MENTOR INCOME FUND, INC.
SEMI-ANNUAL REPORT
APRIL 30, 1997
- --------------------------------------------------------------------------------
THE FUND
o A closed-end investment fund that invests primarily in high-quality
fixed-income securities. The Fund is listed on the New York Stock Exchange
with common shares traded under the symbol, MRF.
INVESTMENT OBJECTIVE
o To achieve high monthly income consistent with preservation of capital
DIVIDEND OBJECTIVE
o To distribute monthly income in excess of that attainable from investments
in U.S. Treasury securities having the same maturity as the expected average
life of the Fund's investments.
REPORT FROM THE CHAIRMAN AND PRESIDENT
We appreciate the opportunity to provide the Semi-Annual Report to shareholders
for Mentor Income Fund for the six months ended April 30, 1997.
During the six months ended April 30, 1997, the Fund paid dividends of $0.42 per
share, which represents an annualized yield of 9.08% based on the Fund's closing
market price of $9.25 on April 30, 1997. These monthly dividends have provided
the Fund's shareholders with a significant income advantage over the average
yield-to-maturity of 6.44%, attainable during the period from treasury
securities having the same approximate maturity as the average life of the
Fund's investments. Of course, treasuries are guaranteed as to principal and
interest, while the Fund's shares are not guaranteed and will fluctuate in
value.
1
<PAGE>
MENTOR INCOME FUND, INC.
SEMI-ANNUAL REPORT
APRIL 30, 1997
- --------------------------------------------------------------------------------
U.S. Treasury Curve
[graph]
10/31/96 4/30/97
-------- -------
3 Mo. 5.144 5.238
6 Mo. 5.264 5.522
1 Yr. 5.404 5.887
2 Yr. 5.732 6.274
3 Yr. 5.86 6.398
5 Yr. 6.07 6.565
10 Yr. 6.341 6.709
30 Yr. 6.641 6.954
Source: Bloomberg
MARKET CONDITIONS
The six-month period ended April 30, 1997 saw interest rates increase across the
yield curve, with the most significant rise in the intermediate sector. Three-
month yields rose 0.09% and 30-year rates rose 0.31%. Two and 10-year treasuries
closed the period at 6.27% and 6.71%, up 0.54% and 0.37% respectively from the
beginning of the period.
The final two months of 1996 and the early part of 1997 saw interest rates fall
modestly. During February, however, as economic statistics showed increasing
strength, market participants began to assume that the Federal Reserve would
soon intervene to slow economic growth and inflation prospects. The markets
reacted accordingly, with rates trending upward during the February through
April period. The Fed's decision to raise the Fed Funds rate by 0.25% to 5.50%
at its late-March Open Market Committee meeting confirmed the market's
assumption of tighter monetary policy. We suspect that this will be the first of
several moderate rate increases by Mr. Greenspan and his colleagues in the
coming months.
EFFECT ON THE FUND
When compared to the indexes which we have traditionally used to assess our
relative performance, our results for the six-month period ending April 30, 1997
provided competitve returns to our shareholders. The Fund's 3.20% net asset
value total return for the six months ending April 30, 1997 compares to the
2
<PAGE>
MENTOR INCOME FUND, INC.
SEMI-ANNUAL REPORT
APRIL 30, 1997
- --------------------------------------------------------------------------------
2.70%, 1.40%, and 0.99% returns posted by the Merrill Lynch Mortgage, Government
Bond, and 7-year Treasury indexes,* respectively.
Total Return
Mentor Income Fund vs.
Fixed-Income Sectors
Six Months Ended 4/30/97
[graph]
3.20% 2.70% 1.40% .99%
Mentor Merrill Merrill Merrill
Income Lynch Lynch Lynch
Fund Mortgage Gov't 7-Year
Index Bond Treasury
Index Index
PORTFOLIO STRATEGY
Throughout the six-month period common themes continued to support our strategy
for seeking to fulfill our objectives -- to provide attractive income, maintain
risk close to that of intermediate treasuries, and capitalize on investment
opportunities as they present themselves.
Throughout the period, we continued to seek to add value through security
selection, sector allocation, and yield curve-weighting strategies.** We chose
to make only limited duration bets, generally maintaining a portfolio duration
approximately 5% to 10% longer than our Merrill Lynch 7-Year Treasury benchmark.
As 1997 progressed and the fixed-income markets weakened in the face of strong
economic statistics and the likelihood of Fed intervention, we continued to
maintain a duration posture only modestly longer than our benchmark. Our
analysis led us to believe that any benefits of increased yield associated with
additional duration extensions would be more than offset by increased downside
risk.
During the six-month period we sold a portion of our position in complex
securities, such as teaser ARMs (adjustable rate mortgages), which offer
incremental yield but are vulnerable to Fed tightenings. Otherwise, most of the
changes to the portfolio were minor adjustments. At the end of April we
maintained a portfolio duration tilt approximately 10% longer than our
3
<PAGE>
MENTOR INCOME FUND, INC.
SEMI-ANNUAL REPORT
APRIL 30, 1997
- --------------------------------------------------------------------------------
7-year Treasury Index benchmark, only modestly longer than we had maintained
earlier in the period.
Portfolio Composition
[PIE CHART GRAPH]
Fixed-Rate
Multiple Class
Collateralized
Mortgage Obligations 28.0%
Fixed Rate
Single-Class
Mortgage Backed
Securities 25.4%
Corporate Bonds 12.0%
Adjustable-Rate
Mortgage Backed
Securities 10.0%
Residual Interests 9.2%
Asset-Backed
Securities 7.9%
U.S. Government Agencies 2.5%
Repurchase Agreement 1.1%
Preferred Stock 3.6%
Interest-Only Securities 0.3%
MARKET OUTLOOK
As noted previously, we believe that the recent Fed tightening may be the first
of several moderate interest-rate increases in the coming months. This is likely
to lead to choppy markets during upcoming months and perhaps to continued
weakness in the short term. However, we strongly feel that the Fed's current
inflation vigilance is laying the groundwork for bullish long-term prospects for
the fixed-income markets. When compared to other asset classes, and when
compared to current levels of inflation, we believe that a 30-year bond yielding
in excess of 7% represents compelling value. We plan, however, to remain patient
as we look for opportunities to extend duration, realizing through experience
that markets often over-react in the short term before establishing trends in
keeping with long-term market fundamentals.
