<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JANUARY 30, 1997
SECURITIES ACT FILE NO. 333-
INVESTMENT COMPANY ACT FILE NO. 811-5557
==============================================================================
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
FORM N-2
REGISTRATION STATEMENT UNDER
THE SECURITIES ACT OF 1933 [X]
PRE-EFFECTIVE AMENDMENT NO. [ ]
POST-EFFECTIVE AMENDMENT NO. [ ]
AND/OR
REGISTRATION STATEMENT UNDER
THE INVESTMENT COMPANY ACT OF 1940 [X]
AMENDMENT NO. 15 [X]
(CHECK APPROPRIATE BOX OR BOXES)
----------------
PROSPECT STREET HIGH INCOME PORTFOLIO INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN CHARTER)
60 State Street, Boston, Massachusetts 02109
(Address of Principal Executive Offices)
Registrant's Telephone Number, including Area Code: (617) 742-3800
----------------
RICHARD E. OMOHUNDRO, JR., PRESIDENT
PROSPECT STREET HIGH INCOME PORTFOLIO INC.
60 STATE STREET, BOSTON, MASSACHUSETTS 02109
(NAME AND ADDRESS OF AGENT FOR SERVICE)
----------------
With copies to:
LAURENCE E. CRANCH, ESQ. THOMAS A. HALE, ESQ.
G. DAVID BRINTON, ESQ. SKADDEN, ARPS, SLATE, MEAGHER & FLOM
ROGERS & WELLS 333 WEST WACKER DRIVE
200 PARK AVENUE, NEW YORK, NEW YORK 10166 SUITE 2100
CHICAGO, ILLINOIS 60606
----------------
APPROXIMATE DATE OF PROPOSED PUBLIC OFFERING:
As soon as practicable after the effective date of this Registration
Statement.
If any securities being registered on this form will be offered on a delayed
or continuous basis in reliance on Rule 415 under the Securities Act of 1933,
other than securities offered in connection with a dividend reinvestment plan,
check the following box. [ ]
CALCULATION OF REGISTRATION FEE UNDER THE SECURITIES ACT OF 1933
==============================================================================
PROPOSED PROPOSED
MAXIMUM MAXIMUM
OFFERING AGGREGATE AMOUNT OF
TITLE OF SECURITIES AMOUNT BEING PRICE OFFERING REGISTRATION
BEING REGISTERED REGISTERED PER SHARE(1) PRICE(1) FEE
- ------------------------------------------------------------------------------
Common Stock, $.01
Par Value 13,000,000 shares $3.9375(2) $51,187,500(2) $15,512
==============================================================================
(1) Estimated solely for purposes of calculating the registration fee in
accordance with Rule 457(c) under the Securities Act of 1933.
(2) Based on the average of the high and low sales prices reported on the New
York Stock Exchange on January 27, 1997.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING
PURSUANT TO SAID SECTION 8(A), MAY DETERMINE.
==============================================================================
<PAGE>
PROSPECT STREET HIGH INCOME PORTFOLIO INC.
FORM N-2
CROSS-REFERENCE SHEET
PARTS A AND B OF THE PROSPECTUS*
<TABLE>
<CAPTION>
ITEMS IN PARTS A AND B OF FORM N-2 LOCATION IN PROSPECTUS
---------------------------------- ----------------------
<S> <C>
1. Outside Front Cover ........................ Outside Front Cover Page of Prospectus
2. Inside Front and Outside Back Cover Page ... Outside Front Cover Page of Prospectus; Inside Front
and Outside Back Cover Page of Prospectus
3. Fee Table and Synopsis ..................... Fee Table; Prospectus Summary
4. Financial Highlights ....................... Financial Highlights
5. Plan of Distribution ....................... Outside Front Cover Page of Prospectus; Prospectus
Summary; The Offer
6. Selling Stockholders ....................... Not Applicable
7. Use of Proceeds ............................ Use of Proceeds; Investment Policies and Limitations
8. General Description of the Registrant ...... Outside Front Cover Page of Prospectus; Prospectus
Summary; The Fund; Investment Policies and
Limitations; Risk Factors and Special
Considerations; Financial Highlights; Description
of Capital Stock; Surety Arrangement for Preferred
Shares; Description of Notes
9. Management ................................. Prospectus Summary; The Investment Adviser;
Directors and Officers; Portfolio Trading;
Description of Capital Stock; Surety Arrangement
for Preferred Shares; Description of Notes;
Custodian, Transfer Agent, Dividend Disbursing
Agent, Paying Agents and Registrars
10. Capital Stock, Long-Term Debt, and Other
Securities ................................. Description of Capital Stock; Surety Arrangement for
Preferred Shares; Description of Notes; Federal
Taxation; Investment Policies and Limitations;
Dividends and Distributions; Dividend Reinvestment
Plan; Financial Highights
11. Defaults and Arrears on Senior Securities .. Not Applicable
12. Legal Proceedings .......................... Not Applicable
13. Table of Contents of the Statement of
Additional Information ..................... Not Applicable
14. Cover Page ................................. Not Applicable
15. Table of Contents .......................... Not Applicable
16. General Information and History ............ Prospectus Summary; The Fund
17. Investment Objective and Policies .......... Prospectus Summary; Investment Policies and
Limitations; Portfolio Trading
18. Management ................................. Prospectus Summary; The Investment Adviser;
Directors and Officers
19. Control Persons and Principal Holders of
Securities ................................. Directors and Officers
20. Investment Advisory and Other Services ..... Prospectus Summary; The Investment Adviser;
Custodian, Transfer Agent, Dividend Disbursing
Agent, Paying Agents and Registrars; Experts
21. Brokerage Allocation and Other Practices ... Portfolio Trading
22. Tax Status ................................. Federal Taxation
23. Financial Statements ....................... Financial Statements
----------
*Pursuant to Part B: Statement of Additional Information, all information
required to be set forth in Part B has been included in Part A.
Information required to be included in Part C is set forth under the
appropriate item, so numbered in Part C to this Registration Statement.
</TABLE>
<PAGE>
SUBJECT TO COMPLETION, DATED JANUARY 30, 1997
PROSPECT STREET(R) HIGH INCOME PORTFOLIO INC.
10,323,590 SHARES OF COMMON STOCK
ISSUABLE UPON EXERCISE OF
RIGHTS TO SUBSCRIBE FOR SUCH SHARES
Prospect Street(R) High Income Portfolio Inc. (the "Fund") is issuing to
its shareholders of record ("Record Date Shareholders"), as of the close of
business on , 1997 (the "Record Date"), non-transferable rights
("Rights") entitling the holders thereof to subscribe for an aggregate of
10,323,590 shares (the "Shares") of the Fund's Common Stock, par value $0.01 per
share (the "Common Stock"), at the rate of one share of Common Stock for every
three Rights held (the "Offer"). Record Date Shareholders will receive one Right
for each whole share of Common Stock held on the Record Date, and shareholders
who fully exercise their Rights will be entitled to subscribe for additional
shares of Common Stock pursuant to the Over-Subscription Privilege described
herein. The Fund may increase the number of shares of Common Stock subject to
subscription by up to 25% of the Shares, or up to an additional 2,580,897 shares
of Common Stock, for an aggregate total of 12,904,487 Shares. Fractional shares
will not be issued upon the exercise of Rights. The Rights are non-transferable
and, therefore, may not be purchased or sold. The Rights will not be admitted
for trading on the New York Stock Exchange (the "Exchange") or any other
securities exchange. See "The Offer." THE SUBSCRIPTION PRICE PER SHARE (THE
"SUBSCRIPTION PRICE") WILL BE % OF THE LOWER OF (i) THE AVERAGE OF THE LAST
REPORTED SALES PRICE OF A SHARE OF THE FUND'S COMMON STOCK ON THE EXCHANGE ON
THE DATE OF THE EXPIRATION OF THE OFFER (THE "PRICING DATE") AND ON THE FOUR
PRECEDING BUSINESS DAYS AND (ii) THE NET ASSET VALUE PER SHARE AS OF THE PRICING
DATE.
THE OFFER WILL EXPIRE AT 5:00 P.M., NEW YORK CITY TIME, ON , 1997
UNLESS EXTENDED AS DESCRIBED HEREIN (THE "EXPIRATION DATE").
Shares of the Fund's Common Stock trade on the Exchange under the symbol
"PHY." The Shares issued pursuant to the Offer will be listed for trading on the
Exchange, subject to notice of issuance.
Upon completion of the Offer, shareholders who do not fully exercise their
Rights will own a smaller proportional interest in the Fund than they owned
prior to the Offer. In addition, because the Subscription Price per Share will
be less than the net asset value per share on the Pricing Date, the completion
of the Offer will result in an immediate dilution of net asset value per share
for all shareholders. Such dilution will disproportionately affect non-
exercising shareholders. Such dilution is not currently determinable because it
is not known what the net asset value per share will be on the Pricing Date,
what proportion of the Shares will be subscribed for or what the Subscription
Price will be. If the Subscription Price per Share is substantially less than
the net asset value per share on the Pricing Date, such dilution could be
substantial. See "Risk Factors and Special Considerations -- Dilution" and "The
Offer -- Terms of the Offer." Except as described herein, shareholders will have
no rights to rescind their subscriptions after receipt of their payment for
Shares by the Subscription Agent (as defined herein).
The Fund is a diversified, closed-end management investment company with a
leveraged capital structure. The Fund's use of leverage creates the opportunity
for greater total returns but at the same time involves certain substantial
risks. See "The Fund" and "Risk Factors and Special Considerations -- Risk of
Leverage." The Fund's investment objective is to provide high current income,
while seeking to preserve shareholders' capital, through investment in a
professionally managed, diversified portfolio of "high-yield," high risk
securities (commonly referred to as "junk bonds"). INVESTMENTS IN HIGH-YIELD,
HIGH RISK SECURITIES ENTAIL RISKS THAT ARE DIFFERENT AND MORE PRONOUNCED THAN
THOSE INVOLVED IN HIGHER-RATED SECURITIES. AN INVESTMENT IN THE FUND IS NOT
APPROPRIATE FOR ALL INVESTORS, AND NO ASSURANCE CAN BE GIVEN THAT THE FUND WILL
ACHIEVE ITS INVESTMENT OBJECTIVE. SEE "RISK FACTORS AND SPECIAL CONSIDERATIONS."
Prospect Street(R) Investment Management Co., Inc. (the "Investment Adviser")
has served as the Fund's investment adviser since the Fund's inception in 1988.
The Investment Adviser will benefit from the Offer because its fees are based on
the average managed assets of the Fund. See "The Investment Adviser."
This Prospectus sets forth concisely the information about the Fund that a
prospective investor ought to know before investing. Investors are advised to
read this Prospectus and to retain it for future reference.
(continued on following page)
--------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE
SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR
HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION
PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
================================================================================
ESTIMATED ESTIMATED ESTIMATED
SUBSCRIPTION PRICE(1) SALES LOAD(2) PROCEEDS TO FUND(3)(4)
- --------------------------------------------------------------------------------
Per Share ....... $ $ $
- --------------------------------------------------------------------------------
Total Maximum(5) $ $ $
- --------------------------------------------------------------------------------
(footnotes on following page)
--------------------
PaineWebber Incorporated
--------------------
The date of this Prospectus is , 1997.
[red herring legend]
Information contained herein is subject to completion or amendment. A
Registration Statement relating to these securities has been filed with the
Securities and Exchange Commission. These securities may not be sold nor may
offers to buy be accepted prior to the time the Registration Statement becomes
effective. This Prospectus shall not constitute an offer to sell or the
solicitation of an offer to buy nor shall there be any sale of these
securities in any State in which such offer, solicitation or sale would be
unlawful prior to registration or qualification under the securities laws of
any such state.
(continued from cover page)
All questions and inquiries relating to the Offer should be directed to the
Information Agent, Corporate Investor Communications, Inc., 111 Commerce Road,
Carlstadt, New Jersey 07072-2586, toll-free at (800) 242- 4410. The Fund's
address is 60 State Street, Boston, Massachusetts 02109, and its telephone
number is (617) 742-3800.
The Fund announced its intention to make the Offer after the close of
trading on the Exchange on , 1997. The net asset value per share of the Fund's
Common Stock at the close of business on , 1997 (the last trading date on which
the Fund publicly reported its net asset value prior to the announcement of the
Offer) and on , 1997 (the last trading date on which the Fund publicly reported
its net asset value prior to the Record Date of the Offer) was $ and $ ,
respectively, and the last reported sale price of a share of the Fund's Common
Stock on the Exchange on those dates was $ and $ , respectively.
In the case of shares held of record by Cede & Co. ("Cede"), the nominee
for The Depository Trust Company ("DTC"), or any other depository or nominee,
beneficial owners for whom Cede or any other depository or nominee is the holder
of record will be deemed to be the holders of the Rights that are issued to Cede
or such other depository or nominee on their behalf.
--------------------
(footnotes from cover page)
(1) Estimated on the basis of % of the net asset value per share of the Fund's
Common Stock on , 1997.
(2) In connection with the Offer, the Fund has agreed to pay PaineWebber
Incorporated (the "Dealer Manager"), and other broker-dealers soliciting the
exercise of Rights, solicitation fees equal to 2.50% of the Subscription
Price per Share for each Share issued pursuant to the exercise of the Rights
and the Over-Subscription Privilege. The Fund has also agreed to pay the
Dealer Manager a fee for financial advisory and marketing services in
connection with the Offer equal to 1.25% of the aggregate Subscription Price
for the Shares issued pursuant to the exercise of the Rights and the
Over-Subscription Privilege. The Fund and the Investment Adviser have agreed
to indemnify the Dealer Manager and each Soliciting Dealer against certain
liabilities under the Securities Act of 1933, as amended.
(3) Before deduction of offering expenses incurred by the Fund, estimated at
$ , which includes up to $100,000 to be paid to the Dealer Manager as
partial reimbursement for its expenses relating to the Offer.
(4) Funds received by check prior to the final due date of this Offer will be
deposited into a segregated interest-bearing account (which interest will
accrue to the benefit of the Fund) pending proration and distribution of the
Shares.
(5) Assumes all 10,323,590 Shares are purchased at the Estimated Subscription
Price (as defined herein). Pursuant to the Over-Subscription Privilege, the
Fund may at the discretion of the Board of Directors increase the number of
Shares subject to subscription by up to 25% of the Shares offered hereby. If
the Fund increases the number of Shares subject to subscription by 25%, the
total maximum Estimated Subscription Price, Estimated Sales Load and
Estimated Proceeds to Fund will be $ , $ and
$ , respectively.
--------------------
Certain numbers in the Prospectus have been rounded for ease of
presentation, and, as a result, may not total precisely.
<PAGE>
PROSPECTUS SUMMARY
The following is qualified in its entirety by the more detailed information
included elsewhere in this Prospectus.
PURPOSE OF THE OFFER
The Board of Directors of Prospect Street High Income Portfolio Inc. (the
"Fund") has determined that it would be in the best interests of the Fund and
its shareholders to increase the assets of the Fund available for investment so
that the Fund will be in a better position to take advantage of available
investment opportunities and increase the diversification of its portfolio.
Prospect Street(R) Investment Management Co., Inc (the "Investment Adviser")
informed the Board of Directors of the Fund that the Investment Adviser believes
the "high-yield" bond market currently has attractive investment opportunities
and that, under current market conditions, the net proceeds of the Offer (as
defined below) could be invested at or about the same rate of return that the
Fund is currently earning while achieving certain other net benefits to the
Fund. The Board of Directors noted that an increase in the Fund's assets
pursuant to the Offer will have the immediate effect of strengthening the Fund's
current common equity capital relative to its outstanding leverage. The Board of
Directors believes that increasing the Fund's assets will provide the Fund with
additional flexibility in connection with the Fund's leverage, including its
ability to increase the Fund's existing leverage and renegotiate or refinance
that portion of the Fund's leverage that comes due in 1998. In addition, the
Board of Directors believes that increasing the size of the fund may lower the
Fund's expenses as a proportion of average net assets, including the fees of the
Investment Adviser which may also be reduced in accordance with the terms of the
Advisory Agreement (as defined herein), and may enhance the liquidity of its
shares on the New York Stock Exchange (the "Exchange"). The Board of Directors
also considered the impact of the Offer on its current distribution policy to
maintain, subject to market conditions, a relatively stable level of
distributions and, based upon information provide by the Investment Adviser and
current market conditions, believes that the Offer will not result in a change
in the Fund's current level of dividends. For a further discussion of the
anticipated impact of the Offer on the Fund's dividends, please refer to "Risk
Factors and Special Considerations -- Dividends and Distributions."
In determining that the Offer was in the best interests of the Fund and its
shareholders, the Board of Directors retained PaineWebber Incorporated
("PaineWebber" or the "Dealer Manager") to provide the Fund with financial
advisory and marketing services relating to the Offer, including the structure,
timing and terms of the Offer. In addition to the foregoing, the Board of
Directors considered, among other things, the benefits and drawbacks of
conducting a non-transferable versus a transferable rights offering, the effect
on the Fund if the Offer is under-subscribed and the experience of PaineWebber
as a dealer manager in conducting rights offerings.
TERMS OF THE OFFER
The Fund is issuing to its shareholders of record ("Record Date
Shareholders") as of the close of business on , 1997 (the "Record Date"),
non-transferable rights ("Rights") entitling the holders thereof to subscribe
for an aggregate of 10,323,590 shares (the "Shares") of the Fund's Common Stock,
par value of $.01 per share (the "Common Stock") (12,904,487 Shares if the Fund
increases the number of shares of Common Stock available by up to 25% in
connection with the Over-Subscription Privilege described below) (the "Offer").
Each Shareholder is being issued one Right for each whole share of Common Stock
owned on the Record Date. The Rights entitle the holders thereof to subscribe
for one Share for every three Rights held (1 for 3). Fractional shares will not
be issued upon the exercise of Rights. Accordingly, Shares may be purchased in
the Primary Subscription (as described below) only pursuant to the exercise of
Rights in integral multiples of three. Record Date Shareholders who fully
exercise all Rights issued to them may request additional Shares pursuant to the
Over-Subscription Privilege as described below. Rights may be exercised at any
time during the subscription period (the "Subscription Period"), which commences
on , 1997 and ends at 5:00 P.M., New York City time, on , 1997
(referred to herein as the "Expiration Date"), unless extended by the Fund until
5:00 P.M., New York City time, to a date not later than , 1997. A
shareholder's right to acquire Shares during the Subscription Period at the
Subscription Price (as defined below) of one additional Share for every three
Rights issued to such shareholder is referred to herein as the "Primary
Subscription." The Rights are evidenced by Subscription Certificates
("Subscription Certificates") that will be mailed to Record Date Shareholders,
except as discussed below under "Foreign Restrictions."
Since fractional shares will not be issued, shareholders who receive or have
remaining fewer than three Rights will be unable to purchase a Share upon the
exercise of such remaining Rights and will not be entitled to receive any cash
in lieu thereof. Such shareholders may, however, request additional Shares
pursuant to the Over-Subscription Privilege (as described below).
The first regular monthly dividend to be paid on Shares acquired upon
exercise of Rights will be the first monthly dividend, the record date for which
occurs after the issuance of such shares following the Expiration Date. It is
the Fund's present policy to pay dividends on the last business day of each
month to shareholders of record seven days prior to the payment date. Assuming
the Subscription Period is not extended beyond , 1997, it is expected
that the first dividend received by shareholders acquiring Shares in the Offer
will be paid on the last business day of , 1997.
OVER-SUBSCRIPTION PRIVILEGE
Record Date Shareholders who fully exercises all Rights issued to them are
entitled to subscribe for those Shares which were not otherwise subscribed for
by others in the Primary Subscription (the "Over-Subscription Privilege"). If
sufficient Shares remain after completion of the Primary Subscription, all
over-subscription requests will be honored in full. If sufficient Shares are not
available after completion of the Primary Subscription to honor all over-
subscription requests, the Fund may, at the discretion of the Board of Directors
of the Fund, issue shares of Common Stock up to an additional 25% of the Shares
available pursuant to the Offer (up to an additional 2,580,897 Shares) in order
to cover such over-subscription requests. Regardless of whether the Fund issues
such additional Shares, and to the extent Shares are not available to honor all
over-subscription requests, the available Shares will be allocated among those
who over-subscribe so that the number of Shares issued to such shareholders will
generally be in proportion to the number of shares of Common Stock owned by such
shareholders on the Record Date. The allocation process may involve a series of
allocations in order to assure that the total number of Shares available for
over-subscription is distributed on a pro rata basis. See "The Offer -- Over-
Subscription Privilege."
Banks, brokers, trustees and other nominee holders of Rights will be
required to certify to the Subscription Agent (as defined herein) before any
Over-Subscription Privilege may be exercised with respect to any particular
beneficial owner, as to the aggregate number of Rights exercised pursuant to the
Primary Subscription and the number of Shares subscribed for pursuant to the
Over-Subscription Privilege by such beneficial owner and that such beneficial
owner's Primary Subscription was exercised in full. Nominee Holder
Over-Subscription Forms and Beneficial Owner Certificate Forms will be
distributed to banks, brokers, trustees and other nominee holders with the
Subscription Certificates.
The Fund will not offer or sell in connection with the Offer any Shares that
are not subscribed for pursuant to the Primary Subscription or the Over-
Subscription Privilege.
SUBSCRIPTION PRICE
The Subscription Price per Share ("Subscription Price") will be % of the
lower of (i) the average of the last reported sales price of a share of the
Fund's Common Stock on the Exchange on the expiration of the Offer (the "Pricing
Date") and the four preceding Business Days (as defined below) and (ii) the net
asset value per share as of the Pricing Date. "Business Day" means a day on
which the Exchange is open for trading and which is not a Saturday or Sunday or
a holiday, including New Year's Day, Martin Luther King, Jr. Day, Presidents'
Day, Good Friday, Patriots' Day, Memorial Day, Bunker Hill Day, Independence
Day, Labor Day, Columbus Day, Thanksgiving Day, Christmas Day or any other day
on which banks in New York City or Boston are authorized or obligated by law or
executive order to close.
NON-TRANSFERABILITY OF RIGHTS
The Rights are non-transferable and, therefore, may not be purchased or
sold. The Rights will not be listed for trading on the Exchange or any other
securities exchange. However, the Shares to be issued pursuant to the Offer will
be listed for trading on the Exchange, subject to notice of issuance.
METHOD FOR EXERCISING RIGHTS
Rights are evidenced by Subscription Certificates that, except as described
below under "Foreign Restrictions," will be mailed to Record Date Shareholders
or, if a shareholder's shares of Common Stock are held by Cede & Co. ("Cede"),
as nominee for The Depository Trust Company ("DTC"), or any other depository or
nominee on their behalf, to Cede or such depository or nominee. Rights may be
exercised by completing and signing the Subscription Certificate that
accompanies this Prospectus and mailing it in the envelope provided, or
otherwise delivering the completed and signed Subscription Certificate to the
Subscription Agent, together with payment in full for the Shares at the
Estimated Subscription Price (as defined below). Rights may also be exercised by
contacting your broker, banker or trust company, which can arrange, on your
behalf, to guarantee delivery of payment and delivery of a properly completed
and executed Subscription Certificate pursuant to a Notice of Guaranteed
Delivery ("Notice of Guaranteed Delivery"). A fee may be charged for this
service. Fractional shares will not be issued and shareholders who receive or
who have remaining fewer than three Rights will not be able to purchase a Share
upon the exercise of such remaining Rights and will not be entitled to receive
any cash in lieu thereof. Such shareholders may, however, request additional
Shares pursuant to the Over-Subscription Privilege. Completed Subscription
Certificates must be received by the Subscription Agent prior to 5:00 P.M., New
York City time, on the Expiration Date at one of the addresses set forth herein
(unless the guaranteed delivery procedures are complied with as described below
under the heading "The Offer -- Payment for Shares").
OFFERING FEES AND EXPENSES
The Fund has agreed to pay the Dealer Manager a fee for financial advisory
and marketing services equal to 1.25% of the aggregate Subscription Price for
Shares issued pursuant to the exercise of the Rights and pursuant to the
Over-Subscription Privilege, and the Fund has also agreed to pay broker-dealers,
including the Dealer Manager, fees for their solicitation efforts ("Solicitation
Fees") of 2.50% of the Subscription Price per Share for each Share issued
pursuant to the exercise of the Rights and pursuant to the Over-Subscription
Privilege as a result of their soliciting efforts. Solicitation Fees will be
paid to the broker-dealer designated on the applicable portion of the
Subscription Certificates or, in the absence of such designation, to the Dealer
Manager. See "The Offer -- Distribution Arrangements." Other offering expenses
incurred by the Fund are estimated at $ , which includes up to $100,000
that may be paid to the Dealer Manager as partial reimbursement for its expenses
relating to the Offer.
FOREIGN RESTRICTIONS
Subscription Certificates will not be mailed to Record Date Shareholders
whose record addresses are outside the United States (the term "United States"
includes the District of Columbia and the territories and possessions of the
United States) ("Foreign Record Date Shareholders"). Foreign Record Date
Shareholders will receive written notice of the Offer. The Rights to which such
Subscription Certificates relate will be held by the Subscription Agent for such
Foreign Record Date Shareholders' accounts until instructions are received to
exercise the Rights. If no instructions have been received by the Expiration
Date, the Rights of those Foreign Record Date Shareholders will expire.
USE OF PROCEEDS
Based on the estimated Subscription Price of $ per Share (based upon
% of the net asset value per share on , 1997) (the "Estimated
Subscription Price"), the net proceeds of the Offer, assuming 10,323,590 Shares
offered hereby are sold, are estimated to be approximately $ , after
deducting offering expenses payable by the Fund estimated at approximately $ .
If the Fund increases the number of Shares subject to subscription by up to 25%,
or 2,580,897 Shares, in order to satisfy over-subscription requests, the
additional net proceeds to the Fund will be approximately $ . The Investment
Adviser anticipates, based upon current market conditions, that investment of
such proceeds in accordance with the Fund's investment objective and policies
will take up to thirty days from their receipt by the Fund, depending on market
conditions and the availability of appropriate securities for purchase, but in
no event will such investment take longer than six months. Pending such
investment in accordance with the Fund's investment objective and policies, the
proceeds will be held in U.S. Government securities (which term includes
obligations of the United States Government, its agencies or instrumentalities)
and other high-quality short-term money market instruments.
INFORMATION AGENT
Any questions or request for assistance concerning the method of subscribing
for Shares or for additional copies of this Prospectus or Subscription
Certificates or Notices of Guaranteed Delivery may be directed to the
Information Agent at its telephone number and address listed below.
Information Agent for the Offer is:
Corporate Investor Communications, Inc.
111 Commerce Road
Carlstadt, New Jersey 07072-2586
Toll Free: (800) 958-6468
Shareholders may also contact their brokers or nominees for information with
respect to the Offer.
<PAGE>
IMPORTANT DATES TO REMEMBER
EVENT DATE
- ----- ---------------------
Record Date ........................................... , 1997
Subscription Period ................................... , 1997
to , 1997*
Expiration Date and Pricing Date ...................... , 1997*
Subscription Certificates and Payment for Shares Due+.. , 1997*
Notice of Guaranteed Delivery Due+ , 1997*
Payment for Guarantees of Delivery Due ................ , 1997*
Confirmation to Participants .......................... , 1997*
Final Payment for Shares .............................. , 1997*
- ------------
*Unless the Offer is extended to a date not later than , 1997.
+A shareholder exercising Rights must deliver either (i) a Subscription
Certificate and payment for Shares or (ii) a Notice of Guaranteed Delivery by
, 1997.
INFORMATION REGARDING THE FUND
The Fund has been engaged in business as a diversified, closed-end
management investment company since 1988. The Fund's investment objective is to
provide high current income, while seeking to preserve shareholders' capital,
through investment in a professionally managed, diversified portfolio of
"high-yield," high risk securities (commonly referred to as "junk bonds"). The
Fund seeks to achieve its objective of preserving shareholder's capital through
careful selection of the Fund's "high-yield," high risk investments, portfolio
diversification, and portfolio monitoring and repositioning. However, in the
severe adverse interest rate and economic environment of 1989 and 1990 the Fund
suffered a substantial decline in its net asset value and thus failed to meet
that objective during that period. Given the nature of the Fund's investments
and its leverage, it may be extremely difficult to achieve this objective on a
consistent basis in the future. See "Investment Policies and Limitations."
The Fund invests primarily in fixed-income securities rated in the lower
categories by established rating agencies (consisting principally of
fixed-income securities rated "BB" or lower by Standard & Poor's Ratings Group
("S&P") and "Ba" or lower by Moody's Investors Service, Inc. ("Moody's," and
together with S&P, the "Rating Agencies")), or nonrated fixed-income securities
deemed by the Investment Adviser to be of comparable quality. Such securities
are regarded by the Rating Agencies, on balance, as predominantly speculative
with respect to capacity to pay interest and repay principal in accordance with
the terms of the obligation. In addition to investing in "high-yield," high risk
securities, the Fund may engage in certain options activities, the lending of
portfolio securities, and the use of futures contracts and options thereon,
reverse repurchase agreements and repurchase agreements. See "Investment
Policies and Limitations." Lower rated and nonrated securities are subject to a
greater degree of risk than higher rated securities. See "Risk Factors and
Special Considerations."
The Fund completed an initial public offering of 13,000,000 shares of its
Common Stock in November 1988, raising approximately $119.0 million.
Concurrently with its initial public offeing, the Fund issued $50,000,000
aggregate principal amount of Senior Extendible Notes (the "Senior Extendible
Notes"), and 300 shares of Taxable Auction Rate Preferred Stock(R), no par value
per share, liquidation preference $100,000 per share ("Preferred Shares").
During the fiscal years ended October 31, 1990 and 1991 the Fund repurchased
$45,000,000 of its Senior Extendible Notes. In July 1993, the Fund repurchased
the remaining $5,000,000 of Senior Extendible Notes then outstanding, and
thereafter issued, in a private placement, $20,000,000 of new Senior Notes
payable December 1, 1998 (the "Notes"), and redeemed 100 Preferred Shares,
leaving 200 Preferred Shares outstanding.
The Offer is the Fund's first non-transferable rights offering. The Fund
completed transferable rights offerings on June 21, 1996, March 4, 1993 and
November 23, 1993 which permitted shareholders to acquire, at a subscription
price of $3.81, $3.80 and $3.60, respectively, one new share for each three
rights held as of the record date of such rights offerings. Approximately 61% of
the rights issued by the Fund pursuant to the rights offering completed in June
1996 were exercised and, as a result, 5,393,885 new shares of Common Stock were
issued in June 1996 with net proceeds to the Fund of approximately $19.5
million. All of the rights issued by the Fund pursuant to the rights offerings
completed in March 1993 and November 1993 were exercised and, as a result,
4,625,000 new shares of Common Stock were issued in March 1993 with net proceeds
to the Fund of approximately $16.7 million and 6,210,000 new shares of Common
Stock were issued in December 1993 with net proceeds to the Fund of
approximately $21.3 million. All of the net proceeds from the exercise of the
rights issued pursuant to the prior rights offerings have been invested in new
securities in accordance with the Fund's investment objective.
At the date hereof, the Fund does not intend to add incremental leverage to
the Fund following the completion of the Offer. Accordingly, the percentage of
the Fund's assets representing leverage will decrease upon completion of the
Offer. The Fund anticipates that it will renegotiate the terms of its
outstanding leverage in 1998. Management of the Fund believes that by not adding
incremental leverage permitted under the Investment Company Act of 1940, as
amended (the "1940 Act"), the Fund will enhance its ability to negotiate the
terms of any refinancing of its existing leverage. However, the Fund reserves
the right at any time, if it believes that market conditions are appropriate, to
increase its level of debt or other senior securities to maintain or increase
the Fund's current level of leverage to the extent permitted under the 1940 Act
and existing agreements between the Fund and third parties.
The Fund's outstanding Common Stock, par value $0.01 per share, is listed
and traded on the Exchange. The average weekly trading volumes of the Fund's
shares of Common Stock on the Exchange for the Fund's fiscal years ended October
31, 1994, 1995 and 1996 were 290,115 shares, 187,338 shares and 272,206 shares,
respectively. As of January 17, 1997, the Fund had 30,970,768 shares of Common
Stock outstanding and net assets applicable to Common Stock of approximately
$122.3 million. The Fund's Preferred Shares and Notes are not traded on any
securities exchange.
The Fund's investments are subject to diversification, liquidity and related
investment guidelines (i) established in connection with the issuance of the
Notes and the Fund's receipt from Fitch Investors Service, Inc. of a rating of
"Aaa" for the Notes (the "Notes Investment Guidelines") and (ii) agreed upon by
the Fund and Financial Security Assurance Inc. ("Financial Security") in
connection with the issuance of the Surety Bond (as defined herein) with respect
to Scheduled Payments (as defined herein) on the Preferred Shares (the "Surety
Investment Guidelines" and, together with the Notes Investment Guidelines, the
"Investment Guidelines"). See "Investment Policies and Limitations -- Investment
Guidelines." Fitch Investors Service, Inc. issued a rating of "Aaa" for the
Notes because the Fund's portfolio, although consisting principally of lower
rated securities, is managed in accordance with the Notes Investment Guidelines
which are designed to ensure that assets underlying the Notes will be
sufficiently diversified and will be of sufficient credit quality and amount to
justify an investment grade rating of "Aaa." As a result of the issuance of the
Surety Bond pursuant to an insurance agreement with Financial Security (the
"Surety Arrangement"), the Fund receives ratings from the Rating Agencies of
"AAA"/"Aaa" for the Preferred Shares. See "Description of Notes -- Asset
Maintenance" and "Surety Arrangement for Preferred Shares -- Insurance
Agreement."
INFORMATION REGARDING THE INVESTMENT ADVISER
Prospect Street(R) Investment Management Co., Inc., an investment adviser
registered under the U.S. Investment Advisers Act of 1940, has served as
investment adviser to the Fund since its inception. The Investment Adviser was
organized in June 1988 to provide institutional clients with investment
management services.
Richard E. Omohundro, Jr., Co-President of the Investment Adviser, served as
a "high-yield" specialist and Co-Manager of the High-yield Bond Group of Merrill
Lynch Capital Markets ("Merrill Lynch") from 1978 through 1987. During that
period, the High-yield Bond Group raised approximately $13.6 billion in new
"high-yield" securities through 107 issues and provided one of the largest
secondary trading markets for "high-yield" securities. Mr. Omohundro provides
general advisory assistance to, analyzes certain policy considerations with, and
consults on a regular basis with, the Fund's portfolio manager. John A.
Frabotta, Vice President of the Investment Adviser, performed various research,
structuring and pricing functions involving "high-yield" securities as a Vice
President of Merrill Lynch. Mr. Frabotta serves as the portfolio manager of the
Fund (since September, 1990) responsible for the day-to-day management of the
Fund's portfolio. Mr. Frabotta has over 20 years of experience working with
"high-yield," fixed income instruments.
The Fund pays the Investment Adviser a monthly fee at the annual rate of
0.65% of the Fund's average weekly value of the total assets less accrued
liabilities (excluding the principal amount of the Notes and the liquidation
preference of the Preferred Shares and including accrued and unpaid dividends on
the Preferred Shares) up to and including $175,000,000 of such managed assets,
0.55% on the next $50,000,000 of such managed assets and 0.50% of the excess of
such managed assets over $225,000,000. Since the Investment Adviser's fee is
based on the average weekly managed assets of the Fund, the Investment Adviser
will benefit from an increase in the Fund's assets resulting from the Offer. See
"The Investment Adviser." In addition, three of the Fund's seven Directors are
"interested persons" (as such term is defined under the 1940 Act), of the Fund
who could benefit indirectly from the Offer because of such Directors'
affiliations with the Investment Adviser. See "The Investment Adviser" and
"Directors and Officers."
RISK FACTORS AND SPECIAL CONSIDERATIONS
The following summarizes certain matters that should be considered, among
others, in connection with the Offer and investment in the Fund generally.
Dilution. An immediate dilution of the aggregate net asset value of the
shares of Common Stock will be experienced as a result of the Offer because the
amounts received by the Fund for each Share with respect to the Subscription
Price (after payment of soliciting fees and other expenses of the Offer) will be
less than the Fund's net asset value per share and because the number of shares
outstanding after the Offer will increase in a greater percentage than the
increase in the size of the Fund's assets. As a result, Record Date Shareholders
will experience a decrease in the net asset value per share held by them,
irrespective of whether they exercise all or any portion of their Rights. In
addition, Record Date Shareholders who do not fully exercise their Rights will,
at the completion of the Offer, own a smaller proportional interest in the Fund
than would otherwise be the case. Further, shareholders who exercise all of
their rights but do not participate in the Over-Subscription Privilege will, at
the completion of the Offer, own a smaller proportional interest in the Fund to
the extent that the Fund increases the number of Shares subject to subscription
by up to 25% as described herein and such Shares are subscribed for. It is not
possible to state precisely the amount of such a decrease in net asset value per
share because it is not known at this time what the Subscription Price will be,
what the net asset value per share will be on the Expiration Date or what
proportion of the Shares will be subscribed for, such dilution could be
substantial. For example, assuming all Rights are exercised by Record Date
Shareholders at the Estimated Subscription Price of $ per share (which is
% of the Fund's net asset value per share at , 1997), the Fund's net
asset value per share (after payment of the Dealer Manager and soliciting fees
and estimated offering expenses) would be reduced by approximately $ per
share or %.
Risk of "Leverage." Leverage creates the opportunity for greater total
returns, but at the same time involves certain risks. Any investment income or
gains earned from the capital contributed by the purchasers of the Notes and the
Preferred Shares which is in excess of interest and dividends due thereon will
cause the value of the dividends, if any, on the Common Stock to rise more
quickly than would otherwise be the case. Conversely, if the investment
performance of the capital contributed by the purchasers of the Notes and the
Preferred Shares fails to cover the interest and dividends on such capital, the
value of the Common Stock may decrease more quickly than would otherwise be the
case and dividends thereon will be reduced or eliminated. This is the
speculative effect of leverage. During the sharp "high-yield" market decline of
1989 and 1990, the Fund's leverage contributed to a sharp decline in the net
asset value of the Common Stock. In order to remain in compliance with the 200%
asset coverage ratio required by the 1940 Act, the Fund was required to
repurchase $45.0 million of the $50.0 million of outstanding Senior Extendible
Notes. Also, to maintain compliance with the Fund's Surety Investment Guidelines
the Fund was required to sell "high-yield" assets. The selling of "high-yield"
assets below their original cost and the retirement of $45.0 million of the
Fund's Senior Extendible Notes during the fiscal years ended October 31, 1990
and 1991, resulted in a reduction of the Fund's total assets and caused the Fund
to realize substantial capital losses. The Surety Investment Guidelines and the
asset coverage ratio requirements combined to delay the Fund's reinvestment of
cash into "high-yield" securities as the market improved. The Fund's use of
leverage is currently benefiting the holders of Common Stock as the average cost
of funds (pursuant to its Preferred Shares and Notes obligations) was
approximately % as of , 1997 while the "high-yield" market
currently offers interest income at annualized rates of approximately 10.0%
to 12.0%.
