PROSPECTUS & APPLICATION
FRANKLIN
STRATEGIC
SERIES
SEPTEMBER 1, 1998
INVESTMENT STRATEGY
GROWTH
FRANKLIN CALIFORNIA GROWTH FUND
FRANKLIN MIDCAP GROWTH FUND
FRANKLIN BLUE CHIP FUND
Please read this prospectus before investing, and keep it for future reference.
It contains important information, including how the funds invest and the
services available to shareholders.
To learn more about each fund and its policies, you may request a copy of the
funds' Statement of Additional Information ("SAI"), dated September 1, 1998,
which we may amend from time to time. We have filed the SAI with the SEC and
have incorporated it by reference into this prospectus.
For a free copy of the SAI or a larger print version of this prospectus, contact
your investment representative or call 1-800/DIAL BEN.
MUTUAL FUND SHARES ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED
BY, ANY BANK, AND ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE
CORPORATION, THE FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S.
GOVERNMENT. MUTUAL FUND SHARES INVOLVE INVESTMENT RISKS, INCLUDING THE POSSIBLE
LOSS OF PRINCIPAL.
LIKE ALL MUTUAL FUND SHARES, THE SEC HAS NOT APPROVED OR DISAPPROVED THESE
SECURITIES OR PASSED UPON THE ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION
TO THE CONTRARY IS A CRIMINAL OFFENSE.
THIS PROSPECTUS IS NOT AN OFFERING OF THE SECURITIES HEREIN DESCRIBED IN ANY
STATE, JURISDICTION OR COUNTRY IN WHICH THE OFFERING IS NOT AUTHORIZED. NO SALES
REPRESENTATIVE, DEALER, OR OTHER PERSON IS AUTHORIZED TO GIVE ANY INFORMATION OR
MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS. FURTHER
INFORMATION MAY BE OBTAINED FROM DISTRIBUTORS.
TABLE OF CONTENTS
FRANKLIN
STRATEGIC
SERIES
September 1, 1998
When reading this prospectus, you will see certain terms beginning with capital
letters. This means the term is explained in our glossary section.
ABOUT THE FUND
Expense Summary........................................................ 2
Financial Highlights................................................... 4
How Do the Funds Invest Their Assets?.................................. 8
What Are the Risks of Investing in the Funds?.......................... 14
Who Manages the Funds?................................................. 17
How Taxation Affects the Funds and Their Shareholders ................. 21
How Is the Trust Organized?............................................ 23
ABOUT YOUR ACCOUNT
How Do I Buy Shares?................................................... 25
May I Exchange Shares for Shares of Another Fund?...................... 33
How Do I Sell Shares?.................................................. 36
What Distributions Might I Receive From the Funds?..................... 39
Transaction Procedures and Special Requirements........................ 40
Services to Help You Manage Your Account............................... 44
What If I Have Questions About My Account?............................. 47
GLOSSARY
Useful Terms and Definitions........................................... 47
777 Mariners Island Blvd.
P.O. Box 7777
San Mateo
CA 94403-7777
1-800/DIAL BEN(R)
ABOUT THE FUND
EXPENSE SUMMARY
This table is designed to help you understand the costs of investing in a fund.
It is based on the historical expenses of each class for the fiscal year ended
April 30, 1998. Each fund's actual expenses may vary.
CALIFORNIA CALIFORNIA
FUND - FUND - MIDCAP BLUE CHIP
CLASS I CLASS II FUND FUND
A. SHAREHOLDER TRANSACTION EXPENSES+
Maximum Sales Charge
(as a percentage of Offering Price). 5.75% 1.99% 5.75% 5.75%
Paid at time of purchase ........... 5.75%++ 1.00%+++ 5.75%++ 5.75%++
Paid at Redemption++++.............. None 0.99% None None
Exchange Fee (per transaction)...... None None $5.00* $5.00*
B. ANNUAL FUND OPERATING EXPENSES (AS A PERCENTAGE OF AVERAGE NET ASSETS)
Management Fees..................... 0.49% 0.49% 0.65% 0.87%**
Rule 12b-1 Fees***.................. 0.25% 1.00% 0.21% 0.25%
Other Expenses...................... 0.25% 0.25% 0.31% 0.83%
----------------------------------
Total Fund Operating Expenses....... 0.99% 1.74% 1.17% 1.95%**
==================================
C. EXAMPLE
Assume the annual return for each class is 5%, operating expenses are as
described above, and you sell your shares after the number of years shown. These
are the projected expenses for each $1,000 that you invest in a fund.
1 YEAR**** 3 YEARS 5 YEARS 10 YEARS
- ------------------------------------------------------------------
CALIFORNIA FUND - CLASS I.. $67 $87 $109 $172
CALIFORNIA FUND - CLASS II. $37 $64 $103 $213
MIDCAP FUND................ $69 $93 $118 $191
BLUE CHIP FUND............. $76 $115 $157 $272
For the same Class II investment in the California Fund, you would pay projected
expenses of $28 if you did not sell your shares at the end of the first year.
Your projected expenses for the remaining periods would be the same.
THIS IS JUST AN EXAMPLE. IT DOES NOT REPRESENT PAST OR FUTURE EXPENSES OR
RETURNS. ACTUAL EXPENSES AND RETURNS MAY BE MORE OR LESS THAN THOSE SHOWN. Each
fund pays its operating expenses. The effects of these expenses are reflected in
the Net Asset Value or dividends of each class and are not directly charged to
your account.
+If your transaction is processed through your Securities Dealer, you may be
charged a fee by your Securities Dealer for this service.
++There is no front-end sales charge if you invest $1 million or more in Class I
shares.
+++Although Class II has a lower front-end sales charge than Class I, its Rule
12b-1 fees are higher. Over time you may pay more for Class II shares. Please
see "How Do I Buy Shares? - Choosing a Share Class."
++++A Contingent Deferred Sales Charge may apply to any Class II purchase if you
sell the shares within 18 months and to Class I purchases of $1 million or more
if you sell the shares within one year. A Contingent Deferred Sales Charge may
also apply to purchases by certain retirement plans that qualify to buy Class I
shares without a front-end sales charge. The charge is 1% of the value of the
shares sold or the Net Asset Value at the time of purchase, whichever is less.
The number in the table shows the charge as a percentage of Offering Price.
While the percentage is different depending on whether the charge is shown based
on the Net Asset Value or the Offering Price, the dollar amount you would pay is
the same. See "How Do I Sell Shares? Contingent Deferred Sales Charge" for
details.
*$5.00 fee is only for Market Timers. We process all other exchanges without a
fee.
**For the period shown, Advisers had agreed in advance to limit its management
fees and to assume as its own expense certain expenses otherwise payable by the
fund. With this reduction, management fees were 0.17% and total operating
expenses were 1.25%.
***These fees may not exceed 0.25% for the California Fund - Class I and 1.00%
for the California Fund Class II and 0.35% for the Blue Chip Fund and the MidCap
Fund. The combination of front-end sales charges and Rule 12b-1 fees could cause
long-term shareholders to pay more than the economic equivalent of the maximum
front-end sales charge permitted under the NASD's rules.
****For Class I shares, assumes a Contingent Deferred Sales Charge will not
apply.
FINANCIAL HIGHLIGHTS
This table summarizes each fund's financial history. The information has been
audited by Coopers & Lybrand L.L.P., the funds' independent auditor. The audit
report covering each of the most recent five years appears in the Trust's Annual
Report to Shareholders for the fiscal year ended April 30, 1998. The Annual
Report to Shareholders also includes more information about each fund's
performance. For a free copy, please call Fund Information.
CALIFORNIA FUND - CLASS I
<TABLE>
<CAPTION>
YEAR ENDED APRIL 30,
<S> <C> <C> <C> <C> <C> <C> <C>
1998 1997 1996 1995 1994 1993 19921
--------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year..... $19.35 $18.26 $14.03 $12.05 $10.21 $9.87 $10.04
--------------------------------------------------------------------------------------
Income from investment operations:
Net investment income................. .14 .13 .20 .16 .14 .12 .07
Net realized & unrealized gains....... 6.48 1.51 6.03 3.04 2.43 .34 (.17)
---------------------------------------------------------------------------------------
Total from investment operations....... 6.62 1.64 6.23 3.20 2.57 .46 (.10)
---------------------------------------------------------------------------------------
Less distributions from:
Net investment income................. (.14) (.12) (.23) (.12) (.15) (.12) (.07)
Net realized gains.................... (.86) (.43) (1.77) (1.10) (.58) - -
---------------------------------------------------------------------------------------
Total distributions.................... (1.00) (.55) (2.00) (1.22) (.73) (.12) (.07)
---------------------------------------------------------------------------------------
Net asset value, end of year........... $24.97 $19.35 $18.26 $14.03 $12.05 $10.21 $9.87
======================================================================================
Total return*.......................... 34.98% 8.94% 47.42% 29.09% 25.55% 4.72% (1.77)%**
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (in 000's)..... $721,254 $282,898 $81,175 $13,844 $4,646 $3,412 $3,091
Ratios to average net assets:
Expenses.............................. .99% 1.08% .71% .25% .09% - -
Expenses excluding waiver
and payments by affiliate............. .99% 1.08% 1.09% 1.27% 1.89% 1.99% 1.61%**
Net investment income................. .67% .84% 1.42% 1.63% 1.16% 1.23% 1.27%**
Portfolio turnover rate................ 48.52% 44.81% 61.82% 79.52% 135.12% 38.28% 13.73%
Average commission rate paid***........ $.0530 $.0544 $.0536 - - - -
</TABLE>
CALIFORNIA FUND - CLASS II
YEAR ENDED APRIL 30,
1998 19972
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year..... $19.27 $18.05
---------------------
Income from investment operations:
Net investment income................. - .05
Net realized and unrealized gains..... 6.43 1.65
---------------------
Total from investment operations....... 6.43 1.70
---------------------
Less distributions from:
Net investment income................. (.03) (.05)
Net realized gains.................... (.86) (.43)
----------------------
Total distributions.................... (.89) (.48)
----------------------
Net asset value, end of year........... $24.81 $19.27
=====================
Total return*.......................... 34.02% 9.32%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (in 000's)..... $122,701 $24,556
Ratios to average net assets:
Expenses.............................. 1.74% 1.86%**
Net investment income (loss) ......... (.10%) .05%**
Portfolio turnover rate................ 48.52% 44.81%
Average commission rate paid***........ $.0530 $.0544
MIDCAP FUND
<TABLE>
<CAPTION>
YEAR ENDED APRIL 30,
<S> <C> <C> <C> <C> <C>
1998 1997 1996 1995 19943
--------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year..... $13.34 $14.24 $10.81 $10.05 $10.00
--------------------------------------------------------------
Income from investment operations:
Net investment income (loss).......... - (.02) .18 .21 .15
Net realized and unrealized gains..... 4.66 .93 3.59 .77 .01
--------------------------------------------------------------
Total from investment operations....... 4.66 .91 3.77 .98 .16
--------------------------------------------------------------
Less distributions from:
Net investment income................. - (.05) (.21) (.20) (.08)
Net realized gains.................... (.56) (1.76) (.13) (.02) (.03)
---------------------------------------------------------------
Total distributions.................... (.56) (1.81) (.34) (.22) (.11)
---------------------------------------------------------------
Net asset value, end of year........... $17.44 $13.34 $14.24 $10.81 $10.05
===============================================================
Total return*.......................... 35.53% 6.31% 35.40% 10.06% 1.62%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (in 000's)..... $29,864 $12,853 $7,575 $5,591 $5,079
Ratios to average net assets:
Expenses.............................. 1.17% 1.07% .16% - -
Expenses excluding waiver
and payments by affiliate............. 1.17% 1.07% .96% .98% .91%**
Net investment income (loss).......... (.03%) (.22)% 1.42% 2.12% 2.21%**
Portfolio turnover rate................ 50.16% 76.35% 102.65% 163.54% 70.53%
Average commission rate paid***........ $.0621 $.0550 $.0467 - -
</TABLE>
BLUE CHIP FUND
YEAR ENDED APRIL 30,
1998 19974
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
NET ASSET VALUE, BEGINNING OF YEAR..... $10.85 $10.00
---------------------
INCOME FROM INVESTMENT OPERATIONS:
NET INVESTMENT INCOME................. .09 .09
NET REALIZED AND UNREALIZED GAINS..... 1.67 .82
---------------------
TOTAL FROM INVESTMENT OPERATIONS....... 1.76 .91
---------------------
LESS DISTRIBUTIONS FROM:
NET INVESTMENT INCOME................. (.06) (.06)
NET REALIZED GAINS.................... (.09) --
------------------
TOTAL DISTRIBUTIONS.................... (.15) (.06)
----------------------
NET ASSET VALUE, END OF YEAR........... $12.46 $10.85
=====================
Total Return*.......................... 16.41% 9.14%
RATIOS/SUPPLEMENTAL DATA
NET ASSETS, END OF YEAR (IN 000'S)..... $16,836 $5,600
RATIOS TO AVERAGE NET ASSETS:
EXPENSES.............................. 1.25% 1.25%**
EXPENSES EXCLUDING WAIVER
AND PAYMENTS BY AFFILIATE............ 1.95% 2.22%**
NET INVESTMENT INCOME................. 1.04% 1.07%**
PORTFOLIO TURNOVER RATE................ 57.67% 11.14%
AVERAGE COMMISSION RATE PAID***........ $.0367 $.0525
1For the period October 18, 1991 (effective date) to April 30, 1992.
2For the period September 3, 1996 (effective date) to April 30, 1997.
3For the period August 17, 1993 (effective date) to April 30, 1994.
4For the period June 3, 1996 (effective date) to April 30, 1997.
*Total return does not reflect sales commissions or the Contingent Deferred
Sales Charge, and is not annualized. Prior to May 1, 1994, dividends from net
investment income were reinvested at the Offering Price.
**Annualized
***Relates to purchases and sales of equity securities. Prior to fiscal year end
1996 disclosure of average commision rate was not required.
HOW DO THE FUNDS INVEST THEIR ASSETS?
WHAT ARE THE FUNDS' GOALS?
The investment goal of the California Fund is capital appreciation. The
investment goal of the MidCap Fund is long-term capital growth. The investment
goal of the Blue Chip Fund is long-term capital appreciation. These goals are
fundamental, which means that they may not be changed without shareholder
approval.
The Blue Chip Fund may also seek current income incidental to long-term capital
appreciation, although this is not a fundamental policy of the fund.
WHAT KINDS OF SECURITIES DO THE FUNDS BUY?
Under normal market conditions, the CALIFORNIA FUND invests at least 65% of its
assets in the equity and debt securities of companies headquartered or
conducting a majority of their operations in the state of California.
The California Fund expects to invest a significant portion of its assets in
small to mid-size companies, but it may also invest in relatively well known,
larger capitalization companies in mature industries that Advisers believes have
the potential for capital appreciation.
The California Fund may invest up to 35% of its assets in the securities of
companies headquartered or conducting a majority of their operations outside of
the state of California. In this way, the California Fund tries to benefit from
its research into companies and industries within or beyond its primary region.
THE MIDCAP FUND tries to achieve its investment goal by investing primarily in
equity securities of medium capitalization companies that Advisers believes are
positioned for rapid growth in revenues or earnings and assets, characteristics
that may provide for significant capital appreciation. Under normal market
conditions, the MidCap Fund will invest its assets primarily in a diversified
portfolio of medium capitalization stocks. The MidCap Fund tries to be fully
invested at all times in equity securities.
The MidCap Fund may invest up to 35% of its total assets in equity securities
that are outside the medium market capitalization range but with similar
potential for capital appreciation, or in corporate debt securities.
Under normal market conditions, the BLUE CHIP FUND invests at least 80%, and
intends to try to invest up to 100%, of its total assets in a diversified
portfolio of equity securities of "blue chip companies."
EQUITY SECURITIES generally entitle the holder to participate in a company's
general operating results. These include common stock; preferred stock;
convertible securities; and warrants.
Although the Blue Chip Fund may invest without limit in common stock,
convertible securities, and warrants, it intends to invest primarily in common
stock.
DEBT SECURITIES represent an obligation of the issuer to repay a loan of
money to it, and, generally, provide for the payment of interest. These
include bonds, notes, and debentures.
The California Fund and the MidCap may invest in debt securities that Advisers
believes present an opportunity for capital appreciation as a result of
improvement in the creditworthiness of the issuer. The receipt of income from
debt securities is incidental to these funds' investment goals.
The California Fund may invest up to 35% of its total assets in debt securities.
Independent rating organizations rate debt securities based upon their
assessment of the financial soundness of the issuer. Generally, a lower rating
indicates higher risk. Securities rated BBB by S&P or Baa by Moody's or better
are considered to be investment grade. The California Fund and the MidCap Fund
may buy both rated and unrated debt securities.
The California Fund may buy fixed-income securities, including convertible
securities and debt securities, that are rated B by Moody's or S&P or better, or
unrated securities of comparable quality. The California Fund will not invest
more than 5% of its assets in fixed-income securities rated below investment
grade.
The MidCap Fund may buy debt securities that are rated B by Moody's or S&P or
better, or unrated debt of comparable quality. The MidCap Fund will not invest
more than 5% of its total assets in securities rated below investment grade.
Please see the SAI for more details on the risks associated with lower-rated
securities.
SMALL AND MEDIUM CAPITALIZATION COMPANIES. The California Fund expects to invest
a significant portion of its assets in small and medium size companies with
market capitalization of up to $2.5 billion at the time of its investment. The
MidCap Fund invests in medium capitalization companies that have a market
capitalization range between $200 million and $5 billion. These securities are
traded primarily on the NYSE and the American Stock Exchange and in the
over-the-counter market.
Market capitalization is defined as the total market value of a company's
outstanding stock. Medium capitalization companies may offer greater potential
for capital appreciation as these companies are often growing more rapidly than
larger companies, but tend to be more stable and established than small
capitalization or emerging companies.
Advisers selects medium capitalization equity securities for the MidCap Fund
based on characteristics such as the financial strength of the company, the
expertise of management, the growth potential of the company within its
industry, and the growth potential of the industry itself.
BLUE CHIP COMPANIES are well-established companies with a long record of revenue
growth and profitability. These companies generally dominate their respective
markets, and have a reputation for quality management, as well as superior
products and services. Blue chip companies also tend to have relatively large
capitalization.
When selecting securities for the Blue Chip Fund's portfolio, Advisers tries to
identify quality blue chip companies based on a number of factors. Specifically,
Advisers looks for companies that are leaders in their industry with a dominant
market position and a sustainable competitive advantage. Advisers also looks for
companies that exhibit consistent growth, a strong financial record, and market
capitalization of more than $1 billion. The fund intends to invest in a
portfolio that is diversified across a large number of industries.
REAL ESTATE SECURITIES. The California Fund may invest in securities of
companies operating in the real estate industry, including real estate
investment trusts.
CONVERTIBLE SECURITIES. A convertible security generally is a preferred stock or
debt security that pays dividends or interest and may be converted into common
stock.
Each fund may invest in convertible securities. The California Fund and the
MidCap Fund may also invest in enhanced convertible securities.
Although the Blue Chip Fund may invest in convertible securities without limit,
it currently intends to limit these investments to no more than 5% of its net
assets.
FOREIGN SECURITIES AND DEPOSITARY RECEIPTS. The MidCap Fund may invest in
foreign securities. The MidCap Fund intends to limit its investment in foreign
securities to 5% of its total assets. The MidCap Fund may buy the securities of
issuers in developing nations.
The Blue Chip Fund seeks investment opportunities across all markets in the
world and may invest without limit in the equity securities of blue chip
companies located outside the U.S. This may include companies in either
developed or emerging markets. Certain companies in emerging markets meet all
the criteria of a blue chip company. The amount of the fund's assets that it
will invest in foreign securities may vary over time depending on Advisers'
outlook.
Each fund may buy foreign securities traded in the U.S. or directly in foreign
markets. The MidCap Fund will ordinarily buy foreign securities that are traded
in the U.S. or sponsored or unsponsored American Depositary Receipts. The
California Fund may also buy American Depositary Receipts. The Blue Chip Fund
may buy American, European, and Global Depositary Receipts. Depositary Receipts
are certificates typically issued by a bank or trust company that give their
holders the right to receive securities issued by a foreign or domestic
corporation.
WHAT ARE SOME OF THE FUNDS' OTHER INVESTMENT STRATEGIES AND PRACTICES?
TEMPORARY INVESTMENTS. When Advisers believes that there is or may be a general
decline in the market prices of stocks in which the California Fund or the
MidCap Fund invests, it may invest the fund's portfolio in a temporary defensive
manner. Under such circumstances, the California Fund and the MidCap Fund may
invest up to 100% of their respective assets in short-term debt instruments. The
California Fund and the MidCap Fund may also invest their cash, including cash
resulting from purchases and sales of fund shares, temporarily in short-term
debt instruments. Short-term debt instruments include high-grade commercial
paper, repurchase agreements, and other money market equivalents. Subject to the
terms of an exemption order from the SEC, the California Fund and the MidCap
Fund may also invest their cash in the shares of affiliated money market funds
that invest primarily in short-term debt securities. The California Fund and the
MidCap Fund will make temporary investments with cash held to maintain liquidity
to meet redemption requirements or pending investment.
The Blue Chip Fund may occasionally hold cash or invest in high quality money
market instruments of U.S. and foreign issuers, pending investment of proceeds
from new sales of its shares or for cash management or temporary defensive
purposes. These securities include government securities, commercial paper, bank
certificates of deposit, bankers' acceptances, and repurchase agreements secured
by any of these instruments. These securities will be rated "A1" or "A2" by S&P
or "P1" or "P2" by Moody's, or unrated but of comparable quality.
REPURCHASE AGREEMENTS. Each fund will generally have a portion of its assets in
cash or cash equivalents for a variety of reasons including waiting for a
special investment opportunity or taking a defensive position. To earn income on
this portion of its assets, the funds may enter into repurchase agreements with
certain banks and broker-dealers. Under a repurchase agreement, a fund agrees to
buy a U.S. government security from one of these issuers and then to sell the
security back to the issuer after a short period of time (generally, less than
seven days) at a higher price. The bank or broker-dealer must transfer to the
fund's custodian securities with an initial value of at least 102% of the dollar
amount invested by the fund in each repurchase agreement.
OPTIONS, FUTURES, AND OPTIONS ON FUTURES. A stock option is a contract that
provides the holder the right to buy or sell shares of the stock at a fixed
price, within a specified period of time. An option on a stock index is a
contract that allows the buyer of the option the right to receive from the
seller cash, in an amount equal to the difference between the index's closing
price and the option's exercise price. A futures contract is an obligation to
buy or sell a specified security or currency at a set price on a specified
future date. A stock index futures contract is an agreement to take or make
delivery of an amount of cash based on the difference between the value of the
index at the beginning and end of the contract period. Options, futures, and
options on futures are considered "derivative securities."
The California Fund may buy and sell options on securities and securities
indices. The California Fund may only buy options if the premiums it paid for
such options total 5% or less of its total assets. The California Fund may also
buy and sell securities index futures and options on securities index futures.
The California Fund will not buy futures if the amount of its initial deposits
and premiums paid for its open contracts is more than 5% of its total assets
(taken at current value).
The MidCap Fund may buy options on stocks and stock indices, stock index futures
contracts, and options on stock index futures contracts to help protect its
portfolio against market and/or exchange rate movements, to help protect against
changes in the price of securities it intends to buy, and to accommodate cash
flows.
The MidCap Fund may only enter into futures contracts or related options (except
for closing transactions) if the initial deposits and premiums it paid for such
contracts and options is 5% or less of its total assets. The MidCap Fund may
only buy options if the total premiums it paid for such options is 5% or less of
its total assets.
For hedging purposes only, the Blue Chip Fund may buy or sell options on
securities listed on a national securities exchange. The options may be traded
on an exchange or over-the-counter. All options the Blue Chip Fund sells will be
covered. The Blue Chip Fund will not buy an option if the amounts paid for its
open option positions exceed 5% of its net assets.
The Blue Chip Fund may buy and sell futures contracts for securities and
currencies. The Blue Chip Fund may invest in futures contracts only to hedge
against changes in the value of its securities or currencies or those it intends
to buy. The Blue Chip Fund will not enter into a futures contract if the amounts
paid for its open contracts, including required initial deposits, would exceed
5% of its net assets.
SECURITIES LENDING. To generate additional income, each fund may lend its
portfolio securities to qualified securities dealers or other institutional
investors. Such loans may not exceed 10% of the value of the California Fund's
total assets, 20% of the MidCap Fund's total assets, or one third of the Blue
Chip Fund's total assets, measured at the time of the most recent loan. For each
loan the borrower must maintain with the fund's custodian collateral with a
value at least equal to 100% of the current market value of the loaned
securities.
BORROWING. As a fundamental policy, the funds do not borrow money or mortgage or
pledge any of their assets, except that each fund may borrow from banks up to a
specified limit to meet redemption requests and for other temporary or emergency
purposes. The limits are 10% of the fund's total asset value for the California
Fund and the MidCap Fund, and 15% of the Blue Chip Fund's total assets,
including the amount borrowed. The Blue Chip Fund may pledge its assets in
connection with these borrowings. While borrowings exceed 5% of a fund's total
assets, the fund will not make any additional investments.
NON-DIVERSIFICATION. The California Fund is non-diversified, which means that
there is no restriction under the federal securities laws on the percentage of
the fund's assets that it may invest in the securities of any one issuer.
ILLIQUID INVESTMENTS. Each fund's policy is not to invest more than 10% of its
net assets in illiquid securities. Illiquid securities are generally securities
that cannot be sold within seven days in the normal course of business at
approximately the amount at which the fund has valued them.
OTHER POLICIES AND RESTRICTIONS. Each fund has a number of additional investment
policies and restrictions that govern its activities. Those that are identified
as "fundamental" may only be changed with shareholder approval. The others may
be changed by the Board alone. For a list of these restrictions and more
information about the funds' investment policies, including those described
above, please see "How Do the Funds Invest Their Assets?" and "Investment
Restrictions" in the SAI.
Generally, the policies and restrictions discussed in this prospectus and in the
SAI apply when a fund makes an investment. In most cases, a fund is not required
to sell a security because circumstances change and the security no longer meets
one or more of the fund's policies or restrictions.
TAX CONSIDERATIONS. Each fund's investments in options, futures, foreign
securities and other complex securities are subject to special tax rules that
may affect the amount, timing or character of the income earned by the fund and
distributed to you. Each fund may also be subject to withholding taxes on
earnings from certain of its foreign securities. These special tax rules are
discussed in the "Additional Information on Distributions and Taxes" section of
the SAI.
WHAT ARE THE RISKS OF INVESTING IN THE FUNDS?
There is no assurance that the funds will meet their investment goals.
The value of your shares of a fund will increase as the value of the securities
owned by the fund increases and will decrease as the value of the fund's
investments decrease. In this way, you participate in any change in the value of
the securities owned by the fund. In addition to the factors that affect the
value of any particular security that a fund owns, the value of fund shares may
also change with movements in the stock and bond markets as a whole.
MEDIUM AND SMALL CAPITALIZATION RISK. Investing in small and medium
capitalization stocks may involve greater risk than investing in large
capitalization stocks, since they can be subject to more abrupt or erratic
movements. Medium capitalization stocks tend, however, to involve less risk than
stocks of small capitalization companies.
Historically, the prices of medium and small capitalization stocks have been
more volatile than the prices of larger capitalization stocks. Several factors
contribute to the greater price volatility of medium capitalization stocks. The
growth prospects of smaller firms are less certain than those of larger firms.
There is a lesser degree of liquidity in the market for these stocks. Small and
medium size companies are more sensitive to changing economic conditions.
Medium and small company stocks may fluctuate independently of larger company
stocks. Medium and small company stocks may decline in price as large company
stocks rise or vice versa. You should therefore expect that the value of the
MidCap Fund's shares, and the value of the California Fund's shares to the
extent it invests in medium and small company stocks, may be more volatile than
the shares of a fund that invests in larger capitalization stocks.
In addition, medium and small size companies may have products and management
that have not been thoroughly tested by time or by the marketplace. These
companies may also be more dependent on a limited number of key personnel, and
their financial resources may not be as substantial as those of more established
companies.
NON-DIVERSIFICATION RISK. To the extent that the California Fund's investments
are not diversified, the fund may be more susceptible than a fully diversified
fund to adverse economic, political, business, or regulatory developments
affecting a single issuer or industry.
CALIFORNIA RISK. The financial prospects of a number of the companies in which
the California Fund invests may depend on the strength of the California
economy. However, the California Fund tries to reduce the effect on its
portfolio of fluctuations in economic conditions in California by investing a
significant portion of its assets in companies whose financial prospects are
dependent on the global economy.
Like many other states, California was significantly affected by the national
recession of the early 1990s, especially in the southern portion of the state.
Most of its job losses during its recession resulted from military cutbacks and
the downturn in the construction industry. Downsizing in the state's aerospace
industry, excess office capacity, and slow growth in California's export market
also contributed to the state's recession.
Since mid-1993, California's economic recovery has been fueled by growth in the
export, entertainment, tourism and computer services sectors. The state's
diverse employment base has reached prerecession levels, with manufacturing
accounting for 14.4% of employment (based on 1997 state estimates), trade 23%,
services 31.1%, and government 16.4%. Despite strong employment growth,
California's unemployment rate has remained above the national average, and
wages, although still above national levels, have declined with the loss of
high-paying aerospace jobs. Recent economic problems in Asia may affect the
state's economy and reduce growth rates, although the impact of Asia's economic
problems on the state is uncertain.
The information above is based primarily on information from independent credit
reports and historically reliable sources, but the fund has not independently
verified the information. It is not a complete discussion of the California
economy.
TECHNOLOGY COMPANIES RISK. The California Fund expects to have a portion of its
assets invested in securities of companies involved in computing technologies or
related companies. Typically, the California Fund will invest in technology
companies whose products or services are marketed on a global rather than a
domestic or regional basis. The technology sector has historically been
volatile, and technology company securities tend to be subject to abrupt or
erratic price movements. The California Fund tries to reduce these risks through
extensive research and emphasis on more globally competitive companies.
REAL ESTATE SECURITIES RISK. The California Fund's investments in real estate
securities are subject to the risks associated with the real estate industry.
Economic, regulatory, and social factors that affect the value of real estate
will affect the value of the real estate securities in the fund's portfolio.
These factors include overbuilding and increased competition, increases in
property taxes and operating expenses, changes in zoning laws, casualty or
condemnation losses, variations in rental income, changes in neighborhood
values, the appeal of properties to tenants, and increases in interest rates.
DERIVATIVE SECURITIES RISK. Derivative investments are those whose values are
dependent upon the performance of one or more other securities or investments or
indices; in contrast to common stock, for example, whose value is dependent upon
the operations of the issuer. To the extent each fund enters into transactions
in derivative securities, their success will depend upon Advisers' ability to
predict pertinent market movements.
FOREIGN SECURITIES RISK. The value of foreign (and U.S.) securities is affected
by general economic conditions and individual company and industry earnings
prospects. While foreign securities may offer significant opportunities for
gain, they also involve additional risks that can increase the potential for
losses in the funds. These risks can be significantly greater for investments in
emerging markets. Investments in Depositary Receipts also involve some or all of
the risks described below.
The political, economic, and social structures of some countries in which the
funds invest may be less stable and more volatile than those in the U.S. The
risks of investing in these countries include the possibility of the imposition
of exchange controls, expropriation, restrictions on removal of currency or
other assets, nationalization of assets, and punitive taxes.
There may be less publicly available information about a foreign company or
government than about a U.S. company or public entity. Certain countries'
financial markets and services are less developed than those in the U.S. or
other major economies. As a result, they may not have uniform accounting,
auditing, and financial reporting standards and may have less government
supervision of financial markets. Foreign securities markets may have
substantially lower trading volumes than U.S. markets, resulting in less
liquidity and more volatility than experienced in the U.S. Transaction costs on
foreign securities markets are generally higher than in the U.S. The settlement
practices may be cumbersome and result in delays that may affect portfolio
liquidity. The funds may have greater difficulty voting proxies, exercising
shareholder rights, pursuing legal remedies, and obtaining judgments with
respect to foreign investments in foreign courts than with respect to domestic
issuers in U.S. courts.
Some of the countries in which the funds may invest such as Russia and certain
Asian and Eastern European countries are considered developing or emerging
markets. Investments in these markets are subject to all of the risks of foreign
investing generally, and have additional and heightened risks due to a lack of
legal, business, and social frameworks to support securities markets.
Emerging markets involve additional significant risks, including political and
social uncertainty (for example, regional conflicts and risk of war), currency
exchange rate volatility, pervasiveness of corruption and crime, delays in
settling portfolio transactions, and risk of loss arising out of the system of
share registration and custody. For more information on the risks associated
with emerging markets securities, please see the SAI.
On July 1, 1997, Hong Kong reverted to the sovereignty of China. As with any
major political transfer of power, this could result in political, social,
economic, market, or other developments in Hong Kong, China, or other countries
that could affect the value of the funds' investments.
INTEREST RATE, CURRENCY AND MARKET RISK. To the extent a fund invests in debt
securities, changes in interest rates in any country where the fund is invested
will affect the value of the fund's portfolio and its share price. Rising
interest rates, which often occur during times of inflation or a growing
economy, are likely to have a negative effect on the value of the fund's shares.
To the extent a fund invests in common stocks, a general market decline in any
country where the fund is invested may cause the value of what the fund owns,
and thus the fund's share price, to decline. Changes in currency valuations may
also affect the price of fund shares. The value of stock markets, currency
valuations and interest rates throughout the world have increased and decreased
in the past. These changes are unpredictable.
WHO MANAGES THE FUNDS?
THE BOARD. The Board oversees the management of the funds and elects their
officers. The officers are responsible for the funds' day-to-day operations. The
Board also monitors the California Fund to ensure no material conflicts exist
among the fund's classes of shares. While none is expected, the Board will act
appropriately to resolve any material conflict that may arise.
INVESTMENT MANAGER. Advisers manages each fund's assets and makes its
investment decisions. Advisers also performs similar services for other
funds. It is wholly owned by Resources, a publicly owned company engaged in
the financial services industry through its subsidiaries. Charles B. Johnson
and Rupert H. Johnson, Jr. are the principal shareholders of Resources.
Together, Advisers and its affiliates manage over $236 billion in assets.
Please see "Investment Management and Other Services" and "Miscellaneous
Information" in the SAI for information on securities transactions and a
summary of the funds' Code of Ethics.
MANAGEMENT TEAMS. The teams responsible for the day-to-day management of the
funds' portfolios are:
CALIFORNIA FUND: Conrad B. Herrmann since 1993 and John P. Scandalios since
1997.
Conrad B. Herrmann, CFA
Senior Vice President of Advisers
Mr. Herrmann is a Chartered Financial Analyst and holds a Master of Business
Administration degree from Harvard University. He earned a Bachelor of Arts
degree from Brown University. Mr. Herrmann has been with the Franklin
Templeton Group since 1989 and is a member of several securities
industry-related associations.
John P. Scandalios
Senior Securities Analyst
Mr. Scandalios holds a Master of Business Administration degree with an emphasis
in Finance and a Bachelor of Arts degree from the University of California at
Los Angeles. He has been in the securities industry since 1990 and with the
Franklin Templeton Group since 1996. Prior thereto, he was with Chase Manhattan
Bank.
Frank Felicelli, CFA
Senior Vice President of Advisers
Mr. Felicelli has been generally involved with investment strategy of the
California Fund's portfolio since its inception. Mr. Felicelli is a Chartered
Financial Analyst and has a Master of Business Administration degree from
Golden Gate University. He earned a Bachelor of Arts degree in Economics from
the University of Illinois. He has been with the Franklin Templeton Group
since 1986. He is a member of several securities industry-related
associations.
MIDCAP FUND: Edward B. Jamieson and Catherine Roberts Bowman since 1996.
Edward B. Jamieson
Executive Vice President of Advisers
Mr. Jamieson holds a Master's degree in Accounting and Finance from the
University of Chicago Graduate School of Business and a Bachelor of Arts degree
from Bucknell University. He has been with the Franklin Templeton Group since
1987.
Catherine Roberts Bowman
Vice President of Advisers
Ms. Bowman holds a Master of Business Administration degree from the J.L.
Kellogg Graduate School of Management at Northwestern University. She
received her Bachelor of Arts degree from Princeton University. She joined
the Franklin Templeton Group in 1990.
BLUE CHIP FUND: Suzanne Willoughby Killea and Shan C. Green since the fund's
inception.
Suzanne Willoughby Killea
Vice President of Advisers
Ms. Killea holds a Master of Business Administration degree from Stanford
University and a Bachelor of Arts degree from Princeton University. She has been
with the Franklin Templeton Group since 1991. She is a member of several
securities industry-related associations.
Shan C. Green
Vice President of Advisers
Ms. Green holds a Master of Business Administration degree from the
University of California at Berkeley. She earned her Bachelor of Science
degree from State University of New York at Stony Brook. Ms. Green has been
with the Franklin Templeton Group since 1994.
MANAGEMENT FEES. During the fiscal year ended April 30, 1998, management fees
paid to Advisers and total operating expenses, as a percentage of average daily
net assets, were as follows:
TOTAL
MANAGEMENT OPERATING
FEES EXPENSES
California Fund - Class I... 0.49% 0.99%
California Fund - Class II.. 0.49% 1.74%
MidCap Fund ................ 0.65% 1.17%
Blue Chip Fund* ............ 0.17% 1.25%
*Management fees, before any advance waiver, totaled 0.87% and total operating
expenses were 1.95%. Under an agreement by Advisers to limit its fees, the Blue
Chip Fund paid the management fees and total operating expenses shown. Advisers
may end this arrangement at any time upon notice to the Board.
PORTFOLIO TRANSACTIONS. Advisers tries to obtain the best execution on all
transactions. If Advisers believes more than one broker or dealer can provide
the best execution, it may consider research and related services and the sale
of fund shares, as well as shares of other funds in the Franklin Templeton Group
of Funds, when selecting a broker or dealer. Please see "How Do the Funds Buy
Securities for Their Portfolios?" in the SAI for more information.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services provides
certain administrative services and facilities for the funds. During the fiscal
year ended April 30, 1998, administration fees paid to FT Services, as a
percentage of average daily net assets, were as follows:
ADMINISTRATION
FEES
California Fund 0.14%
MidCap Fund 0.15%
Blue Chip Fund 0.15%
These fees are paid by Advisers. They are not a separate expense of the funds.
Please see "Investment Management and Other Services" in the SAI for more
information.
YEAR 2000 ISSUE. Like other mutual funds, the fund could be adversely affected
if the computer systems used by Advisers and other service providers do not
properly process date-related information on or after January 1, 2000 ("Year
2000 Issue"). The Year 2000 Issue, and in particular foreign service providers'
responsiveness to the issue, could affect portfolio and operational areas
including securities trade processing, interest and dividend payments,
securities pricing, shareholder account services, reporting, custody functions,
and others. While there can be no assurance that the fund will not be adversely
affected, Advisers and its affiliated service providers are taking steps that
they believe are reasonably designed to addess the Year 2000 Issue, including
seeking reasonable assurance from the fund's other major service providers.
THE RULE 12B-1 PLANS
Each fund and class have separate distribution plans or "Rule 12b-1 Plans" under
which they may pay or reimburse Distributors or others for the expenses of
activities that are primarily intended to sell shares of the fund. These
expenses may include, among others, distribution or service fees paid to
Securities Dealers or others who have executed a servicing agreement with the
fund, Distributors or its affiliates; a prorated portion of Distributors'
overhead expenses; and the expenses of printing prospectuses and reports used
for sales purposes, and preparing and distributing sales literature and
advertisements.
Payments by the California Fund under the Class I plan may not exceed 0.25% per
year of Class I's average daily net assets. Payments by the Blue Chip Fund and
MidCap Fund under the plan may not exceed 0.35% per year of the respective
fund's average daily net assets. Of this amount, the MidCap Fund and the Blue
Chip Fund may each reimburse up to 0.35% to Distributors or others, out of which
0.10% will generally be retained by Distributors for distribution expenses. All
distribution expenses over this amount will be borne by those who have incurred
them. During the first year after certain Class I purchases made without a sales
charge, Securities Dealers may not be eligible to receive the Rule 12b-1 fees
associated with the purchase.
Under the Class II plan, the California Fund may pay Distributors up to 0.75%
per year of Class II's average daily net assets to pay Distributors or others
for providing distribution and related services and bearing certain Class II
expenses. All distribution expenses over this amount will be borne by those who
have incurred them. During the first year after a purchase of Class II shares,
Securities Dealers may not be eligible to receive this portion of the Rule 12b-1
fees associated with the purchase.
The California Fund may also pay a servicing fee of up to 0.25% per year of
Class II's average daily net assets under the Class II plan. This fee may be
used to pay Securities Dealers or others for, among other things, helping to
establish and maintain customer accounts and records, helping with requests to
buy and sell shares, receiving and answering correspondence, monitoring dividend
payments from the fund on behalf of customers, and similar servicing and account
maintenance activities.
The Rule 12b-1 fees charged to each class are based only on the fees
attributable to that particular class. For more information, please see "The
Funds' Underwriter" in the SAI.
HOW TAXATION AFFECTS THE FUNDS AND THEIR SHAREHOLDERS
----------------------------------------
TAXATION OF THE FUNDS' INVESTMENTS HOW DO THE FUNDS EARN INCOME AND GAINS?
Each fund invests your money in the Each fund earns dividends and interest
stocks, bonds and other securities (the fund's "income") on its
that are described in the section "How investments. When a fund sells a
Does the Fund Invest Its Assets?" security for a price that is higher
Special tax rules may apply in than it paid, it has a gain. When a
determining the income and gains that fund sells a security for a price that
each fund earns on its investments. is lower than it paid, it has a loss.
These rules may, in turn, affect the If a fund has held the security for
amount of distributions that a fund more than one year, the gain or loss
pays to you. These special tax rules will be a long-term capital gain or
are discussed in the SAI. loss. If a fund has held the security
for one year or less, the gain or loss
TAXATION OF THE FUNDS. As a regulated will be a short-term capital gain or
investment company, each fund loss. A fund's gains and losses are
generally pays no federal income tax netted together, and, if the fund has
on the income and gains that it a net gain (the fund's "gains"), that
distributes to you. gain will generally be distributed to you.
----------------------------------------
FOREIGN TAXES. Foreign governments may impose taxes on the income and gains from
a fund's investments in foreign stocks and bonds. These taxes will reduce the
amount of the fund's distributions to you, but, depending upon the amount of the
fund's assets that are invested in foreign securities and foreign taxes paid,
may be passed through to you as a foreign tax credit on your income tax return.
Each fund may also invest in the securities of foreign companies that are
"passive foreign investment companies" ("PFICs"). These investments in PFICs may
cause the fund to pay income taxes and interest charges. If possible, the funds
will adopt strategies to avoid PFIC taxes and interest charges.
----------------------------------------
TAXATION OF SHAREHOLDERS WHAT IS A DISTRIBUTION?
DISTRIBUTIONS. Distributions from a As a shareholder, you will receive
fund, whether you receive them in cash your share of a fund's income and
or in additional shares, are generally gains on its investments in stocks,
subject to income tax. The fund will bonds and other securities. A fund's
send you a statement in January of the income and short-term capital gains
current year that reflects the amount are paid to you as ordinary dividends.
of ordinary dividends, capital gain A fund's long-term capital gains are
distributions and non-taxable paid to you as capital gain
distributions you received from the distributions. If a fund pays you an
fund in the prior year. This statement amount in excess of its income and
will include distributions declared in gains, this excess will generally be
December and paid to you in January of treated as a non-taxable distribution.
the current year, but which are These amounts, taken together, are
taxable as if paid on December 31 of what we call a fund's distributions to
the prior year. The IRS requires you you.
to report these amounts on your income
tax return for the prior year.
----------------------------------------
DISTRIBUTIONS TO RETIREMENT PLANS. Fund distributions received by your qualified
retirement plan, such as a 401(k) plan or IRA, are generally tax-deferred; this
means that you are not required to report fund distributions on your income tax
return when paid to your plan, but, rather, when your plan makes payments to
you. Special rules apply to payouts from Roth and Education IRAs.
DIVIDENDS-RECEIVED DEDUCTION. Corporate investors may be entitled to a
dividends-received deduction on a portion of the ordinary dividends they
receive from a fund.
----------------------------------------
REDEMPTIONS AND EXCHANGES. If you WHAT IS A REDEMPTION?
redeem your shares or if you exchange
your shares in a fund for shares in A redemption is a sale by you to a
another Franklin Templeton Fund, you fund of some or all of your shares in
will generally have a gain or loss the fund. The price per share you
that the IRS requires you to report on receive when you redeem fund shares
your income tax return. If you may be more or less than the price at
exchange fund shares held for 90 days which you purchased those shares. An
or less and pay no sales charge, or a exchange of shares in a fund for
reduced sales charge, for the new shares of another Franklin Templeton
shares, all or a portion of the sales Fund is treated as a redemption of
charge you paid on the purchase of the fund shares and then a purchase of
shares you exchanged is not included shares of the other fund. When you
in their cost for purposes of redeem or exchange your shares, you
computing gain or loss on the will generally have a gain or loss,
exchange. If you hold your shares for depending upon whether the amount you
six months or less, any loss you have receive for your shares is more or
will be treated as a long-term capital less than your cost or other basis in
loss to the extent of any capital gain the shares. Call Fund Information for
distributions received by you from the a free shareholder Tax Information
fund. All or a portion of any loss on Handbook if you need more information
the redemption or exchange of your in calculating the gain or loss on the
shares will be disallowed by the IRS redemption or exchange of your shares.
if you purchase other shares in the
fund within 30 days before or after
your redemption or exchange.
----------------------------------------
U.S. GOVERNMENT INTEREST. Many states grant tax-free status to dividends paid
from interest earned on direct obligations of the U.S. Government, subject to
certain restrictions. Each fund in which you are a shareholder will provide you
with information at the end of each calendar year on the amount of such
dividends that may qualify for exemption from reporting on your individual
income tax returns.
NON-U.S. INVESTORS. Ordinary dividends generally will be subject to U.S.
income tax withholding. Your home country may also tax ordinary dividends,
capital gain distributions and gains arising from redemptions or exchanges of
your fund shares. Fund shares held by the estate of a non-U.S. investor may
be subject to U.S. estate tax. You may wish to contact your tax advisor to
determine the U.S. and non-U.S. tax consequences of your investment in a fund.
STATE TAXES. Ordinary dividends and capital gain distributions that you receive
from a fund, and gains arising from redemptions or exchanges of your fund shares
will generally be subject to state and local income tax. The holding of fund
shares may also be subject to state and local intangibles taxes. You may wish to
contact your tax advisor to determine the state and local tax consequences of
your investment in a fund.
----------------------------------------
BACKUP WITHHOLDING. When you open an WHAT IS A
account, IRS regulations require that BACKUP WITHHOLDING?
you provide your taxpayer
identification number ("TIN"), certify Backup withholding occurs when a fund
that it is correct, and certify that is required to withhold and pay over
you are not subject to backup to the IRS 31% of your distributions
withholding under IRS rules. If you and redemption proceeds. You can avoid
fail to provide a correct TIN or the backup withholding by providing the
proper tax certifications, the fund is fund with your TIN, and by completing
required to withhold 31% of all the the tax certifications on your
distributions (including ordinary shareholder application that you were
dividends and capital gain asked to sign when you opened your
distributions), and redemption account. However, if the IRS instructs
proceeds paid to you. The fund is also a fund to begin backup withholding, it
required to begin backup withholding is required to do so even if you
on your account if the IRS instructs provided the fund with your TIN and
the fund to do so. The funds reserve these tax certifications, and backup
the right not to open your account, withholding will remain in place until
or, alternatively, to redeem your the fund is instructed by the IRS that
shares at the current Net Asset Value, it is no longer required.
less any taxes withheld, if you fail
to provide a correct TIN, fail to
provide the proper tax certifications,
or the IRS instructs the funds to
begin backup withholding on your
account.
----------------------------------------
THIS TAX DISCUSSION IS FOR GENERAL INFORMATION ONLY. PROSPECTIVE INVESTORS
SHOULD CONSULT THEIR OWN TAX ADVISORS CONCERNING THE FEDERAL, STATE, LOCAL OR
FOREIGN TAX CONSEQUENCES OF AN INVESTMENT IN A FUND. A MORE COMPLETE DISCUSSION
OF THESE RULES AND RELATED MATTERS IS CONTAINED IN THE SECTION ENTITLED
"ADDITIONAL INFORMATION ON DISTRIBUTIONS AND TAXES" IN THE SAI. THE TAX
TREATMENT TO YOU OF DIVIDENDS, CAPITAL GAIN DISTRIBUTIONS, FOREIGN TAXES PAID
AND INCOME TAXES WITHHELD IS ALSO DISCUSSED IN A FREE FRANKLIN TEMPLETON TAX
INFORMATION HANDBOOK, WHICH YOU MAY REQUEST BY CONTACTING FUND INFORMATION.
HOW IS THE TRUST ORGANIZED?
The California Fund is a non-diversified series, and the MidCap Fund and the
Blue Chip Fund are diversified series of Franklin Strategic Series (the
"Trust"), an open-end management investment company, commonly called a mutual
fund. It was organized as a Delaware business trust on January 25, 1991, and is
registered with the SEC. The California Fund offers two classes of shares:
Franklin California Growth Fund - Class I and Franklin California Growth Fund -
Class II. All shares of the California Fund outstanding before the offering of
Class II shares and all shares of the MidCap Fund and the Blue Chip Fund are
considered Class I shares for redemption, exchange and other purposes.
Additional series and classes of shares may be offered in the future.
Before July 12, 1993, the California Fund was named the Franklin California 250
Growth Fund. On that date, the fund's investment objective and various
investment policies were changed. Consistent with these changes, the fund's name
was changed to the Franklin California Growth Fund.
The MidCap Fund changed its name from FISCO MidCap Growth Fund to Franklin
Institutional MidCap Growth Fund on September 1, 1994, and to its current name
on April 18, 1996.
Shares of each class of the California Fund represent proportionate interests in
the assets of the fund and have the same voting and other rights and preferences
as any other class of the fund for matters that affect the fund as a whole. For
matters that only affect one class, however, only shareholders of that class may
vote. Each class will vote separately on matters affecting only that class, or
expressly required to be voted on separately by state or federal law. Shares of
each class of a series have the same voting and other rights and preferences as
the other classes and series of the Trust for matters that affect the Trust as a
whole.
The Trust has noncumulative voting rights. This gives holders of more than 50%
of the shares voting the ability to elect all of the members of the Board. If
this happens, holders of the remaining shares voting will not be able to elect
anyone to the Board.
The Trust does not intend to hold annual shareholder meetings. The Trust or a
series of the Trust may hold special meetings, however, for matters requiring
shareholder approval. A meeting may also be called by the Board in its
discretion or by shareholders holding at least 10% of the outstanding shares. In
certain circumstances, we are required to help you communicate with other
shareholders about the removal of a Board member.
As of June 2, 1998, Resources owned of record and beneficially more than 25% of
the outstanding shares of the MidCap Fund.
ABOUT YOUR ACCOUNT
HOW DO I BUY SHARES?
OPENING YOUR ACCOUNT
To open your account, please follow the steps below. This will help avoid any
delays in processing your request. PLEASE KEEP IN MIND THAT THE CALIFORNIA FUND
DOES NOT CURRENTLY ALLOW INVESTMENTS BY MARKET TIMERS.
1. Read this prospectus carefully.
2. Determine how much you would like to invest. The funds' minimum investments
are:
To open a regular, non-retirement account........................ $1,000
To open an IRA, IRA Rollover, Roth IRA, or Education IRA......... $ 250
To open a custodial account for a minor (an UGMA/UTMA account)... $ 100
To open an account with an automatic investment plan............. $50**
To add to an account............................................. $50***
*For all other retirement accounts, there is no minimum investment requirement
**$25 for an Education IRA.
***For all retirement accounts except IRAs, IRA Rollovers, Roth IRAs, or
Education IRAs, there is no minimum to add to an account.
We reserve the right to change the amount of these minimums from time to time or
to waive or lower these minimums for certain purchases. We also reserve the
right to refuse any order to buy shares.
3. Carefully complete and sign the enclosed shareholder application, including
the optional shareholder privileges section. By applying for privileges now,
you can avoid the delay and inconvenience of having to send an additional
application to add privileges later. Please also indicate which class of
shares you want to buy. If you do not specify a class, we will automatically
invest your purchase in Class I shares. It is important that we receive a
signed application since we will not be able to process any redemptions from
your account until we receive your signed application.
4. Make your investment using the table below.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL For an initial investment:
Return the application to the fund with your check
made payable to the fund.
For additional investments:
Send a check made payable to the fund. Please include
your account number on the check.
- ------------------------------------------------------------------------------
BY WIRE 1. Call Shareholder Services or, if that number is busy,
call 1-650/312-2000 collect, to receive a wire
control number and wire instructions. You need a
new wire control number every time you wire money
into your account. If you do not have a currently
effective wire control number, we will return the
money to the bank, and we will not credit the
purchase to your account.
2. For an initial investment you must also return your
signed shareholder application to the fund.
Important Deadlines: If we receive your call before 1:00
p.m. Pacific time and the bank receives the wired funds
and reports the receipt of wired funds to the fund by
3:00 p.m. Pacific time, we will credit the purchase to
your account that day. If we receive your call after
1:00 p.m. or the bank receives the wire after 3:00 p.m.,
we will credit the purchase to your account the
following business day.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
CHOOSING A SHARE CLASS (CALIFORNIA FUND ONLY)
Each class has its own sales charge and expense structure, allowing you to
choose the class that best meets your situation. The class that may be best for
you depends on a number of factors, including the amount and length of time you
expect to invest. Generally, Class I shares may be more attractive for long-term
investors or investors who qualify to buy Class I shares at a reduced sales
charge. Your financial representative can help you decide.
- --------------------------------------------------------------------------------
CLASS I CLASS II
o Higher front-end sales charges o Lower front-end sales charges than
than Class II shares. There are Class I shares
several ways to reduce these
charges, as described below. There
is no front-end sales charge for
purchases of $1 million or more.*
o Contingent Deferred Sales Charge o Contingent Deferred Sales Charge
on purchases of $1 million or more on purchases sold within 18 months
sold within one year
o Lower annual expenses than Class o Higher annual expenses than Class
II shares I shares
- --------------------------------------------------------------------------------
*If you are investing $1 million or more, it is generally more beneficial for
you to buy Class I shares because there is no front-end sales charge and the
annual expenses are lower. Therefore, any purchase of $1 million or more is
automatically invested in Class I shares. You may accumulate more than $1
million in Class II shares through purchases over time. If you plan to do this,
however, you should determine if it would be better for you to buy Class I
shares through a Letter of Intent.
PURCHASE PRICE OF FUND SHARES
For Class I shares, the sales charge you pay depends on the dollar amount you
invest, as shown in the table below. The sales charge for Class II shares of the
California Fund is 1% and, unlike Class I, does not vary based on the size of
your purchase.
TOTAL SALES CHARGE AMOUNT PAID TO
AS A PERCENTAGE OF DEALER AS A
AMOUNT OF PURCHASE OFFERING NET AMOUNT PERCENTAGE OF
AT OFFERING PRICE PRICE INVESTED OFFERING PRICE
- --------------------------------------------------------------------------
CLASS I
Under $50,000 ...................... 5.75% 6.10% 5.00%
$50,000 but less than $100,000...... 4.50% 4.71% 3.75%
$100,000 but less than $250,000..... 3.50% 3.63% 2.80%
$250,000 but less than $500,000..... 2.50% 2.56% 2.00%
$500,000 but less than $1,000,000... 2.00% 2.04% 1.60%
$1,000,000 or more* ................ None None None
CLASS II - CALIFORNIA FUND ONLY
Under $1,000,000* .................. 1.00% 1.01% 1.00%
*A Contingent Deferred Sales Charge of 1% may apply to Class I purchases of $1
million or more and any Class II purchase. Please see "How Do I Sell Shares? -
Contingent Deferred Sales Charge." Please also see "Other Payments to Securities
Dealers" below for a discussion of payments Distributors may make out of its own
resources to Securities Dealers for certain purchases. Purchases of Class II
shares are limited to purchases below $1 million.
Please see "Choosing a Share Class."
SALES CHARGE REDUCTIONS AND WAIVERS
~ IF YOU QUALIFY TO BUY SHARES UNDER ONE OF THE SALES CHARGE REDUCTION OR
WAIVER CATEGORIES DESCRIBED BELOW, PLEASE INCLUDE A WRITTEN STATEMENT WITH
EACH PURCHASE ORDER EXPLAINING WHICH PRIVILEGE APPLIES. If you don't include
this statement, we cannot guarantee that you will receive the sales charge
reduction or waiver.
CUMULATIVE QUANTITY DISCOUNTS - CLASS I ONLY. To determine if you may pay a
reduced sales charge, the amount of your current Class I purchase is added to
the cost or current value, whichever is higher, of your existing shares in the
Franklin Templeton Funds, as well as those of your spouse, children under the
age of 21 and grandchildren under the age of 21. If you are the sole owner of a
company, you may also add any company accounts, including retirement plan
accounts. Companies with one or more retirement plans may add together the total
plan assets invested in the Franklin Templeton Funds to determine the sales
charge that applies.
LETTER OF INTENT - CLASS I ONLY. You may buy Class I shares at a reduced sales
charge by completing the Letter of Intent section of the shareholder
application. A Letter of Intent is a commitment by you to invest a specified
dollar amount during a 13 month period. The amount you agree to invest
determines the sales charge you pay on Class I shares.
BY COMPLETING THE LETTER OF INTENT SECTION OF THE SHAREHOLDER APPLICATION, YOU
ACKNOWLEDGE AND AGREE TO THE FOLLOWING:
o You authorize Distributors to reserve 5% of your total intended purchase in
Class I shares registered in your name until you fulfill your Letter.
o You give Distributors a security interest in the reserved shares and appoint
Distributors as attorney-in-fact.
o Distributors may sell any or all of the reserved shares to cover any
additional sales charge if you do not fulfill the terms of the Letter.
o Although you may exchange your shares, you may not sell reserved shares until
you complete the Letter or pay the higher sales charge.
Your periodic statements will include the reserved shares in the total shares
you own. We will pay or reinvest dividend and capital gain distributions on the
reserved shares as you direct. Our policy of reserving shares does not apply to
certain retirement plans.
If you would like more information about the Letter of Intent privilege, please
see "How Do I Buy, Sell and Exchange Shares? - Letter of Intent" in the SAI or
call Shareholder Services.
GROUP PURCHASES - CLASS I ONLY. If you are a member of a qualified group, you
may buy Class I shares at a reduced sales charge that applies to the group as a
whole. The sales charge is based on the combined dollar value of the group
members' existing investments, plus the amount of the current purchase.
A qualified group is one that:
o Was formed at least six months ago,
o Has a purpose other than buying fund shares at a discount,
o Has more than 10 members,
o Can arrange for meetings between our representatives and group members,
o Agrees to include Franklin Templeton Fund sales and other materials in
publications and mailings to its members at reduced or no cost to
Distributors,
o Agrees to arrange for payroll deduction or other bulk transmission of
investments to the fund, and
o Meets other uniform criteria that allow Distributors to achieve cost savings
in distributing shares.
A qualified group does not include a 403(b) plan that only allows salary
deferral contributions. 403(b) plans that only allow salary deferral
contributions and that purchased Class I shares of a fund at a reduced sales
charge under the group purchase privilege before February 1, 1998, however, may
continue to do so.
SALES CHARGE WAIVERS. If one of the following sales charge waivers applies to
you or your purchase of fund shares, you may buy shares of the funds without a
front-end sales charge or a Contingent Deferred Sales Charge. All of the sales
charge waivers listed below apply to purchases of Class I shares only, except
for items 1 and 2 which also apply to Class II purchases.
Certain distributions, payments or redemption proceeds that you receive may be
used to buy shares of the funds without a sales charge if you reinvest them
within 365 days of their payment or redemption date. They include:
1. Dividend and capital gain distributions from any Franklin Templeton Fund.
The distributions generally must be reinvested in the same class of shares.
Certain exceptions apply, however, to Class II shareholders who chose to
reinvest their distributions in Class I shares of a fund before November
17, 1997, and to Advisor Class or Class Z shareholders of a Franklin
Templeton Fund who may reinvest their distributions in Class I shares of
the funds.
2. Redemption proceeds from the sale of shares of any Franklin Templeton Fund
if you originally paid a sales charge on the shares and you reinvest the
money in the same class of shares. This waiver does not apply to exchanges.
If you paid a Contingent Deferred Sales Charge when you redeemed your
shares from a Franklin Templeton Fund, a Contingent Deferred Sales Charge
will apply to your purchase of fund shares and a new Contingency Period
will begin. We will, however, credit your fund account with additional
shares based on the Contingent Deferred Sales Charge you paid and the
amount of redemption proceeds that you reinvest.
If you immediately placed your redemption proceeds in a Franklin Bank CD,
you may reinvest them as described above. The proceeds must be reinvested
within 365 days from the date the CD matures, including any rollover.
3. Dividend or capital gain distributions from a real estate investment trust
(REIT) sponsored or advised by Franklin Properties, Inc.
4. Annuity payments received under either an annuity option or from death
benefit proceeds, only if the annuity contract offers as an investment
option the Franklin Valuemark Funds or the Templeton Variable Products
Series Fund. You should contact your tax advisor for information on any tax
consequences that may apply.
5. Redemption proceeds from a repurchase of shares of Franklin Floating Rate
Trust, if the shares were continuously held for at least 12 months.
If you immediately placed your redemption proceeds in a Franklin Bank CD or
a Franklin Templeton money fund, you may reinvest them as described above.
The proceeds must be reinvested within 365 days from the date the CD
matures, including any rollover, or the date you redeem your money fund
shares.
6. Redemption proceeds from the sale of Class A shares of any of the Templeton
Global Strategy Funds if you are a qualified investor.
If you paid a contingent deferred sales charge when you redeemed your Class
A shares from a Templeton Global Strategy Fund, a Contingent Deferred Sales
Charge will apply to your purchase of fund shares and a new Contingency
Period will begin. We will, however, credit your fund account with
additional shares based on the contingent deferred sales charge you paid
and the amount of the redemption proceeds that you reinvest.
If you immediately placed your redemption proceeds in a Franklin Templeton
money fund, you may reinvest them as described above. The proceeds must be
reinvested within 365 days from the date they are redeemed from the money
fund.
7. Distributions from an existing retirement plan invested in the Franklin
Templeton Funds
Various individuals and institutions also may buy Class I shares without a
front-end sales charge or Contingent Deferred Sales Charge, including:
1. Trust companies and bank trust departments agreeing to invest in
Franklin Templeton Funds over a 13 month period at least $1 million of
assets held in a fiduciary, agency, advisory, custodial or similar
capacity and over which the trust companies and bank trust departments
or other plan fiduciaries or participants, in the case of certain
retirement plans, have full or shared investment discretion. We will
accept orders for these accounts by mail accompanied by a check or by
telephone or other means of electronic data transfer directly from the
bank or trust company, with payment by federal funds received by the
close of business on the next business day following the order.
2. An Eligible Governmental Authority. Please consult your legal and
investment advisors to determine if an investment in a fund is permissible
and suitable for you and the effect, if any, of payments by the fund on
arbitrage rebate calculations.
3. Broker-dealers, registered investment advisors or certified financial
planners who have entered into an agreement with Distributors for clients
participating in comprehensive fee programs. The minimum initial investment
is $250.
4. Qualified registered investment advisors who buy through a broker-dealer or
service agent who has entered into an agreement with Distributors
5. Registered Securities Dealers and their affiliates, for their investment
accounts only
6. Current employees of Securities Dealers and their affiliates and their
family members, as allowed by the internal policies of their employer
7. Officers, trustees, directors and full-time employees of the Franklin
Templeton Funds or the Franklin Templeton Group, and their family members,
consistent with our then-current policies. The minimum initial investment
is $100.
8. Investment companies exchanging shares or selling assets pursuant to a
merger, acquisition or exchange offer
9. Accounts managed by the Franklin Templeton Group
10. Certain unit investment trusts and their holders reinvesting distributions
from the trusts
11. Group annuity separate accounts offered to retirement plans
12. Chilean retirement plans that meet the requirements described under
"Retirement Plans" below
RETIREMENT PLANS. Retirement plans that (i) are sponsored by an employer with at
least 100 employees, or (ii) have plan assets of $1 million or more, or (iii)
agree to invest at least $500,000 in the Franklin Templeton Funds over a 13
month period may buy Class I shares without a front-end sales charge. Retirement
plans that are not Qualified Retirement Plans, SIMPLEs or SEPs must also meet
the requirements described under "Group Purchases - Class I Only" above to be
able to buy Class I shares without a front-end sales charge. We may enter into a
special arrangement with a Securities Dealer, based on criteria established by
the funds, to add together certain small Qualified Retirement Plan accounts for
the purpose of meeting these requirements.
For retirement plan accounts opened on or after May 1, 1997, a Contingent
Deferred Sales Charge may apply if the retirement plan is transferred out of the
Franklin Templeton Funds or terminated within 365 days of the retirement plan
account's initial purchase in the Franklin Templeton Funds. Please see "How Do I
Sell Shares? - Contingent Deferred Sales Charge" for details.
HOW DO I BUY SHARES IN CONNECTION WITH RETIREMENT PLANS?
Your individual or employer-sponsored retirement plan may invest in the funds.
Plan documents are required for all retirement plans. Trust Company can provide
the plan documents for you and serve as custodian or trustee.
Trust Company can provide you with brochures containing important information
about its plans. To establish a Trust Company retirement plan, you will need an
application other than the one included in this prospectus. For a retirement
plan brochure or application, call Retirement Plan Services.
Please consult your legal, tax or retirement plan specialist before choosing a
retirement plan. Your investment representative or advisor can help you make
investment decisions within your plan.
OTHER PAYMENTS TO SECURITIES DEALERS
The payments described below may be made to Securities Dealers who initiate and
are responsible for Class II purchases and certain Class I purchases made
without a sales charge. The payments are subject to the sole discretion of
Distributors, and are paid by Distributors or one of its affiliates and not by
the funds or their shareholders.
1. Class II purchases - up to 1% of the purchase price.
2. Class I purchases of $1 million or more - up to 1% of the amount invested.
3. Class I purchases made without a front-end sales charge by certain
retirement plans described under "Sales Charge Reductions and Waivers
Retirement Plans" above - up to 1% of the amount invested.
4. Class I purchases by trust companies and bank trust departments, Eligible
Governmental Authorities, and broker-dealers or others on behalf of clients
participating in comprehensive fee programs - up to 0.25% of the amount
invested.
5. Class I purchases by Chilean retirement plans - up to 1% of the amount
invested.
A Securities Dealer may receive only one of these payments for each qualifying
purchase. Securities Dealers who receive payments in connection with investments
described in paragraphs 1, 2 or 5 above or a payment of up to 1% for investments
described in paragraph 3 will be eligible to receive the Rule 12b-1 fee
associated with the purchase starting in the thirteenth calendar month after the
purchase.
FOR BREAKPOINTS THAT MAY APPLY AND INFORMATION ON ADDITIONAL COMPENSATION
PAYABLE TO SECURITIES DEALERS IN CONNECTION WITH THE SALE OF FUND SHARES, PLEASE
SEE "HOW DO I BUY, SELL AND EXCHANGE SHARES? - OTHER PAYMENTS TO SECURITIES
DEALERS" IN THE SAI.
FOR INVESTORS OUTSIDE THE U.S.
The distribution of this prospectus and the offering of fund shares may be
limited in many jurisdictions. An investor who wishes to buy shares of a fund
should determine, or have a broker-dealer determine, the applicable laws and
regulations of the relevant jurisdiction. Investors are responsible for
compliance with tax, currency exchange or other regulations applicable to
redemption and purchase transactions in any jurisdiction to which they may be
subject. Investors should consult appropriate tax and legal advisors to obtain
information on the rules applicable to these transactions.
MAY I EXCHANGE SHARES FOR SHARES OF ANOTHER FUND?
We offer a wide variety of funds. If you would like, you can move your
investment from your fund account to an existing or new account in another
Franklin Templeton Fund (an "exchange"). Because it is technically a sale and a
purchase of shares, an exchange is a taxable transaction.
If you own Class I shares, you may exchange into any of our money funds except
Franklin Templeton Money Fund II ("Money Fund II"). Money Fund II is the only
money fund exchange option available to Class II shareholders. Unlike our other
money funds, shares of Money Fund II may not be purchased directly and no drafts
(checks) may be written on Money Fund II accounts.
Before making an exchange, please read the prospectus of the fund you are
interested in. This will help you learn about the fund, its investment goal and
policies, and its rules and requirements for exchanges. For example, some
Franklin Templeton Funds do not accept exchanges and others may have different
investment minimums. Some Franklin Templeton Funds do not offer Class II shares.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL 1. Send us signed written instructions
2. Include any outstanding share certificates for
the shares you want to exchange
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services or TeleFACTS(R)
~ If you do not want the ability to exchange by phone
to apply to your account, please let us know.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to exchange shares.
WILL SALES CHARGES APPLY TO MY EXCHANGE?
You generally will not pay a front-end sales charge on exchanges. If you have
held your shares less than six months, however, you will pay the percentage
difference between the sales charge you previously paid and the applicable sales
charge of the new fund, if the difference is more than 0.25%. If you have never
paid a sales charge on your shares because, for example, they have always been
held in a money fund, you will pay the fund's applicable sales charge no matter
how long you have held your shares. These charges may not apply if you qualify
to buy shares without a sales charge.
CONTINGENT DEFERRED SALES CHARGE. We will not impose a Contingent Deferred Sales
Charge when you exchange shares. Any shares subject to a Contingent Deferred
Sales Charge at the time of exchange, however, will remain so in the new fund.
For accounts with shares subject to a Contingent Deferred Sales Charge, we will
first exchange any shares in your account that are not subject to the charge. If
there are not enough of these to meet your exchange request, we will exchange
shares subject to the charge in the order they were purchased.
If you exchange Class I shares into one of our money funds, the time your shares
are held in that fund not will count towards the completion of any Contingency
Period. If you exchange your Class II shares for shares of Money Fund II,
however, the time your shares are held in that fund will count towards the
completion of any Contingency Period.
For more information about the Contingent Deferred Sales Charge, please see "How
Do I Sell Shares?"
EXCHANGE RESTRICTIONS
o Please be aware that the following restrictions apply to exchanges:
o You must meet the applicable minimum investment amount of the fund you are
exchanging into, or exchange 100% of your fund shares.
o You may only exchange shares within the SAME CLASS, except as noted below.
o The accounts must be identically registered. You may, however, exchange
shares from a fund account requiring two or more signatures into an
identically registered money fund account requiring only one signature for
all transactions. PLEASE NOTIFY US IN WRITING IF YOU DO NOT WANT THIS OPTION
TO BE AVAILABLE ON YOUR ACCOUNT. Additional procedures may apply. Please see
"Transaction Procedures and Special Requirements."
o Trust Company IRA or 403(b) retirement plan accounts may exchange shares as
described above. Restrictions may apply to other types of retirement plans.
Please contact Retirement Plan Services for information on exchanges within
these plans.
o The fund you are exchanging into must be eligible for sale in your state.
o We may modify or discontinue our exchange policy if we give you 60 days'
written notice.
o Your exchange may be restricted or refused if you have: (i) requested an
exchange out of the fund within two weeks of an earlier exchange request,
(ii) exchanged shares out of the fund more than twice in a calendar quarter,
or (iii) exchanged shares equal to at least $5 million, or more than 1% of
the fund's net assets. Shares under common ownership or control are combined
for these limits. If you have exchanged shares as described in this
paragraph, you will be considered a Market Timer. Each exchange by a Market
Timer, if accepted, will be charged $5.00. Some of our funds, including the
California Fund, do not allow investments by Market Timers.
Because excessive trading can hurt fund performance, operations and
shareholders, we may refuse any exchange purchase if (i) we believe the fund
would be harmed or unable to invest effectively, or (ii) the fund receives or
anticipates simultaneous orders that may significantly affect the fund.
LIMITED EXCHANGES BETWEEN DIFFERENT CLASSES OF SHARES
Certain funds in the Franklin Templeton Funds offer classes of shares not
offered by the funds, such as "Advisor Class" or "Class Z" shares. Because the
funds do not currently offer an Advisor Class, you may exchange Advisor Class
shares of any Franklin Templeton Fund for Class I shares of a fund at Net Asset
Value. If you do so and you later decide you would like to exchange into a fund
that offers an Advisor Class, you may exchange your Class I shares for Advisor
Class shares of that fund. Certain shareholders of Class Z shares of Franklin
Mutual Series Fund Inc. may also exchange their Class Z shares for Class I
shares of the funds at Net Asset Value.
HOW DO I SELL SHARES?
You may sell (redeem) your shares at any time.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL 1. Send us signed written instructions. If you would like
your redemption proceeds wired to a bank account,
your instructions should include:
o The name, address and telephone number of the
bank where you want the proceeds sent
o Your bank account number
o The Federal Reserve ABA routing number
o If you are using a savings and loan or credit
union, the name of the corresponding bank and
the account number
2. Include any outstanding share certificates for
the shares you are selling
3. Provide a signature guarantee if required
4. Corporate, partnership and trust accounts may need
to send additional documents. Accounts under court
jurisdiction may have other requirements.
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services. If you would like your
redemption proceeds wired to a bank account, other
than an escrow account, you must first sign up for
the wire feature. To sign up, send us written
instructions, with a signature guarantee. To avoid
any delay in processing, the instructions should
include the items listed in "By Mail" above.
Telephone requests will be accepted:
o If the request is $50,000 or less. Institutional
accounts may exceed $50,000 by completing a
separate agreement. Call Institutional Services to
receive a copy.
o If there are no share certificates issued for the
shares you want to sell or you have already
returned them to the fund
o Unless you are selling shares in a Trust
Company retirement plan account
o Unless the address on your account was changed
by phone within the last 15 days
~ If you do not want the ability to redeem by phone
to apply to your account, please let us know.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
We will send your redemption check within seven days after we receive your
request in proper form. If you would like the check sent to an address other
than the address of record or made payable to someone other than the registered
owners on the account, send us written instructions signed by all account
owners, with a signature guarantee. We are not able to receive or pay out cash
in the form of currency.
The wiring of redemption proceeds is a special service that we make available
whenever possible for redemption requests of $1,000 or more. If we receive your
request in proper form before 1:00 p.m. Pacific time, your wire payment will be
sent the next business day. For requests received in proper form after 1:00 p.m.
Pacific time, the payment will be sent the second business day. By offering this
service to you, the funds are not bound to meet any redemption request in less
than the seven day period prescribed by law. Neither the funds nor their agents
shall be liable to you or any other person if, for any reason, a redemption
request by wire is not processed as described in this section.
If you sell shares you recently purchased with a check or draft, we may delay
sending you the proceeds until your check or draft has cleared, which may take
seven business days or more. A certified or cashier's check may clear in less
time.
Under unusual circumstances, we may suspend redemptions or postpone payment for
more than seven days as permitted by federal securities law.
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to sell shares.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS
To comply with IRS regulations, you need to complete additional forms before
selling shares in a Trust Company retirement plan account. Tax penalties
generally apply to any distribution from these plans to a participant under age
591/2, unless the distribution meets an exception stated in the Code. To obtain
the necessary forms, please call Retirement Plan Services.
CONTINGENT DEFERRED SALES CHARGE
For Class I purchases, if you did not pay a front-end sales charge because you
invested $1 million or more or agreed to invest $1 million or more under a
Letter of Intent, a Contingent Deferred Sales Charge may apply if you sell all
or a part of your investment within the Contingency Period. Once you have
invested $1 million or more, any additional Class I investments you make without
a sales charge may also be subject to a Contingent Deferred Sales Charge if they
are sold within the Contingency Period. For any Class II purchase, a Contingent
Deferred Sales Charge may apply if you sell the shares within the Contingency
Period. The charge is 1% of the value of the shares sold or the Net Asset Value
at the time of purchase, whichever is less.
Certain retirement plan accounts opened on or after May 1, 1997, and that
qualify to buy Class I shares without a front-end sales charge may also be
subject to a Contingent Deferred Sales Charge if the retirement plan is
transferred out of the Franklin Templeton Funds or terminated within 365 days of
the account's initial purchase in the Franklin Templeton Funds.
We will first redeem any shares in your account that are not subject to the
charge. If there are not enough of these to meet your request, we will redeem
shares subject to the charge in the order they were purchased.
Unless otherwise specified, when you request to sell a stated dollar amount, we
will redeem additional shares to cover any Contingent Deferred Sales Charge. For
requests to sell a stated number of shares, we will deduct the amount of the
Contingent Deferred Sales Charge, if any, from the sale proceeds.
WAIVERS. We waive the Contingent Deferred Sales Charge for:
o Account fees
o Sales of shares purchased without a front-end sales charge by certain
retirement plan accounts if (i) the account was opened before May 1, 1997, or
(ii) the Securities Dealer of record received a payment from Distributors of
0.25% or less, or (iii) Distributors did not make any payment in connection
with the purchase, or (iv) the Securities Dealer of record has entered into a
supplemental agreement with Distributors
o Redemptions by the fund when an account falls below the minimum required
account size
o Redemptions following the death of the shareholder or beneficial owner
o Redemptions through a systematic withdrawal plan set up before February
1, 1995
o Redemptions through a systematic withdrawal plan set up on or after February
1, 1995, at a rate of up to 1% a month of an account's Net Asset Value. For
example, if you maintain an annual balance of $1 million in Class I shares,
you can redeem up to $120,000 annually through a systematic withdrawal plan
free of charge. Likewise, if you maintain an annual balance of $10,000 in
Class II shares, $1,200 may be redeemed annually free of charge.
o Distributions from IRAs due to death or disability or upon periodic
distributions based on life expectancy
o Returns of excess contributions from employee benefit plans
o Redemptions by Trust Company employee benefit plans or employee benefit
plans serviced by ValuSelect(R)
o Participant initiated distributions from employee benefit plans or
participant initiated exchanges among investment choices in employee benefit
plans
WHAT DISTRIBUTIONS MIGHT I RECEIVE FROM THE FUNDS?
The California Fund and MidCap Fund declare dividends from their net investment
income semiannually in June and December to shareholders of record on the first
business day before the 15th of the month and pay them on or about the last day
of that month.
The Blue Chip Fund declares dividends from its net investment income annually in
December to shareholders of record on the first business day before the 15th of
the month and pays them on or about the last day of that month.
Capital gains, if any, may be distributed annually, usually in December.
Dividends and capital gains are calculated and distributed the same way for each
class. The amount of any income dividends per share will differ, however,
generally due to the difference in the Rule 12b-1 fees of Class I and Class II.
Dividend payments are not guaranteed, are subject to the Board's discretion and
may vary with each payment. THE FUNDS DO NOT PAY "INTEREST" OR GUARANTEE ANY
FIXED RATE OF RETURN ON AN INVESTMENT IN THEIR SHARES.
If you buy shares shortly before the record date, please keep in mind that any
distribution will lower the value of the fund's shares by the amount of the
distribution and you will then receive a portion of the price you paid back in
the form of a taxable distribution.
DISTRIBUTION OPTIONS
You may receive your distributions from a fund in any of these ways:
1. BUY ADDITIONAL SHARES OF THE FUND - You may buy additional shares of the fund
(without a sales charge or imposition of a Contingent Deferred Sales Charge) by
reinvesting capital gain distributions, or both dividend and capital gain
distributions. This is a convenient way to accumulate additional shares and
maintain or increase your earnings base.
2. BUY SHARES OF OTHER FRANKLIN TEMPLETON FUNDS - You may direct your
distributions to buy shares of another Franklin Templeton Fund (without a sales
charge or imposition of a Contingent Deferred Sales Charge). Many shareholders
find this a convenient way to diversify their investments.
3. RECEIVE DISTRIBUTIONS IN CASH - You may receive dividends, or both dividend
and capital gain distributions in cash. If you have the money sent to another
person or to a checking account, you may need a signature guarantee. If you send
the money to a checking account, please see "Electronic Fund Transfers - Class I
Only" under "Services to Help You Manage Your Account."
Distributions may be reinvested only in the same class of shares, except as
follows: (i) Class II shareholders who chose to reinvest their distributions in
Class I shares of the fund or another Franklin Templeton Fund before November
17, 1997, may continue to do so; and (ii) Class II shareholders may reinvest
their distributions in shares of any Franklin Templeton money fund.
TO SELECT ONE OF THESE OPTIONS, PLEASE COMPLETE SECTIONS 6 AND 7 OF THE
SHAREHOLDER APPLICATION INCLUDED WITH THIS PROSPECTUS OR TELL YOUR INVESTMENT
REPRESENTATIVE WHICH OPTION YOU PREFER. IF YOU DO NOT SELECT AN OPTION, WE WILL
AUTOMATICALLY REINVEST DIVIDEND AND CAPITAL GAIN DISTRIBUTIONS IN THE SAME CLASS
OF THE FUND. You may change your distribution option at any time by notifying us
by mail or phone. Please allow at least seven days before the record date for us
to process the new option. For Trust Company retirement plans, special forms are
required to receive distributions in cash.
TRANSACTION PROCEDURES AND SPECIAL REQUIREMENTS
SHARE PRICE
When you buy shares, you pay the Offering Price. This is the Net Asset Value per
share of the class you wish to purchase, plus any applicable sales charges. When
you sell shares, you receive the Net Asset Value per share minus any applicable
Contingent Deferred Sales Charges.
The Net Asset Value we use when you buy or sell shares is the one next
calculated after we receive your transaction request in proper form. If you buy
or sell shares through your Securities Dealer, however, we will use the Net
Asset Value next calculated after your Securities Dealer receives your request,
which is promptly transmitted to the fund. Your redemption proceeds will not
earn interest between the time we receive the order from your dealer and the
time we receive any required documents.
HOW AND WHEN SHARES ARE PRICED
The funds are open for business each day the NYSE is open. We determine the Net
Asset Value per share of each class as of the close of the NYSE, normally 1:00
p.m. Pacific time. You can find the prior day's closing Net Asset Value and
Offering Price for each class in many newspapers.
The Net Asset Value of all outstanding shares of each class is calculated on a
pro rata basis. It is based on each class' proportionate participation in the
fund, determined by the value of the shares of each class. Each class, however,
bears the Rule 12b-1 fees payable under its Rule 12b-1 plan. To calculate Net
Asset Value per share of each class, the assets of each class are valued and
totaled, liabilities are subtracted, and the balance, called net assets, is
divided by the number of shares of the class outstanding. The funds' assets are
valued as described under "How Are Fund Shares Valued?" in the SAI.
WRITTEN INSTRUCTIONS
Written instructions must be signed by all registered owners. To avoid any delay
in processing your transaction, they should include:
o Your name,
o The fund's name,
o The class of shares,
o A description of the request,
o For exchanges, the name of the fund you are exchanging into,
o Your account number,
o The dollar amount or number of shares, and
o A telephone number where we may reach you during the day, or in the evening
if preferred.
JOINT ACCOUNTS. For accounts with more than one registered owner, we accept
written instructions signed by only one owner for certain types of transactions
or account changes. These include transactions or account changes that you could
also make by phone, such as certain redemptions of $50,000 or less, exchanges
between identically registered accounts, and changes to the address of record.
For most other types of transactions or changes, written instructions must be
signed by all registered owners.
Please keep in mind that if you have previously told us that you do not want
telephone exchange or redemption privileges on your account, then we can only
accept written instructions to exchange or redeem shares if they are signed by
all registered owners on the account.
SIGNATURE GUARANTEES
For our mutual protection, we require a signature guarantee in the following
situations:
1) You wish to sell over $50,000 worth of shares,
2) You want the proceeds to be paid to someone other than the registered owners,
3) The proceeds are not being sent to the address of record, preauthorized bank
account, or preauthorized brokerage firm account,
4) We receive instructions from an agent, not the registered owners,
5) We believe a signature guarantee would protect us against potential claims
based on the instructions received.
A signature guarantee verifies the authenticity of your signature. You should be
able to obtain a signature guarantee from a bank, broker, credit union, savings
association, clearing agency, or securities exchange or association.
A NOTARIZED SIGNATURE IS NOT SUFFICIENT.
SHARE CERTIFICATES
We will credit your shares to your fund account. We do not issue share
certificates unless you specifically request them. This eliminates the costly
problem of replacing lost, stolen or destroyed certificates. If a certificate is
lost, stolen or destroyed, you may have to pay an insurance premium of up to 2%
of the value of the certificate to replace it.
Any outstanding share certificates must be returned to the fund if you want to
sell or exchange those shares or if you would like to start a systematic
withdrawal plan. The certificates should be properly endorsed. You can do this
either by signing the back of the certificate or by completing a share
assignment form. For your protection, you may prefer to complete a share
assignment form and to send the certificate and assignment form in separate
envelopes.
TELEPHONE TRANSACTIONS
You may initiate many transactions and changes to your account by phone. Please
refer to the sections of this prospectus that discuss the transaction you would
like to make or call Shareholder Services.
When you call, we will request personal or other identifying information to
confirm that instructions are genuine. We may also record calls.
If our lines are busy or you are otherwise unable to reach us by phone, you may
wish to ask your investment representative for assistance or send us written
instructions, as described elsewhere in this prospectus.
For your protection, we may delay a transaction or not implement one if we are
not reasonably satisfied that the instructions are genuine. If this occurs, we
will not be liable for any loss. We also will not be liable for any loss if we
follow instructions by phone that we reasonably believe are genuine or if you
are unable to execute a transaction by phone.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS. We cannot accept instructions to sell
shares or change distribution options on Trust Company retirement plans by
phone. While you may exchange shares of Trust Company IRA and 403(b) retirement
accounts by phone, certain restrictions may be imposed on other retirement
plans.
To obtain any required forms or more information about distribution or transfer
procedures, please call Retirement Plan Services.
ACCOUNT REGISTRATIONS AND REQUIRED DOCUMENTS
When you open an account, we need you to tell us how you want your shares
registered. How you register your account will affect your ownership rights and
ability to make certain transactions. If you have questions about how to
register your account, you should consult your investment representative or
legal advisor. Please keep the following information in mind when registering
your account.
JOINT OWNERSHIP. If you open an account with two or more owners, we register the
account as "joint tenants with rights of survivorship" unless you tell us
otherwise. An account registered as "joint tenants with rights of survivorship"
is shown as "Jt Ten" on your account statement. For any account with two or more
owners, we cannot accept instructions to change owners on the account unless all
owners agree in writing, even if the law in your state says otherwise. If you
would like another person or owner to sign for you, please send us a current
power of attorney.
GIFTS AND TRANSFERS TO MINORS. You may set up a custodial account for a minor
under your state's Uniform Gifts/Transfers to Minors Act. Other than this form
of registration, a minor may not be named as an account owner.
TRUSTS. You should register your account as a trust only if you have a valid
written trust document. This avoids future disputes or possible court action
over who owns the account.
REQUIRED DOCUMENTS. For corporate, partnership and trust accounts, please send
us the following documents when you open your account. This will help avoid
delays in processing your transactions while we verify who may sign on the
account.
TYPE OF ACCOUNT DOCUMENTS REQUIRED
- ------------------------------------------------------------------------------
CORPORATION Corporate Resolution
- ------------------------------------------------------------------------------
PARTNERSHIP 1. The pages from the partnership agreement that identify
the general partners, or
2. A certification for a partnership agreement
- ------------------------------------------------------------------------------
TRUST 1. The pages from the trust document that identify
the trustees, or
2. A certification for trust
- ------------------------------------------------------------------------------
STREET OR NOMINEE ACCOUNTS. If you have fund shares held in a "street" or
"nominee" name account with your Securities Dealer, you may transfer the shares
to the street or nominee name account of another Securities Dealer. Both dealers
must have an agreement with Distributors or we cannot process the transfer.
Contact your Securities Dealer to initiate the transfer. We will process the
transfer after we receive authorization in proper form from your delivering
Securities Dealer. Accounts may be transferred electronically through the NSCC.
For accounts registered in street or nominee name, we may take instructions
directly from the Securities Dealer or your nominee.
IMPORTANT INFORMATION IF YOU HAVE AN INVESTMENT REPRESENTATIVE
If there is a Securities Dealer or other representative of record on your
account, we are authorized: (1) to provide confirmations, account statements and
other information about your account directly to your dealer and/or
representative; and (2) to accept telephone and electronic instructions directly
from your dealer or representative, including instructions to exchange or redeem
your shares. Electronic instructions may be processed through established
electronic trading systems and programs used by the funds. Telephone
instructions directly from your representative will be accepted unless you have
told us that you do not want telephone privileges to apply to your account.
KEEPING YOUR ACCOUNT OPEN
Due to the relatively high cost of maintaining a small account, we may close
your account if the value of your shares is less than $250, or less than $50 for
employee accounts and custodial accounts for minors. We will only do this if the
value of your account fell below this amount because you voluntarily sold your
shares and your account has been inactive (except for the reinvestment of
distributions) for at least six months. Before we close your account, we will
notify you and give you 30 days to increase the value of your account to $1,000,
or $100 for employee accounts and custodial accounts for minors. These minimums
do not apply to IRAs and other retirement plan accounts or to accounts managed
by the Franklin Templeton Group.
SERVICES TO HELP YOU MANAGE YOUR ACCOUNT
AUTOMATIC INVESTMENT PLAN
Our automatic investment plan offers a convenient way to invest in the funds.
Under the plan, you can have money transferred automatically from your checking
account to a fund each month to buy additional shares. If you are interested in
this program, please refer to the automatic investment plan application included
with this prospectus or contact your investment representative. The market value
of the funds' shares may fluctuate and a systematic investment plan such as this
will not assure a profit or protect against a loss. You may discontinue the
program at any time by notifying Investor Services by mail or phone.
AUTOMATIC PAYROLL DEDUCTION - CLASS I ONLY
You may have money transferred from your paycheck to a fund to buy additional
Class I shares. Your investments will continue automatically until you instruct
the fund and your employer to discontinue the plan. To process your investment,
we must receive both the check and payroll deduction information in required
form. Due to different procedures used by employers to handle payroll
deductions, there may be a delay between the time of the payroll deduction and
the time we receive the money.
SYSTEMATIC WITHDRAWAL PLAN
Our systematic withdrawal plan allows you to sell your shares and receive
regular payments from your account on a monthly, quarterly, semiannual or annual
basis. The value of your account must be at least $5,000 and the minimum payment
amount for each withdrawal must be at least $50. For retirement plans subject to
mandatory distribution requirements, the $50 minimum will not apply.
If you would like to establish a systematic withdrawal plan, please complete the
systematic withdrawal plan section of the shareholder application included with
this prospectus and indicate how you would like to receive your payments. You
may choose to direct your payments to buy the same class of shares of another
Franklin Templeton Fund or have the money sent directly to you, to another
person, or to a checking account. If you choose to have the money sent to a
checking account, please see "Electronic Fund Transfers Class I Only" below.
Once your plan is established, any distributions paid by the fund will be
automatically reinvested in your account.
You will generally receive your payment by the end of the month in which a
payment is scheduled. When you sell your shares under a systematic withdrawal
plan, it is a taxable transaction.
To avoid paying sales charges on money you plan to withdraw within a short
period of time, you may not want to set up a systematic withdrawal plan if you
plan to buy shares on a regular basis. Shares sold under the plan may also be
subject to a Contingent Deferred Sales Charge. Please see "Contingent Deferred
Sales Charge" under "How Do I Sell Shares?"
You may discontinue a systematic withdrawal plan, change the amount and schedule
of withdrawal payments, or suspend one payment by notifying us by mail or by
phone at least seven business days before the end of the month preceding a
scheduled payment. Please see "How Do I Buy, Sell and Exchange Shares? -
Systematic Withdrawal Plan" in the SAI for more information.
ELECTRONIC FUND TRANSFERS - CLASS I ONLY
You may choose to have dividend and capital gain distributions from Class I
shares of a fund or payments under a systematic withdrawal plan sent directly to
a checking account. If the checking account is with a bank that is a member of
the Automated Clearing House, the payments may be made automatically by
electronic funds transfer. If you choose this option, please allow at least
fifteen days for initial processing. We will send any payments made during that
time to the address of record on your account.
TELEFACTS(R)
From a touch-tone phone, you may call our TeleFACTS(R) system (day or night) at
1-800/247-1753 to:
o obtain information about your account;
o obtain price and performance information about any Franklin Templeton Fund;
o exchange shares (within the same class) between identically registered
Franklin Templeton Class I and Class II accounts; and
o request duplicate statements and deposit slips for Franklin Templeton
accounts.
You will need the code number for each class to use TeleFACTS(R). The code
numbers are as follows:
CODE NUMBER
California Fund - Class I.............. 180
California Fund - Class II............. 280
MidCap Fund............................ 196
Blue Chip Fund......................... 283
STATEMENTS AND REPORTS TO SHAREHOLDERS
We will send you the following statements and reports on a regular basis:
o Confirmation and account statements reflecting transactions in your account,
including additional purchases and dividend reinvestments. PLEASE VERIFY THE
ACCURACY OF YOUR STATEMENTS WHEN YOU RECEIVE THEM.
o Financial reports of the funds will be sent every six months. To reduce fund
expenses, we attempt to identify related shareholders within a household and
send only one copy of a report. Call Fund Information if you would like an
additional free copy of the funds' financial reports.
INSTITUTIONAL ACCOUNTS
Additional methods of buying, selling or exchanging shares of the funds may be
available to institutional accounts. Institutional investors may also be
required to complete an institutional account application. For more information,
call Institutional Services.
AVAILABILITY OF THESE SERVICES
The services above are available to most shareholders. If, however, your shares
are held by a financial institution, in a street name account, or networked
through the NSCC, the funds may not be able to offer these services directly to
you. Please contact your investment representative.
WHAT IF I HAVE QUESTIONS ABOUT MY ACCOUNT?
If you have any questions about your account, you may write to Investor Services
at 777 Mariners Island Blvd., P.O. Box 7777, San Mateo, California 94403-7777.
The funds, Distributors and Advisers are also located at this address. You may
also contact us by phone at one of the numbers listed below.
HOURS OF OPERATION
(PACIFIC TIME)
DEPARTMENT NAME TELEPHONE NO. (MONDAY THROUGH FRIDAY)
- ----------------------------------------------------------------------
Shareholder Services 1-800/632-2301 5:30 a.m. to 5:00 p.m.
Dealer Services 1-800/524-4040 5:30 a.m. to 5:00 p.m.
Fund Information 1-800/DIAL BEN 5:30 a.m. to 8:00 p.m.
(1-800/342-5236) 6:30 a.m. to 2:30 p.m. (Saturday)
Retirement Plan Services 1-800/527-2020 5:30 a.m. to 5:00 p.m.
Institutional Services 1-800/321-8563 6:00 a.m. to 5:00 p.m.
TDD (hearing impaired) 1-800/851-0637 5:30 a.m. to 5:00 p.m.
Your phone call may be monitored or recorded to ensure we provide you with high
quality service. You will hear a regular beeping tone if your call is being
recorded.
GLOSSARY
USEFUL TERMS AND DEFINITIONS
ADVISERS - Franklin Advisers, Inc., the funds' investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I AND CLASS II - The California Fund offers two classes of shares,
designated "Class I" and "Class II." The two classes have proportionate
interests in the fund's portfolio. They differ, however, primarily in their
sales charge structures and Rule 12b-1 plans. Because the MidCap Fund's and Blue
Chip Fund's sales charge structures and Rule 12b-1 plans are similar to those of
Class I shares, shares of these funds are considered Class I shares for
redemption, exchange and other purposes.
CODE - Internal Revenue Code of 1986, as amended
CONTINGENCY PERIOD - For Class I shares, the 12 month period during which a
Contingent Deferred Sales Charge may apply. For Class II shares, the contingency
period is 18 months. The holding period for Class I begins on the first day of
the month in which you buy shares. Regardless of when during the month you buy
Class I shares, they will age one month on the last day of that month and each
following month. The holding period for Class II begins on the day you buy your
shares. For example, if you buy Class II shares on the 18th of the month, they
will age one month on the 18th day of the next month and each following month.
CONTINGENT DEFERRED SALES CHARGE (CDSC) - A sales charge of 1% that may apply if
you sell your shares within the Contingency Period.
DEPOSITARY RECEIPTS - Certificates that give their holders the right to receive
securities (a) of a foreign issuer deposited in a U.S. bank or trust company
(American Depositary Receipts, "ADRs"); or (b) of a foreign or U.S. issuer
deposited in a foreign bank or trust company (Global Depositary Receipts, "GDRs"
or European Depositary Receipts, "EDRs")
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the funds' principal
underwriter. The SAI lists the officers and Board members who are affiliated
with Distributors. See "Officers and Trustees."
ELIGIBLE GOVERNMENTAL AUTHORITY - Any state or local government or any
instrumentality, department, authority or agency thereof that has determined a
fund is a legally permissible investment and that can only buy shares of a fund
without paying sales charges.
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the funds' administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the funds'
shareholder servicing and transfer agent
IRA - Individual retirement account or annuity qualified under section 408 of
the Code
IRS - Internal Revenue Service
LETTER - Letter of Intent
MARKET TIMERS - Market Timers generally include market timing or asset
allocation services, accounts administered so as to buy, sell or exchange shares
based on predetermined market indicators, or any person or group whose
transactions seem to follow a timing pattern or whose transactions include
frequent or large exchanges.
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by the
number of shares outstanding.
NSCC - National Securities Clearing Corporation
NYSE - New York Stock Exchange
OFFERING PRICE - The public offering price is based on the Net Asset Value per
share of the class and includes the front-end sales charge. The maximum
front-end sales charge is 5.75% for Class I and 1% for Class II. We calculate
the offering price to two decimal places using standard rounding criteria.
QUALIFIED RETIREMENT PLANS - An employer sponsored pension or profit-sharing
plan that qualifies under section 401 of the Code. Examples include 401(k),
money purchase pension, profit sharing and defined benefit plans.
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the funds. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
SEP - An employer sponsored simplified employee pension plan established under
section 408(k) of the Code
SIMPLE (SAVINGS INCENTIVE MATCH PLAN FOR EMPLOYEES) - An employer sponsored
salary deferral plan established under section 408(p) of the Code
TELEFACTS(R) - Franklin Templeton's automated customer servicing system
TRUST COMPANY - Franklin Templeton Trust Company. Trust Company is an
affiliate of Distributors and both are wholly owned subsidiaries of Resources.
WE/OUR/US - Unless the context indicates a different meaning, these terms refer
to the funds and/or Investor Services, Distributors, or other wholly owned
subsidiaries of Resources.
PROSPECTUS & APPLICATION
FRANKLIN
STRATEGIC SERIES
SEPTEMBER 1, 1998
FRANKLIN BIOTECHNOLOGY DISCOVERY FUND
FRANKLIN GLOBAL HEALTH CARE FUND
FRANKLIN GLOBAL UTILITIES FUND
FRANKLIN NATURAL RESOURCES FUND
INVESTMENT STRATEGY
GROWTH
INVESTMENT STRATEGY
GLOBAL GROWTH
INVESTMENT STRATEGY
GLOBAL GROWTH & INCOME
INVESTMENT STRATEGY
GROWTH & INCOME
Please read this prospectus before investing, and keep it for future reference.
It contains important information, including how the fund invests and the
services available to shareholders.
This prospectus describes each fund's Class I shares and Class II shares of the
Health Care Fund and the Utilities Fund. The Natural Resources Fund currently
offers another share class with a different sales charge and expense structure,
which affects performance.
To learn more about each fund and its policies, you may request a copy of the
fund's Statement of Additional Information ("SAI"), dated September 1, 1998,
which we may amend from time to time. We have filed the SAI with the SEC and
have incorporated it by reference into this prospectus.
For a free copy of the SAI or a larger print version of this prospectus, or to
receive a free copy of the prospectus for the Natural Resources Fund's other
share class, contact your investment representative or call 1-800/DIAL BEN.
MUTUAL FUND SHARES ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED
BY, ANY BANK, AND ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE
CORPORATION, THE FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S.
GOVERNMENT. MUTUAL FUND SHARES INVOLVE INVESTMENT RISKS, INCLUDING THE POSSIBLE
LOSS OF PRINCIPAL.
LIKE ALL MUTUAL FUND SHARES, THE SEC HAS NOT APPROVED OR DISAPPROVED THESE
SECURITIES OR PASSED UPON THE ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO
THE CONTRARY IS A CRIMINAL OFFENSE.
THIS PROSPECTUS IS NOT AN OFFERING OF THE SECURITIES HEREIN DESCRIBED IN ANY
STATE, JURISDICTION OR COUNTRY IN WHICH THE OFFERING IS NOT AUTHORIZED. NO SALES
REPRESENTATIVE, DEALER, OR OTHER PERSON IS AUTHORIZED TO GIVE ANY INFORMATION OR
MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS. FURTHER
INFORMATION MAY BE OBTAINED FROM DISTRIBUTORS.
FRANKLIN
STRATEGIC
SERIES
September 1, 1998
When reading this prospectus, you will see certain terms beginning with capital
letters. This means the term is explained in our glossary section.
TABLE OF CONTENTS
ABOUT THE FUNDS
Expense Summary ........................................................ 2
Financial Highlights ................................................... 4
How Do the Funds Invest Their Assets? .................................. 9
What Are the Risks of Investing in the Funds? .......................... 15
Who Manages the Funds? ................................................. 20
How Taxation Affects the Funds and
Their Shareholders ..................................................... 25
How Is the Trust Organized? ............................................ 27
ABOUT YOUR ACCOUNT
How Do I Buy Shares? ................................................... 28
May I Exchange Shares for Shares of Another Fund? ...................... 36
How Do I Sell Shares? .................................................. 39
What Distributions Might I Receive From the Funds? ..................... 42
Transaction Procedures and Special Requirements ........................ 43
Services to Help You Manage Your Account ............................... 47
What If I Have Questions About My Account? ............................. 50
GLOSSARY
Useful Terms and Definitions ........................................... 51
777 Mariners Island Blvd.
P.O. Box 7777
San Mateo
CA 94403-7777
1-800/DIAL BEN(R)
ABOUT THE FUNDS
EXPENSE SUMMARY
This table is designed to help you understand the costs of investing in a fund.
It is based on the historical expenses of each class for the fiscal year ended
April 30, 1998. The Biotechnology Fund's expenses are annualized.
Each fund's actual expenses may vary.
<TABLE>
<CAPTION>
HEALTH HEALTH NATURAL UTILITIES UTILITIES
BIOTECHNOLOGY CARE FUND - CARE FUND - RESOURCES FUND - FUND -
FUND CLASS I CLASS II FUND CLASS I CLASS II
- -------------------------------------------------------------------------------------------------------------------------------
A. SHAREHOLDER TRANSACTION EXPENSES+
Maximum Sales Charge
<S> <C> <C> <C> <C> <C> <C>
(as a percentage of Offering Price)....... 5.75% 5.75% 1.99% 5.75% 5.75% 1.99%
Paid at time of purchase................. 5.75%++ 5.75%++ 1.00%+++ 5.75%++ 5.75%++ 1.00%+++
Paid at redemption++++................... None None 0.99% None None 0.99%
Exchange Fee (per transaction)........... None None None $5.00* None None
B. ANNUAL FUND OPERATING EXPENSES
(AS A PERCENTAGE OF AVERAGE NET ASSETS)
Management Fees........................... 0.63%** 0.56% 0.56% 0.62%** 0.56% 0.56%
Rule 12b-1 Fees***........................ 0.34% 0.25% 1.00% 0.32% 0.25% 1.00%
Other Expenses............................ 0.64% 0.34% 0.34% 0.37% 0.22% 0.22%
-------------------------------------------------------------------------
Total Fund Operating Expenses ............ 1.61%** 1.15% 1.90% 1.31%** 1.03% 1.78%
=========================================================================
</TABLE>
C. EXAMPLE
Assume the annual return for each class is 5%, operating expenses are as
described above, and you sell your shares after the number of years shown. These
are the projected expenses for each $1,000 that you invest in a fund.
1 YEAR**** 3 YEARS 5 YEARS 10 YEARS
- --------------------------------------------------------------------------------
Biotechnology Fund.................. $73 $105 $140 $238
Health Care Fund - Class I.......... $69 $ 92 $117 $ 89
Health Care Fund - Class II......... $39 $ 69 $112 $230
Natural Resources Fund.............. $70 $ 97 $125 $206
Utilities Fund - Class I............ $67 $ 88 $111 $176
Utilities Fund - Class II........... $38 $ 65 $105 $217
For the same Class II investment, you would pay projected expenses of $29 for
the Health Care Fund or $28 for the Utilities Fund if you did not sell your
shares at the end of the first year. Your projected expenses for the remaining
periods would be the same.
THIS IS JUST AN EXAMPLE. IT DOES NOT REPRESENT PAST OR FUTURE EXPENSES OR
RETURNS. ACTUAL EXPENSES AND RETURNS MAY BE MORE OR LESS THAN THOSE SHOWN. Each
fund pays its operating expenses. The effects of these expenses are reflected in
the Net Asset Value or dividends of each class and are not directly charged to
your account.
+If your transaction is processed through your Securities Dealer, you may be
charged a fee by your Securities Dealer for this service.
++There is no front-end sales charge if you invest $1 million or more in Class I
shares.
+++Although Class II has a lower front-end sales charge than Class I, its Rule
12b-1 fees are higher. Over time you may pay more for Class II shares. Please
see "How Do I Buy Shares? - Choosing a Share Class."
++++A Contingent Deferred Sales Charge may apply to any Class II purchase if you
sell the shares within 18 months and to Class I purchases of $1 million or more
if you sell the shares within one year. A Contingent Deferred Sales Charge may
also apply to purchases by certain retirement plans that qualify to buy Class I
shares without a front-end sales charge. The charge is 1% of the value of the
shares sold or the Net Asset Value at the time of purchase, whichever is less.
The number in the table shows the charge as a percentage of Offering Price.
While the percentage is different depending on whether the charge is shown based
on the Net Asset Value or the Offering Price, the dollar amount you would pay is
the same. See "How Do I Sell Shares? Contingent Deferred Sales Charge" for
details.
*$5.00 fee is only for Market Timers. We process all other exchanges without a
fee.
**For the period shown, Advisers had agreed in advance to limit its management
fees. With this reduction, management fees were 0.52% for the Biotechnology Fund
and 0.27% for the Natural Resources Fund and total operating expenses were 1.50%
for the Biotechnology Fund and 0.96% for the Natural Resources Fund.
***These fees may not exceed 0.35% for the Biotechnology Fund and the Natural
Resources Fund. The Rule 12b-1 fees for the Biotechnology Fund have been
annualized. The actual Rule 12b-1 fees for the period September 15, 1997 through
April 30, 1998 were 0.21%. The combination of front-end sales charges and Rule
12b-1 fees could cause long-term shareholders to pay more than the economic
equivalent of the maximum front-end sales charge permitted under the NASD's
rules.
****Assumes a Contingent Deferred Sales Charge will not apply.
FINANCIAL HIGHLIGHTS
This table summarizes each fund's financial history. The information has been
audited by Coopers & Lybrand L.L.P., the funds' independent auditor. The audit
report covering each of the most recent five years appears in the Trust's Annual
Report to Shareholders for the fiscal year ended April 30, 1998. The Annual
Report to Shareholders also includes more information about each fund's
performance. For a free copy, please call Fund Information.
BIOTECHNOLOGY FUND
YEAR ENDED APRIL 30,
19981
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year ................. $25.00
------------
Income from investment operations:
Net investment loss ............................... (.05)
Net realized and unrealized gains ................. 1.99
------------
Total from investment operations ................... 1.94
------------
Less distributions from:
Net realized gains ................................ (.05)
-------------
Net asset value, end of year ....................... $26.89
============
Total return*....................................... 7.78%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) .................... $73,546
Ratios to average net assets:
Expenses .......................................... 1.50%***
Expenses excluding waiver and payments by affiliate 1.61%***
Net investment loss ............................... (.44%)***
Portfolio turnover rate ............................ 75.50%
Average commission rate paid** ..................... $.0339
HEALTH CARE FUND
<TABLE>
<CAPTION>
CLASS I
YEAR ENDED APRIL 30,
<S> <C> <C> <C> <C> <C> <C> <C>
1998 1997 1996 1995 1994 1993 19922
---------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year $16.11 $19.34 $11.45 $10.43 $8.88 $8.84 $10.00
---------------------------------------------------------------------------------------
Income from investment operations:
Net investment income (loss) (.14) (.06) .11 .08 .07 .09 .02
Net realized and unrealized gains (losses) 4.58 (2.75) 8.96 1.56 1.86 .04 (1.18)
---------------------------------------------------------------------------------------
Total from investment operations 4.44 (2.81) 9.07 1.64 1.93 .13 (1.16)
---------------------------------------------------------------------------------------
Less distributions from:
Net investment income (.09) (.04) (.13) (.06) (.08) (.09) --
Net realized gains (1.18) (.38) (1.05) (.56) (.30) -- --
---------------------------------------------------------------------------------------
Total distributions (1.27) (.42) (1.18) (.62) (.38) (.09) --
---------------------------------------------------------------------------------------
Net asset value, end of year $19.28 $16.11 $19.34 $11.45 $10.43 $8.88 $8.84
=======================================================================================
Total return* 28.22% (14.71%) 82.78% 16.33% 21.93% 1.41% (55.14%)***
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) $176,545 $150,653 $108,914 $12,906 $5,795 $3,422 $1,368
Ratios to average net assets:
Expenses 1.15% 1.14% .73% .25% .10% -- --
Expenses excluding
waiver and payments by affiliate 1.15% 1.14% 1.16% 1.37% 1.74% 2.16% 1.62%
Net investment income (loss) (.67%) (.39%) .50% .80% .68% 1.13% 1.68%***
Portfolio turnover rate 66.84% 73.17% 54.78% 93.79% 110.82% 62. 74% 41.01%
Average commission rate paid** $.0358 $.0368 $.0709 -- -- -- --
</TABLE>
CLASS II
YEAR ENDED APRIL 30,
1998 19973
------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year ................ $16.07 $17.37
------------------------
Income from investment operations:
Net investment loss .............................. (.20) (.07)
Net realized and unrealized gains (losses) ....... 4.48 (.85)
-------------------------
Total from investment operations .................. 4.28 (.92)
-------------------------
Less distributions from:
Net realized gains ............................... (1.18) (.38)
-------------------------
Net asset value, end of year ..................... $19.17 $16.07
=========================
Total return* ..................................... 27.22% (5.47%)
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) ................... $25,321 $10,099
Ratios to average net assets:
Expenses ......................................... 1.90% 1.92%***
Net investment loss .............................. (1.44%) (1.29%)***
Portfolio turnover rate ........................... 66.84% 73.17%
Average commission rate paid** .................... $.0358 $.0368
NATURAL RESOURCES FUND
<TABLE>
<CAPTION>
YEAR ENDED APRIL 30,
<S> <C> <C> <C>
1998 1997 19964
------------------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year ..................... $14.07 $13.14 $10.00
------------------------------------
Income from investment operations:
Net investment income ................................. .10 .09 .08
Net realized and unrealized gains ..................... 2.26 1.25 3.22
------------------------------------
Total from investment operations ....................... 2.36 1.34 3.30
------------------------------------
Less distributions from:
Net investment income ................................. (.09) (.09) (.06)
Net realized gains .................................... (.88) (.32) (.10)
-------------------------------------
Total distributions .................................... (.97) (.41) (.16)
-------------------------------------
Net asset value, end of year ........................... $15.46 $14.07 $13.14
====================================
Total return* .......................................... 17.57% 10.23% 33.36%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) ........................ $62,274 $45,386 $9,909
Ratios to average net assets:
Expenses .............................................. .96% .98% .99%***
Expenses excluding waiver and payments by affiliate ... 1.31% 1.31% 1.77%***
Net investment income ................................. .67% .72% 1.16%***
Portfolio turnover rate ................................ 72.93% 46.31% 59.04%
Average commission rate paid** ......................... $.0305 $.0331 $.0517
</TABLE>
UTILITIES FUND
<TABLE>
<CAPTION>
CLASS I
YEAR ENDED APRIL 30,
<S> <C> <C> <C> <C> <C> <C>
1998 1997 1996 1995 1994 19935
------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year $14.46 $14.28 $12.23 $12.60 $11.36 $10.00
-----------------------------------------------------------------------------
Income from investment operations:
Net investment income .33 .42 .37 .42 .30 .22
Net realized and unrealized gains (losses) 4.69 1.35 2.39 (.07) 1.28 1.27
-----------------------------------------------------------------------------
Total from investment operations 5.02 1.77 2.76 .35 1.58 1.49
-----------------------------------------------------------------------------
Less distributions from:
Net investment income (.37) (.38) (.39) (.36) (.30) (.13)
Net realized gains (1.75) (1.21) (.32) (.36) (.04) --
------------------------------------------------------------------------------
Total distributions (2.12) (1.59) (.71) (.72) (.34) (.13)
------------------------------------------------------------------------------
Net asset value, end of year $17.36 $14.46 $14.28 $12.23 $12.60 $11.36
==============================================================================
Total return* 37.02% 12.94% 23.27% 3.17% 14.04% 18.08%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) $226,594 $174,023 $167,225 $119,250 $124,188 $14,227
Ratios to average net assets:
Expenses 1.03% 1.00% 1.04% 1.12% .84% --
Expenses excluding waiver
and payments by affiliate 1.03% 1.00% 1.04% 1.12% 1.28% 1.51%***
Net investment income 2.02% 2.82% 2.85% 3.47% 2.95% 3.89%***
Portfolio turnover rate 45.51% 47.55% 50.51% 16.65% 16.28% --
Average commission rate paid** $.0277 $.0150 $.0313 -- -- --
</TABLE>
UTILITIES FUND
<TABLE>
<CAPTION>
CLASS II
YEAR ENDED APRIL 30,
<S> <C> <C> <C>
1998 1997 1996
-----------------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year ..................... $14.37 $14.24 $12.23
------------------------------------
Income from investment operations:
Net investment income ................................. .24 .32 .37
Net realized and unrealized gains ..................... 4.66 1.33 2.32
------------------------------------
Total from investment operations ....................... 4.90 1.65 2.69
------------------------------------
Less distributions from:
Net investment income ................................. (.27) (.31) (.36)
Net realized gains .................................... (1.75) (1.21) (.32)
-------------------------------------
Total distributions .................................... (2.02) (1.52) (.68)
-------------------------------------
Net asset value, end of year ........................... $17.25 $14.37 $14.24
====================================
Total return* .......................................... 36.21% 12.04% 22.63%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) ........................ $16,324 $8,467 $2,727
Ratios to average net assets:
Expenses .............................................. 1.78% 1.77% 1.81%
Net investment income ................................. 1.29% 1.98% 2.10%
Portfolio turnover rate ................................ 45.51% 47.55% 50.51%
Average commission rate paid** ......................... $.0277 $.0150 $.0313
</TABLE>
1For the period September 15, 1997 (effective date) to April 30, 1998.
2For the period February 14, 1992 (effective date) to April 30, 1992.
3For the period September 3, 1996 (effective date) to April 30, 1997.
4For the period June 5, 1995 (effective date) to April 30, 1996.
5For the period July 2, 1992 (effective date) to April 30, 1993.
*Total return does not reflect sales commissions or the Contingent Deferred
Sales Charge, and is not annualized except where indicated. Prior to May 1,
1994, dividends from net investment income for the Health Care and Utilities
funds were reinvested at the Offering Price.
**Relates to purchases and sales of equity securities. Prior to fiscal year end
1996 disclosure of average commission rate was not required.
***Annualized
HOW DO THE FUNDS INVEST THEIR ASSETS?
WHAT ARE THE FUNDS' GOALS?
The investment goal of the BIOTECHNOLOGY FUND is to seek capital appreciation by
investing primarily in securities of biotechnology companies and discovery
research firms located in the U.S. and other countries.
The investment goal of the HEALTH CARE FUND is to seek capital appreciation by
investing primarily in the equity securities of health care companies located
throughout the world. The Health Care Fund will seek to invest in companies that
have, in the opinion of Advisers, the potential for above average growth in
revenues and/or earnings.
The investment goal of the NATURAL RESOURCES FUND is to seek to provide high
total return. The Natural Resources Fund's total return consists of both capital
appreciation and current dividend and interest income.
The investment goal of the UTILITIES FUND is to seek to provide total return,
without incurring undue risk, by investing at least 65% of its total assets in
securities issued by companies that are, in the opinion of Advisers, primarily
engaged in the ownership or operation of facilities used to generate, transmit
or distribute electricity, telephone communications, cable and other pay
television services, wireless telecommunications, gas or water. Total return
consists of both capital appreciation and current dividend and interest income.
These goals are fundamental, which means that they may not be changed without
shareholder approval.
WHAT KINDS OF SECURITIES DO THE FUNDS BUY?
The BIOTECHNOLOGY FUND invests at least 65% of its assets in equity securities
of biotechnology companies. The Biotechnology Fund may also invest up to 35% of
its assets in debt securities of any type of foreign or U.S.
issuer.
When the Biotechnology Fund's assets total $150 million, no new accounts, other
than retirement plan accounts, will be accepted. If you are a shareholder of
record at that time, you will be able to continue to add to your existing
account through new purchases, including purchases through reinvestment of
dividends or capital gains distributions. The Biotechnology Fund reserves the
right to modify this policy at any time.
The HEALTH CARE FUND invests at least 70% of its total assets in the equity
securities of U.S. and foreign health care companies. The Health Care Fund may
invest a substantial portion of its assets in smaller capitalization companies,
which are generally companies with a market capitalization of less than $1
billion at the time of the fund's investment. The Health Care Fund may also
invest up to 30% of its assets in domestic and foreign debt securities.
The NATURAL RESOURCES Fund tries to achieve its goal by investing at least 65%
of its assets in the equity and debt securities of U.S. and foreign companies in
the natural resources sector. The Natural Resources Fund may also invest up to
35% of its assets outside the natural resources sector, including in U.S. and
foreign equity and debt securities and real estate investment trusts ("REITs").
The UTILITIES FUND tries to achieve its goal by investing at least 65% of its
total assets in the equity and debt securities of U.S. and foreign companies in
the utilities industries. The Utilities Fund may invest up to 35% of its assets
in securities of U.S. and foreign issuers outside the utilities industries.
EQUITY SECURITIES generally entitle the holder to participate in a company's
general operating results. These include common stock, preferred stock,
convertible securities, warrants, and rights.
Each fund may invest in common stock, preferred stock, and convertible
securities. The Biotechnology Fund and the Health Care Fund may also invest in
warrants and rights.
DEBT SECURITIES represent an obligation of the issuer to repay a loan of money
to it, and generally, provide for the payment of interest. These include bonds,
notes, debentures, and commercial paper.
The funds may buy both rated and unrated debt securities. Independent rating
organizations rate debt securities based upon their assessment of the financial
soundness of the issuer. Generally, a lower rating indicates higher risk.
Securities rated BBB by S&P or Baa by Moody's or better are considered to be
investment grade.
The Biotechnology Fund generally buys debt securities that are rated investment
grade or unrated securities that it determines to be of comparable quality. The
Biotechnology Fund intends to invest less than 5% in debt securities rated below
investment grade.
The Health Care Fund may buy debt securities that are rated B by Moody's or S&P
or better, or unrated debt that it determines to be of comparable quality. At
present, the Health Care Fund intends to invest less than 5% in debt securities
considered to be below investment grade.
The Natural Resources Fund may buy debt securities that are rated B by Moody's
or S&P or better, or unrated debt that it determines to be of comparable
quality. The Natural Resources Fund will not invest more than 15% of its total
assets in lower-rated securities (rated lower than BB by S&P or Ba by Moody's)
and unrated securities of comparable quality.
The Utilities Fund may buy debt securities that are rated Caa by Moody's or CCC
by S&P or better, or unrated debt that it determines to be of comparable
quality. The Utilities Fund will not invest more than 5% of its total assets in
non-investment grade securities.
The Natural Resources Fund and the Utilities Fund will only buy commercial paper
rated A-1 or A-2 by S&P or Prime-1 or Prime-2 by Moody's, or unrated commercial
paper that it determines to be of comparable quality.
BIOTECHNOLOGY COMPANIES. A biotechnology company has at least 50% of its
earnings derived from biotechnology activities, or at least 50% of its assets
devoted to such activities, based on the company's most recent fiscal year.
Biotechnology activities are research, development, manufacture, and
distribution of various biotechnological or biomedical products, services, and
processes. This may include companies involved with genomics, genetic
engineering, and gene therapy. It also includes companies involved in the
application and development of biotechnology in areas such as healthcare,
pharmaceuticals, and agriculture.
HEALTH CARE COMPANIES. A health care company is one that derives at least 50% of
its earnings or revenues from health care activities, or has devoted at least
50% of its assets to such activities, based on the company's most recent fiscal
year. Health care activities include research, development, production, or
distribution of products and services in industries such as pharmaceutical,
biotechnology, health care facilities, medical supplies, medical technology,
managed care companies, health care related information systems, and personal
health care products. Advisers believes that a portfolio of global securities
may provide a greater potential for investment participation in present and
future opportunities that may present themselves in the health care related
industries.
THE NATURAL RESOURCES SECTOR includes companies that own, produce, refine,
process, and market natural resources and companies that provide related
services. The sector includes the following industries: integrated oil, oil and
gas exploration and production, gold and precious metals, steel and iron ore
production, aluminum production, forest products, farming products, paper
products, chemicals, building materials, energy services and technology, and
environmental services.
THE UTILITIES INDUSTRIES include companies primarily engaged in the ownership,
operation, or manufacture of facilities used to provide electricity, telephone
communications, cable and other pay television services, wireless
telecommunications, gas, or water.
GOVERNMENT SECURITIES. The Natural Resources Fund and the Utilities Fund may
invest in Treasury bills, notes and bonds, which are direct obligations of the
U.S. government, backed by the full faith and credit of the U.S. Treasury, and
in securities issued or guaranteed by federal agencies. These funds may also
invest in securities issued or guaranteed by foreign governments and their
agencies.
DEPOSITARY RECEIPTS. Each fund may invest in American Depositary Receipts, and
the Biotechnology Fund, the Health Care Fund, and the Utilities Fund may also
invest in European and Global Depositary Receipts. Depositary Receipts are
certificates typically issued by a bank or trust company that give their holders
the right to receive securities issued by a foreign or domestic corporation.
CONVERTIBLE SECURITIES. Each fund may invest in convertible securities, and the
Utilities Fund may invest in enhanced convertible securities. A convertible
security generally is a preferred stock or debt security that pays dividends or
interest and may be converted into common stock.
GENERAL. The Biotechnology Fund anticipates that under normal conditions, it
will invest more of its assets in U.S. securities than in securities of any
other single country, although the fund may have more than 50% of its total
assets in foreign securities. The fund may buy securities of issuers in
developing nations, but it has no present intention of doing so. The
Biotechnology Fund will not invest in securities of foreign issuers that are
issued without stock certificates or other evidences of ownership. The
Biotechnology Fund may invest in securities that are traded on U.S. or foreign
securities exchanges, the National Association of Securities Dealers Automated
Quotation System ("NASDAQ") national market system, or in the U.S.
or foreign over-the-counter markets.
The Health Care Fund invests 70% of its assets in securities of issuers in at
least three different countries. The Health Care Fund will not invest more than
40% of its net assets in any one country other than the U.S. The Health Care
Fund expects that from time to time a significant portion of its investments
will be in securities of domestic issuers. When Advisers believes that no
attractive investment opportunities exist, the Health Care Fund may maintain a
significant portion of its assets in cash. The Health Care Fund will not invest
in securities of foreign issuers without stock certificates or comparable
evidence of ownership.
The Natural Resources Fund may invest up to 10% of its assets in REITs. The
Natural Resources Fund expects to invest more of its assets in U.S. securities
than in securities of any other single country, but the fund may invest more
than 50% of its total assets in foreign securities.
The Utilities Fund normally invests at least 65% of its total assets in issuers
in at least three different countries. The Utilities Fund expects to invest more
of its assets in U.S. securities than in securities of any other single country,
but the fund may invest more than 65% of its total assets in foreign securities.
The Utilities Fund will limit its investments in Russian securities to 5% of its
total assets.
Please see the SAI for more details on the types of securities in which the
funds invest.
WHAT ARE SOME OF THE FUNDS' OTHER INVESTMENT STRATEGIES AND PRACTICES?
TEMPORARY INVESTMENTS. Each fund may invest its cash temporarily in short-term
debt instruments, including U.S. government securities, CDs, high-grade
commercial paper, repurchase agreements, and other money market equivalents, and
the shares of money market funds managed by Advisers that invest primarily in
short-term debt securities. The funds will make these temporary investments with
cash they hold to maintain liquidity or pending investment. In the event of a
general decline in the market prices of stocks in which a fund invests, or when
Advisers anticipates such a decline, the fund may invest its portfolio in a
temporary defensive manner. Under such circumstances, a fund may invest up to
100% of its assets in short-term debt instruments.
REPURCHASE AGREEMENTS. Each fund will generally have a portion of its assets in
cash or cash equivalents for a variety of reasons including waiting for a
special investment opportunity or taking a defensive position. To earn income on
this portion of its assets, each fund may enter into repurchase agreements with
certain banks and broker-dealers. Under a repurchase agreement, a fund agrees to
buy a U.S. government security from one of these issuers and then to sell the
security back to the issuer after a short period of time (generally, less than
seven days) at a higher price. The bank or broker-dealer must transfer to the
fund's custodian securities with an initial value of at least 102% of the dollar
amount invested by the fund in each repurchase agreement.
The Biotechnology Fund may also invest in tri-party repurchase agreements. In a
tri-party repurchase agreement, the security is maintained at the bank or
broker-dealer's custodian bank, as opposed to being transferred to and
maintained at the fund's custodian.
The funds may also enter into reverse repurchase agreements. Under a reverse
repurchase agreement, a fund agrees to sell a security in its portfolio and then
to repurchase the security at an agreed-upon price, date, and interest payment.
The fund will maintain cash or high-grade liquid debt securities with a value
equal to the value of the fund's obligation under the agreement, including
accrued interest, in a segregated account with the fund's custodian bank. The
securities subject to the reverse repurchase agreement will be marked-to-market
daily.
HEDGING TRANSACTIONS. Hedging is a technique designed to reduce a potential loss
to the fund as a result of certain economic or market risks, including risks
related to fluctuations in interest rates, currency exchange rates between U.S.
and foreign currencies or between different foreign currencies, and broad or
specific market movements. The funds may use various hedging strategies, which
are discussed in the SAI. Many mutual funds and other institutional investors
also use these strategies. When pursuing these hedging strategies, the funds may
engage in the following types of transactions:
o options on securities, securities indices, and other financial instruments
(all funds except the Natural Resources Fund)
o futures contracts and options on futures contracts (all funds except the
Natural Resources Fund)
o currency transactions, including currency forward contracts, currency futures
contracts, options on currencies, and options on currency futures (all funds)
The Biotechnology Fund may also use these hedging transactions to produce income
to the fund or to bet on the fluctuation of certain indices, currencies, or
economic or market changes such as a reduction in interest rates. The
Biotechnology Fund will not expose more than 5% of its assets to the risks of
these instruments when it uses them for non-hedging purposes.
SECURITIES LENDING. To generate additional income, each fund may lend its
portfolio securities to qualified securities dealers or other institutional
investors. Such loans may not exceed one third of the value of the Biotechnology
Fund's total assets, 20% of the Health Care Fund's total assets, 33% of the
value of the Natural Resources Fund's total assets, or one third of the
Utilities Fund's total assets, measured at the time of the most recent loan. For
each loan, the borrower must maintain collateral with a value at least equal to
100% of the current market value of the loaned securities.
BORROWING. The funds do not borrow money or mortgage or pledge any of their
assets, except that each fund may enter into reverse repurchase agreements or
borrow for temporary or emergency purposes up to a specified limit. This limit
is 331/3% of total assets for the Biotechnology Fund, 10% of total assets for
the Health Care Fund, and 33% of total assets for the Natural Resources Fund and
the Utilities Fund. A fund will not make any additional investments while its
borrowings exceed 5% of its total assets.
SHORT SALES. The Biotechnology Fund may engage in two types of short sale
transactions, "naked short sales" and "short sales against the box." In a naked
short sale transaction, the fund sells a security that it does not own to a
purchaser at a specified price. In order to complete the short sale transaction,
the fund must (1) borrow the security to deliver the security to the purchaser,
and (2) buy the same security in the market in order to return it to the
borrower. In buying the security to replace the borrowed security, the fund
expects to buy the security in the market for less than the amount it earned on
the short sale, thereby yielding a profit. No securities will be sold short if,
after the sale, the total market value of all the Biotechnology Fund's open
naked short positions would exceed 50% of its assets.
The Biotechnology Fund may also sell securities "short against the box" without
limit. In a short sale against the box, the fund actually holds in its portfolio
the securities which it has sold short. In replacing the borrowed securities in
the transaction, the fund may either buy securities in the open market or use
those in its portfolio. See "Short-Selling" in the SAI for more discussion of
these practices.
PRIVATE INVESTMENTS. Consistent with their respective investment goals and
policies, the Health Care Fund and the Biotechnology Fund may from time to time
make private investments in companies whose securities are not publicly traded.
These investments typically will take the form of letter stock or convertible
preferred stock. Because these securities are not publicly traded, there is no
secondary market for the securities. The Health Care Fund and the Biotechnology
Fund will treat these securities as illiquid.
ILLIQUID INVESTMENTS. Each fund's policy is not to invest more than 15% of its
net assets (10% in the case of the Health Care Fund) in illiquid securities.
Illiquid securities are generally securities that cannot be sold within seven
days in the normal course of business at approximately the amount at which the
fund has valued them.
OTHER POLICIES AND RESTRICTIONS. Each fund has a number of additional investment
policies and restrictions that govern its activities. Those that are identified
as "fundamental" may only be changed with shareholder approval. The others may
be changed by the Board alone. For a list of these restrictions and more
information about the funds' investment policies, including those described
above, please see "How Do the Funds Invest Their Assets?" and "Investment
Restrictions" in the SAI.
Generally, the policies and restrictions discussed in this prospectus and in the
SAI apply when a fund makes an investment. In most cases, a fund is not required
to sell a security because circumstances change and the security no longer meets
one or more of the fund's policies or restrictions.
TAX CONSIDERATIONS. Each fund's investments in options, futures, foreign
securities and other complex securities are subject to special tax rules that
may affect the amount, timing or character of the income earned by the fund and
distributed to you. Each fund may also be subject to withholding taxes on
earnings from certain of its foreign securities. These special tax rules are
discussed in the "Additional Information on Distributions and Taxes" section of
the SAI.
WHAT ARE THE RISKS OF INVESTING IN THE FUNDS?
There is no assurance that the funds will meet their investment goals.
The value of your shares of a fund will increase as the value of the securities
owned by the fund increases and will decrease as the value of the fund's
investments decrease. In this way, you participate in any change in the value of
the securities owned by the fund. In addition to the factors that affect the
value of any particular security that a fund owns, the value of fund shares may
also change with movements in the stock and bond markets as a whole.
BIOTECHNOLOGY INDUSTRY RISK. The biotechnology industry is subject to extensive
government regulation. The industry will be affected by government regulatory
requirements, regulatory approval for new drugs and medical products, patent
considerations, product liability, and similar matters. For example, in the past
several years, the U.S. Congress has considered legislation concerning
healthcare reform and changes to the U.S. Food and Drug Administration's ("FDA")
approval process. If such legislation is passed it may affect the biotechnology
industry. As these factors impact the biotechnology industry, the value of your
shares may fluctuate significantly over relatively short periods of time.
Because the biotechnology industry is relatively new, investors may be quick to
react to developments that affect the industry. In the past, biotechnology
securities have exhibited considerable volatility in reaction to research and
other developments. In comparison to more developed industries, there may be a
thin trading market in biotechnology securities, and adverse developments in the
biotechnology industry may be more likely to result in decreases in the value of
biotechnology stocks.
Biotechnology companies are often small, start-up ventures whose products are
only in the research stage. Only a limited number of biotechnology companies
have reached the point of approval of products by the FDA and subsequent
commercial production and distribution of such products. Therefore, the success
of investments in the biotechnology industry is often based upon speculation and
expectations about future products, research progress, and new product filings
with regulatory authorities. Such investments are speculative and may drop
sharply in value in response to regulatory or research setbacks.
HEALTH CARE INDUSTRY RISK. The activities of health care companies may be funded
or subsidized by federal and state governments. If government subsidies are
discontinued, the profitability of these companies could be adversely affected.
Stocks held by the Health Care Fund will be affected by government policies on
health care reimbursements, regulatory approval for new drugs and medical
instruments, and similar matters. Health care companies are also subject to
legislative risk, which is the risk of a reform of the health care system
through legislation. Health care companies may face lawsuits related to product
liability issues. Also, many products and services provided by health care
companies are subject to rapid obsolescence. The value of an investment in the
Health Care Fund may fluctuate significantly over relatively short periods of
time.
NATURAL RESOURCES SECTOR RISK. The securities of companies in the natural
resources sector may experience more price volatility than securities of
companies in other industries. Some of the commodities in these industries are
subject to limited pricing flexibility because of similar supply and demand
factors. Others are subject to more broad price fluctuations as a result of the
volatility of the prices for certain raw materials and the instability of
supplies of other materials. These factors can affect the profitability of
companies in the natural resources sector and, as a result, the value of their
securities.
UTILITIES INDUSTRY RISK. Utility companies are generally subject to substantial
regulations. While regulations may cause certain companies to develop more
profitable opportunities, others may be forced to defend their core businesses
and may be less profitable.
Electric utilities have historically been subject to the risks associated with
increases in fuel and other operating costs, high interest costs on borrowings,
costs associated with compliance with environmental, nuclear facility, and other
safety regulations, and changes in the regulatory climate. Increased scrutiny of
electric utilities may result in higher costs and higher capital expenditures,
with the risk that regulators may not allow these costs to be included in rate
authorizations.
Increasing competition due to past regulatory changes in the telephone
communications industry continues and, whereas certain companies have benefited,
many companies may be adversely affected in the future.
The cable television industry is regulated in most countries and, although such
companies typically have a local monopoly, emerging technologies and
pro-competitive legislation are combining to threaten these monopolies and could
change the future outlook.
The wireless telecommunications industry is in its early developmental stages,
and is predominantly characterized by emerging, rapidly growing companies. Gas
transmission and distribution companies continue to undergo significant changes
as well. Many companies have diversified into oil and gas exploration and
development, making returns more sensitive to energy prices. The water supply
industry is highly fragmented due to local ownership. Generally, these companies
are more mature and expect little or no per capita volume growth.
There is no assurance that favorable developments will occur in the utility
industries generally or that investment opportunities will continue to undergo
significant changes or growth. Please see "What Are the Risks of Investing in
the Funds?" in the SAI for more information.
FOREIGN SECURITIES RISK. The value of foreign (and U.S.) securities is affected
by general economic conditions and individual company and industry earnings
prospects. While foreign securities may offer significant opportunities for
gain, they also involve additional risks that can increase the potential for
losses in the fund. These risks can be significantly greater for investments in
emerging markets. Investments in Depositary Receipts also involve some or all of
the risks described below.
The political, economic, and social structures of some countries in which the
funds invest may be less stable and more volatile than those in the U.S. The
risks of investing in these countries include the possibility of the imposition
of exchange controls, expropriation, restrictions on removal of currency or
other assets, nationalization of assets, and punitive taxes.
There may be less publicly available information about a foreign company or
government than about a U.S. company or public entity. Certain countries'
financial markets and services are less developed than those in the U.S. or
other major economies. As a result, they may not have uniform accounting,
auditing, and financial reporting standards and may have less government
supervision of financial markets. Foreign securities markets may have
substantially lower trading volumes than U.S. markets, resulting in less
liquidity and more volatility than experienced in the U.S. Transaction costs on
foreign securities markets are generally higher than in the U.S. The settlement
practices may be cumbersome and result in delays that may affect portfolio
liquidity. The funds may have greater difficulty voting proxies, exercising
shareholder rights, pursuing legal remedies, and obtaining judgments with
respect to foreign investments in foreign courts than with respect to domestic
issuers in U.S. courts.
