<PAGE>
MUNICIPAL INCOME TRUST III Two World Trade Center, New York, New York 10048
LETTER TO THE SHAREHOLDERS August 31, 1998
DEAR SHAREHOLDER:
We are pleased to present the annual report on the operations of Municipal
Income Trust III (TFC) for the fiscal year ended August 31, 1998.
During July and August, the financial markets were battered by continued
economic turmoil in Asia and a currency crisis in Russia. This led to a
flight-to-quality rally for U.S. Treasury bonds. Yields on Treasury notes and
bonds fell to post World War II lows. Municipal bond yields followed the
downward trend of Treasury yields but at a more moderate pace.
The deflationary impact of the Asian financial crisis had already begun to
temper U.S. economic growth prior to the summer's tumultuous market activity.
Historically high employment conditions were offset by improved productivity,
lower prices for oil and other commodities and cheaper imports. This held
inflation in check. On September 29, 1998 the Federal Reserve lowered the
federal funds rate 25 basis points from 5.50% to 5.25%.
BOND YIELDS 1994-1998
MMD 30 YEAR AAA INSURED AND TREASURY YIELD
<TABLE>
<CAPTION>
TYPE OF REPORT
-----------------------
MUNICIPAL INCOME TRUST III ANNUAL
- -------------------------- -----------------------
DATE AAA INS TSY %RELATIONSHIP
---- ------- --- -------------
<S> <C> <C> <C>
12/31/93 5.40% 6.34% 85.17%
01/31/94 5.40 6.24 86.54%
02/28/94 5.80 6.66 87.09%
03/31/94 6.40 7.09 90.27%
04/29/94 6.35 7.32 86.75%
05/31/94 6.25 7.43 84.12%
06/30/94 6.50 7.61 85.41%
07/29/94 6.25 7.39 84.57%
08/31/94 6.30 7.45 84.56%
09/30/94 6.55 7.81 83.87%
10/31/94 6.75 7.96 84.80%
11/30/94 7.00 8.00 87.50%
12/30/94 6.75 7.88 85.66%
01/31/95 6.40 7.70 83.12%
02/28/95 6.15 7.44 82.66%
03/31/95 6.15 7.43 82.77%
04/28/95 6.20 7.34 84.47%
05/31/95 5.80 6.66 87.09%
06/30/95 6.10 6.62 92.15%
07/31/95 6.10 6.86 88.92%
08/31/95 6.00 6.66 90.09%
09/29/95 5.95 6.48 91.82%
10/31/95 5.75 6.33 90.84%
11/30/95 5.50 6.14 89.58%
12/29/95 5.35 5.94 90.07%
01/31/96 5.40 6.03 89.55%
02/29/96 5.60 6.46 86.69%
03/29/96 5.85 6.66 87.84%
04/30/96 5.95 6.89 86.36%
05/31/96 6.05 6.99 86.55%
06/28/96 5.90 6.89 85.63%
07/31/96 5.85 6.97 83.93%
08/30/96 5.90 7.11 82.98%
09/30/96 5.70 6.93 82.25%
10/31/96 5.65 6.64 85.09%
11/29/96 5.50 6.35 86.61%
12/31/96 5.60 6.63 84.46%
01/31/97 5.70 6.79 83.95%
02/28/97 5.65 6.80 83.09%
03/31/97 5.90 7.10 83.10%
04/30/97 5.75 6.94 82.85%
05/30/97 5.65 6.91 81.77%
06/30/97 5.60 6.78 82.60%
07/30/97 5.30 6.30 84.13%
08/31/97 5.50 6.61 83.21%
09/30/97 5.40 6.40 84.38%
10/31/97 5.35 6.15 86.99%
11/30/97 5.30 6.05 87.60%
12/31/97 5.15 5.92 86.99%
01/31/98 5.15 5.80 88.79%
02/28/98 5.20 5.92 87.84%
03/31/98 5.25 5.93 88.53%
04/30/98 5.35 5.95 89.92%
05/29/98 5.20 5.80 89.66%
06/30/98 5.20 5.65 92.04%
07/31/98 5.18 5.71 90.72%
08/31/98 5.03 5.27 95.45%
</TABLE>
<PAGE>
MUNICIPAL INCOME TRUST III
LETTER TO THE SHAREHOLDERS August 31, 1998, continued
MUNICIPAL MARKET CONDITIONS
At the end of August, long-term insured index yields stood at 5.05 percent,
their lowest level in the last 25 years. Index yields declined 45 basis points
from 5.50 percent over the last 12 months. In contrast, the 30-year U.S.
Treasury yield fell 130 basis points during the same period.
As municipals lagged the rally in Treasuries, the ratio of municipal yields to
Treasury yields rose to 95 percent. This ratio is at its highest level since
1986 when radical tax-reform proposals pushed it over 100 percent. A rising
ratio means that municipals have underperformed Treasuries and have become
more attractive on a relative basis.
