459,375
------------
32,569,687
Transportation (1.36%)
240,000 Budget Group, Inc.* 5,475,000
Utility Services (2.11%)
880,000 El Paso Electric Co.* 8,525,000
------------
Total Common Stocks
(Cost $469,286,266) 394,110,776
------------

Principal Amount
- --------------------------------------------------------------------------------
Corporate Bonds (0.54%)
- --------------------------------------------------------------------------------
Health Services
$3,250,000 U.S. Diagnostic, Inc. 9.00%
Conv. Sub. Deb. due 03/31/2003
(Cost $2,520,000) 2,177,500
-----------
- --------------------------------------------------------------------------------
Short Term Money Market Instruments (1.69%)
- --------------------------------------------------------------------------------
6,828,000 Associates Corporation of N.A., 5.73%
due 10/01/1998 (Cost $6,828,000) 6,828,000
-----------
- --------------------------------------------------------------------------------
Total Investments (99.85%)
(Cost $478,634,266**) 403,116,276
-----------
Cash and Other Assets
Less Liabilities (0.15%) 611,722
-----------
Net Assets (Equivalent to $8.61 per
share based on 46,886,613 shares of
beneficial interest outstanding) (100%) $403,727,998
============

% Represents percentage of net assets
# Issuers that may be deemed to be "affiliated"
* Non-income producing securities
** For Federal income tax purposes the cost basis is
$479,583,347. Aggregate unrealized appreciation and depreciation
of investments are $40,476,602 and $116,943,673, respectively.

See Notes to Financial Statements.

26
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

STATEMENTS OF ASSETS AND LIABILITIES
- --------------------------------------------------------------------------------
SEPTEMBER 30, 1998

<TABLE>
<CAPTION>
Baron Asset Baron Growth & Baron Small Cap
Fund Income Fund Fund
----------------- ---------------- ----------------
<S> <C> <C> <C>
Assets:
Investments in securities, at value
Unaffiliated issuers (Cost $1,840,381,430,
$275,868,668, and $413,482,492, respectively) $1,971,563,326 $314,824,552 $ 358,320,963
"Affiliated issuers" (Cost $2,536,426,602, $0, and
$65,151,774, respectively) 2,427,618,492 0 44,795,313
Cash 5,233,881 0 399
Due from brokers 8,847,511 1,936,351 0
Dividends and interest receivable 3,991,494 856,795 169,890
Receivable for securities sold 14,194,172 7,634,259 1,921,430
Receivable for shares sold 3,254,755 148,510 305,884
Unamortized organization costs (Note 1) 0 8,218 22,780
Prepaid expenses 22,005 0 0
-------------- ------------ -------------
4,434,725,636 325,408,685 405,536,659
-------------- ------------ -------------
Liabilities:
Payable for securities purchased 23,179,523 1,347,751 1,510,180
Payable for shares redeemed 127,403 2,481 199
Due to custodian bank 0 8,258,879 0
Accrued organization costs (Note 1) 0 8,218 22,780
Accrued expenses and other payables (Note 3) 912,262 233,506 275,502
-------------- ------------ -------------
24,219,188 9,850,835 1,808,661
-------------- ------------ -------------
Net Assets $4,410,506,448 $315,557,850 $ 403,727,998
============== ============ =============
Net Assets consist of:
Par value $ 1,103,667 $ 155,274 $ 468,866
Paid-in capital in excess of par value 4,483,300,691 281,864,615 505,669,599
Undistributed net investment income 4,637,960 472,714 0
Accumulated net realized loss (100,909,656) (5,890,637) (26,892,477)
Net unrealized appreciation (depreciation) on
investments 22,373,786 38,955,884 (75,517,990)
-------------- ------------ -------------
Net Assets $4,410,506,448 $315,557,850 $ 403,727,998
============== ============ =============
Shares of Beneficial Interest Outstanding
($.01 par value; indefinite shares authorized) 110,366,720 15,527,447 46,886,613
============== ============ =============
Net Asset Value Per Share $ 39.96 $ 20.32 $ 8.61
============== ============ =============
</TABLE>

See Notes to Financial Statements.

27
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

STATEMENTS OF OPERATIONS
- --------------------------------------------------------------------------------
FOR THE YEAR ENDED SEPTEMBER 30, 1998

<TABLE>
<CAPTION>
Baron Asset Baron Growth & Baron Small Cap
Fund Income Fund Fund*
------------------ ---------------- ------------------
<S> <C> <C> <C>
Investment income:
Income:
Interest $ 11,260,530 $ 591,891 $ 1,395,050
Dividends -- unaffiliated issuers 27,252,318 6,407,337 1,729,757
Dividends -- "affiliated" issuers 10,153,216 0 0
Other income (Note 7) 16,256,892 47,659 1,687,592
------------- ------------ -------------
Total income 64,922,956 7,046,887 4,812,399
------------- ------------ -------------
Expenses:
Investment advisory fees (Note 3) 45,074,474 4,310,057 4,041,420
Distribution fees (Note 3) 11,268,627 1,077,515 1,010,356
Shareholder servicing agent fees 1,178,750 264,855 197,130
Reports to shareholders 1,001,600 116,225 99,450
Registration and filing fees 790,578 34,998 174,046
Custodian fees 205,210 48,145 58,330
Trustee fees 89,880 8,732 7,708
Professional fees 81,455 38,773 38,449
Amortization of organization costs (Note 1) 0 6,567 5,695
Miscellaneous 49,959 9,011 6,331
------------- ------------ -------------
Total operating expenses 59,740,533 5,914,878 5,638,915
Interest expense 0 232,119 0
------------- ------------ -------------
Total expenses (Note 5) 59,740,533 6,146,997 5,638,915
------------- ------------ -------------
Net investment income (loss) 5,182,423 899,890 (826,516)
------------- ------------ -------------
Realized and unrealized gain (loss) on investments:
Net realized gain (loss) on investments sold in
unaffiliated issuers (16,202,157) (6,952,711) (26,895,646)
Net realized loss on investments sold in "affiliated"
issuers (60,250,086) 0 0
Change in net unrealized appreciation (depreciation) of
investments (848,684,103) (73,445,498) (75,517,990)
------------- ------------ -------------
Net loss on investments (925,136,346) (80,398,209) (102,413,636)
------------- ------------ -------------
Net decrease in net assets resulting from operations ($ 919,953,923) ($ 79,498,319) ($ 103,240,152)
============= ============ =============