At the date hereof, the Fund does not intend to add incremental leverage to
the Fund following the completion of the Offer. Accordingly, the percentage of
the Fund's assets representing leverage will decrease upon completion of the
Offer. The Fund anticipates that it will renegotiate the terms of its
outstanding leverage in 1998. Management of the Fund believes that by not adding
incremental leverage permitted under the 1940 Act, the Fund will enhance its
ability to negotiate the terms of any refinancing of its existing leverage.
However, the Fund reserves the right at any time, if it believes that market
conditions are appropriate, to increase its level of debt or other senior
securities to maintain or increase the Fund's current level of leverage to the
extent permitted under the 1940 Act and existing agreements between the Fund and
third parties.
Because the Notes and the Preferred Shares are senior to the Common Stock in
any liquidation of the Fund, the Notes, as Fund indebtedness, and next the
Preferred Shares, as a senior class of stock, would have to be paid in full
before any payments would be made with respect to the Common Stock. In addition,
the risk of adverse changes in net asset value is increased by the Fund's
leveraged structure. See "Risk Factors and Special Considerations."
Discount from Net Asset Value. Shares of closed-end funds frequently trade
at a market price that is less than the value of the net assets attributable
thereto. The possibility that shares of the Fund will trade at a discount from
net asset value is a risk separate and distinct from the risk that the Fund's
net asset value will decrease. It should be noted, however, that in some cases,
shares of closed-end funds trade at a premium to net asset value. The Fund's
shares have traded in the market above, at and below net asset value since the
commencement of the Fund's operations. See "Trading and Net Asset Value
Information." In addition, the net asset value of the Fund will change with
changes in the value of its portfolio securities. Because the Fund invests
primarily in fixed-income securities, the net asset value of the shares of the
Fund can be expected to change as general levels of interest rates fluctuate.
When interest rates decline, the value of a fixed-income portfolio can be
expected to rise. Conversely, when interest rates rise, the value of a
fixed-income portfolio can be expected to decline. In addition, in a period of
rising short-term interest rates, the higher cost of the Fund's leverage and/or
increasing defaults by issuers of "high-yield" debt obligations would likely
exacerbate such decline in the Fund's net asset value.
"High-Yield," High-Risk Investments. Fixed-income securities offering the
high current income sought by the Fund will ordinarily be in the lower rating
categories of recognized rating agencies or will be nonrated. These fixed-income
securities are regarded by the Rating Agencies, on balance, as predominantly
speculative with respect to capacity to pay interest and repay principal in
accordance with the terms of the obligation and will generally involve more
credit risk than securities in the higher rating categories. The values of such
securities tend to reflect individual corporate developments to a greater extent
than higher rated securities, which react primarily to fluctuations in the
general level of interest rates, and such securities are frequently subordinated
to the prior payment of senior indebtedness. In addition, the trading market for
"high-yield," high risk securities is generally less liquid than the market for
higher rated securities. As of , 1997, approximately % of the
Fund's total assets was invested in fixed-income securities regarded by the
Rating Agencies as below investment grade (that is rated Ba1 or lower by Moody's
or BB+ or lower by S&P).
In the severe adverse interest rate and economic environment of 1989 and
1990 the Fund suffered a substantial decline in its net asset value. In 1988,
when the Fund commenced operations, "high-yield" securities traded at yields
approximately 500 to 550 basis points higher than comparable U.S. Treasury
securities. In 1990, this spread widened to approximately 1250 basis points
resulting in substantial price declines in the corporate "high-yield" bond
market. During the fiscal years ended October 31, 1990 and 1991, the Fund was
obligated to repay $45.0 million of the Senior Extendible Notes, which required
the liquidation of investments that were selling at prices substantially below
their original purchase prices resulting in the realization of substantial
capital losses. Also during 1989 and 1990, the level of "high-yield" debt
security defaults increased as many issuers were unable to obtain funds through
financial intermediaries or the public "high-yield" market. The effect of these
developments on the Fund was a substantial decline in the Fund's net asset value
and a substantial reduction in the Fund's monthly dividend. Also, the forced
liquidation of a substantial portion of the Fund's portfolio in order to repay
the Senior Extendible Notes resulted in the realization of substantial capital
losses, and this severely limited the ability of the Fund to return to its
original net asset value as the "high-yield" market improved. The "high-yield"
market decline reversed in the fourth quarter of 1990 and by midyear 1991, after
reinvesting a substantial amount of its cash, the Fund's net asset value had
improved substantially but to a level far less than the net asset value at the
time the Fund commenced operations.
New issue activity of "high-yield" debt securities was low in 1991, by
historical standards, totaling $10.1 billion with "high-yield" debt retirements
totaling $26.0 billion. Net new issue activity of "high-yield" debt securities
totaled $11.4 billion, $46.1 billion, $22.2 billion, $26.7 billion and $60.2
billion for the calendar years 1992, 1993, 1994, 1995 and 1996, respectively.
The statistical information with respect to new issue activity is based upon
information the Fund obtained from the Credit Suisse First Boston High Yield
Handbook. The spread between the yield on U.S. Treasury securities and the
"high-yield" market has fluctuated between 300 and 600 basis points (3.0% to
6.0%) during the 1992 to 1996 period, which is more in line with the historical
spread relationship.
Since 1977, the historical weighted default rate on "high-yield" debt
securities has been 3.29%. The default rates on "high-yield" debt securities for
the calendar years 1990, 1991, 1992, 1993, 1994, 1995 and 1996 were 7.98%,
9.33%, 2.89%, 0.96%, 0.44%, 2.24% and 1.14%, respectively. The defaulted amount
of "high-yield" debt securities was $18.1 billion in 1990, $20.7 billion in
1991, $6.5 billion in 1992, $24.0 billion in 1993, $1.3 billion in 1994, $6.7
billion in 1995 and $4.2 billion in 1996. The statistical information with
respect to historical default rates and amounts is based on information the Fund
obtained from the Credit Suisse First Boston High Yield Handbook.
For a more detailed discussion of the risks and special considerations with
respect to "high-yield," high risk securities, see "Risk Factors and Special
Considerations -- "High-Yield," High Risk Investments."
Other Matters. There are additional matters which should be considered in
connection with an investment in the Fund including provisions of the Fund's
Articles of Incorporation, as amended (the "Articles of Incorporation"), which
may grant certain special voting rights to holders of the Preferred Shares,
limitations on the ability of the Fund to declare dividends or other
distributions contained in the 1940 Act and in the Note Purchase Agreement (as
defined herein) governing the Notes, and the possible conversion of the Fund
to an open-end investment company. See "Risk Factors and Special
Considerations" and "Share Repurchases; Conversion to Open-End Status."
Investors should carefully consider their ability to assume the foregoing
risks before making an investment in the Fund. An investment in shares of the
Fund is not appropriate for all investors. See "Risk Factors and Special
Considerations."
<PAGE>
FEE TABLE
Shareholder Transaction Expenses
Sales Load (as a percentage of the Subscription Price per Share)(1) ... 3.75%
-----
Annual Expenses (as a percentage of net assets attributable to common stock)(2)
Management Fees(3) .................................................... %
-----
Interest Expense ...................................................... %
-----
Other Expenses(2) ..................................................... %
-----
Total Annual Expenses ............................................. %
=====
EXAMPLE:
CUMULATIVE EXPENSES PAID FOR THE PERIOD OF:
-------------------------------------------
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
An investor would pay the following
expenses on a $1,000 investment,
assuming a 5% annual return
throughout the periods .......... $ $ $ $
- ----------
(1) The Fund has agreed to pay the Dealer Manager and the other broker-dealers
soliciting the exercise of Rights solicitation fees equal to 2.50% of the
Subscription Price per Share for each Share issued pursuant to the exercise
of the Rights and pursuant to the Over-Subscription Privilege. The Fund has
also agreed to pay the Dealer Manager a fee for financial advisory and
marketing services in connection with the Offer equal to 1.25% of the
aggregate Subscription Price for the Shares issued pursuant to the exercise
of the Rights and the Over-Subscription Privilege and to reimburse the
Dealer Manager for its expenses relating to the Offer up to an aggregate of
$100,000. In addition, the Fund has agreed to pay fees plus transaction
based charges to the Subscription Agent (as defined herein) and the
Information Agent (as defined herein), estimated to be $ and $ ,
respectively, for their services related to the Offer, which includes
reimbursement for their out-of-pocket expenses. These fees and expenses will
be borne by the Fund and indrectly by all of the Fund's shareholders,
including those shareholders who do not exercise their Rights.
(2) Amounts are based on estimated amounts for the Fund's current fiscal year
and assume that (i) all of the Rights are exercised and (ii) the Fund does
not increase the number of Shares subject to subscription pursuant to
Over-Subscription Privilege.
(3) The Fund pays the Investment Adviser a monthly fee at an annual rate ranging
from 0.65% to 0.50%. Until June 21, 1997, the Investment Adviser has waived
its advisory fee with respect to the increase in the Fund's managed assets
attributed to the exercise of rights in the most recent rights offering by
the Fund in June 1996. See "The Investment Adviser".
THE FOREGOING FEE TABLE AND EXAMPLE ARE INTENDED TO ASSIST INVESTORS IN
UNDERSTANDING THE COSTS AND EXPENSES THAT AN INVESTOR IN THE FUND WILL BEAR
DIRECTLY OR INDIRECTLY.
The Example set forth above assumes reinvestment of all dividends and
distributions at net asset value, a payment of a 3.75% sales load and an annual
expense ratio of %. The table above and the assumption in the Example of a 5%
annual return are required by Securities and Exchange Commission regulations
applicable to all investment companies. THE EXAMPLE SHOULD NOT BE CONSIDERED AS
A REPRESENTATION OF PAST OR FUTURE EXPENSES OR ANNUAL RATES OF RETURN. ACTUAL
EXPENSES OR ANNUAL RATES OF RETURN MAY BE MORE OR LESS THAN THOSE ASSUMED FOR
PURPOSES OF THE EXAMPLE. In addition, while the Example assumes reinvestment of
all dividends and distributions at net asset value, participants in the Fund's
Dividend Reinvestment Plan may receive shares purchased or issued at a price or
value different from net asset value. See "Dividends and Distributions; Dividend
Reinvestment Plan."
<PAGE>
FINANCIAL HIGHLIGHTS
(FOR A SHARE OF COMMON STOCK OUTSTANDING THROUGHOUT EACH PERIOD)
The table below sets forth certain specified information for a share of
Common Stock outstanding throughout each period presented. The financial
highlights for each period presented have been audited by Arthur Andersen LLP,
the Fund's independent public accountants, whose report thereon was unqualified.
The information should be read in conjunction with the financial statements and
notes thereto, which are incorporated herein by reference, in the Fund's Annual
Report as of October 31, 1996, which is available upon request from the Fund's
registrar and transfer agent, State Street Bank and Trust Company.
<TABLE>
<CAPTION>
DECEMBER 5, 1988
(COMMENCEMENT
FOR THE FISCAL YEARS ENDED OCTOBER 31, OF OPERATIONS)
------------------------------------------------------------------------ TO OCTOBER 31,
1996 1995 1994 1993 1992 1991 1990 1989
-------- -------- -------- -------- -------- -------- ------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net asset value -- beginning of
period ........................... $ 3.70 $ 3.69 $ 4.25 $ 4.03 $ 3.89 $ 3.30 $ 6.82 $ 9.15(b)
-------- -------- -------- -------- -------- -------- ------- --------
Net investment income .............. .50# .45 .48# .63# .62 .55 .98 1.31
Net realized and unrealized gain
(loss) on investment ............. .20# .03 (.38)# .39# .07 .56 (3.43) (2.32)
-------- -------- -------- -------- -------- -------- ------- --------
Total from investment
operations ................... $ .70 $ .48 $ .10 $ 1.02 $ .69 $ 1.11 $ (2.45) $ (1.01)
-------- -------- -------- -------- -------- -------- ------- --------
Distributions:
Dividends from net investment
income
To preferred stockholders ....... (.04) (.05) (.03) (.06) (.10) (.16) (.22) (.19)
To common stockholders ......... (.42) (.42) (.45) (.62) (.45) (.36) (.76) (1.12)
Dividends to common stockholders
from paid-in-capital ........... -- -- -- -- -- -- (.09) (.01)
-------- -------- -------- -------- -------- -------- ------- --------
Total distributions .......... $ (.46) $ (.47) $ (.48) $ (.68) $ (.55) $ (.52) $ (1.07) $ (1.32)
-------- -------- -------- -------- -------- -------- ------- --------
Effect of sale of common stock and
related expenses ................. $ (.04) $ -- $ (.18) $ (.12) $ -- $ -- $ -- $ --
-------- -------- -------- -------- -------- -------- ------- --------
Net asset value -- end of period ... $ 3.90 $ 3.70 $ 3.69 $ 4.25 $ 4.03 $ 3.89 $ 3.30 $ 6.82
======== ======== ======== ======== ======== ======== ======= ========
Per share market value:
End of period .................... $ 4.00 $ 3.88 $ 3.50 $ 4.25 $ 4.00 $ 3.50 $ 2.50 $ 6.00
======== ======== ======== ======== ======== ======== ======= ========
Total investment return ...... 15.29% 28.57% (7.78)% 23.25% 27.99% 57.36% (50.21)% (31.33)%
======== ======== ======== ======== ======== ======== ======= ========
Net assets, end of period,
applicable to common stock (a) ... $120,711 $ 93,309 $ 92,072 $ 79,438 $ 55,178 $ 53,040 $45,028 $ 92,487
======== ======== ======== ======== ======== ======== ======= ========
Net assets, end of period,
applicable to preferred stock (a). $ 20,000 $ 20,000 $ 20,000 $ 20,000 $ 30,000 $ 30,000 $30,000 $ 30,000
======== ======== ======== ======== ======== ======== ======= ========
Net assets, end of period (a) ...... $140,711 $113,309 $112,072 $ 99,438 $ 85,178 $ 83,040 $75,028 $122,487
======== ======== ======== ======== ======== ======== ======= ========
Ratio of operating expenses to
average net assets** ............. 2.21%+ 2.28%+ 2.30%+ 2.13%+ 2.28%+ 2.93%+ 6.15%+ 4.89%*+
Ratio of net investment income to
average net assets** ............. 9.51% 9.39% 8.64% 9.26% 9.33% 9.24% 13.23% 13.88%*
Portfolio turnover rate ............ 108.33% 80.71% 72.00% 117.20% 97.86% 114.00% 63.50% 89.70%*
(a) Dollars in thousands.
(b) Net of initial offering and underwriting costs.
* Annualized.
** Ratios calculated on the basis of expenses and net investment income
applicable to both the common and preferred shares relative to the average
net assets of both the common and preferred shareholders.
+ Excluding interest expense, the ratio of operating expenses to average net
assets is 1.30%, 1.29%, 1.32%, 1.50%, 1.72%, 2.23%, 2.60% and 1.279%,
respectively.
# Calculation is based on average shares outstanding during the indicated
period due to the per share effect of the Fund's rights offerings.
</TABLE>
CAPITALIZATION AT JANUARY 17, 1997
AMOUNT OUTSTANDING
EXCLUSIVE OF AMOUNT HELD
AMOUNT BY THE FUND
HELD BY THE FUND OR FOR ITS
TITLE OF CLASS AMOUNT AUTHORIZED OR FOR ITS ACCOUNT ACCOUNT
-------------- ----------------- ------------------ -----------
Senior Notes .......... -- $20,000,000 -0-
Taxable Auction Rate
Preferred Stock, no
par value,
Liquidation
Preference
$100,000 per share .. 1,000 shares 200 shares -0- shares
Common Stock, $0.01 par
value................ 100,000,000 shares 30,970,768 shares -0- shares
INFORMATION REGARDING SENIOR SECURITIES
The following table shows certain information regarding each class of senior
security of the Fund as of the end of each fiscal year of the Fund since its
inception.
<TABLE>
<CAPTION>
INVOLUNTARY
ASSET COVERAGE LIQUIDATION APPROXIMATE MARKET
AT TOTAL AMOUNT FOR NOTES(3) PREFERENCE VALUE PER
OCTOBER 31 OUTSTANDING OR SHARES(4) PER SHARE SHARE OR NOTE
---------- ------------ -------------- ------------ ------------------
<S> <C> <C> <C> <C> <C>
Senior Extendible
Notes(1) 1989 $50,000,000 $ 3,450 -- $1,000.00
1990 15,000,000 6,002 -- 1,000.00
1991 5,000,000 17,608 -- 1,000.00
1992 5,000,000 18,036 -- 1,087.50
1993 0 -- -- --
Senior Notes(1)
1993 $20,000,000 $ 5,972 -- $ 997.50
1994 20,000,000 6,604 -- 937.10
1995 20,000,000 6,665 -- 987.50
1996 20,000,000 7,035 -- 990.00
Taxable Auction Rate
Preferred Stock(2) 1989 300 Shares $408,291 $100,000 $ 100,000
1990 300 Shares 250,094 100,000 100,000
1991 300 Shares 276,800 100,000 100,000
1992 300 Shares 283,927 100,000 100,000
1993 200 Shares 497,188 100,000 100,000
1994 200 Shares 560,358 100,000 100,000
1995 200 Shares 566,544 100,000 100,000
1996 200 Shares 603,553 100,000 100,000
- ----------
(1) In July 1993, the Fund repurchased the remaining $5,000,000 principal amount
of its Senior Extendible Notes, which carried an annual interest rate
through December 31, 1993 of 10.28%, for $5,178,000. The Fund thereafter
issued $20,000,000 of new Senior Notes payable December 1, 1998, which bear
interest at a fixed annual rate of 6.53%.
(2) In July 1993, the Fund redeemed 100 shares of its Taxable Auction Rate
Preferred Stock for $100,000 per share plus accrued interest, leaving 200
such shares outstanding.
(3) Amount shown is per $1,000 of Senior Extendible Note or Senior Note, as the
case may be. Calculated by subtracting the Fund's total liabilities (not
including senior securities) from the Fund's total assets and dividing such
amount by the quotient of (a) the principal amount of outstanding Senior
Extendible Notes or the Senior Notes, as the case may be, divided by (b)
$1,000. At , 1997, the asset coverage for the $20,000,000 of
Senior Notes was approximately $ per $1,000 of Senior Notes.
(4) Amount shown is per share of Taxable Auction Rate Preferred Stock.
Calculated by subtracting the Fund's total liabilities (including senior
securities constituting debt but not including the Taxable Auction Rate
Preferred Stock) from the Fund's total assets and dividing such amount by
the number of outstanding shares of Taxable Auction Rate Preferred Stock. At
, 1997, the asset coverage for the 200 outstanding shares of
Taxable Auction Rate Preferred Stock was approximately $ per share
of Taxable Auction Rate Preferred Stock.
</TABLE>
TRADING AND NET ASSET VALUE INFORMATION
In the past, the Fund's shares have traded both at a premium and at a
discount in relation to net asset value. Although the Fund's shares recently
have been trading at a premium above net asset value, there can be no assurance
that this premium will continue after the Offer or that the shares will not
again trade at a discount. Shares of other closed-end investment companies
frequently trade at a discount from net asset value. See "Risk Factors and
Special Considerations."
The following table shows the high and low sale prices of the Fund's Common
Stock on the New York Stock Exchange Composite Tape, quarterly trading volume on
the Exchange, the high and low net asset value per share and the high and low
premium or discount at which the Fund's shares were trading for each fiscal
quarter during the two most recent fiscal years and each fiscal quarter during
the current fiscal year.
<TABLE>
<CAPTION>
QUARTERLY
TRADING PREMIUM/(DISCOUNT)
MARKET PRICE VOLUME NET ASSET VALUE TO NET ASSET VALUE(%)
------------------------ --------------- ------------------------ ----------------------
QUARTER ENDED HIGH LOW (THOUSANDS HIGH LOW HIGH LOW
- ------------- ---- --- OF SHARES) ---- --- ---- ---
<S> <C> <C> <C> <C> <C> <C> <C>
January 31, 1994 ..................... 4 3/8 3 7/8 7,028.8 4.28 4.08 3.16 (9.04)
April 30, 1994 ....................... 4 3/8 3 5/8 3,548.8 4.21 3.89 3.92 (6.81)
July 31, 1994 ........................ 4 3 5/8 2,544.3 3.93 3.84 1.78 (6.81)
October 31, 1994 ..................... 3 3/4 3 3/8 2,069.9 3.90 3.70 (1.06) (10.24)
January 31, 1995 ..................... 3 1/2 3 1/4 2,658.0 3.71 3.57 (2.23) (11.20)
April 30, 1995 ....................... 3 3/4 3 3/8 2,114.9 3.66 3.59 3.59 (4.37)
July 31, 1995 ........................ 3 7/8 3 1/2 2,484.4 3.73 3.68 4.45 (1.76)
October 31, 1995 ..................... 3 7/8 3 5/8 2,509.7 3.74 3.70 4.73 (2.82)
January 31, 1996 ..................... 4 3 3/4 2,826.5 3.73 3.67 8.70 0.81
April 30, 1996 ....................... 4 1/8 3 7/8 3,313.9 3.84 3.71 7.82 1.71
July 31, 1996 ........................ 4 1/8 3 5/8 4,369.5 3.88 3.83 6.31 (5.35)
October 31, 1996 ..................... 4 3 3/4 3,644.8 3.91 3.80 2.30 (1.32)
January 31, 1997 .....................
</TABLE>
The closing market price and net asset value per share of the Fund's Common
Stock on , 1997 were $ and $ , respectively.
<PAGE>
THE FUND
The Fund is a diversified, closed-end management investment company with a
leveraged capital structure, consisting of (i) $20,000,000 aggregate principal
amount of Notes, (ii) 200 Preferred Shares (liquidation preference $100,000 per
share) and (iii) 30,970,768 shares of Common Stock, as of January 17, 1997. The
Fund's investment objective is to provide high current income, while seeking to
preserve shareholders' capital, through investment in a professionally managed,
diversified portfolio of "high-yield," high risk securities (commonly referred
to as "junk bonds"). The Fund invests primarily in fixed-income securities rated
in the lower categories by established rating agencies (consisting principally
of fixed-income securities rated "BB"/"Ba" or lower by the Rating Agencies(1) )
or nonrated fixed-income securities deemed by the Investment Adviser to be of
comparable quality. The Fund's investments are subject to the Investment
Guidelines. See "Investment Policies and Limitations -- Investment Guidelines."
The fixed-income securities in which the Fund invests are regarded by the Rating
Agencies, on balance, as predominantly speculative with respect to capacity to
pay interest and repay principal in accordance with the terms of the obligation
and generally involve more credit risk than securities in the higher rating
categories. See "Investment Policies and Limitations" and "Risk Factors and
Special Considerations."
The Fund's portfolio consists primarily of "high-yield," high risk
fixed-income securities. "High-yield," high risk securities offer a higher yield
to maturity than comparable securities with higher ratings as compensation for
holding an obligation of an issuer perceived to be less creditworthy. In the
severe adverse interest rate and economic environment of 1989 and 1990 the Fund
suffered a substantial decline in its net asset value. In 1988, when the Fund
commenced operations, "high-yield" securities traded at yields approximately 500
to 550 basis points higher than comparable U.S. Treasury securities. In 1990,
this spread widened to approximately 1250 basis points resulting in substantial
price declines in the corporate "high-yield" bond market. During the fiscal
years ended October 31, 1990 and 1991 the Fund was obligated to repay $45.0
million of the previously outstanding Senior Extendible Notes, which required
the liquidation of investments that were selling at prices substantially below
their original purchase prices resulting in the realization of substantial
capital losses. Also during 1989 and 1990, the level of "high-yield" debt
security defaults increased as many issuers were unable to obtain funds through
financial intermediaries or the public "high-yield" market. The effect of these
developments on the Fund was a substantial decline in the Fund's net asset value
and a substantial reduction in the Fund's monthly dividend. Also, the forced
liquidation of a substantial portion of the Fund's portfolio in order to repay
the Senior Extendible Notes resulted in the realization of substantial capital
losses, and this severely limited the ability of the Fund to return to its
original net asset value as the "high-yield" market improved. The "high-yield"
market decline reversed in the fourth quarter of 1990 and by midyear 1991, after
reinvesting a substantial amount of its cash, the Fund's net asset value had
improved substantially but to a level far less than the net asset value at the
time the Fund commenced operations.
The "high-yield" market, as measured by the Credit Suisse First Boston High
Yield Index, posted total annual returns of 43.75%, 16.66%, 18.91%, -0.97%,
17.38% and 12.42% for the calendar years 1991, 1992, 1993, 1994, 1995 and 1996,
respectively. The ten year U.S. Treasury Bond produced a total return of 16.46%,
6.52%, 11.94%, -6.08%, 23.68% and 0.89% for the calendar years 1991, 1992, 1993,
1994, 1995 and 1996, respectively. See "Financial Highlights" for information
concerning the Fund's return.
New issue activity of "high-yield" debt securities was low in 1991, by
historical standards, totaling $10.1 billion with "high-yield" debt retirements
totaling $26.0 billion. Net new issue activity of "high-yield" debt securities
totaled $11.4 billion, $46.1 billion, $22.2 billion, $26.7 billion and $60.2
billion for the calendar years 1992, 1993, 1994, 1995 and 1996, respectively.
The statistical information with respect to new issue activity is based upon
information the Fund obtain from the Credit Suisse First Boston High Yield
Handbook. The spread between the yield on U.S. Treasury securities and the
"high-yield" market has fluctuated between 300 and 600 basis points (3.0% to
6.0%) during the 1992 to 1996 period, which is more in line with the historical
spread relationship.
- ------------
(1) Throughout this Prospectus, references to ratings by the Rating Agencies
will indicate the S&P rating followed by the Moody's rating in the format
shown.
Since 1977, the historical weighted default rate on "high-yield" debt
securities has been 3.29%. The default rates on "high-yield" debt securities for
the calendar years 1990, 1991, 1992, 1993, 1994, 1995 and 1996 were 7.98%,
9.33%, 2.89%, 0.96%, 0.44%, 2.24% and 1.14%, respectively. The defaulted amount
of "high-yield" debt securities was $18.1 billion in 1990, $20.7 billion in
1991, $6.5 billion in 1992, $24.0 billion in 1993, $1.3 billion in 1994, $6.7
billion in 1995 and $4.2 billion in 1996. The statistical information with
respect to historical default rates and amounts is based on information the Fund
obtained from the Credit Suisse First Boston High Yield Handbook.
The capital structure of the Fund has been designed to take advantage of the
historical spread in yields between "high-yield" securities and representative
U.S. Treasury securities, compared with the average default loss on "high-yield"
securities. In addition, through investment leverage, investors in the Common
Stock of the Fund receive increased yields to the extent that the rate of return
(i.e., the current interest yield on the Fund's portfolio reduced by the actual
default loss rate experienced on that portfolio) earned on the Fund's assets,
exceeds, after expenses of Fund management, the interest and dividend rates on
the Notes and Preferred Shares. Conversely, to the extent that the rate of
return on the portfolio does not exceed the interest and dividend rates on the
Notes and Preferred Shares, yield to investors in the Common Stock will be
reduced.
The Fund is a closed-end investment company. Closed-end investment companies
differ from open-end investment companies (commonly referred to as "mutual
funds") in that closed-end investment companies have a fixed capital base,
whereas open-end companies issue securities redeemable at net asset value at any
time at the option of the shareholder and typically engage in a continuous
offering of their shares. Accordingly, open-end investment companies are subject
to periodic asset in-flows and out-flows that can complicate portfolio
management. Closed-end investment companies do not face the prospect of having
to liquidate portfolio holdings to satisfy redemptions at the option of
shareholders or having to maintain cash positions to meet the possibility of
such redemptions. The Fund will, however, be required to have sufficient cash or
cash equivalents to meet interest payments on the Notes and dividend payments on
the Preferred Shares and to fund certain redemptions of these securities in
certain circumstances. See "Description of Notes," "Description of Capital
Stock" and "Surety Arrangement for Preferred Shares."
The Offer is the Fund's first non-transferable rights offering. The Fund
completed transferable rights offerings on June 21, 1996, March 4, 1993 and
November 23, 1993, which permitted shareholders to acquire, at a subscription
price of $3.81, $3.80 and $3.60, respectively, one new share for each three
rights held as of the record date of such rights offerings. Approximately 61% of
the rights issued by the Fund pursuant to the rights offering completed in June
1996 were exercised and, as a result, 5,393,885 new shares of Common Stock were
issued in June 1996 with net proceeds to the Fund of approximately $19.5
million. All of the rights issued by the Fund pursuant to the rights offerings
completed in March 1993 and November 1993 were exercised and, as a result,
4,625,000 new shares of Common Stock were issued in March 1993 with net proceeds
to the Fund of approximately $16.7 million and 6,210,000 new shares of Common
Stock were issued in December 1993 with net proceeds to the Fund of
approximately $21.3 million. All of the net proceeds from the exercise of the
rights pursuant to the prior rights offerings have been invested in new
securities in accordance with the Fund's investment objective.
The Fund was organized as a corporation under the laws of Maryland on May
13, 1988 and has registered with the Securities and Exchange Commission (the
"SEC") under the 1940 Act. The Fund's principal office is located at 60 State
Street, Boston, Massachusetts 02109. The Fund's Investment Adviser is Prospect
Street(R) Investment Management Co., Inc., an investment management firm
registered with the SEC under the Investment Advisers Act of 1940, as amended.
See "The Investment Adviser."
THE OFFER
PURPOSE OF THE OFFER
The Board of Directors of the Fund has determined that it would be in the
best interests of the Fund and its shareholders to increase the assets of the
Fund available for investment so that the Fund will be in a better position to
take advantage of available investment opportunities and increase the
diversification of its portfolio. The Investment Adviser informed the Board of
Directors of the Fund that the Investment Adviser believes the high-yield bond
market currently has attractive investment opportunities and that, under current
market conditions, the net proceeds of the Offer could be invested at or about
the same rate of return that the Fund is currently earning while achieving
certain other net benefits to the Fund. The Board of Directors noted that an
increase in the Fund's assets pursuant to the Offer will have the immediate
effect of strengthening the Fund's current common equity capital relative to its
outstanding leverage. The Board of Directors believes that increasing the Fund's
assets will provide the Fund with additional flexibility in connection with the
Fund's leverage, including its ability to increase the Fund's existing leverage
and renegotiate or refinance that portion of the Fund's leverage that comes due
in 1998. In addition, the Board of Directors believes that increasing the size
of the Fund may lower the Fund's expenses as a proportion of average net assets,
including the fees of the Investment Adviser which may also be reduced in
accordance with the terms of the Advisory Agreement (as defined herein), and may
enhance the liquidity of its shares on the Exchange. The Board of Directors also
considered the impact of the Offer on its current distribution policy to
maintain, subject to market conditions, a relatively stable level of
distributions and, based upon information provided by the Investment Adviser and
current market conditions, believes that the Offer will not result in a change
in the Fund's current level of dividends. For a further discussion of the
anticipated impact of the Offer on the Fund's dividends, please refer to "Risk
Factors and Special Considerations -- Dividends and Distributions."
In determining that the Offer was in the best interests of the Fund and its
shareholders, the Board of Directors retained PaineWebber to provide the Fund
with financial advisory and marketing services relating to the Offer, including
the structure, timing and terms of the Offer. In addition to the foregoing, the
Board of Directors considered, among other things, the benefits and drawbacks of
conducting a non-transferable versus a transferable rights offering, the effect
on the Fund if the Offer is under-subscribed and the experience of PaineWebber
as a dealer manager in conducting rights offerings.
At the date hereof, the Fund does not intend to add incremental leverage to
the Fund following the completion of the Offer. See "Investment Policies and
Limitations." The Investment Adviser will benefit from the Offer because the
Investment Adviser's fee is based on the average weekly managed assets of the
Fund.
The Fund may, in the future and at its discretion, choose to make additional
rights offerings from time to time for a number of shares and on terms which may
or may not be similar to the Offer. Any such future rights offering will be made
in accordance with the 1940 Act.
TERMS OF THE OFFER
The Fund is issuing to its Record Date Shareholders, as of the close of
business on , 1997, Rights entitling the holders thereof to
subscribe for an aggregate of 10,323,590 Shares of the Fund's Common Stock
(12,904,487 Shares if the Fund increases the number of shares of Common Stock
available by up to 25% in connection with the Over-Subscription Privilege
described below). Each shareholder is being issued one Right for each whole
share of Common Stock owned on the Record Date. The Rights entitle the holders
thereof to subscribe for one Share for every three Rights held (1 for 3).
Fractional shares will not be issued upon the exercise of Rights. Accordingly,
Shares may be purchased in the Primary Subscription only pursuant to the
exercise of Rights in integral multiples of three. Record Date Shareholders who
fully exercise all Rights issued to them may request additional Shares pursuant
to the Over-Subscription Privilege as described below. Rights may be exercised
at any time during the Subscription Period, which commences on , 1997
and ends at 5:00 P.M., New York City time, on , 1997, unless
extended by the Fund until 5:00 P.M., New York City time, to a date not later
than , 1997. The Rights are evidenced by Subscription Certificates
that will be mailed to Record Date Shareholders, except as discussed below under
"Foreign Restrictions."
Shares not subscribed for in the Primary Subscription will be offered, by
means of the Over-Subscription Privilege, to those shareholders who have
exercised all Rights issued to them and who wish to acquire more than the number
of whole Shares they are entitled to purchase pursuant to the exercise of their
Rights. Shares acquired pursuant to the Over-Subscription Privilege are subject
to allotment and may be subject to increase, as more fully discussed below under
"Over-Subscription Privilege." For purposes of determining the maximum number of
Shares a shareholder may acquire pursuant to the Offer, shareholders whose
shares are held of record by Cede, as nominee for DTC, or by any other
depository or nominee will be deemed to be the holders of the Rights that are
issued to Cede or such other depository or nominee on their behalf.
Since fractional shares will not be issued, shareholders who receive or have
remaining fewer than three Rights will be unable to purchase a Share upon the
exercise of such remaining Rights and will not be entitled to receive any cash
in lieu thereof. Such shareholders, may, however, request additional Shares
pursuant to the Over-Subscription Privilege (as described below).
There is no minimum number of Rights which must be exercised in order for
the Offer to close.
The first regular monthly dividend to be paid on Shares acquired upon
exercise of Rights will be the first monthly dividend, the record date for which
occurs after the issuance of the Shares following the Expiration Date. It is the
Fund's present policy to pay dividends on the last Business Day of each month to
shareholders of record seven days prior to the payment date. Assuming the
Subscription Period is not extended beyond , 1997, it is expected that
the first dividend received by shareholders acquiring Shares in the Offer will
be paid on the last business day of 1997.
OVER-SUBSCRIPTION PRIVILEGE
To the extent shareholders do not exercise all the Rights issued to them,
any underlying Shares represented by such Rights will be offered by means of the
Over-Subscription Privilege to the shareholders who have exercised all the
Rights issued to them and who wish to over-subscribe for additional Shares. Only
shareholders who exercise all the Rights issued to them may indicate on the
Subscription Certificate, which they submit with respect to the exercise of the
Rights issued to them, how many Shares they desire to purchase pursuant to the
Over-Subscription Privilege. If sufficient Shares remain after completion of the
Primary Subscription, all over-subscription requests will be honored in full. If
sufficient Shares are not available after completion of the Primary Subscription
to honor all over-subscription requests, the Fund may, at the discretion of the
Board of Directors, issue shares of Common Stock up to an additional 25% of the
Shares available pursuant to the Offer (up to an additional 2,580,897 Shares) in
order to cover such over-subscription requests. Regardless of whether the Fund
issues such additional Shares, and to the extent Shares are not available to
honor all over-subscription requests, the available Shares will be allocated
among those who over-subscribe so that the number of Shares issued to such
shareholders will generally be in proportion to the number of shares of Common
Stock owned by such shareholders on the Record Date. The allocation process may
involve a series of allocations in order to assure that the total number of
Shares available for over-subscription is distributed on a pro rata basis.
Banks, brokers, trustees and other nominee holders of Rights will be
required to certify to the Subscription Agent (as defined herein), before any
Over-Subscription Privilege may be exercised with respect to any particular
beneficial owner, as to the aggregate number of Rights exercised pursuant to the
Primary Subscription and the number of Shares subscribed for pursuant to the
Over-Subscription Privilege by such beneficial owner and that such beneficial
owner's Primary Subscription was exercised in full. Nominee Holder
Over-Subscription Forms and Beneficial Owner Certification Forms will be
distributed to banks, brokers, trustees and other nominee holders with the
Subscription Certificates.
The Fund will not offer or sell in connection with the Offer any Shares that
are not subscribed for pursuant to the Primary Subscription or the Over-
Subscription Privilege.
SUBSCRIPTION PRICE
The Subscription Price for the Shares to be issued pursuant to the Offer
will be % of the lower of (i) the average of the last reported sales price of
a share of the Fund's Common Stock on the Exchange on the Pricing Date and on
the four preceding Business Days and (ii) the net asset value per share as of
the close of business on the Pricing Date. For example, if the average of the
last reported sales price of a share of the Fund's Common Stock on the Exchange
on the Pricing Date and on the four preceding Business Days is $ , and the
net asset value per share on the Pricing Date is $ , the Subscription
Price will be $ ( % of $ ). If, however, the average of the last
reported sales price on the Exchange on the Pricing Date and on the four
preceding Business Days is $ , and the net asset value per share on the
Pricing Date is $ , the Subscription Price will be $ ( % of
$ ). See "Trading and Net Asset Value Information."
The Fund announced the Offer after the close of trading on the Exchange on
, 1997. The net asset value per share of Common Stock at the close of
business on , 1997 (the last trading date on which the Fund publicly
reportedits net asset value prior to the announcement) and on , 1997
(the last trading date on which the Fund publicly reported its net asset value
prior to the Record Date) was $ and $ respectively, and the last
reported sales price of a share of the Fund's Common Stock on the Exchange on
those dates was $ and $ , respectively.
NON-TRANSFERABILITY OF RIGHTS
The Rights are non-transferable and, therefore, may not be purchased or
sold. The Rights will not be listed for trading on the Exchange or any other
securities exchange. However, the Shares to be issued pursuant to the Offer will
be listed for trading on the Exchange, subject to notice of issuance.