The overall decline in interest rates led to a substantial increase in new
issue municipal volume. Municipal issuance is on a pace to challenge 1993's
record of $292 billion. For 1998 year-to-date, total municipal volume of $192
billion is up 45 percent. Half the underwritings were enhanced with bond
insurance. Refundings represented nearly one-third of total new issues.
PERFORMANCE
The Fund's net asset value (NAV) increased from $9.87 to $10.12 per share
during the fiscal year. Based on this NAV change plus reinvestment of tax-free
dividends of $0.5150 per share and a long-term capital gains distribution of
$0.027 per share, the Fund's total NAV return was 8.67 percent. TFC's price on
the New York Stock Exchange slipped from $9.50 to $9.1875 per share. Based on
this change in market price plus reinvestment of dividends and distributions,
the Fund's total market return was 2.5 percent. At fiscal year-end, TFC traded
at a 9.2 percent discount (lower than) to its NAV.
Monthly dividends for the fourth quarter of 1998 were declared in September.
Beginning with the October 1998 dividend, the monthly dividend was reduced from
$0.0425 per share to $0.0375 per share, to more closely reflect the Fund's
anticipated income. The level of undistributed net investment income declined
from $0.066 to $0.058 per share over the past 12 months.
PORTFOLIO STRUCTURE
During the past 12 months, portfolio duration (a measure of sensitivity to
interest rate changes) was extended from 6.1 to 8.1 years. This was primarily
accomplished by selling refunded bonds to purchase new issues. The refunded
bond position was reduced from 13 percent to under 2 percent of net assets.
Investments were diversified among 13 long-term sectors and 45 credits.
Throughout the period, high credit quality was maintained with 70 percent of
TFC's long-term holdings rated double or triple "A". The average maturity of
the portfolio was 22 years. As illustrated in the accompanying chart of annual
bond calls, the weighted average call protection was 9 years.
2
<PAGE>
MUNICIPAL INCOME TRUST III
LETTER TO THE SHAREHOLDERS August 31, 1998, continued
LARGEST SECTORS AS OF AUGUST 31, 1998
(% OF NET ASSETS)
<TABLE>
<CAPTION>
CATEGORY MUNI INC TR III
- -------- ---------------
<S> <C>
General Obligation 8%
Electric 12%
Hospital 14%
IDR/PCR* 8%
Mortgage 14%
Nursing & Health 5%
Transportation 17%
Water & Sewer 10%
All Other 12%
Total 100%
</TABLE>
* Industrial Development/Pollution control Revenue.
Portfolio structure is subject to change.
CREDIT RATINGS AS OF AUGUST 31, 1998
(% OF TOTAL LONG-TERM PORTFOLIO)
<TABLE>
<CAPTION>
RATINGS MOODY'S/S&P MUNI INC TR III
- ------------------- ---------------
<S> <C>
Aaa/AAA 65%
Aa/AA 5%
A/A 11%
Baa/BBB 10%
N/R 9%
Total 100%
</TABLE>
As measured by Moody's Investors Service, Inc. or Standard & Poor's Corp.
Portfolio structure is subject to change.
CALL STRUCTURE AS OF AUGUST 31, 1998
(% OF TOTAL LONG-TERM PORTFOLIO)
PERCENT CALLABLE
WEIGHTED AVERAGE CALL PROTECTION 9 YEARS
<TABLE>
<CAPTION>
CALL DATES MUNI INC TR III
- ---------- ---------------
<S> <C>
1998 0%
1999 4%
2000 8%
2001 1%
2002 5%
2003 2%
2004 7%
2005 21%
2006 5%
2007 15%
2008 12%
2009+ 20%
Total 100%
</TABLE>
Portfolio structure is subject to change.
3
<PAGE>
MUNICIPAL INCOME TRUST III
LETTER TO THE SHAREHOLDERS August 31, 1998, continued
LOOKING AHEAD
Events in Asia and elsewhere have strengthened the U.S. dollar and contributed
to lower interest rates. World economic conditions seem likely to keep
inflationary pressures under control. With the municipal relationship to
Treasuries as strong as it has been in the last 10 years, the outlook for
municipal bonds is favorable.
The Fund's procedure for reinvestment of all dividends and distributions on
common shares is through purchases in the open market. This method helps to
support the market price of the Fund's shares. In addition, we would like to
remind you that the Trustees have approved a procedure whereby the Fund may,
when appropriate, purchase shares in the open market or in privately negotiated
transactions at a price not above market price or net asset value, whichever is
lower at the time of purchase. During the fiscal year, the Fund purchased and
retired 47,500 shares of common stock at a weighted average market discount of
7.62 percent.
We appreciate your ongoing support of Municipal Income Trust III and look
forward to continuing to serve your investment needs.