</TABLE>

* For the period October 1, 1997 (commencement of operations) to
September 30, 1998.

See Notes to Financial Statements.

28
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

STATEMENTS OF CHANGES IN NET ASSETS
- --------------------------------------------------------------------------------

<TABLE>
<CAPTION>
Baron Asset Fund
---------------------------------------
For The For The
Year Ended Year Ended
September 30, September 30,
1998 1997
------------------- ------------------
<S> <C> <C>
INCREASE (DECREASE) IN NET
ASSETS:
Operations:
Net investment income (loss) $ 5,182,423 ($ 9,740,291)
Net realized gain (loss) on investments
sold (76,452,243) (25,537,003)
Net change in unrealized appreciation
(depreciation) on investments (848,684,103) 699,696,611
----------------- --------------
Increase (decrease) in net assets
resulting from operations (919,953,923) 664,419,317
----------------- --------------
Dividends to shareholders from:
Net investment income 0 0
Net realized gain on investments 0 (1,419,734)
----------------- --------------
0 (1,419,734)
----------------- --------------
Capital share transactions:
Proceeds from the sale of shares 3,405,277,873 1,901,291,106
Net asset value of shares issued in
reinvestment of dividends 0 1,352,665
Cost of shares redeemed (1,299,315,896) (507,202,614)
----------------- --------------
Increase in net assets derived from
capital share transactions 2,105,961,977 1,395,441,157
----------------- --------------
Net increase (decrease) in net assets 1,186,008,054 2,058,440,740
Net assets:
Beginning of year 3,224,498,394 1,166,057,654
----------------- --------------
End of year $ 4,410,506,448 $3,224,498,394
================= ==============
Undistributed net investment income
at end of year $ 4,637,960 $ 0
================= ==============
Shares of Beneficial Interest:
Shares sold 69,710,623 48,411,239
Shares issued in reinvestment
dividends 0 37,932
Shares redeemed (27,334,849) (13,300,780)
----------------- --------------
Net increase (decrease) 42,375,774 35,148,391
================= ==============

</TABLE>

<PAGE>

[RESTUBBED TABLE]
<TABLE>
<CAPTION>
Baron Small
Baron Growth & Income Fund Cap Fund
------------------------------------ -----------------
For The For The For The
Year Ended Year Ended Year Ended
September 30, September 30, September 30,
1998 1997 1998*
----------------- ----------------- -----------------
<S> <C> <C> <C>
INCREASE (DECREASE) IN NET
ASSETS:
Operations:
Net investment income (loss) $ 899,890 $ 1,046,525 ($ 826,516)
Net realized gain (loss) on investments
sold (6,952,711) 790,402 (26,895,646)
Net change in unrealized appreciation
(depreciation) on investments (73,445,498) 93,851,250 (75,517,990)
--------------- --------------- --------------
Increase (decrease) in net assets
resulting from operations (79,498,319) 95,688,177 (103,240,152)
--------------- --------------- --------------
Dividends to shareholders from:
Net investment income (282,139) (1,142,621) 0
Net realized gain on investments (929,398) (2,059,229) 0
--------------- --------------- --------------
(1,211,537) (3,201,850) 0
--------------- --------------- --------------
Capital share transactions:
Proceeds from the sale of shares 236,230,743 200,457,503 692,941,797
Net asset value of shares issued in
reinvestment of dividends 1,161,950 3,077,823 0
Cost of shares redeemed (231,956,848) (112,424,286) (185,973,647)
--------------- --------------- --------------
Increase in net assets derived from
capital share transactions 5,435,845 91,111,040 506,968,150
--------------- --------------- --------------
Net increase (decrease) in net assets (75,274,011) 183,597,367 403,727,998
Net assets:
Beginning of year 390,831,861 207,234,494 0
--------------- --------------- --------------
End of year $ 315,557,850 $ 390,831,861 $ 403,727,998
=============== =============== ==============
Undistributed net investment income
at end of year $ 472,714 $ 285,821 $ 0
=============== =============== ==============
Shares of Beneficial Interest:
Shares sold 9,436,383 9,989,857 65,055,206
Shares issued in reinvestment
dividends 47,958 164,326 0
Shares redeemed (9,658,984) (5,713,945) (18,168,593)
--------------- --------------- --------------
Net increase (decrease) (174,643) 4,440,238 46,886,613
=============== =============== ==============

</TABLE>

* For the period October 1, 1997 (commencement of operations) to
September 30, 1998.

See Notes to Financial Statements.