Some of the countries in which the funds may invest such as Russia and certain
Asian and Eastern European countries are considered developing or emerging
markets. Investments in these markets are subject to all of the risks of foreign
investing generally, and have additional and heightened risks due to a lack of
legal, business, and social frameworks to support securities markets.
Emerging markets involve additional significant risks, including political and
social uncertainty (for example, regional conflicts and risk of war), currency
exchange rate volatility, pervasiveness of corruption and crime, delays in
settling portfolio transactions, and risk of loss arising out of the system of
share registration and custody. For more information on the risks associated
with emerging markets securities, please see the SAI.
On July 1, 1997, Hong Kong reverted to the sovereignty of China. As with any
major political transfer of power, this could result in political, social,
economic, market, or other developments in Hong Kong, China, or other countries
that could affect the value of the funds' investments.
SMALLER COMPANIES RISK. Historically, smaller companies have been more volatile
in price than larger company securities, especially over the short term. Among
the reasons for the greater price volatility are the less certain growth
prospects of smaller companies, the lower degree of liquidity in the markets for
such securities, and the greater sensitivity of smaller companies to changing
economic conditions.
In addition, smaller companies may lack depth of management, they may be unable
to generate funds necessary for growth or development, or they may be developing
or marketing new products or services for which markets are not yet established
and may never become established.
Therefore, while smaller companies may offer greater opportunities for capital
growth than larger, more established companies, they also involve greater risks
and should be considered speculative.
NON-DIVERSIFICATION AND INDUSTRY RISK. The funds are non-diversified, which
means that there is no limit on the amount of each fund's assets that it can
invest in any one issuer. In addition, each fund concentrates its investments in
a particular industry. Economic, business, political, or other changes can
affect securities of a similar type or industry. The funds may be more sensitive
to these changes than a diversified fund.
CREDIT RISK is the possibility that an issuer will be unable to make interest
payments or repay principal. Changes in an issuer's financial strength or in a
security's credit rating may affect its value.
Securities rated below investment grade, sometimes called "junk bonds,"
generally have more credit risk than higher-rated securities. The risk of
default or price changes due to changes in the issuer's credit quality is
greater. Issuers of lower-rated securities are typically in weaker financial
health than issuers of higher-rated securities, and their ability to make
interest payments or repay principal is less certain. These issuers are also
more likely to encounter financial difficulties and to be materially affected by
these difficulties when they do encounter them. The market price of lower-rated
securities may fluctuate more than higher-rated securities and may decline
significantly in periods of economic difficulty. Lower-rated securities may also
be less liquid than higher-rated securities.
Please see the SAI for more details on the risks associated with lower-rated
securities.
REITS RISK. REITs are subject to risks related to the skill of their management,
changes in value of the properties the REITs own, the quality of any credit
extended by the REITs, and general economic and other factors.
HEDGING TRANSACTIONS RISK. Hedging transactions, whether entered into as a hedge
or for gain, have risks associated with them. The three most significant risks
associated with hedging transactions are (i) possible default by the other party
to the transaction, (ii) illiquidity, and (iii) to the extent Adviser's view as
to certain market movements is incorrect, the risk that the use of hedging
transactions could result in losses greater than if they had not been used. Use
of put and call options may (i) result in losses to a fund, (ii) force the
purchase or sale of portfolio securities at inopportune times or for prices
higher than or lower than current market values, (iii) limit the amount of
appreciation a fund can realize on its investments, (iv) increase the cost of
holding a security and reduce the returns on securities, or (v) cause a fund to
hold a security it might otherwise sell.
The use of currency transactions can result in a fund incurring losses as a
result of a number of factors including the imposition of controls by a foreign
or the U.S. government on the exchange of foreign currencies, the inability of
foreign securities transactions to be completed with the security being
delivered to the fund, or the inability to deliver or receive a specified
currency.
SHORT SALES. Short sales carry risks of loss if the price of the security sold
short increases after the sale. In this situation, when the Biotechnology Fund
replaces the borrowed security by buying the security in the securities markets,
the fund may pay more for the security than it has received from the purchaser
in the short sale. The fund may, however, profit from a change in the value of
the security sold short, if the price decreases.
144A SECURITIES. Subject to its liquidity limitation, each fund may invest in
certain unregistered securities which may be sold under Rule 144A of the
Securities Act of 1933 ("144A securities"). Due to changing market or other
factors, 144A securities may be subject to a greater possibility of becoming
illiquid than securities that have been registered with the SEC for sale. In
addition, a fund's purchase of 144A securities may increase the level of the
security's illiquidity, as some institutional buyers may become disinterested in
purchasing such securities after the fund has purchased them.
INTEREST RATE, CURRENCY AND MARKET RISK. To the extent a fund invests in debt
securities, changes in interest rates in any country where the fund is invested
will affect the value of the fund's portfolio and its share price. Rising
interest rates, which often occur during times of inflation or a growing
economy, are likely to have a negative effect on the value of the fund's shares.
To the extent a fund invests in common stocks, a general market decline in any
country where the fund is invested may cause the value of what the fund owns,
and thus the fund's share price, to decline. Changes in currency valuations may
also affect the price of fund shares. The value of stock markets, currency
valuations and interest rates throughout the world have increased and decreased
in the past. These changes are unpredictable.
WHO MANAGES THE FUNDS?
THE BOARD. The Board oversees the management of the funds and elects their
officers. The officers are responsible for the funds' day-to-day operations. The
Board also monitors the Health Care Fund, the Natural Resources Fund, and the
Utilities Fund to ensure no material conflicts exist among the fund's classes of
shares. While none is expected, the Board will act appropriately to resolve any
material conflict that may arise.
INVESTMENT MANAGER. Advisers manages each fund's assets and makes its
investment decisions. Advisers also performs similar services for other
funds. It is wholly owned by Resources, a publicly owned company engaged in
the financial services industry through its subsidiaries. Charles B. Johnson
and Rupert H. Johnson, Jr. are the principal shareholders of Resources.
Together, Advisers and its affiliates manage over $236 billion in assets.
Please see "Investment Management and Other Services" and "Miscellaneous
Information" in the SAI for information on securities transactions and a
summary of the fund's Code of Ethics.
MANAGEMENT TEAMS. The teams responsible for the day-to-day management of the
funds' portfolios are:
BIOTECHNOLOGY FUND: Kurt von Emster, Evan McCulloch and Rupert H. Johnson,
Jr. since the fund's inception.
HEALTH CARE FUND: Kurt von Emster and Rupert H. Johnson, Jr. since the fund's
inception and Evan McCulloch since 1994.
Kurt von Emster
Vice President of Advisers
Mr. von Emster is a Chartered Financial Analyst and holds a Bachelor of Arts
degree in Business and Economics from the University of California at Santa
Barbara. He has been with the Franklin Templeton Group since 1989.
Evan McCulloch
Vice President of Advisers
Mr. McCulloch is a Chartered Financial Analyst and holds a Bachelor of Science
degree in Economics from the University of California at Berkeley. He has been
with the Franklin Templeton Group since 1992. He is a member of several
securities industry-related associations.
Rupert H. Johnson, Jr.
President of Advisers
Mr. Johnson is a graduate of Washington and Lee University. He has been with
the Franklin Templeton Group since 1965 and prior thereto was an officer in
the U.S. Marine Corps. Mr. Johnson is a member of several securities
industry-related associations.
UTILITIES FUND: Sally Edwards Haff since the fund's inception and Ian Link
since 1995.
Sally Edwards Haff
Senior Vice President of Advisers
Ms. Haff is a Chartered Financial Analyst and holds a Bachelor of Arts degree
in Economics from the University of California at Santa Barbara. She has been
with the Franklin Templeton Group since 1986. Ms. Haff is a member of several
securities industry-related associations.
Ian Link
Vice President of Advisers
Mr. Link is a Chartered Financial Analyst and holds a Master of Business
Administration degree from the Haas School at the University of California,
Berkeley and a Bachelor of Arts degree in Economics from the University of
California at Davis. He has been with the Franklin Templeton Group since 1989.
He is a member of several securities industry-related associations.
NATURAL RESOURCES FUND: Suzanne Willoughby Killea since inception and Edward
D. Perks since 1996.
Suzanne Willoughby Killea
Vice President of Advisers
Ms. Killea holds a Master of Business Administration degree from Stanford
University and a Bachelor of Arts degree from Princeton University. She has been
with the Franklin Templeton Group since 1991. She is a member of several
securities industry-related associations.
Edward D. Perks
Vice President of Advisers
Mr. Perks is a Certified Financial Analyst and holds a Bachelor of Arts
degree in Economics and Political Science from Yale University. Mr. Perks
joined the Franklin Templeton Group in October 1992.
MANAGEMENT FEES. During the fiscal year ended April 30, 1998, management fees
paid to Advisers and total operating expenses, as a percentage of average daily
net assets, were as follows:
TOTAL
MANAGEMENT OPERATING
FEES EXPENSES
- ---------------------------------------------------
CLASS I
Biotechnology Fund*,**...... 0.52% 1.50%
Health Care Fund............ 0.56% 1.15%
Natural Resources Fund***... 0.27% 0.96%
Utilities Fund.............. 0.56% 1.03%
CLASS II
Health Care Fund............ 0.56% 1.90%
Utilities Fund.............. 0.56% 1.78%
* Annualized
**Management fees, before any advance waiver, totaled 0.63% and total operating
expenses were 1.61%. Under an agreement by Advisers to limit its fees, the
Biotechnology Fund paid the management fees and total operating expenses shown.
Advisers may end this arrangement at any time upon notice to the Board.
***Management fees, before any advance waiver, totaled 0.62% and total operating
expenses were 1.31%. Under an agreement by Advisers to limit its fees, the
Natural Resources Fund paid the management fees and total operating expenses
shown. Advisers may end this arrangement at any time upon notice to the Board.
PORTFOLIO TRANSACTIONS. Advisers tries to obtain the best execution on all
transactions. If Advisers believes more than one broker or dealer can provide
the best execution, it may consider research and related services and the sale
of fund shares, as well as shares of other funds in the Franklin Templeton Group
of Funds, when selecting a broker or dealer. Please see "How Do the Funds Buy
Securities for Their Portfolios?" in the SAI for more information.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers (except in the case of
the Biotechnology Fund, which has a separate agreement with FT Services), FT
Services provides certain administrative services and facilities for the funds.
During the fiscal year ended April 30, 1998, administration fees paid to FT
Services, as a percentage of average daily net assets, were as follows:
ADMINISTRATION
FEES
- -----------------------------------------------
Biotechnology Fund................ 0.15%*
Health Care Fund.................. 0.15%
Natural Resources Fund............ 0.15%
Utilities Fund.................... 0.15%
*For the period September 15, 1997 through April 30, 1998. Annualized.
For the Health Care, Natural Resources, and Utilities Funds, these fees are paid
by Advisers and are not a separate expense of the fund. For the Biotechnology
Fund, these fees are included in the amount of total expenses shown above.
Please see "Investment Management and Other Services" in the SAI for more
information.
YEAR 2000 ISSUE. Like other mutual funds, the funds could be adversely affected
if the computer systems used by Advisers and other service providers do not
properly process date-related information on or after January 1, 2000 ("Year
2000 Issue"). The Year 2000 Issue, and in particular foreign service providers'
responsiveness to the issue, could affect portfolio and operational areas
including securities trade processing, interest and dividend payments,
securities pricing, shareholder account services, reporting, custody functions,
and others. While there can be no assurance that the funds will not be adversely
affected, Advisers and its affiliated service providers are taking steps that
they believe are reasonably designed to address the Year 2000 Issue, including
seeking reasonable assurances from the funds' other major service providers.
THE RULE 12B-1 PLANS
Each fund and class have separate distribution plans or "Rule 12b-1 Plans" under
which they may pay or reimburse Distributors or others for the expenses of
activities that are primarily intended to sell shares of the fund. These
expenses may include, among others, distribution or service fees paid to
Securities Dealers or others who have executed a servicing agreement with the
fund, Distributors or its affiliates; a prorated portion of Distributors'
overhead expenses; and the expenses of printing prospectuses and reports used
for sales purposes, and preparing and distributing sales literature and
advertisements.
Payments by the Biotechnology Fund and the Natural Resources Fund under the plan
may not exceed 0.35% per year of the respective fund's average daily net assets.
Of this amount, each fund may reimburse up to 0.35% to Distributors or others,
out of which 0.10% will generally be retained by Distributors for distribution
expenses. The Biotechnology Fund will not reimburse Distributors the additional
0.10% during periods when the fund is closed to new investors. Payments by the
Health Care Fund and the Utilities Fund under the Class I plan may not exceed
0.25% per year of Class I's average daily net assets. All distribution expenses
over this amount will be borne by those who have incurred them. During the first
year after certain Class I purchases made without a sales charge, Securities
Dealers may not be eligible to receive the Rule 12b-1 fees associated with the
purchase.
Under the Class II plan, the Health Care Fund and the Utilities Fund may pay
Distributors up to 0.75% per year of Class II's average daily net assets to pay
Distributors or others for providing distribution and related services and
bearing certain Class II expenses. All distribution expenses over this amount
will be borne by those who have incurred them. During the first year after a
purchase of Class II shares, Securities Dealers may not be eligible to receive
this portion of the Rule 12b-1 fees associated with the purchase.
The Health Care Fund and the Utilities Fund may also pay a servicing fee of up
to 0.25% per year of Class II's average daily net assets under the Class II
plan. This fee may be used to pay Securities Dealers or others for, among other
things, helping to establish and maintain customer accounts and records, helping
with requests to buy and sell shares, receiving and answering correspondence,
monitoring dividend payments from the fund on behalf of customers, and similar
servicing and account maintenance activities.
The Rule 12b-1 fees charged to each class are based only on the fees
attributable to that particular class. For more information, please see "The
Funds' Underwriter" in the SAI.
HOW TAXATION AFFECTS THE FUNDS AND THEIR SHAREHOLDERS
TAXATION OF THE FUNDS' INVESTMENTS.
- --------------------------------------------------------------------------------
Each fund invests your money in the HOW DO THE FUNDS EARN INCOME AND GAINS?
stocks, bonds and other securities
that are described in the section "How Each fund earns dividends and interest
Do the Funds Invest Their Assets?" (the fund's "income") on its
Special tax rules may apply in investments. When a fund sells a
determining the income and gains that security for a price that is higher
each fund earns on its investments. than it paid, it has a gain. When a
These rules may, in turn, affect the fund sells a security for a price that
amount of distributions that a fund is lower than it paid, it has a loss.
pays to you. These special tax rules If a fund has held the security for
are discussed in the SAI. more than one year, the gain or loss
will be a long-term capital gain or
TAXATION OF THE FUNDS. As a regulated loss. If a fund has held the security
investment company, each fund for one year or less, the gain or loss
generally pays no federal income tax will be a short-term capital gain or
on the income and gains that it loss. A fund's gains and losses are
distributes to you. netted together, and, if the fund has
a net gain (the fund's "gains"), that
FOREIGN TAXES. Foreign governments may gain will generally be distributed
impose taxes on the income and gains to you.
from a fund's investments in foreign
stocks and bonds. These taxes will
reduce the amount of the fund's
distributions to you.
----------------------------------------
TAXATION OF SHAREHOLDERS.
----------------------------------------
DISTRIBUTIONS. Distributions from a WHAT IS A DISTRIBUTION?
fund, whether you receive them in cash
or in additional shares, are generally As a shareholder, you will receive
subject to income tax. The fund will your share of a fund's income and
send you a statement in January of the gains on its investments in stocks,
current year that reflects the amount bonds and other securities. A fund's
of ordinary dividends, capital gain income and short- term capital gains
distributions and non-taxable are paid to you as ordinary dividends.
distributions you received from the A fund's long-term capital gains are
fund in the prior year. This statement paid to you as capital gain
will include distributions declared in distributions. If a fund pays you an
December and paid to you in January of amount in excess of its income and
the current year, but which are gains, this excess will generally be
taxable as if paid on December 31 of treated as a non-taxable distribution.
the prior year. The IRS requires you These amounts, taken together, are
to report these amounts on your income what we call a fund's distributions to
tax return for the prior year. you.
----------------------------------------
DISTRIBUTIONS TO RETIREMENT PLANS. Fund distributions received by your qualified
retirement plan, such as a 401(k) plan or IRA, are generally tax-deferred; this
means that you are not required to report fund distributions on your income tax
return when paid to your plan, but, rather, when your plan makes payments to
you. Special rules apply to payouts from Roth and Education IRAs.
DIVIDENDS-RECEIVED DEDUCTION. Corporate investors may be entitled to a
dividends-received deduction on a portion of the ordinary dividends they
receive from a fund.
----------------------------------------
REDEMPTIONS AND EXCHANGES. If you WHAT IS A REDEMPTION?
redeem your shares or if you exchange
your shares in a fund for shares in A redemption is a sale by you to a
another Franklin Templeton Fund, you fund of some or all of your shares in
will generally have a gain or loss the fund. The price per share you
that the IRS requires you to report on receive when you redeem fund shares
your income tax return. If you may be more or less than the price at
exchange fund shares held for 90 days which you purchased those shares. An
or less and pay no sales charge, or a exchange of shares in a fund for
reduced sales charge, for the new shares of another Franklin Templeton
shares, all or a portion of the sales Fund is treated as a redemption of
charge you paid on the purchase of the fund shares and then a purchase of
shares you exchanged is not included shares of the other fund. When you
in their cost for purposes of redeem or exchange your shares, you
computing gain or loss on the will generally have a gain or loss,
exchange. If you hold your shares for depending upon whether the amount you
six months or less, any loss you have receive for your shares is more or
will be treated as a long-term capital less than your cost or other basis in
loss to the extent of any capital gain the shares. Call Fund Information for
distributions received by you from the a free shareholder Tax Information
fund. All or a portion of any loss on Handbook if you need more information
the redemption or exchange of your in calculating the gain or loss on the
shares will be disallowed by the IRS redemption or exchange of your shares.
if you purchase other shares in the
fund within 30 days before or after your
redemption or exchange.
----------------------------------------
U.S. GOVERNMENT INTEREST. Many states grant tax-free status to dividends paid
from interest earned on direct obligations of the U.S. Government, subject to
certain restrictions. Each fund in which you are a shareholder will provide you
with information at the end of each calendar year on the amount of such
dividends that may qualify for exemption from reporting on your individual
income tax returns.
NON-U.S. INVESTORS. Ordinary dividends generally will be subject to U.S.
income tax withholding. Your home country may also tax ordinary dividends,
capital gain distributions and gains arising from redemptions or exchanges of
your fund shares. Fund shares held by the estate of a non-U.S. investor may
be subject to U.S. estate tax. You may wish to contact your tax advisor to
determine the U.S. and non-U.S. tax consequences of your investment in a fund.
STATE TAXES. Ordinary dividends and capital gain distributions that you receive
from a fund, and gains arising from redemptions or exchanges of your fund shares
will generally be subject to state and local income tax. The holding of fund
shares may also be subject to state and local intangibles taxes. You may wish to
contact your tax advisor to determine the state and local tax consequences of
your investment in a fund.
----------------------------------------
BACKUP WITHHOLDING. When you open an WHAT IS A BACKUP WITHHOLDING?
account, IRS regulations require that
you provide your taxpayer Backup withholding occurs when a fund
identification number ("TIN"), certify is required to withhold and pay over
that it is correct, and certify that to the IRS 31% of your distributions
you are not subject to backup and redemption proceeds. You can avoid
withholding under IRS rules. If you backup withholding by providing the
fail to provide a correct TIN or the fund with your TIN, and by completing
proper tax certifications, the fund is the tax certifications on your
required to withhold 31% of all the shareholder application that you were
distributions (including ordinary asked to sign when you opened your
dividends and capital gain account. However, if the IRS instructs
distributions), and redemption a fund to begin backup withholding, it
proceeds paid to you. The fund is also is required to do so even if you
required to begin backup withholding provided the fund with your TIN and
on your account if the IRS instructs these tax certifications, and backup
the fund to do so. The funds reserve withholding will remain in place until
the right not to open your account, the fund is instructed by the IRS that
or, alternatively, to redeem your it is no longer required.
shares at the current Net Asset Value,
less any taxes withheld, if you fail
to provide a correct TIN, fail to
provide the proper tax certifications,
or the IRS instructs the funds to
begin backup withholding on your
account.
----------------------------------------
THIS TAX DISCUSSION IS FOR GENERAL INFORMATION ONLY. PROSPECTIVE INVESTORS
SHOULD CONSULT THEIR OWN TAX ADVISORS CONCERNING THE FEDERAL, STATE, LOCAL OR
FOREIGN TAX CONSEQUENCES OF AN INVESTMENT IN A FUND. A MORE COMPLETE DISCUSSION
OF THESE RULES AND RELATED MATTERS IS CONTAINED IN THE SECTION ENTITLED
"ADDITIONAL INFORMATION ON DISTRIBUTIONS AND TAXES" IN THE SAI. THE TAX
TREATMENT TO YOU OF DIVIDENDS, CAPITAL GAIN DISTRIBUTIONS, FOREIGN TAXES PAID
AND INCOME TAXES WITHHELD IS ALSO DISCUSSED IN A FREE FRANKLIN TEMPLETON TAX
INFORMATION HANDBOOK, WHICH YOU MAY REQUEST BY CONTACTING FUND INFORMATION.
HOW IS THE TRUST ORGANIZED?
Each fund is a non-diversified series of Franklin Strategic Series (the
"Trust"), an open-end management investment company, commonly called a mutual
fund. It was organized as a Delaware business trust on January 25, 1991, and is
registered with the SEC. As of January 2, 1997, the Natural Resources Fund began
offering a new class of shares designated Franklin Natural Resources Fund -
Advisor Class. All shares outstanding before the offering of Advisor Class
shares have been designated Franklin Natural Resources Fund - Class I. The
Health Care Fund and the Utilities Fund offer two class of shares: Franklin
Global Health Care Fund - Class I, Franklin Global Health Care Fund - Class II,
Franklin Global Utilities Fund - Class I, and Franklin Global Utilities Fund -
Class II. All shares of the Health Care Fund and the Utilities Fund outstanding
before the offering of Class II shares and all shares of the Biotechnology Fund
are considered Class I shares for redemption, exchange and other purposes.
Additional series and classes of shares may be offered in the future.
Shares of each class represent proportionate interests in the assets of the fund
and have the same voting and other rights and preferences as any other class of
the fund for matters that affect the fund as a whole. For matters that only
affect one class, however, only shareholders of that class may vote. Each class
will vote separately on matters affecting only that class, or expressly required
to be voted on separately by state or federal law. Shares of each class of a
series have the same voting and other rights and preferences as the other
classes and series of the Trust for matters that affect the Trust as a whole.
The Trust has noncumulative voting rights. This gives holders of more than 50%
of the shares voting the ability to elect all of the members of the Board. If
this happens, holders of the remaining shares voting will not be able to elect
anyone to the Board.
The Trust does not intend to hold annual shareholder meetings. The Trust or a
series of the Trust may hold special meetings, however, for matters requiring
shareholder approval. A meeting may also be called by the Board in its
discretion or by shareholders holding at least 10% of the outstanding shares. In
certain circumstances, we are required to help you communicate with other
shareholders about the removal of a Board member.
ABOUT YOUR ACCOUNT
HOW DO I BUY SHARES?
OPENING YOUR ACCOUNT
To open your account, please follow the steps below. This will help avoid any
delays in processing your request. PLEASE KEEP IN MIND THAT THE BIOTECHNOLOGY
FUND, THE HEALTH CARE FUND AND THE UTILITIES FUND DO NOT CURRENTLY ALLOW
INVESTMENTS BY MARKET TIMERS.
1. Read this prospectus carefully.
2. Determine how much you would like to invest. The funds' minimum investments
are:
o To open a regular, non-retirement account $1,000
o To open an IRA, IRA Rollover, Roth IRA, or Education IRA $ 250*
o To open a custodial account for a minor
(an UGMA/UTMA account) $ 100
o To open an account with an automatic investment plan $ 50**
o To add to an account $ 50***
*For all other retirement accounts, there is no minimum investment
requirement.
**$25 for an Education IRA.
***For all retirement accounts except IRAs, IRA Rollovers, Roth IRAs, or
Education IRAs, there is no minimum to add to an account.
We reserve the right to change the amount of these minimums from time to time or
to waive or lower these minimums for certain purchases. We also reserve the
right to refuse any order to buy shares.
3. Carefully complete and sign the enclosed shareholder application, including
the optional shareholder privileges section. By applying for privileges now,
you can avoid the delay and inconvenience of having to send an additional
application to add privileges later. PLEASE ALSO INDICATE WHICH CLASS OF
SHARES YOU WANT TO BUY. IF YOU DO NOT SPECIFY A CLASS, WE WILL AUTOMATICALLY
INVEST YOUR PURCHASE IN CLASS I SHARES. It is important that we receive a
signed application since we will not be able to process any redemptions from
your account until we receive your signed application.
4. Make your investment using the table below.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL For an initial investment:
Return the application to the fund with your check
made payable to the fund.
For additional investments:
Send a check made payable to the fund. Please include
your account number on the check.
- ------------------------------------------------------------------------------
BY WIRE 1. Call Shareholder Services or, if that number is
busy, call 1-650/312-2000 collect, to receive a
wire control number and wire instructions. You
need a new wire control number every time you
wire money into your account. If you do not have
a currently effective wire control number, we
will return the money to the bank, and we will
not credit the purchase to your account.
2. For initial investments you must also return your
signed shareholder application to the fund.
IMPORTANT DEADLINES: If we receive your call before 1:00
p.m. Pacific time and the bank receives the wired funds
and reports the receipt of wired funds to the fund by
3:00 p.m. Pacific time, we will credit the purchase to
your account that day. If we receive your call after
1:00 p.m. or the bank receives the wire after 3:00 p.m.,
we will credit the purchase to your account the
following business day.
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THROUGH YOUR DEALER Call your investment representative
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CHOOSING A SHARE CLASS (HEALTH CARE FUND AND UTILITIES FUND ONLY)
Each class of the Health Care Fund and the Utilities Fund has its own sales
charge and expense structure, allowing you to choose the class that best meets
your situation. The class that may be best for you depends on a number of
factors, including the amount and length of time you expect to invest.
Generally, Class I shares may be more attractive for long-term investors or
investors who qualify to buy Class I shares at a reduced sales charge. Your
financial representative can help you decide.
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CLASS I CLASS II
o Higher front-end sales charges than o Lower front-end sales charges than
Class II shares. There are several Class I shares
ways to reduce these charges, as
described below. There is no
front-end sales charge for purchases
of $1 million or more.*
o Contingent Deferred Sales Charge on o Contingent Deferred Sales Charge on
purchases of $1 million or more sold purchases sold within 18 months
within one year
o Lower annual expenses than Class II o Higher annual expenses than Class I
shares shares
- --------------------------------------------------------------------------------
*If you are investing $1 million or more, it is generally more beneficial for
you to buy Class I shares because there is no front-end sales charge and the
annual expenses are lower. Therefore, ANY PURCHASE OF $1 MILLION OR MORE IS
AUTOMATICALLY INVESTED IN CLASS I SHARES. You may accumulate more than $1
million in Class II shares through purchases over time. If you plan to do this,
however, you should determine if it would be better for you to buy Class I
shares through a Letter of Intent.
PURCHASE PRICE OF FUND SHARES
For Class I shares, the sales charge you pay depends on the dollar amount you
invest, as shown in the table below. The sales charge for Class II shares of the
Health Care Fund and the Utilities Fund is 1% and, unlike Class I, does not vary
based on the size of your purchase.
TOTAL SALES CHARGE AMOUNT PAID
AS A PERCENTAGE OF TO DEALER AS A
AMOUNT OF PURCHASE OFFERING NET AMOUNT PERCENTAGE OF
AT OFFERING PRICE PRICE INVESTED OFFERING PRICE
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CLASS I
Under $50,000...................... 5.75% 6.10% 5.00%
$50,000 but less than $100,000..... 4.50% 4.71% 3.75%
$100,000 but less than $250,000.... 3.50% 3.63% 2.80%
$250,000 but less than $500,000.... 2.50% 2.56% 2.00%
$500,000 but less than $1,000,000.. 2.00% 2.04% 1.60%
$1,000,000 or more*................ None None None
CLASS II - Health Care Fund and Utilities Fund Only
Under $1,000,000*.................. 1.00% 1.01% 1.00%
*A Contingent Deferred Sales Charge of 1% may apply to Class I purchases of $1
million or more and any Class II purchase. Please see "How Do I Sell Shares? -
Contingent Deferred Sales Charge." Please also see "Other Payments to Securities
Dealers" below for a discussion of payments Distributors may make out of its own
resources to Securities Dealers for certain purchases. Purchases of Class II
shares are limited to purchases below $1 million.
Please see "Choosing a Share Class."
SALES CHARGE REDUCTIONS AND WAIVERS
- IF YOU QUALIFY TO BUY SHARES UNDER ONE OF THE SALES CHARGE REDUCTION OR
WAIVER CATEGORIES DESCRIBED BELOW, PLEASE INCLUDE A WRITTEN STATEMENT WITH
EACH PURCHASE ORDER EXPLAINING WHICH PRIVILEGE APPLIES. If you don't include
this statement, we cannot guarantee that you will receive the sales charge
reduction or waiver.
CUMULATIVE QUANTITY DISCOUNTS - CLASS I ONLY. To determine if you may pay a
reduced sales charge, the amount of your current Class I purchase is added to
the cost or current value, whichever is higher, of your existing shares in the
Franklin Templeton Funds, as well as those of your spouse, children under the
age of 21 and grandchildren under the age of 21. If you are the sole owner of a
company, you may also add any company accounts, including retirement plan
accounts. Companies with one or more retirement plans may add together the total
plan assets invested in the Franklin Templeton Funds to determine the sales
charge that applies.
LETTER OF INTENT - CLASS I ONLY. You may buy Class I shares at a reduced sales
charge by completing the Letter of Intent section of the shareholder
application. A Letter of Intent is a commitment by you to invest a specified
dollar amount during a 13 month period. The amount you agree to invest
determines the sales charge you pay on Class I shares.
BY COMPLETING THE LETTER OF INTENT SECTION OF THE SHAREHOLDER APPLICATION, YOU
ACKNOWLEDGE AND AGREE TO THE FOLLOWING:
o You authorize Distributors to reserve 5% of your total intended purchase in
Class I shares registered in your name until you fulfill your Letter.
o You give Distributors a security interest in the reserved shares and appoint
Distributors as attorney-in-fact.
o Distributors may sell any or all of the reserved shares to cover any
additional sales charge if you do not fulfill the terms of the Letter.
o Although you may exchange your shares, you may not sell reserved shares until
you complete the Letter or pay the higher sales charge.
Your periodic statements will include the reserved shares in the total shares
you own. We will pay or reinvest dividend and capital gain distributions on the
reserved shares as you direct. Our policy of reserving shares does not apply to
certain retirement plans.
If you would like more information about the Letter of Intent privilege, please
see "How Do I Buy, Sell and Exchange Shares? - Letter of Intent" in the SAI or
call Shareholder Services.
GROUP PURCHASES - CLASS I ONLY. If you are a member of a qualified group, you
may buy Class I shares at a reduced sales charge that applies to the group as a
whole. The sales charge is based on the combined dollar value of the group
members' existing investments, plus the amount of the current purchase.
A qualified group is one that:
o Was formed at least six months ago,
o Has a purpose other than buying fund shares at a discount,
o Has more than 10 members,
o Can arrange for meetings between our representatives and group members,
o Agrees to include Franklin Templeton Fund sales and other materials in
publications and mailings to its members at reduced or no cost to
Distributors,
o Agrees to arrange for payroll deduction or other bulk transmission of
investments to the fund, and
o Meets other uniform criteria that allow Distributors to achieve cost savings
in distributing shares.
A qualified group does not include a 403(b) plan that only allows salary
deferral contributions. 403(b) plans that only allow salary deferral
contributions and that purchased Class I shares of the fund at a reduced sales
charge under the group purchase privilege before February 1, 1998, however, may
continue to do so.
SALES CHARGE WAIVERS. If one of the following sales charge waivers applies to
you or your purchase of fund shares, you may buy shares of the fund without a
front-end sales charge or a Contingent Deferred Sales Charge. All of the sales
charge waivers listed below apply to purchases of Class I shares only, except
for items 1 and 2 which also apply to Class II purchases.
Certain distributions, payments or redemption proceeds that you receive may be
used to buy shares of the fund without a sales charge if you reinvest them
within 365 days of their payment or redemption date. They include:
1. Dividend and capital gain distributions from any Franklin Templeton Fund. The
distributions generally must be reinvested in the same class of shares.
Certain exceptions apply, however, to Class II shareholders who chose to
reinvest their distributions in Class I shares of a fund before November 17,
1997, and to Advisor Class or Class Z shareholders of a Franklin Templeton
Fund who may reinvest their distributions in Class I shares of the funds.
2. Redemption proceeds from the sale of shares of any Franklin Templeton Fund if
you originally paid a sales charge on the shares and you reinvest the money
in the same class of shares. This waiver does not apply to exchanges.
If you paid a Contingent Deferred Sales Charge when you redeemed your shares
from a Franklin Templeton Fund, a Contingent Deferred Sales Charge will apply
to your purchase of fund shares and a new Contingency Period will begin. We
will, however, credit your fund account with additional shares based on the
Contingent Deferred Sales Charge you paid and the amount of redemption
proceeds that you reinvest.
If you immediately placed your redemption proceeds in a Franklin Bank CD, you
may reinvest them as described above. The proceeds must be reinvested within
365 days from the date the CD matures, including any rollover.
3. Dividend or capital gain distributions from a real estate investment trust
(REIT) sponsored or advised by Franklin Properties, Inc.
4. Annuity payments received under either an annuity option or from death
benefit proceeds, only if the annuity contract offers as an investment option
the Franklin Valuemark Funds or the Templeton Variable Products Series Fund.
You should contact your tax advisor for information on any tax consequences
that may apply.
5. Redemption proceeds from a repurchase of shares of Franklin Floating Rate
Trust, if the shares were continuously held for at least 12 months.
If you immediately placed your redemption proceeds in a Franklin Bank CD or a
Franklin Templeton money fund, you may reinvest them as described above. The
proceeds must be reinvested within 365 days from the date the CD matures,
including any rollover, or the date you redeem your money fund shares.
6. Redemption proceeds from the sale of Class A shares of any of the Templeton
Global Strategy Funds if you are a qualified investor.
If you paid a contingent deferred sales charge when you redeemed your Class A
shares from a Templeton Global Strategy Fund, a Contingent Deferred Sales
Charge will apply to your purchase of fund shares and a new Contingency
Period will begin. We will, however, credit your fund account with additional
shares based on the contingent deferred sales charge you paid and the amount
of the redemption proceeds that you reinvest.
If you immediately placed your redemption proceeds in a Franklin Templeton
money fund, you may reinvest them as described above. The proceeds must be
reinvested within 365 days from the date they are redeemed from the money
fund.
7. Distributions from an existing retirement plan invested in the Franklin
Templeton Funds
Various individuals and institutions also may buy Class I shares without a
front-end sales charge or Contingent Deferred Sales Charge, including:
1. Trust companies and bank trust departments agreeing to invest in Franklin
Templeton Funds over a 13 month period at least $1 million of assets held
in a fiduciary, agency, advisory, custodial or similar capacity and over
which the trust companies and bank trust departments or other plan
fiduciaries or participants, in the case of certain retirement plans, have
full or shared investment discretion. We will accept orders for these
accounts by mail accompanied by a check or by telephone or other means of
electronic data transfer directly from the bank or trust company, with
payment by federal funds received by the close of business on the next
business day following the order.
2. An Eligible Governmental Authority. Please consult your legal and
investment advisors to determine if an investment in a fund is permissible
and suitable for you and the effect, if any, of payments by the fund on
arbitrage rebate calculations.
3. Broker-dealers, registered investment advisors or certified financial
planners who have entered into an agreement with Distributors for clients
participating in comprehensive fee programs. The minimum initial investment
is $250.
4. Qualified registered investment advisors who buy through a broker-dealer or
service agent who has entered into an agreement with Distributors
5. Registered Securities Dealers and their affiliates, for their investment
accounts only
6. Current employees of Securities Dealers and their affiliates and their
family members, as allowed by the internal policies of their employer
7. Officers, trustees, directors and full-time employees of the Franklin
Templeton Funds or the Franklin Templeton Group, and their family members,
consistent with our then-current policies. The minimum initial investment
is $100.
8. Investment companies exchanging shares or selling assets pursuant to a
merger, acquisition or exchange offer
9. Accounts managed by the Franklin Templeton Group
10. Certain unit investment trusts and their holders reinvesting distributions
from the trusts
11. Group annuity separate accounts offered to retirement plans
12. Chilean retirement plans that meet the requirements described under
"Retirement Plans" below
RETIREMENT PLANS. Retirement plans that (i) are sponsored by an employer with at
least 100 employees, or (ii) have plan assets of $1 million or more, or (iii)
agree to invest at least $500,000 in the Franklin Templeton Funds over a 13
month period may buy Class I shares without a front-end sales charge. Retirement
plans that are not Qualified Retirement Plans, SIMPLEs or SEPs must also meet
the requirements described under "Group Purchases - Class I Only" above to be
able to buy Class I shares without a front-end sales charge. We may enter into a
special arrangement with a Securities Dealer, based on criteria established by
the fund, to add together certain small Qualified Retirement Plan accounts for
the purpose of meeting these requirements.
For retirement plan accounts opened on or after May 1, 1997, a Contingent
Deferred Sales Charge may apply if the retirement plan is transferred out of the
Franklin Templeton Funds or terminated within 365 days of the retirement plan
account's initial purchase in the Franklin Templeton Funds. Please see "How Do I
Sell Shares? - Contingent Deferred Sales Charge" for details.
HOW DO I BUY SHARES IN CONNECTION WITH RETIREMENT PLANS?
Your individual or employer-sponsored retirement plan may invest in the fund.
Plan documents are required for all retirement plans. Trust Company can provide
the plan documents for you and serve as custodian or trustee.
Trust Company can provide you with brochures containing important information
about its plans. To establish a Trust Company retirement plan, you will need an
application other than the one included in this prospectus. For a retirement
plan brochure or application, call Retirement Plan Services.
Please consult your legal, tax or retirement plan specialist before choosing a
retirement plan. Your investment representative or advisor can help you make
investment decisions within your plan.
OTHER PAYMENTS TO SECURITIES DEALERS
The payments described below may be made to Securities Dealers who initiate and
are responsible for Class II purchases and certain Class I purchases made
without a sales charge. The payments are subject to the sole discretion of
Distributors, and are paid by Distributors or one of its affiliates and not by
the funds or their shareholders.
1. Class II purchases - up to 1% of the purchase price.
2. Class I purchases of $1 million or more - up to 1% of the amount invested.
3. Class I purchases made without a front-end sales charge by certain
retirement plans described under "Sales Charge Reductions and Waivers
Retirement Plans" above - up to 1% of the amount invested.
4. Class I purchases by trust companies and bank trust departments, Eligible
Governmental Authorities, and broker-dealers or others on behalf of clients
participating in comprehensive fee programs - up to 0.25% of the amount
invested.
5. Class I purchases by Chilean retirement plans - up to 1% of the amount
invested.
A Securities Dealer may receive only one of these payments for each qualifying
purchase. Securities Dealers who receive payments in connection with investments
described in paragraphs 1, 2 or 5 above or a payment of up to 1% for investments
described in paragraph 3 will be eligible to receive the Rule 12b-1 fee
associated with the purchase starting in the thirteenth calendar month after the
purchase.
FOR BREAKPOINTS THAT MAY APPLY AND INFORMATION ON ADDITIONAL COMPENSATION
PAYABLE TO SECURITIES DEALERS IN CONNECTION WITH THE SALE OF FUND SHARES, PLEASE
SEE "HOW DO I BUY, SELL AND EXCHANGE SHARES? - OTHER PAYMENTS TO SECURITIES
DEALERS" IN THE SAI.
FOR INVESTORS OUTSIDE THE U.S.
The distribution of this prospectus and the offering of fund shares may be
limited in many jurisdictions. An investor who wishes to buy shares of the fund
should determine, or have a broker-dealer determine, the applicable laws and
regulations of the relevant jurisdiction. Investors are responsible for
compliance with tax, currency exchange or other regulations applicable to
redemption and purchase transactions in any jurisdiction to which they may be
subject. Investors should consult appropriate tax and legal advisors to obtain
information on the rules applicable to these transactions.
MAY I EXCHANGE SHARES FOR SHARES OF ANOTHER FUND?
We offer a wide variety of funds. If you would like, you can move your
investment from your fund account to an existing or new account in another
Franklin Templeton Fund (an "exchange"). Because it is technically a sale and a
purchase of shares, an exchange is a taxable transaction.
If you own Class I shares, you may exchange into any of our money funds except
Franklin Templeton Money Fund II ("Money Fund II"). Money Fund II is the only
money fund exchange option available to Class II shareholders. Unlike our other
money funds, shares of Money Fund II may not be purchased directly and no drafts
(checks) may be written on Money Fund II accounts.
Before making an exchange, please read the prospectus of the fund you are
interested in. This will help you learn about the fund, its investment goal and
policies, and its rules and requirements for exchanges. For example, some
Franklin Templeton Funds do not accept exchanges and others may have different
investment minimums. Some Franklin Templeton Funds do not offer Class II shares.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL 1. Send us signed written instructions
2. Include any outstanding share certificates for the
shares you want to exchange
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services or TeleFACTS(R)
- If you do not want the ability to exchange by
phone to apply to your account, please let us know.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to exchange shares.
WILL SALES CHARGES APPLY TO MY EXCHANGE?
You generally will not pay a front-end sales charge on exchanges. If you have
held your shares less than six months, however, you will pay the percentage
difference between the sales charge you previously paid and the applicable sales
charge of the new fund, if the difference is more than 0.25%. If you have never
paid a sales charge on your shares because, for example, they have always been
held in a money fund, you will pay the fund's applicable sales charge no matter
how long you have held your shares. These charges may not apply if you qualify
to buy shares without a sales charge.
CONTINGENT DEFERRED SALES CHARGE. We will not impose a Contingent Deferred Sales
Charge when you exchange shares. Any shares subject to a Contingent Deferred
Sales Charge at the time of exchange, however, will remain so in the new fund.
For accounts with shares subject to a Contingent Deferred Sales Charge, we will
first exchange any shares in your account that are not subject to the charge. If
there are not enough of these to meet your exchange request, we will exchange
shares subject to the charge in the order they were purchased.
If you exchange Class I shares into one of our money funds, the time your shares
are held in that fund will not count towards the completion of any Contingency
Period. If you exchange your Class II shares for shares of Money Fund II,
however, the time your shares are held in that fund will count towards the
completion of any Contingency Period.
For more information about the Contingent Deferred Sales Charge, please see "How
Do I Sell Shares?"
EXCHANGE RESTRICTIONS
Please be aware that the following restrictions apply to exchanges:
o You must meet the applicable minimum investment amount of the fund you are
exchanging into, or exchange 100% of your fund shares.
o You may only exchange shares within the SAME CLASS, except as noted below.
o The accounts must be identically registered. You may, however, exchange
shares from a fund account requiring two or more signatures into an
identically registered money fund account requiring only one signature for
all transactions. PLEASE NOTIFY US IN WRITING IF YOU DO NOT WANT THIS
OPTION TO BE AVAILABLE ON YOUR ACCOUNT. Additional procedures may apply.
Please see "Transaction Procedures and Special Requirements."
o Trust Company IRA or 403(b) retirement plan accounts may exchange shares as
described above. Restrictions may apply to other types of retirement plans.
Please contact Retirement Plan Services for information on exchanges within
these plans.
o The fund you are exchanging into must be eligible for sale in your state.
o We may modify or discontinue our exchange policy if we give you 60 days'
written notice.
o Your exchange may be restricted or refused if you have: (i) requested an
exchange out of the fund within two weeks of an earlier exchange request,
(ii) exchanged shares out of the fund more than twice in a calendar quarter,
or (iii) exchanged shares equal to at least $5 million, or more than 1% of
the fund's net assets. Shares under common ownership or control are combined
for these limits. If you have exchanged shares as described in this
paragraph, you will be considered a Market Timer. Each exchange by a Market
Timer, if accepted, will be charged $5.00. Some of our funds including the
Biotechnology Fund, the Health Care Fund, and the Utilities Fund do not allow
investments by Market Timers.
Because excessive trading can hurt fund performance, operations and
shareholders, we may refuse any exchange purchase if (i) we believe the fund
would be harmed or unable to invest effectively, or (ii) the fund receives or
anticipates simultaneous orders that may significantly affect the fund.
LIMITED EXCHANGES BETWEEN DIFFERENT CLASSES OF SHARES
Certain funds in the Franklin Templeton Funds offer classes of shares not
offered by the funds, such as "Class Z" shares. Because the Biotechnology Fund,
the Health Care Fund and the Utilities Fund do not currently offer an Advisor
Class, you may exchange Advisor Class shares of any Franklin Templeton Fund for
Class I shares of these funds at Net Asset Value. If you do so and you later
decide you would like to exchange into a fund that offers an Advisor Class, you
may exchange your Class I shares for Advisor Class shares of that fund. Certain
shareholders of Class Z shares of Franklin Mutual Series Fund Inc. may also
exchange their Class Z shares for Class I shares of the funds at Net Asset
Value.
HOW DO I SELL SHARES?
You may sell (redeem) your shares at any time.
Method Steps to Follow
- ------------------------------------------------------------------------------
By Mail 1. Send us signed written instructions. If you would like
your redemption proceeds wired to a bank account, your
instructions should include:
o The name, address and telephone number of the bank
where you want the proceeds sent
o Your bank account number
o The Federal Reserve ABA routing number
o If you are using a savings and loan or credit union,
the name of the corresponding bank and the account
number
2. Include any outstanding share certificates for the
shares you are selling
3. Provide a signature guarantee if required
4. Corporate, partnership and trust accounts may need to send
additional documents. Accounts under court jurisdiction
may have other requirements.
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services. If you would like your
redemption proceeds wired to a bank account, other than an
escrow account, you must first sign up for the wire
feature. To sign up, send us written instructions, with a
signature guarantee. To avoid any delay in processing, the
instructions should include the items listed in "By Mail"
above.
Telephone requests will be accepted:
o If the request is $50,000 or less. Institutional accounts
may exceed $50,000 by completing a separate agreement.
Call Institutional Services to receive a copy.
o If there are no share certificates issued for the shares
you want to sell or you have already returned them to the
fund
o Unless you are selling shares in a Trust Company
retirement plan account
o Unless the address on your account was changed by phone
within the last 15 days
- If you do not want the ability to redeem by phone to
apply to your account, please let us know.
- ------------------------------------------------------------------------------
THROUGH
YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
We will send your redemption check within seven days after we receive your
request in proper form. If you would like the check sent to an address other
than the address of record or made payable to someone other than the registered
owners on the account, send us written instructions signed by all account
owners, with a signature guarantee. We are not able to receive or pay out cash
in the form of currency.
The wiring of redemption proceeds is a special service that we make available
whenever possible for redemption requests of $1,000 or more. If we receive your
request in proper form before 1:00 p.m. Pacific time, your wire payment will be
sent the next business day. For requests received in proper form after 1:00 p.m.
Pacific time, the payment will be sent the second business day. By offering this
service to you, the fund is not bound to meet any redemption request in less
than the seven day period prescribed by law. Neither the fund nor its agents
shall be liable to you or any other person if, for any reason, a redemption
request by wire is not processed as described in this section.
If you sell shares you recently purchased with a check or draft, we may delay
sending you the proceeds until your check or draft has cleared, which may take
seven business days or more. A certified or cashier's check may clear in less
time.
Under unusual circumstances, we may suspend redemptions or postpone payment for
more than seven days as permitted by federal securities law.
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to sell shares.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS
To comply with IRS regulations, you need to complete additional forms before
selling shares in a Trust Company retirement plan account. Tax penalties
generally apply to any distribution from these plans to a participant under age
591/2, unless the distribution meets an exception stated in the Code. To obtain
the necessary forms, please call Retirement Plan Services.
CONTINGENT DEFERRED SALES CHARGE
For Class I purchases, if you did not pay a front-end sales charge because you
invested $1 million or more or agreed to invest $1 million or more under a
Letter of Intent, a Contingent Deferred Sales Charge may apply if you sell all
or a part of your investment within the Contingency Period. Once you have
invested $1 million or more, any additional Class I investments you make without
a sales charge may also be subject to a Contingent Deferred Sales Charge if they
are sold within the Contingency Period. For any Class II purchase, a Contingent
Deferred Sales Charge may apply if you sell the shares within the Contingency
Period. The charge is 1% of the value of the shares sold or the Net Asset Value
at the time of purchase, whichever is less.
Certain retirement plan accounts opened on or after May 1, 1997, and that
qualify to buy Class I shares without a front-end sales charge may also be
subject to a Contingent Deferred Sales Charge if the retirement plan is
transferred out of the Franklin Templeton Funds or terminated within 365 days of
the account's initial purchase in the Franklin Templeton Funds.
We will first redeem any shares in your account that are not subject to the
charge. If there are not enough of these to meet your request, we will redeem
shares subject to the charge in the order they were purchased.
Unless otherwise specified, when you request to sell a stated DOLLAR AMOUNT, we
will redeem additional shares to cover any Contingent Deferred Sales Charge. For
requests to sell a stated NUMBER OF SHARES, we will deduct the amount of the
Contingent Deferred Sales Charge, if any, from the sale proceeds.
WAIVERS. We waive the Contingent Deferred Sales Charge for:
o Account fees
o Sales of shares purchased without a front-end sales charge by certain
retirement plan accounts if (i) the account was opened before May 1, 1997, or
(ii) the Securities Dealer of record received a payment from Distributors of
0.25% or less, or (iii) Distributors did not make any payment in connection
with the purchase, or (iv) the Securities Dealer of record has entered into a
supplemental agreement with Distributors
o Redemptions by the fund when an account falls below the minimum required
account size
o Redemptions following the death of the shareholder or beneficial owner
o Redemptions through a systematic withdrawal plan set up before February 1,
1995
o Redemptions through a systematic withdrawal plan set up on or after February
1, 1995, at a rate of up to 1% a month of an account's Net Asset Value. For
example, if you maintain an annual balance of $1 million in Class I shares,
you can redeem up to $120,000 annually through a systematic withdrawal plan
free of charge. Likewise, if you maintain an annual balance of $10,000 in
Class II shares, $1,200 may be redeemed annually free of charge.
o Distributions from IRAs due to death or disability or upon periodic
distributions based on life expectancy
o Returns of excess contributions from employee benefit plans
o Redemptions by Trust Company employee benefit plans or employee benefit
plans serviced by ValuSelect(R)
o Participant initiated distributions from employee benefit plans or
participant initiated exchanges among investment choices in employee benefit
plans
WHAT DISTRIBUTIONS MIGHT I RECEIVE FROM THE FUNDS?
Each fund (except the Biotechnology Fund) declares dividends from its net
investment income semiannually in June and December to shareholders of record on
the first business day before the 15th of the month and pays them on or about
the last day of that month. The Biotechnology Fund declares dividends from its
net investment income annually in December to shareholders of record on the
first business day before the 15th of the month and pays them on or about the
last day of that month.
Capital gains, if any, may be distributed annually, usually in December.
Dividends and capital gains are calculated and distributed the same way for each
class. THE AMOUNT OF ANY INCOME DIVIDENDS PER SHARE WILL DIFFER, HOWEVER,
GENERALLY DUE TO THE DIFFERENCE IN THE RULE 12B-1 FEES OF CLASS I AND CLASS II.
Dividend payments are not guaranteed, are subject to the Board's discretion and
may vary with each payment. The fund does not pay "interest" or guarantee any
fixed rate of return on an investment in its shares.
If you buy shares shortly before the record date, please keep in mind that any
distribution will lower the value of the fund's shares by the amount of the
distribution and you will then receive a portion of the price you paid back in
the form of a taxable distribution.
DISTRIBUTION OPTIONS
You may receive your distributions from the fund in any of these ways:
1. BUY ADDITIONAL SHARES OF THE FUND - You may buy additional shares of the fund
(without a sales charge or imposition of a Contingent Deferred Sales Charge) by
reinvesting capital gain distributions, or both dividend and capital gain
distributions. This is a convenient way to accumulate additional shares and
maintain or increase your earnings base.
2. BUY SHARES OF OTHER FRANKLIN TEMPLETON FUNDS - You may direct your
distributions to buy shares of another Franklin Templeton Fund (without a sales
charge or imposition of a Contingent Deferred Sales Charge). Many shareholders
find this a convenient way to diversify their investments.
3. RECEIVE DISTRIBUTIONS IN CASH - You may receive dividends, or both dividend
and capital gain distributions in cash. If you have the money sent to another
person or to a checking account, you may need a signature guarantee. If you send
the money to a checking account, please see "Electronic Fund Transfers - Class I
Only" under "Services to Help You Manage Your Account."
Distributions may be reinvested only in the same class of shares, except as
follows: (i) Class II shareholders who chose to reinvest their distributions in
Class I shares of the fund or another Franklin Templeton Fund before November
17, 1997, may continue to do so; and (ii) Class II shareholders may reinvest
their distributions in shares of any Franklin Templeton money fund.
TO SELECT ONE OF THESE OPTIONS, PLEASE COMPLETE SECTIONS 6 AND 7 OF THE
SHAREHOLDER APPLICATION INCLUDED WITH THIS PROSPECTUS OR TELL YOUR INVESTMENT
REPRESENTATIVE WHICH OPTION YOU PREFER. IF YOU DO NOT SELECT AN OPTION, WE WILL
AUTOMATICALLY REINVEST DIVIDEND AND CAPITAL GAIN DISTRIBUTIONS IN THE SAME CLASS
OF THE FUND. You may change your distribution option at any time by notifying us
by mail or phone. Please allow at least seven days before the record date for us
to process the new option. For Trust Company retirement plans, special forms are
required to receive distributions in cash.
TRANSACTION PROCEDURES AND SPECIAL REQUIREMENTS
SHARE PRICE
When you buy shares, you pay the Offering Price. This is the Net Asset Value per
share of the class you wish to purchase, plus any applicable sales charges. When
you sell shares, you receive the Net Asset Value per share minus any applicable
Contingent Deferred Sales Charges.
The Net Asset Value we use when you buy or sell shares is the one next
calculated after we receive your transaction request in proper form. If you buy
or sell shares through your Securities Dealer, however, we will use the Net
Asset Value next calculated after your Securities Dealer receives your request,
which is promptly transmitted to the fund. Your redemption proceeds will not
earn interest between the time we receive the order from your dealer and the
time we receive any required documents.
HOW AND WHEN SHARES ARE PRICED
The fund is open for business each day the NYSE is open. We determine the Net
Asset Value per share of each class as of the close of the NYSE, normally 1:00
p.m. Pacific time. You can find the prior day's closing Net Asset Value and
Offering Price for each class in many newspapers.
The Net Asset Value of all outstanding shares of each class is calculated on a
pro rata basis. It is based on each class' proportionate participation in the
fund, determined by the value of the shares of each class. Each class, however,
bears the Rule 12b-1 fees payable under its Rule 12b-1 plan. To calculate Net
Asset Value per share of each class, the assets of each class are valued and
totaled, liabilities are subtracted, and the balance, called net assets, is
divided by the number of shares of the class outstanding. The fund's assets are
valued as described under "How Are Fund Shares Valued?" in the SAI.
WRITTEN INSTRUCTIONS
Written instructions must be signed by all registered owners. To avoid any delay
in processing your transaction, they should include:
o Your name,
o The fund's name,
o The class of shares,
o A description of the request,
o For exchanges, the name of the fund you are exchanging into,
o Your account number,
o The dollar amount or number of shares, and
o A telephone number where we may reach you during the day, or in the evening
if preferred.
JOINT ACCOUNTS. For accounts with more than one registered owner, we accept
written instructions signed by only one owner for certain types of transactions
or account changes. These include transactions or account changes that you could
also make by phone, such as certain redemptions of $50,000 or less, exchanges
between identically registered accounts, and changes to the address of record.
For most other types of transactions or changes, written instructions must be
signed by all registered owners.
Please keep in mind that if you have previously told us that you do not want
telephone exchange or redemption privileges on your account, then we can only
accept written instructions to exchange or redeem shares if they are signed by
all registered owners on the account.
SIGNATURE GUARANTEES
For our mutual protection, we require a signature guarantee in the following
situations:
1) You wish to sell over $50,000 worth of shares,
2) You want the proceeds to be paid to someone other than the registered
owners,
3) The proceeds are not being sent to the address of record, preauthorized bank
account, or preauthorized brokerage firm account,
4) We receive instructions from an agent, not the registered owners,
5) We believe a signature guarantee would protect us against potential claims
based on the instructions received.
A signature guarantee verifies the authenticity of your signature. You should be
able to obtain a signature guarantee from a bank, broker, credit union, savings
association, clearing agency, or securities exchange or association.
A NOTARIZED SIGNATURE IS NOT SUFFICIENT.
SHARE CERTIFICATES
We will credit your shares to your fund account. We do not issue share
certificates unless you specifically request them. This eliminates the costly
problem of replacing lost, stolen or destroyed certificates. If a certificate is
lost, stolen or destroyed, you may have to pay an insurance premium of up to 2%
of the value of the certificate to replace it.
Any outstanding share certificates must be returned to the fund if you want to
sell or exchange those shares or if you would like to start a systematic
withdrawal plan. The certificates should be properly endorsed. You can do this
either by signing the back of the certificate or by completing a share
assignment form. For your protection, you may prefer to complete a share
assignment form and to send the certificate and assignment form in separate
envelopes.
TELEPHONE TRANSACTIONS
You may initiate many transactions and changes to your account by phone. Please
refer to the sections of this prospectus that discuss the transaction you would
like to make or call Shareholder Services.
When you call, we will request personal or other identifying information to
confirm that instructions are genuine. We may also record calls. If our lines
are busy or you are otherwise unable to reach us by phone, you may wish to ask
your investment representative for assistance or send us written instructions,
as described elsewhere in this prospectus.
For your protection, we may delay a transaction or not implement one if we are
not reasonably satisfied that the instructions are genuine. If this occurs, we
will not be liable for any loss. We also will not be liable for any loss if we
follow instructions by phone that we reasonably believe are genuine or if you
are unable to execute a transaction by phone.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS. We cannot accept instructions to sell
shares or change distribution options on Trust Company retirement plans by
phone. While you may exchange shares of Trust Company IRA and 403(b) retirement
accounts by phone, certain restrictions may be imposed on other retirement
plans.
To obtain any required forms or more information about distribution or transfer
procedures, please call Retirement Plan Services.
ACCOUNT REGISTRATIONS AND REQUIRED DOCUMENTS
When you open an account, we need you to tell us how you want your shares
registered. How you register your account will affect your ownership rights and
ability to make certain transactions. If you have questions about how to
register your account, you should consult your investment representative or
legal advisor. Please keep the following information in mind when registering
your account.
JOINT OWNERSHIP. If you open an account with two or more owners, we register the
account as "joint tenants with rights of survivorship" unless you tell us
otherwise. An account registered as "joint tenants with rights of survivorship"
is shown as "Jt Ten" on your account statement. For any account with two or more
owners, we cannot accept instructions to change owners on the account unless ALL
owners agree in writing, even if the law in your state says otherwise. If you
would like another person or owner to sign for you, please send us a current
power of attorney.
GIFTS AND TRANSFERS TO MINORS. You may set up a custodial account for a minor
under your state's Uniform Gifts/Transfers to Minors Act. Other than this form
of registration, a minor may not be named as an account owner.
TRUSTS. You should register your account as a trust only if you have a valid
written trust document. This avoids future disputes or possible court action
over who owns the account.
REQUIRED DOCUMENTS. For corporate, partnership and trust accounts, please send
us the following documents when you open your account. This will help avoid
delays in processing your transactions while we verify who may sign on the
account.
TYPE OF ACCOUNT DOCUMENTS REQUIRED
- ------------------------------------------------------------------------------
CORPORATION Corporate Resolution
- ------------------------------------------------------------------------------
PARTNERSHIP 1. The pages from the partnership agreement that
identify the general partners, or
2. A certification for a partnership agreement
- ------------------------------------------------------------------------------
TRUST 1. The pages from the trust document that identify
the trustees, or
2. A certification for trust
- ------------------------------------------------------------------------------
STREET OR NOMINEE ACCOUNTS. If you have fund shares held in a "street" or
"nominee" name account with your Securities Dealer, you may transfer the shares
to the street or nominee name account of another Securities Dealer. Both dealers
must have an agreement with Distributors or we cannot process the transfer.
Contact your Securities Dealer to initiate the transfer. We will process the
transfer after we receive authorization in proper form from your delivering
Securities Dealer. Accounts may be transferred electronically through the NSCC.
For accounts registered in street or nominee name, we may take instructions
directly from the Securities Dealer or your nominee.
IMPORTANT INFORMATION IF YOU HAVE AN INVESTMENT REPRESENTATIVE
If there is a Securities Dealer or other representative of record on your
account, we are authorized: (1) to provide confirmations, account statements and
other information about your account directly to your dealer and/or
representative; and (2) to accept telephone and electronic instructions directly
from your dealer or representative, including instructions to exchange or redeem
your shares. Electronic instructions may be processed through established
electronic trading systems and programs used by the fund. Telephone instructions
directly from your representative will be accepted unless you have told us that
you do not want telephone privileges to apply to your account.
KEEPING YOUR ACCOUNT OPEN
Due to the relatively high cost of maintaining a small account, we may close
your account if the value of your shares is less than $250, or less than $50 for
employee accounts and custodial accounts for minors. We will only do this if the
value of your account fell below this amount because you voluntarily sold your
shares and your account has been inactive (except for the reinvestment of
distributions) for at least six months. Before we close your account, we will
notify you and give you 30 days to increase the value of your account to $1,000,
or $100 for employee accounts and custodial accounts for minors. These minimums
do not apply to IRAs and other retirement plan accounts or to accounts managed
by the Franklin Templeton Group.
SERVICES TO HELP YOU MANAGE YOUR ACCOUNT
AUTOMATIC INVESTMENT PLAN
Our automatic investment plan offers a convenient way to invest in the fund.
Under the plan, you can have money transferred automatically from your checking
account to the fund each month to buy additional shares. If you are interested
in this program, please refer to the automatic investment plan application
included with this prospectus or contact your investment representative. The
market value of the fund's shares may fluctuate and a systematic investment plan
such as this will not assure a profit or protect against a loss. You may
discontinue the program at any time by calling Shareholder Services.
AUTOMATIC PAYROLL DEDUCTION - CLASS I ONLY
You may have money transferred from your paycheck to the Health Care Fund, the
Natural Resources Fund or the Utilities Fund to buy additional Class I shares.
Your investments will continue automatically until you instruct the fund and
your employer to discontinue the plan. To process your investment, we must
receive both the check and payroll deduction information in required form. Due
to different procedures used by employers to handle payroll deductions, there
may be a delay between the time of the payroll deduction and the time we receive
the money.
SYSTEMATIC WITHDRAWAL PLAN
Our systematic withdrawal plan allows you to sell your shares and receive
regular payments from your account on a monthly, quarterly, semiannual or annual
basis. The value of your account must be at least $5,000 and the minimum payment
amount for each withdrawal must be at least $50. For retirement plans subject to
mandatory distribution requirements, the $50 minimum will not apply.
If you would like to establish a systematic withdrawal plan, please complete the
systematic withdrawal plan section of the shareholder application included with
this prospectus and indicate how you would like to receive your payments. You
may choose to direct your payments to buy the same class of shares of another
Franklin Templeton Fund or have the money sent directly to you, to another
person, or to a checking account. If you choose to have the money sent to a
checking account, please see "Electronic Fund Transfers Class I Only" below.
Once your plan is established, any distributions paid by the fund will be
automatically reinvested in your account.
You will generally receive your payment by the end of the month in which a
payment is scheduled. When you sell your shares under a systematic withdrawal
plan, it is a taxable transaction.
To avoid paying sales charges on money you plan to withdraw within a short
period of time, you may not want to set up a systematic withdrawal plan if you
plan to buy shares on a regular basis. Shares sold under the plan may also be
subject to a Contingent Deferred Sales Charge. Please see "Contingent Deferred
Sales Charge" under "How Do
I Sell Shares?"
You may discontinue a systematic withdrawal plan, change the amount and schedule
of withdrawal payments, or suspend one payment by notifying us by mail or by
phone at least seven business days before the end of the month preceding a
scheduled payment. Please see "How Do I Buy, Sell and Exchange Shares? -
Systematic Withdrawal Plan" in the SAI for more information.
ELECTRONIC FUND TRANSFERS - CLASS I ONLY (ALL FUNDS EXCEPT BIOTECHNOLOGY FUND)
You may choose to have dividend and capital gain distributions from Class I
shares of a fund or payments under a systematic withdrawal plan sent directly to
a checking account. If the checking account is with a bank that is a member of
the Automated Clearing House, the payments may be made automatically by
electronic funds transfer. If you choose this option, please allow at least
fifteen days for initial processing. We will send any payments made during that
time to the address of record on your account.
TELEFACTS(R)
From a touch-tone phone, you may call our TeleFACTS(R) system (day or night) at
1-800/247-1753 to:
o obtain information about your account;
o obtain price and performance information about any Franklin Templeton Fund;
o exchange shares (within the same class) between identically registered
Franklin Templeton Class I and Class II accounts; and
o request duplicate statements and deposit slips for Franklin Templeton
accounts.
You will need the code number for each fund and class to use TeleFACTS(R). The
code numbers are as follows:
FUND NAME CODE NUMBER
- ------------------------------------------------------
Biotechnology Fund........................ 402
Health Care Fund - Class I............... 199
Health Care Fund - Class II.............. 299
Natural Resources Fund.................... 203
Utilities Fund - Class I.................. 197
Utilities Fund - Class II................. 297
STATEMENTS AND REPORTS TO SHAREHOLDERS
We will send you the following statements and reports on a regular basis:
o Confirmation and account statements reflecting transactions in your account,
including additional purchases and dividend reinvestments. PLEASE VERIFY THE
ACCURACY OF YOUR STATEMENTS WHEN YOU RECEIVE THEM.
o Financial reports of the fund will be sent every six months. To reduce fund
expenses, we attempt to identify related shareholders within a household and
send only one copy of a report. Call Fund Information if you would like an
additional free copy of the fund's financial reports.
INSTITUTIONAL ACCOUNTS
Additional methods of buying, selling or exchanging shares of the fund may be
available to institutional accounts. Institutional investors may also be
required to complete an institutional account application. For more information,
call Institutional Services.
AVAILABILITY OF THESE SERVICES
The services above are available to most shareholders. If, however, your shares
are held by a financial institution, in a street name account, or networked
through the NSCC, the fund may not be able to offer these services directly to
you. Please contact your investment representative.
WHAT IF I HAVE QUESTIONS ABOUT MY ACCOUNT?
If you have any questions about your account, you may write to Investor Services
at 777 Mariners Island Blvd., P.O. Box 7777, San Mateo, California 94403-7777.
The fund, Distributors and Advisers are also located at this address. You may
also contact us by phone at one of the numbers listed below.
HOURS OF OPERATION (PACIFIC TIME)
DEPARTMENT NAME TELEPHONE NO. (MONDAY THROUGH FRIDAY)
- ------------------------------------------------------------------------------
Shareholder Services 1-800/632-2301 5:30 a.m. to 5:00 p.m.
Dealer Services 1-800/524-4040 5:30 a.m. to 5:00 p.m.
Fund Information 1-800/DIAL BEN 5:30 a.m. to 8:00 p.m.
(1-800/342-5236) 6:30 a.m. to 2:30 p.m. (Saturday)
Retirement Plan Services 1-800/527-2020 5:30 a.m. to 5:00 p.m.
Institutional Services 1-800/321-8563 6:00 a.m. to 5:00 p.m.
TDD (hearing impaired) 1-800/851-0637 5:30 a.m. to 5:00 p.m.
Your phone call may be monitored or recorded to ensure we provide you with high
quality service. You will hear a regular beeping tone if your call is being
recorded.
GLOSSARY
USEFUL TERMS AND DEFINITIONS
ADVISERS - Franklin Advisers, Inc., the funds' investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I, CLASS II AND ADVISOR CLASS - The Biotechnology Fund offers one class of
shares. The Health Care Fund and the Utilities Fund offer two classes of shares,
designated "Class I" and "Class II." The Natural Resources Fund offers two
classes of shares, designated "Class I" and "Advisor Class." The classes of each
fund have proportionate interests in the fund's portfolio. They differ, however,
primarily in their sales charge and expense structures. Because the
Biotechnology Fund's sales charge structure and Rule 12b-1 plan are similar to
those of Class I shares, shares of the fund are considered Class I shares for
redemption, exchange and other purposes.
CODE - Internal Revenue Code of 1986, as amended
CONTINGENCY PERIOD - For Class I shares, the 12 month period during which a
Contingent Deferred Sales Charge may apply. For Class II shares, the contingency
period is 18 months. The holding period for Class I shares of the Health Care
Fund, the Natural Resources Fund and the Utilities Fund begins on the first day
of the month in which you buy shares. Regardless of when during the month you
buy Class I shares of these funds, they will age one month on the last day of
that month and each following month. The holding period for the Biotechnology
Fund and Class II begins on the day you buy your shares. For example, if you buy
Class II shares on the 18th of the month, they will age one month on the 18th
day of the next month and each following month.
CONTINGENT DEFERRED SALES CHARGE (CDSC) - A sales charge of 1% that may apply if
you sell your shares within the Contingency Period.
DEPOSITARY RECEIPTS - Certificates that give their holders the right to receive
securities (a) of a foreign issuer deposited in a U.S. bank or trust company
(American Depositary Receipts, "ADRs"); or (b) of a foreign or U.S. issuer
deposited in a foreign bank or trust company (Global Depositary Receipts, "GDRs"
or European Depositary Receipts, "EDRs")
DISTRIBUTORS - The SAI lists the officers and Board members who are
affiliated with Distributors. See "Officers and Trustees."
ELIGIBLE GOVERNMENTAL AUTHORITY - Any state or local government or any
instrumentality, department, authority or agency thereof that has determined a
fund is a legally permissible investment and that can only buy shares of a fund
without paying sales charges.
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the fund's administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the fund's
shareholder servicing and transfer agent
IRA - Individual retirement account or annuity qualified under section 408 of
the Code
IRS - Internal Revenue Service
LETTER - Letter of Intent
MARKET TIMERS - Market Timers generally include market timing or asset
allocation services, accounts administered so as to buy, sell or exchange shares
based on predetermined market indicators, or any person or group whose
transactions seem to follow a timing pattern or whose transactions include
frequent or large exchanges.
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by the
number of shares outstanding.
NSCC - National Securities Clearing Corporation
NYSE - New York Stock Exchange
OFFERING PRICE - The public offering price is based on the Net Asset Value per
share of the class and includes the front-end sales charge. The maximum
front-end sales charge is 5.75% for Class I and 1% for Class II. We calculate
the offering price to two decimal places using standard rounding criteria.
QUALIFIED RETIREMENT PLANS - An employer sponsored pension or profit-sharing
plan that qualifies under section 401 of the Code. Examples include 401(k),
money purchase pension, profit sharing and defined benefit plans.
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
SEP - An employer sponsored simplified employee pension plan established under
section 408(k) of the Code
SIMPLE (SAVINGS INCENTIVE MATCH PLAN FOR EMPLOYEES) - An employer sponsored
salary deferral plan established under section 408(p) of the Code
TELEFACTS(R) - Franklin Templeton's automated customer servicing system
TRUST COMPANY - Franklin Templeton Trust Company. Trust Company is an
affiliate of Distributors and both are wholly owned subsidiaries of Resources.
WE/OUR/US - Unless the context indicates a different meaning, these terms refer
to the fund and/or Investor Services, Distributors, or other wholly owned
subsidiaries of Resources.
PROSPECTUS & APPLICATION
FRANKLIN
STRATEGIC
INCOME FUND
INVESTMENT STRATEGY
GROWTH & INCOME
SEPTEMBER 1, 1998
FRANKLIN STRATEGIC SERIES
Please read this prospectus before investing, and keep it for future reference.
It contains important information, including how the fund invests and the
services available to shareholders.
To learn more about the fund and its policies, you may request a copy of the
fund's Statement of Additional Information ("SAI"), dated September 1, 1998,
which we may amend from time to time. We have filed the SAI with the SEC and
have incorporated it by reference into this prospectus.
For a free copy of the SAI or a larger print version of this prospectus, contact
your investment representative or call 1-800/DIAL BEN.
MUTUAL FUND SHARES ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED
BY, ANY BANK, AND ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE
CORPORATION, THE FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S.
GOVERNMENT. MUTUAL FUND SHARES INVOLVE INVESTMENT RISKS, INCLUDING THE POSSIBLE
LOSS OF PRINCIPAL.
LIKE ALL MUTUAL FUND SHARES, THE SEC HAS NOT APPROVED OR DISAPPROVED THESE
SECURITIES OR PASSED UPON THE ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION
TO THE CONTRARY IS A CRIMINAL OFFENSE.
THE FUND MAY INVEST UP TO 100% OF ITS NET ASSETS IN NON-INVESTMENT GRADE BONDS
OF BOTH U.S. AND FOREIGN ISSUERS. THESE ARE COMMONLY KNOWN AS "JUNK BONDS."
THEIR DEFAULT AND OTHER RISKS ARE GREATER THAN THOSE OF HIGHER RATED SECURITIES.
YOU SHOULD CAREFULLY CONSIDER THESE RISKS BEFORE INVESTING IN THE FUND. PLEASE
SEE "WHAT ARE THE RISKS OF INVESTING IN THE FUND?
THIS PROSPECTUS IS NOT AN OFFERING OF THE SECURITIES HEREIN DESCRIBED IN ANY
STATE, JURISDICTION OR COUNTRY IN WHICH THE OFFERING IS NOT AUTHORIZED. NO SALES
REPRESENTATIVE, DEALER, OR OTHER PERSON IS AUTHORIZED TO GIVE ANY INFORMATION OR
MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS. FURTHER
INFORMATION MAY BE OBTAINED FROM DISTRIBUTORS.
FRANKLIN
STRATEGIC
INCOME FUND
September 1, 1998
When reading this prospectus, you will see certain terms beginning with capital
letters. This means the term is explained in our glossary section.
TABLE OF CONTENTS
ABOUT THE FUND
Expense Summary................................................ 2
Financial Highlights........................................... 4
How Does the Fund Invest Its Assets?........................... 4
What Are the Risks of Investing in the Fund?................... 9
Who Manages the Fund?.......................................... 13
How Taxation Affects the Fund and Its Shareholders............. 16
How Is the Trust Organized?.................................... 18
ABOUT YOUR ACCOUNT
How Do I Buy Shares?........................................... 19
May I Exchange Shares for Shares of Another Fund?.............. 27
How Do I Sell Shares?.......................................... 30
What Distributions Might I Receive from the Fund?.............. 33
Transaction Procedures and Special Requirements................ 34
Services to Help You Manage Your Account....................... 38
What If I Have Questions About My Account?..................... 41
GLOSSARY
Useful Terms and Definitions................................... 41
APPENDIX
Description of Ratings......................................... 44
777 Mariners Island Blvd.
P.O. Box 7777
San Mateo
CA 94403-7777
1-800/DIAL BEN(R)
ABOUT THE FUND
EXPENSE SUMMARY
This table is designed to help you understand the costs of investing in the
fund. It is based on the historical expenses of Class I shares for the fiscal
year ended April 30, 1998. The fund's actual expenses may vary.
CLASS I CLASS II
- ------------------------------------------------------------------------------
A. SHAREHOLDER TRANSACTION EXPENSES+
Maximum Sales Charge
(as a percentage of Offering Price)............. 4.25% 1.99%
Paid at time of purchase........................ 4.25%++ 1.00%+++
Paid at redemption++++.......................... None 0.99%
Exchange Fee (per transaction).................. $5.00* $5.00*
B. ANNUAL FUND OPERATING EXPENSES (AS A PERCENTAGE OF AVERAGE NET ASSETS)
Management Fees................................. 0.61%** 0.61%**
Rule 12b-1 Fees................................. 0.25%*** 0.65%***
Other Expenses.................................. 0.18% 0.18%
-----------------
Total Fund Operating Expenses................... 1.04%** 1.44%**
=================
C. EXAMPLE
Assume the annual return for each class is 5%, operating expenses are as
described above, and you sell your shares after the number of years shown.
These are the projected expenses for each $1,000 that you invest in the
fund.
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ------------------------------------------------------------------------------
CLASS I..................... $53**** $74 $97 $164
CLASS II.................... $34 $55 $88 $181
For the same Class II investment, you would pay projected expenses of $25 if you
did not sell your shares at the end of the first year. Your projected expenses
for the remaining periods would be the same.
THIS IS JUST AN EXAMPLE. IT DOES NOT REPRESENT PAST OR FUTURE EXPENSES OR
RETURNS. ACTUAL EXPENSES AND RETURNS MAY BE MORE OR LESS THAN THOSE SHOWN. The
fund pays its operating expenses. The effects of these expenses are reflected in
the Net Asset Value or dividends of each class and are not directly charged to
your account.
+If your transaction is processed through your Securities Dealer, you may be
charged a fee by your Securities Dealer for this service.
++There is no front-end sales charge if you invest $1 million or more in Class I
shares.
+++Although Class II has a lower front-end sales charge than Class I, its Rule
12b-1 fees are higher. Over time you may pay more for Class II shares. Please
see "How Do I Buy Shares? - Choosing a Share Class."
++++A Contingent Deferred Sales Charge may apply to any Class II purchase if you
sell the shares within 18 months and to Class I purchases of $1 million or more
if you sell the shares within one year. A Contingent Deferred Sales Charge may
also apply to purchases by certain retirement plans that qualify to buy Class I
shares without a front-end sales charge. The charge is 1% of the value of the
shares sold or the Net Asset Value at the time of purchase, whichever is less.
The number in the table shows the charge as a percentage of Offering Price.
While the percentage is different depending on whether the charge is shown based
on the Net Asset Value or the Offering Price, the dollar amount you would pay is
the same. See "How Do I Sell Shares? Contingent Deferred Sales Charge" for
details.
*$5.00 fee is only for Market Timers. We process all other exchanges without a
fee.
**For the period shown, Advisers had agreed in advance to waive its management
fees and to assume as its own expense certain expenses otherwise payable by the
fund. With this reduction, the fund paid no management fees and total operating
expenses were 0.25% for Class I and would have been 0.65% for Class II. Class I
total fund operating expenses are different than the ratio of expenses to
average net assets shown under "Financial Highlights" due to a timing difference
between the end of the 12b-1 plan year and the fund's fiscal year end.
***The combination of front-end sales charges and Rule 12b-1 fees could cause
long-term shareholders to pay more than the economic equivalent of the maximum
front-end sales charge permitted under the NASD's rules.
****Assumes a Contingent Deferred Sales Charge will not apply.
FINANCIAL HIGHLIGHTS
This table summarizes the fund's financial history. The information has been
audited by Coopers & Lybrand L.L.P., the fund's independent auditor. The audit
report covering the periods shown below appears in the Trust's Annual Report to
Shareholders for the fiscal year ended April 30, 1998. The Annual Report to
Shareholders also includes more information about the fund's performance. For a
free copy, please call Fund Information.
YEAR ENDED APRIL 30,
- ------------------------------------------------------------------------
1998 1997 1996 19951
- ------------------------------------------------------------------------
CLASS I SHARES:
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year $10.86 $10.77 $10.18 $10.00
---------------------------------------
Income from investment operations:
Net investment income .87 .93 .85 .70
Net realized and unrealized gains .50 .39 .67 .15
---------------------------------------
Total from investment operations 1.37 1.32 1.52 .85
---------------------------------------
Less distributions from:
Net investment income (.90) (.96) (.82) (.67)
Net realized gains (.09) (.27) (.11) --
---------------------------------------
Total distributions (.99) (1.23) (.93) (.67)
---------------------------------------
Net asset value, end of year $11.24 $10.86 $10.77 $10.18
=======================================
Total return* 13.10% 12.64% 15.59% 8.94%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) $166,633 $34,864 $13,022 $6,736
Ratios to average net assets:
Expenses .25% .23% .25% .25%**
Expenses excluding waiver
and payments by affiliate 1.05% 1.05% 1.08% 1.38%**
Net investment income 7.65% 8.60% 8.53% 7.93%**
Portfolio turnover rate 47.47% 114.26% 73.95% 68.43%
*Total return does not reflect sales commissions or the Contingent Deferred
Sales Charge, and is not annualized.
**Annualized
1For the period May 24, 1994 (effective date) to April 30, 1995.
HOW DOES THE FUND INVEST ITS ASSETS?
WHAT IS THE FUND'S GOAL?
The primary investment goal of the fund is to obtain a high level of current
income, with capital appreciation over the long term as a secondary goal. These
goals are fundamental, which means that they may not be changed without
shareholder approval.
WHAT IS THE FUND'S INVESTMENT STRATEGY?
The fund uses an active asset allocation strategy to try to achieve its goals of
income and capital appreciation. This means the fund allocates its assets among
securities in various market sectors based on Advisers' assessment of changing
economic, market, industry, and issuer conditions. Advisers uses a "top-down"
analysis of macroeconomic trends combined with a "bottom-up" fundamental
analysis of market sectors, industries, and issuers to try to take advantage of
varying sector reactions to economic events. Advisers will evaluate country
risk, business cycles, yield curves, and values between and within markets.
WHAT KINDS OF SECURITIES DOES THE FUND BUY?
The fund normally invests at least 65% of its assets in U.S. and foreign debt
securities, government securities, mortgage securities, asset-backed securities,
convertible securities, and preferred stock. The fund may invest up to 35% of
its assets in common stocks.
In selecting these securities for the fund's portfolio, Advisers gives
particular consideration to current income, but may also consider the potential
for capital appreciation.
EQUITY SECURITIES generally entitle the holder to participate in a company's
general operating results. These include common stock, preferred stock, and
convertible securities.
DEBT SECURITIES represent an obligation of the issuer to repay a loan of
money to it, and generally, provide for the payment of interest. These
include bonds, notes, and commercial paper.
The fund may buy both rated and unrated securities. Independent rating
organizations rate debt and other fixed-income securities based upon their
assessment of the financial soundness of the issuer. Generally, a lower rating
indicates higher risk. Non-investment grade securities are those rated lower
than BBB by S&P or Baa by Moody's. The fund may invest in securities rated in
any category, including without limit in lower rated debt securities such as
high yield corporate securities. The fund generally invests in securities that
are rated at least Caa by Moody's or CCC by S&P, or unrated securities that it
determines to be of comparable quality. Please see the appendix and the SAI for
a description of these ratings.
MORTGAGE SECURITIES
GENERAL. Mortgage securities represent an ownership interest in mortgage loans
made by banks and other financial institutions to finance purchases of homes,
commercial buildings or other real estate. These mortgage loans may have either
fixed or adjustable interest rates. The individual mortgage loans are packaged
or "pooled" together for sale to investors. As the underlying mortgage loans are
paid off, investors receive principal and interest payments.
The fund may invest in mortgage-backed securities that are issued by U.S.
government agencies and private institutions. The payment of interest and
principal on securities issued by U.S. government agencies generally is
guaranteed either by the full faith and credit of the U.S. government or by the
credit of the agency. The guarantee applies only to the timely repayment of
principal and interest and not to the market prices and yields of the securities
or to the Net Asset Value or performance of the fund, which will vary with
changes in interest rates and other market conditions. The U.S. government and
its agencies do not guarantee mortgage-backed securities issued by private
institutions.
Most mortgage securities are pass-through securities, which means that they
provide investors with monthly payments of regular interest and principal
payments, as well as unscheduled prepayments, on the underlying mortgages.
Collateralized mortgage obligations ("CMOs") and stripped mortgage securities
are not pass-through securities.
ADJUSTABLE RATE MORTGAGE SECURITIES ("ARMS") are interests in pools of mortgages
with interest rates that reset periodically. Investing in ARMS allows the fund
to participate in increases in interest rates, resulting in both higher current
yields and lower price fluctuations. During periods of declining interest rates,
the interest rates on the underlying mortgages may readjust downward, resulting
in lower current yields.
STRIPPED MORTGAGE-BACKED SECURITIES typically have two classes, each receiving
different proportions of the interest and principal distributions on a pool of
mortgage loans.
CMOS are fixed-income securities that are collateralized by pools of mortgage
loans created by commercial banks, savings and loan institutions, private
mortgage insurance companies, mortgage bankers, and other U.S. issuers. The
underlying mortgages are backed by residential and various types of commercial
properties. The timely payment of interest and principal (but not the market
value) of some of the underlying pools is supported by insurance or guarantees
issued by private issuers and, in some cases, U.S. government agencies.
ASSET-BACKED SECURITIES are securities backed by home equity loan receivables;
credit card receivables; automobile, mobile home, and recreational vehicle loans
and leases; and other receivables. The fund may invest in asset-backed
securities rated in any category.
AMERICAN DEPOSITARY RECEIPTS. The fund may also invest in American Depositary
Receipts. American Depositary Receipts are certificates that give their
holders the right to receive securities of a foreign issuer deposited in a
U.S. bank or trust company.
GOVERNMENT SECURITIES. The fund may invest in Treasury bills and bonds, which
are direct obligations of the U.S. government, backed by the full faith and
credit of the U.S. Treasury, and in securities issued or guaranteed by
federal agencies. The fund may also invest in securities issued or guaranteed
by foreign governments and their agencies.
CONVERTIBLE SECURITIES generally are preferred stock or debt securities that pay
dividends or interest and may be converted into common stock.
SHORT-TERM INVESTMENTS. The fund may invest cash being held for liquidity
purposes in short-term debt instruments, including U.S. government
securities, high-grade commercial paper, repurchase agreements and other
money market equivalents.
GENERAL. The fund may buy foreign securities that are traded in the U.S. or
directly in foreign markets, and may buy securities denominated in foreign
currencies. The fund is non-diversified, which means that there is no
restriction under the federal securities laws on the percentage of its assets
that it may invest in the securities of any one issuer. The fund currently
intends not to invest more than 5% of its total assets in companies that have a
record of less than three years' continuous operation, including predecessors.
These investments, together with any illiquid securities, may not exceed 10% of
the fund's net assets. In addition, the fund may not engage in joint or joint
and several trading accounts in securities, except that an order to purchase or
sell may be combined with orders from other persons to obtain lower brokerage
commissions and except that the fund may engage in joint repurchase agreement
arrangements.
Please see the SAI for more details on the types of securities in which the fund
invests.
WHAT ARE SOME OF THE FUND'S OTHER INVESTMENT STRATEGIES AND PRACTICES?
TEMPORARY INVESTMENTS. When Advisers believes that the securities trading
markets or the economy are experiencing excessive volatility or a prolonged
general decline, or other adverse conditions exist, it may invest the fund's
portfolio in a temporary defensive manner. Under such circumstances, the fund
may invest up to 100% of its assets in short-term debt instruments, including
U.S. government securities, high-grade commercial paper, repurchase agreements
and other money market equivalents.
REPURCHASE AGREEMENTS. The fund will generally have a portion of its assets in
cash or cash equivalents for a variety of reasons including waiting for a
special investment opportunity or taking a defensive position. To earn income on
this portion of its assets, the fund may enter into repurchase agreements with
certain banks and broker-dealers. Under a repurchase agreement, the fund agrees
to buy a U.S. government security from one of these issuers and then to sell the
security back to the issuer after a short period of time (generally, less than
seven days) at a higher price. The bank or broker-dealer must transfer to the
fund's custodian securities with an initial value of at least 102% of the dollar
amount invested by the fund in each repurchase agreement.
SECURITIES LENDING. To generate additional income, the fund may lend its
portfolio securities to qualified securities dealers or other institutional
investors. Such loans may not exceed 331/3% of the value of the fund's total
assets measured at the time of the most recent loan. The fund currently intends
not to exceed 10% of the value of its total assets at the time of the most
recent loan. For each loan the borrower must maintain collateral with the fund's
custodian with a value at least equal to 100% of the current market value of the
loaned securities.
OPTIONS. The fund may buy and sell options on securities, securities indices,
and futures contracts. The fund may buy and sell options on foreign currencies
to protect its portfolio against exchange rate movements. The fund may only sell
covered options. An option on a security or futures contract is a contract that
allows the buyer of the option the right to buy or sell a specified security or
futures contract from or to the seller at a specified price during the term of
the option. An option on a securities index is a contract that allows the buyer
of the option the right to receive from the seller cash, in an amount equal to
the difference between the index's closing price and the option's exercise
price. The fund may only buy options on securities and securities indices if the
total premiums it paid for such options is 5% or less of its total assets.
FUTURES CONTRACTS. Changes in interest rates, securities prices or foreign
currency valuations may affect the value of the fund's investments. To reduce
its exposure to these factors, the fund may buy and sell financial futures
contracts and foreign currency futures contracts and options on these contracts.
A financial futures contract is an agreement to buy or sell a specific security
or commodity at a specified future date and price. A futures contract on a
foreign currency is an agreement to buy or sell a specific amount of a currency
for a set price on a future date. The fund may not commit more than 5% of its
total assets to initial margin deposits on futures contracts.
FOREIGN CURRENCY EXCHANGE CONTRACTS. To help protect its portfolio against
adverse changes in foreign currency exchange rates or to earn additional income,
the fund may enter into forward foreign currency contracts, which are agreements
to buy or sell a specific currency at a set price on a future date.
INTEREST RATE AND CURRENCY SWAPS. Swap agreements typically are individually
negotiated agreements that are structured to enable the parties to shift
("swap") investment exposure from one type of investment to another. Interest
rate swaps involve an exchange between the parties of their respective
commitments to pay or receive interest, such as an exchange of fixed rate
payments for floating rate payments. Currency swaps involve the exchange of the
parties' respective rights to make or receive payments in specified currencies.
INVERSE FLOATERS. The fund may invest up to 5% of its total assets in inverse
floaters. Inverse floaters are instruments with floating or variable interest
rates that move in the opposite direction, usually at an accelerated speed, to
short-term interest rates or interest rate indices.
MORTGAGE DOLLAR ROLLS. The fund may enter into mortgage dollar rolls, in which
the fund sells mortgage-backed securities for delivery in the current month and
simultaneously contracts to repurchase substantially similar securities on a
specified future date.
LOAN PARTICIPATIONS AND DEFAULTED DEBT SECURITIES. Loan participations are
interests in floating or variable rate senior loans to U.S. corporations,
partnerships and other entities. The fund will acquire loan participations
selling at a discount to par value because of the borrower's credit problems. To
the extent the borrower's credit problems are resolved, the loan participation
may appreciate in value. Advisers may acquire loan participations for the fund
when it believes, over the long term, appreciation will occur. An investment in
these securities, however, carries substantially the same risks associated with
an investment in defaulted debt securities and may result in the loss of the
fund's entire investment. The fund will buy defaulted debt securities if, in the
opinion of Advisers, it appears the issuer may resume interest payments or other
advantageous developments appear likely in the near future.
BORROWING. The fund does not borrow money or mortgage or pledge any of its
assets, except that it may borrow for temporary or emergency purposes in an
amount not to exceed 5% of its total assets.
ILLIQUID INVESTMENTS. The fund's policy is not to invest more than 10% of its
net assets in illiquid securities. Illiquid securities are generally securities
that cannot be sold within seven days in the normal course of business at
approximately the amount at which the fund has valued them.
OTHER POLICIES AND RESTRICTIONS. The fund has a number of additional investment
policies and restrictions that govern its activities. Those that are identified
as "fundamental" may only be changed with shareholder approval. The others may
be changed by the Board alone. For a list of these restrictions and more
information about the fund's investment policies, including those described
above, please see "How Does the Fund Invest Its Assets?" and "Investment
Restrictions" in the SAI.
Generally, the policies and restrictions discussed in this prospectus and in the
SAI apply when the fund makes an investment. In most cases, the fund is not
required to sell a security because circumstances change and the security no
longer meets one or more of the fund's policies or restrictions.
TAX CONSIDERATIONS. The fund's investments in options, futures, foreign
securities and other complex securities are subject to special tax rules that
may affect the amount, timing or character of the income earned by the fund and
distributed to you. The fund may also be subject to withholding taxes on
earnings from certain of its foreign securities. These special tax rules are
discussed in the "Additional Information on Distributions and Taxes" section of
the SAI.
WHAT ARE THE RISKS OF INVESTING IN THE FUND?
There is no assurance that the fund will meet its investment goal.
The value of your shares will increase as the value of the securities owned by
the fund increases and will decrease as the value of the fund's investments
decrease. In this way, you participate in any change in the value of the
securities owned by the fund. In addition to the factors that affect the value
of any particular security that the fund owns, the value of fund shares may also
change with movements in the stock and bond markets as a whole.
CREDIT RISK. The fund's investments in fixed-income securities involve credit
risk. Credit risk is the possibility that the issuer of a debt security or the
borrower on an underlying mortgage or debt obligation will be unable to make
interest payments or repay principal. Changes in an issuer's or borrower's
financial strength or in a security's credit rating may affect its value. Even
securities supported by credit enhancements have the credit risk of the entity
providing the credit support. Credit support provided by a foreign entity may be
less certain because of the possibility of adverse foreign economic, political
or legal developments that may affect the ability of that foreign entity to meet
its obligations. Changes in the credit quality of the credit provider could
affect the value of the security and the fund's share price.
Securities rated below investment grade, sometimes called "junk bonds,"
generally have more credit risk than higher-rated securities. The risk of
default or price changes due to changes in the issuer's credit quality is
greater. Issuers of lower-rated securities are typically in weaker financial
health than issuers of higher-rated securities, and their ability to make
interest payments or repay principal is less certain. These issuers are also
more likely to encounter financial difficulties and to be materially affected by
these difficulties when they do encounter them. The market price of lower-rated
securities may fluctuate more than higher-rated securities and may decline
significantly in periods of economic difficulty. Lower-rated securities may also
be less liquid than higher-rated securities.
The fund may invest without limit in securities rated below investment grade.
The following table provides a summary of the credit quality of the fund's
portfolio. These figures are dollar-weighted averages of month-end assets during
the fiscal year ended April 30, 1998.
AVERAGE WEIGHTED
S&P RATING PERCENTAGE OF ASSETS
- ----------------------------------------------
AAA ....................... 31.16%
AA ........................ 12.04%
A1 ........................ 1.35%
BBB ....................... 1.97%
BB2 ....................... 20.99%
B3 ........................ 30.21%
CCC ....................... 2.00%
D ......................... 0.06%
Not Rated ................. 0.22%
10.46% are unrated by S&P but determined to be comparable to securities rated A
and have been included in the A rating category.
23.87% are unrated by S&P but determined to be comparable to securities rated BB
and have been included in the BB rating category.
33.78% are unrated by S&P but determined to be comparable to securities rated B
and have been included in the B rating category.
Because the fund may invest in lower-rated U.S. and foreign corporate bonds, an
investment in the fund is subject to a higher degree of risk than an investment
in a more conservative type of income fund.
Please see the SAI for more details on the risks associated with lower-rated
securities.
MORTGAGE-BACKED AND ASSET-BACKED SECURITIES RISK. The market value of fixed-rate
mortgage securities, like other fixed-income securities, will generally vary
inversely with changes in market interest rates, declining when interest rates
rise and rising when interest rates fall. Because interest rates of ARMS move
with market interest rates, their values tend to fluctuate to a lesser degree
and are unlikely to rise during periods of declining interest rates to the same
extent as fixed-rate instruments.
Mortgage-backed securities differ from conventional debt securities because
principal is paid back over the life of the security rather than at maturity.
The fund may receive unscheduled prepayments of principal due to voluntary
prepayments, refinancing, or foreclosure on the underlying mortgage loans.
During periods of declining interest rates, the volume of principal prepayments
generally increases as borrowers refinance their mortgages at lower rates. The
fund may be forced to reinvest returned principal at lower interest rates,
reducing the fund's income. For this reason, mortgage-backed securities may be
less effective than other types of securities as a means of "locking in"
long-term interest rates and may have less potential for capital appreciation
during periods of falling interest rates than other investments with similar
maturities.
A reduction in the anticipated rate of principal prepayments, especially during
periods of rising interest rates, may increase the effective maturity of
mortgage-backed securities, making them more susceptible than other debt
securities to a decline in market value when interest rates rise. This could
increase the volatility of the fund's returns and share price.
Some ARMS in which the fund may invest are backed by mortgages having limits on
the amount the loan rate can fluctuate. During periods of extreme fluctuations
in market interest rates, the interest rates on the underlying mortgages will
not adjust beyond the limits, and the securities will behave more like
long-term, fixed-rate debt securities. This could increase the volatility of the
fund's return and share price.
Stripped mortgage-backed securities have greater market volatility than other
types of mortgage securities in which the fund invests. The value of these
securities is extremely sensitive to changes in interest rates and the rate of
principal payments and prepayments on the underlying mortgage assets.
Issuers of asset-backed securities may have limited ability to enforce the
security interest in the underlying assets, and credit enhancements provided to
support these securities, if any, may be inadequate to protect investors in the
event of a default. Like mortgage-backed securities, asset-backed securities are
subject to prepayment risk.
NON-DIVERSIFICATION RISK. There is no limit on the amount of the fund's assets
that it can invest in any one issuer. Economic, business, political, or other
changes can affect securities of a similar type. As a non-diversified fund, the
fund may be more sensitive to these changes.
FOREIGN SECURITIES RISK. The value of foreign (and U.S.) securities is affected
by general economic conditions and individual company and industry earnings
prospects. While foreign securities may offer significant opportunities for
gain, they also involve additional risks that can increase the potential for
losses in the fund. These risks can be significantly greater for investments in
emerging markets. Investments in American Depositary Receipts also involve some
or all of the risks described below.
The political, economic, and social structures of some countries in which the
fund invests may be less stable and more volatile than those in the U.S. The
risks of investing in these countries include the possibility of the imposition
of exchange controls, expropriation, restrictions on removal of currency or
other assets, nationalization of assets, and punitive taxes.
There may be less publicly available information about a foreign company or
government than about a U.S. company or public entity. Certain countries'
financial markets and services are less developed than those in the U.S. or
other major economies. As a result, they may not have uniform accounting,
auditing, and financial reporting standards and may have less government
supervision of financial markets. Foreign securities markets may have
substantially lower trading volumes than U.S. markets, resulting in less
liquidity and more volatility than experienced in the U.S. Transaction costs on
foreign securities markets are generally higher than in the U.S. The settlement
practices may be cumbersome and result in delays that may affect portfolio
liquidity. The funds may have greater difficulty voting proxies, exercising
shareholder rights, pursuing legal remedies, and obtaining judgments with
respect to foreign investments in foreign courts than with respect to domestic
issuers in U.S. courts.
Some of the countries in which the fund may invest such as Russia and certain
Asian and Eastern European countries are considered developing or emerging
markets. Investments in these markets are subject to all of the risks of foreign
investing generally, and have additional and heightened risks due to a lack of
legal, business, and social frameworks to support securities markets.
Emerging markets involve additional significant risks, including political and
social uncertainty (for example, regional conflicts and risk of war), currency
exchange rate volatility, pervasiveness of corruption and crime, delays in
settling portfolio transactions, and risk of loss arising out of the system of
share registration and custody. For more information on the risks associated
with emerging markets securities, please see the SAI.
On July 1, 1997, Hong Kong reverted to the sovereignty of China. As with any
major political transfer of power, this could result in political, social,
economic, market, or other developments in Hong Kong, China, or other countries
that could affect the value of the fund's investments.
DERIVATIVE SECURITIES RISK. Derivative investments are those whose values are
dependent upon the performance of one or more other securities or investments or
indices; in contrast to common stock, for example, whose value is dependent upon
the operations of the issuer. Option transactions, foreign currency exchange
transactions, futures contracts, and swap agreements are considered derivative
investments. To the extent the fund enters into these transactions, their
success will depend upon Advisers' ability to predict pertinent market
movements. These securities are subject to the risk that the other party to the
transaction may fail to perform, resulting in losses to the fund.
INTEREST RATE, CURRENCY AND MARKET RISK. To the extent the fund invests in debt
securities, changes in interest rates in any country where the fund is invested
will affect the value of the fund's portfolio and its share price. Rising
interest rates, which often occur during times of inflation or a growing
economy, are likely to have a negative effect on the value of the fund's shares.
To the extent the fund invests in common stocks, a general market decline in any
country where the fund is invested may cause the value of what the fund owns,
and thus the fund's share price, to decline. Changes in currency valuations may
also affect the price of fund shares. The value of stock markets, currency
valuations and interest rates throughout the world have increased and decreased
in the past. These changes are unpredictable.
WHO MANAGES THE FUND?
THE BOARD. The Board oversees the management of the fund and elects its
officers. The officers are responsible for the fund's day-to-day operations. The
Board also monitors the fund to ensure no material conflicts exist among the
fund's classes of shares. While none is expected, the Board will act
appropriately to resolve any material conflict that may arise.
INVESTMENT MANAGER. Advisers manages the fund's assets and makes its investment
decisions. Advisers also performs similar services for other funds. It is wholly
owned by Resources, a publicly owned company engaged in the financial services
industry through its subsidiaries. Charles B. Johnson and Rupert H. Johnson, Jr.
are the principal shareholders of Resources. Together, Advisers and its
affiliates manage over $236 billion in assets. Please see "Investment Management
and Other Services" and "Miscellaneous Information" in the SAI for information
on securities transactions and a summary of the fund's Code of Ethics.
Under an agreement with Advisers, TICI is the sub-advisor of the fund. TICI
provides Advisers with investment management advice and assistance. TICI's
activities are subject to the Board's review and control, as well as Advisers'
instruction and supervision.
MANAGEMENT TEAM. The team responsible for the day-to-day management of the
fund's portfolio is: Mr. Molumphy since inception, Mr. Dickson since 1995, and
Mr. Takaha since 1997.
Christopher Molumphy
Senior Vice President of Advisers
Mr. Molumphy is a Chartered Financial Analyst and holds a Master of Business
Administration degree from the University of Chicago. He earned his Bachelor of
Arts degree in Economics from Stanford University. He has been with the Franklin
Templeton Group since 1988. Mr. Molumphy is a member of several securities
industry-related associations.
Thomas J. Dickson
Portfolio Manager of Investment Counsel
Mr. Dickson is currently a portfolio manager for several Franklin Templeton
mutual funds. He holds a BS in managerial economics from the University of
California at Davis. Prior to joining the Templeton organization in 1994, Mr.
Dickson worked as a fixed-income analyst and trader for Franklin Advisers, Inc.
Mr. Dickson currently manages fixed income and currency trading for the
Templeton organization and has country responsibilities for Australia, Canada,
Japan and New Zealand.
Eric G. Takaha
Vice President of Advisers
Mr. Takaha is a Chartered Financial Analyst and holds a Master of Business
Administration degree from Stanford University. He earned his Bachelor of
Science degree in Business Administration from the University of California at
Berkeley. Mr. Takaha joined the Franklin Templeton Group in July of 1989. He is
a member of several securities industry-related associations.
MANAGEMENT FEES. During the fiscal year ended April 30, 1998, management fees,
before any advance waiver, totaled 0.61% of the average daily net assets of the
fund. Total operating expenses were 1.04% for Class I. Under an agreement by
Advisers to waive its fees, the fund paid no management fees and operating
expenses totaling 0.25% for Class I. Advisers may end this arrangement at any
time upon notice to the Board. During the same period, Advisers paid TICI no
sub-advisory fees.
PORTFOLIO TRANSACTIONS. Advisers tries to obtain the best execution on all
transactions. If Advisers believes more than one broker or dealer can provide
the best execution, it may consider research and related services and the sale
of fund shares, as well as shares of other funds in the Franklin Templeton Group
of Funds, when selecting a broker or dealer. Please see "How Does the Fund Buy
Securities for Its Portfolio?" in the SAI for more information.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services provides
certain administrative services and facilities for the fund. During the fiscal
year ended April 30, 1998, administration fees totaling 0.15% of the average
daily net assets of the fund were paid to FT Services. These fees are paid by
Advisers. They are not a separate expense of the fund. Please see "Investment
Management and Other Services" in the SAI for more information.
YEAR 2000 ISSUE. Like other mutual funds, the fund could be adversely affected
if the computer systems used by Advisers and other service providers do not
properly process date-related information on or after January 1, 2000 ("Year
2000 Issue"). The Year 2000 Issue, and in particular foreign service providers'
responsiveness to the issue, could affect portfolio and operational areas
including securities trade processing, interest and dividend payments,
securities pricing, shareholder account services, reporting, custody functions,
and others. While there can be no assurance that the fund will not be adversely
affected, Advisers and its affiliated service providers are taking steps that
they believe are reasonably designed to address the Year 2000 Issue, including
seeking reasonable assurances from the fund's other major service providers.
THE RULE 12B-1 PLANS
Class I and Class II have separate distribution plans or "Rule 12b-1 Plans"
under which they may pay or reimburse Distributors or others for the expenses of
activities that are primarily intended to sell shares of the class. These
expenses may include, among others, distribution or service fees paid to
Securities Dealers or others who have executed a servicing agreement with the
fund, Distributors or its affiliates; a prorated portion of Distributors'
overhead expenses; and the expenses of printing prospectuses and reports used
for sales purposes, and preparing and distributing sales literature and
advertisements.
Payments by the fund under the Class I plan may not exceed 0.25% per year of
Class I's average daily net assets. All distribution expenses over this amount
will be borne by those who have incurred them. During the first year after
certain Class I purchases made without a sales charge, Securities Dealers may
not be eligible to receive the Rule 12b-1 fees associated with the purchase.
Under the Class II plan, the fund may pay Distributors up to 0.50% per year of
Class II's average daily net assets to pay Distributors or others for providing
distribution and related services and bearing certain Class II expenses. All
distribution expenses over this amount will be borne by those who have incurred
them. During the first year after a purchase of Class II shares, Securities
Dealers may not be eligible to receive this portion of the Rule 12b-1 fees
associated with the purchase.
The fund may also pay a servicing fee of up to 0.15% per year of Class II's
average daily net assets under the Class II plan. This fee may be used to pay
Securities Dealers or others for, among other things, helping to establish and
maintain customer accounts and records, helping with requests to buy and sell
shares, receiving and answering correspondence, monitoring dividend payments
from the fund on behalf of customers, and similar servicing and account
maintenance activities.
The Rule 12b-1 fees charged to each class are based only on the fees
attributable to that particular class. For more information, please see "The
Fund's Underwriter" in the SAI.
HOW TAXATION AFFECTS THE FUND AND ITS SHAREHOLDERS
----------------------------------------
TAXATION OF THE FUND'S INVESTMENTS HOW DOES THE FUND EARN INCOME AND
GAINS?
The fund invests your money in the
stocks, bonds and other securities The fund earns dividends and interest
that are described in the section "How (the fund's "income") on its
Does the Fund Invest Its Assets?" investments. When the fund sells a
Special tax rules may apply in security for a price that is higher
determining the income and gains that than it paid, it has a gain. When the
the fund earns on its investments. fund sells a security for a price that
These rules may, in turn, affect the is lower than it paid, it has a loss.
amount of distributions that the fund If the fund has held the security for
pays to you. These special tax rules more than one year, the gain or loss
are discussed in the SAI. will be a long-term capital gain or
loss. If the fund has held the
TAXATION OF THE FUND. As a regulated security for one year or less, the
investment company, the fund generally gain or loss will be a short-term
pays no federal income tax on the capital gain or loss. The fund's gains
income and gains that it distributes and losses are netted together, and,
to you. if the fund has a net gain (the fund's
"gains"), that gain will generally be
distributed to you.
----------------------------------------
FOREIGN TAXES. Foreign governments may impose taxes on the income and gains from
the fund's investments in foreign stocks and bonds. These taxes will reduce the
amount of the fund's distributions to you, but, depending upon the amount of the
fund's assets that are invested in foreign securities and foreign taxes paid,
may be passed through to you as a foreign tax credit on your income tax return.
The fund may also invest in the securities of foreign companies that are
"passive foreign investment companies" ("PFICs"). These investments in PFICs may
cause the fund to pay income taxes and interest charges. If possible, the fund
will adopt strategies to avoid PFIC taxes and interest charges.
TAXATION OF SHAREHOLDERS
----------------------------------------
DISTRIBUTIONS. Distributions from the WHAT IS A DISTRIBUTION?
fund, whether you receive them in cash
or in additional shares, are generally As a shareholder, you will receive
subject to income tax. The fund will your share of the fund's income and
send you a statement in January of the gains on its investments in stocks,
current year that reflects the amount bonds and other securities. The fund's
of ordinary dividends, capital gain income and short term capital gains
distributions and non-taxable are paid to you as ordinary dividends.
distributions you received from the The fund's long-term capital gains are
fund in the prior year. This statement paid to you as capital gain
will include distributions declared in distributions. If the fund pays you an
December and paid to you in January of amount in excess of its income and
the current year, but which are gains, this excess will generally be
taxable as if paid on December 31 of treated as a non-taxable distribution.
the prior year. The IRSrequires you to These amounts, taken together, are
report these amounts on your income what we call the fund's distributions
tax return for the prior year. to you.
----------------------------------------
DISTRIBUTIONS TO RETIREMENT PLANS. Fund distributions received by your qualified
retirement plan, such as a 401(k) plan or IRA, are generally tax-deferred; this
means that you are not required to report fund distributions on your income tax
return when paid to your plan, but, rather, when your plan makes payments to
you. Special rules apply to payouts from Roth and Education IRAs.
DIVIDENDS-RECEIVED DEDUCTION. Corporate investors may be entitled to a
dividends-received deduction on a portion of the ordinary dividends they
receive from the fund.
----------------------------------------
REDEMPTIONS AND EXCHANGES. If you WHAT IS A REDEMPTION?
redeem your shares or if you exchange
your shares in the fund for shares of A redemption is a sale by you to the
another Franklin Templeton Fund, you fund of some or all of your shares in
will generally have a gain or loss the fund. The price per share you
that the IRS requires you to report on receive when you redeem fund shares
your income tax return. If you may be more or less than the price at
exchange fund shares held for 90 days which you purchased those shares. An
or less and pay no sales charge, or a exchange of shares of the fund for
reduced sales charge, for the new shares of another Franklin Templeton
shares, all or a portion of the sales Fund is treated as a redemption of
charge you paid on the purchase of the fund shares and then a purchase of
shares you exchanged is not included shares of the other fund. When you
in their cost for purposes of redeem or exchange your shares, you
computing gain or loss on the will generally have a gain or loss,
exchange. If you hold your shares for depending upon whether the amount you
six months or less, any loss you have receive for your shares is more or
will be treated as a long-term capital less than your cost or other basis in
loss to the extent of any capital gain the shares. Call Fund Information for
distributions received by you from the a free shareholder Tax Information
fund. All or a portion of any loss on Handbook if you need more information
the redemption or exchange of your on calculating the gain or loss on the
shares will be disallowed by the IRS redemption or exchange of your shares.
if you purchase other shares in the
fund within 30 days before or after
your redemption or exchange.
----------------------------------------
NON-U.S. INVESTORS. Ordinary dividends generally will be subject to U.S.
income tax withholding. Your home country may also tax ordinary dividends,
capital gain distributions and gains arising from redemptions or exchanges of
your fund shares. Fund shares held by the estate of a non-U.S. investor may
be subject to U.S. estate tax. You may wish to contact your tax advisor to
determine the U.S. and non-U.S. tax consequences of your investment in the
fund.
STATE TAXES. Ordinary dividends and capital gain distributions that you receive
from the fund, and gains arising from redemptions or exchanges of your fund
shares will generally be subject to state and local income tax. The holding of
fund shares may also be subject to state and local intangibles taxes. You may
wish to contact your tax advisor to determine the state and local tax
consequences of your investment in the fund.
----------------------------------------
BACKUP WITHHOLDING. When you open an WHAT IS A BACKUP WITHHOLDING?
account, IRS regulations require that
you provide your taxpayer Backup withholding occurs when the
identification number ("TIN"), certify fund is required to withhold and pay
that it is correct, and certify that over to the IRS 31% of your
you are not subject to backup distributions and redemption proceeds.
withholding under IRS rules. If you You can avoid backup withholding by
fail to provide a correct TIN or the providing the fund with your TIN, and
proper tax certifications, the fund is by completing the tax certifications
required to withhold 31% of all the on your shareholder application that
distributions (including ordinary you were asked to sign when you opened
dividends and capital gain your account. However, if the IRS
distributions) and redemption proceeds instructs the fund to begin backup
paid to you. The fund is also required withholding, it is required to do so
to begin backup withholding on your even if you provided the fund with
account if the IRS instructs the fund your TIN and these tax certifications,
to do so. The fund reserves the right and backup withholding will remain in
not to open your account, or, place until the fund is instructed by
alternatively, to redeem your shares the IRS that it is no longer required.
at the current net asset value, less
any taxes withheld, if you fail to
provide a correct TIN, fail to
provide the proper tax certifications,
or the IRS instructs the fund to begin
backup withholding on your account.
----------------------------------------
THIS TAX DISCUSSION IS FOR GENERAL INFORMATION ONLY. PROSPECTIVE INVESTORS
SHOULD CONSULT THEIR OWN TAX ADVISORS CONCERNING THE FEDERAL, STATE, LOCAL OR
FOREIGN TAX CONSEQUENCES OF AN INVESTMENT IN THE FUND. A MORE COMPLETE
DISCUSSION OF THESE RULES AND RELATED MATTERS IS CONTAINED IN THE SECTION
ENTITLED "ADDITIONAL INFORMATION ON DISTRIBUTIONS AND TAXES" IN THE SAI. THE TAX
TREATMENT TO YOU OF DIVIDENDS, CAPITAL GAIN DISTRIBUTIONS, FOREIGN TAXES PAID
AND INCOME TAXES WITHHELD IS ALSO DISCUSSED IN A FREE FRANKLIN TEMPLETON TAX
INFORMATION HANDBOOK, WHICH YOU MAY REQUEST BY CONTACTING FUND INFORMATION.
HOW IS THE TRUST ORGANIZED?
The fund is a non-diversified series of Franklin Strategic Series (the "Trust"),
an open-end management investment company, commonly called a mutual fund. It was
organized as a Delaware business trust on January 25, 1991, and is registered
with the SEC. The fund offers two classes of shares: Franklin Strategic Income
Fund - Class I and Franklin Strategic Income Fund - Class II. All shares
outstanding before the offering of Class II shares are considered Class I
shares. Additional series and classes of shares may be offered in the future.
Shares of each class represent proportionate interests in the assets of the fund
and have the same voting and other rights and preferences as any other class of
the fund for matters that affect the fund as a whole. For matters that only
affect one class, however, only shareholders of that class may vote. Each class
will vote separately on matters affecting only that class, or expressly required
to be voted on separately by state or federal law. Shares of each class of a
series have the same voting and other rights and preferences as the other
classes and series of the Trust for matters that affect the Trust as a whole.
The Trust has noncumulative voting rights. This gives holders of more than 50%
of the shares voting the ability to elect all of the members of the Board. If
this happens, holders of the remaining shares voting will not be able to elect
anyone to the Board.
The Trust does not intend to hold annual shareholder meetings. The Trust or a
series of the Trust may hold special meetings, however, for matters requiring
shareholder approval. A meeting may also be called by the Board in its
discretion or by shareholders holding at least 10% of the outstanding shares. In
certain circumstances, we are required to help you communicate with other
shareholders about the removal of a Board member.
ABOUT YOUR ACCOUNT
HOW DO I BUY SHARES?
OPENING YOUR ACCOUNT
To open your account, please follow the steps below. This will help avoid any
delays in processing your request.
1. Read this prospectus carefully.
2. Determine how much you would like to invest. The fund's minimum investments
are:
o To open a regular, non-retirement account .................... $ 1,000
o To open an IRA, IRA Rollover, Roth IRA, or Education IRA...... $ 250*
o To open a custodial account for a minor
(an UGMA/UTMA account) ....................................... $ 100
o To open an account with an automatic investment plan ......... $ 50**
o To add to an account ......................................... $ 50***
*For all other retirement accounts, there is no minimum investment
requirement.
**$25 for an Education IRA.
***For all retirement accounts except IRAs, IRA Rollovers, Roth IRAs, or
Education IRAs, there is no minimum to add to an account.
We reserve the right to change the amount of these minimums from time to time or
to waive or lower these minimums for certain purchases. We also reserve the
right to refuse any order to buy shares.
3. Carefully complete and sign the enclosed shareholder application, including
the optional shareholder privileges section. By applying for privileges now, you
can avoid the delay and inconvenience of having to send an additional
application to add privileges later. PLEASE ALSO INDICATE WHICH CLASS OF SHARES
YOU WANT TO BUY. IF YOU DO NOT SPECIFY A CLASS, WE WILL AUTOMATICALLY INVEST
YOUR PURCHASE IN CLASS I SHARES. It is important that we receive a signed
application since we will not be able to process any redemptions from your
account until we receive your signed application.
4. Make your investment using the table below.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL For an initial investment:
Return the application to the fund with your check made
payable to the fund.
For additional investments:
Send a check made payable to the fund. Please include
your account number on the check.
- ------------------------------------------------------------------------------
BY WIRE 1. Call Shareholder Services or, if that number is busy,
call 1-650/312-2000 collect, to receive a wire control
number and wire instructions. You need a new wire
control number every time you wire money into your
account. If you do not have a currently effective wire
control number, we will return the money to the bank,
and we will not credit the purchase to your account.
2. For an initial investment you must also return your signed
shareholder application to the fund.
Important Deadlines: If we receive your call before 1:00
p.m. Pacific time and the bank receives the wired funds
and reports the receipt of wired funds to the fund by
3:00 p.m. Pacific time, we will credit the purchase to
your account that day. If we receive your call after
1:00 p.m. or the bank receives the wire after 3:00 p.m.,
we will credit the purchase to your account the following
business day.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
CHOOSING A SHARE CLASS
Each class has its own sales charge and expense structure, allowing you to
choose the class that best meets your situation. The class that may be best for
you depends on a number of factors, including the amount and length of time you
expect to invest. Generally, Class I shares may be more attractive for long-term
investors or investors who qualify to buy Class I shares at a reduced sales
charge. Your financial representative can help you decide.
CLASS I CLASS II
o Higher front-end sales o Lower front-end sales charges than
charges than Class II shares. There Class I shares
are several ways to reduce these
charges, as described below. There
is no front-end sales charge for
purchases of $1 million or more.*
o Contingent Deferred Sales Charge on o Contingent Deferred Sales Charge on
purchases of $1 million or more purchases sold within 18 months
sold within one year
o Lower annual expenses than Class II o Higher annual expenses than Class I
shares shares
*If you are investing $1 million or more, it is generally more beneficial for
you to buy Class I shares because there is no front-end sales charge and the
annual expenses are lower. Therefore, ANY PURCHASE OF $1 MILLION OR MORE IS
AUTOMATICALLY INVESTED IN CLASS I SHARES. You may accumulate more than $1
million in Class II shares through purchases over time. If you plan to do this,
however, you should determine if it would be better for you to buy Class I
shares through a Letter of Intent.
PURCHASE PRICE OF FUND SHARES
For Class I shares, the sales charge you pay depends on the dollar amount you
invest, as shown in the table below. The sales charge for Class II shares is 1%
and, unlike Class I, does not vary based on the size of your purchase.
TOTAL SALES CHARGE AMOUNT PAID
AS A PERCENTAGE OF TO DEALER AS A
AMOUNT OF PURCHASE OFFERING NET AMOUNT PERCENTAGE OF
AT OFFERING PRICE PRICE INVESTED OFFERING PRICE
- ------------------------------------------------------------------------------
CLASS I
Under $100,000 ..................... 4.25% 4.44 4.00%
$100,000 but less than $250,000..... 3.50% 3.63% 3.25%
$250,000 but less than $500,000..... 2.75% 2.83% 2.50%
$500,000 but less than $1,000,000... 2.15% 2.20% 2.00%
$1,000,000 or more* ............... None None None
CLASS II
Under $1,000,000*................... 1.00% 1.01% 1.00%
*A Contingent Deferred Sales Charge of 1% may apply to Class I purchases of $1
million or more and any Class II purchase. Please see "How Do I Sell Shares? -
Contingent Deferred Sales Charge." Please also see "Other Payments to Securities
Dealers" below for a discussion of payments Distributors may make out of its own
resources to Securities Dealers for certain purchases. Purchases of Class II
shares are limited to purchases below $1 million.
Please see "Choosing a Share Class."
SALES CHARGE REDUCTIONS AND WAIVERS
- - IF YOU QUALIFY TO BUY SHARES UNDER ONE OF THE SALES CHARGE REDUCTION OR
WAIVER CATEGORIES DESCRIBED BELOW, PLEASE INCLUDE A WRITTEN STATEMENT WITH
EACH PURCHASE ORDER EXPLAINING WHICH PRIVILEGE APPLIES. IF YOU DON'T INCLUDE
THIS STATEMENT, WE CANNOT GUARANTEE THAT YOU WILL RECEIVE THE SALES CHARGE
REDUCTION OR WAIVER.
CUMULATIVE QUANTITY DISCOUNTS - Class I Only. To determine if you may pay a
reduced sales charge, the amount of your current Class I purchase is added to
the cost or current value, whichever is higher, of your existing shares in the
Franklin Templeton Funds, as well as those of your spouse, children under the
age of 21 and grandchildren under the age of 21. If you are the sole owner of a
company, you may also add any company accounts, including retirement plan
accounts. Companies with one or more retirement plans may add together the total
plan assets invested in the Franklin Templeton Funds to determine the sales
charge that applies.
LETTER OF INTENT - Class I Only. You may buy Class I shares at a reduced sales
charge by completing the Letter of Intent section of the shareholder
application. A Letter of Intent is a commitment by you to invest a specified
dollar amount during a 13 month period. The amount you agree to invest
determines the sales charge you pay on Class I shares.
BY COMPLETING THE LETTER OF INTENT SECTION OF THE SHAREHOLDER APPLICATION, YOU
ACKNOWLEDGE AND AGREE TO THE FOLLOWING:
o You authorize Distributors to reserve 5% of your total intended purchase in
Class I shares registered in your name until you fulfill your Letter.
o You give Distributors a security interest in the reserved shares and appoint
Distributors as attorney-in-fact.
o Distributors may sell any or all of the reserved shares to cover any
additional sales charge if you do not fulfill the terms of the Letter.
o Although you may exchange your shares, you may not sell reserved shares until
you complete the Letter or pay the higher sales charge.
Your periodic statements will include the reserved shares in the total shares
you own. We will pay or reinvest dividend and capital gain distributions on the
reserved shares as you direct. Our policy of reserving shares does not apply to
certain retirement plans.
If you would like more information about the Letter of Intent privilege, please
see "How Do I Buy, Sell and Exchange Shares? - Letter of Intent" in the SAI or
call Shareholder Services.
GROUP PURCHASES - Class I Only. If you are a member of a qualified group, you
may buy Class I shares at a reduced sales charge that applies to the group as a
whole. The sales charge is based on the combined dollar value of the group
members' existing investments, plus the amount of the current purchase.
A qualified group is one that:
o Was formed at least six months ago,
o Has a purpose other than buying fund shares at a discount,
o Has more than 10 members,
o Can arrange for meetings between our representatives and group members,
o Agrees to include Franklin Templeton Fund sales and other materials in
publications and mailings to its members at reduced or no cost to
Distributors,
o Agrees to arrange for payroll deduction or other bulk transmission of
investments to the fund, and
o Meets other uniform criteria that allow Distributors to achieve cost savings
in distributing shares.
A qualified group does not include a 403(b) plan that only allows salary
deferral contributions. 403(b) plans that only allow salary deferral
contributions and that purchased Class I shares of the fund at a reduced sales
charge under the group purchase privilege before February 1, 1998, however, may
continue to do so.
SALES CHARGE WAIVERS. If one of the following sales charge waivers applies to
you or your purchase of fund shares, you may buy shares of the fund without a
front-end sales charge or a Contingent Deferred Sales Charge. All of the sales
charge waivers listed below apply to purchases of Class I shares only, except
for items 1 and 2 which also apply to Class II purchases.
Certain distributions, payments or redemption proceeds that you receive may be
used to buy shares of the fund without a sales charge if you reinvest them
within 365 days of their payment or redemption date. They include:
1. Dividend and capital gain distributions from any Franklin Templeton Fund.
The distributions generally must be reinvested in the same class of shares.
Certain exceptions apply, however, to Class II shareholders who chose to
reinvest their distributions in Class I shares of the fund before November
17, 1997, and to Advisor Class or Class Z shareholders of a Franklin
Templeton Fund who may reinvest their distributions in Class I shares of the
fund.
2. Redemption proceeds from the sale of shares of any Franklin Templeton Fund
if you originally paid a sales charge on the shares and you reinvest the
money in the same class of shares. This waiver does not apply to exchanges.
If you paid a Contingent Deferred Sales Charge when you redeemed your shares
from a Franklin Templeton Fund, a Contingent Deferred Sales Charge will
apply to your purchase of fund shares and a new Contingency Period will
begin. We will, however, credit your fund account with additional shares
based on the Contingent Deferred Sales Charge you paid and the amount of
redemption proceeds that you reinvest.
If you immediately placed your redemption proceeds in a Franklin Bank CD,
you may reinvest them as described above. The proceeds must be reinvested
within 365 days from the date the CD matures, including any rollover.
3. Dividend or capital gain distributions from a real estate investment trust
(REIT) sponsored or advised by Franklin Properties, Inc.
4. Annuity payments received under either an annuity option or from death
benefit proceeds, only if the annuity contract offers as an investment
option the Franklin Valuemark Funds or the Templeton Variable Products
Series Fund. You should contact your tax advisor for information on any tax
consequences that may apply.
5. Redemption proceeds from a repurchase of shares of Franklin Floating Rate
Trust, if the shares were continuously held for at least 12 months.
If you immediately placed your redemption proceeds in a Franklin Bank CD or
a Franklin Templeton money fund, you may reinvest them as described above.
The proceeds must be reinvested within 365 days from the date the CD
matures, including any rollover, or the date you redeem your money fund
shares.
6. Redemption proceeds from the sale of Class A shares of any of the Templeton
Global Strategy Funds if you are a qualified investor.
If you paid a contingent deferred sales charge when you redeemed your Class
A shares from a Templeton Global Strategy Fund, a Contingent Deferred Sales
Charge will apply to your purchase of fund shares and a new Contingency
Period will begin. We will, however, credit your fund account with
additional shares based on the contingent deferred sales charge you paid and
the amount of the redemption proceeds that you reinvest.
If you immediately placed your redemption proceeds in a Franklin Templeton
money fund, you may reinvest them as described above. The proceeds must be
reinvested within 365 days from the date they are redeemed from the money
fund.
7. Distributions from an existing retirement plan invested in the Franklin
Templeton Funds
Various individuals and institutions also may buy Class I shares without a
front-end sales charge or Contingent Deferred Sales Charge, including:
1. Trust companies and bank trust departments agreeing to invest in Franklin
Templeton Funds over a 13 month period at least $1 million of assets held in
a fiduciary, agency, advisory, custodial or similar capacity and over which
the trust companies and bank trust departments or other plan fiduciaries or
participants, in the case of certain retirement plans, have full or shared
investment discretion. We will accept orders for these accounts by mail
accompanied by a check or by telephone or other means of electronic data
transfer directly from the bank or trust company, with payment by federal
funds received by the close of business on the next business day following
the order.
2. An Eligible Governmental Authority. Please consult your legal and investment
advisors to determine if an investment in the fund is permissible and
suitable for you and the effect, if any, of payments by the fund on
arbitrage rebate calculations.
3. Broker-dealers, registered investment advisors or certified financial
planners who have entered into an agreement with Distributors for clients
participating in comprehensive fee programs. The minimum initial investment
is $250.
4. Qualified registered investment advisors who buy through a broker-dealer or
service agent who has entered into an agreement with Distributors
5. Registered Securities Dealers and their affiliates, for their investment
accounts only
6. Current employees of Securities Dealers and their affiliates and their
family members, as allowed by the internal policies of their employer
7. Officers, trustees, directors and full-time employees of the Franklin
Templeton Funds or the Franklin Templeton Group, and their family members,
consistent with our then-current policies. The minimum initial investment is
$100.
8. Investment companies exchanging shares or selling assets pursuant to a
merger, acquisition or exchange offer
9. Accounts managed by the Franklin Templeton Group
10.Certain unit investment trusts and their holders reinvesting distributions
from the trusts
11. Group annuity separate accounts offered to retirement plans
12. Chilean retirement plans that meet the requirements described under
"Retirement Plans" below
RETIREMENT PLANS. Retirement plans that (i) are sponsored by an employer with at
least 100 employees, or (ii) have plan assets of $1 million or more, or (iii)
agree to invest at least $500,000 in the Franklin Templeton Funds over a 13
month period may buy Class I shares without a front-end sales charge. Retirement
plans that are not Qualified Retirement Plans, SIMPLEs or SEPs must also meet
the requirements described under "Group Purchases - Class I Only" above to be
able to buy Class I shares without a front-end sales charge. We may enter into a
special arrangement with a Securities Dealer, based on criteria established by
the fund, to add together certain small Qualified Retirement Plan accounts for
the purpose of meeting these requirements.
For retirement plan accounts opened on or after May 1, 1997, a Contingent
Deferred Sales Charge may apply if the retirement plan is transferred out of the
Franklin Templeton Funds or terminated within 365 days of the retirement plan
account's initial purchase in the Franklin Templeton Funds. Please see "How Do I
Sell Shares? - Contingent Deferred Sales Charge" for details.
HOW DO I BUY SHARES IN CONNECTION WITH RETIREMENT PLANS?
Your individual or employer-sponsored retirement plan may invest in the fund.
Plan documents are required for all retirement plans. Trust Company can provide
the plan documents for you and serve as custodian or trustee.
Trust Company can provide you with brochures containing important information
about its plans. To establish a Trust Company retirement plan, you will need an
application other than the one included in this prospectus. For a retirement
plan brochure or application, call Retirement Plan Services.
Please consult your legal, tax or retirement plan specialist before choosing a
retirement plan. Your investment representative or advisor can help you make
investment decisions within your plan.
OTHER PAYMENTS TO SECURITIES DEALERS
The payments described below may be made to Securities Dealers who initiate and
are responsible for Class II purchases and certain Class I purchases made
without a sales charge. The payments are subject to the sole discretion of
Distributors, and are paid by Distributors or one of its affiliates and not by
the fund or its shareholders.
1. Class II purchases - up to 1% of the purchase price.
2. Class I purchases of $1 million or more - up to 0.75% of the amount
invested.
3. Class I purchases made without a front-end sales charge by certain
retirement plans described under "Sales Charge Reductions and Waivers
Retirement Plans" above - up to 1% of the amount invested.
4. Class I purchases by trust companies and bank trust departments, Eligible
Governmental Authorities, and broker-dealers or others on behalf of clients
participating in comprehensive fee programs - up to 0.25% of the amount
invested.
5. Class I purchases by Chilean retirement plans - up to 1% of the amount
invested.
A Securities Dealer may receive only one of these payments for each qualifying
purchase. Securities Dealers who receive payments in connection with investments
described in paragraphs 1, 2 or 5 above or a payment of up to 1% for investments
described in paragraph 3 will be eligible to receive the Rule 12b-1 fee
associated with the purchase starting in the thirteenth calendar month after the
purchase.
FOR BREAKPOINTS THAT MAY APPLY AND INFORMATION ON ADDITIONAL COMPENSATION
PAYABLE TO SECURITIES DEALERS IN CONNECTION WITH THE SALE OF FUND SHARES, PLEASE
SEE "HOW DO I BUY, SELL AND EXCHANGE SHARES? - OTHER PAYMENTS TO SECURITIES
DEALERS" IN THE SAI.
FOR INVESTORS OUTSIDE THE U.S.
The distribution of this prospectus and the offering of fund shares may be
limited in many jurisdictions. An investor who wishes to buy shares of the fund
should determine, or have a broker-dealer determine, the applicable laws and
regulations of the relevant jurisdiction. Investors are responsible for
compliance with tax, currency exchange or other regulations applicable to
redemption and purchase transactions in any jurisdiction to which they may be
subject. Investors should consult appropriate tax and legal advisors to obtain
information on the rules applicable to these transactions.
MAY I EXCHANGE SHARES FOR SHARES OF ANOTHER FUND?
We offer a wide variety of funds. If you would like, you can move your
investment from your fund account to an existing or new account in another
Franklin Templeton Fund (an "exchange"). Because it is technically a sale and a
purchase of shares, an exchange is a taxable transaction.
If you own Class I shares, you may exchange into any of our money funds except
Franklin Templeton Money Fund II ("Money Fund II"). Money Fund II is the only
money fund exchange option available to Class II shareholders. Unlike our other
money funds, shares of Money Fund II may not be purchased directly and no drafts
(checks) may be written on Money Fund II accounts.
Before making an exchange, please read the prospectus of the fund you are
interested in. This will help you learn about the fund, its investment goal and
policies, and its rules and requirements for exchanges. For example, some
Franklin Templeton Funds do not accept exchanges and others may have different
investment minimums. Some Franklin Templeton Funds do not offer Class II shares.
METHOD STEPS TO FOLLOW
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BY MAIL 1. Send us signed written instructions
2. Include any outstanding share certificates
for the shares you want to exchange
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services or TeleFACTS(R)
- If you do not want the ability to
exchange by phone to apply to your account,
please let us know.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to exchange shares.
WILL SALES CHARGES APPLY TO MY EXCHANGE?
You generally will not pay a front-end sales charge on exchanges. If you have
held your shares less than six months, however, you will pay the percentage
difference between the sales charge you previously paid and the applicable sales
charge of the new fund, if the difference is more than 0.25%. If you have never
paid a sales charge on your shares because, for example, they have always been
held in a money fund, you will pay the fund's applicable sales charge no matter
how long you have held your shares. These charges may not apply if you qualify
to buy shares without a sales charge.
CONTINGENT DEFERRED SALES CHARGE. We will not impose a Contingent Deferred Sales
Charge when you exchange shares. Any shares subject to a Contingent Deferred
Sales Charge at the time of exchange, however, will remain so in the new fund.
For accounts with shares subject to a Contingent Deferred Sales Charge, we will
first exchange any shares in your account that are not subject to the charge. If
there are not enough of these to meet your exchange request, we will exchange
shares subject to the charge in the order they were purchased.
If you exchange Class I shares into one of our money funds, the time your shares
are held in that fund will not count towards the completion of any Contingency
Period. If you exchange your Class II shares for shares of Money Fund II,
however, the time your shares are held in that fund will count towards the
completion of any Contingency Period.
For more information about the Contingent Deferred Sales Charge, please see "How
Do I Sell Shares?"
EXCHANGE RESTRICTIONS
Please be aware that the following restrictions apply to exchanges:
o You must meet the applicable minimum investment amount of the fund you are
exchanging into, or exchange 100% of your fund shares.
o You may only exchange shares within the SAME CLASS, except as noted below.
o The accounts must be identically registered. You may, however, exchange
shares from a fund account requiring two or more signatures into an
identically registered money fund account requiring only one signature for
all transactions. PLEASE NOTIFY US IN WRITING IF YOU DO NOT WANT THIS
OPTION TO BE AVAILABLE ON YOUR ACCOUNT. Additional procedures may apply.
Please see "Transaction Procedures and Special Requirements."
o Trust Company IRA or 403(b) retirement plan accounts may exchange shares as
described above. Restrictions may apply to other types of retirement plans.