Very truly yours,
/s/Charles A. Fiumefreddo
- -------------------------
CHARLES A. FIUMEFREDDO
Chairman of the Board
4
<PAGE>
MUNICIPAL INCOME TRUST III
RESULTS OF ANNUAL MEETING (UNAUDITED)
* * *
On June 23, 1998, an annual meeting of the Fund's shareholders was held for the
purpose of voting on three separate matters, the results of which were as
follows:
(1) ELECTION OF TRUSTEES:
Michael Bozic
<TABLE>
<CAPTION>
<S> <C>
For .............. 5,447,435
Withheld ......... 211,181
</TABLE>
Charles A. Fiumefreddo
<TABLE>
<CAPTION>
<S> <C>
For .............. 5,447,562
Withheld ......... 211,054
</TABLE>
The following Trustees were not standing for reelection at this meeting:
Edwin J. Garn, John R. Haire, Wayne E. Hedien, Dr. Manuel H. Johnson,
Michael E. Nugent, Philip J. Purcell and John L. Schroeder.
(2) RATIFICATION OF THE SELECTION OF PRICEWATERHOUSECOOPERS LLP (THE SUCCESSOR
FIRM TO PRICE WATERHOUSE LLP AS OF JULY 1, 1998) AS THE FUND'S INDEPENDENT
ACCOUNTANTS:
<TABLE>
<CAPTION>
<S> <C>
For ............. 5,515,629
Against ......... 41,721
Abstain ......... 101,266
</TABLE>
(3) SHAREHOLDER PROPOSAL TO AMEND THE FUND'S DECLARATION OF TRUST TO REQUIRE
EACH TRUSTEE, WITHIN THIRTY DAYS OF ELECTION, TO BECOME A SHAREHOLDER OF
THE FUND:
<TABLE>
<CAPTION>
<S> <C>
For ............. 1,320,235
Against ......... 1,919,370
Abstain ......... 268,089
</TABLE>
5
<PAGE>
MUNICIPAL INCOME TRUST III
PORTFOLIO OF INVESTMENTS August 31, 1998
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- ----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
TAX-EXEMPT MUNICIPAL BONDS (97.3%)
General Obligation (8.4%)
$ 1,050 Moulton-Niguel Water District, California, Refg 1993 (MBIA) ................... 5.00% 09/01/19 $ 1,044,592
1,000 Massachusetts, 1995 Ser B (AMBAC) ............................................. 5.50 07/01/14 1,059,520
1,000 New York City, New York, 1995 Ser D (MBIA) .................................... 6.20 02/01/07 1,128,580
1,000 New York State, Refg Ser 1995 B ............................................... 5.70 08/15/10 1,090,060
1,000 Washington, Ser 1995 A ........................................................ 5.80 09/01/08 1,078,040
--------- -----------
5,050 5,400,792
--------- -----------
Educational Facilities Revenue (1.5%)
900 New Jersey Economic Development Authority, Educational Testing Service
--------- Ser 1995 A (MBIA) ............................................................ 5.90 05/15/15 979,506
-----------
Electric Revenue (12.3%)
1,000 Sacramento Municipal Utility District, California, Refg 1994 Ser I (MBIA) ..... 5.75 01/01/15 1,069,960
3,000 Southern California Public Power Authority, Mead-Adelanto 1994 Ser A (AMBAC) .. 5.15 07/01/15 3,148,440
Intermountain Power Agency, Utah,
2,500 Refg 1998 Ser A (MBIA) (WI) .................................................. 5.25 07/01/15 2,576,950
1,000 Refg 1997 Ser B (MBIA) ....................................................... 5.75 07/01/19 1,080,330
--------- -----------
7,500 7,875,680
--------- -----------
Hospital Revenue (13.5%)
2,000 Birmingham-Carraway Special Care Facilities Financing Authority,
Alabama, Carraway Methodist Health Ser 1995 A (Connie Lee)** ................. 5.875 08/15/15 2,138,440
1,000 Flint Michigan Hospital Building Authority, Hurley Medical Center Refg
Ser 1998 A ................................................................... 5.25 07/01/16 1,000,800
2,000 Michigan Hospital Finance Authority, Detroit Medical Center Ser 1997 A (AMBAC). 5.25 08/15/27 2,026,560
1,500 Missouri Health & Educational Facilities Authority, SSM Health Care
Ser 1998 A (MBIA) ............................................................ 5.00 06/01/22 1,475,310
1,000 University of Missouri, Health System Ser 1996 A (AMBAC) ...................... 5.50 11/01/16 1,049,160
1,000 Delaware County Authority, Pennsylvania, Catholic Health East Ser 1998 A
--------- (AMBAC) ...................................................................... 4.875 11/15/26 959,970
-----------
8,500 8,650,240
--------- -----------
Industrial Development/Pollution Control Revenue (8.4%)
1,000 Washoe County, Nevada, Sierra Pacific Power Co Ser 1987 (AMBAC) ............... 6.30 12/01/14 1,085,650
1,000 New York State Energy Research & Development Authority, New York
State Electric & Gas Corp 1987 Ser A (AMT) (MBIA) ............................ 6.15 07/01/26 1,094,080
2,005 Alliance Airport Authority, Texas, American Airlines Inc Ser 1990 (AMT) ....... 7.50 12/01/29 2,162,132
1,000 Dallas-Fort Worth International Airport Facility Improvement Corporation,
--------- Texas, American Airlines Inc Ser 1995 ........................................ 6.00 11/01/14 1,060,280
-----------
5,005 5,402,142
--------- -----------
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS
6
<PAGE>
MUNICIPAL INCOME TRUST III