29
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

Notes to Financial Statements

- --------------------------------------------------------------------------------
(1) Significant Accounting Policies

Baron Asset Fund (the "Trust") is registered under the Investment Company Act
of 1940, as amended (the "1940 Act"), as a diversified, open-end management
investment company established as a Massachusetts business trust on February
19, 1987. The Trust currently offers three series (individually a "Fund" and
collectively the "Funds"): Baron Asset Fund, started in June of 1987, Baron
Growth & Income Fund, started in January of 1995, and Baron Small Cap Fund,
started in October of 1997. The following is a summary of significant
accounting policies followed by the Funds. The policies are in conformity with
generally accepted accounting principles.

(a) Security Valuation. Portfolio securities traded on any national stock
exchange or quoted on the NASDAQ National Market System are valued on the basis
of the last sale price on the date of valuation or, in the absence of any sale
on that date, the last sale price on the date the security last traded. Other
securities are valued at the mean of the most recent bid and asked prices if
market quotations are readily available. Where market quotations are not
readily available the securities are valued at their fair value as determined
in good faith by the Board of Trustees, or by the Adviser, pursuant to
procedures established by the Trustees. Money market instruments held by the
Funds with a remaining maturity of sixty days or less are valued at amortized
cost, which approximates value.

(b) Securities Transactions, Investment Income and Expense Allocation.
Securities transactions are recorded on a trade date basis. Realized gain and
loss from securities transactions are recorded on an identified cost basis for
financial reporting and federal income tax purposes. Dividend income is
recognized on the ex-dividend date and interest income is recognized on an
accrual basis. Common expenses of the Funds are allocated on a basis deemed
fair and equitable by the Trustees, usually on the basis of average net assets.
Direct expenses are charged to each Fund on a specific identification basis.

(c) Federal Income Taxes. Each Fund of the Trust is treated as a separate
entity for federal income tax purposes. It is the policy of each Fund to
continue to qualify as a regulated investment company under Subchapter M of the
Internal Revenue Code and to distribute all of its taxable income, including
net realized capital gains, if any, to its shareholders. No federal income tax
provision is therefore required.

(d) Options. Options purchased are recorded as investments; options written
(sold) are recorded as liabilities. When an option expires, the premium is
realized as a gain if the option was written or as a loss if the option was
purchased. When the exercise of an option results in a cash settlement, the
difference between the premium and the settlement proceeds is realized as a
gain or loss. When securities are acquired or delivered upon exercise of an
option, the acquisition cost or sale proceeds are adjusted by the amount of the
premium. When an option is closed, the difference between the premium and the
cost to close the position is realized as a gain or loss.

<PAGE>

(e) Restricted Securities. The Funds invest in securities which are restricted
as to public sale in accordance with the Securities Act of 1933. Such assets
are valued at fair value as determined in good faith by the Board of Trustees.

(f) Organization Costs. Costs incurred in connection with the organization and
initial registration of Baron Growth & Income Fund and Baron Small Cap Fund
have been deferred and are being amortized on a straight-line basis over a
five-year period. Baron Capital, Inc. ("BCI"), a wholly owned subsidiary of
Baron Capital Group, Inc. ("BCG"), agreed to make advances for organization
expenses incurred and will be reimbursed as the costs are amortized.

(g) Distributions. Income distributions and capital gain distributions are
determined in accordance with income tax regulations which may differ from
generally accepted accounting principles. These differences are primarily due
to differing treatments for net operating losses and distributions received
from REIT's. For the year ended September 30, 1998, the following amounts were
reclassified for federal income tax purposes:

<TABLE>
<CAPTION>
Undistributed Undistributed
Net Investment Income Realized Gain/Loss Paid-In-Capital
----------------------- -------------------- ----------------
<S> <C> <C> <C>
Baron Asset Fund $ (544,463) $440,913 $ 103,550
Baron Growth & Income Fund (430,858) 430,858 --
Baron Small Cap Fund 826,516 3,169 (829,685)
</TABLE>

(h) Use of Estimates. The preparation of financial statements in accordance
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities at the date of financial statements, and the amounts of income and
expenses during the period. Actual results could differ from those estimates.

30
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

- --------------------------------------------------------------------------------
(2) Purchases and Sales of Securities
Purchases and sales of securities, other than short term securities, for the
year ended September 30, 1998 were as follows:

Fund Purchases Sales
- ---------------------------- ----------------- ---------------
Baron Asset Fund $3,196,059,591 $999,128,003
Baron Growth & Income Fund 177,679,342 171,211,697
Baron Small Cap Fund 724,547,007 219,735,797

Transactions in written options for Baron Small Cap Fund during the year ended
September 30, 1998 were as follows:

<TABLE>
<CAPTION>
Number of Contracts Premiums
--------------------- -------------
<S> <C> <C>
Options outstanding at October 1, 1997 0 $ 0
Options written 3,300 432,465
Options expired (3,300) (432,465)
------ ----------
Options outstanding at September 30, 1998 0 $ 0
====== ==========
</TABLE>

