STATEMENT OF ADDITIONAL INFORMATION
HERITAGE INCOME TRUST
HIGH YIELD BOND FUND
INTERMEDIATE GOVERNMENT FUND
This Statement of Additional Information ("SAI") dated February 2, 1998 as
supplemented on October 26, 1998, should be read in conjunction with the
Prospectus dated February 2, 1998 of the High Yield Bond and Intermediate
Government Funds of Heritage Income Trust (the "Trust"). This SAI is not a
prospectus itself. To receive a copy of the Funds' Prospectus write to Heritage
Asset Management, Inc. at the address below or call (800) 421-4184.
HERITAGE ASSET MANAGEMENT, INC.
880 Carillon Parkway
St. Petersburg, Florida 33716
TABLE OF CONTENTS
PAGE
GENERAL INFORMATION.......................................................1
INVESTMENT INFORMATION....................................................1
Investment Objectives...............................................1
Investment Policies.................................................1
Industry Classifications...........................................20
INVESTMENT LIMITATIONS...................................................20
NET ASSET VALUE..........................................................22
PERFORMANCE INFORMATION..................................................24
INVESTING IN THE FUNDS...................................................26
Systematic Investment Options......................................27
Retirement Plans...................................................27
Class A Combined Purchase Privilege (Right of Accumulation)........28
Class A Statement of Intention.....................................30
REDEEMING SHARES.........................................................30
Systematic Withdrawal Plan.........................................31
Telephone Transactions.............................................32
Redemptions in Kind................................................32
Receiving Payment..................................................32
EXCHANGE PRIVILEGE.......................................................33
CONVERSION OF CLASS B SHARES.............................................34
TAXES....................................................................34
TRUST INFORMATION........................................................37
Management of the Trust............................................37
Five Percent Shareholders..........................................40
Investment Adviser and Administrator; Subadviser...................41
Brokerage Practices................................................44
Distribution of Shares.............................................46
Administration of the Trust........................................48
Potential Liability................................................48
APPENDIX................................................................A-1
REPORT OF INDEPENDENT ACCOUNTANTS
High Yield Bond Fund..............................................A-2
Intermediate Government Fund......................................A-3
FINANCIAL STATEMENTS
High Yield Bond Fund..............................................A-4
Intermediate Government Fund.....................................A-14
<PAGE>
GENERAL INFORMATION
The Trust was established as a Massachusetts business trust under a
Declaration of Trust dated August 4, 1989. It is registered as an open-end
diversified management investment company under the Investment Company Act of
1940, as amended (the "1940 Act"), and is composed of the High Yield Bond Fund
(known as the Diversified Portfolio prior to February 1, 1996) ("High Yield")
and the Intermediate Government Fund (known as the Limited Maturity Government
Portfolio prior to January 31, 1996) ("Government") (each a "Fund" and,
collectively, the "Funds"). Each Fund constitutes a separate investment
portfolio with distinct investment objectives, purposes and strategies. Each
Fund offers three classes of shares, Class A shares sold subject to a 3.75%
maximum front-end sales load ("A shares"), Class B shares sold subject to a 5%
maximum contingent deferred sales load ("CDSL"), declining over an eight-year
period ("B Shares"), and Class C shares sold subject to a 1% CDSL ("C shares").
INVESTMENT INFORMATION
INVESTMENT OBJECTIVES
The investment objective of each Fund is stated in the Prospectus.
INVESTMENT POLICIES
The following information is in addition to and supplements each Fund's
investment policies set forth in the Prospectus.
BRADY BONDS. High Yield may invest in Brady Bonds, which are debt
securities, generally denominated in U.S. dollars, issued under the framework of
the Brady Plan. The Brady Plan is an initiative announced by former U.S.
Treasury Secretary Nicholas F. Brady in 1989 as a mechanism for debtor nations
to restructure their outstanding external commercial bank indebtedness. In
restructuring its external debt under the Brady Plan framework, a debtor nation
negotiates with its existing bank lenders, as well as multilateral institutions,
such as the International Bank for Reconstruction and Development (the "World
Bank") and the International Monetary Fund (the "IMF"). The Brady Plan
framework, as it has developed, contemplates the exchange of external commercial
bank debt for newly issued bonds (Brady Bonds). Brady Bonds also may be issued
in respect of new money being advanced by existing lenders in connection with
the debt restructuring. The World Bank and/or the IMF support the restructuring
by providing funds pursuant to loan agreements or other arrangements, which
enable the debtor nation to collateralize the new Brady Bonds or to repurchase
1
<PAGE>
outstanding bank debt at a discount. These arrangements with the World Bank
and/or the IMF require debtor nations to agree to the implementation of certain
domestic monetary and fiscal reforms. Such reforms have included the
liberalization of trade and foreign investment, the privatization of state-owned
enterprises and the setting of targets for public spending and borrowing. These
policies and programs seek to promote the debtor country's economic growth and
development. Investors should recognize that the Brady Plan only sets forth
general guiding principles for economic reform and debt reduction, emphasizing
that solutions must be negotiated on a case-by-case basis between debtor nations
and their creditors. High Yield's subadviser, Salomon Brothers Asset Management
Inc (the "Subadviser" or "SBAM"), believes economic reforms, undertaken by
countries in connection with the issuance of Brady Bonds, make the debt of those
countries that have issued or announced plans to issue Brady Bonds an attractive
opportunity for investment. However, there can be no assurance that SBAM's
expectations with respect to Brady Bonds will be realized.
Investors also should recognize that Brady Bonds have been issued only
recently, and, accordingly, do not have a long payment history. Brady Bonds that
have been issued to date are rated in the categories "BB" or "B" by Standard &
Poor's Ratings Services ("S&P") or "Ba" or "B" by Moody's Investors Services,
Inc. ("Moody's") or, in cases in which a rating by S&P or Moody's has not been
assigned, generally are considered by the Subadviser to be of comparable
quality.
Agreements implemented under the Brady Plan to date are designed to
achieve debt and debt-service reduction through specific options negotiated by a
debtor nation with its creditors. As a result, the financial packages offered by
each country differ. The types of options have included the exchange of
outstanding commercial bank debt for bonds issued at 100% of face value of such
debt that carry a below-market stated rate of interest (generally known as par
bonds), bonds issued at a discount from the face value of such debt (generally
known as discount bonds), bonds bearing an interest rate which increases over
time, and bonds issued in exchange for the advancement of new money by existing
lenders. Discount bonds issued to date under the framework of the Brady Plan
generally have borne interest computed semiannually at a rate equal to 13/16 of
one percent above the then current six month London Inter-Bank Offered Rate
("LIBOR").
Regardless of the stated face amount and stated interest rate of the
various types of Brady Bonds, High Yield will purchase Brady Bonds in secondary
markets, as described below.
2
<PAGE>
In the secondary markets, the price and yield to the investor reflect
market conditions at the time of purchase. Brady Bonds issued to date have
traded at a deep discount from their face value. Certain sovereign bonds are
entitled to "value recovery payments" in certain circumstances, which in effect
constitute supplemental interest payments but generally are not collateralized.
Certain Brady Bonds have been collateralized as to principal due at maturity
(typically 30 years from the date of issuance) by U.S. Treasury zero coupon
bonds with a maturity equal to the final maturity of such Brady Bonds, although
the collateral is not available to investors until the final maturity of the
Brady Bonds. Collateral purchases are financed by the IMF, the World Bank and
the debtor nations' reserves. In addition, interest payments on certain types of
Brady Bonds may be collateralized by cash or high-grade securities in amounts
that typically represent between 12 and 18 months of interest accruals on these
instruments with the balance of the interest accruals being uncollateralized.
High Yield may purchase Brady Bonds with limited or no collateralization, and
will rely for payment of interest and (except in the case of principal
collateralized Brady Bonds) principal primarily on the willingness and ability
of the foreign government to make payment in accordance with the terms of the
Brady Bonds. Brady Bonds issued to date are purchased and sold in secondary
markets through U.S. securities dealers and other financial institutions and
generally are maintained through European transnational securities depositories.
A substantial portion of the Brady Bonds and other sovereign debt securities in
which High Yield invests are likely to be acquired at a discount, which involves
certain considerations discussed below under "Taxes."
In the event of a default with respect to collateralized Brady Bonds as a
result of which the payment obligations of the issuer are accelerated, the U.S.
Treasury zero coupon obligations held as collateral for the payment of principal
will not be distributed to investors, nor will such obligations be sold and the
proceeds distributed. The collateral will be held by the collateral agent to the
scheduled maturity of the defaulted Brady Bonds, which will continue to be
outstanding, at which time the face amount of the collateral will equal the
principal payments that would have then been due on the Brady Bonds in the
normal course. Based upon current market conditions, High Yield would not intend
to purchase Brady Bonds that, at the time of investment, are in default as to
payments. However, in light of the residual risk of the Brady Bonds and, among
other factors, the history of default with respect to commercial bank loans by
3
<PAGE>
public and private entities of countries issuing Brady Bonds, investments in
Brady Bonds are to be viewed as speculative.
CONVERTIBLE SECURITIES. High Yield may invest in convertible securities.
While no securities investment is without some risk, investments in convertible
securities generally entail less risk than the issuer's common stock. The extent
to which such risk is reduced depends in large measure upon the degree to which
the convertible security sells above its value as a fixed-income security.
Convertible securities in which High Yield may invest include corporate bonds,
notes and preferred stock that can be converted into common stock. Convertible
securities combine the fixed-income characteristics of bonds and preferred stock
with the potential for capital appreciation. As with all debt securities, the
market value of convertible securities tends to decline as interest rates
increase and, conversely, to increase as interest rates decline. While
convertible securities generally offer lower interest or dividend yields than
nonconvertible debt securities of similar quality, they do enable the investor
to benefit from increases in the market price of the underlying common stock.
HIGH YIELD FOREIGN SOVEREIGN DEBT SECURITIES. High Yield may invest in
high yield foreign sovereign debt securities. Investing in fixed and floating
rate high yield foreign sovereign debt securities will expose funds investing in
such securities to the direct or indirect consequences of political, social or
economic changes in the countries that issue the securities. The ability and
willingness of sovereign obligors in developing and emerging countries or the
governmental authorities that control repayment of their external debt to pay
principal and interest on such debt when due may depend on general economic and
political conditions within the relevant country. Countries such as those in
which a Fund may invest have historically experienced, and may continue to
experience, high rates of inflation, high interest rates, exchange rate trade
difficulties and extreme poverty and unemployment. Many of these countries also
are characterized by political uncertainty or instability.
Additional factors that may influence the ability or willingness to
service debt include, but are not limited to: a country's cash flow situation,
the availability of sufficient foreign exchange on the date a payment is due,
the relative size of its debt service burden to the economy as a whole, and its
government's policy towards the IMF, the World Bank and other international
agencies. The ability of a foreign sovereign obligor to make timely payments on
its external debt obligations also will be strongly influenced by the obligor's
balance of payments, including export performance, its access to international
credits and investments, fluctuations in interest rates and the extent of its
foreign reserves. A country whose exports are concentrated in a few commodities
or whose economy depends on certain strategic imports could be vulnerable to
fluctuations in international prices of these commodities or imports. To the
4
<PAGE>
extent that a country receives payment for its exports in currencies other than
dollars, its ability to make debt payments denominated in dollars could be
affected adversely. If a foreign sovereign obligor cannot generate sufficient
earnings from foreign trade to service its external debt, it may need to depend
on continuing loans and aid from foreign governments, commercial banks and
multilateral organizations, and inflows of foreign investment. The commitment on
the part of these foreign governments, multilateral organizations and others to
make such disbursements may be conditioned on the government's implementation of
economic reforms and/or economic performance and the timely service of its
obligations. Failure to implement such reforms, achieve such levels of economic
performance or repay principal or interest when due may result in the
cancellation of such third parties' commitments to lend funds, which may further
impair the obligor's ability or willingness to timely service its debts.
The cost of servicing external debt also generally will be affected
adversely by rising international interest rates, because many external debt
obligations bear interest at rates that are adjusted based upon international
interest rates. The ability to service external debt also will depend on the
level of the relevant government's international currency reserves and its
access to foreign exchange. Currency devaluations may affect the ability of a
sovereign obligor to obtain sufficient foreign exchange to service its external
debt.
As a result of the foregoing, a governmental obligor may default on its
obligations. If such an event occurs, High Yield may have limited legal recourse
against the issuer and/or guarantor. Remedies must, in some cases, be pursued in
the courts of the defaulting party itself, and the ability of the holder of
foreign sovereign debt securities to obtain recourse may be subject to the
political climate in the relevant country. In addition, no assurance can be
given that the holders of commercial bank debt will not contest payments to the
holders of other foreign sovereign debt obligations in the event of default
under their commercial bank loan agreements.