PORTFOLIO OF INVESTMENTS August 31, 1998, continued
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- ---------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Mortgage Revenue -- Multi-Family (1.6%)
$ 960 Massachusetts Housing Finance Agency, Rental 1994 Ser A (AMT) (AMBAC)....... 6.60% 07/01/14 $ 1,037,491
--------- -----------
Mortgage Revenue -- Single Family (12.8%)
290 Colorado Housing Finance Authority, Ser A-2 (AMT) .......................... 8.25 08/01/20 297,456
100 Hawaii Housing Finance & Development Corporation, Purchase
Ser 1989 A (AMT) .......................................................... 7.80 07/01/29 103,219
875 Idaho Housing Agency, Ser 1988 D-2 (AMT) ................................... 8.25 01/01/20 954,432
1,777 Saint Tammany Public Trust Financing Authority, Louisiana, Refg Ser 1990 B . 7.25 07/25/11 1,944,612
720 Maine Housing Authority, Purchase 1990 Ser A-4 (AMT) ....................... 6.40 11/15/23 753,113
500 Missouri Housing Development Commission, Homeownership
GNMA/FNMA Backed 1998 Ser B-2 (AMT) ....................................... 6.40 03/01/29 552,545
2,985 Ohio Housing Finance Agency, Residential GNMA Collateralized
1996 Ser B-2 (AMT) ........................................................ 6.10 09/01/28 3,170,488
Utah Housing Finance Agency,
115 Ser 1991 Issue A-2 (AMT) .................................................. 7.75 01/01/23 119,958
275 Ser 1991 Issue B-2 (AMT) .................................................. 7.75 01/01/23 288,623
--------- -----------
7,637 8,184,446
--------- -----------
Nursing & Health Related Facilities Revenue (4.8%)
955 Marion, Iowa, AHF/Kentucky-Iowa Inc Ser 1990 ............................... 10.25 01/01/20 1,021,783
1,935 Lexington-Fayette Urban County Government, Kentucky,
--------- AHF/Kentucky-Iowa Inc Ser 1990 ............................................ 10.25 01/01/20 2,070,315
-----------
2,890 3,092,098
--------- -----------
Public Facilities Revenue (2.2%)
1,000 Marion County Convention & Recreational Facilities Authority, Indiana,
Excise Tax Sub Ser 1997 A (MBIA) .......................................... 0.00 06/01/17 390,390
1,000 Washington County/St George Interlocal Agency, Utah, Ser 1997 A (AMBAC)..... 5.125 12/01/22 1,002,040
--------- -----------
2,000 1,392,430
--------- -----------
Transportation Facilities Revenue (16.9%)
1,725 Chicago, Illinois, Midway Airport Ser 1998 A (AMT) (MBIA) (WI) ............. 5.125 01/01/35 1,690,052
2,200 Southwestern Development Authority, Illinois, Tri-City Regional Port
District Ser 1989 A (AMT) (a) ............................................. 7.90 07/01/14 2,315,962
2,000 Kentucky Turnpike Authority, Economic Development Road Revitalization
Refg Ser 1995 (AMBAC)** ................................................... 5.625 07/01/15 2,135,320
2,000 Austin, Texas, Airport Prior Lien Ser 1995 A (AMT) (MBIA) .................. 6.125 11/15/25 2,190,640
2,000 Puerto Rico Highway & Transportation Authority, Ser A ...................... 4.75 07/01/38 1,933,960
500 Massachusetts Bay Transportation Authority, 1998 Ser A (MBIA) .............. 5.50 03/01/15 543,040
--------- -----------
10,425 10,808,974
--------- -----------
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS
7
<PAGE>
MUNICIPAL INCOME TRUST III
PORTFOLIO OF INVESTMENTS August 31, 1998, continued
<TABLE>
<CAPTION>
PRINCIPAL
AMOUNT IN COUPON MATURITY
THOUSANDS RATE DATE VALUE
- ------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Water & Sewer Revenue (10.2%)
$ 1,000 East Bay Municipal Utility District, California, Water Ser 1998 (MBIA) ....... 4.75% 06/01/34 $ 960,090
1,000 Massachusetts Water Resources Authority, 1993 Ser C .......................... 5.25 12/01/20 1,009,920
1,090 Erie County Water Authority, New York, 4th Resolution Refg Ser 1992 (AMBAC) .. 0.00 12/01/17 274,865
1,300 Ohio Water Development Authority, Water Pollution Ser 1995 (MBIA) ............ 5.75 12/01/17 1,387,568
3,755 Pittsburgh Water & Sewer Authority, Pennsylvania, 1998 Ser B (FGIC) .......... 0.00 09/01/26 906,720
2,000 Upper Occoquan Sewerage Authority, Virginia, Ser 1995 A (MBIA)** ............. 5.00 07/01/25 1,976,560
--------- -----------
10,145 6,515,723
--------- -----------
Other Revenue (3.3%)
1,000 Pasadena, California, Refg & Cap 1992 COPs ................................... 5.75 01/01/13 1,044,160
1,000 Mashantucket (Western) Pequot Tribe, Connecticut, 1997 Ser B (a) ............. 5.75 09/01/27 1,037,990
--------- -----------
2,000 2,082,150
--------- -----------
Refunded (1.4%)
790 Illinois Health Facilities Authority, Glen Oaks Medical Center Inc
--------- Refg 1990 Ser D (ETM) ....................................................... 9.50 11/15/15 900,118
-----------
63,802 TOTAL TAX-EXEMPT MUNICIPAL BONDS