4
<PAGE>
MENTOR INCOME FUND, INC.
SEMI-ANNUAL REPORT
APRIL 30, 1997
- --------------------------------------------------------------------------------
DIVIDEND REINVESTMENT PLAN
Shareholders who wish to purchase additional shares can do so through the Fund's
automatic dividend reinvestment plan. Over 60% of the Fund's shareholders
participate in this plan. If you would like to receive information about the
plan, please call our plan agent at (800) 426-5523.
Sincerely,
/s/ Weston E. Edwards
- --------------------------
Weston E. Edwards, CFA
CHAIRMAN
/s/ Paul F. Costello
- --------------------------
Paul F. Costello
PRESIDENT
* The Merrill Lynch Mortgage Index is a composite of fixed-rate mortgage
pass-through securities. The Merrill Lynch Government Bond Index is a
composite of 2,347 treasury and agency issues with maturities ranging from
one to 30 years. The Merrill Lynch 7-Year Treasury Index is adjusted to
reflect reinvestment of interest on securities in the index. It is not
adjusted to reflect sales loads, expenses, or other fees that the SEC
requires to be reflected in the Portfolio's performance. Of course,
treasuries are guaranteed as to principal and interest, while the fund's
shares are not guaranteed and will fluctuate. Performance does not include
sales charges and does include reinvestment of all distributions.
** While the portfolio managers will endeavor to manage the portfolio in
accordance with an active fixed-income investment process, there are no
guarantees that they will be successful. Past performance does not guarantee
future comparable results. Investment return and principal value will
fluctuate so that an investor's shares, when redeemed, may be worth more or
less than their original cost. Performance figures represent change in
investment value after re-investing all distributions.
5
<PAGE>
MENTOR INCOME FUND, INC.
PORTFOLIO OF INVESTMENTS
APRIL 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
SHARES OR
PRINCIPAL MARKET
AMOUNT VALUE
<S> <C> <C> <C> <C>
- ---------------------------------------------------------------------------------------------------------
LONG-TERM INVESTMENTS 129.26%
- ---------------------------------------------------------------------------------------------------------
PREFERRED STOCK 4.71%
Home Ownership (cost $5,661,879) 5,650,000 $ 5,517,790
- ---------------------------------------------------------------------------------------------------------
U.S. GOVERNMENT SECURITIES AND AGENCIES 52.49%
- ---------------------------------------------------------------------------------------------------------
Federal Home Loan Mortgage Corporation
6.50%, Series 1422, 2/15/07-REMIC* $ 4,565,108 4,348,265
6.50%, Series 1993-18Z,
2/25/08-REMIC 4,168,596 3,804,169
6.50%, Series 1647 B, 11/15/08-REMIC* 8,639,312 8,213,394
9.50%-10.75%, 9/01/09-9/01/18 2,896,051 3,076,211
7.50%, 11/01/11* 4,947,889 4,995,824
Federal National Mortgage Association
10.50%, Series 67488, 11/01/18* 6,344,542 6,996,844
7.36%, 7/01/27-ARM 32,837 32,498
Government National Mortgage Association
7.00%, 15-year Platinum, 12/15/08* 4,985,404 4,970,248
11.50%, 2/15/13-6/15/19 223,490 247,830
5.00%-5.50%, 10/20/26-1/20/27* 19,186,185 18,787,612
6.00%, 4/20/27-ARM 2,297,750 2,292,006
U.S. Treasury Note, 6.63%, 3/31/02 3,750,000 3,755,850
- ---------------------------------------------------------------------------------------------------------
Total U.S. Government Securities and Agencies (cost
$61,483,172) 61,520,751
- ---------------------------------------------------------------------------------------------------------
CORPORATE BONDS 15.68%
- ---------------------------------------------------------------------------------------------------------
FINANCE 10.75%
Capital One Bank, 7.15%, 9/15/06 4,000,000 4,046,860
Lehman Brothers, 7.50%, 8/01/26 1,500,000 1,519,800
Nationsbank, 7.50%, 9/15/06 1,500,000 1,512,000
Salomon, Inc., 7.65%, 6/27/05 2,700,000 2,693,412
Sunamerica, Inc., 7.34%, 8/30/05 1,750,000 1,728,668
Travelers, Inc., 9.50%, 3/01/02 1,000,000 1,101,000
- ---------------------------------------------------------------------------------------------------------
12,601,740
- ---------------------------------------------------------------------------------------------------------
</TABLE>
6
<PAGE>
MENTOR INCOME FUND, INC.