- --------------------------------------------------------------------------------
(3) Investment Advisory Fees and Other Transactions with Affiliates
(a) Investment Advisory Fees. BAMCO, Inc. (the "Adviser"), a wholly owned
subsidiary of BCG, serves as investment adviser to the Funds. As compensation
for services rendered, the Adviser receives a fee payable monthly from the
assets of the Funds equal to 1% per annum of each Fund's average daily net
asset value.
(b) Distribution Fees. BCI is a registered broker dealer and the distributor of
the shares of the Funds pursuant to a distribution plan under Rule 12b-1 of the
1940 Act. The distribution plan authorizes the Funds to pay BCI a distribution
fee equal on an annual basis to 0.25% of the Funds' average daily net assets.
Brokerage transactions for the Funds may be effected by or through BCI. During
the year ended September 30, 1998, BCI earned brokerage commissions as follows:
Baron Asset Fund, $4,104,319; Baron Growth & Income Fund, $285,847; and Baron
Small Cap Fund, $1,045,598.
(c) Trustee Fees. Certain Trustees of the Trust may be deemed to be affiliated
with or interested persons (as defined by the 1940 Act)
of the Funds' Adviser or of BCI. None of the Trustees so affiliated received
compensation for his or her services as a Trustee of the Trust. None of the
Funds' officers received compensation from the Funds.
- --------------------------------------------------------------------------------
(4) Post October Losses and Capital Loss Carryforward
Under current tax law, capital losses realized after October 31 may be deferred
and treated as occurring on the first day of the following fiscal year. These
deferrals can be used to offset future capital gains at September 30, 1999. The
Funds also had capital loss carryforwards at September 30, 1998, which can be
used to offset future capital gains.

<TABLE>
<CAPTION>
Post Capital Loss Capital Loss
10/31/97 Carryovers Carryovers
Loss Deferral Expiring 2005 Expiring 2006
--------------- --------------- --------------
<S> <C> <C> <C>
Baron Asset Fund $74,914,959 $686,772 $22,935,119
Baron Growth & Income Fund 6,290,645 -- 262,931
Baron Small Cap Fund 25,943,396 -- --
</TABLE>
<PAGE>

- --------------------------------------------------------------------------------
(5) Borrowings During the year ended September 30, 1998, Baron Growth & Income
Fund borrowed its custodian bank. At September 30, 1998, the loan outstanding
was $8,258,879. The average daily balance of loans outstanding was $3,577,758
at a weighted average interest rate of 6.46%.
- --------------------------------------------------------------------------------
(6) Restricted Securities
A summary of the restricted securities held at September 30, 1998 follows:
BARON ASSET FUND

Acquisition
Name of Issuer Date Value
- ----------------------------------- ------------- --------------
Common Stock (1.72% of Net Assets)
Vail Resorts, Inc. Class A 05/14/98 $75,762,400
(Cost $112,000,000)

- --------------------------------------------------------------------------------
(7) Financial Instruments with Off Balance Sheet Risk
The Funds may maintain positions in derivative financial instruments consisting
of equity options and equity swap contracts. These transactions are subject to
credit risks in addition to the various risks related to the underlying equity
security. Other income is principally ordinary income from equity swap
transactions. The following table indicates the fair value of derivative
financial instruments held or issued at September 30, 1998, and the average
fair value of the instruments, calculated on a monthly basis, during the year
ended September 30, 1998:

FAIR VALUE AT AVERAGE
SEPT 30, 1998 FAIR VALUE
--------------- ----------------------------
Assets Liabilities
BARON ASSET FUND
Equity Swap Contracts $0 $4,885,661 $1,003,127
BARON GROWTH & INCOME FUND
Equity Swap Contracts 0 224,981 368,174
BARON SMALL CAP FUND
Purchased Options 0 1,149,356 0
Written Options 0 0 72,755
Equity Swap Contracts 0 511,248 2,163

31
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

(8) Investment in "Affiliates"*

BARON ASSET FUND

<TABLE>
<CAPTION>
Balance of Gross Gross Sales
Shares Held on Purchases and
Name of Issuer Sept. 30, 1997 and Additions Reductions
- ------------------------------------- ---------------- --------------- -------------
<S> <C> <C> <C>
Alexander's, Inc. 200,000 52,000
AMF Bowling, Inc. 0 9,916,000 21,000
American Mobile Satellite Corp. 3,500,000
Apple Orthodontix, Inc. 20,000 800,000 820,000
Avatar Holdings, Inc. 732,800 41,200
Bristol Hotels & Resorts Co. 3,395,000 977,300 2,181,150
Caliber Learning Network, Inc. 0 1,840,000
CCA Prison Realty Trust 2,455,000 45,000 510,000
Cellular Comm. of P.R., Inc. 1,275,000 2,500
Chartwell Leisure, Inc. 783,000 783,000
Choice Hotels Intl., Inc. 10,421,400 2,599,900
ChoicePoint, Inc. 215,000 802,000 1,700
CoreComm, Ltd. 0 1,272,500
Counsel Corp. 140,000 2,304,500 36,300
Cross Timbers Oil Co. 2,630,000 2,117,500
DeVry, Inc. 1,230,000 3,405,200
Dollar Tree Stores, Inc. 2,060,000 1,630,000
DVI, Inc. 1,458,200 146,800
Education Management Corp. 637,500 242,500
Flextronics Intl. Ltd. 1,370,000 33,000 10,000
HCR Manor Care, Inc. 5,760,000 14,383,600 9,792,900
Heftel Broadcasting Corp. Class A 1,635,000 1,635,000
ITT Educational Services, Inc. 14,000 1,666,100 117,600
Learning Tree Intl., Inc. 1,641,700 4,458,300 2,955,000
Libbey, Inc. 780,000 1,870,000
Metro Networks, Inc. 1,230,000 20,000
NTL, Inc. 1,338,500 1,386,000
OM Group, Inc. 1,100,000 457,500
Pediatric Services of America, Inc. 942,500 150,000 1,092,500
Saga Communications, Inc. Class A 2,318,650 613,352
Seacor Smit, Inc. 490,000 500,000
Smart and Final, Inc. 2,185,000 52,900
Sotheby's Holdings, Inc. Class A 160,000 17,870,000
Stein Mart, Inc. 875,000 1,950,000
Summit Care Corp. 350,600 350,600
Sun Intl. Hotels, Ltd. 1,890,000 985,000
Sunburst Hospitality Corp. 0 3,650,036
The Sports Club Co.+ 0 1,955,000
Vail Resorts, Inc. Class A 3,950,000 5,728,900
Youth Services Intl., Inc. 675,000 88,500 763,500
</TABLE>