--------- (Identified Cost $57,895,796)...................................................................... 62,321,790
-----------
SHORT-TERM TAX-EXEMPT MUNICIPAL OBLIGATIONS (0.5%)
300 Missiouri Health & Educational Facilities Authority, Washington University
--------- Ser D (Demand 09/01/98) (Identified Cost $300,000)........................... 3.35 * 09/01/30 300,000
-----------
$ 64,102 TOTAL INVESTMENTS (Identified Cost $58,195,796) (b).................................. 97.8% 62,621,790
=========
CASH AND OTHER ASSETS IN EXCESS OF LIABILITIES ...................................... 2.2 1,429,634
-----------
NET ASSETS .......................................................................... 100.0% $64,051,424
===========
</TABLE>
- ---------------
AMT Alternative Minimum Tax.
COPs Certificates of Participation.
ETM Escrowed to maturity.
WI Security purchased on a "when-issued" basis.
* Current coupon of variable rate demand obligation.
** Some or all of these securities are segregated in connection with the
purchase of "when-issued" securities.
(a) Resale is restricted to qualified institutional investors.
(b) The aggregate cost for federal income tax purposes approximates
identified cost. The aggregate gross unrealized appreciation is
$4,425,994.
Bond Insurance:
- ---------------
AMBAC AMBAC Indemnity Corporation.
Connie Lee Connie Lee Insurance Company.
FGIC Financial Guaranty Insurance Company.
MBIA Municipal Bond Investors Assurance Corporation.
SEE NOTES TO FINANCIAL STATEMENTS
8
<PAGE>
MUNICIPAL INCOME TRUST III
PORTFOLIO OF INVESTMENTS August 31, 1998, continued
GEOGRAPHIC SUMMARY OF INVESTMENTS
Based on Market Value as a Percent of Net Assets
August 31, 1998
<TABLE>
<CAPTION>
<S> <C>
Alabama .............. 3.3%
California ............ 11.3
Colorado ............. 0.5
Connecticut ........... 1.6
Hawaii ................ 0.2
Idaho ................. 1.5
Illinois ............ 7.7
Indiana .............. 0.6
Iowa .................. 1.6
Kentucky .............. 6.6
Louisiana ............. 3.0
Maine ................. 1.2
Massachusetts ......... 5.7
Michigan .............. 4.7
Missouri ............. 5.3
Nevada ............... 1.7
New Jersey ............ 1.5
New York .............. 5.6
Ohio .................. 7.1
Pennsylvania .......... 2.9
Puerto Rico ........... 3.0
Texas ................ 8.5
Utah .................. 7.9
Virginia .............. 3.1
Washington ........... 1.7
----
Total ............... 97.8%
====
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS
9
<PAGE>
MUNICIPAL INCOME TRUST III
FINANCIAL STATEMENTS
STATEMENT OF ASSETS AND LIABILITIES
August 31, 1998
<TABLE>
<CAPTION>
<S> <C>
ASSETS:
Investments in securities, at value
(identified cost $58,195,796)........................... $ 62,621,790
Cash ..................................................... 55,151
Receivable for:
Investments sold ...................................... 4,662,170
Interest .............................................. 1,044,048
Prepaid expenses and other assets ........................ 7,230
------------
TOTAL ASSETS .......................................... 68,390,389
------------
LIABILITIES:
Payable for:
Investments purchased ................................. 4,214,303
Investment advisory fee ............................... 21,591
Administration fee .................................... 13,494
Accrued expenses ......................................... 89,577
------------
TOTAL LIABILITIES ..................................... 4,338,965
------------
NET ASSETS ............................................ $ 64,051,424
============
COMPOSITION OF NET ASSETS:
Paid-in-capital .......................................... $ 58,769,753
Net unrealized appreciation .............................. 4,425,994
Accumulated undistributed net investment income .......... 367,004
Accumulated undistributed net realized gain .............. 488,673
------------
NET ASSETS ............................................ $ 64,051,424
============
NET ASSET VALUE PER SHARE,
6,331,486 shares outstanding
(unlimited shares authorized of $.01 par value)......... $ 10.12
============
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS
10
<PAGE>
MUNICIPAL INCOME TRUST III
FINANCIAL STATEMENTS, continued
STATEMENT OF OPERATIONS
For the year ended August 31, 1998
<TABLE>
<CAPTION>
<S> <C>
NET INVESTMENT INCOME:
INTEREST INCOME ............................... $3,790,003
----------
EXPENSES
Investment advisory fee ....................... 254,169
Administration fee ............................ 158,855
Professional fees ............................. 71,158
Shareholder reports and notices ............... 30,977
Registration fees ............................. 16,826
Transfer agent fees and expenses .............. 13,672
Trustees' fees and expenses ................... 12,377
Custodian fees ................................ 4,078