Please contact Retirement Plan Services for information on exchanges within
these plans.
o The fund you are exchanging into must be eligible for sale in your state.
o We may modify or discontinue our exchange policy if we give you 60 days'
written notice.
o Your exchange may be restricted or refused if you have: (i) requested an
exchange out of the fund within two weeks of an earlier exchange request,
(ii) exchanged shares out of the fund more than twice in a calendar quarter,
or (iii) exchanged shares equal to at least $5 million, or more than 1% of
the fund's net assets. Shares under common ownership or control are combined
for these limits. If you have exchanged shares as described in this
paragraph, you will be considered a Market Timer. Each exchange by a Market
Timer, if accepted, will be charged $5.00. Some of our funds do not allow
investments by Market Timers.
Because excessive trading can hurt fund performance, operations and
shareholders, we may refuse any exchange purchase if (i) we believe the fund
would be harmed or unable to invest effectively, or (ii) the fund receives or
anticipates simultaneous orders that may significantly affect the fund.
LIMITED EXCHANGES BETWEEN DIFFERENT CLASSES OF SHARES
Certain funds in the Franklin Templeton Funds offer classes of shares not
offered by the fund, such as "Advisor Class" or "Class Z" shares. Because the
fund does not currently offer an Advisor Class, you may exchange Advisor Class
shares of any Franklin Templeton Fund for Class I shares of the fund at Net
Asset Value. If you do so and you later decide you would like to exchange into a
fund that offers an Advisor Class, you may exchange your Class I shares for
Advisor Class shares of that fund. Certain shareholders of Class Z shares of
Franklin Mutual Series Fund Inc. may also exchange their Class Z shares for
Class I shares of the fund at Net Asset Value.
HOW DO I SELL SHARES?
You may sell (redeem) your shares at any time.
METHOD STEPS TO FOLLOW
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BY MAIL 1. Send us signed written instructions. If you would
like your redemption proceeds wired to a bank
account, your instructions should include:
o The name, address and telephone number of the
bank where you want the proceeds sent
o Your bank account number
o The Federal Reserve ABA routing number
o If you are using a savings and loan or credit
union, the name of the corresponding bank and
the account number
2. Include any outstanding share certificates for the
shares you are selling
3. Provide a signature guarantee if required
4. Corporate, partnership and trust accounts may need
to send additional documents. Accounts under court
jurisdiction may have other requirements.
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BY PHONE Call Shareholder Services. If you would like your
redemption proceeds wired to a bank account, other
than an escrow account, you must first sign up for
the wire feature. To sign up, send us written
instructions, with a signature guarantee. To avoid
any delay in processing, the instructions should
include the items listed in "By Mail" above.
Telephone requests will be accepted:
o If the request is $50,000 or less. Institutional
accounts may exceed $50,000 by completing a
separate agreement. Call Institutional Services to
receive a copy.
o If there are no share certificates issued for the
shares you want to sell or you have already returned
them to the fund
o Unless you are selling shares in a Trust Company
retirement plan account
o Unless the address on your account was changed by
phone within the last 15 days
- If you do not want the ability to redeem by phone
to apply to your account, please let us know.
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THROUGH
YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
We will send your redemption check within seven days after we receive your
request in proper form. If you would like the check sent to an address other
than the address of record or made payable to someone other than the registered
owners on the account, send us written instructions signed by all account
owners, with a signature guarantee. We are not able to receive or pay out cash
in the form of currency.
The wiring of redemption proceeds is a special service that we make available
whenever possible for redemption requests of $1,000 or more. If we receive your
request in proper form before 1:00 p.m. Pacific time, your wire payment will be
sent the next business day. For requests received in proper form after 1:00 p.m.
Pacific time, the payment will be sent the second business day. By offering this
service to you, the fund is not bound to meet any redemption request in less
than the seven day period prescribed by law. Neither the fund nor its agents
shall be liable to you or any other person if, for any reason, a redemption
request by wire is not processed as described in this section.
If you sell shares you recently purchased with a check or draft, we may delay
sending you the proceeds until your check or draft has cleared, which may take
seven business days or more. A certified or cashier's check may clear in less
time.
Under unusual circumstances, we may suspend redemptions or postpone payment for
more than seven days as permitted by federal securities law.
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to sell shares.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS
To comply with IRS regulations, you need to complete additional forms before
selling shares in a Trust Company retirement plan account. Tax penalties
generally apply to any distribution from these plans to a participant under age
591/2, unless the distribution meets an exception stated in the Code. To obtain
the necessary forms, please call Retirement Plan Services.
CONTINGENT DEFERRED SALES CHARGE
For Class I purchases, if you did not pay a front-end sales charge because you
invested $1 million or more or agreed to invest $1 million or more under a
Letter of Intent, a Contingent Deferred Sales Charge may apply if you sell all
or a part of your investment within the Contingency Period. Once you have
invested $1 million or more, any additional Class I investments you make without
a sales charge may also be subject to a Contingent Deferred Sales Charge if they
are sold within the Contingency Period. For any Class II purchase, a Contingent
Deferred Sales Charge may apply if you sell the shares within the Contingency
Period. The charge is 1% of the value of the shares sold or the Net Asset Value
at the time of purchase, whichever is less.
Certain retirement plan accounts opened on or after May 1, 1997, and that
qualify to buy Class I shares without a front-end sales charge may also be
subject to a Contingent Deferred Sales Charge if the retirement plan is
transferred out of the Franklin Templeton Funds or terminated within 365 days of
the account's initial purchase in the Franklin Templeton Funds.
We will first redeem any shares in your account that are not subject to the
charge. If there are not enough of these to meet your request, we will redeem
shares subject to the charge in the order they were purchased.
Unless otherwise specified, when you request to sell a stated DOLLAR AMOUNT, we
will redeem additional shares to cover any Contingent Deferred Sales Charge. For
requests to sell a stated NUMBER OF SHARES, we will deduct the amount of the
Contingent Deferred Sales Charge, if any, from the sale proceeds.
WAIVERS. We waive the Contingent Deferred Sales Charge for:
o Account fees
o Sales of shares purchased without a front-end sales charge by certain
retirement plan accounts if (i) the account was opened before May 1, 1997, or
(ii) the Securities Dealer of record received a payment from Distributors of
0.25% or less, or (iii) Distributors did not make any payment in connection
with the purchase, or (iv) the Securities Dealer of record has entered into a
supplemental agreement with Distributors
o Redemptions by the fund when an account falls below the minimum required
account size
o Redemptions following the death of the shareholder or beneficial owner
o Redemptions through a systematic withdrawal plan set up before February 1,
1995
o Redemptions through a systematic withdrawal plan set up on or after February
1, 1995, at a rate of up to 1% a month of an account's Net Asset Value. For
example, if you maintain an annual balance of $1 million in Class I shares,
you can redeem up to $120,000 annually through a systematic withdrawal plan
free of charge. Likewise, if you maintain an annual balance of $10,000 in
Class II shares, $1,200 may be redeemed annually free of charge.
o Distributions from IRAs due to death or disability or upon periodic
distributions based on life expectancy
o Returns of excess contributions from employee benefit plans
o Redemptions by Trust Company employee benefit plans or employee benefit
plans serviced by ValuSelect(R)
o Participant initiated distributions from employee benefit plans or
participant initiated exchanges among investment choices in employee benefit
plans
WHAT DISTRIBUTIONS MIGHT I RECEIVE FROM THE FUND?
The fund declares dividends from its net investment income monthly to
shareholders of record on the last business day of that month and pays them on
or about the 15th day of the next month.
Capital gains, if any, may be distributed annually, usually in December.
Dividends and capital gains are calculated and distributed the same way for each
class. The amount of any income dividends per share will differ, however,
generally due to the difference in the Rule 12b-1 fees of Class I and Class II.
Dividend payments are not guaranteed, are subject to the Board's discretion and
may vary with each payment. THE FUND DOES NOT PAY "INTEREST" OR GUARANTEE ANY
FIXED RATE OF RETURN ON AN INVESTMENT IN ITS SHARES.
If you buy shares shortly before the record date, please keep in mind that any
distribution will lower the value of the fund's shares by the amount of the
distribution and you will then receive a portion of the price you paid back in
the form of a taxable distribution.
DISTRIBUTION OPTIONS
You may receive your distributions from the fund in any of these ways:
1. BUY ADDITIONAL SHARES OF THE FUND - You may buy additional shares of the fund
(without a sales charge or imposition of a Contingent Deferred Sales Charge) by
reinvesting capital gain distributions, or both dividend and capital gain
distributions. This is a convenient way to accumulate additional shares and
maintain or increase your earnings base.
2. BUY SHARES OF OTHER FRANKLIN TEMPLETON FUNDS - You may direct your
distributions to buy shares of another Franklin Templeton Fund (without a sales
charge or imposition of a Contingent Deferred Sales Charge). Many shareholders
find this a convenient way to diversify their investments.
3. RECEIVE DISTRIBUTIONS IN CASH - You may receive dividends, or both dividend
and capital gain distributions in cash. If you have the money sent to another
person or to a checking account, you may need a signature guarantee. If you send
the money to a checking account, please see "Electronic Fund Transfers - Class I
Only" under "Services to Help You Manage Your Account."
Distributions may be reinvested only in the same class of shares, except as
follows: (i) Class II shareholders who chose to reinvest their distributions in
Class I shares of the fund or another Franklin Templeton Fund before November
17, 1997, may continue to do so; and (ii) Class II shareholders may reinvest
their distributions in shares of any Franklin Templeton money fund.
TO SELECT ONE OF THESE OPTIONS, PLEASE COMPLETE SECTIONS 6 AND 7 OF THE
SHAREHOLDER APPLICATION INCLUDED WITH THIS PROSPECTUS OR TELL YOUR INVESTMENT
REPRESENTATIVE WHICH OPTION YOU PREFER. IF YOU DO NOT SELECT AN OPTION, WE WILL
AUTOMATICALLY REINVEST DIVIDEND AND CAPITAL GAIN DISTRIBUTIONS IN THE SAME CLASS
OF THE FUND. You may change your distribution option at any time by notifying us
by mail or phone. Please allow at least seven days before the record date for us
to process the new option. For Trust Company retirement plans, special forms are
required to receive distributions in cash.
TRANSACTION PROCEDURES AND SPECIAL REQUIREMENTS
SHARE PRICE
When you buy shares, you pay the Offering Price. This is the Net Asset Value per
share of the class you wish to purchase, plus any applicable sales charges. When
you sell shares, you receive the Net Asset Value per share minus any applicable
Contingent Deferred Sales Charges.
The Net Asset Value we use when you buy or sell shares is the one next
calculated after we receive your transaction request in proper form. If you buy
or sell shares through your Securities Dealer, however, we will use the Net
Asset Value next calculated after your Securities Dealer receives your request,
which is promptly transmitted to the fund. Your redemption proceeds will not
earn interest between the time we receive the order from your dealer and the
time we receive any required documents.
HOW AND WHEN SHARES ARE PRICED
The fund is open for business each day the NYSE is open. We determine the Net
Asset Value per share of each class as of the close of the NYSE, normally 1:00
p.m. Pacific time. You can find the prior day's closing Net Asset Value and
Offering Price for each class in many newspapers.
The Net Asset Value of all outstanding shares of each class is calculated on a
pro rata basis. It is based on each class' proportionate participation in the
fund, determined by the value of the shares of each class. Each class, however,
bears the Rule 12b-1 fees payable under its Rule 12b-1 plan. To calculate Net
Asset Value per share of each class, the assets of each class are valued and
totaled, liabilities are subtracted, and the balance, called net assets, is
divided by the number of shares of the class outstanding. The fund's assets are
valued as described under "How Are Fund Shares Valued?" in the SAI.
WRITTEN INSTRUCTIONS
Written instructions must be signed by all registered owners. To avoid any delay
in processing your transaction, they should include:
o Your name,
o The fund's name,
o The class of shares,
o A description of the request,
o For exchanges, the name of the fund you are exchanging into,
o Your account number,
o The dollar amount or number of shares, and
o A telephone number where we may reach you during the day, or in the evening
if preferred.
JOINT ACCOUNTS. For accounts with more than one registered owner, we accept
written instructions signed by only one owner for certain types of transactions
or account changes. These include transactions or account changes that you could
also make by phone, such as certain redemptions of $50,000 or less, exchanges
between identically registered accounts, and changes to the address of record.
For most other types of transactions or changes, written instructions must be
signed by all registered owners.
Please keep in mind that if you have previously told us that you do not want
telephone exchange or redemption privileges on your account, then we can only
accept written instructions to exchange or redeem shares if they are signed by
all registered owners on the account.
SIGNATURE GUARANTEES
For our mutual protection, we require a signature guarantee in the following
situations:
1) You wish to sell over $50,000 worth of shares,
2) You want the proceeds to be paid to someone other than the registered
owners,
3) The proceeds are not being sent to the address of record, preauthorized bank
account, or preauthorized brokerage firm account,
4) We receive instructions from an agent, not the registered owners,
5) We believe a signature guarantee would protect us against potential claims
based on the instructions received.
A signature guarantee verifies the authenticity of your signature. You should be
able to obtain a signature guarantee from a bank, broker, credit union, savings
association, clearing agency, or securities exchange or association.
A NOTARIZED SIGNATURE IS NOT SUFFICIENT.
SHARE CERTIFICATES
We will credit your shares to your fund account. We do not issue share
certificates unless you specifically request them. This eliminates the costly
problem of replacing lost, stolen or destroyed certificates. If a certificate is
lost, stolen or destroyed, you may have to pay an insurance premium of up to 2%
of the value of the certificate to replace it.
Any outstanding share certificates must be returned to the fund if you want to
sell or exchange those shares or if you would like to start a systematic
withdrawal plan. The certificates should be properly endorsed. You can do this
either by signing the back of the certificate or by completing a share
assignment form. For your protection, you may prefer to complete a share
assignment form and to send the certificate and assignment form in separate
envelopes.
TELEPHONE TRANSACTIONS
You may initiate many transactions and changes to your account by phone. Please
refer to the sections of this prospectus that discuss the transaction you would
like to make or call Shareholder Services.
When you call, we will request personal or other identifying information to
confirm that instructions are genuine. We may also record calls. If our lines
are busy or you are otherwise unable to reach us by phone, you may wish to ask
your investment representative for assistance or send us written instructions,
as described elsewhere in this prospectus.
For your protection, we may delay a transaction or not implement one if we are
not reasonably satisfied that the instructions are genuine. If this occurs, we
will not be liable for any loss. We also will not be liable for any loss if we
follow instructions by phone that we reasonably believe are genuine or if you
are unable to execute a transaction by phone.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS. We cannot accept instructions to sell
shares or change distribution options on Trust Company retirement plans by
phone. While you may exchange shares of Trust Company IRA and 403(b) retirement
accounts by phone, certain restrictions may be imposed on other retirement
plans.
To obtain any required forms or more information about distribution or transfer
procedures, please call Retirement Plan Services.
ACCOUNT REGISTRATIONS AND REQUIRED DOCUMENTS
When you open an account, we need you to tell us how you want your shares
registered. How you register your account will affect your ownership rights and
ability to make certain transactions. If you have questions about how to
register your account, you should consult your investment representative or
legal advisor. Please keep the following information in mind when registering
your account.
JOINT OWNERSHIP. If you open an account with two or more owners, we register the
account as "joint tenants with rights of survivorship" unless you tell us
otherwise. An account registered as "joint tenants with rights of survivorship"
is shown as "Jt Ten" on your account statement. For any account with two or more
owners, we cannot accept instructions to change owners on the account unless all
owners agree in writing, even if the law in your state says otherwise. If you
would like another person or owner to sign for you, please send us a current
power of attorney.
GIFTS AND TRANSFERS TO MINORS. You may set up a custodial account for a minor
under your state's Uniform Gifts/Transfers to Minors Act. Other than this form
of registration, a minor may not be named as an account owner.
TRUSTS. You should register your account as a trust only if you have a valid
written trust document. This avoids future disputes or possible court action
over who owns the account.
REQUIRED DOCUMENTS. For corporate, partnership and trust accounts, please send
us the following documents when you open your account. This will help avoid
delays in processing your transactions while we verify who may sign on the
account.
TYPE OF ACCOUNT DOCUMENTS REQUIRED
- ------------------------------------------------------------------------------
CORPORATION Corporate Resolution
- ------------------------------------------------------------------------------
PARTNERSHIP 1. The pages from the partnership agreement that
identify the general partners, or
2. A certification for a partnership agreement
- ------------------------------------------------------------------------------
TRUST 1. The pages from the trust document that identify
the trustees, or
2. A certification for trust
- ------------------------------------------------------------------------------
STREET OR NOMINEE ACCOUNTS. If you have fund shares held in a "street" or
"nominee" name account with your Securities Dealer, you may transfer the shares
to the street or nominee name account of another Securities Dealer. Both dealers
must have an agreement with Distributors or we cannot process the transfer.
Contact your Securities Dealer to initiate the transfer. We will process the
transfer after we receive authorization in proper form from your delivering
Securities Dealer. Accounts may be transferred electronically through the NSCC.
For accounts registered in street or nominee name, we may take instructions
directly from the Securities Dealer or your nominee.
IMPORTANT INFORMATION IF YOU HAVE AN INVESTMENT REPRESENTATIVE
If there is a Securities Dealer or other representative of record on your
account, we are authorized: (1) to provide confirmations, account statements and
other information about your account directly to your dealer and/or
representative; and (2) to accept telephone and electronic instructions directly
from your dealer or representative, including instructions to exchange or redeem
your shares. Electronic instructions may be processed through established
electronic trading systems and programs used by the fund. Telephone instructions
directly from your representative will be accepted unless you have told us that
you do not want telephone privileges to apply to your account.
KEEPING YOUR ACCOUNT OPEN
Due to the relatively high cost of maintaining a small account, we may close
your account if the value of your shares is less than $250, or less than $50 for
employee accounts and custodial accounts for minors. We will only do this if the
value of your account fell below this amount because you voluntarily sold your
shares and your account has been inactive (except for the reinvestment of
distributions) for at least six months. Before we close your account, we will
notify you and give you 30 days to increase the value of your account to $1,000,
or $100 for employee accounts and custodial accounts for minors. These minimums
do not apply to IRAs and other retirement plan accounts or to accounts managed
by the Franklin Templeton Group.
SERVICES TO HELP YOU MANAGE YOUR ACCOUNT
AUTOMATIC INVESTMENT PLAN
Our automatic investment plan offers a convenient way to invest in the fund.
Under the plan, you can have money transferred automatically from your checking
account to the fund each month to buy additional shares. If you are interested
in this program, please refer to the automatic investment plan application
included with this prospectus or contact your investment representative. The
market value of the fund's shares may fluctuate and a systematic investment plan
such as this will not assure a profit or protect against a loss. You may
discontinue the program at any time by notifying Investor Services by mail or
phone.
AUTOMATIC PAYROLL DEDUCTION - CLASS I ONLY
You may have money transferred from your paycheck to the fund to buy additional
Class I shares. Your investments will continue automatically until you instruct
the fund and your employer to discontinue the plan. To process your investment,
we must receive both the check and payroll deduction information in required
form. Due to different procedures used by employers to handle payroll
deductions, there may be a delay between the time of the payroll deduction and
the time we receive the money.
SYSTEMATIC WITHDRAWAL PLAN
Our systematic withdrawal plan allows you to sell your shares and receive
regular payments from your account on a monthly, quarterly, semiannual or annual
basis. The value of your account must be at least $5,000 and the minimum payment
amount for each withdrawal must be at least $50. For retirement plans subject to
mandatory distribution requirements, the $50 minimum will not apply.
If you would like to establish a systematic withdrawal plan, please complete the
systematic withdrawal plan section of the shareholder application included with
this prospectus and indicate how you would like to receive your payments. You
may choose to direct your payments to buy the same class of shares of another
Franklin Templeton Fund or have the money sent directly to you, to another
person, or to a checking account. If you choose to have the money sent to a
checking account, please see "Electronic Fund Transfers Class I Only" below.
Once your plan is established, any distributions paid by the fund will be
automatically reinvested in your account.
You will generally receive your payment by the end of the month in which a
payment is scheduled. When you sell your shares under a systematic withdrawal
plan, it is a taxable transaction.
To avoid paying sales charges on money you plan to withdraw within a short
period of time, you may not want to set up a systematic withdrawal plan if you
plan to buy shares on a regular basis. Shares sold under the plan may also be
subject to a Contingent Deferred Sales Charge. Please see "Contingent Deferred
Sales Charge" under "How Do I Sell Shares?"
You may discontinue a systematic withdrawal plan, change the amount and schedule
of withdrawal payments, or suspend one payment by notifying us by mail or by
phone at least seven business days before the end of the month preceding a
scheduled payment. Please see "How Do I Buy, Sell and Exchange Shares? -
Systematic Withdrawal Plan" in the SAI for more information.
ELECTRONIC FUND TRANSFERS - CLASS I ONLY
You may choose to have dividend and capital gain distributions from Class I
shares of the fund or payments under a systematic withdrawal plan sent directly
to a checking account. If the checking account is with a bank that is a member
of the Automated Clearing House, the payments may be made automatically by
electronic funds transfer. If you choose this option, please allow at least
fifteen days for initial processing. We will send any payments made during that
time to the address of record on your account.
TELEFACTS(R)
From a touch-tone phone, you may call our TeleFACTS(R) system (day or night) at
1-800/247-1753 to:
o obtain information about your account;
o obtain price and performance information about any Franklin Templeton Fund;
o exchange shares (within the same class) between identically registered
Franklin Templeton Class I and Class II accounts; and
o request duplicate statements and deposit slips for Franklin Templeton
accounts.
You will need the code number for each class to use TeleFACTS(R). The code
number is 194 for Class I and 294 for Class II.
STATEMENTS AND REPORTS TO SHAREHOLDERS
We will send you the following statements and reports on a regular basis:
o Confirmation and account statements reflecting transactions in your account,
including additional purchases and dividend reinvestments. PLEASE VERIFY THE
ACCURACY OF YOUR STATEMENTS WHEN YOU RECEIVE THEM.
o Financial reports of the fund will be sent every six months. To reduce fund
expenses, we attempt to identify related shareholders within a household and
send only one copy of a report. Call Fund Information if you would like an
additional free copy of the fund's financial reports.
INSTITUTIONAL ACCOUNTS
Additional methods of buying, selling or exchanging shares of the fund may be
available to institutional accounts. Institutional investors may also be
required to complete an institutional account application. For more information,
call Institutional Services.
AVAILABILITY OF THESE SERVICES
The services above are available to most shareholders. If, however, your shares
are held by a financial institution, in a street name account, or networked
through the NSCC, the fund may not be able to offer these services directly to
you. Please contact your investment representative.
WHAT IF I HAVE QUESTIONS ABOUT MY ACCOUNT?
If you have any questions about your account, you may write to Investor Services
at 777 Mariners Island Blvd., P.O. Box 7777, San Mateo, California 94403-7777.
The fund, Distributors and Advisers are also located at this address. TICI is
located at Broward Financial Centre, Suite 2100, Fort Lauderdale, Florida
33394-3091. You may also contact us by phone at one of the numbers listed below.
HOURS OF OPERATION (PACIFIC TIME)
DEPARTMENT NAME TELEPHONE NO. MONDAY THROUGH FRIDAY)
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Shareholder Services 1-800/632-2301 5:30 a.m. to 5:00 p.m.
Dealer Services 1-800/524-4040 5:30 a.m. to 5:00 p.m.
Fund Information 1-800/DIAL BEN 5:30 a.m. to 8:00 p.m.
(1-800/342-5236) 6:30 a.m. to 2:30 p.m.(Saturday)
Retirement Plan Services 1-800/527-2020 5:30 a.m. to 5:00 p.m.
Institutional Services 1-800/321-8563 6:00 a.m. to 5:00 p.m.
TDD (hearing impaired) 1-800/851-0637 5:30 a.m. to 5:00 p.m.
Your phone call may be monitored or recorded to ensure we provide you with high
quality service. You will hear a regular beeping tone if your call is being
recorded.
GLOSSARY
USEFUL TERMS AND DEFINITIONS
ADVISERS - Franklin Advisers, Inc., the fund's investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I AND CLASS II - The fund offers two classes of shares, designated "Class
I" and "Class II." The two classes have proportionate interests in the fund's
portfolio. They differ, however, primarily in their sales charge structures and
Rule 12b-1 plans.
CODE - Internal Revenue Code of 1986, as amended
CONTINGENCY PERIOD - For Class I shares, the 12 month period during which a
Contingent Deferred Sales Charge may apply. For Class II shares, the contingency
period is 18 months. The holding period for Class I begins on the first day of
the month in which you buy shares. Regardless of when during the month you buy
Class I shares, they will age one month on the last day of that month and each
following month. The holding period for Class II begins on the day you buy your
shares. For example, if you buy Class II shares on the 18th of the month, they
will age one month on the 18th day of the next month and each following month.
CONTINGENT DEFERRED SALES CHARGE (CDSC) - A sales charge of 1% that may apply if
you sell your shares within the Contingency Period.
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the fund's principal
underwriter. The SAI lists the officers and Board members who are affiliated
with Distributors. See "Officers and Trustees."
ELIGIBLE GOVERNMENTAL AUTHORITY - Any state or local government or any
instrumentality, department, authority or agency thereof that has determined the
fund is a legally permissible investment and that can only buy shares of the
fund without paying sales charges.
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds.
FT SERVICES - Franklin Templeton Services, Inc., the fund's administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the fund's
shareholder servicing and transfer agent
IRA - Individual retirement account or annuity qualified under section 408 of
the Code
IRS - Internal Revenue Service
LETTER - Letter of Intent
MARKET TIMERS - Market Timers generally include market timing or asset
allocation services, accounts administered so as to buy, sell or exchange shares
based on predetermined market indicators, or any person or group whose
transactions seem to follow a timing pattern or whose transactions include
frequent or large exchanges.
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by the
number of shares outstanding.
NSCC - National Securities Clearing Corporation
NYSE - New York Stock Exchange
OFFERING PRICE - The public offering price is based on the Net Asset Value per
share of the class and includes the front-end sales charge. The maximum
front-end sales charge is 4.25% for Class I and 1% for Class II. We calculate
the offering price to two decimal places using standard rounding criteria.
QUALIFIED RETIREMENT PLANS - An employer sponsored pension or profit-sharing
plan that qualifies under section 401 of the Code. Examples include 401(k),
money purchase pension, profit sharing and defined benefit plans.
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
SEP - An employer sponsored simplified employee pension plan established under
section 408(k) of the Code
SIMPLE (SAVINGS INCENTIVE MATCH PLAN FOR EMPLOYEES) - An employer sponsored
salary deferral plan established under section 408(p) of the Code
TELEFACTS(R) - Franklin Templeton's automated customer servicing system
TICI - Templeton Investment Counsel, Inc., the fund's sub-advisor
TRUST COMPANY - Franklin Templeton Trust Company. Trust Company is an
affiliate of Distributors and both are wholly owned subsidiaries of Resources.
WE/OUR/US - Unless the context indicates a different meaning, these terms refer
to the fund and/or Investor Services, Distributors, or other wholly owned
subsidiaries of Resources.
APPENDIX
DESCRIPTION OF RATINGS
CORPORATE BOND RATINGS
S&P
AAA - This is the highest rating assigned by S&P to a debt obligation and
indicates an extremely strong capacity to pay principal and interest.
AA - Bonds rated AA also qualify as high-quality debt obligations. Capacity to
pay principal and interest is very strong and, in the majority of instances,
differ from AAA issues only in a small degree.
A - Bonds rated A have a strong capacity to pay principal and interest, although
they are somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions.
BBB - Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit protection parameters,
adverse economic conditions or changing circumstances are more likely to lead to
a weakened capacity to pay principal and interest for bonds in this category
than for bonds in the A category.
BB, B, CCC, CC - Bonds rated BB, B, CCC and CC are regarded, on balance, as
predominantly speculative with respect to the issuer's capacity to pay interest
and repay principal in accordance with the terms of the obligations. BB
indicates the lowest degree of speculation and CC the highest degree of
speculation. While these bonds will likely have some quality and protective
characteristics, they are outweighed by large uncertainties or major risk
exposures to adverse conditions.
C - Bonds rated C are typically subordinated debt to senior debt that is
assigned an actual or implied CCC- rating. The C rating may also reflect the
filing of a bankruptcy petition under circumstances where debt service payments
are continuing. The C1 rating is reserved for income bonds on which no interest
is being paid.
D - Debt rated D is in default and payment of interest and/or repayment of
principal is in arrears.
PLUS (+) OR MINUS (-): The ratings from "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
PROSPECTUS & APPLICATION
FRANKLIN
SMALL CAP
GROWTH FUND
INVESTMENT STRATEGY
GROWTH
SEPTEMBER 1, 1998
FRANKLIN STRATEGIC SERIES
Please read this prospectus before investing, and keep it for future reference.
It contains important information, including how the fund invests and the
services available to shareholders.
This prospectus describes the fund's Class I and Class II shares. The fund
currently offers another share class with a different sales charge and expense
structure, which affects performance.
To learn more about the fund and its policies, you may request a copy of the
fund's Statement of Additional Information ("SAI"), dated September 1, 1998,
which we may amend from time to time. We have filed the SAI with the SEC and
have incorporated it by reference into this prospectus.
For a free copy of the SAI or a larger print version of this prospectus, or to
receive a free copy of the prospectus for the fund's other share class, contact
your investment representative or call 1-800/DIAL BEN.
MUTUAL FUND SHARES ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED
BY, ANY BANK, AND ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE
CORPORATION, THE FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S.
GOVERNMENT. MUTUAL FUND SHARES INVOLVE INVESTMENT RISKS, INCLUDING THE POSSIBLE
LOSS OF PRINCIPAL.
LIKE ALL MUTUAL FUND SHARES, THE SEC HAS NOT APPROVED OR DISAPPROVED THESE
SECURITIES OR PASSED UPON THE ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO
THE CONTRARY IS A CRIMINAL OFFENSE.
THIS PROSPECTUS IS NOT AN OFFERING OF THE SECURITIES HEREIN DESCRIBED IN ANY
STATE, JURISDICTION OR COUNTRY IN WHICH THE OFFERING IS NOT AUTHORIZED. NO SALES
REPRESENTATIVE, DEALER, OR OTHER PERSON IS AUTHORIZED TO GIVE ANY INFORMATION OR
MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS. FURTHER
INFORMATION MAY BE OBTAINED FROM DISTRIBUTORS.
FRANKLIN SMALL CAP GROWTH FUND
September 1, 1998
When reading this prospectus, you will see certain terms beginning with capital
letters. This means the term is explained in our glossary section.
TABLE OF CONTENTS
ABOUT THE FUND
Risk/Return Summary ................................................ 2
Financial Highlights ............................................... 6
How Does the Fund Invest Its Assets?................................ 8
What Are the Risks of Investing in the Fund? ....................... 12
Who Manages the Fund? .............................................. 14
How Taxation Affects the Fund and Its Shareholders ................. 16
How Is the Trust Organized? ........................................ 19
ABOUT YOUR ACCOUNT
How Do I Buy Shares? ............................................... 20
May I Exchange Shares for Shares of Another Fund? .................. 28
How Do I Sell Shares? .............................................. 31
What Distributions Might I Receive From the Fund? .................. 34
Transaction Procedures and Special Requirements .................... 35
Services to Help You Manage Your Account............................ 39
What If I Have Questions About My Account?.......................... 42
GLOSSARY
Useful Terms and Definitions ....................................... 42
777 Mariners Island Blvd.
P.O. Box 7777
San Mateo
CA 94403-7777
1-800/DIAL BEN(R)
FRANKLIN SMALL CAP GROWTH FUND
ABOUT THE FUND
RISK/RETURN SUMMARY
1. WHAT IS THE FUND'S GOAL?
Franklin Small Cap Growth Fund seeks long-term capital growth.
2. WHAT ARE THE FUND'S MAIN INVESTMENT STRATEGIES?
o PRINCIPAL INVESTMENTS. The fund invests primarily in common stock
equity securities of small capitalization ("small cap") growth
companies, which have market cap values (share price times the number
of common stock shares outstanding) of less than $1 billion. The fund
will try to invest at least one-third of its total assets in companies
with market cap values of $550 million or less, but may not find
suitable companies. Equity securities also include preferred stocks,
securities convertible into common stocks, and warrants for the
purchase of common stocks.
o OTHER INVESTMENTS. The fund may also invest a smaller portion of its
assets in equity securities of larger growth companies. Although the
fund's policies permit greater investment, currently, the fund will not
invest more than 10% of its total assets in foreign securities,
including those of developing markets issuers. The fund may also
invest, to a limited extent, in real estate investment trusts, in
illiquid securities, and engage in other investment strategies. The
fund may invest in cash or short-term investments for liquidity or,
without limit, for temporary defensive purposes.
o PORTFOLIO SELECTION. Advisers will choose small cap companies that it
believes are positioned for rapid growth in revenues, earnings or
assets, and that it can acquire at a price it believes to be
reasonable. Advisers looks for companies it believes exhibit leadership
in growing markets or have distinct and sustainable competitive
advantages, such as a particular marketing or product niche. Advisers
strives to avoid overly speculative issues, such as those based on
unproven technology. Advisers uses a disciplined "bottom up" approach
to stock selection, blending fundamental and quantitative analysis.
Advisers diversifies the fund's assets across many industries, and from
time to time may invest substantially in certain sectors, including
technology and biotechnology.
FOR MORE INFORMATION ABOUT THE FUND'S INVESTMENTS, PLEASE REVIEW THE FUND'S MOST
RECENT ANNUAL AND SEMIANNUAL REPORTS TO SHAREHOLDERS. IN THE FUND'S ANNUAL
REPORT YOU WILL FIND A DISCUSSION OF MARKET CONDITIONS AND INVESTMENT STRATEGIES
THAT SIGNIFICANTLY AFFECTED THE FUND'S PERFORMANCE DURING THE LAST FISCAL YEAR.
YOU MAY OBTAIN THESE FREE REPORTS BY CALLING FUND INFORMATION.
3. WHAT ARE THE MAIN RISKS OF INVESTING IN THE FUND?
The main risks, affecting the value of the fund's shares, are those common to
all managed smaller company stock investments.
o STOCKS. Common stocks and other equities represent ownership interests
in individual companies. Stocks tend to rise and fall more dramatically
than other asset classes over the shorter term. These price movements
may result from factors affecting individual companies, or factors
affecting the securities market as a whole. Growth stock prices reflect
projections of future earnings or revenues and can, therefore, fall
dramatically if the company fails to meet those projections.
o SMALLER COMPANIES. Historically, smaller company stocks have generally
experienced greater price swings than, and have fluctuated
independently from, larger company stocks. Smaller or relatively new
companies can be particularly sensitive to changing economic
conditions, and their growth prospects are less certain than those of
larger, more established companies. For example, smaller companies may
have limited financial resources, product lines or market share; they
may lack depth of management; they may be in new industries; or they
may not find an established market for their products or services, or
their products or services may become quickly obsolete. Small cap
companies may suffer significant losses and investments in these
companies may be speculative. In particular, smaller companies in the
technology or biotechnology industries can be subject to abrupt or
erratic price movements.
o MANAGEMENT. Individual and worldwide stock markets, interest rates, and
currency valuations have both increased and decreased, sometimes very
dramatically, in the past. These changes are likely to occur again in
the future at unpredictable times, and Advisers may not correctly
anticipate or respond to these changes.
In addition to the main risks, the fund's investments in foreign securities,
particularly those of developing markets issuers, involve special risks
including changing currency values which increase or decrease the fund's returns
from its foreign portfolio holdings, and social, political, and economic
uncertainty.
AN INVESTMENT IN THE FUND IS NOT A DEPOSIT OF ANY BANK AND IS NOT INSURED OR
GUARANTEED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION OR ANY OTHER GOVERNMENT
AGENCY. YOU MAY LOSE MONEY BY INVESTING IN THE FUND; YOUR INVESTMENT IS NOT
GUARANTEED.
PAST RESULTS
The bar chart and table show the historical variability (or volatility) of the
fund's returns on a year by year basis, and its average annual total returns
compared to a broad-based securities index. They may provide some indication of
the risks of investing in the fund. Of course, past performance cannot predict
or guarantee future results. Moreover, this has been a period of generally
rising securities prices, which may not be sustained in the future.
FRANKLIN SMALL CAP GROWTH FUND - CLASS I
Calendar Year Total Returns*
1993 - 1997
GRAPHIC MATERIAL OMITTED.
THE FOLLOWING IS A NARRATIVE DESCRIPTION OF THE GRAPHIC MATERIAL PURSUANT TO
ITEM 304(A) OF REGULATION S-T:
This chart shows in bar format the calendar year total returns for the Franklin
Small Cap Growth Fund - Class I for the years 1993 through 1997.
Calendar Year Total Returns*
1993 21.77%
1994 9.22%
1995 42.20%
1996 27.07%
1997 15.78%
Best Quarter Q2 '97 +18.69%
Worst Quarter Q1 '97 -9.12%
SINCE
AVERAGE ANNUAL TOTAL RETURNS PAST PAST INCEPTION
FOR THE PERIODS ENDED DECEMBER 31, 1997 1 YEAR 5 YEARS 2/14/92
- ----------------------------------------------------------------------
Franklin Small Cap Growth Fund - Class I**... 9.15% 21.27% 19.95%
Russell 2500 Index***........................ 24.36% 17.59% 16.53%
S&P 500***................................... 33.36% 20.27% 18.72%
SINCE
AVERAGE ANNUAL TOTAL RETURNS PAST PAST INCEPTION
FOR THE PERIOD ENDED DECEMBER 31, 1997 1 YEAR 5 YEARS 10/2/95
- ------------------------------------------------------------------------
Franklin Small Cap Growth Fund - Class II****. 2.74% N/A 18.18%
All figures assume reinvestment of dividends and capital gains. Past expense
reductions by Advisers increased returns.
*Sales loads are not reflected in the bar chart returns; if they had been
reflected, returns would be lower. The year-to-date return as of June 30, 1998
was 6.06% for Class I.
**These figures have been restated to reflect the current, maximum 5.75% initial
sales charge; thus actual returns may differ. Prior to August 3, 1998, fund
shares were offered at a lower initial sales charge.
***Source: Standard & Poor's Micropal. The Standard & Poor's(R) 500 Stock Index
(S&P 500(R)) is an index of widely held common stocks, whereas the Russell 2500
Index(R) is an index of 2,500 companies with small market capitalizations.
Please remember one cannot invest directly in an index, nor is an index
representative of the fund's portfolio.
****These figures include the 1% initial sales charge and 1% Contingent Deferred
Sales Charge to the extent applicable. Class II shares have higher annual fees
and expenses than Class I shares.
4. WHAT ARE THE FUND'S FEES AND EXPENSES?
This table is designed to help you understand the costs of investing in the
fund. It is based on the historical expenses of each class for the fiscal year
ended April 30, 1998. The fund's future expenses may vary.
SHAREHOLDER FEES
(FEES PAID DIRECTLY FROM YOUR INVESTMENT) CLASS I CLASS II
- ---------------------------------------------------------------
Maximum Sales Charge (Load)
(as a percentage of Offering Price)..... 5.75% 1.99%
Paid at time of purchase ................ 5.75% 1.00%
Paid at redemption....................... None* 0.99%**
See "How Do I Buy Shares?" and "How Do I Sell Shares? - Contingent Deferred
Sales Charge" for an explanation of how and when these sales charges apply.
ANNUAL FUND OPERATING EXPENSES
(EXPENSES THAT ARE DEDUCTED FROM FUND ASSETS) CLASS I CLASS II
- --------------------------------------------------------------------
Management Fees.......................... 0.46% 0.46%
Distribution and Service (12b-1) Fees+... 0.25% 1.00%
Other Expenses........................... 0.18% 0.18%
----------------
TOTAL ANNUAL FUND OPERATING EXPENSES 0.89% 1.64%
================
EXAMPLE
This example can help you compare the cost of investing in the fund with the
cost of investing in other mutual funds. Your actual costs may be higher or
lower. This is not a representation of past or future expenses. You would pay
the following expenses on a $10,000 investment, assuming a 5% annual return and
sale of your shares at the end of each period.
1 YEAR 3 YEARS 5 YEARS 10 YEARS
- ----------------------------------------------------------------
Class I ............ $661++ $843 $1,040 $1,608
Class II ........... $363 $612 $983 $2,024
For the same Class II investment, you would pay projected expenses of $265 if
you did not sell your shares at the end of the first year. Your projected
expenses for the remaining periods would be the same.
*Except for (1) purchases of $1 million or more that you sell within one year,
and (2) purchases by certain retirement plans made without a front-end sales
charge.
**The charge is 1% of the value of shares sold or the Net Asset Value at the
time of purchase, whichever is less. The number in the table shows the charge as
a percentage of Offering Price. While the percentage is different depending on
whether the charge is shown based on the Net Asset Value or the Offering Price,
the dollar amount you would pay is the same.
+Because of the Rule 12b-1 fees, over the long term you may indirectly pay more
than the equivalent of the maximum permitted front-end sales charge.
++Assumes a Contingent Deferred Sales Charge will not apply.
FINANCIAL HIGHLIGHTS
This table summarizes the fund's financial history. The information has been
audited by Coopers & Lybrand L.L.P., the fund's independent auditor. The audit
report covering each of the most recent five years appears in the Trust's Annual
Report to Shareholders for the fiscal year ended April 30, 1998. The Annual
Report to Shareholders also includes more information about the fund's
performance. For a free copy, please call Fund Information.
<TABLE>
<CAPTION>
Class I
Year Ended April 30,
<S> <C> <C> <C> <C> <C> <C> <C>
1998 1997 1996 1995 1994 1993 19921
- ------------------------------------------------------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year $18.96 $19.75 $14.90 $12.75 $10.22 $9.58 $10.00
-----------------------------------------------------------------------------------
Income from investment operations:
Net investment income .07 .03 .01 .03 .03 .07 .04
Net realized and unrealized gains 7.92 .04 6.23 3.14 2.94 .66 (.46)
-------------------------------------------------------------------------------
Total from investment operations 7.99 .07 6.24 3.17 2.97 .73 (.42)
-------------------------------------------------------------------------------
Less distributions from:
Net investment income (.09) (.06) (.01) (.02) (.04) (.09) --
Net realized gains (.93) (.80) (1.38) (1.00) (.40) -- --
----------------------------------------------------------------------------------
Total distributions (1.02) (.86) (1.39) (1.02) (.44) (.09) --
-------------------------------------------------------------------------------
Net asset value, end of year $25.93 $18.96 $19.75 $14.90 $12.75 $10.22 $9.58
===================================================================================
Total return* 43.09% 0.14% 44.06% 27.05% 29.26% 7.66% (19.96)%**
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) $3,957,972 $1,071,352 $444,912 $63,010 $23,915 $6,026 $1,268
Ratios to average net assets:
Expenses .89% .92% .97% .69% .30% -- --
Expenses excluding waiver and
payments by affiliate .89% .92% 1.00% 1.16% 1.58% 1.95% 1.74%**
Net investment income .32% .10% .09% .25% .24% .84% 2.45%
Portfolio turnover rate 42.97% 55.27% 87.92% 104.84% 89.60% 63.15% 2.41%
Average commission rate paid*** $.0535 $.0499 $.0505 -- -- -- --
</TABLE>
<TABLE>
<CAPTION>
CLASS II
YEAR ENDED APRIL 30,
<S> <C> <C> <C>
1998 1997 19962
- ------------------------------------------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year.................. $18.78 $19.66 $17.94
---------------------------------------
Income from investment operations:
Net investment income (loss)....................... (.02) (.05) (.03)
Net realized and unrealized gains (losses) ........ 7.76 (.03) 2.71
-------------------------------------
Total from investment operations.................... 7.74 (.08) 2.68
-------------------------------------
Less distributions from:
Net realized gains................................. (.93) (.80) (.96)
--------------------------------------
Total distributions ................................ (.93) (.80) (.96)
--------------------------------------
Net asset value, end of year........................ $25.59 $18.78 $19.66
=======================================
Total return*....................................... 42.06% (.65%) 15.98%
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) .................... $731,707 $146,164 $24,102
Ratios to average net assets:
Expenses........................................... 1.64% 1.69% 1.76%**
Net investment loss ............................... (.42%) (.70%) (.69%)**
Portfolio turnover rate ............................ 42.97% 55.27% 87.92%
Average commission rate paid***..................... $.0535 $.0499 $.0505
</TABLE>
1For the period February 14, 1992 (effective date) to April 30, 1992.
2For the period October 1, 1995 (effective date) to April 30, 1996.
*Total return does not reflect sales commissions or the Contingent Deferred
Sales Charge, and is not annualized. Prior to May 1, 1994, dividends from net
investment income were reinvested at the Offering Price.
**Annualized.
***Relates to purchases and sales of equity securities. Prior to fiscal year end
1996 disclosure of average commission rate was not required.
HOW DOES THE FUND INVEST ITS ASSETS?
WHAT IS THE FUND'S GOAL?
The investment goal of the fund is long-term capital growth. This goal is
fundamental, which means that it may not be changed without shareholder
approval.
WHAT KINDS OF SECURITIES DOES THE FUND BUY?
The fund tries to achieve its investment goal by investing primarily in equity
securities of small capitalization growth companies.
The fund may also invest up to 35% (measured at the time of purchase) of its
total assets in any combination of
o equity securities of larger capitalization companies which Advisers
believes have strong growth potential, and
o relatively well-known, larger companies in mature industries which Advisers
believes have the potential for capital appreciation,
if the investment presents a favorable investment opportunity consistent with
the fund's investment goal.
The fund may invest up to 5% of its total assets in corporate debt securities
that Advisers believes have the potential for capital appreciation as a result
of improvement in the creditworthiness of the issuer. The receipt of income from
debt securities is incidental to the fund's investment goal of capital growth.
EQUITY SECURITIES generally entitle the holder to participate in a company's
general operating results. These include common stock, preferred stock,
convertible securities, or warrants.
DEBT SECURITIES represent an obligation of the issuer to repay a loan of money
to it, and generally provide for the payment of interest. These include bonds,
notes, and debentures.
The fund may buy both rated and unrated debt securities. Independent rating
organizations rate debt securities based upon their assessment of the financial
soundness of the issuer. Generally, a lower rating indicates higher risk. The
fund will invest in securities rated B or above by Moody's or S&P, or in unrated
securities of comparable quality. The fund will not invest more than 5% of its
total assets in non-investment grade securities (rated lower than BBB by S&P or
Baa by Moody's). Please see the SAI for more details on the risks associated
with lower-rated securities.
SMALL COMPANIES. Under normal market conditions, the fund will invest at least
65% of its total assets in equity securities of small capitalization growth
companies. In general, companies in which the fund will invest have a market
capitalization of less than $1 billion at the time of the fund's investment.
Market capitalization is the total market value of a company's outstanding
common stock. The securities of small capitalization companies are traded on the
NYSE and American Stock Exchange and in the over-the-counter market.
In selecting these securities for the fund's portfolio, Advisers identifies
companies with relatively small market capitalization that Advisers believes are
positioned for rapid growth in revenues or earnings and assets. Advisers
believes that the securities of such companies may experience significant
capital appreciation. Small companies often pay no dividends, and current income
is not a factor in the selection of stocks.
The fund seeks to invest at least one third of its assets in companies with a
market capitalization of $550 million or less, but there is no assurance that it
will always be able to find suitable companies in this market capitalization
range.
The fund tries to provide investors with potentially greater long-term rewards
by investing in securities of small companies that may offer greater potential
for capital appreciation. Advisers will select small company equity securities
for the fund based on the financial strength of the company, the expertise of
management, the growth potential of the company within its industry, and the
growth potential of the industry itself.
FOREIGN SECURITIES AND DEPOSITARY RECEIPTS. The fund may invest up to 25% of its
total assets in foreign securities, including those of developing or undeveloped
markets, and sponsored or unsponsored American, European, and Global Depositary
Receipts. The fund currently intends to limit its investments in foreign
securities to 10% of its total assets. Depositary Receipts are certificates
typically issued by a bank or trust company that give their holders the right to
receive securities issued by a foreign or domestic corporation.
GENERAL. The fund may invest up to 10% of its total assets in real estate
investment trusts ("REITs"). The fund may invest in any industry, although it
will not concentrate (invest more than 25% of its total assets) in any one
industry. The fund will not invest in securities issued without stock
certificates or comparable stock documents. The fund may not invest more than
10% of its net assets in securities of issuers with less than three years
continuous operation.
Please see the SAI for more details on the types of securities in which the fund
invests.
WHAT ARE SOME OF THE FUND'S OTHER INVESTMENT STRATEGIES AND PRACTICES?
TEMPORARY INVESTMENTS. The fund may invest its cash temporarily in short-term
debt instruments, including U.S. government securities, CDs, high-grade
commercial paper, repurchase agreements, and other money market equivalents, and
the shares of money market funds managed by Advisers that invest primarily in
short-term debt securities. The fund will only make these temporary investments
with cash it holds to maintain liquidity or pending investment. In the event of
a general decline in the market prices of stocks in which the fund invests, or
when Advisers anticipates such a decline, the fund may invest its portfolio in a
temporary defensive manner. Under such circumstances, the fund may invest up to
100% of its assets in short-term debt instruments.
REPURCHASE AGREEMENTS. The fund will generally have a portion of its assets in
cash or cash equivalents for a variety of reasons including waiting for a
special investment opportunity or taking a defensive position. To earn income on
this portion of its assets, the fund may enter into repurchase agreements with
certain banks and broker-dealers. Under a repurchase agreement, the fund agrees
to buy a U.S. government security from one of these issuers and then to sell the
security back to the issuer after a short period of time (generally, less than
seven days) at a higher price. The bank or broker-dealer must transfer to the
fund's custodian securities with an initial value of at least 102% of the dollar
amount invested by the fund in each repurchase agreement.
The fund may also enter into reverse repurchase agreements. Under a reverse
repurchase agreement, the fund agrees to sell a security in its portfolio and
then to repurchase the security at an agreed-upon price, date, and interest
payment. The fund will maintain cash or high-grade liquid debt securities with a
value equal to the value of the fund's obligation under the agreement, including
accrued interest, in a segregated account with the fund's custodian bank. The
securities subject to the reverse repurchase agreement will be marked-to-market
daily.
OPTIONS AND FUTURES. The fund may write (sell) covered put and call options and
buy put and call options on securities and securities indices that trade on
securities exchanges and in the over-the-counter market. An option on a security
is a contract that allows the buyer of the option the right to buy or sell a
specific security at a stated price during the option's term. An option on a
securities index is a contract that allows the buyer of the option the right to
receive from the seller cash in an amount equal to the difference between the
index's closing price and the option's exercise price. The fund will not engage
in any stock options or stock index options if the premiums it paid for such
options exceed 5% of its total assets.
The fund may buy and sell futures and options on futures with respect to
securities, indices, and currencies. The fund may also sell futures and options
to "close out" futures and options it has purchased, and it may buy futures and
options to "close out" futures and options it has sold. The fund will not enter
into any futures contracts or related options (except for closing transactions)
if, immediately afterwards, its initial deposits and premiums on open contracts
and options would exceed 5% of its total assets (at current value).
Options, futures and options on futures are generally considered "derivative
securities."
SECURITIES LENDING. To generate additional income, the fund may lend its
portfolio securities to qualified securities dealers or other institutional
investors. Such loans may not exceed 20% of the value of the fund's total assets
measured at the time of the most recent loan. For each loan, the borrower must
maintain collateral with the fund's custodian with a value at least equal to
100% of the current market value of the loaned securities.
CONVERTIBLE SECURITIES. The fund may invest in convertible securities, including
enhanced convertible securities. A convertible security generally is a preferred
stock or debt security that pays dividends or interest and may be converted into
common stock.
BORROWING. As a fundamental policy, the fund does not borrow money or mortgage
or pledge any of its assets, except that the fund may enter into reverse
repurchase agreements or borrow from banks up to 10% of its total asset value to
meet redemption requests and for other temporary or emergency purposes. The fund
will not make any additional investments while borrowings exceed 5% of its total
assets.
ILLIQUID INVESTMENTS. The fund's policy is not to invest more than 10% of its
net assets in illiquid securities. Illiquid securities are generally securities
that cannot be sold within seven days in the normal course of business at
approximately the amount at which the fund has valued them.
OTHER POLICIES AND RESTRICTIONS. The fund has a number of additional investment
policies and restrictions that govern its activities. Those that are identified
as "fundamental" may only be changed with shareholder approval. The others may
be changed by the Board alone. For a list of these restrictions and more
information about the fund's investment policies, including those described
above, please see "How Does the Fund Invest Its Assets?" and "Investment
Restrictions" in the SAI.
Generally, the policies and restrictions discussed in this prospectus and in the
SAI apply when the fund makes an investment. In most cases, the fund is not
required to sell a security because circumstances change and the security no
longer meets one or more of the fund's policies or restrictions.
TAX CONSIDERATIONS. The fund's investments in options, futures, foreign
securities and other complex securities are subject to special tax rules that
may affect the amount, timing or character of the income earned by the fund and
distributed to you. The fund may also be subject to withholding taxes on
earnings from certain of its foreign securities. These special tax rules are
discussed in the "Additional Information on Distributions and Taxes" section of
the SAI.
WHAT ARE THE RISKS OF INVESTING IN THE FUND?
There is no assurance that the fund will meet its investment goal.
The value of your shares will increase as the value of the securities owned by
the fund increases and will decrease as the value of the fund's investments
decrease. In this way, you participate in any change in the value of the
securities owned by the fund. In addition to the factors that affect the value
of any particular security that the fund owns, the value of fund shares may also
change with movements in the stock market as a whole.
SMALLER COMPANIES RISK. Historically, smaller companies have been more volatile
in price than larger company securities, especially over the short term. Among
the reasons for the greater price volatility are the less certain growth
prospects of smaller companies, the lower degree of liquidity in the markets for
such securities, and the greater sensitivity of smaller companies to changing
economic conditions.
In addition, smaller companies may lack depth of management, they may be unable
to generate funds necessary for growth or development, they may be developing or
marketing new products or services for which markets are not yet established and
may never become established, or their products or services may become quickly
obsolete. In particular, smaller companies in the technology and biotechnology
industries may be subject to abrupt or erratic price movements.
Therefore, while smaller companies may offer greater opportunities for capital
growth than larger, more established companies, they also involve greater risks
and should be considered speculative.
GROWTH STOCKS RISK. The prices of growth stocks are based largely on projections
of the issuer's future earnings and revenues. If a company's earnings or
revenues fall short of expectations, its stock price may fall dramatically.
Because the fund invests in growth stocks, its share price may be more volatile
than other types of investments.
FOREIGN SECURITIES RISK. The value of foreign (and U.S.) securities is affected
by general economic conditions and individual company and industry earnings
prospects. While foreign securities may offer significant opportunities for
gain, they also involve additional risks that can increase the potential for
losses in the fund. These risks can be significantly greater for investments in
emerging markets. Investments in Depositary Receipts also involve some or all of
the risks described below.
The political, economic and social structures of some countries in which the
fund invests may be less stable and more volatile than those in the U.S. The
risks of investing in these countries include the possibility of the imposition
of exchange controls, expropriation, restrictions on removal of currency or
other assets, nationalization of assets, and punitive taxes.
There may be less publicly available information about a foreign company or
government than about a U.S. company or public entity. Certain countries'
financial markets and services are less developed than those in the U.S. or
other major economies. As a result, they may not have uniform accounting,
auditing, and financial reporting standards and may have less government
supervision of financial markets. Foreign securities markets may have
substantially lower trading volumes than U.S. markets, resulting in less
liquidity and more volatility than experienced in the U.S. Transaction costs on
foreign securities markets are generally higher than in the U.S. The settlement
practices may be cumbersome and result in delays that may affect portfolio
liquidity. The fund may have greater difficulty voting proxies, exercising
shareholder rights, pursuing legal remedies, and obtaining judgments with
respect to foreign investments in foreign courts than with respect to domestic
issuers in U.S. courts.
Some of the countries in which the fund may invest are considered developing or
emerging markets. Investments in these markets are subject to all of the risks
of foreign investing generally, and have additional and heightened risks due to
a lack of legal, business and social frameworks to support securities markets.
Emerging markets involve additional significant risks, including political and
social uncertainty (for example, regional conflicts and risk of war), currency
exchange rate volatility, pervasiveness of corruption and crime, delays in
settling portfolio transactions, and risk of loss arising out of the system of
share registration and custody.
On July 1, 1997, Hong Kong reverted to the sovereignty of China. As with any
major political transfer of power, this could result in political, social,
economic, market, or other developments in Hong Kong, China, or other countries
that could affect the value of fund investments.
REITS RISK. REITs are subject to risks related to the skill of their management,
changes in value of the properties the REITs own, the quality of any credit
extended by the REITs, and general economic and other factors.
DERIVATIVE SECURITIES RISK. Derivative investments are those whose values are
dependent upon the performance of one or more other securities or investments or
indices; in contrast to common stock, for example, whose value is dependent upon
the operations of the issuer. Option transactions and futures contracts are
considered derivative investments. To the extent the fund enters into these
transactions, their success will depend upon Advisers' ability to predict
pertinent market movements.
CONVERTIBLE SECURITIES RISK. A convertible security has risk characteristics of
both equity and debt securities. Its value may rise and fall with the market
value of the underlying stock or, like a debt security, vary with changes in
interest rates and the credit quality of the issuer. A convertible security
tends to perform more like a stock when the underlying stock price is high
(because it is assumed it will be converted) and more like a debt security when
the underlying stock price is low (because it is assumed it will not be
converted). Because its value can be influenced by many different factors, a
convertible security is not as sensitive to interest rate changes as a similar
non-convertible debt security, and generally has less potential for gain or loss
than the underlying stock.
The fund's investments in enhanced convertible securities may involve additional
risks. Some of these securities may be less liquid than other securities in the
fund's portfolio. As a result, the fund may have difficulty selling such a
security at an advantageous time and price. Reduced liquidity in the secondary
market for certain securities may also make it more difficult for the fund to
obtain market quotations based on actual trades for purposes of valuing the
fund's portfolio. The fund intends to buy liquid securities, although there can
be no assurance that the fund will always be able to do so.
MARKET AND CURRENCY RISK. If there is a general market decline in any country
where the fund is invested, the fund's share price may also decline. Changes in
currency valuations will also affect the value of what the fund owns, and thus
the price of fund shares. The value of stock markets and currency valuations
throughout the world have increased and decreased in the past.
These changes are unpredictable.
WHO MANAGES THE FUND?
THE BOARD. The Board oversees the management of the fund and elects its
officers. The officers are responsible for the fund's day-to-day operations. The
Board also monitors the fund to ensure no material conflicts exist among the
fund's classes of shares. While none is expected, the Board will act
appropriately to resolve any material conflict that may arise.
INVESTMENT MANAGER. Advisers manages the fund's assets and makes its
investment decisions. Advisers also performs similar services for other
funds. It is wholly owned by Resources, a publicly owned company engaged in
the financial services industry through its subsidiaries. Charles B. Johnson
and Rupert H. Johnson, Jr. are the principal shareholders of Resources.
Together, Advisers and its affiliates manage over $236 billion in assets.
Please see "Investment Management and Other Services" and "Miscellaneous
Information" in the SAI for information on securities transactions and a
summary of the fund's Code of Ethics.
MANAGEMENT TEAM. The team responsible for the day-to-day management of the
fund's portfolio is: Mr. Jamieson since inception and Mr. McCarthy since 1993.
Edward B. Jamieson
Executive Vice President of Advisers
Mr. Jamieson holds a Master's degree in Accounting and Finance from the
University of Chicago Graduate School of Business and a Bachelor of Arts degree
from Bucknell University. He has been with the Franklin Templeton Group since
1987.
Michael McCarthy
Vice President of Advisers
Mr. McCarthy holds a Bachelor of Arts degree in History from the University
of California at Los Angeles. He has been with the Franklin Templeton Group
since 1992.
MANAGEMENT FEES. During the fiscal year ended April 30, 1998, management fees
totaling 0.46% of the average daily net assets of the fund were paid to
Advisers. Total expenses, including fees paid to Advisers, were 0.89% for Class
I and 1.64% for Class II.
PORTFOLIO TRANSACTIONS. Advisers tries to obtain the best execution on all
transactions. If Advisers believes more than one broker or dealer can provide
the best execution, it may consider research and related services and the sale
of fund shares, as well as shares of other funds in the Franklin Templeton Group
of Funds, when selecting a broker or dealer. Please see "How Does the Fund Buy
Securities for Its Portfolio?" in the SAI for more information.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services provides
certain administrative services and facilities for the fund. During the fiscal
year ended April 30, 1998, administration fees totaling 0.09% of the average
daily net assets of the fund were paid to FT Services. These fees are paid by
Advisers. They are not a separate expense of the fund. Please see "Investment
Management and Other Services" in the SAI for more information.
YEAR 2000 ISSUE. Like other mutual funds, the fund could be adversely affected
if the computer systems used by Advisers and other service providers do not
properly process date-related information on or after January 1, 2000 ("Year
2000 Issue"). The Year 2000 Issue, and in particular foreign service providers'
responsiveness to the issue, could affect portfolio and operational areas
including securities trade processing, interest and dividend payments,
securities pricing, shareholder account services, reporting, custody functions,
and others. While there can be no assurance that the fund will not be adversely
affected, Advisers and its affiliated service providers are taking steps that
they believe are reasonably designed to address the Year 2000 Issue, including
seeking reasonable assurances from the fund's other major service providers.
THE RULE 12B-1 PLANS
Class I and Class II have separate distribution plans or "Rule 12b-1 Plans"
under which they may pay or reimburse Distributors or others for the expenses of
activities that are primarily intended to sell shares of the class. These
expenses may include, among others, distribution or service fees paid to
Securities Dealers or others who have executed a servicing agreement with the
fund, Distributors or its affiliates; a prorated portion of Distributors'
overhead expenses; and the expenses of printing prospectuses and reports used
for sales purposes, and preparing and distributing sales literature and
advertisements.
Payments by the fund under the Class I plan may not exceed 0.25% per year of
Class I's average daily net assets. All distribution expenses over this amount
will be borne by those who have incurred them. During the first year after
certain Class I purchases made without a sales charge, Securities Dealers may
not be eligible to receive the Rule 12b-1 fees associated with the purchase.
Under the Class II plan, the fund may pay Distributors up to 0.75% per year of
Class II's average daily net assets to pay Distributors or others for providing
distribution and related services and bearing certain Class II expenses. All
distribution expenses over this amount will be borne by those who have incurred
them. During the first year after a purchase of Class II shares, Securities
Dealers may not be eligible to receive this portion of the Rule 12b-1 fees
associated with the purchase.
The fund may also pay a servicing fee of up to 0.25% per year of Class II's
average daily net assets under the Class II plan. This fee may be used to pay
Securities Dealers or others for, among other things, helping to establish and
maintain customer accounts and records, helping with requests to buy and sell
shares, receiving and answering correspondence, monitoring dividend payments
from the fund on behalf of customers, and similar servicing and account
maintenance activities.
The Rule 12b-1 fees charged to each class are based only on the fees
attributable to that particular class. For more information, please see "The
Fund's Underwriter" in the SAI.
HOW TAXATION AFFECTS THE FUND AND ITS SHAREHOLDERS
- --------------------------------------------------------------------------------
TAXATION OF THE FUND'S INVESTMENTS How Does the Fund Earn Income and
Gains?
The fund invests your money in the
stocks, bonds and other securities The fund earns dividends and interest
that are described in the section "How (the fund's "income") on its
Does the Fund Invest Its Assets?" investments. When the fund sells a
Special tax rules may apply in security for a price that is higher
determining the income and gains that than it paid, it has a gain. When the
the fund earns on its investments. fund sells a security for a price that
These rules may, in turn, affect the is lower than it paid, it has a loss.
amount of distributions that the fund If the fund has held the security for
pays to you. These special tax rules more than one year, the gain or loss
are discussed in the SAI. will be a long-term capital gain or
loss. If the fund has held the
TAXATION OF THE FUND. As a regulated security for one year or less, the
investment company, the fund generally gain or loss will be a short-term
pays no federal income tax on the capital gain or loss. The fund's gains
income and gains that it distributes and losses are netted together, and,
to you. if the fund has a net gain (the fund's
"gains"), that gain will generally be
FOREIGN TAXES. Foreign governments may distributed to you.
impose taxes on the income and gains
from the fund's investments in foreign
securities. These taxes will reduce
the amount of the fund's distributions
to you.
----------------------------------------
TAXATION OF SHAREHOLDERS WHAT IS A DISTRIBUTION?
Distributions. Distributions from the As a shareholder, you will receive
fund, whether you receive them in cash your share of the fund's income and
or in additional shares, are generally gains on its investments in stocks and
subject to income tax. The fund will other securities. The fund's income
send you a statement in January of the and short-term capital gains are paid
current year that reflects the amount to you as ordinary dividends. The
of ordinary dividends, capital gain fund's long-term capital gains are
distributions and non-taxable paid to you as capital gain
distributions you received from the distributions. If the fund pays you an
fund in the prior year. This statement amount in excess of its income and
will include distributions declared in gains, this excess will generally be
December and paid to you in January of treated as a non-taxable distribution.
the current year, but which are These amounts, taken together, are
taxable as if paid on December 31 of what we call the fund's distributions
the prior year. The IRS requires you to you.
to report these amounts on your income
tax return for the prior year.
----------------------------------------
DISTRIBUTIONS TO RETIREMENT PLANS. Fund distributions received by your qualified
retirement plan, such as a 401(k) plan or IRA, are generally tax-deferred; this
means that you are not required to report fund distributions on your income tax
return when paid to your plan, but, rather, when your plan makes payments to
you. Special rules apply to payouts from Roth and Education IRAs.
DIVIDENDS-RECEIVED DEDUCTION. Corporate investors may be entitled to a
dividends-received deduction on a portion of the ordinary dividends they
receive from the fund.
----------------------------------------
REDEMPTIONS AND EXCHANGES. If you WHAT IS A REDEMPTION?
redeem your shares or if you exchange
your shares in the fund for shares in A redemption is a sale by you to the
another Franklin Templeton Fund, you fund of some or all of your shares in
will generally have a gain or loss the fund. The price per share you
that the IRS requires you to report on receive when you redeem fund shares
your income tax return. If you may be more or less than the price at
exchange fund shares held for 90 days which you purchased those shares. An
or less and pay no sales charge, or a exchange of shares in the fund for
reduced sales charge, for the new shares of another Franklin Templeton
shares, all or a portion of the sales Fund is treated as a redemption of
charge you paid on the purchase of the fund shares and then a purchase of
shares you exchanged is not included shares of the other fund. When you
in their cost for purposes of redeem or exchange your shares, you
computing gain or loss on the will generally have a gain or loss,
exchange. If you hold your shares for depending upon whether the amount you
six months or less, any loss you have receive for your shares is more or
will be treated as a long-term capital less than your cost or other basis in
loss to the extent of any capital gain the shares. Call Fund Information for
distributions received by you from the a free shareholder Tax Information
fund. All or a portion of any loss on Handbook if you need more information
the redemption or exchange of your in calculating the gain or loss on the
shares will be disallowed by the IRS redemption or exchange of your shares.
if you purchase other shares in the
fund within 30 days before or after your
redemption or exchange.
----------------------------------------
U.S. GOVERNMENT INTEREST. Many states grant tax-free status to dividends paid
from interest earned on direct obligations of the U.S. Government, subject to
certain restrictions. The fund will provide you with information at the end of
each calendar year on the amount of such dividends that may qualify for
exemption from reporting on your individual income tax returns.
NON-U.S. INVESTORS. Ordinary dividends generally will be subject to U.S.
income tax withholding. Your home country may also tax ordinary dividends,
capital gain distributions and gains arising from redemptions or exchanges of
your fund shares. Fund shares held by the estate of a non-U.S. investor may
be subject to U.S. estate tax. You may wish to contact your tax advisor to
determine the U.S. and non-U.S. tax consequences of your investment in the
fund.
STATE TAXES. Ordinary dividends and capital gain distributions that you receive
from the fund, and gains arising from redemptions or exchanges of your fund
shares will generally be subject to state and local income tax. The holding of
fund shares may also be subject to state and local intangibles taxes. You may
wish to contact your tax advisor to determine the state and local tax
consequences of your investment in the fund.
----------------------------------------
BACKUP WITHHOLDING. When you open an WHAT IS A BACKUP WITHHOLDING?
account, IRS regulations require that
you provide your taxpayer Backup withholding occurs when the
identification number ("TIN"), certify fund is required to withhold and pay
that it is correct, and certify that over to the IRS 31% of your
you are not subject to backup distributions and redemption proceeds.
withholding under IRS rules. If you You can avoid backup withholding by
fail to provide a correct TIN or the providing the fund with your TIN, and
proper tax certifications, the fund is by completing the tax certifications
required to withhold 31% of all the on your shareholder application that
distributions (including ordinary you were asked to sign when you opened
dividends and capital gain your account. However, if the IRS
distributions), and redemption instructs the fund to begin backup
proceeds paid to you. The fund is also withholding, it is required to do so
required to begin backup withholding even if you provided the fund with
on your account if the IRS instructs your TIN and these tax certifications,
the fund to do so. The fund reserves and backup withholding will remain in
the right not to open your account, place until the fund is instructed by
or, alternatively, to redeem your the IRS that it is no longer required.
shares at the current Net Asset Value,
less any taxes withheld, if you fail
to provide a correct TIN, fail to
provide the proper tax certifications,
or the IRS instructs the fund to begin
backup withholding on your account.
----------------------------------------
THIS TAX DISCUSSION IS FOR GENERAL INFORMATION ONLY. PROSPECTIVE INVESTORS
SHOULD CONSULT THEIR OWN TAX ADVISORS CONCERNING THE FEDERAL, STATE, LOCAL OR
FOREIGN TAX CONSEQUENCES OF AN INVESTMENT IN THE FUND. A MORE COMPLETE
DISCUSSION OF THESE RULES AND RELATED MATTERS IS CONTAINED IN THE SECTION
ENTITLED "ADDITIONAL INFORMATION ON DISTRIBUTIONS AND TAXES" IN THE SAI. THE TAX
TREATMENT TO YOU OF DIVIDENDS, CAPITAL GAIN DISTRIBUTIONS, FOREIGN TAXES PAID
AND INCOME TAXES WITHHELD IS ALSO DISCUSSED IN A FREE FRANKLIN TEMPLETON TAX
INFORMATION HANDBOOK, WHICH YOU MAY REQUEST BY CONTACTING FUND INFORMATION.
HOW IS THE TRUST ORGANIZED?
The fund is a diversified series of Franklin Strategic Series (the "Trust"), an
open-end management investment company, commonly called a mutual fund. It was
organized as a Delaware business trust on January 25, 1991, and is registered
with the SEC. As of January 2, 1997, the fund began offering a new class of
shares designated Franklin Small Cap Growth Fund - Advisor Class. All shares
outstanding before the offering of Advisor Class shares have been designated
Franklin Small Cap Growth Fund - Class I and Franklin Small Cap Growth Fund -
Class II. Additional series and classes of shares may be offered in the future.
Shares of each class represent proportionate interests in the assets of the fund
and have the same voting and other rights and preferences as any other class of
the fund for matters that affect the fund as a whole. For matters that only
affect one class, however, only shareholders of that class may vote. Each class
will vote separately on matters affecting only that class, or expressly required
to be voted on separately by state or federal law. Shares of each class of a
series have the same voting and other rights and preferences as the other
classes and series of the Trust for matters that affect the Trust as a whole.
The Trust has noncumulative voting rights. This gives holders of more than 50%
of the shares voting the ability to elect all of the members of the Board. If
this happens, holders of the remaining shares voting will not be able to elect
anyone to the Board.
The Trust does not intend to hold annual shareholder meetings. The Trust or a
series of the Trust may hold special meetings, however, for matters requiring
shareholder approval. A meeting may also be called by the Board in its
discretion or by shareholders holding at least 10% of the outstanding shares. In
certain circumstances, we are required to help you communicate with other
shareholders about the removal of a Board member.
ABOUT YOUR ACCOUNT
HOW DO I BUY SHARES?
OPENING YOUR ACCOUNT
To open your account, please follow the steps below. This will help avoid any
delays in processing your request. PLEASE KEEP IN MIND THAT THE FUND DOES NOT
CURRENTLY ALLOW INVESTMENTS BY MARKET TIMERS.
1. Read this prospectus carefully.
2. Determine how much you would like to invest. The fund's minimum investments
are:
o To open a regular, non-retirement account................... $1,000
o To open an IRA, IRA Rollover, Roth IRA, or Education IRA.... $ 250*
o To open a custodial account for a minor
(an UGMA/UTMA account)...................................... $ 100
o To open an account with an automatic investment plan........ $ 50**
o To add to an account........................................ $ 50***
*For all other retirement accounts, there is no minimum investment
requirement.
**$25 for an Education IRA.
***For all retirement accounts except IRAs, IRA Rollovers, Roth IRAs, or
Education IRAs, there is no minimum to add to an account.
We reserve the right to change the amount of these minimums from time to time or
to waive or lower these minimums for certain purchases. We also reserve the
right to refuse any order to buy shares.
3. Carefully complete and sign the enclosed shareholder application, including
the optional shareholder privileges section. By applying for privileges now,
you can avoid the delay and inconvenience of having to send an additional
application to add privileges later. PLEASE ALSO INDICATE WHICH CLASS OF
SHARES YOU WANT TO BUY. IF YOU DO NOT SPECIFY A CLASS, WE WILL AUTOMATICALLY
INVEST YOUR PURCHASE IN CLASS I SHARES. It is important that we receive a
signed application since we will not be able to process any redemptions from
your account until we receive your signed application.
4. Make your investment using the table below.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL For an initial investment:
Return the application to the fund with your check
made payable to the fund.
For additional investments:
Send a check made payable to the fund. Please include
your account number on the check.
- ------------------------------------------------------------------------------
BY WIRE 1. Call Shareholder Services or, if that number is
busy, call 1-650/312-2000 collect, to receive a
wire control number and wire instructions. You
need a new wire control number every time you
wire money into your account. If you do not have
a currently effective wire control number, we
will return the money to the bank, and we will
not credit the purchase to your account.
2. For an initial investment you must also return your
signed shareholder application to the fund.
IMPORTANT DEADLINES: If we receive your call before
1:00 p.m. Pacific time and the bank receives the wired
funds and reports the receipt of wired funds to the
fund by 3:00 p.m. Pacific time, we will credit the
purchase to your account that day. If we receive your
call after 1:00 p.m. or the bank receives the wire
after 3:00 p.m., we will credit the purchase to your
account the following business day.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
CHOOSING A SHARE CLASS
Each class has its own sales charge and expense structure, allowing you to
choose the class that best meets your situation. The class that may be best for
you depends on a number of factors, including the amount and length of time you
expect to invest. Generally, Class I shares may be more attractive for long-term
investors or investors who qualify to buy Class I shares at a reduced sales
charge. Your financial representative can help you decide.
- --------------------------------------------------------------------------------
CLASS I CLASS II
o Higher front-end sales charges than o Lower front-end sales charges than
Class II shares. There are several Class I shares
ways to reduce these charges, as
described below. There is no
front-end sales charge for purchases
of $1 million or more.*
o Contingent Deferred Sales Charge on o Contingent Deferred Sales Charge on
purchases of $1 million or more purchases sold within 18 months
sold within one year
o Lower annual expenses than Class II o Higher annual expenses than Class I
shares shares
- --------------------------------------------------------------------------------
*If you are investing $1 million or more, it is generally more beneficial for
you to buy Class I shares because there is no front-end sales charge and the
annual expenses are lower. Therefore, ANY PURCHASE OF $1 MILLION OR MORE IS
AUTOMATICALLY INVESTED IN CLASS I SHARES. You may accumulate more than $1
million in Class II shares through purchases over time. If you plan to do
this, however, you should determine if it would be better for you to buy Class
I shares through a Letter of Intent.
PURCHASE PRICE OF FUND SHARES
For Class I shares, the sales charge you pay depends on the dollar amount you
invest, as shown in the table below. The sales charge for Class II shares is 1%
and, unlike Class I, does not vary based on the size of your purchase.
TOTAL SALES CHARGE AMOUNT PAID
AS A PERCENTAGE OF TO DEALER AS A
AMOUNT OF PURCHASE OFFERING NET AMOUNT PERCENTAGE OF
AT OFFERING PRICE PRICE INVESTED OFFERING PRICE
CLASS I
Under $50,000..................... 5.75% 6.10% 5.00%
$50,000 but less than $100,000.... 4.50% 4.71% 3.75%
$100,000 but less than $250,000... 3.50% 3.63% 2.80%
$250,000 but less than $500,000... 2.50% 2.56% 2.00%
$500,000 but less than $1,000,000. 2.00% 2.04% 1.60%
$1,000,000 or more*............... None None None
CLASS II
Under $1,000,000*................. 1.00% 1.01% 1.00%
*A Contingent Deferred Sales Charge of 1% may apply to Class I purchases of $1
million or more and any Class II purchase. Please see "How Do I Sell Shares? -
Contingent Deferred Sales Charge." Please also see "Other Payments to Securities
Dealers" below for a discussion of payments Distributors may make out of its own
resources to Securities Dealers for certain purchases. Purchases of Class II
shares are limited to purchases below $1 million.
Please see "Choosing a Share Class."
SALES CHARGE REDUCTIONS AND WAIVERS
- - IF YOU QUALIFY TO BUY SHARES UNDER ONE OF THE SALES CHARGE REDUCTION OR
WAIVER CATEGORIES DESCRIBED BELOW, PLEASE INCLUDE A WRITTEN STATEMENT WITH
EACH PURCHASE ORDER EXPLAINING WHICH PRIVILEGE APPLIES. If you don't include
this statement, we cannot guarantee that you will receive the sales charge
reduction or waiver.
CUMULATIVE QUANTITY DISCOUNTS - CLASS I ONLY. To determine if you may pay a
reduced sales charge, the amount of your current Class I purchase is added to
the cost or current value, whichever is higher, of your existing shares in the
Franklin Templeton Funds, as well as those of your spouse, children under the
age of 21 and grandchildren under the age of 21. If you are the sole owner of a
company, you may also add any company accounts, including retirement plan
accounts. Companies with one or more retirement plans may add together the total
plan assets invested in the Franklin Templeton Funds to determine the sales
charge that applies.
LETTER OF INTENT - CLASS I ONLY. You may buy Class I shares at a reduced sales
charge by completing the Letter of Intent section of the shareholder
application. A Letter of Intent is a commitment by you to invest a specified
dollar amount during a 13 month period. The amount you agree to invest
determines the sales charge you pay on Class I shares.
BY COMPLETING THE LETTER OF INTENT SECTION OF THE SHAREHOLDER APPLICATION, YOU
ACKNOWLEDGE AND AGREE TO THE FOLLOWING:
o You authorize Distributors to reserve 5% of your total intended purchase in
Class I shares registered in your name until you fulfill your Letter.
o You give Distributors a security interest in the reserved shares and appoint
Distributors as attorney-in-fact.
o Distributors may sell any or all of the reserved shares to cover any
additional sales charge if you do not fulfill the terms of the Letter.
o Although you may exchange your shares, you may not sell reserved shares until
you complete the Letter or pay the higher sales charge.
Your periodic statements will include the reserved shares in the total shares
you own. We will pay or reinvest dividend and capital gain distributions on the
reserved shares as you direct. Our policy of reserving shares does not apply to
certain retirement plans.
If you would like more information about the Letter of Intent privilege, please
see "How Do I Buy, Sell and Exchange Shares? - Letter of Intent" in the SAI or
call Shareholder Services.
GROUP PURCHASES - CLASS I ONLY. If you are a member of a qualified group, you
may buy Class I shares at a reduced sales charge that applies to the group as a
whole. The sales charge is based on the combined dollar value of the group
members' existing investments, plus the amount of the current purchase.
A qualified group is one that:
o Was formed at least six months ago,
o Has a purpose other than buying fund shares at a discount,
o Has more than 10 members,
o Can arrange for meetings between our representatives and group members,
o Agrees to include Franklin Templeton Fund sales and other materials in
publications and mailings to its members at reduced or no cost to
Distributors,
o Agrees to arrange for payroll deduction or other bulk transmission of
investments to the fund, and
o Meets other uniform criteria that allow Distributors to achieve cost savings
in distributing shares.
A qualified group does not include a 403(b) plan that only allows salary
deferral contributions. 403(b) plans that only allow salary deferral
contributions and that purchased Class I shares of the fund at a reduced sales
charge under the group purchase privilege before February 1, 1998, however, may
continue to do so.
SALES CHARGE WAIVERS. If one of the following sales charge waivers applies to
you or your purchase of fund shares, you may buy shares of the fund without a
front-end sales charge or a Contingent Deferred Sales Charge. All of the sales
charge waivers listed below apply to purchases of Class I shares only, except
for items 1 and 2 which also apply to Class II purchases.
Certain distributions, payments or redemption proceeds that you receive may be
used to buy shares of the fund without a sales charge if you reinvest them
within 365 days of their payment or redemption date. They include:
1. Dividend and capital gain distributions from any Franklin Templeton Fund.
The distributions generally must be reinvested in the same class of shares.
Certain exceptions apply, however, to Class II shareholders who chose to
reinvest their distributions in Class I shares of the fund before November
17, 1997, and to Advisor Class or Class Z shareholders of a Franklin
Templeton Fund who may reinvest their distributions in Class I shares of the
fund.
2. Redemption proceeds from the sale of shares of any Franklin Templeton Fund
if you originally paid a sales charge on the shares and you reinvest the
money in the same class of shares. This waiver does not apply to exchanges.
If you paid a Contingent Deferred Sales Charge when you redeemed your
shares from a Franklin Templeton Fund, a Contingent Deferred Sales Charge
will apply to your purchase of fund shares and a new Contingency Period
will begin. We will, however, credit your fund account with additional
shares based on the Contingent Deferred Sales Charge you paid and the
amount of redemption proceeds that you reinvest.
If you immediately placed your redemption proceeds in a Franklin Bank CD,
you may reinvest them as described above. The proceeds must be reinvested
within 365 days from the date the CD matures, including any rollover.
3. Dividend or capital gain distributions from a real estate investment trust
(REIT) sponsored or advised by Franklin Properties, Inc.
4. Annuity payments received under either an annuity option or from death
benefit proceeds, only if the annuity contract offers as an investment
option the Franklin Valuemark Funds or the Templeton Variable Products
Series Fund. You should contact your tax advisor for information on any tax
consequences that may apply.
5. Redemption proceeds from a repurchase of shares of Franklin Floating Rate
Trust, if the shares were continuously held for at least 12 months.
If you immediately placed your redemption proceeds in a Franklin Bank CD or
a Franklin Templeton money fund, you may reinvest them as described above.
The proceeds must be reinvested within 365 days from the date the CD
matures, including any rollover, or the date you redeem your money fund
shares.
6. Redemption proceeds from the sale of Class A shares of any of the Templeton
Global Strategy Funds if you are a qualified investor.
If you paid a contingent deferred sales charge when you redeemed your Class
A shares from a Templeton Global Strategy Fund, a Contingent Deferred Sales
Charge will apply to your purchase of fund shares and a new Contingency
Period will begin. We will, however, credit your fund account with
additional shares based on the contingent deferred sales charge you paid
and the amount of the redemption proceeds that you reinvest.
If you immediately placed your redemption proceeds in a Franklin Templeton
money fund, you may reinvest them as described above. The proceeds must be
reinvested within 365 days from the date they are redeemed from the money
fund.
7. Distributions from an existing retirement plan invested in the Franklin
Templeton Funds
Various individuals and institutions also may buy Class I shares without a
front-end sales charge or Contingent Deferred Sales Charge, including:
1. Trust companies and bank trust departments agreeing to invest in
Franklin Templeton Funds over a 13 month period at least $1 million of
assets held in a fiduciary, agency, advisory, custodial or similar
capacity and over which the trust companies and bank trust departments
or other plan fiduciaries or participants, in the case of certain
retirement plans, have full or shared investment discretion. We will
accept orders for these accounts by mail accompanied by a check or by
telephone or other means of electronic data transfer directly from the
bank or trust company, with payment by federal funds received by the
close of business on the next business day following the order.
2. An Eligible Governmental Authority. Please consult your legal and
investment advisors to determine if an investment in the fund is
permissible and suitable for you and the effect, if any, of payments by
the fund on arbitrage rebate calculations.
3. Broker-dealers, registered investment advisors or certified financial
planners who have entered into an agreement with Distributors for clients
participating in comprehensive fee programs. The minimum initial
investment is $250.
4. Qualified registered investment advisors who buy through a broker-dealer
or service agent who has entered into an agreement with Distributors
5. Registered Securities Dealers and their affiliates, for their investment
accounts only
6. Current employees of Securities Dealers and their affiliates and their
family members, as allowed by the internal policies of their employer
7. Officers, trustees, directors and full-time employees of the Franklin
Templeton Funds or the Franklin Templeton Group, and their family members,
consistent with our then-current policies. The minimum initial investment
is $100.
8. Investment companies exchanging shares or selling assets pursuant to a
merger, acquisition or exchange offer
9. Accounts managed by the Franklin Templeton Group
10. Certain unit investment trusts and their holders reinvesting distributions
from the trusts
11. Group annuity separate accounts offered to retirement plans
12. Chilean retirement plans that meet the requirements described under
"Retirement Plans" below
RETIREMENT PLANS. Retirement plans that (i) are sponsored by an employer with at
least 100 employees, or (ii) have plan assets of $1 million or more, or (iii)
agree to invest at least $500,000 in the Franklin Templeton Funds over a 13
month period may buy Class I shares without a front-end sales charge. Retirement
plans that are not Qualified Retirement Plans, SIMPLEs or SEPs must also meet
the requirements described under "Group Purchases - Class I Only" above to be
able to buy Class I shares without a front-end sales charge. We may enter into a
special arrangement with a Securities Dealer, based on criteria established by
the fund, to add together certain small Qualified Retirement Plan accounts for
the purpose of meeting these requirements.
For retirement plan accounts opened on or after May 1, 1997, a Contingent
Deferred Sales Charge may apply if the retirement plan is transferred out of the
Franklin Templeton Funds or terminated within 365 days of the retirement plan
account's initial purchase in the Franklin Templeton Funds. Please see "How Do I
Sell Shares? - Contingent Deferred Sales Charge" for details.
HOW DO I BUY SHARES IN CONNECTION WITH RETIREMENT PLANS?
Your individual or employer-sponsored retirement plan may invest in the fund.
Plan documents are required for all retirement plans. Trust Company can provide
the plan documents for you and serve as custodian or trustee.
Trust Company can provide you with brochures containing important information
about its plans. To establish a Trust Company retirement plan, you will need an
application other than the one included in this prospectus. For a retirement
plan brochure or application, call Retirement Plan Services.
Please consult your legal, tax or retirement plan specialist before choosing a
retirement plan. Your investment representative or advisor can help you make
investment decisions within your plan.
OTHER PAYMENTS TO SECURITIES DEALERS
The payments described below may be made to Securities Dealers who initiate and
are responsible for Class II purchases and certain Class I purchases made
without a sales charge. The payments are subject to the sole discretion of
Distributors, and are paid by Distributors or one of its affiliates and not by
the fund or its shareholders.
1. Class II purchases - up to 1% of the purchase price.
2. Class I purchases of $1 million or more - up to 1% of the amount invested.
3. Class I purchases made without a front-end sales charge by certain
retirement plans described under "Sales Charge Reductions and Waivers
Retirement Plans" above - up to 1% of the amount invested.
4. Class I purchases by trust companies and bank trust departments, Eligible
Governmental Authorities, and broker-dealers or others on behalf of clients
participating in comprehensive fee programs - up to 0.25% of the amount
invested.
5. Class I purchases by Chilean retirement plans - up to 1% of the amount
invested.
A Securities Dealer may receive only one of these payments for each qualifying
purchase. Securities Dealers who receive payments in connection with investments
described in paragraphs 1, 2 or 5 above or a payment of up to 1% for investments
described in paragraph 3 will be eligible to receive the Rule 12b-1 fee
associated with the purchase starting in the thirteenth calendar month after the
purchase.
FOR BREAKPOINTS THAT MAY APPLY AND INFORMATION ON ADDITIONAL COMPENSATION
PAYABLE TO SECURITIES DEALERS IN CONNECTION WITH THE SALE OF FUND SHARES, PLEASE
SEE "HOW DO I BUY, SELL AND EXCHANGE SHARES? - OTHER PAYMENTS TO SECURITIES
DEALERS" IN THE SAI.
FOR INVESTORS OUTSIDE THE U.S.
The distribution of this prospectus and the offering of fund shares may be
limited in many jurisdictions. An investor who wishes to buy shares of the fund
should determine, or have a broker-dealer determine, the applicable laws and
regulations of the relevant jurisdiction. Investors are responsible for
compliance with tax, currency exchange or other regulations applicable to
redemption and purchase transactions in any jurisdiction to which they may be
subject. Investors should consult appropriate tax and legal advisors to obtain
information on the rules applicable to these transactions.
MAY I EXCHANGE SHARES FOR SHARES OF ANOTHER FUND?
We offer a wide variety of funds. If you would like, you can move your
investment from your fund account to an existing or new account in another
Franklin Templeton Fund (an "exchange"). Because it is technically a sale and a
purchase of shares, an exchange is a taxable transaction.
If you own Class I shares, you may exchange into any of our money funds except
Franklin Templeton Money Fund II ("Money Fund II"). Money Fund II is the only
money fund exchange option available to Class II shareholders. Unlike our other
money funds, shares of Money Fund II may not be purchased directly and no drafts
(checks) may be written on Money Fund II accounts.
Before making an exchange, please read the prospectus of the fund you are
interested in. This will help you learn about the fund, its investment goal and
policies, and its rules and requirements for exchanges. For example, some
Franklin Templeton Funds do not accept exchanges and others may have different
investment minimums. Some Franklin Templeton Funds do not offer Class II shares.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL 1. Send us signed written instructions
2. Include any outstanding share certificates for
the shares you want to exchange
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services or TeleFACTS(R)
- If you do not want the ability to exchange
by phone to apply to your account, please let
us know.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to exchange shares.
WILL SALES CHARGES APPLY TO MY EXCHANGE?
You generally will not pay a front-end sales charge on exchanges. If you have
held your shares less than six months, however, you will pay the percentage
difference between the sales charge you previously paid and the applicable sales
charge of the new fund, if the difference is more than 0.25%. If you have never
paid a sales charge on your shares because, for example, they have always been
held in a money fund, you will pay the fund's applicable sales charge no matter
how long you have held your shares. These charges may not apply if you qualify
to buy shares without a sales charge.
CONTINGENT DEFERRED SALES CHARGE. We will not impose a Contingent Deferred Sales
Charge when you exchange shares. Any shares subject to a Contingent Deferred
Sales Charge at the time of exchange, however, will remain so in the new fund.
For accounts with shares subject to a Contingent Deferred Sales Charge, we will
first exchange any shares in your account that are not subject to the charge. If
there are not enough of these to meet your exchange request, we will exchange
shares subject to the charge in the order they were purchased.
If you exchange Class I shares into one of our money funds, the time your shares
are held in that fund will not count towards the completion of any Contingency
Period. If you exchange your Class II shares for shares of Money Fund II,
however, the time your shares are held in that fund will count towards the
completion of any Contingency Period.
For more information about the Contingent Deferred Sales Charge, please see "How
Do I Sell Shares?"
EXCHANGE RESTRICTIONS
Please be aware that the following restrictions apply to exchanges:
o You must meet the applicable minimum investment amount of the fund you are
exchanging into, or exchange 100% of your fund shares.
o You may only exchange shares within the SAME CLASS, except as noted below.
o The accounts must be identically registered. You may, however, exchange
shares from a fund account requiring two or more signatures into an
identically registered money fund account requiring only one signature for
all transactions. PLEASE NOTIFY US IN WRITING IF YOU DO NOT WANT THIS
OPTION TO BE AVAILABLE ON YOUR ACCOUNT. Additional procedures may apply.
Please see "Transaction Procedures and Special Requirements."
o Trust Company IRA or 403(b) retirement plan accounts may exchange shares as
described above. Restrictions may apply to other types of retirement plans.
Please contact Retirement Plan Services for information on exchanges within
these plans.
o The fund you are exchanging into must be eligible for sale in your state.
o We may modify or discontinue our exchange policy if we give you 60 days'
written notice.
o Currently, the fund does not allow investments by Market Timers.
Because excessive trading can hurt fund performance, operations and
shareholders, we may refuse any exchange purchase if (i) we believe the fund
would be harmed or unable to invest effectively, or (ii) the fund receives or
anticipates simultaneous orders that may significantly affect the fund.
LIMITED EXCHANGES BETWEEN DIFFERENT CLASSES OF SHARES
Certain funds in the Franklin Templeton Funds offer classes of shares not
offered by the fund, such as "Class Z" shares. Certain shareholders of Class Z
shares of Franklin Mutual Series Fund Inc. may exchange their Class Z shares for
Class I shares of the fund at Net Asset Value.
HOW DO I SELL SHARES?
You may sell (redeem) your shares at any time.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL 1. Send us signed written instructions. If you would like
your redemption proceeds wired to a bank account, your
instructions should include:
o The name, address and telephone number of the bank
where you want the proceeds sent
o Your bank account number
o The Federal Reserve ABA routing number
o If you are using a savings and loan or credit union,
the name of the corresponding bank and the account
number
2. Include any outstanding share certificates for the
shares you are selling
3. Provide a signature guarantee if required
4. Corporate, partnership and trust accounts may need to send
additional documents. Accounts under court jurisdiction
may have other requirements.
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services. If you would like your
redemption proceeds wired to a bank account, other than an
escrow account, you must first sign up for the wire
feature. To sign up, send us written instructions, with a
signature guarantee. To avoid any delay in processing, the
instructions should include the items listed in "By Mail"
above.
Telephone requests will be accepted:
o If the request is $50,000 or less. Institutional accounts
may exceed $50,000 by completing a separate agreement.
Call Institutional Services to receive a copy.
o If there are no share certificates issued for the shares
you want to sell or you have already returned them to the
fund
o Unless you are selling shares in a Trust Company
retirement plan account
o Unless the address on your account was changed by phone
within the last 15 days
- If you do not want the ability to redeem by phone to
apply to your account, please let us know.
- -----------------------------------------------------------------------------
THROUGH
YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
We will send your redemption check within seven days after we receive your
request in proper form. If you would like the check sent to an address other
than the address of record or made payable to someone other than the registered
owners on the account, send us written instructions signed by all account
owners, with a signature guarantee. We are not able to receive or pay out cash
in the form of currency.
The wiring of redemption proceeds is a special service that we make available
whenever possible for redemption requests of $1,000 or more. If we receive your
request in proper form before 1:00 p.m. Pacific time, your wire payment will be
sent the next business day. For requests received in proper form after 1:00 p.m.
Pacific time, the payment will be sent the second business day. By offering this
service to you, the fund is not bound to meet any redemption request in less
than the seven day period prescribed by law. Neither the fund nor its agents
shall be liable to you or any other person if, for any reason, a redemption
request by wire is not processed as described in this section.
If you sell shares you recently purchased with a check or draft, we may delay
sending you the proceeds until your check or draft has cleared, which may take
seven business days or more. A certified or cashier's check may clear in less
time.
Under unusual circumstances, we may suspend redemptions or postpone payment for
more than seven days as permitted by federal securities law.
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to sell shares.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS
To comply with IRS regulations, you need to complete additional forms before
selling shares in a Trust Company retirement plan account. Tax penalties
generally apply to any distribution from these plans to a participant under age
591/2, unless the distribution meets an exception stated in the Code. To obtain
the necessary forms, please call Retirement Plan Services.
CONTINGENT DEFERRED SALES CHARGE
For Class I purchases, if you did not pay a front-end sales charge because you
invested $1 million or more or agreed to invest $1 million or more under a
Letter of Intent, a Contingent Deferred Sales Charge may apply if you sell all
or a part of your investment within the Contingency Period. Once you have
invested $1 million or more, any additional Class I investments you make without
a sales charge may also be subject to a Contingent Deferred Sales Charge if they
are sold within the Contingency Period. For any Class II purchase, a Contingent
Deferred Sales Charge may apply if you sell the shares within the Contingency
Period. The charge is 1% of the value of the shares sold or the Net Asset Value
at the time of purchase, whichever is less.
Certain retirement plan accounts opened on or after May 1, 1997, and that
qualify to buy Class I shares without a front-end sales charge may also be
subject to a Contingent Deferred Sales Charge if the retirement plan is
transferred out of the Franklin Templeton Funds or terminated within 365 days of
the account's initial purchase in the Franklin Templeton Funds.
We will first redeem any shares in your account that are not subject to the
charge. If there are not enough of these to meet your request, we will redeem
shares subject to the charge in the order they were purchased.
Unless otherwise specified, when you request to sell a stated DOLLAR AMOUNT, we
will redeem additional shares to cover any Contingent Deferred Sales Charge. For
requests to sell a stated NUMBER OF SHARES, we will deduct the amount of the
Contingent Deferred Sales Charge, if any, from the sale proceeds.
WAIVERS. We waive the Contingent Deferred Sales Charge for:
o Account fees
o Sales of shares purchased without a front-end sales charge by certain
retirement plan accounts if (i) the account was opened before May 1, 1997,
or (ii) the Securities Dealer of record received a payment from
Distributors of 0.25% or less, or (iii) Distributors did not make any
payment in connection with the purchase, or (iv) the Securities Dealer of
record has entered into a supplemental agreement with Distributors
o Redemptions by the fund when an account falls below the minimum required
account size
o Redemptions following the death of the shareholder or beneficial owner
o Redemptions through a systematic withdrawal plan set up before February 1,
1995
o Redemptions through a systematic withdrawal plan set up on or after
February 1, 1995, at a rate of up to 1% a month of an account's Net Asset
Value. For example, if you maintain an annual balance of $1 million in
Class I shares, you can redeem up to $120,000 annually through a systematic
withdrawal plan free of charge. Likewise, if you maintain an annual balance
of $10,000 in Class II shares, $1,200 may be redeemed annually free of
charge.
o Distributions from IRAs due to death or disability or upon periodic
distributions based on life expectancy
o Returns of excess contributions from employee benefit plans
o Redemptions by Trust Company employee benefit plans or employee benefit
plans serviced by ValuSelect(R)
o Participant initiated distributions from employee benefit plans or
participant initiated exchanges among investment choices in employee
benefit plans
WHAT DISTRIBUTIONS MIGHT I RECEIVE FROM THE FUND?
The fund declares dividends from its net investment income semiannually in June
and December to shareholders of record on the first business day before the 15th
of the month and pays them on or about the last day of that month.
Capital gains, if any, may be distributed annually, usually in December.
Dividends and capital gains are calculated and distributed the same way for each
class. The amount of any income dividends per share will differ, however,
generally due to the difference in the Rule 12b-1 fees of Class I and Class II.
Dividend payments are not guaranteed, are subject to the Board's discretion and
may vary with each payment. THE FUND DOES NOT PAY "INTEREST" OR GUARANTEE ANY
FIXED RATE OF RETURN ON AN INVESTMENT IN ITS SHARES.
If you buy shares shortly before the record date, please keep in mind that any
distribution will lower the value of the fund's shares by the amount of the
distribution and you will then receive a portion of the price you paid back in
the form of a taxable distribution.
DISTRIBUTION OPTIONS
You may receive your distributions from the fund in any of these ways:
1. BUY ADDITIONAL SHARES OF THE FUND - You may buy additional shares of the fund
(without a sales charge or imposition of a Contingent Deferred Sales Charge) by
reinvesting capital gain distributions, or both dividend and capital gain
distributions. This is a convenient way to accumulate additional shares and
maintain or increase your earnings base.
2. BUY SHARES OF OTHER FRANKLIN TEMPLETON FUNDS - You may direct your
distributions to buy shares of another Franklin Templeton Fund (without a sales
charge or imposition of a Contingent Deferred Sales Charge). Many shareholders
find this a convenient way to diversify their investments.
3. RECEIVE DISTRIBUTIONS IN CASH - You may receive dividends, or both dividend
and capital gain distributions in cash. If you have the money sent to another
person or to a checking account, you may need a signature guarantee. If you send
the money to a checking account, please see "Electronic Fund Transfers - Class I
Only" under "Services to Help You Manage Your Account."
Distributions may be reinvested only in the same class of shares, except as
follows: (i) Class II shareholders who chose to reinvest their distributions in
Class I shares of the fund or another Franklin Templeton Fund before November
17, 1997, may continue to do so; and (ii) Class II shareholders may reinvest
their distributions in shares of any Franklin Templeton money fund.
TO SELECT ONE OF THESE OPTIONS, PLEASE COMPLETE SECTIONS 6 AND 7 OF THE
SHAREHOLDER APPLICATION INCLUDED WITH THIS PROSPECTUS OR TELL YOUR INVESTMENT
REPRESENTATIVE WHICH OPTION YOU PREFER. IF YOU DO NOT SELECT AN OPTION, WE WILL
AUTOMATICALLY REINVEST DIVIDEND AND CAPITAL GAIN DISTRIBUTIONS IN THE SAME CLASS
OF THE FUND. You may change your distribution option at any time by notifying us
by mail or phone. Please allow at least seven days before the record date for us
to process the new option. For Trust Company retirement plans, special forms are
required to receive distributions in cash.
TRANSACTION PROCEDURES AND SPECIAL REQUIREMENTS
SHARE PRICE
When you buy shares, you pay the Offering Price. This is the Net Asset Value per
share of the class you wish to purchase, plus any applicable sales charges. When
you sell shares, you receive the Net Asset Value per share minus any applicable
Contingent Deferred Sales Charges.
The Net Asset Value we use when you buy or sell shares is the one next
calculated after we receive your transaction request in proper form. If you buy
or sell shares through your Securities Dealer, however, we will use the Net
Asset Value next calculated after your Securities Dealer receives your request,
which is promptly transmitted to the fund. Your redemption proceeds will not
earn interest between the time we receive the order from your dealer and the
time we receive any required documents.
HOW AND WHEN SHARES ARE PRICED
The fund is open for business each day the NYSE is open. We determine the Net
Asset Value per share of each class as of the close of the NYSE, normally 1:00
p.m. Pacific time. You can find the prior day's closing Net Asset Value and
Offering Price for each class in many newspapers.
The Net Asset Value of all outstanding shares of each class is calculated on a
pro rata basis. It is based on each class' proportionate participation in the
fund, determined by the value of the shares of each class. Each class, however,
bears the Rule 12b-1 fees payable under its Rule 12b-1 plan. To calculate Net
Asset Value per share of each class, the assets of each class are valued and
totaled, liabilities are subtracted, and the balance, called net assets, is
divided by the number of shares of the class outstanding. The fund's assets are
valued as described under "How Are Fund Shares Valued?" in the SAI.
WRITTEN INSTRUCTIONS
Written instructions must be signed by all registered owners. To avoid any delay
in processing your transaction, they should include:
o Your name,
o The fund's name,
o The class of shares,
o A description of the request,
o For exchanges, the name of the fund you are exchanging into,
o Your account number,
o The dollar amount or number of shares, and
o A telephone number where we may reach you during the day, or in the evening
if preferred.
JOINT ACCOUNTS. For accounts with more than one registered owner, we accept
written instructions signed by only one owner for certain types of transactions
or account changes. These include transactions or account changes that you could
also make by phone, such as certain redemptions of $50,000 or less, exchanges
between identically registered accounts, and changes to the address of record.
For most other types of transactions or changes, written instructions must be
signed by all registered owners.
Please keep in mind that if you have previously told us that you do not want
telephone exchange or redemption privileges on your account, then we can only
accept written instructions to exchange or redeem shares if they are signed by
all registered owners on the account.
SIGNATURE GUARANTEES
For our mutual protection, we require a signature guarantee in the following
situations:
1) You wish to sell over $50,000 worth of shares,
2) You want the proceeds to be paid to someone other than the registered
owners,
3) The proceeds are not being sent to the address of record, preauthorized bank
account, or preauthorized brokerage firm account,
4) We receive instructions from an agent, not the registered owners,
5) We believe a signature guarantee would protect us against potential claims
based on the instructions received.
A signature guarantee verifies the authenticity of your signature. You should be
able to obtain a signature guarantee from a bank, broker, credit union, savings
association, clearing agency, or securities exchange or association.
A NOTARIZED SIGNATURE IS NOT SUFFICIENT.
SHARE CERTIFICATES
We will credit your shares to your fund account. We do not issue share
certificates unless you specifically request them. This eliminates the costly
problem of replacing lost, stolen or destroyed certificates. If a certificate is
lost, stolen or destroyed, you may have to pay an insurance premium of up to 2%
of the value of the certificate to replace it.
Any outstanding share certificates must be returned to the fund if you want to
sell or exchange those shares or if you would like to start a systematic
withdrawal plan. The certificates should be properly endorsed. You can do this
either by signing the back of the certificate or by completing a share
assignment form. For your protection, you may prefer to complete a share
assignment form and to send the certificate and assignment form in separate
envelopes.
TELEPHONE TRANSACTIONS
You may initiate many transactions and changes to your account by phone. Please
refer to the sections of this prospectus that discuss the transaction you would
like to make or call Shareholder Services.
When you call, we will request personal or other identifying information to
confirm that instructions are genuine. We may also record calls. If our lines
are busy or you are otherwise unable to reach us by phone, you may wish to ask
your investment representative for assistance or send us written instructions,
as described elsewhere in this prospectus.
For your protection, we may delay a transaction or not implement one if we are
not reasonably satisfied that the instructions are genuine. If this occurs, we
will not be liable for any loss. We also will not be liable for any loss if we
follow instructions by phone that we reasonably believe are genuine or if you
are unable to execute a transaction by phone.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS. We cannot accept instructions to sell
shares or change distribution options on Trust Company retirement plans by
phone. While you may exchange shares of Trust Company IRA and 403(b) retirement
accounts by phone, certain restrictions may be imposed on other retirement
plans.
To obtain any required forms or more information about distribution or transfer
procedures, please call Retirement Plan Services.
ACCOUNT REGISTRATIONS AND REQUIRED DOCUMENTS
When you open an account, we need you to tell us how you want your shares
registered. How you register your account will affect your ownership rights and
ability to make certain transactions. If you have questions about how to
register your account, you should consult your investment representative or
legal advisor. Please keep the following information in mind when registering
your account.
JOINT OWNERSHIP. If you open an account with two or more owners, we register the
account as "joint tenants with rights of survivorship" unless you tell us
otherwise. An account registered as "joint tenants with rights of survivorship"
is shown as "Jt Ten" on your account statement. For any account with two or more
owners, we cannot accept instructions to change owners on the account unless ALL
owners agree in writing, even if the law in your state says otherwise. If you
would like another person or owner to sign for you, please send us a current
power of attorney.
GIFTS AND TRANSFERS TO MINORS. You may set up a custodial account for a minor
under your state's Uniform Gifts/Transfers to Minors Act. Other than this form
of registration, a minor may not be named as an account owner.
TRUSTS. You should register your account as a trust only if you have a valid
written trust document. This avoids future disputes or possible court action
over who owns the account.
REQUIRED DOCUMENTS. For corporate, partnership and trust accounts, please send
us the following documents when you open your account. This will help avoid
delays in processing your transactions while we verify who may sign on the
account.
TYPE OF ACCOUNT DOCUMENTS REQUIRED
- ------------------------------------------------------------------------------
CORPORATION Corporate Resolution
- ------------------------------------------------------------------------------
PARTNERSHIP 1. The pages from the partnership agreement that
identify the general partners, or
2. A certification for a partnership agreement
- ------------------------------------------------------------------------------
TRUST 1. The pages from the trust document that identify
the trustees, or
2. A certification for trust
- ------------------------------------------------------------------------------
STREET OR NOMINEE ACCOUNTS. If you have fund shares held in a "street" or
"nominee" name account with your Securities Dealer, you may transfer the shares
to the street or nominee name account of another Securities Dealer. Both dealers
must have an agreement with Distributors or we cannot process the transfer.
Contact your Securities Dealer to initiate the transfer. We will process the
transfer after we receive authorization in proper form from your delivering
Securities Dealer. Accounts may be transferred electronically through the NSCC.
For accounts registered in street or nominee name, we may take instructions
directly from the Securities Dealer or your nominee.
IMPORTANT INFORMATION IF YOU HAVE AN INVESTMENT REPRESENTATIVE
If there is a Securities Dealer or other representative of record on your
account, we are authorized: (1) to provide confirmations, account statements and
other information about your account directly to your dealer and/or
representative; and (2) to accept telephone and electronic instructions directly
from your dealer or representative, including instructions to exchange or redeem
your shares. Electronic instructions may be processed through established
electronic trading systems and programs used by the fund. Telephone instructions
directly from your representative will be accepted unless you have told us that
you do not want telephone privileges to apply to your account.
KEEPING YOUR ACCOUNT OPEN
Due to the relatively high cost of maintaining a small account, we may close
your account if the value of your shares is less than $250, or less than $50 for
employee accounts and custodial accounts for minors. We will only do this if the
value of your account fell below this amount because you voluntarily sold your
shares and your account has been inactive (except for the reinvestment of
distributions) for at least six months. Before we close your account, we will
notify you and give you 30 days to increase the value of your account to $1,000,
or $100 for employee accounts and custodial accounts for minors. These minimums
do not apply to IRAs and other retirement plan accounts or to accounts managed
by the Franklin Templeton Group.
SERVICES TO HELP YOU MANAGE YOUR ACCOUNT
AUTOMATIC INVESTMENT PLAN
Our automatic investment plan offers a convenient way to invest in the fund.
Under the plan, you can have money transferred automatically from your checking
account to the fund each month to buy additional shares. If you are interested
in this program, please refer to the automatic investment plan application
included with this prospectus or contact your investment representative. The
market value of the fund's shares may fluctuate and a systematic investment plan
such as this will not assure a profit or protect against a loss. You may
discontinue the program at any time by calling Shareholder Services.
AUTOMATIC PAYROLL DEDUCTION - CLASS I ONLY
You may have money transferred from your paycheck to the fund to buy additional
Class I shares. Your investments will continue automatically until you instruct
the fund and your employer to discontinue the plan. To process your investment,
we must receive both the check and payroll deduction information in required
form. Due to different procedures used by employers to handle payroll
deductions, there may be a delay between the time of the payroll deduction and
the time we receive the money.
SYSTEMATIC WITHDRAWAL PLAN
Our systematic withdrawal plan allows you to sell your shares and receive
regular payments from your account on a monthly, quarterly, semiannual or annual
basis. The value of your account must be at least $5,000 and the minimum payment
amount for each withdrawal must be at least $50. For retirement plans subject to
mandatory distribution requirements, the $50 minimum will not apply.
If you would like to establish a systematic withdrawal plan, please complete the
systematic withdrawal plan section of the shareholder application included with
this prospectus and indicate how you would like to receive your payments. You
may choose to direct your payments to buy the same class of shares of another
Franklin Templeton Fund or have the money sent directly to you, to another
person, or to a checking account. If you choose to have the money sent to a
checking account, please see "Electronic Fund Transfers Class I Only" below.
Once your plan is established, any distributions paid by the fund will be
automatically reinvested in your account.
You will generally receive your payment by the end of the month in which a
payment is scheduled. When you sell your shares under a systematic withdrawal
plan, it is a taxable transaction.
To avoid paying sales charges on money you plan to withdraw within a short
period of time, you may not want to set up a systematic withdrawal plan if you
plan to buy shares on a regular basis. Shares sold under the plan may also be
subject to a Contingent Deferred Sales Charge. Please see "Contingent Deferred
Sales Charge" under "How Do I Sell Shares?"
You may discontinue a systematic withdrawal plan, change the amount and schedule
of withdrawal payments, or suspend one payment by notifying us by mail or by
phone at least seven business days before the end of the month preceding a
scheduled payment. Please see "How Do I Buy, Sell and Exchange Shares? -
Systematic Withdrawal Plan" in the SAI for more information.
ELECTRONIC FUND TRANSFERS - CLASS I ONLY
You may choose to have dividend and capital gain distributions from Class I
shares of the fund or payments under a systematic withdrawal plan sent directly
to a checking account. If the checking account is with a bank that is a member
of the Automated Clearing House, the payments may be made automatically by
electronic funds transfer.
If you choose this option, please allow at least fifteen days for initial
processing. We will send any payments made during that time to the address of
record on your account.
TELEFACTS(R)
From a touch-tone phone, you may call our TeleFACTS(R) system (day or night) at
1-800/247-1753 to:
o obtain information about your account;
o obtain price and performance information about any Franklin Templeton Fund;
o exchange shares (within the same class) between identically registered
Franklin Templeton Class I and Class II accounts; and
o request duplicate statements and deposit slips for Franklin Templeton
accounts.
You will need the code number for each class to use TeleFACTS(R). The code
number is 198 for Class I and 298 for Class II.
STATEMENTS AND REPORTS TO SHAREHOLDERS
We will send you the following statements and reports on a regular basis:
o Confirmation and account statements reflecting transactions in your account,
including additional purchases and dividend reinvestments. PLEASE VERIFY THE
ACCURACY OF YOUR STATEMENTS WHEN YOU RECEIVE THEM.
o Financial reports of the fund will be sent every six months. To reduce fund
expenses, we attempt to identify related shareholders within a household and
send only one copy of a report. Call Fund Information if you would like an
additional free copy of the fund's financial reports.
INSTITUTIONAL ACCOUNTS
Additional methods of buying, selling or exchanging shares of the fund may be
available to institutional accounts. Institutional investors may also be
required to complete an institutional account application. For more information,
call Institutional Services.
AVAILABILITY OF THESE SERVICES
The services above are available to most shareholders. If, however, your shares
are held by a financial institution, in a street name account, or networked
through the NSCC, the fund may not be able to offer these services directly to
you. Please contact your investment representative.
WHAT IF I HAVE QUESTIONS ABOUT MY ACCOUNT?
If you have any questions about your account, you may write to Investor Services
at 777 Mariners Island Blvd., P.O. Box 7777, San Mateo, California 94403-7777.
The fund, Distributors and Advisers are also located at this address. You may
also contact us by phone at one of the numbers listed below.
HOURS OF OPERATION (PACIFIC TIME)
DEPARTMENT NAME TELEPHONE NO. (MONDAY THROUGH FRIDAY)
- ------------------------------------------------------------------------------
Shareholder Services 1-800/632-2301 5:30 a.m. to 5:00 p.m.
Dealer Services 1-800/524-4040 5:30 a.m. to 5:00 p.m.
Fund Information 1-800/DIAL BEN 5:30 a.m. to 8:00 p.m.
(1-800/342-5236) 6:30 a.m. to 2:30 p.m. (Saturday)
Retirement Plan Services 1-800/527-2020 5:30 a.m. to 5:00 p.m.
Institutional Services 1-800/321-8563 6:00 a.m. to 5:00 p.m.
TDD (hearing impaired) 1-800/851-0637 5:30 a.m. to 5:00 p.m.
Your phone call may be monitored or recorded to ensure we provide you with high
quality service. You will hear a regular beeping tone if your call is being
recorded.
GLOSSARY
USEFUL TERMS AND DEFINITIONS
ADVISERS - Franklin Advisers, Inc., the fund's investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I, CLASS II AND ADVISOR CLASS - The fund offers three classes of shares,
designated "Class I," "Class II," and "Advisor Class." The three classes have
proportionate interests in the fund's portfolio. They differ, however, primarily
in their sales charge and expense structures.
CODE - Internal Revenue Code of 1986, as amended
CONTINGENCY PERIOD - For Class I shares, the 12 month period during which a
Contingent Deferred Sales Charge may apply. For Class II shares, the contingency
period is 18 months. The holding period for Class I begins on the first day of
the month in which you buy shares. Regardless of when during the month you buy
Class I shares, they will age one month on the last day of that month and each
following month. The holding period for Class II begins on the day you buy your
shares. For example, if you buy Class II shares on the 18th of the month, they
will age one month on the 18th day of the next month and each following month.
CONTINGENT DEFERRED SALES CHARGE (CDSC) - A sales charge of 1% that may apply if
you sell your shares within the Contingency Period.
DEPOSITARY RECEIPTS - Certificates that give their holders the right to receive
securities (a) of a foreign issuer deposited in a U.S. bank or trust company
(American Depositary Receipts, "ADRs"); or (b) of a foreign or U.S. issuer
deposited in a foreign bank or trust company (Global Depositary Receipts, "GDRs"
or European Depositary Receipts, "EDRs")
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the fund's principal
underwriter. The SAI lists the officers and Board members who are affiliated
with Distributors. See "Officers and Trustees."
ELIGIBLE GOVERNMENTAL AUTHORITY - Any state or local government or any
instrumentality, department, authority or agency thereof that has determined the
fund is a legally permissible investment and that can only buy shares of the
fund without paying sales charges.
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the fund's administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the fund's
shareholder servicing and transfer agent
IRA - Individual retirement account or annuity qualified under section 408 of
the Code
IRS - Internal Revenue Service
LETTER - Letter of Intent
MARKET TIMERS - Market Timers generally include market timing or asset
allocation services, accounts administered so as to buy, sell or exchange shares
based on predetermined market indicators, or any person or group whose
transactions seem to follow a timing pattern or whose transactions include
frequent or large exchanges.
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by the
number of shares outstanding.
NSCC - National Securities Clearing Corporation
NYSE - New York Stock Exchange
OFFERING PRICE - The public offering price is based on the Net Asset Value per
share of the class and includes the front-end sales charge. The maximum
front-end sales charge is 5.75% for Class I and 1% for Class II. We calculate
the offering price to two decimal places using standard rounding criteria.
QUALIFIED RETIREMENT PLANS - An employer sponsored pension or profit-sharing
plan that qualifies under section 401 of the Code. Examples include 401(k),
money purchase pension, profit sharing and defined benefit plans.
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
SEP - An employer sponsored simplified employee pension plan established under
section 408(k) of the Code
SIMPLE (SAVINGS INCENTIVE MATCH PLAN FOR EMPLOYEES) - An employer sponsored
salary deferral plan established under section 408(p) of the Code
TELEFACTS(R) - Franklin Templeton's automated customer servicing system
TRUST COMPANY - Franklin Templeton Trust Company. Trust Company is an
affiliate of Distributors and both are wholly owned subsidiaries of Resources.
WE/OUR/US - Unless the context indicates a different meaning, these terms refer
to the fund and/or Investor Services, Distributors, or other wholly owned
subsidiaries of Resources.
PROSPECTUS & APPLICATION
FRANKLIN SMALL CAP
GROWTH FUND
INVESTMENT STRATEGY
GROWTH
ADVISOR CLASS
SEPTEMBER 1, 1998
FRANKLIN STRATEGIC SERIES
Please read this prospectus before investing, and keep it for future reference.
It contains important information, including how the fund invests and the
services available to shareholders.
This prospectus describes the fund's Advisor Class shares. The fund currently
offers other share classes with different sales charge and expense structures,
which affect performance.
To learn more about the fund and its policies, you may request a copy of the
fund's Statement of Additional Information ("SAI"), dated September 1, 1998,
which we may amend from time to time. We have filed the SAI with the SEC and
have incorporated it by reference into this prospectus.
For a free copy of the SAI or a larger print version of this prospectus, or to
receive a free copy of the prospectus for the fund's other share classes,
contact your investment representative or call 1-800/DIAL BEN.
MUTUAL FUND SHARES ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED
BY, ANY BANK, AND ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE
CORPORATION, THE FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S.
GOVERNMENT. MUTUAL FUND SHARES INVOLVE INVESTMENT RISKS, INCLUDING THE POSSIBLE
LOSS OF PRINCIPAL.
LIKE ALL MUTUAL FUND SHARES, THE SEC HAS NOT APPROVED OR DISAPPROVED THESE
SECURITIES OR PASSED UPON THE ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION
TO THE CONTRARY IS A CRIMINAL OFFENSE.
THIS PROSPECTUS IS NOT AN OFFERING OF THE SECURITIES HEREIN DESCRIBED IN ANY
STATE, JURISDICTION OR COUNTRY IN WHICH THE OFFERING IS NOT AUTHORIZED. NO SALES
REPRESENTATIVE, DEALER, OR OTHER PERSON IS AUTHORIZED TO GIVE ANY INFORMATION OR
MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS. FURTHER
INFORMATION MAY BE OBTAINED FROM DISTRIBUTORS.
FRANKLIN
SMALL CAP GROWTH FUND -
ADVISOR CLASS
September 1, 1998
When reading this prospectus, you will see certain terms beginning with capital
letters. This means the term is explained in our glossary section
TABLE OF CONTENTS
ABOUT THE FUND
Expense Summary ........................................................ 2
Financial Highlights ................................................... 3
How Does the Fund Invest Its Assets? ................................... 4
What Are the Risks of Investing in the Fund? ........................... 8
Who Manages the Fund? .................................................. 10
How Taxation Affects the Fund and Its Shareholders ..................... 12
How Is the Trust Organized? ............................................ 14
ABOUT YOUR ACCOUNT
How Do I Buy Shares? ................................................... 15
May I Exchange Shares for Shares of Another Fund? ...................... 19
How Do I Sell Shares? .................................................. 21
What Distributions Might I Receive From the Fund? ...................... 22
Transaction Procedures and Special Requirements ........................ 23
Services to Help You Manage Your Account ............................... 28
What If I Have Questions About My Account? ............................. 29
GLOSSARY
Useful Terms and Definitions ........................................... 30
777 Mariners Island Blvd.
P.O. Box 7777
San Mateo
CA 94403-7777
1-800/DIAL BEN
ABOUT THE FUND
EXPENSE SUMMARY
This table is designed to help you understand the costs of investing in the
fund. It is based on the historical expenses of Advisor Class for the fiscal
year ended April 30, 1998. The fund's actual expenses may vary.
A. SHAREHOLDER TRANSACTION EXPENSES+
Maximum Sales Charge Imposed on Purchases None
B. ANNUAL FUND OPERATING EXPENSES
(AS A PERCENTAGE OF AVERAGE NET ASSETS)
Management Fees 0.46%
Rule 12b-1 Fees None
Other Expenses 0.18%
-----
Total Fund Operating Expenses 0.64%
=====
C. EXAMPLE
Assume the annual return for the class is 5%, operating expenses are as
described above, and you sell your shares after the number of years shown. These
are the projected expenses for each $1,000 that you invest in the fund.
1 YEAR 3 YEARS 5 YEARS 10 YEARS
----------------------------------------
$7 $20 $36 $80
THIS IS JUST AN EXAMPLE. IT DOES NOT REPRESENT PAST OR FUTURE EXPENSES OR
RETURNS. ACTUAL EXPENSES AND RETURNS MAY BE MORE OR LESS THAN THOSE SHOWN. The
fund pays its operating expenses. The effects of these expenses are reflected in
its Net Asset Value or dividends and are not directly charged to your
account.
+If your transaction is processed through your Securities Dealer, you may be
charged a fee by your Securities Dealer for this service.
FINANCIAL HIGHLIGHTS
This table summarizes the fund's financial history. The information has been
audited by Coopers & Lybrand L.L.P., the fund's independent auditor. The audit
report covering the periods shown below appears in the Trust's Annual Report to
Shareholders for the fiscal year ended April 30, 1998. The Annual Report to
Shareholders also includes more information about the fund's performance. For a
free copy, please call Fund Information.
YEAR ENDED APRIL 30,
1998 19971
------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year............ $18.97 $20.48
------------------
Income from investment operations:
Net investment income ....................... .09 .01
Net realized and unrealized gains (losses)... 8.01 (1.52)
-------------------
Total from investment operations.............. 8.10 (1.51)
-------------------
Less distributions from:
Net investment income ....................... (.13) --
Net realized gains .......................... (0.93) --
-------------------
Total distributions .......................... (1.06) --
-------------------
Net asset value, end of year ................. $26.01 $18.97
===================
Total return*................................. 43.68% (7.37%)
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's)............... $118,683 $18,777
Ratios to average net assets:
Expenses .................................... .64% .69%***
Net investment income ....................... .58% .30%***
Portfolio turnover rate ...................... 42.97% 55.27%
Average commission rate paid**................ $.0535 $.0499
*Total return is not annualized.
**Relates to purchases and sales of equity securities.
***Annualized
1For the period January 2, 1997 (effective date) to April 30, 1997.
HOW DOES THE FUND INVEST ITS ASSETS?
WHAT IS THE FUND'S GOAL?
The investment goal of the fund is long-term capital growth. This goal is
fundamental, which means that it may not be changed without shareholder
approval.
WHAT KINDS OF SECURITIES DOES THE FUND BUY?
The fund tries to achieve its investment goal by investing primarily in equity
securities of small capitalization growth companies.
The fund may also invest up to 35% (measured at the time of purchase) of its
total assets in any combination of
o equity securities of larger capitalization companies which Advisers
believes have strong growth potential, and
o relatively well-known, larger companies in mature industries which Advisers
believes have the potential for capital appreciation,
if the investment presents a favorable investment opportunity consistent with
the fund's investment goal.
The fund may invest up to 5% of its total assets in corporate debt securities
that Advisers believes have the potential for capital appreciation as a result
of improvement in the creditworthiness of the issuer. The receipt of income from
debt securities is incidental to the fund's investment goal of capital growth.
EQUITY SECURITIES generally entitle the holder to participate in a company's
general operating results. These include common stock, preferred stock,
convertible securities, or warrants.
DEBT SECURITIES represent an obligation of the issuer to repay a loan of money
to it, and generally provide for the payment of interest. These include bonds,
notes, and debentures.
The fund may buy both rated and unrated debt securities. Independent rating
organizations rate debt securities based upon their assessment of the financial
soundness of the issuer. Generally, a lower rating indicates higher risk. The
fund will invest in securities rated B or above by Moody's or S&P, or in unrated
securities of comparable quality. The fund will not invest more than 5% of its
total assets in non-investment grade securities (rated lower than BBB by S&P or
Baa by Moody's). Please see the SAI for more details on the risks associated
with lower-rated securities.
SMALL COMPANIES. Under normal market conditions, the fund will invest at least
65% of its total assets in equity securities of small capitalization growth
companies. In general, companies in which the fund will invest have a market
capitalization of less than $1 billion at the time of the fund's investment.
Market capitalization is the total market value of a company's outstanding
common stock. The securities of small capitalization companies are traded on the
NYSE and American Stock Exchange and in the over-the-counter market.
In selecting these securities for the fund's portfolio, Advisers identifies
companies with relatively small market capitalization that Advisers believes are
positioned for rapid growth in revenues or earnings and assets. Advisers
believes that the securities of such companies may experience significant
capital appreciation. Small companies often pay no dividends, and current income
is not a factor in the selection of stocks.
The fund seeks to invest at least one third of its assets in companies with a
market capitalization of $550 million or less, but there is no assurance that it
will always be able to find suitable companies in this market capitalization
range.
The fund tries to provide investors with potentially greater long-term rewards
by investing in securities of small companies that may offer greater potential
for capital appreciation. Advisers will select small company equity securities
for the fund based on the financial strength of the company, the expertise of
management, the growth potential of the company within its industry, and the
growth potential of the industry itself.
FOREIGN SECURITIES AND DEPOSITARY RECEIPTS. The fund may invest up to 25% of its
total assets in foreign securities, including those of developing or undeveloped
markets, and sponsored or unsponsored American, European, and Global Depositary
Receipts. The fund currently intends to limit its investment in foreign
securities to 10% of its total assets. Depositary Receipts are certificates
typically issued by a bank or trust company that give their holders the right to
receive securities issued by a foreign or domestic corporation.
GENERAL. The fund may invest up to 10% of its total assets in real estate
investment trusts (REITs). The fund may invest in any industry, although it will
not concentrate (invest more than 25% of its total assets) in any one industry.
The fund will not invest in securities issued without stock certificates or
comparable stock documents. The fund may not invest more than 10% of its net
assets in securities of issuers with less than three years continuous operation.
Please see the SAI for more details on the types of securities in which the fund
invests.
WHAT ARE SOME OF THE FUND'S OTHER INVESTMENT STRATEGIES AND PRACTICES?
TEMPORARY INVESTMENTS. The fund may invest its cash temporarily in short-term
debt instruments, including U.S. government securities, CDs, high-grade
commercial paper, repurchase agreements, and other money market equivalents, and
the shares of money market funds managed by Advisers that invest primarily in
short-term debt securities. The fund will only make these temporary investments
with cash it holds to maintain liquidity or pending investment. In the event of
a general decline in the market prices of stocks in which the fund invests, or
when Advisers anticipates such a decline, the fund may invest its portfolio in a
temporary defensive manner. Under such circumstances, the fund may invest up to
100% of its assets in short-term debt instruments.
REPURCHASE AGREEMENTS. The fund will generally have a portion of its assets in
cash or cash equivalents for a variety of reasons including waiting for a
special investment opportunity or taking a defensive position. To earn income on
this portion of its assets, the fund may enter into repurchase agreements with
certain banks and broker-dealers. Under a repurchase agreement, the fund agrees
to buy a U.S. government security from one of these issuers and then to sell the
security back to the issuer after a short period of time (generally, less than
seven days) at a higher price. The bank or broker-dealer must transfer to the
fund's custodian securities with an initial value of at least 102% of the dollar
amount invested by the fund in each repurchase agreement.
The fund may also enter into reverse repurchase agreements. Under a reverse
repurchase agreement, the fund agrees to sell a security in its portfolio and
then to repurchase the security at an agreed-upon price, date, and interest
payment. The fund will maintain cash or high-grade liquid debt securities with a
value equal to the value of the fund's obligation under the agreement, including
accrued interest, in a segregated account with the fund's custodian bank. The
securities subject to the reverse repurchase agreement will be marked-to-market
daily.
OPTIONS AND FUTURES. The fund may write (sell) covered put and call options and
buy put and call options on securities and securities indices that trade on
securities exchanges and in the over-the-counter market. An option on a security
is a contract that allows the buyer of the option the right to buy or sell a
specific security at a stated price during the option's term. An option on a
securities index is a contract that allows the buyer of the option the right to
receive from the seller cash in an amount equal to the difference between the
index's closing price and the option's exercise price. The fund will not engage
in any stock options or stock index options if the premiums it paid for such
options exceed 5% of its total assets.
The fund may buy and sell futures and options on futures with respect to
securities, indices, and currencies. The fund may also sell futures and options
to "close out" futures and options it has purchased, and it may buy futures and
options to "close out" futures and options it has sold. The fund will not enter
into any futures contracts or related options (except for closing transactions)
if, immediately afterwards, its initial deposits and premiums on open contracts
and options would exceed 5% of its total assets (at current value).
Options, futures and options on futures are generally considered "derivative
securities."
SECURITIES LENDING. To generate additional income, the fund may lend its
portfolio securities to qualified securities dealers or other institutional
investors. Such loans may not exceed 20% of the value of the fund's total assets
measured at the time of the most recent loan. For each loan, the borrower must
maintain collateral with the fund's custodian with a value at least equal to
100% of the current market value of the loaned securities.
CONVERTIBLE SECURITIES. The fund may invest in convertible securities, including
enhanced convertible securities. A convertible security generally is a preferred
stock or debt security that pays dividends or interest and may be converted into
common stock.
BORROWING. As a fundamental policy, the fund does not borrow money or mortgage
or pledge any of its assets, except that the fund may enter into reverse
repurchase agreements or borrow from banks up to 10% of its total asset value to
meet redemption requests and for other temporary or emergency purposes. The fund
will not make any additional investments while borrowings exceed 5% of its total
assets.
ILLIQUID INVESTMENTS. The fund's policy is not to invest more than 10% of its
net assets in illiquid securities. Illiquid securities are generally securities
that cannot be sold within seven days in the normal course of business at
approximately the amount at which the fund has valued them.
OTHER POLICIES AND RESTRICTIONS. The fund has a number of additional investment
policies and restrictions that govern its activities. Those that are identified
as "fundamental" may only be changed with shareholder approval. The others may
be changed by the Board alone. For a list of these restrictions and more
information about the fund's investment policies, including those described
above, please see "How Does the Fund Invest Its Assets?" and "Investment
Restrictions" in the SAI.
Generally, the policies and restrictions discussed in this prospectus and in the
SAI apply when the fund makes an investment. In most cases, the fund is not
required to sell a security because circumstances change and the security no
longer meets one or more of the fund's policies or restrictions.
TAX CONSIDERATIONS. The fund's investments in options, futures, foreign
securities and other complex securities are subject to special tax rules that
may affect the amount, timing or character of the income earned by the fund and
distributed to you. The fund may also be subject to withholding taxes on
earnings from certain of its foreign securities. These special tax rules are
discussed in the "Additional Information on Distributions and Taxes" section of
the SAI.
WHAT ARE THE RISKS OF INVESTING IN THE FUND?
There is no assurance that the fund will meet its investment goal.
The value of your shares will increase as the value of the securities owned by
the fund increases and will decrease as the value of the fund's investments
decrease. In this way, you participate in any change in the value of the
securities owned by the fund. In addition to the factors that affect the value
of any particular security that the fund owns, the value of fund shares may also
change with movements in the stock market as a whole.
SMALLER COMPANIES RISK. Historically, smaller companies have been more volatile
in price than larger company securities, especially over the short term. Among
the reasons for the greater price volatility are the less certain growth
prospects of smaller companies, the lower degree of liquidity in the markets for
such securities, and the greater sensitivity of smaller companies to changing
economic conditions.
In addition, smaller companies may lack depth of management, they may be unable
to generate funds necessary for growth or development, or they may be developing
or marketing new products or services for which markets are not yet established
and may never become established, or their products or services may become
quickly obsolete. In particular, smaller companies in the technology and
biotechnology industries may be subject to abrupt or erratic price movements.
Therefore, while smaller companies may offer greater opportunities for capital
growth than larger, more established companies, they also involve greater risks
and should be considered speculative.
GROWTH STOCKS RISK. The prices of growth stocks are based largely on projections
of the issuer's future earnings and revenues. If a company's earnings or
revenues fall short of expectations, its stock price may fall dramatically.
Because the fund invests in growth stocks, its share price may be more volatile
than other types of investments.
FOREIGN SECURITIES RISK. The value of foreign (and U.S.) securities is affected
by general economic conditions and individual company and industry earnings
prospects. While foreign securities may offer significant opportunities for
gain, they also involve additional risks that can increase the potential for
losses in the fund. These risks can be significantly greater for investments in
emerging markets. Investments in Depositary Receipts also involve some or all of
the risks described below.
The political, economic and social structures of some countries in which the
fund invests may be less stable and more volatile than those in the U.S. The
risks of investing in these countries include the possibility of the imposition
of exchange controls, expropriation, restrictions on removal of currency or
other assets, nationalization of assets, and punitive taxes.
There may be less publicly available information about a foreign company or
government than about a U.S. company or public entity. Certain countries'
financial markets and services are less developed than those in the U.S. or
other major economies. As a result, they may not have uniform accounting,
auditing and financial reporting standards and may have less government
supervision of financial markets. Foreign securities markets may have
substantially lower trading volumes than U.S. markets, resulting in less
liquidity and more volatility than experienced in the U.S. Transaction costs on
foreign securities markets are generally higher than in the U.S. The settlement
practices may be cumbersome and result in delays that may affect portfolio
liquidity. The fund may have greater difficulty voting proxies, exercising
shareholder rights, pursuing legal remedies, and obtaining judgments with
respect to foreign investments in foreign courts than with respect to domestic
issuers in U.S. courts.
Some of the countries in which the fund may invest are considered developing or
emerging markets. Investments in these markets are subject to all of the risks
of foreign investing generally, and have additional and heightened risks due to
a lack of legal, business and social frameworks to support securities markets.
Emerging markets involve additional significant risks, including political and
social uncertainty (for example, regional conflicts and risk of war), currency
exchange rate volatility, pervasiveness of corruption and crime, delays in
settling portfolio transactions, and risk of loss arising out of the system of
share registration and custody.
On July 1, 1997, Hong Kong reverted to the sovereignty of China. As with any
major political transfer of power, this could result in political, social,
economic, market, or other developments in Hong Kong, China, or other countries
that could affect the value of fund investments.
REITS RISK. REITs are subject to risks related to the skill of their management,
changes in value of the properties the REITs own, the quality of any credit
extended by the REITs, and general economic and other factors.
