ANNUAL REPORT
================================================================================
1996
1996
1996
1996
1996
Smith Barney
Principal Return
Fund
Zeros Plus Emerging
Growth
Series 2000
-------------------
November 30, 1996
[LOGO] Smith Barney Mutual Funds
Investing for your future.
Every day.
<PAGE>
- --------------------------------------
Zeros Plus Emerging Growth Series 2000
- --------------------------------------
Dear Shareholder:
We are pleased to provide you with the annual report for the Smith Barney
Principal Return Fund -- Zeros Plus Emerging Growth Series 2000 ("Fund") for the
year ended November 30, 1996. For your convenience, we have summarized the
Fund's investment strategy over this time and discussed some of the Fund's
holdings in greater detail. A comprehensive summary of performance and current
holdings can be found in the appropriate sections of this report.
Fund Performance Update
The Fund seeks to return the principal amount of each shareholder's original
investment (including any sales charge paid) on or about February 28, 2000 by
investing a portion of its assets in zero coupon securities. In addition, the
Fund, to the extent consistent with its objective, seeks to provide long-term
appreciation of capital by investing the balance of its assets primarily in
equity securities issued by emerging growth companies. These emerging growth
companies are small- to medium-sized companies that the Fund's managers believe
have significant profit potential over the long term.
For the one-year and six-month periods ended November 30, 1996, the Fund had a
total return of 1.55% and -2.21%, respectively. In addition, during the year the
Fund paid income dividends of $0.57 per share.
For the one-year and six-month periods ended November 30, 1996, the stock
market, as measured by the Standard & Poor's 500 Composite Index (S&P 500),* had
a total return of 27.85% and 14.37%, respectively. Over the same time periods,
the bond market, as measured by the Lehman Government/ Corporate Bond Index*,
generated a total return of 5.60% and 7.47%.
While large capitalization stock market indices such as the S&P 500 recorded
gains in the most recent six-month period, small- and middle-capitalization
indices such as the Russell 2000 (a common benchmark for small capitalization
stocks) did not partake in this exuberance and finished the reporting period
lower. In the most recent six-month period, the NASDAQ Industrial Index (an
index of over-the-counter stocks) declined by 5.7%. That decline tends to
understate the severity of the weakness that beset many small company stocks,
- ----------
*The Standard & Poor's 500 Stock Index is an unmanaged capitalization-weighted
index of 500 widely held common stocks. The Lehman Government/Corporate Bond
Index is a combination of publicly issued intermediate- and long-term U.S.
government bonds and corporate bonds.
1
<PAGE>
the types of companies that have a meaningful representation in the Fund. Since
May, large company over-the counter stocks have done particularly well. If the
largest 50 and 100 company stocks had been excluded, the NASDAQ Industrial Index
would have declined 11.0% and 13.8% respectively for the six months ended
November 30, 1996. The value of emerging company growth stocks held in the Fund
was adversely affected by the 20% decline in the NASDAQ from its high on June 6,
1996 to its low on July 16, 1996.
Weakness in many biotechnology stocks also had a negative impact on Fund
performance as many investors increasingly shifted their assets into
larger-capitalization health care company stocks despite the generally positive
long-term outlook for the biotechnology sector. For example, Genzyme and Chiron,
two of the Fund's key holdings, performed relatively poorly despite stock splits
declared by both companies, which is usually a good indication of management's
confidence in the future.
Market Overview
During the reporting period, the perception of many investors regarding the
strength of the U.S. economy changed markedly. Through the early summer, the
U.S. economy remained strong, which confounded the expectations of many
analysts. Although the annual rate of inflation was subdued based on U.S.
economic statistics, strong growth in non-farm payrolls as well as hourly wage
increases caused inflationary fears to rise. These fears culminated with the
sharp increase in long-term interest rates during the summer months, which
helped precipitate the relatively sharp stock market sell-off in the summer. In
addition, many investors believed that the Federal Reserve Board (the "Fed")
would need to take action to slow the U.S. economy and help prevent any pick-up
in the annual rate of inflation by raising short-term interest rates, an
approach which worked well for the Fed in 1994 and resulted in a "soft landing"
for the economy.
However, the fears of many investors proved unfounded as the pace of U.S.
economic growth moderated later on in the summer and fall, which in turn led to
a decline in long-term interest rates and a more optimistic tone in the stock
market. In our opinion, historically high consumer debt levels, combined with
rising credit card delinquencies, should temper any overheating in the U.S.
economy and should reduce the need for the Fed to tighten monetary policy in the
foreseeable future.
2
<PAGE>
Investment Strategy and Market Outlook
In our opinion, the difference in recent performance between small-company and
larger-company stocks discussed in this letter has reached unsustainable levels.
Many of the stocks of the largest U.S. companies are now selling at
price/earnings multiples in excess of sustainable growth rates or fair market
values whereas smaller-company stocks that are represented in the Russell 2000
we believe are now selling at attractive price levels and are extremely
attractive compared to larger-company stocks.
For example, companies such as Quantum Corporation, California Microwave and
Excel Technologies are currently selling at price/earnings multiples that are
below the market average based on future twelve-month earnings forecasts. In
addition, these stocks are selling at discounts to their annualized revenues. In
our view, a company's annualized revenues are often a good benchmark of value.
Gensia and IDEC Pharmaceuticals -- two of the younger health care companies the
Fund owns -- have reported significant progress. Yet the stock prices of both
companies continued to lag during the reporting period. Gensia announced a
proposed merger agreement that should more than double the company's revenue
base and increase its profitability. IDEC Pharmaceuticals recently reported
favorable clinical trials for their rheumatoid arthritis product developed in
conjunction with SmithKline Beecham and their non-Hodgkins lymphoma product
developed with Genentech.
In closing, we expect the coming months to see a marked improvement in the
performance of smaller-company stocks and we thank you for your continued
confidence in our investment management approach.
Sincerely,
/s/ Heath B. McLendon /s/ Richard A. Freeman
Heath B. McLendon Richard A. Freeman
Chairman and Vice President and
Chief Executive Officer Investment Officer
December 16, 1996
3
<PAGE>
- --------------------------------------------------------------------------------
Historical Performance
- --------------------------------------------------------------------------------
Net Asset Value
-------------------
Beginning End Income Capital Gain Total
Year Ended of Year of Year Dividends Distributions Returns(1)
================================================================================
11/30/96 $9.28 $8.63 $0.57 $0.22 1.55%
- --------------------------------------------------------------------------------
11/30/95 8.15 9.28 0.27 0.35 22.17
- --------------------------------------------------------------------------------
11/30/94 9.00 8.15 0.34 0.50 (0.20)
- --------------------------------------------------------------------------------
11/30/93 8.16 9.00 0.29 0.09 15.72
- --------------------------------------------------------------------------------
11/30/92 7.57 8.16 0.10 0.00 9.15
- --------------------------------------------------------------------------------
8/30/91*-11/30/91 7.60 7.57 0.00 0.00 (0.39)+
================================================================================
Total $1.57 $1.16
================================================================================
It is the Fund's policy to distribute dividends and capital gains, if any,
annually.
- --------------------------------------------------------------------------------
Average Annual Total Return
- --------------------------------------------------------------------------------
Without With
Sales Charge(1) Sales Charge(2)
================================================================================
Year Ended 11/30/96 1.55% (3.54)%
- --------------------------------------------------------------------------------
Five Years Ended 11/30/96 9.36 8.24
- --------------------------------------------------------------------------------
8/30/91* through 11/30/96 8.80 7.74
================================================================================
- --------------------------------------------------------------------------------
Cumulative Total Return
- --------------------------------------------------------------------------------
Without
Sales Charge(1)
================================================================================
8/30/91* through 11/30/96 55.78%
================================================================================
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charge.
(2) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, shares reflect the deduction of the
maximum initial sales charge of 5.00%.
* Commencement of operations.
+ Total return is not annualized, as it may not be representative of the
total return for the year.
4
<PAGE>
- --------------------------------------------------------------------------------
Historical Performance (unaudited)
- --------------------------------------------------------------------------------
[The following table was depicted as a line graph in the printed material.]
Growth of $10,000 Invested in Shares of the
Zeros Plus Emerging Growth Series 2000
vs. Value Line Composite Index and
Lehman Brothers Intermediate Term Government Bond Index+
- --------------------------------------------------------------------------------
August 1991 -- November 1996
Zeros Plus Value Line Lehman Bros.
Emerging Growth Composite Intermediate Term
Series 2000 Index Gov't. Bond Index
----------- ----- -----------------
8/30/91 9500 10000 10000
11/91 9463 9463 10406
11/92 10328 10600 11251
11/93 11952 11673 12279
11/94 11928 11180 12075
11/95 14573 13386 13728
11/30/96 14800 15316 14265
+ Hypothetical illustration of $10,000 invested in shares of the Zeros Plus
Emerging Growth Series 2000 from August 30, 1991 (commencement of
operations), assuming deduction of the maximum 5.00% sales charge at the
time of investment and reinvestment of dividends and capital gains, if any,
at net asset value through November 30, 1996. The Value Line Composite
Index, composed of approximately 1,700 stocks, is a geometric average of
the daily price percentage change in each stock covering both large and
small capitalized companies. The Lehman Brothers Intermediate Term
Government Bond Index is comprised of approximately 1,000 issues of U.S.
Government Treasury and Agency Securities. These indexes are unmanaged and
are not subject to the same management and trading expenses of a mutual
fund.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost. No adjustment
has been made for shareholder tax liability on dividends or capital gains.
5
<PAGE>
- --------------------------------------------------------------------------------
Portfolio Highlights (unaudited) November 30, 1996
- --------------------------------------------------------------------------------
[The following table was depicted as a pie graph in the printed material.]
Common Stock Industry Breakdown
(as a percentage of total common stocks)
Biotechnology 20.5
Capital Goods 11.0
Drug Delivery 2.7
Pharmaceuticals 21.6
Technology 30.3
Telecommunications 13.9
Top Ten Holdings
Percentage of
Total Investments
================================================================================
U.S. Treasury Strips 58.3%
Vertex Pharmaceuticals, Inc. 4.9
Tyco International Ltd. 4.6
Chiron Corp. 4.4
Quantum Corp. 4.0
Tech-Sym Corp. 4.0
Genzyme Corp. - General Division 3.5
C-Cor Electronics, Inc. 3.4
VLSI Technology, Inc. 3.4
IDEC Pharmaceuticals Corp. 2.8
================================================================================
6
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments November 30, 1996
- --------------------------------------------------------------------------------
SHARES SECURITY VALUE
================================================================================
COMMON STOCKS -- 41.7%
Biotechnology -- 8.6%
150,000 Chiron Corp.+ $ 2,906,250
100,000 Gensia Pharmaceuticals Inc.+ 462,500
100,000 Genzyme Corp. - General Division+ 2,275,000
- --------------------------------------------------------------------------------
5,643,750
- --------------------------------------------------------------------------------
Capital Goods -- 4.6%
55,000 Tyco International Ltd. 3,011,250
- --------------------------------------------------------------------------------
Drug Delivery -- 1.1%
100,000 Advanced Polymer Systems, Inc.+ 756,250
- --------------------------------------------------------------------------------
Pharmaceuticals -- 9.0%
23,000 Forest Laboratories Inc., Class A Shares+ 891,250
75,000 IDEC Pharmaceuticals Corp.+ 1,818,750
100,000 Vertex Pharmaceuticals, Inc.+ 3,225,000
- --------------------------------------------------------------------------------
5,935,000
- --------------------------------------------------------------------------------
Technology -- 12.6%
100,000 Excel Technology Inc.+ 825,000
99,000 Quantum Corp.+ 2,648,250
90,000 Tech-Sym Corp.+ 2,621,250
97,000 VLSI Technology, Inc.+ 2,231,000
- --------------------------------------------------------------------------------
8,325,500
- --------------------------------------------------------------------------------
Telecommunications -- 5.8%
104,500 California Microwave, Inc.+ 1,560,969
150,050 C-Cor Electronics, Inc.+ 2,250,750
- --------------------------------------------------------------------------------
3,811,719
- --------------------------------------------------------------------------------
TOTAL COMMON STOCKS
(Cost -- $15,029,720) 27,483,469
================================================================================
FACE
AMOUNT SECURITY VALUE
================================================================================
U.S. TREASURY STRIPS -- 58.3%
$46,000,000 U.S. Treasury Strips, zero coupon due 2/15/00
(Cost -- $35,710,085) 38,433,460
================================================================================
TOTAL INVESTMENTS -- 100%
(Cost -- $50,739,805*) $65,916,929
================================================================================
+ Non-income producing security.
