GLOBAL UTILITY FUND, INC.
Statement of Additional Information
dated November 29, 1996, as supplemented on March 8, 1997
Global Utility Fund, Inc. (the Fund) is a diversified, open-end management
investment company. The Fund's investment objective is to provide total return,
without incurring undue risk, by investing primarily in income-producing
securities of domestic and foreign companies in the utility industries. Under
normal circumstances, at least 65% of the Fund's total assets will be invested
in a diversified portfolio of equity and debt securities of domestic and foreign
utility companies, principally electric, telecommunications, gas or water
companies. There can be no assurance that the Fund's investment objective will
be achieved. See "Investment Objective and Policies."
The Fund's address is Gateway Center Three, Newark, New Jersey 07102, and
its telephone number is 1-800-225-1852.
This Statement of Additional Information is not a prospectus and should be
read in conjunction with the Fund's Prospectus, dated November 29, 1996, a copy
of which may be obtained upon request from the Fund at the address or telephone
number above.
TABLE OF CONTENTS
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CROSS-REFERENCE
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PAGE PROSPECTUS
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General Information .............................................................. B-2 21
Investment Objective and Policies ................................................ B-2 8
Investment Restrictions .......................................................... B-15 14
Information Regarding Directors and Officers ..................................... B-16 15
Management of the Fund ........................................................... B-18 15
Portfolio Transactions and Brokerage ............................................. B-22 18
Purchase and Redemption of Fund Shares ........................................... B-23 21
Shareholder Investment Account ................................................... B-26 30
Net Asset Value .................................................................. B-29 18
Taxes ............................................................................ B-30 19
Performance Information .......................................................... B-32 19
Custodian, Transfer and Dividend Disbursing Agent and Independent Accountants .... B-34 18
Financial Statements ............................................................. B-35 -
Independent Auditors' Report ..................................................... B-47 -
Appendix I-General Investment Information ........................................ I-1 -
Appendix II-Historical Performance Data .......................................... II-1 -
Appendix III-Information Relating to The Prudential .............................. III-1 -
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GENERAL INFORMATION
Global Utility Fund, Inc. (the Fund), a Maryland corporation, is a
diversified, open-end management investment company registered under the
Investment Company Act of 1940, as amended (the 1940 Act). The Fund was
incorporated under the name The Utility Income Fund, Inc. On October 20, 1989
the Fund changed its name to Global Utility Fund, Inc. The Fund operated as a
closed-end fund until February 1, 1991. Since February 4, 1991, the Fund has
operated as an open-end fund.
INVESTMENT OBJECTIVE AND POLICIES
The Fund's investment objective is to provide total return, without
incurring undue risk, by investing primarily in income-producing securities of
domestic and foreign companies in the utility industries. The Fund's total
return will consist of current income and growth of capital. Wellington
Management Company, the Fund's subadviser (the Subadviser), will seek to achieve
the Fund's objective by investing, under normal circumstances, at least 65% of
the Fund's total assets in a diversified portfolio of common stocks, debt
securities and preferred stocks issued by domestic and foreign companies
primarily engaged in the ownership or operation of facilities used in the
generation, transmission or distribution of electricity, telecommunications, gas
or water. There can be no assurance that the Fund's investment objective will be
achieved.
UTILITY INDUSTRIES-DESCRIPTION AND RISK FACTORS
Utility companies in the United States and in foreign countries are
generally subject to regulation. In the United States, most utility companies
are regulated by state and/or federal authorities. Such regulation is intended
to ensure appropriate standards of service and adequate capacity to meet public
demand. Prices are also regulated, with the intention of protecting the public
while ensuring that the rate of return earned by utility companies is sufficient
to allow them to attract capital in order to grow and continue to provide
appropriate services. There can be no assurance that such pricing policies or
rates of return will continue in the future.
The nature of regulation of utility industries is evolving both in the
United States and in foreign countries. Changes in regulations in the United
States increasingly allow utility companies to provide services and products
outside their traditional geographic areas and lines of business, creating new
areas of competition within the industries. Furthermore, the Subadviser believes
that the emergence of competition will result in utility companies potentially
earning more than their traditional regulated rates of return. Although certain
companies may develop more profitable opportunities, others may be forced to
defend their core businesses and may be less profitable. The Subadviser seeks to
take advantage of favorable investment opportunities that are expected to arise
from these structural changes. Of course, there can be no assurance that
favorable developments will occur in the future.
Foreign utility companies are also subject to regulation, although such
regulation may or may not be comparable to that in the United States. Foreign
regulatory systems vary from country to country, and may evolve in ways
different from regulation in the United States. See "Foreign Securities" in this
Statement of Additional Information and in the Prospectus.
The Fund's investment policies are designed to enable it to capitalize on
evolving investment opportunities throughout the world. For example, the rapid
growth of certain foreign economies will necessitate expansion of capacity in
the utility industries in those countries. Although many foreign utility
companies currently are government-owned, thereby limiting current investment
opportunities for the Fund, the Subadviser believes that, in order to attract
significant capital for growth, foreign governments are likely to seek global
investors through the privatization of their utility industries. Privatization,
which refers to the trend toward investor ownership of assets rather than
government ownership, is expected to occur in newer, faster-growing economies
and also in more mature economies. In addition, the economic unification of
European markets is expected to improve economic growth, reduce costs and
increase competition in Europe, which will result in opportunities for
investment by the Fund in European utility industries. Of course, there is no
assurance that such favorable developments will occur or that investment
opportunities in foreign markets for the Fund will increase.
The revenues of domestic and foreign utility companies generally reflect the
economic growth and developments in the geographic areas in which they do
business. The Subadviser takes into account anticipated economic growth rates
and other economic developments when selecting securities of utility companies.
Further descriptions of some of the anticipated opportunities and risks of
specific segments within the global utility industries are set forth below.
ELECTRIC. The electric utility industry consists of companies that are
engaged principally in the generation, transmission and sale of electric energy,
although many such companies also provide other energy-related services.
Domestic electric utility companies in general recently have been favorably
affected by lower fuel and financing costs and the full or near completion of
major construction programs. In addition, many of these companies recently have
generated cash flows in excess of current operating expenses and construction
expenditures, permitting some degree of diversification into unregulated
businesses. Some electric utilities have also taken advantage of the right to
sell power outside of their traditional geographic areas. Electric utility
companies have historically been subject to the risks associated with increases
in fuel and other operating costs, high interest
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costs on borrowings needed for capital construction programs, costs associated
with compliance with environmental, nuclear facility and other safety
regulations and changes in the regulatory climate. For example, in the United
States, the construction and operation of nuclear power facilities is subject to
increased scrutiny by, and evolving regulations of, the Nuclear Regulatory
Commission. Increased scrutiny might result in higher operating costs and higher
capital expenditures, with the risk that regulators may disallow inclusion of
these costs in rate authorizations.
TELECOMMUNICATIONS. The telephone communications industry is a distinct
utility industry segment that is subject to different risks and opportunities.
Companies that provide telephone services and access to the telephone networks
comprise the largest portion of this segment. The telephone industry is large
and highly concentrated. Telephone companies in the United States are still
experiencing the effects of the break-up of American Telephone & Telegraph
Company, which occurred in 1984. Since that date the number of local and
long-distance companies and the competition among such companies has increased.
In addition, since 1984, companies engaged in telephone communication services
have expanded their nonregulated activities into other businesses, including
cellular telephone services, data processing, equipment retailing and software
services. This expansion has provided significant opportunities for certain
telephone companies to increase their earnings and dividends at faster rates
than have been allowed in traditional regulated businesses. Increasing
competition and other structural changes, however, could adversely affect the
profitability of such utilities.
GAS. Gas transmission companies and gas distribution companies are also
undergoing significant changes. In the United States, interstate transmission
companies are regulated by the Federal Energy Regulatory Commission, which is
reducing its regulation of the industry. Many companies have diversified into
oil and gas exploration and development, making returns more sensitive to energy
prices. In the recent decade, gas utility companies have been adversely affected
by disruption in the oil industry and have also been affected by increased
concentration and competition. In the opinion of the Subadviser, however,
environmental considerations could improve the gas industry outlook in the
future. For example, natural gas is the cleanest of the hydrocarbon fuels and
this may result in incremental shifts in fuel consumption toward natural gas and
away from oil and coal.
WATER. Water supply utilities are companies that collect, purify, distribute
and sell water. In the United States and around the world, the industry is
highly fragmented, because most of the supplies are owned by local authorities.
Companies in this industry are generally mature and are experiencing little or
no per capita volume growth. In the opinion of the Subadviser, there may be
opportunities for certain companies to acquire other water utility companies.
The Subadviser believes that favorable investment opportunities may result from
consolidation within this industry.
There can be no assurance that the positive developments noted above,
including those relating to business growth and changing regulation, will occur
or that risk factors other than those noted above will not develop in the
future.
FOREIGN SECURITIES
Foreign securities in which the Fund invests generally will be denominated
in foreign currencies and will be traded on foreign markets, including foreign
stock exchanges. Foreign securities also may include securities of foreign
issuers that are traded in U.S. dollars in the United States although the
underlying security is usually denominated in a foreign currency. These
securities include, but are not limited to, securities traded in the form of
American Depository Receipts (ADRs) and securities registered in the United
States by foreign (including Canadian) governmental or private issuers, foreign
banks and foreign branches of U.S. banks. These securities also include European
Depository Receipts and Global Depository Receipts (EDRs and GDRs,
respectively).
Restrictions and controls on investment in the securities markets of some
countries may have an adverse effect on the availability and costs to the Fund
of investments in those countries. Costs may be incurred in connection with
conversions between various currencies. Moreover, there may be less publicly
available information about foreign issuers than about domestic issuers, and
foreign issuers generally are not subject to accounting, auditing and financial
reporting standards and requirements comparable to those of domestic issuers.
The value of the assets of the Fund as measured in dollars also may be
affected favorably or unfavorably by fluctuations in currency rates and exchange
control regulations. A change in the value of any such currency relative to the
U.S. dollar will result in a corresponding change in the U.S. dollar value of
the Fund's assets denominated in that currency. These changes will also affect
the Fund's return, income and distributions to shareholders. In addition,
although the Fund will receive income in such currencies, the Fund will be
required to compute and distribute its income in U.S. dollars. Therefore, if the
value of the U.S. dollar strengthens against a foreign currency after the Fund's
income has been accrued and translated into U.S. dollars, the Fund would
experience a foreign currency loss. Similarly, if the U.S. dollar value weakens
against a foreign currency between the time the Fund incurs expenses and the
time such expenses are paid, the amount of such currency required to be
converted into U.S. dollars in order to pay such expenses in U.S. dollars will
be greater than the equivalent amount of such currency at the time such expenses
were incurred. Under the Internal Revenue Code of 1986, as amended (the Code),
changes in an exchange rate which occur between the time the Fund accrues
interest or other receivables or accrues expenses or other liabilities
denominated in a foreign currency and
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the time the Fund actually collects such receivables or pays such liabilities
will result in foreign exchange gains or losses that increase or decrease
investment company taxable income. Similarly, dispositions of certain debt
securities (by sale, at maturity or otherwise) at a U.S. dollar value that is
higher or lower than the Fund's original U.S. dollar cost may result in foreign
exchange gains or losses, which will increase or decrease investment company
taxable income. To the extent the Fund's currency exchange transactions do not
fully protect the Fund against adverse changes in exchange rates, decreases in
the value of the currencies of the countries in which the Fund invests relative
to the U.S. dollar will result in a corresponding decrease in the U.S. dollar
value of the Fund's assets denominated in those currencies. The exchange rates
between the U.S. dollar and other currencies can be volatile and are determined
by factors such as supply and demand in the currency exchange markets,
international balances of payments, government intervention, speculation and
other economic and political conditions.
The costs attributable to foreign investing that the Fund must bear are
higher than those attributable to domestic investing. For example, the cost of
maintaining custody of foreign securities generally exceeds custodian costs for
domestic securities, and transaction and settlement costs of foreign investing
also frequently are higher than those attributable to domestic investing.
Investment income on certain foreign securities in which the Fund may invest may
be subject to foreign withholding or other government taxes that could reduce
the return to investors on these securities. Tax treaties between the United
States and certain foreign countries, however, may reduce or eliminate the
amount of foreign tax to which the Fund would be subject. See "Taxes."
OTHER INVESTMENT STRATEGIES
At the discretion of the Subadviser, the Fund may employ the following
strategies in pursuing its investment objective.
LENDING OF SECURITIES AND REPURCHASE AGREEMENTS. As described in the
Prospectus, consistent with applicable regulatory requirements, the Fund may
lend securities valued at up to 30% of its total assets to brokers, dealers,
banks or other recognized institutional borrowers of securities, provided that
such loans are callable at any time by the Fund and are at all times secured by
cash or equivalent collateral that is equal to at least the market value,
determined daily, of the loaned securities. If the borrower fails to maintain
the requisite amount of collateral, the loan automatically terminates and the
Fund could use the collateral to replace the securities while holding the
borrower liable for any excess of the replacement cost over the value of the
collateral. As with any extension of credit, there are risks of delay in
recovery and in some cases even loss of rights in the collateral should the
borrower of the securities fail financially. On termination of the loan, the
borrower is required to return the securities to the Fund, and any gain or loss
in the market price during the loan would inure to the Fund. The Fund may pay
reasonable administrative and custodial fees in connection with loans of its
securities.
The Fund may purchase U.S. Government securities and concurrently enter into
"repurchase agreements" with the seller of the securities whereby the seller
agrees to repurchase the securities at a specified price within a specified time
(generally one business day). The Fund's repurchase agreements will at all times
be fully collateralized in an amount as least equal to the repurchase price,
including accrued interest earned on the loan. The collateral will be held by
the Fund's custodian bank, either physically or in a book-entry account. The
Fund will not enter into a repurchase agreement with a maturity of more than
seven days if, as a result, more than 10% of the value of its total assets would
be invested in such repurchase agreements and other illiquid securities,
including securities that are illiquid by virtue of the absence of a readily
available market.
The Fund will enter into securities lending and repurchase agreement
transactions only with parties that meet creditworthiness standards approved by
the Fund's Board of Directors. The Subadviser will monitor and evaluate the
creditworthiness of such parties under the general supervision of the Board of
Directors. In the event of a default or bankruptcy by a contra-party, the Fund
will promptly seek to liquidate the collateral. To the extent that the proceeds
from any sale of such collateral upon a default in the obligation to repurchase
are less than the repurchase price, the Fund will suffer a loss.
The Fund participates in a joint repurchase account with other investment
companies managed by Prudential Mutual Fund Management, Inc. (PMF) pursuant to
an order of the SEC. On a daily basis, any uninvested cash balances of the Fund
may be aggregated with those of such investment companies and invested in one or
more repurchase agreements. Each fund participates in the income earned or
accrued in the joint account based on the percentage of its investment.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES. From time to time in the
ordinary course of business, the Fund may purchase securities on a when-issued
or delayed delivery basis, i.e., delivery and payment can take place as much as
a month or more after the date of the transaction. The purchase price and other
terms of the securities are fixed on the transaction date. Such investments are
subject to market fluctuation, and no interest accrues to the Fund until
delivery and payment take place. At the time the Fund makes the commitment to
purchase securities on a when-issued or delayed delivery basis, it will record
the transaction and thereafter reflect the value of such investments in
determining its net asset value on each day that net asset value is determined.
The Fund will make commitments for such when-issued transactions only with the
intention of actually acquiring the underlying securities. To facilitate such
acquisitions, the Fund's custodian bank will maintain, in a separate account of
the Fund, cash or liquid securities having a value equal to or greater than such
commitments. On delivery dates for such transactions, the Fund will meet its
obligations from maturities or sales of securities held in the separate account
and/or from then available
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cash flow. If the Fund chooses to dispose of the right to acquire a when-issued
security prior to its acquisition, it could, as with the disposition of other
assets held in its portfolio, incur a gain or loss due to market fluctuation.
HIGH YIELD SECURITIES. Fixed-income securities are subject to the risk of an
issuer's inability to meet principal and interest payments on the obligations
(credit risk) and may also be subject to price volatility due to such factors as
interest rate sensitivity, market perception of the creditworthiness of the
issuer and general market liquidity (market risk). Lower rated or unrated (i.e.,
high yield) securities, commonly known as "junk bonds," are more likely to react
to developments affecting market and credit risk than are more highly rated
securities, which react primarily to movements in the general level of interest
rates. The Subadviser considers both credit risk and market risk in making
investment decisions for the Fund. Investors should carefully consider the
relative risks of investing in high yield securities and understand that such
securities are not generally meant for short-term investing.
Lower rated or unrated debt obligations also present risks based on payment
expectations. If an issuer calls the obligation for redemption, the Fund may
have to replace the security with a lower yielding security, resulting in a
decreased return for investors. If the Fund experiences unexpected net
redemptions, it may be forced to sell its higher quality securities, resulting
in a decline in the overall credit quality of the Fund's portfolio and
increasing the exposure of the Fund to the risks of high yield securities.
ADDITIONAL INVESTMENT POLICIES
In seeking to protect against the effect of changes in interest rates or
currency exchange rates that are adverse to the present or prospective position
of the Fund and to enhance returns, the Fund may employ certain hedging, yield
enhancement and risk management techniques including the purchase and sale of
options, futures and options on futures on equity and debt securities, indices
of prices of equity and debt securities, other financial indices, foreign
currencies and forward contracts on foreign currencies. The Fund's ability to
engage in these practices may be limited by tax considerations and certain other
legal considerations. See "Taxes."
OPTIONS ON SECURITIES
The Fund may purchase put and call options and write put and call options on
equity and debt securities, aggregates of equity and debt securities or indices
of prices thereof, other financial indices and foreign currencies. These may
include options traded on U.S. or foreign exchanges and options traded in U.S.
or foreign over-the-counter (OTC) markets. Currently, many options on equity
securities and options on currencies are exchange-traded, whereas options on
debt securities are primarily traded on the OTC market.
When the Fund writes an option, it receives a premium which it retains
whether or not the option is exercised. The Fund's principal objective in
writing options is to realize, through the receipt of premiums, a greater return
than would be realized on the underlying securities alone.
The purchaser of a call option has the right, for a specified period of
time, to purchase the securities subject to the option at a specified price (the
exercise price or strike price). By writing a call option, the Fund becomes
obligated during the term of the option, upon exercise of the option, to sell,
depending upon the terms of the option contract, the underlying securities or a
specified amount of cash to the purchaser against receipt of the exercise price.
When the Fund writes a call option, the Fund loses the potential for a gain on
the underlying securities in excess of the exercise price of the option during
the period that the option is open.
Conversely, the purchaser of a put option has the right, for a specified
period of time, to sell the securities subject to the option to the writer of
the put at the specified exercise price. By writing a put option, the Fund
becomes obligated during the term of the option, upon exercise of the option, to
purchase the securities underlying the option at the exercise price. The Fund
might, therefore, be obligated to purchase the underlying securities for more
than their current market price.
The Fund may write only "covered" options or options for which it
establishes and maintains with its Custodian for the term of the option a
segregated account consisting of cash, U.S. Government securities, equity
securities or other liquid, unencumbered assets, marked-to-market daily, having
a value at least equal to the fluctuating market value of the optioned
securities. An option is covered so long as the Fund is obligated as the writer
of a call option, to own the underlying securities subject to the option or an
option to purchase the same underlying securities, having an exercise price
equal to or less than the exercise price of the "covered" option. A put option
written by the Fund will be considered "covered" if, so long as the Fund is
obligated as the writer of the option, it owns an option to sell the underlying
securities subject to the option having an exercise price equal to or greater
than the exercise price of the "covered" option; otherwise the Fund will deposit
and maintain with its Custodian in a segregated account cash, U.S. Government
securities, equity securities or other liquid, unencumbered assets,
marked-to-market daily, having a value equal to or greater than the exercise
price of the option.
The Fund may also buy and write straddles (i.e., a combination of a call and
a put written on the same security at the same exercise price where the same
issue of the security is considered "cover" for both the put and the call). In
such cases, the Fund will
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also deposit in a segregated account with its Custodian cash, U.S. Government
securities, equity securities or other liquid, unencumbered assets,
marked-to-market daily, equivalent in value to the amount, if any, by which the
put is "in-the-money," i.e., the amount by which the exercise price of the put
exceeds the current market value of the underlying security.
The Fund may write both American style options and European style options.
An American style option is an option which may be exercised by the holder at
any time prior to its expiration. A European style option, however, may only be
exercised as of the expiration of the option. The writer of an American style
option has no control over when the underlying securities must be sold, in the
case of a call option, or purchased, in the case of a put option, since such
options may be exercised by the holder at any time prior to the expiration of
the option. Whether or not an option expires unexercised, the writer retains the
amount of the premium. This amount may be offset or exceeded, in the case of a
covered call option, by a decline and, in the case of a covered put option, by
an increase in the market value of the underlying security during the option
period. If a call option is exercised the writer must fulfill the obligation to
sell the underlying security at the exercise price, which will usually be lower
than the then market value of the underlying security. If a put option is
exercised, the writer must fulfill the obligation to purchase the underlying
security at the exercise price, which will usually exceed the then market value
of the underlying security.
The writer of an exchange-traded option that wishes to terminate its
obligation may effect a "closing purchase transaction." This is accomplished by
buying an option of the same series as the option previously written. (Options
of the same series are options with respect to the same underlying security,
having the same expiration date and the same strike price.) The effect of the
purchase is that the writer's position will be canceled by the exchange's
affiliated clearing organization. However, the writer of an option may not
effect a closing purchase transaction after being notified of the exercise of
the option. Likewise, an investor who is the holder of an option may liquidate a
position by effecting a "closing sale transaction." This is accomplished by
selling an option of the same series as the option previously purchased. There
is no guarantee that either a closing purchase or a closing sale transaction can
be effected.
An exchange-traded option position may be closed out only where there exists
a secondary market for an option of the same series. If a secondary market does
not exist, it might not be possible to effect closing transactions in a
particular option the Fund has purchased with the result that the Fund would
have to exercise the option in order to realize any profit. If the Fund is
unable to effect a closing purchase transaction in a secondary market in an
option the Fund has written, it will not be able to sell the underlying security
until the option expires or it delivers the underlying security upon exercise or
it otherwise covers its position. Reasons for the absence of a liquid secondary
market include the following: (i) there may be insufficient trading interest in
certain options; (ii) restrictions may be imposed by a securities exchange
(Exchange) on opening transactions or closing transactions or both; (iii)
trading halts, suspensions or other restrictions may be imposed with respect to
particular classes or series of options or underlying securities; (iv) unusual
or unforeseen circumstances may interrupt normal operations on an Exchange; (v)
the facilities of an Exchange or clearing organization may not at all times be
adequate to handle current trading volume; or (vi) one or more Exchanges could,
for economic or other reasons, decide or be compelled at some future date to
discontinue trading of options (or a particular class or series of options), in
which event the secondary market on that Exchange (or in that class or series of
options) would cease to exist, although outstanding options would continue to be
exercisable in accordance with their terms.
Exchange-traded options in the U.S. are issued by clearing organizations
affiliated with the Exchange on which the option is listed which, in effect,
give their guarantee to every exchange-traded option transaction. In contrast,
OTC options are contracts between the Fund and its contra-party with no clearing
organization guarantee. Thus when the Fund purchases an OTC option, it relies on
the dealer from which it has purchased the OTC option to make or take delivery
of the securities underlying the option. Failure by the dealer to do so would
result in the loss of the premium paid by the Fund as well as the loss of the
expected benefit of the transaction. The Board of Directors will evaluate the
creditworthiness of any dealer from which the Fund proposes to purchase options.
Exchange-traded options generally have a continuous liquid market while OTC
options may not. Consequently, the Fund will generally be able to realize the
value of an OTC option it has purchased only by exercising it or reselling it to
the dealer who issued it. Similarly, when the Fund writes an OTC option, it
generally will be able to close out the OTC option prior to its expiration only
by entering into a closing purchase transaction with the dealer to which the
Fund originally sold the OTC option. While the Fund will enter into OTC options
only with dealers which agree to, and which are expected to be capable of,
entering into closing transactions with the Fund, there can be no assurance that
the Fund will be able to liquidate an OTC option at a favorable price at any
time prior to expiration. Until the Fund is able to effect a closing purchase
transaction in a covered OTC call option the Fund has written, it will not be
able to liquidate securities used as cover until the option expires or is
exercised or different cover is substituted. In the event of insolvency of the
contra-party, the Fund may be unable to liquidate an OTC option. With respect to
options written by the Fund, inability to enter into a closing purchase
transaction may result in material losses to the Fund. For example, since the
Fund must maintain a covered position with respect to any call option on a
security it writes, the Fund may be limited in its ability to sell the
underlying security while the option is outstanding. This may impair the Fund's
ability to sell a portfolio security at a time when such a sale might be
advantageous.
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The Fund may write options in connection with buy-and-write transactions;
that is, the Fund may purchase a security and concurrently write a call option
against that security. The exercise price of the call the Fund determines to
write will depend upon the expected price movement of the underlying security.
The exercise price of a call option may be below (in-the-money), equal to
(at-the-money) or above (out-of-the-money) the current value of the underlying
security at the time the option is written. Buy-and-write transactions using
in-the-money call options may be used when it is expected that the price of the
underlying security will remain flat or decline moderately during the option
period. Buy-and-write transactions using at-the-money call options may be used
when it is expected that the price of the underlying security will remain fixed
or advance moderately during the option period. A buy-and-write transaction
using an out-of-the-money call option may be used when it is expected that the
premium received from writing the call option plus the appreciation in the
market price of the underlying security up to the exercise price will be greater
than the appreciation in the price of the underlying security alone. If the call
option is exercised in such a transaction, the Fund's maximum gain will be the
premium received by it for writing the option, adjusted upwards or downwards by
the difference between the Fund's purchase price of the security and the
exercise price of the option. If the option is not exercised and the price of
the underlying security declines, the amount of such decline will be offset in
part, or entirely, by the premium received.
The writing of covered put options is similar in terms of risk/return
characteristics to buy-and-write transactions. If the market price of the
underlying security rises or otherwise is above the exercise price, the put
option will expire worthless and the Fund's gain will be limited to the premium
received. If the market price of the underlying security declines or otherwise
is below the exercise price, the Fund may elect to close out the position or
take delivery of the underlying security at the exercise price. In that case,
the Fund's return will be the premium received from writing the put option,
minus the amount by which the market price of the security is below the exercise
price. Out-of-the-money, at-the-money and in-the-money covered put options may
be written by the Fund in the same market environments in which call options are
written in equivalent buy-and-write transactions.