DERIVATIVE SECURITIES RISK. Derivative investments are those whose values are
dependent upon the performance of one or more other securities or investments or
indices; in contrast to common stock, for example, whose value is dependent upon
the operations of the issuer. Option transactions and futures contracts are
considered derivative investments. To the extent the fund enters into these
transactions, their success will depend upon Advisers' ability to predict
pertinent market movements.
CONVERTIBLE SECURITIES RISK. A convertible security has risk characteristics of
both equity and debt securities. Its value may rise and fall with the market
value of the underlying stock or, like a debt security, vary with changes in
interest rates and the credit quality of the issuer. A convertible security
tends to perform more like a stock when the underlying stock price is high
(because it is assumed it will be converted) and more like a debt security when
the underlying stock price is low (because it is assumed it will not be
converted). Because its value can be influenced by many different factors, a
convertible security is not as sensitive to interest rate changes as a similar
non-convertible debt security, and generally has less potential for gain or loss
than the underlying stock.
The fund's investments in enhanced convertible securities may involve additional
risks. Some of these securities may be less liquid than other securities in the
fund's portfolio. As a result, the fund may have difficulty selling such a
security at an advantageous time and price. Reduced liquidity in the secondary
market for certain securities may also make it more difficult for the fund to
obtain market quotations based on actual trades for purposes of valuing the
fund's portfolio. The fund intends to buy liquid securities, although there can
be no assurance that the fund will always be able to do so.
MARKET AND CURRENCY RISK. If there is a general market decline in any country
where the fund is invested, the fund's share price may also decline. Changes in
currency valuations will also affect the value of what the fund owns, and thus
the price of fund shares. The value of stock markets and currency valuations
throughout the world have increased and decreased in the past.
These changes are unpredictable.
WHO MANAGES THE FUND?
The Board. The Board oversees the management of the fund and elects its
officers. The officers are responsible for the fund's day-to-day operations. The
Board also monitors the fund to ensure no material conflicts exist among the
fund's classes of shares. While none is expected, the Board will act
appropriately to resolve any material conflict that may arise.
INVESTMENT MANAGER. Advisers manages the fund's assets and makes its investment
decisions. Advisers also performs similar services for other funds. It is wholly
owned by Resources, a publicly owned company engaged in the financial services
industry through its subsidiaries. Charles B. Johnson and Rupert H. Johnson, Jr.
are the principal shareholders of Resources. Together, Advisers and its
affiliates manage over $236 billion in assets. Please see "Investment Management
and Other Services" and "Miscellaneous Information" in the SAI for information
on securities transactions and a summary of the fund's Code of Ethics.
MANAGEMENT TEAM. The team responsible for the day-to-day management of the
fund's portfolio is: Mr. Jamieson since inception and Mr. McCarthy since 1993.
Edward B. Jamieson
Executive Vice President of Advisers
Mr. Jamieson holds a Master's degree in Accounting and Finance from the
University of Chicago Graduate School of Business and a Bachelor of Arts degree
from Bucknell University. He has been with the Franklin Templeton Group since
1987.
Michael McCarthy
Vice President of Advisers
Mr. McCarthy holds a Bachelor of Arts degree in History from the University
of California at Los Angeles. He has been with the Franklin Templeton Group
since 1992.
MANAGEMENT FEES. During the fiscal year ended April 30, 1998, management fees
totaling 0.46% of the average daily net assets of the fund were paid to
Advisers. Total expenses of the fund, including fees paid to Advisers, were
0.64%.
PORTFOLIO TRANSACTIONS. Advisers tries to obtain the best execution on all
transactions. If Advisers believes more than one broker or dealer can provide
the best execution, it may consider research and related services and the sale
of fund shares, as well as shares of other funds in the Franklin Templeton Group
of Funds, when selecting a broker or dealer. Please see "How Does the Fund Buy
Securities for Its Portfolio?" in the SAI for more information.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services provides
certain administrative services and facilities for the fund. During the fiscal
year ended April 30, 1998, administration fees totaling 0.09% of the average
daily net assets of the fund were paid to FT Services. These fees are paid by
Advisers. They are not a separate expense of the fund. Please see "Investment
Management and Other Services" in the SAI for more information.
YEAR 2000 ISSUE. Like other mutual funds, the fund could be adversely affected
if the computer systems used by Advisers and other service providers do not
properly process date-related information on or after January 1, 2000 ("Year
2000 Issue"). The Year 2000 Issue, and in particular foreign service providers'
responsiveness to the issue, could affect portfolio and operational areas
including securities trade processing, interest and dividend payments,
securities pricing, shareholder account services, reporting, custody functions,
and others. While there can be no assurance that the fund will not be adversely
affected, Advisers and its affiliated service providers are taking steps that
they believe are reasonably designed to address the Year 2000 Issue, including
seeking reasonable assurances from the fund's other major service providers.
HOW TAXATION AFFECTS THE FUND AND ITS SHAREHOLDERS
- --------------------------------------------------------------------------------
TAXATION OF THE FUND'S INVESTMENTS. HOW DOES THE FUND EARN INCOME AND
The fund invests your money in the GAINS?
stocks, bonds and other securities
that are described in the section "How The fund earns dividends and interest
Does the Fund Invest Its Assets?" (the fund's "income") on its
Special tax rules may apply in investments. When the fund sells a
determining the income and gains that security for a price that is higher
the fund earns on its investments. than it paid, it has a gain. When the
These rules may, in turn, affect the fund sells a security for a price that
amount of distributions that the fund is lower than it paid, it has a loss.
pays to you. These special tax rules If the fund has held the security for
are discussed in the SAI. more than one year, the gain or loss
will be a long-term capital gain or
TAXATION OF THE FUND. As a regulated loss. If the fund has held the
investment company, the fund generally security for one year or less, the
pays no federal income tax on the gain or loss will be a short-term
income and gains that it distributes capital gain or loss. The fund's gains
to you. and losses are netted together, and,
if the fund has a net gain (the fund's
FOREIGN TAXES. Foreign governments may "gains"), that gain will generally be
impose taxes on the income and gains distributed to you.
from the fund's investments in foreign
securities. These taxes will reduce
the amount of the fund's distributions
to you.
---------------------------------------
TAXATION OF SHAREHOLDERS WHAT IS A DISTRIBUTION?
Distributions. Distributions from the As a shareholder, you will receive
fund, whether you receive them in cash your share of the fund's income and
or in additional shares, are generally gains on its investments in stocks and
subject to income tax. The fund will other securities. The fund's income
send you a statement in January of the and short-term capital gains are paid
current year that reflects the amount to you as ordinary dividends. The
of ordinary dividends, capital gain fund's long-term capital gains are
distributions and non-taxable paid to you as capital gain
distributions you received from the distributions. If the fund pays you an
fund in the prior year. This statement amount in excess of its income and
will include distributions declared in gains, this excess will generally be
December and paid to you in January of treated as a non-taxable distribution.
the current year, but which are These amounts, taken together, are
taxable as if paid on December 31 of what we call the fund's distributions
the prior year. The IRS requires you to you.
to report these amounts on your income
tax return for the prior year.
---------------------------------------
DISTRIBUTIONS TO RETIREMENT PLANS. Fund distributions received by your qualified
retirement plan, such as a 401(k) plan or IRA, are generally tax-deferred; this
means that you are not required to report fund distributions on your income tax
return when paid to your plan, but, rather, when your plan makes payments to
you. Special rules apply to payouts from Roth and Education IRAs.
DIVIDENDS-RECEIVED DEDUCTION. Corporate investors may be entitled to a
dividends-received deduction on a portion of the ordinary dividends they
receive from the fund.
---------------------------------------
REDEMPTIONS AND EXCHANGES. If you WHAT IS A REDEMPTION?
redeem your shares or if you exchange
your shares in the fund for shares in A redemption is a sale by you to the
another Franklin Templeton Fund, you fund of some or all of your shares in
will generally have a gain or loss the fund. The price per share you
that the IRS requires you to report on receive when you redeem fund shares
your income tax return. If you may be more or less than the price at
exchange fund shares held for 90 days which you purchased those shares. An
or less and pay no sales charge, or a exchange of shares in the fund for
reduced sales charge, for the new shares of another Franklin Templeton
shares, all or a portion of the sales Fund is treated as a redemption of
charge you paid on the purchase of the fund shares and then a purchase of
shares you exchanged is not included shares of the other fund. When you
in their cost for purposes of redeem or exchange your shares, you
computing gain or loss on the will generally have a gain or loss,
exchange. If you hold your shares for depending upon whether the amount you
six months or less, any loss you have receive for your shares is more or
will be treated as a long-term capital less than your cost or other basis in
loss to the extent of any capital gain the shares. Call Fund Information for
distributions received by you from the a free shareholder Tax Information
fund. All or a portion of any loss on Handbook if you need more information
the redemption or exchange of your in calculating the gain or loss on the
shares will be disallowed by the IRS redemption or exchange of your shares.
if you purchase other shares in the
fund within 30 days before or after
your redemption or exchange.
---------------------------------------
U.S. GOVERNMENT INTEREST. Many states grant tax-free status to dividends paid
from interest earned on direct obligations of the U.S. government, subject to
certain restrictions. The fund will provide you with information at the end
of each calendar year on the amount of such dividends that may qualify for
exemption from reporting on your individual income tax returns.
NON-U.S. INVESTORS. Ordinary dividends generally will be subject to U.S.
income tax withholding. Your home country may also tax ordinary dividends,
capital gain distributions and gains arising from redemptions or exchanges of
your fund shares. Fund shares held by the estate of a non-U.S. investor may
be subject to U.S. estate tax. You may wish to contact your tax advisor to
determine the U.S. and non-U.S. tax consequences of your investment in the
fund.
STATE TAXES. Ordinary dividends and capital gain distributions that you receive
from the fund, and gains arising from redemptions or exchanges of your fund
shares will generally be subject to state and local income tax. The holding of
fund shares may also be subject to state and local intangibles taxes. You may
wish to contact your tax advisor to determine the state and local tax
consequences of your investment in the fund.
---------------------------------------
BACKUP WITHHOLDING. When you open an WHAT IS A
account, IRS regulations require that BACKUP WITHHOLDING?
you provide your taxpayer
number ("TIN"), certify identification Backup withholding occurs when the
that it is correct, and certify that fund is required to withhold and pay
you are not subject to backup over to the IRS 31% of your
withholding under IRS rules. If you distributions and redemption proceeds.
fail to provide a correct TIN or the You can avoid backup withholding by
proper tax certifications, the fund is providing the fund with your TIN, and
required to withhold 31% of all the by completing the tax certifications
distributions (including ordinary on your shareholder application that
dividends and capital gain you were asked to sign when you opened
distributions), and redemption your account. However, if the IRS
proceeds paid to you. The fund is also instructs the fund to begin backup
required to begin backup withholding withholding, it is required to do so
on your account if the IRS instructs even if you provided the fund with
the fund to do so. The fund reserves your TIN and these tax certifications,
the right not to open your account, and backup withholding will remain in
or, alternatively, to redeem your place until the fund is
shares at the current net asset value, instructed by the IRS that it is no
less any taxes withheld, if you fail longer required.
to provide a correct TIN, fail to
provide the proper tax certifications,
or the IRS instructs the fund to begin
backup withholding on your account.
---------------------------------------
THIS TAX DISCUSSION IS FOR GENERAL INFORMATION ONLY. PROSPECTIVE INVESTORS
SHOULD CONSULT THEIR OWN TAX ADVISORS CONCERNING THE FEDERAL, STATE, LOCAL OR
FOREIGN TAX CONSEQUENCES OF AN INVESTMENT IN THE FUND. A MORE COMPLETE
DISCUSSION OF THESE RULES AND RELATED MATTERS IS CONTAINED IN THE SECTION
ENTITLED "ADDITIONAL INFORMATION ON DISTRIBUTIONS AND TAXES" IN THE SAI. THE TAX
TREATMENT TO YOU OF DIVIDENDS, CAPITAL GAIN DISTRIBUTIONS, FOREIGN TAXES PAID
AND INCOME TAXES WITHHELD IS ALSO DISCUSSED IN A FREE FRANKLIN TEMPLETON TAX
INFORMATION HANDBOOK, WHICH YOU MAY REQUEST BY CONTACTING FUND INFORMATION.
HOW IS THE TRUST ORGANIZED?
The fund is a diversified series of Franklin Strategic Series (the "Trust"), an
open-end management investment company, commonly called a mutual fund. It was
organized as a Delaware business trust on January 25, 1991, and is registered
with the SEC. As of January 2, 1997, the fund began offering a new class of
shares designated Franklin Small Cap Growth Fund - Advisor Class. All shares
outstanding before the offering of Advisor Class shares have been designated
Franklin Small Cap Growth Fund - Class I and Franklin Small Cap Growth Fund -
Class II. Additional series and classes of shares may be offered in the future.
Shares of each class represent proportionate interests in the assets of the fund
and have the same voting and other rights and preferences as any other class of
the fund for matters that affect the fund as a whole. For matters that only
affect one class, however, only shareholders of that class may vote. Each class
will vote separately on matters affecting only that class, or expressly required
to be voted on separately by state or federal law. Shares of each class of a
series have the same voting and other rights and preferences as the other
classes and series of the Trust for matters that affect the Trust as a whole.
The Trust has noncumulative voting rights. This gives holders of more than 50%
of the shares voting the ability to elect all of the members of the Board. If
this happens, holders of the remaining shares voting will not be able to elect
anyone to the Board.
The Trust does not intend to hold annual shareholder meetings. The Trust or a
series of the Trust may hold special meetings, however, for matters requiring
shareholder approval. A meeting may also be called by the Board in its
discretion or by shareholders holding at least 10% of the outstanding shares. In
certain circumstances, we are required to help you communicate with other
shareholders about the removal of a Board member.
ABOUT YOUR ACCOUNT
HOW DO I BUY SHARES?
OPENING YOUR ACCOUNT
Shares of the fund may be purchased without a sales charge. Please note that as
of January 1, 1998, shares of the fund are not available to retirement plans
through Franklin Templeton's ValuSelect(R) program. Retirement plans in Franklin
Templeton's ValuSelect program before January 1, 1998, however, may continue to
invest in the fund.
To open your account, please follow the steps below. This will help avoid any
delays in processing your request. PLEASE KEEP IN MIND THAT THE FUND DOES NOT
CURRENTLY ALLOW INVESTMENTS BY MARKET TIMERS.
1. Read this prospectus carefully.
2. Determine how much you would like to invest. The fund's minimum investments
are:
o To open your account: $5,000,000
o To add to your account: $25
We reserve the right to change the amount of these minimums from time to
time or to waive or lower these minimums for certain purchases. Please see
"Minimum Investments" below. We also reserve the right to refuse any order
to buy shares.
3. Carefully complete and sign the enclosed shareholder application, including
the optional shareholder privileges section. By applying for privileges now,
you can avoid the delay and inconvenience of having to send an additional
application to add privileges later. It is important that we receive a
signed application since we will not be able to process any redemptions from
your account until we receive your signed application.
4. Make your investment using the table below.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL For an initial investment:
Return the application to the fund with your check
made payable to the fund.
For additional investments:
Send a check made payable to the fund. Please include
your account number on the check.
- ------------------------------------------------------------------------------
By Wire 1. Call Shareholder Services or, if that number is
busy, call 1-650/312-2000 collect, to receive a
wire control number and wire instructions. You
need a new wire control number every time you
wire money into your account. If you do not have
a currently effective wire control number, we
will return the money to the bank, and we will
not credit the purchase to your account.
2. For an initial investment you must also return your
signed shareholder application to the fund.
IMPORTANT DEADLINES: If we receive your call before 1:00
p.m. Pacific time and the bank receives the wired funds
and reports the receipt of wired funds to the fund by
3:00 p.m. Pacific time, we will credit the purchase to
your account that day. If we receive your call after
1:00 p.m. or the bank receives the wire after 3:00 p.m.,
we will credit the purchase to your account the
following business day.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
MINIMUM INVESTMENTS
To determine if you meet the minimum initial investment requirement of $5
million, the amount of your current purchase is added to the cost or current
value, whichever is higher, of your existing shares in the Franklin Templeton
Funds. At least $1 million of this amount, however, must be invested in Advisor
Class or Class Z shares of any of the Franklin Templeton Funds.
The fund may waive or lower its minimum investment requirement for certain
purchases. A lower minimum initial investment requirement applies to purchases
by:
1. Qualified registered investment advisors or certified financial planners who
have clients invested in any series of Franklin Mutual Series Fund Inc. on
October 31, 1996, or who buy through a broker-dealer or service agent who
has entered into an agreement with Distributors, subject to a $1,000 minimum
initial and $50 minimum subsequent investment requirement
2. Broker-dealers, registered investment advisors or certified financial
planners who have entered into an agreement with Distributors for clients
participating in comprehensive fee programs, subject to a $250,000 minimum
initial investment requirement or a $100,000 minimum initial investment
requirement for an individual client
3. Officers, trustees, directors and full-time employees of the Franklin
Templeton Funds or the Franklin Templeton Group and their immediate family
members, subject to a $100 minimum initial investment requirement
4. Each series of the Franklin Templeton Fund Allocator Series, subject to a
$1,000 minimum initial and subsequent investment requirement
5. Governments, municipalities, and tax-exempt entities that meet the
requirements for qualification under Section 501 of the Code, subject to a
$1 million initial investment in Advisor Class or Class Z shares of any of
the Franklin Templeton Funds
No minimum initial investment requirement applies to purchases by:
1. Accounts managed by the Franklin Templeton Group
2. The Franklin Templeton Profit Sharing 401(k) Plan
3. Defined contribution plans such as employer stock, bonus, pension or profit
sharing plans that meet the requirements for qualification under Section 401
of the Code, including salary reduction plans qualified under Section 401(k)
of the Code, and that (i) are sponsored by an employer with at least 10,000
employees, or (ii) have plan assets of $100 million or more
4. Trust companies and bank trust departments initially investing in the
Franklin Templeton Funds at least $1 million of assets held in a fiduciary,
agency, advisory, custodial or similar capacity and over which the trust
companies and bank trust departments or other plan fiduciaries or
participants, in the case of certain retirement plans, have full or shared
investment discretion
5. Any other investor, including a private investment vehicle such as a family
trust or foundation, who is a member of a qualified group, if the group as a
whole meets the $5 million minimum investment requirement. A qualified group
is one that:
o Was formed at least six months ago,
o Has a purpose other than buying fund shares at a discount,
o Has more than 10 members,
o Can arrange for meetings between our representatives and group members,
o Agrees to include Franklin Templeton Fund sales and other materials in
publications and mailings to its members at reduced or no cost to
Distributors,
o Agrees to arrange for payroll deduction or other bulk transmission of
investments to the fund, and
o Meets other uniform criteria that allow Distributors to achieve cost
savings in distributing shares.
HOW DO I BUY SHARES IN CONNECTION WITH RETIREMENT PLANS?
Your individual or employer-sponsored retirement plan may invest in the fund.
Plan documents are required for all retirement plans. Trust Company can provide
the plan documents for you and serve as custodian or trustee.
Trust Company can provide you with brochures containing important information
about its plans. To establish a Trust Company retirement plan, you will need an
application other than the one included in this prospectus. For a retirement
plan brochure or application, call Retirement Plan Services.
Please consult your legal, tax or retirement plan specialist before choosing a
retirement plan. Your investment representative or advisor can help you make
investment decisions within your plan.
PAYMENTS TO SECURITIES DEALERS
Securities Dealers who initiate and are responsible for purchases of Advisor
Class shares may receive up to 0.25% of the amount invested. The payment is
subject to the sole discretion of Distributors, and is paid by Distributors or
one of its affiliates and not by the fund or its shareholders.
For information on additional compensation payable to Securities Dealers in
connection with the sale of fund shares, please see "How Do I Buy, Sell and
Exchange Shares? - Other Payments to Securities Dealers" in the SAI.
MAY I EXCHANGE SHARES FOR SHARES OF ANOTHER FUND?
We offer a wide variety of funds. If you would like, you can move your
investment from your fund account to an existing or new account in another
Franklin Templeton Fund (an "exchange"). Because it is technically a sale and a
purchase of shares, an exchange is a taxable transaction.
Before making an exchange, please read the prospectus of the fund you are
interested in. This will help you learn about the fund, its investment goal and
policies, and its rules and requirements for exchanges. For example, some
Franklin Templeton Funds do not accept exchanges and some do not offer Advisor
Class shares.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL 1. Send us signed written instructions
2. Include any outstanding share certificates for
the shares you want to exchange
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services
- If you do not want the ability to exchange by
phone to apply to your account, please let us
know.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to exchange shares.
EXCHANGE RESTRICTIONS
Please be aware that the following restrictions apply to exchanges:
o You must meet the applicable minimum investment amount of the fund you are
exchanging into, or exchange 100% of your fund shares.
o You may only exchange shares within the SAME CLASS, except as noted below.
o The accounts must be identically registered. You may, however, exchange
shares from a fund account requiring two or more signatures into an
identically registered money fund account requiring only one signature for
all transactions. PLEASE NOTIFY US IN WRITING IF YOU DO NOT WANT THIS
OPTION TO BE AVAILABLE ON YOUR ACCOUNT. Additional procedures may apply.
Please see "Transaction Procedures and Special Requirements."
o Trust Company IRA or 403(b) retirement plan accounts may exchange shares as
described above. Restrictions may apply to other types of retirement plans.
Please contact Retirement Plan Services for information on exchanges within
these plans.
o The fund you are exchanging into must be eligible for sale in your state.
o We may modify or discontinue our exchange policy if we give you 60 days'
written notice.
o Currently, the fund does not allow investments by Market Timers.
Because excessive trading can hurt fund performance, operations and
shareholders, we may refuse any exchange purchase if (i) we believe the fund
would be harmed or unable to invest effectively, or (ii) the fund receives or
anticipates simultaneous orders that may significantly affect the fund.
LIMITED EXCHANGES BETWEEN DIFFERENT CLASSES OF SHARES
If you want to exchange into a fund that does not currently offer an Advisor
Class, you may exchange your Advisor Class shares for Class I shares of that
fund at Net Asset Value. If you do not qualify to buy Advisor Class shares of
Templeton Developing Markets Trust, Templeton Foreign Fund or Templeton Growth
Fund, you may exchange the Advisor Class shares you own for Class I shares of
those funds or of Templeton Institutional Funds, Inc. at Net Asset Value. If you
do so and you later decide you would like to exchange into a fund that offers an
Advisor Class, you may exchange your Class I shares for Advisor Class shares of
that fund. You may also exchange your Advisor Class shares for Class Z shares of
Franklin Mutual Series Fund Inc.
HOW DO I SELL SHARES?
You may sell (redeem) your shares at any time.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL 1. Send us signed written instructions. If you would like
your redemption proceeds wired to a bank account, your
instructions should include:
o The name, address and telephone number of the bank
where you want the proceeds sent
o Your bank account number
o The Federal Reserve ABA routing number
o If you are using a savings and loan or credit union,
the name of the corresponding bank and the account
number
2. Include any outstanding share certificates for the
shares you are selling
3. Provide a signature guarantee if required
4. Corporate, partnership and trust accounts may need to send
additional documents. Accounts under court jurisdiction
may have other requirements.
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services. If you would like your
redemption proceeds wired to a bank account, other than an
escrow account, you must first sign up for the wire
feature. To sign up, send us written instructions, with a
signature guarantee. To avoid any delay in processing, the
instructions should include the items listed in "By Mail"
above.
Telephone requests will be accepted:
o If the request is $50,000 or less. Institutional accounts
may exceed $50,000 by completing a separate agreement.
Call Institutional Services to receive a copy.
o If there are no share certificates issued for the shares
you want to sell or you have already returned them to the
fund
o Unless you are selling shares in a Trust Company
retirement plan account
o Unless the address on your account was changed by phone
within the last 15 days
If you do not want the ability to redeem by phone to apply to
your account, please let us know.
- ------------------------------------------------------------------------------
THROUGH
YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
We will send your redemption check within seven days after we receive your
request in proper form. If you would like the check sent to an address other
than the address of record or made payable to someone other than the registered
owners on the account, send us written instructions signed by all account
owners, with a signature guarantee. We are not able to receive or pay out cash
in the form of currency.
The wiring of redemption proceeds is a special service that we make available
whenever possible for redemption requests of $1,000 or more. If we receive your
request in proper form before 1:00 p.m. Pacific time, your wire payment will be
sent the next business day. For requests received in proper form after 1:00 p.m.
Pacific time, the payment will be sent the second business day. By offering this
service to you, the fund is not bound to meet any redemption request in less
than the seven day period prescribed by law. Neither the fund nor its agents
shall be liable to you or any other person if, for any reason, a redemption
request by wire is not processed as described in this section.
If you sell shares you recently purchased with a check or draft, we may delay
sending you the proceeds until your check or draft has cleared, which may take
seven business days or more. A certified or cashier's check may clear in less
time.
Under unusual circumstances, we may suspend redemptions or postpone payment for
more than seven days as permitted by federal securities law.
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to sell shares.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS
To comply with IRS regulations, you need to complete additional forms before
selling shares in a Trust Company retirement plan account. Tax penalties
generally apply to any distribution from these plans to a participant under age
591/2, unless the distribution meets an exception stated in the Code. To obtain
the necessary forms, please call Retirement Plan Services.
WHAT DISTRIBUTIONS MIGHT I RECEIVE FROM THE FUND?
The fund declares dividends from its net investment income semiannually in June
and December to shareholders of record on the first business day before the 15th
of the month and pays them on or about the last day of that month.
Capital gains, if any, may be distributed annually, usually in December.
Dividend payments are not guaranteed, are subject to the Board's discretion and
may vary with each payment. THE FUND DOES NOT PAY "INTEREST" OR GUARANTEE ANY
FIXED RATE OF RETURN ON AN INVESTMENT IN ITS SHARES.
If you buy shares shortly before the record date, please keep in mind that any
distribution will lower the value of the fund's shares by the amount of the
distribution and you will then receive a portion of the price you paid back in
the form of a taxable distribution.
DISTRIBUTION OPTIONS
You may receive your distributions from the fund in any of these ways:
1. BUY ADDITIONAL SHARES OF THE FUND - You may buy additional shares of the same
class of the fund by reinvesting capital gain distributions, or both dividend
and capital gain distributions. This is a convenient way to accumulate
additional shares and maintain or increase your earnings base.
2. BUY SHARES OF OTHER FRANKLIN TEMPLETON FUNDS - You may direct your
distributions to buy the same class of shares of another Franklin Templeton
Fund. You may also direct your distributions to buy Class I shares of another
Franklin Templeton Fund. Many shareholders find this a convenient way to
diversify their investments.
3. RECEIVE DISTRIBUTIONS IN CASH - You may receive dividends, or both dividend
and capital gain distributions in cash. If you have the money sent to another
person or to a checking account, you may need a signature guarantee.
TO SELECT ONE OF THESE OPTIONS, PLEASE COMPLETE SECTIONS 6 AND 7 OF THE
SHAREHOLDER APPLICATION INCLUDED WITH THIS PROSPECTUS OR TELL YOUR INVESTMENT
REPRESENTATIVE WHICH OPTION YOU PREFER. IF YOU DO NOT SELECT AN OPTION, WE WILL
AUTOMATICALLY REINVEST DIVIDEND AND CAPITAL GAIN DISTRIBUTIONS IN THE SAME CLASS
OF THE FUND. You may change your distribution option at any time by notifying us
by mail or phone. Please allow at least seven days before the record date for us
to process the new option. For Trust Company retirement plans, special forms are
required to receive distributions in cash.
TRANSACTION PROCEDURES AND SPECIAL REQUIREMENTS
SHARE PRICE
You buy and sell Advisor Class shares at the Net Asset Value per share. The Net
Asset Value we use when you buy or sell shares is the one next calculated after
we receive your transaction request in proper form. If you buy or sell shares
through your Securities Dealer, however, we will use the Net Asset Value next
calculated after your Securities Dealer receives your request, which is promptly
transmitted to the fund. Your redemption proceeds will not earn interest between
the time we receive the order from your dealer and the time we receive any
required documents.
HOW AND WHEN SHARES ARE PRICED
The fund is open for business each day the NYSE is open. We determine the Net
Asset Value per share as of the close of the NYSE, normally 1:00 p.m. Pacific
time. You can find the prior day's closing Net Asset Value in many newspapers.
The Net Asset Value of all outstanding shares of each class is calculated on a
pro rata basis. It is based on each class' proportionate participation in the
fund, determined by the value of the shares of each class. To calculate Net
Asset Value per share of each class, the assets of each class are valued and
totaled, liabilities are subtracted, and the balance, called net assets, is
divided by the number of shares of the class outstanding. The fund's assets are
valued as described under "How Are Fund Shares Valued?" in the SAI.
WRITTEN INSTRUCTIONS
Written instructions must be signed by all registered owners. To avoid any delay
in processing your transaction, they should include:
o Your name,
o The fund's name,
o The class of shares,
o A description of the request,
o For exchanges, the name of the fund you are exchanging into,
o Your account number,
o The dollar amount or number of shares, and
o A telephone number where we may reach you during the day, or in the evening
if preferred.
JOINT ACCOUNTS. For accounts with more than one registered owner, we accept
written instructions signed by only one owner for certain types of transactions
or account changes. These include transactions or account changes that you could
also make by phone, such as certain redemptions of $50,000 or less, exchanges
between identically registered accounts, and changes to the address of record.
For most other types of transactions or changes, written instructions must be
signed by all registered owners.
Please keep in mind that if you have previously told us that you do not want
telephone exchange or redemption privileges on your account, then we can only
accept written instructions to exchange or redeem shares if they are signed by
all registered owners on the account.
SIGNATURE GUARANTEES
For our mutual protection, we require a signature guarantee in the following
situations:
1) You wish to sell over $50,000 worth of shares,
2) You want the proceeds to be paid to someone other than the registered
owners,
3) The proceeds are not being sent to the address of record, preauthorized bank
account, or preauthorized brokerage firm account,
4) We receive instructions from an agent, not the registered owners,
5) We believe a signature guarantee would protect us against potential claims
based on the instructions received.
A signature guarantee verifies the authenticity of your signature. You should be
able to obtain a signature guarantee from a bank, broker, credit union, savings
association, clearing agency, or securities exchange or association.
A NOTARIZED SIGNATURE IS NOT SUFFICIENT.
SHARE CERTIFICATES
We will credit your shares to your fund account. We do not issue share
certificates unless you specifically request them. This eliminates the costly
problem of replacing lost, stolen or destroyed certificates. If a certificate is
lost, stolen or destroyed, you may have to pay an insurance premium of up to 2%
of the value of the certificate to replace it.
Any outstanding share certificates must be returned to the fund if you want to
sell or exchange those shares or if you would like to start a systematic
withdrawal plan. The certificates should be properly endorsed. You can do this
either by signing the back of the certificate or by completing a share
assignment form. For your protection, you may prefer to complete a share
assignment form and to send the certificate and assignment form in separate
envelopes.
TELEPHONE TRANSACTIONS
You may initiate many transactions and changes to your account by phone. Please
refer to the sections of this prospectus that discuss the transaction you would
like to make or call Shareholder Services.
When you call, we will request personal or other identifying information to
confirm that instructions are genuine. We may also record calls. If our lines
are busy or you are otherwise unable to reach us by phone, you may wish to ask
your investment representative for assistance or send us written instructions,
as described elsewhere in this prospectus.
For your protection, we may delay a transaction or not implement one if we are
not reasonably satisfied that the instructions are genuine. If this occurs, we
will not be liable for any loss. We also will not be liable for any loss if we
follow instructions by phone that we reasonably believe are genuine or if you
are unable to execute a transaction by phone.
Trust Company Retirement Plan Accounts. We cannot accept instructions to sell
shares or change distribution options on Trust Company retirement plans by
phone. While you may exchange shares of Trust Company IRA and 403(b) retirement
accounts by phone, certain restrictions may be imposed on other retirement
plans.
To obtain any required forms or more information about distribution or transfer
procedures, please call Retirement Plan Services.
ACCOUNT REGISTRATIONS AND REQUIRED DOCUMENTS
When you open an account, we need you to tell us how you want your shares
registered. How you register your account will affect your ownership rights and
ability to make certain transactions. If you have questions about how to
register your account, you should consult your investment representative or
legal advisor. Please keep the following information in mind when registering
your account.
JOINT OWNERSHIP. If you open an account with two or more owners, we register the
account as "joint tenants with rights of survivorship" unless you tell us
otherwise. An account registered as "joint tenants with rights of survivorship"
is shown as "Jt Ten" on your account statement. For any account with two or more
owners, we cannot accept instructions to change owners on the account unless ALL
owners agree in writing, even if the law in your state says otherwise. If you
would like another person or owner to sign for you, please send us a current
power of attorney.
GIFTS AND TRANSFERS TO MINORS. You may set up a custodial account for a minor
under your state's Uniform Gifts/Transfers to Minors Act. Other than this form
of registration, a minor may not be named as an account owner.
TRUSTS. You should register your account as a trust only if you have a valid
written trust document. This avoids future disputes or possible court action
over who owns the account.
REQUIRED DOCUMENTS. For corporate, partnership and trust accounts, please send
us the following documents when you open your account. This will help avoid
delays in processing your transactions while we verify who may sign on the
account.
TYPE OF ACCOUNT DOCUMENTS REQUIRED
- ------------------------------------------------------------------------------
CORPORATION Corporate Resolution
- ------------------------------------------------------------------------------
PARTNERSHIP 1. The pages from the partnership agreement that
identify the general partners, or
2. A certification for a partnership agreement
- ------------------------------------------------------------------------------
TRUST 1. The pages from the trust document that identify
the trustees, or
2. A certification for trust
- ------------------------------------------------------------------------------
STREET OR NOMINEE ACCOUNTS. If you have fund shares held in a "street" or
"nominee" name account with your Securities Dealer, you may transfer the shares
to the street or nominee name account of another Securities Dealer. Both dealers
must have an agreement with Distributors or we cannot process the transfer.
Contact your Securities Dealer to initiate the transfer. We will process the
transfer after we receive authorization in proper form from your delivering
Securities Dealer. Accounts may be transferred electronically through the NSCC.
For accounts registered in street or nominee name, we may take instructions
directly from the Securities Dealer or your nominee.
IMPORTANT INFORMATION IF YOU HAVE AN INVESTMENT REPRESENTATIVE
If there is a Securities Dealer or other representative of record on your
account, we are authorized: (1) to provide confirmations, account statements and
other information about your account directly to your dealer and/or
representative; and (2) to accept telephone and electronic instructions directly
from your dealer or representative, including instructions to exchange or redeem
your shares. Electronic instructions may be processed through established
electronic trading systems and programs used by the fund. Telephone instructions
directly from your representative will be accepted unless you have told us that
you do not want telephone privileges to apply to your account.
KEEPING YOUR ACCOUNT OPEN
Due to the relatively high cost of maintaining a small account, we may close
your account if the value of your shares is less than $250, or less than $50 for
employee accounts. We will only do this if the value of your account fell below
this amount because you voluntarily sold your shares and your account has been
inactive (except for the reinvestment of distributions) for at least six months.
Before we close your account, we will notify you and give you 30 days to
increase the value of your account to $1,000, or $100 for employee accounts.
These minimums do not apply to IRAs, accounts managed by the Franklin Templeton
Group, the Franklin Templeton Profit Sharing 401(k) Plan, the series of Franklin
Templeton Fund Allocator Series, or certain defined contribution plans that
qualify to buy shares with no minimum initial investment requirement.
SERVICES TO HELP YOU MANAGE YOUR ACCOUNT
AUTOMATIC INVESTMENT PLAN
Our automatic investment plan offers a convenient way to invest in the fund.
Under the plan, you can have money transferred automatically from your checking
account to the fund each month to buy additional shares. If you are interested
in this program, please refer to the shareholder application included with this
prospectus or contact your investment representative. The market value of the
fund's shares may fluctuate and a systematic investment plan such as this will
not assure a profit or protect against a loss. You may discontinue the program
at any time by calling Shareholder Services.
SYSTEMATIC WITHDRAWAL PLAN
Our systematic withdrawal plan allows you to sell your shares and receive
regular payments from your account on a monthly, quarterly, semiannual or annual
basis. The value of your account must be at least $5,000 and the minimum payment
amount for each withdrawal must be at least $50. For retirement plans subject to
mandatory distribution requirements, the $50 minimum will not apply.
If you would like to establish a systematic withdrawal plan, please complete the
systematic withdrawal plan section of the shareholder application included with
this prospectus and indicate how you would like to receive your payments. You
may choose to direct your payments to buy the same class of shares of another
Franklin Templeton Fund or have the money sent directly to you, to another
person, or to a checking account. Once your plan is established, any
distributions paid by the fund will be automatically reinvested in your account.
You will generally receive your payment by the end of the month in which a
payment is scheduled. When you sell your shares under a systematic withdrawal
plan, it is a taxable transaction.
You may discontinue a systematic withdrawal plan, change the amount and schedule
of withdrawal payments, or suspend one payment by notifying us by mail or by
phone at least seven business days before the end of the month preceding a
scheduled payment. Please see "How Do I Buy, Sell and Exchange Shares? -
Systematic Withdrawal Plan" in the SAI for more information.
TELEFACTS(R)
From a touch-tone phone, you may call our TeleFACTS(R) system (day or night) at
1-800/247-1753 to:
o obtain information about your account;
o obtain price information about any Franklin Templeton Fund; and
o request duplicate statements and deposit slips for Franklin Templeton
accounts.
You will need the fund's code number to use TeleFACTS(R). The fund's code number
is 698.
STATEMENTS AND REPORTS TO SHAREHOLDERS
We will send you the following statements and reports on a regular basis:
o Confirmation and account statements reflecting transactions in your account,
including additional purchases and dividend reinvestments. PLEASE VERIFY THE
ACCURACY OF YOUR STATEMENTS WHEN YOU RECEIVE THEM.
o Financial reports of the fund will be sent every six months. To reduce fund
expenses, we attempt to identify related shareholders within a household and
send only one copy of a report. Call Fund Information if you would like an
additional free copy of the fund's financial reports.
INSTITUTIONAL ACCOUNTS
Additional methods of buying, selling or exchanging shares of the fund may be
available to institutional accounts. Institutional investors may also be
required to complete an institutional account application. For more information,
call Institutional Services.
AVAILABILITY OF THESE SERVICES
The services above are available to most shareholders. If, however, your shares
are held by a financial institution, in a street name account, or networked
through the NSCC, the fund may not be able to offer these services directly to
you. Please contact your investment representative.
WHAT IF I HAVE QUESTIONS ABOUT MY ACCOUNT?
If you have any questions about your account, you may write to Investor Services
at 777 Mariners Island Blvd., P.O. Box 7777, San Mateo, California 94403-7777.
The fund, Distributors and Advisers are also located at this address. You may
also contact us by phone at one of the numbers listed below.
HOURS OF OPERATION (PACIFIC TIME)
DEPARTMENT NAME TELEPHONE NO. (MONDAY THROUGH FRIDAY)
- ----------------------------------------------------------------------------
Shareholder Services 1-800/632-2301 5:30 a.m. to 5:00 p.m.
Dealer Services 1-800/524-4040 5:30 a.m. to 5:00 p.m.
Fund Information 1-800/DIAL BEN 5:30 a.m. to 8:00 p.m.
(1-800/342-5236) 6:30 a.m. to 2:30 p.m.(Saturday)
Retirement Plan Services 1-800/527-2020 5:30 a.m. to 5:00 p.m.
Institutional Services 1-800/321-8563 6:00 a.m. to 5:00 p.m.
TDD (hearing impaired) 1-800/851-0637 5:30 a.m. to 5:00 p.m.
Your phone call may be monitored or recorded to ensure we provide you with high
quality service. You will hear a regular beeping tone if your call is being
recorded.
GLOSSARY
USEFUL TERMS AND DEFINITIONS
ADVISERS - Franklin Advisers, Inc., the fund's investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I, CLASS II AND ADVISOR CLASS - The fund offers three classes of shares,
designated "Class I," "Class II," and "Advisor Class." The three classes have
proportionate interests in the fund's portfolio. They differ, however, primarily
in their sales charge and expense structures.
CODE - Internal Revenue Code of 1986, as amended
DEPOSITARY RECEIPTS - Certificates that give their holders the right to receive
securities (a) of a foreign issuer deposited in a U.S. bank or trust company
(American Depositary Receipts, "ADRs"); or (b) of a foreign or U.S. issuer
deposited in a foreign bank or trust company (Global Depositary Receipts, "GDRs"
or European Depositary Receipts, "EDRs").
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the fund's principal
underwriter. The SAI lists the officers and Board members who are affiliated
with Distributors. See "Officers and Trustees."
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the fund's administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the fund's
shareholder servicing and transfer agent
IRS - Internal Revenue Service
MARKET TIMERS - Market Timers generally include market timing or asset
allocation services, accounts administered so as to buy, sell or exchange shares
based on predetermined market indicators, or any person or group whose
transactions seem to follow a timing pattern or whose transactions include
frequent or large exchanges.
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by the
number of shares outstanding.
NSCC - National Securities Clearing Corporation
NYSE - New York Stock Exchange
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
TELEFACTS(R) - Franklin Templeton's automated customer servicing system
TRUST COMPANY - Franklin Templeton Trust Company. Trust Company is an
affiliate of Distributors and both are wholly owned subsidiaries of Resources.
WE/OUR/US - Unless the context indicates a different meaning, these terms refer
to the fund and/or Investor Services, Distributors, or other wholly owned
subsidiaries of Resources.
PROSPECTUS & APPLICATION
FRANKLIN NATURAL
RESOURCES FUND
INVESTMENT STRATEGY
GROWTH & INCOME
ADVISOR CLASS
SEPTEMBER 1, 1998
Please read this prospectus before investing, and keep it for future reference.
It contains important information, including how the fund invests and the
services available to shareholders.
This prospectus describes the fund's Advisor Class shares. The fund currently
offers another share class with a different sales charge and expense structure,
which affects performance.
To learn more about the fund and its policies, you may request a copy of the
fund's Statement of Additional Information ("SAI"), dated September 1, 1998,
which we may amend from time to time. We have filed the SAI with the SEC and
have incorporated it by reference into this prospectus.
For a free copy of the SAI or a larger print version of this prospectus, or to
receive a free copy of the prospectus for the fund's other share class, contact
your investment representative or call 1-800/DIAL BEN.
MUTUAL FUND SHARES ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED
BY, ANY BANK, AND ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE
CORPORATION, THE FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S.
GOVERNMENT. MUTUAL FUND SHARES INVOLVE INVESTMENT RISKS, INCLUDING THE POSSIBLE
LOSS OF PRINCIPAL.
LIKE ALL MUTUAL FUND SHARES, THE SEC HAS NOT APPROVED OR DISAPPROVED THESE
SECURITIES OR PASSED UPON THE ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION
TO THE CONTRARY IS A CRIMINAL OFFENSE.
THIS PROSPECTUS IS NOT AN OFFERING OF THE SECURITIES HEREIN DESCRIBED IN ANY
STATE, JURISDICTION OR COUNTRY IN WHICH THE OFFERING IS NOT AUTHORIZED. NO SALES
REPRESENTATIVE, DEALER, OR OTHER PERSON IS AUTHORIZED TO GIVE ANY INFORMATION OR
MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS. FURTHER
INFORMATION MAY BE OBTAINED FROM DISTRIBUTORS.
FRANKLIN
NATURAL
RESOURCES
FUND -
ADVISOR CLASS
SEPTEMBER 1, 1998
When reading this prospectus, you will see certain terms beginning with capital
letters. This means the term is explained in our glossary section
TABLE OF CONTENTS
ABOUT THE FUND
Expense Summary .................................................. 2
Financial Highlights ............................................. 3
How Does the Fund Invest Its Assets?.............................. 4
What Are the Risks of Investing in the Fund?...................... 7
Who Manages the Fund?............................................. 9
How Taxation Affects the Fund and Its Shareholders ............... 11
How Is the Trust Organized?....................................... 13
ABOUT YOUR ACCOUNT
How Do I Buy Shares?.............................................. 14
May I Exchange Shares for Shares of Another Fund?................. 18
How Do I Sell Shares?............................................. 20
What Distributions Might I Receive From the Fund?................. 21
Transaction Procedures and Special Requirements .................. 22
Services to Help You Manage Your Account.......................... 26
What If I Have Questions About My Account?........................ 28
GLOSSARY
Useful Terms and Definitions ..................................... 29
777 Mariners Island Blvd.
P.O. Box 7777
San Mateo
CA 94403-7777
1-800/DIAL BEN(R)
ABOUT THE FUND
EXPENSE SUMMARY
This table is designed to help you understand the costs of investing in the
fund. It is based on the historical expenses of Advisor Class for the fiscal
year ended April 30, 1998. The fund's actual expenses may vary.
A. SHAREHOLDER TRANSACTION EXPENSES+
Maximum Sales Charge Imposed on Purchases................ None
Exchange Fee (per transaction)........................... $5.00*
B. ANNUAL FUND OPERATING EXPENSES (AS A PERCENTAGE OF AVERAGE NET ASSETS)
Management Fees.......................................... 0.62%**
Rule 12b-1 Fees.......................................... None
Other Expenses........................................... 0.37%
-------
Total Fund Operating Expenses............................ 0.99%**
=======
C. EXAMPLE
Assume the annual return for the class is 5%, operating expenses are as
described above, and you sell your shares after the number of years shown.
These are the projected expenses for each $1,000 that you invest in the fund.
1 YEAR 3 YEARS 5 YEARS 10 YEARS
---------------------------------------
$10 $32 $55 $121
THIS IS JUST AN EXAMPLE. IT DOES NOT REPRESENT PAST OR FUTURE EXPENSES OR
RETURNS. ACTUAL EXPENSES AND RETURNS MAY BE MORE OR LESS THAN THOSE SHOWN.
The fund pays its operating expenses. The effects of these expenses are
reflected in its Net Asset Value or dividends and are not directly charged to
your account.
+If your transaction is processed through your Securities Dealer, you may be
charged a fee by your Securities Dealer for this service.
*$5.00 fee is only for Market Timers. We process all other exchanges without a
fee.
**For the period shown, Advisers had agreed in advance to limit its management
fees. With this reduction, management fees were 0.27% and total operating
expenses were 0.64%.
FINANCIAL HIGHLIGHTS
This table summarizes the fund's financial history. The information has been
audited by Coopers & Lybrand L.L.P., the fund's independent auditor. The audit
report covering the periods shown below appears in the Trust's Annual Report to
Shareholders for the fiscal year ended April 30, 1998. The Annual Report to
Shareholders also includes more information about the fund's performance. For a
free copy, please call Fund Information.
Year Ended April 30
1998 19971
- ---------------------------------------------------------------------
PER SHARE OPERATING PERFORMANCE
(for a share outstanding throughout the year)
Net asset value, beginning of year $14.07 $14.66
----------------------
Income from investment operations:
Net investment income .23 -
Net realized and unrealized gains (losses) 2.20 (.59)
----------------------
Total from investment operations 2.43 (.59)
Less distributions from:
Net investment income (.14) -
Net realized gains (.88) -
---------------------
Total distributions (1.02) -
---------------------
Net asset value, end of year $15.48 $14.07
=====================
Total return* 18.11% (4.02%)
RATIOS/SUPPLEMENTAL DATA
Net assets, end of year (000's) $892 $1,123
Ratios to average net assets:
Expenses .64% .64%***
Expenses excluding waiver and payments 1.03% .86%***
by affiliate
Net investment income 1.02% 1.03%***
Portfolio turnover rate 72.93% 46.31%
Average commission rate paid** $.0305 $.0331
*Total return is not annualized.
**Relates to purchases and sales of equity securities.
***Annualized
1For the period January 2, 1997 (effective date) to April 30, 1997.
HOW DOES THE FUND INVEST ITS ASSETS?
WHAT IS THE FUND'S GOAL?
The investment goal of the fund is to seek to provide high total return. The
fund's total return consists of both capital appreciation and current dividend
and interest income. This goal is fundamental, which means that it may not be
changed without shareholder approval.
WHAT KINDS OF SECURITIES DOES THE FUND BUY?
The fund tries to achieve its goal by investing at least 65% of its assets in
the equity and debt securities of U.S. and foreign companies in the natural
resources sector.
The fund may also invest up to 35% of its assets outside the natural resources
sector, including in U.S. and foreign equity and debt securities and real estate
investment trusts ("REITs").
EQUITY SECURITIES generally entitle the holder to participate in a company's
general operating results. These include common stock, preferred stock, and
convertible securities.
DEBT SECURITIES represent an obligation of the issuer to repay a loan of money
to it, and generally, provide for the payment of interest. These include bonds,
notes, debentures, and commercial paper.
The fund may buy both rated and unrated debt securities. Independent rating
organizations rate debt securities based upon their assessment of the financial
soundness of the issuer. Generally, a lower rating indicates higher risk. The
fund may buy debt securities that are rated B by Moody's or S&P or better, or
unrated debt that it determines to be of comparable quality. The fund will not
invest more than 15% of its total assets in lower-rated securities (rated lower
than BB by S&P or Ba by Moody's) and unrated securities of comparable quality.
The fund will only buy commercial paper rated A-1 or A-2 by S&P or Prime-1 or
Prime-2 by Moody's, or unrated commercial paper that it determines to be of
comparable quality.
THE NATURAL RESOURCES SECTOR includes companies that own, produce, refine,
process, and market natural resources and companies that provide related
services. The sector includes the following industries: integrated oil, oil and
gas exploration and production, gold and precious metals, steel and iron ore
production, aluminum production, forest products, farming products, paper
products, chemicals, building materials, energy services and technology, and
environmental services.
GOVERNMENT SECURITIES. The fund may invest in Treasury bills, notes and bonds,
which are direct obligations of the U.S. government, backed by the full faith
and credit of the U.S. Treasury, and in securities issued or guaranteed by
federal agencies. The fund may also invest in securities issued or guaranteed by
foreign governments and their agencies.
AMERICAN DEPOSITARY RECEIPTS. The fund may also invest in American Depositary
Receipts, which are certificates that give their holders the right to receive
securities of a foreign issuer deposited in a U.S. bank or trust company.
GENERAL. The fund may invest up to 10% of its assets in REITs. The fund
expects to invest more of its assets in U.S. securities than in securities of
any other single country, but the fund may invest more than 50% of its total
assets in foreign securities.
Please see the SAI for more details on the types of securities in which the fund
invests.
WHAT ARE SOME OF THE FUND'S OTHER INVESTMENT STRATEGIES AND PRACTICES?
TEMPORARY INVESTMENTS. The fund may invest its cash temporarily in short-term
debt instruments, including U.S. government securities, CDs, high-grade
commercial paper, repurchase agreements, and other money market equivalents, and
the shares of money market funds managed by Advisers that invest primarily in
short-term debt securities. The fund will only make these temporary investments
with cash it holds to maintain liquidity or pending investment. In the event of
a general decline in the market prices of stocks in which the fund invests, or
when Advisers anticipates such a decline, the fund may invest its portfolio in a
temporary defensive manner. Under such circumstances, the fund may invest up to
100% of its assets in short-term debt instruments.
REPURCHASE AGREEMENTS. The fund will generally have a portion of its assets in
cash or cash equivalents for a variety of reasons including waiting for a
special investment opportunity or taking a defensive position. To earn income on
this portion of its assets, the fund may enter into repurchase agreements with
certain banks and broker-dealers. Under a repurchase agreement, the fund agrees
to buy a U.S. government security from one of these issuers and then to sell the
security back to the issuer after a short period of time (generally, less than
seven days) at a higher price. The bank or broker-dealer must transfer to the
fund's custodian securities with an initial value of at least 102% of the dollar
amount invested by the fund in each repurchase agreement.
The fund may also enter into reverse repurchase agreements. Under a reverse
repurchase agreement, the fund agrees to sell a security in its portfolio and
then to repurchase the security at an agreed-upon price, date, and interest
payment. The fund will maintain cash or high-grade liquid debt securities with a
value equal to the value of the fund's obligation under the agreement, including
accrued interest, in a segregated account with the fund's custodian bank. The
securities subject to the reverse repurchase agreement will be marked-to-market
daily.
HEDGING TRANSACTIONS. Hedging is a technique designed to reduce a potential loss
to the fund as a result of certain economic or market risks, including risks
related to fluctuations in interest rates, currency exchange rates between U.S.
and foreign currencies or between different foreign currencies, and broad or
specific market movements. The fund may use various hedging strategies, which
are discussed in the SAI. Many mutual funds and other institutional investors
also use these strategies. When pursuing these hedging strategies, the fund may
engage in the following types of transactions: currency trans-actions, including
currency forward contracts, currency futures contracts, options on currencies,
and options on currency futures.
SECURITIES LENDING. To generate additional income, the fund may lend its
portfolio securities to qualified securities dealers or other institutional
investors. Such loans may not exceed 33% of the value of the fund's total assets
measured at the time of the most recent loan. For each loan, the borrower must
maintain collateral with the fund's custodian with a value at least equal to
100% of the current market value of the loaned securities.
BORROWING. The fund does not borrow money or mortgage or pledge any of its
assets, except that it may enter into reverse repurchase agreements or borrow
for temporary or emergency purposes in an amount not to exceed 33% of its total
assets. The fund will not make any additional investments while its borrowings
exceed 5% of its total assets.
ILLIQUID INVESTMENTS. The fund's policy is not to invest more than 15% of its
net assets in illiquid securities. Illiquid securities are generally securities
that cannot be sold within seven days in the normal course of business at
approximately the amount at which the fund has valued them.
OTHER POLICIES AND RESTRICTIONS. The fund has a number of additional investment
policies and restrictions that govern its activities. Those that are identified
as "fundamental" may only be changed with shareholder approval. The others may
be changed by the Board alone. For a list of these restrictions and more
information about the fund's investment policies, including those described
above, please see "How Does the Fund Invest Its Assets?" and "Investment
Restrictions" in the SAI.
Generally, the policies and restrictions discussed in this prospectus and in the
SAI apply when the fund makes an investment. In most cases, the fund is not
required to sell a security because circumstances change and the security no
longer meets one or more of the fund's policies or restrictions.
TAX CONSIDERATIONS. The fund's investments in options, futures, foreign
securities and other complex securities are subject to special tax rules that
may affect the amount, timing or character of the income earned by the fund and
distributed to you. The fund may also be subject to withholding taxes on
earnings from certain of its foreign securities. These special tax rules are
discussed in the "Additional Information on Distributions and Taxes" section of
the SAI.
WHAT ARE THE RISKS OF INVESTING IN THE FUND?
There is no assurance that the fund will meet its investment goal.
The value of your shares will increase as the value of the securities owned by
the fund increases and will decrease as the value of the fund's investments
decrease. In this way, you participate in any change in the value of the
securities owned by the fund. In addition to the factors that affect the value
of any particular security that the fund owns, the value of fund shares may also
change with movements in the stock and bond markets as a whole.
NATURAL RESOURCES SECTOR RISK. The securities of companies in the natural
resources sector may experience more price volatility than securities of
companies in other industries. Some of the commodities in these industries are
subject to limited pricing flexibility because of similar supply and demand
factors. Others are subject to more broad price fluctuations as a result of the
volatility of the prices for certain raw materials and the instability of
supplies of other materials. These factors can affect the profitability of
companies in the natural resources sector and, as a result, the value of their
securities.
FOREIGN SECURITIES RISK. The value of foreign (and U.S.) securities is affected
by general economic conditions and individual company and industry earnings
prospects. While foreign securities may offer significant opportunities for
gain, they also involve additional risks that can increase the potential for
losses in the fund. These risks can be significantly greater for investments in
emerging markets. Investments in American Depositary Receipts also involve some
or all of the risks described below.
The political, economic, and social structures of some countries in which the
fund invests may be less stable and more volatile than those in the U.S. The
risks of investing in these countries include the possibility of the imposition
of exchange controls, expropriation, restrictions on removal of currency or
other assets, nationalization of assets, and punitive taxes.
There may be less publicly available information about a foreign company or
government than about a U.S. company or public entity. Certain countries'
financial markets and services are less developed than those in the U.S. or
other major economies. As a result, they may not have uniform accounting,
auditing, and financial reporting standards and may have less government
supervision of financial markets. Foreign securities markets may have
substantially lower trading volumes than U.S. markets, resulting in less
liquidity and more volatility than experienced in the U.S. Transaction costs on
foreign securities markets are generally higher than in the U.S. The settlement
practices may be cumbersome and result in delays that may affect portfolio
liquidity. The fund may have greater difficulty voting proxies, exercising
shareholder rights, pursuing legal remedies, and obtaining judgments with
respect to foreign investments in foreign courts than with respect to domestic
issuers in U.S. courts.
Some of the countries in which the fund may invest such as Russia and certain
Asian and Eastern European countries are considered developing or emerging
markets. Investments in these markets are subject to all of the risks of foreign
investing generally, and have additional and heightened risks due to a lack of
legal, business, and social frameworks to support securities markets.
Emerging markets involve additional significant risks, including political and
social uncertainty (for example, regional conflicts and risk of war), currency
exchange rate volatility, pervasiveness of corruption and crime, delays in
settling portfolio transactions, and risk of loss arising out of the system of
share registration and custody. For more information on the risks associated
with emerging markets securities, please see the SAI.
On July 1, 1997, Hong Kong reverted to the sovereignty of China. As with any
major political transfer of power, this could result in political, social,
economic, market, or other developments in Hong Kong, China, or other countries
that could affect the value of the fund's investments.
NON-DIVERSIFICATION RISK. There is no limit on the amount of the fund's assets
that it can invest in any one issuer. In addition, the fund concentrates its
investments in the natural resources sector. Economic, business, political, or
other changes can affect securities of a similar type. The fund may be more
sensitive to these changes than a diversified fund.
CREDIT RISK is the possibility that an issuer will be unable to make interest
payments or repay principal. Changes in an issuer's financial strength or in a
security's credit rating may affect its value.
Securities rated below investment grade, sometimes called "junk bonds,"
generally have more credit risk than higher-rated securities. The risk of
default or price changes due to changes in the issuer's credit quality is
greater. Issuers of lower-rated securities are typically in weaker financial
health than issuers of higher-rated securities, and their ability to make
interest payments or repay principal is less certain. These issuers are also
more likely to encounter financial difficulties and to be materially affected by
these difficulties when they do encounter them. The market price of lower-rated
securities may fluctuate more than higher-rated securities and may decline
significantly in periods of economic difficulty. Lower-rated securities may also
be less liquid than higher-rated securities.
Please see the SAI for more details on the risks associated with lower-rated
securities.
REITS RISK. REITs are subject to risks related to the skill of their management,
changes in value of the properties the REITs own, the quality of any credit
extended by the REITs, and general economic and other factors.
INTEREST RATE, CURRENCY AND MARKET RISK. To the extent the fund invests in debt
securities, changes in interest rates in any country where the fund is invested
will affect the value of the fund's portfolio and its share price. Rising
interest rates, which often occur during times of inflation or a growing
economy, are likely to have a negative effect on the value of the fund's shares.
To the extent the fund invests in common stocks, a general market decline in any
country where the fund is invested may cause the value of what the fund owns,
and thus the fund's share price, to decline. Changes in currency valuations may
also affect the price of fund shares. The value of stock markets, currency
valuations and interest rates throughout the world have increased and decreased
in the past. These changes are unpredictable.
WHO MANAGES THE FUND?
THE BOARD. The Board oversees the management of the fund and elects its
officers. The officers are responsible for the fund's day-to-day operations. The
Board also monitors the fund to ensure no material conflicts exist among the
fund's classes of shares. While none is expected, the Board will act
appropriately to resolve any material conflict that may arise.
INVESTMENT MANAGER. Advisers manages the fund's assets and makes its investment
decisions. Advisers also performs similar services for other funds. It is wholly
owned by Resources, a publicly owned company engaged in the financial services
industry through its subsidiaries. Charles B. Johnson and Rupert H. Johnson, Jr.
are the principal shareholders of Resources. Together, Advisers and its
affiliates manage over $236 billion in assets. Please see "Investment Management
and Other Services" and "Miscellaneous Information" in the SAI for information
on securities transactions and a summary of the fund's Code of Ethics.
MANAGEMENT TEAM. The team responsible for the day-to-day management of the
fund's portfolio is: Suzanne Willoughby Killea since inception and Edward D.
Perks since 1996.
Suzanne Willoughby Killea
Vice President of Advisers
Ms. Killea holds a Master of Business Administration degree from Stanford
University and a Bachelor of Arts degree from Princeton University. She has been
with the Franklin Templeton Group since 1991. She is a member of several
securities industry-related associations.
Edward D. Perks
Vice President of Advisers
Mr. Perks is a Certified Financial Analyst and holds a Bachelor of Arts degree
in Economics and Political Science from Yale University. Mr. Perks joined the
Franklin Templeton Group in October 1992.
MANAGEMENT FEES. During the fiscal year ended April 30, 1998, management fees,
before any advance waiver, totaled 0.62% and operating expenses, before any
advance waiver, totaled 0.99% of the average daily net assets of the fund. Under
an agreement by Advisers to limit its fees, the fund paid management fees
totaling 0.27% and operating expenses totaling 0.64%. Advisers may end this
arrangement at any time upon notice to the Board.
PORTFOLIO TRANSACTIONS. Advisers tries to obtain the best execution on all
transactions. If Advisers believes more than one broker or dealer can provide
the best execution, it may consider research and related services and the sale
of fund shares, as well as shares of other funds in the Franklin Templeton Group
of Funds, when selecting a broker or dealer. Please see "How Does the Fund Buy
Securities for Its Portfolio?" in the SAI for more information.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services provides
certain administrative services and facilities for the fund.
During the fiscal year ended April 30, 1998, administration fees totaling 0.15%
of the average daily net assets of the fund were paid to FT Services. These fees
are paid by Advisers. They are not a separate expense of the fund. Please see
"Investment Management and Other Services" in the SAI for more information.
YEAR 2000 ISSUE. Like other mutual funds, the fund could be adversely affected
if the computer systems used by Advisers and other service providers do not
properly process date-related information on or after January 1, 2000 ("Year
2000 Issue"). The Year 2000 Issue, and in particular foreign service providers'
responsiveness to the issue, could affect portfolio and operational areas
including securities trade processing, interest and dividend payments,
securities pricing, shareholder account services, reporting, custody functions,
and others. While there can be no assurance that the fund will not be adversely
affected, Advisers and its affiliated service providers are taking steps that
they believe are reasonably designed to address the Year 2000 Issue, including
seeking reasonable assurances from the fund's other major service providers.
HOW TAXATION AFFECTS THE FUND AND ITS SHAREHOLDERS
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TAXATION OF THE FUND'S INVESTMENTS. HOW DOES THE FUND EARN INCOME AND
The fund invests your money in the GAINS?
stocks, bonds and other securities
that are described in the section "How The fund earns dividends and interest
Does the Fund Invest Its Assets?" (the fund's "income") on its
Special tax rules may apply in investments. When the fund sells a
determining the income and gains that security for a price that is higher
the fund earns on its investments. than it paid, it has a gain. When the
These rules may, in turn, affect the fund sells a security for a price that
amount of distributions that the fund is lower than it paid, it has a loss.
pays to you. These special tax rules If the fund has held the security for
are discussed in the SAI. more than one year, the gain or loss
will be a long-term capital gain or
TAXATION OF THE FUND. As a regulated loss. If the fund has held the
investment company, the fund generally security for one year or less, the
pays no federal income tax on the gain or loss will be a short-term
income and gains that it distributes capital gain or loss. The fund's gains
to you. and losses are netted together, and,
if the fund has a net gain (the fund's
FOREIGN TAXES. Foreign governments may "gains"), that gain will generally be
impose taxes on the income and gains distributed to you
from the fund's investments in foreign
stocks and bonds. These taxes will
reduce the amount of the fund's
distributions to you, but, depending
upon the amount of the fund's assets
that are invested in foreign
securities and foreign taxes paid, may
be passed through to you as a foreign
tax credit on your income tax return.
The fund may also invest in the
securities of foreign companies that
are "passive foreign investment
companies" ("PFICs"). These
investments in PFICs may cause the
fund to pay income taxes and interest
charges. If possible, the fund will
adopt strategies to avoid PFIC taxes
and interest charges.
---------------------------------------
TAXATION OF SHAREHOLDERS WHAT IS A DISTRIBUTION?
DISTRIBUTIONS. Distributions from the As a shareholder, you will receive
fund, whether you receive them in cash your share of the fund's income and
or in additional shares, are generally gains on its investments in stocks,
subject to income tax. The fund will bonds and other securities. The fund's
send you a statement in January of the income and short-term capital gains
current year that reflects the amount are paid to you as ordinary dividends.
of ordinary dividends, capital gain The fund's long-term capital gains are
distributions and non-taxable paid to you as capital gain
distributions you received from the distributions. If the fund pays you an
fund in the prior year. This statement amount in excess of its income and
will include distributions declared in gains, this excess will generally be
December and paid to you in January of treated as a non-taxable distribution.
the current year, but which are These amounts, taken together, are
taxable as if paid on December 31 of what we call the fund's distributions
the prior year. The IRS requires you to you.
to report these amounts on your income
tax return for the prior year.
---------------------------------------
DISTRIBUTIONS TO RETIREMENT PLANS. Fund distributions received by your qualified
retirement plan, such as a 401(k) plan or IRA, are generally tax-deferred; this
means that you are not required to report fund distributions on your income tax
return when paid to your plan, but, rather, when your plan makes payments to
you. Special rules apply to payouts from Roth and Education IRAs.
DIVIDENDS-RECEIVED DEDUCTION. Corporate investors may be entitled to a
dividends-received deduction on a portion of the ordinary dividends they
receive from the fund.
---------------------------------------
REDEMPTIONS AND EXCHANGES. If you WHAT IS A REDEMPTION?
redeem your shares or if you exchange
your shares in the fund for shares in A redemption is a sale by you to the
another Franklin Templeton Fund, you fund of some or all of your shares in
will generally have a gain or loss the fund. The price per share you
that the IRS requires you to report on receive when you redeem fund shares
your income tax return. If you may be more or less than the price at
exchange fund shares held for 90 days which you purchased those shares. An
or less and pay no sales charge, or a exchange of shares in the fund for
reduced sales charge, for the new shares of another Franklin Templeton
shares, all or a portion of the sales Fund is treated as a redemption of
charge you paid on the purchase of the fund shares and then a purchase of
shares you exchanged is not included shares of the other fund. When you
in their cost for purposes of redeem or exchange your shares, you
computing gain or loss on the will generally have a gain or loss,
exchange. If you hold your shares for depending upon whether the amount you
six months or less, any loss you have receive for your shares is more or
will be treated as a long-term capital less than your cost or other basis in
loss to the extent of any capital gain the shares. Call Fund Information for
distributions received by you from the a free shareholder Tax Information
fund. All or a portion of any loss on Handbook if you need more information
the redemption or exchange of your in calculating the gain or loss on the
shares will be disallowed by the IRS redemption or exchange of your shares.
if you purchase other shares in the
fund within 30 days before or after your
redemption or exchange.
---------------------------------------
U.S. GOVERNMENT INTEREST. Many states grant tax-free status to dividends paid
from interest earned on direct obligations of the U.S. government, subject to
certain restrictions. The fund will provide you with information at the end
of each calendar year on the amount of such dividends that may qualify for
exemption from reporting on your individual income tax returns.
NON-U.S. INVESTORS. Ordinary dividends generally will be subject to U.S.
income tax withholding. Your home country may also tax ordinary dividends,
capital gain distributions and gains arising from redemptions or exchanges of
your fund shares. Fund shares held by the estate of a non-U.S. investor may
be subject to U.S. estate tax. You may wish to contact your tax advisor to
determine the U.S. and non-U.S. tax consequences of your investment in the
fund.
STATE TAXES. Ordinary dividends and capital gain distributions that you receive
from the fund, and gains arising from redemptions or exchanges of your fund
shares will generally be subject to state and local income tax. The holding of
fund shares may also be subject to state and local intangibles taxes. You may
wish to contact your tax advisor to determine the state and local tax
consequences of your investment in the fund.
---------------------------------------
BACKUP WITHHOLDING. When you open an WHAT IS A
account, IRS regulations require that BACKUP WITHHOLDING?
you provide your taxpayer identification
number ("TIN"), certify Backup withholding occurs when the
that it is correct, and certify that fund is required to withhold and pay
you are not subject to backup over to the IRS 31% of your
withholding under IRS rules. If you distributions and redemption proceeds.
fail to provide a correct TIN or the You can avoid backup withholding by
proper tax certifications, the fund is providing the fund with your TIN, and
required to withhold 31% of all the by completing the tax certifications
distributions (including ordinary on your shareholder application that
dividends and capital gain you were asked to sign when you opened
distributions) and redemption proceeds your account. However, if the IRS
paid to you. The fund is also required instructs the fund to begin backup
to begin backup withholding on your withholding, it is required to do so
account if the IRS instructs the fund even if you provided the fund with
to do so. The fund reserves the right your TIN and these tax certifications,
not to open your account, or, and backup withholding will remain in
alternatively, to redeem your shares place until the fund is instructed by
at the current net asset value, less the IRS that it is no longer required.
any taxes withheld, if you fail to
provide a correct TIN, fail to provide
the proper tax certifications, or the
IRS instructs the fund to begin backup
withholding on your account.
---------------------------------------
THIS TAX DISCUSSION IS FOR GENERAL INFORMATION ONLY. PROSPECTIVE INVESTORS
SHOULD CONSULT THEIR OWN TAX ADVISORS CONCERNING THE FEDERAL, STATE, LOCAL OR
FOREIGN TAX CONSEQUENCES OF AN INVESTMENT IN THE FUND. A MORE COMPLETE
DISCUSSION OF THESE RULES AND RELATED MATTERS IS CONTAINED IN THE SECTION
ENTITLED "ADDITIONAL INFORMATION ON DISTRIBUTIONS AND TAXES" IN THE SAI. THE TAX
TREATMENT TO YOU OF DIVIDENDS, CAPITAL GAIN DISTRIBUTIONS, FOREIGN TAXES PAID
AND INCOME TAXES WITHHELD IS ALSO DISCUSSED IN A FREE FRANKLIN TEMPLETON TAX
INFORMATION HANDBOOK, WHICH YOU MAY REQUEST BY CONTACTING FUND INFORMATION.
HOW IS THE TRUST ORGANIZED?
The fund is a non-diversified series of Franklin Strategic Series (the "Trust"),
an open-end management investment company, commonly called a mutual fund. It was
organized as a Delaware business trust on January 25, 1991, and is registered
with the SEC. As of January 2, 1997, the fund began offering a new class of
shares designated Franklin Natural Resources Fund - Advisor Class. All shares
outstanding before the offering of Advisor Class shares have been designated
Franklin Natural Resources Fund - Class I. Additional series and classes of
shares may be offered in the future.
Shares of each class represent proportionate interests in the assets of the fund
and have the same voting and other rights and preferences as any other class of
the fund for matters that affect the fund as a whole. For matters that only
affect one class, however, only shareholders of that class may vote. Each class
will vote separately on matters affecting only that class, or expressly required
to be voted on separately by state or federal law. Shares of each class of a
series have the same voting and other rights and preferences as the other
classes and series of the Trust for matters that affect the Trust as a whole.
The Trust has noncumulative voting rights. This gives holders of more than 50%
of the shares voting the ability to elect all of the members of the Board. If
this happens, holders of the remaining shares voting will not be able to elect
anyone to the Board.
The Trust does not intend to hold annual shareholder meetings. The Trust or a
series of the Trust may hold special meetings, however, for matters requiring
shareholder approval. A meeting may also be called by the Board in its
discretion or by shareholders holding at least 10% of the outstanding shares. In
certain circumstances, we are required to help you communicate with other
shareholders about the removal of a Board member.
ABOUT YOUR ACCOUNT
HOW DO I BUY SHARES?
OPENING YOUR ACCOUNT
Shares of the fund may be purchased without a sales charge. Please note that as
of January 1, 1998, shares of the fund are not available to retirement plans
through Franklin Templeton's ValuSelect(R) program. Retirement plans in Franklin
Templeton's ValuSelect program before January 1, 1998, however, may continue to
invest in the fund.
To open your account, please follow the steps below. This will help avoid any
delays in processing your request.
1. Read this prospectus carefully.
2. Determine how much you would like to invest. The fund's minimum investments
are:
o To open your account: $5,000,000
o To add to your account: $25
We reserve the right to change the amount of these minimums from time to
time or to waive or lower these minimums for certain purchases. Please see
"Minimum Investments" below. We also reserve the right to refuse any order
to buy shares.
3. Carefully complete and sign the enclosed shareholder application, including
the optional shareholder privileges section. By applying for privileges now,
you can avoid the delay and inconvenience of having to send an additional
application to add privileges later. It is important that we receive a
signed application since we will not be able to process any redemptions from
your account until we receive your signed application.
4. Make your investment using the table below.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL For an initial investment:
Return the application to the fund with your check
made payable to the fund.
For additional investments:
Send a check made payable to the fund. Please
include your account number on the check.
- ------------------------------------------------------------------------------
BY WIRE 1. Call Shareholder Services or, if that number is busy,
call 1-650/312-2000 collect, to receive a wire
control number and wire instructions. You need a
new wire control number every time you wire money
into your account. If you do not have a currently
effective wire control number, we will return the
money to the bank, and we will not credit the
purchase to your account.
2. For an initial investment you must also return your
signed shareholder application to the fund.
IMPORTANT DEADLINES: If we receive your call before 1:00
p.m. Pacific time and the bank receives the wired funds
and reports the receipt of wired funds to the fund by
3:00 p.m. Pacific time, we will credit the purchase to
your account that day. If we receive your call after
1:00 p.m. or the bank receives the wire after 3:00 p.m.,
we will credit the purchase to your account the
following business day.
- ------------------------------------------------------------------------------
THROUGH YOUR Call your investment representative
DEALER
- ------------------------------------------------------------------------------
MINIMUM INVESTMENTS
To determine if you meet the minimum initial investment requirement of $5
million, the amount of your current purchase is added to the cost or current
value, whichever is higher, of your existing shares in the Franklin Templeton
Funds. At least $1 million of this amount, however, must be invested in Advisor
Class or Class Z shares of any of the Franklin Templeton Funds.
The fund may waive or lower its minimum investment requirement for certain
purchases. A lower minimum initial investment requirement applies to purchases
by:
1. Qualified registered investment advisors or certified financial planners who
have clients invested in any series of Franklin Mutual Series Fund Inc. on
October 31, 1996, or who buy through a broker-dealer or service agent who
has entered into an agreement with Distributors, subject to a $1,000 minimum
initial and $50 minimum subsequent investment requirement
2. Broker-dealers, registered investment advisors or certified financial
planners who have entered into an agreement with Distributors for clients
participating in comprehensive fee programs, subject to a $250,000 minimum
initial investment requirement or a $100,000 minimum initial investment
requirement for an individual client
3. Officers, trustees, directors and full-time employees of the Franklin
Templeton Funds or the Franklin Templeton Group and their immediate family
members, subject to a $100 minimum initial investment requirement
4. Each series of the Franklin Templeton Fund Allocator Series, subject to a
$1,000 minimum initial and subsequent investment requirement
5. Governments, municipalities, and tax-exempt entities that meet the
requirements for qualification under Section 501 of the Code, subject to a
$1 million initial investment in Advisor Class or Class Z shares of any of
the Franklin Templeton Funds
No minimum initial investment requirement applies to purchases by:
1. Accounts managed by the Franklin Templeton Group
2. The Franklin Templeton Profit Sharing 401(k) Plan
3. Defined contribution plans such as employer stock, bonus, pension or profit
sharing plans that meet the requirements for qualification under Section 401
of the Code, including salary reduction plans qualified under Section 401(k)
of the Code, and that (i) are sponsored by an employer with at least 10,000
employees, or (ii) have plan assets of $100 million or more
4. Trust companies and bank trust departments initially investing in the
Franklin Templeton Funds at least $1 million of assets held in a fiduciary,
agency, advisory, custodial or similar capacity and over which the trust
companies and bank trust departments or other plan fiduciaries or
participants, in the case of certain retirement plans, have full or shared
investment discretion
5. Any other investor, including a private investment vehicle such as a family
trust or foundation, who is a member of a qualified group, if the group as a
whole meets the $5 million minimum investment requirement. A qualified group
is one that:
o Was formed at least six months ago,
o Has a purpose other than buying fund shares at a discount,
o Has more than 10 members,
o Can arrange for meetings between our representatives and group members,
o Agrees to include Franklin Templeton Fund sales and other materials in
publications and mailings to its members at reduced or no cost to
Distributors,
o Agrees to arrange for payroll deduction or other bulk transmission of
investments to the fund, and
o Meets other uniform criteria that allow Distributors to achieve cost savings
in distributing shares.
HOW DO I BUY SHARES IN CONNECTION WITH RETIREMENT PLANS?
Your individual or employer-sponsored retirement plan may invest in the fund.
Plan documents are required for all retirement plans. Trust Company can provide
the plan documents for you and serve as custodian or trustee.
Trust Company can provide you with brochures containing important information
about its plans. To establish a Trust Company retirement plan, you will need an
application other than the one included in this prospectus. For a retirement
plan brochure or application, call Retirement Plan Services.
Please consult your legal, tax or retirement plan specialist before choosing a
retirement plan. Your investment representative or advisor can help you make
investment decisions within your plan.
PAYMENTS TO SECURITIES DEALERS
Securities Dealers who initiate and are responsible for purchases of Advisor
Class shares may receive up to 0.25% of the amount invested. The payment is
subject to the sole discretion of Distributors, and is paid by Distributors or
one of its affiliates and not by the fund or its shareholders.
For information on additional compensation payable to Securities Dealers in
connection with the sale of fund shares, please see "How Do I Buy, Sell and
Exchange Shares? - Other Payments to Securities Dealers" in the SAI.
MAY I EXCHANGE SHARES FOR SHARES OF ANOTHER FUND?
We offer a wide variety of funds. If you would like, you can move your
investment from your fund account to an existing or new account in another
Franklin Templeton Fund (an "exchange"). Because it is technically a sale and a
purchase of shares, an exchange is a taxable transaction.
Before making an exchange, please read the prospectus of the fund you are
interested in. This will help you learn about the fund, its investment goal and
policies, and its rules and requirements for exchanges. For example, some
Franklin Templeton Funds do not accept exchanges and some do not offer Advisor
Class shares.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL 1. Send us signed written instructions
2. Include any outstanding share certificates
for the shares you want to exchange
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services
~ If you do not want the ability to exchange by
phone to apply to your account, please let us
know.
- ------------------------------------------------------------------------------
THROUGH YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to exchange shares.
EXCHANGE RESTRICTIONS
Please be aware that the following restrictions apply to exchanges:
o You must meet the applicable minimum investment amount of the fund you are
exchanging into, or exchange 100% of your fund shares.
o You may only exchange shares within the SAME CLASS, except as noted below.
o The accounts must be identically registered. You may, however, exchange
shares from a fund account requiring two or more signatures into an
identically registered money fund account requiring only one signature for
all transactions. PLEASE NOTIFY US IN WRITING IF YOU DO NOT WANT THIS
OPTION TO BE AVAILABLE ON YOUR ACCOUNT. Additional procedures may apply.
Please see "Transaction Procedures and Special Requirements."
o Trust Company IRA or 403(b) retirement plan accounts may exchange shares as
described above. Restrictions may apply to other types of retirement plans.
Please contact Retirement Plan Services for information on exchanges within
these plans.
o The fund you are exchanging into must be eligible for sale in your state.
o We may modify or discontinue our exchange policy if we give you 60 days'
written notice.
o Your exchange may be restricted or refused if you have: (i) requested an
exchange out of the fund within two weeks of an earlier exchange request,
(ii) exchanged shares out of the fund more than twice in a calendar quarter,
or (iii) exchanged shares equal to at least $5 million, or more than 1% of
the fund's net assets. Shares under common ownership or control are combined
for these limits. If you have exchanged shares as described in this
paragraph, you will be considered a Market Timer. Each exchange by a Market
Timer, if accepted, will be charged $5.00. Some of our funds do not allow
investments by Market Timers.
Because excessive trading can hurt fund performance, operations and
shareholders, we may refuse any exchange purchase if (i) we believe the fund
would be harmed or unable to invest effectively, or (ii) the fund receives or
anticipates simultaneous orders that may significantly affect the fund.
LIMITED EXCHANGES BETWEEN DIFFERENT CLASSES OF SHARES
If you want to exchange into a fund that does not currently offer an Advisor
Class, you may exchange your Advisor Class shares for Class I shares of that
fund at Net Asset Value. If you do not qualify to buy Advisor Class shares of
Templeton Developing Markets Trust, Templeton Foreign Fund or Templeton Growth
Fund, you may exchange the Advisor Class shares you own for Class I shares of
those funds or of Templeton Institutional Funds, Inc. at Net Asset Value. If you
do so and you later decide you would like to exchange into a fund that offers an
Advisor Class, you may exchange your Class I shares for Advisor Class shares of
that fund. You may also exchange your Advisor Class shares for Class Z shares of
Franklin Mutual Series Fund Inc.
HOW DO I SELL SHARES?
You may sell (redeem) your shares at any time.
METHOD STEPS TO FOLLOW
- ------------------------------------------------------------------------------
BY MAIL 1. Send us signed written instructions. If you would
like your redemption proceeds wired to a bank
account, your instructions should include:
o The name, address and telephone number of the
bank where you want the proceeds sent
o Your bank account number
o The Federal Reserve ABA routing number
o If you are using a savings and loan or credit
union, the name of the corresponding bank and
the account number
2. Include any outstanding share certificates for the
shares you are selling
3. Provide a signature guarantee if required
4. Corporate, partnership and trust accounts may need to
send additional documents. Accounts under court
jurisdiction may have other requirements.
- ------------------------------------------------------------------------------
BY PHONE Call Shareholder Services. If you would like your
redemption proceeds wired to a bank account, other
than an escrow account, you must first sign up for
the wire feature. To sign up, send us written
instructions, with a signature guarantee. To avoid
any delay in processing, the instructions should
include the items listed in "By Mail" above.
Telephone requests will be accepted:
o If the request is $50,000 or less. Institutional
accounts may exceed $50,000 by completing a
separate agreement. Call Institutional Services to
receive a copy.
o If there are no share certificates issued for the
shares you want to sell or you have already returned
them to the fund
o Unless you are selling shares in a Trust Company
retirement plan account
o Unless the address on your account was changed by
phone within the last 15 days
~ If you do not want the ability to redeem by phone to
apply to your account, please let us know.
- ------------------------------------------------------------------------------
THROUGH
YOUR DEALER Call your investment representative
- ------------------------------------------------------------------------------
We will send your redemption check within seven days after we receive your
request in proper form. If you would like the check sent to an address other
than the address of record or made payable to someone other than the registered
owners on the account, send us written instructions signed by all account
owners, with a signature guarantee. We are not able to receive or pay out cash
in the form of currency.
The wiring of redemption proceeds is a special service that we make available
whenever possible for redemption requests of $1,000 or more. If we receive your
request in proper form before 1:00 p.m. Pacific time, your wire payment will be
sent the next business day. For requests received in proper form after 1:00 p.m.
Pacific time, the payment will be sent the second business day. By offering this
service to you, the fund is not bound to meet any redemption request in less
than the seven day period prescribed by law. Neither the fund nor its agents
shall be liable to you or any other person if, for any reason, a redemption
request by wire is not processed as described in this section.
If you sell shares you recently purchased with a check or draft, we may delay
sending you the proceeds until your check or draft has cleared, which may take
seven business days or more. A certified or cashier's check may clear in less
time.
Under unusual circumstances, we may suspend redemptions or postpone payment for
more than seven days as permitted by federal securities law.
Please refer to "Transaction Procedures and Special Requirements" for other
important information on how to sell shares.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS
To comply with IRS regulations, you need to complete additional forms before
selling shares in a Trust Company retirement plan account. Tax penalties
generally apply to any distribution from these plans to a participant under age
591/2, unless the distribution meets an exception stated in the Code. To obtain
the necessary forms, please call Retirement Plan Services.
WHAT DISTRIBUTIONS MIGHT I RECEIVE FROM THE FUND?
The fund declares dividends from its net investment income semiannually in June
and December to shareholders of record on the first business day before the 15th
of the month and pays them on or about the last day of that month.
Capital gains, if any, may be distributed annually, usually in December.
Dividend payments are not guaranteed, are subject to the Board's discretion and
may vary with each payment. THE FUND DOES NOT PAY "INTEREST" OR GUARANTEE ANY
FIXED RATE OF RETURN ON AN INVESTMENT IN ITS SHARES.
If you buy shares shortly before the record date, please keep in mind that any
distribution will lower the value of the fund's shares by the amount of the
distribution and you will then receive a portion of the price you paid back in
the form of a taxable distribution.
DISTRIBUTION OPTIONS
You may receive your distributions from the fund in any of these ways:
1. BUY ADDITIONAL SHARES OF THE FUND - You may buy additional shares of the same
class of the fund by reinvesting capital gain distributions, or both dividend
and capital gain distributions. This is a convenient way to accumulate
additional shares and maintain or increase your earnings base.
2. BUY SHARES OF OTHER FRANKLIN TEMPLETON FUNDS - You may direct your
distributions to buy the same class of shares of another Franklin Templeton
Fund. You may also direct your distributions to buy Class I shares of another
Franklin Templeton Fund. Many shareholders find this a convenient way to
diversify their investments.
3. RECEIVE DISTRIBUTIONS IN CASH - You may receive dividends, or both dividend
and capital gain distributions in cash. If you have the money sent to another
person or to a checking account, you may need a signature guarantee.
TO SELECT ONE OF THESE OPTIONS, PLEASE COMPLETE SECTIONS 6 AND 7 OF THE
SHAREHOLDER APPLICATION INCLUDED WITH THIS PROSPECTUS OR TELL YOUR INVESTMENT
REPRESENTATIVE WHICH OPTION YOU PREFER. IF YOU DO NOT SELECT AN OPTION, WE WILL
AUTOMATICALLY REINVEST DIVIDEND AND CAPITAL GAIN DISTRIBUTIONS IN THE SAME CLASS
OF THE FUND. You may change your distribution option at any time by notifying us
by mail or phone. Please allow at least seven days before the record date for us
to process the new option. For Trust Company retirement plans, special forms are
required to receive distributions in cash.
TRANSACTION PROCEDURES AND SPECIAL REQUIREMENTS
SHARE PRICE
You buy and sell Advisor Class shares at the Net Asset Value per share. The Net
Asset Value we use when you buy or sell shares is the one next calculated after
we receive your transaction request in proper form. If you buy or sell shares
through your Securities Dealer, however, we will use the Net Asset Value next
calculated after your Securities Dealer receives your request, which is promptly
transmitted to the fund. Your redemption proceeds will not earn interest between
the time we receive the order from your dealer and the time we receive any
required documents.
HOW AND WHEN SHARES ARE PRICED
The fund is open for business each day the NYSE is open. We determine the Net
Asset Value per share as of the close of the NYSE, normally 1:00 p.m. Pacific
time. You can find the prior day's closing Net Asset Value in many newspapers.
The Net Asset Value of all outstanding shares of each class is calculated on a
pro rata basis. It is based on each class' proportionate participation in the
fund, determined by the value of the shares of each class. To calculate Net
Asset Value per share of each class, the assets of each class are valued and
totaled, liabilities are subtracted, and the balance, called net assets, is
divided by the number of shares of the class outstanding. The fund's assets are
valued as described under "How Are Fund Shares Valued?" in the SAI.
WRITTEN INSTRUCTIONS
Written instructions must be signed by all registered owners. To avoid any delay
in processing your transaction, they should include:
o Your name,
o The fund's name,
o The class of shares,
o A description of the request,
o For exchanges, the name of the fund you are exchanging into,
o Your account number,
o The dollar amount or number of shares, and
o A telephone number where we may reach you during the day, or in the evening
if preferred.
JOINT ACCOUNTS. For accounts with more than one registered owner, we accept
written instructions signed by only one owner for certain types of transactions
or account changes. These include transactions or account changes that you could
also make by phone, such as certain redemptions of $50,000 or less, exchanges
between identically registered accounts, and changes to the address of record.
For most other types of transactions or changes, written instructions must be
signed by all registered owners.
Please keep in mind that if you have previously told us that you do not want
telephone exchange or redemption privileges on your account, then we can only
accept written instructions to exchange or redeem shares if they are signed by
all registered owners on the account.
SIGNATURE GUARANTEES
For our mutual protection, we require a signature guarantee in the following
situations:
1) You wish to sell over $50,000 worth of shares,
2) You want the proceeds to be paid to someone other than the registered
owners,
3) The proceeds are not being sent to the address of record, preauthorized bank
account, or preauthorized brokerage firm account,
4) We receive instructions from an agent, not the registered owners,
5) We believe a signature guarantee would protect us against potential claims
based on the instructions received.
A signature guarantee verifies the authenticity of your signature. You should be
able to obtain a signature guarantee from a bank, broker, credit union, savings
association, clearing agency, or securities exchange or association.
A NOTARIZED SIGNATURE IS NOT SUFFICIENT.
SHARE CERTIFICATES
We will credit your shares to your fund account. We do not issue share
certificates unless you specifically request them. This eliminates the costly
problem of replacing lost, stolen or destroyed certificates. If a certificate is
lost, stolen or destroyed, you may have to pay an insurance premium of up to 2%
of the value of the certificate to replace it.
Any outstanding share certificates must be returned to the fund if you want to
sell or exchange those shares or if you would like to start a systematic
withdrawal plan. The certificates should be properly endorsed. You can do this
either by signing the back of the certificate or by completing a share
assignment form. For your protection, you may prefer to complete a share
assignment form and to send the certificate and assignment form in separate
envelopes.
TELEPHONE TRANSACTIONS
You may initiate many transactions and changes to your account by phone. Please
refer to the sections of this prospectus that discuss the transaction you would
like to make or call Shareholder Services.
When you call, we will request personal or other identifying information to
confirm that instructions are genuine. We may also record calls. If our lines
are busy or you are otherwise unable to reach us by phone, you may wish to ask
your investment representative for assistance or send us written instructions,
as described elsewhere in this prospectus.
For your protection, we may delay a transaction or not implement one if we are
not reasonably satisfied that the instructions are genuine. If this occurs, we
will not be liable for any loss. We also will not be liable for any loss if we
follow instructions by phone that we reasonably believe are genuine or if you
are unable to execute a transaction by phone.
TRUST COMPANY RETIREMENT PLAN ACCOUNTS. We cannot accept instructions to sell
shares or change distribution options on Trust Company retirement plans by
phone. While you may exchange shares of Trust Company IRA and 403(b) retirement
accounts by phone, certain restrictions may be imposed on other retirement
plans.
To obtain any required forms or more information about distribution or transfer
procedures, please call Retirement Plan Services.
ACCOUNT REGISTRATIONS AND REQUIRED DOCUMENTS
When you open an account, we need you to tell us how you want your shares
registered. How you register your account will affect your ownership rights and
ability to make certain transactions. If you have questions about how to
register your account, you should consult your investment representative or
legal advisor. Please keep the following information in mind when registering
your account.
JOINT OWNERSHIP. If you open an account with two or more owners, we register the
account as "joint tenants with rights of survivorship" unless you tell us
otherwise. An account registered as "joint tenants with rights of survivorship"
is shown as "Jt Ten" on your account statement. For any account with two or more
owners, we cannot accept instructions to change owners on the account unless ALL
owners agree in writing, even if the law in your state says otherwise. If you
would like another person or owner to sign for you, please send us a current
power of attorney.
GIFTS AND TRANSFERS TO MINORS. You may set up a custodial account for a minor
under your state's Uniform Gifts/Transfers to Minors Act. Other than this form
of registration, a minor may not be named as an account owner.
TRUSTS. You should register your account as a trust only if you have a valid
written trust document. This avoids future disputes or possible court action
over who owns the account.
REQUIRED DOCUMENTS. For corporate, partnership and trust accounts, please send
us the following documents when you open your account. This will help avoid
delays in processing your transactions while we verify who may sign on the
account.
TYPE OF ACCOUNT DOCUMENTS REQUIRED
- ------------------------------------------------------------------------------
CORPORATION Corporate Resolution
- ------------------------------------------------------------------------------
PARTNERSHIP 1. The pages from the partnership agreement that
identify the general partners, or
2. A certification for a partnership agreement
- ------------------------------------------------------------------------------
TRUST 1. The pages from the trust document that identify
the trustees, or
2. A certification for trust
- ------------------------------------------------------------------------------
STREET OR NOMINEE ACCOUNTS. If you have fund shares held in a "street" or
"nominee" name account with your Securities Dealer, you may transfer the shares
to the street or nominee name account of another Securities Dealer. Both dealers
must have an agreement with Distributors or we cannot process the transfer.
Contact your Securities Dealer to initiate the transfer. We will process the
transfer after we receive authorization in proper form from your delivering
Securities Dealer. Accounts may be transferred electronically through the NSCC.
For accounts registered in street or nominee name, we may take instructions
directly from the Securities Dealer or your nominee.
IMPORTANT INFORMATION IF YOU HAVE AN INVESTMENT REPRESENTATIVE
If there is a Securities Dealer or other representative of record on your
account, we are authorized: (1) to provide confirmations, account statements and
other information about your account directly to your dealer and/or
representative; and (2) to accept telephone and electronic instructions directly
from your dealer or representative, including instructions to exchange or redeem
your shares. Electronic instructions may be processed through established
electronic trading systems and programs used by the fund. Telephone instructions
directly from your representative will be accepted unless you have told us that
you do not want telephone privileges to apply to your account.
KEEPING YOUR ACCOUNT OPEN
Due to the relatively high cost of maintaining a small account, we may close
your account if the value of your shares is less than $250, or less than $50 for
employee accounts. We will only do this if the value of your account fell below
this amount because you voluntarily sold your shares and your account has been
inactive (except for the reinvestment of distributions) for at least six months.
Before we close your account, we will notify you and give you 30 days to
increase the value of your account to $1,000, or $100 for employee accounts.
These minimums do not apply to IRAs, accounts managed by the Franklin Templeton
Group, the Franklin Templeton Profit Sharing 401(k) Plan, the series of Franklin
Templeton Fund Allocator Series, or certain defined contribution plans that
qualify to buy shares with no minimum initial investment requirement.
SERVICES TO HELP YOU MANAGE YOUR ACCOUNT
AUTOMATIC INVESTMENT PLAN
Our automatic investment plan offers a convenient way to invest in the fund.
Under the plan, you can have money transferred automatically from your checking
account to the fund each month to buy additional shares. If you are interested
in this program, please refer to the shareholder application included with this
prospectus or contact your investment representative. The market value of the
fund's shares may fluctuate and a systematic investment plan such as this will
not assure a profit or protect against a loss. You may discontinue the program
at any time by calling Shareholder Services.
SYSTEMATIC WITHDRAWAL PLAN
Our systematic withdrawal plan allows you to sell your shares and receive
regular payments from your account on a monthly, quarterly, semiannual or annual
basis. The value of your account must be at least $5,000 and the minimum payment
amount for each withdrawal must be at least $50. For retirement plans subject to
mandatory distribution requirements, the $50 minimum will not apply.
If you would like to establish a systematic withdrawal plan, please complete the
systematic withdrawal plan section of the shareholder application included with
this prospectus and indicate how you would like to receive your payments. You
may choose to direct your payments to buy the same class of shares of another
Franklin Templeton Fund or have the money sent directly to you, to another
person, or to a checking account. Once your plan is established, any
distributions paid by the fund will be automatically reinvested in your account.
You will generally receive your payment by the end of the month in which a
payment is scheduled. When you sell your shares under a systematic withdrawal
plan, it is a taxable transaction.
You may discontinue a systematic withdrawal plan, change the amount and schedule
of withdrawal payments, or suspend one payment by notifying us by mail or by
phone at least seven business days before the end of the month preceding a
scheduled payment. Please see "How Do I Buy, Sell and Exchange Shares? -
Systematic Withdrawal Plan" in the SAI for more information.
TELEFACTS(R)
From a touch-tone phone, you may call our TeleFACTS(R) system (day or night) at
1-800/247-1753 to:
o obtain information about your account;
o obtain price information about any Franklin Templeton Fund; and
o request duplicate statements and deposit slips for Franklin Templeton
accounts.
You will need the fund's code number to use TeleFACTS(R). The fund's code number
is 613.
STATEMENTS AND REPORTS TO SHAREHOLDERS
We will send you the following statements and reports on a regular basis:
o Confirmation and account statements reflecting transactions in your account,
including additional purchases and dividend reinvestments. PLEASE VERIFY THE
ACCURACY OF YOUR STATEMENTS WHEN YOU RECEIVE THEM.
o Financial reports of the fund will be sent every six months. To reduce fund
expenses, we attempt to identify related shareholders within a household and
send only one copy of a report. Call Fund Information if you would like an
additional free copy of the fund's financial reports.
INSTITUTIONAL ACCOUNTS
Additional methods of buying, selling or exchanging shares of the fund may be
available to institutional accounts. Institutional investors may also be
required to complete an institutional account application. For more information,
call Institutional Services.
AVAILABILITY OF THESE SERVICES
The services above are available to most shareholders. If, however, your shares
are held by a financial institution, in a street name account, or networked
through the NSCC, the fund may not be able to offer these services directly to
you. Please contact your investment representative.
WHAT IF I HAVE QUESTIONS ABOUT MY ACCOUNT?
If you have any questions about your account, you may write to Investor Services
at 777 Mariners Island Blvd., P.O. Box 7777, San Mateo, California 94403-7777.
The fund, Distributors and Advisers are also located at this address. You may
also contact us by phone at one of the numbers listed below.
HOURS OF OPERATION (PACIFIC TIME)
DEPARTMENT NAME TELEPHONE NO. (MONDAY THROUGH FRIDAY)
- --------------------------------------------------------------------------
Shareholder Services 1-800/632-2301 5:30 a.m. to 5:00 p.m.
Dealer Services 1-800/524-4040 5:30 a.m. to 5:00 p.m.
Fund Information 1-800/DIAL BEN 5:30 a.m. to 8:00 p.m.
(1-800/342-5236) 6:30 a.m. to 2:30 p.m.(Saturday)
Retirement Plan Services 1-800/527-2020 5:30 a.m. to 5:00 p.m.
Institutional Services 1-800/321-8563 6:00 a.m. to 5:00 p.m.
TDD (hearing impaired) 1-800/851-0637 5:30 a.m. to 5:00 p.m.
Your phone call may be monitored or recorded to ensure we provide you with high
quality service. You will hear a regular beeping tone if your call is being
recorded.
GLOSSARY
USEFUL TERMS AND DEFINITIONS
ADVISERS - Franklin Advisers, Inc., the fund's investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I AND ADVISOR CLASS - The fund offers two classes of shares, designated
"Class I" and "Advisor Class." The two classes have proportionate interests in
the fund's portfolio. They differ, however, primarily in their sales charge and
expense structures.
CODE - Internal Revenue Code of 1986, as amended
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the fund's principal
underwriter. The SAI lists the officers and Board members who are affiliated
with Distributors. See "Officers and Trustees."
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the fund's administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the fund's
shareholder servicing and transfer agent
IRS - Internal Revenue Service
MARKET TIMERS - Market Timers generally include market timing or asset
allocation services, accounts administered so as to buy, sell or exchange shares
based on predetermined market indicators, or any person or group whose
transactions seem to follow a timing pattern or whose transactions include
frequent or large exchanges.
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by the
number of shares outstanding.
NSCC - National Securities Clearing Corporation
NYSE - New York Stock Exchange
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
TELEFACTS(R) - Franklin Templeton's automated customer servicing system
TRUST COMPANY - Franklin Templeton Trust Company. Trust Company is an
affiliate of Distributors and both are wholly owned subsidiaries of Resources.
WE/OUR/US - Unless the context indicates a different meaning, these terms refer
to the fund and/or Investor Services, Distributors, or other wholly owned
subsidiaries of Resources.
FRANKLIN
STRATEGIC SERIES
FRANKLIN CALIFORNIA GROWTH FUND
FRANKLIN MIDCAP GROWTH FUND
FRANKLIN BLUE CHIP FUND
STATEMENT OF
ADDITIONAL INFORMATION
SEPTEMBER 1, 1998
777 MARINERS ISLAND BLVD., P.O. BOX 7777
SAN MATEO, CA 94403-7777 1-800/DIAL BEN(R)
- ------------------------------------------------------------------------------
TABLE OF CONTENTS
How Do the Funds Invest Their Assets? .............................. 2
What Are the Risks of Investing
in the Funds? ..................................................... 9
Investment Restrictions ............................................ 12
Officers and Trustees .............................................. 15
Investment Management
and Other Services ................................................ 19
How Do the Funds Buy Securities
for Their Portfolios? ............................................. 21
How Do I Buy, Sell
and Exchange Shares? .............................................. 22
How Are Fund Shares Valued? ........................................ 25
Additional Information on
Distributions and Taxes ........................................... 26
The Funds' Underwriter ............................................. 31
How Do the Funds
Measure Performance? .............................................. 33
Miscellaneous Information .......................................... 37
Financial Statements ............................................... 38
Useful Terms and Definitions ....................................... 38
Appendix
Description of Ratings ............................................ 39
- ------------------------------------------------------------------------------
When reading this SAI, you will see certain terms beginning with capital
letters. This means the term is explained under "Useful Terms and
Definitions."
- ------------------------------------------------------------------------------
The California Fund is a non-diversified series and the MidCap Fund and the
Blue Chip Fund are diversified series of Franklin Strategic Series (the
"Trust"), an open-end management investment company. The Prospectus, dated
September 1, 1998, which we may amend from time to time, contains the basic
information you should know before investing in the funds. For a free copy,
call 1-800/DIAL BEN.
THIS SAI IS NOT A PROSPECTUS. IT CONTAINS INFORMATION IN ADDITION TO AND IN
MORE DETAIL THAN SET FORTH IN THE PROSPECTUS. THIS SAI IS INTENDED TO PROVIDE
YOU WITH ADDITIONAL INFORMATION REGARDING THE ACTIVITIES AND OPERATIONS OF
EACH FUND, AND SHOULD BE READ IN CONJUNCTION WITH THE PROSPECTUS.
- ------------------------------------------------------------------------------
MUTUAL FUNDS, ANNUITIES, AND OTHER INVESTMENT PRODUCTS:
O ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE
FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S. GOVERNMENT;
O ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED BY, ANY BANK;
O ARE SUBJECT TO INVESTMENT RISKS, INCLUDING THE POSSIBLE LOSS OF PRINCIPAL.
- -------------------------------------------------------------------------------
HOW DO THE FUNDS INVEST THEIR ASSETS?
WHAT ARE THE FUNDS' GOALS?
The investment goal of the California Fund is capital appreciation. The
investment goal of the MidCap Fund is long-term capital growth. The
investment goal of the Blue Chip Fund is long-term capital appreciation.
These goals are fundamental, which means that they may not be changed without
shareholder approval.
The Blue Chip Fund may also seek current income incidental to long-term
capital appreciation, although this is not a fundamental policy of the fund.
The following gives more detailed information about the funds' investment
policies and the types of securities that they may buy. Please read this
information together with the section "How Do the Funds Invest Their Assets?"
in the Prospectus.
MORE INFORMATION ABOUT THE KINDS OF
SECURITIES THE FUNDS BUY
EQUITY SECURITIES. The purchaser of an equity security typically receives an
ownership interest in the company as well as certain voting rights. The owner
of an equity security may participate in a company's success through the
receipt of dividends, which are distributions of earnings by the company to
its owners. Equity security owners may also participate in a company's
success or lack of success through increases or decreases in the value of the
company's shares as traded in the public trading market for such shares.
Equity securities generally take the form of common stock or preferred stock.
Preferred stockholders typically receive greater dividends but may receive
less appreciation than common stockholders and may have greater voting rights
as well. Equity securities may also include convertible securities, warrants,
or rights. Warrants or rights give the holder the right to purchase a common
stock at a given time for a specified price.
DEBT SECURITIES. A debt security typically has a fixed payment schedule that
obligates the issuer to pay interest to the lender and to return the lender's
money over a certain time period. A company typically meets its payment
obligations associated with its outstanding debt securities before it
declares and pays any dividend to holders of its equity securities. Bonds,
notes, debentures, and commercial paper differ in the length of the issuer's
payment schedule, with bonds carrying the longest repayment schedule and
commercial paper the shortest.
The market value of debt securities generally varies in response to changes
in interest rates and the financial condition of each issuer. During periods
of declining interest rates, the value of debt securities generally
increases. Conversely, during periods of rising interest rates, the value of
debt securities generally declines. These changes in market value will be
reflected in a fund's Net Asset Value.
REPURCHASE AGREEMENTS. Repurchase agreements are contracts under which the
buyer of a security simultaneously commits to resell the security to the
seller at an agreed upon price and date. Under a repurchase agreement, the
seller is required to maintain the value of the securities subject to the
repurchase agreement at not less than the repurchase price. Advisers will
monitor the value of such securities daily to determine that the value equals
or exceed the repurchase price. Repurchase agreements may involve risks in
the event of default or insolvency of the seller, including possible delays
or restrictions upon a fund's ability to dispose of the underlying
securities. The funds will enter into repurchase agreements only with parties
who meet creditworthiness standards approved by the funds' Board, i.e., banks
or broker-dealers that have been determined by Advisers to present no serious
risk of becoming involved in bankruptcy proceedings within the time frame
contemplated by the repurchase transaction.
LOANS OF PORTFOLIO SECURITIES. Each fund may lend to banks and broker-dealers
portfolio securities with an aggregate market value of up to 20% of its total
assets in the case of the MidCap Fund, one-third of its total assets in the
case of the Blue Chip Fund, or 10% of its total assets in the case of the
California Fund. Such loans must be secured by collateral (consisting of any
combination of cash, U.S. government securities, or irrevocable letters of
credit) in an amount at least equal (on a daily marked-to-market basis) to
the current market value of the securities loaned. The fund retains all or a
portion of the interest received on investment of the cash collateral or
receives a fee from the borrower. The fund may terminate the loans at any
time and obtain the return of the securities loaned within five business
days. The fund will continue to receive any interest or dividends paid on the
loaned securities and will continue to have voting rights with respect to the
securities. However, as with other extensions of credit, there are risks of
delay in recovery or even loss of rights in collateral should the borrower
fail.
SMALL COMPANIES. To the extent that the California Fund may invest in smaller
capitalization companies or other companies, it may place greater emphasis
upon investments in relatively new or unseasoned companies that are in their
early stages of development, or in new and emerging industries where the
opportunity for rapid growth is expected to be above average. Securities of
unseasoned companies present greater risks than securities of larger, more
established companies. Any investments in these types of companies, however,
will be limited in the case of issuers that have less than three years
continuous operation, including the operations of any predecessor companies,
to no more than 5% of the California Fund's total assets.
OPTIONS, FUTURES, AND OPTIONS ON FUTURES
OPTIONS. Each fund may buy or write (sell) put and call options on securities
listed on a national securities exchange and in the over-the-counter ("OTC")
market. All options written by the funds will be covered. The California Fund
may also buy or write put and call options on securities indices. The MidCap
Fund may also buy call options on stock indices. Options written by the
MidCap Fund and the Blue Chip Fund will be for portfolio hedging purposes.
A call option written by a fund is covered if the fund (a) owns the
underlying security that is subject to the call or (b) has an absolute and
immediate right to acquire that security without additional cash
consideration (or for additional cash consideration held in a segregated
account by its custodian bank) upon conversion or exchange of other
securities held in its portfolio. A call option is also covered if the fund
holds a call on the same security and in the same principal amount as the
call written where the exercise price of the call held is (a) equal to or
less than the exercise price of the call written or (b) greater than the
exercise price of the call written if the difference is held in cash or
high-grade debt securities in a segregated account with the fund's custodian
bank.
A put option written by a fund is covered if the fund maintains cash or
high-grade debt securities with a value equal to the exercise price of the
written put in a segregated account with its custodian bank. A put is also
covered if the fund holds a put on the same security and in the same
principal amount as the put written where the exercise price of the put held
is equal to or greater than the exercise price of the put written.
The premium paid by the buyer of an option will reflect, among other things,
the relationship of the exercise price to the market price and volatility of
the underlying security, the remaining term of the option, supply and demand,
and interest rates.
The writer of an option may have no control over when the underlying
securities must be sold, in the case of a call option, or purchased, in the
case of a put option, since the writer may be assigned an exercise notice at
any time prior to the termination of the obligation. Whether or not an option
expires unexercised, the writer retains the amount of the premium. This
amount may, in the case of a covered call option, be offset by a decline in
the market value of the underlying security during the option period. If a
call option is exercised, the writer experiences a profit or loss from the
sale of the underlying security. If a put option is exercised, the writer
must fulfill the obligation to buy the underlying security at the exercise
price, which will usually exceed the market value of the underlying security
at that time.
If the writer of an option wants to terminate its obligation, the writer may
effect a "closing purchase transaction" by buying an option of the same
series as the option previously written. The effect of the purchase is that
the clearing corporation will cancel the writer's position. However, a writer
may not effect a closing purchase transaction after being notified of the
exercise of an option. Likewise, the holder of an option may liquidate its
position by effecting a "closing sale transaction" by selling an option of
the same series as the option previously purchased. There is no guarantee
that either a closing purchase or a closing sale transaction may be made at
the time desired by a fund.
Effecting a closing transaction in the case of a written call option allows a
fund to write another call option on the underlying security with a different
exercise price, expiration date or both. In the case of a written put option,
a closing transaction allows a fund to write another covered put option.
Effecting a closing transaction also allows the cash or proceeds from the
sale of any securities subject to the option to be used for other fund
investments. If a fund wants to sell a particular security from its portfolio
on which it has written a call option, it will effect a closing transaction
prior to or at the same time as the sale of the security.
A fund will realize a profit from a closing transaction if the price of the
transaction is less than the premium received from writing the option or is
more than the premium paid to buy the option. Likewise, a fund will realize a
loss from a closing transaction if the price of the transaction is more than
the premium received from writing the option or is less than the premium paid
to buy the option. Increases in the market price of a call option will
generally reflect increases in the market price of the underlying security.
As a result, any loss resulting from the repurchase of a call option is
likely to be offset in whole or in part by appreciation of the underlying
security owned by the fund.
The writing of covered put options involves certain risks. For example, if
the market price of the underlying security rises or otherwise is above the
exercise price, the put option will expire worthless and the fund's gain will
be limited to the premium received. If the market price of the underlying
security declines or otherwise is below the exercise price, a fund may elect
to close the position or take delivery of the security at the exercise price.
The fund's return will be the premium received from the put option minus the
amount by which the market price of the security is below the exercise price.
A fund may buy call options on securities it intends to buy in order to limit
the risk of a substantial increase in the market price of the security before
the purchase is effected. A fund may also buy call options on securities held
in its portfolio and on which it has written call options. Prior to its
expiration, a call option may be sold in a closing sale transaction. Profit
or loss from the sale will depend on whether the amount received is more or
less than the premium paid for the call option plus any related transaction
costs.
A fund may buy put options on securities to protect against a decline in the
market value of the underlying security below the exercise price less the
premium paid for the option. The ability to buy put options allows a fund to
protect the unrealized gain in an appreciated security in its portfolio
without actually selling the security. In addition, the fund continues to
receive interest or dividend income on the security. A fund may sell a put
option it has previously purchased prior to the sale of the security
underlying the option. The sale of the option will result in a net gain or
loss depending on whether the amount received on the sale is more or less
than the premium and other transaction costs paid for the put option. Any
gain or loss may be wholly or partially offset by a change in the value of
the underlying security that the fund owns or has the right to acquire.
Each fund may write covered put and call options and buy put and call options
that trade in the OTC market to the same extent that it may engage in
exchange traded options. Like exchange traded options, OTC options give the
holder the right to buy, in the case of OTC call options, or sell, in the
case of OTC put options, an underlying security from or to the writer at a
stated exercise price. However, OTC options differ from exchange traded
options in certain material respects.
OTC options are arranged directly with dealers and not with a clearing
corporation. Thus, there is a risk of non-performance by the dealer. Because
there is no exchange, pricing is typically done based on information from
market makers. OTC options are available for a greater variety of securities
and in a wider range of expiration dates and exercise prices, however, than
exchange traded options, and the writer of an OTC option is paid the premium
in advance by the dealer.
Call and put options on stock indices are similar to options on securities
except, rather than the right to buy or sell stock at a specified price,
options on a stock index give the holder the right to receive, upon exercise
of the option, an amount of cash if the closing level of the underlying stock
index is greater than (or less than, in the case of a put) the exercise price
of the option, expressed in dollars multiplied by a specified number. Thus,
unlike stock options, all settlements are in cash, and gain or loss depends
on price movements in the stock market generally (or in a particular industry
or segment of the market) rather than price movements in individual stocks.
When a fund writes an option on a stock index, the fund will establish a
segregated account with its custodian bank containing cash or high quality
fixed-income securities in an amount at least equal to the market value of
the underlying stock index. The fund will maintain the account while the
option is open or will otherwise cover the transaction.
FINANCIAL FUTURES. The California Fund and the MidCap Fund may enter into
contracts for the purchase or sale of futures contracts based upon financial
indices ("financial futures"). Financial futures contracts are commodity
contracts that obligate the long or short holder to take or make delivery of
the cash value of a securities index during a specified future period at a
specified price. A "sale" of a futures contract means the acquisition of a
contractual obligation to deliver such cash value called for by the contract
on a specified date. A "purchase" of a futures contract means the acquisition
of a contractual obligation to take delivery of the cash value called for by
the contract at a specified date. The purpose of the acquisition or sale of a
futures contract is to attempt to protect the fund from fluctuations in price
of portfolio securities without actually buying or selling the underlying
security. Futures contracts have been designed by exchanges designated
"contracts markets" by the Commodity Futures Trading Commission ("CFTC") and
must be executed through a futures commission merchant, or brokerage firm,
which is a member of the relevant contract market.
The California Fund and the MidCap Fund will not engage in transactions in
futures contracts or related options for speculation, but only as a hedge
against changes resulting from market conditions in the values of its
securities or securities that it intends to buy and, to the extent consistent
therewith, to accommodate cash flows. A fund will not enter into any stock
index or financial futures contract or related option if, immediately
thereafter, more than one-third of its total assets would be represented by
futures contracts or related options. In addition, a fund may not buy or sell
futures contracts or buy or sell related options if, immediately thereafter,
the sum of the amount of initial deposits on its existing financial futures
and premiums paid on options on financial futures contracts would exceed 5%
of its total assets (taken at current value). To the extent a fund enters
into a futures contract or related call option, it will maintain with its
custodian bank, to the extent required by the rules of the SEC, assets in a
segregated account to cover its obligations with respect to such contract
which will consist of cash, cash equivalents or high quality debt securities
from its portfolio in an amount equal to the market value of such futures
contract or related option.
STOCK INDEX FUTURES. The California Fund and the MidCap Fund may buy and sell
stock index futures contracts. A stock index futures contract obligates the
seller to deliver (and the buyer to take) an amount of cash equal to a
specific dollar amount times the difference between the value of a specific
stock index at the close of the last trading day of the contract and the
price at which the agreement is made. No physical delivery of the underlying
stocks in the index is made.
The California Fund and the MidCap Fund may sell stock index futures
contracts in anticipation of or during a market decline to attempt to offset
the decrease in market value of its equity securities that might otherwise
result. When either fund is not fully invested in stocks and anticipates a
significant market advance, it may buy stock index futures in order to gain
rapid market exposure that may in part or entirely offset increases in the
cost of common stocks that it intends to buy.
OPTIONS ON STOCK INDEX FUTURES. The California Fund and the MidCap Fund may
buy and sell call and put options on stock index futures to hedge against
risks of marketside price movements. The need to hedge against these risks
will depend on the extent of diversification of a fund's common stock
portfolio and the sensitivity of such investments to factors influencing the
stock market as a whole.
Call and put options on stock index futures are similar to options on
securities except that, rather than the right to buy or sell stock at a
specified price, options on stock index futures give the holder the right to
receive cash. Upon exercise of the option, the delivery of the futures
position by the writer of the option to the holder of the option will be
accompanied by delivery of the accumulated balance in the writer's futures
margin account which represents the amount by which the market price of the
futures contract, at exercise, exceeds, in the case of a call, or is less
than, in the case of a put, the exercise price of the option on the futures
contract. If an option is exercised on the last trading day before the
expiration date of the option, the settlement will be made entirely in cash
equal to the difference between the exercise price of the option and the
closing price of the futures contract on the expiration date.
BOND INDEX FUTURES AND RELATED OPTIONS. The California Fund may buy and sell
futures contracts based on an index of debt securities and options on such
futures contracts to the extent they currently exist and, in the future, may
be developed. The California Fund reserves the right to conduct futures and
options transactions based on an index that may be developed in the future to
correlate with price movements in certain categories of debt securities. The
California Fund's investment strategy in employing futures contracts based on
an index of debt securities will be similar to that used by it in other
financial futures transactions.
The California Fund may also buy and write put and call options on bond index
futures and enter into closing transactions with respect to such options.
FUTURES CONTRACTS FOR SECURITIES AND CURRENCIES. The Blue Chip Fund may buy
and sell futures contracts for securities and currencies. The Blue Chip Fund
may also enter into closing purchase and sale transactions with respect to
these futures contracts. The Blue Chip Fund will engage in futures
transactions only for bona fide hedging or other appropriate risk management
purposes. All futures contracts entered into by the Blue Chip Fund are traded
on U.S. exchanges or boards of trade licensed and regulated by the CFTC or on
foreign exchanges.
When securities prices are falling, the Blue Chip Fund may offset a decline
in the value of its current portfolio securities through the sale of futures
contracts. When prices are rising, the Blue Chip Fund can attempt to secure
better prices than might be available when it intends to buy securities
through the purchase of futures contracts. Similarly, the Blue Chip Fund can
sell futures contracts on a specified currency to protect against a decline
in the value of that currency and its portfolio securities denominated in
that currency. The Blue Chip Fund can buy futures contracts on a foreign
currency to fix the price in U.S. dollars of a security denominated in that
currency that the fund has purchased or expects to buy.
Positions taken in the futures markets are not normally held to maturity, but
are liquidated through offsetting transactions that may result in a profit or
a loss. While the Blue Chip Fund's futures contracts on securities and
currencies will usually be liquidated in this manner, the fund may instead
make or take delivery of the underlying securities or currencies whenever it
appears economically advantageous for it to do so. A clearing corporation
associated with the exchange on which futures on securities or currencies are
traded guarantees that, if still open, the sale or purchase will be performed
on the settlement date.
To the extent the Blue Chip Fund enters into a futures contract, it will
deposit in a segregated account with its custodian bank cash or U.S. Treasury
obligations equal to a specified percentage of the value of the futures
contract (the "initial margin"), as required by the relevant contract market
and futures commission merchant. The futures contract will be
marked-to-market daily. Should the value of the futures contract decline
relative to the fund's position, the Blue Chip Fund will be required to pay
the futures commission merchant an amount equal to the change in value.
FUTURES CONTRACTS - GENERAL. Although financial futures contracts by their
terms call for the actual delivery or acquisition of securities, or the cash
value of the index, in most cases the contractual obligation is fulfilled
before the date of the contract without having to make or take delivery of
the securities or cash. A contractual obligation is offset by buying (or
selling, as the case may be) on a commodities exchange an identical financial
futures contract calling for delivery in the same month. This transaction,
which is effected through a member of an exchange, cancels the obligation to
make or take delivery of the securities or cash. Since all transactions in
the futures market are made, offset or fulfilled through a clearinghouse
associated with the exchange on which the contracts are traded, a fund will
incur brokerage fees when it buys or sells financial futures contracts.
FUTURE DEVELOPMENTS. Each fund may take advantage of opportunities in the
area of options, futures, and options on futures and any other derivative
investments that are not presently contemplated for use by the fund or that
are not currently available but which may be developed, to the extent such
opportunities are consistent with the fund's investment goal and legally
permissible for the fund.
FORWARD CURRENCY EXCHANGE TRANSACTIONS. In connection with the Blue Chip
Fund's investment in foreign securities, it may hold currencies other than
the U.S. dollar and enter into forward currency exchange transactions to
facilitate settlements and to protect against changes in exchange rates. In a
forward currency transaction, the Blue Chip Fund agrees to buy or sell a
foreign currency at a set exchange rate. Payment and delivery of the currency
occurs on a future date. There is no assurance that these strategies will be
successful. The Blue Chip Fund's investment in foreign currencies and forward
currency exchange transactions will not exceed 10% of its net assets. The
Blue Chip Fund may also enter into futures contracts for currencies as
discussed above.
The Blue Chip Fund may enter into forward currency exchange transactions in
order (i) to "lock-in" the U.S. dollar price of a security in its portfolio
denominated in a foreign currency; (ii) to sell an amount of a foreign
currency approximating the value of some or all of its portfolio securities
denominated in that foreign currency when Advisers believes the foreign
currency may decline substantially against the U.S. dollar; or (iii) to buy a
foreign currency for a fixed dollar amount when Advisers believes the U.S.
dollar may substantially decline against that foreign currency.
The value of securities denominated in a foreign currency may change during
the time between when a forward transaction is entered into and the time it
settles. It is therefore generally not possible to match precisely the
forward transaction amount and the value of the securities in the Blue Chip
Fund's portfolio denominated in the currency involved. Using a forward
currency transaction to protect the value of the Blue Chip Fund's portfolio
securities against a decline in the value of a currency does not eliminate
fluctuations in the underlying prices of the securities. It simply
establishes a rate of exchange that the Blue Chip Fund can achieve at some
future time. The precise projection of short-term currency market movements
is not possible and short-term hedging provides a way to fix the dollar value
of only a portion of the Blue Chip Fund's foreign securities.
To limit the potential risks of buying currency under forward currency
transactions, the Blue Chip Fund will keep cash, cash equivalents, or readily
marketable high-grade debt securities equal to the amount of the purchase in
a segregated account with its custodian bank to be used to pay for the
commitment. The Blue Chip Fund will cover any commitments under these
transactions to sell currency by owning the underlying currency or an
absolute right to acquire the underlying currency. The segregated account
will be marked-to-market daily.
CONVERTIBLE SECURITIES. Each fund may invest in convertible securities. A
convertible security is generally a debt obligation or a preferred stock that
may be converted within a specified period of time into a certain amount of
common stock of the same or a different issuer. A convertible security may
also be subject to redemption by the issuer but only after a specified date
and under circumstances established at the time the security is issued.
Convertible securities provide a fixed-income stream and the opportunity,
through their conversion feature, to participate in the capital appreciation
resulting from a market price advance in the convertible security's
underlying common stock. The funds intend to invest in liquid convertible
securities, but there can be no assurance that they will always be able to do
so.
As with a straight fixed-income security, a convertible security tends to
increase in market value when interest rates decline and decrease in value
when interest rates rise. Like a common stock, the value of a convertible
security also tends to increase as the market value of the underlying stock
rises, and it tends to decrease as the market value of the underlying stock
declines. Because both interest rate and market movements can influence its
value, a convertible security is not as sensitive to interest rates as a
similar fixed-income security, nor is it as sensitive to changes in share
price as its underlying stock.
A convertible security is usually issued either by an operating company or by
an investment bank. When issued by an operating company, a convertible
security tends to be senior to common stock, but subordinate to other types
of fixed-income securities issued by that company. When a convertible
security issued by an operating company is "converted," the operating company
often issues new stock to the holder of the convertible security but, if the
parity price of the convertible security is less than the call price, the
operating company may pay out cash instead of common stock. If the
convertible security is issued by an investment bank, the security is an
obligation of and is convertible through the issuing investment bank. The
issuer of a convertible security may be important in determining the
security's true value. This is because the holder of a convertible security
will have recourse only to the issuer.
While the funds use the same criteria to rate convertible debt securities
that they use to rate more conventional debt securities, a convertible
preferred stock is treated like a preferred stock for the funds' financial
reporting, credit rating, and investment limitation purposes. A preferred
stock is subordinated to all debt obligations in the event of insolvency, and
an issuer's failure to make a dividend payment is generally not an event of
default entitling the preferred shareholder to take action. A preferred stock
generally has no maturity date, so that its market value is dependent on the
issuer's business prospects for an indefinite period of time. In addition,
distributions from preferred stock are dividends, rather than interest
payments, and are usually treated as such for corporate tax purposes.
The California Fund and the MidCap Fund may invest in convertible preferred
stocks that offer enhanced yield features, such as Preferred Equity
Redemption Cumulative Stocks ("PERCS"), which provide an investor, such as
the funds, with the opportunity to earn higher dividend income than is
available on a company's common stock. PERCS are preferred stocks that
generally feature a mandatory conversion date, as well as a capital
appreciation limit, which is usually expressed in terms of a stated price.
Most PERCS expire three years from the date of issue, at which time they are
convertible into common stock of the issuer. PERCS are generally not
convertible into cash at maturity. Under a typical arrangement, after three
years PERCS convert into one share of the issuer's common stock if the
issuer's common stock is trading at a price below that set by the capital
appreciation limit, and into less than one full share if the issuer's common
stock is trading at a price above that set by the capital appreciation limit.
The amount of that fractional share of common stock is determined by dividing
the price set by the capital appreciation limit by the market price of the
issuer's common stock. PERCS can be called at any time prior to maturity, and
hence do not provide call protection. If called early, however, the issuer
must pay a call premium over the market price to the investor. This call
premium declines at a preset rate daily, up to the maturity date.
The California Fund and the MidCap Fund may also invest in other classes of
enhanced convertible securities. These include but are not limited to ACES
(Automatically Convertible Equity Securities), PEPS (Participating Equity
Preferred Stock), PRIDES (Preferred Redeemable Increased Dividend Equity
Securities), SAILS (Stock Appreciation Income Linked Securities), TECONS
(Term Convertible Notes), QICS (Quarterly Income Cumulative Securities), and
DECS (Dividend Enhanced Convertible Securities). ACES, PEPS, PRIDES, SAILS,
TECONS, QICS, and DECS all have the following features: they are issued by
the company, the common stock of which will be received in the event the
convertible preferred stock is converted; unlike PERCS they do not have a
capital appreciation limit; they seek to provide the investor with high
current income with some prospect of future capital appreciation; they are
typically issued with three or four-year maturities; they typically have some
built-in call protection for the first two to three years; and, upon
maturity, they will necessarily convert into either cash or a specified
number of shares of common stock.
Similarly, there may be enhanced convertible debt obligations issued by the
operating company, whose common stock is to be acquired in the event the
security is converted, or by a different issuer, such as an investment bank.
These securities may be identified as ELKS (Equity Linked Securities) or by
similar names. Typically they share most of the salient characteristics of an
enhanced convertible preferred stock but will be ranked as senior or
subordinated debt in the issuer's corporate structure according to the terms
of the debt indenture. There may be additional types of convertible
securities not specifically referred to herein that may be similar to those
described above in which a fund may invest, consistent with its objectives
and policies.
SECURITIES INDUSTRY RELATED INVESTMENTS. To the extent it is consistent with
their respective investment goals and certain limitations under the 1940 Act,
the California Fund and the MidCap Fund may invest their assets in securities
issued by companies engaged in securities related businesses, including
companies that are securities brokers, dealers, underwriters or investment
advisors. These companies are considered to be part of the financial services
industry. Generally, under the 1940 Act, a fund may not acquire a security or
any interest in a securities related business to the extent such acquisition
would result in the fund acquiring in excess of 5% of a class of an issuer's
outstanding equity securities or 10% of the outstanding principal amount of
an issuer's debt securities, or investing more than 5% of the value of the
fund's total assets in securities of the issuer. In addition, any equity
security of a securities-related business must be a marginable security under
Federal Reserve Board regulations and any debt security of a
securities-related business must be investment grade as determined by the
Board. The funds do not believe that these limitations will impede the
attainment of their investment goals.
ILLIQUID SECURITIES. Each fund's policy is not to invest more than 10% of its
net assets in illiquid securities. Generally, an illiquid security is any
security that cannot be disposed of within seven days in the ordinary course
of business at approximately the amount at which the fund has valued it.
A fund does not consider securities that it acquires outside of the U.S. and
that are publicly traded in the U.S. or on a foreign securities market to be
illiquid assets if (a) the fund reasonably believes it can readily dispose of
the securities for cash in the U.S. or foreign market or (b) current market
quotations are readily available. The Blue Chip Fund will not acquire the
securities of foreign issuers outside of the U.S. if, at the time of
acquisition, the fund has reason to believe that it could not resell the
securities in a public trading market.
The Board has authorized each fund to invest in restricted securities. To the
extent Advisers determines there is a liquid institutional or other market
for these securities, the fund considers them to be liquid securities. An
example of these securities are restricted securities that may be freely
transferred among qualified institutional buyers pursuant to Rule 144A under
the Securities Act of 1933, as amended, and for which a liquid institutional
market has developed. The Board will review any determination by Advisers to
treat a restricted security as a liquid security on an ongoing basis,
including Advisers' assessment of current trading activity and the
availability of reliable price information. In determining whether a
restricted security is properly considered a liquid security, Advisers and
the Board will take into account the following factors: (i) the frequency of
trades and quotes for the security; (ii) the number of dealers willing to buy
or sell the security and the number of other potential buyers; (iii) dealer
undertakings to make a market in the security; and (iv) the nature of the
security and the nature of the marketplace trades (e.g., the time needed to
dispose of the security, the method of soliciting offers, and the mechanics
of transfer). To the extent a fund invests in restricted securities that are
deemed liquid, the general level of illiquidity in the fund may increase if
qualified institutional buyers become uninterested in buying these securities
or the market for these securities contracts.
WHEN-ISSUED OR DELAYED DELIVERY TRANSACTIONS. The Blue Chip Fund may buy
equity securities on a "when-issued" or "delayed delivery" basis. These
transactions are arrangements whereby the fund buys securities with payment
and delivery scheduled for a future time, generally within 15 to 60 days.
If the Blue Chip Fund buys securities on a when-issued basis, it will do so
for the purpose of acquiring securities consistent with its investment
objective and polices and not for investment leverage. The Blue Chip Fund may
sell securities purchased on a when-issued basis before the settlement date,
however, if Advisers believes it is advisable to do so.
When the Blue Chip Fund is the buyer in one of these transactions, it relies
on the seller to complete the transaction. If the seller fails to do so, the
Blue Chip Fund may miss an advantageous price or yield for the underlying
security. When the Blue Chip Fund is the buyer, it will keep cash or
high-grade marketable securities in a segregated account with its custodian
bank until payment is made. The amount held in the account will equal the
amount the Blue Chip Fund must pay for the securities at delivery.
STANDBY COMMITMENT AGREEMENTS. The Blue Chip Fund may buy equity securities
under a standby commitment agreement. If the Blue Chip Fund enters into a
standby commitment agreement, it will be obligated, for a set period of time,
to buy a certain amount of a security that may be issued and sold to the fund
at the option of the issuer. The price of the security is set at the time of
the agreement. The Blue Chip Fund will receive a commitment fee typically
equal to 0.5% of the purchase price of the security. The Blue Chip Fund will
receive this fee regardless of whether the security is actually issued.
The Blue Chip Fund may enter into a standby commitment agreement to invest in
the security underlying the commitment at a yield or price that Advisers
believes is advantageous to the fund. The Blue Chip Fund will not enter into
a standby commitment if the remaining term of the commitment is more than 45
days. If the Blue Chip Fund enters into a standby commitment, it will keep
cash or high-grade marketable securities in a segregated account with its
custodian bank in an amount equal to the purchase price of the securities
underlying the commitment.
The purchase of a security subject to a standby commitment agreement and the
related commitment fee will be recorded on the Blue Chip Fund's books on the
date the security can reasonably be expected to be issued. The value of the
security will then be reflected in the calculation of the Blue Chip Fund's
Net Asset Value. The cost basis of the security will be adjusted by the
amount of the commitment fee. If the security is not issued, the commitment
fee will be recorded as income on the expiration date of the standby
commitment.
CONVERSION TO A MASTER/FEEDER STRUCTURE -
MIDCAP FUND AND BLUE CHIP FUND ONLY.
The funds currently invest directly in securities. Certain Franklin Templeton
Funds, however, are "feeder funds" in a master/feeder fund structure. This
means they invest their assets in a "master fund" that, in turn, invests its
assets directly in securities. The MidCap Fund's and the Blue Chip Fund's
investment goals and other fundamental policies allow them to invest either
directly in securities or indirectly in securities through a master fund. In
the future, the Board may decide to convert a fund to a master/feeder
structure. If this occurs, your purchase of fund shares will be considered
your consent to a conversion and we will not seek further shareholder
approval. We will, however, notify you in advance of the conversion. If a
fund converts to a master/feeder structure, its fees and total operating
expenses are not expected to increase.
WHAT ARE THE RISKS OF
INVESTING IN THE FUNDS?
CONVERTIBLE SECURITIES. An investment in an enhanced convertible security or
any other security may involve additional risks. A fund may have difficulty
disposing of such securities because there may be a thin trading market for a
particular security at any given time. Reduced liquidity may have an adverse
impact on market price and a fund's ability to dispose of particular
securities, when necessary, to meet its liquidity needs or in response to a
specific economic event, such as the deterioration in the credit worthiness
of an issuer. Reduced liquidity in the secondary market for certain
securities may also make it more difficult for a fund to obtain market
quotations based on actual trades for purposes of valuing the fund's
portfolio. The funds, however, intend to acquire liquid securities, though
there can be no assurances that they will be able to do so.
FOREIGN SECURITIES. You should consider carefully the substantial risks
involved in securities of companies of foreign nations, which are in addition
to the usual risks inherent in domestic investments.
There may be less publicly available information about foreign companies
comparable to the reports and ratings published about companies in the U.S.
Foreign companies are not generally subject to uniform accounting or
financial reporting standards, and auditing practices and requirements may
not be comparable to those applicable to U.S. companies. A fund, therefore,
may encounter difficulty in obtaining market quotations for purposes of
valuing its portfolio and calculating its Net Asset Value. Foreign markets
have substantially less volume than the NYSE, and securities of some foreign
companies are less liquid and more volatile than securities of comparable
U.S. companies. Commission rates in foreign countries, which are generally
fixed rather than subject to negotiation as in the U.S., are likely to be
higher. In many foreign countries there is less government supervision and
regulation of stock exchanges, brokers, and listed companies than in the U.S.
Investments in companies domiciled in developing countries may be subject to
potentially higher risks than investments in developed countries. These risks
include (i) less social, political, and economic stability; (ii) the small
current size of the markets for such securities and the currently low or
nonexistent volume of trading, which result in a lack of liquidity and in
greater price volatility; (iii) certain national policies which may restrict
the fund's investment opportunities, including restrictions on investment in
issuers or industries deemed sensitive to national interests; (iv) foreign
taxation; (v) the absence of developed legal structures governing private or
foreign investment or allowing for judicial redress for injury to private
property; (vi) the absence, until recently in certain Eastern European
countries, of a capital market structure or market-oriented economy; and
(vii) the possibility that recent favorable economic developments in Eastern
Europe may be slowed or reversed by unanticipated political or social events
in such countries.
In addition, many countries in which the funds may invest have experienced
substantial, and in some periods extremely high, rates of inflation for many
years. Inflation and rapid fluctuations in inflation rates have had and may
continue to have negative effects on the economies and securities markets of
certain countries. Moreover, the economies of some developing countries may
differ favorably or unfavorably from the U.S. economy in such respects as
growth of gross domestic product, rate of inflation, currency depreciation,
capital reinvestment, resource self-sufficiency, and balance of payments
position.
The funds' management endeavors to buy and sell foreign currencies on as
favorable a basis as practicable. Some price spread on currency exchange (to
cover service charges) may be incurred, particularly when the fund changes
investments from one country to another or when proceeds of the sale of
shares in U.S. dollars are used for the purchase of securities in foreign
countries. Also, some countries may adopt policies that would prevent the
fund from transferring cash out of the country or withhold portions of
interest and dividends at the source. There is the possibility of cessation
of trading on national exchanges, expropriation, nationalization, or
confiscatory taxation, withholding, and other foreign taxes on income or
other amounts, foreign exchange controls (which may include suspension of the
ability to transfer currency from a given country), default in foreign
government securities, political or social instability, or diplomatic
developments that could affect investments in securities of issuers in
foreign nations.