* Aggregate cost for Federal income tax purposes is substantially the same.
See Notes to Financial Statements.
7
<PAGE>
- --------------------------------------------------------------------------------
Statement of Assets and Liabilities November 30, 1996
- --------------------------------------------------------------------------------
ASSETS:
Investments, at value (Cost -- $50,739,805) $ 65,916,929
- --------------------------------------------------------------------------------
LIABILITIES:
Payable to bank 337,483
Dividends payable 46,408
Payable for Fund shares purchased 25,551
Investment advisory fees payable 21,045
Administration fees payable 10,523
Distribution fees payable 3,572
Accrued expenses 40,270
- --------------------------------------------------------------------------------
Total Liabilities 484,852
- --------------------------------------------------------------------------------
Total Net Assets $65,432,077
================================================================================
NET ASSETS:
Par value of shares of beneficial interest $ 7,580
Capital paid in excess of par value 49,886,033
Overdistributed net investment income (46,408)
Accumulated net realized gain on security transactions 407,748
Net unrealized appreciation of investments 15,177,124
- --------------------------------------------------------------------------------
Total Net Assets $65,432,077
================================================================================
Shares Outstanding 7,579,650
- --------------------------------------------------------------------------------
Net Asset Value (and redemption price) $8.63
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
8
<PAGE>
- --------------------------------------------------------------------------------
Statement of Operations For the Year Ended November 30, 1996
- --------------------------------------------------------------------------------
INVESTMENT INCOME:
Interest $ 2,953,246
Dividends 12,000
- --------------------------------------------------------------------------------
Total Investment Income 2,965,246
- --------------------------------------------------------------------------------
EXPENSES:
Investment advisory fees (Note 2) 278,880
Distribution fees (Note 2) 174,300
Administration fees (Note 2) 139,440
Shareholder and system servicing fees 90,671
Audit and legal 22,900
Amortization of deferred organization costs 19,331
Shareholder communications 16,000
Registration fees 10,000
Trustees' fees 9,000
Custody 6,000
Other 7,428
- --------------------------------------------------------------------------------
Total Expenses 773,950
- --------------------------------------------------------------------------------
Net Investment Income 2,191,296
- --------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN (LOSS) ON
INVESTMENTS (NOTE 3):
Realized Gain From Security Transactions
(excluding short-term securities):
Proceeds from sales 13,257,977
Cost of securities sold 11,894,005
- --------------------------------------------------------------------------------
Net Realized Gain 1,363,972
- --------------------------------------------------------------------------------
Change in Net Unrealized Appreciation of Investments:
Beginning of year 17,841,129
End of year 15,177,124
- --------------------------------------------------------------------------------
Decrease in Net Unrealized Appreciation (2,664,005)
- --------------------------------------------------------------------------------
Net Loss on Investments (1,300,033)
- --------------------------------------------------------------------------------
Increase in Net Assets From Operations $ 891,263
================================================================================
See Notes to Financial Statements.
9
<PAGE>
- --------------------------------------------------------------------------------
Statements of Changes in Net Assets For the Years Ended November 30,
- --------------------------------------------------------------------------------
1996 1995
================================================================================
OPERATIONS:
Net investment income $ 2,191,296 $ 2,341,528
Net realized gain 1,363,972 4,894,552
Increase (decrease) in net unrealized
appreciation (2,664,005) 7,803,978
- --------------------------------------------------------------------------------
Increase in Net Assets From Operations 891,263 15,040,058
- --------------------------------------------------------------------------------
DISTRIBUTION TO SHAREHOLDERS FROM:
Net investment income (4,363,626) (2,464,055)
Net realized gains (1,632,152) (2,759,709)
- --------------------------------------------------------------------------------
Decrease in Net Assets From
Distributions to Shareholders (5,995,778) (5,223,764)
- --------------------------------------------------------------------------------
FUND SHARE TRANSACTIONS (NOTE 5):
Net asset value of shares issued for
reinvestment of dividends 5,862,983 5,123,737
Cost of shares reacquired (11,889,570) (13,127,965)
- --------------------------------------------------------------------------------
Decrease in Net Assets From
Fund Share Transactions (6,026,587) (8,004,228)
- --------------------------------------------------------------------------------
Increase (Decrease) in Net Assets (11,131,102) 1,812,066
NET ASSETS:
Beginning of year 76,563,179 74,751,113
- --------------------------------------------------------------------------------
End of year* $ 65,432,077 $ 76,563,179
================================================================================
* Includes undistributed (overdistributed)
net investment income of: $ (46,408) $ 2,125,922
================================================================================
See Notes to Financial Statements.
10
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements
- --------------------------------------------------------------------------------
1. SIGNIFICANT ACCOUNTING POLICIES
The Zeros Plus Emerging Growth Series 2000 ("Fund") is a separate
investment fund of the Smith Barney Principal Return Fund ( "Trust"). The Trust,
a Massachusetts business trust, is registered under the Investment Company Act
of 1940, as amended, as a diversified, open-end management investment company.
Shares of the Fund are not currently being offered for sale to new investors.
The Trust consists of this Fund and two other funds: the Zeros and Appreciation
Series 1998 and the Security and Growth Fund. The financial statements and
financial highlights for the other funds are presented in separate annual
reports.
The significant accounting policies consistently followed by the Fund
are:(a) security transactions are accounted for on the trade date; (b)
securities traded on a national securities exchange are valued at the last sale
price on that exchange or, if there were no sales, at the current quoted bid
price; over-the-counter securities and listed securities are valued at the bid
price at the close of business on each day; U.S. Government securities (other
than short-term securities) are valued at the quoted bid price in the
over-the-counter market; investment in securities for which market quotations
are not available are valued at fair value as determined by the Board of
Trustees; (c) securities maturing within 60 days are valued at cost plus
accreted discount, or minus amortized premium, which approximates value; (d)
interest income is recorded on an accrual basis and dividend income is recorded
on the ex-dividend date; (e) the accounting records of the Fund are maintained
in U.S. dollars. All assets and liabilities denominated in foreign currencies
are translated into U.S. dollars based on the rate of exchange of such
currencies against U.S. dollars on the date of valuation. Purchases and sales of
securities, and income and expenses are translated at the rate of exchange
quoted on the respective date that such transactions are recorded. Differences
between income and expense amounts recorded and collected or paid are adjusted
when reported by the custodian bank; (f) gains or losses on the sale of
securities are calculated by using the specific identification method; (g)
dividends and distributions to shareholders are recorded on the ex-dividend
date; (h) expenses are charged to the Fund; (i) the Fund intends to comply with
the applicable provisions of the Internal Revenue Code of 1986, as amended,
pertaining to regulated investment companies and to make distributions of
taxable income sufficient to relieve it from substantially all Federal income
and excise taxes; and (j) estimates and assumptions are required to be made
regarding assets, liabilities and changes in net assets resulting from
operations when financial statements are prepared. Changes in the economic
environment, financial markets and any other parameters used in determining
these estimates could cause actual results to differ.
11
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
In addition, organization costs have been deferred and amortized on a
straight line basis over a five year period, beginning with the commencement of
the Fund's operations in August 1991. As of November 30, 1996, the amortization
of the deferred organization costs had been completed.
2. INVESTMENT ADVISORY AGREEMENT, ADMINISTRATION
AGREEMENT AND OTHER TRANSACTIONS
Smith Barney Mutual Funds Management Inc. ("SBMFM"), a subsidiary of Smith
Barney Holdings Inc. ("SBH"), acts as investment adviser of the Fund. The Fund
pays SBMFM an investment advisory fee calculated at an annual rate of 0.40% of
the average daily net assets. SBMFM also acts as the Fund's administrator for
which the Fund pays a fee calculated at an annual rate of 0.20% of the average
daily net assets. These fees are calculated daily and paid monthly.
Pursant to a Distribution Plan, the Fund pays Smith Barney Inc. ("SB"),
another subsidiary of SBH, a service fee calculated at an annual rate of 0.25%
of the average daily net assets.
All officers and one Trustee of the Trust are employees of SB.
3. INVESTMENTS
During the year ended November 30, 1996, the aggregate cost of purchases
and proceeds from sales of investments (including maturities, but excluding
short-term securities) were as follows:
================================================================================
Purchases $ 300,000
- --------------------------------------------------------------------------------
Sales 13,257,977
================================================================================
At November 30, 1996, the aggregate gross unrealized appreciation and
depreciation of investments were as follows:
================================================================================
Gross unrealized appreciation $15,671,740*
Gross unrealized depreciation (494,616)*
- --------------------------------------------------------------------------------
Net unrealized appreciation $15,177,124*
================================================================================
* Substantially the same for Federal income tax purposes.
12
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
4. REPURCHASE AGREEMENTS
The Fund purchases (and its custodian takes possession of) U.S. Government
securities from banks and securities dealers subject to agreements to resell the
securities to the sellers at a future date (generally, the next business day) at
an agreed-upon higher repurchase price. The Fund requires continual maintenance
of the market value of the collateral in amounts at least equal to the
repurchase price.
The Fund had no repurchase agreement activity during the year.
5. SHARES OF BENEFICIAL INTEREST
At November 30, 1996, the Fund had an unlimited number of shares of
beneficial interest authorized with a par value of $0.001 per share. The Fund,
the Zeros and Appreciation Series 1998 and the Security and Growth Fund each
constitutes a sub-trust under the Master Trust Agreement. Transactions in shares
of the Fund were as follows:
Year Ended Year Ended
November 30, 1996 November 30, 1995
================================================================================
Shares issued on reinvestment 662,288 596,734
Shares redeemed (1,335,970) (1,512,438)
- --------------------------------------------------------------------------------
Net Decrease (673,682) (915,704)
================================================================================
13
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------
For a share of beneficial interest outstanding throughout each year:
<TABLE>
<CAPTION>
1996 1995 1994 1993 1992
=================================================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $9.28 $8.15 $9.00 $8.16 $7.57
- -----------------------------------------------------------------------------------------------------------------
Income (Loss) From Operations:
Net investment income 0.30 0.27 0.27 0.26 0.26
Net realized and unrealized gain (loss) (0.16) 1.48 (0.28) 0.96 0.43
- -----------------------------------------------------------------------------------------------------------------
Total Income (Loss) From Operations 0.14 1.75 (0.01) 1.22 0.69
- -----------------------------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.57) (0.27) (0.34) (0.29) (0.10)
Net realized gains (0.22) (0.35) (0.50) (0.09) --
- -----------------------------------------------------------------------------------------------------------------
Total Distributions (0.79) (0.62) (0.84) (0.38) (0.10)
- -----------------------------------------------------------------------------------------------------------------
Net Asset Value, End of Year $8.63 $9.28 $8.15 $9.00 $8.16
- -----------------------------------------------------------------------------------------------------------------
Total Return 1.55% 22.17% (0.20) 15.72% 9.15%
- -----------------------------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $65,432 $76,563 $74,751 $96,865 $125,327
- -----------------------------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses(1) 1.11% 1.17% 1.15% 1.10% 1.15%
Net investment income 3.15 3.12 3.27 3.12 3.31
- -----------------------------------------------------------------------------------------------------------------
Portfolio Turnover Rate 0% 6% 1% 0% 0%
- -----------------------------------------------------------------------------------------------------------------
Average commissions per share
paid on equity transactions(2) $0.06 $0.06 -- -- --
=================================================================================================================
</TABLE>
(1) For the year ended November 30, 1992, the expense ratio excludes interest
expense. The expense ratio including interest expense was 1.16%.