Other ......................................... 12,719
----------
TOTAL EXPENSES ............................. 574,831
Less: expense offset .......................... (4,066)
----------
NET EXPENSES ............................... 570,765
----------
NET INVESTMENT INCOME ...................... 3,219,238
----------
NET REALIZED AND UNREALIZED GAIN:
Net realized gain ............................. 658,094
Net change in unrealized appreciation ......... 1,085,042
----------
NET GAIN ................................... 1,743,136
----------
NET INCREASE .................................. $4,962,374
==========
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS
11
<PAGE>
MUNICIPAL INCOME TRUST III
FINANCIAL STATEMENTS, continued
STATEMENT OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
FOR THE YEAR FOR THE YEAR
ENDED ENDED
AUGUST 31, 1998 AUGUST 31, 1997
- -------------------------------------------------------------------------------------------
<S> <C> <C>
INCREASE (DECREASE) IN NET ASSETS:
OPERATIONS:
Net investment income ................................ $ 3,219,238 $ 3,375,896
Net realized gain .................................... 658,094 8,875
Net change in unrealized appreciation ................ 1,085,042 1,231,561
------------ ------------
NET INCREASE ...................................... 4,962,374 4,616,332
------------ ------------
DIVIDENDS AND DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income ................................ (3,271,045) (3,671,718)
Net realized gain .................................... (173,466) (158,725)
------------ ------------
TOTAL ............................................. (3,444,511) (3,830,443)
------------ ------------
Net decrease from transactions in shares of beneficial
interest ........................................... (436,425) (113,028)
------------ ------------
NET INCREASE ...................................... 1,081,438 672,861
NET ASSETS:
Beginning of period .................................. 62,969,986 62,297,125
------------ ------------
END OF PERIOD
(Including undistributed net investment income of
$367,004 and $418,811, respectively) .............. $ 64,051,424 $ 62,969,986
============ ============
</TABLE>
SEE NOTES TO FINANCIAL STATEMENTS
12
<PAGE>
MUNICIPAL INCOME TRUST III
NOTES TO FINANCIAL STATEMENTS August 31, 1998
1. ORGANIZATION AND ACCOUNTING POLICIES
Municipal Income Trust III (the "Fund") is registered under the Investment
Company Act of 1940, as amended, as a diversified, closed-end management
investment company. The Fund's investment objective is to provide current
income which is exempt from federal income tax. The Fund was organized as a
Massachusetts business trust on June 26, 1989 and commenced operations on
October 5, 1989.
The preparation of financial statements in accordance with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts and disclosures. Actual results could differ
from those estimates.
The following is a summary of significant accounting policies:
A. VALUATION OF INVESTMENTS -- Portfolio securities are valued by an outside
independent pricing service approved by the Trustees. The pricing service has
informed the Fund that in valuing portfolio securities, it uses both a
computerized matrix of tax-exempt securities and evaluations by its staff, in
each case based on information concerning market transactions and quotations
from dealers which reflect the bid side of the market each day. The portfolio
securities are thus valued by reference to a combination of transactions and
quotations for the same or other securities believed to be comparable in
quality, coupon, maturity, type of issue, call provisions, trading
characteristics and other features deemed to be relevant. Short-term debt
securities having a maturity date of more than sixty days at time of purchase
are valued on a mark-to-market basis until sixty days prior to maturity and
thereafter at amortized cost based on their value on the 61st day. Short-term
debt securities having a maturity date of sixty days or less at the time of
purchase are valued at amortized cost.
B. ACCOUNTING FOR INVESTMENTS -- Security transactions are accounted for on the
trade date (date the order to buy or sell is executed). Realized gains and
losses on security transactions are determined by the identified cost method.
Discounts are accreted and premiums are amortized over the life of the
respective securities. Interest income is accrued daily except where collection
is not expected.
C. FEDERAL INCOME TAX STATUS -- It is the Fund's policy to comply with the
requirements of the Internal Revenue Code applicable to regulated investment
companies and to distribute all of its taxable and nontaxable income to its
shareholders. Accordingly, no federal income tax provision is required.