EXPIRATION OF THE OFFER
The Offer will expire at 5:00 P.M., New York City time, on ,
1997, unless extended by the Fund until 5:00 P.M., New York City time, to a date
not later than , 1997. The Rights will expire on the Expiration Date and
thereafter may not be exercised. Since the Expiration Date and the Pricing Date
will be the same date, shareholders who decide to acquire Shares in the Primary
Subscription or pursuant to the Over-Subscription Privilege will not know the
Subscription Price of the Shares when they make their decision. Any extension of
the Offer will be followed as promptly as practicable by announcement thereof.
Such announcement will be issued no later than 9:00 A.M., New York City time, on
the next business day following the previously scheduled Expiration Date.
Without limiting the manner in which the Fund may choose to make such
announcement, the Fund will not, unless otherwise required by law, have any
obligation to publish, advertise or otherwise communicate any such announcement
other than by making a release to the Dow Jones News Service or such other means
of announcement as the Fund deems appropriate.
SUBSCRIPTION AGENT
The subscription agent is State Street Bank and Trust Company (the
"Subscription Agent"). The Subscription Agent will receive for its
administrative, processing, invoicing and other services as subscription agent,
a fee estimated to be approximately $ , plus transaction based charges as
well as reimbursement for all out-of-pocket expenses related to the Offer
estimated to be $ . The Subscription Agent is also the Fund's transfer
agent, dividend-paying agent and registrar for the Common Stock. Questions
regarding the Subscription Certificates should be directed to State Street Bank
and Trust Company, Two Heritage Drive, North Quincy, Massachusetts 02171 U.S.A.
(800) 426-5523 (toll free); shareholders may also consult their brokers or
nominees. Completed Subscription Certificates must be sent together with proper
payment of the Estimated Subscription Price for all Shares subscribed for in the
Primary Subscription and the Over-Subscription Privilege to State Street Bank
and Trust Company by one of the methods described below. Alternatively, Notices
of Guaranteed Delivery may be sent by facsimile to (617) 774-4519, to be
received by the Subscription Agent prior to 5:00 P.M., New York City time, on
the Expiration Date. Facsimiles should be confirmed by telephone at (617)
774-4511. The Fund will accept only properly completed and executed Subscription
Certificates actually received at any of the addresses listed below, prior to
5:00 P.M., New York City time, on the Expiration Date or by the close of
business on the third Business Day after the Expiration Date following timely
receipt of a Notice of Guaranteed Delivery. See "Payment for Shares" below.
(1) BY FIRST CLASS MAIL OR EXPRESS MAIL:
State Street Bank and Trust Company
Corporate Reorganization
P.O. Box 9061
Boston, Massachusetts 02205-8686
U.S.A.
(2) BY EXPRESS MAIL OR OVERNIGHT COURIER:
State Street Bank and Trust Company
Corporate Reorganization
Two Heritage Drive
North Quincy, Massachusetts 02171
U.S.A.
(3) BY HAND:
State Street Bank and Trust Company
Corporate Reorganization
225 Franklin Street -- Concourse Level
Boston, Massachusetts 02110
U.S.A.
or
Bank of Boston
c/o Boston EquiServe
Corporate Reorganization
55 Broadway -- 3rd Floor
New York, New York 10006
U.S.A.
DELIVERY TO AN ADDRESS OTHER THAN ONE OF THE ADDRESSES LISTED ABOVE WILL NOT
CONSTITUTE VALID DELIVERY.
METHOD FOR EXERCISING RIGHTS
Rights are evidenced by Subscription Certificates that, except as described
below under "Foreign Restrictions," will be mailed to Record Date Shareholders
or, if a shareholder's shares of Common Stock are held by Cede or any other
depository or nominee on their behalf, to Cede or such depository or nominee.
Rights may be exercised by completing and signing the Subscription Certificate
that accompanies this Prospectus and mailing it in the envelope provided, or
otherwise delivering the completed and signed Subscription Certificate to the
Subscription Agent, together with payment in full for the Shares at the
Estimated Subscription Price. Rights may also be exercised by contacting your
broker, banker or trust company, which can arrange, on your behalf, to guarantee
delivery of payment and delivery of a properly completed and executed
Subscription Certificate pursuant to a Notice of Guaranteed Delivery. A fee may
be charged for this service. Fractional shares will not be issued and
shareholders who receive or who have remaining fewer than three Rights will not
be able to purchase a Share upon the exercise of such remaining Rights and will
not be entitled to receive any cash in lieu thereof. Such shareholders may,
however, request additional Shares pursuant to the Over-Subscription Privilege.
Completed Subscripiton Certificates must be received by the Subscription Agent
prior to 5:00 P.M., New York City time, on the Expiration Date at one of the
addresses set forth above (unless the guaranteed delivery procedures are
complied with as described below under "Payment for Shares").
Shareholders Who Are Record Owners. Shareholders who are record owners can
choose between either option to exercise their Rights as described below under
"Payment for Shares." If time is of the essence, option (2) under "Payment for
Shares" below will permit delivery of the Subscription Certificate and payment
after the Expiration Date.
Shareholders Whose Shares Are Held by a Nominee. Shareholders whose shares
are held by a nominee, such as a bank, broker or trustee, must contact that
nominee to exercise their Rights. In such case, the nominee will complete the
Subscription Certificate on behalf of the shareholder and arrange for proper
payment by one of the methods described below under "Payment for Shares."
Nominees. Nominees who hold shares of Common Stock for the account of others
should notify the beneficial owners of such shares as soon as possible to
ascertain such beneficial owners' intentions and to obtain instructions with
respect to the Rights. If the beneficial owner so instructs, the nominee should
complete the Subscription Certificate and submit it to the Subscription Agent
with the proper payment as described below under "Payment for Shares."
INFORMATION AGENT
Any questions or requests for assistance concerning the method of
subscribing for Shares or for additional copies of this Prospectus or
Subscription Certificates or Notices of Guaranteed Delivery may be directed to
the Information Agent at its telephone number and address listed below:
Corporate Investor Communications, Inc.
111 Commerce Road
Carlstadt, New Jersey 07072-2586
Toll Free: (800) 958-6468
Shareholders may also contact their brokers or nominees for information with
respect to the Offer. The Information Agent will receive a fee estimated to be
$ and reimbursement for all out-of-pocket expenses related to the Offer.
PAYMENT FOR SHARES
Shareholders who wish to acquire Shares pursuant to the Offer may choose
between the following methods of payment:
(1) A shareholder may send the Subscription Certificate together with
payment for the Shares acquired on Primary Subscription and any additional
Shares subscribed for pursuant to the Over-Subscription Privilege to the
Subscription Agent based on the Estimated Subscription Price of $ per
share (based on % of the net asset value per share on , 1997). A
subscription will be accepted when payment, together with a properly
completed and executed Subscription Certificate, is received by the
Subscription Agent's office at one of the addresses set forth above no later
than 5:00 p.m., New York City time, on the Expiration Date. The Subscription
Agent will deposit all checks and money orders received by it for the
purchase of Shares prior to the final payment date into a segregated
interest-bearing account (the interest from which will accrue to the benefit
of the Fund) pending proration and distribution of Shares. A PAYMENT
PURSUANT TO THIS METHOD MUST BE IN U.S. DOLLARS BY MONEY ORDER OR CHECK
DRAWN ON A BANK OR BRANCH LOCATED IN THE UNITED STATES, MUST BE PAYABLE TO
PROSPECT STREET HIGH INCOME PORTFOLIO INC. AND MUST ACCOMPANY A PROPERLY
COMPLETED AND EXECUTED SUBSCRIPTION CERTIFICATE FOR SUCH SUBSCRIPTION
CERTIFICATE TO BE ACCEPTED. EXERCISE BY THIS METHOD IS SUBJECT TO ACTUAL
COLLECTION OF CHECKS BY 5:00 P.M., NEW YORK CITY TIME, ON THE EXPIRATION
DATE. BECAUSE UNCERTIFIED PERSONAL CHECKS MAY TAKE AT LEAST FIVE BUSINESS
DAYS TO CLEAR, SHAREHOLDERS ARE STRONGLY URGED TO PAY, OR ARRANGE FOR
PAYMENT, BY MEANS OF A CERTIFIED OR CASHIER'S CHECK OR MONEY ORDER.
(2) Alternatively, a subscription will be accepted by the Subscription
Agent if, prior to 5:00 p.m., New York City time, on the Expiration Date,
the Subscription Agent has received a Notice of Guaranteed Delivery by
facsimile (telecopy) or otherwise from a financial institution that is a
member of the Securities Transfer Agents Medallion Program, the Stock
Exchange Medallion Program or the New York Stock Exchange Medallion
Signature Program guaranteeing delivery of (i) payment of the Estimated
Subscription Price of $ per share for the Shares subscribed for in the
Primary Subscription and any additional Shares subscribed for pursuant to
the Over-Subscription Privilege, and (ii) a properly completed and executed
Subscription Certificate. The Subscription Agent will not honor a Notice of
Guaranteed Delivery unless a properly completed and executed Subscription
Certificate and full payment for the Shares is received by the Subscription
Agent by the close of business on the third Business Day after the
Expiration Date (the "Protect Period").
On a date within eight Business Days following the Expiration Date (the
"Confirmation Date"), the Subscription Agent will send to each subscribing
shareholder (or, if shares are held by Cede or any other depository or nominee,
to Cede or such other depository or nominee) a confirmation showing (i) the
number of Shares purchased pursuant to the Primary Subscription, (ii) the number
of Shares, if any, acquired pursuant to the Over-Subscription Privilege, (iii)
the per Share and total purchase price for the Shares, and (iv) any additional
amount payable by such subscribing shareholder to the Fund or any excess to be
refunded by the Fund to such subscribing shareholder, in each case based on the
Subscription Price as determined on the Expiration Date. If any Record Date
Shareholder exercises his or her right to acquire Shares pursuant to the
Over-Subscription Privilege, any such excess payment which would otherwise be
refunded to him or her will be applied by the Fund toward payment for additional
Shares acquired pursuant to exercise of the Over-Subscription Privilege. Any
additional payment required from a shareholder must be received by the
Subscription Agent within ten Business Days after the Confirmation Date. Any
excess payment to be refunded by the Fund to a shareholder will be mailed by the
Subscription Agent to such shareholder as promptly as practicable. All payments
by a shareholder must be in U.S. dollars by money order or check drawn on a bank
or branch located in the United States and payable to PROSPECT STREET HIGH
INCOME PORTFOLIO INC.
The Subscription Agent will deposit all checks received by it prior to the
final payment date into a segregated interest-bearing account (which interest
will accrue to the benefit of the Fund) pending proration and distribution of
the Shares.
WHICHEVER OF THE TWO METHODS DESCRIBED ABOVE IS USED, ISSUANCE OF THE SHARES
PURCHASED IS SUBJECT TO COLLECTION OF CHECKS AND ACTUAL PAYMENT. IF A HOLDER OF
RIGHTS WHO SUBSCRIBES FOR SHARES PURSUANT TO THE PRIMARY SUBSCRIPTION OR
OVER-SUBSCRIPTION PRIVILEGE DOES NOT MAKE PAYMENT OF ANY AMOUNTS DUE BY THE
TENTH BUSINESS DAY AFTER THE CONFIRMATION DATE, THE SUBSCRIPTION AGENT RESERVES
THE RIGHT TO TAKE ANY OR ALL OF THE FOLLOWING ACTIONS: (i) FIND OTHER
SHAREHOLDERS FOR SUCH SUBSCRIBED AND UNPAID FOR SHARES; (ii) APPLY ANY PAYMENT
ACTUALLY RECEIVED BY IT TOWARD THE PURCHASE OF THE GREATEST WHOLE NUMBER OF
SHARES WHICH COULD BE ACQUIRED BY SUCH HOLDER UPON EXERCISE OF THE PRIMARY
SUBSCRIPTION AND/OR OVER-SUBSCRIPTION PRIVILEGE, AND/OR (iii) EXERCISE ANY AND
ALL OTHER RIGHTS OR REMEDIES TO WHICH IT MAY BE ENTITLED, INCLUDING, WITHOUT
LIMITATION, THE RIGHT TO SET OFF AGAINST PAYMENTS ACTUALLY RECEIVED BY IT WITH
RESPECT TO SUCH SUBSCRIBED SHARES.
THE METHOD OF DELIVERY OF SUBSCRIPTION CERTIFICATES AND PAYMENT OF THE
SUBSCRIPTION PRICE TO THE FUND WILL BE AT THE ELECTION AND RISK OF THE
SUBSCRIBING SHAREHOLDERS, BUT IF SENT BY MAIL IT IS RECOMMENDED THAT SUCH
CERTIFICATES AND PAYMENTS BE SENT BY REGISTERED MAIL, PROPERLY INSURED, WITH
RETURN RECEIPT REQUESTED, AND THAT A SUFFICIENT NUMBER OF DAYS BE ALLOWED TO
ENSURE DELIVERY TO THE SUBSCRIPTION AGENT AND CLEARANCE OF PAYMENT PRIOR TO 5:00
P.M., NEW YORK CITY TIME, ON THE EXPIRATION DATE. BECAUSE UNCERTIFIED PERSONAL
CHECKS MAY TAKE AT LEAST FIVE BUSINESS DAYS TO CLEAR, YOU ARE STRONGLY URGED TO
PAY, OR ARRANGE FOR PAYMENT, BY MEANS OF CERTIFIED OR CASHIER'S CHECK OR MONEY
ORDER.
All questions concerning the timeliness, validity, form and eligibility of
any exercise of Rights will be determined by the Fund, whose determinations will
be final and binding. The Fund in its sole discretion may waive any defect or
irregularity, or permit a defect or irregularity to be corrected within such
time as it may determine, or reject the purported exercise of any Right.
Subscriptions will not be deemed to have been received or accepted until all
irregularities have been waived or cured within such time as the Subscription
Agent determines in its sole discretion. The Subscription Agent will not be
under any duty to give notification of any defect or irregularity in connection
with the submission of Subscription Certificates or incur any liability for
failure to give such notification.
SHAREHOLDERS WILL HAVE NO RIGHT TO RESCIND THEIR SUBSCRIPTION AFTER
RECEIPT OF THEIR PAYMENT FOR SHARES BY THE SUBSCRIPTION AGENT, EXCEPT AS
PROVIDED BELOW UNDER "NOTICE OF NET ASSET VALUE DECLINE."
DISTRIBUTION ARRANGEMENTS
PaineWebber Incorporated, 1285 Avenue of the Americas, New York, New York, a
broker-dealer and member of the National Association of Securities Dealers,
Inc., will act as the Dealer Manager for the Offer. Under the terms and subject
to the conditions contained in the Dealer Manager Agreement dated the date
hereof (the "Dealer Manager Agreement"), the Dealer Manager will provide
financial advisory and marketing services in connection with the Offer and will
solicit the exercise of Rights and participation in the Over-Subscription
Privilege by Record Date Shareholders. The Offer is not contingent upon any
number of Rights being exercised. The Fund has agreed to pay the Dealer Manager
a fee for financial advisory and marketing services equal to 1.25% of the
aggregate Subscription Price for Shares issued pursuant to the exercise of the
Rights and pursuant to the Over-Subscription Privilege, and the Fund has also
agreed to pay broker-dealers, including the Dealer Manager, fees for their
solicitation efforts (the "Solicitation Fees") of 2.50% of the Subscription
Price per Share for each Share issued pursuant to the exercise of the Rights and
pursuant to the Over-Subscription Privilege as a result of their soliciting
efforts. Solicitation Fees will be paid to the broker-dealer designated on the
applicable portion of the Subscription Certificates or, in the absence of such
designation, to the Dealer Manager.
In addition, the Fund may reimburse the Dealer Manager up to an aggregate of
$100,000 for its reasonable expenses incurred in connection with the Offer. The
Fund and the Investment Adviser have each agreed to indemnify the Dealer Manager
or contribute to losses arising out of certain liabilities including liabilities
under the Securities Act of 1933, as amended (the "Securities Act"). The Dealer
Manager Agreement also provides that the Dealer Manager will not be subject to
any liability to the Fund in rendering the services contemplated by such
Agreement except for any act of bad faith, willful misconduct or gross
negligence of the Dealer Manager or reckless disregard by the Dealer Manager of
its obligations and duties under such Agreement.
The Fund has agreed not to offer or sell, or enter into any agreement to
sell, any equity or equity related securities of the Fund or securities
convertible into such securities for a period of 180 days after the date of the
Dealer Manager Agreement, except for the Shares and Common Stock issued in
reinvestment of dividends or distributions or other limited circumstances.
DELIVERY OF SHARE CERTIFICATES
Certificates representing Shares acquired in the Primary Subscription will
be mailed promptly after the expiration of the Offer once full payment for such
Shares has been received and cleared. Certificates representing Shares acquired
pursuant to the Over-Subscription Privilege will be mailed as soon as
practicable after full payment for such Shares has been received and cleared and
all allocations have been completed. Participants in the Fund's Dividend
Reinvestment Plan (the "Plan") will have any Shares acquired in the Primary
Subscription and pursuant to the Over-Subscription Privilege credited to their
shareholder dividend reinvestment accounts in the Plan. Participants in the Plan
wishing to exercise Rights for the shares of Common Stock held in their accounts
in the Plan must exercise such Rights in accordance with the procedures set
forth above. Shareholders whose shares of Common Stock are held of record by
Cede or by any other depository or nominee on their behalf or their
broker-dealer's behalf will have any Shares acquired in the Primary Subscription
credited to the account of Cede or such other depository or nominee. Shares
acquired pursuant to the Over-Subscription Privilege will be certificated and
certificates representing such Shares will be sent directly to Cede or such
other depository or nominee. Stock certificates will not be issued for Shares
credited to Plan accounts.
FOREIGN SHAREHOLDERS
Subscription Certificates will not be mailed to Record Date Shareholders
whose record addresses are outside the United States (the term "United States"
includes the states, the District of Columbia, and the territories and
possessions of the United States) ("Foreign Record Date Shareholders"). Foreign
Record Date Shareholders will receive written notice of the offer. The Rights to
which such Subscription Certificates relate will be held by the Subscription
Agent for such Foreign Record Date Shareholders' accounts until instructions are
received to exercise the Rights. If no instructions have been received by the
Expiration Date, the Rights of those Foreign Record Date Shareholders will
expire.
FEDERAL INCOME TAX CONSEQUENCES OF THE OFFER
The U.S. federal income tax consequences to holders of Common Stock with
respect to the Offer will be as follows:
1. The distribution of Rights to Record Date Shareholders will not
result in taxable income to such holders nor will such holders realize
taxable income as a result of the exercise of the Rights. No loss will be
realized if the Rights expire without exercise.
2. The basis of a Right will be (a) to a holder of Common Stock to whom
it is issued and who exercises the Right (i) if the fair market value of the
Right immediately after issuance is less than 15% of the fair market value
of the Common Stock with regard to which it is issued, zero (unless the
holder elects, by filing a statement with his timely filed federal income
tax return for the year in which the Rights are received, to allocate the
basis of the Common Stock between the Right and the Common Stock based on
their respective fair market values immediately after the Right is issued),
and (ii) if the fair market value of the Right immediately after issuance is
15% or more of the fair market value of the Common Stock with regard to
which it is issued, a portion of the basis in the Common Stock based upon
their respective fair market values immediately after the Right is issued,
and (b) to a holder of Common Stock to whom it is issued and who allows the
Right to expire, zero.
3. The holding period of a Right received by a Record Date Shareholder
includes the holding period of the Common Stock with regard to which the
Right is issued. If the Right is exercised, the holding period of the Common
Stock acquired begins on the date the Right is exercised.
4. A shareholder's basis for determining gain or loss upon the sale of a
Share acquired upon the exercise of a Right will be equal to the sum of the
shareholder's basis in the Right, if any, and the Subscription Price per
Share. A shareholder's gain or loss recognized upon a sale of a Share
acquired upon the exercise of a Right will be capital gain or loss if the
Share was held at the time of sale as a capital asset and will be long-term
capital gain or loss if the Share is held for more than one year.
5. If the Right is exercised by the Record Date Shareholder, the basis
of the Common Stock received will include the basis, if any, allocated to
the Right and the amount paid upon exercise of the Right.
The Fund is required to withhold and remit to the U.S. Treasury 31% of
reportable payments paid on an account if the holder of the account provides the
Fund with either an incorrect taxpayer identification number or no number at all
or fails to certify that he is not subject to such withholding.
The foregoing is a general summary of the material U.S. federal income tax
consequences of the Offer under the provisions of the U.S. Internal Revenue Code
of 1986, as amended (the "Internal Revenue Code"), and Treasury regulations
presently in effect that are generally applicable to shareholders that are
citizens or residents of the United States, U.S. corporations, trusts, estates
and any other person who would be subject to U.S. federal income tax upon the
sale or exchange of the Common Stock acquired upon the exercise of the Rights,
and does not cover foreign, state or local taxes. The Internal Revenue Code and
such regulations are subject to change by legislative or administrative action,
which may be retroactive. Shareholders should consult their tax advisers
regarding specific questions as to foreign, federal, state or local taxes. See
"Federal Taxation."
NOTICE OF NET ASSET VALUE DECLINE
The Fund has, as required by the SEC's registration form, undertaken to
suspend the Offer until it amends this Prospectus if, subsequent to , 1997
(the effective date of the Fund's Registration Statement) the Fund's net asset
value declines more than 10% from its net asset value as of that date.
Accordingly, the Expiration Date would be extended and the Fund would notify
shareholders of any such decline and permit shareholders to cancel their
exercise of Rights.
EMPLOYEE PLAN CONSIDERATIONS
Shareholders that are employee benefit plans subject to the Employee
Retirement Income Security Act of 1974, as amended ("ERISA") (including
corporate savings and 401(k) plans), Keogh plans of self-employed individuals
and Individual Retirement Accounts (collectively, "Retirement Plans") should be
aware that additional contributions of cash to the Retirement Plan (other than
rollover contributions or trustee-to-trustee transfers from other Retirement
Plans) in order to exercise Rights would be treated as Retirement Plan
contributions and, when taken together with contributions previously made, may
result in, among other things, excise taxes for excess or nondeductible
contributions. In the case of Retirement Plans qualified under Section 401(a) of
the Internal Revenue Code and certain other Retirement Plans, additional cash
contributions could cause the maximum contribution limitations of Section 415 of
the Internal Revenue Code or other qualification rules to be violated.
Retirement Plans and other tax exempt entities, including governmental
plans, should also be aware that if they borrow in order to finance their
exercise of Rights, they may become subject to the tax on unrelated business
taxable income ("UBTI") under Section 511 of the Internal Revenue Code. If any
portion of an Individual Retirement Account ("IRA") is used as security for a
loan, the portion so used is also treated as distributed to the IRA depositor.
ERISA contains fiduciary responsibility requirements, and ERISA and the
Internal Revenue Code contain prohibited transaction rules that may impact the
exercise of Rights. Due to the complexity of these rules and the penalties for
noncompliance, Plans should consult with their counsel and other advisors
regarding the consequences of their exercise of Rights under ERISA and the
Internal Revenue Code.
IMPORTANT DATES TO REMEMBER
EVENT DATE
- ----- ----
Record Date ...................................... , 1997
Subscription Period .............................. , 1997
to , 1997*
Expiration Date and Pricing Date ................. , 1997*
Subscription Certificates and Payment for Shares
Due+ .......................................... , 1997*
Notice of Guaranteed Delivery Due+ ............... , 1997*
Payment for Guarantees of Delivery Due ........... , 1997*
Confirmation to Participants ..................... , 1997*
Final Payment for Shares ......................... , 1997*
- ----------
* Unless the Offer is extended to a date not later than , 1997.
+ A shareholder exercising Rights must deliver either (i) a Subscription
Certificate and payment for Shares or (ii) a Notice of Guaranteed Delivery,
by , 1997.
USE OF PROCEEDS
If all the Rights are exercised in full at the Estimated Subscription Price
of $ per Share, the net proceeds of the Offer to the Fund are estimated to be
approximately $ , after deducting offering expenses payable by the Fund
estimated at approximately $ . If the Fund increases the number of Shares
subject to subscription by up to 25%, or 2,580,897 Shares, in order to satisfy
over-subscription requests, the additional net proceeds to the Fund will be
approximately $ . The Investment Adviser anticipates that investment of such
proceeds in accordance with the Fund's investment objective and policies will
take up to thirty days from their receipt by the Fund, depending on market
conditions and the availability of appropriate securities for purchase, but in
no event will such investment take longer than six months. Pending such
investment in accordance with the Fund's investment objective and policies, the
proceeds will be held in U.S. Government securities (which term includes
obligations of the United States Government, its agencies or instrumentalities)
and other high-quality short-term money market instruments.
INVESTMENT POLICIES AND LIMITATIONS
The investment objective of the Fund is to provide high current income,
while seeking to preserve shareholders' capital, through investment in a
professionally managed, diversified portfolio of "high-yield," high risk
securities (commonly referred to as "junk bonds").
The Fund seeks to achieve its objective of preserving shareholders' capital
through a careful selection process for the Fund's "high-yield," high risk
investments which focuses on each issuer's financial condition and projected
ability to service its debt obligations, portfolio diversification which is
intended to minimize the impact of individual issuer defaults and adverse
economic conditions affecting particular issuers and industry segments, and
close monitoring of portfolio investments and economic developments in order to
reposition the Fund's portfolio in anticipation of negative developments which
the Investment Adviser believes are likely to occur. Given the high risk nature
and price volatility of the Fund's investments as well as the Fund's leverage,
however, it may be extremely difficult to achieve this objective on a consistent
basis in the future. In the severe adverse interest rate and economic
environment of 1989 and 1990, the Fund suffered a substantial decline in its net
asset value as a result of these factors and thus failed to achieve this
objective during that period.
During the sharp "high-yield" market decline of 1989 and 1990, the Fund's
leverage contributed to a sharp decline in the net asset value of the Common
Stock. In order to remain in compliance with the 200% asset coverage ratio
required by the 1940 Act, the Fund was required to repurchase $45.0 million of
the $50.0 million of previously outstanding Senior Extendible Notes. Also, to
maintain compliance with the Fund's Surety Investment Guidelines the Fund was
required to sell "high-yield" assets. The selling of "high-yield" assets below
their original cost and the retirement of $45.0 million of the Fund's Senior
Extendible Notes resulted in a reduction of the Fund's total assets and caused
the Fund to realize substantial capital losses. The Surety Investment Guidelines
and the asset coverage ratio requirements combined to delay the Fund's
reinvestment of cash into "high-yield" securities as the market improved. The
Fund's use of leverage is currently benefitting the holders of Common Stock as
the current average cost of funds (pursuant to its Preferred Shares and Notes
obligations) was approximately % as of , 1997 while the "high-yield"
market currently offers interest income at annualized rates of approximately
10.0% to 12.0%. There is no assurance that the Fund's investment objective will
be attained in the future.
The Fund's investment objective is a fundamental policy. Pursuant to the
1940 Act, fundamental policies may not be changed without the affirmative vote
of the holders of a majority of the outstanding shares of Common Stock and a
majority of the outstanding Preferred Shares, voting as separate classes, which,
for purposes of the 1940 Act, means for each class the lesser of (a) more than
50% of the outstanding shares of such class or (b) 67% or more of the shares of
such class present or represented at a meeting at which more than 50% of the
outstanding shares of such class are present or represented by proxy.
Accordingly, no change in the Fund's investment objective could occur without
the affirmative vote of both classes of stock.
INVESTMENT STRATEGY
It is the Fund's policy that under normal market conditions, at least 65% of
its total assets will be invested in "high-yield," high risk securities rated in
the lower categories by recognized rating agencies or nonrated fixed-income
securities deemed by the Investment Adviser to be of comparable quality,
although the Fund has invested and currently intends to continue to invest a
substantially higher percentage of its assets in such securities to the extent
permitted by market conditions. The Fund's portfolio investments have consisted
and will continue to consist principally of fixed-income securities rated
"BB"/"Ba" or lower by the Rating Agencies. The Fund reserves the right, under
normal market conditions, to invest up to 35% of its total assets in money
market instruments and fixed-income securities rated higher than "BB"/"Ba,"
although the percentage invested in such securities may increase under other
than normal market conditions, as discussed below.
The dollar weighted average of credit ratings of all bonds held by the Fund
during the [ ] month period ended , 1997, computed on a monthly basis,
is set forth below. This information reflects the composition of the Fund's
assets at , 1997 and is not necessarily representative of the Fund as
of the current fiscal year or at any other time in the future.
RATED BY
MOODY'S
--------
Ba ............................. %
B .............................. %
Caa ............................ %
Ca ............................. %
NR ............................. %
-----
Total ...................... %
Under the Investment Guidelines, certain types of securities in which the
Fund may otherwise invest pursuant to the foregoing strategy and the investment
policies stated below are not eligible for inclusion in the calculation of the
discounted value of the Fund's portfolio. Such instruments include, for example,
securities rated "CC"/"Ca" and "C"/"C" by the Rating Agencies, preferred or
common stock, zero coupon or similar securities that do not provide for the
periodic payment of interest in cash and other securities not within the
Investment Guidelines. Accordingly, although the Fund reserves the right to
invest in such securities to the extent set forth herein, they have not and it
is anticipated that they will not constitute a significant portion of the Fund's
portfolio. See "Investment Guidelines" below, "Description of Notes -- Asset
Maintenance" and "Surety Arrangement for Preferred Shares -- Insurance
Agreement."
"High-yield" bonds, the generic name for corporate bonds rated between
"BB"/"Ba" and "C"/"C" by the Rating Agencies, are frequently issued by
corporations in the growth stage of their development. Bonds which are rated
"BB"/"Ba," "B"/"B," "CCC"/"Caa," "CC"/"Ca" and "C"/"C" are regarded by the
Rating Agencies, on balance, as predominantly speculative with respect to
capacity to pay interest and repay principal in accordance with the terms of the
obligation. Such securities are also generally considered to be subject to
greater risk than securities with higher ratings with regard to a deterioration
of general economic conditions. Further information concerning the ratings of
corporate bonds, including the rating categories of the Rating Agencies, is
provided in Appendix A. "High-yield" securities held by the Fund may include
securities received as a result of a corporate reorganization or issued as part
of a corporate takeover. Securities issued to finance corporate restructurings
may have special credit risks due to the highly leveraged conditions of the
issuers, and such securities are usually subordinate to securities subsequently
issued by the issuer. In addition, such issuers may lose experienced management
as a result of the restructurings. Finally, the market price of such securities
may be more volatile to the extent that expected benefits from restructuring do
not materialize.
Securities acquired by the Fund may include preferred stocks (including
convertible preferred stocks) and all types of debt obligations having varying
terms with respect to security or credit support, subordination, purchase price,
interest payments and maturity. Such obligations may include, for example,
bonds, debentures, notes (including convertible debt securities), mortgage or
other asset-backed instruments, equipment lease certificates, equipment trust
certificates, conditional sales contracts, commercial paper and obligations
issued or guaranteed by the United States government or any of its political
subdivisions, agencies or instrumentalities (including obligations, such as
repurchase agreements, secured by such instruments). Most debt securities in
which the Fund will invest will bear interest at fixed rates. However, the Fund
reserves the right to invest without limitation in fixed-income debt securities
that have variable rates of interest or involve equity features, such as
contingent interest or participations based on revenues, sales or profits (i.e.,
interest or other payments, often in addition to a fixed rate of return, that
are based on the borrower's attainment of specified levels of revenues, sales or
profits and thus enable the holder of the security to share in the potential
success of the venture). The Fund also has the right to acquire common stock or
warrants to purchase common stock or other equity securities as part of a unit
in connection with the purchase of debt securities consistent with the Fund's
investment policies.
The Fund may invest up to 30% of its total assets in securities that are not
readily marketable, including securities restricted as to resale, and nonrated
securities. A security that is not readily marketable will not be acquired
unless (i) the Investment Adviser believes such security to be of comparable
quality to publicly traded securities and (ii) such security carries rights to
be registered under the federal securities laws. Securities that are not readily
marketable may offer higher yields than comparable publicly traded securities.
However, the Fund may not be able to sell these securities when the Investment
Adviser considers it desirable to do so or, to the extent they are sold
privately, may have to sell them at less than the price of otherwise comparable
securities.
The Fund may also be permitted to invest up to 20% of its total assets in
zero coupon securities. Zero coupon securities pay no cash income but are
purchased at a deep discount from their value at maturity. When held to
maturity, their entire return, which consists of the amortization of discount,
comes from the difference between their purchase price and their maturity value.
For a discussion of certain tax consequences resulting from the inclusion of
zero coupon securities in the Fund's portfolio, see "Federal Taxation -- Federal
Income Tax Treatment of the Fund."
Notwithstanding the foregoing, if market conditions threaten to erode the
value of the Fund's assets, the Fund may adopt a temporary defensive investment
strategy and invest without limitation in high-grade money market instruments,
including commercial paper of domestic and foreign corporations, certificates of
deposit, bankers' acceptances and other obligations of banks, repurchase
agreements and short-term obligations issued or guaranteed by the United States
government or its instrumentalities or agencies, and also in fixed-income
securities rated higher than "BB"/"Ba" by the Rating Agencies. In addition,
under such market conditions, the Fund may invest in unrated commercial paper
which it deems to have risk characteristics comparable to such instruments. The
yield on these securities will tend to be lower than the yield on other
securities to be purchased by the Fund.
The Fund may also invest in fixed-income securities rated higher than
"BB"/"Ba" by the Rating Agencies or nonrated fixed-income securities deemed by
the Investment Adviser to be of comparable quality when the difference in yields
between quality classifications is relatively narrow. Investments in higher
rated issues may serve to lessen a decline in net asset value but may also
affect the amount of current income produced by the Fund, since the yields from
such issues are usually lower than those from lower rated issues. Accordingly,
the inclusion of such instruments in the Fund's portfolio may have the effect of
reducing the yield on the Common Stock.
The achievement of the Fund's objective depends upon the Investment
Adviser's analytical and portfolio management skills. There is no assurance that
this objective will be attained in the future. All nonfundamental investment
policies of the Fund, including those described below under "Investment
Guidelines," may be changed by the Board of Directors of the Fund without
shareholder approval.
INVESTMENT GUIDELINES
The composition of the Fund's portfolio reflects the Notes Investment
Guidelines and the Surety Investment Guidelines. Rating agencies issue ratings
for various securities reflecting the perceived creditworthiness of such
securities or, in the case of the Preferred Shares, the perceived claims-paying
ability of the surety that is guaranteeing the Scheduled Payments (as defined
herein) on the Preferred Shares. See "Surety Arrangement for Preferred Shares --
Insurance Agreement." The respective Investment Guidelines are designed to
ensure that assets underlying the Notes or the Preferred Shares, as the case may
be, will be sufficiently diversified and will be of sufficient credit quality
and amount to justify investment grade ratings of "Aaa" for the Notes by Fitch
Investors Services, Inc. and "AAA"/"Aaa" for the Preferred Shares. The
Investment Guidelines are not prescribed by law, but have been implemented by
the Fund in order to receive the above-described ratings for senior securities,
which ratings are generally relied upon by institutional investors in purchasing
such securities. In the context of a closed-end investment company such as the
Fund, therefore, the Investment Guidelines provide tests for portfolio
diversification and asset coverage that supplement the applicable requirements
under the 1940 Act (and may be more or less restrictive), but are the sole
determinants in the rating of a security.
Under the respective Investment Guidelines, the Fund is required to maintain
specified discounted asset values for its portfolio representing the Note Basic
Maintenance Amount and Surety Assets Coverage. For definitions of such terms,
see "Description of Notes -- Asset Maintenance" and "Surety Arrangement for
Preferred Shares -- Insurance Agreement." For the purpose of determining the
Fund's compliance with the respective Investment Guidelines, the market value of
the Fund's portfolio holdings will be discounted by dividing it by factors
determined by the respective rating agencies or Financial Security as the case
may be, which vary according to the particular type of security being valued for
such purpose. To the extent any particular portfolio holding does not meet the
applicable Investment Guidelines, it would not be included for purposes of
determining compliance with the Note Basic Maintenance Amount or Surety Assets
Coverage, as the case may be. The respective Investment Guidelines do not impose
any limitations on the percentage of Fund assets that may be invested in
holdings not eligible for inclusion in the calculation of the discounted value
of the Fund's portfolio, and the amount of such assets included in the portfolio
at any time, if any, may vary depending upon the credit quality (and related
discounted value) of the Fund's eligible assets at such time.
Upon any failure to maintain the required Note Basic Maintenance Amount or
Surety Assets Coverage, the Fund would seek to alter the composition of its
portfolio to attain required asset coverage within an eight Business Day cure
period, thereby incurring additional transaction costs and possible losses
and/or gains on dispositions of portfolio securities. To the extent any such
failure is not cured in a timely manner, the holders of the Notes and/or
Financial Security, as surety under the Surety Bond (as defined herein), will
acquire certain rights. See "Description of Notes -- Asset Maintenance" and
"Surety Arrangement for Preferred Shares -- Insurance Agreement."
Under the Notes Investment Guidelines, corporate debt obligations are not
included in the calculation of the discounted value of the Fund's portfolio for
the purpose of determining compliance with the Note Basic Maintenance Amount
unless they (a) are rated "CCC" or higher by S&P or "Caa" or higher by Moody's,
(b) provide for the periodic payment of interest thereon in cash, (c) have been
registered under the Securities Act, (d) do not provide for conversion or
exchange into equity capital at any time over their respective lives, (e) have
not had notice given in respect thereof that any such corporate debt obligations
are the subject of an offer by the issuer thereof of exchange or tender for
cash, securities or any other type of consideration (except that corporate debt
obligations in an amount not exceeding 10% of the Fund's total assets at any
time shall not be subject to the provisions of this clause (e)) and (f) are not
subject to call options. In addition, portfolio holdings must be within the
following diversification requirements in order to be included in the
calculation of the discounted value of the Fund's portfolio for the purpose of
determining compliance with the Note Basic Maintenance Amount:
<TABLE>
<CAPTION>
MAXIMUM
MAXIMUM PERCENT OF MARKET
PERCENT OF MARKET VALUE OF ELIGIBLE
MINIMUM ORIGINAL VALUE OF ELIGIBLE PORTFOLIO ASSETS
ISSUE SIZE OF PORTFOLIO ASSETS INVESTED IN ANY
RATING AGENCIES' EACH ISSUE INVESTED IN ANY ONE INDUSTRY
RATINGS(1) ($ IN MILLIONS) ONE ISSUER(2) CATEGORY(2)
- ---------------- ---------------- ---------------- -----------------
<S> <C> <C> <C>
"AAA"/"Aaa" ............................................. $100 10.0% 50.0%
"AA"/"Aa" ............................................... 100 10.0 33.3
"A"/"A" ................................................. 100 10.0 33.3
"BBB"/"Baa" ............................................. 100 5.0 20.0
"BB"/"Ba"................................................ 100(3) 4.0 12.0
"B"/"B1," "B2" and "B3" (subordinated) .................. 100(3) 3.0 8.0
"CCC"/"B3" (senior) and "Caa" (unsecured subordinated)(4) 100(3) 2.0 5.0
"A-1+"/"P-1"(5) ......................................... NA 10.0 NA
"A-1"/"P-1"(5) .......................................... NA 10.0 33.3
"A-2"/"P-2"(5) .......................................... NA 5.0 20.0
</TABLE>
- ----------
(1) Rating designations include (+) or (-) modifiers to the S&P rating where
appropriate and (1), (2) or (3) modifiers to the Moody's rating where
appropriate, except that corporate debt obligations rated "CCC-" may not be
included in determining compliance with the Note Basic Maintenance Amount.