(2) As of September 1995, the SEC instituted new guidelines requiring the
disclosure of average commissions per share.
14
<PAGE>
- --------------------------------------------------------------------------------
Independent Auditors' Report
- --------------------------------------------------------------------------------
The Shareholders and Board of Trustees of
Smith Barney Principal Return Fund:
We have audited the accompanying statement of assets and liabilities,
including the schedule of investments, of the Zeros Plus Emerging Growth Series
2000 of Smith Barney Principal Return Fund as of November 30, 1996, the related
statement of operations for the year then ended and the statements of changes in
net assets and financial highlights for each of the years in the two-year period
then ended. These financial statements and financial highlights are the
responsibility of the Fund's management. Our responsibility is to express an
opinion on these financial statements and financial highlights based on our
audits. The financial highlights for each of the years in the three-year period
ended November 30, 1994, were audited by other auditors whose report thereon,
dated January 12, 1995 expressed an unqualified opinion on those financial
highlights.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of
November 30, 1996, by correspondence with the custodian. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred
to above present fairly, in all material respects, the financial position of the
Zeros Plus Emerging Growth Series 2000 of Smith Barney Principal Return Fund as
of November 30, 1996, the results of its operations for the year then ended and
the changes in its net assets and financial highlights for each of the years in
the two-year period then ended, in conformity with generally accepted accounting
principles.
/s/ KPMG Peat Marwick LLP
New York, New York
January 13, 1997
15
<PAGE>
- --------------------------------------------------------------------------------
Tax Information (unaudited)
- --------------------------------------------------------------------------------
The amount of long-term capital gains paid by the Fund to its shareholders
for the fiscal year ended November 30, 1996, was $1,231,994.
16
<PAGE>
Smith Barney SMITH BARNEY
Principal Return Fund ------------
A Member of TravelersGroup[LOGO]
Trustees
Paul R. Ades
Herbert Barg
Alger B. Chapman
Dwight B. Crane
Frank Hubbard
Heath B. McLendon, Chairman
Jerome Miller
Ken Miller
John F. White
Officers
Heath B. McLendon
Chief Executive Officer
Jessica M. Bibliowicz
President
Lewis E. Daidone
Senior Vice President
and Treasurer
Richard Freeman
Vice President and
Investment Officer
Thomas M. Reynolds
Controller
Christina T. Sydor
Secretary
Investment Manager
Smith Barney Mutual Funds
Management Inc.
Distributor
Smith Barney Inc.
Custodian
PNCBank, N.A.
This report is submitted for the general
information of the shareholders of Smith
Barney Principal Return Fund -- Zeros Plus
Emerging Growth Series 2000. It is not
authorized for distribution to prospective
investors unless accompanied or preceded
by a current Prospectus for the Fund, which
contains information concerning the Fund's
investment policies and expenses as well as
other pertinent information.
Smith Barney
Principal Return Fund
388 Greenwich Street
New York, New York 10013
FD0306 1/97
ANNUAL REPORT
================================================================================
1996
1996
1996
1996
1996
Smith Barney
Principal Return
Fund
Zeros and
Appreciation
Series 1998
-----------------------
November 30, 1996
[LOGO] Smith Barney Mutual Funds
Investing for your future.
Every day.
<PAGE>
- ----------------------------------
Zeros and Appreciation Series 1998
- ----------------------------------
Dear Shareholder:
We are pleased to provide you with the annual report for the Smith Barney
Principal Return Fund -- Zeros and Appreciation Series 1998 ("Fund") for the
year ended November 30, 1996. For your convenience, we have summarized the
Fund's investment strategy over this time and discussed some of the Fund's
holdings in greater detail. A comprehensive summary of performance and current
holdings can be found in the appropriate sections of this report.
Fund Performance Update
The Fund seeks to return the principal amount of each shareholder's original
investment (including any sales charge paid) on or about August 31, 1998 by
investing a portion of its assets in zero coupon securities. In addition, the
Fund, to the extent consistent with its objective, seeks to provide long-term
appreciation of capital by investing the balance of its assets primarily in
equity securities.
The fiscal year ended November 30, 1996, was mixed for financial assets. The
stock market had a terrific year while the bond market turned in a mixed
performance. The stock market was stronger than we had anticipated, while bonds
performed the way we had expected. In both cases, we had thought that excessive
exuberance in 1995 would be worked off in 1996.
The total return of 11.03% posted by the Fund resulted almost entirely from the
appreciation of the stock portion of the Fund, which comprises roughly 40% of
total assets. In addition, over the last twelve months, the Fund paid income
dividends of $0.78 per share.
For the one-year period ended November 30, 1996, the stock market, as measured
by the Standard & Poor's 500 Composite Index,* had a total return of 27.85%.
Over the same time period, the bond market, as measured by the Lehman
Government/Corporate Bond Index,* generated a total return of 5.60%.
Market Overview
The big story in 1996 was the ongoing bull market in stocks. Despite a rise in
interest rates, massive inflows of money into mutual funds provided fuel for the
continued outsized gains. The stock market underestimated the sustainability of
economic strength, while it overestimated corporate America's ability to pass on
price increases. Thus, inflation was quiet, and the economy grew at a healthy
pace.
- -----------
*The Standard & Poor's 500 Stock Index is an unmanaged capitalization-weighted
index of 500 widely held common stocks. The Lehman Government/Corporate Bond
Index is a combination of publicly issued intermediate- and long-term U.S.
government bonds and corporate bonds.
1
<PAGE>
Fund's Investment Strategy
The core of the equity portion of the Fund consists of high-quality growth
stocks of companies that have dominant market positions, global franchises,
seasoned and respected management teams and excellent balance sheets. Because of
their steadiness, these stocks can be comforting in periods of market excess.
Their long-term consistent growth in earnings is ultimately translated into
higher dividends and stock prices. Around this core, we continue to look for
special situations such as restructuring candidates or undervalued companies
that are more dependent on economic cycles.
During the reporting period, the Fund's top-ten holdings have changed slightly.
Allstate, a leading provider of auto and home insurance which we highlighted in
our last letter, is now one of our largest holdings. In our opinion, Allstate
continues to run its business for the benefit of its shareholders.
Mobil and Amoco remain key Fund top-ten holdings. We have been bullish on the
energy sector for some time because of greater-than-expected global demand for
oil and gas, continuing cost savings from restructuring and attractive relative
valuations. In addition, Intel has rejoined the Fund's top-ten holdings as the
company continues to ride the wave of demand for computers. Other solid
performers for the Fund over the last twelve months include Eastman Kodak,
Merck, Minnesota Mining & Manufacturing and Chase Manhattan Bank. Our biggest
disappointment in the last year was American Telephone and Telegraph where,
despite a huge restructuring, the company continues to face heavy competition in
its core long distance business.
Market Outlook
While market fundamentals remain solid, we believe that the recent run-up in
stock prices already discounts a lot of good news. Based on many traditional
measurements, the values of many stocks are at historical highs. While the pace
of U.S. economic growth has slowed during the fourth quarter, it is projected to
continue to grow at a moderate rate with little inflationary pressure.
In our view, corporate profits should meet expectations as a whole, but there
will be many potholes for investors along the way. We are therefore approaching
the market very selectively. We believe the original mandate of the Fund -- to
hold a portfolio of high quality stocks and zero coupon U.S. Treasury securities
to reduce both risk and volatility while providing a competitive return to
investors -- continues to make sense.
2
<PAGE>
In closing, thank you for investing in the Smith Barney Principal Return Fund --
Zeros and Appreciation Series 1998. We look forward to continuing to help you
achieve your financial goals.
Sincerely,
/s/ Heath B. McLendon /s/ Harry D. Cohen
Heath B. McLendon Harry D. Cohen
Chairman and Vice President and
Chief Executive Officer Investment Officer
December 16, 1996
3
<PAGE>
- --------------------------------------------------------------------------------
Historical Performance
- --------------------------------------------------------------------------------
Net Asset Value
------------------
Beginning End of Income Capital Gain Total
Year Ended of Year Year Dividends Distributions Returns(1)
================================================================================
11/30/96 $7.91 $7.52 $0.78 $0.44 11.03%
- --------------------------------------------------------------------------------
11/30/95 7.75 7.91 0.40 0.83 19.93
- --------------------------------------------------------------------------------
11/30/94 9.38 7.75 0.45 0.89 (3.69)
- --------------------------------------------------------------------------------
11/30/93 9.02 9.38 0.40 0.10 9.99
- --------------------------------------------------------------------------------
11/30/92 8.40 9.02 0.43 0.00 12.86
- --------------------------------------------------------------------------------
1/25/91*-11/30/91 7.60 8.40 0.00 0.00 10.53+
================================================================================
Total $2.46 $2.26
================================================================================
It is the Fund's policy to distribute dividends and capital gains, if any,
annually.
- --------------------------------------------------------------------------------
Average Annual Total Return
- --------------------------------------------------------------------------------
Without With
Sales Charge(1) Sales Charge(2)
================================================================================
Year Ended 11/30/96 11.03% 5.43%
- --------------------------------------------------------------------------------
Five Years Ended 11/30/96 9.75 8.63
- --------------------------------------------------------------------------------
1/25/91* through 11/30/96 10.14 9.18
================================================================================
- --------------------------------------------------------------------------------
Cumulative Total Return
- --------------------------------------------------------------------------------
Without
Sales Charge(1)
================================================================================
1/25/91* through 11/30/96 75.95%
================================================================================
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charge.
(2) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, shares reflect the deduction of the
maximum initial sales charge of 5.00%.
* Commencement of operations.
+ Total return is not annualized, as it may not be representative of the
total return for the year.
4
<PAGE>
- --------------------------------------------------------------------------------
Historical Performance (unaudited)
- --------------------------------------------------------------------------------
[The following table was depicted as a line graph in the printed material.]
Growth of $10,000 Invested in Shares of the
Zeros and Appreciation Series 1998 vs. S&P 500 Index and
Lehman Brothers Intermediate Term Government Bond Index+
- --------------------------------------------------------------------------------
January 1991 -- November 1996
Zeros and Lehman Bros.
Appreciation S&P Intermediate
Series 500 Term Gov't.