Sovereign obligors in developing and emerging countries are among the
world's largest debtors to commercial banks, other governments, international
financial organizations and other financial institutions. These obligors have in
the past experienced substantial difficulties in servicing their external debt
5
<PAGE>
obligations, which led to defaults on certain obligations and the restructuring
of certain indebtedness. Restructuring arrangements have included, among other
things, reducing and rescheduling interest and principal payments by negotiating
new or amended credit agreements or converting outstanding principal and unpaid
interest to Brady Bonds, and obtaining new credit to finance interest payments.
Holders of certain foreign sovereign debt securities may be requested to
participate in the restructuring of such obligations and to extend further loans
to their issuers. There can be no assurance that the Brady Bonds and other
foreign sovereign debt securities in which High Yield may invest will not be
subject to similar restructuring arrangements or to requests for new credit that
may affect adversely High Yield's holdings. Furthermore, certain participants in
the secondary market for such debt may be involved directly in negotiating the
terms of these arrangements and may therefore have access to information not
available to other market participants.
BORROWING. Each Fund may borrow in certain limited circumstances. See
"Investment Limitations." Borrowing creates an opportunity for increased return,
but, at the same time, creates special risks. For example, borrowing may
exaggerate changes in the net asset value of a Fund's shares and in the return
on the Fund's investment portfolio. Although the principal of any borrowing will
be fixed, a Fund's assets may change in value during the time the borrowing is
outstanding. A Fund may be required to liquidate portfolio securities at a time
when it would be disadvantageous to do so in order to make payments with respect
to any borrowing, which could affect the investment manager's strategy.
Furthermore, if a Fund were to engage in borrowing, an increase in interest
rates could reduce the value of the Fund's shares by increasing the Fund's
interest expense.
INVERSE FLOATERS. Government may invest in U.S. Government securities,
including mortgage-backed securities, on which the rate of interest varies
inversely with interest rates on similar securities or the value of an index.
These derivative securities commonly are known as inverse floaters. As market
interest rates rise, the interest rate on the inverse floater goes down, and
vice versa. Inverse floaters include components of securities on which interest
is paid in two separate parts -- an auction component, which pays interest at a
rate that is set periodically through an auction process or other method, and a
residual component, the interest on which varies inversely with that on a
similar security or the value of an index. The residual component may be
established by multiplying the rate of interest paid on such security or the
applicable index by a factor (a "multiplier feature") or by adding or
6
<PAGE>
subtracting the factor to or from such interest rate or index. The secondary
market for inverse floaters may be limited. The market value of inverse floaters
is often significantly more volatile than that of a fixed-rate obligation and,
like most debt obligations, will vary inversely with changes in interest rates.
The interest rates on inverse floaters may be significantly reduced, even to
zero, if interest rates rise.
MONEY MARKET INSTRUMENTS. In addition to the investments described in the
Prospectus, the Funds also may invest in money market instruments including the
following:
(1) Instruments such as certificates of deposit, demand and time deposits,
savings shares and bankers' acceptances of domestic banks and savings and loans
that have assets of at least $1 billion and capital, surplus, and undivided
profits of over $100 million as of the close of their most recent fiscal year,
or instruments that are insured by the Bank Insurance Fund or the Savings
Institution Insurance Fund of the Federal Deposit Insurance Corporation.
(2) Commercial paper rated A-l or A-2 by S&P or Prime-1 or Prime-2 by
Moody's. For a description of these ratings, see "Commercial Paper Ratings" in
the Appendix.
(3) High quality, short-term, corporate debt obligations, including
variable rate demand notes, having a maturity of one year or less. Because there
is no secondary trading market in demand notes, the inability of the issuer to
make required payments could impact adversely a Fund's ability to resell when it
deems advisable to do so.
OPTIONS, FUTURES AND OPTIONS ON FUTURES TRADING. As discussed in the
Prospectus, the Funds may purchase and sell options, futures and options on
futures ("Derivative Investments") in order to hedge their investments and, in
certain circumstances, may purchase and sell Derivative Investments as a
substitute for the purchase and sale of securities. Certain special
characteristics of and risks with these strategies are discussed below.
Hedging strategies can be categorized broadly as "short hedges" and "long
hedges." A short hedge is a purchase or sale of a Derivative Instrument intended
partially or fully to offset potential declines in the value of one or more
investments held in a Fund's investment portfolio. Thus, in a short hedge, a
Fund takes a position in a Derivative Instrument whose price is expected to move
in the opposite direction of the price of the investment being hedged.
7
<PAGE>
Conversely, a long hedge is a purchase or sale of a Derivative Instrument
intended partially or fully to offset potential increases in the acquisition
cost of one or more investments that a Fund intends to acquire. Thus, in a long
hedge, a Fund takes a position in a Derivative Instrument whose price is
expected to move in the same direction as the price of the prospective
investment being hedged. A long hedge is sometimes referred to as an
anticipatory hedge. In an anticipatory hedge transaction, a Fund does not own a
corresponding security and, therefore, the transaction does not relate to a
security the Fund owns. Rather, it relates to a security that the Fund intends
to acquire. If a Fund does not complete the hedge by purchasing the security it
anticipated purchasing, the effect on the Fund's investment portfolio is the
same as if the transaction were entered into for speculative purposes.
Derivative Instruments on securities generally are used to hedge against
price movements in one or more particular securities positions that a Fund owns
or intends to acquire. Derivative Instruments on indices, in contrast, generally
are used to attempt to hedge against price movements in market sectors in which
a Fund has invested or expects to invest. Derivative Instruments on debt
securities may be used to hedge either individual securities or broad debt
market sectors.
Use of these instruments is subject to applicable regulations of the
Securities and Exchange Commission ("SEC"), the several options and futures
exchanges upon which options and futures are traded, and the Commodity Futures
Trading Commission ("CFTC"). In addition, the Funds' ability to use these
instruments will be limited by tax considerations. See "Taxes."
In addition to the instruments and strategies described above, the Funds
expect to discover additional opportunities in connection with options, futures
contracts and other hedging techniques. These new opportunities may become
available as Heritage or SBAM, as applicable, develops new techniques, as
regulatory authorities broaden the range of permitted transactions and as new
options, futures contracts or other techniques are developed. Heritage or SBAM,
as applicable, may utilize these opportunities to the extent that it is
consistent with a Fund's investment objective and permitted by the Fund's
investment limitations and applicable regulatory authorities.
SPECIAL RISKS. The use of Derivative Instruments involves special
considerations and risks, certain of which are described below. Risks pertaining
to particular Derivative Instruments are described in the sections that follow.
8
<PAGE>
(1) Successful use of most Derivative Instruments depends upon the
ability of the Funds' Manager, Heritage Asset Management, Inc. (the "Manager"),
or, for High Yield, the Subadviser, as the case may be, to predict movements of
the overall securities and interest rate markets, which requires different
skills than predicting changes in the prices of individual securities. There can
be no assurance that any particular strategy will succeed.
(2) There might be imperfect correlation, or even no correlation,
between price movements of a Derivative Instrument and price movements of the
investments being hedged. For example, if the value of a Derivative Instrument
used in a short hedge increased by less than the decline in value of the hedged
investment, the hedge would not be fully successful. Such a lack of correlation
might occur due to factors unrelated to the value of the investments being
hedged, such as speculative or other pressures on the markets in which
Derivative Instruments are traded. The effectiveness of hedges using Derivative
Instruments on indices will depend on the degree of correlation between price
movements in the index and price movements in the securities being hedged.
Because there are a limited number of types of exchange-traded options and
futures contracts, it is likely that the standardized contracts available will
not match a Fund's current or anticipated investments exactly. A Fund may invest
in options and futures contracts based on securities with different issuers,
maturities, or other characteristics from the securities in which it typically
invests, which involves a risk that the options or futures position will not
track the performance of the Fund's other investments.
Options and futures prices also can diverge from the prices of their
underlying instruments, even if the underlying instruments match a Fund's
investments well. Options and futures prices are affected by such factors as
current and anticipated short-term interest rates, changes in volatility of the
underlying instrument, and the time remaining until expiration of the contract,
which may not affect security prices the same way. Imperfect correlation also
may result from differing levels of demand in the options and futures markets
and the securities markets, from structural differences in how options and
futures and securities are traded, or from imposition of daily price fluctuation
limits or trading halts. A Fund may purchase or sell options and futures
contracts with a greater or lesser value than the securities it wishes to hedge
or intends to purchase in order to attempt to compensate for differences in
volatility between the contract and the securities, although this may not be
successful in all cases. If price changes in a Fund's options or futures
9
<PAGE>
positions are correlated poorly with its other investments, the positions may
fail to produce anticipated gains or result in losses that are not offset by
gains in other investments.
(3) Derivative Instruments, if successful, can reduce risk of loss by
wholly or partially offsetting the negative effect of unfavorable price
movements. However, such strategies also can reduce opportunity for gain by
offsetting the positive effect of favorable price movements. For example, if a
Fund entered into a short hedge because the Manager or the Subadviser, as the
case may be, projected a decline in the price of a security in the Fund's
investment portfolio, and the price of that security increased instead, the gain
from that increase might be wholly or partially offset by a decline in the price
of the Derivative Instrument. Moreover, if the price of the Derivative
Instrument declined by more than the increase in the price of the security, the
Fund could suffer a loss. In either such case, the Fund would have been in a
better position had it not attempted to hedge at all.
(4) As described below, a Fund might be required to maintain assets as
"cover," maintain segregated accounts or make margin payments when it takes
positions in Derivative Instruments involving obligations to third parties
(I.E., Derivative Instruments other than purchased options). If a Fund were
unable to close out its positions in such Derivative Instruments, it might be
required to continue to maintain such assets or accounts or make such payments
until the position expired or matured. These requirements might impair a Fund's
ability to sell a portfolio security or make an investment at a time when it
would otherwise be favorable to do so, or require that a Fund sell a portfolio
security at a disadvantageous time. A Fund's ability to close out a position in
a Derivative Instrument prior to expiration or maturity depends on the existence
of a liquid secondary market or, in the absence of such a market, the ability
and willingness of the other party to the transaction ("counterparty") to enter
into a transaction closing out the position. Therefore, there is no assurance
that any position can be closed out at a time and price that is favorable to a
Fund.
COVER. The Funds will not use leverage in their hedging strategies. A Fund
will not enter into a Derivative Instruments strategy that exposes it to an
obligation to another party unless its owns either (1) an offsetting ("covered")
position in securities or other options or futures contracts or (2) cash and
other liquid assets with a value, marked-to-market daily, sufficient to cover
its potential obligations to the extent not covered as provided in (1) above.
The Funds will comply with SEC guidelines regarding cover for such transactions
10
<PAGE>
and will, if the guidelines so require, set aside cash or other liquid assets in
a segregated account with their custodian in the amount prescribed.
Assets used as cover or held in a segregated account cannot be sold while
the corresponding futures contract or options position is open, unless they are
replaced with similar assets. As a result, the commitment of a large percentage
of a Fund's assets to cover or hold in segregated accounts could impede
portfolio management or the Fund's ability to meet redemption requests or other
current obligations.
GUIDELINES, CHARACTERISTICS AND RISKS OF OPTIONS TRADING. The Funds
effectively may terminate their right or obligation under an option by entering
into a closing transaction. If a Fund wishes to terminate its obligation under a
put or call option it has written, the Fund may purchase a put or call option of
the same series (I.E., an option identical in its terms to the option previously
written); this is known as a closing purchase transaction. Conversely, in order
to terminate its right to purchase or sell under a call or put option it has
purchased, the Fund may write an option of the same series as the option held.
This is known as a closing sale transaction. Closing transactions essentially
permit a Fund to realize profits or limit losses on its options positions prior
to the exercise or expiration of the option. Whether a profit or loss is
realized from a closing transaction depends on the price movement of the
underlying security, index or futures contract, and the market value of the
option.
In considering the use of options to hedge, particular note should be
taken of the following:
(1) The value of an option position will reflect, among other things, the
current market price of the underlying security, index, or futures contract, the
time remaining until expiration, the relationship of the exercise price to the
market price, the historical price volatility of the underlying investment and
general market conditions. For this reason, the successful use of options
depends upon the ability of the Manager or Subadviser, as the case may be, to
forecast the direction of price fluctuations in the underlying investment.
(2) Prior to its expiration, the exercise price of an option may be below,
equal to, or above the current market value of the underlying investment.