<PAGE>

[RESTUBBED TABLE]
<TABLE>
<CAPTION>
Balance of Dividend Realized
Shares Held on Value Income Capital
Name of Issuer Sept. 30, 1998 Sept. 30, 1998 Oct. 1-Sept. 30, 1998 Gains/(Losses)
- ------------------------------------- ---------------- ------------------- ----------------------- -----------------
<S> <C> <C> <C> <C>
Alexander's, Inc. 252,000 $ 19,341,000
AMF Bowling, Inc. 9,895,000 87,199,688 ($ 26,378)
American Mobile Satellite Corp. 3,500,000 18,375,000
Apple Orthodontix, Inc. 0 0** (3,887,932)
Avatar Holdings, Inc. 774,000 14,222,250
Bristol Hotels & Resorts Co. 2,191,150 9,723,228
Caliber Learning Network, Inc. 1,840,000 11,155,000
CCA Prison Realty Trust 1,990,000 35,820,000 $ 3,940,725 (138,906)
Cellular Comm. of P.R., Inc. 1,272,500 14,792,813 (37,813)
Chartwell Leisure, Inc. 0 0** 2,020,284
Choice Hotels Intl., Inc. 13,021,300 165,207,744
ChoicePoint, Inc. 1,015,300 48,861,313 (17,122)
CoreComm, Ltd. 1,272,500 13,838,437
Counsel Corp. 2,408,200 11,137,925 (364,818)
Cross Timbers Oil Co. 4,747,500 71,509,219 682,825
DeVry, Inc. 4,635,200 108,637,500
Dollar Tree Stores, Inc. 3,690,000 115,543,125
DVI, Inc. 1,605,000 23,573,438
Education Management Corp. 880,000 31,240,000
Flextronics Intl. Ltd. 1,393,000 49,364,437 23,522
HCR Manor Care, Inc. 10,350,700 303,404,894 798,129 (9,745,674)
Heftel Broadcasting Corp. Class A 3,270,000 123,442,500
ITT Educational Services, Inc. 1,562,500 50,000,000 233,097
Learning Tree Intl., Inc. 3,145,000 40,295,313 (26,627,614)
Libbey, Inc. 2,650,000 78,175,000 442,913
Metro Networks, Inc. 1,250,000 45,781,250
NTL, Inc. 2,724,500 117,153,500
OM Group, Inc. 1,557,500 43,902,031 440,494
Pediatric Services of America, Inc. 0 0** (17,111,812)
Saga Communications, Inc. Class A 2,932,002 46,179,032
Seacor Smit, Inc. 990,000 41,085,000
Smart and Final, Inc. 2,237,900 15,945,037 556,830
Sotheby's Holdings, Inc. Class A 18,030,000 323,413,125 3,291,300
Stein Mart, Inc. 2,825,000 22,600,000
Summit Care Corp. 0 0** (459,653)
Sun Intl. Hotels, Ltd. 2,875,000 109,070,312
Sunburst Hospitality Corp. 3,650,036 16,425,162
The Sports Club Co.+ 1,955,000 12,218,750
Vail Resorts, Inc. Class A 9,678,900 188,985,469
Youth Services Intl., Inc. 0 0** (4,109,267)
------------- ----------- ------------
$2,427,618,492 $10,153,216 ($ 60,250,086)
============== =========== ============
</TABLE>

*"Affiliated" issuers, as defined in the Investment Company Act of 1940, are
issuers in which Baron Asset Fund held 5% or more of the outstanding voting
securities as of September 30, 1998.
** As of September 30, 1998, no longer an affiliate.
+ Included in miscellaneous holdings.

32
<PAGE>
- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------
(8) Investment in "Affiliates"* (Continued)

BARON SMALL CAP FUND

<TABLE>
<CAPTION>
Balance of Gross Gross Sales
Shares Held on Purchases and
Name of Issuer Sept. 30, 1997 and Additions Reductions
- -------------------------------- ---------------- --------------- -------------
<S> <C> <C> <C>
AVTEAM, Inc. 0 750,000
Career Education Corp. 0 520,000
Equity Marketing, Inc. 0 400,000
International Technology Corp. 0 1,750,000
Mortons Restaurant Group, Inc. 0 350,000
ResortQuest Intl., Inc. 0 825,000

<CAPTION>
Balance of Dividend Realized
Shares Held on Value Income Capital
Name of Issuer Sept. 30, 1998 Sept. 30, 1998 Oct. 1-Sept. 30, 1998 Gains/(Losses)
- -------------------------------- ---------------- ---------------- ----------------------- ---------------
<S> <C> <C> <C> <C>
AVTEAM, Inc. 750,000 $ 4,312,500
Career Education Corp. 520,000 11,375,000
Equity Marketing, Inc. 400,000 2,500,000
International Technology Corp. 1,750,000 11,812,500
Mortons Restaurant Group, Inc. 350,000 7,525,000
ResortQuest Intl., Inc. 825,000 7,270,313
-------------------------------------------------------
$44,795,313 0 0
=======================================================
</TABLE>

*Affiliated issuers, as defined in the Investment Company Act of 1940, are
issuers in which Baron Small Cap Fund held 5% or more of the outstanding voting
securities as of September 30, 1998.