PORTFOLIO OF INVESTMENTS
APRIL 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
PRINCIPAL MARKET
AMOUNT VALUE
<S> <C> <C> <C> <C>
- ---------------------------------------------------------------------------------------------------------
CORPORATE BONDS (CONTINUED)
- ---------------------------------------------------------------------------------------------------------
INDUSTRIAL 1.28%
Service Corporation, 7.38%, 4/15/04 $ 1,500,000 $ 1,506,765
- ---------------------------------------------------------------------------------------------------------
UTILITIES 3.65%
Mississippi Power & Light, 8.80%, 4/01/05 4,250,000 4,287,188
- ---------------------------------------------------------------------------------------------------------
Total Corporate Bonds (cost $18,486,365) 18,395,693
- ---------------------------------------------------------------------------------------------------------
PRIVATE ISSUES 44.39%
- ---------------------------------------------------------------------------------------------------------
ADJUSTABLE RATE MORTGAGES 11.09%
California Federal Bank
Series 1991-2, Class A, 8.75%, 7/15/21 534,466 534,680
Kidder Peabody Acceptance Corporation
Series 1989-3, Class A, 8.91%, 6/20/19 1,067,553 1,067,874
PaineWebber Mortgage Acceptance Corporation
Series 1993-1, Class M-1, 7.91%, 3/25/23 1,507,879 1,526,727
Series 1993-3, Class M-1, 7.59%, 4/25/23 2,503,534 2,534,829
Sears Mortgage Securities Corporation
Series 1992-9, Class A, 7.91%, 10/25/21 1,701,579 1,732,548
Structured Asset Securities Residential Trust
Series 1990-1, Class A, 7.68%, 4/01/20 5,455,268 5,599,320
- ---------------------------------------------------------------------------------------------------------
12,995,978
- ---------------------------------------------------------------------------------------------------------
ASSET-BACKED SECURITIES 13.99%
Advanta Mortgage Loan Trust,
Series 1993-3 A5, 5.55%, 1/25/25 1,434,176 1,318,466
AFG Receivables Trust, 6.45%, 9/15/00 1,053,761 1,044,540
CS First Boston, Series 1996-2 A6,
7.18%, 2/25/18 2,750,000 2,670,937
First Interstate Bank of California,
8.90%, 11/15/97 5,423,677 5,474,524
Olympic Automobiles Receivables Trust, 6.85%,
6/15/01 1,694,802 1,701,157
Old Stone Credit Corporation Home Equity Trust,
Series 1993-2, 6.20%, 6/15/08 1,721,183 1,681,381
Union Acceptance Corporation,
6.45%, 7/08/03 2,510,618 2,505,911
- ---------------------------------------------------------------------------------------------------------
16,396,916
- ---------------------------------------------------------------------------------------------------------
</TABLE>
7
<PAGE>
MENTOR INCOME FUND, INC.
PORTFOLIO OF INVESTMENTS
APRIL 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
PRINCIPAL MARKET
AMOUNT VALUE
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
PRIVATE ISSUES (CONTINUED)
- ---------------------------------------------------------------------------------------------------------
COLLATERALIZED MORTGAGE OBLIGATION 18.88%
General Electric Capital Mortgage Services
Series 1993-18 B1, 6.00%, 2/25/09 $ 2,114,212 $ 1,975,562
Series 1996-4 B1, 7.00%, 3/25/26 4,459,884 4,196,822
Prudential Home Mortgage Securities
Series 1993-27 M, 7.50%, 5/25/23 3,267,797 3,212,898
Series 1993-22 M, 7.00%, 7/25/23 4,806,934 4,589,872
Series 1994-29 M, 7.00%, 10/25/24 3,218,054 3,065,698
Series 1995-5 M, 7.25%, 9/25/25 2,603,388 2,503,728
Series 1995-5 B1, 7.25%, 9/25/25 2,689,019 2,577,678
- ---------------------------------------------------------------------------------------------------------
22,122,258
- ---------------------------------------------------------------------------------------------------------
MORTGAGE BACKED SECURITIES 0.10%
Republic Federal Savings & Loan Association
Series 1988-03, Class A, 9.75%, 6/01/18 114,964 114,137
- ---------------------------------------------------------------------------------------------------------
INTEREST ONLY SECURITIES 0.33%
Conti-Mortgage
Series 94-3, A3-1, 0.52%, 5/15/09 29,723,065 111,461
Series 94-3, A3-1, 0.13%, 3/15/14 73,050,000 273,938
- ---------------------------------------------------------------------------------------------------------
385,399
- ---------------------------------------------------------------------------------------------------------
Total Private Issues (cost $51,459,237) 52,014,680
- ---------------------------------------------------------------------------------------------------------
RESIDUAL INTERESTS 11.99%
Capital Mortgage Funding, Inc., 1996-1, 1/27/27 41,192 1,388,646
Capital Mortgage Funding, Inc., 1997-1, 12/10/26 53,713 1,039,522
General Mortgage Securities, Inc., 1989-2, 1996,
4/17/19 25,195 1,235,452
General Mortgage Securities II, Inc., 1991-2, 1996,
1/28/30 4,585 813,928
General Mortgage Securities II, Inc., 1991-4, 1996,
3/28/20 776 447,309
</TABLE>
8
<PAGE>
MENTOR INCOME FUND, INC.
PORTFOLIO OF INVESTMENTS
APRIL 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
PRINCIPAL MARKET
AMOUNT VALUE
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C>
RESIDUAL INTERESTS (CONTINUED)
- ---------------------------------------------------------------------------------------------------------
General Mortgage Securities II, Inc., 1991-7, 1996,
6/28/30 $ 3,226 $ 475,903
General Mortgage Securities II, Inc., 1995-1, 1996,
6/25/20 26,957 660,756
General Mortgage Securities II, Inc., 1995-4, 1996,
6/25/23 14,658 550,238
General Mortgage Securities II, Inc., 1996-1, 1996,
11/25/22 14,549 607,776
National Mortgage Funding I, Inc., 1992-4, 1996,
11/27/22 12,187 841,428
National Mortgage Funding I, Inc., 1993-1, 1996,
6/18/14 51,585 712,309
National Mortgage Funding I, Inc., 1995-4, 1996,
3/20/21 12,868 214,793
National Mortgage Funding I, Inc., 1995-5, 1996,
3/25/22 4,981 405,419
National Mortgage Funding I, Inc., 1995-7, 1996,
9/17/25 32,861 834,905
National Mortgage Funding I, Inc., 1995-8, 1996,
8/25/22 45,000 785,017
National Mortgage Funding I, Inc., 1995-9, 1996,
11/19/25 38,590 603,312
National Mortgage Funding I, Inc., 1996-1, 1996,
4/25/25 48,249 722,488
National Mortgage Funding I, Inc., 1996-4, 1996,
10/25/21 11,328 470,120
National Mortgage Funding I, Inc., 1996-5, 1996,
5/22/26 80,791 1,238,528
- ---------------------------------------------------------------------------------------------------------
Total Residual Interests (cost $13,788,178) 14,047,849
- ---------------------------------------------------------------------------------------------------------
TOTAL LONG-TERM INVESTMENTS
(COST $150,878,831) 151,496,771
- ---------------------------------------------------------------------------------------------------------
</TABLE>
9
<PAGE>
MENTOR INCOME FUND, INC.