1998 Index Bond Index
------------ ----- ------------
1/25/91 9500 10000 10000
11/91 10500 11219 11026
11/92 11850 13292 11921
11/93 13034 14633 13011
11/94 12553 14787 12795
11/95 15055 20258 14544
11/30/96 16716 26294 15115
+ Hypothetical illustration of $10,000 invested in shares of the Zeros and
Appreciation Series 1998 from January 25, 1991 (commencement of
operations), assuming deduction of the maximum 5.00% sales charge at the
time of investment and reinvestment of dividends and capital gains, if any,
at net asset value through November 30, 1996. The S&P 500 is an index of
widely held common stocks listed on the New York and American Stock
Exchanges and the over-the-counter markets. Figures for the S&P 500 Index
include reinvestment of dividends. The Lehman Brothers Intermediate Term
Government Bond Index is comprised of approximately 1,000 issues of U.S.
Government Treasury and Agency Securities. The indexes are unmanaged and
are not subject to the same management and trading expenses of a mutual
fund.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost. No adjustment
has been made for shareholder tax liability on dividends or capital gains.
5
<PAGE>
- --------------------------------------------------------------------------------
Portfolio Highlights (unaudited) November 30, 1996
- --------------------------------------------------------------------------------
Common Stock Industry Breakdown
(as a percentage of total common stocks)
[The following table was depicted as a pie graph in the printed material.]
Financial Services 18.0%
Consumer Non-Durables 12.4%
Energy 11.7%
Technology 11.4%
Health Care 11.3%
Capital Goods 10.4%
Consumer Services 9.4%
Other Common Stocks 15.4%
Top Ten Holdings
Percentage of
Total Investments
================================================================================
U.S. Treasury Strips 61.1%
Eastman Kodak Co. 1.4
Allstate Corp. 1.3
Mobil Corp. 1.0
Minnesota Mining and Manufacturing Co. 0.9
Chase Manhattan Bank Corp. 0.9
Merck & Co., Inc. 0.9
Amoco Corp. 0.8
Intel Corp. 0.8
Johnson & Johnson 0.8
================================================================================
6
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments November 30, 1996
- --------------------------------------------------------------------------------
SHARES SECURITY VALUE
================================================================================
COMMON STOCKS -- 34.8%
Basic Industries -- 2.0%
6,000 E.I. du Pont de Nemours & Co. $ 565,500
6,000 Hercules, Inc. 291,000
4,000 Kimberly Clark Corp. 391,000
10,000 Olin Corp. 398,750
4,000 St. Joe Paper Co. 264,500
- --------------------------------------------------------------------------------
1,910,750
- --------------------------------------------------------------------------------
Biotechnology -- 0.2%
4,000 Amgen Inc.+ 243,500
- --------------------------------------------------------------------------------
Capital Goods -- 3.6%
7,500 Allied Signal, Inc. 549,375
8,000 AMP Inc. 306,000
2,000 Emerson Electric Co. 196,250
7,000 General Electric Co. 728,000
6,000 Honeywell Inc. 411,750
3,000 IMC Global Inc. 108,375
6,000 Kennametal Inc. 216,000
8,000 Tyco International Ltd. 438,000
12,000 WMX Technologies Inc. 432,000
- --------------------------------------------------------------------------------
3,385,750
- --------------------------------------------------------------------------------
Consumer Durables -- 1.1%
7,000 Chrysler Corp. 248,500
8,000 General Motors Corp. 461,000
3,000 Goodyear Tire & Rubber Co. 145,500
7,000 Stanley Works 206,500
- --------------------------------------------------------------------------------
1,061,500
- --------------------------------------------------------------------------------
Consumer Non-Durables -- 4.3%
3,300 CPC International, Inc. 274,725
16,200 Eastman Kodak Co. 1,312,200
4,000 First Brands Corp. 114,500
4,000 Gap Inc. 128,500
4,000 Gillette Co. 295,000
4,000 Mattel Inc. 123,500
9,000 McDonald's Corp. 420,750
8,000 Newell Corp. 248,000
5,000 Proctor & Gamble Co. 543,750
2,000 Scholastic Corp.+ 149,000
2,500 Unilever NV 432,813
- --------------------------------------------------------------------------------
4,042,738
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
7
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) November 30, 1996
- --------------------------------------------------------------------------------
SHARES SECURITY VALUE
================================================================================
Consumer Services -- 3.3%
7,000 Gannett, Inc. $ 549,500
6,000 J.C. Penney Co. 322,500
5,000 Meredith Corp. 257,500
11,000 New York Times Co., Class A Shares 411,125
3,500 Scandanavian Broadcasting Systems 60,813
6,000 Tele-Communications, Inc., Series A+ 81,000
5,000 Time Warner, Inc. 203,750
2,500 Tribune Co. 216,250
18,000 Wal-Mart Stores, Inc. 459,000
7,000 Walt Disney Co. 516,250
- --------------------------------------------------------------------------------
3,077,688
- --------------------------------------------------------------------------------
Diversified Conglomerates -- 0.9%
10,200 Minnesota Mining and Manufacturing Co. 854,250
- --------------------------------------------------------------------------------
Energy -- 4.1%
6,500 Amerada Hess Corp. 382,688
10,000 Amoco Corp. 776,250
1,000 Atlantic Richfield Co. 139,125
5,000 Chevron Corp. 335,000
4,500 Enron Inc. 205,875
8,000 Mobil Corp. 968,000
2,000 Royal Dutch Petroleum Co. ADR 339,750
4,000 Tenneco Inc. 204,000
6,000 Union Pacific Resources Corp. 179,250
7,000 Unocal Corp. 285,250
- --------------------------------------------------------------------------------
3,815,188
- --------------------------------------------------------------------------------
Financial Services -- 6.3%
9,000 American Express Co. 470,250
4,000 American International Group, Inc. 460,000
20,000 Allstate Corp. 1,205,000
3,000 Associates First Capital Corp. 145,125
9,000 Chase Manhattan Bank Corp. 850,500
6,500 Chubb Corp. 352,625
1,500 C.N.A. Financial Corp.+ 161,250
8,000 Federal National Mortgage Association 330,000
2,000 First of America Bank Corp. 121,500
4,000 First Virginia Banks, Inc. 194,500
3,000 Great Western Financial Corp. 93,375
6,000 Household International Inc. 568,500
3,000 ITT Hartford Group, Inc. 205,125
3,000 Leucadia National Corp. 78,750
2,000 Union Planters Corp. 82,750
2,000 Wells Fargo & Co. 569,250
- --------------------------------------------------------------------------------
5,888,500
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
8
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) November 30, 1996
- --------------------------------------------------------------------------------
SHARES SECURITY VALUE
================================================================================
Health Care -- 3.9%
8,000 Abbott Laboratories Inc. $ 446,000
8,000 American Home Products Corp. 514,000
5,600 Bristol Myers-Squibb Co. 637,000
5,000 Hillenbrand Industries, Inc. 184,375
14,000 Johnson & Johnson 743,750
9,800 Merck & Co., Inc. 813,400
5,000 Warner Lambert Co. 357,500
- --------------------------------------------------------------------------------
3,696,025
- --------------------------------------------------------------------------------
Technology -- 4.0%
2,000 Boeing Co. 198,750
1,000 Electronic Data Systems Corp. 48,375
10,000 Hewlett Packard Co. 538,750
6,000 Intel Corp. 761,250
3,000 International Business Machines Corp. 478,125
2,000 Lockheed Martin Corp. 181,250
2,916 Lucent Technologies, Inc. 149,445
2,000 Microsoft Corp.+ 313,750
10,000 Teradyne Inc.+ 236,250
2,000 Texas Instruments 127,500
14,000 Xerox Corp. 687,750
- --------------------------------------------------------------------------------
3,721,195
- --------------------------------------------------------------------------------
Telecommunications -- 1.1%
9,000 AT&T Corp. 353,250
5,000 Bell Atlantic Corp. 314,375
2,500 GTE Corp. 112,186
4,000 Southwestern Bell Inc. 210,500
- --------------------------------------------------------------------------------
990,311
- --------------------------------------------------------------------------------
TOTAL COMMON STOCKS
(Cost -- $20,439,976) 32,687,395
================================================================================
FACE
AMOUNT SECURITY VALUE
================================================================================
U.S. GOVERNMENT OBLIGATIONS -- 61.1%
$63,000,000 U.S. Treasury Strips, zero coupon due 8/15/98
(Cost -- $54,934,538) 57,430,170
================================================================================
REPURCHASE AGREEMENT -- 4.1%
3,809,000 Chase Manhattan Bank Corp., 5.600% due 12/2/96;
Proceeds at maturity -- $3,810,777; (Fully
collateralized by U.S. Treasury Notes, 5.626%
due 2/20/97; Market value -- $3,887,704)
(Cost -- $3,809,000) 3,809,000
================================================================================
TOTAL INVESTMENTS -- 100%
(Cost -- $79,183,514*) $93,926,565
================================================================================
+ Non-income producing security.
* Aggregate cost for Federal income tax purposes is substantially the same.
See Notes to Financial Statements.
9
<PAGE>
- --------------------------------------------------------------------------------
Statement of Assets and Liabilities November 30, 1996
- --------------------------------------------------------------------------------
ASSETS:
Investments, at value (Cost -- $79,183,514) $93,926,565
Cash 850
Dividends and interest receivable 78,341
- --------------------------------------------------------------------------------
Total Assets 94,005,756
- --------------------------------------------------------------------------------
LIABILITIES:
Dividends payable 112,549
Investment advisory fees payable 22,601
Distribution fees payable 15,081
Administration fees payable 14,816
Payable for Fund shares purchased 7,568
Accrued expenses 40,407
- --------------------------------------------------------------------------------
Total Liabilities 213,022
- --------------------------------------------------------------------------------
Total Net Assets $93,792,734
================================================================================
NET ASSETS:
Par value of shares of beneficial interest $ 12,467
Capital paid in excess of par value 79,114,889
Overdistributed net investment income (112,549)
Accumulated net realized gain from security transactions 34,876
Net unrealized appreciation of investments 14,743,051
- --------------------------------------------------------------------------------
Total Net Assets $93,792,734
================================================================================
Shares Outstanding 12,466,750
- --------------------------------------------------------------------------------
Net Asset Value (and redemption price) $7.52
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
10
<PAGE>
- --------------------------------------------------------------------------------
Statement of Operations For the Year Ended November 30, 1996
- --------------------------------------------------------------------------------
INVESTMENT INCOME:
Interest $ 4,650,484
Dividends (Net of foreign withholding tax of $2,173) 671,881
- --------------------------------------------------------------------------------
Total Investment Income 5,322,365
- --------------------------------------------------------------------------------
EXPENSES:
Investment advisory fees (Note 2) 284,126
Distribution fees (Note 2) 236,771
Administration fees (Note 2) 189,417
Transfer agent fees 104,620
Audit and legal 24,947
Shareholder communications 21,445
Trustees' fees 13,000
Shareholder and system servicing fees 10,741
Custody 5,806
Registration fees 5,256
Amortization of deferred organization costs 3,610
- --------------------------------------------------------------------------------
Total Expenses 899,739
- --------------------------------------------------------------------------------
Net Investment Income 4,422,626
- --------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN ON
INVESTMENTS (NOTE 3):
Realized Gain From Security Transactions
(excluding short-term securities):
Proceeds from sales 27,237,551
Cost of securities sold 23,010,640
- --------------------------------------------------------------------------------
Net Realized Gain 4,226,911
- --------------------------------------------------------------------------------
Change in Net Unrealized Appreciation of Investments:
Beginning of year 13,538,500
End of year 14,743,051
- --------------------------------------------------------------------------------
Increase in Net Unrealized Appreciation 1,204,551
- --------------------------------------------------------------------------------
Net Gain on Investments 5,431,462
- --------------------------------------------------------------------------------
Increase in Net Assets From Operations $ 9,854,088
================================================================================
See Notes to Financial Statements.