The Fund may purchase a call option on a security it intends to acquire in
order to hedge against (and thereby benefit from) an anticipated market
appreciation in the price of the underlying security at limited risk and with a
limited cash outlay. If the market price does rise as anticipated, the Fund will
benefit from that rise but only to the extent that the rise exceeds the premium
paid. If the anticipated rise does not occur or if it does not exceed the
premium, the Fund will bear the expense of the option premium without gaining an
offsetting benefit.
The Fund may purchase put options on securities to hedge against a decline
in the value of its portfolio. If the market price of the Fund's portfolio
should increase, however, the profit which the Fund might otherwise have
realized will be reduced by the amount of the premium paid for the put option
and by transaction costs. The Fund may purchase call options on securities to
hedge against an anticipated rise in the price it will have to pay for
securities it intends to buy in the future. If the market price of the
securities should fall instead of rise, however, the benefit the Fund obtains
from purchasing the securities at a lower price will be reduced by both the
amount of the premium paid for the call options and transaction costs.
The Fund may purchase put options if the Fund believes that a defensive
posture is warranted for all or a portion of its portfolio. Protection is
provided during the life of the put because the put gives the Fund the right to
sell the underlying security at the put exercise price, regardless of a decline
in the underlying security's market price below the exercise price. This right
limits the Fund's losses from the security's possible decline in value below the
strike price of the option to the premium paid for the put option and related
transaction costs.
The Fund may wish to protect certain portfolio securities against a decline
in market value at a time when put options on those particular securities are
not available for purchase. The Fund may therefore purchase a put option on
other carefully selected securities, the values of which historically have a
high degree of positive correlation to the values of such portfolio securities.
If the Subadviser's judgement is correct, changes in the value of the put
options should generally offset changes in the value of the portfolio securities
being hedged. But the correlation between the two values may not be as close in
these transactions as in transactions in which the Fund purchases a put option
on an underlying security it owns. If the Subadviser's judgement is not correct,
the value of the securities underlying the put option may decrease less than the
value of the Fund's portfolio securities and therefore the put option may not
provide complete protection against a decline in the value of the Fund's
portfolio securities below the level sought to be protected by the put option.
The Fund may similarly wish to hedge against appreciation in the value of
securities that it intends to acquire at a time when call options on such
securities are not available. The Fund may, therefore, purchase call options on
other carefully selected securities, the values of which historically have a
high degree of positive correlation to values of securities that the Fund
intends to acquire. In such circumstances the Fund will be subject to risks
analogous to those summarized immediately above in the event that the
correlation between the value of call options so purchased and the value of the
securities intended to be acquired by the Fund is not as close as anticipated
and the value of the securities underlying the call options increases less than
the value of the securities to be acquired by the Fund.
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FUTURES CONTRACTS
The Fund will enter into futures contracts only for certain bona fide
hedging, return enhancement and risk management purposes. The Fund may enter
into futures contracts for the purchase or sale of equity and debt securities,
aggregates of debt securities or indices of prices thereof, aggregates of equity
securities or indices of prices thereof, and other financial indices. It may
also enter futures contracts for the purchase or sale of foreign currencies
(such as the Japanese Yen, the British Pound and the German Mark) or composite
foreign currencies (such as the European Currency Unit) in which securities held
or to be acquired by the Fund are denominated, or the value of which have a high
degree of positive correlation to the value of such currencies as to constitute
an appropriate vehicle for hedging. The Fund may enter into such futures
contracts both on U.S. and foreign exchanges.
A "sale" of a futures contract (or a "short" futures position) means the
assumption of a contractual obligation to deliver the securities or currency
underlying the contract at a specified price at a specified future time. A
"purchase" of a futures contract (or a "long" futures position) means the
assumption of a contractual obligation to acquire the securities or currency
underlying the contract at a specified price at a specified future time. Certain
futures contracts are settled on a net cash payment basis rather than by the
sale and delivery of the securities or currency underlying the futures
contracts. U.S. futures contracts have been designed by exchanges that have been
designated as "contract markets" by the Commodity Futures Trading Commission
(the CFTC), an agency of the U.S. Government, and must be executed through a
futures commission merchant (i.e., a brokerage firm) which is a member of the
relevant contract market. Futures contracts trade on these contract markets and
the exchange's affiliated clearing organization guarantees performance of the
contracts as between the clearing members of the exchange.
At the time a futures contract is purchased or sold, the Fund must allocate
cash or securities as a deposit payment (initial margin). It is expected that
the initial margin on U.S. exchanges will vary from 3 to 15% of the value of the
securities or the commodities underlying the contract. Under certain
circumstances, however, such as periods of high volatility, the Fund may be
required by an exchange to increase the level of its initial margin payment.
Thereafter, the futures contract is valued daily and the payment in cash of
"variation margin" may be required, a process known as "mark to market." Each
day the Fund is required to provide or is entitled to receive variation margin
in an amount equal to any decline (in the case of a long futures position) or
increase (in the case of short futures position) in the contract's value since
the preceding day.
Although futures contracts by their terms may call for the actual delivery
or acquisition of underlying securities or currency, in most cases the
contractual obligation is extinguished or offset before the expiration of the
contract without having to make or take delivery of the securities or currency.
The offsetting of a contractual obligation is accomplished by buying (to offset
an earlier sale) or selling (to offset an earlier purchase) an identical futures
contract calling for delivery in the same month. Such a transaction cancels the
obligation to make or take delivery of the underlying securities or currency. In
all transactions on a U.S. futures exchange, the Fund will incur brokerage fees
and related transaction costs when it purchases or sells futures contracts. The
Fund may also incur brokerage fees and related transaction costs when it
purchases or sells futures contracts in markets outside the United States.
The ordinary spreads between values in the cash and futures markets, due to
differences in the character of those markets, are subject to distortions.
First, all participants in the futures market are subject to initial and
variation margin requirements. Rather than meeting additional variation margin
requirements, investors may close futures contracts through offsetting
transactions which could distort the normal relationships between the cash and
futures markets. Second, the liquidity of the futures market depends on
participants entering into offsetting transactions rather than making or taking
delivery. To the extent participants decide to make or take delivery, liquidity
in the futures market could be reduced, thus producing price distortions. Third,
from the point of view of speculators, the margin deposit requirements in the
futures market are less onerous than margin requirements in the securities
market. Increased participation by speculators in the futures market may cause
temporary price distortions. Due to the possibility of distortion, a correct
forecast of general interest rate trends by the Subadviser may still not result
in a successful transaction.
In addition, futures contracts entail risks. Although the Fund believes that
use of such contracts will benefit the Fund, if the Subadviser's judgment about
the general direction of interest rates is incorrect, the Fund's overall
performance would be poorer than if it had not entered into any such contracts.
For example, if the Fund has hedged against the possibility of an increase in
interest rates which would adversely affect the price of debt securities held in
its portfolio and interest rates decrease instead, the Fund will lose part or
all of the benefit of the increased value of its assets which it has hedged
because it will have offsetting losses in its futures positions. In addition,
particularly in such situations, if the Fund has insufficient cash, it may have
to sell assets from its portfolio to meet daily variation margin requirements.
The Fund may have to sell assets at a time when it may be advantageous or
disadvantageous to do so.
If the Fund seeks to hedge against a decline in the value of its portfolio
securities and sells futures contracts for that purpose on other securities
which historically have had a high degree of positive correlation to the value
of the portfolio securities, the value of its portfolio securities might decline
more rapidly than the value of a poorly correlated futures contract rises. In
that case, the hedge will be less effective than if the correlation had been
greater. In a similar but more extreme situation, the value of the futures
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position might in fact decline while the value of portfolio securities holds
steady or rises. This would result in a loss that would not have occurred but
for the attempt to hedge.
OPTIONS ON FUTURES CONTRACTS
The Fund will also enter into options on futures contracts for certain bona
fide hedging, return enhancement and risk management purposes. The Fund may
purchase put and call options and write (i.e., sell) put and call options on
futures contracts that are traded on U.S. and foreign futures exchanges. An
option on a futures contract gives the purchaser the right, in return for the
premium paid, to assume a position in a futures contract (a long position if the
option is a call and a short position if the option is a put) at a specified
exercise price at any time during the option exercise period. The writer of the
option is required upon exercise to assume a short futures position (if the
option is a call) or a long futures position (if the option is a put). Upon
exercise of the option, the assumption of offsetting futures positions by the
writer and holder of the option will be accompanied by delivery of the
accumulated cash balance in the writer's futures margin account which represents
the amount by which the market price of the futures contract at exercise,
exceeds, in the case of a call, or is less than, in the case of a put, the
exercise price of the option on the futures contract.
The Fund will be considered "covered" with respect to a call option it
writes on a futures contract if the Fund owns the securities or currency which
is deliverable under the futures contract or an option to purchase that futures
contract having a strike price equal to or less than the strike price of the
"covered" option and having an expiration date not earlier than the expiration
date of the "covered" option; otherwise, it will segregate and maintain with its
Custodian for the term of the option cash, U.S. Government securities, equity
securities or other liquid, unencumbered assets, marked-to-market daily, equal
to the fluctuating value of the optioned futures. The Fund will be considered
"covered" with respect to a put option it writes on a futures contract if it
owns an option to sell that futures contract having a strike price equal to or
greater than the strike price of the "covered" option and having an expiration
date not earlier than the expiration date of the "covered" option; otherwise, it
will segregate and maintain with its Custodian for the term of the option cash,
U.S. Government securities or liquid high-grade debt obligations at all times
equal in value to the exercise price of the put (less any initial margin
deposited by the Fund with its Custodian with respect to such put option). There
is no limitation on the amount of the Fund's assets which can be placed in the
segregated account.
Writing a put option on a futures contract serves as a partial hedge against
an increase in the value of securities the Fund intends to acquire. If the
futures price at expiration of the option is above the exercise price, the Fund
will retain the full amount of the option premium which provides a partial hedge
against any increase that may have occurred in the price of the securities the
Fund intends to acquire. If the market price of the underlying futures contract
when the option is exercised is below the exercise price, however, the Fund will
incur a loss, which may be wholly or partially offset by the decrease in the
value of the securities the Fund intends to acquire.
Writing a call option on a futures contract serves as a partial hedge
against a decrease in the value of the Fund's portfolio securities. If the
market price of the underlying futures contract at expiration of a written call
option is below the exercise price, the Fund will retain the full amount of the
option premium, thereby partially hedging against any decline that may have
occurred in the Fund's holdings of debt securities. If the futures price when
the option is exercised is above the exercise price, however, the Fund will
incur a loss, which may be wholly or partially offset by the increase in the
value of the securities in the Fund's portfolio which were being hedged.
The Fund will purchase put options on futures contracts to hedge its
portfolio against the risk of a decline in the value of the debt securities it
owns as a result of rising interest rates or fluctuating currency exchange
rates. The Fund will also purchase call options on futures contracts as a hedge
against an increase in the value of securities the Fund intends to acquire as a
result of declining interest rates or fluctuating currency exchange rates.
INTEREST RATE FUTURES CONTRACTS AND OPTIONS THEREON
The Fund will purchase or sell interest rate futures contracts to take
advantage of, or to protect the Fund against, fluctuations in interest rates
affecting the value of debt securities which the Fund holds or intends to
acquire. For example, if interest rates are expected to increase, the Fund might
sell futures contracts on debt securities, the values of which historically have
a high degree of positive correlation to the values of the Fund's portfolio
securities. Such a sale would have an effect similar to selling an equivalent
value of the Fund's portfolio securities. If interest rates increase, the value
of the Fund's portfolio securities will decline, but the value of the futures
contracts to the Fund will increase at approximately an equivalent rate thereby
keeping the net asset value of the Fund from declining as much as it otherwise
would have. The Fund could accomplish similar results by selling debt securities
with longer maturities and investing in debt securities with shorter maturities
when interest rates are expected to increase. However, since the futures market
may be more liquid than the cash market, the use of futures contracts as a risk
management technique allows the Fund to maintain a defensive position without
having to sell its portfolio securities.
Similarly, the Fund may purchase interest rate futures contracts when it is
expected that interest rates may decline. The purchase of futures contracts for
this purpose constitutes a hedge against increases in the price of debt
securities (caused by
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declining interest rates) which the Fund intends to acquire. Since fluctuations
in the value of appropriately selected futures contracts should approximate that
of the debt securities that will be purchased, the Fund can take advantage of
the anticipated rise in the cost of the debt securities without actually buying
them. Subsequently, the Fund can make the intended purchase of the debt
securities in the cash market and liquidate its futures position. To the extent
the Fund enters into futures contracts for this purpose, it will maintain in a
segregated asset account with the Fund's Custodian assets sufficient to cover
the Fund's obligations with respect to such futures contracts, which will
consist of cash, U.S. Government securities, equity securities, or other liquid,
unencumbered assets, marked-to-market daily, in an amount equal to the
difference between the fluctuating market value of such futures contracts and
the aggregate value of the initial margin deposited by the Fund with its
Custodian with respect to such futures contracts.
The purchase of a call option on a futures contract is similar in some
respects to the purchase of a call option on an individual security. Depending
on the pricing of the option compared to either the price of the futures
contract upon which it is based or the price of the underlying debt securities,
it may or may not be less risky than ownership of the futures contract or
underlying debt securities. As with the purchase of futures contracts, when the
Fund is not fully invested, it may purchase a call option on a futures contract
to hedge against a market advance due to declining interest rates.
The purchase of a put option on a futures contract is similar to the
purchase of protective put options on portfolio securities. The Fund will
purchase a put option on a futures contract to hedge the Fund's portfolio
against the risk of rising interest rates and consequent reduction in the value
of portfolio securities.
The writing of a call option on a futures contract constitutes a partial
hedge against declining prices of the securities which are deliverable upon
exercise of the futures contract. If the futures price at expiration of the
option is below the exercise price, the Fund will retain the full amount of the
option premium which provides a partial hedge against any decline that may have
occurred in the Fund's portfolio holdings. The writing of a put option on a
futures contract constitutes a partial hedge against increasing prices of the
securities which are deliverable upon exercise of the futures contract. If the
futures price at expiration of the option is higher than the exercise price, the
Fund will retain the full amount of the option premium which provides a partial
hedge against any increase in the price of debt securities which the Fund
intends to purchase. If a put or call option the Fund has written is exercised,
the Fund will incur a loss which will be reduced by the amount of the premium it
received. Depending on the degree of correlation between changes in the value of
its portfolio securities and changes in the value of its futures positions, the
Fund's losses from options on futures it has written may to some extent be
reduced or increased by changes in the value of its portfolio securities.
CURRENCY FUTURES AND OPTIONS THEREON
Generally, foreign currency futures contracts and options thereon are
similar to the interest rate futures contracts and options thereon discussed
previously. By entering into currency futures and options thereon on U.S. and
foreign exchanges, the Fund will seek to establish the rate at which it will be
entitled to exchange U.S. dollars for another currency at a future time. By
selling currency futures, the Fund will seek to establish the number of dollars
it will receive at delivery for a certain amount of a foreign currency. In this
way, whenever the Fund anticipates a decline in the value of a foreign currency
against the U.S. dollar, the Fund can attempt to "lock in" the U.S. dollar value
of some or all of the securities held in its portfolio that are denominated in
that currency. By purchasing currency futures, the Fund can establish the number
of dollars it will be required to pay for a specified amount of a foreign
currency in a future month. Thus if the Fund intends to buy securities in the
future and expects the U.S. dollar to decline against the relevant foreign
currency during the period before the purchase is effected, the Fund can attempt
to "lock in" the price in U.S. dollars of the securities it intends to acquire.
The purchase of options on currency futures will allow the Fund, for the
price of the premium and related transaction costs it must pay for the option,
to decide whether or not to buy (in the case of a call option) or to sell (in
the case of a put option) a futures contract at a specified price at any time
during the period before the option expires. If the Subadviser, in purchasing an
option, has been correct in its judgement concerning the direction in which the
price of a foreign currency would move as against the U.S. dollar, the Fund may
exercise the option and thereby take a futures position to hedge against the
risk it had correctly anticipated or close out the option position at a gain
that will offset, to some extent, currency exchange losses otherwise suffered by
the Fund. If exchange rates move in a way the Fund did not anticipate, however,
the Fund will have incurred the expense of the option without obtaining the
expected benefit; any such movement in exchange rates may also thereby reduce
rather than enhance the Fund's profits on its underlying securities
transactions.
OPTIONS ON CURRENCIES
Instead of purchasing or selling futures or forward currency exchange
contracts, the Fund may attempt to accomplish similar objectives by purchasing
put or call options on currencies either on exchanges or in OTC markets or by
writing put options or covered call options on currencies. A put option gives
the Fund the right to purchase a currency at the exercise price until the
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option expires. A call option gives the Fund the right to purchase a currency at
the exercise price until the option expires. Both options serve to insure
against adverse currency price movements in the underlying portfolio assets
designated in a given currency. Currency options traded on U.S. or other
exchanges may be subject to position limits which may limit the ability of the
Fund to fully hedge its positions by purchasing such options.
As in the case of interest rate futures contracts and options thereon, the
Fund may hedge against the risk of a decrease or increase in the U.S. dollar
value of a foreign currency denominated security which the Fund owns or intends
to acquire by purchasing or selling options contracts, futures contracts or
options thereon with respect to a foreign currency other than the foreign
currency in which such security is denominated, where the values of such
different currencies (vis-a-vis the U.S. dollar) historically have a high degree
of positive correlation.
SPECIAL CHARACTERISTICS OF FORWARD CURRENCY CONTRACTS AND ASSOCIATED RISKS
The Fund may use forward currency contracts to protect against uncertainty
in the level of future exchange rates. The Fund will not speculate with forward
currency contracts or foreign currency exchange rates. A forward currency
contract involves bilateral obligations of one party to purchase, and another
party to sell, a specified currency at a future date, which may be any fixed
number of days from the date of the contract agreed upon by the parties, at a
price set at the time the contract is entered into.
The Fund may enter into forward currency contracts with respect to specific
transactions. For example, when the Fund enters into a contract for the purchase
or sale of a security denominated in a foreign currency, or when the Fund
anticipates the receipt in a foreign currency of dividend or interest payments
on a security that it holds, the Fund may desire to "lock-in" the U.S. dollar
price of the security or the U.S. dollar equivalent of such payment, as the case
may be, by entering into a forward contract for the purchase or sale, for a
fixed amount of U.S. dollars per unit of foreign currency, of the amount of
foreign currency involved in the underlying transaction. The Fund will thereby
be able to protect itself against a possible loss resulting from an adverse
change in the relationship between the currency exchange rates during the period
between the date on which the security is purchased or sold, or on which the
payment is declared, and the date on which such payments are made or received.
The Fund also may use forward currency contracts to "lock-in" the U.S.
dollar value of portfolio positions, to increase the Fund's exposure to foreign
currencies that the Subadviser believes may rise in value relative to the U.S.
dollar or to shift the Fund's exposure to foreign currency fluctuations from one
country to another. For example, when the Subadviser believes that the currency
of a particular foreign country may suffer a substantial decline relative to the
U.S. dollar or another currency, it may enter into a forward contract to sell
the amount of the former foreign currency approximating the value of some or all
of the Fund's portfolio securities denominated in such foreign currency. This
investment practice generally is referred to as "cross-hedging" when another
foreign currency is used. The Fund may only cross-hedge using a currency
bearing, in the Subadviser's view, a high degree of positive correlation to the
currency being hedged.
The precise matching of the forward contract amounts and the value of the
securities involved will not generally be possible because the future value of
such securities in foreign currencies will change as a consequence of market
movements in the value of those securities between the date the forward contract
is entered into and the date it is sold. Accordingly, it may be necessary for
the Fund to purchase additional foreign currency on the spot (i.e., cash) market
(and bear the expense of such purchase) if the market value of the security is
less than the amount of foreign currency the Fund is obligated to deliver and if
a decision is made to sell the security and make delivery of the foreign
currency. Conversely, it may be necessary to sell on the spot market some of the
foreign currency received upon the sale of the portfolio security if its market
value exceeds the amount of foreign currency the Fund is obligated to deliver.
The projection of short-term currency market movements is extremely difficult,
and the successful execution of a short-term hedging strategy is highly
uncertain. Forward contracts involve the risk that anticipated currency
movements will not be accurately predicted, causing the Fund to sustain losses
on these contracts and transaction costs. The Fund may enter into forward
contracts or maintain a net exposure on such contracts only if (1) the
consummation of the contracts would not obligate the Fund to deliver an amount
of foreign currency in excess of the value of the Fund's portfolio securities or
other assets denominated in that currency or (2) the Fund maintains cash, U.S.
Government securities, equity securities or other liquid, unencumbered assets,
marked-to-market daily, in a segregated account in an amount not less than the
value of the Fund's total assets committed to the consummation of the contract.
Under normal circumstances, consideration of the prospect for currency parities
will be incorporated into the longer term investment decisions made with regard
to overall diversification strategies. However, the Subadviser believes that it
is important to have the flexibility to enter into such forward contracts when
it determines that the best interests of the Fund will be served.
At or before the maturity of a forward contract requiring the Fund to sell a
currency, the Fund may either sell a portfolio security and use the sale
proceeds to make delivery of the currency or retain the security and offset its
contractual obligation to deliver the currency by purchasing a second contract
pursuant to which the Fund will obtain, on the same maturity date, the same
amount of the currency that it is obligated to deliver. Similarly, the Fund may
close out a forward contract requiring it to purchase a specified currency by
entering into a second contract entitling it to sell the same amount of the same
currency on the maturity date
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of the first contract. The Fund would realize a gain or loss as a result of
entering into such an offsetting forward currency contract under either
circumstance to the extent the exchange rate or rates between the currencies
involved moved between the execution dates of the first contract and the
offsetting contract.
The cost to the Fund of engaging in forward currency contracts varies with
factors such as the currencies involved, the length of the contract period and
the market conditions then prevailing. Because forward currency contracts are
usually entered into on a principal basis, no fees or commission are involved.
The use of forward contracts does not eliminate fluctuations in the prices of
the underlying securities the Fund owns or intends to acquire, but it does fix a
rate of exchange in advance. In addition, although forward currency contracts
limit the risk of loss due to a decline in the value of the hedged currencies,
at the same time they limit any potential gain that might result should the
value of the currencies increase.
Although the Fund values its assets daily in terms of U.S. dollars, it does
not intend to convert its holdings of foreign currencies into U.S. dollars on a
daily basis. The Fund may convert foreign currency from time to time, and
investors should be aware of the costs of currency conversion. Although foreign
exchange dealers do not charge a fee for conversion, they do realize a profit
based on the difference between the prices at which they are buying and selling
various currencies. Thus, a dealer may offer to sell a foreign currency to the
Fund at one rate, while offering a lesser rate of exchange should the Fund
desire to resell that currency to the dealer.
ADDITIONAL RISKS OF OPTIONS ON SECURITIES AND CURRENCIES, FUTURES
CONTRACTS, OPTIONS ON FUTURES CONTRACTS AND FORWARD CONTRACTS
Options, futures contracts and options thereon and forward contracts on
securities and currencies may be traded on foreign exchanges. Such transactions
may not be regulated as effectively as similar transactions in the U.S., may not
involve a clearing mechanism and related guarantees, and are subject to the risk
of governmental actions affecting trading in, or the prices of, foreign
securities. The value of such positions also could be adversely affected by (i)
other complex foreign political, legal and economic factors, (ii) lesser
availability than in the U.S. of data on which to make trading decisions, (iii)
delays in the Fund's ability to act upon economic events occurring in the
foreign markets during non-business hours in the U.S., (iv) the imposition of
different exercise and settlement terms and procedures and margin requirements
than in the U.S., and (v) lesser trading volume.
Exchanges on which options, futures and options on futures are traded may
impose limits on the positions that the Fund may take in certain circumstances.
If so, this would limit the ability of the Fund to fully hedge against these
risks.
Options on foreign currency futures contracts may involve certain additional
risks. Trading options on foreign currency futures contracts is relatively new.
The ability to establish and close out positions in such options is subject to
the maintenance of a liquid secondary market. To mitigate this problem, the Fund
will not purchase or write options on foreign currency futures contracts unless
and until, in the Subadviser's opinion, the market for such options has
developed sufficiently that the risks in connection with such options are not
greater than the risks in connection with transactions in the underlying foreign
currency futures contracts. Compared to the purchase or sale of foreign currency
futures contracts, the purchase of call or put options thereon involves less
potential risk to the Fund because the maximum amount at risk is the premium
paid for the option (plus transaction costs). However, there may be
circumstances when the purchase of a call or put option on a foreign currency
futures contract would result in a loss, such as when there is no movement in
the price of the underlying currency or futures contract, when use of the
underlying futures contract would not.
There is no systematic reporting of last sale information for foreign
currencies or any regulatory requirement that quotations available through
dealers or other market sources be firm or revised on a timely basis. Quotation
information available is generally representative of very large transactions in
the interbank market and thus may not reflect relatively smaller transactions
(i.e., less than $1 million) where rates may be less favorable. The interbank
market in foreign currencies is a global, around-the-clock market. To the extent
that the U.S. options markets are closed while the markets for the underlying
currencies remain open, significant price and rate movements may take place in
the underlying markets that cannot be reflected in the options market until they
reopen. Because foreign currency transactions occurring in the interbank market
involve substantially larger amounts than those that may be involved in the use
of foreign currency options, investors may be disadvantaged by having to deal in
an odd lot market (generally consisting of transactions of less than $1 million)
for the underlying foreign currencies at prices that are less favorable than for
round lots.
The value of a foreign currency option depends upon the value of the
underlying currency relative to the U.S. dollar. As a result, the price of the
option position may vary with changes in the value of either or both currencies
and may have no relationship to the investment merits of a foreign security.
A holder of a stock index option who exercises it before the closing index
value for that day is available runs the risk that the level of the underlying
index may subsequently change. For example, in the case of a call, if such a
change causes the closing index value to fall below the exercise price of the
option on that index, the exercising holder will be required to pay the
difference between the closing index value and the exercise price of the option.