PORTFOLIO OF INVESTMENTS
APRIL 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
PRINCIPAL MARKET
AMOUNT VALUE
- ---------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
SHORT-TERM INVESTMENTS 1.38%
- ---------------------------------------------------------------------------------------------------------
REPURCHASE AGREEMENT
Goldman Sachs & Company
Dated 4/30/97, 5.50%, due 5/1/97
collateralized by $1,702,572 Federal Home
Loan Mortgage Corporation, 7.00%, 10/01/26,
market value $1,654,155 (cost $1,616,042) $ 1,616,042 $ 1,616,042
- ---------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS (COST $152,494,873) 130.64% 153,112,813
- ---------------------------------------------------------------------------------------------------------
OTHER ASSETS LESS LIABILITIES (30.64%) (35,912,530)
- ---------------------------------------------------------------------------------------------------------
NET ASSETS 100.00% $117,200,283
- ----------------------------------------------------------------------------------------------------------
</TABLE>
REMIC-Real Estate Mortgage Investment Conduit
ARM-Adjustable Rate Mortgage
* Certain of these securities are segregated as collateral for a reverse
repurchase agreement.
SEE NOTES TO FINANCIAL STATEMENTS.
10
<PAGE>
MENTOR INCOME FUND, INC.
STATEMENT OF ASSETS AND LIABILITIES
APRIL 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
<S> <C>
- ---------------------------------------------------------------------------------------------------------------
ASSETS
Investments, at value (identified cost $152,494,873) $153,112,813
Receivables
Investments sold 311,813
Interest 1,274,182
Other assets 73,138
- ---------------------------------------------------------------------------------------------------------------
Total assets 154,771,946
- ---------------------------------------------------------------------------------------------------------------
LIABILITIES
Reverse repurchase agreement 37,000,000
Income dividend payable 198,945
Unrealized depreciation on interest rate swaps 243,075
Accrued expenses and other liabilities 129,643
- ---------------------------------------------------------------------------------------------------------------
Total liabilities 37,571,663
- ---------------------------------------------------------------------------------------------------------------
NET ASSETS $117,200,283
===============================================================================================================
ANALYSIS OF NET ASSETS
Common stock at par value $ 118,178
Accumulated paid-in capital 131,619,599
Accumulated net investment loss (326,174)
Accumulated net realized losses (14,586,185)
Net unrealized appreciation of investments 374,865
- ---------------------------------------------------------------------------------------------------------------
Net Assets $117,200,283
Shares Outstanding 11,817,776
- ---------------------------------------------------------------------------------------------------------------
NET ASSET VALUE PER SHARE $ 9.92
===============================================================================================================
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS.
11
<PAGE>
MENTOR INCOME FUND, INC.
STATEMENT OF OPERATIONS
SIX MONTHS ENDED APRIL 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
<S> <C>
- ---------------------------------------------------------------------------------------------------------------
INVESTMENT INCOME
Interest and net discount earned $ 6,398,691
- ---------------------------------------------------------------------------------------------------------------
EXPENSES
Investment advisory fee 380,609
Administration fee 58,555
Reports to shareholders 53,206
Custodian and transfer agent fees 50,299
Directors' fees and expenses 35,968
Shareholder servicing expenses 29,753
Audit fees 20,682
Legal fees 18,228
Registration and filing fees 14,249
Miscellaneous 4,930
- ---------------------------------------------------------------------------------------------------------------
Total operating expenses 666,479
- ---------------------------------------------------------------------------------------------------------------
Interest expense 1,006,050
- ---------------------------------------------------------------------------------------------------------------
Total expenses 1,672,529
- ---------------------------------------------------------------------------------------------------------------
Net investment income 4,726,162
- ---------------------------------------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS
Net realized loss on investments (206,620)
Net realized loss on futures contracts (65,836)
- ---------------------------------------------------------------------------------------------------------------
Net realized loss on investments (272,456)
Change in unrealized appreciation (depreciation)
of investments (881,659)
Net unrealized depreciation on interest-rate swap (243,075)
- ---------------------------------------------------------------------------------------------------------------
Net unrealized depreciation on investments (1,124,734)
- ---------------------------------------------------------------------------------------------------------------
Net realized and unrealized loss on investments (1,399,190)
- ---------------------------------------------------------------------------------------------------------------
Increase in net assets from operations $ 3,328,972
===============================================================================================================
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS.
12
<PAGE>
MENTOR INCOME FUND, INC.