11
<PAGE>
- --------------------------------------------------------------------------------
Statements of Changes in Net Assets For the Years Ended November 30,
- --------------------------------------------------------------------------------
1996 1995
================================================================================
OPERATIONS:
Net investment income $ 4,422,626 $ 4,572,313
Net realized gain 4,226,911 5,828,985
Increase in net unrealized appreciation 1,204,551 7,794,151
- --------------------------------------------------------------------------------
Increase in Net Assets From Operations 9,854,088 18,195,449
- --------------------------------------------------------------------------------
DISTRIBUTION TO SHAREHOLDERS FROM:
Net investment income (9,107,488) (5,217,995)
Net realized gains (5,316,894) (10,268,770)
- --------------------------------------------------------------------------------
Decrease in Net Assets From
Distributions to Shareholders (14,424,382) (15,486,765)
- --------------------------------------------------------------------------------
FUND SHARE TRANSACTIONS (NOTE 5):
Net asset value of shares issued for
reinvestment of dividends 14,078,633 15,181,620
Cost of shares reacquired (14,228,216) (20,766,127)
- --------------------------------------------------------------------------------
Decrease in Net Assets From
Fund Share Transactions (149,583) (5,584,507)
- --------------------------------------------------------------------------------
Decrease in Net Assets (4,719,877) (2,875,823)
NET ASSETS:
Beginning of year 98,512,611 101,388,434
- --------------------------------------------------------------------------------
End of year* $ 93,792,734 $ 98,512,611
- --------------------------------------------------------------------------------
* Includes undistributed (overdistributed)
net investment income of: $ (112,549) $ 4,572,313
================================================================================
See Notes to Financial Statements.
12
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements
- --------------------------------------------------------------------------------
1. SIGNIFICANT ACCOUNTING POLICIES
The Zeros and Appreciation Series 1998 ("Fund") is a separate investment
fund of the Smith Barney Principal Return Fund ("Trust"). The Trust, a
Massachusetts business trust, is registered under the Investment Company Act of
1940, as amended, as a diversified, open-end management investment company.
Shares of the Fund are not currently being offered for sale to new investors.
The Trust consists of this Fund and two other funds: the Zeros Plus Emerging
Growth Series 2000 and the Security and Growth Fund. The financial statements
and financial highlights for the other funds are presented in separate annual
reports.
The significant accounting policies consistently followed by the Fund
are:(a) security transactions are accounted for on the trade date; (b)
securities traded on a national securities exchange are valued at the last sale
price on that exchange or, if there were no sales, at the current quoted bid
price; over-the-counter securities and listed securities are valued at the bid
price at the close of business on each day; U.S. Government securities (other
than short-term securities) are valued at the quoted bid price in the
over-the-counter market; investment in securities for which market quotations
are not available are valued at fair value as determined by the Board of
Trustees; (c) securities maturing within 60 days are valued at cost plus
accreted discount, or minus amortized premium, which approximates market value;
(d) interest income is recorded on the accrual basis and dividend income is
recorded on the ex-dividend date; foreign dividends are recorded on the
ex-dividend date or as soon as practical after the Fund determines the existence
of a dividend declaration after exercising reasonable due diligence; (e) the
accounting records of the Fund are maintained in U.S. dollars. All assets and
liabilities denominated in foreign currencies are translated into U.S. dollars
based on the rate of exchange of such currencies against U.S. dollars on the
date of valuation. Purchases and sales of securities, and income and expenses
are translated at the rate of exchange quoted on the respective date that such
transactions are recorded. Differences between income and expense amounts
recorded and collected or paid are adjusted when reported by the custodian bank;
(f) gains or losses on the sale of securities are calculated by using the
specific identification method; (g) dividends and distributions to shareholders
are recorded on the ex-dividend date; (h) expenses are charged to the Fund; (i)
the character of income and gains to be distributed are determined in accordance
with income tax regulations which may differ from generally accepted accounting
principles. At December 31, 1996, reclassifications were made to the Fund's
capital accounts to reflect permanent book/tax differences and income and gains
available for distributions under income tax regulations. Net investment income,
net realized gains and net assets were not affected by this change; (j) the Fund
intends to comply with the applicable
13
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
provisions of the Internal Revenue Code of 1986, as amended, pertaining to
regulated investment companies and to make distributions of taxable income
sufficient to relieve it from substantially all Federal income and excise taxes;
and (k) estimates and assumptions are required to be made regarding assets,
liabilities and changes in net assets resulting from operations when financial
statements are prepared. Changes in the economic environment, financial markets
and any other parameters used in determining these estimates could cause actual
results to differ.
In addition, organization costs have been deferred and amortized on a
straight line basis over a five-year period, beginning with the commencement of
the Fund's operations in January 1991. As of November 30, 1996, the amortization
of the deferred organization costs had been completed.
2. INVESTMENT ADVISORY AGREEMENT, ADMINISTRATION
AGREEMENT AND OTHER TRANSACTIONS
Smith Barney Mutual Funds Management Inc. ("SBMFM"), a subsidiary of Smith
Barney Holdings Inc. ("SBH"), acts as investment adviser of the Fund. The Fund
pays SBMFM an investment advisory fee calculated at an annual rate of 0.30% of
the average daily net assets. SBMFM also acts as the Fund's administrator for
which the Fund pays a fee calculated at an annual rate of 0.20% of the average
daily net assets. These fees are calculated daily and paid monthly.
Pursuant to a Distribution Plan, the Fund pays Smith Barney Inc. ("SB"),
another subsidiary of SBH, a service fee calculated at an annual rate of 0.25%
of the average daily net assets.
All officers and one Trustee of the Trust are employees of SB.
3. INVESTMENTS
During the year ended November 30, 1996, the aggregate cost of purchases
and proceeds from sales of investments (including maturities, but excluding
short-term securities) were as follows:
================================================================================
Purchases $11,543,057
- --------------------------------------------------------------------------------
Sales 27,237,551
================================================================================
At November 30, 1996, the aggregate gross unrealized appreciation and
depreciation of investments were as follows:
================================================================================
Gross unrealized appreciation $14,808,722*
Gross unrealized depreciation (65,671)*
- --------------------------------------------------------------------------------
Net unrealized appreciation $14,743,051*
================================================================================
*Substantially the same for Federal income tax purposes.
14
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
4. REPURCHASE AGREEMENTS
The Fund purchases (and its custodian takes possession of) U.S. Government
securities from banks and securities dealers subject to agreements to resell the
securities to the sellers at a future date (generally, the next business day) at
an agreed-upon higher repurchase price. The Fund requires continual maintenance
of the market value of the collateral in amounts at least equal to the
repurchase price.
5. SHARES OF BENEFICIAL INTEREST
At November 30, 1996, the Fund had an unlimited number of shares of
beneficial interest authorized with a par value of $0.001 per share. The Fund,
the Zeros Plus Emerging Growth Series 2000 and the Security and Growth Fund each
constitute a sub-trust under the Master Trust Agreement. Transactions in shares
of the Fund were as follows:
Year Ended Year Ended
November 30, 1996 November 30, 1995
================================================================================
Shares issued on reinvestment 1,838,422 2,087,741
Shares redeemed (1,821,367) (2,723,836)
- --------------------------------------------------------------------------------
Net Increase (Decrease) 17,055 (636,095)
================================================================================
15
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------
For a share of beneficial interest outstanding throughout each year:
<TABLE>
<CAPTION>
1996 1995 1994 1993 1992
=============================================================================================
<S> <C> <C> <C> <C> <C>
Net Asset Value, Beginning of Year $ 7.91 $ 7.75 $ 9.38 $ 9.02 $ 8.40
- ---------------------------------------------------------------------------------------------
Income (Loss) From Operations:
Net investment income 0.38 0.36 0.41 0.38 0.37
Net realized and unrealized gain
(loss) 0.45 1.03 (0.70) 0.48 0.68
- ---------------------------------------------------------------------------------------------
Total Income (Loss) From Operations 0.83 1.39 (0.29) 0.86 1.05
- ---------------------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.78) (0.40) (0.45) (0.40) (0.43)
Net realized gains (0.44) (0.83) (0.89) (0.10) --
- ---------------------------------------------------------------------------------------------
Total Distributions (1.22) (1.23) (1.34) (0.50) (0.43)
- ---------------------------------------------------------------------------------------------
Net Asset Value, End of Year $ 7.52 $ 7.91 $ 7.75 $ 9.38 $ 9.02
- ---------------------------------------------------------------------------------------------
Total Return 11.03% 19.93% (3.69)% 9.99% 12.86%
- ---------------------------------------------------------------------------------------------
Net Assets, End of Year (000s) $ 93,793 $ 98,513 $101,388 $136,576 $166,077
- ---------------------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 0.95% 1.05% 1.01% 0.97% 1.01%
Net investment income 4.67 4.59 4.47 4.15 4.39
- ---------------------------------------------------------------------------------------------
Portfolio Turnover Rate 12% 13% 10% 17% 4%
=============================================================================================
Average commissions per share
paid on equity transactions(1) $ 0.06 $ 0.06 -- -- --
=============================================================================================
</TABLE>
(1) As of September 1995, the SEC instituted new guidelines requiring the
disclosure of average commissions per share.
- --------------------------------------------------------------------------------
Tax Information (unaudited)
- --------------------------------------------------------------------------------
The amount of long-term capital gains paid by the Fund, to its shareholders
for the fiscal year ended November 30, 1996, was $4,798,457.
16
<PAGE>
- --------------------------------------------------------------------------------
Independent Auditors' Report
- --------------------------------------------------------------------------------
The Shareholders and Board of Trustees of
Smith Barney Principal Return Fund:
We have audited the accompanying statement of assets and liabilities,
including the schedule of investments, of the Zeros and Appreciation Series 1998
of Smith Barney Principal Return Fund as of November 30, 1996, the related
statement of operations for the year then ended and the statement of changes in
net assets and financial highlights for each of the years in the two-year period
then ended. These financial statements and financial highlights are the
responsibility of the Fund's management. Our responsibility is to express an
opinion on these financial statements and financial highlights based on our
audits. The financial highlights for each of the years in the three-year period
ended November 30, 1994, were audited by other auditors whose report thereon,
dated January 12, 1995, expressed an unqualified opinion on those financial
highlights.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of
November 30, 1996, by correspondence with the custodian. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred
to above present fairly, in all material respects, the financial position of the
Zeros and Appreciation Series 1998 of Smith Barney Principal Return Fund as of
November 30, 1996, the results of its operations for the year then ended and the
changes in its net assets and financial highlights for each of the years in the
two-year period then ended, in conformity with generally accepted accounting
principles.
KPMG Peat Marwick LLP
New York, New York
January 13, 1997
17
<PAGE>
Smith Barney SMITH BARNEY
Principal Return Fund ------------
A Member of TravelersGroup [Logo]
Trustees
Paul R. Ades
Herbert Barg
Alger B. Chapman
Dwight B. Crane
Frank Hubbard
Heath B. McLendon, Chairman
Jerome Miller
Ken Miller
John F. White
Officers
Heath B. McLendon
Chief Executive Officer
Jessica M. Bibliowicz
President
Lewis E. Daidone
Senior Vice President
and Treasurer
Harry D. Cohen
Vice President and
Investment Officer
Thomas M. Reynolds
Controller
Christina T. Sydor
Secretary
Investment Adviser
Smith Barney Mutual Funds
Management Inc.