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SPECIAL RISK CONSIDERATIONS RELATING TO FUTURES AND OPTIONS THEREON
The Fund's ability to establish and close out positions in futures contracts
and options on futures contracts will be subject to the development and
maintenance of a liquid market. Although the Fund generally will purchase or
sell only those futures contracts and options thereon for which there appears to
be a liquid market, there is no assurance that a liquid market on an exchange
will exist for any particular futures contract or option thereon at any
particular time. In the event no liquid market exists for a particular futures
contract or option thereon in which the Fund maintains a position, it will not
be possible to effect a closing transaction in that contract or to do so at a
satisfactory price and the Fund would have to either make or take delivery under
the futures contract or, in the case of a written option, wait to sell the
underlying securities until the option expires or is exercised. In the case of a
futures contract or an option on a futures contract which the Fund has written
and which the Fund is unable to close, the Fund would be required to maintain
margin deposits on the futures contract or option and to make variation margin
payments until the contract is closed.
Successful use of futures contracts and options thereon by the Fund is
subject to the ability of the Fund's Subadviser to predict correctly movements
in the direction of interest rates and currency exchange rates and other factors
affecting markets for securities. If the Subadviser's expectations are not met,
the Fund would be in a worse position than if a hedging strategy had not been
pursued. For example, if the Fund has hedged against the possibility of an
increase in interest rates which would adversely affect the price of securities
in its portfolio and the price of such securities increases instead, the Fund
will lose part or all of the benefit of the increased value of its securities
because it will have offsetting losses in its futures positions. In addition, in
such situations, if the Fund has insufficient cash to meet daily variation
margin requirements, it may have to sell securities to meet such requirements.
Such sales of securities may be, but will not necessarily be, at increased
prices which reflect the rising market. The Fund may have to sell securities at
a time when it is disadvantageous to do so.
LIMITATIONS ON THE PURCHASE AND SALE OF FUTURES CONTRACTS AND OPTIONS ON
FUTURES CONTRACTS
The Fund will engage in transactions in interest rate and foreign currency
futures contracts and options thereon only for bona fide hedging, return
enhancement and risk management purposes, in each case in accordance with the
rules and regulations of the CFTC, and not for speculation. In instances
involving the purchase of futures contracts or call options thereon or the
writing of put options thereon by the Fund, an amount of cash, U.S. Government
securities, equity securities or other liquid, unencumbered assets,
marked-to-market daily, equal to the market value of the futures contracts and
options thereon (less any related margin deposits), will be deposited in a
segregated account with the Fund's Custodian to cover the position, or the Fund
will own an offsetting position in securities, currencies or other options,
forward-currency contracts or futures contracts sufficient to ensure that the
use of such techniques is unleveraged. There are no limitations on the Fund's
use of futures contracts and options on futures contracts beyond the
restrictions set forth above and the economic limitations that are implicit in
the use of futures and options on futures, within these restrictions, only for
bona fide hedging, yield enhancement and risk management purposes, in each case
in accordance with rules and regulations of the CFTC and not for speculation.
Although the Fund intends to purchase or sell futures and options on futures
only on exchanges where there appears to be an active market, there is no
guarantee that an active market will exist for any particular contract or at any
particular time. If there is not a liquid market at a particular time, it may
not be possible to close a futures position at such time, and, in the event of
adverse price movements, the Fund would continue to be required to make daily
cash payments of variation margin. However, when futures positions are used to
hedge portfolio securities, such securities will not be sold until the futures
positions can be liquidated. In such circumstances, an increase in the price of
securities, if any, may partially or completely offset losses on the futures
contracts.
ILLIQUID SECURITIES
The Fund may not hold more than 10% of its total assets in repurchase
agreements which have a maturity of longer than seven days or in other illiquid
securities, including securities that are illiquid by virtue of the absence of a
readily available market (either within or outside of the United States) or
legal or contractual restrictions on resale. Securities eligible for resale in
accordance with Rule 144A under the Securities Act of 1933, as amended (the
Securities Act) and privately placed commercial paper that have legal or
contractual restrictions on resale but have a readily available market are not
considered illiquid for purposes of this limitation. The Subadviser will monitor
the liquidity of such restricted securities under the supervision of the Board
of Directors.
Historically, illiquid securities have included securities subject to
contractual or legal restrictions on resale because they have not been
registered under the Securities Act, securities which are not otherwise readily
marketable, and repurchase agreements having a maturity of longer than seven
days. Securities which have not been registered under the Securities Act are
referred to as private placements or restricted securities and are purchased,
directly from the issuer or in the secondary market. Mutual funds do not
typically hold a significant amount of these restricted or other illiquid
securities because of the potential for
B-13
<PAGE>
delays on resale and uncertainty in valuation. Limitations on resale may have an
adverse effect on the marketability of portfolio securities, and a mutual fund
might be unable to dispose of restricted or other illiquid securities promptly
or at reasonable prices and might thereby experience difficulty satisfying
redemptions within seven days. A mutual fund might also have to register such
restricted securities in order to dispose of them, resulting in additional
expense and delay. Adverse market conditions could impede such a public offering
of securities.
In recent years, however, a large institutional market has developed for
certain securities that are not registered under the Securities Act including
repurchase agreements, commercial paper, foreign securities, municipal
securities and corporate bonds and notes. Institutional investors depend on an
efficient institutional market in which the unregistered security can be readily
resold or on an issuer's ability to honor a demand for repayment. The fact that
there are contractual or legal restrictions on resale to the general public or
to certain institutions may not be indicative of the liquidity of such
investments.
Rule 144A under the Securities Act allows for a broader institutional
trading market for securities otherwise subject to restriction on resale to the
general public. Rule 144A establishes a "safe harbor" from the registration
requirements of the Securities Act for resales of certain securities to
qualified institutional buyers. The Subadviser anticipates that the market for
certain restricted securities such as foreign convertible securities will expand
further as a result of this new regulation and the development of automated
systems for the trading, clearance and settlement of unregistered securities of
domestic and foreign issuers, such as the PORTAL System sponsored by the
National Association of Securities Dealers, Inc.
Restricted securities eligible for resale pursuant to Rule 144A under the
Securities Act and commercial paper for which there is a readily available
market will not be deemed to be illiquid. The Subadviser will monitor the
liquidity of restricted securities in the Fund's portfolio under the supervision
of the Board of Directors. In reaching liquidity decisions, the Subadviser will
consider, inter alia, the following factors: (1) the frequency of trades and
quotes for the security; (2) the number of dealers wishing to purchase or sell
the security and the number of other potential purchasers; (3) dealer
undertakings to make a market in the security; and (4) the nature of the
security and the nature of the marketplace trades (e.g., the time needed to
dispose of the security, the method of soliciting offers and the mechanics of
the transfer). In addition, in order for commercial paper that is issued in
reliance on Section 4(2) of the Securities Act to be considered liquid, (i) it
must be rated in one of the two highest rating categories by at least two
nationally recognized statistical rating organizations (NRSRO), or if only one
NRSRO rates the securities, by that NRSRO, or, if unrated, be of comparable
quality in the view of the investment adviser; and (ii) it must not be "traded
flat" (i.e., without accrued interest) or in default as to principal or
interest. Repurchase agreements subject to demand are deemed to have a maturity
equal to the notice period.
BORROWING
As stated in the Prospectus, the Fund may borrow an amount up to 33 1/3% of
the value of its total assets (computed at the time the loan is made) from banks
for temporary or emergency purposes. However, the Fund will not purchase
portfolio securities if borrowings exceed 5% of the Fund's total assets. Upon
the vote of the Board of Directors to change the nonfundamental policy described
above, the Fund is authorized, at the Subadviser's discretion and under the
supervision of the Board of Directors, to borrow from banks amounts up to 33
1/3% of the Fund's total assets (including the amount borrowed), less all
liabilities and indebtedness other than the specific bank borrowing, which is
equivalent to permitting such borrowing to equal 50% of the value of the Fund's
net assets.
PORTFOLIO TURNOVER
The Fund has no fixed policy with respect to portfolio turnover; however, as
a result of the Fund's investment policies, the Subadviser expects the annual
portfolio turnover rate will be less than 100%. For the Fund's fiscal years
ended September 30, 1995 and 1996 its portfolio turnover was 15% and 13%,
respectively. The portfolio turnover rate is calculated by dividing the lesser
of sales or purchases of portfolio securities by the average monthly value of
the Fund's portfolio securities, excluding securities having a maturity at the
date of purchase of one year or less. High portfolio turnover may involve
correspondingly greater brokerage commissions and other transaction costs which
will be borne directly by the Fund.
B-14
<PAGE>
INVESTMENT RESTRICTIONS
The following restrictions are fundamental policies. Fundamental policies
are those which cannot be changed without the approval of the holders of a
majority of the Fund's outstanding voting securities. A "majority of the Fund's
outstanding voting securities," when used in this Statement of Additional
Information, means the lesser of (i) 67% of the voting shares represented at a
meeting at which more than 50% of the outstanding voting shares are present in
person or represented by proxy or (ii) more than 50% of the outstanding voting
shares.
The Fund may not:
(1) Invest 25% or more of its total assets in any nonutility industry. (The
Fund will invest 25% or more of its total assets in the utility industries as a
group. Utility industries for this purpose consist of companies primarily
engaged in the ownership or operation of facilities used in the generation,
transmission or distribution of electricity, telecommunications, gas or water.)
For this purpose "industry" does not include the U.S. Government and agencies
and instrumentalities of the U.S. Government.
(2) Invest more than 5% of its total assets in securities of companies
having a record, together with predecessors, of less than three years of
continuous operation. This restriction shall not apply to U.S. Government
agencies and instrumentalities.
(3) As to 75% of its total assets, invest more than 5% of the market or
other fair value of its total assets in the securities of any one issuer (other
than U.S. Government Securities) or purchase more than 10% of the voting
securities, or more than 10% of any class of securities, of any one issuer. For
purposes of this restriction, all outstanding debt securities of an issuer are
considered as one class, and all preferred stock of an issuer is considered as
one class.
(4) Purchase securities on margin, except such short-term credits as may be
necessary for the clearance of transactions. The Fund may make deposits of
margin in connection with futures contracts and options.
(5) Invest in securities of other investment companies, except in connection
with a merger, consolidation, reorganization or acquisition of assets; provided
that the Fund may invest in securities issued by foreign investment companies to
the extent permitted by the 1940 Act.
(6) Make short sales of securities or maintain a short position, except in
connection with the use of options, futures contracts, options thereon and
forward currency contracts.
(7) Issue senior securities, as defined in the 1940 Act, except that the
Fund may borrow money from banks in an amount at the time of the borrowing not
in excess of 33 1/3% of the Fund's total assets (including the amount borrowed)
less all liabilities and indebtedness other than the borrowing. Transactions
involving options, futures contracts, options on futures contracts and forward
currency contracts as described in the Prospectus and collateral arrangements
with respect thereto are not considered by the Fund to be the issuances of
senior securities; and neither such arrangements, the purchase or sale of
securities on a when-issued or delayed delivery basis nor obligations of the
Fund to the Directors pursuant to deferred compensation arrangements, are deemed
to be the issuance of a senior security.
(8) Buy or sell commodities, commodity contracts, real estate or interests
in real estate, except that the Fund may purchase and sell futures contracts,
options on futures contracts and securities secured by real estate or interests
therein or issued by companies that invest therein. Transactions in foreign
currencies, forward currency contracts and options on foreign currencies,
futures contracts and options on futures contracts are not considered by the
Fund to be transactions in commodities or commodity contracts.
(9) Make loans, except loans of portfolio securities and repurchase
agreements, provided that for purposes of this restriction the purchase of debt
securities in accordance with the Fund's investment objective and policies are
not considered by the Fund to be "loans."
(10) Make investments for the purpose of exercising control or management
over the issuer of any security.
(11) Act as an underwriter (except to the extent the Fund may be deemed to
be an underwriter in connection with the sale of securities in the Fund's
investment portfolio).
If a percentage restriction is adhered to at the time of an investment or
transaction, later changes in percentage resulting in a change in values of
portfolio securities or amount of total assets will not be considered a
violation of any of the foregoing limitations. However, in the event that the
Fund's asset coverage for borrowings falls below 300%, the Fund will take prompt
action to reduce its borrowings, as required by applicable law.
B-15
<PAGE>
INFORMATION REGARDING DIRECTORS AND OFFICERS
<TABLE>
<CAPTION>
NAME, ADDRESS+ POSITION(S) HELD PRINCIPAL OCCUPATIONS
AND AGE WITH THE FUND DURING PAST 5 YEARS
- ------------- ---------------- ---------------------
<S> <C> <C>
Eugene C. Dorsey (70) Director Retired President, Chief Executive Officer and Trustee of
the Gannett Foundation (now Freedom Forum); former Publisher of
four Gannett Newspapers and Vice President of Gannett Company;
past Chairman, Independent Sector, Washington, D.C. (largest
national coalition of philanthropic organizations) (since October
1989); former Chairman of the American Council for the Arts; Direc-
tor of the Advisory Board of Chase Manhattan Bank of Rochester,
and The High Yield Income Fund, Inc.
*Douglas H. McCorkindale (57) Director Vice Chairman, Gannett Co. Inc. (publishing and media) (since March
1984); Director of Gannett Co. Inc., Frontier Corporation and
Continental Airlines, Inc.
Thomas T. Mooney (55) Director President of the Greater Rochester Metro Chamber of Commerce;
55 St. Paul Street former Rochester City Manager; Trustee of Center for
Rochester, NY 14604 Governmental Research, Inc.; Director of Blue Cross of Rochester,
Monroe County Water Authority, Rochester Jobs, Inc., Northeast-
Midwest Institute, The Business Council of New York State,
Executive Service Corps of Rochester, Monroe County Industrial
Development Corporation, First Financial Fund, Inc., The High Yield
Plus Fund, Inc. and The High Yield Income Fund, Inc.
*Richard A. Redeker (53) President Employee of Prudential Investments; formerly President, Chief
751 Broad Street and Director Executive Officer and Director (October 1993-September 1996)
Newark, NJ 07102 of Prudential Mutual Fund Management, Inc.; Executive Vice
President, Director and Member of the Operating Committee
(October 1993-September 1996), Prudential Securities Incorporated
(Prudential Securities); Director (October 1993-September 1996) of
Prudential Securities Group, Inc.; Executive Vice President (January
1994-September 1996) The Prudential Investment Corporation (PIC);
Director (January 1994-September 1996) of Prudential Mutual
Fund Distributors, Inc. (PMFD) and Prudential Mutual Fund
Services, Inc. (PMFS); formerly Senior Executive Vice President and
Director (September 1978-September 1993) of Kemper Financial
Services, Inc.; President and Director of The High Yield Income
Fund, Inc.
Susan C. Cote' (42) Vice President Executive Vice President (since February 1997) and Chief Financial
Officer (since May 1996) of Prudential Mutual Fund Management
LLC (PMF or the Manager); Managing Director, Prudential Investments
and Vice President, PIC (February 1995-May 1996); Senior Vice President
(January 1989-January 1995) of Prudential Mutual Fund Manage-
ment, Inc.; Senior Vice President (January 1992-January 1995) of
Prudential Securities.
Thomas A. Early (42) Vice President Executive Vice President, Secretary and General Counsel (since
December 1996) of PMF; Vice President and General Counsel (since
May 1994) of Prudential Retirement Services; formerly Associate
General Counsel and Chief Financial Services Officer, Frank Russell
Company (1988-1994).
</TABLE>
B-16
<PAGE>
<TABLE>
<CAPTION>
NAME, ADDRESS+ POSITION(S) HELD PRINCIPAL OCCUPATIONS
AND AGE WITH THE FUND DURING PAST 5 YEARS
- ------------- ---------------- ---------------------
<S> <C> <C>
S. Jane Rose (51) Secretary Senior Vice President (since December 1996) of PMF; formerly Senior
Vice President (January 1991-September 1996) and Senior
Counsel (June 1987-September 1996) of Prudential Mutual Fund Manage-
ment, Inc.; Senior Vice President and Senior Counsel (since July
1992) of Prudential Securities; formerly Vice President and Associ-
ate General Counsel of Prudential Securities.
Grace C. Torres (38) Treasurer First Vice President (since December 1996) of PMF; formerly First
Vice President (March 1994-September 1996) of Prudential Mutual
Fund Management, Inc.; First Vice President (since March 1994) of
Prudential Securities; prior thereto, Vice President of Bankers Trust
Corporation.
Marguerite E. H. Morrison (40) Assistant Vice President and Associate General Counsel (since December 1996)
Secretary of PMF; Vice President and Associate General Counsel
(June 1991-September 1996) of Prudential Mutual Fund Manage-
ment, Inc.; Vice President and Associate General Counsel of
Prudential Securities.
Stephen M. Ungerman (43) Assistant Tax Director (since March 1996) of Prudential Investments and
Treasurer the Private Asset Group of The Prudential Insurance Company of
America (Prudential); formerly First Vice President of Prudential
Mutual Fund Management, Inc. (February 1993-September 1996); prior
thereto, Senior Tax Manager of Price Waterhouse LLP (1981-January
1993).
<FN>
- -----------------
* Indicates those directors that are "interested persons" of the Fund as defined in the 1940 Act. Mr. McCorkindale is deemed
to be an "interested" director by reason of his limited partnership holdings in two investment vehicles managed by an affiliate
of the Subadviser.
+ Unless otherwise indicated, the address is c/o Prudential Mutual Fund Management LLC, Gateway Center Three, Newark, New
Jersey 07102.
</FN>
</TABLE>
The Directors of the Fund are also trustees, directors and officers of some
or all of the other investment companies distributed by Prudential Securities.
The officers conduct and supervise the daily business operations of the
Fund, while the directors, in addition to their functions set forth under
"Management of the Fund" below, review such actions and decide on general
policy.
The Fund pays each of its Directors who is not employed by the Manager or
the Subadviser annual compensation of $5,000, in addition to certain
out-of-pocket expenses. Directors may receive their Director's fees pursuant to
a deferred fee agreement with the Fund. The amount of annual compensation paid
to each Director may change as a result of the introduction of additional funds
for which the Director will be asked to serve.
The Directors have adopted a retirement policy which calls for the
retirement of Directors on December 31 of the year in which they reach the age
of 72, except that retirement is being phased in for Directors who were age 68
or older as of December 31, 1993.
Directors may receive their Director's fees pursuant to a deferred fee
agreement with the Fund. Under the terms of the agreement, the Fund accrues
daily the amount of Director's fees in installments which accrue interest at a
rate equivalent to the prevailing rate applicable to 90-day U.S. Treasury Bills
at the beginning of each calendar quarter or, pursuant to an SEC exemptive
order, at the daily rate of return of the Fund. Payment of the interest so
accrued is also deferred and accruals become payable at the option of the
Director. The Fund's obligation to make payments of deferred Directors' fees,
together with interest thereon, is a general obligation of the Fund. As of
December 31, 1996, Mr. Dorsey and Ms. Smith elected to reduce their Directors'
fees pursuant to the deferred fee agreement.
Pursuant to the terms of the Management Agreement with the Fund, the Manager
or Subadviser, as appropriate, pays all compensation of officers and employees
of the Fund as well as the fees and expenses of all Directors of the Fund who
are not employed by the Manager or Subadviser.
The following table sets forth the aggregate compensation paid by the Fund
for the fiscal year ended September 30, 1996 to the Directors who are not
affiliated with the Manager or Subadviser and the aggregate compensation paid to
such Directors for
B-17
<PAGE>
service on the Fund's board and that of all other investment companies
registered under the 1940 Act managed by PMF (Fund Complex) for the calendar
year ended December 31, 1996. In October, 1996, shareholders elected a new Board
of Directors. Below are listed all Directors who have served on the Board of the
Fund during its most recent fiscal year, as well as the new Directors who took
office after the shareholder meeting in October.
COMPENSATION TABLE
<TABLE>
TOTAL
PENSION OR COMPENSATION
RETIREMENT FROM FUND
AGGREGATE BENEFITS ACCRUED ESTIMATED ANNUAL AND FUND
COMPENSATION AS PART OF FUND BENEFITS UPON COMPLEX PAID
NAME AND POSITION FROM FUND EXPENSES RETIREMENT TO DIRECTORS
- ----------------- ------------ --------------- ------------- ------------
<S> <C> <C> <C> <C>
Daniel S. Ahearn+, Former Director None None N/A $ --
Edward D. Beach, Former Director $8,000 None N/A $166,000(21/39)**
Eugene C. Dorsey* $8,000 None N/A $ 90,000(12/22)**
Thomas T. Mooney* $8,000 None N/A $ **
Douglas H. McCorkindale* None None N/A $ 71,208(10/13)**
Richard A. Redeker+ None None N/A --
Sir Michael Sandberg,
Former Director $8,000 None N/A $ 26,500(2/2)**
Robin B. Smith*, Former Director $8,000 None N/A $ 89,957(11/20)**
Nancy H. Teeters, Former Director $8,000 None N/A $103,583(11/28)**
<FN>
*Total compensation from all of the Funds in the Fund Complex for the calendar year ended December 31, 1996, includes
amounts deferred at the election of Directors under the Fund's deferred compensation plan. Including accrued interest, total
compensation amounted to approximately $111,535, $71,034, $139,869 and $109,294 for Mr. Dorsey, Mr. McCorkindale, Mr. Mooney
and Ms. Smith, respectively.
**Indicates number of funds/portfolios in Fund Complex (including the Fund) to which aggregate compensation relates.
+Daniel S. Ahearn, who was an interested Director, did not receive, and Richard A. Redeker, who is an interested Director,
does not receive compensation from the Fund or any fund in the Fund Complex.
</FN>
</TABLE>
As of November 3, 1996, the Directors and officers of the Fund as a group
owned less than 1% of the outstanding common stock of the Fund.
As of November 3, 1996, the beneficial owners, directly or indirectly, of
more than 5% of the outstanding shares of any class of beneficial interest were:
Richard L. Campbell, 1367 Vernon North Drive, Dunwoody, GA, who held 2,669 Class
C shares (7.0%); Ernie Romero, 333 Gerald Drive, Lafayette, LA, who held 1,902
Class C shares (5.0%) and Coben, Inc., 8615 Marbach Road, San Antonio, TX, which
held 3,936 Class C shares (10.3%).
As of November 3, 1996, Prudential Securities was the record holder for
other beneficial owners of 6,145,873 Class A shares (or 74% of the outstanding
Class A shares), 11,707,719 Class B shares (or 77% of the outstanding Class B
shares) and 34,214 Class C shares (or 90% of the outstanding Class C shares) of
the Fund. In the event of any meetings of shareholders, Prudential Securities
will forward, or cause the forwarding of, proxy materials to the beneficial
owners for which it is record holder.
MANAGEMENT OF THE FUND
THE MANAGER
The manager of the Fund is Prudential Mutual Fund Management LLC (PMF or the
Manager), Gateway Center Three, Newark, New Jersey 07102. PMF serves as manager
to all of the other open-end management investment companies that, together with
the Fund, comprise the Prudential Mutual Funds. See "How the Fund is
Managed-Manager" in the Prospectus. As of January 31, 1997, PMF managed and/or
administered open-end and closed-end management investment companies with assets
of approximately $55.8 billion. According to the Investment Company Institute,
as of December 31, 1996, the Prudential Mutual Funds was the 15th largest family
of mutual funds in the United States.
PMF is a subsidiary of Prudential Securities and Prudential. PMF has two
wholly-owned subsidiaries: Prudential Mutual Fund Services LLC (PMFS or the
Transfer Agent) and Prudential Mutual Fund Investment Management LLC. PMFS
serves as the transfer agent for the Prudential Mutual Funds and, in addition,
provides customer service, record keeping and management and administration
services to qualified plans.
B-18
<PAGE>
Pursuant to the Management Agreement with the Fund (the Management
Agreement), PMF, subject to the supervision of the Fund's Board of Directors and
in conformity with the stated objective and policies of the Fund, manages both
the investment operations of the Fund and the composition of the Fund's
portfolio, including the purchase, retention, disposition and loan of
securities. In connection therewith, PMF is obligated to keep certain books and
records of the Fund. PMF also administers the Fund's corporate affairs and, in
connection therewith, furnishes the Fund with office facilities, together with
those ordinary clerical and bookkeeping services which are not being furnished
by State Street Bank and Trust Company, the Fund's custodian, and PMFS, the
Fund's transfer and dividend disbursing agent. The management services of PMF
for the Fund are not exclusive under the terms of the Management Agreement and
PMF is free to, and does, render management services to others.
For its services, PMF receives from the Fund, pursuant to the Management
Agreement, a fee at an annual rate of .70% of the average daily net assets of
the Fund up to and including $250 million, .55% of the Fund's average daily net
assets in excess of $250 million up to and including $500 million, .50% of the
Fund's average daily net assets in excess of $500 million up to and including $1
billion and .45% of the Fund's average daily net assets in excess of $1 billion.
The fee is computed daily and payable monthly. The Management Agreement also
provides that, in the event the expenses of the Fund (including the fees of PMF,
but excluding interest, taxes, brokerage commissions, distribution fees and
litigation and indemnification expenses and other extraordinary expenses not
incurred in the ordinary course of the Fund's business) for any fiscal year
exceed the lowest applicable annual expense limitation established and enforced
pursuant to the statutes or regulations of any jurisdiction in which the Fund's
shares are qualified for offer and sale, the compensation due to PMF will be
reduced by the amount of such excess. Reductions in excess of the total
compensation payable to PMF will be paid by PMF to the Fund. No such reductions
were required during the fiscal year ended September 30, 1996. No jurisdiction
currently limits the Fund's expenses.
In connection with its management of the corporate affairs of the Fund, PMF
bears the following expenses: the salaries and expenses of all of its and the
Fund's personnel except the fees and expenses of Directors who are not
affiliated persons of PMF or the Subadviser; all expenses incurred by PMF or by
the Fund in connection with managing the ordinary course of the Fund's business,
other than those assumed by the Fund as described below; and the subadvisory fee
payable to the Subadviser pursuant to the Subadvisory Agreement among the Fund,
PMF and the Subadviser (the Subadvisory Agreement), dated February 4, 1991.