STATEMENT OF CASH FLOWS
SIX MONTHS ENDED APRIL 30, 1997 (UNAUDITED)
<TABLE>
<CAPTION>
<S> <C>
- ---------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES
Interest received $ 6,569,887
Interest paid (994,894)
Operating expenses paid (645,176)
- ---------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 4,929,817
- ---------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of portfolio securities (71,592,359)
Proceeds from disposition of portfolio securities 54,657,724
Variation margin on futures and options contracts (68,258)
- ---------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (17,002,893)
- ---------------------------------------------------------------------------------------------------------------
Net cash used by operating and investing activities (12,073,076)
- ---------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Net proceeds from reverse repurchase agreements 17,000,000
Net proceeds from dollar roll transactions 43,332
Cash dividends paid (4,970,256)
- ---------------------------------------------------------------------------------------------------------------
Net cash used in financing activities 12,073,076
- ---------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash -
Cash at beginning of period -
- ---------------------------------------------------------------------------------------------------------------
Cash at end of period $ -
===============================================================================================================
RECONCILIATION OF INCREASE IN NET ASSETS FROM OPERATIONS
TO NET CASH USED BY OPERATING AND INVESTING ACTIVITIES
Increase in net assets from operations $ 3,328,972
Increase in investments-net (3,730,184)
Decrease in receivable for investment securities sold 3,030,873
Decrease in interest receivable 108,639
Decrease in other assets 50,577
Decrease in payable for investments purchased (16,356,159)
Increase in accrued expenses and other liabilities 95,016
Net realized loss 274,456
Net unrealized depreciation 1,124,734
- ---------------------------------------------------------------------------------------------------------------
Net cash used by operating and investing activities $(12,073,076)
===============================================================================================================
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS.
13
<PAGE>
MENTOR INCOME FUND, INC.
STATEMENTS OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
Six Months Ended
April 30, 1997 Year Ended
(Unaudited) October 31, 1996
<S> <C> <C>
- -----------------------------------------------------------------------------------------------------------
DECREASE IN NET ASSETS
OPERATIONS
Net investment income $ 4,726,162 $ 9,793,912
Net realized loss on investments (272,456) (1,861,525)
Change in unrealized appreciation
(depreciation) of investments (1,124,734) 215,494
- -----------------------------------------------------------------------------------------------------------
Increase in net assets from operations 3,328,972 8,147,881
- -----------------------------------------------------------------------------------------------------------
DISTRIBUTIONS TO SHAREHOLDERS
Net investment income (4,967,082) (9,926,059)
- -----------------------------------------------------------------------------------------------------------
Decrease in net assets (1,638,110) (1,778,178)
NET ASSETS
Beginning of period 118,838,393 120,616,571
- -----------------------------------------------------------------------------------------------------------
End of period $117,200,283 $118,838,393
===========================================================================================================
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS.
14
<PAGE>
MENTOR INCOME FUND, INC.
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
Six Months
Ended Year Year
4/30/97 Ended Ended
(Unaudited) 10/31/96 10/31/95
<S> <C> <C> <C>
- -------------------------------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
NET ASSET VALUE, BEGINNING OF PERIOD $ 10.06 $ 10.21 $ 9.60
INCOME FROM INVESTMENT OPERATIONS
Net investment income 0.40 0.83 0.80
Net realized and unrealized gain (loss) on investments (0.12) (0.14) 0.70
- -------------------------------------------------------------------------------------------------------------
Total from investment operations 0.28 0.69 1.50
LESS DISTRIBUTIONS AND CAPITALIZED EXPENSES
Distributions from net investment income (0.42) (0.84) (0.89)
Initial and equity rights offering expenses
charged to capital - - -
- -------------------------------------------------------------------------------------------------------------
Total distributions and capitalized expenses (0.42) (0.84) (0.89)
- -------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD $ 9.92 $ 10.06 $ 10.21
- -------------------------------------------------------------------------------------------------------------
Per share market price, end of period $ 9.25 $ 9.00 $ 8.88
Total Investment Return
Based on market price 7.56% 11.24% 18.83%
Based on net asset value 3.20% 8.08% 17.48%
- -------------------------------------------------------------------------------------------------------------
RATIOS/SUPPLEMENTAL DATA
Net assets, end of period (in thousands) $ 117,200 $118,838 $120,617
Ratio of gross investment income to average net assets 10.84%(a) 11.12% 10.58%
Ratio of operating expenses to average net assets 1.13%(a) 1.13% 1.09%
Ratio of total expenses to average net assets 2.83%(a) 2.84% 2.39%
Ratio of net investment income to average net assets 8.01%(a) 8.28% 8.19%
Portfolio turnover rate 36.15% 189.71% 153.92%
Shares outstanding at end of period (in thousands) 11,818 11,818 11,818
=============================================================================================================
</TABLE>
15
<PAGE>
MENTOR INCOME FUND, INC.
FINANCIAL HIGHLIGHTS (CONTINUED)
<TABLE>
<CAPTION>
Year Year Year
Ended Ended Ended
10/31/94 10/31/93 10/31/92
<S> <C> <C> <C>
- ------------------------------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
NET ASSET VALUE, BEGINNING OF PERIOD $ 11.29 $ 11.06 $ 11.57
INCOME FROM INVESTMENT OPERATIONS
Net investment income 1.02 1.05 1.23
Net realized and unrealized gain (loss) on investments (1.75) 0.23 (0.46)
- ------------------------------------------------------------------------------------------------------------
Total from investment operations (0.73) 1.28 0.77
LESS DISTRIBUTIONS AND CAPITALIZED EXPENSES
Distributions from net investment income (0.96) (1.05) (1.26)
Initial and equity rights offering expenses
charged to capital - - (0.02)
- ------------------------------------------------------------------------------------------------------------
Total distributions and capitalized expenses (0.96) (1.05) (1.28)
- ------------------------------------------------------------------------------------------------------------
NET ASSET VALUE, END OF PERIOD $ 9.60 $ 11.29 $ 11.06
- ------------------------------------------------------------------------------------------------------------
Per share market price, end of period $ 8.25 $ 10.50 $ 12.38
Total Investment Return
Based on market price (13.32%) (6.91%) 14.62%
Based on net asset value (6.19%) 12.00% 6.24%
- ------------------------------------------------------------------------------------------------------------
RATIOS/SUPPLEMENTAL DATA
Net assets, end of period (in thousands) $113,401 $133,077 $126,947
Ratio of gross investment income to average net assets 12.18% 11.79% 12.84%
Ratio of operating expenses to average net assets 1.22% 1.09% 1.13%
Ratio of total expenses to average net assets 2.38% 2.48% 2.04%
Ratio of net investment income to average net assets 9.80% 9.31% 10.80%
Portfolio turnover rate 173.71% 269.16% 219.43%
Shares outstanding at end of period (in thousands) 11,818 11,786 11,478
============================================================================================================
</TABLE>
(a) Annualized.