- --------------------------------------------------------------------------------
(9) Financial Highlights

BARON ASSET FUND
Selected data for a share of beneficial interest outstanding throughout each
period:
- --------------------------------------------------------------------------------

<TABLE>
<CAPTION>
Year Ended September 30,
1998 1997 1996 1995 1994
------------- --------------- --------------- ------------- -----------
<S> <C> <C> <C> <C> <C>
Net asset value, beginning of year $ 47.43 $ 35.50 $ 29.30 $ 22.82 $ 21.91
---------- ----------- ----------- --------- --------
Income from investment operations
Net investment income (loss) 0.05 (0.14) (0.06) (0.09) (0.14)
Net realized and unrealized gains (losses) on
investments (7.52) 12.11 6.29 7.23 1.82
---------- ----------- ----------- --------- --------
Total from investment operations (7.47) 11.97 6.23 7.14 1.68
---------- ----------- ----------- --------- --------
Less distributions
Dividends from net investment income 0.00 0.00 0.00 0.00 0.00
Distributions from net realized gains 0.00 (0.04) (0.03) (0.66) (0.77)
---------- ----------- ----------- --------- --------
Total Distributions 0.00 (0.04) (0.03) (0.66) (0.77)
---------- ----------- ----------- --------- --------
Net asset value, end of year $ 39.96 $ 47.43 $ 35.50 $ 29.30 $ 22.82
========== =========== =========== ========= ========
Total Return (15.7%) 33.8% 21.3% 32.3% 8.0%
---------- ----------- ----------- --------- --------
Ratios/Supplemental Data
Net assets (in millions), end of year $ 4,410.5 $ 3,224.5 $ 1,166.1 $ 290.0 $ 80.3
Ratio of expenses to average net assets 1.32% 1.35% 1.40% 1.44% 1.59%
Ratio of net investment income (loss) to
average net assets 0.11% (0.52%) (0.29%) (0.55%) (0.71%)
Portfolio turnover rate 23.43% 13.23% 19.34% 35.15% 55.87%
</TABLE>

<PAGE>

[RESTUBBED TABLE]
<TABLE>
<CAPTION>
Year Ended September 30,
1993 1992 1991 1990 1989 1988
----------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Net asset value, beginning of year $ 16.20 $ 14.80 $ 10.88 $ 17.22 $ 12.98 $ 11.95
-------- -------- -------- -------- -------- --------
Income from investment operations
Net investment income (loss) (0.13) (0.08) 0.07 0.21 0.13 0.05
Net realized and unrealized gains (losses) on
investments 6.00 1.52 4.05 (5.14) 4.81 1.18
-------- -------- -------- -------- -------- --------
Total from investment operations 5.87 1.44 4.12 (4.93) 4.94 1.23
-------- -------- -------- -------- -------- --------
Less distributions
Dividends from net investment income 0.00 (0.04) (0.20) (0.16) (0.05) (0.03)
Distributions from net realized gains ( 0.16) 0.00 0.00 (1.25) (0.65) (0.17)
-------- -------- -------- -------- -------- --------
Total Distributions ( 0.16) ( 0.04) ( 0.20) ( 1.41) ( 0.70) ( 0.20)
-------- -------- -------- -------- -------- --------
Net asset value, end of year $ 21.91 $ 16.20 $ 14.80 $ 10.88 $ 17.22 $ 12.98
======== ======== ======== ======== ======== ========
Total Return 36.5% 9.7% 38.3% (30.7%) 39.9% 10.7%
-------- -------- -------- -------- -------- --------
Ratios/Supplemental Data
Net assets (in millions), end of year $ 59.9 $ 43.8 $ 47.4 $ 40.0 $ 47.7 $ 11.7
Ratio of expenses to average net assets 1.85% 1.68% 1.70% 1.78% 2.06% 2.47%
Ratio of net investment income (loss) to
average net assets ( 0.69%) ( 0.53%) 0.49% 1.53% 1.29% 0.53%
Portfolio turnover rate 107.94% 95.45% 142.73% 97.81% 148.88% 242.40%

</TABLE>

The Fund's adviser and/or Baron Capital reimbursed the Fund for expenses
aggregating $8,561 (less than $0.01 per share) in 1990, $27,315 ($0.01 per
share) in 1989, and $83,219 ($0.11 per share) in 1988. The reimbursement
amounts are excluded from the expense data above.