Purchased options that expire unexercised have no value. Unless an option
purchased by a Fund is exercised or unless a closing transaction is effected
11
<PAGE>
with respect to that position, a loss will be realized in the amount of the
premium paid.
(3) A position in an exchange-listed option may be closed out only on an
exchange that provides a secondary market for identical options. Most
exchange-listed options relate to futures contracts and stocks. Exchange markets
for options on debt securities exist, and the ability to establish and close out
positions on the exchanges is subject to the maintenance of a liquid secondary
market. Closing transactions may be effected with respect to options traded in
the over-the-counter ("OTC") markets (currently the primary markets of options
on debt securities) only by negotiating directly with the other party to the
option contract or in a secondary market for the option if such market exists.
In the event of the insolvency of a Fund's counterparty, the Fund might be
unable to close out an OTC option position at any time prior to its expiration.
Although the Funds intend to purchase or write only those options for which
there appears to be an active secondary market, there is no assurance that a
liquid secondary market will exist for any particular option at any specific
time. In such event, it may not be possible to effect closing transactions with
respect to certain options, with the result that a Fund would have to exercise
those options that it has purchased in order to realize any profit. With respect
to options written by a Fund, the inability to enter into a closing transaction
may result in material losses to the Fund. For example, because a Fund may
maintain a covered position with respect to any call option it writes on a
security, the Fund may not sell the underlying security during the period it is
obligated under such option. This requirement may impair the Fund's ability to
sell a portfolio security or make an investment at a time when such a sale or
investment might be advantageous.
(4) Activities in the options market may result in a higher portfolio
turnover rate and additional brokerage costs. However, the Funds also may save
on commissions by using options as a hedge rather than buying or selling
individual securities in anticipation of market movements.
(5) The risks of investment in options on indices may be greater than
options on securities. Because index options are settled in cash, when a Fund
writes a call on an index it cannot provide in advance for its potential
settlement obligations by acquiring and holding the underlying securities. A
Fund can offset some of the risk of writing a call index option by holding a
diversified portfolio of securities similar to those on which the underlying
index is based. However, a Fund cannot, as a practical matter, acquire and hold
an investment portfolio containing exactly the same securities as underlie the
12
<PAGE>
index and, as a result, bears the risk that the value of the securities held
will vary from the value of the index.
Even if a Fund could assemble a securities portfolio that exactly
reproduced the composition of the underlying index, it still would not be fully
covered from a risk standpoint because of the "timing risk" inherent in writing
index options. When an index option is exercised, the amount of cash that the
holder is entitled to receive is determined by the difference between the
exercise price and the closing index level on the date when the option is
exercised. As with other kinds of options, a Fund as the call writer will not
learn that it has been assigned until the next business day at the earliest. The
time lag between exercise and notice of assignment poses no risk for the writer
of a covered call on a specific underlying security, such as common stock,
because there the writer's obligation is to deliver the underlying security, not
to pay its value as of a fixed time in the past. So long as the writer already
owns the underlying security, it can satisfy its settlement obligations by
simply delivering it, and the risk that its value may have declined since the
exercise date is borne by the exercising holder. In contrast, even if the writer
of an index call holds securities that exactly match the composition of the
underlying index, it will not be able to satisfy its assignment obligations by
delivering those securities against payment of the exercise price. Instead, it
will be required to pay cash in an amount based on the closing index value on
the exercise date. By the time it learns that it has been assigned, the index
may have declined, with a corresponding decline in the value of its securities
portfolio. This "timing risk" is an inherent limitation on the ability of index
call writers to cover their risk exposure by holding securities positions.
If a Fund has purchased an index option and exercises it before the
closing index value for that day is available, it runs the risk that the level
of the underlying index subsequently may change. If such a change causes the
exercised option to fall out-of-the-money, the Fund will be required to pay the
difference between the closing index value and the exercise price of the option
(times the applicable multiplier) to the assigned writer.
13
<PAGE>
GUIDELINES, CHARACTERISTICS AND RISKS OF FUTURES AND OPTIONS ON FUTURES
TRADING. When a Fund purchases or sells a futures contract, the Fund will be
required to deposit an amount equal to a varying specified percentage of the
contract amount. This amount is known as initial margin. Cash held in the margin
account is not income producing. Subsequent payments, called variation margin,
to and from the broker through which such Fund entered into the futures
contract, will be made on a daily basis as the price of the underlying security
or index fluctuates making the futures contract more or less valuable, a process
known as marking-to-market.
If a Fund writes an option on a futures contract, it will be required to
deposit initial and variation margin pursuant to requirements similar to those
applicable to futures contracts. Premiums received from the writing of an option
on a future are included in the initial margin deposit.
Most of the exchanges on which futures contracts and options on futures
contracts are traded limit the amount of fluctuation permitted in futures
contract and option prices during a single trading day. The daily price limit
establishes the maximum amount that the price of a futures contract or option
may vary either up or down from the previous day's settlement price at the end
of a trading session. Once the daily price limit has been reached in a
particular type of contract, no trades may be made on that day at a price beyond
that limit. The daily price limit governs only price movement during a
particular trading day and therefore does not limit potential losses, because
the limit may prevent the liquidation of unfavorable positions. Futures contract
and option prices occasionally have moved to the daily limit for several
consecutive trading days with little or no trading, thereby preventing prompt
liquidation of positions and subjecting some traders to substantial losses.
Another risk in employing futures contracts and options on futures
contracts as a hedge is the prospect that futures and options prices will
correlate imperfectly with the behavior of cash prices for the following
reasons. First, rather than meeting additional margin deposit requirements,
investors may close contracts through offsetting transactions. Second, the
liquidity of the futures and options markets depends on participants entering
into offsetting transactions rather than making or taking delivery. To the
extent that participants decide to make or take delivery, liquidity in these
markets could be reduced, thus producing distortion. Third, from the point of
view of speculators, the deposit requirements in the futures and options markets
are less onerous than margin requirements in the securities market. Therefore,
14
<PAGE>
increased participation by speculators in the futures and options market may
cause temporary price distortions. In addition, activities of large traders in
both the futures and securities markets involving arbitrage, "program trading,"
and other investment strategies might result in temporary price distortions. Due
to the possibility of distortion, a correct forecast of general interest rate
trends by the Manager or Subadviser, as applicable, still may not result in a
successful transaction.
In addition to the risks that apply to all options transactions, there are
several special risks relating to options on futures contracts. Compared to the
purchase or sale of futures contracts, the purchase of call or put options on
futures contracts involves less potential risk to the Funds because the maximum
amount at risk is the premium paid for the options (plus transaction costs).
However, there may be circumstances when the purchase of a call or put option on
a futures contract would result in a loss to a Fund when the purchase or sale of
a futures contract would not, such as when there is no movement in the price of
the underlying investment.
LIMITATIONS ON THE USE OF OPTIONS AND FUTURES. To the extent that a Fund
enters into futures contracts or options on futures contracts for other than
BONA FIDE hedging purposes (as defined by the CFTC), the aggregate initial
margin and premiums required to establish these positions (excluding the amount
by which options are "in-the-money" at the time of purchase) will not exceed 5%
of the liquidation value of the Fund's investment portfolio, after taking into
account any unrealized profits and unrealized losses on any such contracts it
has entered into. (In general, a call option on a futures contract is
"in-the-money" if the value of the underlying futures contract exceeds the
strike, I.E., exercise, price of the call; a put option on a futures contract is
"in-the-money" if the value of the underlying futures contract is exceeded by
the strike price of the put.) This limitation does not limit the percentage of a
Fund's assets at risk to 5%.
PREFERRED STOCK. High Yield may invest in preferred stock. A preferred
stock is a blend of the characteristics of a bond and a common stock. It can
offer the higher yield of a bond and has priority over common stock in equity
ownership, but does not have the seniority of a bond and its participation in
the issuer's growth may be limited. Preferred stock has preference over common
stock in the receipt of dividends and in any residual assets after payment to
creditors should the issuer be dissolved. Although the dividend is set at a
fixed annual rate, in some circumstances it can be changed or omitted by the
issuer.
15
<PAGE>
REPURCHASE AGREEMENTS. The Funds may enter into repurchase agreements. The
period of these repurchase agreements usually will be short, from overnight to
one week, and at no time will a Fund invest in repurchase agreements of more
than one year. The securities that are subject to repurchase agreements,
however, may have maturity dates in excess of one year from the effective date
of the repurchase agreement. A Fund always will receive as collateral securities
whose market value, including accrued interest, will be at least equal to 100%
of the dollar amount invested by the Fund in each agreement, and the Fund will
make payment for such securities only upon physical delivery or evidence of
book-entry transfer to the account of its custodian bank.
RESTRICTED AND ILLIQUID SECURITIES. As stated in the Prospectus,
Government will not purchase or otherwise acquire any security if, as a result,
more than 10% of its net assets (taken at current value) would be invested in
securities that are illiquid by virtue of the absence of a readily available
market or due to legal or contractual restrictions on resale.
High Yield has a similar 10% limit on illiquid securities, but not all
restricted securities are deemed illiquid for this purpose. In recent years a
large institutional market has developed for certain securities that are not
registered under the Securities Act of 1933, as amended (the "1933 Act"). Rule
144A under the 1933 Act permits certain sales of unregistered securities by
investors to "qualified institutional buyers" such as High Yield. Institutional
markets for restricted securities have developed as a result of Rule 144A,
providing both readily ascertainable values for restricted securities and the
ability to liquidate an investment to satisfy share redemption orders. High
Yield is permitted to invest in restricted securities that are sold in reliance
on Rule 144A ("Rule 144A Securities"). These securities generally are deemed to
be illiquid and, thus, are subject to High Yield's investment limit that
restricts investments in illiquid securities to no more than 10% of its net
assets. However, pursuant to High Yield's Guidelines for Purchase of Rule 144A
Securities ("Guidelines") adopted by the Board of Trustees, High Yield's
investment subadviser may determine that certain Rule 144A Securities are
liquid. The subadviser takes into account a number of factors in reaching
liquidity decisions, including (1) the total amount of Rule 144A Securities
being offered, (2) the number of potential purchasers of the Rule 144A
Securities, (3) the number of dealers that have undertaken to make a market in
the Rule 144A Securities, (4) the frequency of trading in the 144A Securities,
and (5) the nature of the 144A Securities and how trading is effected (e.g., the
time needed to sell the 144A Securities, how offers are solicited and the
16
<PAGE>
mechanics of transfer.) High Yield's investments in Rule 144A Securities that
are deemed to be liquid cannot exceed 25% of its net assets at the time of
investment, when combined with the 10% limit on the purchase of illiquid
securities.
OTC options and their underlying collateral are considered illiquid
securities. Each Fund also may sell OTC options and, in connection therewith,
segregate assets or cover its obligations with respect to OTC options written by
that Fund. The assets used as cover for OTC options written by a Fund will be
considered illiquid unless the OTC options are sold to qualified dealers who
agree that the Fund may repurchase any OTC option it writes at a maximum price
to be calculated by a formula set forth in the option agreement. The cover for
an OTC option written subject to this procedure would be considered illiquid
only to the extent that the maximum repurchase price under the formula exceeds
the intrinsic value of the option.
REVERSE REPURCHASE AGREEMENTS. High Yield may borrow by entering into
reverse repurchase agreements. Under a reverse repurchase agreement, High Yield
sells securities and agrees to repurchase them at a mutually agreed to price. At
the time the Fund enters into a reverse repurchase agreement, it will establish
and maintain a segregated account with an approved custodian containing liquid
high grade securities, marked-to-market daily, having a value not less than the
repurchase price (including accrued interest). One reason to enter into a
reverse repurchase agreement is to raise cash without liquidating any investment
portfolio positions. In this case, reverse repurchase agreements involve the
risk that the market value of securities retained in lieu of sale by High Yield
may decline below the price of the securities the Fund has sold but is obliged
to repurchase. In the event the buyer of securities under a reverse repurchase
agreement files for bankruptcy or becomes insolvent, such buyer or its trustee
or receiver may receive an extension of time to determine whether to enforce the
Fund's obligation to repurchase the securities and the Fund's use of the
proceeds of the reverse repurchase agreement effectively may be restricted
pending such decisions. Reverse repurchase agreements create leverage, a
speculative practice, and will be considered borrowings for the purpose of the
Fund's limitation on borrowing.
LOANS OF PORTFOLIO SECURITIES. The Funds may loan portfolio securities to
qualified broker-dealers. Each Fund may terminate such loans at any time and the
market risk applicable to any security loaned remains a risk to the Fund.