SEE NOTES TO FINANCIAL STATEMENTS.
16
<PAGE>
MENTOR INCOME FUND, INC.
NOTES TO FINANCIAL STATEMENTS
APRIL 30, 1997 (UNAUDITED)
NOTE 1: ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
Mentor Income Fund, Inc. (the "Fund") is registered under the Investment Company
Act of 1940 as a diversified, closed-end management investment company.
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of the financial statements. The
policies are in conformity with generally accepted accounting principles which
require management to make estimates and assumptions that affect amounts
reported therein. Although actual results could differ from these estimates, any
such differences are expected to be immaterial to the net assets of the Fund.
Security Valuation
The Fund values mortgage-backed securities, mortgage-related, asset-backed and
other debt-related securities on the basis of valuations provided by dealers
approved by the Fund's Board of Directors. In determining value, the dealers use
information with respect to transactions in such securities, various
relationships between securities, and yield to maturity. Exchange-traded options
are valued at the closing sales price or the average of the quoted bid and asked
price. Any securities or other assets for which current market quotations are
not readily available are valued at their fair value as determined in good faith
under procedures established by and under the general supervision and
responsibility of the Fund's Board of Directors.
Repurchase Agreements
All repurchase agreements are fully collateralized by U.S. Government Agency
securities and such collateral is in the possession of the Fund's custodian. To
the extent that any repurchase agreement exceeds one business day, the value of
the collateral is marked-to-market on a daily basis to ensure the adequacy of
the collateral.
Options Written or Purchased
When the Fund writes or purchases an option, an amount equal to the premium
received or paid by the Fund is recorded as a liability or an asset and is
subsequently adjusted to the current market value of the option sold or
purchased. The difference
17
<PAGE>
MENTOR INCOME FUND, INC.
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
between the premium and the amount paid or received on effecting a closing
purchase or sale transaction, including brokerage commissions, is treated as a
realized gain or loss. If an option is exercised, the premium paid or received
is added to the proceeds from the sale or cost of the purchase of the underlying
security in determining whether the Fund has realized a gain or loss on
investment transactions.
Futures Contracts
A futures contract is an agreement between two parties to buy and sell a
financial instrument for a set price on a future date. Initial margin deposits
are made upon entering into futures contracts and can be either cash or
securities. During the period the futures contract is open, changes in the value
of the contract are recognized as unrealized gains or losses by marking to
market on a daily basis to reflect the market value of the contract at the end
of each day's trading. Variation margin payments are made or received, depending
upon whether unrealized gains or losses are incurred. When the contract is
closed, the Fund records a realized gain or loss equal to the difference between
the proceeds from (or cost of) the closing transaction and the Fund's basis in
the contract. The risks of entering into futures contracts arise from the
movements in the value of the investments and interest rates. At April 30, 1997,
the Fund had no open futures contracts.
Dollar Rolls
A dollar roll is a simultaneous agreement to sell a security held in the Fund's
portfolio with a purchase of a similar security at a future date at an
agreed-upon price. The difference between the sale and repurchase price is
recorded as interest income to the Fund. Dollar rolls are accounted for as
financing transactions by the Fund and no gain or loss is recognized, provided
that the sale and subsequent repurchase involve substantially identical
securities. If the counterparty to the transaction is rendered insolvent, the
ultimate realization of the securities to be repurchased by the Fund may be
delayed or limited.
Short Sales
A short sale is a transaction in which the Fund sells a security it does not own
in
18
<PAGE>
MENTOR INCOME FUND, INC.
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
anticipation that the market price of the security will decline. If the price of
the security sold short increases between the time of the short sale and the
time the Fund must deliver the security, the Fund realizes a loss.
Interest-Rate Swap
An interest-rate swap is a contract between two parties on a specified principal
amount (referred to as the notional principal) for a specified period. In the
most common instance, a swap involves the exchange of streams of variable and
fixed-rate interest payments. During the term of the swap, changes in the value
of the swap are recognized as unrealized gains and losses by marking-to-market
to reflect the market value of the swap. When the swap is terminated, the Fund
will record a realized gain or loss. As of April 30, 1997, the Fund had entered
into the following interest rate swap agreements. In each agreement, the Fund
has exchanged fixed rates for floating rates. The terms vary among the contracts
but provide for the interest rate differential to be settled on a semi-annual
basis. During the six months period ended April 30, 1997, no cash payments were
received in connection with the interest rate swap agreement, however, the net
interest receivable accrued at the end of the period was $67,055.
<TABLE>
<CAPTION>
Rate Paid Rate Received Net
Swap Notional by the Fund by the Fund Floating Termination Unrealized
Counter Party Principal at 4/30/97 at 4/30/97 Rate Index Date Loss
<S> <C> <C> <C> <C> <C> <C>
- ------------------------------------------------------------------------------------------------------------------
Lehman Brothers 3-Month Canadian
$8,500,000 3.11% 6.39% Bankers Acceptance 2/28/07 $(167,744)
Lehman Brothers 3-Month Canadian
8,500,000 3.15% 6.60% Bankers Acceptance 3/7/07 (75,331)
----------
$(243,075)
</TABLE>
Interest-Rate Cap
An interest-rate cap is similar to an interest-rate swap, except that one party
agrees to pay a fee, while the other party pays the excess, if any, of a
floating rate over a specified fixed rate. No collateral is provided by the
counterparty to the transaction and as such the Fund is exposed to credit risk
in the event of non-
19
<PAGE>
MENTOR INCOME FUND, INC.