In the event that a corporate debt obligation has received a different
rating from S&P than from Moody's, the restrictions relating to the lower
rating will apply. See Appendix A for further information concerning S&P's
and Moody's rating categories.
(2) The referenced percentages represent maximum cumulative totals for the
related rating category and each lower rating category, except that the
calculations with respect to commercial paper investments constituting
corporate bonds shall be made separately and independently of, but on the
same basis as, the cumulative total guidelines applicable to other types of
corporate debt obligations. To the extent the relevant limitation is less
restrictive than that set forth under "Investment Restrictions" below, the
more restrictive limitation shall apply.
(3) 20% of the aggregate market value of all corporate debt obligations in these
rating categories may be from issues with an original issue size of greater
than or equal to $50 million and less than $100 million.
(4) Corporate debt obligations in this rating category must be subordinated debt
of the issuer with an implied senior rating of "B-" or higher (i.e., such
subordinated debt would have a rating of "B-" or higher if it were senior
debt of the issuer) if rated by S&P to be included in determining compliance
with the Note Basic Maintenance Amount. The aggregate market value of
corporate debt obligations in this rating category in excess of 20% of the
aggregate market value of the Fund's assets will not be included in
determining such compliance.
(5) Represents commercial paper investments.
Under the Surety Investment Guidelines, corporate debt obligations are not
included in the calculation of the discounted value of the Fund's portfolio for
the purpose of determining compliance with Surety Assets Coverage unless they
(a) are rated "CCC" or higher by S&P or "B3" or higher by Moody's, (b) provide
for the periodic payment of interest thereon in cash, (c) do not provide for
conversion or exchange into equity capital at any time over their respective
lives, (d) have been registered under the Securities Act, (e) have a remaining
term to maturity of not more than 30 years, (f) have not had notice given in
respect thereof that any such corporate debt obligations are the subject of an
offer by the issuer thereof of exchange or tender for cash, securities or any
other type of consideration (except that corporate debt obligations in an amount
not exceeding 10% of the Fund's total assets at any time shall not be subject to
the provisions of this clause (f)) and (g) are not subject to call options.
Notwithstanding the foregoing, nonrated fixed-income securities and unregistered
corporate debt securities may be included in the calculation of the discounted
value of the Fund's portfolio for the purpose of determining compliance with
Surety Assets Coverage, as long as they do not exceed 30% of the Fund's eligible
portfolio assets at any time, with certain limitations. In addition, portfolio
holdings of corporate debt obligations must be within the following
diversification requirements in order to be included in the calculation of the
discounted value of the Fund's portfolio for the purpose of determining
compliance with Surety Assets Coverage:
<TABLE>
<CAPTION>
MAXIMUM
MAXIMUM PERCENT OF MARKET
PERCENT OF MARKET VALUE OF ELIGIBLE
MINIMUM ORIGINAL VALUE OF ELIGIBLE PORTFOLIO ASSETS
ISSUE SIZE OF PORTFOLIO ASSETS INVESTED IN ANY
RATING AGENCIES' EACH ISSUE INVESTED IN ANY ONE INDUSTRY
RATINGS(1) ($ IN MILLIONS) ONE ISSUER(2) CATEGORY(2)
- ---------------- ---------------- ------------------ -----------------
<S> <C> <C> <C>
"AAA"/"Aaa" ............................................ $100 10.0% 50.0%
"AA"/"Aa" .............................................. 100 10.0 33.3
"A"/"A" ................................................ 100 10.0 33.3
"BBB"/"Baa" ............................................ 100 5.0 20.0
"BB"/"Ba" .............................................. 100(3) 4.0 12.0
"B"/"B1" or "B2" ....................................... 100(3) 3.0 8.0
"CCC"/"B3"(4) .......................................... 100(3) 3.0 8.0
Nonrated/unregistered corporate bonds(5) ............... 50 3.0 8.0
"A-1+"/"P-1"(6) ........................................ NA 10.0 NA
"A-1"/"P-1"(6) ......................................... NA 10.0 33.3
"A-2"/"P-2"(6) ......................................... NA 5.0 20.0
</TABLE>
- ----------
(1) Rating designations include (+) or (-) modifiers to the S&P rating where
appropriate and (1), (2) or (3) modifiers to the Moody's rating where
appropriate, except that corporate debt obligations rated "CCC-" may not be
included in determining compliance with Surety Assets Coverage. In the event
that a corporate debt obligation has received a different rating from S&P
than from Moody's, the restrictions relating to the lower rating will apply.
See Appendix A for further information concerning S&P's and Moody's rating
categories. If only one of the Rating Agencies has issued a rating for such
instrument, then only the rating of such agency is required; provided,
however, that not more than 15% of the aggregate market value of the rated
corporate debt obligations included in determining compliance with Surety
Assets Coverage shall be comprised of corporate debt obligations having a
rating from only one of such agencies.
(2) The referenced percentages represent maximum cumulative totals for the
related rating category and each lower rating category, except that the
calculations with respect to commercial paper investments constituting
corporate bonds shall be made separately and independently of, but on the
same basis as, the cumulative total guidelines applicable to other types of
corporate debt obligations. To the extent the relevant limitation is less
restrictive than that set forth under "Investment Restrictions" below, the
more restrictive limitation shall apply.
(3) 20% of the aggregate value of all corporate debt obligations in these rating
categories may be from issues with an original issue size of greater than or
equal to $50 million and less than $100 million.
(4) Corporate debt obligations in this rating category must be subordinated debt
of the issuer with an implied senior rating of "B-" or higher (i.e., that
such subordinated debt would have a rating of "B-" or higher if it were
senior debt of the issuer) if rated by S&P to be included in determining
compliance with Surety Assets Coverage. The aggregate market value of
corporate debt obligations in this rating category in excess of 20% of the
aggregate market value of the Fund's eligible portfolio assets will not be
included in determining such compliance.
(5) Nonrated/unregistered corporate bonds may not constitute more than 30% of
the aggregate market value of the Fund's eligible portfolio assets. Not more
than 18% of the aggregate market value of the Fund's eligible portfolio
assets may consist of nonrated/unregistered corporate bonds from issues with
original issue sizes of $50 million or more but less than $100 million,
provided that not more than 9% of the aggregate market value of the Fund's
eligible portfolio assets may consist of nonrated/unregistered corporate
bonds from issues with an original issue size of $50 million or more but
less than $75 million.
(6) Represents commercial paper investments.
Additionally, under the Surety Investment Guidelines, the Fund may not (i)
acquire or otherwise invest in (A) repurchase agreements except repurchase
agreements with a remaining term to maturity of not more than 30 days, (B)
reverse repurchase agreements, (C) futures contracts or (D) options on futures
contracts except to the extent such options do not exceed 5% of the total assets
of the Fund, (ii) engage in short sales, (iii) overdraw any bank account, (iv)
write options on portfolio securities other than call options on securities held
in the Fund's portfolio or that the Fund has an immediate right to acquire
through conversion or exchange of securities held in its portfolio or (v) engage
in the lending of portfolio securities. The Fund does not currently intend to
utilize any of the prohibited investment strategies as described above. However,
the Fund could utilize any of the foregoing with the written consent of
Financial Security, and therefore, the Fund may use such strategies in the
future.
PORTFOLIO MATURITY AND TURNOVER
The Fund's holdings may include issues of various maturities. Ordinarily,
the Fund will emphasize investments in medium and longer term instruments (i.e.,
those with maturities in excess of three years), but the weighted average
maturity of portfolio holdings may be shortened or lengthened depending
primarily upon the Investment Adviser's outlook for interest rates. To the
extent the weighted average maturity of the Fund's portfolio securities is
lengthened, the value of such holdings will be more susceptible to fluctuation
in response to changes in interest rates, creditworthiness and general economic
conditions. As of , 1997, the weighted average maturity of the Fund's
portfolio holdings was years. The weighted average of the Fund's portfolio
will fluctuate depending on market conditions and investment opportunities. The
Fund, however, does not expect that the weighted average maturity of the Fund's
portfolio will, under normal conditions, exceed 15 years.
The Investment Adviser actively makes portfolio adjustments that reflect the
Fund's investment strategy, but does not trade securities for the Fund for the
purpose of seeking short-term profits. It will, however, change the Fund's
securities, regardless of how long they have been held, when it believes doing
so will further the Fund's investment objective.
In light of the Fund's investment objective and policies, it is anticipated
that the Fund's portfolio turnover rate generally will not, although it may,
from time to time, exceed 100% per annum. A 100% annual turnover rate would
occur, for example, if all the securities in the Fund's portfolio were replaced
once within a period of one year. The Fund does, however, reserve full freedom
with respect to portfolio turnover. In periods when there are rapid changes in
economic conditions or security price levels or when investment strategy is
changed significantly, portfolio turnover may be significantly higher than
during times of economic and market price stability, when investment strategy
remains relatively constant. A high rate of portfolio turnover will result in
increased transaction costs for the Fund in the form of increased dealer spreads
and brokerage commissions. The Fund's portfolio turnover rates for the fiscal
years ended October 31, 1994, 1995 and 1996 were 72.00%, 80.71% and 108.33%,
respectively.
CERTAIN INVESTMENT STRATEGIES
The Investment Adviser reserves the right to employ the strategies described
below in order to help achieve the Fund's investment objective. Such strategies
include the lending of portfolio securities, the short sale of securities and
the use of futures contracts and options thereon, reverse repurchase agreements
and repurchase agreements (other than certain repurchase agreements with
qualified depository institutions having maturities not longer than one day).
Unless so stated below, there are no limits to the Fund's use of these
investment strategies. The Fund's Board of Directors has adopted an operating
policy under which the Fund will not subject more than 5% of its total net
assets to investment techniques such as options, futures contracts and related
options, foreign currency transactions, interest rate transactions, and similar
techniques such as hedging or investment techniques. In addition, the respective
Investment Guidelines, as well as other terms of the Surety Arrangement, may
have the effect of limiting the Fund's use of other investment strategies to the
extent such investments are not eligible for inclusion in the discounted value
of the Fund's portfolio.
Securities Loans. The Fund may make secured loans of its portfolio
securities amounting to not more than one-third of the value of its total
assets, thereby realizing additional income. The risks in lending portfolio
securities, as with other extensions of credit, consist of possible delays in
recovery of the securities or possible loss of rights in the collateral should
the borrower fail financially. As a matter of policy, securities loans are made
to unaffiliated broker-dealers pursuant to agreements requiring that loans be
continuously secured by collateral in cash or short-term debt obligations at
least equal at all times to the value of the securities subject to the loan. The
borrower pays to the Fund an amount equal to any interest or dividends received
on securities subject to the loan. The Fund retains all or a portion of the
interest received on investment of the cash collateral or receives a fee from
the borrower. Although voting rights, or rights to consent, with respect to the
loaned securities pass to the borrower, the Fund retains the right to call the
loans at any time on reasonable notice, and it will do so in order that the
securities may be voted by the Fund if the holders of such securities are asked
to vote upon or consent to matters materially affecting the investment. The Fund
may also call such loans in order to sell the securities involved.
When-Issued and Delayed Delivery Securities. From time to time, in the
ordinary course of business, the Fund may purchase securities on a when-issued
or delayed delivery basis (i.e., delivery and payment can take place a month or
more after the date of the transaction). The Fund will invest in when- issued
and delayed delivery securities in order to lock in a favorable rate of return.
The purchase price and the interest rate payable on the securities are fixed on
the transaction date. The securities so purchased are subject to market
fluctuation, and no interest accrues to the Fund until delivery and payment take
place. At the time the Fund makes the commitment to purchase securities on a
when-issued or delayed delivery basis, it will record the transaction and
thereafter reflect the value of such securities in determining its net asset
value. The Fund will make commitments for such when-issued transactions only
with the intention of actually acquiring the securities. To facilitate such
acquisitions, the Fund's custodian bank will maintain, in a separate account of
the Fund, cash or United States government or other high quality debt securities
from its portfolio, marked to market daily and having value equal to or greater
than such commitments. On delivery dates for such transactions, the Fund will
meet its obligations from maturities or sales of the securities held in the
separate account and/or from then available cash flow. If the Fund chooses to
dispose of the right to acquire a when-issued security prior to its acquisition,
it could, as with the disposition of other portfolio obligations, incur a gain
or loss due to market fluctuation. The Fund is dependent on the other party to
successfully complete when-issued and delayed delivery transactions. If such
other party fails to complete its portion of the transaction, the Fund will have
lost the opportunity to invest the amount set aside for such transaction in the
segregated asset account.
Repurchase Agreements. The Fund may enter into repurchase agreements on up
to 25% of the value of its total assets. A repurchase agreement is a contract
under which the Fund acquires a security for a relatively short period (usually
not more than one week) subject to the obligation of the seller to repurchase
and the Fund to resell such security at a fixed time and price (representing the
Fund's cost plus interest). The Fund will invest in repurchase obligations to
assist in the management of its portfolio and also to obtain additional revenue
and thereby maximize shareholders' value. It is the Fund's present intention to
enter into repurchase agreements only with commercial banks and registered
broker-dealers and only with respect to obligations of the United States
government or its agencies or instrumentalities. Repurchase agreements may also
be viewed as loans made by the Fund which are collateralized by the securities
subject to repurchase. The Investment Adviser will monitor such transactions to
ensure that the value of the underlying securities will be at least equal at all
times to the total amount of the repurchase obligation, including the interest
factor. The Investment Adviser will also evaluate the creditworthiness of the
repurchase agreement sellers with whom the Fund does business and will monitor
their creditworthiness during the period of any repurchase agreement. If the
seller defaults, the Fund could realize a loss on the sale of the underlying
security to the extent that the proceeds of sale including accrued interest are
less than the resale price provided in the agreement including interest. In
addition, if the seller should be involved in bankruptcy or insolvency
proceedings, the Fund may incur delay and costs in selling the underlying
security or may suffer a loss of principal and interest if the Fund is treated
as an unsecured creditor and required to return the underlying collateral to the
seller's estate.
Reverse Repurchase Agreements. The Fund may enter into reverse repurchase
agreements with respect to debt obligations which could otherwise be sold by the
Fund. A reverse repurchase agreement is an instrument under which the Fund may
sell an underlying debt instrument and simultaneously obtain the commitment of
the purchaser (a commercial bank or a broker or dealer) to sell the security
back to the Fund at an agreed upon price on an agreed upon date. The Fund will
undertake reverse repurchase transactions to assist in the management of its
portfolio and to obtain additional liquidity in its portfolios. The value of
underlying securities will be at least equal at all times to the total amount of
the resale obligation, including the interest factor. The Fund receives payment
for such securities only upon physical delivery or evidence of book entry
transfer by its custodian. Regulations of the SEC require that if securities are
sold by the Fund under a reverse repurchase agreement, the Fund will maintain in
a segregated account of the Fund established with the Custodian (as defined
herein), cash or United States government or other high quality debt securities
from its portfolio, marked to market daily and having a value equal to the
proceeds received on any sale subject to repurchase plus interest. Reverse
repurchase agreements could involve certain risks in the event of default or
insolvency of the other party, including possible delays or restrictions upon
the Fund's ability to dispose of the underlying securities. An additional risk
is that the market value of securities sold by the Fund under a reverse
repurchase agreement could decline below the price at which the Fund is
obligated to repurchase them. Reverse repurchase agreements will be considered
borrowings by the Fund and as such would be subject to the restrictions on
borrowing described below under "Investment Restrictions." The Fund will not
hold more than 5% of the value of its total assets in reverse repurchase
agreements and will enter into such agreements only so long as it is not in
violation of Section 18 of the 1940 Act.
Foreign Investments. The Fund may invest up to 10% of the value of its total
assets in securities principally traded in foreign markets and Eurodollar
certificates of deposit issued by branches of U.S. banks. Foreign investments
may involve risks not present to the same degree in domestic investments, such
as future political and economic developments, the imposition of withholding
taxes on interest income, seizure or nationalization of foreign deposits, the
establishment of exchange controls or the adoption of other foreign governmental
restrictions which might adversely affect the payment of principal and interest
on such obligations. Foreign securities may be less liquid and more volatile
than U.S. securities, and foreign accounting and disclosure standards may differ
from U.S. standards. In addition, settlement of transactions in foreign
securities may be subject to delays, which could result in adverse consequences
to the Fund including restrictions on the subsequent resale of such securities.
The value of foreign investments may rise or fall because of changes in currency
exchange rates. In addition, the costs of exchanging foreign currencies for
payments in U.S. dollars and nonnegotiated brokerage commissions in foreign
countries may reduce the yield on foreign securities. In the event of a default
in payment on foreign securities, the Fund may incur increased costs to obtain a
judgment against the foreign issuer in the United States or abroad. The Fund may
buy or sell foreign currencies or deal in forward foreign currency contracts to
hedge against possible fluctuations in exchange rates that may affect the yield
of the Fund when the foreign currencies are converted in payment in U.S.
dollars. The Fund may engage in currency exchange transactions to protect
against uncertainty in the level of future exchange rates. The Fund will use
currency transactions only for hedging and not speculation. A forward currency
contract involves an obligation to purchase or sell a specific currency at a
future date, which may be any fixed number of days from the date of the contract
agreed upon by the parties, at a price set at the time of the contract. The
Fund's dealings in forward currency exchange will be limited to hedging
involving either specific transactions or portfolio positions. Transaction
hedging is the purchase or sale of forward currency with respect to specific
receivables or payables of the Fund generally arising in connection with the
purchase or sale of its portfolio securities. Position hedging is the sale of
forward currency with respect to portfolio security positions denominated or
quoted in the currency.
The Fund may not use position hedging with respect to a particular currency
to an extent greater than the aggregate market value (at the time of entering
into the position hedge) of the securities held in its portfolio denominated or
quoted in or currently convertible into that particular currency. If the Fund
enters into a position hedging transaction, the Fund's custodian will place cash
or U.S. Government securities or other high grade liquid debt securities in a
segregated account of the Fund in an amount equal to the value of the Fund's
total assets committed to the consummation of the forward contract. If the value
of the securities placed in the segregated account declines, additional cash or
securities will be placed in the account so that the value of the account will
equal the amount of the Fund's commitment with respect to the forward contract.
Options. The Fund may write (sell) call options which are traded on national
securities exchanges with respect to securities in its portfolio. The Fund may
only write "covered" call options, that is, options on securities it holds in
its portfolio or has an immediate right to acquire through conversion or
exchange of securities held in its portfolio. The Fund may write call options on
its portfolio securities in an attempt to realize a greater current return than
would be realized on the securities alone. The Fund may also write call options
as a partial hedge against a possible market decline. In view of its investment
objective, the Fund generally would write call options only in circumstances in
which the Investment Adviser does not anticipate significant appreciation of the
underlying security in the near future or has otherwise determined to dispose of
the security. As the writer of a call option, the Fund receives a premium for
undertaking the obligation to sell the underlying security at a fixed price
during the option period if the option is exercised. So long as the Fund remains
obligated as a writer of a call option, it forgoes the opportunity to profit
from increases in the market price of the underlying security above the exercise
price of the option, except insofar as the premium represents such a profit (and
retains the risk of loss should the value of the underlying security decline).
The Fund may also enter into "closing purchase transactions" in order to
terminate its obligation as a writer of a call option prior to the expiration of
the option. Although the writing of call options only on national securities
exchanges increases the likelihood that the Fund will be able to make closing
purchase transactions, there is no assurance that the Fund will be able to
effect such transactions at any particular time or at any acceptable price. The
writing of call options could result in increases in the Fund's portfolio
turnover rate, especially during periods when market prices of the underlying
securities appreciate. The extent to which the Fund may enter into transactions
involving call options also may be limited by the requirements of the Internal
Revenue Code for qualification as a regulated investment company.
Futures Contracts and Related Options. The Investment Adviser does not
currently intend that the Fund will trade in futures contracts or related
options and has no experience in doing so. However, the Fund has reserved the
right, subject to the approval of the Board of Directors, to purchase and sell
financial futures contracts and options on such futures contracts for the
purpose of hedging its portfolio securities (or portfolio securities which it
expects to acquire) against anticipated changes in prevailing interest rates.
This technique could be employed if the Investment Adviser anticipates that
interest rates may rise, in which event the Fund could sell a futures contract
to protect against the potential decline in the value of its portfolio
securities. Conversely, if declining interest rates were anticipated, the Fund
could purchase a futures contract to protect against a potential increase in the
price of securities the Fund intends to purchase. However, employing this
technique effectively requires skills that are different from those required to
select portfolio securities and the Investment Adviser has no experience in
using this technique.
Under the regulations of the U.S. Commodity Futures Trading Commission
("CFTC"), the Fund will not be considered a "commodity pool," as defined under
such regulations, as a result of entering into transactions in futures contracts
and options on futures contracts, provided, among other things, that: (1) such
transactions are entered into solely for bona fide hedging purposes, as defined
under CFTC regulations; or (2) the aggregate initial margin and premiums for any
other such transactions entered into does not exceed 5% of the Fund's total
assets (after taking into account any unrealized profits and losses). The extent
to which the Fund may enter into transactions involving futures contracts also
may be limited by the requirements of the Internal Revenue Code for
qualification as a regulated investment company.
Risks of Hedging Transactions. The use of options, financial futures and
options on financial futures may involve risks not associated with other types
of investments which the Fund intends to purchase and it is possible that a
portfolio that utilizes hedging strategies may not perform as well as a
portfolio that does not make use of such devices. In particular, the Fund's
positions in options and financial futures may be entered and closed out only on
a federally licensed exchange which provides a market therefor, and there can be
no assurance that a liquid market will exist for any particular option or
futures contract. Because financial futures and related options markets
generally impose limits on daily price movement, it is possible that the
Investment Adviser will not be able to close out hedge positions promptly. The
inability to close out options and futures positions could have an adverse
impact on the Fund's ability to hedge its securities effectively and might, in
some cases, require the Fund to deposit substantial amounts of additional cash
to meet applicable margin requirements. The Fund's ability to hedge effectively
through transactions in financial futures or options depends on the degree to
which price movements, which include, in part, changes in interest rates, in the
Fund's holdings correlate with price movements of the hedging instruments.
Inasmuch as the Fund's options and futures will not duplicate such underlying
securities, the correlation will probably not be perfect. Consequently, the
prices, which include, in part, changes in interest rates, of the securities
being hedged may not move in the same amount as the hedging instrument. It is
possible that there may be a negative correlation between the hedging instrument
and the hedged securities, which would prevent the Fund from achieving the
anticipated benefits of hedging transactions or may cause the Fund to realize
losses and thus be in a worse position than if such strategies had not been
used.
Additional Leverage. The Fund has reserved the right to borrow money to the
extent such borrowing would not result in a violation of the 1940 Act Asset
Coverage (as defined under "Description of Notes -- Asset Maintenance") and
would not otherwise violate Section 18 of the 1940 Act or restrictions imposed
by the Insurance Agreement (as defined below). The Fund may borrow to the extent
then permitted by the 1940 Act through the public or private issuance of debt
securities and/or from lenders of all types, such as banks, savings and loan
associations, insurance companies and similar financial institutions. In
addition, the Fund may borrow up to 5% of its total assets for temporary
purposes. To the extent permitted by the 1940 Act, the Fund may also borrow
additional amounts as it redeems Notes and Preferred Shares.
At the date hereof, the Fund does not intend to add incremental leverage to
the Fund following the completion of the Offer. Accordingly, the percentage of
the Fund's assets representing leverage will decrease upon completion of the
Offer. The Fund anticipates that it will renegotiate the terms of its
outstanding leverage in 1998. Management of the Fund believes that by not adding
incremental leverage permitted under the 1940 Act, the Fund will enhance its
ability to negotiate the terms of any refinancing of its existing leverage.
However, the Fund reserves the right at any time, if it believes that market
conditions are appropriate, to increase its level of debt or other senior
securities to maintain or increase the Fund's current level of leverage to the
extent permitted under the 1940 Act and existing agreements between the Fund and
third parties. See "Risk Factors and Special Considerations" for a discussion of
certain risks associated with borrowings by the Fund.
INVESTMENT RESTRICTIONS
The following restrictions are fundamental policies. All percentage
limitations on investments will apply at the time of the making of an investment
and shall not be considered violated unless an excess or deficiency occurs or
exists immediately after and as a result of such investment.
The Fund may not:
1. Borrow money (through reverse repurchase agreements or otherwise) to
the extent such borrowing would result in a violation of 1940 Act Asset
Coverage or otherwise result in a violation of Section 18 of the 1940 Act,
or issue any senior securities (as defined in the 1940 Act) other than
Notes, Preferred Shares or debt instruments related to borrowings described
under "Investment Policies and Limitations -- Certain Investment Strategies
-- Additional Leverage" to the extent such instruments are deemed to
constitute senior securities; provided that for this purpose temporary
borrowings in an amount not exceeding 5% of the Fund's total assets (not
including the amount borrowed) shall not be deemed a senior security.
Pursuant to Section 18 of the 1940 Act, not more than 33 1/3% of the Fund's
capital structure may consist of borrowings representing indebtedness, such
as the Notes, and not more than 50% of the Fund's capital structure may
consist of borrowings represented by indebtedness, such as the Notes, and
senior securities of a class which is stock, such as the Preferred Shares.
2. Pledge, hypothecate, mortgage or otherwise encumber its assets,
except to secure borrowings permitted by restriction 1 above. Collateral
arrangements with respect to margin for futures contracts and options are
not deemed to be pledges or other encumbrances for purposes of this
restriction.
3. Purchase securities on margin, except such short-term credits as may
be necessary for the clearance of purchases and sales of securities and
except that the Fund may make margin payments in connection with
transactions in futures contracts and options.
4. Make short sales of securities or maintain a short position for the
account of the Fund unless at all times when a short position is open the
Fund owns an equal amount of such securities or owns securities which,
without payment of any further consideration, are convertible into or
exchangeable for securities of the same issue as, and in equal amount to,
the securities sold short.
5. Underwrite securities issued by other persons except to the extent
that, in connection with the disposition of its portfolio investments, the
Fund may be deemed to be an underwriter under the federal securities laws.
6. Purchase or sell real estate, although the Fund may purchase
securities of issuers that deal in real estate, securities that are secured
by interests in real estate and securities representing interests in real
estate.
7. Purchase or sell commodities or commodity contracts, except that the
Fund may purchase or sell financial futures contracts and related options as
provided herein.
8. Make loans, except by purchase of debt obligations in which the Fund
may invest consistently with its investment policies, by entering into
repurchase agreements with respect to not more than 25% of the value of its
total assets, or through the lending of its portfolio securities with
respect to not more than one-third of the value of its total assets.
9. Invest in securities of any issuer, if, to the knowledge of the Fund,
officers and Directors of the Fund and officers and directors of the
Investment Adviser who beneficially own more than 0.50% of the securities of
that issuer together own more than 5% of such issuer.
10. With respect to 75% of the value of the Fund's total assets, invest
in securities of any issuer if, immediately after such investment, more than
5% of the value of the Fund's total assets would be invested in the
securities of such issuer, provided that this limitation does not apply to
obligations issued or guaranteed as to interest and principal by the United
States government or its agencies or instrumentalities.
11. With respect to 75% of the value of the Fund's total assets, acquire
more than 10% of the outstanding voting securities of any issuer.
12. Invest 25% or more of the value of its total assets in any one
industry, provided that this limitation does not apply to obligations issued
or guaranteed as to interest and principal by the United States government
or its agencies or instrumentalities.
13. Invest more than 30% of the market value or other fair value of its
total assets in securities that are not readily marketable, including those
that are restricted as to disposition under the federal securities laws or
otherwise. This restriction shall not apply to securities received as a
result of a corporate reorganization or similar transaction affecting
readily marketable securities already held in the portfolio of the Fund or
to repurchase agreements that have a maturity of seven days or less;
however, the Fund will attempt to dispose in an orderly fashion of any
securities received under these circumstances to the extent that such
securities, together with other securities that are not readily marketable,
exceed 30% of the market or other fair value of the Fund's total assets.
14. Invest in the securities of other registered investment companies,
except as they may be acquired as part of a merger or consolidation or
acquisition of assets or by purchases in the open market involving only
customary brokers' commissions.
15. Buy or sell oil, gas or other mineral leases, rights or royalty
contracts, although the Fund may purchase securities of issuers which deal
in, represent interests in or are secured by interests in such leases,
rights or contracts.
16. Make investments for the purpose of exercising control or
management over the issuer of any security.
17. Write, purchase or sell puts, calls or combinations thereof, or
purchase or sell futures contracts or related options, except that the Fund
may write call options and invest in futures contracts and related options
as provided in "Investment Guidelines -- Certain Investment Strategies --
Options" and "-- Futures Contracts and Related Options."
Although the provisions of restrictions 2 (with respect to futures
contracts), 3 and 7 permit the Fund to engage in certain practices to a limited
extent, the Fund does not have any current intention of engaging in such
practices. See "Investment Policies and Limitations -- Certain Investment
Strategies -- Futures Contracts and Related Options." Further, as noted, certain
practices are subject to the condition that they not adversely affect the then
current ratings of the Fund's outstanding securities and are subject to the
prior written approval of Financial Security.
Because they are fundamental policies, the 1940 Act requires that the
foregoing investment restrictions may not be changed without the approval of the
holders of a majority of the outstanding shares of Common Stock and a majority
of the outstanding Preferred Shares, voting as separate classes, which, for
purposes of the 1940 Act, means for each class the lesser of (a) more than 50%
of the total number of outstanding shares of such class or (b) 67% or more of
the shares of such class present or represented at a meeting at which more than
50% of the outstanding shares of such class are present or represented by proxy.
RISK FACTORS AND SPECIAL CONSIDERATIONS
An investment in the Fund is subject to a number of risks and special
considerations, including the following:
DILUTION
An immediate dilution of the aggregate net asset value of the shares of
Common Stock will be experienced as a result of the Offer because the amounts
received by the Fund for each Share with respect to the Subscription Price
(after payment of soliciting fees and other expenses of the Offer) will be less
than the Fund's net asset value per share and because the number of shares
outstanding after the Offer will increase in a greater percentage than the
increase in the size of the Fund's assets. As a result of the terms of the
Offer, Record Date Shareholders will experience a decrease in the net asset
value per share held by them, irrespective of whether they exercise all or any
portion of their Rights. In addition, Record Date Shareholders who do not fully
exercise their Rights will, at the completion of the Offer, own a smaller
proportional interest in the Fund than would otherwise be the case. Further,
shareholders who exercise all of their rights but do not participate in the
Over-Subscription Privilege will, at the completion of the Offer, own a smaller
proportional interest in the Fund to the extent that the Fund increases the
number of Shares subject to subscription by up to 25% as described herein and
such Shares are subscribed for. It is not possible to state precisely the amount
of such a decrease in net asset value per share, because it is not known at this
time what the Subscription Price will be, what the net asset value per share
will be on the Expiration Date or what proportion of the Shares will be
subscribed for, such dilution could be substantial. For example, assuming all
Rights are exercised by Record Date Shareholders at the Estimated Subscription
Price of $ per share (which is % of the Fund's net asset value per
share at , 1997), the Fund's net asset value per share (after payment
of the Dealer Manager and soliciting fees and estimated offering expenses) would
be reduced by approximately $ per share or %.
RISK OF LEVERAGE
The Fund's leveraged capital structure creates special risks not associated
with unleveraged funds having similar investment objectives and policies,
including a higher volatility of the net asset value of the Common Stock and
potentially more volatility in the market value of the Common Stock. For a
description of the Notes and Preferred Shares, see "Description of the Notes"
and "Description of Capital Stock." Any investment income or gains earned from
the capital contributed by the purchasers of the Notes and the Preferred Shares
which is in excess of interest and dividends due thereon will cause the value of
and dividends, if any, on the Common Stock to rise more quickly than would
otherwise be the case. Conversely, if the investment performance of the capital
contributed by the purchasers of the Notes and the Preferred Shares fails to
cover the interest and dividends on such capital, the value of the Common Stock
may decrease more quickly than would otherwise be the case and dividends thereon
will be reduced or eliminated. This is the speculative effect of "leverage."
Fluctuations in short-term dividend rates will affect the dividend rate per
annum ("Applicable Rate") on the Preferred Shares, and, in turn, will affect the
yield to holders of Common Stock, with increases in such rates decreasing such
yield. Short-term and long-term interest rates change from time to time as does
their relationship to each other (i.e., the slope of the yield curve) depending
upon such factors as supply and demand forces, monetary and tax policies and
investor expectations. Changes in such factors could cause the relationship
between short-term and long-term rates to change (i.e., to flatten or to invert
the slope of the yield curve) so that short-term rates may substantially
increase relative to the rates of longer term obligations in which the Fund may
be invested. To the extent that the Applicable Rate on the Preferred Shares
approaches the net return on the Fund's investment portfolio, the benefit of
leverage to holders of Common Stock will be reduced, and if the Applicable Rate
on the Preferred Shares were to exceed the net return on the Fund's portfolio,
the Fund's leveraged capital structure would result in a lower rate of return to
holders of Common Stock than if the Fund were not leveraged.
The interest rate on the Notes is a fixed annual rate of 6.53%, and the
Applicable Rate as of , 1997 is % on the Preferred Shares. Based
on the interest rate payable on the Notes and the current Applicable Rate
payable on the Preferred Shares, the annual return of the Fund's portfolio must
equal at least % in order to cover the interest payments on the Notes and the
dividend payments on the Preferred Shares.
Since any decline in the net asset value of the Fund's investments will be
borne entirely by holders of Common Stock, the effect of leverage in a declining
market would result in a greater decrease in net asset value to holders of
Common Stock than if the Fund were not leveraged, which would likely be
reflected in a greater decline in the market price for the Common Stock. In an
extreme case, if the Fund's current investment income were not sufficient to
meet dividend requirements on the Preferred Shares or interest payments on the
Notes, it could be necessary for the Fund to liquidate certain of its
investments, thereby reducing the net asset value attributable to the Common
Stock. In addition, a decline in the net asset value of the Fund's investments
may affect the ability of the Fund to make dividend payments on its Common Stock
and such failure to pay dividends or make distributions may result in the Fund
ceasing to qualify as a regulated investment company under the Internal Revenue
Code. The Notes and the Preferred Shares may constitute a substantial lien and
burden on the Common Stock by reason of their prior claim against the income of
the Fund and against the net assets of the Fund in liquidation. In addition, the
Fund may borrow up to 5% of its total assets for temporary purposes and, to the
extent that Notes or Preferred Shares are repaid or redeemed, may issue or incur
additional senior securities or indebtedness. The Fund has also reserved the
right to borrow money and to enter into reverse repurchase agreements. See
"Investment Policies and Limitations -- Certain Investment Strategies."
At the date hereof, the Fund does not intend to add incremental leverage to
the Fund following the completion of the Offer. Accordingly, the percentage of
the Fund's assets representing leverage will decrease upon completion of the
Offer. The Fund anticipates that it will renegotiate the terms of its
outstanding leverage in 1998. Management of the Fund believes that by not adding
incremental leverage permitted under the 1940 Act, the Fund will enhance its
ability to negotiate the terms of any refinancing of its existing leverage.
However, the Fund reserves the right at any time, if it believes that market
conditions are appropriate, to increase its level of debt or other senior
securities to maintain or increase the Fund's current level of leverage to the
extent permitted under the 1940 Act and existing agreements between the Fund and
third parties.
The following table illustrates the effect of leverage (using senior
securities -- i.e., $20 million of Notes and 200 Preferred Shares with a $20
million liquidation preference) on the return of a holder of Common Stock,
assuming the annual returns set forth in such table and assuming a fixed annual
rate of 6.53% payable on the Notes and an Applicable Rate of % (which is the
Applicable Rate as of , 1997 payable on the Preferred Shares):
- ------------------------------------------------------------------------------
Assumed Return on Portfolio
(Net of Expenses) ............ -10% -5% 0% 5% 10%
Corresponding Return to
Common Stockholder ........... % % % % %
- ------------------------------------------------------------------------------
The purpose of the foregoing table is to assist the investor in
understanding the effects of leverage. The figures in the table are hypothetical
and the actual returns to a holder of Common Stock may be greater or less than
those appearing in the table.
DISCOUNT FROM NET ASSET VALUE Shares of closed-end funds frequently trade at
a market price which is less than the value of the net assets attributable
thereto. The possibility that shares of the Fund will trade at a discount from
net asset value is a risk separate and distinct from the risk that the Fund's
net asset value will decrease. It should be noted, however, that in some cases,
shares of closed-end funds may trade at a premium. The Fund's shares have traded
in the market above, at and below net asset value since the commencement of the
Fund's operations. See "Trading and Net Asset Value Information." In addition,
the net asset value of the Fund will change with changes in the value of its
portfolio securities. Because the Fund invests primarily in fixed-income
securities, the net asset value of the shares of the Fund can be expected to
change as general levels of interest rates fluctuate. When interest rates
decline, the value of a fixed-income portfolio can be expected to rise.
Conversely, when interest rates rise, the value of a fixed-income portfolio can
be expected to decline. In addition, in a period of rising short-term interest
rates, the higher cost of the Fund's leverage and/or increasing defaults by
issuers of "high-yield" debt obligations would likely exacerbate such decline in
the Fund's net asset value. The Fund cannot predict whether its shares will
trade at, below or above net asset value. The risk of purchasing shares of a
closed-end investment company that might trade at a discount is more pronounced
for investors who wish to sell their shares in a relatively short period of time
because, for those investors, realization of gain or loss on their investments
is likely to be more dependent upon the existence of a premium or discount than
upon portfolio performance.