The funds may be affected either favorably or unfavorably by fluctuations in
the relative rates of exchange between the currencies of different nations,
by exchange control regulations, and by indigenous economic and political
developments. Some countries in which the funds may invest may also have
fixed or managed currencies that are not free-floating against the U.S.
dollar. Further, certain currencies may not be internationally traded.
Certain of these currencies have experienced a steady devaluation relative to
the U.S. dollar. Any devaluations in the currencies in which the funds'
portfolio securities are denominated may have a detrimental impact on the
fund. Through the funds' flexible policies, management endeavors to avoid
unfavorable consequences and to take advantage of favorable developments in
particular nations where, from time to time, it places the funds' investments.
The exercise of this flexible policy may include decisions to purchase
securities with substantial risk characteristics and other decisions such as
changing the emphasis on investments from one nation to another and from one
type of security to another. Some of these decisions may later prove
profitable and others may not. No assurance can be given that profits, if
any, will exceed losses.
The Board considers at least annually the likelihood of the imposition by any
foreign government of exchange control restrictions which would affect the
liquidity of each fund's assets maintained with custodians in foreign
countries, as well as the degree of risk from political acts of foreign
governments to which such assets may be exposed. The Board also considers the
degree of risk involved through the holding of portfolio securities in
domestic and foreign securities depositories. However, in the absence of
willful misfeasance, bad faith, or gross negligence on the part of Advisers,
any losses resulting from the holding of a fund's portfolio securities in
foreign countries and/or with securities depositories will be at the risk of
the shareholders. No assurance can be given that the Board's appraisal of the
risks will always be correct or that such exchange control restrictions or
political acts of foreign governments might not occur.
LOWER-RATED SECURITIES. Although they may offer higher yields than do higher
rated securities, low rated and unrated debt securities generally involve
greater volatility of price and risk to principal and income, including the
possibility of default by, or bankruptcy of the issuers of the securities. In
addition, the markets in which low rated and unrated debt securities are
traded are more limited than those in which higher rated securities are
traded. The existence of limited markets for particular securities may
diminish a fund's ability to sell the securities at fair value either to meet
redemption requests or to respond to a specific economic event such as a
deterioration in the creditworthiness of the issuer. Reduced secondary market
liquidity for certain low rated or unrated debt securities may also make it
more difficult for a fund to obtain accurate market quotations for the
purposes of valuing the fund's portfolio. Market quotations are generally
available on many low rated or unrated securities only from a limited number
of dealers and may not necessarily represent firm bids of such dealers or
prices for actual sales.
Adverse publicity and investor perceptions, whether or not based on
fundamental analysis, may decrease the values and liquidity of low rated debt
securities, especially in a thinly traded market. Analysis of the
creditworthiness of issuers of low rated debt securities may be more complex
than for issuers of higher rated securities. The ability of a fund to achieve
its investment goal may, to the extent of investment in low rated debt
securities, be more dependent upon such creditworthiness analysis than would
be the case if the fund were invested in higher rated securities.
Low rated debt securities may be more susceptible to real or perceived
adverse economic and competitive industry conditions than investment grade
securities. The prices of low rated debt securities have been found to be
less sensitive to interest rate changes than higher rated investments, but
more sensitive to adverse economic downturns or individual corporate
developments. A projection of an economic downturn or of a period of rising
interest rates, for example, could cause a decline in low rated debt
securities prices because the advent of a recession could lessen the ability
of a highly leveraged company to make principal and interest payments on its
debt securities. If the issuer of low rated debt securities defaults, a fund
may incur additional expenses to seek recovery.
DERIVATIVE SECURITIES. The funds' transactions in options, futures, and
options on futures involve certain risks. These risks include, among others,
the risk that the effectiveness of a transaction depends on the degree that
price movements in the underlying securities, index, or currency correlate
with price movements in the relevant portion of the fund's portfolio. Each
fund bears the risk that the prices of its portfolio securities will not move
in the same amount as the option or future it has purchased, or that there
may be a negative correlation that would result in a loss on both the
underlying securities and the derivative security.
In addition, adverse market movements could cause a fund to lose up to its
full investment in a call option contract and/or to experience substantial
losses on an investment in a futures contract. There is also the risk of loss
by a fund of margin deposits in the even of bankruptcy of a broker with whom
the fund has an open position.
Positions in exchange traded options and futures may be closed out only on an
exchange that provides a secondary market. There can be no assurance that a
liquid secondary market will exist for any particular option or futures
contract at any specific time. Thus, it may not be possible to close an
option or futures position. The inability to close options or futures
positions may have an adverse impact on a fund's ability to effectively hedge
its securities. Furthermore, if a fund is unable to close out a position and
if prices move adversely, the fund will have to continue to make daily cash
payments to maintain its required margin. If a fund does not have sufficient
cash to do this, if may have to sell portfolio securities at a
disadvantageous time. Each fund will enter into an option or futures position
only if there appears to be a liquid secondary market for the options or
futures.
Similarly, there can be no assurance that a continuous liquid secondary
market will exist for any particular OTC option at any specific time.
Consequently, a fund may be able to realize the value of an OTC option it has
purchased only by exercising it or by entering into a closing sale
transaction with the dealer that issued it. When a fund writes an OTC option,
it generally can close out that option prior to its expiration only by
entering into a closing purchase transaction with the dealer to which the
fund originally wrote it.
FORWARD CURRENCY EXCHANGE TRANSACTIONS. While the Blue Chip Fund may enter
into forward currency transactions to reduce currency exchange rate risks,
these transactions involve certain other risks. Forward currency exchange
transactions may limit the potential gain to the Blue Chip Fund from a
positive change in the relationship between the U.S. dollar and foreign
currencies or between foreign currencies. Unanticipated changes in currency
exchange rates may result in poorer overall performance for the Blue Chip
Fund than if it had not entered into these transactions. Furthermore, there
may be imperfect correlation between the Blue Chip Fund's portfolio
securities denominated in a particular currency and forward currency
transactions entered into by the fund. This may cause the Blue Chip Fund to
sustain losses that will prevent it from achieving a complete hedge or expose
it to the risk of foreign exchange loss.
WHEN-ISSUED OR DELAYED DELIVERY TRANSACTIONS. The securities underlying these
transactions are subject to market fluctuation prior to delivery and
generally do not earn interest until their scheduled delivery date. There is
the risk that the value or yield of the security at the time of delivery may
be more or less than the price paid for the security or the yield available
when the transaction was entered into.
STANDBY COMMITMENT AGREEMENTS. There can be no assurance that the securities
underlying a standby commitment agreement will be issued. If issued, the
value of the security may be more or less than its purchase price. Since the
issuance of the security is at the option of the issuer, the Blue Chip Fund
may bear the risk of a decline in value of the security and may not benefit
if the security appreciates in value during the commitment period.
INVESTMENT RESTRICTIONS
The funds have adopted the following restrictions as fundamental policies.
These restrictions may not be changed without the approval of a majority of
the outstanding voting securities of the relevant fund. Under the 1940 Act,
this means the approval of (i) more than 50% of the outstanding shares of the
fund or (ii) 67% or more of the shares of the fund present at a shareholder
meeting if more than 50% of the outstanding shares of the fund are
represented at the meeting in person or by proxy, whichever is less.
The California Fund MAY NOT:
1. Make loans to other persons, except by the purchase of bonds, debentures
or similar obligations which are publicly distributed or of a character
usually acquired by institutional investors or through loans of the fund's
portfolio securities, or to the extent the entry into a repurchase agreement
may be deemed a loan.
2. Borrow money, except from banks in order to meet redemption requests that
might otherwise require the untimely disposition of portfolio securities or
for other temporary or emergency (but not investment) purposes, in an amount
up to 10% of the value of the fund's total assets (including the amount
borrowed) based on the lesser of cost or market, less liabilities (not
including the amount borrowed) at the time the borrowing is made. While
borrowings exceed 5% of the fund's total assets, the fund will not make any
additional investments.
3. Invest more than 25% of the fund's assets (at the time of the most recent
investment) in any single industry.
4. Underwrite securities of other issuers (does not preclude the fund from
obtaining such short-term credit as may be necessary for the clearance of
purchases and sales of its portfolio securities) or invest more than 10% of
its assets in securities with legal or contractual restrictions on resale
(although the fund may invest in such securities to the extent permitted
under the federal securities laws) or which are not readily marketable, or
which have a record of less than three years continuous operation, including
the operations of any predecessor companies, if more than 5% of the fund's
total assets would be invested in such companies.
5. Invest in securities for the purpose of exercising management or control
of the issuer.
6. Maintain a margin account with a securities dealer or invest in
commodities and commodity contracts (except that the fund may engage in
financial futures, including stock index futures, and options on stock index
futures) or lease or acquire any interests, including interest issued by
limited partnerships (other than publicly traded equity securities) in oil,
gas, or other mineral exploration or development programs, or invest in
excess of 5% of its total assets in options unrelated to the fund's
transactions in futures, including puts, calls, straddles, spreads, or any
combination thereof.
7. Effect short sales, unless at the time the fund owns securities
equivalent in kind and amount to those sold (which will normally be for
deferring recognition of gains or losses for tax purposes).
8. Invest directly in real estate, real estate limited partnerships or
illiquid securities issued by real estate investment trusts; the fund may,
however, invest in marketable securities issued by real estate investment
trusts.
9. Invest in the securities of other investment companies, except where
there is no commission other than the customary brokerage commission or sales
charge, or except that securities of another investment company may be
acquired pursuant to a plan of reorganization, merger, consolidation or
acquisition, and except where the fund would not own, immediately after the
acquisition, securities of other investment companies which exceed in the
aggregate i) more than 3% of the issuer's outstanding voting stock, ii) more
than 5% of the fund's total assets and iii) together with the securities of
all other investment companies held by the fund, exceed, in the aggregate,
more than 10% of the fund's total assets. To the extent permitted by
exemptions granted under the 1940 Act, the fund may invest in shares of one
or more money market funds managed by Advisers or its affiliates.
10. Purchase from or sell to its officers and trustees, or any firm of which
any officer or trustee is a member, as principal, any securities, but may
deal with such persons or firms as brokers and pay a customary brokerage
commission; or purchase or retain securities of any issuer if, to the
knowledge of the Trust, one or more of the officers or trustees of the Trust,
or its investment adviser, own beneficially more than one-half of 1% of the
securities of such issuer and all such officers and trustees together own
beneficially more than 5% of such securities.
In addition to these fundamental policies, it is the present policy of the
California Fund (which may be changed without the shareholder approval) not
to pledge, mortgage or hypothecate its assets as security for loans, nor to
engage in joint or joint and several trading accounts in securities, except
that it may participate in joint repurchase arrangements, invest its
short-term cash in shares of the Franklin Money Fund (pursuant to the terms
of any order, and any conditions therein, issued by the SEC permitting such
investments), or combine orders to purchase or sell with orders from other
persons to obtain lower brokerage commissions. The California Fund may not
invest in excess of 5% of its net assets, valued at the lower of cost or
market, in warrants, nor more than 2% of its net assets in warrants not
listed on either the NYSE or the American Stock Exchange.
The MidCap Fund MAY NOT:
1. Borrow money or mortgage or pledge any of its assets, except it may
borrow up to 10% of its total assets (including the amount borrowed) to meet
redemption requests that might otherwise require the untimely disposition of
portfolio securities or for other temporary or emergency purposes and may
pledge its assets in connection with these borrowings. The fund may borrow
from banks, other Franklin Templeton Funds or other persons to the extent
permitted by applicable law. The fund will not make any additional
investments while borrowings exceed 5% of its total assets.
2. Loan money, except as is consistent with the fund's investment objective,
and except that the fund may (a) buy a portion of an issue of publicly
distributed bonds, debentures, notes and other evidences of indebtedness, (b)
enter into repurchase agreements, (c) lend its portfolio securities, and (d)
participate in an interfund lending program with other Franklin Templeton
Funds to the extent permitted by the 1940 Act and any rules or orders
thereunder.
3. Invest in any company for purposes of exercising control or management,
except that all or substantially all of the assets of the fund may be
invested in another registered investment company having the same investment
objective and policies as the fund.
4. Buy any securities on margin or sell any securities short, except that it
may use such short-term credits as are necessary for the clearance of
transactions.
5. Purchase securities of other investment companies, except in connection
with a merger, consolidation, acquisition, or reorganization; provided that
all or substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and
policies as the fund.
6. Invest more than 25% of the fund's assets (at the time of the most recent
investment) in any single industry except that, to the extent this
restriction is applicable, all or substantially all of the assets of the fund
may be invested in another registered investment company having the same
investment objective and policies as the fund.
7. Underwrite securities of other issuers, except insofar as the fund may be
technically deemed an underwriter under the federal securities laws in
connection with the disposition of portfolio securities. This does not
preclude the fund from obtaining short-term credit necessary for the
clearance of purchases and sales of its portfolio securities.
8. Buy or sell securities to the fund's officers and trustees, or any firm
of which any officer or trustee is a member, as principal, or retain
securities of any issuer if, to the knowledge of the fund, one or more of the
fund's officers, trustees, or investment adviser own beneficially more than
1/2 of 1% of the securities of such issuer and all such officers and trustees
together own beneficially more than 5% of such securities.
9. Acquire, lease or hold real estate, provided that this limitation shall
not prohibit the purchase of securities secured by real estate or interests
therein.
10. Buy or sell commodities or commodity contracts, except that the fund may
enter into financial futures contracts, including stock index futures, and
options on stock index futures, or interests in oil, gas, or other mineral
exploration or development programs, or invest in excess of 5% of its total
assets in options unrelated to the fund's transactions in futures, including
puts, calls, straddles, spreads, or any combination thereof.
In addition to these fundamental policies, it is the present policy of the
fund (which may be changed without shareholder approval) not to invest in
real estate limited partnerships (investments in marketable securities issued
by real estate investment trusts are not subject to this restriction). The
MidCap Fund's restriction against investment in interests in oil, gas, or
other mineral leases, exploration or development does not include publicly
traded equity securities.
It is the present policy of the MidCap Fund, which may be changed without
shareholder approval, not to engage in joint or joint and several trading
accounts in securities, except that it may participate in joint repurchase
arrangements, or combine orders to buy or sell with orders from other persons
to obtain lower brokerage commissions. To the extent permitted by exemptions
granted under the 1940 Act, the MidCap Fund may invest in shares of one or
more money market funds managed by Advisers or its affiliates. The MidCap
Fund may not invest in excess of 5% of its total assets, valued at the lower
of cost or market, in warrants, nor more than 2% of its total assets in
warrants not listed on either the NYSEor the American Stock Exchange.
The Blue Chip Fund MAY NOT:
1. Borrow money or mortgage or pledge any of its assets, except it may
borrow up to 15% of its total assets (including the amount borrowed) to meet
redemption requests that might otherwise require the untimely disposition of
portfolio securities or for other temporary or emergency purposes and may
pledge its assets in connection with these borrowings. The fund may borrow
from banks, other Franklin Templeton Funds or other persons to the extent
permitted by applicable law. The fund will not make any additional
investments while borrowings exceed 5% of its total assets.
2. Underwrite securities of other issuers, except insofar as the fund may be
technically deemed an underwriter under the federal securities laws in
connection with the disposition of portfolio securities. This does not
preclude the fund from obtaining short-term credit necessary for the
clearance of purchases and sales of its portfolio securities.
3. Invest directly in interests in real estate, oil, gas or other mineral
leases, exploration or development programs, including limited partnership
interests. This restriction does not preclude investments in marketable
securities of issuers engaged in these activities.
4. Loan money, except as is consistent with the fund's investment objective,
and except that the fund may (a) buy a portion of an issue of publicly
distributed bonds, debentures, notes and other evidences of indebtedness, (b)
enter into repurchase agreements, (c) lend its portfolio securities, and (d)
participate in an interfund lending program with other Franklin Templeton
Funds to the extent permitted by the 1940 Act and any rules or orders
thereunder.
5. Buy or sell commodities or commodity contracts, except that the fund may
enter into financial futures contracts, options thereon, and forward
contracts.
6. Invest more than 25% of the fund's assets (at the time of the most recent
investment) in any industry, except that all or substantially all of the
assets of the fund may be invested in another registered investment company
having the same investment objective and policies as the fund.
7. Issue securities senior to the fund's presently authorized shares of
beneficial interest, except that the fund may borrow as permitted by these
restrictions.
ADDITIONAL RESTRICTIONS. The Blue Chip Fund has adopted the following
additional restrictions. These restrictions are not fundamental and may be
changed without shareholder approval. Under these restrictions, the Blue Chip
Fund MAY NOT:
1. Invest in any company for the purpose of exercising control or
management, except that all or substantially all of the assets of the fund
may be invested in another registered investment company having the same
investment objective and policies as the fund.
2. Buy securities on margin or sell securities short, except that the fund
may make margin payments in connection with futures, options and currency
transactions.
3. Buy or retain securities of any company in which officers, trustees or
directors of the fund or Advisers individually own more than one-half of 1%
of the securities of such company, and in the aggregate own more than 5% of
the securities of such company.
4. Buy securities of open-end or closed-end investment companies, except
that securities of an open-end or closed-end investment company may be
acquired (i) in compliance with the 1940 Act, (ii) to the extent that the
fund may invest all or substantially all of its assets in another registered
investment company having the same investment objective and policies as the
fund.
5. Invest more than 5% of its assets in securities of issuers with less than
three years continuous operation, including the operations of any predecessor
companies, except that all or substantially all of the assets of the fund may
be invested in another registered investment company having the same
investment objective and policies as the fund.
6. Hold or purchase the securities of any issuer if, as a result, in the
aggregate, more than 10% of the value of the fund's net assets would be
invested in (i) securities that are not readily marketable or (ii) repurchase
agreements maturing in more than seven days. The fund may, however, invest
all or substantially all of its assets in another registered investment
company having the same investment objective and policies as the fund.
7. Invest directly in warrants (valued at the lower of cost or market) in
excess of 5% of the value of the fund's net assets. No more than 2% of the
value of the fund's net assets may be invested in warrants (valued at the
lower of cost or market) that are not listed on the NYSE or the American
Stock Exchange.
As a diversified fund, with respect to 75% of its total assets, the Blue Chip
Fund may not invest more than 5% in any one issuer nor may it own more than
10% of the outstanding voting securities of any one issuer, except that all
or substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and
policies as the fund.
If a percentage restriction is met at the time of investment, a later
increase or decrease in the percentage due to a change in the value or
liquidity of portfolio securities or the amount of assets will not be
considered a violation of any of the foregoing restrictions.
OFFICERS AND TRUSTEES
The Board has the responsibility for the overall management of the funds,
including general supervision and review of their investment activities. The
Board, in turn, elects the officers of the funds who are responsible for
administering the funds' day-to-day operations. The affiliations of the
officers and Board members and their principal occupations for the past five
years are shown below. Members of the Board who are considered "interested
persons" of the funds under the 1940 Act are indicated by an asterisk (*).
POSITIONS AND OFFICES PRINCIPAL OCCUPATION
NAME, AGE AND ADDRESS WITH THE TRUST DURING THE PAST FIVE YEARS
- ------------------------------------------------------------------------------
Frank H. Abbott, III (77)
1045 Sansome Street
San Francisco, CA 94111
Trustee
President and Director, Abbott Corporation (an investment company); director
or trustee, as the case may be, of 27 of the investment companies in the
Franklin Templeton Group of Funds; and FORMERLY, Director, MotherLode Gold
Mines Consolidated (gold mining) and Vacu-Dry Co. (food processing).
Harris J. Ashton (66)
191 Clapboard Ridge Road
Greenwich, CT 06830
Trustee
Director, RBC Holdings, Inc. (a bank holding company) and Bar-S Foods (a meat
packing company); director or trustee, as the case may be, of 49 of the
investment companies in the Franklin Templeton Group of Funds; and FORMERLY,
President, Chief Executive Officer and Chairman of the Board, General Host
Corporation (nursery and craft centers).
* Harmon E. Burns (53)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Trustee
Executive Vice President and Director, Franklin Resources, Inc., Franklin
Templeton Distributors, Inc. and Franklin Templeton Services, Inc.; Executive
Vice President, Franklin Advisers, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case
may be, of most of the other subsidiaries of Franklin Resources, Inc. and of
53 of the investment companies in the Franklin Templeton Group of Funds.
S. Joseph Fortunato (66)
Park Avenue at Morris County
P.O. Box 1945
Morristown, NJ 07962-1945
Trustee
Member of the law firm of Pitney, Hardin, Kipp & Szuch; director or trustee,
as the case may be, of 51 of the investment companies in the Franklin
Templeton Group of Funds; and FORMERLY, Director, General Host Corporation
(nursery and craft centers).
Edith E. Holiday (46)
3239 38th Street, N.W.
Washington, DC 20016
Trustee
Director, Amerada Hess Corporation (crude oil and natural gas refining)
(1993-present), Hercules Incorporated (chemicals, fibers and resins)
(1993-present), Beverly Enterprises, Inc. (1995-present) and H.J. Heinz
Company (packaged foods and allied products) (1994-present); director or
trustee, as the case may be, of 25 of the investment companies in the
Franklin Templeton Group of Funds; and FORMERLY, Chairman (1995-1997) and
Trustee (1993-1997), National Child Research Center, Assistant to the
President of the United States and Secretary of the Cabinet (1990-1993),
General Counsel to the United States Treasury Department (1989-1990), and
Counselor to the Secretary and Assistant Secretary for Public Affairs and
Public Liaison-United States Treasury Department (1988-1989).
* Charles B. Johnson (65)
777 Mariners Island Blvd.
San Mateo, CA 94404
Chairman of the
Board and Trustee
President, Chief Executive Officer and Director, Franklin Resources, Inc.;
Chairman of the Board and Director, Franklin Advisers, Inc., Franklin
Advisory Services, Inc., Franklin Investment Advisory Services, Inc. and
Franklin Templeton Distributors, Inc.; Director, Franklin/Templeton Investor
Services, Inc. and Franklin Templeton Services, Inc. officer and/or director
or trustee, as the case may be, of most of the other subsidiaries of Franklin
Resources, Inc. and of 50 of the investment companies in the Franklin
Templeton Group of Funds; and FORMERLY, Director, General Host Corporation
(nursery and craft centers).
* Rupert H. Johnson, Jr. (58)
777 Mariners Island Blvd.
San Mateo, CA 94404
President and
Trustee
Executive Vice President and Director, Franklin Resources, Inc. and Franklin
Templeton Distributors, Inc.; President and Director, Franklin Advisers,
Inc.; Senior Vice President and Director, Franklin Advisory Services, Inc.
and Franklin Investment Advisory Services, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case
may be, of most of the other subsidiaries of Franklin Resources, Inc. and of
53 of the investment companies in the Franklin Templeton Group of Funds.
Frank W.T. LaHaye (69)
20833 Stevens Creek Blvd.
Suite 102
Cupertino, CA 95014
Trustee
General Partner, Miller & LaHaye, which is the General Partner of Peregrine
Ventures II (venture capital firm); Chairman of the Board and Director,
Quarterdeck Corporation (software firm); Director, Digital Transmission
Systems, Inc. (wireless communications); director or trustee, as the case may
be, of 27 of the investment companies in the Franklin Templeton Group of
Funds; and FORMERLY, Director, Fischer Imaging Corporation (medical imaging
systems) and General Partner, Peregrine Associates, which was the General
Partner of Peregrine Ventures (venture capital firm).
Gordon S. Macklin (70)
8212 Burning Tree Road
Bethesda, MD 20817
Trustee
Director, Fund American Enterprises Holdings, Inc., MCI Communications
Corporation, MedImmune, Inc. (biotechnology), Spacehab, Inc. (aerospace
services) and Real 3D (software); director or trustee, as the case may be, of
49 of the investment companies in the Franklin Templeton Group of Funds; and
FORMERLY, Chairman, White River Corporation (financial services) and
Hambrecht and Quist Group (investment banking), and President, National
Association of Securities Dealers, Inc.
Martin L. Flanagan (38)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Chief
Financial Officer
Senior Vice President and Chief Financial Officer, Franklin Resources, Inc.;
Executive Vice President and Director, Templeton Worldwide, Inc.; Executive
Vice President, Chief Operating Officer and Director, Templeton Investment
Counsel, Inc.; Executive Vice President and Chief Financial Officer, Franklin
Advisers, Inc.; Chief Financial Officer, Franklin Advisory Services, Inc. and
Franklin Investment Advisory Services, Inc.; President and Director, Franklin
Templeton Services, Inc.; Senior Vice President and Chief Financial Officer,
Franklin/Templeton Investor Services, Inc.; officer and/or director of some
of the other subsidiaries of Franklin Resources, Inc.; and officer and/or
director or trustee, as the case may be, of 53 of the investment companies in
the Franklin Templeton Group of Funds.
Deborah R. Gatzek (49)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Secretary
Senior Vice President and General Counsel, Franklin Resources, Inc.; Senior
Vice President, Franklin Templeton Services, Inc. and Franklin Templeton
Distributors, Inc.; Executive Vice President, Franklin Advisers, Inc.; Vice
President, Franklin Advisory Services, Inc.; Vice President, Chief Legal
Officer and Chief Operating Officer, Franklin Investment Advisory Services,
Inc.; and officer of 53 of the investment companies in the Franklin Templeton
Group of Funds.
Charles E. Johnson (42)
500 East Broward Blvd.
Fort Lauderdale, FL 33394-3091
Vice President
Senior Vice President and Director, Franklin Resources, Inc.; Senior Vice
President, Franklin Templeton Distributors, Inc.; President and Director,
Templeton Worldwide, Inc.; President, Chief Executive Officer, Chief
Investment Officer and Director, Franklin Institutional Services Corporation;
Chairman and Director, Templeton Investment Counsel, Inc.; Vice President,
Franklin Advisers, Inc.; officer and/or director of some of the other
subsidiaries of Franklin Resources, Inc.; and officer and/or director or
trustee, as the case may be, of 34 of the investment companies in the
Franklin Templeton Group of Funds.
Diomedes Loo-Tam (59)
777 Mariners Island Blvd.
San Mateo, CA 94404
Treasurer
and Principal
Accounting Officer
Senior Vice President, Franklin Templeton Services, Inc.; and officer of 32
of the investment companies in the Franklin Templeton Group of Funds.
Edward V. McVey (61)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
Senior Vice President and National Sales Manager, Franklin Templeton
Distributors, Inc.; and officer of 28 of the investment companies in the
Franklin Templeton Group of Funds.
The table above shows the officers and Board members who are affiliated with
Distributors and Advisers. As of June 1, 1998, nonaffiliated members of the
Board are paid $1,575 for each of the Trust's eight regularly scheduled Board
meetings plus $1,050 per meeting attended. As shown above, the nonaffiliated
Board members also serve as directors or trustees of other investment
companies in the Franklin Templeton Group of Funds. They may receive fees
from these funds for their services. The fees payable to nonaffiliated Board
members by the Trust are subject to reductions resulting from fee caps
limiting the amount of fees payable to Board members who serve on other
boards within the Franklin Templeton Group of Funds. The following table
provides the total fees paid to nonaffiliated Board members by the Trust and
by other funds in the Franklin Templeton Group of Funds.
TOTAL FEES NUMBER OF BOARDS IN
TOTAL FEE RECEIVED FROM THE THE FRANKLIN TEMPLETON
RECEIVED FRANKLIN TEMPLETON GROUP OF FUNDS ON
NAME FROM THE TRUST*** GROUP OF FUNDS**** WHICH EACH
SERVES*****
Frank H. Abbott, III ...$5,400 $165,937 27
Harris J. Ashton ....... 5,100 344,642 49
S. Joseph Fortunato .... 5,100 361,562 51
David W. Garbellano* ... 1,500 91,317 N/A
Edith Holiday** ........ 1,200 72,875 25
Frank W.T. LaHaye ...... 5,400 141,433 27
Gordon S. Macklin ...... 5,100 337,292 49
*Deceased, September 27, 1997.
**Appointed January 15, 1998.
***For the fiscal year ended April 30, 1998, during which time fees at the
rate of $300 for each of the Trust's eight meetings plus $300 per meeting
attended were in effect.
****For the calendar year ended December 31, 1997.
*****We base the number of boards on the number of registered investment
companies in the Franklin Templeton Group of Funds. This number does not
include the total number of series or funds within each investment company
for which the Board members are responsible. The Franklin Templeton Group of
Funds currently includes 54 registered investment companies, with
approximately 170 U.S. based funds or series.
Nonaffiliated members of the Board are reimbursed for expenses incurred in
connection with attending board meetings, paid pro rata by each fund in the
Franklin Templeton Group of Funds for which they serve as director or
trustee. No officer or Board member received any other compensation,
including pension or retirement benefits, directly or indirectly, from the
funds or other funds in the Franklin Templeton Group of Funds. Certain
officers or Board members who are shareholders of Resources may be deemed to
receive indirect remuneration by virtue of their participation, if any, in
the fees paid to its subsidiaries.
As of June 2, 1998, the officers and Board members, as a group, owned of
record and beneficially the following shares of the funds: approximately
15,360 shares of California Fund - Class I and approximately 4,231 shares of
the Blue Chip Fund - Class I or less than 1% of the total outstanding Class I
shares of each fund. Many of the Board members also own shares in other funds
in the Franklin Templeton Group of Funds. Charles B. Johnson and Rupert H.
Johnson, Jr. are brothers and the father and uncle, respectively, of Charles
E. Johnson.
INVESTMENT MANAGEMENT
AND OTHER SERVICES
INVESTMENT MANAGER AND SERVICES PROVIDED. Each fund's investment manager is
Advisers. Advisers provides investment research and portfolio management
services, including the selection of securities for each fund to buy, hold or
sell and the selection of brokers through whom each fund's portfolio
transactions are executed. Advisers' activities are subject to the review and
supervision of the Board to whom Advisers renders periodic reports of each
fund's investment activities. Advisers and its officers, directors and
employees are covered by fidelity insurance for the protection of each fund.
Advisers and its affiliates act as investment manager to numerous other
investment companies and accounts. Advisers may give advice and take action
with respect to any of the other funds it manages, or for its own account,
that may differ from action taken by Advisers on behalf of each fund.
Similarly, with respect to each fund, Advisers is not obligated to recommend,
buy or sell, or to refrain from recommending, buying or selling any security
that Advisers and access persons, as defined by the 1940 Act, may buy or sell
for its or their own account or for the accounts of any other fund. Advisers
is not obligated to refrain from investing in securities held by the funds or
other funds that it manages. Of course, any transactions for the accounts of
Advisers and other access persons will be made in compliance with the funds'
Code of Ethics. Please see "Miscellaneous Information - Summary of Code of
Ethics."
MANAGEMENT FEES. Under its management agreement, the California Fund pays
Advisers a management fee equal to an annual rate of 0.625 of 1% of the
average daily net assets of the fund up to and including $100 million; and
0.50 of 1% of the value of the average daily net assets over $100 million, up
to and including $250 million; and 0.45 of 1% of the value of average daily
net assets over $250 million up to and including $10 billion; and 0.44 of 1%
of the value of average daily net assets over $10 billion up to and including
$12.5 billion; and 0.42 of 1% of the value of average daily net assets over
$12.5 billion up to and including $15 billion; and 0.40 of 1% of the value of
average daily net assets over $15 billion. Under its management agreement,
the MidCap Fund pays Advisers a management fee equal to an annual rate of
0.65% of the fund's average daily net assets. Under its management agreement,
the Blue Chip Fund pays Advisers a management fee equal to an annual rate of
0.75% of the fund's average daily net assets up to and including $500
million; 0.625% of the fund's average daily net assets over $500 million up
to and including $1 billion; and 0.50% of the fund's average daily net assets
over $1 billion. The fee is computed at the close of business on the last
business day of each month. Each class pays its proportionate share of the
management fee.
The table below shows the management fees paid by each fund for the fiscal
years ended April 30, 1998, 1997 and 1996.
MANAGEMENT FEES PAID
1998 1997 1996
- ------------------------------------------------------------------
California
Fund................... $2,866,217 $953,389 $95,745*
MidCap
Fund................... $135,485 $68,022 $0**
Blue Chip
Fund***................ $17,998 $0 --
*For the fiscal year ended April 30, 1996, management fees, before any
advance waiver, totaled $249,784. Under an agreement by Advisers to limit its
fees, the California Fund paid the management fees shown.
**For the fiscal year ended April 30, 1996, management fees, before any
advance waiver, totaled $42,906. Under an agreement by Advisers to limit its
fees, the MidCap Fund paid no management fees.
***For the fiscal years ended April 30, 1998 and 1997, managment fees, before
any advance waiver, totaled $91,184 and $25,008, respectively. Under an
agreement by Advisers to limit its fees, the Blue Chip Fund paid the
management fees shown.
MANAGEMENT AGREEMENTS. The management agreements are in effect until April
30, 1999. Each may continue in effect for successive annual periods if its
continuance is specifically approved at least annually by a vote of the Board
or by a vote of the holders of a majority of the fund's outstanding voting
securities, and in either event by a majority vote of the Board members who
are not parties to the management agreement or interested persons of any such
party (other than as members of the Board), cast in person at a meeting
called for that purpose. Each management agreement may be terminated without
penalty at any time by the Board or by a vote of the holders of a majority of
the relevant fund's outstanding voting securities on 60 days' written notice
to Advisers, or by Advisers on 60 days' written notice to the fund, and will
automatically terminate in the event of its assignment, as defined in the
1940 Act.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services
provides certain administrative services and facilities for the funds. These
include preparing and maintaining books, records, and tax and financial
reports, and monitoring compliance with regulatory requirements. FT Services
is a wholly owned subsidiary of Resources.
Under its administration agreement, Advisers pays FT Services a monthly
administration fee equal to an annual rate of 0.15% of each fund's average
daily net assets up to $200 million, 0.135% of average daily net assets over
$200 million up to $700 million, 0.10% of average daily net assets over $700
million up to $1.2 billion, and 0.075% of average daily net assets over $1.2
billion.
The table below shows the administration fees paid to FT Services for the
fiscal years ended April 30, 1998 and 1997. These fees are paid by Advisers.
They are not a separate expense of the funds.
ADMINISTRATION FEES PAID
1998 1997*
- -----------------------------------------------------
California Fund.............. $808,799 $184,878
MidCap Fund.................. $31,322 $10,579
Blue Chip Fund............... $15,838 $3,786
*For the period October 1996 through April 30, 1997.
SHAREHOLDER SERVICING AGENT. Investor Services, a wholly owned subsidiary of
Resources, is the funds' shareholder servicing agent and acts as the funds'
transfer agent and dividend-paying agent. Investor Services is compensated on
the basis of a fixed fee per account. The funds may also reimburse Investor
Services for certain out-of-pocket expenses, which may include payments by
Investor Services to entities, including affiliated entities, that provide
sub-shareholder services, recordkeeping and/or transfer agency services to
beneficial owners of the funds. The amount of reimbursements for these
services per benefit plan participant fund account per year may not exceed
the per account fee payable by the relevant fund to Investor Services in
connection with maintaining shareholder accounts.
CUSTODIAN. Bank of New York, Mutual Funds Division, 90 Washington Street, New
York, New York 10286, acts as custodian of the securities and other assets of
each fund. The custodian does not participate in decisions relating to the
purchase and sale of portfolio securities.
AUDITOR. Coopers & Lybrand L.L.P., 333 Market Street, San Francisco,
California 94105, is the funds' independent auditor. During the fiscal year
ended April 30, 1998, the auditor's services consisted of rendering an
opinion on the financial statements of the Trust included in the Trust's
Annual Report to Shareholders for the fiscal year ended April 30, 1998.
HOW DO THE FUNDS BUY
SECURITIES FOR THEIR PORTFOLIOS?
Advisers selects brokers and dealers to execute the funds' portfolio
transactions in accordance with criteria set forth in the management
agreement and any directions that the Board may give.
When placing a portfolio transaction, Advisers seeks to obtain prompt
execution of orders at the most favorable net price. For portfolio
transactions on a securities exchange, the amount of commission paid by a
fund is negotiated between Advisers and the broker executing the transaction.
The determination and evaluation of the reasonableness of the brokerage
commissions paid are based to a large degree on the professional opinions of
the persons responsible for placement and review of the transactions. These
opinions are based on the experience of these individuals in the securities
industry and information available to them about the level of commissions
being paid by other institutional investors of comparable size. Advisers will
ordinarily place orders to buy and sell over-the-counter securities on a
principal rather than agency basis with a principal market maker unless, in
the opinion of Advisers, a better price and execution can otherwise be
obtained. Purchases of portfolio securities from underwriters will include a
commission or concession paid by the issuer to the underwriter, and purchases
from dealers will include a spread between the bid and ask price.
Advisers may pay certain brokers commissions that are higher than those
another broker may charge, if Advisers determines in good faith that the
amount paid is reasonable in relation to the value of the brokerage and
research services it receives. This may be viewed in terms of either the
particular transaction or Advisers' overall responsibilities to client
accounts over which it exercises investment discretion. The services that
brokers may provide to Advisers include, among others, supplying information
about particular companies, markets, countries, or local, regional, national
or transnational economies, statistical data, quotations and other securities
pricing information, and other information that provides lawful and
appropriate assistance to Advisers in carrying out its investment advisory
responsibilities. These services may not always directly benefit the funds.
They must, however, be of value to Advisers in carrying out its overall
responsibilities to its clients.
It is not possible to place a dollar value on the special executions or on
the research services Advisers receives from dealers effecting transactions
in portfolio securities. The allocation of transactions in order to obtain
additional research services permits Advisers to supplement its own research
and analysis activities and to receive the views and information of
individuals and research staffs of other securities firms. As long as it is
lawful and appropriate to do so, Advisers and its affiliates may use this
research and data in their investment advisory capacities with other clients.
If the funds' officers are satisfied that the best execution is obtained, the
sale of fund shares, as well as shares of other funds in the Franklin
Templeton Group of Funds, may also be considered a factor in the selection of
broker-dealers to execute the funds' portfolio transactions.
Because Distributors is a member of the NASD, it may sometimes receive
certain fees when a fund tenders portfolio securities pursuant to a
tender-offer solicitation. As a means of recapturing brokerage for the
benefit of a fund, any portfolio securities tendered by the fund will be
tendered through Distributors if it is legally permissible to do so. In turn,
the next management fee payable to Advisers will be reduced by the amount of
any fees received by Distributors in cash, less any costs and expenses
incurred in connection with the tender.
If purchases or sales of securities of a fund and one or more other
investment companies or clients supervised by Advisers are considered at or
about the same time, transactions in these securities will be allocated among
the several investment companies and clients in a manner deemed equitable to
all by Advisers, taking into account the respective sizes of the funds and
the amount of securities to be purchased or sold. In some cases this
procedure could have a detrimental effect on the price or volume of the
security so far as a fund is concerned. In other cases it is possible that
the ability to participate in volume transactions may improve execution and
reduce transaction costs to the fund.
During the fiscal years ended April 30, 1998, 1997, and 1996, the funds paid
the following brokerage commissions:
BROKERAGE COMMISSIONS PAID
1998 1997 1996
- ------------------------------------------------------
California
Fund ................ $594,357 $222,569 $81,803
MidCap
Fund ................ $31,590 $23,231 $0
Blue Chip
Fund ................ $48,160 $14,667 N/A
As of April 30, 1998, the Blue Chip Fund owned securities issued by Merrill
Lynch & Co., Inc., Wells Fargo & Co., and J.P. Morgan & Co., Inc. valued in
the aggregate at $201,825, $184,250, and $131,250, respectively. Except as
noted, the funds did not own any securities issued by their regular
broker-dealers as of the end of the fiscal year.
HOW DO I BUY, SELL AND EXCHANGE SHARES?
ADDITIONAL INFORMATION ON BUYING SHARES
The funds continuously offer their shares through Securities Dealers who have
an agreement with Distributors. Securities Dealers may at times receive the
entire sales charge. A Securities Dealer who receives 90% or more of the
sales charge may be deemed an underwriter under the Securities Act of 1933,
as amended.
Banks and financial institutions that sell shares of the funds may be
required by state law to register as Securities Dealers. Financial
institutions or their affiliated brokers may receive an agency transaction
fee in the percentages indicated in the table under "How Do I Buy Shares? -
Purchase Price of Fund Shares" in the Prospectus.
When you buy shares, if you submit a check or a draft that is returned unpaid
to the fund we may impose a $10 charge against your account for each returned
item.
Under agreements with certain banks in Taiwan, Republic of China, the funds'
shares are available to these banks' trust accounts without a sales charge.
The banks may charge service fees to their customers who participate in the
trusts. A portion of these service fees may be paid to Distributors or one of
its affiliates to help defray expenses of maintaining a service office in
Taiwan, including expenses related to local literature fulfillment and
communication facilities.
Class I shares of the funds may be offered to investors in Taiwan through
securities advisory firms known locally as Securities Investment Consulting
Enterprises. In conformity with local business practices in Taiwan, Class I
shares may be offered with the following schedule of sales charges:
SALES
SIZE OF PURCHASE - U.S. DOLLARS CHARGE
- ------------------------------------------------------
Under $30,000 ............................... 3.0%
$30,000 but less than $50,000 ............... 2.5%
$50,000 but less than $100,000 .............. 2.0%
$100,000 but less than $200,000 ............. 1.5%
$200,000 but less than $400,000 ............. 1.0%
$400,000 or more ............................ 0%
OTHER PAYMENTS TO SECURITIES DEALERS. Distributors may pay the following
commissions, out of its own resources, to Securities Dealers who initiate and
are responsible for purchases of Class I
shares of $1 million or more: 1% on sales of $1 million to $2 million, plus
0.80% on sales over $2 million to $3 million, plus 0.50% on sales over $3
million to $50 million, plus 0.25% on sales over $50 million to $100 million,
plus 0.15% on sales over $100 million.
Either Distributors or one of its affiliates may pay the following amounts,
out of its own resources, to Securities Dealers who initiate and are
responsible for purchases of Class I shares by certain retirement plans
without a front-end sales charge, as discussed in the Prospectus: 1% on sales
of $500,000 to $2 million, plus 0.80% on sales over $2 million to $3 million,
plus 0.50% on sales over $3 million to $50 million, plus 0.25% on sales over
$50 million to $100 million, plus 0.15% on sales over $100 million.
Distributors may make these payments in the form of contingent advance
payments, which may be recovered from the Securities Dealer or set off
against other payments due to the dealer if shares are sold within 12 months
of the calendar month of purchase. Other conditions may apply. All terms and
conditions may be imposed by an agreement between Distributors, or one of its
affiliates, and the Securities Dealer.
These breakpoints are reset every 12 months for purposes of additional
purchases.
Distributors and/or its affiliates provide financial support to various
Securities Dealers that sell shares of the Franklin Templeton Group of Funds.
This support is based primarily on the amount of sales of fund shares. The
amount of support may be affected by: total sales; net sales; levels of
redemptions; the proportion of a Securities Dealer's sales and marketing
efforts in the Franklin Templeton Group of Funds; a Securities Dealer's
support of, and participation in, Distributors' marketing programs; a
Securities Dealer's compensation programs for its registered representatives;
and the extent of a Securities Dealer's marketing programs relating to the
Franklin Templeton Group of Funds. Financial support to Securities Dealers
may be made by payments from Distributors' resources, from Distributors'
retention of underwriting concessions and, in the case of funds that have
Rule 12b-1 plans, from payments to Distributors under such plans. In
addition, certain Securities Dealers may receive brokerage commissions
generated by fund portfolio transactions in accordance with the NASD's rules.
Distributors routinely sponsors due diligence meetings for registered
representatives during which they receive updates on various Franklin
Templeton Funds and are afforded the opportunity to speak with portfolio
managers. Invitation to these meetings is not conditioned on selling a
specific number of shares. Those who have shown an interest in the Franklin
Templeton Funds, however, are more likely to be considered. To the extent
permitted by their firm's policies and procedures, registered
representatives' expenses in attending these meetings may be covered by
Distributors.
LETTER OF INTENT. You may qualify for a reduced sales charge when you buy
Class I shares, as described in the Prospectus. At any time within 90 days
after the first investment that you want to qualify for a reduced sales
charge, you may file with the relevant fund a signed shareholder application
with the Letter of Intent section completed. After the Letter is filed, each
additional investment will be entitled to the sales charge applicable to the
level of investment indicated on the Letter. Sales charge reductions based on
purchases in more than one Franklin Templeton Fund will be effective only
after notification to Distributors that the investment qualifies for a
discount. Your holdings in the Franklin Templeton Funds acquired more than 90
days before the Letter is filed, will be counted towards completion of the
Letter, but they will not be entitled to a retroactive downward adjustment in
the sales charge. Any redemptions you make during the 13 month period, except
in the case of certain retirement plans, will be subtracted from the amount
of the purchases for purposes of determining whether the terms of the Letter
have been completed. If the Letter is not completed within the 13 month
period, there will be an upward adjustment of the sales charge, depending on
the amount actually purchased (less redemptions) during the period. The
upward adjustment does not apply to certain retirement plans. If you execute
a Letter before a change in the sales charge structure of the fund, you may
complete the Letter at the lower of the new sales charge structure or the
sales charge structure in effect at the time the Letter was filed.
As mentioned in the Prospectus, five percent (5%) of the amount of the total
intended purchase will be reserved in Class I shares of the relevant fund
registered in your name until you fulfill the Letter. This policy of
reserving shares does not apply to certain retirement plans. If the amount of
your total purchases, less redemptions, equals the amount specified under the
Letter, the reserved shares will be deposited to an account in your name or
delivered to you or as you direct. If the amount of your total purchases,
less redemptions, exceeds the amount specified under the Letter and is an
amount that would qualify for a further quantity discount, a retroactive
price adjustment will be made by Distributors and the Securities Dealer
through whom purchases were made pursuant to the Letter (to reflect such
further quantity discount) on purchases made within 90 days before and on
those made after filing the Letter. The resulting difference in Offering
Price will be applied to the purchase of additional shares at the Offering
Price applicable to a single purchase or the dollar amount of the total
purchases. If the amount of your total purchases, less redemptions, is less
than the amount specified under the Letter, you will remit to Distributors an
amount equal to the difference in the dollar amount of sales charge actually
paid and the amount of sales charge that would have applied to the aggregate
purchases if the total of the purchases had been made at a single time. Upon
remittance, the reserved shares held for your account will be deposited to an
account in your name or delivered to you or as you direct. If within 20 days
after written request the difference in sales charge is not paid, the
redemption of an appropriate number of reserved shares to realize the
difference will be made. In the event of a total redemption of the account
before fulfillment of the Letter, the additional sales charge due will be
deducted from the proceeds of the redemption, and the balance will be
forwarded to you.
If a Letter is executed on behalf of certain retirement plans, the level and
any reduction in sales charge for these plans will be based on actual plan
participation and the projected investments in the Franklin Templeton Funds
under the Letter. These plans are not subject to the requirement to reserve
5% of the total intended purchase, or to any penalty as a result of the early
termination of a plan, nor are these plans entitled to receive retroactive
adjustments in price for investments made before executing the Letter.
REINVESTMENT DATE. Shares acquired through the reinvestment of dividends will
be purchased at the Net Asset Value determined on the business day following
the dividend record date (sometimes known as the "ex-dividend date"). The
processing date for the reinvestment of dividends may vary and does not
affect the amount or value of the shares acquired.
ADDITIONAL INFORMATION ON EXCHANGING SHARES
If you request the exchange of the total value of your account, declared but
unpaid income dividends and capital gain distributions will be exchanged into
the new fund and will be invested at Net Asset Value. Backup withholding and
information reporting may apply. Information regarding the possible tax
consequences of an exchange is included in the tax section in this SAI and in
the Prospectus.
If a substantial number of shareholders should, within a short period, sell
their shares of a fund under the exchange privilege, the fund might have to
sell portfolio securities it might otherwise hold and incur the additional
costs related to such transactions. On the other hand, increased use of the
exchange privilege may result in periodic large inflows of money. If this
occurs, it is each fund's general policy to initially invest this money in
short-term, interest-bearing money market instruments, unless it is believed
that attractive investment opportunities consistent with the fund's
investment goal exist immediately. This money will then be withdrawn from the
short-term, money market instruments and invested in portfolio securities in
as orderly a manner as is possible when attractive investment opportunities
arise.
The proceeds from the sale of shares of an investment company are generally
not available until the seventh day following the sale. The funds you are
seeking to exchange into may delay issuing shares pursuant to an exchange
until that seventh day. The sale of fund shares to complete an exchange will
be effected at Net Asset Value at the close of business on the day the
request for exchange is received in proper form. Please see "May I Exchange
Shares for Shares of Another Fund?" in the Prospectus.
ADDITIONAL INFORMATION ON SELLING SHARES
SYSTEMATIC WITHDRAWAL PLAN. There are no service charges for establishing or
maintaining a systematic withdrawal plan. Payments under the plan will be
made from the redemption of an equivalent amount of shares in your account,
generally on the 25th day of the month in which a payment is scheduled. If
the 25th falls on a weekend or holiday, we will process the redemption on the
next business day.
Redeeming shares through a systematic withdrawal plan may reduce or exhaust
the shares in your account if payments exceed distributions received from the
fund. This is especially likely to occur if there is a market decline. If a
withdrawal amount exceeds the value of your account, your account will be
closed and the remaining balance in your account will be sent to you. Because
the amount withdrawn under the plan may be more than your actual yield or
income, part of the payment may be a return of your investment.
Each fund may discontinue a systematic withdrawal plan by notifying you in
writing and will automatically discontinue a systematic withdrawal plan if
all shares in your account are withdrawn or if the fund receives notification
of the shareholder's death or incapacity.
THROUGH YOUR SECURITIES DEALER. If you sell shares through your Securities
Dealer, it is your dealer's responsibility to transmit the order to the fund
in a timely fashion. Any loss to you resulting from your dealer's failure to
do so must be settled between you and your Securities Dealer.
REDEMPTIONS IN KIND. Each fund has committed itself to pay in cash (by check)
all requests for redemption by any shareholder of record, limited in amount,
however, during any 90-day period to the lesser of $250,000 or 1% of the
value of the fund's net assets at the beginning of the 90-day period. This
commitment is irrevocable without the prior approval of the SEC. In the case
of redemption requests in excess of these amounts, the Board reserves the
right to make payments in whole or in part in securities or other assets of
the relevant fund, in case of an emergency, or if the payment of such a
redemption in cash would be detrimental to the existing shareholders of the
fund. In these circumstances, the securities distributed would be valued at
the price used to compute the fund's net assets and you may incur brokerage
fees in converting the securities to cash. The fund does not intend to redeem
illiquid securities in kind. If this happens, however, you may not be able to
recover your investment in a timely manner.
GENERAL INFORMATION
If dividend checks are returned to a fund marked "unable to forward" by the
postal service, we will consider this a request by you to change your
dividend option to reinvest all distributions. The proceeds will be
reinvested in additional shares at Net Asset Value until we receive new
instructions.
Distribution or redemption checks sent to you do not earn interest or any
other income during the time the checks remain uncashed. Neither the funds
nor their affiliates will be liable for any loss caused by your failure to
cash such checks. The funds are not responsible for tracking down uncashed
checks, unless a check is returned as undeliverable.
In most cases, if mail is returned as undeliverable we are required to take
certain steps to try to find you free of charge. If these attempts are
unsuccessful, however, we may deduct the costs of any additional efforts to
find you from your account. These costs may include a percentage of the
account when a search company charges a percentage fee in exchange for its
location services.
All checks, drafts, wires and other payment mediums used to buy or sell
shares of the funds must be denominated in U.S. dollars. We may, in our sole
discretion, either (a) reject any order to buy or sell shares denominated in
any other currency or (b) honor the transaction or make adjustments to your
account for the transaction as of a date and with a foreign currency exchange
factor determined by the drawee bank.
SPECIAL SERVICES. Investor Services may pay certain financial institutions
that maintain omnibus accounts with the funds on behalf of numerous
beneficial owners for recordkeeping operations performed with respect to such
owners. For each beneficial owner in the omnibus account, a fund may
reimburse Investor Services an amount not to exceed the per account fee that
the fund normally pays Investor Services. These financial institutions may
also charge a fee for their services directly to their clients.
Certain shareholder servicing agents may be authorized to accept your
transaction request.
HOW ARE FUND SHARES VALUED?
We calculate the Net Asset Value per share as of the close of the NYSE,
normally 1:00 p.m. Pacific time, each day that the NYSE is open for trading.
As of the date of this SAI, the funds are informed that the NYSE observes the
following holidays: New Year's Day, Martin Luther King Jr. Day, Presidents'
Day, Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day
and Christmas Day.
For the purpose of determining the aggregate net assets of a fund, cash and
receivables are valued at their realizable amounts. Interest is recorded as
accrued and dividends are recorded on the ex-dividend date. Portfolio
securities listed on a securities exchange or on the NASDAQ National Market
System for which market quotations are readily available are valued at the
last quoted sale price of the day or, if there is no such reported sale,
within the range of the most recent quoted bid and ask prices.
Over-the-counter portfolio securities are valued within the range of the most
recent quoted bid and ask prices. Portfolio securities that are traded both
in the over-the-counter market and on a stock exchange are valued according
to the broadest and most representative market as determined by Advisers.
Portfolio securities underlying actively traded call options are valued at
their market price as determined above. The current market value of any
option held by a fund is its last sale price on the relevant exchange before
the time when assets are valued. Lacking any sales that day or if the last
sale price is outside the bid and ask prices, options are valued within the
range of the current closing bid and ask prices if the valuation is believed
to fairly reflect the contract's market value.
The value of a foreign security is determined as of the close of trading on
the foreign exchange on which it is traded or as of the close of trading on
the NYSE, if that is earlier. The value is then converted into its U.S.
dollar equivalent at the foreign exchange rate in effect at noon, New York
time, on the day the value of the foreign security is determined. If no sale
is reported at that time, the foreign security is valued within the range of
the most recent quoted bid and ask prices. Occasionally events that affect
the values of foreign securities and foreign exchange rates may occur between
the times at which they are determined and the close of the exchange and
will, therefore, not be reflected in the computation of the Net Asset Value
of each class. If events materially affecting the values of these foreign
securities occur during this period, the securities will be valued in
accordance with procedures established by the Board.
Generally, trading in corporate bonds, U.S. government securities and money
market instruments is substantially completed each day at various times
before the close of the NYSE. The value of these securities used in computing
the Net Asset Value of each class is determined as of such times.
Occasionally, events affecting the values of these securities may occur
between the times at which they are determined and the close of the NYSE that
will not be reflected in the computation of the Net Asset Value. If events
materially affecting the values of these securities occur during this period,
the securities will be valued at their fair value as determined in good faith
by the Board.
Other securities for which market quotations are readily available are valued
at the current market price, which may be obtained from a pricing service,
based on a variety of factors including recent trades, institutional size
trading in similar types of securities (considering yield, risk and maturity)
and/or developments related to specific issues. Securities and other assets
for which market prices are not readily available are valued at fair value as
determined following procedures approved by the Board. With the approval of
the Board, the funds may use a pricing service, bank or Securities Dealer to
perform any of the above described functions.
ADDITIONAL INFORMATION ON
DISTRIBUTIONS AND TAXES
DISTRIBUTIONS
DISTRIBUTIONS OF NET INVESTMENT INCOME. Each fund receives income generally
in the form of dividends, interest, original issue, market and acquisition
discount, and other income derived from its investments. This income, less
expenses incurred in the operation of a fund, constitute its net investment
income from which dividends may be paid to you. Any distributions by a fund
from such income will be taxable to you as ordinary income, whether you take
them in cash or in additional shares.
DISTRIBUTIONS OF CAPITAL GAINS. A fund may derive capital gains and losses in
connection with sales or other dispositions of its portfolio securities.
Distributions derived from the excess of net short-term capital gain over net
long-term capital loss will be taxable to you as ordinary income.
Distributions paid from long-term capital gains realized by a fund will be
taxable to you as long-term capital gain, regardless of how long you have
held your shares in the fund. Any net short-term or long-term capital gains
realized by a fund (net of any capital loss carryovers) generally will be
distributed once each year, and may be distributed more frequently, if
necessary, in order to reduce or eliminate federal excise or income taxes on
the fund.
Gains from securities sold by a fund that are held for more than one year
will be taxable at a maximum rate of 20% for individual investors in the 28%
or higher federal income tax brackets; or at a maximum rate of 10% for
individual investors in the 15% federal income tax bracket. Gains from
securities sold by the fund prior to January 1, 1998 are taxable at different
rates depending on the length of time the fund held such assets.
For "qualified 5-year gains," the maximum capital gains rate is 18% for
individuals in the 28% or higher federal income tax brackets; and 8% for
individuals in the 15% federal income tax bracket for "qualified 5-year
gains." For individuals in the 15% bracket, qualified 5-year gains are net
gains on securities held for more than 5 years which are sold after December
31, 2000. For individuals who are subject to tax at higher rates, qualified
5-year gains are net gains on securities which are purchased after December
31, 2000 and are held for more than 5 years. Taxpayers subject to tax at the
higher rates may also make an election for shares held on January 1, 2001 to
recognize gain on their shares in order to qualify such shares as qualified
5-year property.
Additional information on reporting capital gains distributions on your
personal income tax returns is available in Franklin Templeton's Tax
Information Handbook. Please call Fund Information to request a copy.
Questions concerning each investor's personal tax reporting should be
addressed to the investor's personal tax advisor.
CERTAIN DISTRIBUTIONS PAID IN JANUARY. Distributions which are declared in
October, November or December and paid to you in January of the following
year, will be treated for tax purposes as if they had been received by you on
December 31 of the year in which they were declared. A fund will report this
income to you on your Form 1099-DIV for the year in which these distributions
were declared.
EFFECT OF FOREIGN INVESTMENTS ON DISTRIBUTIONS. Most foreign exchange gains
realized on the sale of debt instruments are treated as ordinary income by a
fund. Similarly, foreign exchange losses realized by a fund on the sale of
debt instruments are generally treated as ordinary losses by such fund. These
gains when distributed will be taxable to you as ordinary dividends, and any
losses will reduce a fund's ordinary income otherwise available for
distribution to you. This treatment could increase or reduce a fund's
ordinary income distributions to you, and may cause some or all of such
fund's previously distributed income to be classified as a return of capital.
A fund may be subject to foreign withholding taxes on income from certain of
its foreign securities. If more than 50% of the total assets of the fund at
the end of the fiscal year are invested in securities of foreign
corporations, the fund may elect to pass-through to you your pro rata share
of foreign taxes paid by the fund subject to certain holding period
requirements. If this election is made, you will be (i) required to include
in your gross income your pro rata share of foreign source income (including
any foreign taxes paid by the fund), and, (ii) entitled to either deduct your
share of such foreign taxes in computing your taxable income or to claim a
credit for such taxes against your U.S. income tax, subject to certain
limitations under the Code. You will be informed by the fund at the end of
each calendar year regarding the availability of any such foreign tax credits
and the amount of foreign source income (including any foreign taxes paid by
the fund). If a fund elects to pass-through to you the foreign income taxes
that it has paid, you will be informed at the end of the calendar year of the
amount of foreign taxes paid and foreign source income that must be included
on your federal income tax return. If a fund invests 50% or less of its total
assets in securities of foreign corporations, it will not be entitled to
pass-through to you your pro rata share of the foreign taxes paid by the
fund. In this case, these taxes will be taken as a deduction by the fund, and
the income reported to you will be the net amount after these deductions.
The procedures by which investors in funds that invest in foreign securities
can claim tax credits on their individual income tax returns for the foreign
taxes paid by a fund have been simplified for tax years beginning in 1998.
These provisions will allow investors who claim a credit for foreign taxes
paid of $300 or less on a single return or $600 or less on a joint return
during any year (all of which must be reported on IRS Form 1099-DIV from the
fund to the investor) to bypass the burdensome and detailed reporting
requirements on the supporting foreign tax credit schedule (Form 1116) and
report foreign taxes paid directly on page 2 of Form 1040.
INFORMATION ON THE TAX CHARACTER OF DISTRIBUTIONS. Each fund in which you are
a shareholder will inform you of the amount and character of your
distributions at the time they are paid, and will advise you of the tax
status for federal income tax purposes of such distributions shortly after
the close of each calendar year. If you have not held fund shares for a full
year, you may have designated and distributed to you as ordinary income or
capital gain a percentage of income that is not equal to the actual amount of
such income earned during the period of your investment in the fund.
TAXES
ELECTION TO BE TAXED AS A REGULATED INVESTMENT COMPANY. Each fund has elected
to be treated as a regulated investment company under Subchapter M of the
Code, has qualified as such for its most recent fiscal year, and intends to
so qualify during the current fiscal year. The Board reserves the right not
to maintain the qualification of a fund as a regulated investment company if
it determines such course of action to be beneficial to you. In such case,
the fund will be subject to federal, and possibly state, corporate taxes on
its taxable income and gains, and distributions to you will be taxed as
ordinary dividend income to the extent of the fund's available earnings and
profits.
In order to qualify as a regulated investment company for tax purposes, each
fund must meet certain specific requirements, including:
o The fund must maintain a diversified portfolio of securities, wherein no
security (other than U.S. government securities and securities of other
regulated investment companies) can exceed 25% of the fund's total assets,
and, with respect to 50% of the fund's total assets, no investment (other
than cash and cash items, U.S. government securities and securities of
other regulated investment companies) can exceed 5% of the fund's total
assets or 10% of the outstanding voting securities of the issuer;
o The fund must derive at least 90% of its gross income from dividends,
interest, payments with respect to securities loans, and gains from the
sale or disposition of stock, securities or foreign currencies, or other
income derived with respect to its business of investing in such stock,
securities, or currencies; and
o The fund must distribute to its shareholders at least 90% of its investment
company taxable income (i.e., net investment income plus net short-term
capital gains) and net tax-exempt income for each of its fiscal years.
EXCISE TAX DISTRIBUTION REQUIREMENTS. The Code requires a fund to distribute
at least 98% of its taxable ordinary income earned during the calendar year
and 98% of its capital gain net income earned during the twelve month period
ending October 31 (in addition to undistributed amounts from the prior year)
to you by December 31 of each year in order to avoid federal excise taxes.
Each fund intends to declare and pay sufficient dividends in December (or in
January that are treated by you as received in December) but does not
guarantee and can give no assurances that its distributions will be
sufficient to eliminate all such taxes.
REDEMPTION OF FUND SHARES. Redemptions and exchanges of fund shares are
taxable transactions for federal and state income tax purposes. The tax law
requires that you recognize a gain or loss in an amount equal to the
difference between your tax basis and the amount you received in exchange for
your shares, subject to the rules described below. If you hold your shares as
a capital asset, the gain or loss that you realize will be capital gain or
loss, and will be long-term for federal income tax purposes if you have held
your shares for more than one year at the time of redemption or exchange. Any
loss incurred on the redemption or exchange of shares held for six months or
less will be treated as a long-term capital loss to the extent of any
long-term capital gains distributed to you by a fund on those shares.
All or a portion of any loss that you realize upon the redemption of your
fund shares will be disallowed to the extent that you purchase other shares
in the fund (through reinvestment of dividends or otherwise) within 30 days
before or after your share redemption. Any loss disallowed under these rules
will be added to your tax basis in the new shares you purchase.
DEFERRAL OF BASIS. All or a portion of the sales charge that you paid for
your shares in a fund will be excluded from your tax basis in any of the
shares sold within 90 days of their purchase (for the purpose of determining
gain or loss upon the sale of such shares) if you reinvest the sales proceeds
in the fund or in another of the Franklin Templeton Funds, and the sales
charge that would otherwise apply to your reinvestment is reduced or
eliminated. The portion of the sales charge excluded from your tax basis in
the shares sold will equal the amount that the sales charge is reduced on
your reinvestment. Any portion of the sales charge excluded from your tax
basis in the shares sold will be added to the tax basis of the shares you
acquire from your reinvestment.
U.S. GOVERNMENT OBLIGATIONS. Many states grant tax-free status to dividends
paid to you from interest earned on direct obligations of the U.S.
government, subject in some states to minimum investment requirements that
must be met by a fund. Investments in GNMA/FNMA securities, bankers'
acceptances, commercial paper and repurchase agreements collateralized by
U.S. government securities do not generally qualify for tax-free treatment.
At the end of each calendar year, each fund in which you are a shareholder
will provide you with the percentage of any dividends paid that may qualify
for tax-free treatment on your personal income tax return. You should consult
with your own tax advisor to determine the application of your state and
local laws to these distributions. Because the rules on exclusion of this
income are different for corporations, corporate shareholders should consult
with their corporate tax advisors about whether any of their distributions
may be exempt from corporate income or franchise taxes.
DIVIDENDS-RECEIVED DEDUCTION FOR CORPORATIONS. As a corporate shareholder,
you should note that only a small percentage of the dividends paid by the
funds for the most recent fiscal year qualified for the dividends-received
deduction. You will be permitted in some circumstances to deduct these
qualified dividends, thereby reducing the tax that you would otherwise be
required to pay on these dividends. The dividends-received deduction will be
available only with respect to dividends designated by a fund as eligible for
such treatment. Dividends so designated by a fund must be attributable to
dividends earned by such fund from U.S. corporations that were not
debt-financed.
INVESTMENT IN COMPLEX SECURITIES. A fund's investment in options, futures
contracts and forward contracts, including transactions involving actual or
deemed short sales or foreign exchange gains or losses are subject to many
complex and special tax rules. Over-the-counter options on debt securities
and equity options, including options on stock and on narrow-based stock
indexes, will be subject to tax under section 1234 of the Code, generally
producing a long-term or short-term capital gain or loss upon exercise,
lapse, or closing out of the option or sale of the underlying stock or
security. Certain other options, futures and forward contracts entered into
by a fund are generally governed by section 1256 of the Code. These "section
1256" positions generally include listed options on debt securities, options
on broad-based stock indexes, options on securities indexes, options on
futures contracts, regulated futures contracts and certain foreign currency
contracts and options thereon.
Absent a tax election to the contrary, each such section 1256 position held
by a fund will be marked-to-market (i.e., treated as if it were sold for fair
market value) on the last business day of such fund's fiscal year (and on
other dates as prescribed by the Code), and all gain or loss associated with
fiscal year transactions and mark-to-market positions at fiscal year end
(except certain currency gain or loss covered by section 988 of the Code)
will generally be treated as 60% long-term capital gain or loss and 40%
short-term capital gain or loss. Even though marked-to-market, gains and
losses realized on foreign currency and foreign security investments will
generally be treated as ordinary income. The effect of section 1256
mark-to-market rules may be to accelerate income or to convert what otherwise
would have been long-term capital gains into short-term capital gains or
short-term capital losses into long-term capital losses within a fund. The
acceleration of income on section 1256 positions may require a fund to accrue
taxable income without the corresponding receipt of cash. In order to
generate cash to satisfy the distribution requirements of the Code, a fund
may be required to dispose of portfolio securities that it otherwise would
have continued to hold or to use cash flows from other sources such as the
sale of fund shares. In these ways, any or all of these rules may affect the
amount, character and timing of income distributed to you by a fund.
When a fund holds an option or contract which substantially diminishes such
fund's risk of loss with respect to another position of the fund (as might
occur in some hedging transactions), this combination of positions could be
treated as a "straddle" for tax purposes, possibly resulting in deferral of
losses, adjustments in the holding periods and conversion of short-term
capital losses into long-term capital losses. A fund may make certain tax
elections for mixed straddles (i.e., straddles comprised of at least one
section 1256 position and at least one non-section 1256 position) which may
reduce or eliminate the operation of these straddle rules.
When a fund enters into "constructive sales transactions," the fund must
recognize gain (but not loss) on any constructive sale of an appreciated
financial position in stock, a partnership interest or certain debt
instruments. A fund will generally be treated as making a constructive sale
when it: 1) enters into a short sale on the same property, 2) enters into an
offsetting notional principal contract, or 3) enters into a futures or
forward contract to deliver the same or substantially similar property. Other
transactions (including certain financial instruments called collars) will be
treated as constructive sales as provided in Treasury regulations to be
published. There are also certain exceptions that apply for transactions that
are closed before the end of the 30th day after the close of the taxable year.
Distributions paid to you by a fund of ordinary income and short-term capital
gains arising from a fund's investments, including investments in options,
forwards, and futures contracts, will be taxable to you as ordinary income.
Each fund will monitor its transactions in such options and contracts and may
make certain other tax elections in order to mitigate the effect of the above
rules.
INVESTMENTS IN FOREIGN CURRENCIES AND FOREIGN SECURITIES. Each fund is
authorized to invest in foreign currency denominated securities. Such
investments, if made, will have the following additional tax consequences:
Under the Code, gains or losses attributable to fluctuations in foreign
currency exchange rates which occur between the time a fund accrues income
(including dividends), or accrues expenses which are denominated in a foreign
currency, and the time a fund actually collects such income or pays such
expenses generally are treated as ordinary income or loss. Similarly, on the
disposition of debt securities denominated in a foreign currency and on the
disposition of certain options, futures, forward contracts, gain or loss
attributable to fluctuations in the value of foreign currency between the
date of acquisition of the security or contract and the date of its
disposition are also treated as ordinary gain or loss. These gains or losses,
referred to under the Code as "section 988" gains or losses, may increase or
decrease the amount of a fund's net investment company taxable income, which,
in turn, will affect the amount of income to be distributed to you by such
fund.
If a fund's section 988 losses exceed the fund's other net investment company
taxable income during a taxable year, such fund generally will not be able to
make ordinary dividend distributions to you for that year, or distributions
made before the losses were realized will be recharacterized as return of
capital distributions for federal income tax purposes, rather than as an
ordinary dividend or capital gain distribution. If a distribution is treated
as a return of capital, your tax basis in your fund shares will be reduced by
a like amount (to the extent of such basis), and any excess of the
distribution over your tax basis in your fund shares will be treated as
capital gain to you.
INVESTMENT IN PASSIVE FOREIGN INVESTMENT COMPANY SECURITIES. Each fund may
invest in shares of foreign corporation which may be classified under the
Code as passive foreign investment companies ("PFICs"). In general, a foreign
corporation is classified as a PFIC if at least one-half of its assets
constitute investment-type assets or 75% or more of its gross income is
investment-type income.
If a fund receives an "excess distribution" with respect to PFIC stock, the
fund itself may be subject to U.S. federal income tax on a portion of the
distribution, whether or not the corresponding income is distributed by the
fund to you. In general, under the PFIC rules, an excess distribution is
treated as having been realized ratably over the period during which the fund
held the PFIC shares. The fund itself will be subject to tax on the portion,
if any, of an excess distribution that is so allocated to prior fund taxable
years, and an interest factor will be added to the tax, as if the tax had
been payable in such prior taxable years. In this case, you would not be
permitted to claim a credit on your own tax return for the tax paid by the
fund. Certain distributions from a PFIC as well as gain from the sale of PFIC
shares are treated as excess distributions. Excess distributions are
characterized as ordinary income even though, absent application of the PFIC
rules, certain excess distributions might have been classified as capital
gain. This may have the effect of increasing fund distributions to you that
are treated as ordinary dividends rather than long-term capital gain
dividends.
Each fund may be eligible to elect alternative tax treatment with respect to
PFIC shares. Under an election that currently is available in some
circumstances, the fund generally would be required to include in its gross
income its share of the earnings of a PFIC on a current basis, regardless of
whether distributions are received from the PFIC during such period. If this
election were made, the special rules, discussed above, relating to the
taxation of excess distributions, would not apply. In addition, under another
election that involves marking-to-market the fund's PFIC shares at the end of
each taxable year (and on certain other dates as prescribed in the Code),
unrealized gains would be treated as though they were realized. The fund
would also be allowed an ordinary deduction for the excess, if any, of the
adjusted basis of its investment in the PFIC stock over its fair market value
at the end of the taxable year. This deduction would be limited to the amount
of any net mark-to-market gains previously included with respect to that
particular PFIC security. If the fund were to make this second PFIC election,
tax at the fund level under the PFIC rules would generally be eliminated.
The application of the PFIC rules may affect, among other things, the amount
of tax payable by a fund (if any), the amounts distributable to you by the
fund, the time at which these distributions must be made, and whether these
distributions will be classified as ordinary income or capital gain
distributions to you.
You should be aware that it is not always possible at the time shares of a
foreign corporation are acquired to ascertain that the foreign corporation is
a PFIC, and that there is always a possibility that a foreign corporation
will become a PFIC after the fund acquires shares in that corporation. While
a fund will generally seek to avoid investing in PFIC shares to avoid the tax
consequences detailed above, there are no guarantees that it will do so and
it reserves the right to make such investments as a matter of its fundamental
investment policy.
CONVERSION TRANSACTIONS. Gains realized by a fund from transactions that are
deemed to be "conversion transactions" under the Code, and that would
otherwise produce capital gain may be recharacterized as ordinary income to
the extent that such gain does not exceed an amount defined as the
"applicable imputed income amount." A conversion transaction is any
transaction in which substantially all of a fund's expected return is
attributable to the time value of the fund's net investment in such
transaction, and any one of the following criteria are met:
1) there is an acquisition of property with a substantially contemporaneous
agreement to sell the same or substantially identical property in the
future;
2) the transaction is an applicable straddle;
3) the transaction was marketed or sold to the fund on the basis that it
would have the economic
characteristics of a loan but would be taxed as capital gain; or
4) the transaction is specified in Treasury regulations to be promulgated
in the future.
The applicable imputed income amount, which represents the deemed return on
the conversion transaction based upon the time value of money, is computed
using a yield equal to 120 percent of the applicable federal rate, reduced by
any prior recharacterizations under this provision or the provisions of
Section 263(g) of the Code dealing with capitalized carrying costs.
STRIPPED PREFERRED STOCK. Occasionally, a fund may purchase "stripped
preferred stock" that is subject to special tax treatment. Stripped preferred
stock is defined as certain preferred stock issues where ownership of the
stock has been separated from the right to receive dividends that have not
yet become payable. The stock must have a fixed redemption price, must not
participate substantially in the growth of the issuer, and must be limited
and preferred as to dividends. The difference between the redemption price
and purchase price is taken into fund income over the term of the instrument
as if it were original issue discount. The amount that must be included in
each period generally depends on the original yield to maturity, adjusted for
any prepayments of principal.
INVESTMENTS IN ORIGINAL ISSUE DISCOUNT (OID) AND MARKET DISCOUNT (MD) BONDS.
A fund's investments in zero coupon bonds, bonds issued or acquired at a
discount, delayed interest bonds, or bonds that provide for payment of
interest-in-kind (PIK) may cause a fund to recognize income and make
distributions to you prior to its receipt of cash payments. Zero coupon and
delayed interest bonds are normally issued at a discount and are therefore
generally subject to tax reporting as OID obligations. A fund is required to
accrue as income a portion of the discount at which these securities were
issued, and to distribute such income each year (as ordinary dividends) in
order to maintain its qualification as a regulated investment company and to
avoid income reporting and excise taxes at the fund level. PIK bonds are
subject to similar tax rules concerning the amount, character and timing of
income required to be accrued by a fund. Bonds acquired in the secondary
market for a price less than their stated redemption price, or revised issue
price in the case of a bond having OID, are said to have been acquired with
market discount. For these bonds, a fund may elect to accrue market discount
on a current basis, in which case the fund will be required to distribute any
such accrued discount. If a fund does not elect to accrue market discount
into income currently, gain recognized on sale will be recharacterized as
ordinary income instead of capital gain to the extent of any accumulated
market discount on the obligation.
DEFAULTED OBLIGATIONS. A fund may be required to accrue income on defaulted
obligations and to distribute such income to you even though it is not
currently receiving interest or principal payments on such obligations. In
order to generate cash to satisfy these distribution requirements, a fund may
be required to dispose of portfolio securities that it otherwise would have
continued to hold or to use cash flows from other sources such as the sale of
fund shares.
THE FUNDS' UNDERWRITER
Pursuant to an underwriting agreement, Distributors acts as principal
underwriter in a continuous public offering of the funds' shares. The
underwriting agreement will continue in effect for successive annual periods
if its continuance is specifically approved at least annually by a vote of
the Board or by a vote of the holders of a majority of the fund's outstanding
voting securities, and in either event by a majority vote of the Board
members who are not parties to the underwriting agreement or interested
persons of any such party (other than as members of the Board), cast in
person at a meeting called for that purpose. The underwriting agreement
terminates automatically in the event of its assignment and may be terminated
by either party on 90 days' written notice.
Distributors pays the expenses of the distribution of fund shares, including
advertising expenses and the costs of printing sales material and
prospectuses used to offer shares to the public. Each fund pays the expenses
of preparing and printing amendments to its registration statements and
prospectuses (other than those necessitated by the activities of
Distributors) and of sending prospectuses to existing shareholders.
The table below shows the aggregate underwriting commissions in connection
with the offering of the funds' shares, the net underwriting discounts and
commissions retained by Distributors after allowances to dealers, and the
amounts received by Distributors in connection with redemptions or
repurchases of shares for the fiscal years ended April 30, 1998, 1997 and
1996.
AMOUNT RECEIVED IN
TOTAL AMOUNT CONNECTION WITH
COMMISSIONS RETAINED BY REDEMPTIONS
RECEIVED DISTRIBUTORS OR REPURCHASES
1998
California Fund............ $7,612,566 $762,027 $10,657
MidCap Fund................ 259,668 29,262 0
Blue Chip Fund............. 226,140 25,642 0
1997
California Fund............ $4,836,624 $518,921 $1,701
MidCap Fund................ 140,519 16,023 0
Blue Chip Fund............. 76,980 8,755 0
1996
California Fund............ $1,154,089 $129,723 0
MidCap Fund................ 0 0 0
Distributors may be entitled to reimbursement under the Rule 12b-1 plan for
each class, as discussed below. Except as noted, Distributors received no
other compensation from the funds for acting as underwriter.
THE RULE 12B-1 PLANS
Class I and Class II have separate distribution plans or "Rule 12b-1 plans"
that were adopted pursuant to Rule 12b-1 of the 1940 Act.
THE CLASS I PLAN. Under the Class I plan, the California Fund may pay up to a
maximum of 0.25% per year and the MidCap Fund and Blue Chip Fund may pay up
to a maximum of 0.35% per year of Class I's average daily net assets, payable
quarterly, for expenses incurred in the promotion and distribution of Class I
shares. Of this amount, the MidCap Fund and the Blue Chip Fund may each
reimburse up to 0.35% to Distributers or others, out of which 0.10% wil
generally be retained by Distributors for its distribution expenses.
The California Fund's Class I plan does not permit unreimbursed expenses
incurred in a particular year to be carried over to or reimbursed in later
years.
THE CLASS II PLAN. Under the Class II plan, the California Fund pays
Distributors up to 0.75% per year of Class II's average daily net assets,
payable quarterly, for distribution and related expenses. These fees may be
used to compensate Distributors or others for providing distribution and
related services and bearing certain Class II expenses. All distribution
expenses over this amount will be borne by those who have incurred them
without reimbursement by the fund.
Under the Class II plan, the California Fund also pays an additional 0.25%
per year of Class II's average daily net assets, payable quarterly, as a
servicing fee.
THE CLASS I AND CLASS II PLANS. In addition to the payments that Distributors
or others are entitled to under each plan, each plan also provides that to
the extent a fund, Advisers or Distributors or other parties on behalf of the
fund, Advisers or Distributors make payments that are deemed to be for the
financing of any activity primarily intended to result in the sale of shares
of each class within the context of Rule 12b-1 under the 1940 Act, then such
payments shall be deemed to have been made pursuant to the plan. The terms
and provisions of each plan relating to required reports, term, and approval
are consistent with Rule 12b-1.
In no event shall the aggregate asset-based sales charges, which include
payments made under each plan, plus any other payments deemed to be made
pursuant to a plan, exceed the amount permitted to be paid under the rules of
the NASD.
To the extent fees are for distribution or marketing functions, as
distinguished from administrative servicing or agency transactions, certain
banks will not be entitled to participate in the plans as a result of
applicable federal law prohibiting certain banks from engaging in the
distribution of mutual fund shares. These banking institutions, however, are
permitted to receive fees under the plans for administrative servicing or for
agency transactions. If you are a customer of a bank that is prohibited from
providing these services, you would be permitted to remain a shareholder of
the fund, and alternate means for continuing the servicing would be sought.
In this event, changes in the services provided might occur and you might no
longer be able to avail yourself of any automatic investment or other
services then being provided by the bank. It is not expected that you would
suffer any adverse financial consequences as a result of any of these changes.
Each plan has been approved in accordance with the provisions of Rule 12b-1.
The plans are renewable annually by a vote of the Board, including a majority
vote of the Board members who are not interested persons of the fund and who
have no direct or indirect financial interest in the operation of the plans,
cast in person at a meeting called for that purpose. It is also required that
the selection and nomination of such Board members be done by the
non-interested members of the Board. The plans and any related agreement may
be terminated at any time, without penalty, by vote of a majority of the
non-interested Board members on not more than 60 days' written notice, by
Distributors on not more than 60 days' written notice, by any act that
constitutes an assignment of the management agreement with Advisers, or by
vote of a majority of the outstanding shares of the class. The California
Fund's Class I plan may also be terminated by any act that constitutes an
assignment of the underwriting agreement with Distributors. Distributors or
any dealer or other firm may also terminate their respective distribution or
service agreement at any time upon written notice.
The plans and any related agreements may not be amended to increase
materially the amount to be spent for distribution expenses without approval
by a majority of the outstanding shares of the class, and all material
amendments to the plans or any related agreements shall be approved by a vote
of the non-interested members of the Board, cast in person at a meeting
called for the purpose of voting on any such amendment.
Distributors is required to report in writing to the Board at least quarterly
on the amounts and purpose of any payment made under the plans and any
related agreements, as well as to furnish the Board with such other
information as may reasonably be requested in order to enable the Board to
make an informed determination of whether the plans should be continued.
For the fiscal year ended April 30, 1998, Distributors' eligible expenditures
for advertising, printing, and payments to underwriters and broker-dealers
pursuant to the plans and the amounts the funds paid Distributors under the
plans were as follows:
DISTRIBUTORS' AMOUNT
ELIGIBLE PAID BY
EXPENSES FUND
California Fund -
Class I..................... $1,763,394 $1,291,085
California Fund -
Class II.................... 1,168,693 688,805
MidCap Fund................. 84,851 84,511
Blue Chip Fund.............. 44,836 19,622
HOW DO THE FUNDS MEASURE PERFORMANCE?
Performance quotations are subject to SEC rules. These rules require the use
of standardized performance quotations or, alternatively, that every
non-standardized performance quotation furnished by the funds be accompanied
by certain standardized performance information computed as required by the
SEC. Average annual total return quotations used by the funds are based on
the standardized methods of computing performance mandated by the SEC. If a
Rule 12b-1 plan is adopted, performance figures reflect fees from the date of
the plan's implementation. An explanation of these and other methods used by
the funds to compute or express performance follows. Regardless of the method
used, past performance does not guarantee future results, and is an
indication of the return to shareholders only for the limited historical
period used.
TOTAL RETURN
AVERAGE ANNUAL TOTAL RETURN. Average annual total return is determined by
finding the average annual rates of return over the periods indicated below
that would equate an initial hypothetical $1,000 investment to its ending
redeemable value. The calculation assumes the maximum front-end sales charge
is deducted from the initial $1,000 purchase, and income dividends and
capital gain distributions are reinvested at Net Asset Value. The quotation
assumes the account was completely redeemed at the end of each period and the
deduction of all applicable charges and fees. If a change is made to the
sales charge structure, historical performance information will be restated
to reflect the maximum front-end sales charge currently in effect.
The average annual total return for each class for the indicated periods
ended April 30, 1998, was as follows:
AVERAGE ANNUAL TOTAL RETURN
INCEPTION ONE- FIVE- FROM
DATE YEAR YEAR INCEPTION
California Fund - Class I.......... 10/30/91 27.27% 27.07% 21.02%
California Fund - Class II......... 09/03/96 31.77 -- 25.14
MidCap Fund........................ 08/17/93 27.50 -- 16.58
Blue Chip Fund..................... 06/03/96 9.73 -- 9.92
These figures were calculated according to the SEC formula:
n
P(1+T) = 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 each period at the end of each period
CUMULATIVE TOTAL RETURN. Like average annual total return, cumulative total
return assumes the maximum front-end sales charge is deducted from the
initial $1,000 purchase, and income dividends and capital gain distributions
are reinvested at Net Asset Value. Cumulative total return, however, is based
on the actual return for a specified period rather than on the average return
over the periods indicated above. The cumulative total return for each class
for the indicated periods ended April 30, 1998, was as follows:
CUMULATIVE TOTAL RETURN
INCEPTION ONE- FIVE- FROM
DATE YEAR YEAR INCEPTION
California Fund - Class I.......... 10/30/91 27.27% 231.34% 245.65%
California Fund - Class II......... 09/03/96 31.77 -- 44.90
MidCap Fund........................ 08/17/93 27.50 -- 105.67
Blue Chip Fund..................... 06/03/96 9.73 -- 19.74
VOLATILITY
Occasionally statistics may be used to show a fund's volatility or risk.
Measures of volatility or risk are generally used to compare a fund's Net
Asset Value or performance to a market index. One measure of volatility is
beta. Beta is the volatility of a fund relative to the total market, as
represented by an index considered representative of the types of securities
in which the fund invests. A beta of more than 1.00 indicates volatility
greater than the market and a beta of less than 1.00 indicates volatility
less than the market. Another measure of volatility or risk is standard
deviation. Standard deviation is used to measure variability of Net Asset
Value or total return around an average over a specified period of time. The
idea is that greater volatility means greater risk undertaken in achieving
performance.
OTHER PERFORMANCE QUOTATIONS
The funds may also quote the performance of shares without a sales charge.
Sales literature and advertising may quote a current distribution rate,
yield, cumulative total return, average annual total return and other
measures of performance as described elsewhere in this SAI with the
substitution of Net Asset Value for the public Offering Price.
Sales literature referring to the use of a fund as a potential investment for
Individual Retirement Accounts (IRAs), Business Retirement Plans, and other
tax-advantaged retirement plans may quote a total return based upon
compounding of dividends on which it is presumed no federal income tax
applies.
Each fund may include in its advertising or sales material information
relating to investment goals and performance results of funds belonging to
the Franklin Templeton Group of Funds. Resources is the parent company of the
advisors and underwriter of the Franklin Templeton Group of Funds.
COMPARISONS
To help you better evaluate how an investment in a fund may satisfy your
investment goal, advertisements and other materials about the funds may
discuss certain measures of fund performance as reported by various financial
publications. Materials may also compare performance (as calculated above) to
performance as reported by other investments, indices, and averages. These
comparisons may include, but are not limited to, the following examples:
a) Dow Jones Composite Average or its component averages - an unmanaged index
composed of 30 blue-chip industrial corporation stocks (Dow Jones(R)
Industrial Average), 15 utilities company stocks (Dow Jones Utilities
Average), and 20 transportation company stocks. Comparisons of performance
assume reinvestment of dividends.
b) Standard & Poor's(R) 500 Stock Index or its component indices - an
unmanaged index composed of 400 industrial stocks, 40 financial stocks, 40
utilities stocks, and 20 transportation stocks. Comparisons of performance
assume reinvestment of dividends.
c) The New York Stock Exchange composite or component indices - an unmanaged
index of all industrial, utilities, transportation, and finance stocks listed
on the NYSE.
d) Wilshire 5000 Equity Index - represents the return on the market value of
all common equity securities for which daily pricing is available.
Comparisons of performance assume reinvestment of dividends.
e) Lipper - Mutual Fund Performance Analysis and Lipper - Fixed Income Fund
Performance Analysis - measure total return and average current yield for the
mutual fund industry and rank individual mutual fund performance over
specified time periods, assuming reinvestment of all distributions, exclusive
of any applicable sales charges.
f) CDA Mutual Fund Report, published by CDA Investment Technologies, Inc. -
analyzes price, current yield, risk, total return, and average rate of return
(average annual compounded growth rate) over specified time periods for the
mutual fund industry.
g) Mutual Fund Source Book, published by Morningstar, Inc. - analyzes price,
yield, risk, and total return for mutual funds.
h) Consumer Price Index (or Cost of Living Index), published by the U.S.
Bureau of Labor Statistics - a statistical measure of change, over time, in
the price of goods and services in major expenditure groups.
i) Historical data supplied by the research departments of CS First Boston
Corporation, the J. P. Morgan companies, Salomon Brothers, Merrill Lynch,
Lehman Brothers and Bloomberg L.P.
j) Financial publications: THE WALL STREET JOURNAL, AND BUSINESS WEEK,
CHANGING TIMES, FINANCIAL WORLD, FORBES, FORTUNE, AND MONEY MAGAZINES -
provide performance statistics over specified time periods.
k) Morningstar - information published by Morningstar, Inc., including
Morningstar proprietary mutual fund ratings. The ratings reflect
Morningstar's assessment of the historical risk-adjusted performance of a
fund over specified time periods relative to other funds within its category.
ADDITIONAL COMPARISONS - CALIFORNIA FUND
a) Valueline Index - an unmanaged index which follows the stock of
approximately 1,700 companies.
b) Bateman Eichler Hill Richards Western Stock Index - A managed index
representing 215 stocks of companies within the Western United States.
Seventy-five percent of the stocks are Californian companies, the remaining
25% represent companies in: Arizona, Hawaii, Nevada, Oregon and Washington.
c) Russell 3000 Index - composed of 3,000 large U.S. companies by market
capitalization, representing approximately 98% of the U.S. equity market.
d) Russell 2000 Small Stock Index - consists of the smallest 2,000 companies
in the Russell 3000 Index, representing approximately 11% of the Russell 3000
total market capitalization.
e) Stocks, Bonds, Bills, and Inflation, published by Ibbotson Associates -
historical measure of yield, price, and total return for common and small
company stock, long-term government bonds, Treasury bills, and inflation.
f) Franklin California 250 Growth Index - consists of the 250 largest
California based companies on an equal weighted basis in order to
approximately diversify and correlate with the business segment weightings of
the actual economy (as provided by the Gross State Product). By doing so, the
Index will have an orientation towards small cap growth companies, mainly
high tech and services related firms. The Index is equally weighted as
opposed to market weighted, meaning each company represents 0.4% of the total
index.
ADDITIONAL COMPARISONS - MIDCAP FUND
a) The Wilshire 4500 Equity Index - a market value-weighted index of all U.S.
common equity securities with readily available price data (excluding the S&P
500 securities which together with the 4500 comprise the Wilshire 5000). It
is a total return index with dividends reinvested.
b) The Wilshire Mid Cap 750 - overlaps both the top 750 and next 1750 of the
Wilshire 2500 universe (the top 2500 companies and 99% of the market
capitalization of the Wilshire 5000). Wilshire includes companies that have
market capitalizations ranging from $300 million to $1.3 billion. The
portfolio contains from 125 to 500 securities.
c) The Russell Midcap Index - is composed of medium and medium/small
companies with capitalization of $350 million to $3.25 billion. The 800
companies are taken from the Russell 3000 Index. Russell has generated
monthly returns back to 1979. Russell reconstitutes the index every June 30,
based on May 31 market capitalization. Weights are based on market
capitalization, adjusted for corporate cross-ownership and large private
holdings. The index is reconstituted annually since 1989.
d) The Russell 2000 Index - consists of the 2,000 smallest securities in the
Russell 3000 Index. Representing approximately 11% of the Russell 3000 total
market capitalization, this is Russell's Small Cap Index.
e) The Russell 2500 Index - consists of the bottom 500 securities in the
Russell Index, as ranked by total market capitalization, and all 2,000
securities in the Russell 2000 Index. This Index is a good measure of small
to medium-small stock performance.
f) The Russell 3000 Index - consists of 3,000 large U.S. companies, as
determined by market capitalization. This portfolio of securities represents
approximately 98% of the investable U.S. equity market.
g) Valueline Index - an unmanaged index which follows the stock of
approximately 1700 companies.
h) Standard &Poor's(R) 400 - consists of 400 domestic stocks chosen for market
size (median market capitalization of $676 million), liquidity and industry
group representation. It is a market-value weighted index, with each stock
affecting the Index in proportion to its market value. This index, calculated
by S&P, is a total return index with dividends reinvested.
Total Return Performance - The example below may be used to illustrate the
fund's performance, when compared to the total return of the Wilshire 5000
Index, Standard and Poor's 500 Index and the Standard and Poor's Midcap Index:
Annual Performance from 1988 through 1996
S&P S&P WILSHIRE
500 MIDCAP 5000
1988........... 16.61 20.89 17.93
1989........... 31.69 35.52 29.18
1990........... -3.10 -5.13 -6.18
1991........... 30.47 50.10 34.21
1992........... 7.62 11.91 8.98
1993........... 10.08 13.95 11.30
1994........... 1.32 -3.58 -0.06
1995........... 37.58 30.95 36.47
1996........... 22.96 19.20 21.21
1997........... 33.36 32.26 31.29
ADDITIONAL COMPARISONS - BLUE CHIP FUND
a) Stocks, Bonds, Bills, and Inflation, published by Ibbotson Associates -
historical measure of yield, price, and total return for common and small
company stock, long-term government bonds, Treasury bills, and inflation.
b) Savings and Loan Historical Interest Rates - as published in the U.S.
Savings & Loan League Fact Book.
c) Standard & Poor's(R) 100 Stock Index - an unmanaged index based on the
prices of 100 blue-chip stocks, including 92 industrials, one utility, two
transportation companies, and 5 financial institutions. The S&P 100 Stock
Index is a smaller more flexible index for options trading.
d) Morgan Stanley Capital International World Index - an arithmetic average
(weighted by market value) index based in U.S. dollars of the performance of
approximately 2000 securities listed on the stock exchanges of the U.S.,
Europe, Canada, Australia, New Zealand and the Far East with gross dividends
reinvested. The Index includes about 60% of the issues listed on the 23
exchanges.
From time to time, advertisements or information for a fund may include a
discussion of certain attributes or benefits to be derived from an investment
in the fund. The advertisements or information may include symbols,
headlines, or other material that highlights or summarizes the information
discussed in more detail in the communication.
Advertisements or information may also compare a fund's performance to the
return on CDs or other investments. You should be aware, however, that an
investment in a fund involves the risk of fluctuation of principal value, a
risk generally not present in an investment in a CD issued by a bank. For
example, as the general level of interest rates rise, the value of a fund's
fixed-income investments, if any, as well as the value of its shares that are
based upon the value of such portfolio investments, can be expected to
decrease. Conversely, when interest rates decrease, the value of the fund's
shares can be expected to increase. CDs are frequently insured by an agency
of the U.S. government. An investment in a fund is not insured by any
federal, state or private entity.
In assessing comparisons of performance, you should keep in mind that the
composition of the investments in the reported indices and averages is not
identical to a fund's portfolio, the indices and averages are generally
unmanaged, and the items included in the calculations of the averages may not
be identical to the formula used by the fund to calculate its figures. In
addition, there can be no assurance that a fund will continue its performance
as compared to these other averages.
MISCELLANEOUS INFORMATION
A fund may help you achieve various investment goals such as accumulating
money for retirement, saving for a down payment on a home, college costs and
other long-term goals. The Franklin College Costs Planner may help you in
determining how much money must be invested on a monthly basis in order to
have a projected amount available in the future to fund a child's college
education. (Projected college cost estimates are based upon current costs
published by the College Board.) The Franklin Retirement Planning Guide leads
you through the steps to start a retirement savings program. Of course, an
investment in a fund cannot guarantee that these goals will be met.
Each fund is a member of the Franklin Templeton Group of Funds, one of the
largest mutual fund organizations in the U.S., and may be considered in a
program for diversification of assets. Founded in 1947, Franklin, one of the
oldest mutual fund organizations, has managed mutual funds for over 50 years
and now services more than 3 million shareholder accounts. In 1992, Franklin,
a leader in managing fixed-income mutual funds and an innovator in creating
domestic equity funds, joined forces with Templeton, a pioneer in
international investing. The Mutual Series team, known for its value-driven
approach to domestic equity investing, became part of the organization four
years later. Together, the Franklin Templeton Group has over $236 billion in
assets under management for more than 6 million U.S. based mutual fund
shareholder and other accounts. The Franklin Templeton Group of Funds offers
119 U.S. based open-end investment companies to the public. Each fund may
identify itself by its NASDAQ symbol or CUSIP number.
Currently, there are more mutual funds than there are stocks listed on the
NYSE. While many of them have similar investment goals, no two are exactly
alike. As noted in the Prospectus, shares of the fund are generally sold
through Securities Dealers. Investment representatives of such Securities
Dealers are experienced professionals who can offer advice on the type of
investment suitable to your unique goals and needs, as well as the types of
risks associated with such investment.
As of June 2, 1998, the principal shareholders of the MidCap Fund and Blue
Chip Fund, beneficial or of record, were as follows:
SHARE PER-
NAME AND ADDRESS AMOUNT CENTAGE
MIDCAP FUND
Franklin Resources, Inc. 625,630.520 35%
1147 Chess Dr.
Foster City, CA 94404-1102
BLUE CHIP FUND
Franklin Resources, Inc. 203,929.566 14%
1850 Gateway Dr., 6th Flr.
San Mateo, CA 94404-2467
From time to time, the number of fund shares held in the "street name"
accounts of various Securities Dealers for the benefit of their clients or in
centralized securities depositories may exceed 5% of the total shares
outstanding.
In the event of disputes involving multiple claims of ownership or authority
to control your account, each fund has the right (but has no obligation) to:
(a) freeze the account and require the written agreement of all persons
deemed by the fund to have a potential property interest in the account,
before executing instructions regarding the account; (b) interplead disputed
funds or accounts with a court of competent jurisdiction; or (c) surrender
ownership of all or a portion of the account to the IRS in response to a
Notice of Levy.
SUMMARY OF CODE OF ETHICS. Employees of the Franklin Templeton Group who are
access persons under the 1940 Act are permitted to engage in personal securities
transactions subject to the following general restrictions and procedures: (i)
the trade must receive advance clearance from a compliance officer and must be
completed by the close of the business day following the day clearance is
granted; (ii) copies of all brokerage confirmations and statements must be sent
to a compliance officer; (iii) all brokerage accounts must be disclosed on an
annual basis; and (iv) access persons involved in preparing and making
investment decisions must, in addition to (i), (ii) and (iii) above, file annual
reports of their securities holdings each January and inform the compliance
officer (or other designated personnel) if they own a security that is being
considered for a fund or other client transaction or if they are recommending a
security in which they have an ownership interest for purchase or sale by a fund
or other client.
FINANCIAL STATEMENTS
The audited financial statements contained in the Annual Report to
Shareholders of the Trust, for the fiscal year ended April 30, 1998,
including the auditors' report, are incorporated herein by reference.
USEFUL TERMS AND DEFINITIONS
1940 ACT - Investment Company Act of 1940, as amended
ADVISERS - Franklin Advisers, Inc., the funds' investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I AND CLASS II - The California Fund offers two classes of shares,
designated "Class I" and "Class II." The two classes have proportionate
interests in the fund's portfolio. They differ, however, primarily in their
sales charge structures and Rule 12b-1 plans. Shares of the MidCap Fund and
the Blue Chip Fund are considered Class I shares for redemption, exchange and
other purposes.
CODE - Internal Revenue Code of 1986, as amended
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the funds' principal
underwriter
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the funds' administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the funds'
shareholder servicing and transfer agent
IRS - Internal Revenue Service
LETTER - Letter of Intent
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of a fund by
the number of shares outstanding.
NYSE - New York Stock Exchange
OFFERING PRICE - The public offering price is based on the Net Asset Value
per share of the class and includes the front-end sales charge. The maximum
front-end sales charge is 5.75% for Class I and 1% for Class II. We calculate
the offering price to two decimal places using standard rounding criteria.
PROSPECTUS - The prospectus for the funds dated September 1, 1998, which we
may amend from time to time
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the funds. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
WE/OUR/US - Unless a different meaning is indicated by the context, these
terms refer to the funds and/or Investor Services, Distributors, or other
wholly owned subsidiaries of Resources.
APPENDIX
DESCRIPTION OF RATINGS
PREFERRED STOCKS RATINGS
S&P
AAA - This is the highest rating that may be assigned by S&P to a preferred
stock issue and indicates an extremely strong capacity to pay the preferred
stock obligations.
AA - A preferred stock issue rated AA also qualifies as a high quality
fixed-income security. The capacity to pay preferred stock obligations is
very strong, although not as overwhelming as for issues rated AAA.
A - An issue rated A is backed by a sound capacity to pay the preferred stock
obligations, although it is somewhat more susceptible to the adverse effects
of changes in circumstances and economic conditions.
BBB - An issue rated BBB is regarded as backed by an adequate capacity to pay
the preferred stock obligations. Whereas it normally exhibits adequate
protection parameters, adverse economic conditions or changing circumstances
are more likely to lead to a weakened capacity to make payments for a
preferred stock in this category than for issues in the A category.
BB, B AND CCC - Preferred stock rated BB, B, and CCC are regarded, on
balance, as predominately speculative with respect to the issuer's capacity
to pay preferred stock obligations. BB indicates the lowest degree of
speculation and CCC the highest degree of speculation. While these issues
will likely have some quality and protective characteristics, these are
outweighed by large uncertainties or major risk exposures to adverse
conditions.
CC - The rating CC is reserved for a preferred stock issue in arrears on
dividends or sinking fund payments but that is currently paying.
C - A preferred stock rated C is a non-paying issue.
D - A preferred stock rated D is a non-paying issue with the issuer in
default on debt instruments.
NR - Indicates that no rating has been requested, that there is insufficient
information on which to base a rating, or that S&P does not rate a particular
type of obligation as a matter of policy.
PLUS (+) OR MINUS (-) - To provide more detailed indications of preferred
stock quality, the ratings from "AA" to "CCC" may be modified by the addition
of a plus or minus sign to show relative standing within the major rating
categories.
CORPORATE BOND RATINGS
MOODY'S
AAA - Bonds rated Aaa are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as
"gilt-edged." Interest payments are protected by a large or exceptionally
stable margin, and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of such issues.
AA - Bonds rated Aa are judged to be high quality by all standards. Together
with the Aaa group, they comprise what are generally known as high-grade
bonds. They are rated lower than the best bonds because margins of protection
may not be as large, fluctuation of protective elements may be of greater
amplitude, or there may be other elements present that make the long-term
risks appear somewhat larger.
A - Bonds rated A possess many favorable investment attributes and are
considered upper medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
that suggest a susceptibility to impairment sometime in the future.
BAA - Bonds rated Baa are considered medium-grade obligations. They are
neither highly protected nor poorly secured. Interest payments and principal
security appear adequate for the present but certain protective elements may
be lacking or may be characteristically unreliable over any great length of
time. These bonds lack outstanding investment characteristics and, in fact,
have speculative characteristics as well.
BA - Bonds rated Ba are judged to have predominantly speculative elements and
their future cannot be considered well assured. Often the protection of
interest and principal payments is very moderate and, thereby, not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B - Bonds rated B generally lack characteristics of the desirable investment.
Assurance of interest and principal payments or of maintenance of other terms
of the contract over any long period of time may be small.
CAA - Bonds rated Caa are of poor standing. These issues may be in default or
there may be present elements of danger with respect to principal or interest.
CA - Bonds rated Ca represent obligations that are speculative to a high
degree. These issues are often in default or have other marked shortcomings.
C - Bonds rated C are the lowest rated class of bonds and can be regarded as
having extremely poor prospects of ever attaining any real investment
standing.
Note: Moody's applies numerical modifiers 1, 2 and 3 in each generic rating
classification from Aa through B in its corporate bond ratings. The modifier
1 indicates that the security ranks in the higher end of its generic rating
category; modifier 2 indicates a mid-range ranking; and modifier 3 indicates
that the issue ranks in the lower end of its generic rating category.
S&P
AAA - This is the highest rating assigned by S&P to a debt obligation and
indicates an extremely strong capacity to pay principal and interest.
AA - Bonds rated AA also qualify as high-quality debt obligations. Capacity
to pay principal and interest is very strong and, in the majority of
instances, differ from AAA issues only in a small degree.
A - Bonds rated A have a strong capacity to pay principal and interest,
although they are somewhat more susceptible to the adverse effects of changes
in circumstances and economic conditions.
BBB - Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit protection parameters,
adverse economic conditions or changing circumstances are more likely to lead
to a weakened capacity to pay principal and interest for bonds in this
category than for bonds in the A category.
BB, B, CCC, CC - Bonds rated BB, B, CCC and CC are regarded, on balance, as
predominantly speculative with respect to the issuer's capacity to pay
interest and repay principal in accordance with the terms of the obligations.
BB indicates the lowest degree of speculation and CC the highest degree of
speculation. While these bonds will likely have some quality and protective
characteristics, they are outweighed by large uncertainties or major risk
exposures to adverse conditions.
C - Bonds rated C are typically subordinated debt to senior debt that is
assigned an actual or implied CCC- rating. The C rating may also reflect the
filing of a bankruptcy petition under circumstances where debt service
payments are continuing. The C1 rating is reserved for income bonds on which
no interest is being paid.
D - Debt rated D is in default and payment of interest and/or repayment of
principal is in arrears.
PLUS (+) OR MINUS (-): The ratings from "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
COMMERCIAL PAPER RATINGS
MOODY'S
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually their promissory obligations not having an original maturity
in excess of nine months. Moody's employs the following designations, all
judged to be investment grade, to indicate the relative repayment capacity of
rated issuers:
P-1 (PRIME-1): Superior capacity for repayment.
P-2 (PRIME-2): Strong capacity for repayment.
S&P
S&P's ratings are a current assessment of the likelihood of timely payment of
debt having an original maturity of no more than 365 days. Ratings are graded
into four categories, ranging from "A" for the highest quality obligations to
"D" for the lowest. Issues within the "A" category are delineated with the
numbers 1, 2 and 3 to indicate the relative degree of safety, as follows:
A-1: This designation indicates the degree of safety regarding timely payment
is very strong. A "plus" (+) designation indicates an even stronger
likelihood of timely payment.
A-2: Capacity for timely payment on issues with this designation is strong.
The relative degree of safety, however, is not as overwhelming as for issues
designated A-1.
A-3: Issues carrying this designation have a satisfactory capacity for timely
payment. They are, however, somewhat more vulnerable to the adverse effects
of changes in circumstances than obligations carrying the higher designations.
FRANKLIN
STRATEGIC SERIES
FRANKLIN BIOTECHNOLOGY DISCOVERY FUN
FRANKLIN GLOBAL HEALTH CARE FUND
FRANKLIN GLOBAL UTILITIES FUND
FRANKLIN NATURAL RESOURCES FUND
STATEMENT OF
ADDITIONAL INFORMATION
SEPTEMBER 1, 1998
777 MARINERS ISLAND BLVD., P.O. BOX 7777
SAN MATEO, CA 94403-7777 1-800/DIAL BEN(R)
TABLE OF CONTENTS
How Do the Funds Invest Their Assets? .............................. 2
What Are the Risks of
Investing in the Funds? ........................................... 13
Investment Restrictions ............................................ 21
Officers and Trustees .............................................. 25
Investment Management
and Other Services ................................................ 29
How Do the Funds Buy Securities
for Their Portfolios? ............................................. 31
How Do I Buy, Sell and Exchange Shares?............................. 32
How Are Fund Shares Valued? ........................................ 35
Additional Information on
Distributions and Taxes ........................................... 36
The Funds' Underwriter ............................................. 41
How Do the Funds Measure Performance?............................... 43
Miscellaneous Information .......................................... 46
Financial Statements ............................................... 47
Useful Terms and Definitions ....................................... 47
Appendix
Description of Ratings ............................................ 48
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When reading this SAI, you will see certain terms beginning with capital
letters. This means the term is explained under "Useful Terms and
Definitions."
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The funds are non-diversified series of Franklin Strategic Series (the
"Trust"), an open-end management investment company. The Prospectus, dated
September 1, 1998, which we may amend from time to time, contains the basic
information you should know before investing in a fund. For a free copy, call
1-800/DIAL BEN.
This SAI describes the funds' Class I shares and Class II shares of the
Health Care Fund and the Utilities Fund. The Natural Resources Fund currently
offers another share class with a different sales charge and expense
structure, which affects performance. To receive more information about the
Natural Resources Fund's other share class, contact your investment
representative or call 1-800/DIAL BEN.
THIS SAI IS NOT A PROSPECTUS. IT CONTAINS INFORMATION IN ADDITION TO AND IN
MORE DETAIL THAN SET FORTH IN THE PROSPECTUS. THIS SAI IS INTENDED TO PROVIDE
YOU WITH ADDITIONAL INFORMATION REGARDING THE ACTIVITIES AND OPERATIONS OF
EACH FUND, AND SHOULD BE READ IN CONJUNCTION WITH THE PROSPECTUS.
- ------------------------------------------------------------------------------
MUTUAL FUNDS, ANNUITIES, AND OTHER INVESTMENT PRODUCTS:
O ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE
FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S. GOVERNMENT;
O ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED BY ANY BANK;
O ARE SUBJECT TO INVESTMENT RISKS, INCLUDING THE POSSIBLE LOSS OF PRINCIPAL.
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HOW DO THE FUNDS INVEST THEIR ASSETS?
WHAT ARE THE FUND'S GOALS?
The investment goal of the BIOTECHNOLOGY FUND is to seek capital appreciation by
investing primarily in securities of biotechnology companies and discovery
research firms located in the U.S. and other countries.
The investment goal of the HEALTH CARE FUND is to seek capital appreciation
by investing primarily in the equity securities of health care companies
located throughout the world. The Health Care Fund will seek to invest in
companies that have, in the opinion of Advisers, the potential for above
average growth in revenues and/or earnings.
The investment goal of the NATURAL RESOURCES FUND is to seek to provide high
total return. The Natural Resources Fund's total return consists of both
capital appreciation and current dividend and interest income.
The investment goal of the UTILITIES FUND is to seek to provide total return,
without incurring undue risk, by investing at least 65% of its total assets
in securities issued by companies that are, in the opinion of Advisers,
primarily engaged in the ownership or operation of facilities used to
generate, transmit or distribute electricity, telephone communications, cable
and other pay television services, wireless telecommunications, gas or water.
Total return consists of both capital appreciation and current dividend and
interest income.
These goals are fundamental, which means that they may not be changed without
shareholder approval.
The following gives more detailed information about the funds' investment
policies and the types of securities that they may buy. Please read this
information together with the section "How Do the Funds Invest Their Assets?"
in the Prospectus.
MORE INFORMATION ABOUT THE KINDS
OF SECURITIES THE FUNDS BUY
EQUITY SECURITIES. The purchaser of an equity security typically receives an
ownership interest in the company as well as certain voting rights. The owner
of an equity security may participate in a company's success through the
receipt of dividends, which are distributions of earnings by the company to
its owners. Equity security owners may also participate in a company's
success or lack of success through increases or decreases in the value of the
company's shares as traded in the public trading market for such shares.
Equity securities generally take the form of common stock or preferred stock.
Preferred stockholders typically receive greater dividends but may receive
less appreciation than common stockholders and may have greater voting rights
as well. Equity securities may also include convertible securities, warrants,
and rights. Warrants or rights give the holder the right to purchase a common
stock at a given time for a specified price.
DEBT SECURITIES. A debt security typically has a fixed payment schedule that
obligates the issuer to pay interest to the lender and to return the lender's
money over a certain time period. A company typically meets its payment
obligations associated with its outstanding debt securities before it
declares and pays any dividend to holders of its equity securities. Bonds,
notes, debentures, and commercial paper differ in the length of the issuer's
payment schedule, with bonds carrying the longest repayment schedule and
commercial paper the shortest.
The market value of debt securities generally varies in response to changes
in interest rates and the financial condition of each issuer. During periods
of declining interest rates, the value of debt securities generally
increases. Conversely, during periods of rising interest rates, the value of
debt securities generally declines. These changes in market value will be
reflected in a fund's Net Asset Value.
REPURCHASE AGREEMENTS. Repurchase agreements are contracts under which the
buyer of a security simultaneously commits to resell the security to the
seller at an agreed upon price and date. Under a repurchase agreement, the
seller is required to maintain the value of the securities subject to the
repurchase agreement at not less than the repurchase price. Advisers will
monitor the value of such securities daily to determine that the value equals
or exceed the repurchase price. Repurchase agreements may involve risks in
the event of default or insolvency of the seller, including possible delays
or restrictions upon a fund's ability to dispose of the underlying
securities. The funds will enter into repurchase agreements only with parties
who meet creditworthiness standards approved by the fund's Board, i.e., banks
or broker-dealers that have been determined by Advisers to present no serious
risk of becoming involved in bankruptcy proceedings within the time frame
contemplated by the repurchase transaction.
Although reverse repurchase agreements are borrowings under the 1940 Act, the
funds do not treat these arrangements as borrowings under their investment
restrictions so long as the segregated account is properly maintained.
LOANS OF PORTFOLIO SECURITIES. The funds may lend to banks and broker-dealers
portfolio securities with an aggregate market value of up to 33% of the
Natural Resources Fund's total assets, one third of the Utilities Fund's
total assets, 20% of the Health Care Fund's total assets, or one third of the
Biotechnology Fund's total assets. Such loans must be secured by collateral
(consisting of any combination of cash, U.S. government securities, or
irrevocable letters of credit) in an amount at least equal (on a daily
marked-to-market basis) to the current market value of the securities loaned.
A fund retains all or a portion of the interest received on investment of the
cash collateral or receives a fee from the borrower. A fund may terminate the
loans at any time and obtain the return of the securities loaned within five
business days. A fund will continue to receive any interest or dividends paid
on the loaned securities and will continue to have voting rights with respect
to the securities. However, as with other extensions of credit, there are
risks of delay in recovery or even loss of rights in collateral should the
borrower fail.
GOVERNMENT SECURITIES - NATURAL RESOURCES FUND AND UTILITIES FUND. Securities
issued or guaranteed by the U.S. government or its agencies or
instrumentalities, including U.S. Treasury bills, notes and bonds, as well as
certain agency securities and mortgage-backed securities issued by the
Government National Mortgage Association (GNMA), may carry guarantees which
are backed by the "full faith and credit" of the U.S. government. The
guarantee extends only to the payment of interest and principal due on the
securities and does not provide any protection from fluctuations in either
the securities' yield or value or to the yield or value of the fund's shares.
Other investments in agency securities are not necessarily backed by the
"full faith and credit" of the U.S. government. These include securities
issued by the Federal National Mortgage Association (FNMA), the Federal Home
Loan Mortgage Corporation, the Student Loan Marketing Association and the
Farm Credit Bank.
The Natural Resources Fund and the Utilities Fund may invest in debt
securities issued or guaranteed by foreign governments. These securities are
typically denominated in foreign currencies and are subject to the currency
fluctuation and other risks of foreign securities investments. The foreign
government securities in which the funds intend to invest generally will
include obligations issued by national, state, or local governments or
similar political subdivisions. Foreign government securities also include
debt obligations of supranational entities, including international
organizations designed or supported by governmental entities to promote
economic reconstruction or development and international banking institutions
and related government agencies. Examples include the International Bank of
Reconstruction and Development (the World Bank), the European Investment
Bank, the Asian Development Bank and the Inter-American Development Bank.
Foreign government securities also include debt securities of
"quasi-governmental agencies" and debt securities denominated in
multinational currency units. An example of a multinational currency unit is
the European Currency Unit. A European Currency Unit represents specified
amounts of the currencies of certain of the 12-member states of the European
Economic Community. Debt securities of quasi-governmental agencies are issued
by entities owned by either a national or local government or are obligations
of a political unit that is not backed by the national government's full
faith and credit and general taxing powers. Foreign government securities
also include mortgage-related securities issued or guaranteed by national or
local governmental instrumentalities, including quasi-governmental agencies.
UTILITY INDUSTRIES - UTILITIES FUND ONLY. Under normal circumstances, the
Utilities Fund will invest at least 65% of its total assets in common stocks,
debt securities and preferred stocks, including preferred or debt securities
convertible into common stocks, of companies in the utility industries. These
companies include ones primarily engaged in the ownership, operation or
manufacture of facilities used to provide electricity, telephone
communications, cable and other pay television services, wireless
telecommunications, gas or water. "Primarily engaged," for this purpose,
means that (1) more than 50% of the company's assets are devoted to the
ownership or operation of one or more facilities as described above or (2)
more than 50% of the company's operating revenues are derived from the
business or combination of businesses described above.
The utility companies in which the Utilities Fund invests may be domestic or
foreign. To meet its objective, the fund may invest in domestic utility
companies that pay higher than average dividends, but have less potential for
capital appreciation. There can be no assurance that the historically
positive relative returns on utility securities will continue to occur in the
future. Advisers believes that the average dividend yields of common stocks
issued by foreign utility companies have also historically exceeded those of
foreign industrial companies' common stocks. To meet its objective, the
Utilities Fund may invest in foreign utility companies that pay lower than
average dividends, but have a greater potential for capital appreciation.
HEALTH CARE COMPANIES - HEALTH CARE FUND ONLY. Many major developments in
health care come from companies based abroad. Thus, in the opinion of
Advisers, a portfolio of only U.S. based health care companies is not
sufficiently diversified to participate in global developments and
discoveries in the field of health care. Advisers believes that health care
is becoming an increasingly globalized industry and that many important
investment opportunities exist abroad. Therefore, Advisers believes that a
portfolio of global securities may provide a greater potential for investment
participation in present and future opportunities that may present themselves
in the health care related industries. Advisers also believes that the U.S.
health care industry may be subject to increasing regulation and government
control, thus a global portfolio may reduce the risk of a single government's
actions on the portfolio. The Health Care Fund concentrates its investments
in a limited group of related industries and is not intended to be a complete
investment program.
DEPOSITARY RECEIPTS. The Natural Resources Fund may invest in American
Depositary Receipts ("ADRs"), and the Utilities Fund, the Health Care Fund,
and the Biotechnology Fund may invest in ADRs, European Depositary Receipts
("EDRs") and Global Depositary Receipts ("GDRs") of non-U.S. issuers. Such
depositary receipts are interests in a pool of a non-U.S. company's
securities that have been deposited with a bank or trust company. The bank or
trust company then sells interests in the pool to investors in the form of
Depositary Receipts. Depositary Receipts can be unsponsored or sponsored by
the issuer of the underlying securities or by the issuing bank or trust
company.
ADRs are usually issued by an American bank or trust company and may be
registered for use in U.S. securities markets. Foreign banks or trust
companies typically issue EDRs and GDRs, although U.S. banks or trust
companies also may issue them. The funds consider investments in Depositary
Receipts to be investments in the equity securities of the issuers into which
the Depositary Receipts may be converted.
Prices of ADRs are quoted in U.S. dollars, and ADRs are traded in the U.S. on
exchanges or over-the-counter. While ADRs do not eliminate all the risks
associated with foreign investments, by investing in ADRs rather than
directly in the stock of foreign issuers, a fund will avoid currency risks
during the settlement period for either purchases or sales and certain
foreign securities markets trading risks. In general, there is a large,
liquid market in the U.S. for ADRs quoted on a national securities exchange
or on the National Association of Securities Dealers Automated Quotation
System ("NASDAQ"). The information available for ADRs is subject to the
accounting, auditing, and financial reporting standards of the U.S. market or
exchange on which they are traded, which standards are more uniform and more
exacting than those to which many foreign issuers may be subject.
Depositary Receipts may be issued under sponsored or unsponsored programs. In
sponsored programs, an issuer has made arrangements to have its securities
traded in the form of Depositary Receipts. In unsponsored programs, the
issuer may not be directly involved in the creation of the program. Although
regulatory requirements with respect to sponsored and unsponsored programs
are generally similar, in some cases it may be easier to obtain financial
information from an issuer that has participated in the creation of a
sponsored program. Accordingly, there may be less information available
regarding issuers of securities underlying unsponsored programs, and there
may not be a correlation between such information and the market value of the
Depositary Receipts.
CONVERTIBLE SECURITIES. Each fund may invest in convertible securities. A
convertible security is generally a debt obligation or preferred stock that
may be converted within a specified period of time into a certain amount of
common stock of the same or a different issuer. A convertible security
provides a fixed-income stream and the opportunity, through its conversion
feature, to participate in the capital appreciation resulting from a market
price advance in its underlying common stock. As with a straight fixed-income
security, a convertible security tends to increase in market value when
interest rates decline and decrease in value when interest rates rise. Like a
common stock, the value of a convertible security also tends to increase as
the market value of the underlying stock rises, and it tends to decrease as
the market value of the underlying stock declines. Because both interest rate
and market movements can influence its value, a convertible security is not
as sensitive to interest rates as a similar fixed-income security, nor is it
as sensitive to changes in share price as its underlying stock.
A convertible security is usually issued either by an operating company or by
an investment bank. When issued by an operating company, a convertible
security tends to be senior to common stock, but subordinate to other types
of fixed-income securities issued by that company. When a convertible
security issued by an operating company is "converted," the operating company
often issues new stock to the holder of the convertible security but, if the
parity price of the convertible security is less than the call price, the
operating company may pay out cash instead of common stock. If the
convertible security is issued by an investment bank, the security is an
obligation of and is convertible through the issuing investment bank.
The issuer of a convertible security may be important in determining the
security's true value. This is because the holder of a convertible security
will have recourse only to the issuer. In addition, a convertible security
may be subject to redemption by the issuer, but only after a specified date
and under circumstances established at the time the security is issued.
While the funds use the same criteria to rate a convertible debt security
that they use to rate a more conventional debt security, a convertible
preferred stock is treated like a preferred stock for the funds' financial
reporting, credit rating, and investment limitation purposes. A preferred
stock is subordinated to all debt obligations in the event of insolvency, and
an issuer's failure to make a dividend payment is generally not an event of
default entitling the preferred shareholder to take action. A preferred stock
generally has no maturity date, so that its market value is dependent on the
issuer's business prospects for an indefinite period of time. In addition,
distributions from preferred stock are dividends, rather than interest
payments, and are usually treated as such for corporate tax purposes.
ENHANCED CONVERTIBLE SECURITIES - UTILITIES FUND ONLY. The Utilities Fund may
invest in convertible preferred stocks that offer enhanced yield features,
such as Preferred Equity Redemption Cumulative Stocks ("PERCS"), which
provide an investor, such as the fund, with the opportunity to earn higher
dividend income than is available on a company's common stock. PERCS are
preferred stocks that generally feature a mandatory conversion date, as well
as a capital appreciation limit, which is usually expressed in terms of a
stated price. Most PERCS expire three years from the date of issue, at which
time they are convertible into common stock of the issuer. PERCS are
generally not convertible into cash at maturity. Under a typical arrangement,
after three years PERCS convert into one share of the issuer's common stock
if the issuer's common stock is trading at a price below that set by the
capital appreciation limit, and into less than one full share if the issuer's
common stock is trading at a price above that set by the capital appreciation
limit. The amount of that fractional share of common stock is determined by
dividing the price set by the capital appreciation limit by the market price
of the issuer's common stock. PERCS can be called at any time prior to
maturity, and hence do not provide call protection. If called early, however,
the issuer must pay a call premium over the market price to the investor.
This call premium declines at a preset rate daily, up to the maturity date.
The Utilities Fund may also invest in other classes of enhanced convertible
securities. These include but are not limited to ACES (Automatically
Convertible Equity Securities), PEPS (Participating Equity Preferred Stock),
PRIDES (Preferred Redeemable Increased Dividend Equity Securities), SAILS
(Stock Appreciation Income Linked Securities), TECONS (Term Convertible
Notes), QICS (Quarterly Income Cumulative Securities), and DECS (Dividend
Enhanced Convertible Securities). ACES, PEPS, PRIDES, SAILS, TECONS, QICS,
and DECS all have the following features: they are issued by the company, the
common stock of which will be received in the event the convertible preferred
stock is converted; unlike PERCS, they do not have a capital appreciation
limit; they seek to provide the investor with high current income with some
prospect of future capital appreciation; they are typically issued with
three- or four-year maturities; they typically have some built-in call
protection for the first two to three years; and, upon maturity, they will
necessarily convert into either cash or a specified number of shares of
common stock.
Similarly, there may be enhanced convertible debt obligations issued by the
operating company, whose common stock is to be acquired in the event the
security is converted, or by a different issuer, such as an investment bank.
These securities may be identified by names such as ELKS (Equity Linked
Securities) or similar names. Typically they share most of the salient
characteristics of an enhanced convertible preferred stock but will be ranked
as senior or subordinated debt in the issuer's corporate structure according
to the terms of the debt indenture. There may be additional types of
convertible securities not specifically referred to herein which may be also
similar to those described in which the fund may invest, consistent with
their objectives and policies.
An investment in an enhanced convertible security or any other security may
involve additional risks to the Utilities Fund. The Utilities Fund may have
difficulty disposing of such securities because there may be a thin trading
market for a particular security at any given time. Reduced liquidity may
have an adverse impact on market price and the Utilities Fund's ability to
dispose of particular securities, when necessary, to meet the fund's
liquidity needs or in response to a specific economic event, such as the
deterioration in the credit worthiness of an issuer. Reduced liquidity in the
secondary market for certain securities may also make it more difficult for
the Utilities Fund to obtain market quotations based on actual trades for
purposes of valuing the fund's portfolio. The funds, however, intend to
acquire liquid securities, though there can be no assurances that they will
be able to do so.
ILLIQUID INVESTMENTS. Each fund's policy is not to invest more than 15% of
its net assets (10% in the case of the Health Care Fund) in illiquid
securities. The Natural Resources Fund may invest up to 5% of its net assets
in illiquid securities the disposition of which may be subject to legal or
contractual restrictions. The Natural Resources Fund and the Utilities Fund
currently intend to limit their investments in illiquid securities, including
illiquid securities with legal or contractual restrictions on resale, except
for Rule 144A restricted securities, and including securities which are not
readily marketable, to 10% of net assets.
A fund does not consider securities that it acquires outside the U.S. and
that are publicly traded in the U.S. or on a foreign securities exchange or
in a foreign securities market to be illiquid assets so long as the fund
acquires and holds the security with the intention of reselling the security
in the foreign trading market, the fund reasonably believes it can readily
dispose of the security for cash at approximately the amount at which the
fund has valued the security in the U.S. or foreign market, and current
market quotations are readily available.
Subject to these limitations, the Board has authorized each fund to invest in
restricted securities where such investments are consistent with the fund's
investment objective and has authorized such securities to be considered
liquid to the extent Advisers determines that there is a liquid institutional
or other market for the securities. An example of these securities are
restricted securities that may be freely transferred among qualified
institutional buyers under Rule 144A of the Securities Act of 1933, as
amended, and for which a liquid institutional market has developed. The Board
will review any determination by Advisers to treat a restricted security as a
liquid security on an ongoing basis, including Advisers' assessment of
current trading activity and the availability of reliable price information.
In determining whether a restricted security is properly considered a liquid
security, Advisers and the Board will take into account the following
factors: (i) the frequency of trades and quotes for the security; (ii) the
number of dealers willing to buy or sell the security and the number of other
potential buyers; (iii) dealer undertakings to make a market in the security;
and (iv) the nature of the security and marketplace trades (e.g., the time
needed to dispose of the security, the method of soliciting offers, and the
mechanics of transfer). To the extent a fund invests in restricted securities
that are deemed liquid, the general level of illiquidity in the fund may be
increased if qualified institutional buyers become uninterested in buying
these securities or the market for these securities contracts.
WHEN-ISSUED OR DELAYED DELIVERY TRANSACTIONS - NATURAL RESOURCES FUND AND
UTILITIES FUND. The Natural Resources Fund and the Utilities Fund may buy
securities on a when-issued or delayed delivery basis. These transactions are
arrangements under which a fund buys securities with payment and delivery
scheduled for a future time. The securities are subject to market fluctuation
prior to delivery to the fund and generally do not earn interest until their
scheduled delivery date. Therefore, the value or yields at delivery may be
more or less than the purchase price or the yields available when the
transaction was entered into. Although the funds will generally buy these
securities on a when-issued basis with the intention of acquiring the
securities, they may sell the securities before the settlement date if it is
deemed advisable. When a fund is the buyer, it will maintain, in a segregated
account with its custodian bank, cash or high-grade marketable securities
having an aggregate value equal to the amount of its purchase commitments
until payment is made. In such an arrangement, the fund relies on the seller
to complete the transaction. The seller's failure to do so may cause the fund
to miss a price or yield considered advantageous. The funds are not subject
to any percentage limit on the amount of their assets that may be invested in
when-issued purchase obligations. To the extent a fund engages in when-issued
and delayed delivery transactions, it will do so only for the purpose of
acquiring portfolio securities consistent with its investment objective and
policies, and not for the purpose of investment leverage.
STANDBY COMMITMENT AGREEMENTS - NATURAL RESOURCES FUND AND UTILITIES FUND.
The Natural Resources Fund and the Utilities Fund may, from time to time,
enter into standby commitment agreements. These agreements commit a fund, for
a stated period of time, to buy a stated amount of a security that may be
issued and sold to the fund at the option of the issuer. The price and coupon
of the security is fixed at the time of the commitment. When a fund enters
into the agreement, the fund is paid a commitment fee, regardless of whether
the security is ultimately issued, typically equal to approximately 0.5% of
the aggregate purchase price of the security that the fund has committed to
buy. The funds will enter into such agreements only for the purpose of
investing in the security underlying the commitment at a yield and/or price
that is considered advantageous.
The funds will not enter into a standby commitment with a remaining term in
excess of 45 days and will limit their investment in standby commitments so
that the aggregate purchase price of the securities subject to the
commitments with remaining terms exceeding seven days, together with the
value of other portfolio securities deemed illiquid, will not exceed the
respective fund's limit on holding illiquid investments, taken at the time of
acquisition of such commitment or security. Each fund will at all times
maintain a segregated account with its custodian bank of cash, cash
equivalents, U.S. government securities, or other high grade liquid debt
securities denominated in U.S. dollars or non-U.S. currencies in an aggregate
amount equal to the purchase price of the securities underlying the
commitment.
There can be no assurance that the securities subject to a standby commitment
will be issued, and the value of the security, if issued, on the delivery
date may be more or less than its purchase price. Since the issuance of the
security underlying the commitment is at the option of the issuer, a fund may
bear the risk of a decline in the value of the security and may not benefit
from an appreciation in the value of the security during the commitment
period.
The purchase of a security subject to a standby commitment agreement and the
related commitment fee will be recorded on the date on which the security can
reasonably be expected to be issued, and the value of the security will
thereafter be reflected in the calculation of the fund's Net Asset Value. The
cost basis of the security will be adjusted by the amount of the commitment
fee. In the event the security is not issued, the commitment fee will be
recorded as income on the expiration date of the standby commitment.
HEDGING TRANSACTIONS - ALL FUNDS
The BIOTECHNOLOGY FUND may engage in the following types of transactions:
purchase and sell exchange-listed and OTC put and call options on securities,
equity and fixed-income indices and other financial instruments; purchase and
sell financial futures contracts and options thereon; and enter into various
currency transactions such as currency forward contracts, currency futures
contracts, currency swaps or options on currencies or currency futures. The
fund may also use these various techniques for non-hedging purposes. For
example, these techniques may be used to produce income to the fund where the
fund's participation in the transaction involves the payment of a premium to
the fund. The fund may also use a hedging technique to bet on the fluctuation
of certain indices, currencies, or economic or market changes such as a
reduction in interest rates. No more than 5% of the fund's assets will be
exposed to risks of such types of instruments when entered into for
non-hedging purposes.
The HEALTH CARE FUND may write (sell) covered put and call options and buy
put and call options on securities that trade on securities exchanges and in
the over-the-counter market. The fund may buy and sell futures and options on
futures with respect to securities and currencies. Additionally, the fund may
buy and sell futures and options to "close out" futures and options it may
have sold or bought. The fund may seek to protect capital through the use of
forward currency exchange contracts. The fund will not engage in transactions
in futures contracts or related options for speculation but only as a hedge
against changes resulting from market conditions in the values of its
securities or securities that it intends to buy. The fund will not enter into
any stock index or financial futures contract or related option if,
immediately thereafter, more than one-third of the fund's net assets would be
represented by futures contracts or related options. In addition, the fund
may not buy or sell futures contracts or buy or sell related options (except
for closing transactions) if, immediately thereafter, the sum of the amount
of margin deposits on its existing futures and related options positions and
premiums paid for related options would exceed 5% of the market value of the
fund's total assets. The fund will not engage in any stock options or stock
index options if the option premiums paid regarding its open option positions
exceed 5% of the value of the fund's total assets. The fund may buy foreign
currency futures contracts and options if not more than 5% of its assets are
then invested as initial or variation margin deposits on contracts or
options. In instances involving the purchase of futures contracts or related
call options, money market instruments equal to the market value of the
futures contract or related option will be deposited in a segregated account
with the fund's custodian bank to collateralize such long positions.
In order to hedge against currency exchange rate risks, the NATURAL RESOURCES
FUND may enter into forward currency exchange contracts and currency futures
contracts and options on such futures contracts, as well as buy put or call
options and write covered put and call options on currencies traded in U.S.
or foreign markets. The fund may also buy and sell forward contracts (to the
extent they are not deemed commodities) for non-hedging purposes when
Advisers anticipates that the foreign currency will appreciate or depreciate
in value, but securities denominated in that currency do not present
attractive investment opportunities and are not held in the fund's portfolio.
The fund generally will not enter into a forward contract with a term of
greater than one year.
The UTILITIES FUND may engage in various portfolio strategies to seek to
hedge its portfolio against adverse movements in the equity, debt and
currency markets. The fund may deal in forward foreign currency exchange
transactions and foreign currency options and futures and options on such
futures. The fund will not buy foreign currency futures contracts if more
than 5% of its assets are then invested as initial or variation margin
deposits on such contracts or related options. The fund may also write (i.e.,
sell) covered put and call options on its portfolio securities, buy put and
call options on securities and engage in transactions in stock index options
and financial futures, including stock and bond index futures and related
options on such futures. The fund does not currently intend to write put
options. The fund will not enter into any stock index or financial futures
contract or related option if, immediately thereafter, more than one-third of
the fund's net assets would be represented by futures contracts or related
options. The fund will not enter into any futures contract or related options
(except for closing transactions) if, immediately thereafter, the sum of the
amount of its initial deposits and premiums on open contracts and options
would exceed 5% of its total assets (taken at current value). The fund will
not engage in any securities options or securities index options if the
option premiums paid regarding its open option positions exceed 5% of the
value of its total assets. Although certain risks are involved in options and
futures transactions, Advisers believes that, because the fund will write
only covered options on portfolio securities, and engage in other options and
futures transactions only for hedging purposes, the options and futures
portfolio strategies of the fund will not subject the fund to the risks
frequently associated with the speculative use of options and futures
transactions. While the fund's use of hedging strategies is intended to
reduce the volatility of the Net Asset Value of fund shares, the fund's Net
Asset Value will fluctuate. There can be no assurance that the fund's hedging
transactions will be effective. Furthermore, the fund will only engage in
hedging activities from time to time and may not necessarily be engaging in
hedging activities when movement in the equity, debt and currency markets
occurs.
The funds' transactions in options, futures contracts, and forward contracts
may be limited by the requirements of the Code for qualification as a
regulated investment company. These transactions are also subject to special
tax rules that may affect the amount, timing, and character of certain
distributions to shareholders. For more information, please see "Additional
Information on Distributions and Taxes."
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS - ALL FUNDS. The funds may enter
into forward foreign currency exchange contracts ("Forward Contract(s)") to
attempt to minimize the risk to the fund from adverse changes in the
relationship between currencies or to enhance income. A Forward Contract is
an obligation to buy or sell a specific currency for an agreed price at a
future date and is individually negotiated and privately traded by currency
traders and their customers.
A fund may enter into a Forward Contract, for example, when it enters into a
contract for the purchase or sale of a security denominated in a foreign
currency in order to "lock-in" the U.S. dollar price of that security.
Additionally, when a fund believes that a foreign currency may suffer a
substantial decline against the U.S. dollar, it may enter into a Forward
Contract to sell an amount of that foreign currency approximating the value
of some or all of the fund's portfolio securities denominated in that foreign
currency. Similarly, when a fund believes that the U.S. dollar may suffer a
substantial decline against a foreign currency, it may enter into a Forward
Contract to buy that foreign currency for a fixed dollar amount.