Although voting rights, or rights to consent, with respect to the loaned
securities pass to the borrower, a Fund retains the right to call the loans at
any time on reasonable notice, and it will do so in order that the securities
may be voted by the Fund if the holders of such securities are asked to vote
upon or consent to matters materially affecting the investment. A Fund also may
call such loans in order to sell the securities involved. The Funds could incur
a loss if the borrower should fail financially at a time when the value of the
loaned securities is greater than the collateral. The primary objective of
securities lending is to supplement a Fund's income through investment of the
cash collateral in short-term interest bearing obligations. Securities loans may
not exceed 25% of a Fund's total assets and will be fully collateralized at all
times. The collateral for each Fund's loans will be "marked to market" daily so
that the collateral at all times exceeds 100% of the value of the loans. The
borrower must add to the collateral whenever the market value of the securities
rises above the level of such collateral. However, securities loans do involve
some risk. If the other party to the securities loan defaults or becomes
involved in bankruptcy proceedings, a Fund may incur delays and costs in selling
or recovering the underlying security or may suffer a loss of principal and
interest.
STRIPPED SECURITIES. Government may invest in separately traded interest
and principal components of securities ("Stripped Securities"), including U.S.
Government securities, as discussed below. Stripped Securities are obligations
representing an interest in all or a portion of the income or principal
components of an underlying or related security, a pool of securities or other
assets. In the most extreme case, one class will receive all of the interest
17
<PAGE>
(the interest-only or "IO" class), while the other class will receive all of the
principal (the principal-only or "PO" class). The market values of stripped
income securities tend to be more volatile in response to changes in interest
rates than are conventional debt securities.
Government also may invest in stripped mortgage-backed securities, which
are derivative multi-class mortgage securities. Stripped mortgage-backed
securities in which it may invest will be issued by agencies or
instrumentalities of the U.S. Government. Stripped mortgage-backed securities
are structured with two classes that receive different proportions of the
interest and principal distributions on a pool of assets represented by
mortgages ("Mortgage Assets"). A common type of stripped mortgage-backed
security will have one class receiving a small portion of the interest and a
larger portion of the principal from the Mortgage Assets, while the other
classes will receive primarily interest and only a small portion of the
principal. The yields to maturity on IOs and POs are sensitive to the rate of
principal payments (including prepayments) on the related underlying Mortgage
18
<PAGE>
Assets, and principal payments may have a material effect on yield to maturity.
In addition, the market value of stripped mortgage-backed securities is subject
to greater risk of fluctuation in response to changes in market interest rates
than other mortgage-backed securities. In the case of mortgage-backed IOs, if
the underlying assets experience greater than anticipated prepayments of
principal, there is a greater possibility that Government may not fully recoup
its initial investment. Conversely, if the underlying assets experience slower
than anticipated principal payments, the yield on the PO class will be affected
more severely than would be the case with traditional mortgage-backed
securities.
The SEC staff takes the position that IOs and POs generally are illiquid
securities. The staff also takes the position, however, that the Board of
Trustees (or the Manager pursuant to delegation by the Board) may determine that
U.S. Government-issued IOs or POs backed by fixed-rate mortgages are liquid,
where the Board determines that such securities can be disposed of promptly in
the ordinary course of business at a value reasonably close to that used in the
calculation of net asset value per share. Accordingly, certain of the IO and PO
securities in which Government invests may be deemed liquid.
U.S. GOVERNMENT SECURITIES. Each Fund may invest in U.S. Government
securities, including a variety of securities that are issued or guaranteed by
the U.S. Government, its agencies or instrumentalities and repurchase agreements
secured thereby. These securities include: securities issued and guaranteed by
the U.S. Government, such as Treasury bills, Treasury notes, and Treasury bonds;
obligations backed by the "full faith and credit" of the United States, such as
Government National Mortgage Association securities; obligations supported by
the right of the issuer to borrow from the U.S. Treasury, such as those of the
Federal Home Loan Banks; and obligations supported only by the credit of the
issuer, such as those of the Federal Intermediate Credit Banks.
ZERO COUPON AND PAY-IN-KIND SECURITIES. High Yield may invest in zero
coupon and pay-in-kind securities. Zero coupon securities are debt obligations
that do not entitle the holder to any periodic payment of interest prior to
maturity or a specified date when the securities begin paying current interest.
Zero coupon securities are issued and traded at a discount from their face
amounts or par value, which discount rate varies depending on the time remaining
until cash payments begin, prevailing interest rates, liquidity of the security
and the perceived credit quality of the issuer. Pay-in-kind securities are those
that pay interest through the issuance of additional units of the same
securities. The market prices of zero coupon and pay-in-kind securities
generally are more volatile than the prices of securities that pay interest
19
<PAGE>
periodically and in cash and are likely to respond to changes in interest rates
to a greater degree than do other types of debt securities having similar
maturities and credit value.
INDUSTRY CLASSIFICATIONS
For purposes of determining industry classifications, the Funds rely upon
classifications established by the Manager that are based upon classifications
contained in the Directory of Companies Filing Annual Reports with the SEC and
in the Standard & Poor's Corporation Industry Classifications.
INVESTMENT LIMITATIONS
In addition to the limits disclosed in "Investment Policies" above and the
investment limitations described in the Prospectus, the Funds are subject to the
following investment limitations that are fundamental policies and may not be
changed without the vote of a majority of the outstanding voting securities of
the applicable Fund. Under the 1940 Act, a "vote of a majority of the
outstanding voting securities" of a Fund means the affirmative vote of the
lesser of (1) more than 50% of the outstanding shares of the Fund or (2) 67% or
more of the shares present at a shareholders meeting if more than 50% of the
outstanding shares are represented at the meeting in person or by proxy.
BORROWING MONEY. Neither Fund may borrow money, except from banks as a
temporary measure for extraordinary or emergency purposes including the meeting
of redemption requests that might require the untimely disposition of
securities. The payment of interest on such borrowings will reduce the Funds'
net investment income during the period of such borrowing. Borrowing in the
aggregate may not exceed 15% and borrowing for purposes other than meeting
redemptions may not exceed 5% of a Fund's total assets at the time the borrowing
is made. A Fund will not make additional investments when borrowings exceed 5%
of its total assets.
DIVERSIFICATION. Neither Fund will invest more than 5% of its total assets
in securities of any one issuer other than the U.S. Government or its agencies
or instrumentalities or buy more than 10% of the voting securities or any other
class of securities of any issuer.
INDUSTRY CONCENTRATION. Neither Fund will purchase securities if, as a
result, more than 25% of its total assets would be invested in any one industry
with the exception of U.S. Government securities.
20
<PAGE>
INVESTING IN COMMODITIES, MINERALS OR REAL ESTATE. Neither Fund may invest
in commodities, commodity contracts, oil, gas or other mineral programs, real
estate limited partnerships, or real estate, except that it may (1) purchase
securities secured by real estate, or issued by companies that invest in or
sponsor such interests, (2) futures contracts and options and (3) engage in
transactions in forward commitments.
UNDERWRITING. Neither Fund may underwrite the securities of other issuers,
except that a Fund may invest in securities that are not readily marketable
without registration under the Securities Act of 1933, as amended (the "1933
Act") (restricted securities), as provided in the Fund's prospectus and this
Statement of Additional Information.
LOANS. Neither Fund may make loans, except to the extent that the purchase
of a portion of an issue of publicly distributed or privately placed notes,
bonds or other evidences of indebtedness or deposits with banks and other
financial institutions may be considered loans, and further provided that a Fund
may enter into repurchase agreements and securities loans as permitted under the
Fund's investment policies. Privately placed securities typically are either
restricted as to resale or may not have readily available market quotations, and
therefore may not be as liquid as other securities.
ISSUING SENIOR SECURITIES. Neither Fund may issue senior securities,
except as permitted by the investment objectives and policies and investment
limitations of that Fund.
SELLING SHORT AND BUYING ON MARGIN. Neither Fund may sell any securities
short, purchase any securities on margin or maintain a short position in any
security, but may obtain such short-term credits as may be necessary for
clearance of purchase and sales of securities; provided, however, the Funds may
make margin deposits and may maintain short positions in connection with the use
of options, futures contracts and options on futures contracts as described
previously.
INVESTING IN ISSUERS WHOSE SECURITIES ARE OWNED BY OFFICERS AND TRUSTEES
OF THE TRUST. Neither Fund may purchase or retain the securities of any issuer
if the officers and Trustees of the Trust or the Manager or its Subadviser, as
applicable, own individually more than 1/2 of 1% of the issuer's securities or
together own more than 5% of the issuer's securities.
21
<PAGE>
REPURCHASE AGREEMENTS AND LOANS OF PORTFOLIO SECURITIES. Neither Fund may
enter into repurchase agreements with respect to more than 25% of its total
assets or lend portfolio securities amounting to more than 25% of its total
assets.
Each Fund has adopted the following additional restrictions that, together
with certain limits described in the prospectus, are nonfundamental policies and
may be changed by the Board of Trustees without shareholder approval in
compliance with applicable law, regulation or regulatory policy.
INVESTING IN INVESTMENT COMPANIES. Neither Fund may invest in securities
issued by other investment companies, except as permitted by the 1940 Act.
ILLIQUID SECURITIES. Government may not invest more than 10% of its net
assets in the aggregate in repurchase agreements of more than seven days'
duration, in securities without readily available market quotations, and in
restricted securities including privately placed securities. High Yield has a
similar limitation, however, it may invest up to 25% of its net assets in
restricted securities that are sold in reliance on Rule 144A deemed to be liquid
pursuant to Board-approved guidelines, when combined with the 10% limit on the
purchase of illiquid securities.
Except with respect to borrowing money, if a percentage limitation is
adhered to at the time of the investment, a later increase or decrease in the
percentage resulting from any change in value or net assets will not result in a
violation of such restriction. If at any time, a Fund's borrowing exceeds its
limitations due to a decline in net assets, such borrowing will be promptly
reduced to the extent necessary to comply with the limitation.
NET ASSET VALUE
The net asset value per share of A shares, B shares and C shares is
determined separately daily as of the close of regular trading on the New York
Stock Exchange (the "Exchange") each day the Exchange is open for business.
22
<PAGE>
A security listed or traded on the Exchange, or other stock exchanges, is
valued at its last sales price on the principal exchange on which it is traded
prior to the time when assets are valued. If no sale is reported at that time or
the security is traded in the OTC market, the most recent bid price is used.
When market quotations for options and futures positions held by a Fund are
readily available, those positions will be valued based upon such quotations.
Market quotations generally will not be available for options traded in the OTC
market. Securities and other assets for which market quotations are not readily
available, or for which market quotes are not deemed to reliable, are valued at
fair value as determined in good faith by the Board of Trustees. Securities and
other assets in foreign currency will be valued daily in U.S. dollars at the
foreign currency exchange rates prevailing at the time High Yield calculates the
daily net asset value of each class. Short-term investments having a maturity of
60 days or less are valued at cost with accrued interest or discount earned
included in interest receivable.
Each Fund is open for business on days on which the Exchange is open (each
a "Business Day"). Trading in securities on European and Far Eastern securities
exchanges and OTC markets normally is completed well before the Funds' close of
business on each Business Day. In addition, European or Far Eastern securities
trading may not take place on all Business Days. Furthermore, trading takes
place in various foreign capital markets on days that are not Business Days and
on which the Funds do not calculate net asset value. Calculation of A shares, B
shares and C shares net asset value does not take place contemporaneously with
the determination of the prices of the majority of the portfolio securities used
in such calculation. The Funds calculate net asset value per share, and
therefore, effect sales and redemptions as of the close of regular trading on
the Exchange each Business Day. If events materially affecting the value of such
securities occur between the time when their prices are determined and the time
when the Funds' net asset value is calculated, such securities and other assets
will be valued at fair value by methods as determined in good faith by or under
the direction of the Board of Trustees.
The Board may suspend the right of redemption or postpone payment for more
than seven days at times (1) during which the Exchange is closed other than for
customary weekend and holiday closings, (2) during which trading on the Exchange
is restricted as determined by the SEC, (3) during which an emergency exists as
a result of which disposal by a Fund of securities owned by it is not reasonably
practicable or it is not reasonably practical for the Fund fairly to determine
the value of its net assets, or (4) for such other
23
<PAGE>
periods as the SEC may by order permit for the protection of the holders of Fund
shares.