33
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

- --------------------------------------------------------------------------------
(9) Financial Highlights (continued)
BARON GROWTH & INCOME FUND
Selected data for a share of beneficial interest outstanding throughout each
period:
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Year Ended September 30,
1998 1997 1996 1995*
-------- -------- -------- -------
<S> <C> <C> <C> <C>
Net asset value, beginning of year $ 24.89 $ 18.40 $ 14.77 $ 10.00
-------- -------- -------- -------
Income from investment operations
Net investment income 0.06 0.06 0.11 0.04
Net realized and unrealized gains (losses) on investments (4.56) 6.68 3.66 4.73
-------- -------- -------- -------
Total from investment operations (4.50) 6.74 3.77 4.77
-------- -------- -------- -------
Less distributions
Dividends from net investment income (0.02) (0.09) (0.04) 0.00
Distributions from net realized gains (0.05) (0.16) (0.10) 0.00
-------- -------- -------- -------
Total Distributions (0.07) (0.25) (0.14) 0.00
-------- -------- -------- -------
Net asset value, end of year $ 20.32 $ 24.89 $ 18.40 $ 14.77
======== ======== ======== =======
Total Return (18.1%) 37.1% 25.8% 47.7%
-------- -------- -------- -------
Ratios/Supplemental Data
Net assets (in millions), end of year $ 315.6 $ 390.8 $ 207.2 $ 28.6
Ratio of total expenses to average net assets 1.43% 1.40% 1.54% 1.99%**
Less: Ratio of interest expense to average net assets ( 0.06%) 0.00% 0.00% 0.00%**
-------- -------- -------- -------
Ratio of operating expenses to average net assets 1.37% 1.40% 1.54% 1.99%**
======== ======== ======== =======
Ratio of net investment income to average net assets 0.21% 0.37% 1.20% 1.13%**
Portfolio turnover rate 40.38% 25.17% 40.27% 40.56%
</TABLE>

*For the period January 3, 1995 (commencement of operations) to September 30,
1995.
**Annualized.

The Fund's custodian offset custody fees of $5,252 (less than $.01 per share)
in 1996 and $12,003 (less than $0.01 per share) in 1995. The expense offset
amounts are included in expense data above.

<PAGE>

BARON SMALL CAP FUND
Selected data for a share of beneficial interest outstanding:
- -------------------------------------------------------------
Year Ended September 30,
1998*
--------
Net asset value, beginning of year $ 10.00
--------
Income from investment operations
Net investment loss (0.02)
Net realized and unrealized gains on investments (1.37)
--------
Total from investment operations (1.39)
--------
Less distributions
Dividends from net investment income 0.00
Distributions from net realized gains 0.00
--------
Total Distributions 0.00
--------
Net asset value, end of year $ 8.61
========
Total Return (13.9%)
--------
Ratios/Supplemental Data
Net assets (in millions), end of year $ 403.7
Ratio of expenses to average net assets 1.39%
Ratio of net investment loss to average net assets (0.20%)
Portfolio turnover rate 59.68%

- -----------------------------------------------------------------
* For the period October 1, 1997 (commencement of operations)
to September 30, 1998.

- --------------------------------------------------------------------------------
Additional Information
A list of Baron Asset Fund's miscellaneous security holdings is available upon
request.

34
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------

Report of Independent Accountants
- --------------------------------------------------------------------------------
- ---------------------
TO THE SHAREHOLDERS
AND BOARD OF TRUSTEES OF
BARON ASSET FUND:
- ---------------------
In our opinion, the accompanying statements of assets and liabilities,
including the schedules of investments, and the related statements of
operations and of changes in net assets and financial highlights presents
fairly, in all material respects, the financial position of Baron Asset Fund
(comprising, respectively, Baron Asset Fund, Baron Growth and Income Fund and
Baron Small Cap Fund) (collectively the "Funds"), as of September 30, 1998, the
results of their operations for the years then ended, the changes in each of
their net assets and the financial highlights for periods presented, in
conformity with generally accepted accounting principles. These financial
statements and financial highlights (hereafter referred to as "financial
statements") are the responsibility of the Funds' management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits in accordance with generally accepted
auditing standards which require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audits, which included confirmation of securities at September 30, 1998 by
correspondence with the custodian and brokers, provide a reasonable basis for
the opinion expressed above.
PricewaterhouseCoopers LLP

New York, New York
November 23, 1998

- --------------------------------------------------------------------------------
Any statements contained in this annual report which are not historical facts
are forward-looking statements; and, therefore, many important factors could
cause actual results to differ materially from those in the forward-looking
statements. Such factors include, but are not limited to, changes (legislative
or otherwise) in the industries in which the Funds invest, as well as changes
relating to taxes and mutual funds. The "Investment Policies and Risks" section
of the Prospectus discusses certain factors that could cause actual results to
differ materially from those in such forward-looking statements.

35
<PAGE>

- --------------------------------------------------------------------------------
B A R O N F U N D S
- --------------------------------------------------------------------------------
G R A P H
- --------------------------------------------------------------------------------
Baron Asset Fund

Management Discussion and Analysis

Baron Asset Fund's performance in the fiscal year ended September 1998 was
significantly affected by the bear market in small cap stocks. The Fund lost
15.8% during the year while outperforming the Russell 2000 index, which fell
19.0% during this period. The Fund's loss this year is in sharp contrast to the
Fund's more than ten-year performance record of 19.3% per year prior to 1998.

Baron Asset Fund invests in small and medium sized companies. In the
fifteen-year period since 1983 the performance of market averages that
represent small companies has significantly under-performed market averages
that represent more established, large companies. Small cap stocks suffered one
of their most devastating periods ever relative to large cap stocks in the year
ending September 30, 1998. The S&P 500 gained 9.0% while the Russell 2000 fell
19.0%. The resulting valuations of small cap stocks in general are compelling.
Small cap stocks normally trade at valuations relative to their earnings
substantially above those of large cap stocks reflecting superior growth
expectations. Only twice before have small cap stocks traded at valuations
relative to their earnings equal to large cap companies. In both instances the
attractive valuations led to multi-year small cap rallies. Today, valuations
are once again at those extremely attractive levels.