To limit potential risks in connection with the purchase of currency under
Forward Contracts, cash, cash equivalents or readily marketable high grade
debt securities equal to the amount of the purchase will be held aside or in
a segregated account with the relevant fund's custodian bank to be used to
pay for the commitment, or the fund will cover any commitments under these
contracts to sell currency by owning the underlying currency (or an absolute
right to acquire the currency). The segregated account will be
marked-to-market on a daily basis.
Forward Contracts may limit the potential gain from a positive change in the
relationship between the U.S. dollar and foreign currencies or between
foreign currencies. Unanticipated changes in currency exchange rates also may
result in poorer overall performance for a fund than if it had not entered
into Forward Contracts.
FOREIGN CURRENCY FUTURES - ALL FUNDS. The funds may buy and sell foreign
currency futures contracts to hedge against changes in the level of future
currency rates. These contracts involve an agreement to buy or sell a
specific currency at a future date at a price set in the contract. Assets
will be held aside or in a segregated account with the fund's custodian bank
as required to cover the fund's obligations under its foreign currency
futures contracts.
OPTIONS ON FOREIGN CURRENCIES - ALL FUNDS. The funds may buy and write put
and call options on foreign currencies traded on U.S. and foreign exchanges
or over-the-counter, for hedging purposes to protect against declines in the
U.S. dollar value of foreign portfolio securities or other assets to be
acquired. As with other kinds of options, the writing of an option on foreign
currency will only be a partial hedge, up to the amount of the premium
received, and a fund could be required to buy or sell foreign currencies at
disadvantageous exchange rates, thereby incurring losses. The purchase of an
option on foreign currency may be an effective hedge against fluctuations in
exchange rates although, in the event of rate movements adverse to the fund's
position, a fund may forfeit the entire amount of the premium plus related
transaction costs.
A decline in the dollar value of a foreign currency in which portfolio
securities are denominated will reduce the dollar value of the securities,
even if their value in the foreign currency remains constant. In order to
protect against such diminutions in the value of portfolio securities, the
funds may buy put options on the foreign currency. If the value of the
currency does decline, a fund will have the right
to sell the currency for a fixed amount in dollars and will thereby offset,
in whole or part, the adverse effect on its portfolio which otherwise would
have resulted.
Conversely, where a rise in the dollar value of a currency in which
securities to be acquired are denominated is projected, thereby increasing
the cost of such securities, the funds may buy call options thereon. The
purchase of such options could offset, at least partially, the effects of the
adverse movements in exchange rates. As in the case of other types of
options, however, the benefit to a fund deriving from purchases of foreign
currency options will be reduced by the amount of the premium and related
transaction costs. In addition, where currency exchange rates do not move in
the direction or to the extent anticipated, a fund could sustain losses on
transactions in foreign currency options that would require it to forego a
portion or all of the benefits of advantageous changes in such rates.
The funds may write options on foreign currencies for the same types of
hedging purposes. For example, where a fund anticipates a decline in the
dollar value of foreign currency denominated securities due to adverse
fluctuations in exchange rates it could, instead of buying a put option,
write a call option on the relevant currency. If the expected decline occurs,
the option will most likely not be exercised, and the decline in value of
portfolio securities will be offset by the amount of the premium received.
Similarly, instead of buying a call option to hedge against an anticipated
increase in the dollar cost of securities to be acquired, a fund could write
a put option on the relevant currency which, if rates move in the manner
projected, will expire unexercised and allow the fund to hedge such increased
cost up to the amount of the premium. As in the case of other types of
options, however, the writing of a foreign currency option will constitute
only a partial hedge up to the amount of the premium, and only if rates move
in the expected direction. If this does not occur, the option may be
exercised and the fund would be required to buy or sell the underlying
currency at a loss, which may not be offset by the amount of the premium.
Through the writing of options on foreign currencies, a fund also may be
required to forego all or a portion of the benefits that might otherwise have
been obtained from favorable movements in exchange rates.
The funds intend to write covered call options on foreign currencies. A call
option written on a foreign currency is "covered" if the fund owns the
underlying foreign currency covered by the call or has an absolute and
immediate right to acquire that foreign currency without additional cash
consideration (or for additional cash consideration held in a segregated
account by its custodian bank) upon conversion or exchange of other foreign
currency held in its portfolio. A call option is also covered if the fund has
a call on the same foreign currency and in the same principal amount as the
call written where the exercise price of the call held is (a) equal to
or less than the exercise price of the call written or (b) greater than the
exercise price of the call written if the difference is maintained by the
fund in cash, U.S. government securities, or other high grade liquid debt
securities in a segregated account with its custodian bank.
The funds also intend to write call options on foreign currencies that are
not covered for cross-hedging purposes. A call option on a foreign currency
is for cross-hedging purposes if it is not covered, but is designed to
provide a hedge against a decline in the U.S. dollar value of a security
which the fund owns or has the right to acquire and which is denominated in
the currency underlying the option due to an adverse change in the exchange
rate. In such circumstances, a fund collateralizes the option by maintaining
in a segregated account with the fund's custodian bank, cash or U.S.
government securities or other high grade liquid debt securities in an amount
not less than the value of the underlying foreign currency in U.S. dollars
marked-to-market daily.
OPTIONS AND FINANCIAL FUTURES - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND.
The funds may write covered put and call options and buy put and call options
on stocks, stock indices, and bonds that trade on securities exchanges and in
the over-the-counter market. The funds may buy and sell futures and options
on futures with respect to stock and bond indices. Additionally, the funds
may engage in "close-out" transactions with respect to futures and options.
WRITING CALL OPTIONS - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND. Call
options written by a fund give the holder the right to buy the underlying
securities from the fund at a stated exercise price. A call option written by
a fund is "covered" if the fund owns the underlying security that is subject
to the call or has an absolute and immediate right to acquire that security
without additional cash consideration (or for additional cash consideration
held in a segregated account by its custodian bank) upon conversion or
exchange of other securities held in its portfolio. A call option is also
covered if the fund holds a call on the same security and in the same
principal amount as the call written where the exercise price of the call
held is (a) equal to or less than the exercise price of the call written or
(b) greater than the exercise price of the call written if the difference is
maintained by the fund in cash and high grade debt securities in a segregated
account with its custodian bank. The premium paid by the buyer of an option
will reflect, among other things, the relationship of the exercise price to
the market price and volatility of the underlying security, the remaining
term of the option, supply and demand, and interest rates.
With regard to certain options, the writer of an option may have no control
over when the underlying securities must be sold, in the case of a call
option, because the writer may be assigned an exercise notice at any time
before the termination of the obligation. Whether or not an option expires
unexercised, the writer retains the amount of the premium. This amount may,
in the case of a covered call option, be offset by a decline in the market
value of the underlying security during the option period. If a call option
is exercised, the writer experiences a profit or loss from the sale of the
underlying security.
The writer of an option that wishes to terminate its obligation may effect a
"closing purchase transaction" by buying an option of the same series as the
option previously written. The effect of the purchase is that the clearing
corporation will cancel the writer's position. A writer may not effect a
closing purchase transaction, however, after being notified of the exercise
of an option. Likewise, an investor who is the holder of an option may
liquidate its position by effecting a "closing sale transaction" by selling
an option of the same series as the option previously purchased. There is no
guarantee that either a closing purchase or a closing sale transaction can be
effected.
Effecting a closing transaction in the case of a written call option will
allow a fund to write another call option on the underlying security with
either a different exercise price or expiration date or both. Also, effecting
a closing transaction will allow the cash or proceeds from the concurrent
sale of any securities subject to the option to be used for other fund
investments. If a fund desires to sell a particular security from its
portfolio on which it has written a call option, it will effect a closing
transaction before or at the same time as the sale of the security.
A fund will realize a profit from a closing transaction if the price of the
transaction is less than the premium received from writing the option or is
more than the premium paid to buy the option. A fund will realize a loss from
a closing transaction if the price of the transaction is more than the
premium received from writing the option or is less than the premium paid to
buy the option. Because increases in the market price of a call option will
generally reflect increases in the market price of the underlying security,
any loss resulting from the repurchase of a call option is likely to be
offset in whole or in part by appreciation of the underlying security owned
by the fund.
BUYING CALL OPTIONS - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND. Each fund
may buy call options on securities that it intends to purchase in order to
limit the risk of a substantial increase in the market price of such
security. Each fund may also buy call options on securities held in its
portfolio and on which it has written call options. A call option gives the
holder the right to buy the underlying securities from the option writer at a
stated exercise price. Before its expiration, a call option may be sold in a
closing sale transaction. Profit or loss from the sale will depend on whether
the amount received is more or less than the premium paid for the call option
plus related transaction costs.
WRITING PUT OPTIONS - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND. The funds
may write covered put options. A put option gives the buyer of the option the
right to sell, and the writer (seller) the obligation to buy, the underlying
security at the exercise price during the option period. The option may be
exercised at any time before its expiration date. The operation of put
options in other respects, including their related risks and rewards, is
substantially identical to that of call options.
If a fund writes put options, it will do so on a covered basis. This means
that the fund would maintain, in a segregated account, cash, U.S. government
securities, or other liquid, high-grade debt securities in an amount not less
than the exercise price at all times while the put option is outstanding. The
rules of the clearing corporation currently require that such assets be
deposited in escrow to secure payment of the exercise price. A fund would
generally write covered put options when Advisers wants to buy the underlying
security or currency for the fund's portfolio at a price lower than the
current market price of the security or currency. In this event, the fund
would write a put option at an exercise price that, reduced by the premium
received on the option, reflects the lower price it is willing to pay. Since
the fund would also receive interest on debt securities maintained to cover
the exercise price of the option, this technique could be used to enhance
current return during periods of market uncertainty. The risk in such a
transaction would be that the market price of the underlying security or
currency would decline below the exercise price less the premiums received.
BUYING PUT OPTIONS - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND. Each fund
may buy a put option on an underlying security or currency owned by the fund
as a hedging technique in order to protect against an anticipated decline in
the value of the security or currency (a "protective put"). Such hedge
protection is provided only during the life of the put option when a fund, as
the holder of the put option, is able to sell the underlying security or
currency at the put exercise price, regardless of any decline in the
underlying security's market price or currency's exchange value. For example,
a put option may be purchased in order to protect unrealized appreciation of
a security or currency when Advisers deems it desirable to continue to hold
the security or currency because of tax considerations. The premium paid for
the put option and any transaction costs would reduce any capital gain
otherwise available for distribution when the security or currency is
eventually sold.
A fund may also buy put options at a time when the fund does not own the
underlying security or currency. By buying put options on a security or
currency it does not own, a fund seeks to benefit from a decline in the
market price of the underlying security or currency. If the put option is not
sold when it has remaining value, and if the market price of the underlying
security or currency remains equal to or greater than the exercise price
during the life of the put option, a fund will lose its entire investment in
the put option. In order for the purchase of a put option to be profitable,
the market price of the underlying security or currency must decline
sufficiently below the exercise price to cover the premium and transaction
costs, unless the put option is sold in a closing sale transaction.
The premium paid by a fund when buying a put option will be recorded as an
asset in the fund's statement of assets and liabilities. This asset will be
adjusted daily to the option's current market value, which will be the latest
sale price at the time at which the Net Asset Value per share of the fund is
computed. The asset will be extinguished upon expiration of the option, the
writing of an identical option in a closing transaction, or the delivery of
the underlying security or currency upon the exercise of the option.
OVER-THE-COUNTER ("OTC") OPTIONS - ALL FUNDS EXCEPT THE NATURAL RESOURCES
FUND. Each fund intends to write covered put and call options and buy put and
call options that trade in the over-the-counter market to the same extent
that it will engage in exchange traded options. OTC options, however, differ
from exchange traded options in certain material respects.
OTC options are arranged directly with dealers and not, as is the case with
exchange traded options, with a clearing corporation. Thus, there is a risk
of non-performance by the dealer. Because there is no exchange, pricing is
typically done by reference to information from market makers. OTC options
are available, however, for a greater variety of securities, and in a wider
range of expiration dates and exercise prices, than exchange traded options,
and the writer of an OTC option is paid the premium in advance by the dealer.
The funds understand the current position of the staff of the SEC to be that
purchased OTC options are illiquid securities and that the assets used to
cover the sale of an OTC option are considered illiquid. The funds and
Advisers disagree with this position. Nevertheless, pending a change in the
staff's position, each fund will treat OTC options and "cover" assets as
subject to the fund's limitation on illiquid securities.
OPTIONS ON STOCK INDICES - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND. The
funds may buy call and put options on stock indices in order to hedge against
the risk of market or industry-wide stock price fluctuations. Call and put
options on stock indices are similar to options on securities except that,
rather than the right to buy or sell stock at a specified price, options on a
stock index give the holder the right to receive, upon exercise of the
option, an amount of cash if the closing level of the underlying stock index
is greater than (or less than, in the case of puts) the exercise price of the
option. This amount of cash is equal to the difference between the closing
price of the index and the exercise price of the option, expressed in dollars
multiplied by a specified number. Thus, unlike stock options, all settlements
are in cash, and gain or loss depends on price movements in the stock market
generally (or in a particular industry or segment of the market) rather than
price movements in individual stocks.
When a fund writes an option on a stock index, the fund will establish a
segregated account containing cash or high quality fixed-income securities
with its custodian bank in an amount at least equal to the market value of
the underlying stock index and will maintain the account while the option is
open or it will otherwise cover the transaction.
FUTURES CONTRACTS - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND. The funds
may enter into contracts for the purchase or sale for future delivery of
securities and in such contracts based upon financial indices ("financial
futures"). Financial futures contracts are commodity contracts that obligate
the long or short holder to take or make delivery of a specified quantity of
a financial instrument, such as a security, or the cash value of a securities
index during a specified future period at a specified price. A "sale" of a
futures contract means the acquisition of a contractual obligation to deliver
the securities called for by the contract at a specified price on a specified
date. A "purchase" of a futures contract means the acquisition of a
contractual obligation to acquire the securities called for by the contract
at a specified price on a specified date. Futures contracts have been
designed by exchanges that have been designated "contracts markets" by the
Commodity Futures Trading Commission ("CFTC") and must be executed through a
futures commission merchant, or brokerage firm, which is a member of the
relevant contract market.
At the same time a futures contract is purchased or sold, a fund must
allocate cash or securities as a deposit payment ("initial deposit"). Daily
thereafter, the futures contract is valued and the payment of "variation
margin" may be required since each day the fund would provide or receive cash
that reflects any decline or increase in the contract's value.
Although futures contracts by their terms call for the actual delivery or
acquisition of securities, in most cases the contractual obligation is
fulfilled before the date of the contract without having to make or take
delivery of the securities. The offsetting of a contractual obligation is
accomplished by buying (or selling, as the case may be) on a commodities
exchange an identical futures contract calling for delivery in the same
month. Such a transaction, which is effected through a member of an exchange,
cancels the obligation to make or take delivery of the securities. Since all
transactions in the futures market are made, offset or fulfilled through a
clearinghouse associated with the exchange on which the contracts are traded,
a fund will incur brokerage fees when it buys or sells futures contracts.
A fund will generally not engage in transactions in futures contracts or
related options for speculation but only as a hedge against changes resulting
from market conditions in the values of its securities or securities that it
intends to buy. The purpose of the acquisition or sale of a futures contract
is to attempt to protect the fund from fluctuations in price of portfolio
securities without actually buying or selling the underlying security. To the
extent a fund enters into a futures contract, it will maintain with its
custodian bank, to the extent required by the rules of the SEC, assets in a
segregated account to cover its obligations with respect to such contract
which will consist of cash, cash equivalents, or high quality debt securities
from its portfolio in an amount equal to the difference between the
fluctuating market value of such futures contract and the aggregate value of
the initial and variation margin payments made by the fund with respect to
such futures contracts.
STOCK INDEX FUTURES - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND. A stock
index futures contract obligates the seller to deliver (and the buyer to
take) an amount of cash equal to a specific dollar amount times the
difference between the value of a specific stock index at the close of the
last trading day of the contract and the price at which the agreement is
made. No physical delivery of the underlying stocks in the index is made.
Each fund may sell stock index futures contracts in anticipation of or during
a market decline to attempt to offset the decrease in market value of its
equity securities that might otherwise result. When a fund is not fully
invested in stocks and anticipates a significant market advance, it may
purchase stock index futures in order to gain rapid market exposure that may
in part or entirely offset increases in the cost of common stocks that it
intends to buy.
OPTIONS ON STOCK INDEX FUTURES - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND.
The funds may buy and sell call and put options on stock index futures to
hedge against risks of market-side price movements. The need to hedge against
such risks will depend on the extent of diversification of the fund's common
stock portfolio and the sensitivity of such investments to factors
influencing the stock market as a whole.
Call and put options on stock index futures are similar to options on
securities except that, rather than the right to buy or sell stock at a
specified price, options on stock index futures give the holder the right to
receive cash. Upon exercise of the option, the delivery of the futures
position by the writer of the option to the holder of the option will be
accompanied by delivery of the accumulated balance in the writer's futures
margin account which represents the amount by which the market price of the
futures contract, at exercise, exceeds, in the case of a call, or is less
than, in the case of a put, the exercise price of the option on the futures
contract. If an option is exercised on the last trading day before the
expiration date of the option, the settlement will be made entirely in cash
equal to the difference between the exercise price of the option and the
closing price of the futures contract on the expiration date.
BOND INDEX FUTURES AND RELATED OPTIONS - ALL FUNDS EXCEPT THE NATURAL
RESOURCES FUND. The funds may purchase and sell futures contracts based on an
index of debt securities and options on such futures contracts to the extent
they currently exist and, in the future, may be developed. The funds reserve
the right to conduct futures and options transactions based on an index which
may be developed in the future to correlate with price movements in certain
categories of debt securities. Each fund's investment strategy in employing
futures contracts based on an index of debt securities will be similar to
that used by it in other financial futures transactions.
The funds also may buy and write put and call options on bond index futures
and enter into closing transactions with respect to such options.
FUTURE DEVELOPMENTS - ALL FUNDS EXCEPT THE NATURAL RESOURCES FUND. Each fund
may take advantage of opportunities in the area of options and futures
contracts and options on futures contracts and any other derivative
investments that are not presently contemplated for use by the fund or which
are not currently available but which may be developed, to the extent such
opportunities are both consistent with the fund's investment goal and legally
permissible for the fund.
WHAT ARE THE RISKS OF
INVESTING IN THE FUNDS?
FOREIGN SECURITIES. You should consider carefully the substantial risks
involved in securities of companies of foreign nations, which are in addition
to the usual risks inherent in domestic investments.
There may be less publicly available information about foreign companies
comparable to the reports and ratings published about companies in the U.S.
Foreign companies are not generally subject to uniform accounting or
financial reporting standards, and auditing practices and requirements may
not be comparable to those applicable to U.S. companies. The funds,
therefore, may encounter difficulty in obtaining market quotations for
purposes of valuing their portfolios and calculating their Net Asset Values.
Foreign markets have substantially less volume than the NYSE, and securities
of some foreign companies are less liquid and more volatile than securities
of comparable U.S. companies. Commission rates in foreign countries, which
are generally fixed rather than subject to negotiation as in the U.S., are
likely to be higher. In many foreign countries there is less government
supervision and regulation of stock exchanges, brokers, and listed companies
than in the U.S.
Investments in companies domiciled in developing countries may be subject to
potentially higher risks than investments in developed countries. These risks
include (i) less social, political, and economic stability; (ii) the small
current size of the markets for such securities and the currently low or
nonexistent volume of trading, which result in a lack of liquidity and in
greater price volatility; (iii) certain national policies which may restrict
a fund's investment opportunities, including restrictions on investment in
issuers or industries deemed sensitive to national interests; (iv) foreign
taxation; (v) the absence of developed legal structures governing private or
foreign investment or allowing for judicial redress for injury to private
property; (vi) the absence, until recently in certain Eastern European
countries, of a capital market structure or market-oriented economy; and
(vii) the possibility that recent favorable economic developments in Eastern
Europe may be slowed or reversed by unanticipated political or social events
in such countries.
In addition, many countries in which the funds may invest have experienced
substantial, and in some periods extremely high, rates of inflation for many
years. Inflation and rapid fluctuations in inflation rates have had and may
continue to have negative effects on the economies and securities markets of
certain countries. Moreover, the economies of some developing countries may
differ favorably or unfavorably from the U.S. economy in such respects as
growth of gross domestic product, rate of inflation, currency depreciation,
capital reinvestment, resource self-sufficiency, and balance of payments
position.
Investing in Russian companies involves a high degree of risk and special
considerations not typically associated with investing in the U.S. securities
markets, and should be considered highly speculative. Such risks include,
together with Russia's continuing political and economic instability and the
slow-paced development of its market economy, the following: (a) delays in
settling portfolio transactions and risk of loss arising out of Russia's system
of share registration and custody; (b) the risk that it may be impossible or
more difficult than in other countries to obtain and/or enforce a judgment; (c)
pervasiveness of corruption, insider trading, and crime in the Russian economic
system; (d) currency exchange rate volatility and the lack of available currency
hedging instruments; (e) higher rates of inflation (including the risk of social
unrest associated with periods of hyper-inflation); (f) controls on foreign
investment and local practices disfavoring foreign investors and limitations on
repatriation of invested capital, profits, and dividends, and on the fund's
ability to exchange local currencies for U.S. dollars; (g) the risk that the
government of Russia or other executive or legislative bodies may decide not to
continue to support the economic reform programs implemented since the
dissolution of the Soviet Union and could follow radically different political
and/or economic policies to the detriment of investors, including
non-market-oriented policies such as the support of certain industries at the
expense of other sectors or investors, a return to the centrally planned economy
that existed prior to the dissolution of the Soviet Union, or the
nationalization of privatized enterprises; (h) the risks of investing in
securities with substantially less liquidity and in issuers having significantly
smaller market capitalization, when compared to securities and issuers in more
developed markets; (i) the difficulties associated in obtaining accurate market
valuations of many Russian securities, based partly on the limited amount of
publicly available information; (j) the financial condition of Russian
companies, including large amounts of inter-company debt which may create a
payments crisis on a national scale; (k) dependency on exports and the
corresponding importance of international trade; (l) the risk that the Russian
tax system will not be reformed to prevent inconsistent, retroactive and/or
exorbitant taxation or, in the alternative, the risk that a reformed tax system
may result in the inconsistent and unpredictable enforcement of the new tax
laws; (m) possible difficulty in identifying a purchaser of securities held by
the fund due to the underdeveloped nature of the securities markets; (n) the
possibility that pending legislation could restrict the levels of foreign
investment in certain industries, thereby limiting the number of investment
opportunities in Russia; (o) the risk that pending legislation would confer to
Russian courts the exclusive jurisdiction to resolve disputes between foreign
investors and the Russian government, instead of bringing such disputes before
and internationally-accepted third-country arbitrator; and (p) the difficulty in
obtaining information about the financial condition of Russian issuers, in light
of the different disclosure and accounting standards applicable to Russian
companies.
There is little long-term historical data on Russian securities markets
because they are relatively new, and a substantial proportion of securities
transactions in Russia is privately negotiated outside of stock exchanges.
Because of the recent formation of the securities markets as well as the
underdeveloped state of the banking and telecommunications systems,
settlement, clearing, and registration of securities transactions are subject
to significant risks. Ownership of shares (except where shares are held
through depositories that meet the requirements of the 1940 Act) is defined
according to entries in the company's share register and normally evidenced
by extracts from the register or by formal share certificates. However, there
is no central registration system for shareholder, and these services are
carried out by the companies themselves or by registrars located throughout
Russia. These registrars are not necessarily subject to effective state
supervision, nor are they licensed with any governmental entity, and it is
possible for a fund to lose its registration through fraud, negligence, or
even mere oversight. While each fund will endeavor to ensure that its
interest continues to be appropriately recorded either itself or through a
custodian or other agent inspecting the share register and by obtaining
extracts of share registers through regular confirmations, these extracts
have no legal enforceability, and it is possible that subsequent illegal
amendment or other fraudulent act may deprive the fund of its ownership
rights or improperly dilute its interests. In addition, while applicable
Russian regulations impose liability on registrars for losses resulting from
their errors, it may be difficult for the fund to enforce any rights it may
have against the registrar or issuer of the securities in the event of loss
of share registration. Furthermore, although a Russian public enterprise with
more than 500 shareholders is required by law to contract out the maintenance
of its shareholder register to an independent entity that meet certain
criteria, in practice this regulation has not always been strictly enforced.
Because of this lack of independence, management of a company may be able to
exert considerable influence over who can purchase and sell the company's
shares by illegally instructing the registrar to refuse to record
transactions in the share register. In addition, so-called
"financial-industrial groups" have emerged in recent years that seek to deter
outside investors from interfering in the management of companies they
control. These practices may prevent a fund from investing in the securities
of certain Russian companies deemed suitable by Advisers. Further, this also
could cause a delay in the sale of Russian company securities by a fund if a
potential purchaser is deemed unsuitable, which may expose the fund to
potential loss on the investment.
Advisers endeavors to buy and sell foreign currencies on as favorable a basis
as practicable. Some price spread on currency exchange (to cover service
charges) may be incurred, particularly when a fund changes investments from
one country to another or when proceeds of the sale of shares in U.S. dollars
are used for the purchase of securities in foreign countries. Also, some
countries may adopt policies that would prevent the funds from transferring
cash out of the country or withhold portions of interest and dividends at the
source. There is the possibility of cessation of trading on national
exchanges, expropriation, nationalization, or confiscatory taxation,
withholding, and other foreign taxes on income or other amounts, foreign
exchange controls (which may include suspension of the ability to transfer
currency from a given country), default in foreign government securities,
political or social instability, or diplomatic developments that could affect
investments in securities of issuers in foreign nations.
The funds may be affected either favorably or unfavorably by fluctuations in
the relative rates of exchange between the currencies of different nations,
by exchange control regulations, and by indigenous economic and political
developments. Some countries in which the funds may invest may also have
fixed or managed currencies that are not free-floating against the U.S.
dollar. Further, certain currencies may not be internationally traded.
Certain of these currencies have experienced a steady devaluation relative to
the U.S. dollar. Any devaluations in the currencies in which a fund's
portfolio securities are denominated may have a detrimental impact on the
fund. Through each fund's flexible policy, management endeavors to avoid
unfavorable consequences and to take advantage of favorable developments in
particular nations where, from time to time, it places the fund's investments.
The exercise of this flexible policy may include decisions to purchase
securities with substantial risk characteristics and other decisions such as
changing the emphasis on investments from one nation to another and from one
type of security to another. Some of these decisions may later prove
profitable and others may not. No assurance can be given that profits, if
any, will exceed losses.
The Board considers at least annually the likelihood of the imposition by any
foreign government of exchange control restrictions which would affect the
liquidity of the funds' assets maintained with custodians in foreign
countries, as well as the degree of risk from political acts of foreign
governments to which such assets may be exposed. The Board also considers the
degree of risk involved through the holding of portfolio securities in
domestic and foreign securities depositories. However, in the absence of
willful misfeasance, bad faith, or gross negligence on the part of Advisers,
any losses resulting from the holding of a fund's portfolio securities in
foreign countries and/or with securities depositories will be at the risk of
the shareholders. No assurance can be given that the Board's appraisal of the
risks will always be correct or that such exchange control restrictions or
political acts of foreign governments might not occur.
While the Health Care Fund may invest in foreign securities, it is generally
not its intention to invest in foreign equity securities of an issuer that
meets the definition in the Code of a passive foreign investment company
("PFIC"). However, to the extent that the a fund invests in these securities,
the fund may be subject to both an income tax and an additional tax in the
form of an interest charge with respect to its investment. To the extent
possible, the Health Care fund will avoid the taxes by not investing in PFIC
securities or by adopting other tax strategies for any PFIC securities it
does buy.
DEPOSITARY RECEIPTS. Depositary Receipts reduce but do not eliminate all the
risk inherent in investing in the securities of non-U.S. issuers. To the
extent that a fund acquires Depositary Receipts through banks which do not
have a contractual relationship with the foreign issuer of the security
underlying the Depositary Receipt to issue and service such Depositary
Receipts, there may be an increased possibility that the fund would not
become aware of and be able to respond to corporate actions such as stock
splits or rights offerings involving the foreign issuer in a timely manner.
HIGH YIELD SECURITIES. You should consider the increased risk of loss to
principal that is present with an investment in higher risk securities, such
as those in which the funds invest. Accordingly, an investment in a fund
should not be considered a complete investment program and should be
carefully evaluated for its appropriateness in light of your overall
investment needs and goals.
The market value of high yield, lower-quality fixed-income securities,
commonly known as junk bonds, tends to reflect individual developments
affecting the issuer to a greater degree than the market value of
higher-quality securities, which react primarily to fluctuations in the
general level of interest rates. Lower-quality securities also tend to be
more sensitive to economic conditions than higher-quality securities.
Issuers of high yield, fixed-income securities are often highly leveraged and
may not have more traditional methods of financing available to them.
Therefore, the risk associated with buying the securities of these issuers is
generally greater than the risk associated with higher-quality securities.
For example, during an economic downturn or a sustained period of rising
interest rates, issuers of lower-quality securities may experience financial
stress and may not have sufficient cash flow to make interest payments. The
issuer's ability to make timely interest and principal payments may also be
adversely affected by specific developments affecting the issuer, including
the issuer's inability to meet specific projected business forecasts or the
unavailability of additional financing.
The risk of loss due to default may also be considerably greater with
lower-quality securities because they are generally unsecured and are often
subordinated to other creditors of the issuer. If the issuer of a security in
a fund's portfolio defaults, the fund may have unrealized losses on the
security, which may lower the fund's Net Asset Value. Defaulted securities
tend to lose much of their value before they default. Thus, the fund's Net
Asset Value may be adversely affected before an issuer defaults. In addition,
a fund may incur additional expenses if it must try to recover principal or
interest payments on a defaulted security.
High yield, fixed-income securities frequently have call or buy-back features
that allow an issuer to redeem the securities from a fund. These securities
are typically not callable for a period of time, usually for three to five
years from the date of issue. However, if an issuer calls its securities
during periods of declining interest rates, Advisers may find it necessary to
replace the securities with lower-yielding securities, which could result in
less net investment income for a fund. The premature disposition of a high
yield security due to a call or buy-back feature, the deterioration of an
issuer's creditworthiness, or a default by an issuer may make it more
difficult for a fund to manage the timing of its income. Under the Code and
U.S. Treasury regulations, a fund may have to accrue income on defaulted
securities and distribute the income to shareholders for tax purposes, even
though the fund is not currently receiving interest or principal payments on
the defaulted securities. To generate cash to satisfy these distribution
requirements, a fund may have to sell portfolio securities that it otherwise
may have continued to hold or use cash flows from other sources, such as the
sale of fund shares.
Lower quality, fixed-income securities may not be as liquid as higher-quality
securities. Reduced liquidity in the secondary market may have an adverse
impact on market price of a security and on a fund's ability to sell a
security in response to a specific economic event, such as a deterioration in
the creditworthiness of the issuer, or if necessary to meet the fund's
liquidity needs. Reduced liquidity may also make it more difficult to obtain
market quotations based on actual trades for purposes of valuing the fund's
portfolio.
The funds may buy high yield, fixed-income securities that are sold without
registration under the federal securities laws and therefore carry
restrictions on resale. While many high yielding securities have been sold
with registration rights, covenants, and penalty provisions for delayed
registration, if a fund is required to sell restricted securities before the
securities have been registered, it may be deemed an underwriter of the
securities under the Securities Act of 1933, which entails special
responsibilities and liabilities. A fund may also incur special costs in
disposing of restricted securities, although a fund will generally not incur
any costs when the issuer is responsible for registering the securities.
The funds may buy high yield, fixed-income securities during an initial
underwriting. These securities involve special risks because they are new
issues. Advisers will carefully review their credit and other
characteristics. The funds have no arrangement with their underwriter or any
other person concerning the acquisition of these securities.
The high yield securities market is relatively new and much of its growth
before 1990 paralleled a long economic expansion. The recession that began in
1990 disrupted the market for high yield securities and adversely affected
the value of outstanding securities, as well as the ability of issuers of
high yield securities to make timely principal and interest payments.
Although the economy has improved and high yield securities have performed
more consistently since that time, the adverse effects previously experienced
may reoccur. For example, the highly publicized defaults on some high yield
securities during 1989 and 1990 and concerns about a sluggish economy that
continued into 1993 depressed the prices of many of these securities. While
market prices may be temporarily depressed due to these factors, the ultimate
price of any security generally reflects the true operating results of the
issuer. Factors adversely impacting the market value of high yield securities
may lower a fund's Net Asset Value.
The funds rely on Advisers' judgment, analysis and experience in evaluating
the creditworthiness of an issuer. In this evaluation, Advisers takes into
consideration, among other things, the issuer's financial resources, its
sensitivity to economic conditions and trends, its operating history, the
quality of the issuer's management and regulatory matters.
HEDGING TRANSACTIONS
A fund's ability to hedge effectively all or a portion of its securities
through transactions in options on securities and stock indexes, stock index
futures, financial futures and related options depends on the degree to which
price movements in the underlying index or underlying debt securities
correlate with price movements in the relevant portion of the fund's
portfolio. Inasmuch as such securities will not duplicate the components of
any index or underlying securities, the correlation will not be perfect.
Consequently, the fund bears the risk that the prices of the securities being
hedged will not move in the same amount as the hedging instrument. It is also
possible that there may be a negative correlation between the index or other
securities underlying the hedging instrument and the hedged securities which
would result in a loss on both the securities and the hedging instrument.
Accordingly, successful use by the funds of options on securities and stock
indexes, stock index futures, financial futures and related options will be
subject to Advisers' ability to predict correctly movements in the direction
of the securities markets generally or of a particular segment. This requires
different skills and techniques than predicting changes in the price of
individual stocks.
In addition, adverse market movements could cause a fund to lose up to its
full investment in a call option contract and/or to experience substantial
losses on an investment in a futures contract. There is also the risk of loss
by a fund of margin deposits in the event of bankruptcy of a broker with whom
the fund has an open position in a futures contract or option.
Positions in stock index and securities options, stock index futures, and
financial futures and related options may be closed out only on an exchange
that provides a secondary market. There can be no assurance that a liquid
secondary market will exist for any particular option or futures contract or
related option at any specific time. Thus, it may not be possible to close an
option or futures position. If a fund were unable to close out a futures or
option position, and if prices moved adversely, the fund would have to
continue to make daily cash payments to maintain its required margin, and, if
the fund had insufficient cash, it might have to sell portfolio securities at
a disadvantageous time. In addition, a fund might be required to deliver the
stocks underlying futures or options contracts it holds. The inability to
close options or futures positions could also have an adverse impact on a
fund's ability to effectively hedge its securities. Each fund will enter into
an option or futures position only if there appears to be a liquid secondary
market for such options or futures.
There can be no assurance that a continuous liquid secondary market will
exist for any particular OTC option at any specific time. Consequently, a
fund may be able to realize the value of an OTC option it has purchased only
by exercising it or entering into a closing sale transaction with the dealer
that issued it. Similarly, when a fund writes an OTC option, it generally can
close out that option before its expiration only by entering into a closing
purchase transaction with the dealer to which the fund originally wrote it.
If a covered call option writer cannot effect a closing transaction, it
cannot sell the underlying security until the option expires or the option is
exercised. Therefore, a covered call option writer of an OTC option may not
be able to sell an underlying security even though it might otherwise be
advantageous to do so. Likewise, a secured put writer of an OTC option may be
unable to sell the securities pledged to secure the put for other investment
purposes while it is obligated as a put writer. Similarly, a buyer of a put
or call option might also find it difficult to terminate its position on a
timely basis in the absence of a liquid secondary market.
The CFTC and the various exchanges have established limits referred to as
"speculative position limits" on the maximum net long or net short position
that any person may hold or control in a particular futures contract. Trading
limits are also imposed on the maximum number of contracts that any person
may trade on a particular trading day. An exchange may order the liquidation
of positions found to be in violation of these limits and it may impose other
sanctions or restrictions. The funds do not believe that these trading and
positions limits will have an adverse impact on the funds' strategies for
hedging their securities.
The ordinary spreads between prices in the cash and futures markets, due to
differences in the natures of those markets, are subject to distortions.
First, all participants in the futures market are subject to initial deposit
and variation margin requirements. Rather than meeting additional variation
margin requirements, investors may close futures contracts through offsetting
transactions that could distort the normal relationship between the cash and
futures markets. Second, the liquidity of the futures market depends on
participants entering into offsetting transactions rather than making or
taking delivery. To the extent participants decide to make or take delivery,
liquidity in the futures market could be reduced, thus producing distortion.
Third, from the point of view of speculators, the margin deposit requirements
in the futures market are less onerous than margin requirements in the
securities market. Therefore, increased participation by speculators in the
futures market may cause temporary price distortions. Due to the possibility
of distortion, a correct forecast of general interest rate trends by Advisers
may still not result in a successful transaction.
Although each fund believes that the use of futures contracts will benefit
the fund, if Advisers' investment judgment about the general direction of
interest rates is incorrect, the fund's overall performance would be poorer
than if it had not entered into any such contract. For example, if a fund has
hedged against the possibility of an increase in interest rates that would
adversely affect the price of bonds held in its portfolio and interest rates
decrease instead, the fund will lose part or all of the benefit of the
increased value of its bonds which it has hedged because it will have
offsetting losses in its futures positions. In addition, in these situations,
if a fund has insufficient cash, it may have to sell securities from its
portfolio to meet daily variation margin requirements. These sales may be,
but will not necessarily be, at increased prices, which reflect the rising
market. A fund may have to sell securities at a time when it may be
disadvantageous to do so.
Each fund's sale of futures contracts and purchase of put options on futures
contracts will be solely to protect its investments against declines in
value. Each fund expects that normally it will buy securities upon
termination of long futures contracts and long call options on future
contracts, but under unusual market conditions it may terminate any of these
positions without a corresponding purchase of securities.
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS. While these contracts are not
presently regulated by the CFTC, the CFTC may in the future assert authority
to regulate forward contracts. In this event, the funds' ability to use
forward contracts may be restricted. The use of foreign currency forward
contracts will not eliminate fluctuations in the underlying U.S. dollar
equivalent value of, or rates of return on, a fund's foreign currency
denominated portfolio securities and the use of such techniques will subject
the fund to certain risks.
The matching of the increase in value of a forward contract and the decline
in the U.S. dollar equivalent value of the foreign currency denominated asset
that is the subject of the hedge generally will not be precise. In addition,
a fund may not always be able to enter into foreign currency forward
contracts at attractive prices and this will limit the fund's ability to use
such contracts to hedge or cross-hedge its assets. Also, with regard to the
funds' use of cross-hedges, there can be no assurance that historical
correlations between the movement of certain foreign currencies relative to
the U.S. dollar will continue. Thus, at any time, poor correlation may exist
between movements in the exchange rates of the foreign currencies in which a
fund's assets that are the subject of such cross-hedges are denominated.
FOREIGN CURRENCY FUTURES. By entering into these contracts, a fund is able to
protect against a loss resulting from an adverse change in the relationship
between the U.S. dollar and a foreign currency occurring between the trade
and settlement dates of the fund's securities transaction. These contracts
also tend to limit the potential gains that might result from a positive
change in such currency relationships.
OPTIONS ON FOREIGN CURRENCIES. Options on foreign currencies and forward
contracts are not traded on contract markets regulated by the CFTC or (with
the exception of certain foreign currency options) by the SEC. To the
contrary, such instruments are traded through financial institutions acting
as market makers, although foreign currency options are also traded on
certain national securities exchanges, such as the Philadelphia Stock
Exchange and the Chicago Board Options Exchange, subject to SEC regulation.
Similarly, options on currencies may be traded over-the-counter. In an OTC
trading environment, many of the protections afforded to exchange
participants will not be available. For example, there are no daily price
fluctuation limits, and adverse market movements could therefore continue to
an unlimited extent over a period of time. Although the purchaser of an
option cannot lose more than the amount of the premium plus related
transaction costs, this entire amount could be lost. Moreover, the option
writer and a trader of forward contracts could lose amounts substantially in
excess of their initial investments, due to the margin and collateral
requirements associated with such positions.
Options on foreign currencies traded on national securities exchanges are
within the jurisdiction of the SEC, as are other securities traded on these
exchanges. As a result, many of the protections provided to traders on
organized exchanges will be available with respect to such transactions. In
particular, all foreign currency option positions entered into on a national
securities exchange are cleared and guaranteed by the Options Clearing
Corporation ("OCC"), thereby reducing the risk of counterparty default.
Further, a liquid secondary market in options traded on a national securities
exchange may be more readily available than in the OTC market, potentially
permitting a fund to liquidate open positions at a profit before exercise or
expiration, or to limit losses in the event of adverse market movements.
The purchase and sale of exchange-traded foreign currency options, however,
are subject to the risks of the availability of a liquid secondary market
described above, as well as the risks regarding adverse market movements,
margining of options written, the nature of the foreign currency market,
possible intervention by governmental authorities and the effects of other
political and economic events. In addition, exchange-traded options on
foreign currencies involve certain risks not presented by the OTC market. For
example, exercise and settlement of such options must be made exclusively
through the OCC, which has established banking relationships in applicable
foreign countries for this purpose. As a result, the OCC may, if it
determines that foreign governmental restrictions or taxes would prevent the
orderly settlement of foreign currency option exercises, or would result in
undue burdens on the OCC or its clearing member, impose special procedures on
exercise and settlement, such as technical changes in the mechanics of
delivery of currency, the fixing of dollar settlement prices or prohibitions
on exercise.
In addition, forward contracts and options on foreign currencies may be
traded on foreign exchanges. Such transactions are subject to the risk of
governmental actions affecting trading in, or the prices of, foreign
currencies. The value of these positions also could be adversely affected by
(i) other complex foreign political and economic factors, (ii) lesser
availability than in the U.S. of data on which to make trading decisions,
(iii) delays in a fund's ability to act upon economic events occurring in
foreign markets during non-business hours in the U.S., (iv) the imposition of
different exercise and settlement terms and procedures and margin
requirements than in the U.S., and (v) less trading volume.
UTILITY INDUSTRIES
Utility companies in the U.S. and in foreign countries are generally subject
to regulation. In the U.S., most utility companies are regulated by state
and/or federal authorities. This regulation is intended to ensure appropriate
standards of service and adequate capacity to meet public demand. Prices are
also regulated, with the intention of protecting the public while ensuring
that the rate of return earned by utility companies is sufficient to allow
them to attract capital in order to grow and continue to provide appropriate
services. There can be no assurance that such pricing policies or rates of
return will continue in the future.
The nature of regulation of utility industries is evolving both in the U.S.
and in foreign countries. Changes in regulation in the U.S. increasingly
allow utility companies to provide services and products outside their
traditional geographic areas and lines of business, creating new areas of
competition within the industries. Furthermore, Advisers believes that the
emergence of competition will result in utility companies potentially earning
more than their traditional regulated rates of return. Although certain
companies may develop more profitable opportunities, others may be forced to
defend their core businesses and may be less profitable. Advisers seeks to
take advantage of favorable investment opportunities that are expected to
arise from these structural changes. Of course, there can be no assurance
that favorable developments will occur in the future.
Foreign utility companies are also subject to regulation, although such
regulation may or may not be comparable to that in the U.S. Foreign
regulatory systems vary from country to country and may evolve in ways
different from regulation in the U.S.
The Utilities Fund's investment policies are designed to enable it to
capitalize on evolving investment opportunities throughout the world. For
example, the rapid growth of certain foreign economies will necessitate
expansion of capacity in the utility industries in those countries. Although
many foreign utility companies currently are government-owned, Advisers
believes that in order to attract significant capital for growth, foreign
governments are likely to seek global investors through the privatization of
their utility industries. Privatization, which refers to the trend toward
investor ownership of assets rather than government ownership, is expected to
occur in newer, faster-growing economies and also in more mature economies.
In addition, the economic unification of European markets is expected to
improve economic growth, reduce costs and increase competition in Europe,
which will result in opportunities for investment by the Utilities Fund in
European utility industries. Of course, there is no assurance that these
favorable developments will occur or that investment opportunities for the
fund in foreign markets will increase.
The revenues of domestic and foreign utility companies generally reflect the
economic growth and developments in the geographic areas in which they do
business. Advisers takes into account anticipated economic growth rates and
other economic developments when selecting securities of utility companies.
Further descriptions of some of the anticipated opportunities and risks of
specific segments within the global utility industries are set forth below.
ELECTRIC. The electric utility industry consists of companies that are
engaged principally in the generation, transmission, and sale of electric
energy, although many also provide other energy-related services. Domestic
electric utility companies in general have recently been favorably affected
by lower fuel and financing costs and the full or near completion of major
construction programs. In addition, many of these companies recently have
generated cash flows in excess of current operating expenses and construction
expenditures, permitting some degree of diversification into unregulated
businesses. Some electric utilities have also taken advantage of the right to
sell power outside of their traditional geographic areas. Electric utility
companies have historically been subject to the risks associated with
increases in fuel and other operating costs, high interest costs on borrowing
needed for capital construction programs, costs associated with compliance
with environmental, nuclear and other safety regulations and changes in the
regulatory climate. For example, in the U.S., the construction and operation
of nuclear power facilities are subject to increased scrutiny by, and
evolving regulations of, the Nuclear Regulatory Commission. Increased
scrutiny might result in higher operating costs and higher capital
expenditures, with the risk that regulators may disallow inclusion of these
costs in rate authorizations.
TELEPHONE COMMUNICATIONS. The telephone communications industry is a distinct
utility industry segment that is subject to different risks and
opportunities. Companies that provide telephone services and access to
telephone networks compose the largest portion of this segment. The telephone
industry is large and highly concentrated. Telephone companies in the U.S.
are still experiencing the effects of the break-up of American Telephone &
Telegraph Company, which occurred in 1984. Since that time the number of
local and long-distance companies and the competition among such companies
has increased. In addition, since 1984, companies engaged in telephone
communication services have expanded their non-regulated activities into
other businesses, including cellular telephone services, cable television,
data processing, equipment retailing and software services. This expansion
has provided significant opportunities for certain telephone companies to
increase their earnings and dividends at faster rates than have been allowed
in traditional regulated businesses. Increasing competition and other
structural changes, however, could adversely affect the profitability of such
utilities.
CABLE AND OTHER PAY TELEVISION SERVICES. Cable and pay television companies
produce and distribute programming over private networks. Cable television
continues to be a growth industry throughout most of the world. The industry
is regulated in most countries, but regulation is typically less restrictive
than regulation of the electric and telephone utility industries. Cable
companies usually enjoy local monopolies, although emerging technologies and
pro-competition legislation are presenting substantial challenges to these
monopolies and could slow growth rates.
WIRELESS TELECOMMUNICATIONS. The wireless telecommunications segment includes
those companies that provide alternative telephone and communications
services. These technologies may include cellular, paging, satellite,
microwave, and private communication networks, and other emerging
technologies. The wireless telecommunications industry is in the early
development stage and is characterized by emerging, rapidly growing companies.
GAS. Gas transmission companies and gas distribution companies are also
undergoing significant changes. In the U.S., interstate transmission
companies are regulated by the Federal Energy Regulatory Commission, which is
reducing its regulation of the industry. Many companies have diversified into
oil and gas exploration and development, making returns more sensitive to
energy prices. In the recent decade, gas utility companies have been
adversely affected by disruption in the oil industry and have also been
affected by increased concentration and competition.
WATER. Water supply utilities are companies that collect, purify, distribute,
and sell water. In the U.S. and around the world, the industry is highly
fragmented because local authorities own most of the supplies. Companies in
this industry are generally mature and are experiencing little or no per
capita volume growth.
GENERAL. There can be no assurance that the positive developments noted
above, including those relating to business growth and changing regulation,
will occur or that risk factors, other than those noted above, will not
develop in the future.
BIOTECHNOLOGY COMPANIES. The Health Care Fund and the Biotechnology Fund may
invest in biotechnology companies. These companies are primarily small,
start-up ventures whose fortunes to date have risen mainly on the strength of
expectations about future products, not actual products. Although numerous
biotechnology products are in the research stage by many companies, only a
handful have reached the point of approval by the U.S. Food and Drug
Administration and subsequent commercial production and distribution. Shares
of biotechnology companies may advance on the strength of new product filings
with governmental authorities and research progress, but may also drop
sharply in response to regulatory or research setbacks.
ILLIQUID SECURITIES. The sale of restricted or illiquid securities often
requires more time and results in higher brokerage charges or dealer
discounts and other selling expenses than the sale of securities eligible for
trading on national securities exchanges or in the OTC markets. Restricted
securities often sell at a price lower than similar securities that are not
subject to restrictions on resale.
REPURCHASE AGREEMENTS AND LOANS OF PORTFOLIO SECURITIES. As with any
extension of credit, a default by the borrower or seller might cause a fund
to experience a loss or delay in the liquidation of the collateral. A fund
might also incur disposition costs in liquidating the collateral. The funds,
however, intend to enter into repurchase agreements only with government
securities dealers recognized by the Federal Reserve Board or with member
banks of the Federal Reserve System.
INVESTMENT RESTRICTIONS
The funds have adopted the following restrictions as fundamental policies.
These restrictions may not be changed without the approval of a majority of
the outstanding voting securities of the relevant fund. Under the 1940 Act,
this means the approval of (i) more than 50% of the outstanding shares of the
fund or (ii) 67% or more of the shares of the fund present at a shareholder
meeting if more than 50% of the outstanding shares of the fund are
represented at the meeting in person or by proxy, whichever is less.
The Biotechnology Fund MAY NOT:
1. Make loans to other persons, except by the purchase of bonds, debentures
or similar obligations which are publicly distributed or of a character
usually acquired by institutional investors or through loans of the fund's
portfolio securities, or to the extent the entry into a repurchase agreement
may be deemed a loan.
2. Borrow money, except in the form of reverse repurchase agreements or from
banks in order to meet redemption requests that might otherwise require the
untimely disposition of portfolio securities or for other temporary or
emergency (but not investment) purposes, in an amount up to 10% of the value
of the fund's total assets (including the amount borrowed) based on the
lesser of cost or market, less liabilities (not including the amount
borrowed) at the time the borrowing is made, and except to facilitate
portfolio transactions in which the fund is permitted to engage to the extent
such transactions may be deemed to constitute borrowing under this
restriction. While borrowings exceed 5% of the fund's total assets, the fund
will not make any additional investments.
3. Underwrite securities of other issuers or invest more than 15% of its
assets in illiquid securities.
4. Invest in securities for the purpose of exercising management or control
of the issuer.
5. Invest in the securities of other investment companies, except in
accordance with the federal securities laws. To the extent permitted by
exemptions granted under the 1940 Act, the fund may invest in shares of one
or more money market funds managed by Franklin Advisers, Inc. or its
affiliates.
6. Concentrate its investments in any industry except that the fund will
invest at least 25% of its total assets in equity securities of biotechnology
companies.
In addition to these financial policies, it is the present policy of the
Biotechnology Fund (which may be changed without the approval of the
shareholders) not to pledge, mortgage or hypothecate the fund's assets as
securities for loans, nor to engage in joint or joint and several trading
accounts in securities, except that it may participate in joint repurchase
arrangements, invest its short-term cash in shares of the Franklin Money Fund
(pursuant to the terms of any order, and any conditions therein, issued by
the SEC permitting such investments), or combine orders to purchase or sell
with orders from other persons to obtain lower brokerage commissions.
The Health Care Fund MAY NOT:
1. Make loans to other persons, except by the purchase of bonds, debentures
or similar obligations which are publicly distributed or of a character
usually acquired by institutional investors or through loans of the fund's
portfolio securities, or to the extent the entry into a repurchase agreement
may be deemed a loan.
2. Borrow money (does not preclude the fund from obtaining such short-term
credit as may be necessary for the clearance of purchases and sales of its
portfolio securities), except in the form of reverse repurchase agreements or
from banks in order to meet redemption requests that might otherwise require
the untimely disposition of portfolio securities or for other temporary or
emergency (but not investment) purposes, in an amount up to 10% of the value
of the fund's total assets (including the amount borrowed) based on the
lesser of cost or market, less liabilities (not including the amount
borrowed) at the time the borrowing is made. While borrowings exceed 5% of
the fund's total assets, the fund will not make any additional investments.
3. Underwrite securities of other issuers or invest more than 10% of its
assets in securities with legal or contractual restrictions on resale
(although the fund may invest in such securities to the extent permitted
under the federal securities laws, for example, transactions between the fund
and Qualified Institutional Buyers subject to Rule 144A under the Securities
Act of 1933) or which are not readily marketable, or which have a record of
less than three years continuous operation, including the operations of any
predecessor companies, if more than 10% of the fund's total assets would be
invested in such companies.
4. Invest in securities for the purpose of exercising management or control
of the issuer.
5. Maintain a margin account with a securities dealer or invest in
commodities and commodity contracts (except that the fund may engage in
financial futures, including stock index futures, and options on stock index
futures) or lease or acquire any interests, including interests issued by
limited partnerships (other than publicly traded equity securities) in oil,
gas, or other mineral exploration or development programs, or invest in
excess of 5% of its total assets in options unrelated to the fund's
transactions in futures, including puts, calls, straddles, spreads, or any
combination thereof.
6. Effect short sales, unless at the time the fund owns securities
equivalent in kind and amount to those sold (which will normally be for
deferring recognition of gains or losses for tax purposes). The fund does not
currently intend to employ this investment technique.
7. Invest directly in real estate, real estate limited partnerships or
illiquid securities issued by real estate investment trusts (the fund may,
however, invest in marketable securities issued by real estate investment
trusts).
8. Invest in the securities of other investment companies, except where
there is no commission other than the customary brokerage commission or sales
charge, or except that securities of another investment company may be
acquired pursuant to a plan of reorganization, merger, consolidation or
acquisition, and except where the fund would not own, immediately after the
acquisition, securities of the investment companies which exceed in the
aggregate i) more than 3% of the issuer's outstanding voting stock, ii) more
than 5% of the fund's total assets and iii) together with the securities of
all other investment companies held by the fund, exceed, in the aggregate,
more than 10% of the fund's total assets. The fund may invest in shares of
one or more money market funds managed by Advisers or its affiliates
consistent with the terms of the exemptive order issued by the SEC.
9. Purchase from or sell to its officers and trustees, or any firm of which
any officer or trustee is a member, as principal, any securities, but may
deal with such persons or firms as brokers and pay a customary brokerage
commission; or purchase or retain securities of any issuer, if to the
knowledge of the Trust, one or more of the officers or trustees of the Trust,
or its investment adviser, own beneficially more than one-half of 1% of the
securities of such issuer and all such officers and trustees together own
beneficially more than 5% of such securities.
10. Concentrate in any industry except that the fund will invest at least 25%
of total assets in the group of health care industries consisting of
pharmaceuticals, biotechnology, health care services, medical supplies and
medical technology.
In addition to these fundamental policies, it is the present policy of the
Health Care Fund (which may be changed without shareholder approval) not to
pledge, mortgage or hypothecate the fund's assets as security for loans, nor
to engage in joint or joint and several trading accounts in securities,
except that it may participate in joint repurchase arrangements, invest its
short term cash in shares of the Franklin Money Fund, or combine orders to
purchase or sell with orders from other persons to obtain lower brokerage
commissions. The Health Care Fund may not invest in excess of 5% of its net
assets, valued at the lower of cost or market, in warrants, nor more than 2%
of its net assets in warrants not listed on either the NYSE or the American
Stock Exchange. It is also the policy of the fund that it may, consistent
with its objective, invest a portion of its assets, as permitted by the 1940
Act and the rules adopted thereunder, in securities or other obligations
issued by companies engaged in securities related businesses, including
companies that are securities brokers, dealers, underwriters or investment
advisers.
The Health Care Fund will not purchase the securities of any issuer if, as to
75% of the assets of the fund at the time of the purchase, more than 10% of
the voting securities of any issuer would be held by the fund.
The Natural Resources Fund MAY NOT:
1. Make loans to other persons, except by the purchase of bonds, debentures
or similar obligations which are publicly distributed or of a character
usually acquired by institutional investors, or through loans of the fund's
portfolio securities, or to the extent the entry into a repurchase agreement
or similar transaction may be deemed a loan;
2. Borrow money or mortgage or pledge any of its assets, except in the form
of reverse repurchase agreements or from banks for temporary or emergency
purposes in an amount up to 33% of the value of the fund's total assets
(including the amount borrowed) based on the lesser of cost or market, less
liabilities (not including the amount borrowed) at the time the borrowing is
made. While borrowings exceed 5% of the fund's total assets, the fund will
not make any additional investments;
3. Underwrite securities of other issuers (does not preclude the fund from
obtaining such short-term credit as may be necessary for the clearance of
purchases and sales of its portfolio securities) or invest more than 5% of
its assets in illiquid securities with legal or contractual restrictions on
resale (although the fund may invest in Rule 144A restricted securities to
the full extent permitted under the federal securities laws); except that all
or substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and
policies as the fund;
4. Invest in securities for the purpose of exercising management or control
of the issuer; except that all or substantially all of the assets of the fund
may be invested in another registered investment company having the same
investment objective and policies as the fund;
5. Effect short sales, unless at the time the fund owns securities
equivalent in kind and amount to those sold (which will normally be for
deferring recognition of gains or losses for tax purposes);
6. Invest directly in real estate, real estate limited partnerships or
illiquid securities issued by real estate investment trusts (the fund may,
however, invest up to 10% of its assets in marketable securities issued by
real estate investment trusts);
7. Invest directly in interests in oil, gas or other mineral leases,
exploration or development programs;
8. Invest in the securities of other investment companies, except where
there is no commission other than the customary brokerage commission or sales
charge, or except that securities of another investment company may be
acquired pursuant to a plan of reorganization, merger, consolidation or
acquisition, and except where the fund would not own, immediately after the
acquisition, securities of the investment companies which exceed in the
aggregate i) more than 3% of the issuer's outstanding voting stock, ii) more
than 5% of the fund's total assets and iii) together with the securities of
all other investment companies held by the fund, exceed, in the aggregate,
more than 10% of the fund's total assets; except that all or substantially
all of the assets of the fund may be invested in another registered
investment company having the same investment objective and policies as the
fund. Pursuant to available exemptions from the 1940 Act, the fund may invest
in shares of one or more money market funds managed by Advisers, or its
affiliates;
9. Purchase from or sell to its officers and trustees, or any firm of which
any officer or trustee is a member, as principal, any securities, but may
deal with such persons or firms as brokers and pay a customary brokerage
commission; or purchase or retain securities of any issuer if one or more of
the officers or trustees of the Trust, or its investment adviser, own
beneficially more than one-half of 1% of the securities of such issuer and
all such officers and trustees together own beneficially more than 5% of such
securities;
10. Concentrate in any industry, except that under normal circumstances the fund
will invest at least 25% of total assets in the securities issued by domestic
and foreign companies operating within the natural resources sector; except that
all or substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and policies
as the fund; and
11. Invest more than 10% of its assets in securities of companies which have
a record of less than three years continuous operation, including the
operations of any predecessor companies; except that all or substantially all
of the assets of the fund may be invested in another registered investment
company having the same investment objective and policies as the fund.
In addition to these fundamental policies, it is the present policy of the
Natural Resources Fund (which may be changed without shareholder approval)
not to engage in joint or joint and several trading accounts in securities,
except that it may participate in joint repurchase arrangements, invest its
short-term cash in shares of the Franklin Money Fund (pursuant to the terms
of any order, and any conditions therein, issued by the SEC permitting such
investments), or combine orders to purchase or sell with orders from other
persons to obtain lower brokerage commissions. The Natural Resources Fund may
not invest in excess of 5% of its net assets, valued at the lower of cost or
market, in warrants, nor more than 2% of its net assets in warrants not
listed on either the NYSE or the American Stock Exchange.
The Utilities Fund MAY NOT:
1. Make loans to other persons, except by the purchase of bonds, debentures
or similar obligations which are publicly distributed or of a character
usually acquired by institutional investors, or through loans of the fund's
portfolio securities, or to the extent the entry into a repurchase agreement
may be deemed a loan;
2. Borrow money or mortgage or pledge any of its assets, except in the form
of reverse repurchase agreements or from banks for temporary or emergency
purposes in an amount up to 33% of the value of the fund's total assets
(including the amount borrowed) based on the lesser of cost or market, less
liabilities (not including the amount borrowed) at the time the borrowing is
made. While borrowings exceed 5% of the fund's total assets, the fund will
not make any additional investments;
3. Underwrite securities of other issuers (does not preclude the fund from
obtaining such short-term credit as may be necessary for the clearance of
purchases and sales of its portfolio securities) or invest more than 5% of
its assets in securities with legal or contractual restrictions on resale
(although the fund may invest in such securities to the extent permitted
under the federal securities laws) or which are not readily marketable, if
more than 15% of the fund's total assets would be invested in such companies;
4. Invest in securities for the purpose of exercising management or control
of the issuer;
5. Maintain a margin account with a securities dealer or invest in
commodities and commodity contracts (except that the fund may engage in
financial futures, including stock index futures, and options on stock index
futures) or lease or acquire any interests, including interests issued by
limited partnerships (other than publicly traded equity securities), in oil,
gas, or other mineral exploration or development programs, or invest in
excess of 5% of its total assets in options unrelated to the fund's
transactions in futures, including puts, calls, straddles, spreads, or any
combination thereof;
6. Effect short sales, unless at the time the fund owns securities
equivalent in kind and amount to those sold (which will normally be for
deferring recognition of gains or losses for tax purposes). The fund does not
currently intend to employ this investment technique;
7. Invest directly in real estate, real estate limited partnerships or
illiquid securities issued by real estate investment trusts (the fund may,
however, invest in marketable securities issued by real estate investment
trusts);
8. Invest in the securities of other investment companies, except where
there is no commission other than the customary brokerage commission or sales
charge, or except that securities of another investment company may be
acquired pursuant to a plan of reorganization, merger, consolidation or
acquisition, and except where the fund would not own, immediately after the
acquisition, securities of the investment companies which exceed in the
aggregate i) more than 3% of the issuer's outstanding voting stock, ii) more
than 5% of the fund's total assets and iii) together with the securities of
all other investment companies held by the fund, exceed, in the aggregate,
more than 10% of the fund's total assets. Pursuant to available exemptions
from the 1940 Act, the fund may invest in shares of one or more money market
funds managed by Advisers or its affiliates;
9. Purchase from or sell to its officers and trustees, or any firm of which
any officer or trustee is a member, as principal, any securities, but may
deal with such persons or firms as brokers and pay a customary brokerage
commission; or purchase or retain securities of any issuer if, to the
knowledge of the Trust, one or more of the officers or trustees of the Trust,
or its investment adviser, own beneficially more than one-half of 1% of the
securities of such issuer and all such officers and trustees together own
beneficially more than 5% of such securities;
10. Concentrate in any industry, except that the fund will invest at least
25% of total assets in the equity and debt securities issued by domestic and
foreign companies in the utilities industries; and
11. Invest more than 10% of its assets in securities of companies which have
a record of less than three years continuous operation, including the
operations of any predecessor companies.
In addition to these fundamental policies, it is the present policy of the
Utilities Fund (which may be changed without shareholder approval) not to
engage in joint or joint and several trading accounts in securities, except
that it may: 1) participate in joint repurchase arrangements; 2) invest its
short-term cash in shares of the Franklin Money Fund (pursuant to the terms
of any order, and any conditions therein, issued by the SEC permitting such
investments); or 3) combine orders to buy or sell with orders from other
persons to obtain lower brokerage commissions. The Utilities Fund may not
invest in excess of 5% of its net assets, valued at the lower of cost or
market, in warrants, nor more than 2% of its net assets in warrants not
listed on either the NYSE or the American Stock Exchange. It is also the
policy of the fund that it may, consistent with its objective, invest a
portion of its assets, as permitted by the 1940 Act and the rules adopted
thereunder, in securities or other obligations issued by companies engaged in
securities related businesses, including such companies that are securities
brokers, dealers, underwriters or investment advisers.
If a bankruptcy or other extraordinary event occurs concerning a particular
security owned by a fund, the fund may receive stock, real estate, or other
investments that the fund would not, or could not, buy. In this case, each
fund intends to dispose of the investment as soon as practicable while
maximizing the return to shareholders.
If a percentage restriction is met at the time of investment, a later
increase or decrease in the percentage due to a change in the value or
liquidity of portfolio securities or the amount of assets will not be
considered a violation of any of the foregoing restrictions.
OFFICERS AND TRUSTEES
The Board has the responsibility for the overall management of the funds,
including general supervision and review of their investment activities. The
Board, in turn, elects the officers of the funds who are responsible for
administering the funds' day-to-day operations. The affiliations of the
officers and Board members and their principal occupations for the past five
years are shown below. Members of the Board who are considered "interested
persons" of the funds under the 1940 Act are indicated by
an asterisk (*).
Positions and Offices
Name, Age and Address with the Trust Principal Occupation During
the Past Five Years
- ------------------------------------------------------------------------------
Frank H. Abbott, III (77)
1045 Sansome Street
San Francisco, CA 94111
Trustee
President and Director, Abbott Corporation (an investment company); director
or trustee, as the case may be, of 27 of the investment companies in the
Franklin Templeton Group of Funds; and FORMERLY, Director, MotherLode Gold
Mines Consolidated (gold mining) and Vacu-Dry Co. (food processing).
Harris J. Ashton (66)
191 Clapboard Ridge Road
Greenwich, CT 06830
Trustee
Director, RBC Holdings, Inc. (a bank holding company) and Bar-S Foods (a meat
packing company); director or trustee, as the case may be, of 49 of the
investment companies in the Franklin Templeton Group of Funds; and FORMERLY,
President, Chief Executive Officer and Chairman of the Board, General Host
Corporation (nursery and craft centers).
*Harmon E. Burns (53)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Trustee
Executive Vice President and Director, Franklin Resources, Inc., Franklin
Templeton Distributors, Inc. and Franklin Templeton Services, Inc.; Executive
Vice President, Franklin Advisers, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case
may be, of most of the other subsidiaries of Franklin Resources, Inc. and of
53 of the investment companies in the Franklin Templeton Group of Funds.
S. Joseph Fortunato (66)
Park Avenue at Morris County
P.O. Box 1945
Morristown, NJ 07962-1945
Trustee
Member of the law firm of Pitney, Hardin, Kipp & Szuch; director or trustee,
as the case may be, of 51 of the investment companies in the Franklin
Templeton Group of Funds; and FORMERLY, Director, General Host Corporation
(nursery and craft centers).
Edith E. Holiday (46)
3239 38th Street, N.W.
Washington, DC 20016
Trustee
Director, Amerada Hess Corporation (crude oil and natural gas refining)
(1993-present), Hercules Incorporated (chemicals, fibers and resins)
(1993-present), Beverly Enterprises, Inc. (1995-present) and H.J. Heinz
Company (packaged foods and allied products) (1994-present); director or
trustee, as the case may be, of 25 of the investment companies in the
Franklin Templeton Group of Funds; and FORMERLY, Chairman (1995-1997) and
Trustee (1993-1997), National Child Research Center, Assistant to the
President of the United States and Secretary of the Cabinet (1990-1993),
General Counsel to the United States Treasury Department (1989-1990), and
Counselor to the Secretary and Assistant Secretary for Public Affairs and
Public Liaison-United States Treasury Department (1988-1989).
*Charles B. Johnson (65)
777 Mariners Island Blvd.
San Mateo, CA 94404
Chairman
of the Board
and Trustee
President, Chief Executive Officer and Director, Franklin Resources, Inc.;
Chairman of the Board and Director, Franklin Advisers, Inc., Franklin
Advisory Services, Inc., Franklin Investment Advisory Services, Inc. and
Franklin Templeton Distributors, Inc.; Director, Franklin/Templeton Investor
Services, Inc. and Franklin Templeton Services, Inc.; officer and/or director
or trustee, as the case may be, of most of the other subsidiaries of Franklin
Resources, Inc. and of 50 of the investment companies in the Franklin
Templeton Group of Funds; and FORMERLY, Director, General Host Corporation
(nursery and craft centers).
*Rupert H. Johnson, Jr. (58)
777 Mariners Island Blvd.
San Mateo, CA 94404
President
and Trustee
Executive Vice President and Director, Franklin Resources, Inc. and Franklin
Templeton Distributors, Inc.; President and Director, Franklin Advisers,
Inc.; Senior Vice President and Director, Franklin Advisory Services, Inc.
and Franklin Investment Advisory Services, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case
may be, of most of the other subsidiaries of Franklin Resources, Inc. and of
53 of the investment companies in the Franklin Templeton Group of Funds.
Frank W.T. LaHaye (69)
20833 Stevens Creek Blvd.
Suite 102
Cupertino, CA 95014
Trustee
General Partner, Miller & LaHaye, which is the General Partner of Peregrine
Ventures II (venture capital firm); Chairman of the Board and Director,
Quarterdeck Corporation (software firm); Director, Digital Transmission Systems,
Inc. (wireless communications); director or trustee, as the case may be, of 27
of the investment companies in the Franklin Templeton Group of Funds; and
FORMERLY, Director, Fischer Imaging Corporation (medical imaging systems) and
General Partner, Peregrine Associates, which was the General Partner of
Peregrine Ventures (venture capital firm).
Gordon S. Macklin (70)
8212 Burning Tree Road
Bethesda, MD 20817
Trustee
Director, Fund American Enterprises Holdings, Inc., MCI Communications
Corporation, MedImmune, Inc. (biotechnology), Spacehab, Inc. (aerospace
services) and Real 3D (software); director or trustee, as the case may be, of
49 of the investment companies in the Franklin Templeton Group of Funds; and
FORMERLY, Chairman, White River Corporation (financial services), Hambrecht
and Quist Group (investment banking), and President, National Association of
Securities Dealers, Inc.
Martin L. Flanagan (38)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Chief
Financial Officer
Senior Vice President and Chief Financial Officer, Franklin Resources, Inc.;
Executive Vice President and Director, Templeton Worldwide, Inc.; Executive
Vice President, Chief Operating Officer and Director, Templeton Investment
Counsel, Inc.; Executive Vice President and Chief Financial Officer, Franklin
Advisers, Inc.; Chief Financial Officer, Franklin Advisory Services, Inc. and
Franklin Investment Advisory Services, Inc.; President and Director, Franklin
Templeton Services, Inc.; Senior Vice President and Chief Financial Officer,
Franklin/Templeton Investor Services, Inc.; officer and/or director of some
of the other subsidiaries of Franklin Resources, Inc.; and officer and/or
trustee, as the case may be, of 53 of the investment companies in the
Franklin Templeton Group of Funds.
Deborah R. Gatzek (49)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Secretary
Senior Vice President and General Counsel, Franklin Resources, Inc.; Senior
Vice President, Franklin Templeton Services, Inc. and Franklin Templeton
Distributors, Inc.; Executive Vice President, Franklin Advisers, Inc.; Vice
President, Franklin Advisory Services, Inc.; Vice President, Chief Legal
Officer and Chief Operating Officer, Franklin Investment Advisory Services,
Inc.; and officer of 53 of the investment companies in the Franklin Templeton
Group of Funds.
Charles E. Johnson (42)
500 East Broward Blvd.
Fort Lauderdale, FL 33394-3091
Vice President
Senior Vice President and Director, Franklin Resources, Inc.; Senior Vice
President, Franklin Templeton Distributors, Inc.; President and Director,
Templeton Worldwide, Inc.; President, Chief Executive Officer, Chief
Investment Officer and Director, Franklin Institutional Services Corporation;
Chairman and Director, Templeton Investment Counsel, Inc.; Vice President,
Franklin Advisers, Inc.; officer and/or director of some of the other
subsidiaries of Franklin Resources, Inc.; and officer and/or director or
trustee, as the case may be, of 34 of the investment companies in the
Franklin Templeton Group
of Funds.
Diomedes Loo-Tam (59)
777 Mariners Island Blvd.
San Mateo, CA 94404
Treasurer and
Principal
Accounting Officer
Senior Vice President, Franklin Templeton Services, Inc.; and officer of 32
of the investment companies in the Franklin Templeton Group of Funds.
Edward V. McVey (61)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
Senior Vice President and National Sales Manager, Franklin Templeton
Distributors, Inc.; and officer of 28 of the investment companies in the
Franklin Templeton Group of Funds.
The table above shows the officers and Board members who are affiliated with
Distributors and Advisers. As of June 1, 1998, nonaffiliated members of the
Board are paid $1,575 for each of the Trust's eight regularly scheduled Board
meetings plus $1,050 per meeting attended. As shown above, the nonaffiliated
Board members also serve as directors or trustees of other investment
companies in the Franklin Templeton Group of Funds. They may receive fees
from these funds for their services. The fees payable to nonaffiliated Board
members by the Trust are subject to reductions resulting from fee caps
limiting the amount of fees payable to Board members who serve on other
boards within the Franklin Templeton Group of Funds. The following table
provides the total fees paid to nonaffiliated Board members by the Trust and
by other funds in the Franklin Templeton Group of Funds.
NUMBER OF BOARDS
TOTAL FEES IN THE FRANKLIN
TOTAL FEES RECEIVED FROM THE TEMPLETON GROUP
RECEIVED FRANKLIN TEMPLETON OF FUNDS ON WHICH
NAME FROM THE TRUST***GROUP OF FUNDS**** EACH SERVES*****
- ------------------------------------------------------------------------------
Frank H. Abbott, III.... $5,400 $165,937 27
Harris J. Ashton........ 5,100 344,642 49
S. Joseph Fortunato .... 5,100 361,562 51
David W. Garbellano* ... 1,500 91,317 N/A
Edith Holiday**......... 1,200 72,875 25
Frank W.T. LaHaye ...... 5,400 141,433 27
Gordon S. Macklin....... 5,100 337,292 49
*Deceased, September 27, 1997.
**Appointed January 15, 1998.
***For the fiscal year ended April 30, 1998 during which time fees at the
rate of $300 for each of the Trust's eight meetings plus $300 per meeting
attended were in effect.
****For the calendar year ended December 31, 1997.
*****We base the number of boards on the number of registered investment
companies in the Franklin Templeton Group of Funds. This number does not
include the total number of series or funds within each investment company
for which the Board members are responsible. The Franklin Templeton Group of
Funds currently includes 54 registered investment companies, with
approximately 170 U.S. based funds or series.
Nonaffiliated members of the Board are reimbursed for expenses incurred in
connection with attending board meetings, paid pro rata by each fund in the
Franklin Templeton Group of Funds for which they serve as director or
trustee. No officer or Board member received any other compensation,
including pension or retirement benefits, directly or indirectly from the
funds or other funds in the Franklin Templeton Group of Funds. Certain
officers or Board members who are shareholders of Resources may be deemed to
receive indirect remuneration by virtue of their participation, if any, in
the fees paid to its subsidiaries.
As of June 2, 1998, the officers and Board members, as a group, owned of
record and beneficially the following shares of the funds: approximately 17
shares of the Biotechnology Fund, 19,357 shares of the Health Care Fund -
Class I, 1,512 shares of the Natural Resources Fund - Class I and 1,848
shares of the Utilities Fund - Class I, or less than 1% of the total
outstanding shares of each fund's Class I shares. Many of the Board members
also own shares in other funds in the Franklin Templeton Group of Funds.
Charles B. Johnson and Rupert H. Johnson, Jr. are brothers and the father and
uncle, respectively, of Charles E. Johnson.
INVESTMENT MANAGEMENT
AND OTHER SERVICES
INVESTMENT MANAGER AND SERVICES PROVIDED. The funds' investment manager is
Advisers. Advisers provides investment research and portfolio management
services, including the selection of securities for each fund to buy, hold or
sell and the selection of brokers through whom each fund's portfolio
transactions are executed. Advisers' activities are subject to the review and
supervision of the Board to whom Advisers renders periodic reports of each
fund's investment activities. Advisers and its officers, directors and
employees are covered by fidelity insurance for the protection of each fund.
Advisers and its affiliates act as investment manager to numerous other
investment companies and accounts. Advisers may give advice and take action
with respect to any of the other funds it manages, or for its own account,
that may differ from action taken by Advisers on behalf of each fund.
Similarly, with respect to each fund, Advisers is not obligated to recommend,
buy or sell, or to refrain from recommending, buying or selling any security
that Advisers and access persons, as defined by the 1940 Act, may buy or sell
for its or their own account or for the accounts of any other fund. Advisers
is not obligated to refrain from investing in securities held by the funds or
other funds that it manages. Of course, any transactions for the accounts of
Advisers and other access persons will be made in compliance with the funds'
Code of Ethics. Please see "Miscellaneous Information - Summary of Code of
Ethics."
MANAGEMENT FEES. Under its management agreement, each fund pays Advisers a
management fee equal to an annual rate of 0.625 of 1% of the value of average
daily net assets up to and including $100 million; and 0.50 of 1% of the
value of average daily net assets over $100 million up to and including $250
million; and 0.45 of 1% of the value of average daily net assets over $250
million up to and including $10 billion; and 0.44 of 1% of the value of
average daily net assets over $10 billion up to and including $12.5 billion;
and 0.42 of 1% of the value of average daily net assets over $12.5 billion up
to and including $15 billion; and 0.40 of 1% of the value of average daily
net assets over $15 billion. The fee is computed at the close of business on
the last business day of each month. Each class pays its proportionate share
of the management fee.
The table below shows the management fees paid by each fund for the fiscal
years ended April 30, 1998, 1997 and 1996.
MANAGEMENT FEES PAID
1998 1997 1996
- -------------------------------------------------------------------
Biotechnology Fund ............ $ 161,268* - -
Health Care Fund .............. 1,141,626 $ 873,754** $ 65,491**
Natural Resources Fund*** ..... 159,204 83,520 0
Utilities Fund ................ 1,179,477 1,007,080 770,522
*For the period September 15, 1997 to April 30, 1998, management fees, before
any advance waiver, totaled $196,583 for the Biotechnology Fund. Under an
agreement by Advisers to limit its fees, the Biotechnology Fund paid the
management fees shown.
**For the fiscal years ended April 30, 1997 and 1996, management fees, before
any advance waiver, totaled $873,754 and $208,494, respectively for the
Health Care Fund. Under an agreement by Advisers to limit its fees, the
Health Care Fund paid the management fees shown.
***For the fiscal years ended April 30, 1998 and 1997 and for the period from
June 5, 1996 to April 30, 1996, management fees, before any advance waiver,
totaled $357,984, $175,237 and $21,007, respectively, for the Natural
Resources Fund. Under an agreement by Advisers to limit its fees, the Natural
Resources Fund paid the management fees shown.
MANAGEMENT AGREEMENTS. The management agreements are in effect until April
30, 1999. Each agreement may continue in effect for successive annual periods
if its continuance is specifically approved at least annually by a vote of
the Board or by a vote of the holders of a majority of the fund's outstanding
voting securities, and in either event by a majority vote of the Board
members who are not parties to the management agreement or interested persons
of any such party (other than as members of the Board), cast in person at a
meeting called for that purpose. Each management agreement may be terminated
without penalty at any time by the Board or by a vote of the holders of a
majority of the fund's outstanding voting securities on 60 days' written
notice to Advisers, or by Advisers on 60 days' written notice to the relevant
fund, and will automatically terminate in the event of its assignment, as
defined in the 1940 Act.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services
provides certain administrative services and facilities for the Health Care
Fund, the Natural Resources Fund, and the Utilities Fund. FT Services also
provides these services and facilities for the Biotechnology Fund. These
include preparing and maintaining books, records, and tax and financial
reports, and monitoring compliance with regulatory requirements. FT Services
is a wholly owned subsidiary of Resources.
Under the administration agreements, the Biotechnology Fund and Advisers (on
behalf of the remaining funds) pay FT Services a monthly administration fee
equal to an annual rate of 0.15% of each fund's average daily net assets up
to $200 million, 0.135% of average daily net assets over $200 million up to
$700 million, 0.10% of average daily net assets over $700 million up to $1.2
billion, and 0.075% of average daily net assets over $1.2 billion.
The table below shows the administration fees paid to FT Services for the
fiscal year ended April 30, 1998 and 1997. For the Health Care, Natural
Resources and Utilities funds, the fees are paid by Advisers. They are not a
separate expense of these funds.
ADMINISTRATION FEES PAID
1998 1997*
Biotechnology Fund ............ $ 44,500** -
Health Care Fund .............. 303,965 141,388
Natural Resources Fund ........ 85,915 32,992
Utilities Fund ................ 314,531 157,925
*For the period October 1, 1996 through April 30, 1997
**For the period September 15, 1997 through April 30, 1998
SHAREHOLDER SERVICING AGENT. Investor Services, a wholly owned subsidiary of
Resources, is the funds' shareholder servicing agent and acts as the funds'
transfer agent and dividend-paying agent. Investor Services is compensated on
the basis of a fixed fee per account. The funds may also reimburse Investor
Services for certain out-of-pocket expenses, which may include payments by
Investor Services to entities, including affiliated entities, that provide
sub-shareholder services, recordkeeping and/or transfer agency services to
beneficial owners of the funds. The amount of reimbursements for these
services per benefit plan participant fund account per year may not exceed
the per account fee payable by the funds to Investor Services in connection
with maintaining shareholder accounts.
CUSTODIAN. Bank of New York, Mutual Funds Division, 90 Washington Street, New
York, New York 10286, acts as custodian of the securities and other assets of
each fund. The custodian does not participate in decisions relating to the
purchase and sale of portfolio securities.
AUDITOR. Coopers & Lybrand L.L.P., 333 Market Street, San Francisco,
California 94105, is the funds' independent auditor. During the fiscal year
ended April 30, 1998, the auditor's services consisted of rendering an
opinion on the financial statements of the Trust included in the Trust's
Annual Report to Shareholders for the fiscal year ended April 30, 1998.
HOW DO THE FUNDS BUY
SECURITIES FOR THEIR PORTFOLIOS?
Advisers selects brokers and dealers to execute the funds' portfolio
transactions in accordance with criteria set forth in the management
agreement and any directions that the Board may give.
When placing a portfolio transaction, Advisers seeks to obtain prompt
execution of orders at the most favorable net price. For portfolio
transactions on a securities exchange, the amount of commission paid by a
fund is negotiated between Advisers and the broker executing the transaction.
The determination and evaluation of the reasonableness of the brokerage
commissions paid are based to a large degree on the professional opinions of
the persons responsible for placement and review of the transactions. These
opinions are based on the experience of these individuals in the securities
industry and information available to them about the level of commissions
being paid by other institutional investors of comparable size. Advisers will
ordinarily place orders to buy and sell over-the-counter securities on a
principal rather than agency basis with a principal market maker unless, in
the opinion of Advisers, a better price and execution can otherwise be
obtained. Purchases of portfolio securities from underwriters will include a
commission or concession paid by the issuer to the underwriter, and purchases
from dealers will include a spread between the bid and ask price.
Advisers may pay certain brokers commissions that are higher than those
another broker may charge, if Advisers determines in good faith that the
amount paid is reasonable in relation to the value of the brokerage and
research services it receives. This may be viewed in terms of either the
particular transaction or Advisers' overall responsibilities to client
accounts over which it exercises investment discretion. The services that
brokers may provide to Advisers include, among others, supplying information
about particular companies, markets, countries, or local, regional, national
or transnational economies, statistical data, quotations and other securities
pricing information, and other information that provides lawful and
appropriate assistance to Advisers in carrying out its investment advisory
responsibilities. These services may not always directly benefit the funds.
They must, however, be of value to Advisers in carrying out its overall
responsibilities to its clients.
It is not possible to place a dollar value on the special executions or on
the research services Advisers receives from dealers effecting transactions
in portfolio securities. The allocation of transactions in order to obtain
additional research services permits Advisers to supplement its own research
and analysis activities and to receive the views and information of
individuals and research staffs of other securities firms. As long as it is
lawful and appropriate to do so, Advisers and its affiliates may use this
research and data in their investment advisory capacities with other clients.
If the funds' officers are satisfied that the best execution is obtained, the
sale of fund shares, as well as shares of other funds in the Franklin
Templeton Group of Funds, may also be considered a factor in the selection of
broker-dealers to execute the funds' portfolio transactions.
Because Distributors is a member of the NASD, it may sometimes receive
certain fees when a fund tenders portfolio securities pursuant to a
tender-offer solicitation. As a means of recapturing brokerage for the
benefit of a fund, any portfolio securities tendered by the fund will be
tendered through Distributors if it is legally permissible to do so. In turn,
the next management fee payable to Advisers will be reduced by the amount of
any fees received by Distributors in cash, less any costs and expenses
incurred in connection with the tender.
If purchases or sales of securities of a fund and one or more other
investment companies or clients supervised by Advisers are considered at or
about the same time, transactions in these securities will be allocated among
the several investment companies and clients in a manner deemed equitable to
all by Advisers, taking into account the respective sizes of the funds and
the amount of securities to be purchased or sold. In some cases this
procedure could have a detrimental effect on the price or volume of the
security so far as a fund is concerned. In other cases it is possible that
the ability to participate in volume transactions may improve execution and
reduce transaction costs to the fund.
During the fiscal years ended April 30, 1998, 1997 and 1996, the funds paid
brokerage commissions as follows:
BROKERAGE COMMISSIONS PAID
------------------------------------
1998 1997 1996
- ------------------------------------------------------------------------------
Biotechnology Fund .................... $ 61,003* N/A N/A
Health Care Fund ...................... $178,330 $200,754 $ 76,519
Natural Resources Fund ................ $154,303 $120,604 $ 21,405**
Utilities Fund ........................ $229,415 $339,618 $235,700
*For the period September 15, 1997 through April 30, 1998.
**For the period June 5, 1995 through April 30, 1996.
As of April 30, 1998, none of the funds owned securities of their regular
broker-dealers.
HOW DO I BUY, SELL AND EXCHANGE SHARES?
ADDITIONAL INFORMATION ON BUYING SHARES
The funds continuously offer their shares through Securities Dealers who have
an agreement with Distributors. Securities Dealers may at times receive the
entire sales charge. A Securities Dealer who receives 90% or more of the
sales charge may be deemed an underwriter under the Securities Act of 1933,
as amended.
Banks and financial institutions that sell shares of the funds may be
required by state law to register as Securities Dealers. Financial
institutions or their affiliated brokers may receive an agency transaction
fee in the percentages indicated in the table under "How Do I Buy Shares? -
Purchase Price of Fund Shares" in the Prospectus.
When you buy shares of a fund, if you submit a check or a draft that is
returned unpaid to the fund we may impose a $10 charge against your account
for each returned item.
Under agreements with certain banks in Taiwan, Republic of China, the funds'
shares are available to these banks' trust accounts without a sales charge.
The banks may charge service fees to their customers who participate in the
trusts. A portion of these service fees may be paid to Distributors or one of
its affiliates to help defray expenses of maintaining a service office in
Taiwan, including expenses related to local literature fulfillment and
communication facilities.
Class I shares of the funds may be offered to investors in Taiwan through
securities advisory firms known locally as Securities Investment Consulting
Enterprises. In conformity with local business practices in Taiwan, Class I
shares may be offered with the following schedule of sales charges:
SALES
SIZE OF PURCHASE - U.S. DOLLARS CHARGE
Under $30,000 .............................................. 3.0%
$30,000 but less than $50,000 .............................. 2.5%
$50,000 but less than $100,000 ............................. 2.0%
$100,000 but less than $200,000 ............................ 1.5%
$200,000 but less than $400,000 ............................ 1.0%
$400,000 or more ........................................... 0%
OTHER PAYMENTS TO SECURITIES DEALERS. Distributors may pay the following
commissions, out of its own resources, to Securities Dealers who initiate and
are responsible for purchases of Class I shares of $1 million or more: 1% on
sales of $1 million to $2 million, plus 0.80% on sales over $2 million to $3
million, plus 0.50% on sales over $3 million to $50 million, plus 0.25% on
sales over $50 million to $100 million, plus 0.15% on sales over $100 million.
Either Distributors or one of its affiliates may pay the following amounts,
out of its own resources, to Securities Dealers who initiate and are
responsible for purchases of Class I shares by certain retirement plans
without a front-end sales charge, as discussed in the Prospectus: 1% on sales
of $500,000 to $2 million, plus 0.80% on sales over $2 million to $3 million,
plus 0.50% on sales over $3 million to $50 million, plus 0.25% on sales over
$50 million to $100 million, plus 0.15% on sales over $100 million.
Distributors may make these payments in the form of contingent advance
payments, which may be recovered from the Securities Dealer or set off
against other payments due to the dealer if shares are sold within 12 months
of the calendar month of purchase. Other conditions may apply. All terms and
conditions may be imposed by an agreement between Distributors, or one of its
affiliates, and the Securities Dealer.
These breakpoints are reset every 12 months for purposes of additional
purchases.
Distributors and/or its affiliates provide financial support to various
Securities Dealers that sell shares of the Franklin Templeton Group of Funds.
This support is based primarily on the amount of sales of fund shares. The
amount of support may be affected by: total sales; net sales; levels of
redemptions; the proportion of a Securities Dealer's sales and marketing
efforts in the Franklin Templeton Group of Funds; a Securities Dealer's
support of, and participation in, Distributors' marketing programs; a
Securities Dealer's compensation programs for its registered representatives;
and the extent of a Securities Dealer's marketing programs relating to the
Franklin Templeton Group of Funds. Financial support to Securities Dealers
may be made by payments from Distributors' resources, from Distributors'
retention of underwriting concessions and, in the case of funds that have
Rule 12b-1 plans, from payments to Distributors under such plans. In
addition, certain Securities Dealers may receive brokerage commissions
generated by fund portfolio transactions in accordance with the NASD's rules.
Distributors routinely sponsors due diligence meetings for registered
representatives during which they receive updates on various Franklin
Templeton Funds and are afforded the opportunity to speak with portfolio
managers. Invitation to these meetings is not conditioned on selling a
specific number of shares. Those who have shown an interest in the Franklin
Templeton Funds, however, are more likely to be considered. To the extent
permitted by their firm's policies and procedures, registered
representatives' expenses in attending these meetings may be covered by
Distributors.
LETTER OF INTENT. You may qualify for a reduced sales charge when you buy
Class I shares, as described in the Prospectus. At any time within 90 days
after the first investment that you want to qualify for a reduced sales
charge, you may file with the relevant fund a signed shareholder application
with the Letter of Intent section completed. After the Letter is filed, each
additional investment will be entitled to the sales charge applicable to the
level of investment indicated on the Letter. Sales charge reductions based on
purchases in more than one Franklin Templeton Fund will be effective only
after notification to Distributors that the investment qualifies for a
discount. Your holdings in the Franklin Templeton Funds acquired more than 90
days before the Letter is filed will be counted towards completion of the
Letter, but they will not be entitled to a retroactive downward adjustment in
the sales charge. Any redemptions you make during the 13 month period, except
in the case of certain retirement plans, will be subtracted from the amount
of the purchases for purposes of determining whether the terms of the Letter
have been completed. If the Letter is not completed within the 13 month
period, there will be an upward adjustment of the sales charge, depending on
the amount actually purchased (less redemptions) during the period. The
upward adjustment does not apply to certain retirement plans. If you execute
a Letter before a change in the sales charge structure of the fund, you may
complete the Letter at the lower of the new sales charge structure or the
sales charge structure in effect at the time the Letter was filed.
As mentioned in the Prospectus, five percent (5%) of the amount of the total
intended purchase will be reserved in Class I shares of the fund registered
in your name until you fulfill the Letter. This policy of reserving shares
does not apply to certain retirement plans. If the amount of your total
purchases, less redemptions, equals the amount specified under the Letter,
the reserved shares will be deposited to an account in your name or delivered
to you or as you direct. If the amount of your total purchases, less
redemptions, exceeds the amount specified under the Letter and is an amount
that would qualify for a further quantity discount, a retroactive price
adjustment will be made by Distributors and the Securities Dealer through
whom purchases were made pursuant to the Letter (to reflect such further
quantity discount) on purchases made within 90 days before and on those made
after filing the Letter. The resulting difference in Offering Price will be
applied to the purchase of additional shares at the Offering Price applicable
to a single purchase or the dollar amount of the total purchases. If the
amount of your total purchases, less redemptions, is less than the amount
specified under the Letter, you will remit to Distributors an amount equal to
the difference in the dollar amount of sales charge actually paid and the
amount of sales charge that would have applied to the aggregate purchases if
the total of the purchases had been made at a single time. Upon remittance,
the reserved shares held for your account will be deposited to an account in
your name or delivered to you or as you direct. If within 20 days after
written request the difference in sales charge is not paid, the redemption of
an appropriate number of reserved shares to realize the difference will be
made. In the event of a total redemption of the account before fulfillment of
the Letter, the additional sales charge due will be deducted from the
proceeds of the redemption, and the balance will be forwarded to you.
If a Letter is executed on behalf of certain retirement plans, the level and
any reduction in sales charge for these plans will be based on actual plan
participation and the projected investments in the Franklin Templeton Funds
under the Letter. These plans are not subject to the requirement to reserve
5% of the total intended purchase, or to any penalty as a result of the early
termination of a plan, nor are these plans entitled to receive retroactive
adjustments in price for investments made before executing the Letter.
REINVESTMENT DATE. Shares acquired through the reinvestment of dividends will
be purchased at the Net Asset Value determined on the business day following
the dividend record date (sometimes known as the "ex-dividend date"). The
processing date for the reinvestment of dividends may vary and does not
affect the amount or value of the shares acquired.
ADDITIONAL INFORMATION ON EXCHANGING SHARES
If you request the exchange of the total value of your account, declared but
unpaid income dividends and capital gain distributions will be exchanged into
the new fund and will be invested at Net Asset Value. Backup withholding and
information reporting may apply. Information regarding the possible tax
consequences of an exchange is included in the tax section in this SAI and in
the Prospectus.
If a substantial number of shareholders should, within a short period, sell
their shares of a fund under the exchange privilege, the fund might have to
sell portfolio securities it might otherwise hold and incur the additional
costs related to such transactions. On the other hand, increased use of the
exchange privilege may result in periodic large inflows of money. If this
occurs, it is each fund's general policy to initially invest this money in
short-term, interest-bearing money market instruments, unless it is believed
that attractive investment opportunities consistent with the fund's
investment goal exist immediately. This money will then be withdrawn from the
short-term, money market instruments and invested in portfolio securities in
as orderly a manner as is possible when attractive investment opportunities
arise.
The proceeds from the sale of shares of an investment company are generally
not available until the seventh day following the sale. The funds you are
seeking to exchange into may delay issuing shares pursuant to an exchange
until that seventh day. The sale of fund shares to complete an exchange will
be effected at Net Asset Value at the close of business on the day the
request for exchange is received in proper form. Please see "May I Exchange
Shares for Shares of Another Fund?" in the Prospectus.
ADDITIONAL INFORMATION ON SELLING SHARES
SYSTEMATIC WITHDRAWAL PLAN. There are no service charges for establishing or
maintaining a systematic withdrawal plan. Payments under the plan will be
made from the redemption of an equivalent amount of shares in your account,
generally on the 25th day of the month in which a payment is scheduled. If
the 25th falls on a weekend or holiday, we will process the redemption on the
next business day.
Redeeming shares through a systematic withdrawal plan may reduce or exhaust
the shares in your account if payments exceed distributions received from the
fund. This is especially likely to occur if there is a market decline. If a
withdrawal amount exceeds the value of your account, your account will be
closed and the remaining balance in your account will be sent to you. Because
the amount withdrawn under the plan may be more than your actual yield or
income, part of the payment may be a return of your investment.
Each fund may discontinue a systematic withdrawal plan by notifying you in
writing and will automatically discontinue a systematic withdrawal plan if
all shares in your account are withdrawn or if the fund receives notification
of the shareholder's death or incapacity.
THROUGH YOUR SECURITIES DEALER. If you sell shares through your Securities
Dealer, it is your dealer's responsibility to transmit the order to the
relevant fund in a timely fashion. Any loss to you resulting from your
dealer's failure to do so must be settled between you and your Securities
Dealer.
REDEMPTIONS IN KIND. Each fund has committed itself to pay in cash (by check)
all requests for redemption by any shareholder of record, limited in amount,
however, during any 90-day period to the lesser of $250,000 or 1% of the
value of the fund's net assets at the beginning of the 90-day period. This
commitment is irrevocable without the prior approval of the SEC. In the case
of redemption requests in excess of these amounts, the Board reserves the
right to make payments in whole or in part in securities or other assets of
the relevant fund, in case of an emergency, or if the payment of such a
redemption in cash would be detrimental to the existing shareholders of the
fund. In these circumstances, the securities distributed would be valued at
the price used to compute the fund's net assets and you may incur brokerage
fees in converting the securities to cash. The fund does not intend to redeem
illiquid securities in kind. If this happens, however, you may not be able to
recover your investment in a timely manner.
GENERAL INFORMATION
If dividend checks are returned to a fund marked "unable to forward" by the
postal service, we will consider this a request by you to change your
dividend option to reinvest all distributions. The proceeds will be
reinvested in additional shares at Net Asset Value until we receive new
instructions.
Distribution or redemption checks sent to you do not earn interest or any
other income during the time the checks remain uncashed. Neither the fund nor
its affiliates will be liable for any loss caused by your failure to cash
such checks. The funds are not responsible for tracking down uncashed checks,
unless a check is returned as undeliverable.
In most cases, if mail is returned as undeliverable we are required to take
certain steps to try to find you free of charge. If these attempts are
unsuccessful, however, we may deduct the costs of any additional efforts to
find you from your account. These costs may include a percentage of the
account when a search company charges a percentage fee in exchange for its
location services.
All checks, drafts, wires and other payment mediums used to buy or sell
shares of the funds must be denominated in U.S. dollars. We may, in our sole
discretion, either (a) reject any order to buy or sell shares denominated in
any other currency or (b) honor the transaction or make adjustments to your
account for the transaction as of a date and with a foreign currency exchange
factor determined by the drawee bank.
SPECIAL SERVICES. Investor Services may pay certain financial institutions
that maintain omnibus accounts with the funds on behalf of numerous
beneficial owners for recordkeeping operations performed with respect to such
owners. For each beneficial owner in the omnibus account, a fund may
reimburse Investor Services an amount not to exceed the per account fee that
the fund normally pays Investor Services. These financial institutions may
also charge a fee for their services directly to their clients.
Certain shareholder servicing agents may be authorized to accept your
transaction request.
HOW ARE FUND SHARES VALUED?
We calculate the Net Asset Value per share as of the close of the NYSE,
normally 1:00 p.m. Pacific time, each day that the NYSE is open for trading.
As of the date of this SAI, the funds are informed that the NYSE observes the
following holidays: New Year's Day, Martin Luther King Jr. Day, Presidents'
Day, Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day
and Christmas Day.
For the purpose of determining the aggregate net assets of a fund, cash and
receivables are valued at their realizable amounts. Interest is recorded as
accrued and dividends are recorded on the ex-dividend date. Portfolio
securities listed on a securities exchange or on the NASDAQ National Market
System for which market quotations are readily available are valued at the
last quoted sale price of the day or, if there is no such reported sale,
within the range of the most recent quoted bid and ask prices.
Over-the-counter portfolio securities are valued within the range of the most
recent quoted bid and ask prices. Portfolio securities that are traded both
in the over-the-counter market and on a stock exchange are valued according
to the broadest and most representative market as determined by Advisers.
Portfolio securities underlying actively traded call options are valued at
their market price as determined above. The current market value of any
option held by a fund is its last sale price on the relevant exchange before
the time when assets are valued. Lacking any sales that day or if the last
sale price is outside the bid and ask prices, options are valued within the
range of the current closing bid and ask prices if the valuation is believed
to fairly reflect the contract's market value.
Trading in securities on European and Far Eastern securities exchanges and
over-the-counter markets is normally completed well before the close of
business of the NYSE on each day that the NYSE is open. Trading in European
or Far Eastern securities generally, or in a particular country or countries,
may not take place on every NYSE business day. Furthermore, trading takes
place in various foreign markets on days that are not business days for the
NYSE and on which the Net Asset Value of each class is not calculated. Thus,
the calculation of the Net Asset Value of each class does not take place
contemporaneously with the determination of the prices of many of the
portfolio securities used in the calculation and, if events materially
affecting the values of these foreign securities occur, the securities will
be valued at fair value as determined by management and approved in good
faith by the Board.
Generally, trading in corporate bonds, U.S. government securities and money
market instruments is substantially completed each day at various times
before the close of the NYSE. The value of these securities used in computing
the Net Asset Value of each class is determined as of such times.
Occasionally, events affecting the values of these securities may occur
between the times at which they are determined and the close of the NYSE that
will not be reflected in the computation of the Net Asset Value. If events
materially affecting the values of these securities occur during this period,
the securities will be valued at their fair value as determined in good faith
by the Board.
Other securities for which market quotations are readily available are valued
at the current market price, which may be obtained from a pricing service,
based on a variety of factors including recent trades, institutional size
trading in similar types of securities (considering yield, risk and maturity)
and/or developments related to specific issues. Securities and other assets
for which market prices are not readily available are valued at fair value as
determined following procedures approved by the Board. With the approval of
the Board, the funds may use a pricing service, bank or Securities Dealer to
perform any of the above described functions.
ADDITIONAL INFORMATION ON
DISTRIBUTIONS AND TAXES
DISTRIBUTIONS
DISTRIBUTIONS OF NET INVESTMENT INCOME. Each fund receives income generally
in the form of dividends, interest, original issue, market and acquisition
discount, and other income derived from its investments. This income, less
expenses incurred in the operation of a fund, constitutes its net investment
income from which dividends may be paid to you. Any distributions by a fund
from such income will be taxable to you as ordinary income, whether you take
them in cash or in additional shares.
DISTRIBUTIONS OF CAPITAL GAINS. A fund may derive capital gains and losses in
connection with sales or other dispositions of its portfolio securities.
Distributions derived from the excess of net short-term capital gain over net
long-term capital loss will be taxable to you as ordinary income.
Distributions paid from long-term capital gains realized by a fund will be
taxable to you as long-term capital gain, regardless of how long you have
held your shares in the fund. Any net short-term or long-term capital gains
realized by a fund (net of any capital loss carryovers) generally will be
distributed once each year, and may be distributed more frequently, if
necessary, in order to reduce or eliminate federal excise or income taxes on
the fund.
Gains from securities sold by a fund that are held for more than one year
will be taxable at a maximum rate of 20% for individual investors in the 28%
or higher federal income tax brackets; or at a maximum rate of 10% for
individual investors in the 15% federal income tax bracket. Gains from
securities sold by the fund prior to January 1, 1998 are taxable at different
rates depending on the length of time the fund held such assets.
For "qualified 5-year gains," the maximum capital gains rate is 18% for
individuals in the 28% or higher federal income tax brackets; and 8% for
individuals in the 15% federal income tax bracket. For individuals in the 15%
bracket, qualified 5-year gains are net gains on securities held for more
than 5 years which are sold after December 31, 2000. For individuals who are
subject to tax at higher rates, qualified 5-year gains are net gains on
securities which are purchased after December 31, 2000 and are held for more
than 5 years. Taxpayers subject to tax at the higher rates may also make an
election for shares held on January 1, 2001 to recognize gain on their shares
in order to qualify such shares as qualified 5-year property.
Additional information on reporting capital gains distributions on your
personal income tax returns is available in Franklin Templeton's Tax
Information Handbook. Please call Fund Information to request a copy.
Questions concerning each investor's personal tax reporting should be
addressed to the investor's personal tax advisor.
CERTAIN DISTRIBUTIONS PAID IN JANUARY. Distributions which are declared in
October, November or December and paid to you in January of the following
year, will be treated for tax purposes as if they had been received by you on
December 31 of the year in which they were declared. A fund will report this
income to you on your Form 1099-DIV for the year in which these distributions
were declared.
EFFECT OF FOREIGN INVESTMENTS ON DISTRIBUTIONS. Most foreign exchange gains
realized on the sale of debt instruments are treated as ordinary income by a
fund. Similarly, foreign exchange losses realized by a fund on the sale of
debt instruments are generally treated as ordinary losses by such fund. These
gains when distributed will be taxable to you as ordinary dividends, and any
losses will reduce a fund's ordinary income otherwise available for
distribution to you. This treatment could increase or reduce a fund's
ordinary income distributions to you, and may cause some or all of such
fund's previously distributed income to be classified as a return of capital.
A fund may be subject to foreign withholding taxes on income from certain of
its foreign securities. If more than 50% of the total assets of a fund at the
end of the fiscal year are invested in securities of foreign corporations,
such fund may elect to pass-through to you your pro rata share of foreign
taxes paid by the fund subject to certain holding period requirements. If
this election is made, you will be (i) required to include in your gross
income your pro rata share of foreign source income (including any foreign
taxes paid by the fund), and, (ii) entitled to either deduct your share of
such foreign taxes in computing your taxable income or to claim a credit for
such taxes against your U.S. income tax, subject to certain limitations under
the Code. You will be informed by each fund in which you are a shareholder at
the end of each calendar year regarding the availability of any such foreign
tax credits and the amount of foreign source income (including any foreign
taxes paid by a fund). If a fund elects to pass-through to you the foreign
income taxes that it has paid, you will be informed at the end of the
calendar year of the amount of foreign taxes paid and foreign source income
that must be included on your federal income tax return. If a fund invests
50% or less of its total assets in securities of foreign corporations, it
will not be entitled to pass-through to you your pro rata share of the
foreign taxes paid by the fund. In this case, these taxes will be taken as a
deduction by the fund, and the income reported to you will be the net amount
after these deductions.
The procedures by which investors in funds that invest in foreign securities
can claim tax credits on their individual income tax returns for the foreign
taxes paid by a fund have been simplified for tax years beginning in 1998.
These provisions will allow investors who claim a credit for foreign taxes
paid of $300 or less on a single return or $600 or less on a joint return
during any year (all of which must be reported on IRS Form 1099-DIV from the
fund to the investor) to bypass the burdensome and detailed reporting
requirements on the supporting foreign tax credit schedule (Form 1116) and
report foreign taxes paid directly on page 2 of Form 1040.
INFORMATION ON THE TAX CHARACTER OF DISTRIBUTIONS. Each fund in which you are
a shareholder will inform you of the amount and character of your
distributions at the time they are paid, and will advise you of the tax
status for federal income tax purposes of such distributions shortly after
the close of each calendar year. If you have not held fund shares for a full
year, you may have designated and distributed to you as ordinary income or
capital gain a percentage of income that is not equal to the actual amount of
such income earned during the period of your investment in the fund.
TAXES
ELECTION TO BE TAXED AS A REGULATED INVESTMENT COMPANY. Each fund has elected
to be treated as a regulated investment company under Subchapter M of the
Code, has qualified as such for its most recent fiscal year, and intends to
so qualify during the current fiscal year. The Board reserves the right not
to maintain the qualification of a fund as a regulated investment company if
it determines such course of action to be beneficial to you. In such case,
the fund will be subject to federal, and possibly state, corporate taxes on
its taxable income and gains, and distributions to you will be taxed as
ordinary dividend income to the extent of the fund's available earnings and
profits.
In order to qualify as a regulated investment company for tax purposes, each
fund must meet certain specific requirements, including:
o The fund must maintain a diversified portfolio of securities, wherein no
security (other than U.S. government securities and securities of other
regulated investment companies) can exceed 25% of the fund's total assets,
and, with respect to 50% of the fund's total assets, no investment (other
than cash and cash items, U.S. government securities and securities of
other regulated investment companies) can exceed 5% of the fund's total
assets or 10% of the outstanding voting securities of the issuer;
o The fund must derive at least 90% of its gross income from dividends,
interest, payments with respect to securities loans, and gains from the
sale or disposition of stock, securities or foreign currencies, or other
income derived with respect to its business of investing in such stock,
securities, or currencies; and
o The fund must distribute to its shareholders at least 90% of its investment
company taxable income (i.e., net investment income plus net short-term
capital gains) and net tax-exempt income for each of its fiscal years.
EXCISE TAX DISTRIBUTION REQUIREMENTS. The Code requires a fund to distribute
at least 98% of its taxable ordinary income earned during the calendar year
and 98% of its capital gain net income earned during the twelve month period
ending October 31 (in addition to undistributed amounts from the prior year)
to you by December 31 of each year in order to avoid federal excise taxes.
Each fund intends to declare and pay sufficient dividends in December (or in
January that are treated by you as received in December) but does not
guarantee and can give no assurances that its distributions will be
sufficient to eliminate all such taxes.
REDEMPTION OF FUND SHARES. Redemptions and exchanges of fund shares are
taxable transactions for federal and state income tax purposes. The tax law
requires that you recognize a gain or loss in an amount equal to the
difference between your tax basis and the amount you received in exchange for
your shares, subject to the rules described below. If you hold your shares as
a capital asset, the gain or loss that you realize will be capital gain or
loss, and will be long-term for federal income tax purposes if you have held
your shares for more than one year at the time of redemption or exchange. Any
loss incurred on the redemption or exchange of shares held for six months or
less will be treated as a long-term capital loss to the extent of any
long-term capital gains distributed to you by a fund on those shares.
All or a portion of any loss that you realize upon the redemption of your
fund shares will be disallowed to the extent that you purchase other shares
in the fund (through reinvestment of dividends or otherwise) within 30 days
before or after your share redemption. Any loss disallowed under these rules
will be added to your tax basis in the new shares you purchase.
DEFERRAL OF BASIS. All or a portion of the sales charge that you paid for
your shares in a fund will be excluded from your tax basis in any of the
shares sold within 90 days of their purchase (for the purpose of determining
gain or loss upon the sale of such shares) if you reinvest the sales proceeds
in the fund or in another of the Franklin Templeton Funds, and the sales
charge that would otherwise apply to your reinvestment is reduced or
eliminated. The portion of the sales charge excluded from your tax basis in
the shares sold will equal the amount that the sales charge is reduced on
your reinvestment. Any portion of the sales charge excluded from your tax
basis in the shares sold will be added to the tax basis of the shares you
acquire from your reinvestment.
U.S. GOVERNMENT OBLIGATIONS. Many states grant tax-free status to dividends
paid to you from interest earned on direct obligations of the U.S.
government, subject in some states to minimum investment requirements that
must be met by a fund. Investments in GNMA/FNMA securities, bankers'
acceptances, commercial paper and repurchase agreements collateralized by
U.S. government securities do not generally qualify for tax-free treatment.
At the end of each calendar year, each fund in which you are a shareholder
will provide you with the percentage of any dividends paid that may qualify
for tax-free treatment on your personal income tax return. You should consult
with your own tax advisor to determine the application of your state and
local laws to these distributions. Because the rules on exclusion of this
income are different for corporations, corporate shareholders should consult
with their corporate tax advisors about whether any of their distributions
may be exempt from corporate income or franchise taxes.
DIVIDENDS-RECEIVED DEDUCTION FOR CORPORATIONS. As a corporate shareholder,
you should note that only a small percentage of the dividends paid by the
funds for the most recent fiscal year qualified for the dividends-received
deduction. You will be permitted in some circumstances to deduct these
qualified dividends, thereby reducing the tax that you would otherwise be
required to pay on these dividends. The dividends-received deduction will be
available only with respect to dividends designated by a fund as eligible for
such treatment. Dividends so designated by a fund must be attributable to
dividends earned by such fund from U.S. corporations that were not
debt-financed.
INVESTMENT IN COMPLEX SECURITIES. A fund's investment in options, futures
contracts and forward contracts, including transactions involving actual or
deemed short sales or foreign exchange gains or losses are subject to many
complex and special tax rules. Over-the-counter options on debt securities
and equity options, including options on stock and on narrow-based stock
indexes, will be subject to tax under section 1234 of the Code, generally
producing a long-term or short-term capital gain or loss upon exercise,
lapse, or closing out of the option or sale of the underlying stock or
security. Certain other options, futures and forward contracts entered into
by a fund are generally governed by section 1256 of the Code. These "section
1256" positions generally include listed options on debt securities, options
on broad-based stock indexes, options on securities indexes, options on
futures contracts, regulated futures contracts and certain foreign currency
contracts and options thereon.
Absent a tax election to the contrary, each such section 1256 position held
by a fund will be marked-to-market (i.e., treated as if it were sold for fair
market value) on the last business day of such fund's fiscal year (and on
other dates as prescribed by the Code), and all gain or loss associated with
fiscal year transactions and mark-to-market positions at fiscal year end
(except certain currency gain or loss covered by section 988 of the Code)
will generally be treated as 60% long-term capital gain or loss and 40%
short-term capital gain or loss. Even though marked-to-market, gains and
losses realized on foreign currency and foreign security investments will
generally be treated as ordinary income. The effect of section 1256
mark-to-market rules may be to accelerate income or to convert what otherwise
would have been long-term capital gains into short-term capital gains or
short-term capital losses into long-term capital losses within a fund. The
acceleration of income on section 1256 positions may require a fund to accrue
taxable income without the corresponding receipt of cash. In order to
generate cash to satisfy the distribution requirements of the Code, a fund
may be required to dispose of portfolio securities that it otherwise would
have continued to hold or to use cash flows from other sources such as the
sale of fund shares. In these ways, any or all of these rules may affect the
amount, character and timing of income distributed to you by a fund.
When a fund holds an option or contract which substantially diminishes such
fund's risk of loss with respect to another position of the fund (as might
occur in some hedging transactions), this combination of positions could be
treated as a "straddle" for tax purposes, possibly resulting in deferral of
losses, adjustments in the holding periods and conversion of short-term
capital losses into long-term capital losses. A fund may make certain tax
elections for mixed straddles (i.e., straddles comprised of at least one
section 1256 position and at least one non-section 1256 position) which may
reduce or eliminate the operation of these straddle rules.
When a fund enters into "constructive sales transactions" the fund must
recognize gain (but not loss) on any constructive sale of an appreciated
financial position in stock, a partnership interest or certain debt
instruments. A fund will generally be treated as making a constructive sale
when it: 1) enters into a short sale on the same property, 2) enters into an
offsetting notional principal contract, or 3) enters into a futures or
forward contract to deliver the same or substantially similar property. Other
transactions (including certain financial instruments called collars) will be
treated as constructive sales as provided in Treasury regulations to be
published. There are also certain exceptions that apply for transactions that
are closed before the end of the 30th day after the close of the taxable year.
Distributions paid to you by a fund of ordinary income and short-term capital
gains arising from a fund's investments, including investments in options,
forwards, and futures contracts, will be taxable to you as ordinary income.
Each fund will monitor its transactions in such options and contracts and may
make certain other tax elections in order to mitigate the effect of the above
rules.
INVESTMENTS IN FOREIGN CURRENCIES AND FOREIGN SECURITIES. Each fund is
authorized to invest in foreign currency denominated securities. Such
investments, if made, will have the following additional tax consequences:
Under the Code, gains or losses attributable to fluctuations in foreign
currency exchange rates which occur between the time a fund accrues income
(including dividends), or accrues expenses which are denominated in a foreign
currency, and the time a fund actually collects such income or pays such
expenses generally are treated as ordinary income or loss. Similarly, on the
disposition of debt securities denominated in a foreign currency and on the
disposition of certain options, futures, forward contracts, gain or loss
attributable to fluctuations in the value of foreign currency between the
date of acquisition of the security or contract and the date of its
disposition are also treated as ordinary gain or loss. These gains or losses,
referred to under the Code as "section 988" gains or losses, may increase or
decrease the amount of a fund's net investment company taxable income, which,
in turn, will affect the amount of income to be distributed to you by such
fund.
If a fund's section 988 losses exceed the fund's other net investment company
taxable income during a taxable year, such fund generally will not be able to
make ordinary dividend distributions to you for that year, or distributions
made before the losses were realized will be recharacterized as return of
capital distributions for federal income tax purposes, rather than as an
ordinary dividend or capital gain distribution. If a distribution is treated
as a return of capital, your tax basis in your fund shares will be reduced by
a like amount (to the extent of such basis), and any excess of the
distribution over your tax basis in your fund shares will be treated as
capital gain to you.
INVESTMENT IN PASSIVE FOREIGN INVESTMENT COMPANY SECURITIES. Each fund may
invest in shares of foreign corporations which may be classified under the
Code as passive foreign investment companies ("PFICs"). In general, a foreign
corporation is classified as a PFIC if at least one-half of its assets
constitute investment-type assets or 75% or more of its gross income is
investment-type income.
If a fund receives an "excess distribution" with respect to PFIC stock, the
fund itself may be subject to U.S. federal income tax on a portion of the
distribution, whether or not the corresponding income is distributed by the
fund to you. In general, under the PFIC rules, an excess distribution is
treated as having been realized ratably over the period during which the fund
held the PFIC shares. Each fund itself will be subject to tax on the portion,
if any, of an excess distribution that is so allocated to prior fund taxable
years, and an interest factor will be added to the tax, as if the tax had
been payable in such prior taxable years. In this case, you would not be
permitted to claim a credit on your own tax return for the tax paid by the
fund. Certain distributions from a PFIC as well as gain from the sale of PFIC
shares are treated as excess distributions. Excess distributions are
characterized as ordinary income even though, absent application of the PFIC
rules, certain excess distributions might have been classified as capital
gain. This may have the effect of increasing fund distributions to you that
are treated as ordinary dividends rather than long-term capital gain
dividends.
Each fund may be eligible to elect alternative tax treatment with respect to
PFIC shares. Under an election that currently is available in some
circumstances, a fund generally would be required to include in its gross
income its share of the earnings of a PFIC on a current basis, regardless of
whether distributions are received from the PFIC during such period. If this
election were made, the special rules, discussed above, relating to the
taxation of excess distributions, would not apply. In addition, under another
election that involves marking-to-market the fund's PFIC shares at the end of
each taxable year (and on certain other dates as prescribed in the Code),
unrealized gains would be treated as though they were realized. Each fund
would also be allowed an ordinary deduction for the excess, if any, of the
adjusted basis of its investment in the PFIC stock over its fair market value
at the end of the taxable year. This deduction would be limited to the amount
of any net mark-to-market gains previously included with respect to that
particular PFIC security. If a fund were to make this second PFIC election,
tax at the fund level under the PFIC rules would generally be eliminated.
The application of the PFIC rules may affect, among other things, the amount
of tax payable by a fund (if any), the amounts distributable to you by a
fund, the time at which these distributions must be made, and whether these
distributions will be classified as ordinary income or capital gain
distributions to you.
You should be aware that it is not always possible at the time shares of a
foreign corporation are acquired to ascertain that the foreign corporation is
a PFIC, and that there is always a possibility that a foreign corporation
will become a PFIC after a fund acquires shares in that corporation. While a
fund will generally seek to avoid investing in PFIC shares to avoid the tax
consequences detailed above, there are no guarantees that it will do so and
it reserves the right to make such investments as a matter of its fundamental
investment policy.
CONVERSION TRANSACTIONS. Gains realized by a fund from transactions that are
deemed to be "conversion transactions" under the Code, and that would
otherwise produce capital gain may be recharacterized as ordinary income to
the extent that such gain does not exceed an amount defined as the
"applicable imputed income amount." A conversion transaction is any
transaction in which substantially all of a fund's expected return is
attributable to the time value of the fund's net investment in such
transaction, and any one of the following criteria are met:
1) there is an acquisition of property with a substantially contemporaneous
agreement to sell the same or substantially identical property in the
future;
2) the transaction is an applicable straddle;
3) the transaction was marketed or sold to the fund on the basis that it
would have the economic characteristics of a loan but would be taxed as
capital gain; or
4) the transaction is specified in Treasury regulations to be promulgated in
the future.
The applicable imputed income amount, which represents the deemed return on
the conversion transaction based upon the time value of money, is computed
using a yield equal to 120 percent of the applicable federal rate, reduced by
any prior recharacterizations under this provision or the provisions of
Section 263(g) of the Code dealing with capitalized carrying costs.
STRIPPED PREFERRED STOCK. Occasionally, a fund may purchase "stripped
preferred stock" that is subject to special tax treatment. Stripped preferred
stock is defined as certain preferred stock issues where ownership of the
stock has been separated from the right to receive dividends that have not
yet become payable. The stock must have a fixed redemption price, must not
participate substantially in the growth of the issuer, and must be limited
and preferred as to dividends. The difference between the redemption price
and purchase price is taken into fund income over the term of the instrument
as if it were original issue discount. The amount that must be included in
each period generally depends on the original yield to maturity, adjusted for
any prepayments of principal.
INVESTMENTS IN ORIGINAL ISSUE DISCOUNT (OID) AND MARKET DISCOUNT (MD) BONDS.
A fund's investments in zero coupon bonds, bonds issued or acquired at a
discount, delayed interest bonds, or bonds that provide for payment of
interest-in-kind (PIK) may cause a fund to recognize income and make
distributions to you prior to its receipt of cash payments. Zero coupon and
delayed interest bonds are normally issued at a discount and are therefore
generally subject to tax reporting as OID obligations. A fund is required to
accrue as income a portion of the discount at which these securities were
issued, and to distribute such income each year (as ordinary dividends) in
order to maintain its qualification as a regulated investment company and to
avoid income reporting and excise taxes at the fund level. PIK bonds are
subject to similar tax rules concerning the amount, character and timing of
income required to be accrued by a fund. Bonds acquired in the secondary
market for a price less than their stated redemption price, or revised issue
price in the case of a bond having OID, are said to have been acquired with
market discount. For these bonds, a fund may elect to accrue market discount
on a current basis, in which case the fund will be required to distribute any
such accrued discount. If a fund does not elect to accrue market discount
into income currently, gain recognized on sale will be recharacterized as
ordinary income instead of capital gain to the extent of any accumulated
market discount on the obligation.
DEFAULTED OBLIGATIONS. A fund may be required to accrue income on defaulted
obligations and to distribute such income to you even though it is not
currently receiving interest or principal payments on such obligations. In
order to generate cash to satisfy these distribution requirements, a fund may
be required to dispose of portfolio securities that it otherwise would have
continued to hold or to use cash flows from other sources such as the sale of
fund shares.
THE FUND'S UNDERWRITER
Pursuant to an underwriting agreement, Distributors acts as principal
underwriter in a continuous public offering of the funds' shares. The
underwriting agreement will continue in effect for successive annual periods
if its continuance is specifically approved at least annually by a vote of
the Board or by a vote of the holders of a majority of the funds' outstanding
voting securities, and in either event by a majority vote of the Board
members who are not parties to the underwriting agreement or interested
persons of any such party (other than as members of the Board), cast in
person at a meeting called for that purpose. The underwriting agreement
terminates automatically in the event of its assignment and may be terminated
by either party on 90 days' written notice.
Distributors pays the expenses of the distribution of fund shares, including
advertising expenses and the costs of printing sales material and
prospectuses used to offer shares to the public. Each fund pays the expenses
of preparing and printing amendments to its registration statements and
prospectuses (other than those necessitated by the activities of
Distributors) and of sending prospectuses to existing shareholders.
The table below shows the aggregate underwriting commissions in connection
with the offering of the funds' shares, the net underwriting discounts and
commissions retained by Distributors after allowances to dealers, and the
amounts received by Distributors in connection with redemptions or
repurchases of shares for the fiscal years ended April 30, 1998, 1997 and
1996.
AMOUNT RECEIVED
TOTAL AMOUNT IN CONNECTION
COMMISSIONS RETAINED BY WITH REDEMPTIONS
RECEIVED DISTRIBUTORS OR REPURCHASES
1998
Biotechnology Fund*...............$2,427,478 $272,305 $ 0
Health Care Fund ................. 1,264,914 123,956 0
Natural Resources Fund ........... 584,114 66,612 0
Utilities Fund.................... 544,344 55,047 2,786
1997
Health Care Fund ................. 3,331,378 362,830 0
Natural Resources Fund............ 742,239 16,002 0
Utilities Fund.................... 456,380 43,795 4,607
1996
Health Care Fund ................. 1,317,176 148,496 0
Natural Resources Fund**.......... 136,529 15,262 0
Utilities Fund.................... 372,584 38,712 0
*For the period September 15, 1997 through April 30, 1998.
**For the period June 5, 1995 through April 30, 1996.
Distributors may be entitled to reimbursement under the Rule 12b-1 plan for
each class, as discussed below. Except as noted, Distributors received no
other compensation from the fund for acting as underwriter.
THE RULE 12B-1 PLANS
Class I and Class II have separate distribution plans or "Rule 12b-1 plans"
that were adopted pursuant to Rule 12b-1 of the 1940 Act.
THE CLASS I PLAN. Under the Class I plan, the Biotechnology Fund and the
Natural Resources Fund may pay up to a maximum of 0.35% per year of Class I's
average daily net assets, payable quarterly, for expenses incurred in the
promotion and distribution of Class I shares. Of this amount, each fund may
reimburse up to 0.35% to Distributors or others, out of which 0.10% will
generally be retained by Distributors for its distribution expenses. The
Biotechnology Fund will not pay the additional 0.10% to Distributors during
any period when the fund is closed to new investors.
Under the Class I plan, the Health Care Fund and the Utilities Fund may pay
up to a maximum of 0.25% per year of Class I's average daily net assets,
payable quarterly, for expenses incurred in the promotion and distribution of
Class I shares.
The Health Care Fund's and the Utilities Fund's Class I plan does not permit
unreimbursed expenses incurred in a particular year to be carried over to or
reimbursed in later years.
THE CLASS II PLAN. Under the Class II plan, the Health Care Fund and the
Utilities Fund pay Distributors up to 0.75% per year of Class II's average
daily net assets, payable quarterly, for distribution and related expenses.
These fees may be used to compensate Distributors or others for providing
distribution and related services and bearing certain Class II expenses. All
distribution expenses over this amount will be borne by those who have
incurred them without reimbursement by the fund.
Under the Class II plan, the Health Care Fund and the Utilities Fund also pay
an additional 0.25% per year of Class II's average daily net assets, payable
quarterly, as a servicing fee.
THE CLASS I AND CLASS II PLANS. In addition to the payments that Distributors
or others are entitled to under each plan, each plan also provides that to
the extent the fund, Advisers or Distributors or other parties on behalf of
the fund, Advisers or Distributors make payments that are deemed to be for
the financing of any activity primarily intended to result in the sale of
shares of each class within the context of Rule 12b-1 under the 1940 Act,
then such payments shall be deemed to have been made pursuant to the plan.
The terms and provisions of each plan relating to required reports, term, and
approval are consistent with Rule 12b-1.
In no event shall the aggregate asset-based sales charges, which include
payments made under each plan, plus any other payments deemed to be made
pursuant to a plan, exceed the amount permitted to be paid under the rules of
the NASD.
To the extent fees are for distribution or marketing functions, as
distinguished from administrative servicing or agency transactions, certain
banks will not be entitled to participate in the plans as a result of
applicable federal law prohibiting certain banks from engaging in the
distribution of mutual fund shares. These banking institutions, however, are
permitted to receive fees under the plans for administrative servicing or for
agency transactions. If you are a customer of a bank that is prohibited from
providing these services, you would be permitted to remain a shareholder of
the fund, and alternate means for continuing the servicing would be sought.
In this event, changes in the services provided might occur and you might no
longer be able to avail yourself of any automatic investment or other
services then being provided by the bank. It is not expected that you would
suffer any adverse financial consequences as a result of any of these changes.
Each plan has been approved in accordance with the provisions of Rule 12b-1.
The plans are renewable annually by a vote of the Board, including a majority
vote of the Board members who are not interested persons of the fund and who
have no direct or indirect financial interest in the operation of the plans,
cast in person at a meeting called for that purpose. It is also required that
the selection and nomination of such Board members be done by the
non-interested members of the Board. The plans and any related agreement may
be terminated at any time, without penalty, by vote of a majority of the
non-interested Board members on not more than 60 days' written notice, by
Distributors on not more than 60 days' written notice, by any act that
constitutes an assignment of the management agreement with Advisers or by
vote of a majority of the outstanding shares of the class. The Class I plans
of the Health Care Fund and the Utilities Fund may also be terminated by any
act that constitutes an assignment of the underwriting agreement with
Distributors. Distributors or any dealer or other firm may also terminate
their respective distribution or service agreement at any time upon written
notice.
The plans and any related agreements may not be amended to increase
materially the amount to be spent for distribution expenses without approval
by a majority of the outstanding shares of the class, and all material
amendments to the plans or any related agreements shall be approved by a vote
of the non-interested members of the Board, cast in person at a meeting
called for the purpose of voting on any such amendment.
Distributors is required to report in writing to the Board at least quarterly
on the amounts and purpose of any payment made under the plans and any
related agreements, as well as to furnish the Board with such other
information as may reasonably be requested in order to enable the Board to
make an informed determination of whether the plans should be continued.
For the fiscal year ended April 30, 1998, Distributors' eligible expenditures
for advertising, printing and payments to underwriters and broker-dealers
pursuant to the plans and the amounts the funds paid Distributors under the
plans were as follows:
DISTRIBUTORS' AMOUNT
ELIGIBLE PAID BY
FUND EXPENDITURES FUND
Biotechnology Fund*..................... $ 91,723 $ 48,414
Health Care Fund -
Class I ............................... 666,437 450,309
Health Care Fund -
Class II .............................. 232,584 151,221
Natural Resources Fund ................. 191,245 173,913
Utilities Fund - Class I ............... 576,780 502,528
Utilities Fund - Class II .............. 139,658 121,151
*For the period September 15, 1997 through April 30, 1998.
HOW DO THE FUNDS MEASURE PERFORMANCE?
Performance quotations are subject to SEC rules. These rules require the use
of standardized performance quotations or, alternatively, that every
non-standardized performance quotation furnished by the funds be accompanied
by certain standardized performance information computed as required by the
SEC. Average annual total return and current yield quotations used by the
funds are based on the standardized methods of computing performance mandated
by the SEC. If a Rule 12b-1 plan is adopted, performance figures reflect fees
from the date of the plan's implementation. An explanation of these and other
methods used by the funds to compute or express performance follows.
Regardless of the method used, past performance does not guarantee future
results, and is an indication of the return to shareholders only for the
limited historical period used.
TOTAL RETURN
AVERAGE ANNUAL TOTAL RETURN. Average annual total return is determined by
finding the average annual rates of return over the periods indicated below
that would equate an initial hypothetical $1,000 investment to its ending
redeemable value. The calculation assumes the maximum front-end sales charge
is deducted from the initial $1,000 purchase, and income dividends and
capital gain distributions are reinvested at Net Asset Value. The quotation
assumes the account was completely redeemed at the end of each period and the
deduction of all applicable charges and fees. If a change is made to the
sales charge structure, historical performance information will be restated
to reflect the maximum front-end sales charge currently in effect.
The average annual total return for each class for the indicated periods ending
April 30, 1998 was as follows:
AVERAGE ANNUAL TOTAL RETURN
INCEPTION ONE FIVE FROM
DATE YEAR YEARS INCEPTION
Health Care Fund - ClassI.. 02/14/92 20.87% 21.73% 15.11%
Health Care Fund - Class II 09/03/96 24.98% -- 11.26%
Natural Resources Fund .... 06/05/95 10.79% -- 18.31%
Utilities Fund - Class I... 07/02/92 29.16% 16.17% 16.49%
Utilities Fund - Class II . 05/01/95 33.81% -- 23.01%
These figures were calculated according to the SEC formula:
n
P(1+T) = 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 each period at the end of each period
CUMULATIVE TOTAL RETURN. Like average annual total return, cumulative total
return assumes the maximum front-end sales charge is deducted from the
initial $1,000 purchase, and income dividends and capital gain distributions
are reinvested at Net Asset Value. Cumulative total return, however, is based
on the actual return for a specified period rather than on the average return
over the periods indicated above. The cumulative total return for each class
for the indicated periods ending April 30, 1998, was as follows:
CUMULATIVE TOTAL RETURN
INCEPTION ONE FIVE FROM
DATE YEAR YEARS INCEPTION
Biotechnology Fund ........ 09/15/97 - - 1.56%
Health Care Fund - Class I. 02/14/92 20.87% 167.27% 139.55%
Health Care Fund - Class II 09/03/96 24.98% - 19.31%
Natural Resources Fund .... 06/05/95 10.79% - 62.89%
Utilities Fund - Class I... 07/02/92 29.16% 111.59% 143.30%
Utilities Fund - Class II . 05/01/95 33.81% - 86.07%
YIELD - NATURAL RESOURCES FUND AND
UTILITIES FUND ONLY.
CURRENT YIELD. Current yield of each class shows the income per share earned
by a fund. It is calculated by dividing the net investment income per share
of each class earned during a 30-day base period by the applicable maximum
Offering Price per share on the last day of the period and annualizing the
result. Expenses accrued for the period include any fees charged to all
shareholders of the class during the base period. The yield for each class
for the 30-day period ended April 30, 1998, was as follows:
CURRENT YIELD
Natural Resources Fund ............................... 1.07%
Utilities Fund - Class I.............................. 1.52%
Utilities Fund - Class II ............................ 0.85%
These figures were obtained using the following SEC formula:
6
Yield = 2 [(a-b + 1) - 1]
---
cd
where:
a = dividends and interest earned during the period
b = expenses accrued for the period (net of reimbursements)
c = the average daily number of shares outstanding during the period
that were entitled to receive dividends
d = the maximum Offering Price per share on the last day of the period
CURRENT DISTRIBUTION RATE - NATURAL RESOURCES
FUND AND UTILITIES FUND ONLY.
Current yield, which is calculated according to a formula prescribed by the
SEC, is not indicative of the amounts which were or will be paid to
shareholders. Amounts paid to shareholders are reflected in the quoted
current distribution rate. The current distribution rate is usually computed
by annualizing the dividends paid per share by a class during a certain
period and dividing that amount by the current maximum Offering Price. The
current distribution rate differs from the current yield computation because
it may include distributions to shareholders from sources other than
dividends and interest, such as premium income from option writing and
short-term capital gains, and is calculated over a different period of time.
The current distribution rate for each class for the 30-day period ended
April 30, 1998, was as follows:
CURRENT
DISTRIBUTION RATE
- ------------------------------------------------------------------------------
Natural Resources Fund ......................... 0.53%
Utilities Fund - Class I ....................... 2.01%
Utilities Fund - Class II ...................... 1.53%
VOLATILITY
Occasionally statistics may be used to show a fund's volatility or risk.
Measures of volatility or risk are generally used to compare a fund's Net
Asset Value or performance to a market index. One measure of volatility is
beta. Beta is the volatility of a fund relative to the total market, as
represented by an index considered representative of the types of securities
in which the fund invests. A beta of more than 1.00 indicates volatility
greater than the market and a beta of less than 1.00 indicates volatility
less than the market. Another measure of volatility or risk is standard
deviation. Standard deviation is used to measure variability of Net Asset
Value or total return around an average over a specified period of time. The
idea is that greater volatility means greater risk undertaken in achieving
performance.
OTHER PERFORMANCE QUOTATIONS
The funds may also quote the performance of shares without a sales charge.
Sales literature and advertising may quote a current distribution rate,
yield, cumulative total return, average annual total return and other
measures of performance as described elsewhere in this SAI with the
substitution of Net Asset Value for the public Offering Price.
Sales literature referring to the use of a fund as a potential investment for
Individual Retirement Accounts (IRAs), Business Retirement Plans, and other
tax-advantaged retirement plans may quote a total return based upon
compounding of dividends on which it is presumed no federal income tax
applies.
Each fund may include in its advertising or sales material information
relating to investment goals and performance results of funds belonging to
the Franklin Templeton Group of Funds. Resources is the parent company of the
advisors and underwriter of the Franklin Templeton Group of Funds.
COMPARISONS
To help you better evaluate how an investment in a fund may satisfy your
investment goal, advertisements and other materials about the funds may
discuss certain measures of fund performance as reported by various financial
publications. Materials may also compare performance (as calculated above) to
performance as reported by other investments, indices, and averages. These
comparisons may include, but are not limited to, the following examples:
a) Dow Jones Composite Average or its component averages - an unmanaged index
composed of 30 blue-chip industrial corporation stocks (Dow Jones(R) Industrial
Average), 15 utilities company stocks (Dow Jones Utilities Average), and 20
transportation company stocks. Comparisons of performance assume reinvestment
of dividends.
b) Standard & Poor's(R) 500 Stock Index or its component indices - an unmanaged
index composed of 400 industrial stocks, 40 financial stocks, 40 utilities
stocks, and 20 transportation stocks. Comparisons of performance assume
reinvestment of dividends.
c) The New York Stock Exchange composite or component indices - an unmanaged
index of all industrial, utilities, transportation, and finance stocks listed
on the NYSE.
d) Wilshire 5000 Equity Index - represents the return on the market value of
all common equity securities for which daily pricing is available.