PERFORMANCE INFORMATION
The Funds' performance data quoted in advertising and other promotional
materials represents past performance and is not intended to indicate future
performance. 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. Average annual total return quotes for each class used
in each Fund's advertising and promotional materials are calculated according to
the following formula:
P(1+T)n(SUPERSCRIPT) = ERV
where: P = a hypothetical initial payment of $1,000
T = average annual total return
n = number of years
ERV = ending redeemable value of a hypothetical $1,000 payment
made at the beginning of the 1, 5, 10 year period (or
fractional portion thereof)
In calculating the ending redeemable value for A shares, each Fund's
current maximum sales load of 3.75% is deducted from the initial $1,000 payment
and, for B shares and C shares, the applicable CDSL imposed on a redemption of B
shares or C shares held for the period is deducted. All dividends and other
distributions by each Fund are assumed to have been reinvested at net asset
value on the reinvestment dates during the period. Based on this formula, the
total return, or "T" in the formula above, is computed by finding the average
annual compounded rates of return over the period that would equate the initial
amount invested to the ending redeemable value.
The average annualized total return for High Yield A shares for the period
March 1, 1990 (commencement of operations) to September 30, 1997, for the
five-year period ended September 30, 1997, and for the fiscal year ended
September 30, 1997 was 9.79%, 7.75% and 9.73%, respectively. The average
annualized total return for Government A shares for the same periods was 4.95%,
3.34% and 3.25%, respectively. The average annualized total return for High
Yield C shares for the period April 3, 1995 (first offering of C shares) to
September 30, 1997, and for the fiscal year ended September 30, 1997 was 13.33%
and 13.53%, respectively. The average annualized total return for Government C
shares for the same periods was 6.01% and 7.02%, respectively.
24
<PAGE>
In connection with communicating its total return to current or
prospective shareholders, each Fund also may compare these figures to the
performance of other mutual funds tracked by mutual fund rating services or to
other unmanaged indexes that may assume reinvestment of dividends but generally
do not reflect deductions for administrative and management costs. In addition,
each Fund from time to time may include in advertising and promotional materials
total return figures that are not calculated according to the formula set forth
above for each class of shares. For example, in comparing High Yield's A shares,
B shares or C shares total return with such market indices as the Lehman
Brothers Government Corporate Composite Index and the Merrill Lynch Domestic
Master Index, and Government's A shares, B shares or C shares total return with
such market indices as the Lehman Brothers Government Composite Index, the
Lehman Intermediate Government Corporate Index and the Lipper United States
Government Fund Average, each class of each Fund calculates its aggregate total
return for each class for the specified periods of time by assuming an
investment of $10,000 in that class of shares and assuming the reinvestment of
each dividend or other distribution at net asset value on the reinvestment date.
Percentage increases are determined by subtracting the initial value of the
investment from the ending value and by dividing the remainder by the beginning
value. The Funds do not, for these purposes, deduct from the initial value
invested any amount representing front-end sales loads charged on A shares or
CDSLs charged on B shares and C shares.
The High Yield A shares cumulative returns using this formula for the year
and five years ended September 30, 1997, and for the period March 1, 1990
(commencement of operations) to September 30, 1997 were 14.0%, 50.94% and
111.06%, respectively. The cumulative returns for Government A shares for the
same periods were 7.28%, 22.46% and 49.96%, respectively. Cumulative returns for
High Yield C shares for the period April 3, 1995 (first offering of C shares) to
September 30, 1997, and for the fiscal year ended September 30, 1997 were 33.72%
and 13.53%, respectively. Cumulative returns for Government C shares for the
same periods were 15.67% and 7.02%, respectively. By not annualizing the
performance and excluding the effect of the front-end sales load on A shares and
the CDSL on B shares and C shares, total return calculated in this manner simply
will reflect the increase in net asset value per share over a period of time,
adjusted for dividends and other distributions. Calculating total return without
taking into account the front-end sales load or CDSL results in a higher rate of
return than calculating total return net of the sales load or CDSL.
25
<PAGE>
Yields used in each Fund's performance advertisements for each class are
calculated by dividing each Fund's interest income for a thirty-day period
("Period") attributable to that class, net of expenses attributable to that
class, by the average number of shares of that class entitled to receive
dividends during the Period, and expressing the result as an annualized
percentage (assuming semi-annual compounding) of the maximum offering price per
share at the end of the Period. Yield quotations are calculated according to the
following formula:
YIELD = 2x[(a-b+1)6(SUPERSCRIPT)-1]
-----
c x d
where: a = 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 a dividend;
and
d = the maximum offering price per share on the last day
of the Period.
Except as noted below, in determining net investment income earned during
the Period (variable "a" in the above formula), each Fund calculates interest
earned on each debt obligation held by it during the Period by (1) computing the
obligation's yield to maturity, based on the market value of the obligation
(including actual accrued interest) to determine the interest income on the
obligation for each day of the Period that the obligation is in the Fund. Once
interest earned is calculated in this fashion for each debt obligation held by
the Fund, interest earned during the Period is then determined by totalling the
interest earned on all debt obligations. For purposes of these calculations, the
maturity of an obligation with one or more call provisions is assumed to be the
next date on which the obligation reasonably can be expected to be called or, if
none, the maturity date. At September 30, 1997, the 30-day yield for High Yield
and Government A shares was 7.82% and 5.60%, respectively. At September 30,
1997, the 30-day yield for High Yield and Government C shares was 7.62% and
5.54%, respectively.
INVESTING IN THE FUNDS
The options below allow you to invest continually in either Fund at
regular intervals.
26
<PAGE>
A shares, B shares and C shares of each Fund are sold at their next
determined net asset value on Business Days. The procedures for purchasing
shares of a Fund are explained in the Prospectus under "Purchase Procedures."
SYSTEMATIC INVESTMENT OPTIONS
1. Systematic Investing -- You may authorize the Manager to process a
monthly draft from your personal checking account for investment into the Trust.
The draft is returned by your bank the same way a canceled check is returned.
2. Payroll Direct Deposit -- If your employer participates in a direct
deposit program (also known as ACH Deposits) you may have all or a portion of
your payroll directed to the Trust. This will generate a purchase transaction
each time you are paid by your employer. Your employer will report to you the
amount sent from each paycheck.
3. Government Direct Deposit -- If you receive a qualifying periodic
payment from the U.S. Government or other agency that participates in Direct
Deposit, you may have all or a part of each check directed to purchase shares of
the Trust. The U.S. Government or agency will report to you all payments made.
4. Automatic Exchange -- If you own shares of another Heritage mutual fund
advised or administered by the Manager ("Heritage Mutual Fund"), you may elect
to have a preset amount redeemed from that fund and exchanged into the
corresponding class of shares of the Trust. You will receive a statement from
the other Heritage Mutual Fund confirming the redemption.
You may change or terminate any of the above options at any time.
RETIREMENT PLANS
HERITAGE IRA. Individuals who earn compensation and who have not reached
age 70 1/2 before the close of the year generally may establish a Heritage
Individual Retirement Account ("IRA"). An individual may make limited
contributions to a Heritage IRA through the purchase of shares of a Fund and/or
other Heritage Mutual Funds. The Internal Revenue Code of 1986, as amended (the
"Code"), limits the deductibility of IRA contributions to taxpayers who are not
active participants (and whose spouses are not active participants) in
employer-provided retirement plans or who have adjusted gross income below
certain levels. Nevertheless, the Code permits other individuals to make
nondeductible IRA contributions up to $2,000 per year (or $4,000, if such
27
<PAGE>
contributions also are made for a nonworking spouse and a joint return is
filed). In addition, individuals whose earnings (together with their spouse's
earnings) do not exceed a certain level may establish an "education IRA" and/or
a "Roth IRA"; although contributions to these new types of IRAs (established by
the Taxpayer Relief Act of 1997 ("Tax Act")) are nondeductible, withdrawals from
them will not be taxable under certain circumstances. A Heritage IRA also may be
used for certain "rollovers" from qualified benefit plans and from Section
403(b) annuity plans. For more detailed information on the Heritage IRA, please
contact the Manager.
Fund shares also may be used as the investment medium for qualified plans
(defined benefit or defined contribution plans established by corporations,
partnerships or sole proprietorships). Contributions to qualified plans may be
made (within certain limits) on behalf of the employees, including
owner-employees, of the sponsoring entity.
OTHER RETIREMENT PLANS. Multiple participant payroll deduction retirement
plans also may purchase A shares of any Heritage Mutual Fund at a reduced sales
load on a monthly basis during the 13-month period following such a plan's
initial purchase. The sales load applicable to an initial purchase of A shares
will be that normally applicable under the schedule of sales loads set forth in
the Prospectus to an investment 13 times larger than such initial purchase. The
sales load applicable to each succeeding monthly purchase of A shares will be
that normally applicable, under such schedule, to an investment equal to the sum
of (1) the total purchase previously made during the 13-month period and (2) the
current month's purchase multiplied by the number of months (including the
current month) remaining in the 13-month period. Sales loads previously paid
during such period will not be adjusted retroactively on the basis of later
purchases. Multiple participant payroll deduction retirement plans may purchase
B shares and C shares at any time.
CLASS A COMBINED PURCHASE PRIVILEGE (RIGHT OF ACCUMULATION)
Certain investors may qualify for the Class A sales load reductions
indicated in the sales load schedule in the Prospectus by combining purchases of
A shares of a Fund into a single "purchase," if the resulting purchase totals at
least $25,000. The term "purchase" refers to a single purchase by an individual,
or to concurrent purchases that, in the aggregate, are at least equal to the
prescribed amounts, by an individual, his spouse and their children under the
age of 21 years purchasing A shares of a Fund for his or their own account; a
28
<PAGE>
single purchase by a trustee or other fiduciary purchasing A shares for a single
trust, estate or single fiduciary account although more than one beneficiary is
involved; or a single purchase for the employee benefit plans of a single
employer. The term "purchase" also includes purchases by a "company," as the
term is defined in the 1940 Act, but does not include purchases by any such
company that has not been in existence for at least six months or that has no
purpose other than the purchase of A shares of a Fund or shares of other
registered investment companies at a discount; provided, however, that it shall
not include purchases by any group of individuals whose sole organizational
nexus is that the participants therein are credit card holders of a company,
policy holders of an insurance company, customers of either a bank or
broker-dealer, or clients of an investment adviser. A "purchase" also may
include A shares purchased at the same time through a single selected dealer of
any other Heritage Mutual Fund that distributes its shares subject to a sales
load.
The applicable A shares initial sales load will be based on the total of:
(i) the investor's current purchase;
(ii) the net asset value (at the close of business on the previous
day) of (a) all A shares of a Fund held by the investor and (b) all A
shares of any other Heritage mutual fund advised or administered by the
Manager ("Heritage Mutual Fund") held by the investor and purchased at a
time when A shares of such other fund were distributed subject to a sales
load (including Heritage Cash Trust shares acquired by exchange); and
(iii) the net asset value of all A shares described in paragraph
(ii) owned by another shareholder eligible to combine his purchases with
that of the investor into a single "purchase."
A shares of Government purchased from February 1, 1992 through July 31,
1992, without payment of a sales load will be deemed to fall under the
provisions of paragraph (ii) as if they had been distributed without being
subject to a sales load, unless those shares were acquired through an exchange
of other shares that were subject to a sales load.
To qualify for the Combined Purchase Privilege on a purchase through a
selected dealer, the investor or selected dealer must provide Raymond James &
29
<PAGE>
Associates, Inc. (the "Distributor") with sufficient information to verify that
each purchase qualifies for the privilege or discount.
CLASS A STATEMENT OF INTENTION
Investors also may obtain the reduced sales loads shown in the Prospectus
by means of a written Statement of Intention, which expresses the investor's
intention to invest not less than $25,000 within a period of 13 months in A
shares of a Fund or any other Heritage Mutual Fund. Each purchase of A shares
under a Statement of Intention will be made at the public offering price or
prices applicable at the time of such purchase to a single transaction of the
dollar amount indicated in the Statement. In addition, if you own Class A shares
of any other Heritage Mutual Fund subject to a sales load, you may include those
shares in computing the amount necessary to qualify for a sales load reduction.
The Statement of Intention is not a binding obligation upon the investor
to purchase the full amount indicated. The minimum initial investment under a
Statement of Intention is 5% of such amount. A shares purchased with the first
5% of such amount will be held in escrow (while remaining registered in the name
of the investor) to secure payment of the higher sales load applicable to the
shares actually purchased if the full amount indicated is not purchased, and
such escrowed A shares will be involuntarily redeemed to pay the additional
sales load, if necessary. When the full amount indicated has been purchased, the
escrow will be released. To the extent an investor purchases more than the
dollar amount indicated on the Statement of Intention and qualifies for a
further reduced sales load, the sales load will be adjusted for the entire
amount purchased at the end of the 13-month period. The difference in sales load
will be used to purchase additional A shares of a Fund, subject to the rate of
sales load applicable to the actual amount of the aggregate purchases. An
investor may amend his/her Statement of Intention to increase the indicated
dollar amount and begin a new 13-month period. In that case, all investments
subsequent to the amendment will be made at the sales load in effect for the
higher amount. The escrow procedures discussed above will apply.