"HIGH-YIELD," HIGH RISK INVESTMENTS The Fund is designed for long-term
investors who can accept the risks entailed in seeking a high level of current
income available from investments in long-term, high-yielding, lower quality,
fixed-income securities. Consistent with a long-term investment approach,
investors in the Fund should not rely on the Fund for their short-term financial
needs. The principal value of the lower quality securities in which the Fund
invests, will be affected by interest rate levels, general economic conditions,
specific industry conditions and the creditworthiness of the individual issuer.
Although the Fund seeks to reduce risk by portfolio diversification, extensive
credit analysis, and attention to trends in the economy, industries and
financial markets, such efforts will not eliminate risk.
Fixed-income securities offering the high current income sought by the Fund
will ordinarily be in the lower rating categories of recognized rating agencies
or will be unrated. The values of such securities tend to reflect individual
corporate developments or adverse economic changes to a greater extent than
higher rated securities, which react primarily to fluctuations in the general
level of interest rates. Periods of economic uncertainty and changes generally
result in increased volatility in the market prices and yields of "high-yield,"
high risk securities and thus in the Fund's net asset value. Further, these
fixed-income securities are considered by the Rating Agencies, on balance, as
predominantly speculative with respect to capacity to pay interest and repay
principal in accordance with the terms of the obligation and will generally
involve more credit risk than securities in the higher rating categories; the
Fund may incur additional expenses to the extent it is required to seek recovery
upon a default in the payment of principal of or interest on its portfolio
holdings. The "high-yield," high risk securities held by the Fund are frequently
subordinated to the prior payment of senior indebtedness and are traded in
markets that may be relatively less liquid than the market for higher rated
securities. Changes by recognized rating services in their ratings of any
fixed-income security and in the ability of an issuer to make payments of
interest and principal may also affect the value of the Fund's investments.
Changes in the value of portfolio securities will not necessarily affect cash
income derived from such securities, but will affect the Fund's net asset value.
The Fund will rely on the Investment Adviser's judgment, analysis and experience
in evaluating the creditworthiness of an issuer. In this evaluation, the
Investment Adviser will take into consideration, among other things, the
issuer's financial resources, its sensitivity to economic conditions and trends,
its operating history, the quality of the issuer's management and regulatory
matters.
Some of the lower-rated securities in which the Fund invests were issued to
raise funds in connection with the acquisition of a company, in a so-called
"leveraged buy-out" transaction. The highly leveraged capital structure of such
issuers may make them especially vulnerable to adverse changes in economic
conditions, including rising interest rates.
Generally, when interest rates rise, the value of fixed rate debt
obligations, including "high-yield," high risk securities, tends to decrease;
when interest rates fall, the value of fixed rate debt obligations tends to
increase. In addition, in a period of rising interest rates the higher cost of
the Fund's leverage and/or increasing defaults by issuers of "high-yield" debt
obligations would likely exacerbate any decline in the Fund's net asset value.
If an issuer of a "high-yield," high risk security containing a redemption or
call provision exercises either provision in a declining interest rate market,
the Fund would have to replace the security, which could result in a decreased
return for shareholders.
The market for "high-yield," high risk securities has expanded rapidly in
recent years and is relatively new. This expanded market has not yet completely
weathered an economic downturn. A further economic downturn or an increase in
interest rates could have a negative effect on the "high-yield," high risk
securities market and on the market value of the "high-yield," high risk
securities held by the Fund, as well as on the ability of the issuers of such
securities to repay principal and interest on their borrowings. During 1989 and
1990, the level of "high-yield" debt security defaults increased as many issuers
were unable to obtain funds through financial intermediaries or the public
"high-yield" market. The effect of these developments on the Fund was a
substantial decline in the Fund's net asset value and a substantial reduction in
the Fund's monthly dividend. Also, the forced liquidation of a substantial
portion of the Fund's portfolio in order to repay the Senior Extendible Notes
resulted in the realization of substantial capital losses, and this severely
limited the ability of the Fund to return to its original net asset value as the
"high-yield" market improved. The "high-yield" market decline reversed in the
fourth quarter of 1990 and by midyear 1991, after reinvesting a substantial
amount of its cash, the Fund's net asset value had improved substantially but to
a level far less than the net asset value at the time the Fund commenced
operations.
The "high-yield" market, as measured by the Credit Suisse First Boston High
Yield Index, posted total annual returns of 43.75%, 16.66%, 18.91%, -0.97%,
17.38% and 12.42% for the calendar years 1991, 1992, 1993, 1994, 1995 and 1996,
respectively. The ten year U.S. Treasury Bond produced a total return of 16.46%,
6.52%, 11.94%, -6.08%, 23.68% and 0.89% for the calendar years 1991, 1992, 1993,
1994, 1995 and 1996, respectively. See "Financial Highlights" for
information concerning the Fund's return.
New issue activity of "high-yield" debt securities was low in 1991, by
historical standards, totaling $10.1 billion with "high-yield" debt retirements
totaling $26.0 billion. Net new issue activity of "high-yield" debt securities
totaled $11.4 billion, $46.1 billion, $22.2 billion, $26.7 billion and $60.2
billion for the calendar years 1992, 1993, 1994, 1995 and 1996, respectively.
The statistical information with respect to new issue activity is based on
information the Fund obtained from the Credit Suisse First Boston High Yield
Handbook. The spread between the yield on U.S. Treasury securities and the
"high-yield" market has fluctuated between 300 and 600 basis points (3.0% to
6.0%) during the 1992 to 1996 period, which is more in line with the historical
spread relationship.
Since 1977, the historical weighted default rate on "high-yield" debt
securities has been 3.29%. The default rates on "high-yield" debt securities for
the calendar years 1990, 1991, 1992, 1993, 1994, 1995 and 1996 were 7.98%,
9.33%, 2.89%, 0.96%, 0.44%, 2.24% and 1.14%, respectively. The defaulted amount
of "high-yield" debt securities was $18.1 billion in 1990, $20.7 billion in
1991, $6.5 billion in 1992, $24.0 billion in 1993, $1.3 billion in 1994, $6.7
billion in 1995 and $4.2 billion in 1996. The statistical information with
respect to historical default rates and amounts is based on information the Fund
obtained from the Credit Suisse First Boston High Yield Handbook.
The credit ratings issued by credit rating services may not fully reflect
the true risks of an investment. For example, credit ratings typically evaluate
the safety of principal and interest payments, not market value risk, of
"high-yield," high risk securities. Also, credit rating agencies may fail to
change on a timely basis a credit rating to reflect changes in economic or
company conditions that affect a security's market value. Although the
Investment Adviser considers ratings of recognized rating services such as
Moody's and S&P, the Investment Adviser primarily relies on its own credit
analysis, which includes a study of existing debt, capital structure, ability to
service debt and to pay dividends, the issuer's sensitivity to economic
conditions, its operating history and the current trend of earnings. The
Investment Adviser continually monitors the investments in the Fund's portfolio
and carefully evaluates whether to dispose of or retain "high-yield," high risk
securities whose credit ratings have changed (see Appendix A for a description
of Moody's and S&P's ratings of "high-yield" securities). As of , 1997,
approximately % of the Fund's total assets was invested in fixed-income
securities regarded by the Rating Agencies as below investment grade (that is
rated Ba1 or lower by Moody's or BBpl or lower by S&P).
At times a major portion of an issue of lower-rated securities may be held
by relatively few institutional purchasers. Although the Fund generally
considers such securities to be liquid because of the availability of an
institutional market for such securities, under adverse market or economic
conditions or in the event of adverse changes in the financial condition of the
issuer, the Fund may find it more difficult to sell such securities when the
Investment Adviser believes it advisable to do so or may be able to sell such
securities only at prices lower than if the securities were more widely held. In
such circumstances, the Fund may also find it more difficult to determine the
fair value of such securities for purposes of computing the Fund's net asset
value. The Fund, in most instances, utilizes an independent pricing service to
determine the fair value of its securities for financial statement purposes
since market quotations are not readily ascertainable. Securities for which
market quotations are not readily available will be valued at fair value as
determined in good faith by or under the direction of the Board of Directors of
the Fund.
DIVIDENDS AND DISTRIBUTIONS
It is the Fund's present policy, which may be changed by the Board of
Directors, to pay dividends on a monthly basis to holders of Common Stock of
investment company taxable income and to distribute any net short-term capital
gains and net capital gains annually. See "Dividends and Distributions; Dividend
Reinvestment Plan." Subject to market conditions, the Fund seeks to provide
holders of its Common Stock with a relatively stable level of dividends.
However, there can be no assurance that the Fund will be able to maintain its
current level of dividends, and the Board of Directors may, in its sole
discretion, change the Fund's current dividend policy or its current level of
dividends in response to market or other conditions. The Fund's ability to
maintain a stable level of dividends is a function of the yield generated by the
Fund's investments, which depends on market conditions at the time those
investments are made and on the performance of those investments. To the extent
that the Fund's portfolio investments generate income exceeding that which is
required to pay any target level of dividends set by the Board of Directors, the
Fund may decide to retain and accumulate that portion of the Fund's income which
exceeds such dividend level and may pay applicable taxes thereon, including any
federal income or excise taxes. Alternatively, to the extent that the Fund's
current income is not sufficient to pay any target level of dividends set by the
Board of Directors, the Fund may distribute to holders of its Common Stock all
or a portion of any retained earnings or make a return of capital to maintain
such target level. The Fund currently has accumulated undistributed net
investment income upon which it has paid taxes. Consistent with the Fund's
current dividend policy, the Fund's accumulated undistributed net investment
income may be utilized by the Fund to maintain a stable level of dividends on
the Fund's shares of Common Stock, including those shares issued pursuant to the
Offer. Based upon current market conditions, the Investment Adviser believes
that the net proceeds of the Offer may be invested at or about the same rate of
return that the Fund is currently earning. Accordingly, the Investment Adviser
believes that the Fund can maintain its current level of dividends based upon
the Fund's earnings from its portfolio, including earnings from new investments
derived from the net proceeds of the Offer, and its accumulated undistributed
net investment income. Based upon information provided by the Investment Adviser
and current market conditions, the Board of Directors believes that the Offer
will not result in a change in the Fund's current dividend policy or its ability
to maintain its current level of dividends. However, there can be no assurance
that the Fund can or will maintain its current dividend policy or current level
of dividends. See "Financial Highlights" and "The Offer -- Purpose of the
Offer."
The Fund will not be permitted to declare dividends or other distributions
with respect to the Common Stock or the Preferred Shares or purchase shares of
Common Stock or Preferred Shares unless at the time thereof the Fund meets
certain asset coverage requirements, including those imposed by the 1940 Act.
Failure to pay dividends or other distributions could result in the Fund ceasing
to qualify as a regulated investment company under the Internal Revenue Code.
See "Federal Taxation" and "Description of Capital Stock -- Dividends and
Distributions." Further, upon any failure to pay dividends in an amount equal to
two full years of dividends with respect to the Preferred Shares, the holders
thereof shall have the right to elect a majority of the Directors until all
accrued dividends have been provided for or paid. In the event the Fund fails to
satisfy certain asset coverage requirements, the Fund may be required to effect
mandatory partial redemptions of the Notes or (subject to certain limitations)
Preferred Shares or in certain circumstances may result in the termination of
the Surety Bond and the mandatory redemption of all of the Notes and the
Preferred Shares. Redemptions of Preferred Shares and/or further redemptions of
Notes would reduce the Fund's leverage and could negatively affect potential
returns with respect to the Common Stock.
------------------------
Given the above-described investment risks inherent in the Fund, investment
in shares of the Fund should not be considered a complete investment program and
is not appropriate for all investors. Investors should carefully consider their
ability to assume these risks before making an investment in the Fund.
DIRECTORS AND OFFICERS
The Directors and officers of the Fund, their addresses, their ages and
their principal occupations for at least the past five years are set forth
below.
<TABLE>
<CAPTION>
POSITIONS HELD PRINCIPAL OCCUPATIONS
NAME AND ADDRESS WITH REGISTRANT AGE DURING PAST 5 YEARS
- ---------------- --------------- --- ---------------------
<S> <C> <C> <C>
Richard E. Omohundro, Jr.*(3) President and Director 56 President or Co-President of
Prospect Street Investment Prospect Street Investment
Management Co., Inc. Management Co., Inc. since June
60 State Street 1988.
Boston, MA 02109
John A. Frabotta*(2) ................ Vice President, Treasurer, 54 Vice President of Prospect Street
Prospect Street Investment Director and Chief Investment Management Co., Inc.
Management Co., Inc. Investment Officer since June 1988. Director of
60 State Street BondNet Trading Systems, Inc.
Boston, MA 02109
John S. Albanese(1)(2) .............. Director 45 Senior Counsel to Washington
8955 Mountain Ash Court Headquarters Services (a
Springfield, VA 22153 Department of Defense Agency)
since June 1992. Lieutenant
Colonel of the United States
Army, serving on active duty from
1977 to 1992 in several legal
positions.
C. William Carey(1)(3) .............. Director 60 President, Carey Associates, Inc.
Carey Associates, Inc. since January 1997. Chairman and
177 Milk Street Chief Executive Officer of Town &
Suite 605 Country Corporation from 1965 until
Boston, MA 02109 December 1996.
Joseph G. Cote*(3) .................. Director 55 Co-President of Prospect Street
Prospect Street Investment Investment Management Co., Inc.
Management Co., Inc. from August 1995 to present and
60 State Street from February 1989 to November 1993.
Boston, MA 02109 Shareholder of Prospect Street
Investment Management Co., Inc.
from 1989 to present.
Harlan D. Platt(1)(3) ............... Director 46 Professor of Finance and Insurance,
Northeastern University College Northeastern University, College
of Business Administration of Business Administration, since
413 Hayden Hall 1981.
Boston, MA 02115
Christopher E. Roshier(3)(4) ........ Director 51 Corporate Finance Director of
120 Strawberry Vale European Capital Company Limited
Twickenham, since 1990. Director of a number
Middlesex TWI 4SH of other public and private
United Kingdom companies in the United Kingdom.
Karen J. Thelen ..................... Secretary 44 Vice President of Prospect Street
Prospect Street Investment Investment Management Co., Inc.
Management Co., Inc. since December 1992. Assistant
60 State Street Vice President of Prospect Street
Boston, MA 02109 Investment Management Co., Inc.
from December 1988 to December
1992.
</TABLE>
- ----------
* Directors who are "interested persons" of the Fund, as defined in the 1940
Act.
(1) Directors who are members of the Audit Committee of the Fund's Board of
Directors.
(2) Elected by holders of the Preferred Shares.
(3) Elected by holders of the Common Stock and Preferred Shares voting
together.
(4) Mr. Roshier is not a resident of the United States and has not authorized an
agent to receive any notices. It may not be possible, therefore, for
investors to effect service of process within the United States upon Mr.
Roshier or to enforce against him, in the U.S. courts or foreign courts,
judgments obtained in U.S. courts predicated upon the civil liability
provisions of the Federal securities laws of the United States. In addition,
it is not certain that a foreign court would enforce, in original actions,
liabilities against Mr. Roshier predicated solely upon the U.S. securities
laws.
Pursuant to the Articles of Incorporation, holders of the Common Stock have
voting rights of one vote per share and holders of the Preferred Shares have
voting rights of one vote per $1,000 of liquidation preference without regard to
any liquidation preference attributable to accumulated and unpaid dividends
(i.e., 100 votes per Preferred Share); provided that all the votes represented
by a single Preferred Share must be voted together. Under the Articles of
Incorporation and the 1940 Act, the holders of the Preferred Shares, as a
separate class, are entitled to elect two directors (at least one of whom is not
an "interested person" as defined in the 1940 Act) with the other five Directors
(at least two of whom are not "interested persons" as defined in the 1940 Act)
elected by the holders of the Common Stock and the Preferred Shares, voting
together; provided, however, that the holders of the Preferred Shares (or
Financial Security pursuant to the Surety Arrangement), as a separate class,
will be entitled to elect as a class the smallest number of additional Directors
as shall be necessary to assure that a majority of the Directors has been
elected by the holders of the Preferred Shares if the Fund fails to pay
accumulated dividends on the Preferred Shares in an amount equal to two full
years of dividends. See "Description of Capital Stock -- Voting." Election of
Directors is noncumulative; accordingly, holders of a majority of the voting
power represented by the outstanding shares of Common Stock and Preferred
Shares, voting together as a single class, or a majority of the outstanding
Preferred Shares, voting separately as a class, may elect all of the Directors
who are subject to election by such class, as the case may be.
The Fund pays each Director not affiliated with the Investment Adviser a fee
of $10,000 per year plus $2,000 per Directors' meeting attended in person and
$1,000 per Directors' meeting attended by telephone, together with actual
out-of-pocket expenses relating to attendance at such meetings. In addition, the
members of the Fund's Audit Committee, which consists of certain of the Fund's
noninterested Directors, receive $1,000 for each Audit Committee meeting
attended, other than meetings held on days on which there is also a Directors'
meeting, together with actual out-of-pocket expenses relating to attendance at
such meetings. Directors of the Fund, other than directors who are affiliates of
the Investment Adviser, earned for the fiscal year ended October 31, 1996
aggregate remuneration of $84,000.
The following table summarizes the compensation paid to the Directors and
Officers of the Fund for the fiscal year ended October 31, 1996. The Fund is
not part of a fund complex.
PENSION OR
RETIREMENT
BENEFITS ESTIMATED
NAME OF AGGREGATE ACCRUED AS ANNUAL TOTAL
DIRECTOR COMPENSATION PART OF FUND BENEFITS UPON COMPENSATION
OR OFFICER FROM FUND EXPENSES RETIREMENT FROM FUND
- ---------- ------------ ------------ ------------- ------------
John S. Albanese $22,000 none none $22,000
John F. Barry* none none none none
C. William Carey $22,000 none none $22,000
Joseph G. Cote* none none none none
John A. Frabotta none none none none
Richard E. Omohundro, Jr. none none none none
Harlan D. Platt $22,000 none none $22,000
Christopher E. Roshier $18,000 none none $18,000
- ------------
*Mr. Barry's term as a Director ended, and Mr. Cote's term as a Director
began, on March 1, 1996.
The Articles of Incorporation limit the personal liability of Directors and
officers to the Fund and its shareholders for monetary damages to the fullest
extent permitted by Maryland law. Based upon Maryland law and the Articles of
Incorporation, the Fund's Directors and officers have no liability to the Fund
and its shareholders for monetary damages except (a) for, and to the extent of,
actual receipt of an improper benefit in money, property or services, or (b) in
respect of an adjudication based upon a finding of active and deliberate
dishonesty which was material to the cause of action adjudicated. In accordance
with the 1940 Act, the Articles of Incorporation do not protect or purport to
protect Directors and officers against any liability to the Fund or its security
holders to which they would be subject by reason of willful misfeasance, bad
faith, gross negligence or reckless disregard of duties involved in the conduct
of their office.
In addition, the Articles of Incorporation and bylaws provide that the Fund
will indemnify its Directors and officers against liabilities and expenses in
connection with the performance of their duties on behalf of the Fund to the
fullest extent permitted by Maryland law, subject to the applicable requirements
of the 1940 Act and the interpretation by the Staff of the SEC of such
requirements. Under Maryland law and the Articles of Incorporation, the Fund is
entitled and obligated to indemnify each Director or officer in connection with
any proceeding to which such Director or officer is made a party by reason of
service in his capacity as a Director or officer, unless it is established that
(1) the act or omission of the Director or officer was material to the matter
giving rise to the proceeding and was committed in bad faith or was the result
of active and deliberate dishonesty, or (2) the Director or officer actually
received an improper personal benefit in money, property or services, or (3) in
the case of any criminal proceeding, the Director or officer had reasonable
cause to believe that the act or omission was unlawful. The foregoing standards
apply both as to third party actions and derivative suits by or in the right of
the Fund. Indemnification may be against judgments, penalties, fines,
settlements and reasonable expenses actually incurred by the Director or officer
in connection with the proceeding. If the proceeding is one by or in the right
of the Fund, indemnification may not be made in respect of any proceeding in
which the Director or officer shall have been adjudged to be liable to the Fund.
In the view of the Staff of the SEC, an indemnification provision is consistent
with the 1940 Act if it (i) precludes indemnification for any liability, whether
or not there is an adjudication of liability, arising by reason of willful
misfeasance, bad faith, gross negligence or reckless disregard of duties as
described in Section 17(h) and (i) of the 1940 Act ("disabling conduct") and
(ii) sets forth reasonable and fair means for determining whether
indemnification shall be made; in the case of the Fund, "reasonable and fair
means" would include (1) a final decision on the merits by a court or other body
before whom the proceeding was brought that the person to be indemnified
("indemnitee") was not liable by reason of disabling conduct (including a
dismissal for insufficiency of evidence) and (2) a reasonable determination,
based upon a review of the facts, that the indemnitee was not liable by reason
of disabling conduct, by (a) the vote of a majority of a quorum of Directors who
are neither "interested persons" of the Fund as defined in Section 2(a) (19) of
the 1940 Act nor parties to the proceeding, or (b) a written opinion of
independent legal counsel.
The indemnification rights provided or authorized by the Articles of
Incorporation or applicable law are not exclusive of any other rights to which a
person seeking indemnification may be entitled. The Fund has also obtained
liability insurance at its expense for the benefit of its Directors and officers
which includes coverage for liability arising from the performance of their
duties on behalf of the Fund which is not inconsistent with the indemnification
provisions of the Articles of Incorporation and applicable law.
HOLDINGS OF PREFERRED SHARES AND COMMON STOCK
As far as is known to the Fund, no person owned beneficially five percent or
more of the outstanding shares of Common Stock of the Fund at , 1997.
DTC holds of record % of the outstanding shares of Common Stock at
, 1997. All of the outstanding Preferred Shares, which represent less
than 1% of the voting power of the Fund's outstanding shares (i.e., to the
extent that the Common Stock and Preferred Shares are voted together), were
owned of record by one institutional holder. As far as is known to the Fund, no
person other than DTC owned of record or beneficially, shares of the Fund
representing more than five percent of the voting power of the Fund's
outstanding shares. The Investment Adviser of the Fund beneficially owned
shares of Common Stock at , 1997.
As of , 1997, all Directors and officers of the Fund, owned in the
aggregate less than 1% of the Common Stock. As of that date, no Director or
officer owned any of the Fund's Preferred Shares.
THE INVESTMENT ADVISER
THE INVESTMENT ADVISER
The Investment Adviser is Prospect Street(R) Investment Management Co.,
Inc., a Massachusetts corporation having its principal offices at 60 State
Street, Boston, Massachusetts 02109. Organized in June 1988, the Investment
Adviser provides institutional clients with investment management services.
Richard E. Omohundro, Jr., Co-President of the Investment Adviser, served as
a Vice President (1978 to 1983) and a Managing Director (1983 to 1988) of
Merrill Lynch and was Co-Manager of the Merrill Lynch High-yield Bond Group from
1978 through 1987. During that period, the Group raised approximately $13.6
billion in new "high-yield" securities through 107 issues and provided one of
the largest secondary trading markets for "high-yield" securities. In 1987, the
Group raised approximately $5.8 billion in new offerings of "high-yield"
securities and employed over 40 persons. Mr. Omohundro provides general advisory
assistance to, analyzes certain policy considerations with, and consults on a
regular basis with, the Fund's portfolio manager.
John A. Frabotta, a Vice President of the Investment Adviser, assists Mr.
Omohundro in carrying on the business of the Investment Adviser. Mr. Frabotta
was a Vice President of Merrill Lynch from 1979 through June 1988, during
which time he performed various research, structuring and marketing functions
involving "high-yield" securities. Mr. Frabotta has served as the Fund's
portfolio manager since September, 1990, responsible for the day-to-day
management of the Fund's portfolio.
ADVISORY AGREEMENT
The Investment Advisory Agreement between the Investment Adviser and the
Fund (the "Advisory Agreement") provides that, subject to the direction of the
Board of Directors of the Fund and the applicable provisions of the 1940 Act,
the Investment Adviser is responsible for the actual management of the Fund's
portfolio. The responsibility for making decisions to buy, sell or hold a
particular investment rests with the Investment Adviser, subject to review by
the Board of Directors of the Fund and compliance with the applicable provisions
of the 1940 Act.
The Investment Adviser is not dependent on any other party in providing the
investment advisory services required for management of the Fund's portfolio.
The Investment Adviser may, however, consider analyses from various sources,
including broker-dealers with which the Fund does business. The Investment
Adviser is also responsible for providing the Fund with such executive, data
processing, clerical, accounting and bookkeeping services and statistical and
research data as are deemed advisable by the Fund's Board of Directors (although
the expenses thereof will be borne by the Fund as specified below), except to
the extent these services are provided by an administrator or an accounting firm
hired by the Fund.
Under the Advisory Agreement with the Fund, the Investment Adviser receives
a monthly advisory fee equal to 0.65% (on an annual basis) of the average weekly
value of the total assets of the Fund, less accrued liabilities (excluding the
principal amount of the notes and the liquidation preference of the preferred
stock and including accrued and unpaid dividends on the preferred stock) up to
and including $175,000,000 of such managed assets, 0.55% on the next $50,000,000
of such managed assets and 0.50% of the excess of such managed assets over
$225,000,000. For the fiscal years ended October 31, 1994, 1995 and 1996, the
dollar value of total advisory fees earned by the Investment Adviser aggregated
approximately $807,770, $874,812 and $928,792, respectively. Until June 21,
1997, the Investment Adviser has waived its advisory fee with respect to the
increase in the Fund's managed assets attributable to the exercise of rights in
the most recent rights offering by the Fund in June 1996.
The Investment Adviser will benefit from the Offer because the Investment
Adviser's fee is based on the average weekly managed assets of the Fund. It is
not possible to state precisely the amount of additional compensation the
Investment Adviser will receive as a result of the Offer because it is not known
how many Shares will be subscribed for and because the proceeds of the Offer
will be invested in additional portfolio securities which will fluctuate in
value. However, in the event that all the Rights are exercised in full and on
the basis of the Estimated Subscription Price of $ per Share (based upon
% of the net asset value per share on , 1997), the Investment Adviser
would receive additional annual advisory fees of approximately $ as a
result of the increase in assets under management ($ if the Fund offers
and sells an additional 25% of the Shares as described below). Three of the
Fund's Directors who voted to authorize the Offer are "interested persons" of
the Fund as that term is defined in the 1940 Act. These three Directors could
benefit indirectly from the Offer because of their affiliations with the
Investment Adviser. The other Directors who voted to authorize the Offer are not
"interested persons" of the Fund.
The Fund bears all costs of its operation other than those incurred by the
Investment Adviser under the Advisory Agreement. In particular, the Fund pays
investment advisory fees, fees and expenses associated with the Fund's
administration, record keeping and accounting, fees and expenses for the
custodian of the Fund's assets and Bankers Trust Company, the surety custodian
(the "Surety Custodian") under a Surety Custody Agreement (as defined herein),
the premium payable in connection with the Surety Bond, legal, accounting and
auditing fees, taxes, expenses of preparing prospectuses and shareholder
reports, registration fees and expenses, fees and expenses for the transfer and
dividend disbursing agent, the compensation and expenses of the Directors who
are not otherwise employed by or affiliated with the Investment Adviser or any
of its affiliates, and any extraordinary expenses. The Investment Adviser will
reimburse the Fund for any expenses (excluding brokerage commissions, interest,
taxes and litigation expenses) paid or incurred by the Fund in any year in
excess of the most restrictive expense limitation which is imposed by any state
and to which the Fund is then subject, if any. The Fund is not known to be
subject to any state expense limitations. Under the Advisory Agreement, the
Investment Adviser provides the Fund with office space, facilities and business
equipment and provides the services of executive and clerical personnel for
administering certain of the other affairs of the Fund. The Investment Adviser
compensates Directors of the Fund if such persons are employed by the Investment
Adviser or its affiliates.
The Advisory Agreement became effective on March 1, 1994 upon approval by
shareholders at a meeting held on March 1, 1994 and replaced the advisory
agreement in effect prior thereto. The Advisory Agreement as approved by the
shareholders included an increase in the level of advisory fees from 0.50% (on
an annual basis) of the Fund's annual net assets to the fees set forth above.
The Advisory Agreement was initially effective for a two year period and will
continue in effect from year to year thereafter if approved annually (i) by the
Board of Directors of the Fund or by the holders of a majority of the Fund's
outstanding voting securities (as defined under "Investment Policies and
Limitations"), voting as a single class, and (ii) by a majority of the Directors
who are not parties to the Advisory Agreement or "interested persons" (as
defined in the 1940 Act) of any such party. At a meeting held on December 17,
1996, the Board of Directors (including all Directors who are not "interested
persons" of the Fund, as defined under the 1940 Act) unanimously approved the
renewal of the Advisory Agreement for a one year term expiring on February 28,
1998. The Advisory Agreement terminates on its assignment by either party and
may be terminated without penalty on not less than 30 nor more than 60 days'
prior written notice at the option of either party thereto, or by the
affirmative vote of the holders of a majority of the Fund's outstanding voting
securities, voting as a single class.
The Advisory Agreement provides that the Investment Adviser shall only be
liable for willful misfeasance, bad faith, gross negligence or reckless
disregard of its duties and obligations under the Advisory Agreement.
PORTFOLIO TRADING
The Investment Adviser is responsible for decisions to buy and sell
securities and other portfolio holdings for the Fund, the selection of brokers
and dealers to effect the transactions and the negotiation of brokerage
commissions, if any. Fixed-income securities are generally traded on a "net"
basis with dealers acting as principals for their own accounts without a stated
commission, although the price of the security will likely include a profit to
the dealer. In underwritten offerings, securities are usually purchased at a
fixed price which includes an amount of compensation to the underwriter,
generally referred to as the underwriter's concession or discount. On occasion,
certain money market instruments may be purchased directly from an issuer, in
which case no commissions or discounts are paid.
In placing orders for portfolio securities of the Fund, the Investment
Adviser is required to give primary consideration to obtaining the most
favorable price and efficient execution. This means that the Investment Adviser
will seek to execute each transaction at a price and commission, if any, which
provides the most favorable total cost or proceeds reasonably attainable in the
circumstances. In seeking the most favorable price and execution, the Investment
Adviser, having in mind the Fund's best interests, will consider all factors it
deems relevant, including, by way of illustration, price, the size of the
transaction, the nature of the market for the security, the amount of
commission, the timing of the transaction taking into account market prices and
trends, the reputation, experience and financial stability of the broker-dealer
involved and the quality of service rendered by the broker-dealer in other
transactions. Though the Investment Adviser generally seeks reasonably
competitive spreads or commissions, the Fund will not necessarily be paying the
lowest spread of commission available. Within the framework of the policy of
obtaining the most favorable price and efficient execution, the Investment
Adviser will consider research and investment services provided by brokers and
dealers who effect or are parties to portfolio transactions with the Fund, the
Investment Adviser or the Investment Adviser's other clients. Such research and
investment services are those which brokerage houses customarily provide to
institutional investors and include statistical and economic data and research
reports on particular issuers and industries. Such services are used by the
Investment Adviser in connection with all of its investment activities and some
of such services obtained in connection with the execution of transactions for
the Fund may be used in managing other investment accounts. Conversely, brokers
furnishing such services may be selected for the execution of transactions for
such other accounts, and the services furnished by such brokers may be used by
the Investment Adviser in providing investment management for the Fund.
Commission rates are established pursuant to negotiations based on the quality
and quantity of execution services provided by the broker or dealer in light of
generally prevailing rates. The management fee paid by the Fund will not be
reduced because the Investment Adviser and/or other clients receive such
services. The allocation of orders and the commission rates paid by the Fund
will be reviewed periodically by the Board of Directors.
As permitted by Section 28(e) of the Securities Exchange Act of 1934, as
amended (the "1934 Act"), the Investment Adviser may cause the Fund to pay a
broker-dealer which provides "brokerage and research services" (as defined in
the 1934 Act) to the Investment Adviser, an amount of disclosed commission for
effecting a securities transaction for the Fund in excess of the commission
which another broker-dealer would have charged for effecting that transaction.
For the fiscal years ended October 31, 1994, 1995 and 1996, the Fund paid no
brokerage commissions for the execution of portfolio transactions. The rate of
portfolio turnover for the fiscal years ended October 31, 1994, 1995 and 1996
was 72.00%, 80.71% and 108.33%, respectively.
DETERMINATION OF NET ASSET VALUE
Net asset value of the Common Stock will be determined no less frequently
than the close of trading on the Exchange (generally 4:00 P.M. New York City
time) on the last Business Day of each week (generally Friday). It will be
determined by dividing the value of the net assets of the Fund (for the purpose
of determining the net asset value per share of the Common Stock, the value of
the Fund's net assets shall be deemed to equal the value of the Fund's assets
less (i) the Fund's liabilities (including the outstanding principal amount of
the Notes and unpaid interest on the Notes), (ii) accumulated and unpaid
dividends on the outstanding Preferred Shares and (iii) the aggregate
liquidation value (i.e., $100,000 per share) of the outstanding Preferred
Shares), by the total number of shares of Common Stock outstanding. In valuing
the Fund's assets for all purposes other than the determination of the
discounted value of such assets pursuant to the respective Investment
Guidelines, portfolio securities that are actively traded in the
over-the-counter market, including listed securities for which the primary
market is believed to be over-the-counter, will be valued at the mean between
the most recently quoted bid and asked prices provided by the principal market
makers. Any security or option for which the primary market is on an exchange
will be valued at the last sale price on such exchange on the day of valuation
or, if there was no sale on such day, the last bid price quoted on such day.
Options for which the primary market is not on an exchange or which are not
listed on an exchange will be valued at market value or fair value if no market
exists. Securities and assets for which market quotations are not readily
available will be valued at fair value as determined in good faith by or under
the direction of the Board of Directors of the Fund. While no single standard
for determining fair value exists, as a general rule, the current fair value of
a security would appear to be the amount which the Fund could expect to receive
upon its current sale. Some, but not necessarily all, of the general factors
which may be considered in determining fair value include: (i) the fundamental
analytical data relating to the investment; (ii) the nature and duration of
restrictions on disposition of the securities; and (iii) an evaluation of the
forces which influence the market in which these securities are purchased and
sold. Without limiting or including all of the specific factors which may be
considered in determining fair value, some of the specific factors include: type
of security, financial condition of the issuer, cost at date of purchase, size
of holding, discount from market value, value of unrestricted securities of the
same type at the time of purchase, special reports prepared by analysts,
information as to any transaction or offers with respect to the security,
existence of merger proposals or tender offers affecting the securities, price
and extent of public trading in similar securities of the issuer or comparable
companies, and other relevant matters.
Short-term debt securities which mature in less than 60 days will be valued
at amortized cost if their term to maturity from the date of acquisition by the
Fund was less than 60 days or by amortizing their value on the 61st day prior to
maturity if their term to maturity from the date of acquisition by the Fund was
more than 60 days, unless this method is determined by the Board of Directors
not to represent fair value. Repurchase agreements will be valued at cost plus
accrued interest.
SHARE REPURCHASES; CONVERSION TO OPEN-END STATUS
REPURCHASE OF SHARES
Shares of closed-end investment companies frequently trade at a discount
from net asset value. To address this possibility, the Board of Directors
presently contemplates that the Fund may from time to time consider either the
repurchase of shares of its Common Stock on the open market or the making of
tender offers for such Common Stock. Since commencement of the Fund's
operations, no such open market purchases or tender offers have been made. The
Fund may borrow money to finance the repurchase of shares, subject to compliance
with 1940 Act Asset Coverage, Section 18 of the 1940 Act and the other
limitations described under "Investment Policies and Limitations -- Certain
Investment Strategies -- Additional Leverage." Shares of Common Stock may not be
repurchased, however, (i) if applicable asset coverage requirements under the
1940 Act (i.e., 300% with respect to the Notes and 200% with respect to the
Preferred Shares) are not met or would not be met following such repurchase,
(ii) when payments of principal of or interest on the Notes are in default,
(iii) when dividends on the Preferred Shares are in arrears or Surety Asset
Coverage is not maintained or (iv) if otherwise prohibited by applicable law.
There can be no assurance that repurchases or tenders will result in the
Common Stock trading at a price which is equal to its net asset value. The Fund
anticipates that the market price of the Common Stock will usually vary from net
asset value. The market price of the Common Stock will be determined, among
other things, by the relative demand for and supply of the Common Stock in the
market, the Fund's investment performance, the Fund's dividends and yield and
investor perception of the Fund's overall attractiveness as an investment as
compared with other investment alternatives. Nevertheless, the fact that the
Common Stock may be the subject of repurchases or tender offers from time to
time may enhance its attractiveness to investors and thus reduce the spread
between market price and net asset value that may otherwise exist.
Although the Board of Directors believes that Common Stock repurchases and
tenders generally would have a favorable effect on the market price of the
Common Stock, it should be recognized that the acquisition of Common Stock of
the Fund will decrease the total assets of the Fund and therefore have the
effect of increasing the Fund's expense ratio. Furthermore, any interest on
borrowings to finance Common Stock repurchase transactions will reduce the
Fund's net income.
Even if a tender offer has been made, it is the Board of Directors'
announced policy, which may be changed by the Board of Directors, not to accept
tenders or effect repurchases if (1) such transactions, if consummated, would
(a) result in the delisting of the Common Stock from the Exchange (the Exchange
having advised the Fund that it would consider delisting if the aggregate market
value of the Fund's outstanding publicly held Common Stock is less than $5.0
million, the number of publicly held shares of Common Stock falls below 600,000
or the number of round-lot holders falls below 1,200), (b) result in a violation
of applicable asset coverage requirements, or (c) impair the Fund's status as a
regulated investment company under the Internal Revenue Code (which would make
the Fund a taxable entity, causing the Fund's income to be taxed at the
corporate level in addition to the taxation of shareholders who receive
dividends from the Fund); (2) the Fund would not be able to liquidate portfolio
securities in an orderly manner and consistent with the Fund's investment
objective and policies in order to repurchase Common Stock; or (3) there is, in
the Board's judgment, any material (a) legal action or proceeding instituted or
threatened challenging such transactions or otherwise materially adversely
affecting the Fund, (b) suspension of or limitation on prices for trading
securities generally on the Exchange or any foreign exchange on which portfolio
securities of the Fund are traded, (c) declaration of a banking moratorium by
federal, state or foreign authorities or any suspension of payment by banks in
the United States, New York State or foreign countries in which the Fund
invests, (d) limitation affecting the Fund or issuers of its portfolio
securities imposed by federal, state or foreign authorities on the extension of
credit by lending institutions or on the exchange of foreign currency, (e)
commencement of war, armed hostilities or other international or national
calamity directly or indirectly involving the United States or other countries
in which the Fund invests, or (f) other event or condition which would have a
material adverse effect on the Fund or its shareholders if shares of Common
Stock were repurchased. The Board of Directors may modify these conditions from
time to time in light of experience and may determine to make a tender offer
even if one of the above conditions exists. If a tender offer is made, such
tender offer shall be made in accordance with the 1934 Act and the 1940 Act.