The Fund's performance was not uniform across the year. Baron Asset Fund
performed extremely well in the first half of the year. The Fund gained 13.3%
and out performed the performance of the Russell 2000, which gained 6.4%. The
Fund performed poorly in the second half of the year losing 25.6% as compared
to a loss for the Russell 2000 of 23.9%.

The performance of Baron Asset Fund was not uniform across sectors. The Fund
realized large losses in Amusement and Recreation, Healthcare Services, Hotels
and Lodging, Real Estate and Retail. The Fund performed well in Communications,
Media and Entertainment and Financial Services.

In fiscal year 1999, the Fund will continue to invest in companies that, in our
opinion, are undervalued relative to their long-term growth prospects and
ability to sustain superior levels of profitability. The companies will
continue to be identified through our independent research efforts. Companies
in which we invest will have the potential to increase in price at least 50%
over the next two years. The Fund will remain diversified not only by industry
and investment theme, but also by external factors we have identified that
could affect company performance. This approach to investing in companies, not
trading of stocks, could allow the Fund to continue to produce above average
rates of return while keeping an attractive risk profile. The extremely
attractive valuation levels of companies within the small cap universe leave us
looking forward to a successful 1999.

36
<PAGE>

Management Discussion and Analysis

Baron Growth & Income Fund's performance in the fiscal year ended September
1998 was significantly affected by the bear market in small cap stocks. The
Fund lost 18.1% during the year as compared to the Russell 2000, which fell
19.0% during this period.

While most growth & income funds invest in larger, more mature companies with
high dividends, Baron Growth & Income Fund's approach is to invest in smaller
companies. Approximately 70% of its assets are invested in rapidly growing,
well managed, very profitable small cap companies that are attractively priced,
and the remaining 30% in value oriented, income producing securities, also
principally of smaller companies. This investment approach has resulted in
superior performance for the period since the Fund's inception in January 1995
until the severe downturn we experienced in the small cap universe earlier this
year. The Fund's ranking within the growth and income category has fallen from
its number one ranking to below average.

The Fund's performance was not uniform across the year. Baron Growth & Income
Fund performed well in the first half of the fiscal year gaining 10.0% and out
performed the performance of the Russell 2000, which gained 6.4%. The Fund
performed poorly in the second half of the fiscal year losing 25.5% as compared
to a loss for the Russell 2000 of 23.9%. The second half results are even more
disappointing because we had expected that the income cushion resulting from
our significant allocation of the Fund in income producing securities would
have cushioned the Fund during adverse market conditions. Unfortunately, the
high concentration of the Fund's assets in REITs within the income producing
component of the Fund also performed poorly at the same time that are small cap
growth companies suffered market declines. Our investment in REITs, which has
in prior years performed better than our expectations and compared well with
other real estate oriented mutual funds, provided no safety in 1998.

The performance of Baron Growth & Income Fund was not uniform across sectors
within the growth component of the Fund. The Fund realized large losses in
Amusement and Recreation, Healthcare Services, Hotels and Lodging and Retail.
The Fund performed relatively well in Communications, Media and Entertainment
and Financial Services.

In fiscal 1999 we expect the majority of the Fund's income producing securities
to remain REITs, which are once again selling on average below replacement
costs. The growth component of the Fund will continue to be invested in small
companies that have the potential to appreciate in value at least 50% during
the next two years. The Fund's portfolio is well positioned to take advantage
of the extremely attractive valuations that now exist within the small cap
universe.

37
<PAGE>

Management Discussion and Analysis

Baron Small Cap's performance in the fiscal year ended September 1998, its
first year of operation, was significantly affected by the bear market in small
cap stocks. The Fund lost 13.9% during the year while significantly
outperforming the Russell 2000 index, which fell 19.0% during this period.

The Fund's performance was not uniform across the year. Baron Small Cap Fund
performed extremely well in each of the first three quarters of the fiscal
year, both on an absolute basis and relative to its small cap peers. During
this nine-month period the Fund gained 19.7% and out performed the performance
of the Russell 2000, which gained only 1.4%. The Fund performed poorly in the
September quarter, losing 28.1% as compared to a loss for the Russell 2000 of
20.2%.

Quarterly Table

Baron Small
Fiscal Year 1997 Cap Fund Rusell 2000
- ---------------------- ------------ ------------
4th Qtr 1997 ......... +3.1% -3.3%
1st Qtr 1998 ......... +14.8% +10.1%
2nd Qtr 1998 ......... +1.1% -4.7%
3rd Qtr 1998 ......... -28.1% -20.2%
Fiscal Year .......... -13.9% -19.0%

The performance of Baron Small Cap Fund was not uniform across sectors. The
Fund realized large losses in Amusement and Recreation, Business Services,
Hotels and Lodging, Manufacturing and Retail. The Fund performed well in the
areas of Communications, and Media and Entertainment.

In fiscal year 1999, the Fund will continue to invest in companies that, in our
opinion, are undervalued relative to their long-term growth prospects and
ability to sustain superior levels of profitability. The companies will
continue to be identified through our independent research efforts. Companies
in which we invest will have the potential to increase in price at least 50%
over the next two years. The Fund will continue to invest in smaller "Growth
Companies", "Fallen Angels" and "Special Situations". The extremely attractive
valuation levels of companies within the small cap universe leave us looking
forward to a successful 1999.

<PAGE>
GRAPHIC -------------------
FIRST CLASS MAIL
BARON U.S. POSTAGE PAID
FUNDS BERGENFIELD, NJ
Permit No. 81
767 Fifth Avenue -------------------
NY, NY 10153

4QR98