Under the terms of the Management Agreement, the Fund is responsible for the
payment of the following expenses: (a) the fees payable to the Manager, (b) the
fees and expenses of Directors who are not affiliated persons of the Manager or
the Fund's Subadviser, (c) the fees and certain expenses of the Custodian and
Transfer and Dividend Disbursing Agent, including the cost of providing records
to the Manager in connection with its obligation of maintaining required records
of the Fund and of pricing the Fund's shares, (d) the charges and expenses of
legal counsel and independent accountants for the Fund, (e) brokerage
commissions and any issue or transfer taxes chargeable to the Fund in connection
with its securities transactions, (f) all taxes and corporate fees payable by
the Fund to governmental agencies, (g) the fees of any trade associations of
which the Fund may be a member, (h) the cost of stock certificates representing
shares of the Fund, (i) the cost of fidelity and liability insurance, (j)
certain organizational expenses of the Fund and the fees and expenses involved
in registering and maintaining registration of the Fund and of its shares with
the SEC, registering the Fund and qualifying its shares under state securities
laws, including the preparation and printing of the Fund's registration
statements and prospectuses for such purposes, (k) allocable communications
expenses with respect to investor services and all expenses of shareholders' and
Directors' meetings and of preparing, printing and mailing reports, proxy
statements and prospectuses to shareholders in the amount necessary for
distribution to the shareholders, (l) litigation and indemnification expenses
and other extraordinary expenses not incurred in the ordinary course of the
Fund's business and (m) distribution fees.
The Management Agreement provides that PMF will not be liable for any error
of judgment or for any loss suffered by the Fund in connection with the matters
to which the Management Agreement relates, except a loss resulting from willful
misfeasance, bad faith, gross negligence or reckless disregard of duty. The
Management Agreement provides that it will terminate automatically if assigned,
and that it may be terminated without penalty by either party upon not more than
60 days' nor less than 30 days' written notice. The Management Agreement will
continue in effect for a period of more than two years from the date of
execution only so long as such continuance is specifically approved at least
annually in conformity with the 1940 Act. The Management Agreement was last
approved by the Board of Directors of the Fund, including a majority of the
Directors who are not parties to the contract or "interested persons" of any
such party, on May 9, 1996, and by shareholders of the Fund, on December
20,1990.
THE SUBADVISER
Wellington Management Company, LLP (Wellington Management), 75 State Street,
Boston, Massachusetts 02109, serves as the Fund's Subadviser. The Subadvisory
Agreement provides that Wellington Management shall furnish investment advisory
services in connection with the management of the Fund. In connection therewith,
Wellington Management is obligated to keep certain books and records of the
Fund. PMF continues to have responsibility for all investment advisory services
pursuant to the Management Agreement and supervises Wellington Management's
performance of such services. Under the Subadvisory
B-19
<PAGE>
Agreement, PMF, not the Fund, pays Wellington Management a fee, computed daily
and payable monthly, at an annual rate of .50% of the Fund's average daily net
assets for the portion of such assets up to and including $250 million, .35% of
the Fund's average daily net assets in excess of $250 million up to and
including $500 million, .30% of the Fund's average daily net assets in excess of
$500 million up to and including $1 billion and .25% of the Fund's average daily
net assets in excess of $1 billion.
The Subadvisory Agreement provides that Wellington Management will not be
liable for any error of judgment or for any loss suffered by the Fund in
connection with the matters to which the Subadvisory Agreement relates, except a
loss resulting from willful misfeasance, bad faith, gross negligence or reckless
disregard of duty. The Subadvisory Agreement provides that it will terminate
automatically if assigned, and that it may be terminated without penalty by any
party upon not more than 60 days' nor less than 30 days' written notice. The
Subadvisory Agreement will continue in effect for a period of more than two
years from the date of execution only so long as such continuance is
specifically approved at least annually in conformity with the 1940 Act. The
Subadvisory Agreement was last approved by the Board of Directors of the Fund,
including all of the Directors who are not parties to the contract or
"interested persons" of any such party as defined in the Investment Company Act
on May 4, 1995, and by shareholders of the Fund, on December 30, 1991.
For the fiscal years ended September 30, 1994, 1995 and 1996, the Fund paid
$2,628,090, $2,361,766 and $2,195,690, respectively, to PMF under the Management
Agreement and PMF paid subadvisory fees of $1,808,784, $1,639,306 and
$1,533,621, respectively, to Wellington Management under the Subadvisory
Agreement.
THE DISTRIBUTOR
Prudential Securities, One Seaport Plaza, New York, New York 10292, acts as
the distributor of the shares of the Fund.
Pursuant to separate Plans of Distribution (the Class A Plan, the Class B
Plan and the Class C Plan, collectively, the Plans) adopted by the Fund under
Rule 12b-1 under the 1940 Act and a distribution agreement (the Distribution
Agreement), Prudential Securities (the Distributor) incurs the expenses of
distributing the Fund's Class A shares, Class B shares and Class C shares.
Prudential Securities also incurs the expense of distributing the Fund's Class Z
shares under the Distribution Agreement, none of which is paid or reimbursed by
the Fund. See "How the Fund is Managed-Distributor" in the Prospectus.
Prior to February 4, 1991, the Fund operated as a closed-end fund and
offered only one class of shares (the existing Class A shares). On October 15,
1990, the Board of Directors, including a majority of the Directors who are not
interested persons of the Fund and who have no direct or indirect financial
interest in the operation of the Plans or in any agreement related to the Plans
(the Rule 12b-1 Directors), at a meeting called for the purpose of voting on the
Class A Plan, adopted a plan of distribution for the Class A shares of the Fund.
On November 13, 1990, the Board of Directors, including the Rule 12b-1
Directors, at a meeting called for the purpose of voting on the Class B Plan,
adopted a plan of distribution for the Class B shares of the Fund. On February
10, 1993, the Board of Directors, including a majority of the Rule 12b-1
Directors, at a meeting called for the purpose of voting on each Plan, approved
modifications to the Fund's Class A and Class B Plans and Distribution
Agreements to conform them to recent amendments to the National Association of
Securities Dealers, Inc. (NASD) maximum sales charge rule described below. As
modified, the Class A Plan provides that (i) up to .25 of 1% of the average
daily net assets of the Class A shares may be used to pay for personal service
and the maintenance of shareholder accounts (service fee) and (ii) total
distribution fees (including the service fee of .25 of 1%) may not exceed .30 of
1%. As modified, the Class B Plan provides that (i) up to .25 of 1% of the
average daily net assets of the Class B shares may be paid as a service fee and
(ii) up to .75 of 1% (not including the service fee) of the average daily net
assets of the Class B shares (asset-based sales charge) may be used as
reimbursement for distribution-related expenses with respect to the Class B
shares. On May 5, 1993, the Board of Directors, including a majority of the Rule
12b-1 Directors, at a meeting called for the purpose of voting on each Plan,
adopted a plan of distribution for the Class C shares of the Fund and approved
further amendments to the plans of distribution for the Fund's Class A and Class
B shares changing them from reimbursement type plans to compensation type plans.
The Plans were last approved by the Board of Directors, including a majority of
the Rule 12b-1 Directors, on May 9, 1996. The Class A Plan, as amended, was
approved by Class A and Class B shareholders, and the Class B Plan, as amended,
was approved by Class B shareholders on July 19, 1994. The Class C Plan was
approved by the sole shareholder of Class C shares on August 1, 1994.
CLASS A PLAN. For the fiscal year ended September 30, 1996, PMFD and PSI
received payments of $300,305, under the Class A Plan. This amount was primarily
expended for payment of account servicing fees to financial advisers and other
persons who sell Class A shares. For the fiscal year ended September 30, 1996,
PMFD and PSI also received approximately $68,100 in initial sales charges.
CLASS B PLAN. For the fiscal year ended September 30, 1996, Prudential
Securities received $2,103,048 from the Fund under the Class B Plan and spent
approximately $739,300 in distributing the Fund's Class B shares. It is
estimated that of the latter amount, $8,000 (1.1%) was spent on printing and
mailing of prospectuses to other than current shareholders; $85,200 (11.5%) on
compensation to Pruco Securities Corporation (Prusec), an affiliated
broker-dealer, for commissions to its representatives and other expenses,
including an allocation on account of overhead and other branch office
distribution-related expenses, incurred by it for distribution of Fund shares;
and $646,100 (87.4%) on the aggregate of (i) payments of commissions and account
servicing
B-20
<PAGE>
fees to financial advisers ($340,600 or 46.1%) and (ii) an allocation on account
of overhead and other branch office distribution-related expenses ($305,500 or
41.3%). The term "overhead and other branch office distribution-related
expenses" represents (a) the expenses of operating Prudential Securities' branch
offices in connection with the sale of Fund shares, including lease costs, the
salaries and employee benefits of operations and sales support personnel,
utility costs, communications costs and the costs of stationery and supplies,
(b) the costs of client sales seminars, (c) expenses of mutual fund sales
coordinators to promote the sale of Fund shares, and (d) other incidental
expenses relating to branch promotion of Fund shares.
Prudential Securities also receives the proceeds of contingent deferred
sales charges paid by investors upon certain redemptions of Class B shares. See
"Shareholder Guide-How to Sell Your Shares-Contingent Deferred Sales Charge" in
the Prospectus. The amount of distribution expenses reimbursable by Class B
shares of the Fund is reduced by the amount of such proceeds. For the fiscal
year ended September 30, 1996, Prudential Securities received contingent
deferred sales charges of approximately $728,700.
CLASS C PLAN. For the fiscal year ended September 30, 1996, Prudential
Securities received $6,078 under the Class C Plan and spent approximately $6,300
in distributing the Fund's Class C shares. Prudential Securities receives the
proceeds of contingent deferred sales charges paid by investors upon certain
redemptions of Class C shares. See "Shareholder Guide-How to Sell Your
Shares-Contingent Deferred Sales Charges" in the Prospectus. For the fiscal year
ended September 30, 1996, Prudential Securities received approximately $700 in
contingent deferred sales charges upon certain redemptions of Class C shares.
The Class A, Class B and Class C Plans continue in effect from year to year,
provided that each such continuance is approved at least annually by a vote of
the Board of Directors, including a majority vote of the Rule 12b-1 Directors,
cast in person at a meeting called for the purpose of voting on such
continuance. The Plans may be terminated at any time, without penalty, by the
vote of a majority of the Rule 12b-1 Directors or by the vote of the holders of
a majority of the outstanding shares of the applicable class on not more than 30
days' written notice to the other party to the Plans. The Plans may not be
amended to increase materially the amounts to be spent for the services
described therein without approval by the shareholders of the applicable class
(by both Class A and Class B shareholders, voting separately, in the case of
material amendment to the Class A Plan) and all material amendments are required
to be approved by the Board of Directors in the manner described above. Each
Plan will automatically terminate in the event of its assignment. The Fund will
not be contractually obligated to pay expenses incurred under any Plan if it is
terminated or not continued.
Pursuant to each Plan, the Board of Directors will review at least quarterly
a written report of the distribution expenses incurred on behalf of each class
of shares of the Fund by the Distributor. The report includes an itemization of
the distribution expenses and the purposes of such expenditures. In addition, as
long as the Plans remain in effect, the selection and nomination of the Rule
12b-1 Directors shall be committed to the Rule 12b-1 Directors.
Pursuant to the Distribution Agreement, the Fund has agreed to indemnify
Prudential Securities to the extent permitted by applicable law against certain
liabilities under the Securities Act. The restated Distribution Agreement was
last approved by the Board of Directors, including a majority of the Rule 12b-1
Directors, on May 9, 1996, which provides for PSI to serve as distributor of
each class of shares.
On October 21, 1993, PSI entered into an omnibus settlement with the SEC,
state securities regulators in 51 jurisdictions and the NASD to resolve
allegations that PSI sold interests in more than 700 limited partnerships (and a
limited number of other types of securities) from January 1, 1980 through
December 31, 1990, in violation of securities laws to persons for whom such
securities were not suitable in light of the individuals' financial condition or
investment objectives. It was also alleged that the safety, potential returns
and liquidity of the investments had been misrepresented. The limited
partnerships principally involved real estate, oil and gas producing properties
and aircraft leasing ventures. The SEC Order (i) included findings that PSl's
conduct violated the federal securities laws and that an order issued by the SEC
in 1986 requiring PSI to adopt, implement and maintain certain supervisory
procedures had not been complied with; (ii) directed PSI to cease and desist
from violating the federal securities laws and imposed a $10 million civil
penalty; and (iii) required PSI to adopt certain remedial measures including the
establishment of a Compliance Committee of its Board of Directors. Pursuant to
the terms of the SEC settlement, PSI established a settlement fund in the amount
of $330,000,000 and procedures, overseen by a court approved Claims
Administrator, to resolve legitimate claims for compensatory damages by
purchasers of the partnership interests. PSI has agreed to provide additional
funds, if necessary, for that purpose. PSl's settlement with the state
securities regulators included an agreement to pay a penalty of $500,000 per
jurisdiction. PSI consented to a censure and to the payment of $5,000,000 in
settling the NASD action. In settling the above referenced matters, PSI neither
admitted nor denied the allegations asserted against it.
On January 18,1994, PSI agreed to the entry of a Final Consent Order and a
Parallel Consent Order by the Texas Secunties Commissioner. The firm also
entered into a related agreement with the Texas Securities Commissioner. The
allegations were that the firm had engaged in improper sales practices and other
improper conduct resulting in pecuniary losses and other harm to investors
residing in Texas with respect to purchases and sales of limited partnership
interests during the period of January 1,
B-21
<PAGE>
1980 through December 31, 1990. Without admitting or denying the allegations,
PSI consented to a reprimand, agreed to cease and desist from future violations,
and to provide voluntary donations to the State of Texas in the aggregate amount
of $1,500,000. The firm agreed to suspend the creation of new customer accounts,
the general solicitation of new accounts, and the offer for sale of securities
in or from PSI's North Dallas office to new customers during a period of twenty
consecutive business days, and agreed that its other Texas offices would be
subject to the same restrictions for a period of five consecutive business days.
PSI also agreed to institute training programs for its securities salesmen in
Texas.
On October 27, 1994, Prudential Securities Group, Inc. and PSI entered into
agreements with the United States Attorney deferring prosecution (provided PSI
complies with the terms of the agreement for three years) for any alleged
criminal activity related to the sale of certain limited partnership programs
from 1983 to 1990. In connection with these agreements, PSI agreed to add the
sum of $330,000,000 to the fund established by the SEC and executed a
stipulation providing for a reversion of such funds to the United States Postal
Inspection Service. PSI further agreed to obtain a mutually acceptable outside
director to sit on the Board of Directors of PSG and the Compliance Committee of
PSI. The new director will also serve as an independent "ombudsman" whom PSI
employees can call anonymously with complaints about ethics and compliance.
Prudential Securities shall report any allegations or instances of criminal
conduct and material improprieties to the new director. The new director will
submit compliance reports which shall identify all such allegations or instances
of criminal conduct and material improprieties every three months for a
three-year period.
NASD MAXIMUM SALES CHARGE RULE. Pursuant to rules of the NASD, the
Distributor is required to limit aggregate initial sales charges, deferred sales
charges and asset-based sales charges to 6.25% of total gross sales of each
class of shares. Interest charges on unreimbursed distribution expenses equal to
the prime rate plus one percent per annum may be added to the 6.25% limitation.
Sales from the reinvestment of dividends and distributions are not included in
the calculation of the 6.25% limitation. The annual asset-based sales charge on
shares of the Fund may not exceed .75% of 1% per class. The 6.25% limitation
applies to the Fund rather than on a per shareholder basis. If aggregate sales
charges were to exceed 6.25% of total gross sales of any class, all sales
charges on shares of that class would be suspended.
PORTFOLIO TRANSACTIONS AND BROKERAGE
Subject to policies established by the Board of Directors of the Fund and
the oversight and review of the Manager, the Subadviser will arrange for the
execution of the Fund's portfolio transactions and the allocation of brokerage.
In executing portfolio transactions, the Subadviser seeks to obtain the best net
results for the Fund, taking into account such factors as price (including the
applicable brokerage commission or dealer spread), size of order, difficulty of
execution and operational facilities of the firm involved. The Fund may invest
in securities traded in the OTC markets and deal directly with the dealers who
make markets in the securities involved, unless a better price or execution
could be obtained by using a broker. While the Subadviser generally will seek
reasonably competitive commission rates, payment of the lowest commission or
spread is not necessarily consistent with best net results in particular
transactions. The Fund will not deal with Prudential Securities (or any
affiliate) in any transaction in which Prudential Securities acts as principal.
Purchases and sales of securities on a securities exchange are effected through
brokers who charge a negotiated commission for their services. On a foreign
securities exchange, commissions may be fixed. Orders may be directed to any
broker including, to the extent and in the manner permitted by applicable law,
Prudential Securities.
In placing orders with brokers and dealers, the Subadviser will attempt to
obtain the best net price and the most favorable execution for orders; however,
the Subadviser may, in its discretion, purchase and sell portfolio securities
through brokers and dealers who provide the Subadviser or the Fund with
research, analysis, advice and similar services. The Subadviser may, in return
for research and analysis, pay brokers a higher commission than may be charged
by other brokers, provided that the Subadviser determines in good faith that
such commission is reasonable in terms either of that particular transaction or
of the overall responsibility of the Subadviser to the Fund and its other
clients, and that the total commission paid by the Fund will be
reasonable in relation to the benefits to the Fund over the long term.
Information and research received from such brokers and dealers will be in
addition to, and not in lieu of, the services required to be performed by the
Manager under its Management Agreement with the Fund and by the Subadviser under
the Subadvisory Agreement. Commission rates are established pursuant to
negotiations with the broker based on the quality and quantity of execution
services provided by the broker in the light of generally prevailing rates. The
Subadviser's policy is to pay higher commissions to brokers or futures
commission merchants other than Prudential Securities (or any affiliate) for
particular transactions than might be charged if a different broker had been
selected, on occasions when, in the Subadviser's opinion, this policy furthers
the objective of obtaining best price and execution. The allocation of orders
among brokers and the commission rates paid are reviewed periodically by the
Fund's Board of Directors. Portfolio securities may not be purchased from any
underwriting or selling syndicate of which Prudential Securities (or any
affiliate), during the existence of the syndicate, is a principal underwriter
(as defined in the Investment Company Act), except in accordance with rules of
the SEC. This limitation, in the opinion of the Fund, will not significantly
affect the Fund's ability to pursue its present investment objective. However,
in the future in other circumstances, the Fund may be at a disadvantage because
of this limitation in comparison to other funds with similar objectives but not
subject to such limitations.
B-22
<PAGE>
Purchases and sales of securities, futures or options on futures on an
exchange (including a board of trade), and options on securities may be effected
through securities brokers or futures commission merchants that charge a
commission for their services. The Fund has no obligation to deal with any
broker or group of brokers in the execution of transactions. The Fund
contemplates that, consistent with the policy of obtaining the best net results,
the Fund may use Prudential Securities and its affiliates for brokerage
transactions. In order for Prudential Securities or its affiliates to effect any
such transaction for the Fund, the commissions, fees or other remuneration
received by Prudential Securities or its affiliates must be reasonable and fair
compared to the commissions, fees or other remuneration paid to other brokers in
connection with comparable transactions involving similar securities, futures or
options on futures being purchased or sold on an exchange during a comparable
period of time. The Fund's Board of Directors has adopted procedures designed to
ensure that all brokerage commissions, fees or other remuneration paid to such
firm or its affiliates are reasonable and fair.
Investment decisions for the Fund and for other investment accounts managed
by the Subadviser are made independently of each other in the light of differing
considerations for the various accounts. However, the same investment decision
may occasionally be made for two or more such accounts. In such cases,
simultaneous transactions are inevitable. Purchases or sales are then averaged
as to price and allocated to accounts according to a formula deemed equitable to
each account. While in some cases this practice could have a detrimental effect
upon the price or value of the security as far as the Fund is concerned, in
other cases it is believed to be beneficial to the Fund.
The Fund's brokerage transactions involving securities of companies
headquartered in countries other than the United States will be conducted
primarily on the markets and principal exchanges of such countries. Foreign
markets are generally not as developed as those located in the United States,
which may result in higher transaction costs, delayed settlement and less
liquidity for trades effected in foreign markets. Transactions on foreign
exchanges are usually subject to fixed commissions that generally are higher
than negotiated commissions on U.S. transactions. There is generally less
government supervision and regulation of exchanges and brokers in foreign
countries than in the United States.
In accordance with Section 11(a) under the Securities Exchange Act of 1934,
Prudential Securities may not retain compensation for effecting transactions on
a national securities exchange for the Fund unless the Fund has expressly
authorized the retention of such compensation. Prudential Securities must
furnish to the Fund at least annually a statement setting forth the total amount
of all compensation retained by Prudential Securities from transactions effected
for the Fund during the applicable period. Brokerage transactions with
Prudential Securities (or any affiliate) are also subject to such fiduciary
standards as may be imposed upon Prudential Securities (or any affiliate) by
applicable law.
The table presented below shows certain information regarding the payment of
commissions by the Fund, including the amount of such commissions paid to
Prudential Securities for the three-year period ended September 30, 1996.
FISCAL YEAR ENDED SEPTEMBER 30,
1996 1995 1994
-------- -------- --------
Total brokerage commissions paid by the Fund . $140,846 $258,076 $284,986
Total brokerage commissions paid to
Prudential Securities ...................... - $ 3,000 $ 2,400
Percentage of total brokerage commissions
paid to Prudential Securities ............ - 1.2% 0.8%
The Fund effected no transactions that involved the payment of commissions
through Prudential Securities during the fiscal year ended September 30, 1996.
PURCHASE AND REDEMPTION OF FUND SHARES
Shares of the Fund may be purchased at a price equal to the next determined
net asset value per share plus a sales charge which, at the election of the
investor, may be imposed either (i) at the time of purchase (Class A shares), or
(ii) on a deferred basis (Class B or Class C shares). Class Z shares are offered
to a limited group of investors at net asset value without any sales charge.
Each class of shares represents an interest in the same assets of the Fund
and is identical in all respects except that (i) each class is subject to
different sales charges and distribution and/or service fees (except for Class Z
shares, which are not subject to any sales charges and distribution and/or
service fees), which may affect performance, (ii) each class has exclusive
voting rights with respect to any matter submitted to shareholders that relates
solely to its arrangement and has separate voting rights on any
B-23
<PAGE>
matter submitted to shareholders in which the interests of one class differ from
the interests of any other class, (iii) each class has a different exchange
privilege, (iv) only Class B shares have a conversion feature and (v) Class Z
shares are offered exclusively for sale to a limited group of investors. See
"Management of the Fund-The Distributor" and "Shareholder Investment
Account-Exchange Privilege" in this Statement of Additional Information and
"Shareholders Guide-How to Buy Shares of the Fund" in the Prospectus.
SPECIMEN PRICE MAKE-UP
Under the current distribution arrangements between the Fund and the
Distributor, Class A shares are sold at a maximum sales charge of 5% and Class
B*, Class C* and Class Z** shares are sold at net asset value.
Using the Fund's net asset value at September 30, 1996, the maximum offering
price of the Fund's shares was as follows:
CLASS A
Net asset value and redemption price per share ..................... $15.03
Maximum Sales Charge (5% of offering price) ........................ .79
------
Offering price to public ........................................... $15.82
======
CLASS B
Net asset value, offering price, and redemption price per
Class B share* ................................................. $15.03
======
CLASS C
Net asset value, offering price, and redemption price per
Class C share* ................................................. $15.03
======
CLASS Z
Net asset value, offering price, and redemption price per
Class Z share** ................................................ $15.03
======
----------
*Class B and Class C shares are subject to a contingent deferred sales charge
on certain redemptions. See "Shareholder Guide-How to Sell Your Shares-
Contingent Deferred Sales Charges" in the Prospectus.
**Class Z shares of the Fund were not offered prior to November 29, 1996.
REDUCTION AND WAIVER OF INITIAL SALES CHARGER-CLASS A SHARES
COMBINED PURCHASE AND CUMULATIVE PURCHASE PRIVILEGE. If an investor or
eligible group of related investors purchases Class A shares of the Fund
concurrently with Class A shares of other Prudential Mutual Funds, the purchases
may be combined to take advantage of the reduced sales charges applicable to
larger purchases. See the table of breakpoints under "Shareholder
Guide-Alternative Purchase Plan" in the Prospectus.
An eligible group of related Fund investors includes any combination of the
following:
(a) an individual;
(b) the individual's spouse, their children and their parents;
(c) the individual's and spouse's Individual Retirement Account (IRA);
(d) any company controlled by the individual (a person, entity or group that
holds 25% or more of the outstanding voting securities of a corporation will be
deemed to control the corporation, and a partnership will be deemed to be
controlled by each of its general partners);
(e) a trust created by the individual, the beneficiaries of which are the
individual, his or her spouse, parents or children;
(f) a Uniform Gifts to Minors Act/Uniform Transfers to Minors Act account
created by the individual or the individual's spouse; and
(g) one or more employee benefit plans of a company controlled by an
individual.
In addition, an eligible group of related Fund investors may include an
employer (or group of related employers) and one or more qualified retirement
plans of such employer or employers (an employer controlling, controlled by or
under common control with another employer is deemed related to that employer).
B-24
<PAGE>
The Distributor must be notified at the time of purchase that the investor
is entitled to a reduced sales charge. The reduced sales charges will be granted
subject to confirmation of the investor's holdings. The Combined Purchase and
Cumulative Purchase Privilege does not apply to individual participants in any
retirement or group plans.
RIGHTS OF ACCUMULATION. Reduced sales charges are also available through
Rights of Accumulation, under which an investor or an eligible group of related
investors, as described above under "Combined Purchase and Cumulative Purchase
Privilege," may aggregate the value of their existing holdings of shares of the
Fund and shares of other Prudential Mutual Funds (excluding money market funds
other than those acquired pursuant to the exchange privilege) to determine the
reduced sales charge. However, the value of shares held directly with the
Transfer Agent and through Prudential Securities will not be aggregated to
determine the reduced sales charges. All shares must be held either directly
through the Transfer Agent or through Prudential Securities. The value of
existing holdings for purposes of determining the reduced sales charge is
calculated using the maximum offering price (net asset value plus maximum sales
charge) as of the previous business day. See "How the Fund Values Its Shares" in
the Prospectus. The Distributor must be notified at the time of purchase that
the investor is entitled to a reduced sales charge. The reduced sales charges
will be granted subject to confirmation of the investor's holdings. Rights of
accumulation are not available to individual participants in any retirement or
group plans.
LETTERS OF INTENT. Reduced sales charges are also available to investors (or
an eligible group of related investors), including retirement and group plans,
who enter into a written Letter of Intent providing for the purchase, within a
thirteen-month period, of shares of the Fund and shares of other Prudential
Mutual Funds (Investment Letter of Intent). Retirement and group plans may also
qualify to purchase Class A shares at net asset value by entering into a Letter
of Intent whereby they agree to enroll, within a thirteen-month period, a
specified number of eligible employees or participants (Participant Letter of
Intent).