Any tender offer made by the Fund will be at a price equal to the net asset
value of the shares on a date subsequent to the Fund's receipt of all tenders.
Each offer will be made and shareholders notified in accordance with the
requirements of the 1934 Act and the 1940 Act, either by publication or mailing
or both. Each offering document will contain such information as is prescribed
by such laws and the rules and regulations promulgated thereunder. The Fund will
purchase shares tendered by a shareholder at any time during the period of the
tender offer in accordance with the terms of the offer unless it determines to
accept none of them (based upon one of the conditions set forth above). Each
person tendering shares will be required to submit a check in an amount not to
exceed $25 payable to the Fund, which will be used to help defray the costs
associated with effecting the tender offer. This fee will be imposed upon each
tendering shareholder whose tendered shares are purchased in the tender offer
and will be imposed regardless of the number of shares purchased. The Fund
expects the cost to the Fund of effecting a tender offer will be greater than
the aggregate of all service charges received from those who tender their
shares. Costs associated with the tender offer will be charged against capital
of the Fund. During the period of a tender offer, the Fund's shareholders will
be able to obtain the Fund's current net asset value by use of a toll-free
telephone number.
If the Fund must liquidate portfolio securities in order to purchase shares
of Common Stock tendered, the Fund may realize gains and losses. Such gains, if
any, may be realized on securities held for less than three months ("short short
gain"). Because less than 30% of the Fund's gross income must be derived from
the sale of disposition of stock and securities held less than three months for
any taxable year in order to retain the Fund's tax status as a regulated
investment company, any such short short gains would reduce the amount of gain
on sale of other securities held for less than three months that the Fund could
realize in the ordinary course of its portfolio management. See "Federal
Taxation." The portfolio turnover rate of the Fund may or may not be affected by
the Fund's repurchases of shares of Common Stock pursuant to a tender offer.
CONVERSION TO OPEN-END STATUS
The Fund's Board of Directors may elect to submit to the holders of the
Common Stock and the Preferred Shares at any time a proposal to convert the Fund
to an open-end investment company and in connection therewith to redeem or
otherwise retire the Notes and the Preferred Shares as would be required upon
such conversion by the 1940 Act. In determining whether to exercise its
discretion to submit this issue to shareholders, the Board of Directors would
consider all factors then relevant, including the relationship of the market
price of the Common Stock to net asset value, the extent to which the Fund's
capital structure is leveraged and the possibility of re-leveraging, the spread,
if any, between yields on "high-yield" securities in the Fund's portfolio as
compared to interest and dividend charges on senior securities and general
market and economic conditions. In addition to any vote required by Maryland
law, conversion of the Fund to an open-end investment company would require the
affirmative vote of the holders of a majority (as defined in the 1940 Act) of
each class of the shares entitled to be voted on the matter. Shareholders of an
open-end investment company may require the company to redeem their shares at
any time (except in certain circumstances as authorized by or under the 1940
Act) at their net asset value, less such redemption charges, if any, as might be
in effect at the time of redemption. If the Fund converted to an open-end
investment company, it could be required to liquidate portfolio securities to
meet requests for redemption, and the Common Stock would no longer be listed on
the Exchange. In the event the Fund converts to open-end status, the Fund would
only be able to borrow through bank borrowings within certain limits and would
not be allowed to have preferred stock.
DIVIDENDS AND DISTRIBUTIONS; DIVIDEND REINVESTMENT PLAN
It is the Fund's present policy, which may be changed by the Board of
Directors, to pay dividends on a monthly basis to holders of Common Stock of
investment company taxable income (but not including short-term capital gains or
"net capital gains," defined as the excess of net long-term capital gains over
net short-term capital losses), and to distribute any net short-term capital
gains and net capital gains annually. Under present law, if the Fund were to
retain ordinary income or net capital gains, taxes would be imposed with respect
to those amounts. Subject to market conditions, the Fund seeks to provide
holders of its Common Stock with a relatively stable level of dividends.
However, there can be no assurance that the Fund will be able to maintain its
current level of dividends, and the Board of Directors of the Fund may, in its
sole discretion, change the Fund's current dividend policy or its current level
of dividends in response to market or other conditions. See "Risk Factors and
Special Considerations -- Dividends and Distributions." See also "Federal
Taxation," "Description of Notes -- Asset Maintenance" and "Description of
Capital Stock -- Dividends and Distributions" for a discussion of certain
possible restrictions on the Fund's ability to declare dividends on the Common
Stock.
Pursuant to the Fund's Dividend Reinvestment Plan (the "Plan"), all
shareholders whose shares are registered in their own names will have all
distributions reinvested automatically in additional shares of the Fund by State
Street Bank and Trust Company (the "Bank"), as agent under the Plan, unless a
shareholder elects to receive cash. An election to receive cash may be revoked
or reinstated at the option of the shareholder. Shareholders whose shares are
held in the name of a broker or nominee will have distributions reinvested
automatically by the broker or nominee in additional shares under the Plan,
unless the service is not provided by the broker or nominee, or unless the
shareholder elects to receive distributions in cash. If the service is not
available, such distributions will be paid in cash. Shareholders whose shares
are held in the name of a broker or nominee should contact the broker or nominee
for details. All distributions to investors who elect not to participate (or
whose broker or nominee elects not to participate) in the Plan, will be paid by
check mailed directly to the record holder by the Bank, as dividend paying
agent.
The Bank will furnish each person who buys shares in the offering with
written information relating to the Plan. Included in such information will be
procedures for electing to receive distributions in cash (or, in the case of
shares held in the name of a broker or nominee who does not participate in the
Plan, procedures for having such shares registered in the name of the
shareholder so that such shareholder may participate in the Plan).
If the Directors of the Fund declare a dividend or capital gains
distribution payable either in shares of Common Stock or in cash, as holders of
Common Stock may have elected, then nonparticipants in the Plan will receive
cash and participants in the Plan will receive the equivalent in shares of
Common Stock valued at the lower of market price or net asset value. Whenever
market price is equal to or exceeds net asset value at the time shares are
valued for the purpose of determining the number of shares equivalent to the
cash dividend or capital gains distribution, participants will be issued shares
of Common Stock at the net asset value most recently determined as provided
under "Determination of Net Asset Value," but in no event less than 95% of the
market price. If the net asset value of the Common Stock at such time exceeds
the market price of Common Stock at such time, or if the Fund should declare a
dividend or capital gains distribution payable only in cash, the Bank will, as
agent for the participants, buy Common Stock in the open market, on the Exchange
or elsewhere, for the participants' accounts. If, before the Bank has completed
its purchases, the market price exceeds the net asset value of the Common Stock,
the average per share purchase price paid by the Bank may exceed the net asset
value of the Common Stock, resulting in the acquisition of fewer shares than if
the dividend or capital gains distribution had been paid in Common Stock issued
by the Fund. The Bank will apply all cash received as a dividend or capital
gains distribution to purchase Common Stock on the open market as soon as
practicable after the payment date of such dividend or capital gains
distribution, but in no event later than 30 days after such date, except where
necessary to comply with applicable provisions of the federal securities laws.
The Bank maintains all shareholder accounts in the Plan and furnishes
written confirmations of all transactions in such accounts, including
information needed by shareholders for personal and tax records. Common Stock in
the account of each Plan participant will be held by the Bank in noncertificated
form in the name of the participant, and each shareholder's proxy will include
those shares purchased pursuant to the Plan.
There is no charge to participants for reinvesting dividends or capital
gains distributions. The Bank's fees for handling the reinvestment of dividends
and capital gains distributions will be paid by the Fund. There will be no
brokerage charges with respect to shares of Common Stock issued directly by the
Fund as a result of dividends or capital gains distributions payable either in
stock or in cash. However, each participant will pay a pro rata share of
brokerage commissions incurred with respect to the Bank's open market purchases
in connection with the reinvestment of dividends and capital gains
distributions.
The automatic reinvestment of dividends and capital gains distributions will
not relieve participants of any income tax which may be payable on such
dividends or distributions.
Experience under the Plan may indicate that changes are desirable.
Accordingly, the Fund reserves the right to amend or terminate the Plan as
applied to any dividend or capital gains distribution paid after written notice
of the change sent to the members of the Plan at least 90 days before the record
date for such dividend or capital gains distribution. The Plan also may be
amended or terminated by the Bank, with the Fund's prior written consent but,
except when necessary or appropriate to comply with applicable law or the rules
or policies of a regulatory body, only on at least 90 days' written notice to
participants in the Plan. All correspondence concerning the Plan should be
directed to the Bank at P.O. Box 8209, Boston, Massachusetts 02266.
FEDERAL TAXATION
The following discussion offers only a brief outline of the federal income
tax consequences of investing in the Common Stock. Investors should consult
their own tax advisors for more detailed information and for information
regarding the impact of state and local taxes upon such an investment.
FEDERAL INCOME TAX TREATMENT OF THE FUND
The Fund has qualified and intends to continue to qualify and to elect to be
treated as a regulated investment company under the Internal Revenue Code. To
qualify as a regulated investment company, the Fund must, among other things,
(a) derive in each taxable year at least 90% of its gross income from dividends,
interest, payments with respect to securities loans and gains from the sale or
other disposition of stock, securities or foreign currencies, or other income
derived with respect to its business of investing in stocks, securities or
currencies (including but not limited to, gains from options, futures and
forward contracts); (b) derive in each taxable year less than 30% of its gross
income from any of the following that are held for less than three months (i)
stocks or securities, (ii) options, future or forward contracts, or (iii)
foreign currencies (or foreign currency options, futures or forward contracts)
that are not directly related to its principal business of investing in stocks
and securities (or options and futures with respect to stocks or securities);
and (c) diversify its holdings so that, at the end of each quarter of each
taxable year, (i) at least 50% of the market value of the Fund's assets is
represented by cash, cash items, U.S. Government securities, securities of other
regulated investment companies and other securities, with such other securities
of any one issuer limited for the purposes of this calculation to an amount not
greater than 5% of the value of the Fund's total assets and 10% of the
outstanding voting securities of such issuer and (ii) not more than 25% of the
value of its total assets is invested in the securities of any one issuer (other
than U.S. Government securities or the securities of other regulated investment
companies).
As a regulated investment company, in any fiscal year with respect to which
the Fund distributes at least 90% of its investment company taxable income
(which includes, among other items, dividends and interest but excludes net
long-term capital gains in excess of net short-term capital losses), the Fund
(but not its shareholders) generally will be relieved of U.S. federal income tax
on its net investment income and net capital gains (net long-term capital gains
in excess of the sum of net short-term capital losses and capital loss
carryovers from prior years, if any) that it distributes to shareholders. To the
extent the Fund retains its net capital gains for investment, it will be subject
under current tax rates to a federal income tax at a maximum effective rate of
35% on the amount retained. See "Federal Income Tax Treatment of Holders of
Common Stock" below. Amounts not distributed on a timely basis in accordance
with a calendar year distribution requirement are subject to a nondeductible 4%
excise tax payable by the Fund. To avoid the tax, the Fund must distribute, or
be deemed to have distributed, during each calendar year an amount equal to the
sum of (1) at least 98% of its ordinary income (not taking into account any
capital gains or losses) for the calendar year, (2) at least 98% of its capital
gains in excess of its capital losses (adjusted for certain ordinary losses) for
the twelve-month period ending on October 31 of the calendar year, and (3) all
ordinary income and capital gains for previous years that were not distributed
during such years. See "Risk Factors and Special Considerations -- Dividends and
Distributions."
If in any taxable year the Fund fails to qualify as a regulated investment
company under the Internal Revenue Code, the Fund will be taxed in the same
manner as an ordinary corporation, and distributions to its shareholders will
not be deductible by the Fund in computing its taxable income. In addition, in
the event of failure to qualify, the Fund's distributions, to the extent derived
from the Fund's current or accumulated earnings and profits, will constitute
dividends (eligible for the corporate dividends-received deduction) which are
taxable to shareholders as ordinary income, even though those distributions
might otherwise (at least in part) have been treated in the shareholders' hands
as long-term capital gains.
If the Fund does not meet the asset coverage requirements of the 1940 Act,
the Fund will be required to suspend distributions to the holders of the Common
Stock and/or the Preferred Shares until the asset coverage is restored. See
"Description of Capital Stock -- Dividends and Distributions." Such a suspension
of distributions might prevent the Fund from distributing 90% of its investment
company taxable income, as is required in order to qualify for taxation as a
regulated investment company or cause the Fund to incur a tax liability or a
non-deductible 4% excise tax on its undistributed taxable income (including
gain) or both.
Upon any failure to meet the asset coverage requirements of the 1940 Act,
the Fund intends to repurchase or redeem Notes and/or (to the extent permitted
under the 1940 Act) Preferred Shares in order to maintain or restore the
requisite asset coverage and avoid failure to remain qualified as a regulated
investment company. The determination to repurchase or redeem Notes or Preferred
Shares and the relative amounts of each to be repurchased or redeemed, if any,
will be made in the sole discretion of the Fund. Furthermore, the Fund will be
required to make mandatory partial redemptions of the Notes in the event failure
to maintain 1940 Act Asset Coverage (as defined under "Description of Notes --
Asset Maintenance") is not cured in a timely manner. See "Description of Notes
- -- Events of Default."
Use of the Fund's cash to repurchase or redeem Notes and/or Preferred Shares
may adversely affect the Fund's ability to distribute annually at least 90% of
its investment company taxable income, which distribution is required to qualify
for taxation as a regulated investment company. The Fund may also realize income
in connection with funding repurchases or redemptions of Notes or Preferred
Shares, and such income would be taken into account in determining whether or
not the above-described distribution requirements have been met. Depending on
the size of the Fund's assets relative to its outstanding senior securities,
redemption of the Notes and/or Preferred Shares might restore asset coverage.
Payment of distributions after restoration of asset coverage could requalify (or
avoid a disqualification of) the Fund as a regulated investment company,
depending upon the facts and circumstances.
The Fund's portfolio may include zero coupon bonds. Zero coupon bonds are
original issue discount bonds which pay no current interest. Original issue
discount is the excess (if any) of the stated redemption price at maturity of a
debt instrument over the issue price of the instrument. Original issue discount
on a taxable obligation is required to be currently included in the income of
the holder of the obligation (i) on a ratable basis if the obligation was issued
before July 2, 1982 and (ii) on a constant interest rate basis resembling the
economic accrual of interest if the obligation was issued after July 1, 1982.
The tax basis of the holder of an original issue discount debt instrument is
increased by the amount of original issue discount thereon properly included in
the holder's gross income as determined for federal income tax purposes. Current
inclusion in gross income of original issue discount on a taxable debt
instrument is required, even though no cash is received at the time the original
issue discount is required to be included in gross income. Because such income
may not be matched by a corresponding cash distribution to the Fund, the Fund
may be required to borrow money or dispose of other securities to be able to
make distributions to the investors. The extent to which the Fund may liquidate
securities at a gain may be limited by the 30% limitation discussed above.
The Fund's transactions in foreign currencies, forward contracts, options
and futures contracts (including options and futures contracts on foreign
currencies) will be subject to special provisions of the Internal Revenue Code
that, among other things, may affect the character of gains and losses realized
by the Fund (i.e., may affect whether gains or losses are ordinary or capital),
accelerate recognition of income to the Fund, defer Fund losses, and affect the
determination of whether capital gains and losses are characterized as long-term
or short-term capital gains or losses. These rules could therefore affect the
character, amount and timing of distributions to shareholders. These provisions
also may require the Fund to mark-to-market certain types of the positions in
its portfolio (i.e., treat them as if they were closed out) which may cause the
Fund to recognize income without receiving cash with which to make distributions
in amounts necessary to satisfy the 90% and 98% distribution requirements for
avoiding income and excise taxes. The Fund will monitor its transactions, will
make the appropriate tax elections, and will make the appropriate entries in its
books and records when it acquires any foreign currency, option, futures
contract, forward contract, or hedged investment in order to mitigate the effect
of these rules and prevent disqualification of the Fund as a regulated
investment company and minimize the imposition of income and excise taxes.
If the Fund fails to qualify as a regulated investment company for any year,
it generally must pay out its earnings and profits accumulated in that year less
an interest charge to the Treasury on 50% of such earnings and profits before it
can again qualify as a regulated investment company.
FEDERAL INCOME TAX TREATMENT OF HOLDERS OF COMMON STOCK
For any period during which the Fund qualifies as a regulated investment
company for federal income tax purposes, dividends paid out of the Fund's net
investment income and short-term capital gains to holders of Common Stock will
be taxable as ordinary income. It is expected that dividends received by
corporate shareholders will not be eligible for the dividends received
deduction. Distributions of net long-term capital gains designated by the Fund
as capital gain dividends, if any, are taxable as long-term capital gains,
regardless of how long the shareholder has held the Fund's shares and are not
eligible for the dividends received deduction. Dividends and distributions will
be taxable to shareholders as if actually distributed, even if they are
reinvested in additional shares of the Fund. Shareholders receiving
distributions in the form of newly issued shares will have a cost basis in each
share received equal to the fair market value of a share of the Fund on the
distribution date.
Generally, dividends paid by the Fund are treated as received in the taxable
year in which the distribution is made; however, any dividend declared by the
Fund in October, November or December of any calendar year, payable to
shareholders of record on a specified date in such a month and actually paid
during January of the following year, will be treated as received on December 31
of the year in which declared.
Any distribution by the Fund to a holder of Common Stock not made out of the
Fund's earnings and profits will be treated as a return of capital to each
holder of Common Stock, will reduce the basis of each share of Common Stock with
respect to which it is distributed and will be subject to tax as capital gain to
the extent that the distribution exceeds the basis of the share of Common Stock
with respect to which it is distributed. Investors should carefully consider the
tax implications of buying shares of Common Stock just prior to a distribution,
as the price of shares purchased at this time may reflect the amount of the
forthcoming distribution which will, except in unusual circumstances, be taxable
when received.
After the close of each taxable year, the Fund will identify for its holders
of Common Stock the portions of its distributions that are attributable to
capital gains and to ordinary income, respectively.
The Internal Revenue Code limits certain miscellaneous itemized deductions
by individuals, including deductions of investment expenses, to the extent the
aggregate of such deductions exceeds 2% of an individual's federal adjusted
gross income. The Internal Revenue Code would treat such expenses incurred by a
regulated investment company as being indirectly incurred by the shareholders of
the investment company. Shareholder expenses of publicly offered regulated
investment companies are exempted from the application of the 2% floor. Thus,
the limitation will not apply with respect to indirect deductions through the
Fund. Such expenses will also be fully deductible by the Fund's corporate
shareholders.
If the Fund suffers a net taxable loss in any taxable year, the holders of
Common Stock will not be permitted to utilize that loss in their tax returns.
Generally, gain realized by a shareholder on the sale of shares held for
more than one year will be taxable as long-term capital gain. If a shareholder
holds shares primarily for sale to customers in the ordinary course of business
rather than for investment, any gain recognized on the sale of those shares
would be taxable as ordinary income. Any loss realized on a sale or exchange
will be disallowed to the extent the shares disposed of are replaced within a
period of 61 days beginning 30 days before and ending 30 days after the shares
are disposed of. In such a case, the basis of the shares acquired will be
adjusted to reflect the disallowed loss. Any loss realized by a shareholder on a
disposition of Fund shares held by the shareholder for six months or less will
be treated as a long-term capital loss to the extent of any distributions of
capital gain dividends received or treated as having been received by the
shareholder with respect to such shares. Shareholders who acquire shares on
multiple dates should consult their tax advisors to determine how to allocate
the cost of stock for basis purposes.
In general, federal withholding taxes at a 30% rate or a lesser rate
established by treaty will apply to distributions to shareholders (except to
those distributions designated by the Fund as capital gains dividends) that are
nonresident aliens or foreign partnerships, trusts or corporations to the extent
that such income is not "effectively connected" with a U.S. trade or business
carried on by the shareholders.
In the event the Fund retains any net capital gains, it may designate such
retained amounts as undistributed capital gains in a notice to its shareholders.
In the event such a designation is made, shareholders subject to U.S. tax would
include in income, as long-term capital gains, their proportionate share of such
undistributed amounts, but would be allowed a credit or refund, as the case may
be, for their proportionate share of the 35% tax paid by the Fund. If the
designation is made, for U.S. federal income tax purposes, the tax basis of
shares owned by a shareholder would be increased by an amount equal to 65% of
the amount of undistributed capital gains included in the shareholder's income.
BACKUP WITHHOLDING
The Fund may be required to withhold for U.S. federal income taxes 31% of
all taxable distributions payable to shareholders who fail to provide the Fund
with their correct taxpayer identification number or who fail to make required
certifications or if the Fund or a shareholder has been notified by the U.S.
Internal Revenue Service that they are subject to backup withholding. Corporate
shareholders and other shareholders specified in the Internal Revenue Code are
exempt from such backup withholding. Backup withholding is not an additional
tax. Any amounts withheld may be credited against the shareholder's U.S. federal
income tax liability.
OTHER TAXATION
Investors are advised to consult their own tax advisors with respect to the
application to their own circumstances of the above-described general taxation
rules and with respect to the state, local or foreign tax consequences to them
of an investment in the Common Stock.
DESCRIPTION OF CAPITAL STOCK
GENERAL
The authorized capital stock of the Fund consists of 1,000 Preferred Shares,
no par value, with a liquidation preference of $100,000 per share, and
100,000,000 shares of Common Stock, $.01 par value. As of January 17, 1997,
30,970,768 shares of Common Stock are outstanding and 200 Preferred Shares are
outstanding. The Board of Directors reserves the right to issue Preferred Shares
and Common Stock, from time to time, and any such shares shall be deemed
"Preferred Shares" and "Common Stock," respectively. The Preferred Shares and
the Common Stock issued are, or upon issuance will be fully paid and
nonassessable and will have no preemptive rights or conversion rights. As used
herein, the term "holder of Preferred Shares" refers to a beneficial owner of
Preferred Shares unless the context otherwise requires.
DIVIDENDS AND DISTRIBUTIONS
Dividends on the Preferred Shares are cumulative from the date on which such
shares are originally issued (the "Original Issuance Date") and are payable,
when, as and if declared by the Board of Directors of the Fund, out of funds
legally available therefor, on the last day of successive 30-day periods (each,
a "Dividend Payment Date") which commenced on January 19, 1989 (the 45th day
after the Original Issuance Date), subject to certain exceptions. Dividends will
be paid to the holders of the Preferred Shares on each Dividend Payment Date
through DTC or a successor securities depository appointed by the Fund. The
securities depository's normal procedures now provide for distribution of
dividends in next-day funds settled through the New York Clearing House to
broker-dealers acting as agent members on behalf of the holders of the Preferred
Shares, who in turn are expected to distribute such dividends to the persons for
whom they are acting as agent.
The Applicable Rate (as defined herein) is reset generally every 30 days by
an auction conducted on the first Business Day (an "Auction Date") next
preceding the first day of the next dividend period; provided, however, if such
day is a Thursday the Auction Date shall mean the Business Day next preceding
such Thursday. Accordingly, for each dividend period after the initial dividend
period, the dividend rate for the Preferred Shares will be the Applicable Rate
per annum that results from an auction. Pursuant to a broker-dealer agreement
(the "Broker-Dealer Agreement") among the Fund, Bear, Stearns & Co. Inc. ("Bear,
Stearns") and Bankers Trust Company ("Bankers Trust"), Bankers Trust as the
auction agent for the Preferred Shares will pay a quarterly service charge (from
funds provided by the Fund) to Bear, Stearns, the Fund's exclusive broker-dealer
with respect to the Preferred Shares, of 1/8 of 1% of the purchase price of
Preferred Shares outstanding, prorated for the number of days in the related
dividend period. To the extent that the Fund does not make dividend payments on
the Preferred Shares on any Dividend Payment Date, such payments shall be made
to the holders by Financial Security pursuant to the Surety Bond and thereafter
Financial Security shall be subrogated to such holders' rights to receive such
dividend payments when, as and if declared by the Board of Directors. See
"Voting" below and "Surety Arrangement for Preferred Shares -- Surety Bond." The
Fund has negotiated an extension of the Broker-Dealer Agreement whereby Bear,
Stearns has agreed to continue to act as the Fund's exclusive broker-dealer with
respect to the Preferred Shares through December 4, 1998.
Under the 1940 Act and the Articles of Incorporation, the Fund may not (i)
declare dividends on the Preferred Shares if at the time thereof (and after
giving effect thereto) asset coverage with respect to the Fund's senior
securities representing indebtedness, including the Notes, would be less than
200% (or such higher percentage as may in the future be required by law) or (ii)
declare any other distributions with respect to the Preferred Shares or purchase
or redeem Preferred Shares if at the time of such declaration, purchase or
redemption, as applicable (and after giving effect thereto), asset coverage with
respect to the Fund's senior securities representing indebtedness, including the
Notes, would be less than 300% (or such higher percentage as may in the future
be required by law). Further, the Fund may not declare dividends or other
distributions on the Common Stock or purchase or redeem any shares of Common
Stock if, at the time of the declaration, purchase or redemption, as applicable
(and after giving effect thereto), asset coverage with respect to the Fund's
senior securities representing indebtedness, including the Notes, would be less
than 300% (or such higher percentage as may in the future be required by law) or
asset coverage with respect to the Fund's senior securities of a class which is
stock, including the Preferred Shares, would be less than 200% (or such higher
percentage as may in the future be required by law). See "Description of Notes
- -- Restrictive Covenants" for certain definitions relating to the foregoing
restrictions. Under the Note Purchase Agreement (as defined herein), the
declaration of dividends or other distributions on or the purchase or the
redemption of Preferred Shares or Common Stock will be prohibited at any time
payments of principal of or interest on the Notes are in default. In addition,
the declaration of dividends or other distributions on or the purchase or
redemption of Common Stock will be prohibited at any time dividends on the
Preferred Shares are in arrears or Surety Assets Coverage is not maintained.
Subject to the foregoing, and any requirements of Maryland law, to the
extent that the Fund's net investment income for any year exceeds any current or
accumulated dividends on the Preferred Shares, it will be distributed to the
holders of the Common Stock. The term "net investment income" includes interest,
dividends, short-term capital gains and other income received or accrued less
interest payments with respect to the Notes, the advisory fee, bank custodian
and surety custodian charges, the premium paid pursuant to the Surety
Arrangement, taxes (except capital gains taxes) and other expenses properly
chargeable against income, but does not include net capital gains, stock
dividends, transfer taxes, brokerage or other capital charges or distributions
designated as a return of capital. Any net capital gains (defined as the excess
of net long-term capital gains over net short-term capital losses) of the Fund
will be distributed annually to the holders of the Common Stock (subject to the
prior rights of the holders of the Preferred Shares) subject to the foregoing
and any requirements of Maryland law.
REDEMPTION
To the extent permitted under the 1940 Act and Maryland law, the Fund may
redeem at its option some or all of the Preferred Shares on any Dividend Payment
Date (a "Preferred Shares Redemption"). The Fund shall be obligated (a) to
redeem, no later than the last day specified for the redemption of Preferred
Shares pursuant to a Redemption Request (as defined herein) from Financial
Security the number of Preferred Shares specified in such Redemption Request (a
"Mandatory Surety Redemption") and (b) to redeem all of the Preferred Shares at
least one full Business Day prior to any expiration date of the Surety Bond if,
190 days prior to such expiration date, the Fund shall have failed to obtain
from Financial Security an extension of the term of the Surety Bond pursuant to
its terms (a "Mandatory Expiration Redemption"); provided that, under certain
circumstances, no Mandatory Expiration Redemption shall be required if the Fund
shall have obtained notice in writing from each of the Rating Agencies that such
expiration of the Surety Bond will not adversely affect the then outstanding
ratings of the Preferred Shares whether through obtaining a substitute surety
bond or otherwise. Preferred Shares Redemptions and any Mandatory Surety
Redemption or Mandatory Expiration Redemption will be made at a price equal to
$100,000 per share plus accumulated and unpaid dividends through the date of
redemption (whether or not declared by the Fund), except that if any such
redemption is not made on a Dividend Payment Date, it will be made at a price
equal to $100,250 plus accumulated and unpaid dividends through the date of
redemption (whether or not declared by the Fund). Such redemptions may only be
made by the Fund to the extent permitted under the 1940 Act and Maryland law,
and provided neither principal nor interest payments with respect to the Notes
are then in default. A holder of Preferred Shares may elect not to have its
shares redeemed pursuant to a Mandatory Expiration Redemption by giving notice
to the Fund or the paying agent for the Preferred Shares at least five days
prior to the redemption date of its election to continue to hold its Preferred
Shares. The Fund is obligated to meet certain Deposit Securities (as defined
herein) requirements pursuant to the Surety Arrangement to the extent necessary
to satisfy a Mandatory Expiration Redemption. See "Surety Arrangement for
Preferred Shares -- Insurance Agreement."
Pursuant to the terms of the Insurance Agreement (as defined below),
Financial Security is entitled to cause the Fund to redeem certain of the
Preferred Shares to the extent permitted under the 1940 Act and Maryland law
(and provided payments of principal of and interest on the Notes are not then in
default), in the event that the Fund fails to maintain Surety Assets Coverage
while any of the Preferred Shares are outstanding, and such failure is not cured
within eight Business Days. See "Surety Arrangement for Preferred Shares --
Insurance Agreement." If on any date on which the payment of the redemption
price would constitute a Scheduled Payment, the Fund shall default in making
payment of such redemption price, Financial Security shall make such payments to
the holders of Preferred Shares to be redeemed and shall thereafter be
subrogated to all the rights of such holders with respect to their Preferred
Shares. See "Voting" below and "Surety Arrangement for Preferred Shares --
Surety Bond."
LIQUIDATION RIGHTS
Upon a liquidation, dissolution or winding up of the Fund (whether voluntary
or involuntary), holders of the Preferred Shares then outstanding shall be
entitled to receive, out of the assets of the Fund available for distribution to
stockholders, after satisfying claims of creditors (including the holders of the
Notes) but before any distribution of assets is made to holders of the Common
Stock or any other class of stock ranking junior to the Preferred Shares as to
liquidation payments, a liquidation distribution in the amount of $100,000 per
share plus an amount equal to accumulated and unpaid dividends (whether or not
earned or declared by the Fund, but without interest) to the date of the final
distribution. If, upon any liquidation, dissolution or winding up of the Fund,
the assets of the Fund shall be insufficient to make such full payments to
holders of the Preferred Shares, then such assets shall be distributed among the
holders of Preferred Shares ratably, according to the respective amounts which
would be payable on all such Preferred Shares if all amounts thereon were paid
in full. So long as the Surety Bond is in effect, to the extent of any such
insufficiency and provided Financial Security has consented to such liquidation,
Financial Security will pay the remaining liquidation preference to the holders
of the Preferred Shares at the time of liquidation. If Financial Security has
not consented to such liquidation, it shall continue to guarantee Scheduled
Payments on the Preferred Shares (including dividend payments and the
liquidation preference to the extent thereof not paid in liquidation) until the
expiration of the Surety Bond, at which time payment of the unpaid liquidation
preference of the Preferred Shares shall be paid by Financial Security. See
"Surety Arrangement for Preferred Shares -- Surety Bond." Unless and until
payment in full has been made to the holders of the Preferred Shares of the
liquidation distributions to which they are entitled, no dividends or
distributions will be made to holders of the Common Stock or any other stock
junior to the Preferred Shares on liquidation. After payment to the holders of
the Preferred Shares of the full amount of the liquidation distributions to
which they are entitled, such holders will not be entitled to any further
participation in any distribution of assets of the Fund. Neither a sale, lease
or exchange of all or substantially all of the property and assets of the Fund
nor a consolidation or merger of the Fund with or into any other corporation or
business trust will be deemed to be a liquidation, dissolution or winding up of
the Fund.
Upon any liquidation, the holders of the Common Stock, after required
payments to the holders of the Preferred Shares, will be entitled to participate
equally in the remaining assets of the Fund.
VOTING
Except as noted below, the Common Stock and the Preferred Shares vote
together as a single class. Holders of shares of Common Stock have voting rights
of one vote per share and holders of the Preferred Shares have voting rights of
one vote per $1,000 of liquidation preference without regard to any liquidation
preference attributable to accumulated and unpaid dividends (i.e., 100 votes per
Preferred Share); provided that all the votes represented by a single Preferred
Share must be voted together. In elections of Directors, the holders of the
Preferred Shares, as a separate class, vote to elect two Directors and the
holders of the Common Stock and the Preferred Shares, voting together, will
elect the remaining Directors. In addition, during any period (herein referred
to as a "Voting Period") that dividends payable on Preferred Shares equal to two
full years of dividends are unpaid, the holders of such Preferred Shares, voting
as a separate class, have the right to elect as a class the smallest number of
additional Directors as shall be necessary to assure that a majority of the
Directors has been elected by the holders of the Preferred Shares. The terms of
office of all persons who are Directors of the Fund at the time of the
commencement of a Voting Period will continue without change, notwithstanding
the election by the holders of Preferred Shares of the additional number of
Directors which such holders are entitled to elect as a separate class. The
additional Directors elected by the holders of Preferred Shares in connection
with a Voting Period, together with the incumbent Directors elected prior to the
Voting Period, will constitute the duly elected Directors of the Fund. When all
accumulated and unpaid dividends have been paid or provided for, the Voting
Period shall end and the terms of office of the additional Directors elected by
the holders of the Preferred Shares in connection with a Voting Period shall
terminate. Election of Directors is noncumulative; accordingly, holders of a
majority of the voting power represented by the outstanding shares of Common
Stock and Preferred Shares, voting together as a single class, or a majority of
the outstanding Preferred Shares, voting separately as a class, may elect all of
the Directors who are subject to election by such class, as the case may be.
Pursuant to the Surety Custody Agreement, to the extent Scheduled Payments
are paid by Financial Security pursuant to the Surety Bond, Financial Security
shall have the right to exercise the voting rights (including any right to elect
a majority of the Board of Directors described above) of the holders of the
Preferred Shares with respect to which such Scheduled Payments have been made by
Financial Security. See "Surety Arrangement for Preferred Shares -- Insurance
Agreement." The assignment to Financial Security of the voting rights of the
holders of the Preferred Shares shall terminate when the Fund has made payments
on the Preferred Shares with respect to which Financial Security had made
Scheduled Payments pursuant to the Surety Bond or the Fund has reimbursed
Financial Security with respect to such Scheduled Payments.
The Common Stock and the Preferred Shares each vote separately as a class on
amendments to the Articles of Incorporation that would adversely affect their
respective contractual rights as expressly set forth in the Articles of
Incorporation. In addition to any other vote required by the Articles of
Incorporation or applicable law, so long as any Preferred Shares are outstanding
(1) the Fund may not be voluntarily liquidated, dissolved or wound up, or merged
into or consolidated with any other entity in a transaction in which it is not
the successor entity, or converted to open-end status, and may not sell all or
substantially all of its assets and may not engage in a statutory share exchange
in which it is not the successor entity without the approval of at least a
majority of the outstanding Preferred Shares and the outstanding shares of
Common Stock, each voting as a separate class; (2) the adoption of any plan of
reorganization adversely affecting either the Preferred Shares or the Common
Stock shall require the approval of a majority of the outstanding shares of each
such class so affected; (3) the approval of a majority of the outstanding
Preferred Shares, voting separately as a class, shall be required to amend,
alter or repeal any of the express preferences, rights or powers of holders of
the Preferred Shares as set forth in the Articles of Incorporation, or increase
or decrease the number of Preferred Shares authorized to be issued; and (4) the
approval of a majority (as defined under "Investment Objective and Policies") of
the outstanding Preferred Shares and the outstanding shares of Common Stock,
each voting as a separate class, shall be required to approve any action
requiring a vote of security holders under Section 13(a) of the 1940 Act
including, among other things, changes in the Fund's sub-classification as a
closed-end investment company, changes in its investment objective or changes in
the investment restrictions described under "Investment Policies and Limitations
- -- Investment Restrictions." The Common Stock and the Preferred Shares will also
vote separately to the extent otherwise required under Maryland law or the 1940
Act as in effect from time to time, and, to the extent required under the 1940
Act, action by the Fund's shareholders shall require a vote of a majority of the
Fund's outstanding voting securities as defined under "Investment Policies and
Limitations."
For purposes of any right of the holders of the Preferred Shares to vote on
any matter, whether such right is created by the Articles of Incorporation, by
statute or otherwise, a holder of a Preferred Share will not be entitled to vote
and such Preferred Share will not be deemed to be outstanding for the purpose of
voting or determining the number of Preferred Shares required to constitute a
quorum, if prior to or concurrently with a determination of Preferred Shares
entitled to vote or of Preferred Shares deemed outstanding for quorum purposes,
as the case may be, a notice of redemption shall have been given in respect of
such Preferred Share and Deposit Securities for the redemption of such Preferred
Share shall have been deposited in trust, as provided above; provided, however,
that the foregoing sentence shall not be applicable to the holders of Preferred
Shares who elected to retain their Preferred Shares after notice of a Mandatory
Expiration Redemption. The Fund is required by the rules of the Exchange to hold
annual meetings of shareholders. The most recent annual meeting of shareholders
was held on March 1, 1996. The next annual meeting of shareholders is scheduled
for March 7, 1997.
SURETY ARRANGEMENT FOR PREFERRED SHARES
FINANCIAL SECURITY
The information set forth below under this caption of this Prospectus was
furnished by Financial Security.
General. Financial Security acts as surety under the Surety Bond by which
Financial Security unconditionally and irrevocably guarantees Scheduled Payments
on the Preferred Shares. Financial Security is a monoline insurance company
incorporated in 1984 under the laws of the State of New York. Financial Security
is licensed to engage in financial guaranty insurance business in all 50 states,
the District of Columbia and Puerto Rico and the United Kingdom.
Financial Security and its subsidiaries are engaged in the business of
writing financial guaranty insurance, principally in respect of securities
offered in domestic and foreign markets. In general, financial guaranty
insurance consists of the issuance of a guaranty of scheduled payments of an
issuer's securities -- thereby enhancing the credit rating of those securities
- -- in consideration for the payment of a premium to the insurer. Financial
Security and its subsidiaries principally insure asset-backed, collateralized
and municipal securities. Asset-backed securities are generally supported by
residential mortgage loans, consumer or trade receivables, securities or other
assets having an ascertainable cash flow or market value. Collateralized
securities include public utility first mortgage bonds and sale/leaseback
obligation bonds. Municipal securities consist largely of general obligation
bonds, special revenue bonds and other special obligations of state and local
governments. Financial Security insures both newly issued securities sold in the
primary market and outstanding securities sold in the secondary market that
satisfy Financial Security's underwriting criteria.