REDEEMING SHARES
The methods of redemption are described in the section of the Prospectus
entitled "How to Redeem Shares."
30
<PAGE>
SYSTEMATIC WITHDRAWAL PLAN
Shareholders may elect to make systematic withdrawals from their Fund
account of a minimum of $50 on a periodic basis. The amounts paid each period
are obtained by redeeming sufficient shares from an account to provide the
withdrawal amount specified. The Systematic Withdrawal Plan currently is not
available for shares held in an Individual Retirement Account, Section 403(b)
annuity plan, defined contribution plan, Simplified Employee Pension Plan or
other retirement plans, unless the shareholder establishes to the Manager's
satisfaction that withdrawals from such an account may be made without
imposition of a penalty. Shareholders may change the amount to be paid without
charge not more than once a year by written notice to the Distributor or the
Manager.
Redemptions will be made at net asset value determined as of the close of
regular trading on the Exchange on a day of each month chosen by the
shareholders or a day of the last month of each period chosen by the
shareholders, whichever is applicable. Systematic withdrawals of C shares, if
made less than one year of the date of purchase, will be charged a CDSL of 1%,
and B shares, if made within the eight-year holding period, will be charged the
applicable CDSL for the holding period. If the Exchange is not open for business
on that day, the shares will be redeemed at net asset value determined as of the
close of regular trading on the Exchange on the preceding Business Day, minus
any applicable CDSL for B shares and C shares. If a shareholder elects to
participate in the Systematic Withdrawal Plan, dividends and other distributions
on all shares in the account must be reinvested automatically in Fund shares. A
shareholder may terminate the Systematic Withdrawal Plan at any time without
charge or penalty by giving written notice to the Manager or the Distributor.
The Funds, their transfer agent, and Distributor also reserve the right to
modify or terminate the Systematic Withdrawal Plan at any time.
Withdrawal payments are treated as a sale of shares rather than as a
dividend or a capital gain distribution. These payments are taxable to the
extent that the total amount of the payments exceeds the tax basis of the shares
sold. If the periodic withdrawals exceed reinvested dividends and other
distributions, the amount of the original investment may be correspondingly
reduced.
Ordinarily, a shareholder should not purchase additional A shares of a
Fund if maintaining a Systematic Withdrawal Plan of A shares because the
shareholder may incur tax liabilities in connection with such purchases and
withdrawals. A Fund will not knowingly accept purchase orders from shareholders
for additional A shares if they maintain a Systematic Withdrawal Plan unless the
purchase is equal to at least one year's scheduled withdrawals. In addition, a
31
<PAGE>
shareholder who maintains such a Plan may not make periodic investments under
each Fund's Automatic Investment Plan.
TELEPHONE TRANSACTIONS
Shareholders may redeem shares by placing a telephone request to a Fund.
The Trust, Manager, Distributor and their Trustees, directors, officers and
employees are not liable for any loss arising out of telephone instructions they
reasonably believe are authentic. In acting upon telephone instructions, these
parties use procedures that are reasonably designed to ensure that such
instructions are genuine, such as (1) obtaining some or all of the following
information: account number, name(s) and social security number registered to
the account, and personal identification; (2) recording all telephone
transactions; and (3) sending written confirmation of each transaction to the
registered owner. If the Trust, Manager, Distributor and their Trustees,
directors, officers and employees do not follow reasonable procedures, some or
all of them may be liable for any such losses.
REDEMPTIONS IN KIND
The Trust is obligated to redeem shares of each Fund for any shareholder
for cash during any 90-day period up to $250,000 or 1% of the Fund's net asset
value, whichever is less. Any redemption beyond this amount also will be in cash
unless the Board of Trustees determine that further cash payments will have a
material adverse effect on remaining shareholders. In such a case, the Fund will
pay all or a portion of the remainder of the redemption in portfolio
instruments, valued in the same way as the Fund determines net asset value. The
portfolio instruments will be selected in a manner that the Board of Trustees
deem fair and equitable. A redemption in kind is not as liquid as a cash
redemption. If a redemption is made in kind, a shareholder receiving portfolio
instruments could receive less than the redemption value thereof and could incur
certain transaction costs.
RECEIVING PAYMENT
If shares of a Fund are redeemed by a shareholder through the Distributor
or a participating dealer, the redemption is settled with the shareholder as an
ordinary transaction. If a request for redemption is received before the close
of regular trading on the Exchange, shares will be redeemed at the net asset
value per share determined on that day, minus any applicable CDSL for B shares
and C shares. Requests for redemption received after the close of regular
trading on the Exchange will be executed on the next trading day. Payment for
32
<PAGE>
shares redeemed normally will be made by a Fund to the Distributor or a
participating dealer by the third business day after the day the redemption
request was made, provided that certificates for shares have been delivered in
proper form for transfer to the Trust or, if no certificates have been issued, a
written request signed by the shareholder has been provided to the Distributor
or a participating dealer prior to settlement date.
Other supporting legal documents may be required from corporations or
other organizations, fiduciaries or persons other than the shareholder of record
making the request for redemption. Questions concerning the redemption of Fund
shares can be directed to registered representatives of the Distributor or a
participating dealer, or to the Manager.
EXCHANGE PRIVILEGE
An exchange is effected through the redemption of the shares tendered for
exchange and the purchase of shares being acquired at their respective net asset
values as next determined following receipt by the Heritage Mutual Fund whose
shares are being exchanged of (1) proper instructions and all necessary
supporting documents as described in such fund's prospectus, or (2) a telephone
request for such exchange in accordance with the procedures set forth in the
Prospectus and below. Telephone or telegram requests for an exchange received by
a Fund before the close of regular trading on the Exchange will be effected at
the close of regular trading on that day. Requests for an exchange received
after the close of regular trading will be effected on the Exchange's next
trading day.
A shares of Government purchased from February 1, 1992 through July 31,
1992, without payment of a front-end sales load may be exchanged into A shares
of another Heritage Mutual Fund without payment of any sales load. A shares of
Government purchased after July 31, 1992 without a front-end sales load will be
subject to a front-end sales load when exchanged into A shares of another
Heritage Mutual Fund, unless those shares were acquired through an exchange of
other shares that were subject to a front-end sales load.
CONVERSION OF CLASS B SHARES
B shares of each Fund automatically will convert to A shares, based on the
relative net asset values per share of the two classes, eight years after the
end of the calendar month in which the shareholder's order to purchase was
accepted. For the purpose of calculating the holding period required for
33
<PAGE>
conversion of B shares, the date of initial issuance shall mean (1) the date on
which such B shares were issued or (2) for B shares obtained through an
exchange, or a series of exchanges, the date on which the original B shares were
issued. For purposes of conversion to A shares, B shares purchased through the
reinvestment of dividends and other distributions paid in respect of B shares
will be held in a separate sub-account. Each time any B shares in the
shareholder's regular account (other than those in the sub-account) convert to A
shares, a pro rata portion of the B shares in the sub-account will also convert
to A shares. The portion will be determined by the ratio that the shareholder's
B shares converting to A shares bears to the shareholder's total B shares not
acquired through dividends and other distributions.
The availability of the conversion feature is subject to the continuing
availability of an opinion of counsel to the effect that the dividends and other
distributions paid on A shares and B shares will not result in "preferential
dividends" under the Code and the conversion of shares does not constitute a
taxable event. If the conversion feature ceased to be available, the B shares
would not be converted and would continue to be subject to the higher ongoing
expenses of the B shares beyond eight years from the date of purchase. Heritage
has no reason to believe that this condition for the availability of the
conversion feature will not be met.
TAXES
Each Fund is treated as a separate corporation for Federal income tax
purposes. In order to continue to qualify for the favorable tax treatment as a
regulated investment company ("RIC") under the Code, each Fund must distribute
annually to its shareholders at least 90% of its investment company taxable
income (generally consisting of net investment income and net short-term capital
gain and, in the case of High Yield, net gains from certain foreign currency
transactions) ("Distribution Requirement") and must meet several additional
requirements. With respect to each Fund, these requirements include the
following: (1) the Fund must 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 or futures contracts)
derived with respect to its business of investing in securities or those
currencies ("Income Requirement"); (2) at the close of each quarter of the
Fund's taxable year, at least 50% of the value of its total assets must be
represented by cash and cash items, U.S. Government securities, securities of
other RICs and other securities, with those other securities limited, in respect
34
<PAGE>
of any one issuer, to an amount that does not exceed 5% of the value of the
Fund's total assets and that does not represent more than 10% of the issuer's
outstanding voting securities; and (3) at the close of each quarter of the
Fund's taxable year, not more than 25% of the value of its total assets may be
invested in securities (other than U.S. Government securities or the securities
of other RICs) of any one issuer.
Each Fund will be subject to a nondeductible 4% excise tax ("Excise Tax")
to the extent it fails to distribute by the end of any calendar year
substantially all of its ordinary income for that year and its capital gain net
income for the one-year period ending on October 31 of that year, plus certain
other amounts.
A redemption of Fund shares will result in a taxable gain or loss to the
redeeming shareholder (which will be long-term capital gain, and subject to
Federal income tax at the rates indicated above, if the shares were held for
more than one year), 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 load paid on A shares). An exchange of shares of
either Fund for shares of another Heritage Mutual Fund generally will have
similar tax consequences. However, special rules apply when a shareholder
disposes of shares of a Fund through a redemption or exchange within 90 days
after purchase thereof and subsequently reacquires shares of that Fund or
acquires shares of another Heritage Mutual Fund (including the other Fund)
without paying a sales load due to the 90-day reinstatement or exchange
privilege. In these cases, any gain on the disposition of the original Fund
shares will be increased, or loss decreased, by the amount of the sales load
paid when those shares were acquired, and that amount will increase the adjusted
basis of the shares subsequently acquired. In addition, if Fund shares are
purchased (whether pursuant to the reinstatement privilege or otherwise) within
30 days before or after redeeming other shares of that Fund (regardless of
class) at a loss, all or a portion of that loss will not be deductible and will
increase the basis of the newly purchased shares.
If shares of a Fund are sold at a loss after being held for six months or
less, the loss will be treated as long-term, instead of short-term, capital loss
to the extent of any capital gain distributions received on those shares.
Investors also should be aware that if shares are purchased shortly before the
record date for a dividend or other distribution, the shareholder will pay full
price for the shares and receive some portion of the price back as a taxable
distribution.
35
<PAGE>
As of September 30, 1997, High Yield had a capital loss carryforward of
$755,051, which may be applied against any net realized capital gains until its
expiration dates of September 30, 2003 (as to $706,795), and September 30, 2004
(as to $48,256).
As of September 30, 1997, Government had a capital loss carryforward of
$7,246,344, which may be applied against any net realized capital gains until
its expiration dates of September 30, 2001 (as to $388,071), September 30, 2002
(as to $3,838,721), September 30, 2003 (as to $2,492,779) and September 30, 2004
(as to $526,773). In addition, from November 1, 1996 to September 30, 1997,
Government realized $129,884 of net capital losses, which will be deferred and
treated as arising on October 1, 1997, in accordance with regulations under the
Code.
HEDGING STRATEGIES. The use of hedging strategies, such as purchasing and
selling (writing) options and futures contracts, involves complex rules that
will determine for income tax purposes the amount, character and timing of
recognition of the gains and losses each Fund realizes in connection therewith.
Gains realized by High Yield from the disposition of foreign currencies (except
certain gains that may be excluded by future regulations), and gains from
options and futures contracts derived by a Fund with respect to its business of
investing in securities or, for High Yield, foreign currencies, will qualify as
permissible income under the Income Requirement.
ORIGINAL ISSUE DISCOUNT AND PAY-IN-KIND SECURITIES. High Yield may acquire
zero coupon or other securities issued with original issue discount ("OID"). As
a holder of those securities, High Yield must include in its income the OID that
accrues thereon during the taxable year, even if it receives no corresponding
payment on them during the year. Similarly, High Yield must include in its gross
income securities it receives as "interest" on pay-in-kind securities. Because
High Yield annually must distribute substantially all of its investment company
taxable income, including any OID and other non-cash income, to satisfy the
Distribution Requirement and avoid imposition of the Excise Tax, it may be
required in a particular year to distribute as a dividend an amount that is
greater than the total amount of cash it actually receives. Those distributions
will be made from High Yield's cash assets or from the proceeds of sales of
portfolio securities, if necessary. High Yield may realize capital gains or
losses from those sales, which would increase or decrease its investment company
taxable income and/or net capital gain (the excess of net long-term capital gain
over net short-term capital loss).