Distributor
Smith Barney Inc.
Custodian
PNC Bank, N.A.
This report is submitted for the general
information of the shareholders of Smith
Barney Principal Return Fund -- Zeros and
Appreciation Series 1998. It is not autho-
rized for distribution to prospective
investors unless accompanied or preceded
by a current Prospectus for the Fund, which
contains information concerning the Fund's
investment policies and expenses as well as
other pertinent information.
Smith Barney
Principal Return Fund
388 Greenwich Street
New York, New York 10013
FD0305 1/97
ANNUAL REPORT
================================================================================
1996
1996
1996
1996
1996
Smith Barney
Principal
Return Fund
Security and
Growth Fund
------------------------
November 30, 1996
[Logo] Smith Barney Mutual Funds
Investing for your future.
Every day.
<PAGE>
- ------------------------
Security and Growth Fund
- ------------------------
Dear Shareholder:
We are pleased to provide you with the annual report for the Smith Barney
Principal Return Fund -- Security and Growth Fund ("Fund") for the fiscal year
ended November 30, 1996. In this report, we comment on how your Fund has
performed and our expectations for the financial markets. For your convenience,
a detailed summary of the historical performance as well as its current holdings
can be found in the appropriate sections that follow.
Fund Performance Update
For the fiscal year ended November 30, 1996, the Fund had a total return of
11.15%. The equity and cash component of the Fund appreciated 18.23%, while the
zero coupon bonds held in the Fund advanced 4.07%. The zero coupon bond
component represents about 49% of the total portfolio and is sufficient to
return investors' original capital at maturity, without regard to the value of
the equity segment of the portfolio.
We believe the Fund has delivered solid performance this year. Perhaps the
closest benchmark to the portfolio of stocks held in the Fund is the Russell
2000 index (a common benchmark of small capitalization stocks). It appreciated
16.53% during the last fiscal year.
The primary factors which affected the Fund's performance included a difficult
bond market and a narrow stock market. With respect to the bond market,
intermediate Treasury prices fell while yields rose from about 5.75% to 7.00%,
from the beginning of the fiscal year until September. The trend reversed with
an impressive rally into the end of the Fund's fiscal year as yields fell to
just over 6.00%.
The narrowness of the equity markets in 1996 was such that large capitalization
stocks in general did much better than smaller capitalization issues. The Fund
focuses on companies that have market capitalizations of $1 billion or less
(generally considered small-cap). Certain sectors of the market that are
important to the Fund underperformed, such as biotechnology. Other sectors
important to the Fund outperformed, such as technology and natural resources.
The equity market in 1996 was one that tended to favor growth over value. As
value investors, we strongly believe the small-cap value area represents one of
the most attractive segments of the market as we look to 1997.
1
<PAGE>
Overview of Stock and Bond Markets
The Standard & Poor's 500 (an unmanaged capitalization-weighted index of 500
widely held common stocks) and the NASDAQ (an index of over-the-counter stocks)
have performed well in the last year. However, the performance of these indices
has masked how narrow the market has been. The top 25 stocks in the S&P 500 by
capitalization have outperformed the other 475 by a 2-to-1 margin. Within
NASDAQ, if Intel and Microsoft are eliminated from the index, the return for the
NASDAQ average drops by about 50%. After a period of strong relative performance
through May of this year, the Russell 2000 began to significantly underperform
larger capitalization indices possibly due to increasing investor concerns over
a slowing domestic economy and corporate profits in general. In a period of
decelerating profit growth, investors tend to favor larger, more liquid stocks
with greater earnings visibility. We believe corporate profits and the economy
in general will be stronger than expected next year. The present low relative
valuation of smaller capitalization stocks represent a significant investment
opportunity for the Fund in 1997.
With respect to the bond market, 1996 was a difficult year as seen by the
intermediate treasury market suffering principal erosion. We believe interest
rates will remain stable over the next six months. If our assumption for a
stronger U.S. economy than expected comes to fruition next year, 1997 could be
another challenging year in the bond market.
Fund's Investment Strategy
The Fund limits itself to roughly 25 core stock positions. At times, the
transition out of one or more issues into others may mean a somewhat larger
number of stocks may populate the Fund. It is our belief that a focused
approach, limiting the number of issues, best allows us to meet the Fund's
aggressive goals.
How do we propose to outperform the major indices? We believe, particularly in
the current market environment, that the small and mid-cap sectors have many
more undervalued opportunities than the larger capitalization sector. We are
finding many small-cap issues which can meet one of our twin tests for
selection. First, we will consider an issue for the Fund if we believe it has
one-year upside potential of 40% regardless of its longer term prospects. The
second and more important criterion is to focus on companies we believe can
double in price over the next three years.
Comments on Equity Holdings
This has been a two-tier stock market (i.e., small-cap and large-cap) for some
time. It may seem like an apparent paradox, with the market approaching 6500 as
measured by the Dow Jones Industrial Average, to say that we are finding
2
<PAGE>
more opportunities than at any other time in the last two years; however, this
is the case. For example, the health care sector, outside of the large-cap
pharmaceutical companies, has been one of the market's poorest performing areas.
Regulatory risk, poor financial performance by some companies, and a reluctance
by institutions to commit funds have contributed to this group's
underperformance. As the regulatory environment becomes clearer and financial
performance improves, we believe investors will become more enthusiastic with
regard to several specialty areas within the health care sector. These areas
include biotechnology, medical devices, drug delivery, HMOs, information
services, long-term care and emerging pharmaceuticals.
One example of this type of specialty health care company and one of the Fund's
current biotechnology holdings is Neurex. The company has a very rich calendar
of significant product announcements in 1997 which should enhance shareholder
value. While these things are never certain, Neurex's lead drug for acute
hypertension, Corlopam, could be approved for sale by the Food and Drug
Administration in the U.S. during the first quarter of 1997. The compound has
already received approval in several European countries. Neurex recently
announced a distribution alliance with a private French pharmaceutical company
in order to more aggressively pursue additional country approvals and to better
market Corlopam. We anticipate Corlopam will begin contributing meaningful sales
in 1997. Besides Corlopam, Neurex has a potential "home run" drug in SNX-111
which has utility in pain management and head trauma. In addition, the company
is partnered with Medtronic and Warner Lambert. We expect additional positive
results and announcements for SNX-111 to increase the valuation of Neurex
shares. The health care sector represents about 21% of the equity weighting in
the Fund.
Technology companies are another important area of focus for the Fund. This
sector represents approximately 32% of the Fund's equity component. For example,
the Fund has a substantial investment in Quantum, a leading disk drive
manufacturer. Quantum is benefiting from the successful introduction of Fireball
TM. This disk drive for desktop PCs is the fastest selling product in the
history of the disk drive industry and has been qualified at all of the top ten
PC manufacturers. Quantum's revenues and margins have historically lagged those
of the industry leaders and the company had in the past developed a reputation
as an underachiever. However, we believe there may be some positive earnings
surprises ahead for Quantum which should justify a higher market valuation for
its shares. We believe the annual earnings power of Quantum could be greater
than $4 per share. Improved operating performance could translate into
outstanding appreciation potential.
Another important sector for the Fund is natural resources which represents
approximately 24% of the Fund's equity holdings. RMI Titanium, a leader in
3
<PAGE>
designing and fabricating titanium for energy and power applications, is the
Fund's largest position in this sector. The company is benefiting from the much
greater acceptance of titanium in aerospace industry and other commercial
applications. For example, Boeing's backlog is large and growing and each new
airplane requires thousands of pounds of titanium. RMI's seamless titanium pipe
is now being used to develop geothermal wells in California and elsewhere. The
most spectacular new use for titanium has been in golf clubs. This market that
was virtually non-existent three years ago and currently represents about 15% of
the annual demand for titanium. These and other potential emerging markets for
titanium bode well for this metal's fundamentals going forward.
We thank you for your investment in the Smith Barney Security and Growth Fund.
We are pleased with its progress. We will continue our focused investment
approach, targeting no more than 25 issues in the small-to-mid-cap area of the
market. We look forward to the new year and believe the Security and Growth Fund
is positioned for strong performance and capital appreciation.
Sincerely,
/s/ Heath B. McLendon /s/ John G. Goode
Heath B. McLendon John G. Goode
Chairman and Vice President and
Chief Executive Officer Investment Officer
4
<PAGE>
- --------------------------------------------------------------------------------
Historical Performance
- --------------------------------------------------------------------------------
Net Asset Value
-------------------
Beginning End Income Capital Gain Total
Year Ended of Year of Year Dividends Distributions Returns(1)
================================================================================
11/30/96 $10.68 $10.22 $0.62 $0.99 11.15%
- --------------------------------------------------------------------------------
3/30/95*-11/30/95 9.60 10.68 0.00 0.14 12.70+
================================================================================
Total $0.62 $1.13
================================================================================
It is the Fund's policy to distribute dividends and capital gains, if any,
annually.
- --------------------------------------------------------------------------------
Average Annual Total Return
- --------------------------------------------------------------------------------
Without With
Sales Charge(1) Sales Charge(2)
================================================================================
Year Ended 11/30/96 11.15% 6.66%
- --------------------------------------------------------------------------------
3/30/95* through 11/30/96 14.25 11.43
================================================================================
- --------------------------------------------------------------------------------
Cumulative Total Return
- --------------------------------------------------------------------------------
Without
Sales Charge(1)
================================================================================
3/30/95* through 11/30/96 25.26%
================================================================================
(1) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value and does not reflect the deduction of the
applicable sales charge.
(2) Assumes reinvestment of all dividends and capital gain distributions, if
any, at net asset value. In addition, shares reflect the deduction of the
maximum initial sales charge of 4.00%.
+ Total return is not annualized, as it may not be representative of the
total return for the year.
* Commencement of operations.
5
<PAGE>
- --------------------------------------------------------------------------------
Historical Performance (unaudited)
- --------------------------------------------------------------------------------
[The following table was depicted as a line graph in the printed material.]
Growth of $10,000 Invested in Shares of the
Security and Growth Fund vs. Standard & Poor's 500 Index,
Lehman Brothers Intermediate Term Government Bond Index and Russell 2000 Index+
- --------------------------------------------------------------------------------
March 1995 -- November 1996
Lehman Brothers
Intermediate Term
Security and Standard & Poor's Government Russell
Growth Fund 500 Index Bond Index 2000 Index
------------ ----------------- ----------------- ----------
3/30/95 9600 10000 10000 10000
5/95 10170 11019 10522 10398
11/95 10819 12506 11004 11963
5/96 12030 13363 10873 14131
11/30/96 12026 15283 11493 13938
+ Hypothetical illustration of $10,000 invested in shares of the Security and
Growth Fund from March 30, 1995 (commencement of operations), assuming
deduction of the maximum 4.00% sales charge at the time of investment and
reinvestment of dividends and capital gains, if any, at net asset value
through November 30, 1996. The Standard & Poor's 500 Index is an index of
widely held common stocks listed on the New York and American Stock
Exchanges and the over-the-counter markets. Figures for the index include
reinvestment of dividends. The Lehman Brothers Intermediate Term Government
Bond Index is comprised of approximately 1,000 issues of U.S. Government
Treasury and Agency Securities. The Russell 2000 Index is a capitalization
weighted total return index which is comprised of 2000 of the smallest
capitalized U.S. domiciled companies with less than average growth
orientation whose common stock is traded in the United States on the New
York Stock Exchange, American Stock Exchange and NASDAQ. The indexes are
unmanaged and are not subject to the same management and trading expenses
of a mutual fund.