D. DIVIDENDS AND DISTRIBUTIONS TO SHAREHOLDERS -- The Fund records dividends
and distributions to its shareholders on the ex-dividend date. The amount of
dividends and distributions from net investment income and net realized capital
gains are determined in accordance with federal income tax regulations
13
<PAGE>
MUNICIPAL INCOME TRUST III
NOTES TO FINANCIAL STATEMENTS August 31, 1998 continued
which may differ from generally accepted accounting principles. These
"book/tax" differences are either considered temporary or permanent in nature.
To the extent these differences are permanent in nature, such amounts are
reclassified within the capital accounts based on their federal tax-basis
treatment; temporary differences do not require reclassification. Dividends and
distributions which exceed net investment income and net realized capital gains
for financial reporting purposes but not for tax purposes are reported as
dividends in excess of net investment income or distributions in excess of net
realized capital gains. To the extent they exceed net investment income and net
realized capital gains for tax purposes, they are reported as distributions of
paid-in-capital.
2. INVESTMENT ADVISORY AGREEMENT
Pursuant to an Investment Advisory Agreement with Morgan Stanley Dean Witter
Advisors Inc. (the "Investment Advisor"), formerly Dean Witter InterCapital
Inc., the Fund pays the Investment Advisor an advisory fee, calculated weekly
and payable monthly, by applying the following annual rates to the Fund's weekly
net assets: 0.40% to the portion of weekly net assets not exceeding $250 million
and 0.30% to the portion of weekly net assets exceeding $250 million.
Under the terms of the Agreement, in addition to managing the Fund's
investments, the Investment Advisor pays the salaries of all personnel,
including officers of the Fund, who are employees of the Investment Advisor.
3. ADMINISTRATION AGREEMENT
Pursuant to an Administration Agreement with Morgan Stanley Dean Witter
Services Company Inc. (the "Administrator"), the Fund pays an administration
fee, calculated weekly and payable monthly, by applying the following annual
rates to the Fund's weekly net assets: 0.25% to the portion of weekly net
assets not exceeding $250 million; 0.20% to the portion of weekly net assets
exceeding $250 million but not exceeding $500 million; 0.167% to the portion of
weekly net assets exceeding $500 million but not exceeding $750 million; and
0.133% to the portion of weekly net assets exceeding $750 million.
Under the terms of the Administration Agreement, the Administrator maintains
certain of the Fund's books and records and furnishes, at its own expense,
office space, facilities, equipment, clerical, bookkeeping and certain legal
services and pays the salaries of all personnel, including officers of the Fund
who are employees of the Administrator. The Administrator also bears the cost
of telephone services, heat, light, power and other utilities provided to the
Fund.
14
<PAGE>
MUNICIPAL INCOME TRUST III
NOTES TO FINANCIAL STATEMENTS August 31, 1998 continued
4. SECURITY TRANSACTIONS AND TRANSACTIONS WITH AFFILIATES
The cost of purchases and proceeds from sales of portfolio securities,
excluding short-term investments, for the year ended August 31, 1998,
aggregated $17,616,521 and $17,723,046, respectively.
Morgan Stanley Dean Witter Trust FSB, an affiliate of the Investment Advisor
and Administrator, is the Fund's transfer agent. At August 31, 1998, the Fund
had transfer agent fees and expenses payable of approximately $300.
5. SHARES OF BENEFICIAL INTEREST
Transactions in shares of beneficial interest were as follows:
<TABLE>
<CAPTION>
CAPITAL PAID
PAR VALUE IN EXCESS OF
SHARES OF SHARES PAR VALUE
--------- --------- ------------
<S> <C> <C> <C>
Balance, August 31, 1996 ................................................ 6,391,186 $63,912 $59,255,294
Treasury shares purchased and retired (weighted average discount 4.57%)* (12,200) (122) (112,906)
--------- ------- -----------
Balance, August 31, 1997 ................................................ 6,378,986 63,790 59,142,388
Treasury shares purchased and retired (weighted average discount 7.62%)* (47,500) (475) (435,950)
--------- ------- -----------
Balance, August 31, 1998 ................................................ 6,331,486 $63,315 $58,706,438
========= ======= ===========
</TABLE>
- ---------------
* The Trustees have voted to retire the shares purchased.