For purposes of the Investment Letter of Intent, shares of the Fund and
shares of other Prudential Mutual Funds (excluding money market funds other than
those acquired pursuant to the exchange privilege) which were previously
purchased and are still owned are also included in determining the applicable
reduction. However, the value of shares held directly with the Transfer Agent
and through Prudential Securities will not be aggregated to determine the
reduced sales charge. All shares must be held either directly through the
Transfer Agent or through Prudential Securities.
A Letter of Intent permits the purchaser, in the case of an Investment
Letter of Intent, to establish a total investment goal to be achieved by any
number of investments over a thirteen-month period and, in the case of a
Participant Letter of Intent, to establish minimum eligible employee or
participant goals over a thirteen-month period. Each investment made during the
period, in the case of an Investment Letter of Intent, will receive the reduced
sales charge applicable to the amount represented by the goal, as if it were a
single investment. In the case of a Participant Letter of Intent, each
investment made during the period will be made at net asset value. Escrowed
Class A shares totaling 5% of the dollar amount of the Letter of Intent will be
held by the Transfer Agent in escrow in the name of the purchaser, except in the
case of retirement and group plans where the employer or plan sponsor will be
responsible for paying any applicable sales charge. The effective date of an
Investment Letter of Intent (except in the case of retirement and group plans)
may be back-dated up to 90 days, in order that any investments made during this
90-day period, valued at the purchaser's cost, can be applied to the fulfillment
of the Letter of Intent goal.
The Investment Letter of Intent does not obligate the investor to purchase,
nor the Fund to sell, the indicated amount. Similarly, the Participant Letter of
Intent does not obligate the retirement or group plan to enroll the indicated
number of eligible employees or participants. In the event the Letter of Intent
goal is not achieved within the thirteen-month period, the purchaser (or the
employer or plan sponsor in the case of any retirement or group plan) is
required to pay the difference between the sales charge otherwise applicable to
the purchases made during this period and sales charges actually paid. Such
payment may be made directly to the Distributor or, if not paid, the Distributor
will liquidate sufficient escrowed shares to obtain such difference. Investors
electing to purchase Class A shares of the Fund pursuant to a Letter of Intent
should carefully read such Letter of Intent.
Prudential Securities must be notified at the time of purchase that the
investor is entitled to receive a reduced sales charge. The reduced sales charge
will, in the case of an Investment Letter of Intent, be granted subject to
confirmation of the investor's holdings, or in the case of a Participant Letter
of Intent, subject to confirmation of the number of eligible employees or
participants in the retirement or group plan. Letters of Intent are not
available to individual participants in any retirement or group plans.
WAIVER OF THE CONTINGENT DEFERRED SALES CHARGE-CLASS B SHARES
The Contingent Deferred Sales Charge is waived under circumstances described
in the Prospectus. See "Shareholder Guide-How to Sell Your Shares-Waiver of
Contingent Deferred Sales Charges-Class B Shares" in the Prospectus. In
connection with these waivers, the Transfer Agent will require you to submit the
supporting documentation set forth below.
B-25
<PAGE>
(left column)
CATEGORY OF WAIVER
Death
Disability-An individual will be considered disabled if he or she is unable to
engage in any substantial gainful activity by reason of any medically
determinable physical or mental impairment which can be expected to result in
death or to be of long-continued and indefinite duration. Distribution from an
IRA or 403(b) Custodial Account
Distribution from Retirement Plan
Excess Contributions
(right column)
REQUIRED DOCUMENTATION
A copy of the shareholder's death certificate or, in the case of a trust, a copy
of the grantor's death certificate, plus a copy of the trust agreement
identifying the grantor.
A copy of the Social Security Administration award
letter or a letter from a physician on the physician's letterhead stating that
the shareholder (or, in the case of a trust, the grantor) is permanently
disabled. The letter must also indicate the date of disability.
A copy of the distribution form from the custodial firm indicating (i) the date
of birth of the shareholder and (ii) that the shareholder is over age 59-1/2 and
is taking a normal distribution-signed by the shareholder.
A letter signed by the plan administrator/trustee indicating the reason for the
distribution.
A letter from the shareholder (for an IRA) or the plan administrator/trustee on
company letterhead indicating the amount of the excess and whether or not taxes
have been paid.
The Transfer Agent reserves the right to request such additional documents
as it may deem appropriate.
QUANTITY DISCOUNT-CLASS B SHARES PURCHASED PRIOR TO AUGUST 1, 1994
The CDSC is reduced on redemptions of Class B shares of the Fund purchased
prior to August 1, 1994 if immediately after a purchase of such shares, the
aggregate cost of all Class B shares of the Fund owned by you in a single
account exceeded $500,000. For example, if you purchased $100,000 of Class B
shares of the Fund and the following year purchase an additional $450,000 of
Class B shares with the result that the aggregate cost of your Class B shares of
the Fund following the second purchase was $550,000, the quantity discount would
be available for the second purchase of $450,000 but not for the first purchase
of $100,000. The quantity discount will be imposed at the following rates
depending on whether the aggregate value exceeded $500,000 or $1 million:
CONTINGENT DEFERRED SALES CHARGE
AS A PERCENTAGE OF DOLLARS INVEST
OR REDEMPTION PROCEEDS
YEAR SINCE PURCHASE ----------------------------------
PAYMENT MADE $500,001 TO $1 MILLION OVER $1 MILLION
---------------------- ---------------------- ---------------
First ............................. 3.0% 2.0%
Second ............................ 2.0% 1.0%
Third ............................. 1.0% 0%
Fourth and thereafter ............. 0% 0%
You must notify the Fund's Transfer Agent either directly or through
Prudential Securities or Prusec, at the time of redemption, that you are
entitled to the reduced CDSC. The reduced CDSC will be granted subject to
confirmation of your holdings.
SHAREHOLDER INVESTMENT ACCOUNT
Upon the initial purchase of Fund shares, a Shareholder Investment Account
is established for each investor under which the shares are held for the
investor by the Transfer Agent. If a stock certificate is desired, it must be
requested in writing for each transaction. Certificates are issued only for full
shares and may be redeposited in the Account at any time. There is no charge to
the investor for issuance of a certificate. The Fund makes available to its
shareholders the following privileges and plans.
AUTOMATIC REINVESTMENT OF DIVIDENDS AND/OR DISTRIBUTIONS. For the
convenience of investors, all dividends and distributions are automatically
reinvested in full and fractional shares of the Fund at the net asset value on
the record date. An investor may direct the Transfer Agent in writing not less
than 5 full business days prior to the record date, to have subsequent dividends
and/or distributions sent in cash rather than reinvested. In the case of
recently purchased shares for which registration instructions have not been
received on the record date, cash payment will be made directly to the dealer.
Any shareholder who receives a cash payment representing a dividend or
distribution may reinvest such distribution at net asset value by returning the
check or the proceeds to the Transfer Agent within 30 days after the payment
date. Such investment will be made at the net asset value per share next
determined after receipt of the check or proceeds by the Transfer Agent.
EXCHANGE PRIVILEGE. The Fund makes available to its shareholders the
privilege of exchanging their shares of the Fund for shares of certain other
Prudential Mutual Funds, including one or more specified money market funds,
subject in each case to the
B-26
<PAGE>
minimum investment requirements of such funds. Shares of such other Prudential
Mutual Funds may also be exchanged for shares of the Fund. All exchanges are
made on the basis of relative net asset value next determined after receipt of
an order in proper form. An exchange will be treated as a redemption and
purchase for tax purposes. Shares may be exchanged for shares of another fund
only if shares of such fund may legally be sold under applicable state laws. For
retirement and group plans having a limited menu of Prudential Mutual Funds, the
Exchange Privilege is available for those funds eligible for investment in the
particular program.
It is contemplated that the exchange privilege may be applicable to new
mutual funds whose shares may be distributed by the Distributor.
CLASS A. Shareholders of the Fund will be able to exchange their Class A
shares for Class A shares of certain Prudential Mutual Funds, shares of
Prudential Government Securities Trust (Short-Intermediate Term Series) and
shares of the money market funds specified below. No fee or sales load will be
imposed upon the exchange. Shareholders of money market funds who acquired such
shares upon exchange of Class A shares of the Fund or Class A or Class C shares
of certain other Prudential Mutual Funds may use the Exchange Privilege only to
acquire Class A shares of the Prudential Mutual Funds participating in the
Exchange Privilege.
The following money market funds participate in the Class A Exchange
Privilege:
Prudential California Municipal Fund
(California Money Market Series)
Prudential Government Securities Trust
(Money Market Series)
(U.S. Treasury Money Market Series)
Prudential Municipal Series Fund
(Connecticut Money Market Series)
(Massachusetts Money Market Series)
(New Jersey Money Market Series)
(New York Money Market Series)
Prudential MoneyMart Assets, Inc.
Prudential Tax-Free Money Fund, Inc.
CLASS B AND CLASS C. Shareholders of the Fund may exchange their Class B and
Class C shares for shares of certain other Prudential Mutual Funds and shares of
Prudential Special Money Market Fund, Inc., a money market fund. No CDSC will be
payable upon such exchange, but a CDSC may be payable upon the redemption of
Class B and Class C shares acquired as a result of the exchange. The applicable
sales charge will be that imposed by the Fund in which shares were initially
purchased and the purchase date will be deemed to be the first day of the month
after the initial purchase, rather than the date of the exchange.
Class B and Class C shares of the Fund may also be exchanged for shares of
Prudential Special Money Market Fund without imposition of any CDSC at the time
of exchange. Upon subsequent redemption from such money market fund or after
re-exchange into the Fund, such shares will be subject to the CDSC calculated by
excluding the time such shares were held in the money market fund. In order to
minimize the period of time in which shares are subject to a CDSC, shares
exchanged out of the money market fund will be exchanged on the basis of their
remaining holding periods, with the longest remaining holding periods being
transferred first. In measuring the time period shares are held in a money
market fund and "tolled" for purposes of calculating the CDSC holding period,
exchanges are deemed to have been made on the last day of the month. Thus, if
shares are exchanged into the Fund from a money market fund during the month
(and are held in the Fund at the end of the month), the entire month will be
included in the CDSC holding period. Conversely, if shares are exchanged into a
money market fund prior to the last day of the month (and are held in the money
market fund on the last day of the month), the entire month will be excluded
from the CDSC holding period. For purposes of calculating the seven year holding
period applicable to the Class B conversion feature, the time period during
which Class B shares were held in a money market fund will be excluded.
At any time after acquiring shares of other funds participating in the Class
B or Class C exchange privilege, a shareholder may again exchange those shares
(and any reinvested dividends and distributions) for Class B or Class C shares
of the Fund, respectively, without subjecting such shares to any CDSC. Shares of
any Fund participating in the Class B or Class C exchange privilege that were
acquired through reinvestment of dividends or distributions may be exchanged for
Class B or Class C shares of other funds, respectively, without being subject to
any CDSC.
CLASS Z. Class Z shares may be exchanged for Class Z shares of other Prudential
Mutual Funds.
Additional details about the Exchange Privilege and prospectuses for each of
the Prudential Mutual Funds are available from the Transfer Agent, Prudential
Securities or Prusec. The Exchange Privilege is not a right and may be modified,
suspended or terminated upon 60 day's notice to shareholders, and any fund,
including the Fund or Prudential Securities has the right to reject any exchange
application relating to such shares.
B-27
<PAGE>
DOLLAR COST AVERAGING
Dollar cost averaging is a method of accumulating shares by investing a
fixed amount of dollars in shares at set intervals. An investor buys more shares
when the price is low and fewer shares when the price is high. The average cost
per share is lower than it would be if a constant number of shares were bought
at set intervals.
Dollar cost averaging may be used, for example, to plan for retirement, to
save for a major expenditure, such as the purchase of a home, or to finance a
college education. The cost of a year's education at a four-year college today
averages around $14,000 at a private college and around $6,000 at a public
university. Assuming these costs increase at a rate of 7% a year, as has been
projected, for the freshman class of 2011, the cost of four years at a private
college could reach $210,000 and over $90,000 at a public university.1
The following chart shows how much you would need in monthly investments to
achieve specified lump sums to finance your investment goals.2
PERIOD OF
MONTHLY INVESTMENTS: $100,000 $150,000 $200,000 $250,000
-------------------- -------- -------- -------- --------
25 years ...................... $ 110 $ 165 $ 220 $ 275
20 years ...................... 176 264 352 440
15 years ...................... 296 444 592 740
10 years ...................... 555 833 1,110 1,388
5 years ...................... 1,371 2,057 2,742 3,428
See "Automatic Savings Accumulation Plan"
_______
1Some information concerning the costs of education at public and private
universities is available from The College Board Annual Survey of Colleges,
1993. Average costs for private institutions include tuition, fees, room and
board.
2The chart assumes an effective rate of return of 8% (assuming monthly
compounding). This example is for illustrative purposes only and is not intended
to reflect the performance of an investment in shares of the Fund. The
investment return and principal value of an investment will fluctuate so that an
investor's shares when redeemed may be worth more or less than their original
cost.
AUTOMATIC SAVINGS ACCUMULATION PLAN (ASAP)
Under ASAP, an investor may arrange to have a fixed amount automatically
invested in shares of the Fund monthly by authorizing his or her bank account or
Prudential Securities securities account (including a Command Account) to be
debited to invest specified dollar amounts in shares of the Fund. The investor's
bank must be a member of the Automatic Clearing House System. Stock certificates
are not issued to ASAP participants.
Further information about these programs and an application form can be
obtained from the Fund's Transfer Agent, Prudential Securities or Prusec.
SYSTEMATIC WITHDRAWAL PLAN
A systematic withdrawal plan is available to shareholders through Prudential
Securities or the Transfer Agent. The plan provides for monthly or quarterly
checks in any amount, except as provided below, up to the value of the shares in
the shareholder's account. Withdrawals of Class B or Class C shares may be
subject to a CDSC. See "Shareholder Guide-How to Sell Your Shares-Contingent
Deferred Sales Charges" in the Prospectus.
In the case of shares held through the Transfer Agent (i) a $10,000 minimum
account value applies, (ii) withdrawals may not be for less than $100 and (iii)
the shareholder must elect to have all dividends and/or distributions
automaticially reinvested in additional full and fractional shares at net asset
value on shares held under this plan. See "Shareholder Investment
Account-Automatic Reinvestment of Dividends and/or Distributions" above.
Prudential Securities and the Transfer Agent act as agents for the
shareholder in redeeming sufficient full and fractional shares to provide the
amount of the periodic withdrawal payment. The plan may be terminated at any
time, and the Distributor reserves the right to initiate a fee of up to $5 per
withdrawal, upon 30 days' written notice to the shareholder.
Withdrawal payments should not be considered as dividends, yield or income.
If periodic withdrawals continuously exceed reinvested dividends and
distributions, the shareholder's original investment will be correspondingly
reduced and ultimately exhausted.
B-28
<PAGE>
Furthermore, each withdrawal constitutes a redemption of shares, and any
gain or loss realized must generally be recognized for federal income tax
purposes. In addition, withdrawals made concurrently with purchases of
additional shares are inadvisable because of the applicable sales charges to (i)
the purchase of Class A shares and (ii) the withdrawal of Class B and Class C
shares. Each shareholder should consult his or her own tax adviser with regard
to the tax consequences of the plan, particularly if used in connection with a
retirement plan.
TAX-DEFERRED RETIREMENT PLANS
Various tax-deferred retirement plans, including a 401(k) Plan,
self-directed individual retirement accounts and "tax-sheltered accounts" under
Section 403(b)(7) of the Code are available through the Distributor. These plans
are for use by both self-employed individuals and corporate employers. These
plans permit either self-direction of accounts by participants, or a pooled
account arrangement. Information regarding the establishment of these plans, the
administration, custodial fees and other details are available from Prudential
Securities or the Transfer Agent.
Investors who are considering the adoption of such a plan should consult
with their own legal counsel or tax adviser with respect to the establishment
and maintenance of any such plan.
TAX-DEFERRED RETIREMENT ACCOUNTS
INDIVIDUAL RETIREMENT ACCOUNTS. An individual retirement account (IRA)
permits the deferral of federal income tax on income earned in the account until
the earnings are withdrawn. The following chart represents a comparsion of the
earnings in a personal savings account with those in an IRA, assuming a $2,000
annual contribution, an 8% rate of return and a 39.6% federal income tax bracket
and shows how much more retirement income can accumulate within an IRA as
opposed to a taxable individual savings account.
TAX-DEFERRED COMPOUNDING1
CONTRIBUTIONS PERSONAL
MADE OVER: SAVINGS IRA
------------ -------- ---------
10 years $ 26,165 $ 31,291
15 years 44,675 58,649
20 years 68,109 98,846
25 years 97,780 157,909
30 years 135,346 244,692
- ----------
1 The chart is for illustrative purposes only and does not represent the
performance of the Fund or any specific investment. It shows taxable versus
tax-deferred compounding for the periods and on the terms indicated. Earnings in
the IRA account will be subject to tax when withdrawn from the account.
MUTUAL FUND PROGRAMS
From time to time, the Fund may be included in a mutual fund program with
other Prudential Mutual Funds. Under such a program, a group of portfolios will
be selected and thereafter marketed collectively. Typically, these programs are
created with an investment theme, e.g., to seek greater diversification,
protection from interest rate movements or access to different management
styles. In the event such a program is instituted, there may be a minimum
investment requirement for the program as a whole. The Fund may waive or reduce
the minimum initial investment requirements in connection with such a program.
The mutual funds in the program may be purchased individually or as a part
of a program. Since the allocation of portfolios included in the program may not
be appropriate for all investors, investors should consult their Prudential
Securities Financial Advisor or Prudential/Pruco Securities Representative
concerning the appropriate blend of portfolios for them. If investors elect to
purchase the individual mutual funds that constitute the program in an
investment ratio different from that offered by the program, the standard
minimum investment requirements for the individual mutual funds will apply.
NET ASSET VALUE
Under the 1940 Act, the Board of Directors of the Fund is responsible for
determining in good faith the fair value of securities and other assets of the
Fund. In accordance with procedures adopted by the Board of Directors, the value
of the Fund's portfolio will be determined as described below.
Net asset value per share will be determined daily as of 4:15 p.m. on each
day the New York Stock Exchange (NYSE) is open for trading by dividing the value
of the net assets of the Fund by the total number of common shares outstanding.
Net asset value is
B-29
<PAGE>
calculated separately for each class. For purposes of determining the net asset
value per share, the value of the Fund's net assets shall be deemed to equal the
value of the Fund's assets less the Fund's liabilities (including the
outstanding principal amount of borrowings, if any, and the unpaid interest on
borrowings, if any). The Fund will compute its net asset value on each day the
NYSE is open for trading except on days on which no orders to purchase, sell or
redeem Fund shares have been received or days on which changes in the value of
the Fund's portfolio securities do not affect net asset value. In the event the
NYSE closes early on any business day, the net asset value of the Fund's shares
shall be determined at a time between such closing and 4:15 P.M., New York time.
In valuing the Fund's assets, any security for which the primary market is
an exchange is valued at the last sale price on such exchange on the day of
valuation or, if there was no sale on such day, the last bid price quoted on
such day. The value of each U.S. Government security and corporate debt security
for which quotations are available will be based on the valuation provided by an
independent pricing service. Pricing services consider such factors as security
prices, yields, maturities, call features, ratings and developments relating to
specific securities in arriving at securities valuations. Other portfolio
securities that are actively traded in the OTC market, including listed
securities for which the primary market is believed to be OTC, will be valued at
the average of the quoted bid and asked prices provided by an independent
pricing service or by principal market makers. Exchange-traded options are
valued at their last sale price as of the close of options trading on the
applicable exchange. If there is no sale on the applicable options exchange on a
given day, options are valued at the average of the quoted bid and asked prices
as of the close of the applicable exchange. The Fund may engage pricing services
to obtain such prices. Futures contracts are marked to market daily, and options
thereon are valued at their last sale price, as of the close of the applicable
commodities exchanges. Forward currency contracts will be valued at the current
cost of covering or offsetting the contract. Securities and assets for which
market quotations are not readily available (including OTC options) are valued
at fair value as determined in good faith by or under the direction of the Board
of Directors of the Fund, which determination shall be based in part on the
valuation of other securities for which market quotations are available that are
considered to be comparable in quality, interest rate and maturity.
Quotations of foreign securities in a foreign currency will be converted to
U.S. dollar equivalents at the closing rates of exchange. Foreign currency
exchange rates are generally determined prior to the close of the NYSE.
Occasionally, events affecting the value of foreign securities and such exchange
rates occur between the time at which they are determined and the close of the
NYSE, which events will not be reflected in a computation of the Fund's net
asset value. If events materially affecting the value of such securities or
currency exchange rates were to occur during such time period, the securities
would be valued at their fair value as determined in good faith by or under the
direction of the Board of Directors.
Short-term investments that mature in less than 60 days are valued at
amortized cost if their term to maturity from date of purchase was less than 60
days or by amortizing their value on the 61st day prior to maturity if their
term to maturity from date of acquisition by the Fund was more than 60 days,
unless this is determined by the Board of Directors not to represent fair value.
Repurchase agreements will be valued at cost plus accrued interest.
Net asset value is calculated separately for each class. The net asset value
of Class B and Class C shares will generally be lower than the net asset value
of Class A shares as a result of the larger distribution-related fee to which
Class B and Class C shares are subject. The net asset value of Class A shares
will generally be lower than the net asset value of Class Z shares as a result
of the service fee to which the Class A shares are subject. It is expected,
however, that the net asset value per share of each class will tend to converge
immediately after the recording of dividends (if any) which will differ by
approximately the amount of the distribution and/or service fee expense accrual
differential among the classes.
TAXES
GENERAL. The Fund is qualified and intends to remain qualified as a
regulated investment company (RIC) under the Internal Revenue Code. As a RIC,
the Fund will not be subject to federal income tax on that part of its
investment company taxable income (consisting generally of interest and dividend
income, net short-term capital gain and net realized gains from certain foreign
currency transactions) and net capital gain (the excess of net long-term capital
gain over net short-term capital loss) that it distributes to its shareholders
if at least 90% of its investment company taxable income for the taxable year
(determined without regard to the deduction for dividends paid) is distributed
(Distribution Requirement). To qualify for treatment as a RIC, the Fund must,
among other things, (1) derive at least 90% of its gross income each taxable
year from dividends, interest, payments with respect to securities loans and
gains from the sale or other disposition of securities or foreign currencies, or
other income (including gains from options, futures or forward contracts)
derived from its business of investing in securities or such currencies (Income
Requirement); (2) derive less than 30% of its gross income each taxable year
from the sale or other disposition of any of the following that were held for
less than three months - securities, options, futures or forward contracts
(other than those on foreign currencies), or foreign currencies (or options,
futures or forward contracts thereon) that are not directly related to the
Fund's principal business of investing in securities (or options and futures
with respect to securities); (3) diversify its holdings so that, at the end of
each quarter of its taxable year, (A) at least 50% of the value of its total
assets is represented by cash and cash items, U.S. Government securities,
securities of other RICs and other securities, with such other securities
limited, in respect of any one issuer, to an amount not greater than 5% of the
Fund's total assets and to not more than 10% of the outstanding voting
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<PAGE>
securities of such issuer, and (B) not more than 25% of the value of its total
assets is invested in the securities (other than U.S. Government securities or
the securities of other RICs) of any one issuer; and (4) distribute to its
shareholders at least 90% of its net investment income and net short-term gains
(i.e., the excess of net short-term capital gains over net long-term capital
losses) in each year.
DISTRIBUTION REQUIREMENTS. The Fund will be subject to a nondeductible 4%
excise tax to the extent it fails to distribute during each calendar year
substantially all of its ordinary income for that year (except for certain
foreign currency gains or losses from transactions after October 31 of that
year, which are treated for these purposes as arising in the following year) and
capital gain net income for the twelve-month period ending on October 31 of that
year, plus certain other amounts. The Fund intends to make distributions in
accordance with this requirement. In general, for these purposes dividends and
other distributions will be treated as paid when actually distributed, except
that distributions declared in October, November or December of any year,
payable to shareholders of record on a specified date in such a month and paid
in January of the following year will be treated as having been paid by the Fund
(and received by the shareholders) on December 31 of the year in which they were
declared.
ORIGINAL ISSUE DISCOUNT. The Fund may purchase debt securities issued with
original issue discount. Original issue discount that accrues in a taxable year
will be treated as income earned by the Fund and therefore will be subject to
the distribution requirements described above. Because the original issue
discount earned by the Fund in a taxable year may not be represented by cash
income, the Fund may have to dispose of other securities and use the proceeds
thereof to make distributions in amounts necessary to satisfy the Distribution
Requirement. The Fund may realize capital gains or losses from such
dispositions, which would increase or decrease the Fund's investment company
taxable income and/or net capital gain. In addition, any such gains may be
realized on the disposition of securities held for less than three months.
Because of the 30% Limitation, any such gains would reduce the Fund's ability to
sell other securities (and certain options, futures, foreign currencies and
forward contracts) held for less than three months that it might wish to sell in
the ordinary course of its portfolio management.
PASSIVE FOREIGN INVESTMENT COMPANIES. A "passive foreign investment company"
(PFIC) is a foreign corporation that, in general, meets either of the following
tests: (a) at least 75% of its gross income is passive or (b) an average of at
least 50% of its assets produce, or are held for the production of, passive
income. If the Fund acquires and holds stock in a PFIC beyond the end of the
year of its acquisition, the Fund will be subject to federal income tax on a
portion of any "excess distribution" received on the stock or of any gain from
disposition of the stock (collectively, PFIC income), plus interest thereon,
even if the Fund distributes the PFIC income as a taxable dividend to its
shareholders. The balance of the PFIC income will be included in the Fund's
investment company taxable income and, accordingly, will not be taxable to it to
the extent that income is distributed to its shareholders. If the Fund elects to
treat any PFIC in which it invests as a "qualified electing fund," then in lieu
of the foregoing tax and interest obligation, the Fund will be required to
include in income each year its pro rata share of the qualified electing fund's
annual ordinary earnings and net capital gain, even if they are not distributed
to the Fund; those amounts would be subject to the distribution requirements
described above. It may be very difficult, if not impossible, to make this
election because of certain requirements thereof.