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
performance by the other party to the interest-rate cap.
Residual Interests
A derivative security is any investment that derives its value from an
underlying security, asset, or market index. The Fund invests in mortgage
security residual interest ("residuals") which are considered derivative
securities. The Fund's investment in residuals has been primarily in securities
issued by proprietary mortgage trusts. While these entities have been highly
leveraged, often having indebtedness of up to 95% of their total value, the Fund
has not incurred any indebtedness in the course of making these residual
investments; nor have the Fund's assets been pledged to secure the indebtedness
of the issuing structure or the Fund's investment in the residuals. In
consideration of the risk associated with investment in residual securities, it
is the Fund's policy to limit its exposure at the time of purchase to no more
than 20% of its total assets. The Fund will continue to invest in residual
securities because, in the opinion of the Investment Manager, these investments
can play a key role in fulfilling the Fund's objective of achieving high monthly
income through providing a means of economic leverage.
Security Transactions and Investment Income
Security transactions are recorded on the trade date. Realized gains and losses
from security transactions are reported on an identified-cost basis. Income and
expenses are recorded on the accrual basis with interest income on
principal-only securities, interest-only securities and residual interests
determined using the effective-yield method based upon estimates of future net
cash flows. Estimated effective yields are periodically updated consistent with
changes in interest rates and prepayment assumptions. Premiums and discounts on
mortgage securities and collateralized mortgage obligations are amortized into
interest income using the effective-yield method.
Federal Income Taxes
No provision for federal income or excise taxes is required since the Fund
intends to continue to qualify as a regulated
20
<PAGE>
MENTOR INCOME FUND, INC.
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
investment company and distribute all of its taxable income to its shareholders.
Reclassification of Capital Accounts
Distributions are determined in accordance with income tax regulations which may
differ from generally accepted accounting principles. Accordingly, periodic
reclassifications are made within the Fund's capital accounts to reflect income
and gains available for distribution under income tax regulations.
Distributions to Shareholders
The Fund declares and distributes dividends monthly from net investment income
and annually from net realized capital gains after offsetting capital-loss
carryovers. Reinvestment of income distribution is a non-cash transaction.
NOTE 2: INVESTMENT TRANSACTIONS
Purchases and sales of investment securities, other than short-term investments,
options, caps, and futures transactions, aggregated $68,311,213 and $56,630,238
respectively, for the six months ended April 30, 1997. At April 30, 1997, the
cost of securities for federal income-tax purposes was $152,494,873 and net
unrealized appreciation aggregated $617,940 of which $2,769,749 related to
appreciated securities and $2,151,809 related to depreciated securities. The
Fund had an unused realized capital loss carryforward for income-tax purposes of
$14,376,213 at October 31, 1996, of which $721,487 expires in 2000, $11,955,561
expires in 2002 and $1,699,165 expires in 2004.
NOTE 3: INVESTMENT MANAGEMENT AND ADMINISTRATION AGREEMENTS
The Mentor Income Fund has entered into an Investment Advisory and Management
Agreement with Mentor Investment Advisors, LLC ("Mentor Advisors"), a
wholly-owned subsidiary of Mentor Investment Group, LLC, which is in turn a
subsidiary of Wheat First Butcher Singer, Inc. EVEREN Capital Corporation has a
20% ownership in Mentor Investment Group. Pursuant to this agreement, the Fund
pays Mentor Advisors a monthly management fee at the annual rate of 0.65% of
average daily net assets. Mentor Investment Group provides administrative
personnel and services to the Fund at an
21
<PAGE>
MENTOR INCOME FUND, INC.
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
annual rate of 0.10% of the Fund's average daily net assets.
NOTE 4: BORROWINGS
The Fund enters into reverse repurchase agreements with qualified third-party
broker-dealers as determined by and under the direction of the Fund's Board of
Directors. Interest on the value of reverse repurchase agreements issued and
outstanding is based upon competitive market rates at the time of issuance. At
the time the Fund enters into a reverse repurchase agreement, it will establish
and maintain a segregated account with the lender containing securities having a
value not less than the repurchase price (including accrued interest). If the
counterparty to the transaction is rendered insolvent, the ultimate realization
of the securities to be repurchased by the Fund may be delayed or limited.
The average daily balance of reverse repurchase agreements outstanding during
the six months ended April 30, 1997 was approximately $38,471,058 or $3.26 per
share based on average shares outstanding of 11,817,776 during the period at a
weighted average interest rate of 5.49%. The maximum amount of borrowings
outstanding at any week-end during the period was $47,021,150 (including accrued
interest) as of February 24, 1997, at a weighted average interest rate of 5.40%,
and was 26.93% of total assets. The rate on the April 30, 1997, borrowing was
5.55% and it matures on May 5, 1997.
NOTE 5: CAPITAL
The Fund has authorized 200,000,000 shares of $.01 par value common stock. At
April 30, 1997, there were 11,817,776 shares issued and outstanding, including,
1,151,463 shares issued under the Fund's reinvestment plan and 666,313 from an
equity rights offering which occurred from December 23, 1991 to January 31,
1992. During the six months ended April 30, 1997, no shares were issued.
22
<PAGE>
MENTOR INCOME FUND, INC.
NOTES TO FINANCIAL STATEMENTS
(CONTINUED)
NOTE 6: QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
Shown in thousands of dollars and per common share:
<TABLE>
<CAPTION>
Increase
(Decrease)
Investment Net Investment Net Gain (Loss) in Net Assets
Income Income on Investments from Operations
---------------- ---------------- ------------------ ------------------
Per Per Per Per
Quarter End Total Share Total Share Total Share Total Share
- ------------------------ ------ ----- ------ ----- ------- ------ ------- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
1997
April 30, 1997 3,303 0.28 2,423 0.21 11 0.00 2,434 0.21
January 31, 1997 3,096 0.26 2,303 0.19 (1,410) (0.12) 893 0.07
1996
October 31, 1996 $3,074 $0.30 $2,405 $0.21 $ 3,495 $ 0.30 $ 5,900 $ 0.51
July 31, 1996 3,278 0.28 2,486 0.21 (1,545) (0.13) 941 0.08
April 30, 1996 3,596 0.30 2,530 0.21 (6,726) (0.57) (4,196) (0.36)
January 31, 1996 3,205 0.27 2,373 0.20 3,130 0.26 5,503 0.46
</TABLE>
23
<PAGE>
MENTOR INCOME FUND, INC.