All figures represent past performance and are not a guarantee of future
results. Investment returns and principal value will fluctuate, and
redemption value may be more or less than the original cost. No adjustment
has been made for shareholder tax liability on dividends or capital gains.
6
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments November 30, 1996
- --------------------------------------------------------------------------------
SHARES SECURITY VALUE
================================================================================
COMMON STOCKS -- 47.7%
Broadcast Media -- 3.1%
350,000 Comcast UK Cable Partners+ $ 4,768,750
250,000 Home Shopping Network Inc.+ 2,812,500
- --------------------------------------------------------------------------------
7,581,250
- --------------------------------------------------------------------------------
Computer Peripheral -- 6.4%
350,000 Adflex Solutions Inc.+ 3,762,500
100,000 Applied Magnetics Corp.+ 2,737,500
350,000 Quantum Corp.+ 9,362,500
- --------------------------------------------------------------------------------
15,862,500
- --------------------------------------------------------------------------------
Computer Software -- 6.1%
200,000 Adobe Systems, Inc. 7,900,000
200,000 Informix Corp.+ 4,750,000
375,000 Sanctuary Woods Multimedia Corp.+ 153,750
275,400 Software 2000 Inc.+ 2,272,050
- --------------------------------------------------------------------------------
15,075,800
- --------------------------------------------------------------------------------
Financial Services -- 2.0%
125,800 First American Financial Corp. 4,607,425
30,000 Healthcare Financial Partners+ 375,000
- --------------------------------------------------------------------------------
4,982,425
- --------------------------------------------------------------------------------
Forest Products & Paper -- 0.9%
419,700 Asia Pacific Resource Inc.+ 2,098,500
- --------------------------------------------------------------------------------
Manufacturing-Special -- 3.0%
400,000 Optical Coating Laboratory Inc. 4,500,000
2,727,272 Power Spectra Inc.+++ 2,897,727
- --------------------------------------------------------------------------------
7,397,727
- --------------------------------------------------------------------------------
Medical Biotechnology -- 7.5%
100,000 Alteon Inc.+ 725,000
181,500 Aphton Corp.+ 3,244,312
800,000 Calgene Inc.+ 4,400,000
450,000 Neurex Corp.+ 5,850,000
250,000 Onyx Pharmaceuticals Inc.+ 2,531,250
200,000 SciClone Pharmaceuticals Inc.+ 1,650,000
- --------------------------------------------------------------------------------
18,400,562
- --------------------------------------------------------------------------------
Medical Supplies -- 3.1%
400,000 Closure Medical Corp.+# 4,150,000
735,000 Metra Bio Systems Inc.+ 3,491,250
- --------------------------------------------------------------------------------
7,641,250
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
7
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) November 30, 1996
- --------------------------------------------------------------------------------
SHARES SECURITY VALUE
================================================================================
Metals-Diversified -- 5.2%
236,000 Alyn Corp.+ $ 3,068,000
300,000 RMI Titanium Co.+@ 6,975,000
85,000 Titanium Metals Corp.+ 2,847,500
- --------------------------------------------------------------------------------
12,890,500
- --------------------------------------------------------------------------------
Mining -- 1.8%
417,500 Crown Resources Corp.+ 2,270,157
150,000 Golden Star Resources Ltd.+ 2,268,750
- --------------------------------------------------------------------------------
4,538,907
- --------------------------------------------------------------------------------
Oil and Gas-Domestic -- 2.4%
400,000 Abacan Resource Corp.+ 3,425,000
100,000 American Exploration Corp.+ 1,637,500
55,000 Forest Oil Corp.+ 852,500
- --------------------------------------------------------------------------------
5,915,000
- --------------------------------------------------------------------------------
Pharmaceuticals -- 1.2%
100,000 Alza Corp.+ 2,825,000
- --------------------------------------------------------------------------------
Restaurants -- 2.7%
1,000,000 Taco Cabana Inc., Class A Shares+ 6,625,000
- --------------------------------------------------------------------------------
Telecommunications -- 2.3%
250,000 General Datacomm Industries Inc.+ 2,781,250
200,000 Nextel Communications Inc.+ 3,000,000
- --------------------------------------------------------------------------------
5,781,250
- --------------------------------------------------------------------------------
TOTAL COMMON STOCKS
(Cost -- $105,377,946) 117,615,671
================================================================================
CONVERTIBLE PREFERRED STOCK -- 0.9%
100,000 USX Corp., Convertible 6.75%+
(Cost -- $2,137,500) 2,137,500
================================================================================
FOREIGN STOCKS -- 0.7%
259,500 Nelson Gold Corp. Ltd. 202,178
225,000 Philex Gold Inc. 1,527,602
- --------------------------------------------------------------------------------
TOTAL FOREIGN STOCKS
(Cost -- $2,356,862) 1,729,780
================================================================================
WARRANTS -- 0.3%
125,000 Aphton Corp., Expire 9/14/02+
(Cost -- $0) 671,875
================================================================================
See Notes to Financial Statements.
8
<PAGE>
- --------------------------------------------------------------------------------
Schedule of Investments (continued) November 30, 1996
- --------------------------------------------------------------------------------
FACE
AMOUNT SECURITY VALUE
================================================================================
U.S. TREASURY STRIPS -- 49.1%
$205,000,000 U.S. Treasury Strips TINT, zero coupon
due 8/15/05 (Cost -- $109,231,887) $120,800,350
================================================================================
REPURCHASE AGREEMENT -- 1.3%
3,116,000 Chase Manhattan Bank, 5.60% due 12/2/96;
Proceeds at maturity -- $3,117,454;
(Fully collateralized by U.S. Treasury Bill
due 2/20/97; Market value -- $3,180,385)
(Cost -- $3,116,000) 3,116,000
================================================================================
TOTAL INVESTMENTS -- 100%
(Cost -- $222,220,195*) $246,071,176
================================================================================
+ Non-income producing security.
++ Security issued with warrants which are exercisable under certain
conditions and have a current value of $0 and a cost of $0.
# Formerly known as Tri-Point Medical Corp.
@ Security segregated by Custodian for open options contracts commitments.
* Aggregate cost for Federal income tax purposes is substantially the same.
See Notes to Financial Statements.
9
<PAGE>
- --------------------------------------------------------------------------------
Statement of Assets and Liabilities November 30, 1996
- --------------------------------------------------------------------------------
ASSETS:
Investments, at value (Cost -- $222,220,195) $ 246,071,176
Cash 125,141
Receivable for securities sold 736,507
Dividends and interest receivable 1,454
- --------------------------------------------------------------------------------
Total Assets 246,934,278
- --------------------------------------------------------------------------------
LIABILITIES:
Payable for securities purchased 2,137,500
Distribution fees payable 206,832
Dividends payable 192,371
Management fees payable 100,113
Payable for Fund shares purchased 94,779
Options written (Note 5) 75,000
Accrued expenses 121,080
- --------------------------------------------------------------------------------
Total Liabilities 2,927,675
- --------------------------------------------------------------------------------
Total Net Assets $ 244,006,603
================================================================================
NET ASSETS:
Par value of shares of beneficial interest $ 23,868
Capital paid in excess of par value 218,359,643
Overdistributed net investment income (192,371)
Accumulated net realized gain from security
transactions and options 1,850,801
Net unrealized appreciation of investments and
options 23,964,662
- --------------------------------------------------------------------------------
Total Net Assets $ 244,006,603
================================================================================
Shares Outstanding 23,868,390
- --------------------------------------------------------------------------------
Net Asset Value (and redemption price) $ 10.22
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
10
<PAGE>
- --------------------------------------------------------------------------------
Statement of Operations For the Year Ended November 30, 1996
- --------------------------------------------------------------------------------
INVESTMENT INCOME:
Interest $ 10,282,936
Dividends 174,000
- --------------------------------------------------------------------------------
Total Investment Income 10,456,936
- --------------------------------------------------------------------------------
EXPENSES:
Management fees (Note 2) 1,363,022
Distribution fees (Note 2) 681,511
Shareholder and system servicing fees 346,947
Registration fees 124,532
Shareholder communications 79,327
Audit and legal 26,539
Trustees' fees 26,132
Custody 14,006
Other 7,092
- --------------------------------------------------------------------------------
Total Expenses 2,669,108
- --------------------------------------------------------------------------------
Net Investment Income 7,787,828
- --------------------------------------------------------------------------------
REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS,
FOREIGN CURRENCIES AND OPTIONS (NOTES 3 AND 5):
Realized Gain (Loss) From:
Security transactions (excluding short-term securities) 23,692,739
Foreign currency transactions (11,261)
Options purchased (253,000)
- --------------------------------------------------------------------------------
Net Realized Gain 23,428,478
- --------------------------------------------------------------------------------
Change in Net Unrealized Appreciation of Investments
and Options:
Beginning of year 26,066,656
End of year 23,964,662
- --------------------------------------------------------------------------------
Decrease in Net Unrealized Appreciation (2,101,994)
- --------------------------------------------------------------------------------
Net Gain on Investments, Foreign Currencies and Options 21,326,484
- --------------------------------------------------------------------------------
Increase in Net Assets From Operations $ 29,114,312
================================================================================
See Notes to Financial Statements.
11
<PAGE>
- --------------------------------------------------------------------------------
Statements of Changes in Net Assets For the Years Ended November 30,
- --------------------------------------------------------------------------------
1996 1995(a)
================================================================================
OPERATIONS:
Net investment income $ 7,787,828 $ 8,785,204
Net realized gain 23,428,478 3,357,336
Increase (decrease) in net unrealized
appreciation (2,101,994) 26,066,656
- --------------------------------------------------------------------------------
Increase in Net Assets From Operations 29,114,312 38,209,196
- --------------------------------------------------------------------------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income (16,260,991) --
Net realized gains (21,493,619) (3,945,806)
- --------------------------------------------------------------------------------
Decrease in Net Assets From
Distributions to Shareholders (37,754,610) (3,945,806)
- --------------------------------------------------------------------------------
FUND SHARE TRANSACTIONS (NOTE 6):
Net proceeds from sale of shares -- 312,703,308
Net asset value of shares issued
for reinvestment of dividends 36,941,093 3,873,501
Cost of shares reacquired (94,116,308) (41,018,083)
- --------------------------------------------------------------------------------
Increase (Decrease) in Net Assets From
Fund Share Transactions (57,175,215) 275,558,726
- --------------------------------------------------------------------------------
Increase (Decrease) in Net Assets (65,815,513) 309,822,116
NET ASSETS:
Beginning of year 309,822,116 --
- --------------------------------------------------------------------------------
End of year* $ 244,006,603 $ 309,822,116
================================================================================
* Includes undistributed (overdistributed)
net investment income of: $ (192,371) $ 8,292,053
================================================================================
(a) For the period from March 30, 1995 (commencement of operations) to November
30, 1995.
See Notes to Financial Statements.
12
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements
- --------------------------------------------------------------------------------
1. SIGNIFICANT ACCOUNTING POLICIES
The Security and Growth Fund ("Fund") is a separate investment fund of the
Smith Barney Principal Return Fund ("Trust"). The Trust, a Massachusetts
business trust, is registered under the Investment Company Act of 1940, as
amended, as a diversified, open-end management investment company. Shares of the
Fund are not currently being offered for sale to new investors. The Trust
consists of this Fund and two other funds: the Zeros and Appreciation Series
1998 and the Zeros Plus Emerging Growth Series 2000. The financial statements
and financial highlights for the other funds are presented in separate annual
reports.