36
<PAGE>
High Yield may invest in debt securities that are purchased with "market
discount," including Brady Bonds and other sovereign debt securities. For these
purposes, market discount is the amount by which a security's purchase price is
exceeded by its stated redemption price at maturity or, in the case of a
security that was issued with OID, the sum of its issue price plus accrued OID,
except that market discount less than the product of (1) 0.25% of the redemption
price at maturity times (2) the number of complete years to maturity after the
taxpayer acquired the security is disregarded. Gain on the disposition of such a
security purchased by High Yield (other than a security with a fixed maturity
date within one year from its issuance), generally is treated as ordinary
income, rather than capital gain, to the extent of the security's accrued market
discount at the time of disposition. In lieu of treating the disposition gain as
above, High Yield may elect to include all market discount (for the taxable year
in which it makes the election and all subsequent taxable years) in its gross
income currently, for each taxable year to which the discount is attributable.
Investors are advised to consult their own tax advisers regarding the
status of an investment in the Funds under state and local tax laws.
TRUST INFORMATION
MANAGEMENT OF THE TRUST
TRUSTEES AND OFFICERS. Trustees and officers are listed below with
their addresses, principal occupations and present positions, including any
affiliation with Raymond James Financial, Inc. ("RJF"), RJA and the Manager.
Position with Principal Occupation
Name the Trust During Past Five Years
---- ------------- ----------------------
Thomas A. James* (55) Trustee Chairman of the Board since 1986
880 Carillon Parkway and Chief Executive Officer since
St. Petersburg, FL 1969 of RJF; Chairman of the
33716 Board of RJA since 1986; Chairman
of the Board of Eagle Asset
Management, Inc. ("Eagle") since
1984 and Chief Executive Officer
of Eagle, 1994 to 1996.
37
<PAGE>
Position with Principal Occupation
Name the Trust During Past Five Years
---- ------------- ----------------------
Richard K. Riess* (48) Trustee Chief Executive Officer of Eagle
880 Carillon Parkway since 1996, President, 1995 to
St. Petersburg, FL present, Chief Operating Officer,
33716 1988 to 1996, Executive Vice
President, 1988 to 1993.
Donald W. Burton* (53) Trustee President of South Atlantic
614 W. Bay Street Capital Corporation (venture
Suite 200 capital) since 1981.
Tampa, FL 33606
C. Andrew Graham (57) Trustee Vice President of Financial
Financial Designs, Ltd. Designs Ltd. since 1992;
1775 Sherman Street Executive Vice President of the
Suite 1900 Madison Group, Inc., 1991 to
Denver, CO 80203 1992; Principal of First Denver
Financial Corporation (investment
banking) since 1987.
David M. Phillips (58) Trustee Chairman and Chief Executive
World Trade Center Officer of CCC Information
Chicago Services, Inc. since 1994 and of
444 Merchandise Mart InfoVest Corporation (information
Chicago, IL 60654 services to the insurance and
auto industries and consumer
households) since 1982.
Eric Stattin (64) Trustee Litigation Consultant/Expert 1975
Evening Star Drive Witness and
private investor Park City, UT
84060 since 1988.
James L. Pappas (54) Trustee Lykes Professor of Banking and
University of South Finance since 1986 at University
Florida of South Florida; Dean of College
College of Business of Business Administration, 1987
Administration to 1996.
Tampa, FL 33620
Stephen G. Hill (38) President Chief Executive Officer and
880 Carillon Parkway President of the Manager since
St. Petersburg, FL 1989 and Director since 1994;
33716 Director of Eagle since 1995.
38
<PAGE>
Position with Principal Occupation
Name the Trust During Past Five Years
---- ------------- ----------------------
Donald H. Glassman (40) Treasurer Treasurer of the Manager since
880 Carillon Parkway 1989; Treasurer of Heritage
St. Petersburg, FL Mutual Funds since 1989.
33716
Clifford J. Secretary Partner, Kirkpatrick & Lockhart
Alexander (53) LLP (law firm).
1800 Massachusetts
Ave., N.W.
Washington, DC 20036
Patricia Schneider (56) Assistant Compliance Administrator of the
880 Carillon Parkway Secretary Manager.
St. Petersburg, FL
33716
Robert J. Zutz (44) Assistant Partner, Kirkpatrick & Lockhart
1800 Massachusetts Secretary LLP (law firm).
Ave., N.W.
Washington, DC 20036
* These Trustees are "interested persons" as defined in
section 2(a)(19) of the 1940 Act.
The Trustees and officers of the Trust as a group, own less than 1% of
each class of each Fund's shares outstanding. The Trust's Declaration of Trust
provides that the Trustees will not be liable for errors of judgment or mistakes
of fact or law. However, they are not protected against any liability to which
they would otherwise be subject by reason of willful misfeasance, bad faith,
gross negligence or reckless disregard of the duties involved in the conduct of
their office.
The Trust currently pays Trustees who are not employees of the Manager or
its affiliates $1,333.33 annually and $500 per meeting of the Board of Trustees.
Trustees also are reimbursed for any expenses incurred in attending meetings.
Because the Manager performs substantially all of the services necessary for the
operation of the Fund, the Fund requires no employees. No officer, director or
employee of the Manager receives any compensation from the Fund for acting as a
director or officer. The following table shows the compensation earned by each
Trustee for the fiscal year ended September 30, 1997.
39
<PAGE>
COMPENSATION TABLE
Total
Pension or Estimated Compensation From
Aggregate Retirement Annual the Trust and the
Compensation Benefits Accrued Benefits Heritage Family
Name of Person, From the as Part of the Upon of Funds Paid
Position Trust Trust's Expenses Retirement to Trustees
-------- ----- ---------------- ---------- -----------
Donald W. $2,909 $0 $0 $16,000
Burton, Trustee
C. Andrew $2,909 $0 $0 $16,000
Graham, Trustee
David M. $2,182 $0 $0 $12,000
Phillips,
Trustee
Eric Stattin, $2,909 $0 $0 $16,000
Trustee
James L. $2,545 $0 $0 $14,000
Pappas, Trustee
Richard K. $0 $0 $0 $0
Riess, Trustee
Thomas A. $0 $0 $0 $0
James, Trustee
FIVE PERCENT SHAREHOLDERS
As of January 13, 1998, the following shareholders owned of record or were
known by the Funds to own beneficially five percent or more of the outstanding C
shares of Government.
Name and Address Percent Owned
- ---------------- -------------
David S. Knapp 7.07%
Catherine Y. Knapp JTWROS
2265 SW 15th Street
Ft. Lauderdale, FL 33312
Raymond James & Assoc Inc 6.30%
Cust Daniel E Bonbrisco
PO Box 12749
St. Petersburg, FL 33733-2749
Raymond James & Assoc Inc. 5.25%
Cust Gerry A. Gilpin
PO Box 12749
St. Petersburg, FL 33733-2749
William Munro Trste 10.64%
For Munro Sales Target Ben Plan
G-4136 Holiday Dr
Flint, MI 48567
40
<PAGE>
Morongo Band of Mission Indians 8.33%
Administrative Reserve Account
11581 Portero Rd
Banning, CA 92220-6946
Morongo Band of Mission Indians 8.43%
Designated Reserves Account
Attn: Elaine Mathews
11581 Portero Rd
Banning, CA 92220-6946
Ronald J. Bowers 15.52%
Gdn Giles A. Hosch
PO Box 4407
Salisbury, NC 28145-4407
INVESTMENT ADVISER AND ADMINISTRATOR; SUBADVISER
The Trust's investment adviser and administrator, Heritage Asset
Management, Inc., was organized as a Florida corporation in 1985. All the
capital stock of the Manager is owned by RJF. RJF is a holding company that,
through its subsidiaries, is engaged primarily in providing customers with a
wide variety of financial services in connection with securities, limited
partnerships, options, investment banking and related fields.
Under an Investment Advisory and Administration Agreement ("Advisory
Agreement") dated January 19, 1990, between the Trust, on behalf of the Funds,
and the Manager, and subject to the control and direction of the Board of
Trustees, the Manager is responsible for reviewing and establishing investment
policies for the Trust as well as administering the Trust's noninvestment
affairs. Under a Subadvisory Agreement, dated February 1, 1996, the Subadviser,
subject to direction by the Manager and Board of Trustees, will provide
investment advice and portfolio management services to High Yield for a fee
payable by the Manager.
The Manager also is obligated to furnish the Trust with office space,
administrative, and certain other services as well as executive and other
personnel necessary for the operation of the Trust. The Manager and its
affiliates also pay all the compensation of Trustees of the Trust who are
employees of the Manager and its affiliates. Each Fund pays all its other
41
<PAGE>
expenses that are not assumed by the Manager. Each Fund also is liable for such
nonrecurring expenses as may arise, including litigation to which the Trust may
be a party. Each Fund also may have an obligation to indemnify Trustees and
officers of the Trust with respect to any such litigation.
The Advisory Agreement and the Subadvisory Agreement each were approved by
the Board of Trustees of the Trust (including all of the Trustees who are not
"interested persons" of the Manager or Subadviser, as defined under the 1940
Act) and the shareholders of the applicable Fund, in compliance with the 1940
Act. Each Agreement provides that it will be in force for an initial two- year
period and it must be approved each year thereafter by (1) a vote, cast in
person at a meeting called for that purpose, of a majority of those Trustees who
are not "interested persons" of the Manager, Subadviser or the Trust, and by (2)
the majority vote of either the full Board of Trustees or the vote of a majority
of the outstanding shares of each applicable Fund. The Advisory and Subadvisory
Agreements each automatically terminates on assignment, and each is terminable
on not more than 60 days' written notice by the Trust to either party. In
addition, the Advisory Agreement may be terminated on not less than 60 days'
written notice by the Manager to the Trust and the Subadvisory Agreement may be
terminated on not less than 60 days' written notice by the Manager or 90 days'
written notice by the Subadviser. Under the terms of the Advisory Agreement, the
Manager automatically becomes responsible for the obligations of the Subadviser
upon termination of the Subadvisory Agreement. In the event the Manager ceases
to be the manager of the Trust or the Distributor ceases to be principal
distributor of each Fund's shares, the right of the Trust to use the identifying
name of "Heritage" may be withdrawn.
The Manager and Subadviser shall not be liable to the Trust or any
shareholder for anything done or omitted by them, except acts or omissions
involving willful misfeasance, bad faith, gross negligence or reckless disregard
of the duties imposed upon them by their agreements with the Trust or for any
losses that may be sustained in the purchase, holding or sale of any security.
All of the officers of the Trust except for Messrs. Alexander and Zutz are
officers or directors of the Manager. These relationships are described under
"Management of the Trust."
ADVISORY AND ADMINISTRATION FEE. The annual investment advisory fee paid
monthly by each Fund to the Manager is based on the applicable Fund's average
daily net assets as listed in the Prospectus. The Manager has entered into an
agreement with the Subadviser wherein the Subadviser will provide investment
42
<PAGE>
advice and portfolio management services to High Yield for an annual fee paid by
the Manager equal to 50% of the annual investment advisory fee paid to the
Manager, without regard to any reduction in fees actually paid to the Manager as
a result of voluntary fee waivers by the Manager.
For High Yield, the Manager voluntarily has agreed to waive management
fees to the extent that total annual operating expenses attributable to A shares
exceed 1.25% of the average daily net assets or to the extent that total annual
operating expenses attributable to B shares and C shares each exceed 1.70% of
average daily net assets attributable to that class for this fiscal year. For
the fiscal years ended September 30, 1995, 1996 and 1997 management fees
amounted to $194,363, $200,042 and $287,069, respectively. For the same periods,
the Manager waived its fees in the amounts of $83,663, $94,308 and $45,839,
respectively. For the fiscal year ended September 30, 1995 and for the period
October 1, 1995 through January 31, 1996, the Manager paid subadvisory fees to
Eagle Asset Management, Inc., High Yield's former subadviser, of $48,591 and
$15,507, respectively for such Fund, and paid subadvisory fees to Salomon for
the period February 1, 1996 through September 30, 1996 and the fiscal year ended
September 30, 1997, of $69,007 and $143,535, respectively.
For Government, the Manager voluntarily has agreed to waive its fees to
the extent that Fund expenses attributable to A shares exceed .95% of the
average daily net assets or to the extent that Fund expenses attributable to B
shares and C shares each exceed 1.20% of average daily net assets attributable
to that class for this fiscal year. For the fiscal years ended September 30,
1995, 1996 and 1997, management fees amounted to $146,658, $105,455 and $81,847,
respectively. For the same periods, the Manager waived its fees in the amounts
of $146,658, $105,455 and $81,847, respectively. For the fiscal years ended
September 30, 1996 and 1997, the Manager reimbursed Government for expenses
totaling $35,322 and $39,456, respectively.