Comparisons of performance assume reinvestment of dividends.
e) Lipper - Mutual Fund Performance Analysis and Lipper - Fixed Income Fund
Performance Analysis - measure total return and average current yield for the
mutual fund industry and rank individual mutual fund performance over
specified time periods, assuming reinvestment of all distributions, exclusive
of any applicable sales charges.
f) CDA Mutual Fund Report, published by CDA Investment Technologies, Inc. -
analyzes price, current yield, risk, total return, and average rate of return
(average annual compounded growth rate) over specified time periods for the
mutual fund industry.
g) Mutual Fund Source Book, published by Morningstar, Inc. - analyzes price,
yield, risk, and total return for mutual funds.
h) Financial publications: THE WALL STREET JOURNAL, and BUSINESS WEEK,
CHANGING TIMES, FINANCIAL WORLD, FORBES, FORTUNE, and MONEY magazines -
provide performance statistics over specified time periods.
i) Consumer Price Index (or Cost of Living Index), published by the U.S.
Bureau of Labor Statistics - a statistical measure of change, over time, in
the price of goods and services in major expenditure groups.
j) Stocks, Bonds, Bills, and Inflation, published by Ibbotson Associates -
historical measure of yield, price, and total return for common and small
company stock, long-term government bonds, Treasury bills, and inflation.
k) Savings and Loan Historical Interest Rates - as published in the U.S.
Savings & Loan League Fact Book.
l) Historical data supplied by the research departments of CS First Boston
Corporation, the J. P. Morgan companies, Salomon Brothers, Merrill Lynch,
Lehman Brothers and Bloomberg L.P.
m) Standard & Poor's(R) 100 Stock Index - an unmanaged index based on the
prices of 100 blue-chip stocks, including 92 industrials, one utility, two
transportation companies, and 5 financial institutions. The S&P 100 Stock
Index is a smaller more flexible index for options trading.
n) Morningstar - information published by Morningstar, Inc., including
Morningstar proprietary mutual fund ratings. The ratings reflect
Morningstar's assessment of the historical risk-adjusted performance of a
fund over specified time periods relative to other funds within its category.
o) The American Stock Exchange Biotechnology Index- an equal-dollar weighted
index designed to measure the performance of a cross section of companies in the
biotechnology industry that are primarily involved in the use of biological
processes to develop products or provide services.
From time to time, advertisements or information for a fund may include a
discussion of certain attributes or benefits to be derived from an investment
in a fund. The advertisements or information may include symbols, headlines,
or other material that highlights or summarizes the information discussed in
more detail in the communication.
Advertisements or information may also compare a fund's performance to the
return on CDs or other investments. You should be aware, however, that an
investment in a fund involves the risk of fluctuation of principal value, a
risk generally not present in an investment in a CD issued by a bank. For
example, as the general level of interest rates rise, the value of a fund's
fixed-income investments, if any, as well as the value of its shares that are
based upon the value of such portfolio investments, can be expected to
decrease. Conversely, when interest rates decrease, the value of the fund's
shares can be expected to increase. CDs are frequently insured by an agency
of the U.S. government. An investment in a fund is not insured by any
federal, state or private entity.
In assessing comparisons of performance, you should keep in mind that the
composition of the investments in the reported indices and averages is not
identical to a fund's portfolio, the indices and averages are generally
unmanaged, and the items included in the calculations of the averages may not
be identical to the formula used by the fund to calculate its figures. In
addition, there can be no assurance that a fund will continue its performance
as compared to these other averages.
MISCELLANEOUS INFORMATION
A fund may help you achieve various investment goals such as accumulating
money for retirement, saving for a down payment on a home, college costs and
other long-term goals. The Franklin College Costs Planner may help you in
determining how much money must be invested on a monthly basis in order to
have a projected amount available in the future to fund a child's college
education. (Projected college cost estimates are based upon current costs
published by the College Board.) The Franklin Retirement Planning Guide leads
you through the steps to start a retirement savings program. Of course, an
investment in a fund cannot guarantee that these goals will be met.
Each fund is a member of the Franklin Templeton Group of Funds, one of the
largest mutual fund organizations in the U.S., and may be considered in a
program for diversification of assets. Founded in 1947, Franklin, one of the
oldest mutual fund organizations, has managed mutual funds for over 50 years
and now services more than 3 million shareholder accounts. In 1992, Franklin,
a leader in managing fixed-income mutual funds and an innovator in creating
domestic equity funds, joined forces with Templeton, a pioneer in
international investing. The Mutual Series team, known for its value-driven
approach to domestic equity investing, became part of the organization four
years later. Together, the Franklin Templeton Group has over $236 billion in
assets under management for more than 6 million U.S. based mutual fund
shareholder and other accounts. The Franklin Templeton Group of Funds offers
119 U.S. based open-end investment companies to the public. Each fund may
identify itself by its NASDAQ symbol or CUSIP number.
Currently, there are more mutual funds than there are stocks listed on the
NYSE. While many of them have similar investment goals, no two are exactly
alike. As noted in the Prospectus, shares of the funds are generally sold
through Securities Dealers. Investment representatives of such Securities
Dealers are experienced professionals who can offer advice on the type of
investment suitable to your unique goals and needs, as well as the types of
risks associated with such investment.
As of June 2, 1998, the principal shareholder of the Natural Resources Fund,
beneficial or of record, was as follows:
NAME AND ADDRESS SHARE AMOUNT PERCENTAGE
- ------------------------------------------------------------------------------
CLASS I -
NATURAL RESOURCES FUND
FTTC Trust Operations
Richard Stoker
P.O. Box 7519
San Mateo,
CA 94403-7519 246,553.842 6.4%
From time to time, the number of fund shares held in the "street name"
accounts of various Securities Dealers for the benefit of their clients or in
centralized securities depositories may exceed 5% of the total shares
outstanding.
In the event of disputes involving multiple claims of ownership or authority
to control your account, each fund has the right (but has no obligation) to:
(a) freeze the account and require the written agreement of all persons
deemed by the fund to have a potential property interest in the account,
before executing instructions regarding the account; (b) interplead disputed
funds or accounts with a court of competent jurisdiction; or (c) surrender
ownership of all or a portion of the account to the IRS in response to a
Notice of Levy.
SUMMARY OF CODE OF ETHICS. Employees of the Franklin Templeton Group who are
access persons under the 1940 Act are permitted to engage in personal
securities transactions subject to the following general restrictions and
procedures: (i) the trade must receive advance clearance from a compliance
officer and must be completed by the close of the business day following the
day clearance is granted; (ii) copies of all brokerage confirmations and
statements must be sent to a compliance officer; (iii) all brokerage accounts
must be disclosed on an annual basis; and (iv) access persons involved in
preparing and making investment decisions must, in addition to (i), (ii) and
(iii) above, file annual reports of their securities holdings each January
and inform the compliance officer (or other designated personnel) if they own
a security that is being considered for a fund or other client transaction or
if they are recommending a security in which they have an ownership interest
for purchase or sale by a fund or other client.
FINANCIAL STATEMENTS
The audited financial statements contained in the Annual Report to
Shareholders of the Trust, for the fiscal year ended April 30, 1998,
including the auditor's report, are incorporated herein by reference.
USEFUL TERMS AND DEFINITIONS
1940 ACT - Investment Company Act of 1940, as amended
ADVISERS - Franklin Advisers, Inc., the funds' investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I, CLASS II AND ADVISOR CLASS - The Health Care and Utilities Funds
offer two classes of shares, designated "Class I" and "Class II." The Natural
Resources Fund offers two classes of shares, designated "Class I," and
"Advisor Class." The classes have proportionate interests in the relevant
fund's portfolio. They differ, however, primarily in their sales charge and
expense structures. Because the Biotechnology Fund's sales charge structure
and Rule 12b-1 plan are similar to those of Class I shares, shares of the
Biotechnology Fund are considered Class I shares for redemption, exchange and
other purposes.
CODE - Internal Revenue Code of 1986, as amended
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the funds' principal
underwriter
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the funds' administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the funds'
shareholder servicing and transfer agent
IRS - Internal Revenue Service
LETTER - Letter of Intent
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of a fund by
the number of shares outstanding.
NYSE - New York Stock Exchange
OFFERING PRICE - The public offering price is based on the Net Asset Value
per share of the class and includes the front-end sales charge. The maximum
front-end sales charge is 5.75% for Class I and 1% for Class II. We calculate
the offering price to two decimal places using standard rounding criteria.
PROSPECTUS - The prospectus for the funds' Class I and Class II shares dated
September 1, 1998, which we may amend from time to time
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with a fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
WE/OUR/US - Unless a different meaning is indicated by the context, these
terms refer to the funds and/or Investor Services, Distributors, or other
wholly owned subsidiaries of Resources.
APPENDIX
DESCRIPTION OF RATINGS
CORPORATE BOND RATINGS
MOODY'S
AAA - Bonds rated Aaa are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as
"gilt-edged." Interest payments are protected by a large or exceptionally
stable margin, and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of such issues.
AA - Bonds rated Aa are judged to be high quality by all standards. Together
with the Aaa group, they comprise what are generally known as high-grade
bonds. They are rated lower than the best bonds because margins of protection
may not be as large, fluctuation of protective elements may be of greater
amplitude, or there may be other elements present that make the long-term
risks appear somewhat larger.
A - Bonds rated A possess many favorable investment attributes and are
considered upper medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
that suggest a susceptibility to impairment sometime in the future.
BAA - Bonds rated Baa are considered medium-grade obligations. They are
neither highly protected nor poorly secured. Interest payments and principal
security appear adequate for the present but certain protective elements may
be lacking or may be characteristically unreliable over any great length of
time. These bonds lack outstanding investment characteristics and, in fact,
have speculative characteristics as well.
BA - Bonds rated Ba are judged to have predominantly speculative elements and
their future cannot be considered well assured. Often the protection of
interest and principal payments is very moderate and, thereby, not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B - Bonds rated B generally lack characteristics of the desirable investment.
Assurance of interest and principal payments or of maintenance of other terms
of the contract over any long period of time may be small.
CAA - Bonds rated Caa are of poor standing. These issues may be in default or
there may be present elements of danger with respect to principal or interest.
CA - Bonds rated Ca represent obligations that are speculative to a high
degree. These issues are often in default or have other marked shortcomings.
C - Bonds rated C are the lowest rated class of bonds and can be regarded as
having extremely poor prospects of ever attaining any real investment
standing.
Note: Moody's applies numerical modifiers 1, 2 and 3 in each generic rating
classification from Aa through B in its corporate bond ratings. The modifier
1 indicates that the security ranks in the higher end of its generic rating
category; modifier 2 indicates a mid-range ranking; and modifier 3 indicates
that the issue ranks in the lower end of its generic rating category.
S&P
AAA - This is the highest rating assigned by S&P to a debt obligation and
indicates an extremely strong capacity to pay principal and interest.
AA - Bonds rated AA also qualify as high-quality debt obligations. Capacity
to pay principal and interest is very strong and, in the majority of
instances, differ from AAA issues only in a small degree.
A - Bonds rated A have a strong capacity to pay principal and interest,
although they are somewhat more susceptible to the adverse effects of changes
in circumstances and economic conditions.
BBB - Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit protection parameters,
adverse economic conditions or changing circumstances are more likely to lead
to a weakened capacity to pay principal and interest for bonds in this
category than for bonds in the A category.
BB, B, CCC, CC - Bonds rated BB, B, CCC and CC are regarded, on balance, as
predominantly speculative with respect to the issuer's capacity to pay
interest and repay principal in accordance with the terms of the obligations.
BB indicates the lowest degree of speculation and CC the highest degree of
speculation. While these bonds will likely have some quality and protective
characteristics, they are outweighed by large uncertainties or major risk
exposures to adverse conditions.
C - Bonds rated C are typically subordinated debt to senior debt that is
assigned an actual or implied CCC- rating. The C rating may also reflect the
filing of a bankruptcy petition under circumstances where debt service
payments are continuing. The C1 rating is reserved for income bonds on which
no interest is being paid.
D - Debt rated D is in default and payment of interest and/or repayment of
principal is in arrears.
PLUS (+) OR MINUS (-): The ratings from "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
COMMERCIAL PAPER RATINGS
MOODY'S
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually their promissory obligations not having an original maturity
in excess of nine months. Moody's employs the following designations, all
judged to be investment grade, to indicate the relative repayment capacity of
rated issuers:
P-1 (PRIME-1): Superior capacity for repayment.
P-2 (PRIME-2): Strong capacity for repayment.
S&P
S&P's ratings are a current assessment of the likelihood of timely payment of
debt having an original maturity of no more than 365 days. Ratings are graded
into four categories, ranging from "A" for the highest quality obligations to
"D" for the lowest. Issues within the "A" category are delineated with the
numbers 1, 2 and 3 to indicate the relative degree of safety, as follows:
A-1: This designation indicates the degree of safety regarding timely payment
is very strong. A "plus" (+) designation indicates an even stronger
likelihood of timely payment.
A-2: Capacity for timely payment on issues with this designation is strong.
The relative degree of safety, however, is not as overwhelming as for issues
designated A-1.
A-3: Issues carrying this designation have a satisfactory capacity for timely
payment. They are, however, somewhat more vulnerable to the adverse effects
of changes in circumstances than obligations carrying the higher designations.
FRANKLIN
STRATEGIC
INCOME FUND
FRANKLIN STRATEGIC SERIES
STATEMENT OF
ADDITIONAL INFORMATION
SEPTEMBER 1, 1998
777 MARINERS ISLAND BLVD., P.O. BOX 7777
SAN MATEO, CA 94403-7777 1-800/DIAL BEN(R)
TABLE OF CONTENTS PAGE
How Does the Fund Invest Its Assets?.............................. 2
What Are the Risks of Investing
in the Fund?..................................................... 13
Investment Restrictions........................................... 18
Officers and Trustees............................................. 19
Investment Management
and Other Services............................................... 23
How Does the Fund Buy
Securities for Its Portfolio?.................................... 24
How Do I Buy, Sell and Exchange Shares?........................... 25
How Are Fund Shares Valued?....................................... 28
Additional Information on
Distributions and Taxes.......................................... 29
The Fund's Underwriter............................................ 35
How Does the Fund Measure Performance?............................ 36
Miscellaneous Information......................................... 38
Financial Statements.............................................. 39
Useful Terms and Definitions...................................... 39
Appendix
Description of Ratings........................................... 40
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When reading this SAI, you will see certain terms beginning with capital
letters. This means the term is explained under "Useful Terms and Definitions."
- ------------------------------------------------------------------------------
The fund is a non-diversified series of Franklin Strategic Series (the "Trust"),
an open-end management investment company. The Prospectus, dated September 1,
1998, which we may amend from time to time, contains the basic information you
should know before investing in the fund. For a free copy, call 1-800/DIAL BEN.
THIS SAI IS NOT A PROSPECTUS. IT CONTAINS INFORMATION IN ADDITION TO AND IN MORE
DETAIL THAN SET FORTH IN THE PROSPECTUS. THIS SAI IS INTENDED TO PROVIDE YOU
WITH ADDITIONAL INFORMATION REGARDING THE ACTIVITIES AND OPERATIONS OF THE FUND,
AND SHOULD BE READ IN CONJUNCTION WITH THE PROSPECTUS.
- ------------------------------------------------------------------------------
MUTUAL FUNDS, ANNUITIES, AND OTHER INVESTMENT PRODUCTS:
o ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE
FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S. GOVERNMENT;
o ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED BY, ANY BANK;
o ARE SUBJECT TO INVESTMENT RISKS, INCLUDING THE POSSIBLE LOSS OF PRINCIPAL.
- ------------------------------------------------------------------------------
HOW DOES THE FUND INVEST ITS ASSETS?
WHAT IS THE FUND'S GOAL?
The primary investment goal of the fund is to obtain a high level of current
income, with capital appreciation over the long term as a secondary goal. These
goals are fundamental, which means that they may not be changed without
shareholder approval.
The following gives more detailed information about the fund's investment
policies and the types of securities that it may buy. Please read this
information together with the section "How Does the Fund Invest Its Assets?" in
the Prospectus.
MORE INFORMATION ABOUT THE
KINDS OF SECURITIES THE FUND BUYS
EQUITY SECURITIES. The purchaser of an equity security typically receives an
ownership interest in the company as well as certain voting rights. The owner of
an equity security may participate in a company's success through the receipt of
dividends, which are distributions of earnings by the company to its owners.
Equity security owners may also participate in a company's success or lack of
success through increases or decreases in the value of the company's shares as
traded in the public trading market for such shares. Equity securities generally
take the form of common stock or preferred stock. Preferred stockholders
typically receive greater dividends but may receive less appreciation than
common stockholders and may have greater voting rights as well. Equity
securities may also include convertible securities.
DEBT SECURITIES. A debt security typically has a fixed payment schedule which
obligates the issuer to pay interest to the lender and to return the lender's
money over a certain period of time. A company typically meets its payment
obligations associated with its outstanding debt securities before it declares
and pays any dividends to holders of its equity securities. Bonds, notes, and
commercial paper differ in the length of the issuer's payment schedule, with
bonds carrying the longest repayment schedule and commercial paper the shortest.
The market value of debt securities generally varies in response to changes in
interest rates and the financial condition of each issuer. During periods of
declining interest rates, the value of debt securities generally increases.
Conversely, during periods of rising interest rates, the value of these
securities generally declines. These changes in market value will be reflected
in the fund's Net Asset Value.
REPURCHASE AGREEMENTS. Repurchase agreements are contracts under which the buyer
of a security simultaneously commits to resell the security to the seller at an
agreed-upon price and date. Under a repurchase agreement, the seller is required
to maintain the value of the securities subject to repurchase at not less than
their repurchase price. Advisers will monitor the value of such securities daily
to determine that the value equals or exceeds the repurchase price. Repurchase
agreements may involve risks in the event of default or insolvency of the
seller, including possible delays or restrictions upon the fund's ability to
dispose of the underlying securities. The fund will enter into repurchase
agreements only with parties who meet the creditworthiness standards approved by
the Board, i.e. banks or broker dealers which have been determined by Advisers
to present no serious risk of becoming involved in bankruptcy proceedings within
the time frame contemplated by the repurchase transaction.
LOANS OF PORTFOLIO SECURITIES. The fund may lend to banks and broker-dealers
portfolio securities with an aggregate market value of up to one-third of its
total assets. Such loans must be secured by collateral (consisting of any
combination of cash, U.S. government securities or irrevocable letters of
credit) in an amount at least equal (on a daily marked-to-market basis) to the
current market value of the securities loaned. The fund retains all or a portion
of the interest received on investment of the cash collateral or receives a fee
from the borrower. The fund may terminate the loans at any time and obtain the
return of the securities loaned within five business days. The fund will
continue to receive any interest or dividends paid on the loaned securities and
will continue to have voting rights with respect to the securities. However, as
with other extensions of credit, there are risks of delay in recovery or even
loss of rights in collateral should the borrower fail.
MORTGAGE SECURITIES - GENERAL CHARACTERISTICS. The fund may invest in mortgage
securities issued or guaranteed by the Government National Mortgage Association
("GNMA"), the Federal National Mortgage Association ("FNMA") and the Federal
Home Loan Mortgage Corporation ("FHLMC"), adjustable rate mortgage securities
("ARMs"), collateralized mortgage obligations ("CMOs"), and stripped
mortgage-backed securities, any of which may be privately issued. The fund may
also invest in asset-backed securities. Please see the discussion below for a
description of the types of municipal or asset-backed securities in which the
fund may invest.
A mortgage security is an interest in a pool of mortgage loans. The primary
issuers or guarantors of mortgage securities are GNMA, FNMA and FHLMC. GNMA
creates mortgage securities from pools of government guaranteed or insured
(Federal Housing Authority or Veterans Administration) mortgages originated by
mortgage bankers, commercial banks, and savings and loan associations. FNMA and
FHLMC issue mortgage securities from pools of conventional and federally insured
and/or guaranteed residential mortgages obtained from various entities,
including savings and loan associations, savings banks, commercial banks, credit
unions, and mortgage bankers. The principal and interest on GNMA securities are
guaranteed by GNMA and backed by the full faith and credit of the U.S.
government. Mortgage securities from FNMA and FHLMC are not backed by the full
faith and credit of the U.S. government. FNMA guarantees full and timely payment
of all interest and principal, and FHLMC guarantees timely payment of interest
and the ultimate collection of principal. Securities issued by FNMA are
supported by the agency's right to borrow money from the U.S. Treasury under
certain circumstances. Securities issued by FHLMC are supported only by the
credit of the agency. There is no guarantee that the government would support
government agency securities and, accordingly, they may involve a risk of
non-payment of principal and interest. Nonetheless, because FNMA and FHLMC are
instrumentalities of the U.S. government, these securities are generally
considered to be high quality investments having minimal credit risks.
Most mortgage securities are pass-through securities, which means that they
provide investors with monthly payments consisting of a pro rata share of both
regular interest and principal payments, as well as unscheduled early
prepayments, on the underlying mortgage pool. The fund invests in both
"modified" and "straight" pass-through securities. For "modified pass-through"
type mortgage securities, principal and interest are guaranteed, whereas such
guarantee is not available for "straight pass-through" securities. CMOs and
stripped mortgage securities are not pass-through securities.
Guarantees as to the timely payment of principal and interest do not extend to
the value or yield of mortgage securities nor do they extend to the value of the
fund's shares. In general, the value of fixed-income securities varies with
changes in market interest rates. Fixed-rate mortgage securities generally
decline in value during periods of rising interest rates, whereas interest rates
of ARMS move with market interest rates, and thus their value tends to fluctuate
to a lesser degree. In view of these factors, the ability of the fund to obtain
a high level of total return may be limited under varying market conditions.
GOVERNMENT NATIONAL MORTGAGE ASSOCIATION CERTIFICATES ("GNMAS"). GNMAs are
mortgage backed securities representing part ownership of a pool of mortgage
loans. GNMAs differ from bonds in that principal is scheduled to be paid back by
the borrower over the length of the loan rather than returned in a lump sum at
maturity. The fund may buy GNMAs for which principal and interest are
guaranteed. The fund may also buy "variable rate" GNMAs and may buy other types
that may be issued with the guarantee of the Government National Mortgage
Association ("GNMA").
The GNMA guarantee of principal and interest on GNMAs is backed by the full
faith and credit of the U.S. government. However, these securities do involve
certain risks. For example, when mortgages in the pool underlying GNMAs are
prepaid, the principal payments are passed through to the certificate holders
(such as the fund). Scheduled and unscheduled prepayments of principal may
greatly change realized yields. In a period of declining interest rates it is
more likely that mortgages contained in GNMA pools will be prepaid thus reducing
the effective yield. Moreover, any premium paid on the purchase of GNMAs will be
lost if the obligation is prepaid. In periods of falling interest rates, this
potential for pre-payment may reduce the general upward price increase of GNMAs,
which might otherwise occur. As with other debt instruments, the price of GNMAs
is likely to decrease in times of rising interest rates. Price changes of GNMAs
held by the fund have a direct impact on the Net Asset Value per share of the
fund.
ADJUSTABLE RATE MORTGAGE SECURITIES. ARMs, like traditional mortgage securities,
are an interest in a pool of mortgage loans and are issued or guaranteed by a
federal agency or by private issuers. Unlike fixed-rate mortgages, which
generally decline in value during periods of rising interest rates, the interest
rates on the mortgages underlying ARMs are reset periodically and thus allow the
fund to participate in increases in interest rates, resulting in both higher
current yields and lower price fluctuations. During periods of declining
interest rates, of course, the coupon rates may readjust downward, resulting in
lower current yields. Because of this feature, the value of an ARM is unlikely
to rise during periods of declining interest rates to the same extent as a
fixed-rate instrument. The rate of amortization of principal, as well as
interest payments, for certain types of ARMs change in accordance with movements
in a pre-specified, published interest rate index. There are several categories
of indices, including those based on U.S. Treasury securities, those derived
from a calculated measure, such as a cost of funds index, or a moving average of
mortgage rates and actual market rates. The amount of interest due to an ARM
security holder is calculated by adding a specified additional amount, the
"margin," to the index, subject to limitations or "caps" on the maximum and
minimum interest that is charged to the mortgagor during the life of the
mortgage or to maximum and minimum changes to that interest rate during a given
period. The interest rates paid on the ARMs in which the fund may invest are
generally readjusted at intervals of one year or less, although instruments with
longer resets such as three years and five years are also permissible
investments.
The underlying mortgages that collateralize the ARMs in which the fund may
invest will frequently have caps and floors which limit the maximum amount by
which the loan rate to the residential borrower may change up or down (1) per
reset or adjustment interval and (2) over the life of the loan. Some residential
mortgage loans restrict periodic adjustments by limiting changes in the
borrower's monthly principal and interest payments rather than limiting interest
rate changes. These payment caps may result in negative amortization, which can
extend the average life of the securities. Since most ARMs in the fund's
portfolio will generally have annual reset limits or caps of 100 to 200 basis
points, fluctuations in interest rates above these levels could cause the
mortgage securities to "cap out" and to behave more like long-term, fixed-rate
debt securities.
STRIPPED MORTGAGE-BACKED SECURITIES. The fund may invest in stripped
mortgage-backed securities to achieve a higher yield than may be available from
fixed-rate mortgage securities. The stripped mortgage securities in which the
fund may invest will not be limited to those issued or guaranteed by agencies or
instrumentalities of the U.S. government, although such securities are more
liquid than privately issued stripped mortgage securities. Stripped
mortgage-backed securities are usually structured with two classes, each
receiving different proportions of the interest and principal distributions on a
pool of mortgage assets. Typically, one class will receive some of the interest
and most of the principal from the mortgage assets, while the other class will
receive most of the interest and the remainder of the principal. In the most
extreme case, one class will receive all of the interest (the interest-only or
"IO" class), while the other class will receive all of the principal (the
principal-only or "PO" class). The yield to maturity of an IO or PO class is
extremely sensitive not only to changes in prevailing interest rates but also to
the rate of principal payments (including prepayments) on the related underlying
mortgage assets.
Stripped mortgage-backed securities have greater market volatility than other
types of mortgage securities in which the fund invests and are purchased and
sold by institutional investors, such as the fund, through several investment
banking firms acting as brokers or dealers. As these securities were only
recently developed, traditional trading markets have not yet been established
for all stripped mortgage securities. Accordingly, some of these securities may
be illiquid. The staff of the SEC has indicated that only government-issued IO
or PO securities that are backed by fixed-rate mortgages may be deemed to be
liquid, if procedures with respect to determining liquidity are established by a
fund's board. The Board may, in the future, adopt procedures that would permit
the fund to acquire, hold, and treat as liquid government-issued IO and PO
securities. At the present time, however, all such securities will continue to
be treated as illiquid and will, together with any other illiquid investments,
not exceed 10% of the fund's net assets. This position may be changed in the
future, without notice to shareholders, in response to the staff's continued
reassessment of this matter, as well as to changing market conditions.
COLLATERALIZED MORTGAGE OBLIGATIONS ("CMOS"), REAL ESTATE MORTGAGE INVESTMENT
CONDUITS ("REMICS"), AND MULTI-CLASS PASS-THROUGHS. The fund may invest in
certain debt obligations that are collateralized by mortgage loans or mortgage
pass-through securities. These obligations may be issued or guaranteed by U.S.
government agencies or issued by certain financial institutions and other
mortgage lenders. CMOs and REMICs are debt instruments issued by special purpose
entities and are secured by pools of mortgages backed by residential and various
types of commercial properties. Multi-class pass-through securities are equity
interests in a trust composed of mortgage loans or other mortgage-backed
securities. Payments of principal and interest on the underlying collateral
provides the funds to pay debt service on the CMO or REMIC or make scheduled
distributions on the multi-class pass-through securities.
CMOs are fixed-income securities that are collateralized by pools of mortgage
loans created by commercial banks, savings and loan institutions, private
mortgage insurance companies, mortgage bankers and other issuers in the U.S. The
underlying mortgages are backed by residential and various types of commercial
properties. Timely payment of interest and principal (but not the market value)
of some of these pools is supported by various forms of insurance or guarantees
issued by private issuers, those who pool the mortgage assets and, in some
cases, by U.S. government agencies. The fund may buy CMOs that are rated in any
category by the rating agencies without insurance or guarantee if, in the
opinion of Advisers, the sponsor is creditworthy. Prepayments of the mortgages
underlying a CMO, which usually increase when interest rates decrease, will
generally reduce the life of the mortgage pool, thus impacting the CMO's yield.
Under these circumstances, the reinvestment of prepayments will generally be at
a rate lower than the rate applicable to the original CMO.
With a CMO, a series of bonds or certificates is issued in multiple classes.
Each class of a CMO, often referred to as a "tranche," is issued at a specified
coupon rate or adjustable rate and has a stated maturity or final distribution
date. Principal prepayments on collateral underlying a CMO, however, may cause
it to be retired substantially earlier than the stated maturities or final
distribution dates. Interest is paid or accrues on all classes of a CMO on a
monthly, quarterly or semiannual basis. The principal and interest on the
underlying mortgages may be allocated among several classes of a series in many
ways. In a common structure, payments of principal, including any principal
prepayments, on the underlying mortgages are applied to the classes of a series
of a CMO in the order of their respective stated maturities or final
distribution dates, so that no payment of principal will be made on any class of
a CMO until all other classes having an earlier stated maturity or final
distribution date have been paid in full.
To the extent any privately issued CMOs in which the fund invests are considered
by the SEC to be an investment company, the fund will limit its investments in
such securities in a manner consistent with the provisions of the 1940 Act.
REMICs, which are authorized under the Tax Reform Act of 1986, are private
entities formed for the purpose of holding a fixed pool of mortgages secured by
an interest in real property. REMICs are similar to CMOs in that they issue
multiple classes of securities. As with CMOs, the mortgages that collateralize
the REMICs in which the fund may invest include mortgages backed by GNMAs or
other mortgage pass-throughs issued or guaranteed by the U.S. government, its
agencies or instrumentalities or issued by private entities, which are not
guaranteed by any government agency.
Yields on privately-issued CMOs have been historically higher than the yields on
CMOs issued or guaranteed by U.S. government agencies. However, the risk of loss
due to default on such instruments is higher since they are not guaranteed by
the U.S. government. The Board believes that accepting the risk of loss relating
to privately issued CMOs that the fund acquires is justified by the higher yield
the fund will earn in light of the historic loss experience on such instruments.
As new types of mortgage securities are developed and offered to investors, the
fund may invest in them if they are consistent with the fund's objectives,
policies, and quality standards.
ASSET-BACKED SECURITIES. The fund may invest in various asset-backed securities
rated in any category by the rating agencies. The underlying assets may include,
but are not limited to, receivables on home equity and credit card loans, and
automobile, mobile home, and recreational vehicle loans and leases. There may be
other types of asset-backed securities that are developed in the future in which
the fund may invest. Asset-backed securities are issued in either a pass-through
structure (similar to a mortgage pass-through structure) or in a pay-through
structure (similar to a CMO structure). In general, asset-backed securities
contain shorter maturities than bonds or mortgage loans and historically have
been less likely to experience substantial prepayment.
Asset-backed securities entail certain risks not presented by mortgage-backed
securities, as they do not have the benefit of the same type of security
interests in the underlying collateral. Credit card receivables are generally
unsecured, and a number of state and federal consumer credit laws give debtors
the right to set off certain amounts owed on the credit cards, thereby reducing
the outstanding balance. In the case of automobile receivables, there is a risk
that the holders may not have either a proper or first security interest in all
of the obligations backing such receivables due to the large number of vehicles
involved in a typical issuance and the technical requirements imposed under
state laws. Therefore, recoveries on repossessed collateral may not always be
available to support payments on securities backed by these receivables.
CONVERTIBLE SECURITIES. The fund may invest in convertible securities. A
convertible security is generally a debt obligation or preferred stock that may
be converted within a specified period of time into a certain amount of common
stock of the same or a different issuer. A convertible security provides a
fixed-income stream and the opportunity, through its conversion feature, to
participate in the capital appreciation resulting from a market price advance in
its underlying common stock. As with a straight fixed-income security, a
convertible security tends to increase in market value when interest rates
decline and decrease in value when interest rates rise. Like a common stock, the
value of a convertible security also tends to increase as the market value of
the underlying stock rises, and it tends to decrease as the market value of the
underlying stock declines. Because both interest rate and market movements can
influence its value, a convertible security is not as sensitive to interest
rates as a similar fixed-income security, nor is it as sensitive to changes in
share price as its underlying stock.
A convertible security is usually issued either by an operating company or by an
investment bank. When issued by an operating company, a convertible security
tends to be senior to common stock, but subordinate to other types of
fixed-income securities issued by that company. When a convertible security
issued by an operating company is "converted," the operating company often
issues new stock to the holder of the convertible security. However, if the
parity price of the convertible security is less than the call price, the
operating company may pay out cash instead of common stock. If the convertible
security is issued by an investment bank, the security is an obligation of and
is convertible through the issuing investment bank.
The issuer of a convertible security may be important in determining the
security's true value. This is because the holder of a convertible security will
have recourse only to the issuer. In addition, a convertible security may be
subject to redemption by the issuer, but only after a specified date and under
circumstances established at the time the security is issued.
While the fund uses the same criteria to rate a convertible debt security that
it uses to rate a more conventional debt security, a convertible preferred stock
is treated like a preferred stock for the fund's financial reporting, credit
rating, and investment limitation purposes. A preferred stock is subordinated to
all debt obligations in the event of insolvency, and an issuer's failure to make
a dividend payment is generally not an event of default entitling the preferred
shareholder to take action. A preferred stock generally has no maturity date, so
that its market value is dependent on the issuer's business prospects for an
indefinite period of time. In addition, distributions from preferred stock are
dividends, rather than interest payments, and are usually treated as such for
corporate tax purposes.
AMERICAN DEPOSITORY RECEIPTS ("ADRS"). ADRs represent the right to receive
securities of foreign issuers deposited in a domestic bank or a foreign
correspondent bank. The fund may invest in sponsored and unsponsored ADRs.
Prices of ADRs are quoted in U.S. dollars. They are traded in the U.S. on
exchanges or over-the-counter and are sponsored and issued by domestic banks.
ADRs do not eliminate all of the risk inherent in investing in the securities of
foreign issuers. To the extent that the fund acquires ADRs through banks that do
not have a contractual relationship with the foreign issuer of the security
underlying the ADR to issue and service the ADRs, there may be an increased
possibility that the fund would not become aware of and be able to respond to
corporate actions such as stock splits or rights offerings involving the foreign
issuer in a timely manner. In addition, the lack of information may result in
inefficiencies in the valuation of such instruments. To the extent the fund
invests in ADRs rather than directly in the stock of foreign issuers, it will
avoid currency risks during the settlement period for either purchases or sales.
In general, there is a large, liquid market in the U.S. for ADRs quoted on a
national securities exchange or the NASDAQ National Market System. The
information available for ADRs is subject to the accounting, auditing, and
financial reporting standards of the domestic market or exchange on which they
are traded. These standards are more uniform and more exacting than those to
which many foreign issuers may be subject.
WHEN ISSUED AND DELAYED DELIVERY TRANSACTIONS. The fund may buy U.S. government
obligations on a "when issued" or "delayed delivery" basis. These transactions
are arrangements under which the fund buys securities that have been authorized
but not yet issued with payment for and delivery of the security scheduled for a
future time, generally in 30 to 60 days. Purchases of U.S. government securities
on a when issued or delayed delivery basis are subject to the risk that the
value or yields at delivery may be more or less than the purchase price or the
yields available when the transaction was entered into. Although the fund will
generally buy U.S. government securities on a when issued basis with the
intention of holding the securities, it may sell the securities before the
settlement date if it is deemed advisable. When the fund is the buyer in this
type of transaction, it will maintain, in a segregated account with its
custodian bank, cash or high-grade marketable securities having an aggregate
value equal to the amount of the fund's purchase commitments until payment is
made. To the extent the fund engages in when issued and delayed delivery
transactions, it will do so only for the purpose of acquiring portfolio
securities consistent with its investment objectives and policies, and not for
the purpose of investment leverage. In when issued and delayed delivery
transactions, the fund relies on the seller to complete the transaction. The
seller's failure to do so may cause the fund to miss a price or yield considered
advantageous to the fund. Securities purchased on a when issued or delayed
delivery basis do not generally earn interest until their scheduled delivery
date. Entering into a when issued or delayed delivery transaction is a form of
leverage that may affect changes in Net Asset Value to a greater extent.
MORTGAGE DOLLAR ROLLS. The fund may enter into mortgage dollar rolls in which
the fund sells mortgage-backed securities for delivery in the current month and
simultaneously contracts to repurchase substantially similar (name, type,
coupon, and maturity) securities on a specified future date. During the period
between the sale and repurchase, the fund forgoes principal and interest paid on
the mortgage-backed securities. The fund is compensated by the difference
between the current sale price and the lower price for the future purchase
(often referred to as the "drop"), as well as by the interest earned on the cash
proceeds of the initial sale. A "covered roll" is a specific type of mortgage
dollar roll for which there is an offsetting cash position or a cash equivalent
security position. The fund could suffer a loss if the contracting party fails
to perform the future transaction in that the fund may not be able to buy back
the mortgage-backed securities it initially sold. The fund intends to enter into
mortgage dollar rolls only with government securities dealers recognized by the
Federal Reserve Board or with member banks of the Federal Reserve System.
OPTIONS, FUTURES AND OPTIONS ON FINANCIAL FUTURES
CALL AND PUT OPTIONS ON SECURITIES. As noted in the Prospectus, the fund intends
to write (sell) covered put and call options and buy put and call options that
trade on securities exchanges and in the over-the-counter market.
WRITING CALL OPTIONS. Call options written by the fund give the holder the right
to buy the underlying securities from the fund at a stated exercise price; put
options written by the fund give the holder the right to sell the underlying
security to the fund at a stated exercise price. A call option written by the
fund is "covered" if the fund owns the underlying security which is subject to
the call or has an absolute and immediate right to acquire that security without
additional cash consideration (or for additional cash consideration held in a
segregated account by its custodian) upon conversion or exchange of other
securities held in its portfolio. A call option is also covered if the fund
holds a call on the same security and in the same principal amount as the call
written where the exercise price of the call held (a) is equal to or less than
the exercise price of the call written or (b) is greater than the exercise price
of the call written if the difference is maintained by the fund in cash and high
grade debt securities in a segregated account with its custodian bank. The
premium paid by the buyer of an option will reflect, among other things, the
relationship of the exercise price to the market price and volatility of the
underlying security, the remaining term of the option, supply and demand, and
interest rates.
In the case of a call option, the writer of an option may have no control over
when the underlying securities must be sold, in the case of a call option,
since, with regard to certain options, the writer may be assigned an exercise
notice at any time prior to the termination of the obligation. Whether or not an
option expires unexercised, the writer retains the amount of the premium. This
amount may, in the case of a covered call option, be offset by a decline in the
market value of the underlying security during the option period. If a call
option is exercised, the writer experiences a profit or loss from the sale of
the underlying security.
The writer of an option that wishes to terminate its obligation may effect a
"closing purchase transaction." This is accomplished by buying an option of the
same series as the option previously written. The effect of the purchase is that
the writer's position will be cancelled by the clearing corporation. However, a
writer may not effect a closing purchase transaction after being notified of the
exercise of an option. Likewise, an investor who is the holder of an option may
liquidate its position by effecting a "closing sale transaction." This is
accomplished by selling an option of the same series as the option previously
purchased. There is no guarantee that either a closing purchase or a closing
sale transaction can be effected.
Effecting a closing transaction in the case of a written call option will permit
the fund to write another call option on the underlying security with either a
different exercise price, expiration date or both. In addition, effecting a
closing transaction will permit the cash or proceeds from the sale of any
securities subject to the option to be used for other fund investments. If the
fund desires to sell a particular security from its portfolio on which it has
written a call option, it will effect a closing transaction prior to or at the
same time as the sale of the security.
The fund will realize a profit from a closing transaction if the price of the
transaction is less than the premium received from writing the option or is more
than the premium paid to buy the option; the fund will realize a loss from a
closing transaction if the price of the transaction is more than the premium
received from writing the option or is less than the premium paid to buy the
option. Because increases in the market price of a call option will generally
reflect increases in the market price of the underlying security, any loss
resulting from the repurchase of a call option is likely to be offset in whole
or in part by appreciation of the underlying security owned by the fund.
BUYING CALL OPTIONS. The fund may buy call options on securities that it intends
to buy in order to limit the risk of a substantial increase in the market price
of the security. The fund may also buy call options on securities held in its
portfolio and on which it has written call options. A call option gives the
holder the right to buy the underlying securities from the option writer at a
stated exercise price. Prior to its expiration, a call option may be sold in a
closing sale transaction. Profit or loss from such a sale will depend on whether
the amount received is more or less than the premium paid for the call option
plus the related transaction costs.
WRITING PUT OPTIONS. Although the fund has no current intention of writing
covered put options, the fund reserves the right to do so.
A put option gives the buyer of the option the right to sell, and the writer
(seller) the obligation to buy, the underlying security or currency at the
exercise price during the option period. The option may be exercised at any time
prior to its expiration date. The operation of put options in other respects,
including their related risks and rewards, is substantially identical to that of
call options.
The fund would write put options only on a covered basis, which means that the
fund would maintain in a segregated account cash, U.S. government securities, or
other liquid, high-grade debt securities in an amount not less than the exercise
price at all times while the put option is outstanding. The rules of the
clearing corporation currently require that the assets be deposited in escrow to
secure payment of the exercise price. The fund would generally write covered put
options in circumstances where Advisers wishes to buy the underlying security or
currency for the fund's portfolio at a price lower than the current market price
of the security or currency. In such event, the fund would write a put option at
an exercise price which, reduced by the premium received on the option, reflects
the lower price it is willing to pay. Since the fund would also receive interest
on debt securities or currencies maintained to cover the exercise price of the
option, this technique could be used to enhance current return during periods of
market uncertainty. The risk in this type of transaction would be that the
market price of the underlying security or currency would decline below the
exercise price less the premiums received.
BUYING PUT OPTIONS. The fund may buy put options. As the holder of a put option,
the fund has the right to sell the underlying security or currency at the
exercise price at any time during the option period. The fund may enter into
closing sale transactions with respect to put options, exercise them, or permit
them to expire.
The fund may buy a put option on an underlying security or currency owned by the
fund (a "protective put") as a hedging technique in order to protect against an
anticipated decline in the value of the security or currency. This hedge
protection is provided only during the life of the put option when the fund, as
the holder of the put option, is able to sell the underlying security or
currency at the put exercise price, regardless of any decline in the underlying
security's market price or currency's exchange value. For example, a put option
may be purchased in order to protect unrealized appreciation of a security or
currency when the Advisers deems it desirable to continue to hold the security
or currency because of tax considerations. The premium paid for the put option
and any transaction costs would reduce any capital gain otherwise available for
distribution when the security or currency is eventually sold.
The fund may also buy put options at a time when the fund does not own the
underlying security or currency. By buying put options on a security or currency
it does not own, the fund seeks to benefit from a decline in the market price of
the underlying security or currency. If the put option is not sold when it has
remaining value, and if the market price of the underlying security or currency
remains equal to or greater than the exercise price during the life of the put
option, the fund will lose its entire investment in the put option. In order for
the purchase of a put option to be profitable, the market price of the
underlying security or currency must decline sufficiently below the exercise
price to cover the premium and transaction costs, unless the put option is sold
in a closing sale transaction.
The fund will commit no more than 5% of its assets to premiums when buying put
options. The premium paid by the fund when buying a put option will be recorded
as an asset in the fund's statement of assets and liabilities. This asset will
be adjusted daily to the options' current market value, which will be the latest
sale price at the time at which the Net Asset Value per share of the fund is
computed, the close of the NYSE, or, in the absence of a sale, the latest bid
price. The asset will be extinguished upon expiration of the option, the writing
of an identical option in a closing transaction, or the delivery of the
underlying security or currency upon the exercise of the option.
OVER-THE-COUNTER OPTIONS ("OTC" OPTIONS). The fund intends to write covered put
and call options and buy put and call options that trade in the over-the-counter
market to the same extent that it will engage in exchange traded options. Just
as with exchange traded options, OTC call options give the option holder the
right to buy an underlying security from an option writer at a stated exercise
price; OTC put options give the holder the right to sell an underlying security
to an option writer at a stated exercise price. However, OTC options differ from
exchange traded options in certain material respects.
OTC options are arranged directly with dealers and not, as is the case with
exchange traded options, with a clearing corporation. Thus, there is a risk of
non-performance by the dealer. Because there is no exchange, pricing is
typically done by reference to information from market makers. However, OTC
options are available for a greater variety of securities, and in a wider range
of expiration dates and exercise prices, than exchange traded options; and the
writer of an OTC option is paid the premium in advance by the dealer.
OPTIONS ON STOCK INDICES. The fund may also buy call and put options on stock
indices in order to hedge against the risk of market or industry-wide stock
price fluctuations. Call and put options on stock indices are similar to options
on securities except that, rather than the right to buy or sell stock at a
specified price, options on a stock index give the holder the right to receive,
upon exercise of the option, an amount of cash if the closing level of the
underlying stock index is greater than (or less than, in the case of puts) the
exercise price of the option. This amount of cash is equal to the difference
between the closing price of the index and the exercise price of the option,
expressed in dollars multiplied by a specified number. Thus, unlike stock
options, all settlements are in cash, and gain or loss depends on price
movements in the stock market generally (or in a particular industry or segment
of the market) rather than price movements in individual stocks.
When the fund writes an option on a stock index, the fund will establish a
segregated account containing cash or high quality fixed-income securities with
its custodian bank in an amount at least equal to the market value of the
underlying stock index and will maintain the account while the option is open or
it will otherwise cover the transaction.
OPTIONS ON FOREIGN CURRENCIES. The fund may buy and write (sell) put and call
options on foreign currencies traded on U.S. exchanges or in the
over-the-counter markets. Like other kinds of options, the writing of an option
on foreign currency will be only a partial hedge, up to the amount of the
premium received, and the fund could be required to buy or sell foreign
currencies at disadvantageous exchange rates, thereby incurring losses. The
purchase of an option on foreign currency may be an effective hedge against
fluctuations in exchange rates although, in the event of rate movements adverse
to the fund's position, the fund may forfeit the entire amount of the premium
plus related transaction costs.
FUTURES CONTRACTS. The fund may enter into contracts for the purchase or sale
for future delivery of securities and in such contracts based upon financial
indices ("financial futures"). Financial futures contracts are commodity
contracts that obligate the long or short holder to take or make delivery of a
specified quantity of a financial instrument, such as a security, or the cash
value of a securities index during a specified future period at a specified
price. A "sale" of a futures contract means the acquisition of a contractual
obligation to deliver the securities called for by the contract at a specified
price on a specified date. A "purchase" of a futures contract means the
acquisition of a contractual obligation to acquire the securities called for by
the contract at a specified price on a specified date. Futures contracts have
been designed by exchanges that have been designated "contracts markets" by the
Commodity Futures Trading Commission ("CFTC") and must be executed through a
futures commission merchant, or brokerage firm, which is a member of the
relevant contract market.
At the same time a futures contract is purchased or sold, the fund must allocate
cash or securities as a deposit payment ("initial deposit" or "initial margin")
as a partial guarantee of its performance under the contract. Daily thereafter,
the futures contract is valued and the payment of "variation margin" may be
required since each day the fund would provide or receive cash that reflects any
decline or increase in the contract's value. In addition, when the fund enters
into a futures contract, it will segregate assets or "cover" its position in
accordance with the 1940 Act.
Although futures contracts by their terms call for the actual delivery or
acquisition of securities, in most cases the contractual obligation is fulfilled
before the date of the contract without having to make or take delivery of the
securities. The offsetting of a contractual obligation is accomplished by buying
(or selling, as the case may be) on a commodities exchange an identical futures
contract calling for delivery in the same month. Such a transaction, which is
effected through a member of an exchange, cancels the obligation to make or take
delivery of the securities. Since all transactions in the futures market are
made, offset, or fulfilled through a clearinghouse associated with the exchange
on which the contracts are traded, the fund will incur brokerage fees when it
buys or sells futures contracts.
The fund will not engage in transactions in futures contracts or related options
for speculation but only as a hedge against changes resulting from market
conditions in the values of its securities or securities it intends to buy. The
fund will not enter into any stock index or financial futures contract or
related option if, immediately thereafter, more than one-third of the fund's net
assets would be represented by futures contracts or related options. In
addition, the fund may not buy or sell futures contracts or related options if,
immediately thereafter, the sum of the amount of margin deposits on its existing
futures and related options positions and premiums paid for related options
would exceed 5% of the market value of the fund's total assets. In instances
involving the purchase of futures contracts or related call options, money
market instruments equal to the market value of the futures contract or related
option will be deposited in a segregated account with the custodian to
collateralize such long positions.
The purpose of the acquisition or sale of a futures contract is to attempt to
protect the fund from fluctuations in the price of portfolio securities without
actually buying or selling the underlying security. To the extent the fund
enters into a futures contract, it will maintain with its custodian bank, to the
extent required by SEC rules, assets in a segregated account to cover its
obligations with respect to the contract which will consist of cash, cash
equivalents, or high quality debt securities from its portfolio in an amount
equal to the difference between the fluctuating market value of such futures
contract and the aggregate value of the initial and variation margin payments
made by the fund with respect to such futures contracts.
STOCK INDEX FUTURES. A stock index futures contract obligates the seller to
deliver (and the buyer to take) an amount of cash equal to a specific dollar
amount times the difference between the value of a specific stock index at the
close of the last trading day of the contract and the price at which the
agreement is made. No physical delivery of the underlying stocks in the index is
made.
The fund may sell stock index futures contracts in anticipation of or during a
market decline to attempt to offset the decrease in market value of its equity
securities that might otherwise result. When the fund is not fully invested in
stocks and anticipates a significant market advance, it may buy stock index
futures in order to gain rapid market exposure that may in part or entirely
offset increases in the cost of common stocks that it intends to buy.
OPTIONS ON STOCK INDEX FUTURES. The fund may buy and sell call and put options
on stock index futures to hedge against risks of market-side price movements.
The need to hedge against such risks will depend on the extent of
diversification of the fund's common stock portfolio and the sensitivity of such
investments to factors influencing the stock market as a whole.
Call and put options on stock index futures are similar to options on securities
except that, rather than the right to buy or sell stock at a specified price,
options on stock index futures give the holder the right to receive cash. Upon
exercise of the option, the delivery of the futures position by the writer of
the option to the holder of the option will be accompanied by delivery of the
accumulated balance in the writer's futures margin account, which represents the
amount by which the market price of the futures contract, at exercise, exceeds,
in the case of a call, or is less than, in the case of a put, the exercise price
of the option on the futures contract. If an option is exercised on the last
trading day prior to the expiration date of the option, the settlement will be
made entirely in cash equal to the difference between the exercise price of the
option and the closing price of the futures contract on the expiration date.
BOND INDEX FUTURES AND RELATED OPTIONS. The fund may buy and sell futures
contracts based on an index of debt securities and options on such futures
contracts to the extent they currently exist and, in the future, may be
developed. The fund reserves the right to conduct futures and options
transactions based on an index that may be developed in the future to correlate
with price movements in certain categories of debt securities. The fund's
investment strategy in employing futures contracts based on an index of debt
securities will be similar to that used by it in other financial futures
transactions. The fund may also buy and write put and call options on such index
futures and enter into closing transactions with respect to such options.
FUTURE DEVELOPMENTS. The fund may take advantage of opportunities in the area of
options and futures contracts and options on futures contracts and any other
derivative investments which are not presently contemplated for use by the fund
or which are not currently available but which may be developed, to the extent
such opportunities are both consistent with the fund's investment objectives and
legally permissible for the fund.
FORWARD CURRENCY EXCHANGE CONTRACTS. The fund may enter into forward currency
exchange contracts ("Forward Contract(s)") to attempt to minimize the risk to
the fund from adverse changes in the relationship between currencies or to
enhance income. A Forward Contract is an obligation to buy or sell a specific
currency for an agreed price at a future date which is individually negotiated
and privately traded by currency traders and their customers.
The fund may construct an investment position by combining a debt security
denominated in one currency with a Forward Contract calling for the exchange of
that currency for another currency. The investment position is not itself a
security but is a combined position (i.e., a debt security coupled with a
Forward Contract) that is intended to be similar in overall performance to a
debt security denominated in the same currency.
For example, an Italian lira-denominated position could be constructed by buying
a German mark-denominated debt security and simultaneously entering into a
Forward Contract to exchange an equal amount of marks for lira at a future date
and at a specified exchange rate. With such a transaction, the fund may be able
to receive a return that is substantially similar from a yield and currency
perspective to a direct investment in lira debt securities while achieving other
benefits from holding the underlying security. The fund may experience slightly
different results from its use of such combined investment positions as compared
to its purchase of a debt security denominated in the particular currency
subject to the Forward Contract. This difference may be enhanced or offset by
premiums that may be available in connection with the Forward Contract.
The fund may also enter into a Forward Contract, for example, when it enters
into a contract for the purchase or sale of a security denominated in a foreign
currency in order to "lock in" the U.S. dollar price of that security.
Additionally, for example, when the fund believes that a foreign currency may
suffer a substantial decline against the U.S. dollar, it may enter into a
Forward Contract to sell an amount of that foreign currency approximating the
value of some or all of the fund's portfolio securities denominated in such
foreign currency; or when the fund believes that the U.S. dollar may suffer a
substantial decline against a foreign currency, it may enter into a Forward
Contract to buy that foreign currency for a fixed dollar amount.
The fund usually effects forward currency exchange contracts on a spot (i.e.,
cash) basis at the spot rate prevailing in the foreign exchange market. Some
price spread on currency exchange (to cover service charges) will be incurred
when the fund converts assets from one currency to another.
To limit potential risks in connection with the purchase of currency under
Forward Contracts, cash, cash equivalents, or readily marketable debt securities
equal to the amount of the purchase will be held in segregated accounts with the
fund's custodian bank to be used to pay for the commitment, or the fund will
cover any commitments under these contracts to sell currency by owning the
underlying currency (or an absolute right to acquire such currency). The
segregated account will be marked-to-market daily. The ability of the fund to
enter into Forward Contracts is limited only to the extent such Forward
Contracts would, in the opinion of Advisers, impede portfolio management or the
ability of the fund to honor redemption requests.
INTEREST RATE AND CURRENCY SWAPS. An interest rate swap is the transfer between
two counterparties of interest rate obligations, one of which has an interest
rate fixed to maturity while the other has an interest rate that changes in
accordance with changes in a designated benchmark (e.g., LIBOR, prime,
commercial paper, or other benchmarks). The obligations to make repayment of
principal on the underlying securities are not exchanged. These transactions
generally require the participation of an intermediary, frequently a bank. The
entity holding the fixed-rate obligation will transfer the obligation to the
intermediary, and that entity will then be obligated to pay to the intermediary
a floating rate of interest, generally including a fractional percentage as a
commission for the intermediary. The intermediary also makes arrangements with a
second entity that has a floating-rate obligation which substantially mirrors
the obligation desired by the first party. In return for assuming a fixed
obligation, the second entity will pay the intermediary all sums that the
intermediary pays on behalf of the first entity, plus an arrangement fee and
other agreed upon fees. Interest rate swaps are generally entered into to permit
the party seeking a floating rate obligation the opportunity to acquire such
obligation at a lower rate than is directly available in the credit market,
while permitting the party desiring a fixed-rate obligation the opportunity to
acquire such a fixed-rate obligation, also frequently at a price lower than is
available in the credit markets. The success of such a transaction depends in
large part on the availability of fixed-rate obligations at a low enough coupon
rate to cover the cost involved.
The fund will only enter into interest rate swaps on a net basis, which means
that the two payment streams are netted out, with the fund receiving or paying,
as the case may be, only the net amount of the two payments. Interest rate swaps
do not involve the delivery of securities, other underlying assets or principal.
Accordingly, the risk of loss with respect to interest rate swaps is limited to
the net amount of interest payments that the fund is contractually obligated to
make. If the other party to an interest rate swap defaults, the fund's risk of
loss consists of the net amount of interest payments that the fund is
contractually entitled to receive. In contrast, currency swaps usually involve
the delivery of the entire principal value of one designated currency in
exchange for the other designated currency. Therefore, the entire principal
value of a currency swap is subject to the risk that the other party to the swap
will default on its contractual delivery obligations.
ILLIQUID SECURITIES. As noted in the Prospectus, it is the policy of the fund
that illiquid securities (including illiquid equity securities, defaulted debt
securities, loan participations, securities with legal or contractual
restrictions on resale, repurchase agreements of more than seven days duration,
and other securities which are not readily marketable) may not constitute more
than 10% of the value of the fund's total net assets. Generally, an "illiquid
security" is any security that cannot be disposed of promptly and in the
ordinary course of business at approximately the amount at which the fund has
valued the instrument. Subject to this limitation, the Board has authorized the
fund to invest in restricted securities where such investment is consistent with
the fund's investment objectives and has authorized such securities to be
considered liquid to the extent Advisers determines that there is a liquid
institutional or other market for such securities - such as, restricted
securities which may be freely transferred among qualified institutional buyers
pursuant to Rule 144A under the Securities Act of 1933, as amended, and for
which a liquid institutional market has developed. The Board will review on a
monthly basis any determination by Advisers to treat a restricted security as
liquid, including Advisers' assessment of current trading activity and the
availability of reliable price information. In determining whether a restricted
security is properly considered a liquid security, Advisers and the Board will
take into account the following factors: (i) the frequency of trades and quotes
for the security; (ii) the number of dealers willing to buy or sell the security
and the number of other potential buyers; (iii) dealer undertakings to make a
market in the security; and (iv) the nature of the security and the nature of
the marketplace trades (e.g., the time needed to dispose of the security, the
method of soliciting offers, and the mechanics of transfer). To the extent the
fund invests in restricted securities that are deemed liquid, the general level
of illiquidity may be increased if qualified institutional buyers become
uninterested in buying these securities or the market for these securities
contracts.
A restricted security is a security that has been purchased through a private
offering and cannot be sold without prior registration under the Securities Act
of 1933 unless the sale is pursuant to an exemption therefrom. Notwithstanding
the restriction on the sale of such securities, a secondary market exists for
many of these securities. As with other securities in the fund's portfolio, if
there are readily available market quotations for a restricted security, it will
be valued, for purposes of determining the fund's Net Asset Value, between the
range of the bid and ask prices. To the extent that no quotations are available,
the securities will be valued at fair value in accordance with procedures
adopted by the Board.
The fund's purchases of restricted securities can result in the receipt of
commitment fees. For example, the transaction may involve an individually
negotiated purchase of short-term increasing rate notes. Maturities for this
type of security typically range from one to five years. These notes are usually
issued as temporary or "bridge" financing to be replaced ultimately with
permanent financing for the project or transaction which the issuer seeks to
finance. Typically, at the time of commitment, the fund receives the security
and sometimes a cash commitment fee. Because the transaction could possibly
involve a delay between the time the fund commits to buy the security and the
fund's payment for and receipt of that security, the fund will maintain, in a
segregated account with its custodian bank, cash or high-grade marketable
securities having an aggregate value equal to the amount of the purchase
commitments until payment is made. The fund will not buy restricted securities
in order to generate commitment fees, although the receipt of such fees will
assist the fund in achieving its principal objective of earning a high level of
current income.
Notwithstanding the determinations in regard to the liquidity of restricted
securities, the Board remains responsible for such determinations and will
consider appropriate action to maximize the fund's liquidity and its ability to
meet redemption demands if a security should become illiquid after its purchase.
To the extent the fund invests in restricted securities that are deemed liquid,
the general level of illiquidity in the fund may be increased if qualified
institutional buyers become uninterested in buying these securities or the
market for these securities contracts.
WHAT ARE THE RISKS OF INVESTING IN THE FUND?
HIGH YIELD SECURITIES. Because the fund may invest in securities below
investment grade, an investment in the fund is subject to a higher degree of
risk than an investment in a fund that invests primarily in higher-quality
securities. You should consider the increased risk of loss to principal that is
present with an investment in higher risk securities, such as those in which the
fund invests. Accordingly, an investment in the fund should not be considered a
complete investment program and should be carefully evaluated for its
appropriateness in light of your overall investment needs and goals.
The market value of high yield, lower-quality fixed-income securities, commonly
known as junk bonds, tends to reflect individual developments affecting the
issuer to a greater degree than the market value of higher-quality securities,
which react primarily to fluctuations in the general level of interest rates.
Lower-quality securities also tend to be more sensitive to economic conditions
than higher-quality securities.
Issuers of high yield, fixed-income securities are often highly leveraged and
may not have more traditional methods of financing available to them. Therefore,
the risk associated with buying the securities of these issuers is generally
greater than the risk associated with higher-quality securities. For example,
during an economic downturn or a sustained period of rising interest rates,
issuers of lower-quality securities may experience financial stress and may not
have sufficient cash flow to make interest payments. The issuer's ability to
make timely interest and principal payments may also be adversely affected by
specific developments affecting the issuer, including the issuer's inability to
meet specific projected business forecasts or the unavailability of additional
financing.
The risk of loss due to default may also be considerably greater with
lower-quality securities because they are generally unsecured and are often
subordinated to other creditors of the issuer. If the issuer of a security in
the fund's portfolio defaults, the fund may have unrealized losses on the
security, which may lower the fund's Net Asset Value. Defaulted securities tend
to lose much of their value before they default. Thus, the fund's Net Asset
Value may be adversely affected before an issuer defaults. In addition, the fund
may incur additional expenses if it must try to recover principal or interest
payments on a defaulted security.
High yield, fixed-income securities frequently have call or buy-back features
that allow an issuer to redeem the securities from the fund. Although these
securities are typically not callable for a period of time, usually for three to
five years from the date of issue, if an issuer calls its securities during
periods of declining interest rates, Advisers may find it necessary to replace
the securities with lower-yielding securities, which could result in less net
investment income for the fund. The premature disposition of a high yield
security due to a call or buy-back feature, the deterioration of an issuer's
creditworthiness, or a default by an issuer may make it more difficult for the
fund to manage the timing of its income. Under the Code and U.S. Treasury
regulations, the fund may have to accrue income on defaulted securities and
distribute the income to shareholders for tax purposes, even though the fund is
not currently receiving interest or principal payments on the defaulted
securities. To generate cash to satisfy these distribution requirements, the
fund may have to sell portfolio securities that it otherwise may have continued
to hold or use cash flows from other sources, such as the sale of fund shares.
Lower quality, fixed-income securities may not be as liquid as higher-quality
securities. Reduced liquidity in the secondary market may have an adverse impact
on market price of a security and on the fund's ability to sell a security in
response to a specific economic event, such as a deterioration in the
creditworthiness of the issuer, or if necessary to meet the fund's liquidity
needs. Reduced liquidity may also make it more difficult to obtain market
quotations based on actual trades for purposes of valuing the fund's portfolio.
The fund may buy high yield, fixed-income securities that are sold without
registration under the federal securities laws and therefore carry restrictions
on resale. While many high yielding securities have been sold with registration
rights, covenants, and penalty provisions for delayed registration, if the fund
is required to sell restricted securities before the securities have been
registered, it may be deemed an underwriter of the securities under the
Securities Act of 1933, which entails special responsibilities and liabilities.
The fund may also incur special costs in disposing of restricted securities,
although the fund will generally not incur any costs when the issuer is
responsible for registering the securities.
The fund may buy high yield, fixed-income securities during an initial
underwriting. These securities involve special risks because they are new
issues. Advisers will carefully review their credit and other characteristics.
The fund has no arrangement with its underwriter or any other person concerning
the acquisition of these securities.
The high yield securities market is relatively new and much of its growth before
1990 paralleled a long economic expansion. The recession that began in 1990
disrupted the market for high yield securities and adversely affected the value
of outstanding securities, as well as the ability of issuers of high yield
securities to make timely principal and interest payments. Although the economy
has improved and high yield securities have performed more consistently since
that time, the adverse effects previously experienced may reoccur. For example,
the highly publicized defaults on some high yield securities during 1989 and
1990 and concerns about a sluggish economy that continued into 1993 depressed
the prices of many of these securities. While market prices may be temporarily
depressed due to these factors, the ultimate price of any security generally
reflects the true operating results of the issuer. Factors adversely impacting
the market value of high yield securities may lower the fund's Net Asset Value.
The fund relies on Advisers' judgment, analysis, and experience in evaluating
the creditworthiness of an issuer. In this evaluation, Advisers takes into
consideration, among other things, the issuer's financial resources, its
sensitivity to economic conditions and trends, its operating history, the
quality of the issuer's management, and regulatory matters.
MORTGAGE-BACKED SECURITIES. To the extent mortgage securities are purchased at a
premium, unscheduled principal prepayments, including prepayments resulting from
mortgage foreclosures, may result in some loss of the holder's principal
investment to the extent of the premium paid. On the other hand, if mortgage
securities are purchased at a discount, both a scheduled payment of principal
and an unscheduled prepayment of principal will increase current and total
returns and will accelerate the recognition of income which, when distributed to
you, will be taxable as ordinary income.
Some of the CMOs in which the fund may invest may be less liquid than other
types of mortgage securities. A lack of liquidity in the market for CMOs could
result in the fund's inability to dispose of such securities at an advantageous
price under certain circumstances.
FOREIGN SECURITIES. You should consider carefully the substantial risks involved
in securities of companies of foreign nations, which are in addition to the
usual risks inherent in domestic investments.
There may be less publicly available information about foreign companies
comparable to the reports and ratings published about companies in the U.S.
Foreign companies are not generally subject to uniform accounting or financial
reporting standards, and auditing practices and requirements may not be
comparable to those applicable to U.S. companies. The fund, therefore, may
encounter difficulty in obtaining market quotations for purposes of valuing its
portfolio and calculating its Net Asset Value. Foreign markets have
substantially less volume than the NYSE, and securities of some foreign
companies are less liquid and more volatile than securities of comparable U.S.
companies. Commission rates in foreign countries, which are generally fixed
rather than subject to negotiation as in the U.S., are likely to be higher. In
many foreign countries there is less government supervision and regulation of
stock exchanges, brokers, and listed companies than in the U.S.
Investments in companies domiciled in developing countries may be subject to
potentially higher risks than investments in developed countries. These risks
include (i) less social, political, and economic stability; (ii) the small
current size of the markets for such securities and the currently low or
nonexistent volume of trading, which result in a lack of liquidity and in
greater price volatility; (iii) certain national policies which may restrict the
fund's investment opportunities, including restrictions on investment in issuers
or industries deemed sensitive to national interests; (iv) foreign taxation; (v)
the absence of developed legal structures governing private or foreign
investment or allowing for judicial redress for injury to private property; (vi)
the absence, until recently in certain Eastern European countries, of a capital
market structure or market-oriented economy; and (vii) the possibility that
recent favorable economic developments in Eastern Europe may be slowed or
reversed by unanticipated political or social events in such countries.
In addition, many countries in which the funds may invest have experienced
substantial, and in some periods extremely high, rates of inflation for many
years. Inflation and rapid fluctuations in inflation rates have had and may
continue to have negative effects on the economies and securities markets of
certain countries. Moreover, the economies of some developing countries may
differ favorably or unfavorably from the U.S. economy in such respects as growth
of gross domestic product, rate of inflation, currency depreciation, capital
reinvestment, resource self-sufficiency, and balance of payments position.
Investing in Russian companies involves a high degree of risk and special
considerations not typically associated with investing in the U.S. securities
markets, and should be considered highly speculative. Such risks include,
together with Russia's continuing political and economic instability and the
slow-paced development of its market economy, the following: (a) delays in
settling portfolio transactions and risk of loss arising out of Russia's system
of share registration and custody; (b) the risk that it may be impossible or
more difficult than in other countries to obtain and/or enforce a judgment; (c)
pervasiveness of corruption, insider trading, and crime in the Russian economic
system; (d) currency exchange rate volatility and the lack of available currency
hedging instruments; (e) higher rates of inflation (including the risk of social
unrest associated with periods of hyper-inflation); (f) controls on foreign
investment and local practices disfavoring foreign investors and limitations on
repatriation of invested capital, profits, and dividends, and on the fund's
ability to exchange local currencies for U.S. dollars; (g) the risk that the
government of Russia or other executive or legislative bodies may decide not to
continue to support the economic reform programs implemented since the
dissolution of the Soviet Union and could follow radically different political
and/or economic policies to the detriment of investors, including
non-market-oriented policies such as the support of certain industries at the
expense of other sectors or investors, a return to the centrally planned economy
that existed prior to the dissolution of the Soviet Union, or the
nationalization of privatized enterprises; (h) the risks of investing in
securities with substantially less liquidity and in issuers having significantly
smaller market capitalization, when compared to securities and issuers in more
developed markets; (i) the difficulties associated in obtaining accurate market
valuations of many Russian securities, based partly on the limited amount of
publicly available information; (j) the financial condition of Russian
companies, including large amounts of inter-company debt which may create a
payments crisis on a national scale; (k) dependency on exports and the
corresponding importance of international trade; (l) the risk that the Russian
tax system will not be reformed to prevent inconsistent, retroactive and/or
exorbitant taxation or, in the alternative, the risk that a reformed tax system
may result in the inconsistent and unpredictable enforcement of the new tax
laws; (m) possible difficulty in identifying a purchaser of securities held by
the fund due to the underdeveloped nature of the securities markets; (n) the
possibility that pending legislation could restrict the levels of foreign
investment in certain industries, thereby limiting the number of investment
opportunities in Russia; (o) the risk that pending legislation would confer to
Russian courts the exclusive jurisdiction to resolve disputes between foreign
investors and the Russian government, instead of bringing such disputes before
an internationally-accepted third-country arbitrator; and (p) the difficulty in
obtaining information about the financial condition of Russian issuers, in light
of the different disclosure and accounting standards applicable to Russian
companies.
There is little long-term historical data on Russian securities markets because
they are relatively new, and a substantial proportion of securities transactions
in Russia is privately negotiated outside of stock exchanges. Because of the
recent formation of the securities markets as well as the underdeveloped state
of the banking and telecommunications systems, settlement, clearing, and
registration of securities transactions are subject to significant risks.
Ownership of shares (except where shares are held through depositories that meet
the requirements of the 1940 Act) is defined according to entries in the
company's share register and normally evidenced by extracts from the register or
by formal share certificates. However, there is no central registration system
for shareholders, and these services are carried out by the companies themselves
or by registrars located throughout Russia. These registrars are not necessarily
subject to effective state supervision, nor are they licensed with any
governmental entity, and it is possible for the fund to lose its registration
through fraud, negligence, or even mere oversight. While the fund will endeavor
to ensure that its interest continues to be appropriately recorded either itself
or through a custodian or other agent inspecting the share register and by
obtaining extracts of share registers through regular confirmations, these
extracts have no legal enforceability, and it is possible that subsequent
illegal amendment or other fraudulent act may deprive the fund of its ownership
rights or improperly dilute its interests. In addition, while applicable Russian
regulations impose liability on registrars for losses resulting from their
errors, it may be difficult for the fund to enforce any rights it may have
against the registrar or issuer of the securities in the event of loss of share
registration. Furthermore, although a Russian public enterprise with more than
500 shareholders is required by law to contract out the maintenance of its
shareholder register to an independent entity that meets certain criteria, in
practice this regulation has not always been strictly enforced. Because of this
lack of independence, management of a company may be able to exert considerable
influence over who can purchase and sell the company's shares by illegally
instructing the registrar to refuse to record transactions in the share
register. In addition, so-called "financial-industrial groups" have emerged in
recent years that seek to deter outside investors from interfering in the
management of companies they control. These practices may prevent the fund from
investing in the securities of certain Russian companies deemed suitable by
Advisers. Further, this also could cause a delay in the sale of Russian company
securities by the fund if a potential purchaser is deemed unsuitable, which may
expose the fund to potential loss on the investment.
The fund's management endeavors to buy and sell foreign currencies on as
favorable a basis as practicable. Some price spread on currency exchange (to
cover service charges) may be incurred, particularly when the fund changes
investments from one country to another or when proceeds of the sale of shares
in U.S. dollars are used for the purchase of securities in foreign countries.
Also, some countries may adopt policies that would prevent the fund from
transferring cash out of the country or withhold portions of interest and
dividends at the source. There is the possibility of cessation of trading on
national exchanges, expropriation, nationalization, or confiscatory taxation,
withholding, and other foreign taxes on income or other amounts, foreign
exchange controls (which may include suspension of the ability to transfer
currency from a given country), default in foreign government securities,
political or social instability, or diplomatic developments that could affect
investments in securities of issuers in foreign nations.
The fund may be affected either favorably or unfavorably by fluctuations in the
relative rates of exchange between the currencies of different nations, by
exchange control regulations, and by indigenous economic and political
developments. Some countries in which the fund may invest may also have fixed or
managed currencies that are not free-floating against the U.S. dollar. Further,
certain currencies may not be internationally traded.
Certain of these currencies have experienced a steady devaluation relative to
the U.S. dollar. Any devaluations in the currencies in which the fund's
portfolio securities are denominated may have a detrimental impact on the fund.
Through the fund's flexible policy, management endeavors to avoid unfavorable
consequences and to take advantage of favorable developments in particular
nations where, from time to time, it places the fund's investments.
The exercise of this flexible policy may include decisions to purchase
securities with substantial risk characteristics and other decisions such as
changing the emphasis on investments from one nation to another and from one
type of security to another. Some of these decisions may later prove profitable
and others may not. No assurance can be given that profits, if any, will exceed
losses.
The Board considers at least annually the likelihood of the imposition by any
foreign government of exchange control restrictions which would affect the
liquidity of the fund's assets maintained with custodians in foreign countries,
as well as the degree of risk from political acts of foreign governments to
which such assets may be exposed. The Board also considers the degree of risk
involved through the holding of portfolio securities in domestic and foreign
securities depositories. However, in the absence of willful misfeasance, bad
faith, or gross negligence on the part of Advisers, any losses resulting from
the holding of the fund's portfolio securities in foreign countries and/or with
securities depositories will be at the risk of the shareholders. No assurance
can be given that the Board's appraisal of the risks will always be correct or
that such exchange control restrictions or political acts of foreign governments
might not occur.
STOCK INDEX OPTIONS, STOCK INDEX FUTURES, FINANCIAL FUTURES, AND RELATED
OPTIONS. The fund's ability to hedge effectively all or a portion of its
securities through transactions in options on stock indexes, stock index
futures, financial futures, and related options depends on the degree to which
price movements in the underlying index or underlying securities correlate with
price movements in the relevant portion of the fund's portfolio. Inasmuch as
these securities will not duplicate the components of any index or underlying
securities, the correlation will not be perfect. Consequently, the fund bears
the risk that the prices of the securities being hedged will not move in the
same amount as the hedging instrument. It is also possible that there may be a
negative correlation between the index or other securities underlying the
hedging instrument and the hedged securities which would result in a loss on
both the securities and the hedging instrument. Accordingly, successful use by
the fund of options on stock indexes, stock index futures, financial futures,
and related options will be subject to Advisers' ability to predict correctly
movements in the direction of the securities markets generally or of a
particular segment. This requires different skills and techniques than
predicting changes in the price of individual stocks.
Positions in stock index options, stock index futures, and financial futures,
and related options may be closed out only on an exchange that provides a
secondary market. There can be no assurance that a liquid secondary market will
exist for any particular stock index option or futures contract or related
option at any specific time. Thus, it may not be possible to close an option or
futures position. The inability to close options or futures positions could have
an adverse impact on the fund's ability to effectively hedge its securities. The
fund will enter into an option or futures position only if there appears to be a
liquid secondary market for such options or futures.
There can be no assurance that a continuous liquid secondary market will exist
for any particular OTC option at any specific time. Consequently, the fund may
be able to realize the value of an OTC option it has purchased only by
exercising it or entering into a closing sale transaction with the dealer that
issued it. Similarly, when the fund writes an OTC option, it generally can close
out that option prior to its expiration only by entering into a closing purchase
transaction with the dealer to which the fund originally wrote it. If a covered
call option writer cannot effect a closing transaction, it cannot sell the
underlying security until the option expires or the option is exercised.
Therefore, a covered call option writer of an OTC option may not be able to sell
an underlying security even though it might otherwise be advantageous to do so.
Likewise, a secured put writer of an OTC option may be unable to sell the
securities pledged to secure the put for other investment purposes while it is
obligated as a put writer. Similarly, a buyer of such put or call option might
also find it difficult to terminate its position on a timely basis in the
absence of a secondary market.
The CFTC and the various exchanges have established limits referred to as
"speculative position limits" on the maximum net long or net short position that
any person may hold or control in a particular futures contract. Trading limits
are imposed on the maximum number of contracts that any person may trade on a
particular trading day. An exchange may order the liquidation of positions found
to be in violation of these limits and it may impose other sanctions or
restrictions. The fund does not believe that these trading and positions limits
will have an adverse impact on the fund's strategies for hedging its securities.
The ordinary spreads between prices in the cash and futures markets, due to
differences in the nature of those markets, are subject to distortions. First,
all participants in the futures market are subject to initial deposit and
variation margin requirements. Rather than meeting additional variation margin
requirements, investors may close futures contracts through offsetting
transactions which could distort the normal relationship between the cash and
futures markets. Second, the liquidity of the futures market depends on
participants entering into offsetting transactions rather than making or taking
delivery. To the extent participants decide to make or take delivery, liquidity
in the futures market could be reduced, thus producing distortion. Third, from
the point of view of speculators, the margin deposit requirements in the futures
market are less onerous than margin requirements in the securities market.
Therefore, increased participation by speculators in the futures market may
cause temporary price distortions. Due to the possibility of distortion, a
correct forecast of general interest rate trends by Advisers may still not
result in a successful transaction.
In addition, futures contracts entail risks. Although the fund believes that use
of such contracts will benefit the fund, if Advisers' investment judgment about
the general direction of interest rates is incorrect, the fund's overall
performance would be poorer than if it had not entered into any such contract.
For example, if the fund has hedged against the possibility of an increase in
interest rates which would adversely affect the price of bonds held in its
portfolio and interest rates decrease instead, the fund will lose part or all of
the benefit of the increased value of its bonds which it has hedged because it
will have offsetting losses in its futures positions. In addition, in such
situations, if the fund has insufficient cash, it may have to sell securities
from its portfolio to meet daily variation margin requirements. These sales may
be, but will not necessarily be, at increased prices which reflect the rising
market. The fund may have to sell securities at a time when it may be
disadvantageous to do so.
The fund's sale of futures contracts and purchase of put options on futures
contracts will be solely to protect its investments against declines in value.
The fund expects that in the normal course it will buy securities upon
termination of long futures contracts and long call options on future contracts,
but under unusual market conditions it may terminate any of such positions
without a corresponding purchase of securities.
FORWARD CURRENCY CONTRACTS. As noted above, the fund may enter into forward
currency contracts, in part in order to limit the risk from adverse changes in
the relationship between currencies. However, Forward Contracts may limit
potential gain from a positive change in the relationship between the U.S.
dollar and foreign currencies or between foreign currencies. Unanticipated
changes in currency exchange rates also may result in poorer overall performance
for the fund than if it had not entered into such contracts.
INVESTMENT RESTRICTIONS
The fund has adopted the following restrictions as fundamental policies. These
restrictions may not be changed without the approval of a majority of the
outstanding voting securities of the fund. Under the 1940 Act, this means the
approval of (i) more than 50% of the outstanding shares of the fund or (ii) 67%
or more of the shares of the fund present at a shareholder meeting if more than
50% of the outstanding shares of the fund are represented at the meeting in
person or by proxy, whichever is less. The fund MAY NOT:
(1) Invest more than 25% of the value of the fund's total assets in one
particular industry; except that, to the extent this restriction is applicable,
all or substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and policies
as the fund;
(2) Underwrite securities of other issuers, except insofar as the fund may be
technically deemed an underwriter in connection with the disposition of
securities in its portfolio; except that all or substantially all of the assets
of the fund may be invested in another registered investment company having the
same investment objectives and policies as the fund;
(3) Make loans to other persons except on a temporary basis in connection with
the delivery or receipt of portfolio securities which have been bought or sold,
or by the purchase of bonds, debentures or similar obligations which have been
publicly distributed or of a character usually acquired by institutional
investors or through loans of the fund's portfolio securities, or to the extent
the entry into a repurchase agreement may be deemed a loan;
(4) Borrow money in excess of 5% of the value of the fund's total assets, and
then only as a temporary measure for extraordinary or emergency purposes;
(5) Sell securities short or buy on margin nor pledge or hypothecate any of the
fund's assets; except that the fund may enter into financial futures and options
on financial futures as discussed;
(6) Buy or sell real estate (other than interests in real estate investment
trusts), commodities or commodity contracts; except that the fund may invest in
financial futures and related options on futures with respect to securities,
securities indices and currencies;
(7) Invest in the securities of other investment companies, except where there
is no commission other than the customary brokerage commission or sales charge,
or except that securities of another investment company may be acquired pursuant
to a plan of reorganization, merger, consolidation or acquisition; provided that
all or substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and policies
as the fund. To the extent permitted by exemptions granted under the 1940 Act,
the fund may invest in shares of one or more money market funds managed by
Advisers or its affiliates;
(8) Invest in securities for the purpose of exercising management or control of
the issuer, except that, to the extent this restriction is applicable, all or
substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and policies
as the fund; and
(9) Purchase from or sell to its officers and trustees, or any firm of which any
officer or trustee is a member, as principal, any securities, but may deal with
such persons or firms as brokers and pay a customary brokerage commission; or
purchase or retain securities of any issuer if, to the knowledge of the fund,
one or more of the officers or trustees of the fund, or its investment adviser,
own beneficially more than one-half of 1% of the securities of such issuer and
all such officers and trustees together own beneficially more than 5% of such
securities, except that, to the extent this restriction is applicable, all or
substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and policies
as the fund, or except as permitted under investment restriction Number 7
regarding the purchase of shares of money market funds managed by Advisers or
its affiliates.
If a bankruptcy or other extraordinary event occurs concerning a particular
security owned by the fund, the fund may receive stock, real estate, or other
investments that the fund would not, or could not, buy. In this case, the fund
intends to dispose of the investment as soon as practicable while maximizing the
return to shareholders.
If a percentage restriction is met at the time of investment, a later increase
or decrease in the percentage due to a change in the value or liquidity of
portfolio securities or the amount of assets will not be considered a violation
of any of the foregoing restrictions.
OFFICERS AND TRUSTEES
The Board has the responsibility for the overall management of the fund,
including general supervision and review of its investment activities. The
Board, in turn, elects the officers of the fund who are responsible for
administering the fund's day-to-day operations. The affiliations of the officers
and Board members and their principal occupations for the past five years are
shown below. Members of the Board who are considered "interested persons" of the
fund under the 1940 Act are indicated by an asterisk (*).
POSITIONS AND OFFICES
NAME, AGE AND ADDRESS WITH THE TRUST PRINCIPAL OCCUPATION DURING
THE PAST FIVE YEARS
- ------------------------------------------------------------------------------
Frank H. Abbott, III (77)
1045 Sansome Street
San Francisco, CA 94111
Trustee
President and Director, Abbott Corporation (an investment company); director or
trustee, as the case may be, of 27 of the investment companies in the Franklin
Templeton Group of Funds; and FORMERLY, Director, MotherLode Gold Mines
Consolidated (gold mining) and Vacu-Dry Co. (food processing).
Harris J. Ashton (66)
191 Clapboard Ridge Road
Greenwich, CT 06830
Trustee
Director, RBC Holdings, Inc. (a bank holding company) and Bar-S Foods (a meat
packing company); director or trustee, as the case may be, of 49 of the
investment companies in the Franklin Templeton Group of Funds; and FORMERLY,
President, Chief Executive Officer and Chairman of the Board, General Host
Corporation (nursery and craft centers).
*Harmon E. Burns (53)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Trustee
Executive Vice President and Director, Franklin Resources, Inc., Franklin
Templeton Distributors, Inc. and Franklin Templeton Services, Inc.; Executive
Vice President, Franklin Advisers, Inc.; Director, Franklin/Templeton Investor
Services, Inc.; and officer and/or director or trustee, as the case may be, of
most of the other subsidiaries of Franklin Resources, Inc. and of 53 of the
investment companies in the Franklin Templeton Group of Funds.
S. Joseph Fortunato (66)
Park Avenue at Morris County
P.O. Box 1945
Morristown, NJ 07962-1945
Trustee
Member of the law firm of Pitney, Hardin, Kipp & Szuch; director or trustee, as
the case may be, of 51 of the investment companies in the Franklin Templeton
Group of Funds; and FORMERLY, Director, General Host Corporation (nursery and
craft centers).
Edith E. Holiday (46)
3239 38th Street, N.W.
Washington, DC 20016
Trustee
Director, Amerada Hess Corporation (crude oil and natural gas refining),
Hercules Incorporated (chemicals, fibers and resins) (1993-present), Beverly
Enterprises, Inc. (1995-present) and H.J. Heinz Company (packaged foods and
allied products) (1994-present); director or trustee, as the case may be, of 25
of the investment companies in the Franklin Templeton Group of Funds; and
FORMERLY, Chairman (1995-1997) and Trustee (1993-1997), National Child Research
Center, Assistant to the President of the United States and Secretary of the
Cabinet (1990-1993), General Counsel to the United States Treasury Department
(1989-1990), and Counselor to the Secretary and Assistant Secretary for Public
Affairs and Public Liaison-United States Treasury Department (1988-1989).
*Charles B. Johnson (65)
777 Mariners Island Blvd.
San Mateo, CA 94404
Chairman
of the Board
and Trustee
President, Chief Executive Officer and Director, Franklin Resources, Inc.;
Chairman of the Board and Director, Franklin Advisers, Inc., Franklin Advisory
Services, Inc., Franklin Investment Advisory Services, Inc. and Franklin
Templeton Distributors, Inc.; Director, Franklin/Templeton Investor Services,
Inc. and Franklin Templeton Services, Inc.; officer and/or director or trustee,
as the case may be, of most of the other subsidiaries of Franklin Resources,
Inc. and of 50 of the investment companies in the Franklin Templeton Group of
Funds; and FORMERLY, Director, General Host Corporation (nursery and craft
centers).
*Rupert H. Johnson, Jr. (58)
777 Mariners Island Blvd.
San Mateo, CA 94404
President
and Trustee
Executive Vice President and Director, Franklin Resources, Inc. and Franklin
Templeton Distributors, Inc.; President and Director, Franklin Advisers, Inc.;
Senior Vice President and Director, Franklin Advisory Services, Inc. and
Franklin Investment Advisory Services, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case may
be, of most of the other subsidiaries of Franklin Resources, Inc. and of 53 of
the investment companies in the Franklin Templeton Group of Funds.
Frank W.T. LaHaye (69)
20833 Stevens Creek Blvd.
Suite 102
Cupertino, CA 95014
Trustee
General Partner, Miller & LaHaye, which is the General Partner of Peregrine
Ventures II (venture capital firm); Chairman of the Board and Director,
Quarterdeck Corporation (software firm); Director, Digital Transmission Systems,
Inc. (wireless communications); director or trustee, as the case may be, of 27
of the investment companies in the Franklin Templeton Group of Funds; and
FORMERLY, Director, Fischer Imaging Corporation (medical imaging systems) and
General Partner, Peregrine Associates, which was the General Partner of
Peregrine Ventures (venture capital firm).
Gordon S. Macklin (70)
8212 Burning Tree Road
Bethesda, MD 20817
Trustee
Director, Fund American Enterprises Holdings, Inc., MCI Communications
Corporation, MedImmune, Inc. (biotechnology), Spacehab, Inc. (aerospace
services) and Real 3D (software); director or trustee, as the case may be, of 49
of the investment companies in the Franklin Templeton Group of Funds; and
FORMERLY, Chairman, White River Corporation (financial services) and Hambrecht
and Quist Group (investment banking,) and President, National Association of
Securities Dealers, Inc.
Martin L. Flanagan (38)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Chief
Financial Officer
Senior Vice President and Chief Financial Officer, Franklin Resources, Inc.;
Executive Vice President and Director, Templeton Worldwide, Inc.; Executive Vice
President, Chief Operating Officer and Director, Templeton Investment Counsel,
Inc.; Executive Vice President and Chief Financial Officer, Franklin Advisers,
Inc.; Chief Financial Officer, Franklin Advisory Services, Inc. and Franklin
Investment Advisory Services, Inc.; President and Director, Franklin Templeton
Services, Inc.; Senior Vice President and Chief Financial Officer,
Franklin/Templeton Investor Services, Inc.; officer and/or director of some of
the other subsidiaries of Franklin Resources, Inc.; and officer and/or director
or trustee, as the case may be, of 53 of the investment companies in the
Franklin Templeton Group of Funds.
Deborah R. Gatzek (49)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Secretary
Senior Vice President and General Counsel, Franklin Resources, Inc.; Senior Vice
President, Franklin Templeton Services, Inc. and Franklin Templeton
Distributors, Inc.; Executive Vice President, Franklin Advisers, Inc.; Vice
President, Franklin Advisory Services, Inc.; Vice President, Chief Legal Officer
and Chief Operating Officer, Franklin Investment Advisory Services, Inc.; and
officer of 53 of the investment companies in the Franklin Templeton Group of
Funds.
Charles E. Johnson (42)
500 East Broward Blvd.
Fort Lauderdale, FL 33394-3091
Vice President
Senior Vice President and Director, Franklin Resources, Inc.; Senior Vice
President, Franklin Templeton Distributors, Inc.; President and Director,
Templeton Worldwide, Inc.; President, Chief Executive Officer, Chief Investment
Officer and Director, Franklin Institutional Services Corporation; Chairman and
Director, Templeton Investment Counsel, Inc.; Vice President, Franklin Advisers,
Inc.; officer and/or director of some of the other subsidiaries of Franklin
Resources, Inc.; and officer and/or director or trustee, as the case may be, of
34 of the investment companies in the Franklin Templeton Group of Funds.
Diomedes Loo-Tam (59)
777 Mariners Island Blvd.
San Mateo, CA 94404
Treasurer and
Principal
Accounting Officer
Senior Vice President, Franklin Templeton Services, Inc.; and officer of 32 of
the investment companies in the Franklin Templeton Group of Funds.
Edward V. McVey (61)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
Senior Vice President and National Sales Manager, Franklin Templeton
Distributors, Inc.; and officer of 28 of the investment companies in the
Franklin Templeton Group of Funds.
The table above shows the officers and Board members who are affiliated with
Distributors and Advisers. As of June 1, 1998, nonaffiliated members of the
Board are paid $1,575 for each of the Trust's eight regularly scheduled Board
meetings plus $1,050 per meeting attended. As shown above, the nonaffiliated
Board members also serve as directors or trustees of other investment companies
in the Franklin Templeton Group of Funds. They may receive fees from these funds
for their services. The fees payable to nonaffiliated Board members by the Trust
are subject to reductions resulting from fee caps limiting the amount of fees
payable to Board members who serve on other boards within the Franklin Templeton
Group of Funds. The following table provides the total fees paid to
nonaffiliated Board members by the Trust and by other funds in the Franklin
Templeton Group of Funds.
NUMBER OF BOARDS
TOTAL FEES IN THE FRANKLIN
TOTAL FEES RECEIVED FROM THE TEMPLETON GROUP
RECEIVED FRANKLIN TEMPLETON OF FUNDS ON WHICH
NAME FROM TRUST*** GROUP OF FUNDS**** EACH SERVES*****
- ------------------------------------------------------------------------------
Frank H. Abbott, III....... $5,400 $165,937 27
Harris J. Ashton........... 5,100 344,642 49
S. Joseph Fortunato........ 5,100 361,562 51
David Garbellano*.......... 1,500 91,317 N/A
Edith Holiday**............ 1,200 72,875 25
Frank W.T. LaHaye.......... 5,400 141,433 27
Gordon S. Macklin.......... 5,100 337,292 49
*Deceased, September 27, 1997.
**Appointed January 15, 1998.
***For the fiscal year ended April 30, 1998, during which time fees at the rate
of $300 for each of the Trust's eight meetings plus $300 per meeting attended
were in effect.
****For the calendar year ended December 31, 1997.
*****We base the number of boards on the number of registered investment
companies in the Franklin Templeton Group of Funds. This number does not include
the total number of series or funds within each investment company for which the
Board members are responsible. The Franklin Templeton Group of Funds currently
includes 54 registered investment companies, with approximately 170 U.S. based
funds or series.
Nonaffiliated members of the Board are reimbursed for expenses incurred in
connection with attending board meetings, paid pro rata by each fund in the
Franklin Templeton Group of Funds for which they serve as director or trustee.
No officer or Board member received any other compensation, including pension or
retirement benefits, directly or indirectly from the fund or other funds in the
Franklin Templeton Group of Funds. Certain officers or Board members who are
shareholders of Resources may be deemed to receive indirect remuneration by
virtue of their participation, if any, in the fees paid to its subsidiaries.
As of June 2, 1998, the officers and Board members, as a group, owned of record
and beneficially the following shares of the fund: approximately 5,851 Class I
shares, or less than 1% of the total outstanding Class I shares of the fund.
Many of the Board members also own shares in other funds in the Franklin
Templeton Group of Funds. Charles B. Johnson and Rupert H. Johnson, Jr. are
brothers and the father and uncle, respectively, of Charles E.
Johnson.
INVESTMENT MANAGEMENT AND OTHER SERVICES
INVESTMENT MANAGER AND SERVICES PROVIDED. The fund's investment manager is
Advisers. Advisers provides investment research and portfolio management
services, including the selection of securities for the fund to buy, hold or
sell and the selection of brokers through whom the fund's portfolio transactions
are executed. Advisers' activities are subject to the review and supervision of
the Board to whom Advisers renders periodic reports of the fund's investment
activities. Advisers and its officers, directors and employees are covered by
fidelity insurance for the protection of the fund.
Advisers and its affiliates act as investment manager to numerous other
investment companies and accounts. Advisers may give advice and take action with
respect to any of the other funds it manages, or for its own account, that may
differ from action taken by Advisers on behalf of the fund. Similarly, with
respect to the fund, Advisers is not obligated to recommend, buy or sell, or to
refrain from recommending, buying or selling any security that Advisers and
access persons, as defined by the 1940 Act, may buy or sell for its or their own
account or for the accounts of any other fund. Advisers is not obligated to
refrain from investing in securities held by the fund or other funds that it
manages. Of course, any transactions for the accounts of Advisers and other
access persons will be made in compliance with the fund's Code of Ethics. Please
see "Miscellaneous Information - Summary of Code of Ethics."
Under an agreement with Advisers, TICI is the fund's sub-advisor. TICI provides
Advisers with investment management advice and assistance. TICI also provides a
continuous investment program for the fund, including allocation of the fund's
assets among the various securities markets of the world and investment research
and advice with respect to securities and investments and cash equivalents in
the fund.
MANAGEMENT FEES. Under its management agreement, the fund pays Advisers a
management fee equal to an annual rate of 0.625 of 1% of the value of its
average daily net assets up to and including $100 million; 0.50 of 1% of the
value of its average daily net assets over $100 million and not over $250
million; and 0.45 of 1% of the value of its average daily net assets in excess
of $250 million. The fee is computed at the close of business on the last
business day of each month. Each class pays its proportionate share of the
management fee. Under the sub-advisory agreement, Advisers pays TICI a
sub-advisory fee, in U.S. dollars, equal to an annual rate of 0.3125 of 1% of
the fund's average daily net assets up to and including $100 million; 0.25 of 1%
of the value of the fund's average daily net assets over $100 million and not
over $250 million; and 0.225 of 1% of the value of the fund's average daily net
assets in excess of $250 million. This fee is not a separate expense of the fund
but is paid by Advisers from the management fees it receives from the fund. TICI
will pay all expenses incurred in connection with its activities under the
subadvisory agreement with Advisers other than the cost of securities (including
brokerage commissions, if any) purchased for the fund.
For the fiscal years ended April 30, 1998, 1997 and 1996, management fees,
before any advance waiver, totaled $527,061, $129,938 and $58,092, respectively.
Under an agreement by Advisers to waive its fees, the fund paid no management
fees for the same periods. For the same periods, Advisers paid TICI no
sub-advisory fees.
MANAGEMENT AGREEMENTS. The management and sub-advisory agreements are in effect
until February 28, 1999. They may continue in effect for successive annual
periods if their continuance is specifically approved at least annually by a
vote of the Board or by a vote of the holders of a majority of the fund's
outstanding voting securities, and in either event by a majority vote of the
Board members who are not parties to either agreement or interested persons of
any such party (other than as members of the Board), cast in person at a meeting
called for that purpose. The management agreement may be terminated without
penalty at any time by the Board or by a vote of the holders of a majority of
the fund's outstanding voting securities on 60 days' written notice to Advisers,
or by Advisers on 60 days' written notice to the fund, and will automatically
terminate in the event of its assignment, as defined in the 1940 Act. The
sub-advisory agreement may be terminated without penalty at any time by the
Board or by vote of the holders of a majority of the fund's outstanding voting
securities, or by either Advisers or TICI on not less than 60 days' written
notice, and will automatically terminate in the event of its assignment, as
defined in the 1940 Act.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services provides
certain administrative services and facilities for the fund. These include
preparing and maintaining books, records, and tax and financial reports, and
monitoring compliance with regulatory requirements. FT Services is a wholly
owned subsidiary of Resources.
Under its administration agreement, Advisers pays FT Services a monthly
administration fee equal to an annual rate of 0.15% of the fund's average daily
net assets up to $200 million, 0.135% of average daily net assets over $200
million up to $700 million, 0.10% of average daily net assets over $700 million
up to $1.2 billion, and 0.075% of average daily net assets over $1.2 billion.
During the fiscal year ended April 30, 1998, and for the period October 1, 1996,
through April 30, 1997, administration fees totaling $129,758 and $21,855,
respectively, were paid to FT Services. The fee is paid by Advisers. It is not a
separate expense of the fund.
SHAREHOLDER SERVICING AGENT. Investor Services, a wholly owned subsidiary of
Resources, is the fund's shareholder servicing agent and acts as the fund's
transfer agent and dividend-paying agent. Investor Services is compensated on
the basis of a fixed fee per account. The fund may also reimburse Investor
Services for certain out-of-pocket expenses, which may include payments by
Investor Services to entities, including affiliated entities, that provide
sub-shareholder services, recordkeeping and/or transfer agency services to
beneficial owners of the fund. The amount of reimbursements for these services
per benefit plan participant fund account per year may not exceed the per
account fee payable by the fund to Investor Services in connection with
maintaining shareholder accounts.
CUSTODIAN. Bank of New York, Mutual Funds Division, 90 Washington Street, New
York, New York, 10286, acts as custodian of the securities and other assets of
the fund. The custodian does not participate in decisions relating to the
purchase and sale of portfolio securities.
AUDITOR. Coopers & Lybrand L.L.P., 333 Market Street, San Francisco, California
94105, is the fund's independent auditor. During the fiscal year ended April 30,
1998, the auditor's services consisted of rendering an opinion on the financial
statements of the Trust included in the Trust's Annual Report to Shareholders
for the fiscal year ended April 30, 1998.
HOW DOES THE FUND BUY
SECURITIES FOR ITS PORTFOLIO?
Advisers selects brokers and dealers to execute the fund's portfolio
transactions in accordance with criteria set forth in the management agreement
and any directions that the Board may give.
When placing a portfolio transaction, Advisers seeks to obtain prompt execution
of orders at the most favorable net price. For portfolio transactions on a
securities exchange, the amount of commission paid by the fund is negotiated
between Advisers and the broker executing the transaction. The determination and
evaluation of the reasonableness of the brokerage commissions paid are based to
a large degree on the professional opinions of the persons responsible for
placement and review of the transactions. These opinions are based on the
experience of these individuals in the securities industry and information
available to them about the level of commissions being paid by other
institutional investors of comparable size. Advisers will ordinarily place
orders to buy and sell over-the-counter securities on a principal rather than
agency basis with a principal market maker unless, in the opinion of Advisers, a
better price and execution can otherwise be obtained. Purchases of portfolio
securities from underwriters will include a commission or concession paid by the
issuer to the underwriter, and purchases from dealers will include a spread
between the bid and ask price.
Advisers may pay certain brokers commissions that are higher than those another
broker may charge, if Advisers determines in good faith that the amount paid is
reasonable in relation to the value of the brokerage and research services it
receives. This may be viewed in terms of either the particular transaction or
Advisers' overall responsibilities to client accounts over which it exercises
investment discretion. The services that brokers may provide to Advisers
include, among others, supplying information about particular companies,
markets, countries, or local, regional, national or transnational economies,
statistical data, quotations and other securities pricing information, and other
information that provides lawful and appropriate assistance to Advisers in
carrying out its investment advisory responsibilities. These services may not
always directly benefit the fund. They must, however, be of value to Advisers in
carrying out its overall responsibilities to its clients.
It is not possible to place a dollar value on the special executions or on the
research services Advisers receives from dealers effecting transactions in
portfolio securities. The allocation of transactions in order to obtain
additional research services permits Advisers to supplement its own research and
analysis activities and to receive the views and information of individuals and
research staffs of other securities firms. As long as it is lawful and
appropriate to do so, Advisers and its affiliates may use this research and data
in their investment advisory capacities with other clients. If the fund's
officers are satisfied that the best execution is obtained, the sale of fund
shares, as well as shares of other funds in the Franklin Templeton Group of
Funds, may also be considered a factor in the selection of broker-dealers to
execute the fund's portfolio transactions.
Because Distributors is a member of the NASD, it may sometimes receive certain
fees when the fund tenders portfolio securities pursuant to a tender-offer
solicitation. As a means of recapturing brokerage for the benefit of the fund,
any portfolio securities tendered by the fund will be tendered through
Distributors if it is legally permissible to do so. In turn, the next management
fee payable to Advisers will be reduced by the amount of any fees received by
Distributors in cash, less any costs and expenses incurred in connection with
the tender.
If purchases or sales of securities of the fund and one or more other investment
companies or clients supervised by Advisers are considered at or about the same
time, transactions in these securities will be allocated among the several
investment companies and clients in a manner deemed equitable to all by
Advisers, taking into account the respective sizes of the funds and the amount
of securities to be purchased or sold. In some cases this procedure could have a
detrimental effect on the price or volume of the security so far as the fund is
concerned. In other cases it is possible that the ability to participate in
volume transactions may improve execution and reduce transaction costs to the
fund.
During the fiscal years ended April 30, 1998, 1997 and 1996, the fund paid
brokerage commissions totaling $3,070, $2,435 and $985, respectively.
As of April 30, 1998, the fund owned securities issued by Salomon Brothers
Inc. and Morgan Stanley & Co. Inc. valued in the amount of $459,788 and
$2,020,781, respectively. Except as noted, the fund did not own any
securities issued by its regular broker-dealers as of the end of the fiscal
year.
HOW DO I BUY, SELL AND EXCHANGE SHARES?
ADDITIONAL INFORMATION ON BUYING SHARES
The fund continuously offers its shares through Securities Dealers who have an
agreement with Distributors. Securities Dealers may at times receive the entire
sales charge. A Securities Dealer who receives 90% or more of the sales charge
may be deemed an underwriter under the Securities Act of 1933, as amended.
Banks and financial institutions that sell shares of the fund may be required by
state law to register as Securities Dealers. Financial institutions or their
affiliated brokers may receive an agency transaction fee in the percentages
indicated in the table under "How Do I Buy Shares? - Purchase Price of Fund
Shares" in the Prospectus.
When you buy shares, if you submit a check or a draft that is returned unpaid to
the fund we may impose a $10 charge against your account for each returned item.
Under agreements with certain banks in Taiwan, Republic of China, the fund's
shares are available to these banks' trust accounts without a sales charge. The
banks may charge service fees to their customers who participate in the trusts.
A portion of these service fees may be paid to Distributors or one of its
affiliates to help defray expenses of maintaining a service office in Taiwan,
including expenses related to local literature fulfillment and communication
facilities.
Class I shares of the fund may be offered to investors in Taiwan through
securities advisory firms known locally as Securities Investment Consulting
Enterprises. In conformity with local business practices in Taiwan, Class I
shares may be offered with the following schedule of sales charges:
SALES
SIZE OF PURCHASE - U.S. DOLLARS CHARGE
- ------------------------------------------------------------------------------
Under $30,000............................................... 3%
$30,000 but less than $100,000.............................. 2%
$100,000 but less than $400,000............................. 1%
$400,000 or more............................................ 0%
OTHER PAYMENTS TO SECURITIES DEALERS. Distributors may pay the following
commissions, out of its own resources, to Securities Dealers who initiate and
are responsible for purchases of Class I shares of $1 million or more: 0.75% on
sales of $1 million to $2 million, plus 0.60% on sales over $2 million to $3
million, plus 0.50% on sales over $3 million to $50 million, plus 0.25% on sales
over $50 million to $100 million, plus 0.15% on sales over $100 million.
Either Distributors or one of its affiliates may pay the following amounts, out
of its own resources, to Securities Dealers who initiate and are responsible for
purchases of Class I shares by certain retirement plans without a front-end
sales charge, as discussed in the Prospectus: 1% on sales of $500,000 to $2
million, plus 0.80% on sales over $2 million to $3 million, plus 0.50% on sales
over $3 million to $50 million, plus 0.25% on sales over $50 million to $100
million, plus 0.15% on sales over $100 million. Distributors may make these
payments in the form of contingent advance payments, which may be recovered from
the Securities Dealer or set off against other payments due to the dealer if
shares are sold within 12 months of the calendar month of purchase. Other
conditions may apply. All terms and conditions may be imposed by an agreement
between Distributors, or one of its affiliates, and the Securities Dealer.
These breakpoints are reset every 12 months for purposes of additional
purchases.
Distributors and/or its affiliates provide financial support to various
Securities Dealers that sell shares of the Franklin Templeton Group of Funds.
This support is based primarily on the amount of sales of fund shares. The
amount of support may be affected by: total sales; net sales; levels of
redemptions; the proportion of a Securities Dealer's sales and marketing efforts
in the Franklin Templeton Group of Funds; a Securities Dealer's support of, and
participation in, Distributors' marketing programs; a Securities Dealer's
compensation programs for its registered representatives; and the extent of a
Securities Dealer's marketing programs relating to the Franklin Templeton Group
of Funds. Financial support to Securities Dealers may be made by payments from
Distributors' resources, from Distributors' retention of underwriting
concessions and, in the case of funds that have Rule 12b-1 plans, from payments
to Distributors under such plans. In addition, certain Securities Dealers may
receive brokerage commissions generated by fund portfolio transactions in
accordance with the NASD's rules.
Distributors routinely sponsors due diligence meetings for registered
representatives during which they receive updates on various Franklin Templeton
Funds and are afforded the opportunity to speak with portfolio managers.
Invitation to these meetings is not conditioned on selling a specific number of
shares. Those who have shown an interest in the Franklin Templeton Funds,
however, are more likely to be considered. To the extent permitted by their
firm's policies and procedures, registered representatives' expenses in
attending these meetings may be covered by Distributors.
LETTER OF INTENT. You may qualify for a reduced sales charge when you buy Class
I shares, as described in the Prospectus. At any time within 90 days after the
first investment that you want to qualify for a reduced sales charge, you may
file with the fund a signed shareholder application with the Letter of Intent
section completed. After the Letter is filed, each additional investment will be
entitled to the sales charge applicable to the level of investment indicated on
the Letter. Sales charge reductions based on purchases in more than one Franklin
Templeton Fund will be effective only after notification to Distributors that
the investment qualifies for a discount. Your holdings in the Franklin Templeton
Funds acquired more than 90 days before the Letter is filed will be counted
towards completion of the Letter, but they will not be entitled to a retroactive
downward adjustment in the sales charge. Any redemptions you make during the 13
month period, except in the case of certain retirement plans, will be subtracted
from the amount of the purchases for purposes of determining whether the terms
of the Letter have been completed. If the Letter is not completed within the 13
month period, there will be an upward adjustment of the sales charge, depending
on the amount actually purchased (less redemptions) during the period. The
upward adjustment does not apply to certain retirement plans. If you execute a
Letter before a change in the sales charge structure of the fund, you may
complete the Letter at the lower of the new sales charge structure or the sales
charge structure in effect at the time the Letter was filed.
As mentioned in the Prospectus, five percent (5%) of the amount of the total
intended purchase will be reserved in Class I shares of the fund registered in
your name until you fulfill the Letter. This policy of reserving shares does not
apply to certain retirement plans. If the amount of your total purchases, less
redemptions, equals the amount specified under the Letter, the reserved shares
will be deposited to an account in your name or delivered to you or as you
direct. If the amount of your total purchases, less redemptions, exceeds the
amount specified under the Letter and is an amount that would qualify for a
further quantity discount, a retroactive price adjustment will be made by
Distributors and the Securities Dealer through whom purchases were made pursuant
to the Letter (to reflect such further quantity discount) on purchases made
within 90 days before and on those made after filing the Letter. The resulting
difference in Offering Price will be applied to the purchase of additional
shares at the Offering Price applicable to a single purchase or the dollar
amount of the total purchases. If the amount of your total purchases, less
redemptions, is less than the amount specified under the Letter, you will remit
to Distributors an amount equal to the difference in the dollar amount of sales
charge actually paid and the amount of sales charge that would have applied to
the aggregate purchases if the total of the purchases had been made at a single
time. Upon remittance, the reserved shares held for your account will be
deposited to an account in your name or delivered to you or as you direct. If
within 20 days after written request the difference in sales charge is not paid,
the redemption of an appropriate number of reserved shares to realize the
difference will be made. In the event of a total redemption of the account
before fulfillment of the Letter, the additional sales charge due will be
deducted from the proceeds of the redemption, and the balance will be forwarded
to you.
If a Letter is executed on behalf of certain retirement plans, the level and any
reduction in sales charge for these plans will be based on actual plan
participation and the projected investments in the Franklin Templeton Funds
under the Letter. These plans are not subject to the requirement to reserve 5%
of the total intended purchase, or to any penalty as a result of the early
termination of a plan, nor are these plans entitled to receive retroactive
adjustments in price for investments made before executing the Letter.
REINVESTMENT DATE. Shares acquired through the reinvestment of dividends will be
purchased at the Net Asset Value determined on the business day following the
dividend record date (sometimes known as the "ex-dividend date"). The processing
date for the reinvestment of dividends may vary and does not affect the amount
or value of the shares acquired.
ADDITIONAL INFORMATION ON EXCHANGING SHARES
If you request the exchange of the total value of your account, declared but
unpaid income dividends and capital gain distributions will be exchanged into
the new fund and will be invested at Net Asset Value. Backup withholding and
information reporting may apply. Information regarding the possible tax
consequences of an exchange is included in the tax section in this SAI and in
the Prospectus.
If a substantial number of shareholders should, within a short period, sell
their shares of the fund under the exchange privilege, the fund might have to
sell portfolio securities it might otherwise hold and incur the additional costs
related to such transactions. On the other hand, increased use of the exchange
privilege may result in periodic large inflows of money. If this occurs, it is
the fund's general policy to initially invest this money in short-term,
interest-bearing money market instruments, unless it is believed that attractive
investment opportunities consistent with the fund's investment goals exist
immediately. This money will then be withdrawn from the short-term, money market
instruments and invested in portfolio securities in as orderly a manner as is
possible when attractive investment opportunities arise.
The proceeds from the sale of shares of an investment company are generally not
available until the seventh day following the sale. The funds you are seeking to
exchange into may delay issuing shares pursuant to an exchange until that
seventh day. The sale of fund shares to complete an exchange will be effected at
Net Asset Value at the close of business on the day the request for exchange is
received in proper form. Please see "May I Exchange Shares for Shares of Another
Fund?" in the Prospectus.
ADDITIONAL INFORMATION ON SELLING SHARES
SYSTEMATIC WITHDRAWAL PLAN. There are no service charges for establishing or
maintaining a systematic withdrawal plan. Payments under the plan will be made
from the redemption of an equivalent amount of shares in your account, generally
on the 25th day of the month in which a payment is scheduled. If the 25th falls
on a weekend or holiday, we will process the redemption on the next business
day.
Redeeming shares through a systematic withdrawal plan may reduce or exhaust the
shares in your account if payments exceed distributions received from the fund.
This is especially likely to occur if there is a market decline. If a withdrawal
amount exceeds the value of your account, your account will be closed and the
remaining balance in your account will be sent to you. Because the amount
withdrawn under the plan may be more than your actual yield or income, part of
the payment may be a return of your investment.
The fund may discontinue a systematic withdrawal plan by notifying you in
writing and will automatically discontinue a systematic withdrawal plan if all
shares in your account are withdrawn or if the fund receives notification of the
shareholder's death or incapacity.
THROUGH YOUR SECURITIES DEALER. If you sell shares through your Securities
Dealer, it is your dealer's responsibility to transmit the order to the fund in
a timely fashion. Any loss to you resulting from your dealer's failure to do so
must be settled between you and your Securities Dealer.
REDEMPTIONS IN KIND. The fund has committed itself to pay in cash (by check) all
requests for redemption by any shareholder of record, limited in amount,
however, during any 90-day period to the lesser of $250,000 or 1% of the value
of the fund's net assets at the beginning of the 90-day period. This commitment
is irrevocable without the prior approval of the SEC. In the case of redemption
requests in excess of these amounts, the Board reserves the right to make
payments in whole or in part in securities or other assets of the fund, in case
of an emergency, or if the payment of such a redemption in cash would be
detrimental to the existing shareholders of the fund. In these circumstances,
the securities distributed would be valued at the price used to compute the
fund's net assets and you may incur brokerage fees in converting the securities
to cash. The fund does not intend to redeem illiquid securities in kind. If this
happens, however, you may not be able to recover your investment in a timely
manner.
GENERAL INFORMATION
If dividend checks are returned to the fund marked "unable to forward" by the
postal service, we will consider this a request by you to change your dividend
option to reinvest all distributions. The proceeds will be reinvested in
additional shares at Net Asset Value until we receive new instructions.
Distribution or redemption checks sent to you do not earn interest or any other
income during the time the checks remain uncashed. Neither the fund nor its
affiliates will be liable for any loss caused by your failure to cash such
checks. The fund is not responsible for tracking down uncashed checks, unless a
check is returned as undeliverable.
In most cases, if mail is returned as undeliverable we are required to take
certain steps to try to find you free of charge. If these attempts are
unsuccessful, however, we may deduct the costs of any additional efforts to find
you from your account. These costs may include a percentage of the account when
a search company charges a percentage fee in exchange for its location services.
All checks, drafts, wires and other payment mediums used to buy or sell shares
of the fund must be denominated in U.S. dollars. We may, in our sole discretion,
either (a) reject any order to buy or sell shares denominated in any other
currency or (b) honor the transaction or make adjustments to your account for
the transaction as of a date and with a foreign currency exchange factor
determined by the drawee bank.
SPECIAL SERVICES. Investor Services may pay certain financial institutions that
maintain omnibus accounts with the fund on behalf of numerous beneficial owners
for recordkeeping operations performed with respect to such owners. For each
beneficial owner in the omnibus account, the fund may reimburse Investor
Services an amount not to exceed the per account fee that the fund normally pays
Investor Services. These financial institutions may also charge a fee for their
services directly to their clients.
Certain shareholder servicing agents may be authorized to accept your
transaction request.
HOW ARE FUND SHARES VALUED?
We calculate the Net Asset Value per share as of the close of the NYSE, normally
1:00 p.m. Pacific time, each day that the NYSE is open for trading. As of the
date of this SAI, the fund is informed that the NYSE observes the following
holidays: New Year's Day, Martin Luther King Jr. Day, Presidents' Day, Good
Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day and
Christmas Day.
For the purpose of determining the aggregate net assets of the fund, cash and
receivables are valued at their realizable amounts. Interest is recorded as
accrued and dividends are recorded on the ex-dividend date. Portfolio securities
listed on a securities exchange or on the NASDAQ National Market System for
which market quotations are readily available are valued at the last quoted sale
price of the day or, if there is no such reported sale, within the range of the
most recent quoted bid and ask prices. Over-the-counter portfolio securities are
valued within the range of the most recent quoted bid and ask prices. Portfolio
securities that are traded both in the over-the-counter market and on a stock
exchange are valued according to the broadest and most representative market as
determined by Advisers.
Portfolio securities underlying actively traded call options are valued at their
market price as determined above. The current market value of any option held by
the fund is its last sale price on the relevant exchange before the time when
assets are valued. Lacking any sales that day or if the last sale price is
outside the bid and ask prices, options are valued within the range of the
current closing bid and ask prices if the valuation is believed to fairly
reflect the contract's market value.
The value of a foreign security is determined as of the close of trading on the
foreign exchange on which it is traded or as of the close of trading on the
NYSE, if that is earlier. The value is then converted into its U.S. dollar
equivalent at the foreign exchange rate in effect at noon, New York time, on the
day the value of the foreign security is determined. If no sale is reported at
that time, the foreign security is valued within the range of the most recent
quoted bid and ask prices. Occasionally events that affect the values of foreign
securities and foreign exchange rates may occur between the times at which they
are determined and the close of the exchange and will, therefore, not be
reflected in the computation of the Net Asset Value of each class. If events
materially affecting the values of these foreign securities occur during this
period, the securities will be valued in accordance with procedures established
by the Board.
Generally, trading in corporate bonds, U.S. government securities and money
market instruments is substantially completed each day at various times before
the close of the NYSE. The value of these securities used in computing the Net
Asset Value of each class is determined as of such times. Occasionally, events
affecting the values of these securities may occur between the times at which
they are determined and the close of the NYSE that will not be reflected in the
computation of the Net Asset Value. If events materially affecting the values of
these securities occur during this period, the securities will be valued at
their fair value as determined in good faith by the Board.
Other securities for which market quotations are readily available are valued at
the current market price, which may be obtained from a pricing service, based on
a variety of factors including recent trades, institutional size trading in
similar types of securities (considering yield, risk and maturity) and/or
developments related to specific issues. Securities and other assets for which
market prices are not readily available are valued at fair value as determined
following procedures approved by the Board. With the approval of the Board, the
fund may use a pricing service, bank or Securities Dealer to perform any of the
above described functions.
ADDITIONAL INFORMATION ON
DISTRIBUTIONS AND TAXES
DISTRIBUTIONS
DISTRIBUTIONS OF NET INVESTMENT INCOME. The fund receives income generally in
the form of dividends, interest, original issue, market and acquisition
discount, and other income derived from its investments. This income, less
expenses incurred in the operation of the fund, constitute its net investment
income from which dividends may be paid to you. Any distributions by the fund
from such income will be taxable to you as ordinary income, whether you take
them in cash or in additional shares.
DISTRIBUTIONS OF CAPITAL GAINS. The fund may derive capital gains and losses in
connection with sales or other dispositions of its portfolio securities.
Distributions derived from the excess of net short-term capital gain over net
long-term capital loss will be taxable to you as ordinary income. Distributions
paid from long-term capital gains realized by the fund will be taxable to you as
long-term capital gain, regardless of how long you have held your shares in the
fund. Any net short-term or long-term capital gains realized by the fund (net of
any capital loss carryovers) generally will be distributed once each year, and
may be distributed more frequently, if necessary, in order to reduce or
eliminate federal excise or income taxes on the fund.
Gain from securities sold by the fund that are held for more than one year will
be taxable at a maximum rate of 20% for individual investors in the 28% or
higher federal income tax brackets; or at a maximum rate of 10% for individual
investors in the 15% federal income tax bracket. Gains from securities sold by
the fund prior to January 1, 1998, are taxable at different rates depending on
the length of time the fund held such assets.
For "qualified 5-year gains," the maximum capital gain rate is 18% for
individuals in the 28% or higher federal income tax brackets; or 8% for
individuals in the 15% federal income tax bracket. For individuals in the 15%
bracket, qualified 5-year gains are net gains on securities held for more than 5
years which are sold after December 31, 2000. For individuals who are subject to
tax at higher rates, qualified 5-year gains are net gains on securities which
are purchased after December 31, 2000 and are held for more than 5 years.
Taxpayers subject to tax at the higher rates may also make an election for
shares held on January 1, 2001 to recognize gain on their shares in order to
qualify such shares as qualified 5-year property.
Additional information on reporting capital gains distributions on your personal
income tax returns is available in Franklin Templeton's Tax Information
Handbook. Please call Fund Information to request a copy. Questions concerning
each investor's personal tax reporting should be addressed to the investor's
personal tax advisor.
CERTAIN DISTRIBUTIONS PAID IN JANUARY. Distributions which are declared in
October, November or December and paid to you in January of the following year,
will be treated for tax purposes as if they had been received by you on December
31 of the year in which they were declared. The fund will report this income to
you on your Form 1099-DIV for the year in which these distributions were
declared.
EFFECT OF FOREIGN INVESTMENTS ON DISTRIBUTIONS. Most foreign exchange gains
realized on the sale of debt instruments are treated as ordinary income by the
fund. Similarly, foreign exchange losses realized by the fund on the sale of
debt instruments are generally treated as ordinary losses by the fund. These
gains when distributed will be taxable to you as ordinary dividends, and any
losses will reduce the fund's ordinary income otherwise available for
distribution to you. This treatment could increase or reduce the fund's ordinary
income distributions to you, and may cause some or all of the fund's previously
distributed income to be classified as a return of capital.
The fund may be subject to foreign withholding taxes on income from certain of
its foreign securities. If more than 50% of the total assets of the fund at the
end of the fiscal year are invested in securities of foreign corporations, the
fund may elect to pass-through to you your pro rata share of foreign taxes paid
by the fund, subject to certain holding period requirements. If this election is
made, you will be (i) required to include in your gross income your pro rata
share of foreign source income (including any foreign taxes paid by the fund),
and, (ii) entitled to either deduct your share of such foreign taxes in
computing your taxable income or to claim a credit for such taxes against your
U.S. income tax, subject to certain limitations under the Code. You will be
informed by the fund at the end of each calendar year regarding the availability
of any such foreign tax credits and the amount of foreign source income
(including any foreign taxes paid by the fund). If the fund elects to
passthrough to you the foreign income taxes that it has paid, you will be
informed at the end of the calendar year of the amount of foreign taxes paid and
foreign source income that must be included on your federal income tax return.
If the fund invests 50% or less of its total assets in securities of foreign
corporations, it will not be entitled to passthrough to you your pro rata share
of the foreign taxes paid by the fund. In this case, these taxes will be taken
as a deduction by the fund, and the income reported to you will be the net
amount after these deductions.
The procedures by which investors in funds that invest in foreign securities can
claim tax credits on their individual income tax returns for the foreign taxes
paid by the fund have been simplied for tax years beginning in 1998. These
provisions will allow investors who claim a credit for foreign taxes paid of
$300 or less on a single return or $600 or less on a joint return during any
year (all of which must be reported on IRS Form 1099-DIV from the fund to the
investor) to bypass the burdensome and detailed reporting requirements on the
supporting foreign tax credit schedule (Form 1116) and report foreign taxes paid
directly on page 2 of Form 1040.
INFORMATION ON THE TAX CHARACTER OF DISTRIBUTIONS. The fund will inform you of
the amount and character of your distributions at the time they are paid, and
will advise you of the tax status for federal income tax purposes of such
distributions shortly after the close of each calendar year. If you have not
held fund shares for a full year, you may have designated and distributed to you
as ordinary income or capital gain a percentage of income that is not equal to
the actual amount of such income earned during the period of your investment in
the fund.
TAXES
ELECTION TO BE TAXED AS A REGULATED INVESTMENT COMPANY. The fund has elected to
be treated as a regulated investment company under Subchapter M of the Code, has
qualified as such for its most recent fiscal year, and intends to so qualify
during the current fiscal year. The Board reserves the right not to maintain the
qualification of the fund as a regulated investment company if it determines
such course of action to be beneficial to you. In such case, the fund will be
subject to federal, and possibly state, corporate taxes on its taxable income
and gains, and distributions to you will be taxed as ordinary dividend income to
the extent of the fund's available earnings and profits.
In order to qualify as a regulated investment company for tax purposes, the fund
must meet certain specific requirements, including:
o The fund must maintain a diversified portfolio of securities, wherein no
security (other than U.S. government securities and securities of other
regulated investment companies) can exceed 25% of the fund's total assets,
and, with respect to 50% of the fund's total assets, no investment (other
than cash and cash items, U.S. government securities and securities of other
regulated investment companies) can exceed 5% of the fund's total assets or
10% of the outstanding voting securities of the issuer;
o The fund must derive at least 90% of its gross income from dividends,
interest, payments with respect to securities loans, and gains from the sale
or disposition of stock, securities or foreign currencies, or other income
derived with respect to its business of investing in such stock, securities,
or currencies; and
o The fund must distribute to its shareholders at least 90% of its investment
company taxable income (i.e., net investment income plus net short-term
capital gains) and net tax-exempt income for each of its fiscal years.
EXCISE TAX DISTRIBUTION REQUIREMENTS. The Code requires the fund to distribute
at least 98% of its taxable ordinary income earned during the calendar year and
98% of its capital gain net income earned during the twelve month period ending
October 31 (in addition to undistributed amounts from the prior year) to you by
December 31 of each year in order to avoid federal excise taxes. The fund
intends to declare and pay sufficient dividends in December (or in January that
are treated by you as received in December) but does not guarantee and can give
no assurances that its distributions will be sufficient to eliminate all such
taxes.
REDEMPTION OF FUND SHARES. Redemptions and exchanges of fund shares are taxable
transactions for federal and state income tax purposes. The tax law requires
that you recognize a gain or loss in an amount equal to the difference between
your tax basis and the amount you received in exchange for your shares, subject
to the rules described below. If you hold your shares as a capital asset, the
gain or loss that you realize will be capital gain or loss, and will be
long-term for federal income tax purposes if you have held your shares for more
than one year at the time of redemption or exchange. Any loss incurred on the
redemption or exchange of shares held for six months or less will be treated as
a long-term capital loss to the extent of any long-term capital gains
distributed to you by the fund on those shares.
All or a portion of any loss that you realize upon the redemption of your fund
shares will be disallowed to the extent that you purchase other shares in the
fund (through reinvestment of dividends or otherwise) within 30 days before or
after your share redemption. Any loss disallowed under these rules will be added
to your tax basis in the new shares you purchase.
DEFERRAL OF BASIS. All or a portion of the sales charge that you paid for your
shares in the fund will be excluded from your tax basis in any of the shares
sold within 90 days of their purchase (for the purpose of determining gain or
loss upon the sale of such shares) if you reinvest the sales proceeds in the
fund or in another of the Franklin Templeton Funds, and the sales charge that
would otherwise apply to your reinvestment is reduced or eliminated. The portion
of the sales charge excluded from your tax basis in the shares sold will equal
the amount that the sales charge is reduced on your reinvestment. Any portion of
the sales charge excluded from your tax basis in the shares sold will be added
to the tax basis of the shares you acquire from your reinvestment.
U.S. GOVERNMENT OBLIGATIONS. Many states grant tax-free status to dividends paid
to you from interest earned on direct obligations of the U.S. government,
subject in some states to minimum investment requirements that must be met by
the fund. Investments in GNMA/FNMA securities, bankers' acceptances, commercial
paper and repurchase agreements collateralized by U.S. government securities do
not generally qualify for tax-free treatment. At the end of each calendar year,
the fund will provide you with the percentage of any dividends paid that may
qualify for tax-free treatment on your personal income tax return. You should
consult with your own tax advisor to determine the application of your state and
local laws to these distributions. Because the rules on exclusion of this income
are different for corporations, corporate shareholders should consult with their
corporate tax advisors about whether any of their distributions may be exempt
from corporate income or franchise taxes.
DIVIDENDS-RECEIVED DEDUCTION FOR CORPORATIONS. As a corporate shareholder, you
should note that only a small percentage of the dividends paid by the fund for
the most recent fiscal year qualified for the dividends-received deduction. You
will be permitted in some circumstances to deduct these qualified dividends,
thereby reducing the tax that you would otherwise be required to pay on these
dividends. The dividends-received deduction will be available only with respect
to dividends designated by the fund as eligible for such treatment. Dividends so
designated by the fund must be attributable to dividends earned by the fund from
U.S. corporations that were not debt-financed.
INVESTMENT IN COMPLEX SECURITIES. The fund's investment in options, futures
contracts and forward contracts, including transactions involving actual or
deemed short sales or foreign exchange gains or losses are subject to many
complex and special tax rules. Over-the-counter options on debt securities and
equity options, including options on stock and on narrow-based stock indexes,
will be subject to tax under section 1234 of the Code, generally producing a
long-term or short-term capital gain or loss upon exercise, lapse, or closing
out of the option or sale of the underlying stock or security. Certain other
options, futures and forward contracts entered into by the fund are generally
governed by section 1256 of the Code. These "section 1256" positions generally
include listed options on debt securities, options on broad-based stock indexes,
options on securities indexes, options on futures contracts, regulated futures
contracts and certain foreign currency contracts and options thereon.
Absent a tax election to the contrary, each such section 1256 position held by
the fund will be marked-to-market (i.e., treated as if it were sold for fair
market value) on the last business day of the fund's fiscal year (and on other
dates as prescribed by the Code), and all gain or loss associated with fiscal
year transactions and mark-to-market positions at fiscal year end (except
certain currency gain or loss covered by section 988 of the Code) will generally
be treated as 60% long-term capital gain or loss and 40% short-term capital gain
or loss. Even though marked-to-market, gains and losses realized on foreign
currency and foreign security investments will generally be treated as ordinary
income. The effect of section 1256 mark-to-market rules may be to accelerate
income or to convert what otherwise would have been long-term capital gains into
short-term capital gains or short-term capital losses into long-term capital
losses within the fund. The acceleration of income on section 1256 positions may
require the fund to accrue taxable income without the corresponding receipt of
cash. In order to generate cash to satisfy the distribution requirements of the
Code, the fund may be required to dispose of portfolio securities that it
otherwise would have continued to hold or to use cash flows from other sources
such as the sale of fund shares. In these ways, any or all of these rules may
affect the amount, character and timing of income distributed to you by the
fund.
When the fund holds an option or contract which substantially diminishes the
fund's risk of loss with respect to another position of the fund (as might occur
in some hedging transactions), this combination of positions could be treated as
a "straddle" for tax purposes, possibly resulting in deferral of losses,
adjustments in the holding periods and conversion of short-term capital losses
into long-term capital losses. The fund may make certain tax elections for mixed
straddles (i.e., straddles comprised of at least one section 1256 position and
at least one non-section 1256 position) which may reduce or eliminate the
operation of these straddle rules.
When the fund enters into "constructive sale transactions," the fund must
recognize gain (but not loss) on any constructive sale of an appreciated
financial position in stock, a partnership interest or certain debt instruments.
The fund will generally be treated as making a constructive sale when it: 1)
enters into a short sale on the same property, 2) enters into an offsetting
notional principal contract, or 3) enters into a futures or forward contract to
deliver the same or substantially similar property. Other transactions
(including certain financial instruments called collars) will be treated as
constructive sales as provided in Treasury regulations to be published. There
are also certain exceptions that apply for transactions that are closed before
the end of the 30th day after the close of the taxable year.
Distributions paid to you by the fund of ordinary income and short-term capital
gains arising from the fund's investments, including investments in options,
forwards, and futures contracts, will be taxable to you as ordinary income. The
fund will monitor its transactions in such options and contracts and may make
certain other tax elections in order to mitigate the effect of the above rules.
INVESTMENTS IN FOREIGN CURRENCIES AND FOREIGN SECURITIES. The fund is authorized
to invest in foreign currency denominated securities. Such investments, if made,
will have the following additional tax consequences:
Under the Code, gains or losses attributable to fluctuations in foreign currency
exchange rates which occur between the time the fund accrues income (including
dividends), or accrues expenses which are denominated in a foreign currency, and
the time the fund actually collects such income or pays such expenses generally
are treated as ordinary income or loss. Similarly, on the disposition of debt
securities denominated in a foreign currency and on the disposition of certain
options, futures, forward contracts, gain or loss attributable to fluctuations
in the value of foreign currency between the date of acquisition of the security
or contract and the date of its disposition are also treated as ordinary gain or
loss. These gains or losses, referred to under the Code as "section 988" gains
or losses, may increase or decrease the amount of the fund's net investment
company taxable income, which, in turn, will affect the amount of income to be
distributed to you by the fund.
If the fund's section 988 losses exceed the fund's other net investment company
taxable income during a taxable year, the fund generally will not be able to
make ordinary dividend distributions to you for that year, or distributions made
before the losses were realized will be recharacterized as return of capital
distributions for federal income tax purposes, rather than as an ordinary
dividend or capital gain distribution. If a distribution is treated as a return
of capital, your tax basis in your fund shares will be reduced by a like amount
(to the extent of such basis), and any excess of the distribution over your tax
basis in your fund shares will be treated as capital gain to you.
INVESTMENT IN PASSIVE FOREIGN INVESTMENT COMPANY SECURITIES. The fund may invest
in shares of foreign corporation which may be classified under the Code as
passive foreign investment companies ("PFICs"). In general, a foreign
corporation is classified as a PFIC if at least one-half of its assets
constitute investment-type assets or 75% or more of its gross income is
investment-type income.
If the fund receives an "excess distribution" with respect to PFIC stock, the
fund itself may be subject to U.S. federal income tax on a portion of the
distribution, whether or not the corresponding income is distributed by the fund
to you. In general, under the PFIC rules, an excess distribution is treated as
having been realized ratably over the period during which the fund held the PFIC
shares. The fund itself will be subject to tax on the portion, if any, of an
excess distribution that is so allocated to prior fund taxable years, and an
interest factor will be added to the tax, as if the tax had been payable in such
prior taxable years. In this case, you would not be permitted to claim a credit
on your own tax return for the tax paid by the fund. Certain distributions from
a PFIC as well as gain from the sale of PFIC shares are treated as excess
distributions. Excess distributions are characterized as ordinary income even
though, absent application of the PFIC rules, certain excess distributions might
have been classified as capital gain. This may have the effect of increasing
fund distributions to you that are treated as ordinary dividends rather than
long-term capital gain dividends.
The fund may be eligible to elect alternative tax treatment with respect to PFIC
shares. Under an election that currently is available in some circumstances, the
fund generally would be required to include in its gross income its share of the
earnings of a PFIC on a current basis, regardless of whether distributions are
received from the PFIC during such period. If this election were made, the
special rules, discussed above, relating to the taxation of excess
distributions, would not apply. In addition, under another election that
involves marking-to-market the fund's PFIC shares at the end of each taxable
year (and on certain other dates as prescribed in the Code), unrealized gains
would be treated as though they were realized. The fund would also be allowed an
ordinary deduction for the excess, if any, of the adjusted basis of its
investment in the PFIC stock over its fair market value at the end of the
taxable year. This deduction would be limited to the amount of any net
mark-to-market gains previously included with respect to that particular PFIC
security. If the fund were to make this second PFIC election, tax at the fund
level under the PFIC rules would generally be eliminated.
The application of the PFIC rules may affect, among other things, the amount of
tax payable by the fund (if any), the amounts distributable to you by the fund,
the time at which these distributions must be made, and whether these
distributions will be classified as ordinary income or capital gain
distributions to you.
You should be aware that it is not always possible at the time shares of a
foreign corporation are acquired to ascertain that the foreign corporation is a
PFIC, and that there is always a possibility that a foreign corporation will
become a PFIC after the fund acquires shares in that corporation. While the fund
will generally seek to avoid investing in PFIC shares to avoid the tax
consequences detailed above, there are no guarantees that it will do so and it
reserves the right to make such investments as a matter of its fundamental
investment policy.