6. DIVIDENDS
The Fund declared the following dividend from net investment income:
<TABLE>
<CAPTION>
DECLARATION AMOUNT RECORD PAYABLE
DATE PER SHARE DATE DATE
------------------- ---------- ----------------- ------------------
<S> <C> <C> <C>
June 30, 1998 $0.0425 September 4, 1998 September 18, 1998
September 29, 1998 $0.0375 October 10, 1998 October 23, 1998
September 29, 1998 $0.0375 November 6, 1998 November 20, 1998
September 29, 1998 $0.0375 December 4, 1998 December 18, 1998
</TABLE>
15
<PAGE>
MUNICIPAL INCOME TRUST III
FINANCIAL HIGHLIGHTS
Selected ratios and per share data for a share of beneficial interest
outstanding throughout each period:
<TABLE>
<CAPTION>
FOR THE YEAR ENDED AUGUST 31*
-------------------------------------------------------
1998 1997 1996 1995 1994
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
PER SHARE OPERATING PERFORMANCE:
Net asset value, beginning of period ............ $ 9.87 $9.75 $ 9.91 $ 9.81 $10.05
------ ----- ------ ------ ------
Net investment income ........................... 0.51 0.53 0.56 0.60 0.60
Net realized and unrealized gain (loss) ......... 0.29 0.19 (0.09) 0.11 (0.25)
------ ----- ------ ------ ------
Total from investment operations ................ 0.80 0.72 0.47 0.71 0.35
------ ----- ------ ------ ------
Less dividends and distributions from:
Net investment income .......................... (0.52) (0.58) (0.59) (0.54) (0.56)
Net realized gain .............................. (0.03) (0.02) (0.04) (0.07) (0.03)
------ ----- ------ ------ ------
Total dividends and distributions ............... (0.55) (0.60) (0.63) (0.61) (0.59)
------ ----- ------ ------ ------
Net asset value, end of period .................. $10.12 $9.87 $ 9.75 $ 9.91 $ 9.81
====== ===== ====== ====== ======
Market value, end of period ..................... $9.188 $9.50 $9.875 $8.875 $ 9.00
====== ===== ====== ====== ======
TOTAL INVESTMENT RETURN+ ........................ 2.50% 2.57% 18.83% 5.71% (6.60)%
RATIOS TO AVERAGE NET ASSETS:
Expenses ........................................ 0.90% 0.91% 0.91% 0.94% 0.93%
Net investment income ........................... 5.07% 5.41% 5.61% 6.24% 5.99%
SUPPLEMENTAL DATA:
Net assets, end of period, in thousands ......... $64,051 $62,970 $62,297 $63,515 $64,011
Portfolio turnover rate ......................... 29% 4% 17% 22% 23%
</TABLE>
- -------------
* The per share amounts were computed using an average number of shares
outstanding during the period.
+ Total investment return is based upon the current market value on the
last day of each period reported. Dividends and distributions are
assumed to be reinvested at prices obtained under the Fund's dividend
reinvestment plan. Total investment return does not reflect brokerage
commissions.
SEE NOTES TO FINANCIAL STATEMENTS
16
<PAGE>
MUNICIPAL INCOME TRUST III
REPORT OF INDEPENDENT ACCOUNTANTS
TO THE SHAREHOLDERS AND TRUSTEES
OF MUNICIPAL INCOME TRUST III
In our opinion, the accompanying statement of assets and liabilities, including
the portfolio of investments, and the related statements of operations and of
changes in net assets and the financial highlights present fairly, in all
material respects, the financial position of Municipal Income Trust III (the
"Fund") at August 31, 1998, the results of its operations for the year then
ended, the changes in its 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, in conformity with generally accepted accounting principles.
These financial statements and financial highlights (hereafter referred to as
"financial statements") are the responsibility of the Fund's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these financial statements in accordance
with generally accepted auditing standards which require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement
presentation. We believe that our audits, which included confirmation of
securities at August 31, 1998 by correspondence with the custodian and brokers,
provide a reasonable basis for the opinion expressed above.
PricewaterhouseCoopers LLP
1177 Avenue of the Americas
New York, New York 10036
October 9, 1998
1998 FEDERAL TAX NOTICE (unaudited)
During the year ended August 31, 1998, the Fund paid to shareholders
$0.52 per share from net investment income. All of the Fund's dividends
from net investment income were exempt interest dividends, excludable
from gross income for Federal income tax purposes.
For the year ended August 31, 1998, the Fund paid to shareholders $0.03
per share from long-term capital gains, which is taxable as 20% rate
gain.
17
<PAGE>
TRUSTEES
- --------------------------------------------- MUNICIPAL
Michael Bozic INCOME
Charles A. Fiumefreddo TRUST III
Edwin J. Garn
John R. Haire
Wayne E. Hedien
Dr. Manuel H. Johnson
Michael E. Nugent
Philip J. Purcell
John L. Schroeder
OFFICERS
- ---------------------------------------------
Charles A. Fiumefreddo
Chairman and Chief Executive Officer
Barry Fink
Vice President, Secretary and General Counsel
James F. Willison
Vice President
Thomas F. Caloia
Treasurer
TRANSFER AGENT
- ---------------------------------------------
Morgan Stanley Dean Witter Trust FSB
Harborside Financial Center -- Plaza Two
Jersey City, New Jersey 07311
INDEPENDENT ACCOUNTANTS
- ---------------------------------------------
PricewaterhouseCoopers LLP
1177 Avenue of the Americas
New York, New York 10036
INVESTMENT ADVISOR
- ---------------------------------------------
Morgan Stanley Dean Witter Advisors Inc.
Two World Trade Center
New York, New York 10048
ANNUAL REPORT
AUGUST 31, 1998