Financial Security is a wholly owned subsidiary of Financial Security
Assurance Holdings Ltd. ("Holdings"), a New York Stock Exchange listed company.
Major shareholders of Holdings include Fund American Enterprises Holdings, Inc.,
U S WEST and The Tokio Marine and Fire Insurance Co., Ltd. No shareholder of
Holdings is obligated to pay any debt of Financial Security or any claim under
any insurance policy issued by Financial Security or to make any additional
contribution to the capital of Financial Security.
The principal executive offices of Financial Security are located at 350
Park Avenue, New York, New York 10022, and its telephone number at that location
is (212) 826-0100.
Reinsurance. Pursuant to an intercompany agreement, liabilities on financial
guaranty insurance written or reinsured from third parties by Financial Security
or any of its domestic operating insurance company subsidiaries are reinsured
among such companies on an agreed-upon percentage substantially proportional to
their respective capital, surplus and reserves, subject to applicable statutory
risk limitations. In addition, Financial Security reinsures a portion of its
liabilities under certain of its financial guaranty insurance policies with
other reinsurers under various quota share treaties and on a
transaction-by-transaction basis. Such reinsurance is utilized by Financial
Security as a risk management device and to comply with certain statutory and
rating agency requirements; it does not alter or limit Financial Security's
obligations under any financial guaranty insurance policy.
Ratings of Claims-Paying Ability. Financial Security's claims-paying ability
is rated "Aaa" by Moody's and "AAA" by S&P, Nippon Investors Service Inc. and
Standard & Poor's (Australia) Pty. Ltd. Such ratings reflect only the views of
the respective rating agencies, are not recommendations to buy, sell or hold
securities and are subject to revision or withdrawal at any time by such rating
agencies. Copies of the statutory quarterly and annual statements filed with the
State of New York Insurance Department by Financial Security are available upon
request to the State of New York Insurance Department.
Insurance Regulation. Financial Security is licensed and subject to
regulation as a financial guaranty insurance corporation under the laws of the
State of New York, its state of domicile. In addition, Financial Security and
its insurance subsidiaries are subject to regulation by insurance laws of the
various other jurisdictions in which they are licensed to do business. As a
financial guaranty insurance corporation licensed to do business in the State of
New York, Financial Security is subject to Article 69 of the New York Insurance
Law which, among other things, limits the business of each such insurer to
financial guaranty insurance and related lines, requires that each such insurer
maintain a minimum surplus to policyholders, establishes contingency, loss and
unearned premium reserve requirements for each such insurer, and limits the size
of individual transactions ("single risks") and the volume of transactions
("aggregate risks") that may be underwritten by each such insurer. Other
provisions of the New York Insurance Law, applicable to non-life insurance
companies such as Financial Security, regulate, among other things, permitted
investments, payment of dividends, transactions with affiliates, mergers,
consolidations, acquisitions or sales of assets and incurrence of liability for
borrowings.
SURETY BOND
Concurrent with the issuance of the Preferred Shares in November 1988, the
Fund caused Financial Security to deliver the Surety Bond (the "Surety Bond") to
Bankers Trust Company, as custodian under a custody agreement (the "Surety
Custody Agreement"), for the benefit of the holders of the Preferred Shares.
Under the Surety Bond, Financial Security unconditionally and irrevocably
guarantees to each holder of Preferred Shares, the full and complete payment of:
(i) Scheduled Payments; and (ii) the amount of any payment on the Preferred
Shares which subsequently is avoided in whole or in part as a preference under
applicable law until and including such date on which the Preferred Shares are
paid in full.
"Scheduled Payments" shall mean (i) payments of dividends on the Preferred
Shares which holders of the Preferred Shares would be entitled to receive on
each Dividend Payment Date during the term of the Surety Bond (see "Expiration
of the Surety Arrangement" below) in accordance with the terms of the Articles
of Incorporation, without regard to whether the Fund has declared any such
dividend or such dividend could have been legally declared by the Fund, (ii)
payment of the redemption price of the Preferred Shares, without regard to
whether such redemption could have been legally made by the Fund (a) on the last
date on which the Fund was to have redeemed the Preferred Shares as specified in
a Redemption Request (as defined herein) given by Financial Security under the
Insurance Agreement (as defined below) upon the occurrence of an Event of
Default (as defined herein) under the Insurance Agreement in the event Financial
Security has notified the Surety Custodian that such redemption is to be a
Scheduled Payment and (b) on the date on which the Preferred Shares may be
required to be redeemed upon expiration of the Surety Bond (as described under
"Description of Capital Stock -- Redemption"), and (iii) payment of the
liquidation preference on the Preferred Shares in the event of a liquidation of
the Fund during the term of the Surety Bond on the date fixed for payment of
such liquidation preference pursuant to the Articles of Incorporation, so long
as Financial Security shall have consented to such liquidation. For the purposes
of the Scheduled Payments under the Surety Bond, in the event of a liquidation
of the Fund to which Financial Security has not consented in which only a
portion of the liquidation preference on the Preferred Shares is paid, a portion
of the Preferred Shares represented by the unpaid portion of the liquidation
preference shall be deemed to remain outstanding and shall be secured by the
Surety Bond as to all Scheduled Payments without regard to whether the Fund has
any obligation with respect thereto.
Financial Security shall be subrogated to all the rights of each holder of
Preferred Shares in the event Financial Security makes a Scheduled Payment to
any such holder under the Surety Bond.
The Surety Bond is a direct, unsecured and unsubordinated obligation of
Financial Security ranking equally with any other unsecured and unsubordinated
obligations of Financial Security except for certain obligations in respect of
tax and other payments to which preference is or may become afforded by statute.
The term of the Surety Bond cannot be modified or altered by any other agreement
or instrument or by the merger, consolidation or dissolution of the Fund. The
Surety Bond may not be cancelled or revoked by Financial Security prior to the
end of its term. See "Expiration of the Surety Arrangement" below. The Surety
Bond is governed by the laws of the State of New York but is not covered by the
Property/Casualty Insurance Security Fund specified in Article 76 of the New
York Insurance Law.
INSURANCE AGREEMENT
General. As a precondition to Financial Security's issuing the Surety Bond,
the Fund entered into an Insurance Agreement (the "Insurance Agreement") with
Financial Security pursuant to which the Fund is obligated to reimburse
Financial Security for amounts paid by Financial Security under the Surety Bond.
A copy of the Insurance Agreement, as amended, is filed as an exhibit to the
Registration Statement, as filed with the SEC on March 29, 1996. A copy of such
Registration Statement may be obtained as described under "Further Information."
Surety Asset Coverage. At any time that Preferred Shares are outstanding,
the Fund is required under the Insurance Agreement to maintain assets in its
portfolio meeting the Surety Investment Guidelines and having a discounted value
at least equal to the Surety Asset Coverage (as defined below). If the Fund
fails to meet the Surety Asset Coverage requirement and such failure is not
cured within eight Business Days, Financial Security may seek to cause the Fund
to redeem certain of the Preferred Shares. See "Events of Default; Remedies"
below. The discount factor for and market value of any asset of the Fund, the
method of calculating Surety Asset Coverage, the assets eligible for inclusion
in the calculation of the discounted value of the Fund's portfolio and certain
definitions and methods of calculation relating thereto may be changed from time
to time by the Fund and Financial Security.
"Surety Asset Coverage" as of any date is defined as the dollar amount equal
to (A) the sum of (i) 100% of the aggregate principal amount of the Notes then
outstanding; (ii) $100,250 times the number of Preferred Shares then
outstanding; (iii) the aggregate amount of accrued interest on the Notes then
outstanding, plus an amount equal to 63 days' interest on such principal amount
of the Notes; (iv) the aggregate amount of accumulated but unpaid dividends with
respect to the Preferred Shares to such date, plus the amount of dividends
projected to accumulate on the Preferred Shares then outstanding from such date
until the 63rd day thereafter; (v) the aggregate principal amount of any then
outstanding indebtedness of the Fund for money borrowed (other than the Notes);
and (vi) the greater of $200,000 or the Fund's liabilities in existence as of
such date to the extent not otherwise reflected in any of (i) through (v) above,
less (B) the combined value of any Deposit Securities irrevocably deposited by
the Fund for payment of principal or interest on the Notes or redemptions of or
dividend payments with respect to the Preferred Shares. See "Deposit Securities
Requirement" below.
Deposit Securities Requirement. The Fund is obligated to deposit with the
payment agent with respect to the Preferred Shares, a specified amount of
securities ("Deposit Securities") not later than 20 days prior to each Dividend
Payment Date and not later than the mailing of any notice of redemption with
respect to any redemption (except in the case of a Mandatory Expiration
Redemption). In addition, in the case of a Mandatory Expiration Redemption, the
Fund will be obligated to set aside Deposit Securities ratably over a period
ending not less than 30 days prior to the applicable redemption date. Deposit
Securities in all cases shall have an initial combined value greater than or
equal to liquidation preference and/or accumulated dividends on the Preferred
Shares to become due and payable on the applicable payment date, and shall
mature on or prior to such date.
Events of Default; Remedies. An "Event of Default" is defined in the
Insurance Agreement to include any of the following: (i) any default by the Fund
in its performance of any covenant contained in the Insurance Agreement and the
continuance of such default for at least 30 days after written notice is given
to the Fund; (ii) any material representation or warranty made by the Fund in
the Insurance Agreement or in connection therewith shall prove to be incorrect
in any material respect when made or deemed made; (iii) any failure of the Fund
to maintain assets in its portfolio with a discounted value such that the Surety
Asset Coverage requirement is met, which failure is not cured within eight
Business Days; (iv) any failure by the Fund to reimburse Financial Security for
amounts paid under the Surety Bond or pay to Financial Security when due any
other amount under the Insurance Agreement; (v) any failure by the Fund, on or
prior to the date six months prior to the expiration date of the Surety Bond to
obtain from Financial Security an extension of the term of the Surety Bond
pursuant to its terms or to obtain notice in writing from each of the Rating
Agencies that such expiration of the Surety Bond will not adversely affect the
then outstanding rating, if any, of the Preferred Shares by such Rating Agency
whether through obtaining a substitute surety bond or otherwise; (vi) a final
determination by the Internal Revenue Service that the Fund does not qualify for
any taxable year as a regulated investment company (as defined in the Internal
Revenue Code); (vii) certain events of bankruptcy, insolvency or receivership of
the Fund; (viii) denial by the Fund that it has any or further liability or
obligation under the Insurance Agreement or the Articles of Incorporation, or
any finding or ruling by any governmental agency or authority that the Insurance
Agreement or the Articles of Incorporation is not valid or binding on the Fund;
(ix) the failure to comply with certain covenants with respect to the
liquidation of portfolio securities in order to pay dividends or make
redemptions on Preferred Shares when due; and (x) the failure by the Fund to
make a payment of a dividend or redemption when due on the Preferred Shares or
to declare a dividend on the Preferred Shares when contemplated under the terms
of the Fund's Articles of Incorporation and not prohibited under Maryland law or
the 1940 Act; provided that, in the case of each of clauses (i), (ii), (vi) and
(viii), such event shall not constitute an Event of Default unless, in the
reasonable judgment of Financial Security, such event would materially and
adversely affect the ability of the Fund to perform its material obligations
under the Insurance Agreement or the Articles of Incorporation or would
materially and adversely affect the material rights or benefits or the
enforcement of remedies or the practicable realization of such rights of or
benefits to Financial Security under the Insurance Agreement or of Financial
Security or any holder of Preferred Shares under the Surety Custody Agreement or
the Articles of Incorporation or otherwise with respect to the Preferred Shares.
If an Event of Default has occurred and is continuing, the Fund is required
under the Insurance Agreement, upon receipt of a written request from Financial
Security (a "Redemption Request"): (a) in the case of an Event of Default other
than as specified in clause (iii) above, to deliver a notice of redemption
("Notice of Redemption") with respect to, and redeem within a specified period,
such number of Preferred Shares, as specified by Financial Security in such
Redemption Request; and (b) in the case of the occurrence and continuance of an
Event of Default specified in clause (iii) above relating to Surety Asset
Coverage, to identify in the Fund's sole discretion, and sell for cash, certain
portfolio holdings, the proceeds from the sale of which shall be added to the
portfolio and shall thereby cause the value of the portfolio to have equalled or
exceeded the Surety Asset Coverage requirement on a pro forma basis as of the
immediately preceding date such Surety Asset Coverage was determined ("Special
Surety Redemption Assets"). In addition, Financial Security will be entitled to
deliver a Redemption Request directing the Fund to redeem Preferred Shares with
the proceeds of the sale of such Special Surety Redemption Assets or similar
assets. Any Redemption Request (other than in respect of an Event of Default
specified in clause (iii) above), once delivered, may be withdrawn by Financial
Security at any time prior to the mailing of the related Notice of Redemption.
Any amount applied to payment on the Preferred Shares as to which Financial
Security has made payment under the Surety Bond shall be deemed to satisfy the
obligation of the Fund to reimburse Financial Security in an amount equal to the
amount so applied. Alternatively, if the Fund reimburses Financial Security for
any Scheduled Payments made by it, such reimbursement will satisfy the Fund's
obligation to make the dividend, redemption or liquidation preference payment
represented by such Scheduled Payment so reimbursed.
INDEMNIFICATION AND OTHER PAYMENTS BY THE FUND
The Fund has agreed to indemnify Financial Security against certain
liabilities, losses, costs, damages, attorneys' fees and other expenses. The
Fund paid to Financial Security, upon the issuance of the Surety Bond, and in
consideration thereof, a premium equal to $510,909 which represented the present
value of 0.40% of the aggregate liquidation preference of the Preferred Shares
originally issued (the "Annual Premium Amount") times the number of years (five)
in the initial term of the Surety Bond (which was from December 1988 through
December 1993) and also paid Financial Security for certain other legal fees and
expenses incurred by Financial Security in connection with the Insurance
Agreement. The Fund now pays an annual fee to Financial Security equal to 0.40%
of the aggregate liquidation preference of the outstanding Preferred Shares.
EXPIRATION OF THE SURETY ARRANGEMENT
The Surety Bond will expire December 5, 1998; provided, however, that,
subject to certain conditions contained in the Insurance Agreement including the
conditions that there is no Event of Default and Surety Asset Coverage is met at
the time of extension, the Fund may elect to extend the expiration date for one
or more additional periods of up to five years in the aggregate at a premium
payable annually equal to 0.40% of the aggregate liquidation preference of the
Preferred Shares outstanding at the time of extension of the Surety Bond. Except
under certain circumstances, upon an expiration of the Surety Bond prior to 10
years after the original issuance thereof, the Fund shall be obligated to pay
Financial Security a fee equal to the Annual Premium Amount. Accordingly, the
Fund may not replace the Surety Bond with a substitute surety bond, financial
guaranty or other credit enhancement without payment of such fee. Upon
expiration of the Surety Bond, the Preferred Shares will be subject to mandatory
redemption under certain circumstances as described under "Description of
Capital Stock -- Redemption."
DESCRIPTION OF NOTES
GENERAL
The Fund issued $20,000,000 (principal amount) of the Notes, due in December
1998, pursuant to a note purchase agreement (the "Note Purchase Agreement")
dated as of July 15, 1993, and amended and restated as of December 16, 1993,
between the Fund and Pacific Mutual Life Insurance Company ("Pacific Mutual").
The Note Purchase Agreement does not limit the aggregate principal amount of
senior notes of the Fund (including the Notes, the "Senior Notes") that may be
issued thereunder from time to time in one or more series. The issuance of any
subsequent Senior Notes will be subject to compliance with the 1940 Act,
including Section 18 thereof. Subject to the 1940 Act, any such subsequent
Senior Notes may have certain terms, including, but not limited to, those
relating to interest rate, redemptions, repurchases and maturity which differ
from the terms of the Notes. The following summary of the principal terms of the
Notes and certain terms of the Note Purchase Agreement is qualified in its
entirety by reference to all provisions of the Note Purchase Agreement,
including the definitions therein of certain terms. A copy of the Note Purchase
Agreement is filed as an exhibit to the Fund's Registration Statement on Form
N-2, as filed with the SEC on March 29, 1996.
INTEREST
The Notes bear interest at the rate of 6.53% per annum from July 15, 1993
through and including November 30, 1998. Interest on the Notes is payable on
June 1 and December 1 of each year, commencing December 1, 1993. The Notes will
mature on December 1, 1998 if not repurchased or redeemed prior to that date.
REDEMPTION
The Notes will not be redeemable by the Fund prior to maturity, except that
(i) the Fund may redeem the Notes on or after December 5, 1993, in whole but not
in part, in connection with the conversion of the Fund to open-end status and
(ii) the Fund may elect to redeem such amount of Notes as shall (a) enable the
Fund to maintain asset coverage (as defined in and determined pursuant to the
1940 Act) with respect to the Fund's senior securities representing indebtedness
(as defined in the 1940 Act), including the Notes, of at least 300% (or such
higher percentage as may in the future be specified in the 1940 Act as the
minimum asset coverage for senior securities representing indebtedness of a
closed-end investment company as a condition of paying dividends on common
stock), (b) enable the Fund to maintain asset coverage (as defined in the 1940
Act) with respect to the Fund's senior securities of a class which is stock (as
defined in the 1940 Act), including the Preferred Shares, of at least 200% or
such higher percentage as may in the future be specified in the 1940 Act as the
minimum asset coverage for senior securities representing indebtedness of a
closed-end investment company as a condition of paying dividends on common stock
or (c) enable the Fund to qualify for treatment as a regulated investment
company for federal income tax purposes. The Notes shall also be subject to
mandatory partial redemption upon the occurrence of certain events of default as
described under clauses (v) and (vi) under "Events of Default" below. All
redemptions of Notes by the Fund will be at a price of 100% of the principal
amount thereof, plus accrued interest to the date of redemption.
RANKING OF NOTES
The Notes will rank pari passu with all other existing and future senior
indebtedness of the Fund and will be senior to the Common Stock and the
Preferred Shares. "Senior indebtedness" means the principal of and interest on
and other amounts due on or in connection with any existing or future unsecured
indebtedness of the Fund.
RESTRICTIVE COVENANTS
Under the 1940 Act and the Note Purchase Agreement, the Fund may not declare
dividends or other distributions on the Common Stock or purchase any shares of
Common Stock if, at the time of the declaration or purchase, as applicable (and
after giving effect thereto), asset coverage with respect to the Fund's senior
securities representing indebtedness, including the Notes, would be less than
300% (or such higher percentage as may in the future be required by law). In
addition, under the 1940 Act and the Note Purchase Agreement, the Fund may not
(i) declare any dividends with respect to the Preferred Shares if, at the time
of such declaration (and after giving effect thereto), asset coverage with
respect to the Fund's senior securities representing indebtedness, including the
Notes, would be less than 200% (or such higher percentage as may in the future
be required by law) or (ii) declare any other distributions on the Preferred
Shares or purchase or redeem Preferred Shares if at the time of the declaration,
purchase or redemption, as applicable (and after giving effect thereto), asset
coverage with respect to the Fund's senior securities representing indebtedness,
including the Notes, would be less than 300% (or such higher percentage as may
in the future be required by law). Dividends or other distributions on or
purchases or redemptions of Common Stock or Preferred Shares are further
prohibited under the Note Purchase Agreement at any time that payments of
principal of or interest on the Notes are in default. Under the Internal Revenue
Code, the Fund must, among other things, distribute at least 90% of its
investment company taxable income each year in order to maintain its
qualification for tax treatment as a regulated investment company. The foregoing
limitations on dividends, distributions and purchases may under certain
circumstances impair the Fund's ability to maintain such qualification. See
"Federal Taxation."
The asset coverage of a class of senior securities representing
indebtedness, such as the Notes, is defined as the ratio of (i) the total assets
of the Fund, less all liabilities and indebtedness not represented by senior
securities, to (ii) the aggregate amount of senior securities representing
indebtedness of the Fund. The asset coverage of a class of senior securities
representing stock, such as the Preferred Shares (see "Description of Capital
Stock -- Dividends and Distributions"), is defined as the ratio of (i) the total
assets of the Fund, less all liabilities and indebtedness not represented by
senior securities, to (ii) the aggregate amount of senior securities
representing indebtedness of the Fund, plus the aggregate of the liquidation
preference of the Preferred Shares. "Senior securities representing
indebtedness" generally means any bond, debenture, note or similar obligation or
instrument constituting a security (other than stock) and evidencing
indebtedness. For purposes of determining asset coverage for senior securities
representing indebtedness in connection with the payment of dividends or other
distributions on or purchases or redemptions of stock, the term "senior
security" does not include any promissory note or other evidence of indebtedness
issued in consideration of any loan, extension or renewal thereof, made by a
bank or other person and privately arranged, and not intended to be publicly
distributed. The term "senior security" also does not include any such
promissory note or other evidence in any case where such a loan is for temporary
purposes only and in an amount not exceeding 5% of the value of the total assets
of the Fund at the time when the loan is made; a loan is presumed under the 1940
Act to be for temporary purposes if it is repaid within 60 days and is not
extended or renewed; otherwise it is presumed not to be for temporary purposes.
For purposes of determining whether the 300% and 200% asset coverage
requirements described above apply in connection with dividends or distributions
on or purchases or redemptions of Common Stock or Preferred Shares and for
purposes of determining 1940 Act Asset Coverage (as defined below), such asset
coverages may be calculated on the basis of values calculated as of a time
within 48 hours (not including Sundays or holidays) next preceding the time of
the applicable determination. The foregoing definitions reflect the provisions
of the 1940 Act as in effect on the date of the Note Purchase Agreement and are
subject to change to the extent necessary to reflect changes in the 1940 Act, if
any.
Pursuant to the Notes Investment Guidelines, the Note Purchase Agreement
contains a covenant limiting the Fund's ability to incur, assume, guarantee or
otherwise become liable with respect to any indebtedness for money borrowed
unless the incurrence of such indebtedness would not result in a default in the
performance or observance of the Fund's obligation to maintain 1940 Act Asset
Coverage or otherwise cause a violation of Section 18 of the 1940 Act.
The Notes Investment Guidelines as reflected in the Note Purchase Agreement
also prohibit the Fund from creating, incurring or suffering to exist, or
agreeing to create, incur or suffer to exist, or consenting to cause or permit
in the future (upon the happening of a contingency or otherwise) the creation,
incurrence or existence of any material lien, mortgage, pledge, charge, security
interest, security agreement, conditional sale or trust receipt or other
material encumbrance of any sort (collectively, "Liens") upon any of its assets
which are eligible for inclusion in the discounted value of its portfolio,
except for (a) Liens the validity of which is being contested in good faith by
appropriate proceedings, (b) Liens for taxes that are not then due and payable
or that can be paid thereafter without penalty, (c) Liens to secure payment for
services rendered by Bankers Trust Company or its successor as auction agent
with respect to the Preferred Shares and (d) Liens in respect of overnight
borrowings by the Fund not to exceed 5% of the total assets of the Fund at any
time outstanding. The terms of the Note Purchase Agreement also limit the Fund's
ability to employ certain investment strategies. See "Investment Policies and
Limitations -- Certain Investment Strategies."
ASSET MAINTENANCE
The Fund will be required to satisfy two separate asset maintenance
requirements that are incorporated into the terms of the Note Purchase
Agreement. The first of these requirements reflects the provisions of the 1940
Act with respect to asset maintenance for senior securities representing
indebtedness. The second of these requirements reflects the Notes Investment
Guidelines. These requirements are summarized below.
1940 Act Asset Maintenance. As set forth in the Note Purchase Agreement, the
Fund will agree to maintain, as of the last Business Day of each month in which
any of the Notes is outstanding, asset coverage with respect to senior
securities representing indebtedness, including the Notes, of at least 300% (or
such higher percentage as may in the future be specified in the 1940 Act as the
minimum asset coverage for senior securities representing indebtedness of a
closed-end investment company as a condition of paying dividends on common
stock) ("1940 Act Asset Coverage"). See "Restrictive Covenants" above for
certain definitions relating to 1940 Act Asset Coverage.
Note Basic Maintenance Amount. The Fund will be required under the Note
Purchase Agreement to maintain, on each Valuation Date (as defined below),
portfolio holdings meeting the Notes Investment Guidelines (as described under
"Investment Policies and Limitations -- Investment Guidelines") having an
aggregate discounted value at least equal to the Note Basic Maintenance Amount.
In the event that the discounted value of the Fund's portfolio is less than the
Note Basic Maintenance Amount on any Valuation Date while any of the Notes is
outstanding, the Fund will seek to alter the composition of its portfolio so
that, on or before the eighth Business Day after such Valuation Date (the "Cure
Date"), the discounted value of the Fund's portfolio is at least equal to such
Note Basic Maintenance Amount. A "Valuation Date" means (i) the fifteenth day of
each month or, if such day is not a Business Day, the next succeeding Business
Day and (ii) the last Business Day of such month or, in the case of the first
Valuation Date, a date selected by the Fund no more than 15 days after the date
on which the Notes and the Preferred Shares are initially issued.
The "Note Basic Maintenance Amount" as of any date is defined as the dollar
amount equal to the sum of (i) 100% of the aggregate principal amount of the
Notes then outstanding; (ii) an amount equal to interest accrued on the
aggregate principal amount of the Notes then outstanding from the most recent
date to which interest has been paid or duly provided for through the next
succeeding Valuation Date plus all interest to accrue on the Notes during the 63
days following such Valuation Date; (iii) the principal amount of any then
outstanding indebtedness of the Fund for money borrowed (other than the Notes);
and (iv) the greater of $200,000 or the Fund's current liabilities as of such
date to the extent not reflected in any of (i) through (iii) above. The
discounted value of the Fund's portfolio holdings as of any date means the
quotient of the market value (as defined in the Note Purchase Agreement, and
including accrued interest) of each such holding divided by the applicable
discount factor. Any security not in compliance with the Notes Investment
Guidelines (see "Investment Policies and Limitations -- Investment Guidelines")
shall be excluded from the calculation of the discounted value of the Fund's
portfolio holdings.
The discount factors and guidelines for determining the market value of the
Fund's portfolio holdings for purposes of determining compliance with the Note
Basic Maintenance Amount have been based upon criteria established in connection
with the expected rating of the Notes. In determining discount factors, several
factors are taken into consideration. These factors include, but are not limited
to, the sensitivity of the market value of the relevant asset to changes in
interest rates, the liquidity and depth of the market for the relevant asset,
the credit quality of the relevant asset (for example, the lower the rating of a
corporate debt obligation, the higher the related discount factor) and the
frequency with which the relevant asset is marked to market. In no event shall
the discounted value of any asset of the Fund exceed its unpaid principal
balance or face amount as of the date of calculation. The discount factor for
and market value of any asset of the Fund, the method of calculating the
discounted value of any such asset and the Note Basic Maintenance Amount, the
assets eligible for inclusion in the calculation of the discounted value of the
Fund's portfolio and certain related definitions, methods of calculation and
reporting requirements, may be changed without the consent of the holders of the
Notes, provided that, among other things, such changes will not adversely affect
the ratings, if any, then assigned to the Notes by the respective Rating
Agencies.
MERGER AND CONSOLIDATION
The Fund may consolidate with or merge with or into, or transfer its assets
substantially as an entirety to, another corporation, limited partnership or
business trust, or engage in a statutory share exchange under Maryland law,
provided that (i) the successor corporation, limited partnership or business
trust (if other than the Fund) formed by or resulting from any such
consolidation or merger, or the transferee of the Fund's assets, is acceptable
to Pacific Mutual and shall assume payment of the principal of and interest on
the Notes and any other series of Senior Notes and the performance and
observance of the Note Purchase Agreement and (ii) the Fund or such successor
corporation, limited partnership or business trust or transferee shall not
immediately before such transaction or thereafter be in default under the Note
Purchase Agreement.
EVENTS OF DEFAULT
The following are "Events of Default" under the Note Purchase Agreement: (i)
failure to pay principal of any Note when due; (ii) default for five Business
Days in the payment of interest on any Note; (iii) failure to maintain asset
coverage with respect to senior securities representing indebtedness (as such
terms are defined above under "Restrictive Covenants") of at least 100% as of
the last Business Day of each of 24 consecutive months; (iv) failure to have, as
of the last Business Day of any month, 1940 Act Asset Coverage, which failure is
not cured by the last Business Day of the following month (for this purpose,
without limitation, the default will be deemed cured if, within the prescribed
period, the Fund has given an irrevocable notice to the registered holder of the
Notes to call Notes for redemption and that such redemption, alone or together
with other action taken by the Fund, will cause the Fund to have the requisite
1940 Act Asset Coverage); (v) failure to maintain, on each Valuation Date, a
discounted value for the Fund's portfolio equal to at least the Note Basic
Maintenance Amount, which failure is not cured by the applicable Cure Date; (vi)
default in the performance of any other covenant of the Fund under the Note
Purchase Agreement which has continued for 30 days as provided in the Note
Purchase Agreement; (vii) default under any instrument under which the Fund has
issued indebtedness or by which there may be secured or evidenced any
indebtedness of or guaranteed by the Fund, the effect of which is to cause or
permit the holders thereof to cause the acceleration of the maturity thereof,
provided that such default or defaults relate to indebtedness with an aggregate
principal amount in excess of $500,000 and have continued for 30 days as
provided in the Note Purchase Agreement; (viii) the making by the Internal
Revenue Service of a final determination that the Fund does not qualify for any
taxable year as a "regulated investment company" (as defined in the Internal
Revenue Code); (ix) certain events of bankruptcy, insolvency or reorganization;
and (x) the existence for 60 days of unstayed or unsatisfied final judgments
against the Fund in an aggregate amount in excess of $500,000.
If an Event of Default specified in any of clauses (i) through (viii) or (x)
above occurs with respect to the Notes, then and in every such case, the
registered holders of the outstanding Notes may by written notice delivered to
the Fund declare the Notes (or in the case of an Event of Default of the type
specified in clause (iv) or (v), such portion of the Notes as shall be required
under the Note Purchase Agreement to be redeemed) to be due and payable as
provided below. Upon an Event of Default specified in clause (iv), the amount of
Notes subject to mandatory partial redemption will equal the aggregate principal
amount of outstanding Notes (rounded to the next highest increment of $1,000)
the redemption of which would have caused the Fund to meet 1940 Act Asset
Coverage on a pro forma basis as of the last Business Day of the month in which
the failure to maintain 1940 Act Asset Coverage initially occurred. Upon an
Event of Default specified in clause (v), the amount of Notes subject to
mandatory partial redemption will equal the principal amount of outstanding
Notes which could be redeemed using the proceeds from the deemed sale of Special
Note Redemption Assets (rounded to the next highest increment of $1,000).
"Special Note Redemption Assets" are defined as portfolio holdings identified by
the Fund in its sole discretion, the deemed sale of which for cash on the
Valuation Date on which the discounted value of the Fund's portfolio failed to
equal or exceed the Note Basic Maintenance Amount would have resulted in the
Fund achieving the required Note Basic Maintenance Amount on a pro forma basis
as of such Valuation Date.
In the event of a mandatory partial redemption of Notes following an Event
of Default specified in clause (iv) or (v), the payment of principal and
interest on the Notes due as a result of such mandatory partial redemption shall
be due within 45 days after the date on which such Event of Default occurs (in
the case of clause (iv)) and within 34 days after the applicable Cure Date (in
the case of clause (v)). In the event of an acceleration in the maturity of
Notes following an Event of Default specified in any of the other clauses above
other than clause (ix), the Fund shall immediately take action to liquidate
portfolio securities sufficient to pay the principal of and interest on such
Notes. If an Event of Default specified in clause (ix) occurs, the Notes shall
become due and payable immediately without any declaration or other act on the
part of any registered holder of the Notes.
ASSIGNMENT
Pacific Mutual may assign, subject to compliance with the Securities Act or
regulations thereunder or any applicable state securities laws or regulations,
all or any portion of its interest in any rights under the Note Purchase
Agreement and the Notes to any individual, corporation, partnership, joint
venture, association, joint-stock company, trust, unincorporated organization or
government or any agency or political subdivision thereof (individually, the
"Person") or grant participation or beneficial interests in the Note Purchase
Agreement and the Notes to any Person; provided that any assignment or grant of
participation or beneficial interest by Pacific Mutual of its interest in the
Notes shall be of a minimum principal amount of $5,000,000.
Upon any assignment of Pacific Mutual's rights under the Note Purchase
Agreement or under the Notes, any action under the Note Purchase Agreement
requiring the consent of Pacific Mutual and enforcement of any remedies provided
for under the Note Purchase Agreement may only be taken with the consent or at
the direction of the registered holders of more than 50% of the principal amount
of the Notes then outstanding.
CUSTODIAN, TRANSFER AGENTS, DIVIDEND
DISBURSING AGENT, PAYING AGENTS AND REGISTRARS
The Fund's securities and cash are held by State Street Bank and Trust
Company, whose principal business address is Two Heritage Drive, North Quincy,
Massachusetts 02171, as custodian (the "Custodian") under a custodian contract.
The Fund has not selected any foreign custodians or sub-custodians. However, if
the Fund determines that it should have any foreign custodians or sub-custodians
to maintain any of its foreign securities, the Board of Directors will make such
selection following a consideration of a number of factors, including, but not
limited to, the reliability and financial stability of the institution, the
ability of the institution to perform capably custodial services for the Fund,
the reputation of the institution in its national market, the political and
economic stability of the country in which the institution is located, and the
risks of potential nationalization or expropriation of Fund assets.
State Street Bank and Trust Company serves as dividend disbursing agent, as
agent under the Plan and as transfer agent and registrar for the Common Stock.
Bankers Trust Company, whose principal business address is 4 Albany Street, New
York, New York 10006, serves as the Surety Custodian pursuant to the Surety
Custody Agreement for the benefit of the holders of the Preferred Shares and
serves as transfer agent, paying agent and registrar for the Preferred Shares.
LEGAL OPINIONS
The validity of the Shares offered hereby will be passed upon for the Fund
by its special counsel, Rogers & Wells, New York, New York, and by its special
Maryland counsel, Piper & Marbury LLP, Baltimore, Maryland.
REPORTS TO SHAREHOLDERS
The Fund will send audited semiannual and audited annual reports to its
shareholders, including a list of investments held.
EXPERTS
The audited Financial Statements included in this Prospectus have been
audited by Arthur Andersen LLP, independent public accountants, as indicated in
their reports with respect thereto, and are included in reliance upon the
authority of said firm as experts in giving said report. The address of Arthur
Andersen LLP is One International Place, Boston, Massachusetts 02110.
FURTHER INFORMATION
The Fund has filed with the SEC, Washington, D.C. 20549, a Registration
Statement under the Securities Act with respect to the Shares offered hereby.
Further information concerning these securities and the Fund may be found in the
Registration Statement, of which this Prospectus constitutes a part, on file
with the SEC. The Registration Statement may be inspected without charge at the
SEC's office in Washington, D.C., and copies of all or any part thereof may be
obtained from such office after payment of the fees prescribed by the SEC.
The Fund is subject to the informational requirements of the 1934 Act, and
the 1940 Act, and in accordance therewith files reports and other information
with the SEC. Such reports and other information can be inspected and copied at
the public reference facilities maintained by the SEC at 450 Fifth Street,
Washington, D.C. 20549 and the SEC's regional offices at Seven World Trade
Center, New York, New York 10048. Copies of such material can be obtained from
the Public Reference Section of the SEC at 450 Fifth Street, N.W., Washington,
D.C. 20549 at prescribed rates. Such reports and other information concerning
the Fund may also be inspected at the offices of the Exchange.
INCORPORATION OF FINANCIAL STATEMENTS BY REFERENCE
The Fund's Annual Report, which includes financial statements, for the
fiscal year ended October 31, 1996, which either accompanies this Prospectus or
has previously been provided to the person to whom this Prospectus is being
sent, is incorporated herein by reference with respect to all information other
than the information set forth in the Letter to Shareholders included therein.
Any statement contained in the Fund's Annual Report that was incorporated herein
shall be deemed modified or superseded for purposes of this Prospectus to the
extent a statement contained in this Prospectus varies from such statement. Any
such statement so modified or superseded shall not, except as so modified or
superseded, be deemed to constitute a part of this Prospectus. The Fund will
furnish, without charge, a copy of its Annual Report, upon request to State
Street Bank and Trust Company, Two Heritage Drive, Corporate Stock Transfer,
North Quincy, Massachusetts 02171, telephone (800) 426-5523 Monday through
Friday from 9:00 a.m. to 5:00 p.m.
<PAGE>
APPENDIX A
RATINGS OF CORPORATE OBLIGATIONS
Standard & Poor's Ratings Group describes classifications of bonds as
follows:
"AAA" Debt rated "AAA" has the highest rating assigned by Standard & Poor's.
Capacity to pay interest and repay principal is extremely strong.
"AA" Debt rated "AA" has a strong capacity to pay interest and repay
principal and differs from the higher rated issues only in small degree.
"A" Debt rated "A" has a strong capacity to pay interest and repay principal
although it is somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions than debt in higher rated categories.
"BBB" Debt rated "BBB" is regarded as having an adequate capacity to pay
interest and repay principal. Whereas they normally exhibit adequate protection
parameters, adverse economic conditions or changing circumstances are more
likely to lead to a weakened capacity to pay interest and repay principal for
debt in this category than in higher rated categories.
"BB"-"B"-"CCC"-"CC"-"C" Debt rated "BB," "B," "CCC," "CC" and "C" is
regarded, on balance, as predominantly speculative with respect to capacity to
pay interest and repay principal in accordance with the terms of the obligation.
"BB" indicates the lowest degree of speculation and "C" the highest degree of
speculation. While such debt will likely have some quality and protective
characteristics, these are outweighed by large uncertainties or major risk
exposures to adverse conditions.
"C1" The rating "C1" is reserved for income bonds on which no interest is
being paid.
Moody's Investors Service, Inc. describes classifications of bonds as
follows:
"Aaa" Bonds which are rated "Aaa" are judged to be of the best quality. They
carry the smallest degree of investment risk and are generally referred to as
"gilt edge." Interest payments are protected by a large or by an exceptionally
stable margin, and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of such issues.
"Aa" Bonds which are rated "Aa" are judged to be of high quality by all
standards. Together with the Aaa group they comprise what are generally known as
high grade bonds. They are rated lower than the best bonds because margins of
protection may not be as large as in Aaa securities or fluctuation of protective
elements may be of greater amplitude or there may be other elements present
which make the long-term risks appear somewhat larger than in Aaa securities.
"A" Bonds which are rated "A" possess many favorable investment attributes
and are to be considered as upper medium grade obligations. Factors giving
security to principal and interest are considered adequate but elements may be
present which suggest a susceptibility to impairment sometime in the future.