HEDGING TRANSACTIONS. The use of hedging strategies, such as writing and
purchasing options and futures contracts and entering into forward contracts,
involves complex rules that will determine for income tax purposes the character
and timing of recognition of certain gains and losses the Fund realizes in
connection therewith. Income from foreign currencies (except certain gains
therefrom that may be excluded by future regulations), and income from
transactions in options, futures and forward contracts derived by the Fund with
respect to its business of investing in securities or foreign currencies, will
qualify as permissible income under the Income Requirement. However, income from
the disposition of options and futures contracts (other than those on foreign
currencies) will be subject to the 30% Limitation if they are held for less than
three months. Income from the disposition of foreign currencies, and options,
futures and forward contracts on foreign currencies, that are not directly
related to the Fund's principal business of investing in securities (or options
and futures with respect to securities) also will be subject to the 30%
Limitation if they are held for less than three months.
The 30% Limitation and the asset diversification requirements described
above may limit the extent to which the Fund will be able to engage in
transactions in options, futures and forward contracts. If the Fund satisfies
certain requirements, then for purposes of determining whether the Fund
satisfies the 30% Limitation, any increase in value of a position that is part
of a "designated hedge" will be offset by any decrease in value (whether
realized or not) of the offsetting hedging position during the period of the
hedge; thus, only the net gain, if any, from the designated hedge will be
included in gross income for purposes of that limitation.
DISTRIBUTIONS. A portion of the dividends from the Fund's investment company
taxable income may qualify for the deduction for dividends received allowable to
corporations. The eligible portion may not exceed the aggregate dividends
received by the Fund from U.S. corporations. However, dividends received by a
corporate shareholder and deducted by it pursuant to the dividends-received
deduction are subject indirectly to the alternative minimum tax. Distributions
of net capital gain, if any, will not be eligible for the dividends-received
deduction.
B-31
<PAGE>
If the net asset value of Fund shares is reduced below a shareholder's cost
as a result of a distribution by the Fund, the distribution nevertheless will be
taxable. Investors should be careful to consider the tax implications of buying
Fund shares just prior to a distribution. Those purchasing shares at that time
will receive a distribution that nevertheless will be taxable to them.
A redemption of Fund shares may result in taxable gain or loss to the
redeeming shareholder, depending on whether the redemption proceeds are more or
less than the shareholder's adjusted basis for the redeemed shares (which
normally includes any sales charge paid). An exchange of Fund shares for shares
of any other Prudential Mutual Fund generally will have similar tax
consequences. See "Shareholder Investment Account-Exchange Privilege" above.
Special rules apply, however, when a shareholder (1) disposes of Fund shares
through a redemption or exchange within 90 days after purchase thereof and (2)
subsequently acquires shares of the Fund or any other Prudential Mutual Fund on
which a sales charge normally is imposed (load fund) without paying any sales
charge because of the exchange privilege or the repurchase privilege (see
"Shareholder Guide" in the Prospectus). In these cases, any gain on the
disposition of the original fund shares will be increased, or loss thereon
decreased, by the amount of the sales charge paid when those shares were
acquired; and that amount will increase the adjusted basis of the load fund
shares subsequently acquired. In addition, if Fund shares are purchased within
30 days before or after redeeming Fund shares (whether pursuant to the
repurchase privilege or otherwise), all or a portion of any loss on the
redemption will not be deductible and instead will increase the basis of the
newly purchased shares.
FOREIGN CURRENCY GAINS AND LOSSES. Gains or losses attributable to
fluctuations in exchange rates that occur between the time the Fund accrues
interest or other receivables or accrues expenses or other liabilities
denominated in a foreign currency and the time the Fund actually collects such
receivables or pays such liabilities, are treated as ordinary income or loss.
Similarly, gains or losses on disposition of debt securities denominated in a
foreign currency attributable to fluctuations in the value of the foreign
currency between the date of acquisition of the security and the date of
disposition, also are treated as ordinary income or loss. This income or loss,
referred to as "section 988" gain or loss, increases or decreases the amount of
the Fund's investment company taxable income available to be distributed to its
shareholders rather than increasing or decreasing the amount of its net capital
gain. If section 988 losses exceed other investment company taxable income and
net capital gain during a taxable year, the Fund would not be able to make any
taxable distributions for that year, or distributions made during that year
before the losses were realized would be recharacterized as a return of capital
to shareholders, rather than as taxable distributions, reducing each
shareholder's basis in his or her shares.
FOREIGN TAXES. Dividends and interest received, and gains in respect of
foreign securities realized, by the Fund may be subject to income, withholding
or other taxes imposed by foreign countries and U.S. possessions that would
reduce the yield on the Fund's securities. Tax conventions between certain
countries and the United States may reduce or eliminate these foreign taxes,
however, and many foreign countries do not impose taxes on capital gains in
respect of investments by foreign investors. If more than 50% of the value of
the Fund's total assets at the close of its taxable year consists of securities
of foreign corporations, it will be eligible to, and may, file an election with
the Internal Revenue Service that would enable Fund shareholders, in effect, to
receive the benefit of the foreign tax credit with respect to certain foreign
and U.S. possessions income taxes that may be paid by the Fund. Pursuant to the
election, the Fund would treat those taxes as dividends paid to its shareholders
and each shareholder would be required to (1) include in gross income, and treat
as paid by him, his proportionate share of those taxes, (2) treat his share of
those taxes and of any dividend paid by the Fund that represents income from
foreign or U.S. possessions sources as his own income from those sources and (3)
either deduct the taxes deemed paid by him in computing his taxable income or,
alternatively, use the foregoing information in calculating the foreign tax
credit against his federal income tax. If the Fund makes this election, it will
report to its shareholders shortly after each taxable year their respective
shares of the Fund's income from sources within, and taxes paid to, foreign
countries and U.S. possessions. The Fund was not eligible to make such an
election with respect to its fiscal year ended September 30, 1996, because the
percentage of its assets invested in securities of U.S. issuers exceeded 50% at
the end of that period.
OTHER TAXATION
The foregoing is only a summary of some, but not all, of the important
federal tax considerations generally affecting the Fund and its shareholders. In
addition to the federal tax considerations described above, there may be other
federal, state, local or foreign tax considerations applicable to particular
investors. Prospective investors are therefore advised to consult their own
taxadvisers with respect to the tax consequences to them of an investment in the
Fund.
PERFORMANCE INFORMATION
AVERAGE ANNUAL TOTAL RETURN. The Fund may from time to time advertise its
average annual total return. Average annual total return is determined
separately for Class A, Class B, Class C and Class Z shares. Because the Fund
commenced offering Class Z shares on November 29, 1996, performance information
for those shares is not shown. See "How the Fund Calculates Performance" in the
Prospectus.
B-32
<PAGE>
Average annual total return is computed according to the following formula:
P (1 + T)n = ERV
Where: P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years
ERV = Ending Redeemable Value at the end of the 1, 5 or 10 year periods
(or fractional portion thereof) of a hypothetical $1,000 investment
made at the beginning of the 1, 5 or 10 year periods.
Average annual total return takes into account any applicable initial or
contingent deferred sales charges but does not take into account any federal or
state income taxes that may be payable upon redemption.
The average annual total return for Class A shares for the one-year,
five-year and since inception periods ended September 30, 1996 was 3.22%, 10.02%
and 10.88%, respectively. The average annual total return for the Class B shares
for the one-year, five-year and since inception periods ended September 30, 1996
was 2.90%, 10.17% and 10.57%, respectively. The average annual total return for
Class C shares for the one year and since inception periods ended September 30,
1996 was 6.90% and 9.06%, respectively.
AGGREGATE TOTAL RETURN. The Fund may also advertise its aggregate total
return. Aggregate total return is determined separately for Class A and Class B
shares. See "How the Fund Calculates Peformance" in the Prospectus.
Aggregate total return represents the cumulative change in the value of an
investment in the Fund and is computed by the following formula:
ERV - P
--------
P
Where: P = a hypothetical initial payment of $1000.
ERV = Ending Redeemable Value at the end of the 1, 5, or 10 year periods
(or fractional portion thereof) of a hypothetical $1000 investment
made at the beginning of the 1, 5 or 10 year periods.
Aggregate total return does not take into account any federal or state
income taxes that may be payable upon redemption or any applicable initial or
contingent deferred sales charges.
The aggregate total return for Class A shares for the one-year, five-year
and since inception periods ended on September 30, 1996 was 8.65%, 69.73% and
111.18%, respectively. The aggregate total return for the Class B shares for the
one-year, five-year and since inception periods ended September 30, 1996 was
7.90%, 63.30% and 75.44%, respectively. The aggregate total return for Class C
shares for the one year and since inception periods ended September 30, 1996 was
7.90% and 20.65%, respectively.
YIELD. The Fund may from time to time advertise its yield as calculated over
a 30-day period. Yield is calculated separately for Class A, Class B and Class C
shares. This yield will be computed by dividing the Fund's net investment income
per share earned during this 30-day period by the maximum offering price per
share on the last day of this period. Yield is calculated according to the
following formula:
a - b
YIELD = 2 [ (------- + 1) 6 - 1 ]
cd
Where: a = dividends and interest earned during the period.
b = expenses accrued for the period (net of reimbursements).
c = the average daily number of shares outstanding during the
period that were entitled to receive dividends.
d = the maximum offering price per share on the last day of the period.
Yield fluctuates and an annualized yield quotation is not a representation
by the Fund as to what an investment in the Fund will actually yield for any
given period.
The Fund's 30-day yields for the period ended September 30, 1996, were
3.28%, 2.72% and 2.72% for Class A shares, Class B shares and Class C shares,
respectively.
From time to time, the performance of the Fund may be measured against
various indices. Set forth below is a chart which compares the performance of
different types of investments over the long term and the rate of inflation.(1)
B-33
<PAGE>
CHART
PERFORMANCE COMPARISON OF DIFFERENT TYPES
OF INVESTMENT OVER THE LONG TERM
(1/1926--12/1994)
Common Stocks 10.2%
Long-Term Govt. Bonds 4.8%
Inflation 31.1%
- ---------
(1)Source: Ibbotson Associates Stocks, Bonds, Bills and Inflation-1995
Yearbook (annually updates the work of Roger G. Ibbotson
and Rex A. Sinquefield). Used with permission. All rights
reserved. Common stock returns are based on the Standard &
Poor's 500 Stock Index, a market-weighted, unmanaged index of
500 common stocks in a variety of industry sectors. It is a
commonly used indicator of broad stock price movements. This
chart is for illustrative purposes only and is not intended to
represent the performance of any particular investment or fund.
Investors cannot invest directly in an index. Past performance
is not a guarantee of future results.
CUSTODIAN, TRANSFER AND DIVIDEND DISBURSING AGENT
AND INDEPENDENT ACCOUNTANTS
State Street Bank and Trust Company, One Heritage Drive, North Quincy,
Massachusetts 02171, serves as Custodian for the Fund's portfolio securities and
cash and, in that capacity, maintains certain financial and accounting books and
records pursuant to an agreement with the Fund.
Prudential Mutual Fund Services LLC ("PMFS"), Raritan Plaza One, Edison, New
Jersey 08837, serves as the transfer and dividend disbursing agent of the Fund.
It is a wholly-owned subsidiary of the Manager. PMFS provides customary transfer
agency services to the Fund, including the handling of shareholder
communications, the processing of shareholder transactions, the
maintenance of shareholder account records, payment of dividends and
distributions, and related functions. For these services, PMFS receives an
annual fee per shareholder account of $10, a new account set-up fee of $2.00 for
each manually-established account and a monthly inactive zero balance account
fee of $.20 per account. PMFS is also reimbursed for its out-of-pocket expenses,
including but not limited to postage, stationery, printing, allocable
communications expenses and other costs. For the fiscal year ended September 30,
1996, the Fund incurred fees of approximately $458,900 for the services of PMFS.
Deloitte & Touche LLP, Two World Financial Center, New York, New York 10281
served as the Fund's independent accountants for the fiscal year ended September
30, 1996, and in that capacity audited the Fund's annual financial statements.
Price Waterhouse LLP, 1177 Avenue of the Americas, New York, New York 10036
currently serves as the Fund's independent accountants and, in that capacity,
will audit the Fund's annual financial statements.
Kirkpatrick & Lockhart LLP, 1800 Massachusetts Avenue, N.W., Washington,
D.C. 20036, serves as counsel to the Fund (except with respect to the opinions
of counsel referred to in "Taxes, Dividends and Distributions" in the
Prospectus).
B-34
<PAGE>
Portfolio of Investments as of GLOBAL UTILITY FUND, INC.
September 30, 1996
- ------------------------------------------------------------
- ------------------------------------------------------------
<TABLE>
<CAPTION>
US$ Value
Shares Description (Note 1)
<C> <S> <C>
- ------------------------------------------------------------
LONG-TERM INVESTMENTS--97.0%
COMMON STOCKS--72.2%
ELECTRIC UTILITIES--25.2%
528,000 China Light & Power Co., Ltd. (Hong
Kong) $ 2,458,005
175,000 CMS Energy Corp. 5,271,875
200,000 DPL, Inc. 4,675,000
187,500 DQE, Inc. 5,226,562
100,000 DTE Energy Co. 2,800,000
100,000 Empresa Nacional de Electricidad
S.A.
(ADR) (Spain) 5,937,500
190,000 Espoon Sahko
(ADS) (Finland) 4,075,558
150,000 Huaneng Power International, Inc.*
(ADR) (China) 2,493,750
600,000 Iberdrola S.A. (Spain) 5,816,851
75,000 Korea Electric Power Corp.
(ADR) (Korea) 1,415,625
220,000 Pacific Gas & Electric Co. 4,785,000
100,000 Pinnacle West Capital Corp. 2,962,500
140,000 Public Service Co. of Colorado 4,970,000
80,000 RWE A.G. (Germany) 3,020,055
1,300,000 ScottishPower PLC (United Kingdom) 6,207,409
280,000 Shandong Huaneng Power
Co. Ltd. (ADR) (China) 2,520,000
100,000 Texas Utilities Co. 3,962,500
140,000 VEBA A.G. (Germany) 7,331,236
-------------
75,929,426
- ------------------------------------------------------------
GAS UTILITIES--8.9%
618,705 Australian Gas Light Co. (Australia) 3,331,375
100,000 Burlington Resources, Inc. 4,437,500
120,000 Equitable Resources, Inc. 3,420,000
60,000 Sonat, Inc. 2,655,000
330,000 TransCanada Pipelines Ltd. (Canada) 5,293,664
470,000 Westcoast Energy, Inc. (Canada) $ 7,556,714
-------------
26,694,253
TELECOMMUNICATIONS--33.2%
106,300 AirTouch Communications, Inc.* 2,936,538
175,000 AT&T Corp. 9,143,750
150,000 BCE, Inc. (Canada) 6,412,500
153,200 BC Telecom, Inc. (Canada) 3,064,900
100,000 Comsat Corp. 2,262,500
43,000 Empresas Telex-Chile S.A.(ADR)
(Chile) 258,000
50,000 GTE Corp. 1,925,000
210,000 MCI Communications Corp. 5,368,125
369 Nippon Telegraph & Telephone Corp.
(Japan) 2,716,036
125,000 NYNEX Corp. 5,437,500
100,000 Hellenic Telecom, Inc.* (Greece) 1,682,573
106,300 Pacific Telesis Group 3,574,338
87,600 Portugal Telecom S.A.
(ADS) (Portugal) 2,255,700
120,000 Royal PTT Nederland NV (Netherlands) 4,129,228
180,000 SBC Communications Inc. 8,662,500
70,000 Sprint Corp. 2,721,250
2,300,000 STET-Societa Finanziaria Telefonica
P.A. (Italy) 6,217,358
165,500 Tele Danmark (ADR) (Denmark) 3,909,937
20,000 Telecom Corp. of New Zealand Ltd.
(ADR) (New Zealand) 1,515,000
900,000 Telecom Italia S.P.A. (Italy) 1,998,858
900,000 Telecom Italia Mobile (Italy) 1,995,906
40,000 Telefonica de Argentina S.A.
(ADR) (Argentina) 995,000
150,000 Telefonica de Espana S.A.
(ADR) (Spain) 8,343,750
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
</TABLE>
B-35
<PAGE>
Portfolio of Investments as of GLOBAL UTILITY FUND, INC.
September 30, 1996
- ------------------------------------------------------------
- ------------------------------------------------------------
<TABLE>
<CAPTION>
US$ Value
Shares Description (Note 1)
<C> <S> <C>
- ------------------------------------------------------
TELECOMMUNICATIONS (CONT'D)
120,000 Telefonos de Mexico S.A. (ADR-Class
L Shares) (Mexico) $ 3,855,000
200,000 U.S. West Communications Group 5,950,000
75,000 Vodafone Group PLC
(ADR) (United Kingdom) 2,559,375
-------------
99,890,622
- ------------------------------------------------------------
WATER UTILITIES & OTHER--4.9%
30,968 Alcatel Alsthom (France) 2,612,258
167,800 American Water Works Co., Inc. 3,628,675
400,000 Anglian Water PLC (United Kingdom) 3,360,425
25,600 Lucent Technologies, Inc. 1,174,400
6,300 Technip S.A. (France) 575,844
200,000 U.S. West Media Group* 3,375,000
-------------
14,726,602
Total common stocks
(cost $176,304,563) 217,240,903
-------------
------------------------------------------------------------
PREFERRED STOCKS--1.8%
Philippine Long Distance Telephone
Co., (The Philippines)
43,700 $3.50 Conv. Ser. III (GDS) 2,540,063
80,000 5.75% Conv. Ser. II (GDS) 2,920,000
-------------
Total preferred stocks (cost
$4,185,000) 5,460,063
-------------
- ------------------------------------------------------------
<CAPTION>
Moody's Principal
Rating Amount
(Unaudited) (000)
<S> <C> <C> <C>
DEBT OBLIGATIONS--23.0%
CORPORATE BONDS--21.3%
- ------------------------------------------------------------
ELECTRICAL UTILITIES--12.8%
A1 $ 1,500 Alabama Power Co.,
6.375%, 8/1/99 1,491,450
Baa2 1,000D CSW Investments,
7.45%, 8/1/06
(United Kingdom) 994,400
Aa2 1,750 Central Illinois Light
Co.,
8.20%, 1/15/22 1,798,755
</TABLE>
<TABLE>
<CAPTION>
Moody's Principal
Rating Amount US$ Value
(Unaudited) (000) Description (Note 1)
<S> <C> <C> <C>
Baa1 $ 1,000D Chilgener S.A.,
6.50%, 1/15/06 (Chile) $ 933,510
Aaa 2,000D Chubu Electric Power Co.
Inc., (Japan)
6.25%, 8/5/03 (Eurobonds) 1,935,000
A3 1,500 Cincinnati Gas & Elec. Co.,
5.80%, 2/15/99 1,475,445
A1 1,000 Consolidated Edison Co., Inc.,
7.625%, 3/1/04 1,024,780
Aa2 2,000 Duke Power Co.,
5.875%, 6/1/01 1,903,360
Ba3 1,000 El Paso Electric Co.,
8.25%, 2/1/03, Ser. C 990,000
Baa1 1,000D Empresa Electrica
Pehuenche S.A.,
7.30%, 5/1/03 (Chile) 996,920
Baa1 1,000D Empresa Electrica del
Norte Grande S.A.,
7.75%, 3/15/06 (Chile) 994,840
Aa3 500 Florida Power & Light Co.,
6.00%, 7/1/03 472,850
A2 1,000 GTE Florida, Inc.,
7.25%, 10/15/25 929,210
A2 1,000D Hydro-Quebec
7.50%, 4/1/16 (Canada) 971,350
A2 1,000 Iowa-Illinois Gas & Elec. Co.,
6.95%, 10/15/25 893,650
Baa2 1,000 Louisiana Power & Light Co.,
6.00%, 3/1/00 967,570
A1 1,500 Monongahela Power Co.,
7.375%, 7/1/02 1,514,925
A1 1,000 Northern States Power Co.,
5.75%, 12/1/00 957,410
A2 1,000 Pacificorp.,
8.75%, 2/12/98 1,032,850
Baa1 2,000 Philadelphia Electric Co.,
7.50%, 1/15/99 2,036,580
A1 2,000 Potomac Edison Co.,
8.875%, 8/1/21 2,123,220
Aa2 2,000 Southwestern Elec. Power Co.,
5.25%, 4/1/00 1,906,100
Aa2 1,000 Southwestern Public Serv. Co.,
7.25%, 7/15/04 999,420
</TABLE>
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-36
<PAGE>
Portfolio of Investments as of GLOBAL UTILITY FUND, INC.
September 30, 1996
- ------------------------------------------------------------
- ------------------------------------------------------------
<TABLE>
<CAPTION>
Moody's Principal
Rating Amount US$ Value
(Unaudited) (000) Description (Note 1)
<S> <C> <C> <C>
- ------------------------------------------------------------
ELECTRICAL UTILITIES (CONT'D)
Baa3 $ 1,000 System Energy Resources, Inc.,
7.71%, 8/1/01 $ 1,008,090
Aa2 1,000 Tampa Electric Co.,
7.75%, 11/1/22 966,520
Baa2 2,000 Texas Utilities Electric
Co.,
9.27%, 1/14/00 2,148,360
B1 1,000 Texas-New Mexico Power
Co.,
Deb.
10.75%, 9/15/03 1,052,500
Aa3 2,000D Tokyo Electric Power
Co.,
6.125%, 7/29/03
(Eurobonds) (Japan) 1,935,000
A2 2,000 Virginia Electric & Power Co.,
6.625%, 4/1/03 1,950,420
-------------
38,404,485
- ------------------------------------------------------------
GAS DISTRIBUTION & OTHER INDUSTRIES--3.5%
A2 2,000D Alcan Aluminum Ltd.,
9.625%, 7/15/19
(Canada) 2,229,280
Baa2 1,000 Enron Corp.,
7.00%, 8/15/23 885,420
B1 1,000D Metrogas S.A.,
10.875%, 5/15/01
Ser. B (Argentina) 1,020,000
A2 1,600 Michigan Con. Gas Co.,
8.25%, 5/1/14 1,688,416
Northern Illinois Gas
Co.,
Aa1 500 5.875%, 5/1/00 484,435
Aa1 1,000 7.26%, 10/15/25 920,840
A2 2,000 Southern California Gas
Co.,
6.875%, 11/1/25 1,767,000
B1 1,500D Transportadora de Gas
del Sur S.A.
(Argentina)
7.75%, 12/23/98 1,479,375
-------------
10,474,766
- ------------------------------------------------------------
TELECOMMUNICATIONS, MEDIA & RELATED INDUSTRIES--5.0%
Ba2 1,500 360 Communications Co.,
7.50%, 3/1/06 1,458,105
Aaa $ 2,000D BellSouth
Telecommunications,
6.125%, 9/23/08
(Eurobonds) $ 1,845,000
Aaa 2,000D British Telecom Finance BV,
9.375%, 11/16/98
(Eurobonds) (United
Kingdom) 2,117,500
B1 1,000 Comcast Corp.,
Sr. Sub. Notes,
9.125%, 10/15/06 995,000
NR 1,000D Comtel Brasileira Ltda.,
10.75%, 9/26/04
(Brazil) 1,023,750
A1 1,550 Pacific Bell, Inc.,
8.70%, 6/15/01 1,665,258
Ba2 1,000D Philippine Long Distance
Telephone Co.,
9.25%, 6/30/06
(The Philippines) 1,021,800
Aa3 1,000 Southwestern Bell
Telephone Co.,
5.875%, 6/1/03 932,880
Ba1 1,000 TCI Communications Inc.,
Sr. Deb.
9.25%, 1/15/23 973,210
B1 1,500D Telecom Argentina S.A.,
8.375%, 10/18/00,
(Argentina) 1,462,500
Aa1 NZD1,000 Telecom Corp. New
Zealand Finance,
7.50%, 7/14/03
(Eurobonds) (New
Zealand) 668,753
B1 1,000D Telefonica de Argentina
S.A.,
11.875%, 11/1/04
(Argentina) 1,065,000
-------------
15,228,756
-------------
Total corporate bonds
(cost $64,901,125) 64,108,007
-------------
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
</TABLE>
B-37
<PAGE>
Portfolio of Investments as of GLOBAL UTILITY FUND, INC.
September 30, 1996
- ------------------------------------------------------------
- ------------------------------------------------------------
<TABLE>
<CAPTION>
Moody's Principal
Rating Amount US$ Value
(Unaudited) (000) Description (Note 1)
<S> <C> <C> <C>
- -----------------------------------------------------------
CONVERTIBLE BONDS--0.7%
Baa2 $ 500D Compania de Telefonos de
Chile S.A.,
4.50%, 1/15/03 (Chile) $ 610,625
Caa 1,500D International Cabletel,
Inc.,
7.25%, 4/15/05
(Eurobonds) 1,635,000
-------------
Total convertible bonds
(cost $2,000,000) 2,245,625
-------------
- ------------------------------------------------------------
U.S. GOVERNMENT SECURITIES--1.0%
United States Treasury
Notes,
2,000 6.125%, 7/31/00 1,981,560
1,000 7.50%, 11/15/01 1,043,280
-------------
Total U.S. Government
Securities
(cost $3,133,750) 3,024,840
-------------
Total debt obligations
(cost $70,034,875) 69,378,472
-------------
Total long-term
investments
(cost $250,524,438) 292,079,438
-------------
SHORT-TERM INVESTMENTS--1.8%
CORPORATE BOND--0.5%
$ 1,500D Ericsson (L.M.)
Telephone Co.
7.875%, 10/21/96
(Eurobonds) (Sweden) $ 1,501,875
- ------------------------------------------------------------
REPURCHASE AGREEMENT--1.3%
3,716 Lanston (Aubrey) & Co.
Inc., 5.70%, dated
9/30/96, due 10/1/96
in the amount of
$3,716,588 (cost
$3,716,000; value of
collateral including
accrued
interest--$3,808,521) 3,716,000
-------------
Total short-term
investments
(cost $5,320,115) 5,217,875
-------------
- ------------------------------------------------------------
TOTAL INVESTMENTS--98.8%
(cost $255,844,553; Note
4) 297,297,313
Other assets in excess
of liabilities--1.2% 3,720,830
-------------
Net Assets--100% $ 301,018,143
-------------
-------------
</TABLE>
- ---------------
*--Non-income producing security.
D--US$ Denominated Bonds.
ADR--American Depository Receipts.
ADS--American Depository Shares.
GDS--Global Depository Shares.
The Fund's current Statement of Additional Information contains a description
of Moody's ratings.
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-38
<PAGE>
STATEMENT OF ASSETS AND LIABILITIES GLOBAL UTILITY FUND, INC.