DIVIDEND REINVESTMENT PLAN
- --------------------------------------------------------------------------------
A Dividend Reinvestment Plan (the "Plan") is provided to shareholders of the
Fund pursuant to which they have all distributions of dividends and capital
gains automatically reinvested by State Street Bank and Trust Company (the "Plan
Agent") in additional fund shares. Shareholders who elect not to participate in
the Plan will receive all distributions in cash paid by check mailed directly to
the shareholder of record (or if the shares are held in street or other nominee
name, then to the nominee) by the Fund's Custodian, as Dividend Disbursing
Agent.
The Plan Agent serves as Agent for shareholders in administering the Plan. When
the Fund declares a dividend or determines to make a capital gain distribution,
nonparticipants in the Plan will receive cash. If you participate in the Plan,
you will receive the equivalent in shares of the Fund as follows: (1) if the
market price of the shares on the payment date of the dividend or distribution
is equal to or exceeds the Fund's net asset value, participants will be issued
Fund shares at the higher of net asset value or 95% of the market price; or (2)
if the market price is lower than net asset value, the Plan Agent will receive
the dividend or capital gain distributions in cash and apply them to buy Fund
shares on your behalf in the open market, on the New York Stock Exchange or
elsewhere, for your account. If the market price exceeds the net asset value of
the Fund's shares before the Plan Agent has completed its purchases, the average
per-share purchase price paid by the Plan Agent may exceed the net asset value
of the Fund's shares. This would result in the acquisition of fewer shares than
if the dividend or capital gain distributions had been paid in shares issued by
the Fund.
Participants in the Plan may withdraw from the Plan upon written notice (not
less than 10 business days prior to any dividend record date) to the Plan Agent.
When a participant withdraws from the Plan or upon termination of the Plan by
the Fund, certificates for whole shares credited to his or her account under the
Plan will be issued and a cash payment will be made for any fraction of a share
credited to such account. In lieu of receiving a certificate, you may request
the Plan Agent to sell part or all of your reinvested shares held by the Agent
at market price and remit the proceeds to you, net of any brokerage commissions.
A $2.50 fee is charged by the Plan Agent upon any cash withdrawal or
termination. The Plan may be terminated by the Agent of the Fund upon written
notice mailed to each participant at least 90 days prior to any record date for
the payment of any dividend or capital gain distribution by the Fund.
There is no charge to participants for reinvesting dividends or capital gain
distributions, except for certain brokerage commissions, as described below. The
Plan Agent's fees for the handling of the reinvestment of dividends and
distributions are paid by the Fund. There are no brokerage commissions charged
with respect to shares issued directly by the Fund. However, each participant
will pay a pro-rata share of brokerage commissions incurred with respect to the
Plan Agent's open-market purchases in connection with the reinvestment of
dividends and distributions. It is anticipated that these commissions will be
lower than those would normally incur individually, since these shares are
purchased in large blocks by the Plan Agent.
The automatic reinvestment of dividends and distributions will not relieve
participants of any federal income tax that may be payable on such dividends or
distributions.
If you hold shares of the Fund in your own name, you are an automatic
participant in this Plan unless you elect to withdraw. If your shares are held
in the name of a brokerage firm, bank, or other nominee, you should contact your
nominee to see if it will participate in the Plan on your behalf. If your
nominee is able to participate in the Plan, dividend and capital gain
distributions will be credited to your account. If your nominee is unable to
participate in the Plan on your behalf, you may want to request that your shares
be re-registered in your name so that you can participate in the Plan. If your
shares are registered in your name, and you desire to receive your dividends and
capital gain distributions in cash, you must notify the Plan Agent, State Street
Bank and Trust Company, by calling 1-800-426-5523.
24
<PAGE>
SHAREHOLDER INFORMATION
INVESTMENT MANAGER
CORPORATE OFFICE
Mentor Investment Advisors, LLC
Riverfront Plaza, 901 East Byrd Street
Richmond, Virginia 23219
INVESTOR RELATIONS OFFICE
1-800-382-0016
OPERATIONS OFFICE
Riverfront Plaza, 901 East Byrd Street
Richmond, Virginia 23219
TRANSFER AGENT AND REGISTRAR
State Street Bank & Trust Company
Post Office Box 366
Boston, Massachusetts 02101
(800) 426-5523
CUSTODIAN
Investor Fiduciary Trust Company
811 Main - 11th Floor
Kansas City, Missouri 64105
INDEPENDENT AUDITORS
KPMG Peat Marwick LLP
99 High Street
Boston, Massachussetts 02110
LEGAL COUNSEL
Dechert Price & Rhoads
1500 K Street, N.W.
Washington, D.C. 20005
DIRECTORS AND OFFICERS
DIRECTORS
Weston E. Edwards, CHAIRMAN
Jerry R. Barrentine
Daniel J. Ludeman
J. Garnett Nelson
OFFICERS
Paul F. Costello, PRESIDENT
Terry L. Perkins, TREASURER
John M. Ivan, SECRETARY
Michael A. Wade, ASSISTANT TREASURER
Sander M. Bieber, ASSISTANT SECRETARY
Joseph R. Fleming, ASSISTANT SECRETARY
MENTOR INCOME FUND, INC.
---------------------------
SEMI-ANNUAL REPORT
---------------------------
April 30, 1997
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