The significant accounting policies consistently followed by the Fund
are:(a) security transactions are accounted for on the trade date; (b)
securities traded on a national securities exchange are valued at the last sale
price on that exchange or, if there were no sales, at the current quoted bid
price; over-the-counter securities and listed securities are valued at the bid
price at the close of business on each day; U.S. Government securities (other
than short-term securities) are valued at the quoted bid price in the
over-the-counter market; investment in securities for which market quotations
are not available are valued at fair value as determined by the Board of
Trustees; (c) securities maturing within 60 days are valued at cost plus
accreted discount, or minus amortized premium, which approximates market value;
(d) interest income is recorded on the accrual basis and dividend income is
recorded on the ex-dividend date; foreign dividends are recorded on the
ex-dividend date or as soon as practical after the Fund determines the existence
of a dividend declaration after exercising reasonable due diligence; (e) the
accounting records of the Fund are maintained in U.S. dollars. All assets and
liabilities denominated in foreign currencies are translated into U.S. dollars
based on the rate of exchange of such currencies against U.S. dollars on the
date of valuation. Purchases and sales of securities, and income and expenses
are translated at the rate of exchange quoted on the respective date that such
transactions are recorded. Differences between income and expense amounts
recorded and collected or paid are adjusted when reported by the custodian bank;
(f) gains or losses on the sale of securities are calculated by using the
specific identification method; (g) expenses are charged to the Fund; (h)
dividends and distributions to shareholders are recorded by the Fund on the
ex-dividend date; (i) the character of income and gains to be distributed are
determined in accordance with income tax regulations which may differ from
generally accepted accounting principles. At November 30, 1996,
reclassifications were made to the Fund's capital accounts to reflect permanent
book/tax differences and income and gains available for distributions under
income tax regulations. Net investment income, net realized gains and net assets
were not affected by this change; (j) the Fund intends to comply with the
applicable provisions of the Internal Revenue Code of 1986, as amended,
13
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
pertaining to regulated investment companies and to make distributions of
taxable income sufficient to relieve it from substantially all Federal income
and excise taxes; and (k) estimates and assumptions are required to be made
regarding assets, liabilities and changes in net assets resulting from
operations when financial statements are prepared. Changes in the economic
environment, financial markets and any other parameters used in determining
these estimates could cause actual results to differ.
2. MANAGEMENT AGREEMENT AND OTHER TRANSACTIONS
Smith Barney Mutual Funds Management Inc. ("SBMFM"), a subsidiary of Smith
Barney Holdings Inc. ("SBH"), through its Davis Skaggs Investment management
division, acts as investment manager of the Fund. The Fund pays SBMFM a
management fee calculated at an annual rate of 0.50% of the average daily net
assets. This fee is calculated daily and paid monthly.
Smith Barney Inc. ("SB"), another subsidiary of SBH, acts as distributor of
Trust shares.
Pursuant to a Distribution Plan, the Fund pays SB a service fee calculated
at an annual rate of 0.25% of the average daily net assets.
All officers and one Trustee of the Trust are employees of SB.
3. INVESTMENTS
During the year ended November 30, 1996, the aggregate cost of purchases
and proceeds from sales of investments (including maturities, but excluding
short-term securities) were:
================================================================================
Purchases $109,266,461
- --------------------------------------------------------------------------------
Sales 177,638,339
================================================================================
At November 30, 1996, the aggregate gross unrealized appreciation and
depreciation of investments were as follows:
================================================================================
Gross unrealized appreciation $ 34,933,638)*
Gross unrealized depreciation (11,082,657)*
- --------------------------------------------------------------------------------
Net unrealized appreciation $ 23,850,981)*
================================================================================
* Substantially the same for Federal income tax purposes.
14
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
4. REPURCHASE AGREEMENTS
The Fund purchases (and its custodian takes possession of) U.S. Government
securities from banks and securities dealers subject to agreements to resell the
securities to the sellers at a future date (generally, the next business day) at
an agreed-upon higher repurchase price. The Fund requires continual maintenance
of the market value of the collateral in amounts at least equal to the
repurchase price.
5. OPTION CONTRACTS
Premiums paid when put or call options are purchased by the Fund, represent
investments, which are marked-to-market daily. When a purchased option expires,
the Fund will realize a loss in the amount of the premium paid. When the Fund
enters into a closing sales transaction, the Fund will realize a gain or loss
depending on whether the proceeds from the closing sales transaction are greater
or less than the premium paid for the option. When the Fund exercises a put
option, they will realize a gain or loss from the sale of the underlying
security and the proceeds from such sale will be decreased by the premium
originally paid. When the Fund exercises a call option, the cost of the security
which the Fund purchases upon exercise will be increased by the premium
originally paid.
As of November 30, 1996, the Fund held no purchased put or call options.
When the Fund writes a call or put option, an amount equal to the premium
received by the Fund is recorded as a liability, the value of which is
marked-to-market daily. When a written option expires, the Fund realizes a gain
equal to the amount of the premium received. When the Fund enters into a closing
purchase transaction, the Fund realizes a gain (or loss if the cost of the
closing purchase transaction exceeds the premium received when the option was
sold) without regard to any unrealized gain or loss on the underlying security,
and the liability related to such option is eliminated. When a written call
option is exercised the cost of the security sold will be decreased by the
premium originally received. When a written put option is exercised, the amount
of the premium originally received will reduce the cost of the security which
the Fund purchased upon exercise. When written index options are exercised,
settlement is made in cash. The risk associated with purchasing options is
limited to the premium originally paid. The Fund enters into options for hedging
purposes. The risk in writing a call option is that the Fund gives up the
opportunity to participate in any increase in the price of the underlying
security beyond the exercise price. The risk in writing a put option is that the
Fund is exposed to the risk of loss if the market price of the underlying
security declines.
15
<PAGE>
- --------------------------------------------------------------------------------
Notes to Financial Statements (continued)
- --------------------------------------------------------------------------------
The following covered call option transactions occurred during the year
ended November 30, 1996:
Number of
Premium Contracts
================================================================================
Options written, outstanding at November 30, 1995 $ -- --
Options written during the year ended November 30, 1996 188,681 1,500
- --------------------------------------------------------------------------------
Options written, outstanding at November 30, 1996 $188,681 1,500
================================================================================
The following represents the covered call option written contracts as of
November 30, 1996:
Strike
Number of Contracts Expiration Price Value
================================================================================
Covered Call Option Written
1,500 RMI Titanium Co.
(Premiums received -- $188,681) 12/21/96 $25 $(75,000)
================================================================================
6. SHARES OF BENEFICIAL INTEREST
At November 30, 1996, the Fund had an unlimited number of shares of
beneficial interest authorized with a par value of $0.001 per share. The Fund,
the Zeros and Appreciation Series 1998 and the Zeros Plus Emerging Growth Series
2000 each constitute a sub-trust under the Master Trust Agreement. Transactions
in shares of the Fund were as follows:
Year Ended Year Ended
November 30, 1996 November 30, 1995(a)
================================================================================
Shares sold -- 32,573,641
Shares issued on reinvestment 3,534,156 368,907
Shares redeemed (8,683,354) (3,924,960)
- --------------------------------------------------------------------------------
Net Increase (Decrease) (5,149,198) 29,017,588
================================================================================
(a) For the period from March 30, 1995 (commencement of operations) to November
30, 1995.
16
<PAGE>
- --------------------------------------------------------------------------------
Financial Highlights
- --------------------------------------------------------------------------------
For a share of beneficial interest outstanding throughout each year:
1996 1995(1)
================================================================================
Net Asset Value, Beginning of Year $ 10.68 $ 9.60
- --------------------------------------------------------------------------------
Income From Operations:
Net investment income 0.33 0.28
Net realized and unrealized gain 0.82 0.94
- --------------------------------------------------------------------------------
Total Income From Operations 1.15 1.22
- --------------------------------------------------------------------------------
Less Distributions From:
Net investment income (0.62) --
Net realized gains (0.99) (0.14)
- --------------------------------------------------------------------------------
Total Distributions (1.61) (0.14)
- --------------------------------------------------------------------------------
Net Asset Value, End of Year $ 10.22 $ 10.68
- --------------------------------------------------------------------------------
Total Return 11.15% 12.70%++
- --------------------------------------------------------------------------------
Net Assets, End of Year (000s) $244,007 $309,822
- --------------------------------------------------------------------------------
Ratios to Average Net Assets:
Expenses 0.99% 1.02%+
Net investment income 2.88 4.07+
- --------------------------------------------------------------------------------
Portfolio Turnover Rate 43% 26%
- --------------------------------------------------------------------------------
Average commissions per share
paid on equity transactions $ 0.05 $ 0.06
================================================================================
(1) For the period from March 30, 1995 (commencement of operations) to November
30, 1995.
++ Total return is not annualized, as it may not be representative of the
total return for the year.
+ Annualized.
- --------------------------------------------------------------------------------
Tax Information (unaudited)
- --------------------------------------------------------------------------------
The amount of long-term capital gains paid by the Fund to its shareholders
for the fiscal year ended November 30, 1996, was $5,154,554.
17
<PAGE>
- --------------------------------------------------------------------------------
Independent Auditors' Report
- --------------------------------------------------------------------------------
The Shareholders and Board of Trustees of
Smith Barney Principal Return Fund:
We have audited the accompanying statement of assets and liabilities,
including the schedule of investments, of the Security and Growth Fund of Smith
Barney Principal Return Fund as of November 30, 1996, the related statement of
operations for the year then ended and the statements of changes in net assets
and financial highlights for the year then ended and for the period from March
30, 1995 (commencement of operations) to November 30, 1995. These financial
statements and financial highlights are the responsibility of the Fund's
management. Our responsibility is to express an opinion on these financial
statements and financial highlights based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of
November 30, 1996, by correspondence with the custodian. As to securities
purchased or sold but not received or delivered, we performed other appropriate
auditing procedures. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred
to above present fairly, in all material respects, the financial position of the
Security and Growth Fund of Smith Barney Principal Return Fund as of November
30, 1996, the results of its operations for the year then ended and the changes
in its net assets and financial highlights for the year then ended and for the
period from March 30, 1995 to November 30, 1995, in conformity with generally
accepted accounting principles.
/s/ KPMG Peat Marwick LLP
New York, New York
January 13, 1997
18
<PAGE>
Smith Barney SMITH BARNEY
Principal Return Fund ------------
A Member of TravelersGroup [Logo]
Trustees
Paul R. Ades
Herbert Barg
Alger B. Chapman
Dwight B. Crane
Frank Hubbard
Heath B. McLendon, Chairman
Jerome Miller
Ken Miller
John F. White
Officers
Heath B. McLendon
Chief Executive Officer
Jessica M. Bibliowicz
President
Lewis E. Daidone
Senior Vice President
and Treasurer
John G. Goode
Vice President and
Investment Officer
Thomas M. Reynolds
Controller
Christina T. Sydor
Secretary
Investment Manager
Smith Barney Mutual Funds
Management Inc.
Distributor
Smith Barney Inc.
Custodian
PNCBank, N.A.
This report is submitted for the general
information of the shareholders of Smith
Barney Principal Return Fund -- Security
and Growth Fund. It is not authorized for
distribution to prospective investors unless
accompanied or preceded by a current
Prospectus for the Fund, which contains
information concerning the Fund's invest-
ment policies and expenses as well as other
pertinent information.
Smith Barney
Principal Return Fund
388 Greenwich Street
New York, New York 10013
FD01052 1/97