- -------------------------------------------------------------------------------
<TABLE>
<S> <C>
ASSETS SEPTEMBER 30, 1996
Investments, at value (cost $255,844,553).................................................................. $297,297,313
Foreign currency, at value (cost $136,056)................................................................. 136,058
Cash....................................................................................................... 39,024
Receivable for investments sold............................................................................ 3,260,923
Dividend and interest receivable........................................................................... 2,844,116
Receivable for Fund shares sold............................................................................ 83,375
Deferred expenses and other assets......................................................................... 9,080
--------------
Total assets............................................................................................ 303,669,889
--------------
LIABILITIES
Payable for Fund shares reacquired......................................................................... 1,161,760
Payable for investments purchased.......................................................................... 541,800
Accrued expenses........................................................................................... 504,560
Distribution fee payable................................................................................... 178,156
Management fee payable..................................................................................... 166,779
Withholding taxes payable.................................................................................. 98,691
--------------
Total liabilities....................................................................................... 2,651,746
--------------
NET ASSETS................................................................................................. $301,018,143
--------------
--------------
Net assets were comprised of:
Common stock, at par.................................................................................... $ 20,028
Paid-in capital in excess of par........................................................................ 243,967,457
--------------
243,987,485
Undistributed net investment income..................................................................... 347,667
Accumulated net realized gains on investments and foreign currency transactions......................... 15,225,749
Net unrealized appreciation on investments and foreign currencies....................................... 41,457,242
--------------
Net assets, September 30, 1996............................................................................. $301,018,143
--------------
--------------
Class A:
Net asset value and redemption price per share
($112,800,432 / 7,504,953 shares of common stock issued and outstanding)............................. $15.03
Maximum sales charge (5.00% of offering price).......................................................... 0.79
--------------
Maximum offering price to public........................................................................ $15.82
--------------
--------------
Class B:
Net asset value, offering price and redemption price per share
($187,556,665 / 12,478,843 shares of common stock issued and outstanding)............................ $15.03
--------------
--------------
Class C:
Net asset value, offering price and redemption price per share
($661,046 / 43,982 shares of common stock issued and outstanding).................................... $15.03
--------------
--------------
</TABLE>
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-39
<PAGE>
GLOBAL UTILITY FUND, INC.
STATEMENT OF OPERATIONS
- ------------------------------------------------------------
<TABLE>
<CAPTION>
Year Ended
NET INVESTMENT INCOME September 30, 1996
<S> <C>
Income
Dividends (net of foreign withholding
taxes of $679,951)................. $ 9,232,590
Interest and discount earned.......... 6,222,613
------------------
Total income....................... 15,455,203
------------------
Expenses
Management fee........................ 2,195,690
Distribution fee--Class A............. 300,305
Distribution fee--Class B............. 2,103,048
Distribution fee--Class C............. 6,078
Transfer agent's fees and expenses.... 537,000
Custodian's fees and expenses......... 284,000
Reports to shareholders............... 270,000
Audit fee and expenses................ 43,000
Directors' fees and expenses.......... 43,000
Registration fees..................... 35,000
Legal fees and expenses............... 32,000
Insurance............................. 7,000
Miscellaneous......................... 12,171
------------------
Total expenses..................... 5,868,292
------------------
Net investment income.................... 9,586,911
------------------
REALIZED AND UNREALIZED GAIN (LOSS)
ON INVESTMENTS AND FOREIGN CURRENCY
TRANSACTIONS
Net realized gain on:
Investment transactions............... 17,775,022
Foreign currency transactions......... 351,243
------------------
18,126,265
------------------
Net change in unrealized
appreciation/depreciation on:
Investments........................... (1,999,856)
Foreign currencies.................... 822,976
------------------
(1,176,880)
------------------
Net gain on investments and foreign
currencies............................ 16,949,385
------------------
NET INCREASE IN NET ASSETS
RESULTING FROM OPERATIONS................ $ 26,536,296
------------------
------------------
</TABLE>
GLOBAL UTILITY FUND, INC.
STATEMENT OF CHANGES IN NET ASSETS
- ------------------------------------------------------------
<TABLE>
<CAPTION>
INCREASE (DECREASE) Year Ended September 30,
IN NET ASSETS 1996 1995
<S> <C> <C>
Operations
Net investment income.......... $ 9,586,911 $ 11,147,737
Net realized gain on investment
and foreign currency
transactions................ 18,126,265 7,315,262
Net change in unrealized
appreciation/depreciation on
investments and foreign
currencies.................. (1,176,880) 25,829,844
------------ ------------
Net increase in net assets
resulting from operations... 26,536,296 44,292,843
------------ ------------
Net equalization debits........ -- (312,052)
------------ ------------
Dividends and distributions (Note
1)
Dividends from net investment
income
Class A..................... (4,066,553) (4,310,107)
Class B..................... (5,504,314) (6,511,221)
Class C..................... (16,044) (11,932)
------------ ------------
(9,586,911) (10,833,260)
------------ ------------
Distributions in excess of net
investment income
Class A..................... (8,056) --
Class B..................... (10,902) --
Class C..................... (32) --
------------ ------------
(18,990) --
------------ ------------
Distributions from net realized
gains
Class A..................... (3,456,002) (2,642,246)
Class B..................... (6,126,168) (5,681,058)
Class C..................... (16,333) (6,975)
------------ ------------
(9,598,503) (8,330,279)
------------ ------------
Fund share transactions (net of
share conversions ) (Note 5)
Net proceeds form shares
sold........................ 28,413,113 25,935,458
Net asset value of shares
issued in reinvestment of
dividends and
distributions............... 15,648,910 15,601,479
Cost of shares reacquired...... (102,550,920) (113,332,033)
------------ ------------
Net decrease in net assets from
Fund share transactions........ (58,488,897) (71,795,096)
------------ ------------
Total decrease.................... (51,157,005) (46,977,844)
NET ASSETS
Beginning of year................. 352,175,148 399,152,992
------------ ------------
End of year....................... $301,018,143 $352,175,148
------------ ------------
------------ ------------
</TABLE>
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-40
<PAGE>
NOTES TO FINANCIAL STATEMENTS GLOBAL UTILITY FUND, INC.
- --------------------------------------------------------------------------------
Global Utility Fund, Inc. (the ``Fund'') is an open-end diversified management
investment company. The Fund was organized in Maryland on November 18, 1988 as a
closed-end, diversified management investment company and on December 15, 1989,
sold 9,000 shares of common stock for $100,440 to Wellington Management Company,
LLP (``Wellington''). Investment operations commenced on January 2, 1990. On
February 1, 1991, the Fund concluded operations as a closed-end investment
company and subsequently commenced operations as an open-end, diversified
management investment company.
The Fund seeks to achieve its investment objective of obtaining a high total
return, without incurring undue risk, by investing primarily in common stocks,
debt securities and preferred stocks of domestic and foreign companies in the
utility industries. Debt securities in which the Fund invests are generally
within the four highest ratings categories by a nationally recognized
statistical rating organization or, if not rated, are of comparable quality. The
ability of the issuers of the debt securities held by the Fund to meet their
obligations may be affected by economic developments in a specific country or
industry.
- ------------------------------------------------------------
NOTE 1. ACCOUNTING POLICIES
The following is a summary of significant accounting policies followed by the
Fund in the preparation of its financial statements.
Securities Valuation: In valuing the Fund's assets, quotations of foreign
securities in a foreign currency are converted to U.S. dollar equivalents at the
then current exchange rate. Any security for which the primary market is on an
exchange is valued at the last sale price on such exchange on the day of
valuation or, if there was no sale on such day, the last bid price quoted on
such day. Portfolio securities that are actively traded in the over-the-counter
market, including listed securities for which the primary market is believed to
be over-the-counter, are valued at the mean between the most recently quoted bid
and asked prices provided by an independent pricing service or by principal
market makers. Securities for which market quotations are not readily available
are valued at fair value as determined in good faith by or under the direction
of the Board of Directors of the Fund.
Short-term securities which mature in more than 60 days are valued at current
market quotations. Short-term securities which mature in 60 days or less are
valued at amortized cost.
In connection with transactions in repurchase agreements with U.S. financial
institutions, it is the Fund's policy that its custodian takes possession of the
underlying collateral securities, the value of which exceeds the principal
amount of the repurchase transaction including accrued interest. If the seller
defaults and the value of the collateral declines or if bankruptcy proceedings
are commenced with respect to the seller of the security, realization of the
collateral by the Fund may be delayed or limited.
Foreign Currency Translation: The books and records of the Fund are maintained
in U.S. dollars. Foreign currency amounts are translated into U.S. dollars on
the following basis:
(i) market value of investment securities, other assets and liabilities--at the
closing rates of exchange.
(ii) purchases and sales of investment securities, income and expenses--at the
rates of exchange prevailing on the respective dates of such transactions.
Although the net assets of the Fund are presented at the foreign exchange rates
and market values at the close of the fiscal year, the Fund does not isolate
that portion of the results of operations arising as a result of changes in the
foreign exchange rates from the fluctuations arising from changes in the market
prices of the securities held at fiscal year end. Similarly, the Fund does not
isolate the effect of changes in foreign exchange rates from the fluctuations
arising from changes in the market prices of long-term securities sold during
the fiscal year. Accordingly, realized foreign currency gains (losses) are
included in the reported net realized gain on investment transactions.
The Fund recognizes foreign currency gains and losses from the holding of
foreign currencies, the sales and maturities of short-term securities and
forward currency contracts, and the difference between the amounts of dividends,
interest and foreign taxes recorded on the Fund's books and the U.S. dollar
equivalent of amounts actually received or paid.
Foreign security and currency transactions may involve certain considerations
and risks not typically associated with those of domestic origin as a result of,
among other factors, the possibility of political and economic instability and
the level of governmental supervision and regulation of foreign securities
markets.
Forward Currency Contracts: A forward currency contract is a commitment to
purchase or sell a foreign currency at a future date at a negotiated forward
rate. The Fund enters into forward currency contracts in order to hedge its
exposure to changes in foreign currency exchange rates on its foreign portfolio
holdings or on specific receivables and payables denominated in a foreign
currency. The contracts are valued daily at current
- --------------------------------------------------------------------------------
B-41
<PAGE>
NOTES TO FINANCIAL STATEMENTS GLOBAL UTILITY FUND, INC.
- --------------------------------------------------------------------------------
exchange rates and any unrealized gain or loss is included in net unrealized
appreciation or depreciation on investments. Gain or loss is realized on the
settlement date of the contract equal to the difference between the settlement
value of the original and renegotiated forward contracts. This gain or loss, if
any, is included in net realized gain (loss) on foreign currency transactions.
Risks may arise upon entering into these contracts from the potential inability
of the counterparties to meet the terms of their contracts.
Securities Transactions and Net Investment Income: Security transactions are
recorded on the trade date. Realized gains and losses from security and currency
transactions are calculated on the identified cost basis. Interest income is
recorded on the accrual basis and dividend income is recorded on the ex-dividend
date. Expenses are recorded on the accrual basis which may require the use of
certain estimates by management.
Net investment income (other than distribution fees) and unrealized and realized
gains or losses are allocated daily to each class of shares based upon the
relative proportion of net assets of each class at the beginning of the day.
Equalization: During the fiscal year ended September 30, 1996, the Fund
discontinued the accounting practice of equalization. Equalization is a practice
whereby a portion of the proceeds from sales and costs of repurchases of capital
shares, equivalent on a per-share basis to the amount of distributable net
investment income on the date of the transaction, is credited or charged to
undistributed net investment income. The undistributed net investment income
balance of $220,108 at September 30, 1995, resulting from equalization, was
transferred to paid-in capital in excess of par.
Federal Income Taxes: It is the Fund's policy to continue to meet the
requirements of the Internal Revenue Code applicable to regulated investment
companies and to distribute all of its taxable income to shareholders.
Therefore, no federal income tax provision is required.
Withholding taxes on foreign dividends and interest are provided in accordance
with the Fund's understanding of the applicable country's tax rules and rates.
Dividends and Distributions: Dividends from net investment income are declared
and paid quarterly. The Fund will distribute at least annually any net capital
gains in excess of loss carryforwards. Dividends and distributions are recorded
on the ex-dividend date.
Income distributions and capital gain distributions are determined in accordance
with income tax regulations which may differ from generally accepted accounting
principles. These differences are primarily due to differing treatments for wash
sales and foreign currency transactions.
Reclassification of Capital Accounts: The Fund accounts for and reports
distributions to shareholders in accordance with American Institute of Certified
Public Accountants (AICPA) Statement of Position 93-2: Determination,
Disclosure, and Financial Statement Presentation of Income, Capital Gain, and
Return of Capital Distributions by Investment Companies. The effect of applying
this statement was to increase undistributed net investment income and decrease
accumulated net realized gains on investments by $78,798 relating to net
realized foreign currency gains. Net investment income, net realized gains and
net assets were not affected by this change.
- ------------------------------------------------------------
NOTE 2. AGREEMENTS
The Fund has a management agreement with Prudential Mutual Fund Management LLC
(``PMF''). Pursuant to this agreement, PMF has responsibility for all investment
advisory services and supervises the subadviser's performance of such services.
PMF has entered into a subadvisory agreement with Wellington; Wellington
furnishes investment advisory services in connection with the management of the
Fund. PMF pays for the cost of the subadviser's services, the compensation of
officers of the Fund, occupancy and certain clerical and bookkeeping costs of
the Fund. The Fund bears all other costs and expenses.
The management fee paid PMF is computed daily and payable monthly at an annual
rate of .70% of the Fund's average daily net assets up to and including $250
million, .55% of the Fund's average daily net assets of the next $250 million,
.50% of the Fund's average daily net assets of the next $500 million and .45% of
the Fund's average daily net assets in excess of $1 billion. Pursuant to the
subadvisory agreement, PMF compensates Wellington for its services at an annual
rate of .50% of the Fund's average daily net assets up to and including $250
million, .35% of the Fund's average daily net assets of the next $250 million,
.30% of the Fund's average daily net assets of the next $500 million and .25% of
the Fund's average daily net assets in excess of $1 billion.
The Fund had a distribution agreement with Prudential Mutual Fund Distributors,
Inc. (``PMFD''), which acted as the distributor of the Class A shares of the
Fund through January 1, 1996. Effective January 2, 1996, Prudential Securities
Incorporated (``PSI''), became the distributor of the Class A shares of the Fund
and is serving the Fund under the same terms and conditions as under the
arrangement with PMFD. PSI is also the distributor of the Class B and Class C
shares of the Fund. The Fund
- --------------------------------------------------------------------------------
B-42
<PAGE>
NOTES TO FINANCIAL STATEMENTS GLOBAL UTILITY FUND, INC.
- --------------------------------------------------------------------------------
compensated PMFD and PSI for distributing and servicing the Fund's Class A,
Class B and Class C shares, pursuant to plans of distribution (the ``Class A, B
and C Plans''), regardless of expenses actually incurred by them. The
distribution fees are accrued daily and payable monthly.
Pursuant to the Class A, B and C Plans, the Fund compensates PSI, and PMFD for
the period September 1, 1995 through January 1, 1996 with respect to Class A
shares, for distribution-related activities at an annual rate of up to .30 of
1%, 1% and 1%, of the average daily net assets of the Class A, B and C shares,
respectively. Such expenses under the Plans were .25 of 1%, 1% and 1%, of the
average daily net assets of the Class A, B and C shares, respectively, for the
fiscal year ended September 30, 1996.
PMFD and PSI has advised the Fund that it has received approximately $68,100 in
front-end sales charges resulting from sales of Class A shares during the fiscal
year ended September 30, 1996. From these fees, PMFD and PSI paid such sales
charges to affiliated broker-dealers which in turn paid commissions to
salespersons and incurred other distribution costs.
PSI has advised the Fund that for the fiscal year ended September 30, 1996, it
received approximately $728,700 and $700 in contingent deferred sales charges
imposed upon certain redemptions by Class B and Class C shareholders,
respectively.
PMFD is a wholly-owned subsidiary of PMF; PSI and PMF are indirect, wholly-owned
subsidiaries of The Prudential Insurance Company of America.
- ------------------------------------------------------------
NOTE 3. OTHER TRANSACTIONS WITH AFFILIATES
Prudential Mutual Fund Services, Inc. (``PMFS''), a wholly-owned subsidiary of
PMF, serves as the Fund's transfer agent and during the fiscal year ended
September 30, 1996, the Fund incurred fees of approximately $458,900 for the
services of PMFS. As of September 30, 1996, approximately $37,000 of such fees
were due to PMFS. Transfer agent fees and expenses in the Statement of
Operations include certain out-of-pocket expenses paid to non-affiliates.
- ------------------------------------------------------------
Note 4. PORTFOLIO SECURITIES
Purchases and sales of investment securities, other than short-term investments,
for the fiscal year ended September 30, 1996 were $41,795,046 and $113,701,639,
respectively.
The United States federal income tax basis of the Fund's investments at
September 30, 1996 was $255,871,260 and accordingly, net unrealized appreciation
of investments, for United States federal income tax purposes was $41,426,053
(gross unrealized appreciation--$52,314,897; gross unrealized
depreciation--$10,888,844).
- ------------------------------------------------------------
NOTE 5. CAPITAL
The Fund offers Class A, Class B and Class C shares. Class A shares are sold
with an initial sales charge of up to 5.00%. Class B shares are sold with a
contingent deferred sales charge which declines from 5% to zero depending upon
the period of time the shares are held. Class C shares are sold with a
contingent deferred sales charge of 1% during the first year. Class B shares
will automatically convert to Class A shares on a quarterly basis approximately
seven years after purchase. A special exchange privilege is also available for
shareholders who qualified to purchase Class A shares at net asset value.
The Fund has authorized 2 billion shares of common stock at $.001 par value per
share equally divided into Class A, B and C shares. Of the 20,027,778 shares of
common stock issued and outstanding at September 30, 1996, Wellington owned
9,000 Class A shares.
Transactions in shares of common stock were as follows:
<TABLE>
<CAPTION>
CLASS A SHARES AMOUNT
- ----------------------------------- ---------- ------------
<S> <C> <C>
Year ended September 30, 1996:
Shares sold........................ 1,266,739 $ 18,863,411
Shares issued in reinvestment of
dividends and distributions...... 339,649 5,017,345
Shares reacquired.................. (2,883,880) (43,010,724)
---------- ------------
Net decrease in shares outstanding
before conversion................ (1,277,492) (19,129,968)
Shares issued upon conversion from
Class B.......................... 327,144 4,874,396
---------- ------------
Net decrease in shares
outstanding...................... (950,348) $(14,255,572)
---------- ------------
---------- ------------
Year ended September 30, 1995:
Shares sold........................ 932,622 $ 12,467,912
Shares issued in reinvestment of
dividends and distributions...... 332,880 4,408,412
Shares reacquired.................. (3,154,244) (42,676,531)
---------- ------------
Net decrease in shares outstanding
before conversion................ (1,888,742) (25,800,207)
Shares issued upon conversion from
Class B.......................... 1,102,435 14,545,652
---------- ------------
Net decrease in shares
outstanding...................... (786,307) $(11,254,555)
---------- ------------
---------- ------------
</TABLE>
- --------------------------------------------------------------------------------
B-43
<PAGE>
NOTES TO FINANCIAL STATEMENTS GLOBAL UTILITY FUND, INC.
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
CLASS B SHARES AMOUNT
- ----------------------------------- ---------- ------------
Year ended September 30, 1996:
<S> <C> <C>
Shares sold........................ 623,845 $ 9,314,099
Shares issued in reinvestment of
dividends and distributions...... 718,862 10,600,234
Shares reacquired.................. (3,977,624) (59,359,780)
---------- ------------
Net decrease in shares outstanding
before conversion................ (2,634,917) (39,445,447)
Shares reacquired upon conversion
into Class A..................... (327,061) (4,874,396)
---------- ------------
Net decrease in shares
outstanding...................... (2,961,978) $(44,319,843)
---------- ------------
---------- ------------
Year ended September 30, 1995:
Shares sold........................ 976,906 $ 13,147,835
Shares issued in reinvestment of
dividends and distributions...... 849,891 11,174,827
Shares reacquired.................. (5,242,255) (70,606,948)
---------- ------------
Net decrease in shares outstanding
before conversion................ (3,415,458) (46,284,286)
Shares reacquired upon conversion
into Class A..................... (1,103,158) (14,545,349)
---------- ------------
Net decrease in shares
outstanding...................... (4,518,616) $(60,829,635)
---------- ------------
---------- ------------
<CAPTION>
CLASS C SHARES AMOUNT
- ----------------------------------- ---------- ------------
<S> <C> <C>
Year ended September 30, 1996:
Shares sold........................ 15,751 $ 235,603
Shares issued in reinvestment of
dividends and distributions...... 2,124 31,331
Shares reacquired.................. (12,124) (180,416)
---------- ------------
Net increase in shares
outstanding...................... 5,751 $ 86,518
---------- ------------
---------- ------------
Year ended September 30, 1995:
Shares sold........................ 23,879 $ 319,711
Shares issued in reinvestment of
dividends and distributions...... 1,372 18,240
Shares reacquired.................. (3,578) (48,857)
---------- ------------
Net increase in shares
outstanding...................... 21,673 $ 289,094
---------- ------------
---------- ------------
</TABLE>
- --------------------------------------------------------------------------------
B-44
<PAGE>
FINANCIAL HIGHLIGHTS GLOBAL UTILITY FUND, INC.
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Class A
--------------------------------------------------------------
Year Ended September 30,
--------------------------------------------------------------
1996 1995 1994 1993 1992
---------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of year..... $ 14.72 $ 13.66 $ 14.63 $ 12.96 $ 12.62
---------- -------- -------- -------- --------
INCOME FROM INVESTMENT OPERATIONS
Net investment income.................. .51 .49 .47 .44 .53
Net realized and unrealized gain (loss)
on investment and foreign currency
transactions........................ .73 1.35 (.82) 2.46 1.01
---------- -------- -------- -------- --------
Total from investment operations.... 1.24 1.84 (.35) 2.90 1.54
---------- -------- -------- -------- --------
LESS DISTRIBUTIONS
Dividends from net investment income... (.51) (.48) (.42) (.47) (.53)
Distributions in excess of net
investment income................... -- -- -- (.01) --
Distributions from net realized
gains............................... (.42) (.30) (.20) (.75) (.67)
---------- -------- -------- -------- --------
Total distributions................. (.93) (.78) (.62) (1.23) (1.20)
---------- -------- -------- -------- --------
Net asset value, end of year........... $ 15.03 $ 14.72 $ 13.66 $ 14.63 $ 12.96
---------- -------- -------- -------- --------
---------- -------- -------- -------- --------
TOTAL RETURN(a)........................ 8.65% 14.23% (2.49)% 23.87% 13.15%
RATIOS/SUPPLEMENTAL DATA:
Net assets, end of year (000).......... $112,800 $124,423 $126,254 $138,714 $114,654
Average net assets (000)............... $120,122 $122,837 $139,166 $119,001 $120,708
Ratios to average net assets:
Expenses, including distribution
fees............................. 1.30% 1.31% 1.25% 1.30% 1.39%
Expenses, excluding distribution
fees............................. 1.05% 1.06% 1.02% 1.10% 1.19%
Net investment income............... 3.38% 3.58% 3.39% 3.37% 4.16%
For Class A, B and C shares:
Portfolio turnover rate............. 13% 15% 19% 14% 57%
Average commission rate paid per
share............................ $ 0.0542 -- -- -- --
</TABLE>
- ---------------
(a) Total return does not consider the effects of sales loads. Total return is
calculated assuming a purchase of shares on the first day and a sale on the
last day of each year reported and includes reinvestment of dividends and
distributions.
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-45
<PAGE>
FINANCIAL HIGHLIGHTS GLOBAL UTILITY FUND, INC.
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Class B Class C
-------------------------------------------------------------- ----------
Year Ended
September
Year Ended September 30, 30,
-------------------------------------------------------------- ----------
1996 1995 1994 1993 1992 1996
<CAPTION>
---------- -------- -------- -------- ------- ----------
<S> <C> <C> <C> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of period... $ 14.71 $ 13.66 $ 14.63 $ 12.97 $ 12.63 $ 14.71
---------- -------- -------- -------- ------- ----------
INCOME FROM INVESTMENT OPERATIONS
Net investment income.................. .40 .39 .37 .34 .43 .40
Net realized and unrealized gain (loss)
on investment and foreign currency
transactions........................ .74 1.34 (.82) 2.45 1.01 .74
---------- -------- -------- -------- ------- ----------
Total from investment operations.... 1.14 1.73 (.45) 2.79 1.44 1.14
---------- -------- -------- -------- ------- ----------
LESS DISTRIBUTIONS
Dividends from net investment income... (.40) (.38) (.32) (.37) (.43) (.40)
Distributions in excess of net
investment income................... -- -- -- (.01) -- --
Distributions from net realized
gains............................... (.42) (.30) (.20) (.75) (.67) (.42)
---------- -------- -------- -------- ------- ----------
Total distributions................. (.82) (.68) (.52) (1.13) (1.10) (.82)
---------- -------- -------- -------- ------- ----------
Net asset value, end of period......... $ 15.03 $ 14.71 $ 13.66 $ 14.63 $ 12.97 $ 15.03
---------- -------- -------- -------- ------- ----------
---------- -------- -------- -------- ------- ----------
TOTAL RETURN(b)........................ 7.90% 13.32% (3.22)% 22.87% 12.23% 7.90%
RATIOS/SUPPLEMENTAL DATA:
Net assets, end of period (000)........ $187,557 $227,189 $272,673 $185,259 $60,432 $ 661
Average net assets (000)............... $210,305 $237,983 $270,466 $ 90,254 $45,661 $ 608
Ratios to average net assets:
Expenses, including distribution
fees............................. 2.05% 2.06% 2.02% 2.10% 2.19% 2.05%
Expenses, excluding distribution
fees............................. 1.05% 1.06% 1.02% 1.10% 1.19% 1.05%
Net investment income............... 2.62% 2.83% 2.68% 2.59% 3.43% 2.66%
<CAPTION>
August 1,
1994(a)
through
September 30,
1995 1994
------------- -------------
<S> <C> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of period... $ 13.66 $ 13.93
----- -----
Income from investment operations
Net investment income.................. .39 .06
Net realized and unrealized gain (loss)
on investment and foreign currency
transactions........................ 1.34 (.24)
----- -----
Total from investment operations.... 1.73 (.18)
----- -----
Less distributions
Dividends from net investment income... (.38) (.07)
Distributions in excess of net
investment income................... -- --
Distributions from net realized
gains............................... (.30) (.02)
----- -----
Total distributions................. (.68) (.09)
----- -----
Net asset value, end of period......... $ 14.71 $ 13.66
----- -----
----- -----
TOTAL RETURN(b)........................ 13.32% (1.32)%
RATIOS/SUPPLEMENTAL DATA:
Net assets, end of period (000)........ $ 563 $ 226
Average net assets (000)............... $ 410 $ 131
Ratios to average net assets:
Expenses, including distribution
fees............................. 2.06% 2.06%(c)
Expenses, excluding distribution
fees............................. 1.06% 1.06%(c)
Net investment income............... 2.83% 2.46%(c)
</TABLE>
- ---------------
(a) Commencement of offering of Class C shares.