CLASS-SPECIFIC EXPENSES. Each Fund may determine to allocate certain of
its expenses (in addition to distribution fees) to the specific classes of the
Fund's shares to which those expenses are attributable.
BROKERAGE PRACTICES
Each Fund's portfolio turnover rate is computed by dividing the lesser of
purchases or sales of securities for the period by the average value of
portfolio securities for that period. The annualized portfolio turnover for the
43
<PAGE>
fiscal years ended September 30, 1996 and 1997 were 143% and 101%, respectively,
for High Yield, and 135% and 69%, respectively, for Government.
The Manager is responsible for the execution of each Fund's investment
portfolio transactions but has delegated that responsibility to the Subadviser
for a portion of the High Yield Fund's portfolio transactions. In executing
portfolio transactions, both the Manager and the Subadviser must seek the most
favorable price and execution for such transactions. Best execution, however,
does not mean that the Fund necessarily will be paying the lowest commission or
spread available. Rather, each Fund also will take into account such factors as
size of the order, difficulty of execution, efficiency of the executing broker's
or dealer's facilities, and any risk assumed by the executing broker or dealer.
It is a common practice in the investment advisory business for advisers
of investment companies and other institutional investors to receive research,
statistical and quotation services from broker-dealers who execute portfolio
transactions for the clients of such advisers. Consistent with the policy of
most favorable price and execution, both the Manager and the Subadviser may give
consideration to research, statistical and other services furnished by brokers
or dealers. In addition, they may place orders with brokers or dealers who
provide supplemental investment and market research and securities and economic
analysis and may pay to these brokers a higher brokerage commission or spread
than may be charged by other brokers or dealers, provided that the Manager or
Subadviser, as applicable, determines in good faith that such commission is
reasonable in relation to the value of brokerage and research services provided.
Such research and analysis may be useful to the Manager and the Subadviser in
connection with services to clients other than a Fund.
Each Fund may use the Distributor as broker for agency transactions in
listed and OTC securities at commission rates and under circumstances consistent
with the policy of best execution. Commissions paid to the Distributor will not
exceed "usual and customary brokerage commissions." Rule 17e-1 under the 1940
Act defines "usual and customary" commissions to include amounts that are
"reasonable and fair compared to the commission, fee or other remuneration
received or to be received by other brokers in connection with comparable
transactions involving similar securities being purchased or sold on a
securities exchange during a comparable period of time."
The Manager and Subadviser also may select other brokers to execute
portfolio transactions. In the OTC market, each Fund generally deals with
44
<PAGE>
primary market-makers unless a more favorable execution can otherwise be
obtained.
Each Fund effects most purchases and sales of its portfolio investments
with bond dealers acting as principal. Generally, bonds are traded on the OTC
market on a "net" basis without a stated commission through dealers acting for
their own account and not as brokers. Thus, the Funds do not expect to pay
significant brokerage commissions. Prices paid to dealers in principal
transactions generally include a "spread," which is the difference between the
prices at which the dealer is willing to purchase and sell a specific security
at that time. The spread includes the dealer's normal profit.
The Funds may not buy securities from, or sell securities to, the
Distributor as principal. However, the Board of Trustees has adopted procedures
in conformity with Rule 10f-3 under the 1940 Act whereby the each Fund may
purchase securities that are offered in underwritings in which the Distributor
is a participant. The Board of Trustees will consider the possibilities of
seeking to recapture for the benefit of each Fund expenses of certain portfolio
transactions, such as underwriting commissions and tender offer solicitation
fees, by conducting such portfolio transactions through affiliated entities,
including the Distributor, but only to the extent such recapture would be
permissible under applicable regulations, including the rules of the National
Association of Securities Dealers, Inc.
and other self-regulatory organizations.
Pursuant to Section 11(a) of the Securities Exchange Act of 1934, as
amended, each Fund expressly consented to the Distributor executing transactions
on an exchange on the Trust's behalf.
DISTRIBUTION OF SHARES
The Distributor and Representatives with whom the Distributor has entered
into dealer agreements offer shares of each Fund as agents on a best efforts
basis and are not obligated to sell any specific amount of shares. In this
connection, the Distributor makes distribution and servicing payments to
participating dealers in connection with the sale of Fund shares. Pursuant to
its Distribution Agreement with the Trust with respect to A shares, B shares and
C shares of each Fund, the Distributor bears the cost of making information
about the Trust available through advertising, sales literature and other means,
the cost of printing and mailing prospectuses to persons other than
shareholders, and salaries and other expenses relating to selling efforts. The
45
<PAGE>
Distributor also pays service fees to dealers for providing personal services to
Class A, B and C shareholders and for maintaining shareholder accounts. Each
Fund pays the cost of registering and qualifying their shares under state and
federal securities laws and pays its proportionate share for typesetting of the
prospectus and printing and distributing prospectuses to existing shareholders.
The Trust has adopted a Distribution Plan for each class of shares on
behalf of each Fund (each a "Plan" and collectively the "Plans"). These Plans
permit each Fund to pay the Distributor the monthly distribution and service fee
out of the Fund's net assets to finance activity that is intended to result in
the sale and retention of A shares, B shares and C shares. The Funds used all
Class A and Class C 12b-1 fees to pay the Distributor. The Distributor, on C
shares, may retain the first 12 months distribution fee for reimbursement of
amounts paid to the broker-dealer at the time of purchase. Each Plan was
approved by the Board of Trustees, including a majority of the Independent
Trustees after determining that there is a reasonable likelihood that each Fund
and its shareholders will benefit from each Plan.
For the fiscal year ended September 30, 1997 the Distributor received
12b-1 fees in the amount of $112,342 and $51,820 for A shares of High Yield and
Government, respectively. For the fiscal year ended September 30, 1997, the
Distributor received 12b-1 fees in the amount of $88,981 and $4,586 for C shares
of High Yield and Government, respectively.
In reporting amounts expended under the Plans to the Board of Trustees,
the Distributor will allocate expenses attributable to the sale of A shares, B
shares and C shares to the applicable class based on the ratio of sales of
shares of that class to the sales of all the classes of shares of the applicable
Fund. The fees paid by one class of shares will not be used to subsidize the
sale of any other class of shares.
Each Plan may be terminated by vote of a majority of the Independent
Trustees, or by vote of a majority of the outstanding voting securities of a
class of a Fund. The Board of Trustees reviews quarterly a written report of
Plan costs and the purposes for which such costs have been incurred. A Plan may
be amended by vote of the Board of Trustees, including a majority of the
Independent Trustees cast in person at a meeting called for such purpose. Any
change in a Plan that would materially increase the distribution cost to a class
requires shareholder approval of that class.
The Distribution Agreement may be terminated at any time on 60 days'
written notice without payment of any penalty by either party. The Trust may
46
<PAGE>
effect such termination by vote of a majority of the outstanding voting
securities of the Trust or by vote of a majority of the Independent Trustees.
For so long as a Plan is in effect, selection and nomination of the Independent
Trustees shall be committed to the discretion of such disinterested persons.
The Distribution Agreement and each Plan will continue in effect for
successive one-year periods, provided that each such continuance is specifically
approved (1) by the vote of a majority of the Independent Trustees and (2) by
the vote of a majority of the entire Board of Trustees cast in person at a
meeting called for that purpose.
For the three fiscal years ended September 30, 1997, the Distributor
received as compensation for the sale of High Yield A shares $53,388, $159,739
and $216,612, respectively, of which it retained $7,667, $19,066 and $28,693,
respectively. For the same periods, the Distributor received as compensation for
the sale of Government A shares $7,285, $17,353 and $8,937, respectively, of
which it retained $1,013, $2,577 and $1,139, respectively. For the two fiscal
years ended September 30, 1997, the Distributor received $1,011 and $4,491,
respectively, of which it retained $1,011 and $4,491, respectively, for the sale
of High Yield C shares, and $150 and $1,057, respectively, of which it retained
$150 and $1,057, respectively, for the sale of Government C shares. Class B
shares were not offered for sale prior to the date of this SAI.
ADMINISTRATION OF THE TRUST
ADMINISTRATIVE, FUND ACCOUNTING AND TRANSFER AGENT SERVICES. The Manager,
subject to the control of the Board of Trustees, will manage, supervise and
conduct the administrative and business affairs of the Trust and of each Fund;
furnish office space and equipment; oversee the activities of the Subadviser and
Custodian; and pay all salaries, fees and expenses of officers and Trustees of
the Trust who are affiliated with the Manager. The Manager also will provide
certain shareholder servicing activities for customers of the Trust.
The Manager also is the fund accountant and transfer and dividend
disbursing agent for the Trust. The Trust pays the Manager the Manager's cost
plus ten percent for its services as fund accountant and transfer and dividend
disbursing agent.
47
<PAGE>
For the three fiscal years ended September 30, 1997 the Manager earned
approximately $28,242, $29,201 and $28,200, respectively, from Government for
its services as fund accountant. For the same periods the Manager earned
$28,242, $31,311 and $32,320, respectively, from High Yield for its services as
fund accountant.
CUSTODIAN. State Street Bank and Trust Company, P.O. Box 1912, Boston,
Massachusetts 02105, serves as custodian of the Trust's assets. The Custodian
provides portfolio accounting and certain other services.
LEGAL COUNSEL. Kirkpatrick & Lockhart LLP, 1800 Massachusetts Avenue,
N.W., Washington, D.C. 20036, serves as counsel to the Trust.
INDEPENDENT ACCOUNTANTS. Pricewaterhouse Coopers LLP, 400 North Ashley
Street, Suite 2800, Tampa, Florida 33602, is the independent accountant for the
Trust. The Financial Statements and Financial Highlights of the Funds for
the two fiscal years ended September 30, 1997 that appear in this SAI have been
audited by Price Waterhouse LLP, and are included herein in reliance upon the
report of said firm of accountants, which is given upon their authority as
experts in accounting and auditing. The Financial Highlights for the fiscal
years ended in 1995 and prior thereto were audited by other independent
accountants.
POTENTIAL LIABILITY
Under certain circumstances, shareholders may be held personally liable as
partners under Massachusetts law for obligations of the Trust. To protect its
shareholders, the Trust has filed legal documents with Massachusetts that
expressly disclaim the liability of its shareholders for acts or obligations of
the Trust. These documents require notice of this disclaimer to be given in each
agreement, obligation or instrument the Trust or its Trustees enter into or
sign. In the unlikely event a shareholder is held personally liable for the
Trust's obligations, the Trust is required to use its property to protect or
compensate the shareholder. On request, the Trust will defend any claim made and
pay any judgment against a shareholder for any act or obligation of the Trust.
Therefore, financial loss resulting from liability as a shareholder will occur
only if the Trust itself cannot meet its obligations to indemnify shareholders
and pay judgments against them.
48
<PAGE>
APPENDIX
COMMERCIAL PAPER RATINGS
The rating services' descriptions of commercial paper ratings in which the Funds
may invest are:
DESCRIPTION OF MOODY'S INVESTORS SERVICES, INC. SHORT-TERM DEBT RATINGS
PRIME-1. Issuers (or supporting institutions) rated PRIME-1 (P-1) have a
superior ability for repayment of senior short-term debt obligations. P-1
repayment ability will often be evidenced by many of the following
characteristics: leading market positions in well-established industries; high
rates of return on funds employed; conservative capitalization structure with
moderate reliance on debt and ample asset protection; broad margins in earnings
coverage of fixed financial charges and high internal cash generation; and well
established access to a range of financial markets and assured sources of
alternate liquidity.
PRIME-2. Issuers (or supporting institutions) rated PRIME-2 (P-2) have a strong
ability for repayment of senior short-term debt obligations. This normally will
be evidenced by many of the characteristics cited above, but to a lesser degree.
Earnings trends and coverage ratios, while sound, may be more subject to
variation. Capitalization characteristics, while still appropri-ate, may be more
affected by external conditions. Ample alternate liquidity is maintained.
DESCRIPTION OF STANDARD & POOR'S RATINGS SERVICES COMMERCIAL PAPER RATINGS
A-1. This highest category indicates that the degree of safety regarding timely
payment is strong. Those issues determined to possess extremely strong
characteristics are denoted with a plus sign (+) designation.
A-2. Capacity for timely payment of issues with this designation is
satisfactory. However, the relative degree of safety is not as high as for
issues designated A-1.
A-1