"Baa" Bonds which are rated "Baa" are considered as medium grade
obligations, i.e., they are neither highly protected nor poorly secured.
Interest payments and principal security appear adequate for the present but
certain protective elements may be lacking or may be characteristically
unreliable over any great length of time. Such bonds lack outstanding investment
characteristics and in fact have speculative characteristics as well.
"Ba" Bonds which are rated "Ba" are judged to have speculative elements;
their future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
"B" Bonds which are rated "B" generally lack characteristics of the
desirable investment. Assurance of interest and principal payments or of
maintenance of other terms of the contract over any long period of time may be
small.
"Caa" Bonds which are rated "Caa" are of poor standing. Such issues may be
in default or there may be present elements of danger with respect to principal
or interest.
"Ca" Bonds which are rated "Ca" represent obligations which are speculative
in a high degree. Such issues are often in default or have other marked
shortcomings.
"C" Bonds which are rated "C" are the lowest rated class of bonds and issues
so rated can be regarded as having extremely poor prospects of ever attaining
any real investment standing.
<PAGE>
===============================================================================
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY
REPRESENTATIONS, OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS, AND, IF GIVEN
OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING
BEEN AUTHORIZED BY THE FUND OR THE DEALER MANAGER. NEITHER THE DELIVERY OF
THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES,
CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE
FUND SINCE THE DATE HEREOF OR THAT THE INFORMATION CONTAINED HEREIN IS CORRECT
AS OF ANY TIME SUBSEQUENT TO ITS DATE. THIS PROSPECTUS DOES NOT CONSTITUTE AN
OFFER TO SELL, OR A SOLICITATION OF AN OFFER TO BUY, ANY SECURITIES OTHER THAN
THE REGISTERED SECURITIES TO WHICH IT RELATES. THIS PROSPECTUS DOES NOT
CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY IN ANY
CIRCUMSTANCES IN WHICH SUCH OFFER OR SOLICITATION IS UNLAWFUL.
----------------
TABLE OF CONTENTS
PAGE
----
Prospectus Summary ................................................ 3
Fee Table ......................................................... 12
Financial Highlights .............................................. 13
Capitalization at January 17, 1997 ................................ 14
Information Regarding Senior Securities ........................... 14
Trading and Net Asset Value Information ........................... 15
The Fund .......................................................... 16
The Offer ......................................................... 17
Use of Proceeds ................................................... 26
Investment Policies and Limitations ............................... 26
Risk Factors and Special Considerations ........................... 38
Directors and Officers ............................................ 43
The Investment Adviser ............................................ 46
Portfolio Trading ................................................. 48
Determination of Net Asset Value .................................. 49
Share Repurchases; Conversion to Open-End Status .................. 49
Dividends and Distributions; Dividend Reinvestment Plan ........... 51
Federal Taxation .................................................. 53
Description of Capital Stock ...................................... 56
Surety Arrangement for Preferred Shares ........................... 60
Description of Notes .............................................. 64
Custodian, Transfer Agents, Dividend Disbursing Agent, Paying
Agents and Registrars ............................................ 68
Legal Opinions .................................................... 69
Reports to Shareholders ........................................... 69
Experts ........................................................... 69
Further Information ............................................... 69
Incorporation of Financial Statements by Reference ................ 69
Appendix A ........................................................ A-1
10,323,590 SHARES
OF COMMON STOCK
ISSUABLE UPON EXERCISE OF
RIGHTS TO SUBSCRIBE FOR
SUCH SHARES
PROSPECT STREET(R)
HIGH INCOME PORTFOLIO INC.
COMMON STOCK
--------------------
PROSPECTUS
--------------------
PAINEWEBBER INCORPORATED
, 1997
===============================================================================
<PAGE>
PART C -- OTHER INFORMATION
ITEM 24. FINANCIAL STATEMENTS AND EXHIBITS
(1) FINANCIAL STATEMENTS
(i) -- Balance Sheet as of October 31, 1996*
(ii) -- Statement of Operations for the fiscal year ended
October 31, 1996*
(iii) -- Statement of Cash Flows for the fiscal year ended
October 31, 1996*
(iv) -- Statement of Changes in Net Assets for the fiscal years ended
October 31, 1996 and 1995*
(v) -- Financial Highlights for each Share of Common Stock
Outstanding through the fiscal years ended October 31, 1992,
1993, 1994, 1995 and 1996*
(vi) -- Notes to Financial Statements for the fiscal year ended
October 31, 1996* (vii) -- Report of Independent Accountants
dated December 13, 1996*
Statements, schedules and historical information other than these listed above
have been omitted since they are either not applicable, or not required or the
required information is shown in the financial statements or notes thereto.
- ----------
*Incorporated by reference.
(2) EXHIBITS
(a) -- Articles of Amendment and Restatement+
(b) -- Amended and Restated By-Laws of the Registrant+
(c) -- Not applicable
(d)(1) -- Specimen certificate of Common Stock*
(2) -- Specimen certificate of Taxable Auction Rate
Preferred Stock*
(3) -- Documents relating to Surety Bond issued by
Financial Security Assurance Inc.
(See Exhibits (k)(5) and (k)(6) below)
(4) -- Note Purchase Agreement dated as of July 15, 1993,
as amended and restated December 16, 1993, between
the Registrant and Pacific Mutual Life Insurance
Company, including Form of Promissory Note+
(5) -- Form of Subscription Certificate and Instructions#
(6) -- Form of Notice of Guaranteed Delivery#
(7) -- Form of DTC/Nominee Over-Subscription Exercise Form#
(8) -- Form of Subscription Agent Agreement between the
Registrant and State Street Bank and Trust Company##
(9) -- Information Agent Agreement between the Registrant
and Corporate Investor Communications, Inc.##
(e) -- Dividend Reinvestment Plan of the Registrant+
(f) -- Not applicable
(g) -- Advisory Agreement between Registrant and Prospect
Street Investment Management Co., Inc.+
(h) -- Form of Dealer Manager Agreement##
(i) -- Not applicable
(j) -- Custodian Agreement between the Registrant and State
Street Bank and Trust Company+
(k)(1) -- Registrar, Transfer Agency and Service Agreement
between the Registrant and State Street Bank and
Trust Company+
(2) -- Auction Agent Agreement dated as of May 7, 1990
between the Registrant and Bankers Trust Company+
(3) -- Amendment, dated as of October 29, 1993, to a
Broker-Dealer Agreement dated as of May 7, 1990,
among the Registrant, Bankers Trust Company and
Bear, Stearns & Co., Inc.+
(4) -- Letter Agreement among Registrant, Bankers Trust
Company and The Depository Trust Company+
(5)(A) -- Insurance Agreement between the Registrant and
Financial Security Assurance Inc.+
(B) -- Amendment No. 1 to the Insurance Agreement between
the Registrant and Financial Security Assurance
Inc.+
(6) -- Custody Agreement between Bankers Trust Company and
Financial Security Assurance Inc.+
(l)(1) -- Opinion and Consent of Rogers & Wells##
(2) -- Opinion and Consent of Piper & Marbury LLP##
(m) -- Not applicable
(n) -- Consent of Arthur Andersen LLP##
(o) -- Not applicable
(p) -- Subscription Agreement dated as of November 21, 1988
from Prospect Street Investment Management Co.,
Inc.++
(q) -- Not applicable
(r) -- Not applicable
- ----------
* Exhibits incorporated by reference to Pre-Effective Amendment No. 4 to the
Registrant's Registration Statement on Form N-2, File No. 33-21949.
# Filed herewith.
## To be filed by amendment.
+ Incorporated by reference to the Registrant's Registration Statement on
Form N-2, File No. 333-2067.
++ Incorporated by reference to Pre-Effective Amendment No. 1 to the
Registrant's Registration Statement on Form N-2, File No. 333-2067.
ITEM 25. MARKETING ARRANGEMENTS
See Exhibit (h) of Item 24(2) of this Registration Statement.
ITEM 26. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
The following table sets forth the expenses to be incurred in connection
with the Offer described in this Registration Statement:
Registration fees ................................................ $ 15,512
National Association of Securities Dealers, Inc. fees ............
New York Stock Exchange listing fee ..............................
Printing (other than stock certificates) .........................
Fees and expenses of qualification under state securities laws
including fees of Accounting fees and expenses .................
Legal fees and expenses ..........................................
Dealer Manager expense reimbursement ............................. 100,000
Information Agent fees and expenses ..............................
Subscription Agent fees and expenses .............................
Miscellaneous ....................................................
--------
Total ........................................................ $
========
- ----------
ITEM 27. PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH REGISTRANT
Registrant and the following corporations (as indicated) are under common
control of Richard E. Omohundro, Jr. ("Omohundro, Jr."), Joseph G. Cote
("Cote") and John A. Frabotta ("Frabotta") by virtue of their stock ownership
and positions with such corporations which are indicated below. None of the
corporations are subsidiaries of the Registrant.
1. Prospect Street Investment Management Co., Inc.
(a Massachusetts corporation) ("PSIM")
Business: Investment adviser registered under the Investment Advisers Act
of 1940. PSIM serves as investment adviser of the Registrant and
Prospect International High Income Portfolio N.V.
CONTROL PERSONS POSITIONS
--------------- ---------
Omohundro, Jr. 40% shareholder, Co-President, Chairman of the Board, Chief
Executive Officer, Treasurer and Director
Cote 40% shareholder, Co-President and Director
Frabotta 20% shareholder, Vice President, Secretary and Director
<PAGE>
2. Prospect Street Mezzanine Management Co., Inc.
(a Massachusetts corporation)
Business: Investment Adviser to and general partner of Bridge Investors,
L.P., a private investment partnership.
CONTROL PERSONS POSITIONS
--------------- ---------
Omohundro, Jr. 40% shareholder, Co-President, Chief Executive Officer,
Treasurer and Director
Cote 40% shareholder, Co-President and Director
Frabotta 20% shareholder, Vice President, Secretary and Director
3. Prospect Street Senior Loan Management Co., Inc.
(a Massachusetts corporation)
Business: Investment Adviser to Prospect Street Senior Portfolio, L.P.,
("Senior Portfolio")
CONTROL PERSONS POSITIONS
--------------- ---------
Omohundro, Jr. 37.5% shareholder, Co-President, Chief Executive Officer,
Treasurer and Director
Cote 37.5% shareholder, Co-President and Director
Frabotta 20% shareholder
4. Prospect Street Senior Loan Corp.
(a Massachusetts corporation)
Business: General Partner to Senior Portfolio
CONTROL PERSONS POSITIONS
--------------- ---------
Omohundro, Jr. 37.5% shareholder, Co-President, Chief Executive Officer,
Treasurer and Director
Cote 37.5% shareholder, Co-President and Director
Frabotta 20% shareholder
5. COMO Securities, Inc.
(a Massachusetts corporation) ("COMO")
Business: COMO is a registered broker/dealer.
CONTROL PERSONS POSITIONS
--------------- ---------
Omohundro, Jr. 30% shareholder, Co-President, Chief Executive Officer,
Treasurer and Director
Cote 30% shareholder, Co-President and Director
Frabotta 10% shareholder, Vice President, Secretary and Director
6. Prospect Street Connecticut Capital Inc.
(a Massachusetts corporation)
Business: Investment Adviser to and general
partner of Prospect St. Financial
Developments L.P.
CONTROL PERSONS POSITIONS
--------------- ---------
Omohundro, Jr. 27.55% shareholder, Co-President and Director
Cote 27.55% shareholder, Co-President and Director
Frabotta 13.27% shareholder, Vice-President, Secretary and Director
7. Prospect Street Discovery Fund Inc.
(a Massachusetts corporation)
Business: Investment Adviser to and general
partner of Prospect St. NYC Discovery Fund L.P.
CONTROL PERSONS POSITIONS
--------------- ---------
Omohundro, Jr. 26.56% shareholder, Co-President and Director
Cote 26.56% shareholder, Co-President and Director
Frabotta 10.42% shareholder, Vice-President and Director
ITEM 28. NUMBER OF HOLDERS OF SECURITIES (AS OF , 1997)
TITLE OF CLASS NUMBER OF RECORD HOLDERS
-------------- ------------------------
Preferred Shares 1
Common Stock [ ]
ITEM 29. INDEMNIFICATION
Reference is made to the Registrant's Articles of Amendment and Restatement
filed as Exhibit 2(a), the Registrant's Amended and Restated Bylaws filed as
Exhibit 2(b), the Dealer Manager Agreement filed as Exhibit 2(h) and the
Advisory Agreement filed as Exhibit 2(g), which provide for indemnification or
contribution. The Registrant's officers, Directors and agents also have the
benefit of the Maryland General Corporation law provisions regarding
indemnification and insurance, including but not limited to Section 2-418 and
Section 2-405.2 thereof, subject also to the indemnification permitted under
Sections 17(h) and 17(i) of the 1940 Act and the regulations and releases
promulgated by the SEC thereunder.
Insofar as indemnification for liability arising under the Securities Act of
1933, as amended (the "Act"), may be permitted to directors, officers and
controlling persons of the Registrant pursuant to the foregoing provisions, or
otherwise, the Registrant has been advised that in the opinion of the Securities
and Exchange Commission such indemnification is against public policy as
expressed in the Act and is, therefore, unenforceable. In the event that a claim
for indemnification against such liabilities (other than the payment by the
Registrant of expenses incurred or paid by a director, officer or controlling
person of the registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the Registrant will, unless in
the opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Act and will
be governed by the final adjudication of such issue.
ITEM 30. BUSINESS AND OTHER CONNECTIONS OF INVESTMENT ADVISER
The description of the business of Prospect Street Investment Management
Co., Inc. is set forth under the caption "The Investment Adviser" in the
Prospectus forming part of this Registration Statement.
The information as to the Directors and officers of Prospect Street
Investment Management Co., Inc. set forth in Prospect Street Investment
Management Co., Inc.'s Form ADV filed with the Securities and Exchange
Commission on July 7, 1988 (File No. 801-32529) and as amended through the date
hereof is incorporated herein by reference.
ITEM 31. LOCATION OF ACCOUNTS AND RECORDS
Registrant: Prospect Street High Income Portfolio Inc.
60 State Street
Boston, Massachusetts 02109
Investment Adviser: Prospect Street Investment Management Co., Inc.
60 State Street
Boston, Massachusetts 02109
Transfer Agent State Street Bank and Trust Company
for Common Stock: P.O. Box 8200
Boston, Massachusetts 02266
Transfer Agent Bankers Trust Company
for Preferred Shares: 4 Albany Street
New York, New York 10006
Custodian: State Street Bank and Trust Company
Two Heritage Drive
North Quincy, Massachusetts 02171
ITEM 32. MANAGEMENT SERVICES
Not applicable.
ITEM 33. UNDERTAKINGS
(a) Registrant undertakes to suspend the offering of its shares until it
amends its Prospectus if:
(1) subsequent to the effective date of this Registration Statement, the
net asset value per share declines more than 10% from its net asset value
per share as of the effective date of the Registration Statement; or
(2) the net asset value increases to an amount greater than its net
proceeds as stated in the Prospectus.
(b) Registrant hereby undertakes:
(1) that for purposes of determining any liability under the Securities
Act of 1933, the information omitted from the form of prospectus filed as
part of this Registration Statement in reliance upon Rule 430A and contained
in a form of prospectus filed by the Registrant pursuant to Rule 497(h)
under the Securities Act shall be deemed to be part of this Registration
Statement as of the time it was declared effective.
(2) that for the purpose of determining any liability under the
Securities Act of 1933, each post-effective amendment that contains a form
of prospectus shall be deemed to be a new registration statement relating to
the securities offered therein, and the offering of such securities at that
time shall be deemed to be the initial bona fide offering thereof.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended,
and the Investment Company Act of 1940, as amended, the Registrant has duly
caused this Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized, in the City of Boston, Commonwealth
of Massachusetts, on the 28th day of January, 1997.
PROSPECT STREET HIGH INCOME PORTFOLIO INC.
By /s/ RICHARD E. OMOHUNDRO, JR.
-----------------------------------
RICHARD E. OMOHUNDRO, JR.
President
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Richard E. Omohundro, Jr. and John A. Frabotta,
and each of them, his true and lawful attorneys-in-fact and agents, with full
power of substitution and resubstitution, for him and in his name, place and
stead, in any and all capacities, to sign any and all Amendments (including
pre-effective and post-effective amendments) to this Registration Statement, and
to file the same, with all exhibits thereto, and other documents in connection
therewith, with the Securities and Exchange Commission, granting unto said
attorneys-in-fact and agents, and each of them, full power and authority to do
and perform each and every act and thing requisite and necessary to be done in
and about the premises, as fully to all intents and purposes as he might or
could do in person, hereby ratifying and confirming all that said
attorneys-in-fact and agents, or either of them, or their or his substitute or
substitutes, may lawfully do or cause to be done by virtue thereof.
Pursuant to the requirements of the Securities Act of 1933, as amended, this
Registration Statement has been signed below by the following persons in the
capacities and on the date indicated.
SIGNATURE TITLE DATE
--------- ----- ----
Director and President
(Principal Executive
/s/ RICHARD E. OMOHUNDRO, JR. Officer) January 28, 1997
- ----------------------------------
RICHARD E. OMOHUNDRO, JR.
Director, Vice President
Treasurer (Principal
Financial and
/s/ JOHN A. FRABOTTA Accounting Officer) January 28, 1997
- ----------------------------------
JOHN A. FRABOTTA
/s/ JOHN S. ALBANESE Director January 28, 1997
- ----------------------------------
JOHN S. ALBANESE
/s/ C. WILLIAM CAREY Director January 28, 1997
- ----------------------------------
C. WILLIAM CAREY
/s/ JOSEPH G. COTE Director January 28, 1997
- ----------------------------------
JOSEPH G. COTE
/s/ HARLAN D. PLATT Director January 18, 1997
- ----------------------------------
HARLAN D. PLATT
/s/ CHRISTOPHER E. ROSHIER Director January 18, 1997
- ----------------------------------
CHRISTOPHER E. ROSHIER
<PAGE>
EXHIBIT INDEX
Exhibit No. Description of Exhibit Page
- ----------- ---------------------- ----
(d)(5) Form of Subscription Certificate and Instructions
(d)(6) Form of Notice of Guaranteed Delivery
(d)(7) Form of DTC/Nominee Over-Subscription Exercise Form
<PAGE>
EXHIBIT (d)(5)
THE OFFER EXPIRES AT 5:00 P.M., NEW YORK CITY TIME, ON , 1997*
PROSPECT STREET HIGH INCOME PORTFOLIO INC.
SUBSCRIPTION RIGHTS FOR COMMON STOCK
SUBSCRIPTION CERTIFICATE
Dear Shareholder:
You are entitled to exercise the Rights issued to you as of , 1997, the
Record Date for the Fund's rights offering, to subscribe for the number of
Shares of Common Stock of Prospect Street High Income Portfolio Inc. shown on
this Subscription Certificate pursuant to the Primary Subscription upon the
terms and conditions specified in the Fund's Prospectus dated , 1997 (the
"Prospectus"). The terms and conditions of the rights offering (the "Offer") set
forth in the Prospectus are incorporated herein by reference. Capitalized terms
not defined herein have the meanings attributed to them in the Prospectus. In
accordance with the Over-Subscription Privilege, as a Record Date Shareholder,
you are also entitled to subscribe for additional Shares if Shares remaining
after exercise of Rights pursuant to the Primary Subscription are available and
if you have fully exercised all Rights issued to you. If sufficient Shares
remain after completion of the Primary Subscription, all over-subscriptions will
be honored in full. If sufficient Shares are not available after completion of
the Primary Subscription to honor all over-subscriptions, the Fund may, at the
discretion of the Board of Directors, issue shares of Common Stock up to an
additional 25% of the Shares available pursuant to the Offer (up to an
additional Shares) in order to cover such over-subscription requests. To the
extent the Fund determines not to issue additional Shares to honor all
over-subscriptions or if the aggregate number of Shares requested pursuant to
the Over-Subscription Privilege exceeds the number of additional Shares, the
available Shares will be allocated among those who over-subscribe based on the
number of Rights originally issued to them by the Fund, so that the number of
Shares issued to shareholders who subscribe pursuant to the Over-Subscription
Privilege will generally be in proportion to the number of Shares owned by them
on the Record Date. The Fund will not offer or sell any Shares which are not
subscribed for pursuant to the Primary Subscription or the Over-Subscription
Privilege.
SAMPLE CALCULATION
- --------------------------------------------------------------------------------
FULL PRIMARY SUBSCRIPTION ENTITLEMENT
(one Share for each Rights)
No. of shares owned
on the Record Date / = new Shares
----------------- --- ----------------
(equals no. of (ignore
Rights issued) fractions)
- --------------------------------------------------------------------------------
SUBSCRIPTION PRICE
The Subscription Price will be % of the lower of (i) the average of the
last reported sales price on the Exchange on the expiration date of the Offer
(the "Pricing Date") and on the four preceding business days, and (ii) the net
asset value per share on the Pricing Date.
METHOD OF EXERCISE OF RIGHTS
IN ORDER TO EXERCISE YOUR RIGHTS, YOU MUST EITHER (i) COMPLETE AND SIGN THIS
SUBSCRIPTION CERTIFICATE ON THE BACK AND RETURN IT TOGETHER WITH PAYMENT AT THE
ESTIMATED SUBSCRIPTION PRICE FOR THE SHARES, OR (ii) PRESENT A PROPERLY
COMPLETED NOTICE OF GUARANTEED DELIVERY, IN EITHER CASE TO THE SUBSCRIPTION
AGENT, STATE STREET BANK AND TRUST COMPANY, BEFORE 5:00 P.M., NEW YORK CITY
TIME, ON , 1997* (THE "EXPIRATION DATE").
<PAGE>
<TABLE>
<S> <C> <C>
BY FIRST CLASS MAIL OR BY EXPRESS MAIL OR OVERNIGHT BY HAND:
EXPRESS MAIL: COURIER: State Street Bank and Trust Company
State Street Bank and Trust State Street Bank and Trust Corporate Reorganization
Company Company 225 Franklin Street -- Concourse Level
Corporate Reorganization Corporate Reorganization Boston, Massachusetts 02110
P.O. Box 9061 Two Heritage Drive U.S.A.
Boston, Massachusetts North Quincy, Massachusetts
02205-8686 02171 or
U.S.A. U.S.A.
Bank of Boston
c/o Boston EquiServe
Corporate Reorganization
55 Broadway -- 3rd Floor
New York, New York 10006
U.S.A.
</TABLE>
DELIVERY TO AN ADDRESS OTHER THAN ONE OF THE ADDRESSES LISTED ABOVE WILL NOT
CONSTITUTE VALID DELIVERY.
FULL PAYMENT OF THE ESTIMATED SUBSCRIPTION PRICE PER SHARE FOR ALL SHARES
SUBSCRIBED FOR PURSUANT TO BOTH THE PRIMARY SUBSCRIPTION AND OVER-SUBSCRIPTION
PRIVILEGE MUST ACCOMPANY THIS SUBSCRIPTION CERTIFICATE AND MUST BE MADE PAYABLE
IN UNITED STATES DOLLARS BY MONEY ORDER OR CHECK DRAWN ON A BANK LOCATED IN THE
UNITED STATES PAYABLE TO PROSPECT STREET HIGH INCOME PORTFOLIO INC. BECAUSE
UNCERTIFIED PERSONAL CHECKS MAY TAKE AT LEAST FIVE BUSINESS DAYS TO CLEAR, YOU
ARE STRONGLY URGED TO PAY, OR ARRANGE FOR PAYMENT, BY MEANS OF CERTIFIED OR
CASHIER'S CHECK OR MONEY ORDER. ALTERNATIVELY, IF A NOTICE OF GUARANTEED
DELIVERY IS USED, A PROPERLY COMPLETED AND EXECUTED SUBSCRIPTION CERTIFICATE,
AND FULL PAYMENT, AS DESCRIBED IN SUCH NOTICE, MUST BE RECEIVED BY THE
SUBSCRIPTION AGENT NO LATER THAN THE CLOSE OF BUSINESS ON THE THIRD BUSINESS DAY
AFTER THE EXPIRATION DATE. FOR ADDITIONAL INFORMATION, SEE THE PROSPECTUS.
Certificates for the Shares acquired on Primary Subscription will be mailed
promptly after the expiration of the Offer and full payment for the shares
subscribed for has been received and cleared. Certificates representing Shares
acquired pursuant to the Over-Subscription Privilege will be mailed as soon as
practicable after full payment has been received and cleared and all allocations
have been effected. Any excess payment to be refunded by the Fund to a
shareholder will be mailed by the Subscription Agent to such shareholder as
promptly as possible.
THESE SUBSCRIPTION RIGHTS ARE NON-TRANSFERABLE
- ----------
* Unless the Offer is extended.
Any questions regarding this Subscription Certificate and the Offer may be
directed to the Information Agent, Corporate Investor Communications, Inc.,
toll- free at (800) 958-6468.
<PAGE>
Account #: Control #:
Number of Primary Subscription Rights:
Number of Shares Entitled in Primary Subscription:
PLEASE PRINT ALL INFORMATION CLEARLY AND LEGIBLY
- --------------------------------------------------------------------------------
SECTION 1: DETAILS OF SUBSCRIPTION
IF YOU WISH TO SUBSCRIBE FOR YOUR FULL ENTITLEMENT:
A: I apply for ALL of my entitlement
of new Shares pursuant to the
Primary Subscription. x $ + = $
------------------- ------ -------
(no. of new Shares)
B: I apply for new Shares pursuant
to the Over-Subscription
Privilege* x $ + = $
------------------------ ------ -------
(no. of additional Shares)
AMOUNT ENCLOSED $
* You can only over-subscribe if you have fully exercised your Primary
Subscription Rights.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
IF YOU DO NOT WISH TO APPLY FOR YOUR FULL ENTITLEMENT:
C: I apply for x $ + = $
----------------- ----- ---------------
(no. of new Shares) (AMOUNT ENCLOSED)
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
SECTION 2: TO SUBSCRIBE
I acknowledge that I have received the Prospectus for this Offer and I hereby
irrevocably subscribe for the number of Shares indicated above as a total of A
and B, on the terms and conditions specified in the Prospectus relating to the
Primary Subscription and the Over-Subscription Privilege. I understand and agree
that I will be obligated to pay any additional amount to the Fund if the
Subscription Price as determined on the Pricing Date is in excess of the $
Estimated Subscription Price per Share.
I hereby agree that if I fail to pay in full for the Shares for which I have
subscribed, the Fund may exercise any of the remedies set forth for in the
Prospectus.
Signature of subscriber(s)
-----------------------------------------------------
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Telephone number (including area code) ( )
------------------------------------
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
If you wish to have your shares and refund check (if any) delivered to an
address other than that listed on this Subscription Certificate you must have
your signature guaranteed by a member of the New York Stock Exchange or a bank
or trust company. Please provide the delivery address below and note if it is a
permanent change.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
================================================================================
SECTION 3: DESIGNATION OF BROKER-DEALER
The following broker-dealer is hereby designated as having been instrumental in
the exercise of the Rights hereby exercised:
FIRM:
----------------------------------------------------
REPRESENTATIVE NAME:
-------------------------------------
REPRESENTATIVE NUMBER:
-----------------------------------
- --------------------------------------------------------------------------------
+ NOTE: $ PER SHARE IS AN ESTIMATED PRICE ONLY. THE SUBSCRIPTION PRICE WILL BE
DETERMINED ON , 1997, THE PRICING DATE (WHICH IS THE SAME AS THE EXPIRATION
DATE UNLESS EXTENDED), AND COULD BE HIGHER OR LOWER DEPENDING ON THE CHANGES
IN THE NET ASSET VALUE AND SHARE PRICE OF THE COMMON STOCK.
<PAGE>
EXHIBIT (d)(6)
NOTICE OF GUARANTEED DELIVERY FOR SHARES OF COMMON STOCK OF
PROSPECT STREET HIGH INCOME PORTFOLIO INC.
SUBSCRIBED FOR PURSUANT TO THE PRIMARY SUBSCRIPTION
AND THE OVER-SUBSCRIPTION PRIVILEGE
PROSPECT STREET HIGH INCOME PORTFOLIO INC. RIGHTS OFFERING
As set forth in the Fund's Prospectus dated , 1997 (the "Prospectus")
under "The Offer--Payment for Shares," this form or one substantially equivalent
hereto may be used as a means of effecting subscription and payment for all
shares of Prospect Street High Income Porfolio Inc. Common Stock subscribed for
by exercise of Rights pursuant to the Primary Subscription and the
Over-Subscription Privilege. Such form may be delivered by hand or sent by
facsimile transmission, overnight courier or mail to the Subscription Agent and
must be received prior to 5:00 p.m. New York City time on , 1997 (the
"Expiration Date").* The terms and conditions of the Offer set forth in the
Prospectus are incorporated by reference herein. Capitalized terms not defined
herein have the meanings attributed to them in the Prospectus.
The Subscription Agent is:
STATE STREET BANK AND TRUST COMPANY
BY FACSIMILE: BY FIRST CLASS MAIL OR EXPRESS MAIL:
(TELECOPIES) State Street Bank and Trust Company
(617) 774-4519 Corporate Reorganization
Confirm by telephone to: P.O. Box 9061
(617) 774-4511 Boston, Massachusetts 02205-8686 U.S.A.
BY EXPRESS MAIL OR OVERNIGHT BY HAND:
COURIER: State Street Bank and Trust Company
State Street Bank and Trust Company Corporate Reorganization
Corporate Reorganization 225 Franklin Street -- Concourse Level
Two Heritage Drive Boston, Massachusetts 02110
North Quincy, Massachusetts 02171 U.S.A.
U.S.A.
or
Bank of Boston c/o Boston EquiServe
Corporate Reorganization
55 Broadway -- 3rd Floor
New York, New York 10006
U.S.A.
DELIVERY OF THIS INSTRUMENT TO AN ADDRESS, OR TRANSMISSION OF INSTRUCTIONS
VIA A TELECOPY OR FACSIMILE NUMBER, OTHER THAN AS SET FORTH ABOVE,
DOES NOT CONSTITUTE A VALID DELIVERY.
The New York Stock Exchange member firm or bank or trust company which
completes this form must communicate the guarantee and the number of shares
subscribed for under both the Primary Subscription and the Over-Subscription
Privilege to the Subscription Agent and must deliver this Notice of Guaranteed
Delivery guaranteeing delivery of (i) payment in full for all subscribed shares
and (ii) a properly completed and executed Subscription Certificate to the
Subscription Agent prior to 5:00 p.m., New York City time, on the Expiration
Date.* The Subscription Certificate and full payment must then be delivered by
the close of business on the third business day after the Expiration Date* to
the Subscription Agent. Failure to do so will result in a forfeiture of the
Rights.
(continued on other side)
- ----------
* Unless extended by the Fund.
<PAGE>
GUARANTEE
The undersigned, a member firm of the New York Stock Exchange or a bank or
trust company guarantees delivery of payment to the Subscription Agent by the
close of business (5:00 p.m., New York City time) on the third business day (
, 1997) after the Expiration Date ( , 1997, unless extended) of (i) a properly
completed and executed Subscription Certificate and (ii) payment of the full
Subscription Price for shares subscribed for on Primary Subscription and
pursuant to the Over-Subscription Privilege, if applicable, as subscription for
such shares is indicated herein or in the Subscription Certificate.
<TABLE>
- -------------------------------------------------------------------------------------
<C> <C> <C> <C>
1. Primary Number of Rights Number of Primary Payment to be made
Subscription to be exercised Shares requested for in
Rights which you are connection with
---------- guaranteeing Primary
delivery Shares
of Rights and $
Payment -------------------
Shares
------------
(Rights x by )
- -------------------------------------------------------------------------------------
2. Over-Subscription Number of Over- Payment to be made
Subscription Shares in
requested for which connection with
you are guaranteeing Over-Subscription
payment Shares
Shares $
------------- ------------------
- -------------------------------------------------------------------------------------
</TABLE>
3. Totals Total Number of
Rights to be Delivered $
Rights -----------------
--------------- Total Payment
- --------------------------------------------------------------------------------
Method of Delivery of Rights (circle one) A. Through The Depository Trust
Company ("DTC")*
B. Direct to the Subscription Agent
Please note that if you are guaranteeing for Over-Subscription Shares and
are a DTC participant, you must also execute and forward to State Street Bank
and Trust Company a Nominee Holder Over-Subscription Certification.
- ---------------------------------------- ------------------------------------
Name of Firm Authorized Signature
- ---------------------------------------- ------------------------------------
Address Title
- ---------------------------------------- ------------------------------------
Zip Code Name (Please Type or Print)
- ----------------------------------------
Name of Registered Holder (If Applicable)
- ---------------------------------------- ------------------------------------
Telephone Number Date
* IF THE RIGHTS ARE TO BE DELIVERED THROUGH DTC, CALL THE SUBSCRIPTION AGENT
TO OBTAIN A PROTECT IDENTIFICATION NUMBER, WHICH NEEDS TO BE COMMUNICATED
BY YOU TO DTC.
<PAGE>
EXHIBIT (d)(7)
PROSPECT STREET HIGH INCOME PORTFOLIO INC.
RIGHTS OFFERING
DTC PARTICIPANT OVER-SUBSCRIPTION EXERCISE FORM
NOMINEE HOLDER OVER-SUBSCRIPTION EXERCISE FORM
THIS FORM IS TO BE USED ONLY BY NOMINEE HOLDERS OR BY THE DEPOSITORY TRUST
COMPANY ("DTC") PARTICIPANTS TO EXERCISE THE OVER-SUBSCRIPTION PRIVILEGE IN
RESPECT OF RIGHTS WITH RESPECT TO WHICH THE PRIMARY SUBSCRIPTION PRIVILEGE WAS
EXERCISED IN FULL AND DELIVERED THROUGH THE FACILITIES OF A COMMON DEPOSITORY OR
DTC. ALL OTHER EXERCISES OF OVER-SUBSCRIPTION PRIVILEGES MUST BE EFFECTED BY
THE DELIVERY OF THE SUBSCRIPTION CERTIFICATE.
THE TERMS AND CONDITIONS OF THE RIGHTS OFFERING ARE SET FORTH IN THE FUND'S
PROSPECTUS DATED , 1997 (THE "PROSPECTUS") AND ARE INCORPORATED HEREIN BY
REFERENCE. COPIES OF THE PROSPECTUS ARE AVAILABLE UPON REQUEST FROM THE
INFORMATION AGENT.
PLEASE COMPLETE ALL APPLICABLE INFORMATION
VOID UNLESS RECEIVED BY THE SUBSCRIPTION AGENT WITH PAYMENT IN FULL OR WITH
A PROPERLY COMPLETED NOTICE OF GUARANTEED DELIVERY BEFORE 5:00 P.M., NEW YORK
CITY TIME, ON , 1997 (THE "EXPIRATION DATE"), UNLESS EXTENDED BY THE FUND.
BY FACSIMILE: BY FIRST CLASS MAIL OR EXPRESS MAIL:
(TELECOPIES) State Street Bank and Trust Company
(617) 774-4519 Corporate Reorganization
Confirm by telephone to: P.O. Box 9061
(617) 774-4511 Boston, Massachusetts 02205-8686 U.S.A.
BY EXPRESS MAIL OR OVERNIGHT BY HAND:
COURIER: State Street Bank and Trust Company
State Street Bank and Trust Company Corporate Reorganization
Corporate Reorganization 225 Franklin Street -- Concourse Level
Two Heritage Drive Boston, Massachusetts 02110
North Quincy, Massachusetts 02171 U.S.A.
U.S.A.
or
Bank of Boston
c/o Boston EquiServe
Corporate Reorganization
55 Broadway -- 3rd Floor
New York, New York 10006
U.S.A.
1. The undersigned hereby certifies to the Subscription Agent that it is a
participant in _____________________ [Name of Depository] (the "Depository") and
that it has either (i) exercised the Primary Subscription in respect of the
Rights and delivered such exercised Rights to the Subscription Agent by means of
transfer to the Depository Account of the Fund or (ii) delivered to the
Subscription Agent a Notice of Guaranteed Delivery in respect of the exercise of
the Primary Subscription Privilege and will deliver the Rights called for in
such Notice of Guaranteed Delivery to the Subscription Agent by means of
transfer to such Depository Account of the Fund.
2. The undersigned hereby exercises the Over-Subscription Privilege to
purchase, to the extent available, _________ shares of Common Stock and
certifies to the Subscription Agent that such Over-Subscription Privilege is
being exercised for the account or accounts of persons (which may include the
undersigned) on whose behalf all Primary Subscription Rights have been
exercised.
3. The undersigned understands that payment of the Estimated Subscription
Price of $ per Share for each Share of Common Stock subscribed for pursuant to
the Over-Subscription Privilege must be received by the Subscription Agent
before 5:00 p.m., New York City time, on the Expiration Date, unless a Notice of
Guaranteed Delivery is used, in which case, payment in full must be received by
the Subscription Agent not later than the close of business on the third
business day after the Expiration Date. The undersigned represents that such
payment, in the aggregate amount of $ _______________, either
(CONTINUED ON OTHER SIDE)
<PAGE>
(CHECK APPROPRIATE BOX):
[ ] has been or is being delivered to the Subscription Agent pursuant to
the Notice of Guaranteed Delivery referred to above
or
[ ] is being delivered to the Subscription Agent herewith
or
[ ] has been delivered separately to the Subscription Agent;
--------------------------------------
Primary Subscription Confirmation Number Name of Nominee Holder
- --------------------------------------- --------------------------------------
Depository Participant Number Address
Contact Name
-------------------------- --------------------------------------
City State Zip Code
Phone Number
-------------------------- --------------------------------------
Dated: , 1997 By:
--------------------------- -----------------------------------
Name:
--------------------------------
Title:
--------------------------------
PLEASE ATTACH A BENEFICIAL OWNER LISTING CONTAINING THE RECORD DATE POSITION OF
RIGHTS OWNED, THE NUMBER OF PRIMARY SHARES SUBSCRIBED AND THE NUMBER OF
OVER-SUBSCRIPTION SHARES, IF APPLICABLE, REQUESTED BY EACH SUCH OWNER.
PLEASE NOTE: THIS FORM WILL NOT BE ACCEPTED AS VALID UNLESS THE FOLLOWING
INFORMATION IS PROVIDED FOR THE ALLOCATION OF OVER-SUBSCRIPTION SHARES.
The positions below pertain to those persons on whose behalf the
Over-Subscription is being exercised:
Total number of record date shares
- ------------------------------------
Total number of primary rights exercised
- ------------------------------------