(b) Total return does not consider the effects of sales loads. Total return is
calculated assuming a purchase of shares on the first day and a sale on the
last day of each period reported and includes reinvestment of dividends and
distributions.
Total return for periods of less than a full year are not annualized.
(c) Annualized.
- --------------------------------------------------------------------------------
See Notes to Financial Statements.
B-46
<PAGE>
INDEPENDENT AUDITORS' REPORT GLOBAL UTILITY FUND, INC.
- --------------------------------------------------------------------------------
The Shareholders and Board of Directors
Global Utility Fund, Inc.
We have audited the accompanying statement of assets and liabilities, including
the portfolio of investments, of Global Utility Fund, Inc. as of September 30,
1996, the related statements of operations for the year then ended and of
changes in net assets for each of the two years in the period then ended, and
the financial highlights for each of the five years in the 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.
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 the securities owned as of
September 30, 1996 by correspondence with the custodian and brokers. 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, such financial statements and financial highlights present
fairly, in all material respects, the financial position of Global Utility Fund,
Inc. as of September 30, 1996, the results of its operations, the changes in its
net assets, and its financial highlights for the respective stated periods in
conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP
New York, New York
November 14, 1996
B-47
<PAGE>
APPENDIX I-GENERAL INVESTMENT INFORMATION
The following terms are used in mutual fund investing.
ASSET ALLOCATION
Asset allocation is a technique for reducing risk and providing balance.
Asset allocation among different types of securities within an overall
investment portfolio helps to reduce risk and to potentially provide stable
returns, while enabling investors to work toward their financial goal(s). Asset
allocation is also a strategy to gain exposure to better performing asset
classes while maintaining investment in other asset classes.
DIVERSIFICATION
Diversification is a time-honored technique for reducing risk, providing
"balance" to an overall portfolio and potentially achieving more stable returns.
Owning a portfolio of securities mitigates the individual risks (and returns) of
any one security. Additionally, diversification among types of securities
reduces the risks (and general returns) of any one type of security.
DURATION
Debt securities have varying levels of sensitivity to interest rates. As
interest rates fluctuate, the value of a bond (or a bond portfolio) will
increase or decrease. Longer term bonds are generally more sensitive to changes
in interest rates. When interest rates fall, bond prices generally rise.
Conversely, when interest rates rise, bond prices generally fall.
Duration is an approximation of the price sensitivity of a bond (or a bond
portfolio) to interest rate changes. It measures the weighted average maturity
of a bond's (or a bond portfolio's) cash flows, i.e., principal and interest
rate payments. Duration is expressed as a measure of time in years-the longer
the duration of a bond (or a bond portfolio), the greater the impact of interest
rate changes on the bond's (or the bond portfolio's) price. Duration differs
from effective maturity in that duration takes into account call provisions,
coupon rates and other factors. Duration measures interest rate risk only and
not other risks, such as credit risk and, in the case of non-U.S. dollar
denominated securities, currency risk. Effective maturity measures the final
maturity dates of a bond (or a bond portfolio).
MARKET TIMING
Market timing-buying securities when prices are low and selling them when
prices are relatively higher-may not work for many investors because it is
impossible to predict with certainty how the price of a security will fluctuate.
However, owning a security for a long period of time may help investors off-set
short-term price volatility and realize positive returns.
POWER OF COMPOUNDING
Over time, the compounding of returns can significantly impact investment
returns. Compounding is the effect of continuous investment on long-term
investment results, by which the proceeds of capital appreciation (and income
distributions, if elected) are reinvested to contribute to the overall growth of
assets. The long-term investment results of compounding may be greater than that
of an equivalent initial investment in which the proceeds of capital
appreciation and income distributions are taken in cash.
I-1
<PAGE>
APPENDIX II-HISTORICAL PERFORMANCE DATA
The historical performance data contained in this Appendix relies on data
obtained from statistical services, reports and other services believed by the
Manager to be reliable. The information has not been independently verified by
the Manager.
This following chart shows the long-term performance of various asset
classes and the rate of inflation.
EACH INVESTMENT PROVIDES A DIFFERENT OPPORTUNITY
CHART
VALUE OF $1.00 INVESTED ON 1/1/26 THROUGH 12/31/96
<TABLE>
<CAPTION>
VALUE OF $1.00 INVESTED ON
1/1/26 THROUGH 12/31/96
<S> <C>
Small Stocks $4,495.99
Common Stocks $1,370.95
Long-Term Bonds $ 33.73
Treasury Bills $ 13.54
Inflation $ 8.87
</TABLE>
Source: Stocks, Bonds, Bills, and Inflation 1996 Yearbook, Ibbotson Associates,
Chicago (annually updates work by Roger G. Ibbotson and Rex A. Sinquefield).
Used with permission. All rights reserved. This chart is for illustrative
purposes only and is not indicative of the past, present, or future performance
of any asset class or any Prudential Mutual Fund.
Generally, stock returns are due to capital appreciation and reinvesting any
gains. Bond returns are due mainly to reinvesting interest. Also, stock prices
usually are more volatile than bond prices over the long-term. Small stock
returns for 1926-1980 are those of stocks comprising the 5th quintile of the New
York Stock Exchange. Thereafter, returns are those of the Dimensional Fund
Advisors (DFA) Small Company Fund. Common stock returns are based on the S&P
Composite Index, a market-weighted, unmanaged index of 500 stocks (currently) in
a variety of industries. It is often used as a broad measure of stock market
performance.
Long-term government bond returns are measured using a constant one-bond
portfolio with a maturity of roughly 20 years. Treasury bill returns are for a
one-month bill. Treasuries are guaranteed by the government as to the timely
payment of principal and interest; equities are not. Inflation is measured by
the consumer price index (CPI).
II-1
<PAGE>
Set forth below is historical performance data relating to various sectors
of the fixed-income securities markets. The chart shows the historical total
returns of U.S. Treasury bonds, U.S. mortgage securities, U.S. corporate bonds,
U.S. high yield bonds and world government bonds on an annual basis from 1987
through 1995. The total returns of the indices include accrued interest, plus
the price changes (gains or losses) of the underlying securities during the
period mentioned. The data is provided to illustrate the varying historical
total returns and investors should not consider this performance data as an
indication of the future performance of the Fund or of any sector in which the
Fund invests.
All information relies on data obtained from statistical services, reports
and other services believed by the Manager to be reliable. Such information has
not been verified. The figures do not reflect the operating expenses and fees of
a mutual fund. See "Fund Expenses" in the prospectus. The net effect of the
deduction of the operating expenses of a mutual fund on the historical total
returns, including the compounded effect over time, could be substantial.
Historical Total Returns of Different Bond Market Sectors
- --------------------------------------------------------------------------------
'87 '88 '89 '90 '91 '92 '93 '94 '95
- --------------------------------------------------------------------------------
U.S. GOVERNMENT
TREASURY
BONDS1 2.0% 7.0% 14.4 % 8.5 % 15.3% 7.2% 10.7% (3.4)% 18.4%
- --------------------------------------------------------------------------------
U.S. GOVERNMENT
MORTGAGE
SECURITIES2 4.3% 8.7% 15.4 % 10.7 % 15.7% 7.0% 6.8% (1.6)% 16.8%
- --------------------------------------------------------------------------------
U.S. INVESTMENT
GRADE CORPORATE
BONDS3 2.6% 9.2% 14.1 % 7.1 % 18.5% 8.7% 12.2% (3.9)% 22.3%
- --------------------------------------------------------------------------------
U.S.
HIGH YIELD
CORPORATE
BONDS4 5.0% 12.5% 0.8 % (9.6)% 46.2% 15.8% 17.1% (1.0)% 19.2%
- --------------------------------------------------------------------------------
WORLD
GOVERNMENT
BONDS5 35.2% 2.3% (3.4)% 15.3 % 16.2% 4.8% 15.1% 6.0 % 19.6%
================================================================================
DIFFERENCE BETWEEN
HIGHEST AND LOWEST
RETURN PERCENT 33.2% 10.2% 18.8 % 24.9 % 30.9% 11.0% 10.3% 9.9 % 5.5%
- --------------------------------------------------------------------------------
1LEHMAN BROTHERS TREASURY BOND INDEX is an unmanaged index made up of over 150
public issues of the U.S. Treasury having maturities of at least one year.
2LEHMAN BROTHERS MORTGAGE-BACKED SECURITIES INDEX is an unmanaged index that
includes over 600 15- and 30-year fixed-rate mortgaged-backed securities of the
Government National Mortgage Association (GNMA), Federal National Mortgage
Association (FNMA), and the Federal Home Loan Mortgage Corporation (FHLMC).
3LEHMAN BROTHERS CORPORATE BOND INDEX includes over 3,000 public fixed-rate,
nonconvertible investment-grade bonds. All bonds are U.S. dollar-denominated
issues and include debt issued or guaranteed by foreign sovereign governments,
municipalities, governmental agencies or international agencies. All bonds in
the index have maturities of at least one year.
4LEHMAN BROTHERS HIGH YIELD BOND INDEX is an unmanaged index comprising over 750
public, fixed-rate, nonconvertible bonds that are rated Ba1 or lower by Moody's
Investors Service (or rated BB+ or lower by S&P or Fitch Investors Service). All
bonds in the index have maturities of at least one year.
5SALOMON BROTHERS WORLD GOVERNMENT INDEX (NON U.S.) includes 800 bonds issued by
various foreign governments or agencies, excluding those in the U.S., but
including those in Japan, Germany, France, the U.K., Canada, Italy, Australia,
Belgium, Denmark, the Netherlands, Spain, Sweden, and Austria. All bonds in the
index have maturities of at least one year.
II-2
<PAGE>
(LEFT COLUMN)
This chart illustrates the performance of major world stock markets for the
period from 1986 through 1995. It does not represent the performance of any
Prudential Mutual Fund.
Average Annual Total Returns of Major World Stock Markets (1986-1995) (in U.S.
dollars)
EDGAR REPRESENTATION OF DATA POINTS USED IN PRINTED GRAPH
<TABLE>
<S> <C>
Hong Kong 23.8%
Belgium 20.7%
Sweden 19.4%
Netherland 19.3%
Spain 17.9%
Switzerland 17.1%
France 15.3%
U.K. 15.0%
U.S. 14.8%
Japan 12.8%
Austria 10.9%
Germany 10.7%
</TABLE>
Source: Morgan Stanley Capital International (MSCI). Used with permission.
Morgan Stanley Country indices are unmanaged indices which include those stocks
making up the largest two-thirds of each country's total stock market
capitalization. Returns reflect the reinvestment of all distributions. This
chart is for illustrative purposes only and is not indicative of the past,
present or future performance of any specific investment. Investors cannot
invest directly in stock indices.
(RIGHT COLUMN)
This chart shows the growth of a hypothetical $10,000 investment made in the
stocks representing the S&P 500 stock index with and without reinvested
dividends.
CHART
1969-1995
Capital Appreciation and Reinvesting Dividends--$186,208
Capital Appreciation Only--$66,913
Source: Stocks, Bonds, Bills, and Inflation 1996 Yearbook, Ibbotson Associates,
Chicago (annually updates work by Roger G. Ibbotson and Rex A. Sinquefeld). Used
with permission. All rights reserved. This chart is used for illustrative
purposes only and is not intended to represent the past, present or future
performance of any Prudential Mutual Fund. Common stock total return is based on
the Standard & Poor's 500 Stock Index, a market-value-weighted index made up of
500 of the largest stocks in the U.S. based upon their stock market value.
Investors cannot invest directly in indices.
WORLD STOCK MARKET CAPITALIZATION BY REGION
WORLD TOTAL: $9.2 TRILLION
EDGAR REPRESENTATION OF DATA USED IN PRINTED GRAPHIC
<TABLE>
<S> <C>
U.S. 40.8%
Pacific
Basin 28.7%
Europe 28.3%
Canada 2.2%
</TABLE>
Source: Morgan Stanley Capital International, December 1995. Used with
permission. This chart represents the capitalizahon of major world stock markets
as measured by the Morgan Stanley Capital International (MSCI) World Index. The
total market caprtalization is based on the value of 1579 companies in 22
countries (representing approximately 60% of the aggregate market value of the
stock exchanges). This chart is for illustrative purposes only and does not
represent the allocation of any Prudential Mutual Fund.
II-3
<PAGE>
The chart below shows the historical volatility of general interest rates as
measured by the long U.S. Treasury Bond.
Long U.S. Treasury Bond Yield in Percent (1926-1996)
CHART
- --------
Source: Stocks, Bonds, Bills and Inflation 1996 Yearbook, Ibbotson Associates,
Chicago (annually updates work by Roger G. Ibbotson and Rex A. Sinquefield).
Used with permission. All rights reserved. This chart illustrates the historical
yield of the long-term U.S. Treasury Bond from 1926-1996. Yields represent that
of an annually renewed one-bond portfolio with a remaining maturity of
approximately 20 years. This chart is for illustrative purposes only and should
not be construed to represent the yields of any Prudential Mutual Fund.
The following chart, although not relevant to share ownership in the Fund,
may provide useful information about the effects of a hypothetical investment
diversified over different asset portfolios. The chart shows the range of annual
total returns for major stock and bond indices for the period from December 31,
1975 through December 31, 1995. The horizontal "Best Returns Zone" band shows
that a hypothetical blended portfolio constructed of one-third U.S. stock (S&P
500), one-third foreign stock (EAFE Index), and one-third U.S. bonds (Lehman
Index) would have eliminated the "highest highs" and "lowest lows" of any single
asset class.
EDGAR REPRESENTATION OF DATA USED IN PRINTED GRAPHIC
<TABLE>
<CAPTION>
THE RANGE OF ANNUAL TOTAL RETURNS FOR MAJOR STOCK &
BOND INDICES OVER THE PAST 20 YEARS
(12/31/75-12/31/95)*
<S> <C> <C> <C>
Best Returns Zone S&P 500 EAFE Lehman Aggregate
With a Diversified Blend 37.6% 69.9% 32.6%
1/3 S&P 500 Index -7.2% -23.2% -2.9%
1/3 EAFE Index
1/3 Lehman Aggregate Index
</TABLE>
- --------
*Source: Prudential Investment Corporation based on data from Lipper Analytical
New Application (LANA). Past perfomance is not indicative of future results. The
S&P 500 Index is a weighted, unmanaged index comprised of 500 stocks which
provides a broad indication of stock price movements. The Morgan Stanley EAFE
Index is an unmanaged index comprised of 20 overseas stock markets in Europe,
Australia, New Zealand and the Far East. The Lehman Aggregate Index includes all
publicly-issued investment grade debt with maturities over one year, including
U.S. government and agency issues, 15 and 30 year fixed-rate government agency
mortgage securities, dollar denominated SEC registered corporate and government
securities, as well as asset-backed securities. Investors cannot invest directly
in stock or bond market indices.
II-4
<PAGE>
APPENDIX III-INFORMATION RELATING TO PRUDENTIAL
Set forth below is information relating to The Prudential Insurance Company
of America (Prudential) and its subsidiaries as well as information relating to
the Prudential Mutual Funds. See "Management of the Fund-Manager" in the
Prospectus. The data will be used in sales materials relating to the Prudential
Mutual Funds. Unless otherwise indicated, the information is as of December 31,
1995 and is subject to change thereafter. All information relies on data
provided by The Prudential Investment Corporation (PIC) or from other sources
believed by the Manager to be reliable. Such information has not been verified
by the Fund.
INFORMATION ABOUT PRUDENTIAL
The Manager and PIC1 are subsidiaries of Prudential, which is one of the
largest diversified financial services institutions in the world and, based on
total assets, the largest insurance company in North America as of December 31,
1995. Its primary business is to offer a full range of products and services in
three areas: insurance, investments and home ownership for individuals and
families; health-care management and other benefit programs for employees of
companies and members of groups; and asset management for institutional clients
and their associates. Prudential (together with its subsidiaries) employs more
than 92,000 persons worldwide, and maintains a sales force of approximately
13,000 agents and 5,600 financial advisors. Prudential is a major issuer of
annuities, including variable annuities. Prudential seeks to develop innovative
products and services to meet consumer needs in each of its business areas.
Prudential uses the rock of Gibraltar as its symbol. The Prudential rock is a
recognized brand name throughout the world.
Insurance. Prudential has been engaged in the insurance business since 1875.
It insures or provides financial services to more than 50 million people
worldwide-one of every five people in the United States. Long one of the largest
issuers of individual life insurance, the Prudential has 19 million life
insurance policies in force today with a face value of $1 trillion. Prudential
has the largest capital base ($11.4 billion) of any life insurance company in
the United States. Prudential provides auto insurance for more than 1.7 million
cars and insures more than 1.4 million homes.
Money Management. Prudential is one of the largest pension fund managers in
the country, providing pension services to 1 in 3 Fortune 500 firms. It manages
$36 billion of individual retirement plan assets, such as 401(k) plans. In July
1996, Institutional Investor ranked Prudential the fifth largest institutional
money manager of the 300 largest money management organizations in the United
States as of December 31, 1995. As of December 31,1995, Prudential had more than
$314 billion in assets under management. Prudential Investments, a business
group of Prudential (of which Prudential Mutual Funds is a key part), manages
over $190 billion in assets of institutions and individuals.
Real Estate. The Prudential Real Estate Affiliates, the fourth largest real
estate brokerage network in the United States, has more than 34,000 brokers and
agents and more than 1,100 offices in the United States.2
Healthcare. Over two decades ago, Prudential introduced the first
federally-funded, for-profit HMO in the country. Today, almost 5 million
Americans receive healthcare from a Prudential managed care membership.
Financial Services. The Prudential Bank, a wholly-owned subsidiary of
Prudential, has nearly $3 billion in assets and serves nearly 1.5 million
customers across 50 states.
INFORMATION ABOUT THE PRUDENTIAL MUTUAL FUNDS
Prudential Mutual Fund Management is one of the fifteen largest mutual fund
companies in the country, with over 2.5 million shareholders invested in more
than 50 mutual fund portfolios and variable annuities with more than 3.7 million
shareholder accounts.
The Prudential Mutual Funds have over 30 portfolio managers wno manage over
$55 billion in mutual fund and variable annuity assets. Some of Prudential's
portfolio managers have over 20 years of experience managing investment
portfolios.
- ---------
1Prudential Investments, a business group of PIC, serves as the Subadviser to
substantially all of the Prudential Mutual Funds. Wellington Management Company
serves as the subadviser to Global Utility Fund, Inc., Nicholas-Applegate
Capital Management as subadviser to Nicholas-Applegate Fund, Inc., Jennison
Associates Capital Corp. as the subadviser to Prudential Jennison Series Fund,
Inc. and Prudential Active Balanced Fund, a portfolio of Prudential Dryden
Fund, Mercator Asset Management LP as the Subadviser to International Stock
Series, a portfolio of Prudential World Fund, Inc. and BlackRock Financial
Management, Inc. as subadviser to The BlackRock Government Income Trust. There
are multiple subadvisers for The Target Portfolio Trust.
2As of December 31, 1994.
III-1
<PAGE>
From time to time, there may be media coverage of portfolio managers and
other investment professionals associated with the Manager and the Subadviser in
national and regional publications, on television and in other media.
Additionally, individual mutual fund portfolios are frequently cited in surveys
conducted by national and regional publications and media organizations such as
The Wall Street Journal, The New York Times, Barron's and USA Today.
Equity Funds. Forbes magazine listed Prudential Equity Fund among twenty
mutual funds on its Honor Roll in its mutual fund issue of August 28, 1995.
Honorees are chosen annually among mutual funds (excluding sector funds) which
are open to new investors and have had the same management for at least five
years. Forbes considers, among other criteria, the total return of a mutual fund
in both bull and bear markets as well as a fund's risk profile. Prudential
Equity Fund is managed with a "value" investment style by PIC. In 1995,
Prudential Securities introduced Prudential Jennison Fund, a growth-style equity
fund managed by Jennison Associates Capital Corp., a premier institutional
equity manager and a subsidiary of Prudential.
High Yield Funds. Investing in high yield bonds is a complex and research
intensive pursuit. A separate team of high yield bond analysts monitor the 167
issues held in the Prudential High Yield Fund (currently the largest fund of its
kind in the country) along with 100 or so other high yield bonds, which may be
considered for purchase.3 Non-investment grade bonds, also known as junk bonds
or high yield bonds, are subject to a greater risk of loss of principal and
interest including default risk than higher-rated bonds. Prudential high yield
portfolio managers and analysts meet face-to-face with almost every bond issuer
in the High Yield Fund's portfolio annually, and have additional telephone
contact throughout the year.
Prudential's portfolio managers are supported by a large and sophisticated
research organization. Fourteen investment grade bond analysts monitor the
financial viability of approximately 1,750 different bond issuers in the
investment grade corporate and municipal bond markets-from IBM to small
municipalities, such as Rockaway Township, New Jersey. These analysts consider
among other things sinking fund provisions and interest coverage ratios.
Prudential's portfolio managers and analysts receive research services from
almost 200 brokers and market service vendors. They also receive nearly 100
trade publications and newspapers-from Pulp and Paper Forecaster to Women's Wear
Daily-to keep them informed of the industries they follow.
Prudential Mutual Funds' traders scan over 100 computer monitors to collect
detailed information on which to trade. From natural gas prices in the Rocky
Mountains to the results of local municipal elections, a Prudential portfolio
manager or trader is able to monitor it if it's important to a Prudential mutual
fund.
Prudential Mutual Funds trade approximately $31 billion in U.S. and foreign
government securities a year. PIC seeks information from government policy
makers. In 1995, Prudential's portfolio managers met with several senior U.S.
and foreign government officials, on issues ranging from economic conditions in
foreign countries to the viability of index-linked securities in the United
States.
Prudential Mutual Funds' portfolio managers and analysts met with over 1,200
companies in 1995, often with the Chief Executive Officer (CEO) or Chief
Financial Officer (CFO). They also attended over 250 industry conferences.
Prudential Mutual Fund global equity managers conducted many of their visits
overseas, often holding private meetings with a company in a foreign language
(our global equity managers speak 7 different languages, including Mandarin
Chinese).
Trading Data.4 On an average day, Prudential Mutual Funds' U.S. and foreign
equity trading desks traded $77 million in securities representing over 3.8
million shares with nearly 200 different firms. Prudential Mutual Funds' bond
trading desks traded $157 million in government and corporate bonds on an
average day. That represents more in daily trading than most bond funds tracked
by Lipper even have in assets.5 Prudential Mutual Funds' money market desk
traded $3.2 billion in money market securities on an average day, or over $800
billion a year. They made a trade every 3 minutes of every trading day. In 1994,
the Prudential Mutual Funds effected more than 40,000 trades in money market
securities and held on average $20 billion of money market securities.6
Based on complex-wide data, on an average day, over 7,250 shareholders
telephoned Prudential Mutual Fund Services LLC, the Transfer Agent of the
Prudential Mutual Funds, on the Prudential Mutual Funds' toll-free number. On an
annual basis, that represents approximately 1.8 million telephone calls
answered.
- -----------
3As of December 31, 1995. The number of bonds and the size of the Fund are
subject to change.
4Trading data represents average daily transactions for portfolios of the
Prudential Mutual Funds for which PIC serves as the subadviser, portfolios of
the Prudential Series Fund and institutional and non-US accounts managed by
Prudential Mutual Fund Investment Management, a division of PIC, for the year
ended December 31, 1995.
5Based on 669 funds in Lipper Analytical Services categories of Short U.S.
Treasury, Short U.S. Government, Intermediate U.S. Treasury, Intermediate U.S.
Govemment, Short Investment Grade Debt, Intermediate Investment Grade Debt,
General U.S. Treasury, General U.S. Govemment and Mortgage Funds.
6As of December 31, 1994.
III-2
<PAGE>
Information about Prudential Securities
Prudential Securities is the fifth largest retail brokerage firm in the
United States with approximately 5,600 financial advisors. It offers to its
clients a wide range of products, including Prudential Mutual Funds and
annuities. As of December 31, 1995, assets held by Prudential Securities for its
clients approximated $168 billion. During 1994, over 28,000 new customer
accounts were opened each month at PSI.7
Prudential Securities has a two-year Financial Advisor training program plus
advanced education programs, including Prudential Securities "university," which
provides advanced education in a wide array of investment areas. Prudential
Securities is the only Wall Street firm to have its own in-house Certified
Financial Planner (CFP) program. In the December 1995 issue of Registered Rep,
an industry publication, Prudential Securities' Financial Advisor training
programs received a grade of A- (compared to an industry average of B+).
In 1995, Prudential Securities' equity research team ranked 8th in
Institutional Investor magazine's 1995 "All America Research Team" survey. Five
Prudential Securities analysts were ranked as first-team finishers.8
In addition to training, Prudential Securities provides its financial
advisors with access to firm economists and market analysts. It has also
developed proprietary tools for use by financial advisors, including the
Financial ArchitectsSFinancial Advisors to evaluate a client's objectives and
overall financial plan, and a comprehensive mutual fund information and analysis
system that compares different mutual funds.
For more complete information about any of the Prudential Mutual Funds,
including charges and expenses, call your Prudential Securities financial
adviser or Pruco/Prudential representative for a free prospectus. Read it
carefully before you invest or send money.
- -----------
7As of December 31, 1994.
8On an annual basis, Institutional Investor magazine surveys, more than 700
institutional money managers, chief investment officers and research directors,
asking them to evaluate analysts in 76 industry sectors. Scores are produced by
taxing the number of votes awarded to an individual analyst and weighting them
based on the size of the voting institution. In total, the magazine sends its
survey to approximately 2,000 institutions and a group of European and Asian
institutions.
III-3