CONVERSION TRANSACTIONS. Gains realized by a fund from transactions that are
deemed to be "conversion transactions" under the Code, and that would otherwise
produce capital gain may be recharacterized as ordinary income to the extent
that such gain does not exceed an amount defined as the "applicable imputed
income amount." A conversion transaction is any transaction in which
substantially all of the fund's expected return is attributable to the time
value of the fund's net investment in such transaction, and any one of the
following criteria are met:
1) there is an acquisition of property with a substantially contemporaneous
agreement to sell the same or substantially identical property in the future;
2) the transaction is an applicable straddle;
3) the transaction was marketed or sold to the fund on the basis that it would
have the economic characteristics of a loan but would be taxed as capital gain;
or
4) the transaction is specified in Treasury regulations to be promulgated in the
future.
The applicable imputed income amount, which represents the deemed return on the
conversion transaction based upon the time value of money, is computed using a
yield equal to 120 percent of the applicable federal rate, reduced by any prior
recharacterizations under this provision or the provisions of Section 263(g) of
the Code dealing with capitalized carrying costs.
STRIPPED PREFERRED STOCK. Occasionally, the fund may purchase "stripped
preferred stock" that is subject to special tax treatment. Stripped preferred
stock is defined as certain preferred stock issues where ownership of the stock
has been separated from the right to receive dividends that have not yet become
payable. The stock must have a fixed redemption price, must not participate
substantially in the growth of the issuer, and must be limited and preferred as
to dividends. The difference between the redemption price and purchase price is
taken into fund income over the term of the instrument as if it were original
issue discount. The amount that must be included in each period generally
depends on the original yield to maturity, adjusted for any prepayments of
principal.
INVESTMENTS IN ORIGINAL ISSUE DISCOUNT (OID) AND MARKET DISCOUNT (MD) BONDS. The
fund's investments in zero coupon bonds, bonds issued or acquired at a discount,
delayed interest bonds, or bonds that provide for payment of interest-in-kind
(PIK) may cause the fund to recognize income and make distributions to you prior
to its receipt of cash payments. Zero coupon and delayed interest bonds are
normally issued at a discount and are therefore generally subject to tax
reporting as OID obligations. The fund is required to accrue as income a portion
of the discount at which these securities were issued, and to distribute such
income each year (as ordinary dividends) in order to maintain its qualification
as a regulated investment company and to avoid income reporting and excise taxes
at the fund level. PIK bonds are subject to similar tax rules concerning the
amount, character and timing of income required to be accrued by the fund. Bonds
acquired in the secondary market for a price less than their stated redemption
price, or revised issue price in the case of a bond having OID, are said to have
been acquired with market discount. For these bonds, the fund may elect to
accrue market discount on a current basis, in which case the fund will be
required to distribute any such accrued discount. If the fund does not elect to
accrue market discount into income currently, gain recognized on sale will be
recharacterized as ordinary income instead of capital gain to the extent of any
accumulated market discount on the obligation.
DEFAULTED OBLIGATIONS. The fund may be required to accrue income on defaulted
obligations and to distribute such income to you even though it is not currently
receiving interest or principal payments on such obligations. In order to
generate cash to satisfy these distribution requirements, the fund may be
required to dispose of portfolio securities that it otherwise would have
continued to hold or to use cash flows from other sources such as the sale of
fund shares.
THE FUND'S UNDERWRITER
Pursuant to an underwriting agreement, Distributors acts as principal
underwriter in a continuous public offering of the fund's shares. The
underwriting agreement will continue in effect for successive annual periods if
its continuance is specifically approved at least annually by a vote of the
Board or by a vote of the holders of a majority of the fund's outstanding voting
securities, and in either event by a majority vote of the Board members who are
not parties to the underwriting agreement or interested persons of any such
party (other than as members of the Board), cast in person at a meeting called
for that purpose. The underwriting agreement terminates automatically in the
event of its assignment and may be terminated by either party on 90 days'
written notice.
Distributors pays the expenses of the distribution of fund shares, including
advertising expenses and the costs of printing sales material and prospectuses
used to offer shares to the public. The fund pays the expenses of preparing and
printing amendments to its registration statements and prospectuses (other than
those necessitated by the activities of Distributors) and of sending
prospectuses to existing shareholders.
In connection with the offering of the fund's shares, aggregate underwriting
commissions for the fiscal years ended April 30, 1998, 1997 and 1996, were
$2,420,305, $330,506 and $86,370, respectively. After allowances to dealers,
Distributors retained $163,904, $23,568 and $5,531 in net underwriting discounts
and commissions and received $0, $0 and $399 in connection with redemptions or
repurchases of shares for the respective years. Distributors may be entitled to
reimbursement under the Rule 12b-1 plan for each class, as discussed below.
Except as noted, Distributors received no other compensation from the fund for
acting as underwriter.
THE RULE 12B-1 PLANS
Class I and Class II have separate distribution plans or "Rule 12b-1 plans" that
were adopted pursuant to Rule 12b-1 of the 1940 Act.
THE CLASS I PLAN. Under the Class I plan, the fund may pay up to a maximum of
0.25% per year of Class I's average daily net assets, payable quarterly, for
expenses incurred in the promotion and distribution of Class I shares.
THE CLASS II PLAN. Under the Class II plan, the fund pays Distributors up to
0.50% per year of Class II's average daily net assets, payable quarterly, for
distribution and related expenses. These fees may be used to compensate
Distributors or others for providing distribution and related services and
bearing certain Class II expenses. All distribution expenses over this amount
will be borne by those who have incurred them without reimbursement by the fund.
Under the Class II plan, the fund also pays an additional 0.15% per year of
Class II's average daily net assets, payable quarterly, as a servicing fee.
THE CLASS I AND CLASS II PLANS. In addition to the payments that Distributors or
others are entitled to under each plan, each plan also provides that to the
extent the fund, Advisers or Distributors or other parties on behalf of the
fund, Advisers or Distributors make payments that are deemed to be for the
financing of any activity primarily intended to result in the sale of shares of
each class within the context of Rule 12b-1 under the 1940 Act, then such
payments shall be deemed to have been made pursuant to the plan. The terms and
provisions of each plan relating to required reports, term, and approval are
consistent with Rule 12b-1.
In no event shall the aggregate asset-based sales charges, which include
payments made under each plan, plus any other payments deemed to be made
pursuant to a plan, exceed the amount permitted to be paid under the rules of
the NASD.
To the extent fees are for distribution or marketing functions, as distinguished
from administrative servicing or agency transactions, certain banks will not be
entitled to participate in the plans as a result of applicable federal law
prohibiting certain banks from engaging in the distribution of mutual fund
shares. These banking institutions, however, are permitted to receive fees under
the plans for administrative servicing or for agency transactions. If you are a
customer of a bank that is prohibited from providing these services, you would
be permitted to remain a shareholder of the fund, and alternate means for
continuing the servicing would be sought. In this event, changes in the services
provided might occur and you might no longer be able to avail yourself of any
automatic investment or other services then being provided by the bank. It is
not expected that you would suffer any adverse financial consequences as a
result of any of these changes.
Each plan has been approved in accordance with the provisions of Rule 12b-1. The
plans are renewable annually by a vote of the Board, including a majority vote
of the Board members who are not interested persons of the fund and who have no
direct or indirect financial interest in the operation of the plans, cast in
person at a meeting called for that purpose. It is also required that the
selection and nomination of such Board members be done by the non-interested
members of the Board. The plans and any related agreement may be terminated at
any time, without penalty, by vote of a majority of the non-interested Board
members on not more than 60 days' written notice, by Distributors on not more
than 60 days' written notice, by any act that constitutes an assignment of the
management agreement with Advisers or by vote of a majority of the outstanding
shares of the class. Distributors or any dealer or other firm may also terminate
their respective distribution or service agreement at any time upon written
notice.
The plans and any related agreements may not be amended to increase materially
the amount to be spent for distribution expenses without approval by a majority
of the outstanding shares of the class, and all material amendments to the plans
or any related agreements shall be approved by a vote of the non-interested
members of the Board, cast in person at a meeting called for the purpose of
voting on any such amendment.
Distributors is required to report in writing to the Board at least quarterly on
the amounts and purpose of any payment made under the plans and any related
agreements, as well as to furnish the Board with such other information as may
reasonably be requested in order to enable the Board to make an informed
determination of whether the plans should be continued.
For the fiscal year ended April 30, 1998, Distributors had eligible expenditures
of $334,308 for advertising, printing, and payments to underwriters and
broker-dealers pursuant to the Class I plan, of which the fund paid Distributors
$220,076 under the Class I plan.
HOW DOES THE FUND MEASURE PERFORMANCE?
Performance quotations are subject to SEC rules. These rules require the use of
standardized performance quotations or, alternatively, that every
non-standardized performance quotation furnished by the fund be accompanied by
certain standardized performance information computed as required by the SEC.
Average annual total return and current yield quotations used by the fund are
based on the standardized methods of computing performance mandated by the SEC.
If a Rule 12b-1 plan is adopted, performance figures reflect fees from the date
of the plan's implementation. An explanation of these and other methods used by
the fund to compute or express performance follows. Regardless of the method
used, past performance does not guarantee future results, and is an indication
of the return to shareholders only for the limited historical period used.
TOTAL RETURN
AVERAGE ANNUAL TOTAL RETURN. Average annual total return is determined by
finding the average annual rates of return over the periods indicated below that
would equate an initial hypothetical $1,000 investment to its ending redeemable
value. The calculation assumes the maximum front-end sales charge is deducted
from the initial $1,000 purchase, and income dividends and capital gain
distributions are reinvested at Net Asset Value. The quotation assumes the
account was completely redeemed at the end of each period and the deduction of
all applicable charges and fees. If a change is made to the sales charge
structure, historical performance information will be restated to reflect the
maximum front-end sales charge currently in effect.
The average annual total return for Class I for the one-year period ended April
30, 1998, and for the period from inception (June 1, 1994) through April 30,
1998, was 8.32% and 11.61%, respectively.
These figures were calculated according to the SEC formula:
n
P(1+T) = 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 each period at the end of the each period
CUMULATIVE TOTAL RETURN. Like average annual total return, cumulative total
return assumes the maximum front-end sales charge is deducted from the initial
$1,000 purchase, and income dividends and capital gain distributions are
reinvested at Net Asset Value. Cumulative total return, however, is based on the
actual return for a specified period rather than on the average return over the
periods indicated above. The cumulative total return for Class I for the
one-year period ended April 30, 1998 and for the period from inception (June 1,
1994) through April 30, 1998, was 8.32% and 53.68%, respectively.
YIELD
CURRENT YIELD. Current yield of each class shows the income per share earned by
the fund. It is calculated by dividing the net investment income per share of
each class earned during a 30-day base period by the applicable maximum Offering
Price per share on the last day of the period and annualizing the result.
Expenses accrued for the period include any fees charged to all shareholders of
the class during the base period. The yield for the 30-day period ended April
30, 1998, was 6.08% for Class I.
These figures were obtained using the following
SEC formula:
6
Yield = 2 [( a-b + 1 ) - 1]
---
cd
where:
a = dividends and interest earned during the period
b = expenses accrued for the period (net of reimbursements)
c = the average daily number of shares outstanding during the period that
were entitled to receive dividends
d = the maximum Offering Price per share on the last day of the period
CURRENT DISTRIBUTION RATE
Current yield, which is calculated according to a formula prescribed by the SEC,
is not indicative of the amounts which were or will be paid to shareholders.
Amounts paid to shareholders are reflected in the quoted current distribution
rate. The current distribution rate is usually computed by annualizing the
dividends paid per share by a class during a certain period and dividing that
amount by the current maximum Offering Price. The current distribution rate
differs from the current yield computation because it may include distributions
to shareholders from sources other than dividends and interest, such as premium
income from option writing and short-term capital gains, and is calculated over
a different period of time. The current distribution rate for the 30-day period
ended April 30, 1998, was 7.67% for Class I.
VOLATILITY
Occasionally statistics may be used to show the fund's volatility or risk.
Measures of volatility or risk are generally used to compare the fund's Net
Asset Value or performance to a market index. One measure of volatility is beta.
Beta is the volatility of a fund relative to the total market, as represented by
an index considered representative of the types of securities in which the fund
invests. A beta of more than 1.00 indicates volatility greater than the market
and a beta of less than 1.00 indicates volatility less than the market. Another
measure of volatility or risk is standard deviation. Standard deviation is used
to measure variability of Net Asset Value or total return around an average over
a specified period of time. The idea is that greater volatility means greater
risk undertaken in achieving performance.
OTHER PERFORMANCE QUOTATIONS
The fund may also quote the performance of shares without a sales charge. Sales
literature and advertising may quote a current distribution rate, yield,
cumulative total return, average annual total return and other measures of
performance as described elsewhere in this SAI with the substitution of Net
Asset Value for the public Offering Price.
Sales literature referring to the use of the fund as a potential investment for
Individual Retirement Accounts (IRAs), Business Retirement Plans, and other
tax-advantaged retirement plans may quote a total return based upon compounding
of dividends on which it is presumed no federal income tax
applies.
The fund may include in its advertising or sales material information relating
to investment goals and performance results of funds belonging to the Franklin
Templeton Group of Funds. Resources is the parent company of the advisors and
underwriter of the Franklin Templeton Group of Funds.
COMPARISONS
To help you better evaluate how an investment in the fund may satisfy your
investment goal, advertisements and other materials about the fund may discuss
certain measures of fund performance as reported by various financial
publications. Materials may also compare performance (as calculated above) to
performance as reported by other investments, indices, and averages. These
comparisons may include, but are not limited to, the following examples:
a) Dow Jones Composite Average or its component averages - an unmanaged index
composed of 30 blue-chip industrial corporation stocks (Dow Jones(R) Industrial
Average), 15 utilities company stocks (Dow Jones Utilities Average), and 20
transportation company stocks. Comparisons of performance assume reinvestment of
dividends.
b) Standard & Poor's(R) 500 Stock Index or its component indices - an unmanaged
index composed of 400 industrial stocks, 40 financial stocks, 40 utilities
stocks, and 20 transportation stocks. Comparisons of performance assume
reinvestment of dividends.
c) The New York Stock Exchange composite or component indices - an unmanaged
index of all industrial, utilities, transportation, and finance stocks listed on
the NYSE.
d) Wilshire 5000 Equity Index - represents the return on the market value of all
common equity securities for which daily pricing is available. Comparisons of
performance assume reinvestment of dividends.
e) Lipper - Mutual Fund Performance Analysis and Lipper - Fixed Income Fund
Performance Analysis - measure total return and average current yield for the
mutual fund industry and rank individual mutual fund performance over specified
time periods, assuming reinvestment of all distributions, exclusive of any
applicable sales charges.
f) CDA Mutual Fund Report, published by CDA Investment Technologies, Inc.
analyzes price, current yield, risk, total return, and average rate of return
(average annual compounded growth rate) over specified time periods for the
mutual fund industry.
g) Mutual Fund Source Book, published by Morningstar, Inc. - analyzes price,
yield, risk, and total return for mutual funds.
h) Financial publications: THE WALL STREET JOURNAL, and BUSINESS WEEK, CHANGING
TIMES, FINANCIAL WORLD, FORBES, FORTUNE, and MONEY magazines provide performance
statistics over specified time periods.
i) Consumer Price Index (or Cost of Living Index), published by the U.S. Bureau
of Labor Statistics - a statistical measure of change, over time, in the price
of goods and services in major expenditure groups.
j) Stocks, Bonds, Bills, and Inflation, published by Ibbotson Associates
historical measure of yield, price, and total return for common and small
company stock, long-term government bonds, Treasury bills, and inflation.
k) Savings and Loan Historical Interest Rates - as published in the U.S. Savings
& Loan League Fact Book.
l) Historical data supplied by the research departments of CS First Boston
Corporation, the J. P. Morgan companies, Salomon Brothers, Merrill Lynch,
Lehman Brothers and Bloomberg L.P.
m) Standard & Poor's(R) 100 Stock Index - an unmanaged index based on the prices
of 100 blue-chip stocks, including 92 industrials, one utility, two
transportation companies, and 5 financial institutions. The S&P 100 Stock Index
is a smaller more flexible index for options trading.
n) Morningstar - information published by Morningstar, Inc., including
Morningstar proprietary mutual fund ratings. The ratings reflect Morningstar's
assessment of the historical risk-adjusted performance of a fund over specified
time periods relative to other funds within its category.
From time to time, advertisements or information for the fund may include a
discussion of certain attributes or benefits to be derived from an investment in
the fund. The advertisements or information may include symbols, headlines, or
other material that highlights or summarizes the information discussed in more
detail in the communication.
Advertisements or information may also compare the fund's performance to the
return on CDs or other investments. You should be aware, however, that an
investment in the fund involves the risk of fluctuation of principal value, a
risk generally not present in an investment in a CD issued by a bank. For
example, as the general level of interest rates rise, the value of the fund's
fixed-income investments, as well as the value of its shares that are based upon
the value of such portfolio investments, can be expected to decrease.
Conversely, when interest rates decrease, the value of the fund's shares can be
expected to increase. CDs are frequently insured by an agency of the U.S.
government. An investment in the fund is not insured by any federal, state or
private entity.
In assessing comparisons of performance, you should keep in mind that the
composition of the investments in the reported indices and averages is not
identical to the fund's portfolio, the indices and averages are generally
unmanaged, and the items included in the calculations of the averages may not be
identical to the formula used by the fund to calculate its figures. In addition,
there can be no assurance that the fund will continue its performance as
compared to these other averages.
MISCELLANEOUS INFORMATION
The fund may help you achieve various investment goals such as accumulating
money for retirement, saving for a down payment on a home, college costs and
other long-term goals. The Franklin College Costs Planner may help you in
determining how much money must be invested on a monthly basis in order to have
a projected amount available in the future to fund a child's college education.
(Projected college cost estimates are based upon current costs published by the
College Board.) The Franklin Retirement Planning Guide leads you through the
steps to start a retirement savings program. Of course, an investment in the
fund cannot guarantee that these goals will be met.
The fund is a member of the Franklin Templeton Group of Funds, one of the
largest mutual fund organizations in the U.S., and may be considered in a
program for diversification of assets. Founded in 1947, Franklin, one of the
oldest mutual fund organizations, has managed mutual funds for over 50 years and
now services more than 3 million shareholder accounts. In 1992, Franklin, a
leader in managing fixed-income mutual funds and an innovator in creating
domestic equity funds, joined forces with Templeton, a pioneer in international
investing. The Mutual Series team, known for its value-driven approach to
domestic equity investing, became part of the organization four years later.
Together, the Franklin Templeton Group has over $236 billion in assets under
management for more than 6 million U.S. based mutual fund shareholder and other
accounts. The Franklin Templeton Group of Funds offers 119 U.S. based open-end
investment companies to the public. The fund may identify itself by its NASDAQ
symbol or CUSIP number.
Currently, there are more mutual funds than there are stocks listed on the NYSE.
While many of them have similar investment goals, no two are exactly alike. As
noted in the Prospectus, shares of the fund are generally sold through
Securities Dealers. Investment representatives of such Securities Dealers are
experienced professionals who can offer advice on the type of investment
suitable to your unique goals and needs, as well as the types of risks
associated with such investment.
From time to time, the number of fund shares held in the "street name" accounts
of various Securities Dealers for the benefit of their clients or in centralized
securities depositories may exceed 5% of the total shares outstanding. To the
best knowledge of the fund, no other person holds beneficially or of record more
than 5% of the outstanding shares of any class.
In the event of disputes involving multiple claims of ownership or authority to
control your account, the fund has the right (but has no obligation) to: (a)
freeze the account and require the written agreement of all persons deemed by
the fund to have a potential property interest in the account, before executing
instructions regarding the account; (b) interplead disputed funds or accounts
with a court of competent jurisdiction; or (c) surrender ownership of all or a
portion of the account to the IRS in response to a Notice of Levy.
SUMMARY OF CODE OF ETHICS. Employees of the Franklin Templeton Group who are
access persons under the 1940 Act are permitted to engage in personal securities
transactions subject to the following general restrictions and procedures: (i)
the trade must receive advance clearance from a compliance officer and must be
completed by the close of the business day following the day clearance is
granted; (ii) copies of all brokerage confirmations and statements must be sent
to a compliance officer; (iii) all brokerage accounts must be disclosed on an
annual basis; and (iv) access persons involved in preparing and making
investment decisions must, in addition to (i), (ii) and (iii) above, file annual
reports of their securities holdings each January and inform the compliance
officer (or other designated personnel) if they own a security that is being
considered for a fund or other client transaction or if they are recommending a
security in which they have an ownership interest for purchase or sale by a fund
or other client.
FINANCIAL STATEMENTS
The audited financial statements contained in the Annual Report to Shareholders
of the Trust, for the fiscal year ended April 30, 1998, including the auditor's
report, are incorporated herein by reference.
USEFUL TERMS AND DEFINITIONS
1940 ACT - Investment Company Act of 1940, as amended
ADVISERS - Franklin Advisers, Inc., the fund's investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I AND CLASS II - The fund offers two classes of shares, designated "Class
I" and "Class II." The two classes have proportionate interests in the fund's
portfolio. They differ, however, primarily in their sales charge structures and
Rule 12b-1 plans.
CODE - Internal Revenue Code of 1986, as amended
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the fund's principal
underwriter
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the fund's administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the fund's
shareholder servicing and transfer agent
IRS - Internal Revenue Service
LETTER - Letter of Intent
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by the
number of shares outstanding.
NYSE - New York Stock Exchange
OFFERING PRICE - The public offering price is based on the Net Asset Value per
share of the class and includes the front-end sales charge. The maximum
front-end sales charge is 4.25% for Class I and 1% for Class II. We calculate
the offering price to two decimal places using standard rounding criteria.
PROSPECTUS - The prospectus for the fund dated September 1, 1998, which we may
amend from time to time
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
TICI - Templeton Investment Counsel, Inc., the fund's sub-advisor
WE/OUR/US - Unless a different meaning is indicated by the context, these terms
refer to the fund and/or Investor Services, Distributors, or other wholly owned
subsidiaries of Resources.
APPENDIX
DESCRIPTION OF RATINGS
CORPORATE BOND RATINGS
MOODY'S
AAA - Bonds rated Aaa are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as
"gilt-edged." Interest payments are protected by a large or exceptionally stable
margin, and principal is secure. While the various protective elements are
likely to change, such changes as can be visualized are most unlikely to impair
the fundamentally strong position of such issues.
AA - Bonds rated Aa are judged to be high quality by all standards. Together
with the Aaa group, they comprise what are generally known as high-grade bonds.
They are rated lower than the best bonds because margins of protection may not
be as large, fluctuation of protective elements may be of greater amplitude, or
there may be other elements present that make the long-term risks appear
somewhat larger.
A - Bonds rated A possess many favorable investment attributes and are
considered upper medium-grade obligations. Factors giving security to principal
and interest are considered adequate, but elements may be present that suggest a
susceptibility to impairment sometime in the future.
BAA - Bonds rated Baa are considered medium-grade obligations. They are neither
highly protected nor poorly secured. Interest payments and principal security
appear adequate for the present but certain protective elements may be lacking
or may be characteristically unreliable over any great length of time. These
bonds lack outstanding investment characteristics and, in fact, have speculative
characteristics as well.
BA - Bonds rated Ba are judged to have predominantly speculative elements and
their future cannot be considered well assured. Often the protection of interest
and principal payments is very moderate and, thereby, not well safeguarded
during both good and bad times over the future. Uncertainty of position
characterizes bonds in this class.
B - Bonds rated B generally lack characteristics of the desirable investment.
Assurance of interest and principal payments or of maintenance of other terms of
the contract over any long period of time may be small.
CAA - Bonds rated Caa are of poor standing. These issues may be in default or
there may be present elements of danger with respect to principal or interest.
CA - Bonds rated Ca represent obligations that are speculative to a high degree.
These issues are often in default or have other marked shortcomings.
C - Bonds rated C are the lowest rated class of bonds and can be regarded as
having extremely poor prospects of ever attaining any real investment standing.
Note: Moody's applies numerical modifiers 1, 2 and 3 in each generic rating
classification from Aa through B in its corporate bond ratings. The modifier 1
indicates that the security ranks in the higher end of its generic rating
category; modifier 2 indicates a mid-range ranking; and modifier 3 indicates
that the issue ranks in the lower end of its generic rating category.
COMMERCIAL PAPER RATINGS
MOODY'S
Moody's commercial paper ratings, which are also applicable to municipal paper
investments permitted to be made by the fund, are opinions of the ability of
issuers to repay punctually their promissory obligations not having an original
maturity in excess of nine months. Moody's employs the following designations,
all judged to be investment grade, to indicate the relative repayment capacity
of rated issuers:
P-1 (PRIME-1): Superior capacity for repayment.
P-2 (PRIME-2): Strong capacity for repayment.
FRANKLIN
SMALL CAP
GROWTH FUND
FRANKLIN STRATEGIC SERIES
STATEMENT OF
ADDITIONAL INFORMATION
SEPTEMBER 1, 1998
777 MARINERS ISLAND BLVD., P.O. BOX 7777
SAN MATEO, CA 94403-7777 1-800/DIAL BEN(R)
TABLE OF CONTENTS
How Does the Fund Invest Its Assets? ............................. 2
What Are the Risks of
Investing in the Fund? .......................................... 9
Investment Restrictions .......................................... 12
Officers and Trustees ............................................ 14
Investment Management
and Other Services .............................................. 18
How Does the Fund Buy
Securities for Its Portfolio? ................................... 19
How Do I Buy, Sell and Exchange Shares? .......................... 20
How Are Fund Shares Valued? ...................................... 23
Additional Information on
Distributions and Taxes ......................................... 24
The Fund's Underwriter ........................................... 28
How Does the Fund
Measure Performance? ............................................ 29
Miscellaneous Information ........................................ 32
Financial Statements ............................................. 33
Useful Terms and Definitions ..................................... 33
Appendix
Description of Ratings .......................................... 34
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When reading this SAI, you will see certain terms beginning with capital
letters. This means the term is explained under "Useful Terms and
Definitions."
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The fund is a diversified series of Franklin Strategic Series (the "Trust"),
an open-end management investment company. The Prospectus, dated September 1,
1998, which we may amend from time to time, contains the basic information
you should know before investing in the fund. For a free copy, call
1-800/DIAL BEN.
This SAI describes the fund's Class I and Class II shares. The fund currently
offers another share class with a different sales charge and expense
structure, which affects performance. To receive more information about the
fund's other share class, contact your investment representative or call
1-800/DIAL BEN.
THIS SAI IS NOT A PROSPECTUS. IT CONTAINS INFORMATION IN ADDITION TO AND IN
MORE DETAIL THAN SET FORTH IN THE PROSPECTUS. THIS SAI IS INTENDED TO PROVIDE
YOU WITH ADDITIONAL INFORMATION REGARDING THE ACTIVITIES AND OPERATIONS OF
THE FUND, AND SHOULD BE READ IN CONJUNCTION WITH THE PROSPECTUS.
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MUTUAL FUNDS, ANNUITIES, AND OTHER INVESTMENT PRODUCTS:
- ------------------------------------------------------------------------------
O ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE
FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S. GOVERNMENT;
O ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED BY ANY BANK;
O ARE SUBJECT TO INVESTMENT RISKS, INCLUDING THE POSSIBLE LOSS OF PRINCIPAL.
- ------------------------------------------------------------------------------
HOW DOES THE FUND INVEST ITS ASSETS?
WHAT IS THE FUND'S GOAL?
The investment goal of the fund is long-term capital growth. This goal is
fundamental, which means that it may not be changed without shareholder
approval.
The following gives more detailed information about the fund's investment
policies and the types of securities that it may buy. Please read this
information together with the section "How Does the Fund Invest Its Assets?"
in the Prospectus.
MORE INFORMATION ABOUT THE KINDS
OF SECURITIES THE FUND BUYS
EQUITY SECURITIES. The purchaser of an equity security typically receives an
ownership interest in the company as well as certain voting rights. The owner
of an equity security may participate in a company's success through the
receipt of dividends, which are distributions of earnings by the company to
its owners. Equity security owners may also participate in a company's
success or lack of success through increases or decreases in the value of the
company's shares as traded in the public trading market for such shares.
Equity securities generally take the form of common stock or preferred stock.
Preferred stockholders typically receive greater dividends but may receive
less appreciation than common stockholders and may have greater voting rights
as well. Equity securities may also include convertible securities, warrants,
or rights. Warrants or rights give the holder the right to purchase a common
stock at a given time for a specified price.
DEBT SECURITIES. A debt security typically has a fixed payment schedule that
obligates the issuer to pay interest to the lender and to return the lender's
money over a certain time period. A company typically meets its payment
obligations associated with its outstanding debt securities before it
declares and pays any dividend to holders of its equity securities. Bonds,
notes, debentures, and commercial paper differ in the length of the issuer's
payment schedule, with bonds carrying the longest repayment schedule and
commercial paper the shortest.
The market value of debt securities generally varies in response to changes
in interest rates and the financial condition of each issuer. During periods
of declining interest rates, the value of debt securities generally
increases. Conversely, during periods of rising interest rates, the value of
debt securities generally declines. These changes in market value will be
reflected in a fund's Net Asset Value.
REPURCHASE AGREEMENTS. Repurchase agreements are contracts under which the
buyer of a security simultaneously commits to resell the security to the
seller at an agreed upon price and date. Under a repurchase agreement, the
seller is required to maintain the value of the securities subject to the
repurchase agreement at not less than the repurchase price. Advisers will
monitor the value of such securities daily to determine that the value equals
or exceed the repurchase price. Repurchase agreements may involve risks in
the event of default or insolvency of the seller, including possible delays
or restrictions upon a fund's ability to dispose of the underlying
securities. The funds will enter into repurchase agreements only with parties
who meet creditworthiness standards approved by the fund's Board, i.e., banks
or broker-dealers that have been determined by Advisers to present no serious
risk of becoming involved in bankruptcy proceedings within the time frame
contemplated by the repurchase transaction.
Although reverse repurchase agreements are borrowings under federal
securities laws, the fund does not treat these arrangements as borrowings
under investment restriction 3 below, provided the segregated account is
properly maintained.
LOANS OF PORTFOLIO SECURITIES. The fund may lend to banks and broker-dealers
portfolio securities with an aggregate market value of up to 20% of its total
assets. Such loans must be secured by collateral (consisting of any
combination of cash, U.S. government securities, or irrevocable letters of
credit) in an amount at least equal (on a daily marked-to-market basis) to
the current market value of the securities loaned. The fund retains all or a
portion of the interest received on investment of the cash collateral or
receives a fee from the borrower. The fund may terminate the loans at any
time and obtain the return of the securities loaned within five business
days. The fund will continue to receive any interest or dividends paid on the
loaned securities and will continue to have voting rights with respect to the
securities. However, as with other extensions of credit, there are risks of
delay in recovery or even loss of rights in collateral should the borrower
fail.
SMALL COMPANIES. The fund seeks to invest at least one third of its assets in
companies with a market capitalization of $550 million or less. Advisers will
monitor the availability of securities suitable for investment by the fund.
If it appears that the goal of investing one third of the fund's assets in
companies with market capitalization of $550 million or less may not be
attainable consistent with the fund's current investment goal and policies,
Advisers will recommend appropriate action to the Board. Advisers will also
present to the Board its views and recommendation regarding the fund's
ability to meet this goal in the future. The Board will review the
availability of suitable investments quarterly. If the Board determines that
under the circumstances it is not likely that sufficient suitable investments
will be available to permit the fund to meet its goal of investing one third
of its assets in companies with market capitalization of $550 million or
less, it may determine to take appropriate remedial action.
Small companies are often overlooked by investors or undervalued in relation
to their earnings power. Because small companies generally are not as well
known to the investing public and have less of an investor following than
larger companies, they may provide greater opportunities for long-term
capital growth as a result of relative inefficiencies in the marketplace.
These companies may be undervalued because they are part of an industry that
is out of favor with investors, although the individual companies may have
high rates of earnings growth and be financially sound.
CONVERTIBLE SECURITIES. The fund may invest in convertible securities. A
convertible security is generally a debt obligation or a preferred stock that
may be converted within a specified period of time into a certain amount of
common stock of the same or a different issuer. A convertible security
provides a fixed-income stream and the opportunity, through its conversion
feature, to participate in the capital appreciation resulting from a market
price advance in the convertible security's underlying common stock.
As with a straight fixed-income security, a convertible security tends to
increase in market value when interest rates decline and decrease in value
when interest rates rise. Like a common stock, the value of a convertible
security also tends to increase as the market value of the underlying stock
rises, and it tends to decrease as the market value of the underlying stock
declines. Because both interest rate and market movements can influence its
value, a convertible security is not as sensitive to interest rates as a
similar fixed-income security, nor is it as sensitive to changes in share
price as its underlying stock.
A convertible security is usually issued either by an operating company or by
an investment bank. When issued by an operating company, a convertible
security tends to be senior to common stock, but subordinate to other types
of fixed-income securities issued by that company. When a convertible
security issued by an operating company is "converted," the operating company
often issues new stock to the holder of the convertible security but, if the
parity price of the convertible security is less than the call price, the
operating company may pay out cash instead of common stock. If the
convertible security is issued by an investment bank, the security is an
obligation of and is convertible through the issuing investment bank.
The issuer of a convertible security may be important in determining the
security's true value. This is because the holder of a convertible security
will have recourse only to the issuer. In addition, a convertible security
may be subject to redemption by the issuer, but only after a specified date
and under circumstances established at the time the security is issued.
While the fund uses the same criteria to rate a convertible debt security
that it uses to rate a more conventional debt security, a convertible
preferred stock is treated like a preferred stock for the fund's financial
reporting, credit rating, and investment limitation purposes. A preferred
stock is subordinated to all debt obligations in the event of insolvency, and
an issuer's failure to make a dividend payment is generally not an event of
default entitling the preferred shareholder to take action. A preferred stock
generally has no maturity date, so that its market value is dependent on the
issuer's business prospects for an indefinite period of time. In addition,
distributions from preferred stock are dividends, rather than interest
payments, and are usually treated as such for corporate tax purposes.
The fund may invest in convertible preferred stocks that offer enhanced yield
features, such as Preferred Equity Redemption Cumulative Stocks ("PERCS"),
which provide an investor, such as the fund, with the opportunity to earn
higher dividend income than is available on a company's common stock. PERCS
are preferred stocks that generally feature a mandatory conversion date, as
well as a capital appreciation limit, which is usually expressed in terms of
a stated price. Most PERCS expire three years from the date of issue, at
which time they are convertible into common stock of the issuer. PERCS are
generally not convertible into cash at maturity. Under a typical arrangement,
after three years PERCS convert into one share of the issuer's common stock
if the issuer's common stock is trading at a price below that set by the
capital appreciation limit, and into less than one full share if the issuer's
common stock is trading at a price above that set by the capital appreciation
limit. The amount of that fractional share of common stock is determined by
dividing the price set by the capital appreciation limit by the market price
of the issuer's common stock. PERCS can be called at any time prior to
maturity, and hence do not provide call protection. If called early, however,
the issuer must pay a call premium over the market price to the investor.
This call premium declines at a preset rate daily, up to the maturity date.
The fund may also invest in other classes of enhanced convertible securities.
These include but are not limited to ACES (Automatically Convertible Equity
Securities), PEPS (Participating Equity Preferred Stock), PRIDES (Preferred
Redeemable Increased Dividend Equity Securities), SAILS (Stock Appreciation
Income Linked Securities), TECONS (Term Convertible Notes), QICS (Quarterly
Income Cumulative Securities), and DECS (Dividend Enhanced Convertible
Securities). ACES, PEPS, PRIDES, SAILS, TECONS, QICS, and DECS all have the
following features: they are issued by the company, the common stock of which
will be received in the event the convertible preferred stock is converted;
unlike PERCS they do not have a capital appreciation limit; they seek to
provide the investor with high current income with some prospect of future
capital appreciation; they are typically issued with three or four-year
maturities; they typically have some built-in call protection for the first
two to three years; and, upon maturity, they will necessarily convert into
either cash or a specified number of shares of common stock.
Similarly, there may be enhanced convertible debt obligations issued by the
operating company, whose common stock is to be acquired in the event the
security is converted, or by a different issuer, such as an investment bank.
These securities may be identified by names such as ELKS (Equity Linked
Securities) or similar names. Typically they share most of the salient
characteristics of an enhanced convertible preferred stock but will be ranked
as senior or subordinated debt in the issuer's corporate structure according
to the terms of the debt indenture. There may be additional types of
convertible securities not specifically referred to herein, which may be
similar to those described above in which a fund may invest, consistent with
its goals and policies.
An investment in an enhanced convertible security or any other security may
involve additional risks to the fund. The fund may have difficulty disposing
of such securities because there may be a thin trading market for a
particular security at any given time. Reduced liquidity may have an adverse
impact on market price and the fund's ability to dispose of particular
securities, when necessary, to meet the fund's liquidity needs or in response
to a specific economic event, such as the deterioration in the credit
worthiness of an issuer. Reduced liquidity in the secondary market for
certain securities may also make it more difficult for the fund to obtain
market quotations based on actual trades for purposes of valuing the fund's
portfolio. The fund, however, intends to acquire liquid securities, though
there can be no assurances that it will always be able to do so.
ILLIQUID SECURITIES. The fund's policy is not to invest more than 10% of its
net assets in illiquid securities. Generally, an "illiquid security" is any
security that cannot be disposed of within seven days in the ordinary course
of business at approximately the amount at which the fund has valued the
instrument.
Notwithstanding this limitation, the Board has authorized the fund to invest
in certain restricted securities (securities not registered with the SEC,
which might otherwise be considered illiquid) and has authorized these
securities to be considered liquid to the extent Advisers determines that
there is a liquid institutional or other market for the securities. For
example, restricted securities that may be freely transferred among qualified
institutional buyers pursuant to Rule 144A under the Securities Act of 1933,
as amended, and for which a liquid institutional market has developed, may be
considered liquid. The Board will review any determination by Advisers to
treat a restricted security as a liquid security on an ongoing basis,
including Advisers assessment of current trading activity and the
availability of reliable price information. In determining whether a
restricted security is properly considered a liquid security, Advisers and
the Board will take into account the following factors: (i) the frequency of
trades and quotes for the security; (ii) the number of dealers willing to buy
or sell the security and the number of other potential buyers; (iii) dealer
undertakings to make a market in the security; and (iv) the nature of the
security and the nature of the marketplace trades (e.g., the time needed to
dispose of the security, the method of soliciting offers, and the mechanics
of transfer). To the extent the fund invests in restricted securities that
are deemed liquid, the general level of illiquidity in the fund may be
increased if qualified institutional buyers become uninterested in buying
these securities or the market for these securities contracts.
SECURITIES INDUSTRY RELATED INVESTMENTS. To the extent it is consistent with
its investment goal and certain limitations under the 1940 Act, the fund may
invest its assets in securities issued by companies engaged in securities
related businesses, including companies that are securities brokers, dealers,
underwriters or investment advisors. These companies are considered to be
part of the financial services industry. Generally, under the 1940 Act, the
fund may not acquire a security or any interest in a securities related
business, to the extent the acquisition would result in the fund acquiring in
excess of 5% of a class of an issuer's outstanding equity securities or 10%
of the outstanding principal amount of an issuer's debt securities, or
investing more than 5% of the value of the fund's total assets in securities
of the issuer. In addition, any equity security of a securities related
business must be a marginable security under Federal Reserve Board
regulations and any debt security of a securities related business must be
investment grade as determined by the Board. The fund does not believe that
these limitations will impede its ability to achieve its investment goal.
FOREIGN SECURITIES. As noted in the Prospectus, the fund may invest up to 25%
of its total assets in foreign securities. When buying foreign securities,
the fund will ordinarily buy securities that are traded in the U.S. or buy
sponsored or unsponsored Depositary Receipts.
A sponsored Depositary Receipt is a Depositary Receipt in which establishment
of the issuing facility is brought about by the participation of the issuer
and the depositary institution pursuant to a deposit agreement that sets out
the rights and responsibilities of the issuer, the depositary and the
Depositary Receipt holder. Under the terms of most sponsored arrangements,
depositaries agree to distribute notices of shareholder meetings and voting
instructions, thereby ensuring that Depositary Receipt holders will be able
to exercise voting rights through the depositary with respect to the
deposited securities. An unsponsored Depositary Receipt has no sponsorship by
the issuing facility and additionally, more than one depositary institution
may be involved in the issuance of the unsponsored Depositary Receipt. It
typically clears, however, through the Depositary Trust Company and
therefore, there should be no additional delays in selling the security or in
obtaining dividends. Although not required, the depositary normally requests
a letter of non-objection from the issuer. In addition, the depositary is not
required to distribute notices of shareholder meetings or financial
information to the buyer.
The fund may also buy the securities of foreign issuers directly in foreign
markets so long as, in Advisers' judgment, an established public trading
market exists (that is, there is a sufficient number of shares traded
regularly relative to the number of shares to be purchased by the fund).
Any investments made by the fund in foreign securities where delivery takes
place outside the U.S. will be made in compliance with applicable U.S. and
foreign currency restrictions and tax and other laws limiting the amount and
types of foreign investments. Changes of governmental administrations,
economic or monetary policies in the U.S. or abroad, or changed circumstances
in dealings between nations could result in investment losses for the fund
and could adversely affect the fund's operations. The fund's purchase of
securities in foreign countries will involve currencies of the U.S. and of
foreign countries; consequently, changes in exchange rates, currency
convertibility and repatriation may favorably or adversely affect the fund.
Although current regulations do not, in the opinion of Advisers, seriously
limit the fund's investment activities, if such regulations are changed in
the future, they may restrict the ability of the fund to make its investments
or impair the liquidity of the fund's investments.
Securities that are acquired by the fund outside of the U.S. and that are
publicly traded in the U.S. or on a foreign securities exchange or in a
foreign securities market are not considered by the fund to be illiquid
assets if (a) the fund reasonably believes it can readily dispose of the
securities for cash in the U.S. or foreign market or (b) current market
quotations are readily available. The fund will not acquire the securities of
foreign issuers outside of the U.S. under circumstances where, at the time of
acquisition, the fund has reason to believe that it could not resell the
securities in a public trading market. Investors should recognize that
foreign securities are often traded with less frequency and volume, and
therefore may have greater price volatility than many U.S. securities.
Notwithstanding the fact that the fund intends to acquire the securities of
foreign issuers only where there are public trading markets, investments by
the fund in the securities of foreign issuers may tend to increase the risks
with respect to the liquidity of the fund's portfolio and the fund's ability
to meet a large number of shareholders' redemption requests should there be
economic or political turmoil in a country in which the fund has its assets
invested or should relations between the U.S. and a foreign country
deteriorate markedly.
OPTIONS, FUTURES AND OPTIONS
ON FINANCIAL FUTURES
WRITING CALL AND PUT OPTIONS. The fund may write (sell) covered put and call
options and buy put and call options on securities and indices that trade on
securities exchanges and in the over-the-counter market.
Call options written by the fund give the holder the right to buy the
underlying securities from the fund at a stated exercise price; put options
written by the fund give the holder the right to sell the underlying security
to the fund at a stated exercise price. A call option written by the fund is
"covered" if the fund owns the underlying security which is subject to the
call or has an absolute and immediate right to acquire that security without
additional cash consideration (or for additional cash consideration held in a
segregated account by its custodian) upon conversion or exchange of other
securities held in its portfolio. A call option is also covered if the fund
holds a call on the same security and in the same principal amount as the
call written where the exercise price of the call held is (a) equal to or
less than the exercise price of the call written or (b) greater than the
exercise price of the call written if the difference is maintained by the
fund in cash and high grade debt securities in a segregated account with its
custodian bank. A put option written by the fund is covered if the fund
maintains cash and high grade debt securities with a value equal to the
exercise price in a segregated account with its custodian bank, or holds a
put on the same security and in the same principal amount as the put written
where the exercise price of the put held is equal to or greater than the
exercise price of the put written. The premium paid by the buyer of an option
will reflect, among other things, the relationship of the exercise price to
the market price and volatility of the underlying security, the remaining
term of the option, supply and demand, and interest rates.
In the case of a call option, the writer of an option may have no control
over when the underlying securities must be sold or purchased, in the case of
a put option, since with regard to certain options, the writer may be
assigned an exercise notice at any time prior to the termination of the
obligation. Whether or not an option expires unexercised, the writer retains
the amount of the premium. This amount, of course, may, in the case of a
covered call option, be offset by a decline in the market value of the
underlying security during the option period. If a call option is exercised,
the writer experiences a profit or loss from the sale of the underlying
security. If a put option is exercised, the writer must fulfill the
obligation to buy the underlying security at the exercise price, which will
usually exceed the then current market value of the underlying security.
The writer of an option that wishes to terminate its obligation may effect a
"closing purchase transaction." This is accomplished by buying an option of
the same series as the option previously written. The effect of the purchase
is that the writer's position will be canceled by the clearing corporation. A
writer, however, may not effect a closing purchase transaction after being
notified of the exercise of an option. Likewise, an investor who is the
holder of an option may liquidate its position by effecting a "closing sale
transaction." This is accomplished by selling an option of the same series as
the option previously purchased. There is no guarantee that either a closing
purchase or a closing sale transaction can be effected.
Effecting a closing transaction in the case of a written call option will
permit the fund to write another call option on the underlying security with
either a different exercise price or expiration date or both, or in the case
of a written put option will permit the fund to write another put option to
the extent that the exercise price thereof is secured by deposited cash or
short-term securities. Effecting a closing transaction will also permit the
cash or proceeds from the concurrent sale of any securities subject to the
option to be used for other fund investments. If the fund desires to sell a
particular security from its portfolio on which it has written a call option,
it will effect a closing transaction prior to or at the same time as the sale
of the security.
The fund will realize a profit from a closing transaction if the price of the
transaction is less than the premium received from writing the option or is
more than the premium paid to buy the option; the fund will realize a loss
from a closing transaction if the price of the transaction is more than the
premium received from writing the option or is less than the premium paid to
buy the option. Because increases in the market price of a call option will
generally reflect increases in the market price of the underlying security,
any loss resulting from the repurchase of a call option is likely to be
offset in whole or in part by appreciation of the underlying security owned
by the fund.
The writing of covered put options involves certain risks. For example, if
the market price of the underlying security rises or otherwise is above the
exercise price, the put option will expire worthless and the fund's gain will
be limited to the premium received. If the market price of the underlying
security declines or otherwise is below the exercise price, the fund may
elect to close the position or take delivery of the security at the exercise
price and the fund's return will be the premium received from the put option
minus the amount by which the market price of the security is below the
exercise price.
BUYING CALL AND PUT OPTIONS. The fund may buy call options on securities
which it intends to buy in order to limit the risk of a substantial increase
in the market price of the security. The fund may also buy call options on
securities held in its portfolio and on which it has written call options. A
call option gives the option holder the right to buy the underlying
securities from the option writer at a stated exercise price. Prior to its
expiration, a call option may be sold in a closing sale transaction. Profit
or loss from such a sale will depend on whether the amount received is more
or less than the premium paid for the call option plus the related
transaction costs.
The fund intends to buy put options on particular securities in order to
protect against a decline in the market value of the underlying security
below the exercise price less the premium paid for the option. A put option
gives the option holder the right to sell the underlying security at the
option exercise price at any time during the option period. The ability to
buy put options will allow the fund to protect the unrealized gain in an
appreciated security in its portfolio without actually selling the security.
In addition, the fund will continue to receive interest or dividend income on
the security. The fund may sell a put option which it has previously
purchased prior to the sale of the securities underlying such option. Such a
sale will result in a net gain or loss depending on whether the amount
received on the sale is more or less than the premium and other transaction
costs paid for the put option that is sold. This gain or loss may be wholly
or partially offset by a change in the value of the underlying security which
the fund owns or has the right to acquire.
OVER-THE-COUNTER ("OTC") OPTIONS. The fund intends to write covered put and
call options and buy put and call options which trade in the over-the-counter
market to the same extent that it will engage in exchange traded options.
Just as with exchange traded options, OTC call options give the option holder
the right to buy an underlying security from an option writer at a stated
exercise price; OTC put options give the holder the right to sell an
underlying security to an option writer at a stated exercise price. OTC
options, however, differ from exchange traded options in certain material
respects.
OTC options are arranged directly with dealers and not, as is the case with
exchange traded options, with a clearing corporation. Thus, there is a risk
of non-performance by the dealer. Because there is no exchange, pricing is
typically done by reference to information from market makers. OTC options,
however, are available for a greater variety of securities, and in a wider
range of expiration dates and exercise prices, than exchange traded options;
and the writer of an OTC option is paid the premium in advance by the dealer.
The fund understands the current position of the SEC staff to be that
purchased OTC options are illiquid securities, and that the assets used to
cover the sale of an OTC option are considered illiquid. The fund and
Advisers disagree with this position. Nevertheless, pending a change in the
staff's position, the fund will treat OTC options and "cover" assets as
subject to the fund's limitation on illiquid securities.
OPTIONS ON STOCK INDICES. The fund may also buy call options on stock indices
in order to hedge against the risk of market or industry-wide stock price
fluctuations. Call and put options on stock indices are similar to options on
securities except that, rather than the right to buy or sell stock at a
specified price, options on a stock index give the holder the right to
receive, upon exercise of the option, an amount of cash if the closing level
of the underlying stock index is greater than (or less than, in the case of
puts) the exercise price of the option. This amount of cash is equal to the
difference between the closing price of the index and the exercise price of
the option, expressed in dollars, multiplied by a specified number. Thus,
unlike stock options, all settlements are in cash, and gain or loss depends
on price movements in the stock market generally (or in a particular industry
or segment of the market) rather than price movements in individual stocks.
When the fund writes an option on a stock index, the fund will establish a
segregated account containing cash or high quality fixed-income securities
with its custodian bank in an amount at least equal to the market value of
the underlying stock index and will maintain the account while the option is
open or will otherwise cover the transaction.
FUTURES CONTRACTS. The fund may enter into contracts for the purchase or sale
for future delivery of securities or currencies and in such contracts based
upon financial indices ("financial futures"). Financial futures contracts are
commodity contracts that obligate the long or short holder to take or make
delivery of a specified quantity of a financial instrument, such as a
security, or the cash value of a securities index during a specified future
period at a specified price. A "sale" of a futures contract means the
acquisition of a contractual obligation to deliver the securities called for
by the contract at a specified price on a specified date. A "purchase" of a
futures contract means the acquisition of a contractual obligation to acquire
the securities called for by the contract at a specified price on a specified
date. Futures contracts have been designed by exchanges which have been
designated "contracts markets" by the Commodities Futures Trading Commission
and must be executed through a futures commission merchant, or brokerage
firm, which is a member of the relevant contract market.
At the same time a futures contract is purchased or sold, the fund must
allocate cash or securities as a deposit payment ("initial deposit"). Daily
thereafter, the futures contract is valued and the payment of "variation
margin" may be required since each day the fund would provide or receive cash
that reflects any decline or increase in the contract's value.
Although futures contracts by their terms call for the actual delivery or
acquisition of securities, in most cases the contractual obligation is
fulfilled before the date of the contract without having to make or take
delivery of the securities. The offsetting of a contractual obligation is
accomplished by buying (or selling, as the case may be) on a commodities
exchange an identical futures contract calling for delivery in the same
month. This transaction, which is effected through a member of an exchange,
cancels the obligation to take delivery of the securities. Since all
transactions in the futures market are made, offset or fulfilled through a
clearinghouse associated with the exchange on which the contracts are traded,
the fund will incur brokerage fees when it buys or sells futures contracts.
The fund will not engage in transactions in futures contracts or related
options for speculation but only as a hedge against changes resulting from
market conditions in the values of its securities or securities which it
intends to buy. The fund will not enter into any stock index or financial
futures contract or related option if, immediately thereafter, more than one
third of the fund's net assets would be represented by futures contracts or
related options. In addition, the fund may not buy or sell futures contracts
or buy or sell related options if, immediately thereafter, the sum of the
amount of its initial deposits and premiums on its existing futures and
related options positions would exceed 5% of the fund's total assets (taken
at current value). In instances involving the purchase of futures contracts
or related call options, money market instruments equal to the market value
of the futures contract or related option will be deposited in a segregated
account with the custodian to collateralize such long positions.
The purpose of the acquisition or sale of a futures contract is to attempt to
protect the fund from fluctuations in the price of portfolio securities
without actually buying or selling the underlying security. To the extent the
fund enters into a futures contract, it will maintain in a segregated account
with its custodian bank, to the extent required by the rules of the SEC,
assets to cover its obligations with respect to such contract which will
consist of cash, cash equivalents or high quality debt securities in an
amount equal to the difference between the fluctuating market value of such
futures contract and the aggregate value of the initial and variation margin
payments made by the fund with respect to such futures contract.
STOCK INDEX FUTURES AND OPTIONS ON STOCK INDEX FUTURES. The fund may buy and
sell stock index futures contracts and options on stock index futures
contracts.
A stock index futures contract obligates the seller to deliver (and the buyer
to take) an amount of cash equal to a specific dollar amount times the
difference between the value of a specific stock index at the close of the
last trading day of the contract and the price at which the agreement is
made. No physical delivery of the underlying stocks in the index
is made.
The fund may sell stock index futures contracts in anticipation of or during
a market decline to attempt to offset the decrease in market value of its
equity securities that might otherwise result. When the fund is not fully
invested in stocks and it anticipates a significant market advance, it may
buy stock index futures in order to gain rapid market exposure that may in
part or entirely offset increases in the cost of stocks that it intends to
buy.
The fund may buy and sell call and put options on stock index futures to
hedge against risks of market-side price movements. The need to hedge against
such risks will depend on the extent of diversification of the fund's common
stock portfolio and the sensitivity of such investments to factors
influencing the stock market as a whole.
Call and put options on stock index futures are similar to options on
securities except that, rather than the right to buy stock at a specified
price, options on stock index futures give the holder the right to receive
cash. Upon exercise of the option, the delivery of the futures position by
the writer of the option to the holder of the option will be accompanied by
delivery of the accumulated balance in the writer's futures margin account
which represents the amount by which the market price of the futures
contract, at exercise, exceeds, in the case of a call, or is less than, in
the case of a put, the exercise price of the option on the futures contract.
If an option is exercised on the last trading day prior to the expiration
date of the option, the settlement will be made entirely in cash equal to the
difference between the exercise price of the option and the closing price of
the futures contract on the expiration date.
BOND INDEX FUTURES AND RELATED OPTIONS. The fund may buy and sell futures
contracts based on an index of debt securities and options on such futures
contracts to the extent they currently exist and, in the future, may be
developed. The fund reserves the right to conduct futures and options
transactions based on an index which may be developed in the future to
correlate with price movements in certain categories of debt securities. The
fund's investment strategy in employing futures contracts based on an index
of debt securities will be similar to that used by it in other financial
futures transactions.
The fund also may buy and write put and call options on such index futures
and enter into closing transactions with respect to such options.
FUTURE DEVELOPMENTS. The fund may take advantage of opportunities in the area
of options and futures contracts and options on futures contracts and any
other derivative investments which are not presently contemplated for use by
the fund or which are not currently available but which may be developed, to
the extent such opportunities are both consistent with the fund's investment
goal and legally permissible for the fund. Prior to investing in any such
investment vehicle, the fund will supplement its Prospectus, if appropriate.
WHAT ARE THE RISKS OF
INVESTING IN THE FUND?
FOREIGN SECURITIES. You should consider carefully the substantial risks
involved in securities of companies of foreign nations, which are in addition
to the usual risks inherent in domestic investments.
There may be less publicly available information about foreign companies
comparable to the reports and ratings published about companies in the U.S.
Foreign companies are not generally subject to uniform accounting or
financial reporting standards, and auditing practices and requirements may
not be comparable to those applicable to U.S. companies. The fund, therefore,
may encounter difficulty in obtaining market quotations for purposes of
valuing its portfolio and calculating its Net Asset Value. Foreign markets
have substantially less volume than the NYSE, and securities of some foreign
companies are less liquid and more volatile than securities of comparable
U.S. companies. Commission rates in foreign countries, which are generally
fixed rather than subject to negotiation as in the U.S., are likely to be
higher. In many foreign countries there is less government supervision and
regulation of stock exchanges, brokers, and listed companies than in the U.S.
Investments in companies domiciled in developing countries may be subject to
potentially higher risks than investments in developed countries. These risks
include (i) less social, political, and economic stability; (ii) the small
current size of the markets for such securities and the currently low or
nonexistent volume of trading, which result in a lack of liquidity and in
greater price volatility; (iii) certain national policies which may restrict
the fund's investment opportunities, including restrictions on investment in
issuers or industries deemed sensitive to national interests; (iv) foreign
taxation; (v) the absence of developed legal structures governing private or
foreign investment or allowing for judicial redress for injury to private
property; (vi) the absence, until recently in certain Eastern European
countries, of a capital market structure or market-oriented economy; and
(vii) the possibility that recent favorable economic developments in Eastern
Europe may be slowed or reversed by unanticipated political or social events
in such countries.
In addition, many countries in which the fund may invest have experienced
substantial, and in some periods extremely high, rates of inflation for many
years. Inflation and rapid fluctuations in inflation rates have had and may
continue to have negative effects on the economies and securities markets of
certain countries. Moreover, the economies of some developing countries may
differ favorably or unfavorably from the U.S. economy in such respects as
growth of gross domestic product, rate of inflation, currency depreciation,
capital reinvestment, resource self-sufficiency, and balance of payments
position.
The fund's management endeavors to buy and sell foreign currencies on as
favorable a basis as practicable. Some price spread on currency exchange (to
cover service charges) may be incurred, particularly when the fund changes
investments from one country to another or when proceeds of the sale of
shares in U.S. dollars are used for the purchase of securities in foreign
countries. Also, some countries may adopt policies that would prevent the
fund from transferring cash out of the country or withhold portions of
interest and dividends at the source. There is the possibility of cessation
of trading on national exchanges, expropriation, nationalization, or
confiscatory taxation, withholding, and other foreign taxes on income or
other amounts, foreign exchange controls (which may include suspension of the
ability to transfer currency from a given country), default in foreign
government securities, political or social instability, or diplomatic
developments that could affect investments in securities of issuers in
foreign nations.
The fund may be affected either favorably or unfavorably by fluctuations in
the relative rates of exchange between the currencies of different nations,
by exchange control regulations, and by indigenous economic and political
developments. Some countries in which the fund may invest may also have fixed
or managed currencies that are not free-floating against the U.S. dollar.
Further, certain currencies may not be internationally traded.
Certain of these currencies have experienced a steady devaluation relative to
the U.S. dollar. Any devaluations in the currencies in which the fund's
portfolio securities are denominated may have a detrimental impact on the
fund. Through the fund's flexible policy, management endeavors to avoid
unfavorable consequences and to take advantage of favorable developments in
particular nations where, from time to time, it places the fund's investments.
The exercise of this flexible policy may include decisions to purchase
securities with substantial risk characteristics and other decisions such as
changing the emphasis on investments from one nation to another and from one
type of security to another. Some of these decisions may later prove
profitable and others may not. No assurance can be given that profits, if
any, will exceed losses.
The Board considers at least annually the likelihood of the imposition by any
foreign government of exchange control restrictions which would affect the
liquidity of the fund's assets maintained with custodians in foreign
countries, as well as the degree of risk from political acts of foreign
governments to which such assets may be exposed. The Board also considers the
degree of risk involved through the holding of portfolio securities in
domestic and foreign securities depositories. However, in the absence of
willful misfeasance, bad faith, or gross negligence on the part of Advisers,
any losses resulting from the holding of the fund's portfolio securities in
foreign countries and/or with securities depositories will be at the risk of
the shareholders. No assurance can be given that the Board's appraisal of the
risks will always be correct or that such exchange control restrictions or
political acts of foreign governments might not occur.
OPTIONS, FUTURES AND OPTIONS ON FUTURES. The fund's ability to hedge
effectively all or a portion of its securities through transactions in
options on stock indices, stock index futures, financial futures and related
options depends on the degree to which price movements in the underlying
index or underlying securities correlate with price movements in the relevant
portion of the fund's portfolio. Inasmuch as such securities will not
duplicate the components of the index or underlying securities, the
correlation will not be perfect. Consequently, the fund bears the risk that
the prices of the securities being hedged will not move in the same amount as
the hedging instrument. It is also possible that there may be a negative
correlation between the index or other securities underlying the hedging
instrument and the hedged securities which would result in a loss on both the
securities and the hedging instrument. Accordingly, successful use by the
fund of options on stock indices, stock index futures, financial futures and
related options will be subject to Advisers' ability to predict correctly
movements in the direction of the securities markets generally or a
particular segment. This requires different skills and techniques than
predicting changes in the price of individual stocks.
Adverse market movements could cause the fund to lose up to its full
investment in a call option contract and/or to experience substantial losses
on an investment in a futures contract. There is also the risk of loss by the
find of margin deposits in the event of bankruptcy of a broker with whom the
fund has an open position in a futures contract.
Positions in stock index options, stock index futures and financial futures
and related options may be closed out only on an exchange which provides a
secondary market. There can be no assurance that a liquid secondary market
will exist for any particular stock index option or futures contract or
related option at any specific time. Thus, it may not be possible to close an
option or futures position. The inability to close options or futures
positions also could have an adverse impact on the fund's ability to
effectively hedge its securities. The fund will enter into an option or
futures position only if there appears to be a liquid secondary market for
the option or futures contract.
There can be no assurance that a continuous liquid secondary market will
exist for any particular OTC option at any specific time. Consequently, the
fund may be able to realize the value of an OTC option it has purchased only
by exercising it or entering into a closing sale transaction with the dealer
that issued it. Similarly, when the fund writes an OTC option, it generally
can close out that option prior to its expiration only by entering into a
closing purchase transaction with the dealer to which the fund originally
wrote it. If a covered call option writer cannot effect a closing
transaction, it cannot sell the underlying security until the option expires
or the option is exercised. Therefore, a covered call option writer of an OTC
option may not be able to sell an underlying security even though it might
otherwise be advantageous to do so. Likewise, a secured put writer of an OTC
option may be unable to sell the securities pledged to secure the put for
other investment purposes while it is obligated as a put writer. Similarly, a
buyer of such put or call option might also find it difficult to terminate
its position on a timely basis in the absence of a secondary market.
The Commodities Futures Trading Commission and the various exchanges have
established limits, referred to as "speculative position limits," on the
maximum net long or net short position which any person may hold or control
in a particular futures contract. Trading limits are imposed on the maximum
number of contracts which any person may trade on a particular trading day.
An exchange may order the liquidation of positions found to be in violation
of these limits and it may impose other sanctions or restrictions. The fund
does not believe that these trading and positions limits will have an adverse
impact on the fund's strategies for hedging its securities.
The ordinary spreads between prices in the cash and futures markets, due to
differences in the nature of those markets, are subject to distortions.
First, all participants in the futures market are subject to initial deposit
and variation margin requirements. Rather than meeting additional variation
margin requirements, investors may close futures contracts through offsetting
transactions which could distort the normal relationship between the cash and
futures markets. Second, the liquidity of the futures market depends on
participants entering into offsetting transactions rather than making or
taking delivery. To the extent participants decide to make or take delivery,
liquidity in the futures market could be reduced, thus producing distortion.
Third, from the point of view of speculators, the margin deposit requirements
in the futures market are less onerous than margin requirements in the
securities market. Therefore, increased participation by speculators in the
futures market may cause temporary price distortions. Due to the possibility
of distortion, a correct forecast of general interest rate trends by Advisers
may still not result in a successful transaction.
Although the fund believes that the use of futures contracts will benefit the
fund, if Advisers' judgment about the general direction of interest rates is
incorrect, the fund's overall performance would be poorer than if it had not
entered into any such contract. For example, if the fund has hedged against
the possibility of an increase in interest rates which would adversely affect
the price of bonds held in its portfolio and interest rates decrease instead,
the fund will lose part or all of the benefit of the increased value of its
bonds which it has hedged because it will have offsetting losses in its
futures positions. In addition, in such situations, if the fund has
insufficient cash, it may have to sell securities from its portfolio to meet
daily variation margin requirements. Such sales may be, but will not
necessarily be, at increased prices which reflect the rising market. The fund
may have to sell securities at a time when it may be disadvantageous to do so.
The fund's sale of futures contracts and purchase of put options on futures
contracts will be solely to protect its investments against declines in
value. The fund expects that in the normal course of business it will buy
securities upon termination of long futures contracts and long call options
on future contracts, but under unusual market conditions it may terminate any
of these positions without a corresponding purchase of securities.
HIGH YIELD SECURITIES. The fund intends to invest not more than 5% of its
assets in lower rated, fixed-income securities and unrated securities of
comparable quality. You should consider the increased risk of loss to
principal that is present with an investment in higher risk securities, such
as those in which the fund invests. Accordingly, an investment in the fund
should not be considered a complete investment program and should be
carefully evaluated for its appropriateness in light of your overall
investment needs and goals.
The market value of high yield, lower-quality fixed-income securities,
commonly known as junk bonds, tends to reflect individual developments
affecting the issuer to a greater degree than the market value of
higher-quality securities, which react primarily to fluctuations in the
general level of interest rates. Lower-quality securities also tend to be
more sensitive to economic conditions than higher-quality securities.
Issuers of high yield, fixed-income securities are often highly leveraged and
may not have more traditional methods of financing available to them.
Therefore, the risk associated with buying the securities of these issuers is
generally greater than the risk associated with higher-quality securities.
For example, during an economic downturn or a sustained period of rising
interest rates, issuers of lower-quality securities may experience financial
stress and may not have sufficient cash flow to make interest payments. The
issuer's ability to make timely interest and principal payments may also be
adversely affected by specific developments affecting the issuer, including
the issuer's inability to meet specific projected business forecasts or the
unavailability of additional financing.
The risk of loss due to default may also be considerably greater with
lower-quality securities because they are generally unsecured and are often
subordinated to other creditors of the issuer. If the issuer of a security in
the fund's portfolio defaults, the fund may have unrealized losses on the
security, which may lower the fund's Net Asset Value. Defaulted securities
tend to lose much of their value before they default. Thus, the fund's Net
Asset Value may be adversely affected before an issuer defaults. In addition,
the fund may incur additional expenses if it must try to recover principal or
interest payments on a defaulted security.
High yield, fixed-income securities frequently have call or buy-back features
that allow an issuer to redeem the securities from the fund. Although these
securities are typically not callable for a period of time, usually for three
to five years from the date of issue, if an issuer calls its securities
during periods of declining interest rates, Advisers may find it necessary to
replace the securities with lower-yielding securities, which could result in
less net investment income for the fund. The premature disposition of a high
yield security due to a call or buy-back feature, the deterioration of an
issuer's creditworthiness, or a default by an issuer may make it more
difficult for the fund to manage the timing of its income. Under the Code and
U.S. Treasury regulations, the fund may have to accrue income on defaulted
securities and distribute the income to shareholders for tax purposes, even
though the fund is not currently receiving interest or principal payments on
the defaulted securities. To generate cash to satisfy these distribution
requirements, the fund may have to sell portfolio securities that it
otherwise may have continued to hold or use cash flows from other sources,
such as the sale of fund shares.
Lower-quality, fixed-income securities may not be as liquid as higher-quality
securities. Reduced liquidity in the secondary market may have an adverse
impact on market price of a security and on the fund's ability to sell a
security in response to a specific economic event, such as a deterioration in
the creditworthiness of the issuer, or if necessary to meet the fund's
liquidity needs. Reduced liquidity may also make it more difficult to obtain
market quotations based on actual trades for purposes of valuing the fund's
portfolio.
The fund may buy high yield, fixed-income securities that are sold without
registration under the federal securities laws and therefore carry
restrictions on resale. While many high yielding securities have been sold
with registration rights, covenants and penalty provisions for delayed
registration, if the fund is required to sell restricted securities before
the securities have been registered, it may be deemed an underwriter of the
securities under the Securities Act of 1933, which entails special
responsibilities and liabilities. The fund may also incur special costs in
disposing of restricted securities, although the fund will generally not
incur any costs when the issuer is responsible for registering the securities.
The fund may buy high yield, fixed-income securities during an initial
underwriting. These securities involve special risks because they are new
issues. Advisers will carefully review their credit and other
characteristics. The fund has no arrangement with its underwriter or any
other person concerning the acquisition of these securities.
The high yield securities market is relatively new and much of its growth
before 1990 paralleled a long economic expansion. The recession that began in
1990 disrupted the market for high yield securities and adversely affected
the value of outstanding securities, as well as the ability of issuers of
high yield securities to make timely principal and interest payments.
Although the economy has improved and high yield securities have performed
more consistently since that time, the adverse effects previously experienced
may reoccur. For example, the highly publicized defaults on some high yield
securities during 1989 and 1990 and concerns about a sluggish economy that
continued into 1993, depressed the prices of many of these securities. While
market prices may be temporarily depressed due to these factors, the ultimate
price of any security generally reflects the true operating results of the
issuer. Factors adversely impacting the market value of high yield securities
may lower the fund's Net Asset Value.
The fund relies on Advisers' judgment, analysis and experience in evaluating
the creditworthiness of an issuer. In this evaluation, Advisers takes into
consideration, among other things, the issuer's financial resources, its
sensitivity to economic conditions and trends, its operating history, the
quality of the issuer's management and regulatory matters.
INVESTMENT RESTRICTIONS
The fund has adopted the following restrictions as fundamental policies.
These restrictions may not be changed without the approval of a majority of
the outstanding voting securities of the fund. Under the 1940 Act, this means
the approval of (i) more than 50% of the outstanding shares of the fund or
(ii) 67% or more of the shares of the fund present at a shareholder meeting
if more than 50% of the outstanding shares of the fund are represented at the
meeting in person or by proxy, whichever is less. The fund MAY NOT:
1. Purchase the securities of any one issuer (other than obligations of the
U.S., its agencies or instrumentalities) if immediately thereafter, and as a
result of the purchase, the fund would (a) have invested more than 5% of the
value of its total assets in the securities of the issuer, or (b) hold more
than 10% of any voting class of the securities of any one issuer;
2. Make loans to other persons, except by the purchase of bonds, debentures
or similar obligations which are publicly distributed or of a character
usually acquired by institutional investors or through loans of the fund's
portfolio securities, or to the extent the entry into a repurchase agreement
may be deemed a loan;
3. Borrow money (does not preclude the fund from obtaining such short-term
credit as may be necessary for the clearance of purchases and sales of its
portfolio securities), except in the form of reverse repurchase agreements or
from banks in order to meet redemption requests that might otherwise require
the untimely disposition of portfolio securities or for other temporary or
emergency (but not investment) purposes, in an amount up to 10% of the value
of the fund's total assets (including the amount borrowed) based on the
lesser of cost or market, less liabilities (not including the amount
borrowed) at the time the borrowing is made. While borrowings exceed 5% of
the fund's total assets, the fund will not make any additional investments;
4. Invest more than 25% of the fund's assets (at the time of the most recent
investment) in any single industry;
5. Underwrite securities of other issuers or invest more than 10% of its
assets in securities with legal or contractual restrictions on resale
(although the fund may invest in such securities to the extent permitted
under the federal securities laws for example, transactions between the fund
and Qualified Institutional Buyers subject to Rule 144A under the Securities
Act of 1933) or which are not readily marketable, or which have a record of
less than three years continuous operation, including the operations of any
predecessor companies, if more than 10% of the fund's total assets would be
invested in such companies;
6. Invest in securities for the purpose of exercising management or control
of the issuer;
7. Maintain a margin account with a securities dealer or invest in
commodities and commodity contracts (except that the fund may engage in
financial futures, including stock index futures, and options on stock index
futures) or lease or acquire any interests, including interests issued by
limited partnerships (other than publicly traded equity securities) in oil,
gas, or other mineral exploration or development programs, or invest in
excess of 5% of its total assets in options unrelated to the fund's
transactions in futures, including puts, calls, straddles, spreads, or any
combination thereof;
8. Effect short sales, unless at the time the fund owns securities
equivalent in kind and amount to those sold (which will normally be for
deferring recognition of gains or losses for tax purposes). The fund does not
currently intend to employ this investment technique;
9. Invest directly in real estate, real estate limited partnerships or
illiquid securities issued by real estate investment trusts; (the fund may,
however, invest in marketable securities issued by real estate investment
trusts);
10. Invest in the securities of other investment companies, except where
there is no commission other than the customary brokerage commission or sales
charge, or except that securities of another investment company may be
acquired pursuant to a plan of reorganization, merger, consolidation or
acquisition, and except where the fund would not own, immediately after the
acquisition, securities of the investment companies which exceed in the
aggregate i) more than 3% of the issuer's outstanding voting stock, ii) more
than 5% of the fund's total assets, and iii) together with the securities of
all other investment companies held by the fund, exceed, in the aggregate,
more than 10% of the fund's total assets. The fund may invest in shares of
one or more money market funds managed by Advisers or its affiliates; and
11. Purchase from or sell to its officers and trustees, or any firm of which
any officer or trustee is a member, as principal, any securities, but may
deal with such persons or firms as brokers and pay a customary brokerage
commission; or purchase or retain securities of any issuer, if to the
knowledge of the Trust, one or more of the officers or trustees of the Trust,
or Advisers, own beneficially more than one-half of 1% of the securities of
such issuer and all such officers and trustees together own beneficially more
than 5% of such securities.
In addition to these fundamental policies, it is the present policy of the
fund (which may be changed without shareholder approval) not to pledge,
mortgage or hypothecate the fund's assets as security for loans, and not to
engage in joint or joint and several trading accounts in securities, except
that it may participate in joint repurchase arrangements, invest its
short-term cash in shares of the Franklin Money Fund (pursuant to the terms
and conditions of the SEC order permitting such investments), or combine
orders to buy or sell with orders from other persons to obtain lower
brokerage commissions. The fund may not invest in excess of 5% of its net
assets, valued at the lower of cost or market, in warrants, nor more than 2%
of its net assets in warrants not listed on either the NYSE or American Stock
Exchange.
If a percentage restriction is met at the time of investment, a later
increase or decrease in the percentage due to a change in the value or
liquidity of portfolio securities or the amount of assets will not be
considered a violation of any of the foregoing restrictions.
OFFICERS AND TRUSTEES
The Board has the responsibility for the overall management of the fund,
including general supervision and review of its investment activities. The
Board, in turn, elects the officers of the fund who are responsible for
administering the fund's day-to-day operations. The affiliations of the
officers and Board members and their principal occupations for the past five
years are shown below. Members of the Board who are considered "interested
persons" of the fund under the 1940 Act are indicated by an asterisk (*).
POSITIONS AND OFFICES PRINCIPAL OCCUPATION
NAME, AGE AND ADDRESS WITH THE TRUST DURING THE PAST FIVE YEARS
- ------------------------------------------------------------------------------
Frank H. Abbott, III (77) Trustee
1045 Sansome Street
San Francisco, CA 94111
President and Director, Abbott Corporation (an investment company); director
or trustee, as the case may be, of 27 of the investment companies in the
Franklin Templeton Group of Funds; and FORMERLY, Director, MotherLode Gold
Mines Consolidated (gold mining) and Vacu-Dry Co. (food processing).
Harris J. Ashton (66) Trustee
191 Clapboard Ridge Road
Greenwich, CT 06830
Director, RBC Holdings, Inc. (a bank holding company) and Bar-S Foods (a meat
packing company); director or trustee, as the case may be, of 49 of the
investment companies in the Franklin Templeton Group of Funds; and FORMERLY,
President, Chief Executive Officer and Chairman of the Board, General Host
Corporation (nursery and craft centers).
* Harmon E. Burns (53) Vice President
777 Mariners Island Blvd. and Trustee
San Mateo, CA 94404
Executive Vice President and Director, Franklin Resources, Inc., Franklin
Templeton Distributors, Inc. and Franklin Templeton Services, Inc.; Executive
Vice President, Franklin Advisers, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case
may be, of most of the other subsidiaries of Franklin Resources, Inc. and of
53 of the investment companies in the Franklin Templeton Group of Funds.
S. Joseph Fortunato (66) Trustee
Park Avenue at Morris County
P.O. Box 1945
Morristown, NJ 07962-1945
Member of the law firm of Pitney, Hardin, Kipp & Szuch; director or trustee,
as the case may be, of 51 of the investment companies in the Franklin
Templeton Group of Funds; and FORMERLY, Director, General Host Corporation
(nursery and craft centers).
Edith E. Holiday (46) Trustee
3239 38th Street, N.W.
Washington, DC 20016
Director, Amerada Hess Corporation (crude oil and natural gas refining)
(1993-present), Hercules Incorporated (chemicals, fibers and resins)
(1993-present), Beverly Enterprises, Inc. (1995-present) and H.J. Heinz
Company (packaged foods and allied products) (1994-present); director or
trustee, as the case may be, of 25 of the investment companies in the
Franklin Templeton Group of Funds; and FORMERLY, Chairman (1995-1997) and
Trustee (1993-1997), National Child Research Center, Assistant to the
President of the United States and Secretary of the Cabinet (1990-1993),
General Counsel to the United States Treasury Department (1989-1990), and
Counselor to the Secretary and Assistant Secretary for Public Affairs and
Public Liaison - United States Treasury Department (1988-1989).
* Charles B. Johnson (65) Chairman of the
777 Mariners Island Blvd. of the Board
San Mateo, CA 94404 and Trustee
President, Chief Executive Officer and Director, Franklin Resources, Inc.;
Chairman of the Board and Director, Franklin Advisers, Inc., Franklin
Advisory Services, Inc., Franklin Investment Advisory Services, Inc. and
Franklin Templeton Distributors, Inc.; Director, Franklin/Templeton Investor
Services, Inc. and Franklin Templeton Services, Inc.; officer and/or director
or trustee, as the case may be, of most of the other subsidiaries of Franklin
Resources, Inc. and of 50 of the investment companies in the Franklin
Templeton Group of Funds; and FORMERLY, Director, General Host Corporation
(nursery and craft centers).
* Rupert H. Johnson, Jr. (58) President
777 Mariners Island Blvd. and Trustee
San Mateo, CA 94404
Executive Vice President and Director, Franklin Resources, Inc. and Franklin
Templeton Distributors, Inc.; President and Director, Franklin Advisers,
Inc.; Senior Vice President and Director, Franklin Advisory Services, Inc.
and Franklin Investment Advisory Services, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case
may be, of most of the other subsidiaries of Franklin Resources, Inc. and of
53 of the investment companies in the Franklin Templeton Group of Funds.
Frank W.T. LaHaye (69) Trustee
20833 Stevens Creek Blvd.
Suite 102
Cupertino, CA 95014
General Partner, Miller & LaHaye, which is the General Partner of Peregrine
Ventures II (venture capital firm); Chairman of the Board and Director,
Quarterdeck Corporation (software firm); Director, Digital Transmission Systems,
Inc. (wireless communications); director or trustee, as the case may be, of 27
of the investment companies in the Franklin Templeton Group of Funds; and
FORMERLY, Director, Fischer Imaging Corporation (medical imaging systems) and
General Partner, Peregrine Associates, which was the General Partner of
Peregrine Ventures (venture capital firm).
Gordon S. Macklin (70) Trustee
8212 Burning Tree Road
Bethesda, MD 20817
Director, Fund American Enterprises Holdings, Inc., MCI Communications
Corporation, MedImmune, Inc. (biotechnology), Spacehab, Inc. (aerospace
services) and Real 3D (software); director or trustee, as the case may be, of
49 of the investment companies in the Franklin Templeton Group of Funds; and
FORMERLY, Chairman, White River Corporation (financial services) and
Hambrecht and Quist Group (investment banking), and President, National
Association of Securities Dealers, Inc.
Martin L. Flanagan (38) Vice President
777 Mariners Island Blvd. and Chief
San Mateo, CA 94404 Financial Officer
Senior Vice President and Chief Financial Officer, Franklin Resources, Inc.;
Executive Vice President and Director, Templeton Worldwide, Inc.; Executive
Vice President, Chief Operating Officer and Director, Templeton Investment
Counsel, Inc.; Executive Vice President and Chief Financial Officer, Franklin
Advisers, Inc.; Chief Financial Officer, Franklin Advisory Services, Inc. and
Franklin Investment Advisory Services, Inc.; President and Director, Franklin
Templeton Services, Inc.; Senior Vice President and Chief Financial Officer,
Franklin/Templeton Investor Services, Inc.; officer and/or director of some
of the other subsidiaries of Franklin Resources, Inc., and officer and/or
director or trustee, as the case may be, of 53 of the investment companies in
the Franklin Templeton Group of Funds.
Deborah R. Gatzek (49) Vice President
777 Mariners Island Blvd. and Secretary
San Mateo, CA 94404
Senior Vice President and General Counsel, Franklin Resources, Inc.; Senior
Vice President, Franklin Templeton Services, Inc. and Franklin Templeton
Distributors, Inc.; Executive Vice President, Franklin Advisers, Inc.; Vice
President, Franklin Advisory Services, Inc.; Vice President, Chief Legal
Officer and Chief Operating Officer, Franklin Investment Advisory Services,
Inc.; and officer of 53 of the investment companies in the Franklin Templeton
Group of Funds.
Charles E. Johnson (42) Vice President
500 East Broward Blvd.
Fort Lauderdale, FL 33394-3091
Senior Vice President and Director, Franklin Resources, Inc.; Senior Vice
President, Franklin Templeton Distributors, Inc.; President and Director,
Templeton Worldwide, Inc.; President, Chief Executive Officer, Chief
Investment Officer and Director, Franklin Institutional Services Corporation;
Chairman and Director, Templeton Investment Counsel, Inc.; Vice President,
Franklin Advisers, Inc.; officer and/or director of some of the other
subsidiaries of Franklin Resources, Inc.; and officer and/or director or
trustee, as the case may be, of 34 of the investment companies in the
Franklin Templeton Group
of Funds.
Diomedes Loo-Tam (59) Treasurer and
777 Mariners Island Blvd. Principal
San Mateo, CA 94404 Accounting Officer
Senior Vice President, Franklin Templeton Services, Inc.; and officer of 32
of the investment companies in the Franklin Templeton Group of Funds.
Edward V. McVey (61) Vice President
777 Mariners Island Blvd.
San Mateo, CA 94404
Senior Vice President and National Sales Manager, Franklin Templeton
Distributors, Inc.; and officer of 28 of the investment companies in the
Franklin Templeton Group of Funds.
The table above shows the officers and Board members who are affiliated with
Distributors and Advisers. As of June 1, 1998, nonaffiliated members of the
Board are paid $1,575 for each of the Trust's eight regularly scheduled Board
meetings plus $1,050 per meeting attended. As shown above, the nonaffiliated
Board members also serve as directors or trustees of other investment
companies in the Franklin Templeton Group of Funds. They may receive fees
from these funds for their services. The fees payable to nonaffiliated Board
members by the Trust are subject to reductions resulting from fee caps
limiting the amount of fees payable to Board members who serve on other
boards within the Franklin Templeton Group of Funds. The following table
provides the total fees paid to nonaffiliated Board members by the Trust and
by other funds in the Franklin Templeton Group of Funds.
TOTAL FEES NUMBER OF BOARDS IN
TOTAL FEES RECEIVED FROM THE THE FRANKLIN TEMPLETON
RECEIVED FROM FRANKLIN TEMPLETON GROUP OF FUNDS ON
NAME THE TRUST* GROUP OF FUNDS** WHICH EACH SERVES***
Frank H. Abbott, III ...$5,400 $165,937 27
Harris J. Ashton ....... 5,100 344,642 49
S. Joseph Fortunato .... 5,100 361,562 51
David W. Garbellano+.... 1,500 91,317 N/A
Edith Holiday++......... 1,200 72,875 25
Frank W.T. LaHaye....... 5,400 141,433 27
Gordon S. Macklin ...... 5,100 337,292 49
+Deceased, September 27, 1997.
++Appointed January 15, 1998.
*For the fiscal year ended April 30, 1998, during which time fees at the rate
of $300 for each of the Trust's eight meetings plus $300 per meeting attended
were in effect.
**For the calendar year ended December 31, 1997.
***We base the number of boards on the number of registered investment
companies in the Franklin Templeton Group of Funds. This number does not
include the total number of series or funds within each investment company
for which the Board members are responsible. The Franklin Templeton Group of
Funds currently includes 54 registered investment companies, with
approximately 170 U.S. based funds or series.
Nonaffiliated members of the Board are reimbursed for expenses incurred in
connection with attending board meetings, paid pro rata by each fund in the
Franklin Templeton Group of Funds for which they serve as director or
trustee. No officer or Board member received any other compensation,
including pension or retirement benefits, directly or indirectly from the
fund or other funds in the Franklin Templeton Group of Funds. Certain
officers or Board members who are shareholders of Resources may be deemed to
receive indirect remuneration by virtue of their participation, if any, in
the fees paid to its subsidiaries.
As of June 2, 1998, the officers and Board members, as a group, owned of
record and beneficially the following shares of the fund: approximately 5,157
Class I shares and 587 Advisor Class shares, or less than 1% of the total
outstanding Class I and Advisor Class shares of the fund. Many of the Board
members also own shares in other funds in the Franklin Templeton Group of
Funds. Charles B. Johnson and Rupert H. Johnson, Jr. are brothers and the
father and uncle, respectively, of Charles E. Johnson.
INVESTMENT MANAGEMENT
AND OTHER SERVICES
INVESTMENT MANAGER AND SERVICES PROVIDED. The fund's investment manager is
Advisers. Advisers provides investment research and portfolio management
services, including the selection of securities for the fund to buy, hold or
sell and the selection of brokers through whom the fund's portfolio
transactions are executed. Advisers' activities are subject to the review and
supervision of the Board to whom Advisers renders periodic reports of the
fund's investment activities. Advisers and its officers, directors and
employees are covered by fidelity insurance for the protection of the fund.
Advisers and its affiliates act as investment manager to numerous other
investment companies and accounts. Advisers may give advice and take action
with respect to any of the other funds it manages, or for its own account,
that may differ from action taken by Advisers on behalf of the fund.
Similarly, with respect to the fund, Advisers is not obligated to recommend,
buy or sell, or to refrain from recommending, buying or selling any security
that Advisers and access persons, as defined by the 1940 Act, may buy or sell
for its or their own account or for the accounts of any other fund. Advisers
is not obligated to refrain from investing in securities held by the fund or
other funds that it manages. Of course, any transactions for the accounts of
Advisers and other access persons will be made in compliance with the fund's
Code of Ethics. Please see "Miscellaneous Information - Summary of Code of
Ethics."
MANAGEMENT FEES. Under its management agreement, the fund pays Advisers a
management fee equal to an annual rate of .625 of 1% of the value of average
daily net assets up to and including $100 million; and .50 of 1% of the value
of average daily net assets over $100 million up to and including $250
million; and .45 of 1% of the value of average daily net assets over $250
million up to and including $10 billion; and .44 of 1% of the value of
average daily net assets over $10 billion, up to and including $12.5 billion;
and .42 of 1% of the value of average daily net assets over $12.5 billion, up
to and including $15 billion; and .40 of 1% of the value of average daily net
assets over $15 billion. The fee is computed at the close of business on the
last business day of each month. Each class pays its proportionate share of
the management fee.
For the fiscal years ended April 30, 1998 and 1997, management fees totaling
$13,566,077 and $3,859,067, respectively, were paid to Advisers. For the
fiscal year ended April 30, 1996, management fees, before any advance waiver,
totaled $1,232,136. Under an agreement by Advisers to limit its fees, the
fund paid management fees totaling $1,174,738 for the same period.
MANAGEMENT AGREEMENT. The management agreement is in effect until April 30,
1999. It may continue in effect for successive annual periods if its
continuance is specifically approved at least annually by a vote of the Board
or by a vote of the holders of a majority of the fund's outstanding voting
securities, and in either event by a majority vote of the Board members who
are not parties to the management agreement or interested persons of any such
party (other than as members of the Board), cast in person at a meeting
called for that purpose. The management agreement may be terminated without
penalty at any time by the Board or by a vote of the holders of a majority of
the fund's outstanding voting securities on 60 days' written notice to the
fund, and will automatically terminate in the event of its assignment, as
defined in the 1940 Act.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services
provides certain administrative services and facilities for the fund. These
include preparing and maintaining books, records, and tax and financial
reports, and monitoring compliance with regulatory requirements. FT Services
is a wholly owned subsidiary of Resources.
Under its administration agreement, Advisers pays FT Services a monthly
administration fee equal to an annual rate of 0.15% of the fund's average
daily net assets up to $200 million, 0.135% of average daily net assets over
$200 million up to $700 million, 0.10% of average daily net assets over $700
million up to $1.2 billion, and 0.075% of average daily net assets over $1.2
billion. During the fiscal year ended April 30, 1998 and the period from
October 1, 1996 through April 30, 1997, administration fees totaling
$2,794,347 and $717,201, respectively, were paid to FT Services. The fee is
paid by Advisers. It is not a separate expense of the fund.
SHAREHOLDER SERVICING AGENT. Investor Services, a wholly owned subsidiary of
Resources, is the fund's shareholder servicing agent and acts as the fund's
transfer agent and dividend-paying agent. Investor Services is compensated on
the basis of a fixed fee per account. The fund may also reimburse Investor
Services for certain out-of-pocket expenses, which may include payments by
Investor Services to entities, including affiliated entities, that provide
sub-shareholder services, recordkeeping and/or transfer agency services to
beneficial owners of the fund. The amount of reimbursements for these
services per benefit plan participant fund account per year may not exceed
the per account fee payable by the fund to Investor Services in connection
with maintaining shareholder accounts.
CUSTODIAN. Bank of New York, Mutual Funds Division, 90 Washington Street, New
York, New York 10286, acts as custodian of the securities and other assets of
the fund. The custodian does not participate in decisions relating to the
purchase and sale of portfolio securities.
AUDITOR. Coopers & Lybrand L.L.P., 333 Market Street, San Francisco,
California 94105, is the fund's independent auditor. During the fiscal year
ended April 30, 1998, the auditor's services consisted of rendering an
opinion on the financial statements of the Trust included in the Trust's
Annual Report to Shareholders for the fiscal year ended April 30, 1998.
HOW DOES THE FUND BUY
SECURITIES FOR ITS PORTFOLIO?
Advisers selects brokers and dealers to execute the fund's portfolio
transactions in accordance with criteria set forth in the management
agreement and any directions that the Board may give.
When placing a portfolio transaction, Advisers seeks to obtain prompt
execution of orders at the most favorable net price. For portfolio
transactions on a securities exchange, the amount of commission paid by the
fund is negotiated between Advisers and the broker executing the transaction.
The determination and evaluation of the reasonableness of the brokerage
commissions paid are based to a large degree on the professional opinions of
the persons responsible for placement and review of the transactions. These
opinions are based on the experience of these individuals in the securities
industry and information available to them about the level of commissions
being paid by other institutional investors of comparable size. Advisers will
ordinarily place orders to buy and sell over-the-counter securities on a
principal rather than agency basis with a principal market maker unless, in
the opinion of Advisers, a better price and execution can otherwise be
obtained. Purchases of portfolio securities from underwriters will include a
commission or concession paid by the issuer to the underwriter, and purchases
from dealers will include a spread between the bid and ask price.
Advisers may pay certain brokers commissions that are higher than those
another broker may charge, if Advisers determines in good faith that the
amount paid is reasonable in relation to the value of the brokerage and
research services it receives. This may be viewed in terms of either the
particular transaction or Advisers' overall responsibilities to client
accounts over which it exercises investment discretion. The services that
brokers may provide to Advisers include, among others, supplying information
about particular companies, markets, countries, or local, regional, national
or transnational economies, statistical data, quotations and other securities
pricing information, and other information that provides lawful and
appropriate assistance to Advisers in carrying out its investment advisory
responsibilities. These services may not always directly benefit the fund.
They must, however, be of value to Advisers in carrying out its overall
responsibilities to its clients.
It is not possible to place a dollar value on the special executions or on
the research services Advisers receives from dealers effecting transactions
in portfolio securities. The allocation of transactions in order to obtain
additional research services permits Advisers to supplement its own research
and analysis activities and to receive the views and information of
individuals and research staffs of other securities firms. As long as it is
lawful and appropriate to do so, Advisers and its affiliates may use this
research and data in their investment advisory capacities with other clients.
If the fund's officers are satisfied that the best execution is obtained, the
sale of fund shares, as well as shares of other funds in the Franklin
Templeton Group of Funds, may also be considered a factor in the selection of
broker-dealers to execute the fund's portfolio transactions.
Because Distributors is a member of the NASD, it may sometimes receive
certain fees when the fund tenders portfolio securities pursuant to a
tender-offer solicitation. As a means of recapturing brokerage for the
benefit of the fund, any portfolio securities tendered by the fund will be
tendered through Distributors if it is legally permissible to do so. In turn,
the next management fee payable to Advisers will be reduced by the amount of
any fees received by Distributors in cash, less any costs and expenses
incurred in connection with the tender.
If purchases or sales of securities of the fund and one or more other
investment companies or clients supervised by Advisers are considered at or
about the same time, transactions in these securities will be allocated among
the several investment companies and clients in a manner deemed equitable to
all by Advisers, taking into account the respective sizes of the funds and
the amount of securities to be purchased or sold. In some cases this
procedure could have a detrimental effect on the price or volume of the
security so far as the fund is concerned. In other cases it is possible that
the ability to participate in volume transactions may improve execution and
reduce transaction costs to the fund.
During the fiscal years ended April 30, 1998, 1997 and 1996, the fund paid
brokerage commissions totaling $14,648,944, $1,155,691 and $570,572,
respectively.
As of April 30, 1998, the fund did not own securities of its regular
broker-dealers.
HOW DO I BUY, SELL AND EXCHANGE SHARES?
ADDITIONAL INFORMATION ON BUYING SHARES
The fund continuously offers its shares through Securities Dealers who have
an agreement with Distributors. Securities Dealers may at times receive the
entire sales charge. A Securities Dealer who receives 90% or more of the
sales charge may be deemed an underwriter under the Securities Act of 1933,
as amended.
Banks and financial institutions that sell shares of the fund may be required
by state law to register as Securities Dealers. Financial institutions or
their affiliated brokers may receive an agency transaction fee in the
percentages indicated in the table under "How Do I Buy Shares? - Purchase
Price of Fund Shares" in the Prospectus.
When you buy shares, if you submit a check or a draft that is returned unpaid
to the fund we may impose a $10 charge against your account for each returned
item.
Under agreements with certain banks in Taiwan, Republic of China, the fund's
shares are available to these banks' trust accounts without a sales charge.
The banks may charge service fees to their customers who participate in the
trusts. A portion of these service fees may be paid to Distributors or one of
its affiliates to help defray expenses of maintaining a service office in
Taiwan, including expenses related to local literature fulfillment and
communication facilities.
Class I shares of the fund may be offered to investors in Taiwan through
securities advisory firms known locally as Securities Investment Consulting
Enterprises. In conformity with local business practices in Taiwan, Class I
shares may be offered with the following schedule of sales charges:
SALES
SIZE OF PURCHASE - U.S. DOLLARS CHARGE
Under $30,000 .................................. 3.0%
$30,000 but less than $50,000 .................. 2.5%
$50,000 but less than $100,000 ................. 2.0%
$100,000 but less than $200,000 ................ 1.5%
$200,000 but less than $400,000 ................ 1.0%
$400,000 or more ............................... 0%
OTHER PAYMENTS TO SECURITIES DEALERS. Distributors may pay the following
commissions, out of its own resources, to Securities Dealers who initiate and
are responsible for purchases of Class I shares of $1 million or more: 1% on
sales of $1 million to
$2 million, plus 0.80% on sales over $2 million to $3 million, plus 0.50% on
sales over $3 million to $50 million, plus 0.25% on sales over $50 million to
$100 million, plus 0.15% on sales over $100 million.
Either Distributors or one of its affiliates may pay the following amounts,
out of its own resources, to Securities Dealers who initiate and are
responsible for purchases of Class I shares by certain retirement plans
without a front-end sales charge, as discussed in the Prospectus: 1% on sales
of $500,000 to $2 million, plus 0.80% on sales over $2 million to $3 million,
plus 0.50% on sales over $3 million to $50 million, plus 0.25% on sales over
$50 million to $100 million, plus 0.15% on sales over $100 million.
Distributors may make these payments in the form of contingent advance
payments, which may be recovered from the Securities Dealer or set off
against other payments due to the dealer if shares are sold within 12 months
of the calendar month of purchase. Other conditions may apply. All terms and
conditions may be imposed by an agreement between Distributors, or one of its
affiliates, and the Securities Dealer.
These breakpoints are reset every 12 months for purposes of additional
purchases.
Distributors and/or its affiliates provide financial support to various
Securities Dealers that sell shares of the Franklin Templeton Group of Funds.
This support is based primarily on the amount of sales of fund shares. The
amount of support may be affected by: total sales; net sales; levels of
redemptions; the proportion of a Securities Dealer's sales and marketing
efforts in the Franklin Templeton Group of Funds; a Securities Dealer's
support of, and participation in, Distributors' marketing programs; a
Securities Dealer's compensation programs for its registered representatives;
and the extent of a Securities Dealer's marketing programs relating to the
Franklin Templeton Group of Funds. Financial support to Securities Dealers
may be made by payments from Distributors' resources, from Distributors'
retention of underwriting concessions and, in the case of funds that have
Rule 12b-1 plans, from payments to Distributors under such plans. In
addition, certain Securities Dealers may receive brokerage commissions
generated by fund portfolio transactions in accordance with the NASD's rules.
Distributors routinely sponsors due diligence meetings for registered
representatives during which they receive updates on various Franklin
Templeton Funds and are afforded the opportunity to speak with portfolio
managers. Invitation to these meetings is not conditioned on selling a
specific number of shares. Those who have shown an interest in the Franklin
Templeton Funds, however, are more likely to be considered. To the extent
permitted by their firm's policies and procedures, registered
representatives' expenses in attending these meetings may be covered by
Distributors.
LETTER OF INTENT. You may qualify for a reduced sales charge when you buy
Class I shares, as described in the Prospectus. At any time within 90 days
after the first investment that you want to qualify for a reduced sales
charge, you may file with the fund a signed shareholder application with the
Letter of Intent section completed. After the Letter is filed, each
additional investment will be entitled to the sales charge applicable to the
level of investment indicated on the Letter. Sales charge reductions based on
purchases in more than one Franklin Templeton Fund will be effective only
after notification to Distributors that the investment qualifies for a
discount. Your holdings in the Franklin Templeton Funds acquired more than 90
days before the Letter is filed will be counted towards completion of the
Letter, but they will not be entitled to a retroactive downward adjustment in
the sales charge. Any redemptions you make during the 13 month period, except
in the case of certain retirement plans, will be subtracted from the amount
of the purchases for purposes of determining whether the terms of the Letter
have been completed. If the Letter is not completed within the 13 month
period, there will be an upward adjustment of the sales charge, depending on
the amount actually purchased (less redemptions) during the period. The
upward adjustment does not apply to certain retirement plans. If you execute
a Letter before a change in the sales charge structure of the fund, you may
complete the Letter at the lower of the new sales charge structure or the
sales charge structure in effect at the time the Letter was filed.
As mentioned in the Prospectus, five percent (5%) of the amount of the total
intended purchase will be reserved in Class I shares of the fund registered
in your name until you fulfill the Letter. This policy of reserving shares
does not apply to certain retirement plans. If the amount of your total
purchases, less redemptions, equals the amount specified under the Letter,
the reserved shares will be deposited to an account in your name or delivered
to you or as you direct. If the amount of your total purchases, less
redemptions, exceeds the amount specified under the Letter and is an amount
that would qualify for a further quantity discount, a retroactive price
adjustment will be made by Distributors and the Securities Dealer through
whom purchases were made pursuant to the Letter (to reflect such further
quantity discount) on purchases made within 90 days before and on those made
after filing the Letter. The resulting difference in Offering Price will be
applied to the purchase of additional shares at the Offering Price applicable
to a single purchase or the dollar amount of the total purchases. If the
amount of your total purchases, less redemptions, is less than the amount
specified under the Letter, you will remit to Distributors an amount equal to
the difference in the dollar amount of sales charge actually paid and the
amount of sales charge that would have applied to the aggregate purchases if
the total of the purchases had been made at a single time. Upon remittance,
the reserved shares held for your account will be deposited to an account in
your name or delivered to you or as you direct. If within 20 days after
written request the difference in sales charge is not paid, the redemption of
an appropriate number of reserved shares to realize the difference will be
made. In the event of a total redemption of the account before fulfillment of
the Letter, the additional sales charge due will be deducted from the
proceeds of the redemption, and the balance will be forwarded to you.
If a Letter is executed on behalf of certain retirement plans, the level and
any reduction in sales charge for these plans will be based on actual plan
participation and the projected investments in the Franklin Templeton Funds
under the Letter. These plans are not subject to the requirement to reserve
5% of the total intended purchase, or to any penalty as a result of the early
termination of a plan, nor are these plans entitled to receive retroactive
adjustments in price for investments made before executing the Letter.
REINVESTMENT DATE. Shares acquired through the reinvestment of dividends will
be purchased at the Net Asset Value determined on the business day following
the dividend record date (sometimes known as the "ex-dividend date"). The
processing date for the reinvestment of dividends may vary and does not
affect the amount or value of the shares acquired.
ADDITIONAL INFORMATION ON EXCHANGING SHARES
If you request the exchange of the total value of your account, declared but
unpaid income dividends and capital gain distributions will be exchanged into
the new fund and will be invested at Net Asset Value. Backup withholding and
information reporting may apply. Information regarding the possible tax
consequences of an exchange is included in the tax section in this SAI and in
the Prospectus.
If a substantial number of shareholders should, within a short period, sell
their shares of the fund under the exchange privilege, the fund might have to
sell portfolio securities it might otherwise hold and incur the additional
costs related to such transactions. On the other hand, increased use of the
exchange privilege may result in periodic large inflows of money. If this
occurs, it is the fund's general policy to initially invest this money in
short-term, interest-bearing money market instruments, unless it is believed
that attractive investment opportunities consistent with the fund's
investment goal exist immediately. This money will then be withdrawn from the
short-term, money market instruments and invested in portfolio securities in
as orderly a manner as is possible when attractive investment opportunities
arise.
The proceeds from the sale of shares of an investment company are generally
not available until the seventh day following the sale. The funds you are
seeking to exchange into may delay issuing shares pursuant to an exchange
until that seventh day. The sale of fund shares to complete an exchange will
be effected at Net Asset Value at the close of business on the day the
request for exchange is received in proper form. Please see "May I Exchange
Shares for Shares of Another Fund?" in the Prospectus.
ADDITIONAL INFORMATION ON SELLING SHARES
SYSTEMATIC WITHDRAWAL PLAN. There are no service charges for establishing or
maintaining a systematic withdrawal plan. Payments under the plan will be
made from the redemption of an equivalent amount of shares in your account,
generally on the 25th day of the month in which a payment is scheduled. If
the 25th falls on a weekend or holiday, we will process the redemption on the
next business day.
Redeeming shares through a systematic withdrawal plan may reduce or exhaust
the shares in your account if payments exceed distributions received from the
fund. This is especially likely to occur if there is a market decline. If a
withdrawal amount exceeds the value of your account, your account will be
closed and the remaining balance in your account will be sent to you. Because
the amount withdrawn under the plan may be more than your actual yield or
income, part of the payment may be a return of your investment.
The fund may discontinue a systematic withdrawal plan by notifying you in
writing and will automatically discontinue a systematic withdrawal plan if
all shares in your account are withdrawn or if the fund receives notification
of the shareholder's death
or incapacity.
THROUGH YOUR SECURITIES DEALER. If you sell shares through your Securities
Dealer, it is your dealer's responsibility to transmit the order to the fund
in a timely fashion. Any loss to you resulting from your dealer's failure to
do so must be settled between you and your Securities Dealer.
REDEMPTIONS IN KIND. The fund has committed itself to pay in cash (by check)
all requests for redemption by any shareholder of record, limited in amount,
however, during any 90-day period to the lesser of $250,000 or 1% of the
value of the fund's net assets at the beginning of the 90-day period. This
commitment is irrevocable without the prior approval of the SEC. In the case
of redemption requests in excess of these amounts, the Board reserves the
right to make payments in whole or in part in securities or other assets of
the fund, in case of an emergency, or if the payment of such a redemption in
cash would be detrimental to the existing shareholders of the fund. In these
circumstances, the securities distributed would be valued at the price used
to compute the fund's net assets and you may incur brokerage fees in
converting the securities to cash. The fund does not intend to redeem
illiquid securities in kind. If this happens, however, you may not be able to
recover your investment in a timely manner.
GENERAL INFORMATION
If dividend checks are returned to the fund marked "unable to forward" by the
postal service, we will consider this a request by you to change your
dividend option to reinvest all distributions. The proceeds will be
reinvested in additional shares at Net Asset Value until we receive new
instructions.
Distribution or redemption checks sent to you do not earn interest or any
other income during the time the checks remain uncashed. Neither the fund nor
its affiliates will be liable for any loss caused by your failure to cash
such checks. The fund is not responsible for tracking down uncashed checks,
unless a check is returned as undeliverable.
In most cases, if mail is returned as undeliverable we are required to take
certain steps to try to find you free of charge. If these attempts are
unsuccessful, however, we may deduct the costs of any additional efforts to
find you from your account. These costs may include a percentage of the
account when a search company charges a percentage fee in exchange for its
location services.
All checks, drafts, wires and other payment mediums used to buy or sell
shares of the fund must be denominated in U.S. dollars. We may, in our sole
discretion, either (a) reject any order to buy or sell shares denominated in
any other currency or (b) honor the transaction or make adjustments to your
account for the transaction as of a date and with a foreign currency exchange
factor determined by the drawee bank.
SPECIAL SERVICES. Investor Services may pay certain financial institutions
that maintain omnibus accounts with the fund on behalf of numerous beneficial
owners for recordkeeping operations performed with respect to such owners.
For each beneficial owner in the omnibus account, the fund may reimburse
Investor Services an amount not to exceed the per account fee that the fund
normally pays Investor Services. These financial institutions may also charge
a fee for their services directly to their clients.
Certain shareholder servicing agents may be authorized to accept your
transaction request.
HOW ARE FUND SHARES VALUED?
We calculate the Net Asset Value per share as of the close of the NYSE,
normally 1:00 p.m. Pacific time, each day that the NYSE is open for trading.
As of the date of this SAI, the fund is informed that the NYSE observes the
following holidays: New Year's Day, Martin Luther King Jr. Day, Presidents'
Day, Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day
and Christmas Day.
For the purpose of determining the aggregate net assets of the fund, cash and
receivables are valued at their realizable amounts. Interest is recorded as
accrued and dividends are recorded on the ex-dividend date. Portfolio
securities listed on a securities exchange or on the NASDAQ National Market
System for which market quotations are readily available are valued at the
last quoted sale price of the day or, if there is no such reported sale,
within the range of the most recent quoted bid and ask prices.
Over-the-counter portfolio securities are valued within the range of the most
recent quoted bid and ask prices. Portfolio securities that are traded both
in the over-the-counter market and on a stock exchange are valued according
to the broadest and most representative market as determined by Advisers.
Portfolio securities underlying actively traded call options are valued at
their market price as determined above. The current market value of any
option held by the fund is its last sale price on the relevant exchange
before the time when assets are valued. Lacking any sales that day or if the
last sale price is outside the bid and ask prices, options are valued within
the range of the current closing bid and ask prices if the valuation is
believed to fairly reflect the contract's market value.
The value of a foreign security is determined as of the close of trading on
the foreign exchange on which it is traded or as of the close of trading on
the NYSE, if that is earlier. The value is then converted into its U.S.
dollar equivalent at the foreign exchange rate in effect at noon, New York
time, on the day the value of the foreign security is determined. If no sale
is reported at that time, the foreign security is valued within the range of
the most recent quoted bid and ask prices. Occasionally events that affect
the values of foreign securities and foreign exchange rates may occur between
the times at which they are determined and the close of the exchange and
will, therefore, not be reflected in the computation of the Net Asset Value
of each class. If events materially affecting the values of these foreign
securities occur during this period, the securities will be valued in
accordance with procedures established by the Board.
Generally, trading in corporate bonds, U.S. government securities and money
market instruments is substantially completed each day at various times
before the close of the NYSE. The value of these securities used in computing
the Net Asset Value of each class is determined as of such times.
Occasionally, events affecting the values of these securities may occur
between the times at which they are determined and the close of the NYSE that
will not be reflected in the computation of the Net Asset Value. If events
materially affecting the values of these securities occur during this period,
the securities will be valued at their fair value as determined in good faith
by the Board.
Other securities for which market quotations are readily available are valued
at the current market price, which may be obtained from a pricing service,
based on a variety of factors including recent trades, institutional size
trading in similar types of securities (considering yield, risk and maturity)
and/or developments related to specific issues. Securities and other assets
for which market prices are not readily available are valued at fair value as
determined following procedures approved by the Board. With the approval of
the Board, the fund may use a pricing service, bank or Securities Dealer to
perform any of the above described functions.
ADDITIONAL INFORMATION ON
DISTRIBUTIONS AND TAXES
DISTRIBUTIONS
DISTRIBUTIONS OF NET INVESTMENT INCOME. The fund receives income generally in
the form of dividends and other income derived from its investments. This
income, less expenses incurred in the operation of the fund, constitute its
net investment income from which dividends may be paid to you. Any
distributions by the fund from such income will be taxable to you as ordinary
income, whether you take them in cash or in additional shares.
DISTRIBUTIONS OF CAPITAL GAINS. The fund may derive capital gains and losses
in connection with sales or other dispositions of its portfolio securities.
Distributions derived from the excess of net short-term capital gain over net
long-term capital loss will be taxable to you as ordinary income.
Distributions paid from long-term capital gains realized by the fund will be
taxable to you as long-term capital gain, regardless of how long you have
held your shares in the fund. Any net short-term or long-term capital gains
realized by the fund (net of any capital loss carryovers) generally will be
distributed once each year, and may be distributed more frequently, if
necessary, in order to reduce or eliminate federal excise or income taxes on
the fund.
Gains from securities sold by a fund that are held for more than one year
will be taxable at a maximum rate of 20% for individual investors in the 28%
or higher federal income tax brackets; or at a maximum rate of 10% for
individual investors in the 15% federal income tax bracket. Gains from
securities sold by the fund prior to January 1, 1998 are taxable at different
rates depending on the length of time the fund held such assets.
For "qualified 5-year gains," the maximum capital gain rate is 18% for
individuals in the 28% or higher federal income tax brackets and 8% for
individuals in the 15% federal income tax bracket. For individuals in the 15%
bracket, qualified 5-year gains are net gains on securities held for more
than 5 years which are sold after December 31, 2000. For individuals who are
subject to tax at higher rates, qualified 5-year gains are net gains on
securities which are purchased after December 31, 2000 and are held for more
than 5 years. Taxpayers subject to tax at the higher rates may also make an
election for shares held on January 1, 2001 to recognize gain on their shares
in order to qualify such shares as qualified 5-year property.
Additional information on reporting capital gains distributions on your
personal income tax returns is available in Franklin Templeton's Tax
Information Handbook. Please call Fund Information to request a copy.
Questions concerning each investor's personal tax reporting should be
addressed to the investor's personal tax advisor.
CERTAIN DISTRIBUTIONS PAID IN JANUARY. Distributions which are declared in
October, November or December and paid to you in January of the following
year, will be treated for tax purposes as if they had been received by you on
December 31 of the year in which they were declared. The fund will report
this income to you on your Form 1099-DIV for the year in which these
distributions were declared.
INFORMATION ON THE TAX CHARACTER OF DISTRIBUTIONS. The fund will inform you
of the amount and character of your distributions at the time they are paid,
and will advise you of the tax status for federal income tax purposes of such
distributions shortly after the close of each calendar year. If you have not
held fund shares for a full year, you may have designated and distributed to
you as ordinary income or capital gain a percentage of income that is not
equal to the actual amount of such income earned during the period of your
investment in the fund.
TAXES
ELECTION TO BE TAXED AS A REGULATED INVESTMENT COMPANY. The fund has elected
to be treated as a regulated investment company under Subchapter M of the
Code, has qualified as such for its most recent fiscal year, and intends to
so qualify during the current fiscal year. The Board reserves the right not
to maintain the qualification of the fund as a regulated investment company
if it determines such course of action to be beneficial to you. In such case,
the fund will be subject to federal, and possibly state, corporate taxes on
its taxable income and gains, and distributions to you will be taxed as
ordinary dividend income to the extent of the fund's available earnings and
profits.
In order to qualify as a regulated investment company for tax purposes, the
fund must meet certain specific requirements, including:
o The fund must maintain a diversified portfolio of securities, wherein no
security (other than U.S. government securities and securities of other
regulated investment companies) can exceed 25% of the fund's total assets,
and, with respect to 50% of the fund's total assets, no investment
(other than cash and cash items, U.S. government securities and securities
of other regulated investment companies) can exceed 5% of the fund's total
assets or 10% of the outstanding voting securities of the issuer;
o The fund must derive at least 90% of its gross income from dividends,
interest, payments with respect to securities loans, and gains from the
sale or disposition of stock, securities or foreign currencies, or other
income derived with respect to its business of investing in such stock,
securities, or currencies; and
o The fund must distribute to its shareholders at least 90% of its investment
company taxable income (i.e., net investment income plus net short-term
capital gains) and net tax-exempt income for each of its fiscal years.
EXCISE TAX DISTRIBUTION REQUIREMENTS. The Code requires the fund to
distribute at least 98% of its taxable ordinary income earned during the
calendar year and 98% of its capital gain net income earned during the twelve
month period ending October 31 (in addition to undistributed amounts from the
prior year) to you by December 31 of each year in order to avoid federal
excise taxes. The fund intends to declare and pay sufficient dividends in
December (or in January that are treated by you as received in December) but
does not guarantee and can give no assurances that its distributions will be
sufficient to eliminate all such taxes.
REDEMPTION OF FUND SHARES. Redemptions and exchanges of fund shares are
taxable transactions for federal and state income tax purposes. The tax law
requires that you recognize a gain or loss in an amount equal to the
difference between your tax basis and the amount you received in exchange for
your shares, subject to the rules described below. If you hold your shares as
a capital asset, the gain or loss that you realize will be capital gain or
loss, and will be long-term for federal income tax purposes if you have held
your shares for more than one year at the time of redemption or exchange. Any
loss incurred on the redemption or exchange of shares held for six months or
less will be treated as a long-term capital loss to the extent of any
long-term capital gains distributed to you by the fund on those shares.
All or a portion of any loss that you realize upon the redemption of your
fund shares will be disallowed to the extent that you purchase other shares
in the fund (through reinvestment of dividends or otherwise) within 30 days
before or after your share redemption. Any loss disallowed under these rules
will be added to your tax basis in the new shares you purchase.
DEFERRAL OF BASIS. All or a portion of the sales charge that you paid for
your shares in the fund will be excluded from your tax basis in any of the
shares sold within 90 days of their purchase (for the purpose of determining
gain or loss upon the sale of such shares) if you reinvest the sales proceeds
in the fund or in another of the Franklin Templeton Funds, and the sales
charge that would otherwise apply to your reinvestment is reduced or
eliminated. The portion of the sales charge excluded from your tax basis in
the shares sold will equal the amount that the sales charge is reduced on
your reinvestment. Any portion of the sales charge excluded from your tax
basis in the shares sold will be added to the tax basis of the shares you
acquire from your reinvestment.
U.S. GOVERNMENT OBLIGATIONS. Many states grant tax-free status to dividends
paid to you from interest earned on direct obligations of the U.S.
government, subject in some states to minimum investment requirements that
must be met by the fund. Investments in GNMA/FNMA securities, bankers'
acceptances, commercial paper and repurchase agreements collateralized by
U.S. government securities do not generally qualify for tax-free treatment.
At the end of each calendar year, the fund will provide you with the
percentage of any dividends paid that may qualify for tax-free treatment on
your personal income tax return. You should consult with your own tax advisor
to determine the application of your state and local laws to these
distributions. Because the rules on exclusion of this income are different
for corporations, corporate shareholders should consult with their corporate
tax advisors about whether any of their distributions may be exempt from
corporate income or franchise taxes.
DIVIDENDS-RECEIVED DEDUCTION FOR CORPORATIONS. As a corporate shareholder,
you should note that only a small percentage of the dividends paid by the
fund for the most recent fiscal year qualified for the dividends-received
deduction. You will be permitted in some circumstances to deduct these
qualified dividends, thereby reducing the tax that you would otherwise be
required to pay on these dividends. The dividends-received deduction will be
available only with respect to dividends designated by the fund as eligible
for such treatment. Dividends so designated by the fund must be attributable
to dividends earned by the fund from U.S. corporations that were not
debt-financed.
INVESTMENT IN COMPLEX SECURITIES. The fund's investment in options, futures
contracts and forward contracts, including transactions involving actual or
deemed short sales or foreign exchange gains or losses are subject to many
complex and special tax rules. Over-the-counter options on debt securities
and equity options, including options on stock and on narrow-based stock
indexes, will be subject to tax under section 1234 of the Code, generally
producing a long-term or short-term capital gain or loss upon exercise,
lapse, or closing out of the option or sale of the underlying stock or
security. Certain other options, futures and forward contracts entered into
by the fund are generally governed by section 1256 of the Code. These
"section 1256" positions generally include listed options on debt securities,
options on broad-based stock indexes, options on securities indexes, options
on futures contracts, regulated futures contracts and certain foreign
currency contracts and options thereon.
Absent a tax election to the contrary, each such section 1256 position held
by the fund will be marked-to-market (i.e., treated as if it were sold for
fair market value) on the last business day of the fund's fiscal year (and on
other dates as prescribed by the Code), and all gain or loss associated with
fiscal year transactions and mark-to-market positions at fiscal year end
(except certain currency gain or loss covered by section 988 of the Code)
will generally be treated as 60% long-term capital gain or loss and 40%
short-term capital gain or loss. Even though marked-to-market, gains and
losses realized on foreign currency and foreign security investments will
generally be treated as ordinary income. The effect of section 1256
mark-to-market rules may be to accelerate income or to convert what otherwise
would have been long-term capital gains into short-term capital gains or
short-term capital losses into long-term capital losses within the fund. The
acceleration of income on section 1256 positions may require the fund to
accrue taxable income without the corresponding receipt of cash. In order to
generate cash to satisfy the distribution requirements of the Code, the fund
may be required to dispose of portfolio securities that it otherwise would
have continued to hold or to use cash flows from other sources such as the
sale of fund shares. In these ways, any or all of these rules may affect the
amount, character and timing of income distributed to you by the fund.
When the fund holds an option or contract which substantially diminishes the
fund's risk of loss with respect to another position of the fund (as might
occur in some hedging transactions), this combination of positions could be
treated as a "straddle" for tax purposes, possibly resulting in deferral of
losses, adjustments in the holding periods and conversion of short-term
capital losses into long-term capital losses. The fund may make certain tax
elections for mixed straddles (i.e., straddles comprised of at least one
section 1256 position and at least one non-section 1256 position) which may
reduce or eliminate the operation of these straddle rules.
When a fund enters into "constructive sale transactions," the fund must
recognize gain (but not loss) on any constructive sale of an appreciated
financial position in stock, a partnership interest or certain debt
instruments. The fund will generally be treated as making a constructive sale
when it: (i) enters into a short sale on the same property, (ii) enters into
an offsetting notional principal contract, or (iii) enters into a futures or
forward contract to deliver the same or substantially similar property. Other
transactions (including certain financial instruments called collars) will be
treated as constructive sales as provided in Treasury regulations to be
published. There are also certain exceptions that apply for transactions that
are closed before the end of the 30th day after the close of the taxable year.
Distributions paid to you by the fund of ordinary income and short-term
capital gains arising from the fund's investments, including investments in
options, forwards, and futures contracts, will be taxable to you as ordinary
income. The fund will monitor its transactions in such options and contracts
and may make certain other tax elections in order to mitigate the effect of
the above rules.
INVESTMENTS IN FOREIGN CURRENCIES AND FOREIGN SECURITIES. The fund is
authorized to invest in foreign currency denominated securities. Such
investments, if made, will have the following additional tax consequences:
Under the Code, gains or losses attributable to fluctuations in foreign
currency exchange rates which occur between the time the fund accrues income
(including dividends), or accrues expenses which are denominated in a foreign
currency, and the time the fund actually collects such income or pays such
expenses generally are treated as ordinary income or loss. Similarly, on the
disposition of debt securities denominated in a foreign currency and on the
disposition of certain options, futures, forward contracts, gain or loss
attributable to fluctuations in the value of foreign currency between the
date of acquisition of the security or contract and the date of its
disposition are also treated as ordinary gain or loss. These gains or losses,
referred to under the Code as "section 988" gains or losses, may increase or
decrease the amount of the fund's net investment company taxable income,
which, in turn, will affect the amount of income to be distributed to you by
the fund.
If the fund's section 988 losses exceed the fund's other net investment
company taxable income during a taxable year, the fund generally will not be
able to make ordinary dividend distributions to you for that year, or
distributions made before the losses were realized will be recharacterized as
return of capital distributions for federal income tax purposes, rather than
as an ordinary dividend or capital gain distribution. If a distribution is
treated as a return of capital, your tax basis in your fund shares will be
reduced by a like amount (to the extent of such basis), and any excess of the
distribution over your tax basis in your fund shares will be treated as
capital gain to you.
INVESTMENT IN PASSIVE FOREIGN INVESTMENT COMPANY SECURITIES. The fund may
invest in shares of foreign corporation which may be classified under the
Code as passive foreign investment companies ("PFICs"). In general, a foreign
corporation is classified as a PFIC if at least one-half of its assets
constitute investment-type assets or 75% or more of its gross income is
investment-type income.
If the fund receives an "excess distribution" with respect to PFIC stock, the
fund itself may be subject to U.S. federal income tax on a portion of the
distribution, whether or not the corresponding income is distributed by the
fund to you. In general, under the PFIC rules, an excess distribution is
treated as having been realized ratably over the period during which the fund
held the PFIC shares. The fund itself will be subject to tax on the portion,
if any, of an excess distribution that is so allocated to prior fund taxable
years, and an interest factor will be added to the tax, as if the tax had
been payable in such prior taxable years. In this case, you would not be
permitted to claim a credit on your own tax return for the tax paid by the
fund. Certain distributions from a PFIC as well as gain from the sale of PFIC
shares are treated as excess distributions. Excess distributions are
characterized as ordinary income even though, absent application of the PFIC
rules, certain excess distributions might have been classified as capital
gain. This may have the effect of increasing fund distributions to you that
are treated as ordinary dividends rather than long-term capital gain
dividends.
The fund may be eligible to elect alternative tax treatment with respect to
PFIC shares. Under an election that currently is available in some
circumstances, the fund generally would be required to include in its gross
income its share of the earnings of a PFIC on a current basis, regardless of
whether distributions are received from the PFIC during such period. If this
election were made, the special rules, discussed above, relating to the
taxation of excess distributions, would not apply. In addition, under another
election that involves marking-to-market the fund's PFIC shares at the end of
each taxable year (and on certain other dates as prescribed in the Code),
unrealized gains would be treated as though they were realized. The fund
would also be allowed an ordinary deduction for the excess, if any, of the
adjusted basis of its investment in the PFIC stock over its fair market value
at the end of the taxable year. This deduction would be limited to the amount
of any net mark-to-market gains previously included with respect to that
particular PFIC security. If the fund were to make this second PFIC election,
tax at the fund level under the PFIC rules would generally be eliminated.
The application of the PFIC rules may affect, among other things, the amount
of tax payable by the fund (if any), the amounts distributable to you by the
fund, the time at which these distributions must be made, and whether these
distributions will be classified as ordinary income or capital gain
distributions to you.
You should be aware that it is not always possible at the time shares of a
foreign corporation are acquired to ascertain that the foreign corporation is
a PFIC, and that there is always a possibility that a foreign corporation
will become a PFIC after the fund acquires shares in that corporation. While
the fund will generally seek to avoid investing in PFIC shares to avoid the
tax consequences detailed above, there are no guarantees that it will do so
and it reserves the right to make such investments as a matter of its
fundamental investment policy.
CONVERSION TRANSACTIONS. Gains realized by a fund from transactions that are
deemed to be "conversion transactions" under the Code, and that would
otherwise produce capital gain may be recharacterized as ordinary income to
the extent that such gain does not exceed an amount defined as the
"applicable imputed income amount." A conversion transaction is any
transaction in which substantially all of the fund's expected return is
attributable to the time value of the fund's net investment in such
transaction, and any one of the following criteria are met:
1) there is an acquisition of property with a substantially contemporaneous
agreement to sell the same or substantially identical property in the
future;
2) the transaction is an applicable straddle;
3) the transaction was marketed or sold to the fund on the basis that it
would have the economic characteristics of a loan but would be taxed as
capital gain; or
4) the transaction is specified in Treasury regulations to be promulgated in
the future.
The applicable imputed income amount, which represents the deemed return on
the conversion transaction based upon the time value of money, is computed
using a yield equal to 120 percent of
the applicable federal rate, reduced by any prior recharacterizations under
this provision or the provisions of Section 263(g) of the Code dealing with
capitalized carrying costs.
STRIPPED PREFERRED STOCK. Occasionally, the fund may purchase "stripped
preferred stock" that is subject to special tax treatment. Stripped preferred
stock is defined as certain preferred stock issues where ownership of the
stock has been separated from the right to receive dividends that have not
yet become payable. The stock must have a fixed redemption price, must not
participate substantially in the growth of the issuer, and must be limited
and preferred as to dividends. The difference between the redemption price
and purchase price is taken into fund income over the term of the instrument
as if it were original issue discount. The amount that must be included in
each period generally depends on the original yield to maturity, adjusted for
any prepayments of principal.
DEFAULTED OBLIGATIONS. The fund may be required to accrue income on defaulted
obligations and to distribute such income to you even though it is not
currently receiving interest or principal payments on such obligations. In
order to generate cash to satisfy these distribution requirements, the fund
may be required to dispose of portfolio securities that it otherwise would
have continued to hold or to use cash flows from other sources such as the
sale of fund shares.
THE FUND'S UNDERWRITER
Pursuant to an underwriting agreement, Distributors acts as principal
underwriter in a continuous public offering of the fund's shares. The
underwriting agreement will continue in effect for successive annual periods
if its continuance is specifically approved at least annually by a vote of
the Board or by a vote of the holders of a majority of the fund's outstanding
voting securities, and in either event by a majority vote of the Board
members who are not parties to the underwriting agreement or interested
persons of any such party (other than as members of the Board), cast in
person at a meeting called for that purpose. The underwriting agreement
terminates automatically in the event of its assignment and may be terminated
by either party on 90 days' written notice.
Distributors pays the expenses of the distribution of fund shares, including
advertising expenses and the costs of printing sales material and
prospectuses used to offer shares to the public. The fund pays the expenses
of preparing and printing amendments to its registration statements and
prospectuses (other than those necessitated by the activities of
Distributors) and of sending prospectuses to existing shareholders.
In connection with the offering of the fund's shares, aggregate underwriting
commissions for the fiscal years ended April 30, 1998, 1997 and 1996, were
$30,947,759, $11,056,311, and $5,378,559, respectively. After allowances to
dealers, Distributors retained $2,943,926, $1,097,126, and $585,366 in net
underwriting discounts and commissions and received $64,163, $33,425 and
$11,535 in connection with redemptions or repurchases of shares for the
respective years. Distributors may be entitled to reimbursement under the
Rule 12b-1 plan for each class, as discussed below. Except as noted,
Distributors received no other compensation from the fund for acting as
underwriter.
THE RULE 12B-1 PLANS
Class I and Class II have separate distribution plans or "Rule 12b-1 plans"
that were adopted pursuant to Rule 12b-1 of the 1940 Act.
THE CLASS I PLAN. Under the Class I plan, the fund may pay up to a maximum of
0.25% per year of Class I's average daily net assets, payable quarterly, for
expenses incurred in the promotion and distribution of Class I shares.
THE CLASS II PLAN. Under the Class II plan, the fund pays Distributors up to
0.75% per year of Class II's average daily net assets, payable quarterly, for
distribution and related expenses. These fees may be used to compensate
Distributors or others for providing distribution and related services and
bearing certain Class II expenses. All distribution expenses over this amount
will be borne by those who have incurred them without reimbursement by the
fund.
Under the Class II plan, the fund also pays an additional 0.25% per year of
Class II's average daily net assets, payable quarterly, as a servicing fee.
THE CLASS I AND CLASS II PLANS. In addition to the payments that Distributors
or others are entitled to under each plan, each plan also provides that to
the extent the fund, Advisers or Distributors or other parties on behalf of
the fund, Advisers or Distributors make payments that are deemed to be for
the financing of any activity primarily intended to result in the sale of
shares of each class within the context of Rule 12b-1 under the 1940 Act,
then such payments shall be deemed to have been made pursuant to the plan.
The terms and provisions of each plan relating to required reports, term, and
approval are consistent with Rule 12b-1.
In no event shall the aggregate asset-based sales charges, which include
payments made under each plan, plus any other payments deemed to be made
pursuant to a plan, exceed the amount permitted to be paid under the rules of
the NASD.
To the extent fees are for distribution or marketing functions, as
distinguished from administrative servicing or agency transactions, certain
banks will not be entitled to participate in the plans as a result of
applicable federal law prohibiting certain banks from engaging in the
distribution of mutual fund shares. These banking institutions, however, are
permitted to receive fees under the plans for administrative servicing or for
agency transactions. If you are a customer of a bank that is prohibited from
providing these services, you would be permitted to remain a shareholder of
the fund, and alternate means for continuing the servicing would be sought.
In this event, changes in the services provided might occur and you might no
longer be able to avail yourself of any automatic investment or other
services then being provided by the bank. It is not expected that you would
suffer any adverse financial consequences as a result of any of these changes.
Each plan has been approved in accordance with the provisions of Rule 12b-1.
The plans are renewable annually by a vote of the Board, including a majority
vote of the Board members who are not interested persons of the fund and who
have no direct or indirect financial interest in the operation of the plans,
cast in person at a meeting called for that purpose. It is also required that
the selection and nomination of such Board members be done by the
non-interested members of the Board. The plans and any related agreement may
be terminated at any time, without penalty, by vote of a majority of the
non-interested Board members on not more than 60 days' written notice, by
Distributors on not more than 60 days' written notice, by any act that
constitutes an assignment of the management agreement with Advisers or by
vote of a majority of the outstanding shares of the class. The Class I plan
may also be terminated by any act that constitutes an assignment of the
underwriting agreement with Distributors. Distributors or any dealer or other
firm may also terminate their respective distribution or service agreement at
any time upon written notice.
The plans and any related agreements may not be amended to increase
materially the amount to be spent for distribution expenses without approval
by a majority of the outstanding shares of the class, and all material
amendments to the plans or any related agreements shall be approved by a vote
of the non-interested members of the Board, cast in person at a meeting
called for the purpose of voting on any such amendment.
Distributors is required to report in writing to the Board at least quarterly
on the amounts and purpose of any payment made under the plans and any
related agreements, as well as to furnish the Board with such other
information as may reasonably be requested in order to enable the Board to
make an informed determination of whether the plans should be continued.
For the fiscal year ended April 30, 1998, Distributors had eligible
expenditures of $6,003,468 and $5,828,027 for advertising, printing, and
payments to underwriters and broker-dealers pursuant to the Class I and Class
II plans, respectively, of which the fund paid Distributors $4,581,869 and
$3,025,428 under the Class I and Class II plans.
HOW DOES THE FUND MEASURE PERFORMANCE?
Performance quotations are subject to SEC rules. These rules require the use
of standardized performance quotations or, alternatively, that every
non-standardized performance quotation furnished by the fund be accompanied
by certain standardized performance information computed as required by the
SEC. Average annual total return quotations used by the fund are based on the
standardized methods of computing performance mandated by the SEC. If a Rule
12b-1 plan is adopted, performance figures reflect fees from the date of the
plan's implementation. An explanation of these and other methods used by the
fund to compute or express performance follows. Regardless of the method
used, past performance does not guarantee future results, and is an
indication of the return to shareholders only for the limited historical
period used.
TOTAL RETURN
AVERAGE ANNUAL TOTAL RETURN. Average annual total return is determined by
finding the average annual rates of return over the periods indicated below
that would equate an initial hypothetical $1,000 investment to its ending
redeemable value. The calculation assumes the maximum front-end sales charge
is deducted from the initial $1,000 purchase, and income dividends and
capital gain distributions are reinvested at Net Asset Value. The quotation
assumes the account was completely redeemed at the end of each period and the
deduction of all applicable charges and fees. If a change is made to the
sales charge structure, historical performance information will be restated
to reflect the maximum front-end sales charge currently in effect.
The average annual total return for Class I for the one- and five-year
periods ended April 30, 1998 and for the period from inception (February 14,
1992) through April 30, 1998, was 34.91%, 26.16% and 21.18%, respectively.
The average annual total return for Class II for the one-year period ended
April 30, 1998 and for the period from inception (October 2, 1995) through
April 30, 1998, was 39.66% and 21.24%, respectively.
These figures were calculated according to the SEC formula:
n
P(1+T) = 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 each period at the end of each period
CUMULATIVE TOTAL RETURN. Like average annual total return, cumulative total
return assumes the maximum front-end sales charge is deducted from the
initial $1,000 purchase, and income dividends and capital gain distributions
are reinvested at Net Asset Value. Cumulative total return, however, is based
on the actual return for a specified period rather than on the average return
over the periods indicated above. The cumulative total return for Class I for
the one- and five-year periods ended April 30, 1998 and for the period from
inception (February 14, 1992) through April 30, 1998, was 34.91%, 219.60% and
229.52%, respectively. The cumulative total return for Class II for the
one-year period ended April 30, 1998, and for the period from inception
(October 2, 1995) through April 30, 1998, was 39.66% and 64.26%, respectively.
VOLATILITY
Occasionally statistics may be used to show the fund's volatility or risk.
Measures of volatility or risk are generally used to compare the fund's Net
Asset Value or performance to a market index. One measure of volatility is
beta. Beta is the volatility of a fund relative to the total market, as
represented by an index considered representative of the types of securities
in which the fund invests. A beta of more than 1.00 indicates volatility
greater than the market and a beta of less than 1.00 indicates volatility
less than the market. Another measure of volatility or risk is standard
deviation. Standard deviation is used to measure variability of Net Asset
Value or total return around an average over a specified period of time. The
idea is that greater volatility means greater risk undertaken in achieving
performance.
OTHER PERFORMANCE QUOTATIONS
The fund may also quote the performance of shares without a sales charge.
Sales literature and advertising may quote a current distribution rate,
yield, cumulative total return, average annual total return and other
measures of performance as described elsewhere in this SAI with the
substitution of Net Asset Value for the public Offering Price.
Sales literature referring to the use of the fund as a potential investment
for Individual Retirement Accounts (IRAs), Business Retirement Plans, and
other tax-advantaged retirement plans may quote a total return based upon
compounding of dividends on which it is presumed no federal income tax
applies.
The fund may include in its advertising or sales material information
relating to investment goals and performance results of funds belonging to
the Franklin Templeton Group of Funds. Resources is the parent company of the
advisors and underwriter of the Franklin Templeton Group of Funds.
COMPARISONS
To help you better evaluate how an investment in the fund may satisfy your
investment goal, advertisements and other materials about the fund may
discuss certain measures of fund performance as reported by various financial
publications. Materials may also compare performance (as calculated above) to
performance as reported by other investments, indices, and averages. These
comparisons may include, but are not limited to, the following examples:
a) Dow Jones Composite Average or its component averages - an unmanaged index
composed of 30 blue-chip industrial corporation stocks (Dow Jones(R) Industrial
Average), 15 utilities company stocks (Dow Jones Utilities Average), and 20
transportation company stocks. Comparisons of performance assume reinvestment
of dividends.
b) Standard & Poor's(R) 500 Stock Index or its component indices - an unmanaged
index composed of 400 industrial stocks, 40 financial stocks, 40 utilities
stocks, and 20 transportation stocks. Comparisons of performance assume
reinvestment of dividends.
c) The New York Stock Exchange composite or component indices - an unmanaged
index of all industrial, utilities, transportation, and finance stocks listed
on the NYSE.
d) Wilshire 5000 Equity Index - represents the return on the market value of
all common equity securities for which daily pricing is available.
Comparisons of performance assume reinvestment of dividends.
e) Lipper - Mutual Fund Performance Analysis and Lipper - Fixed Income Fund
Performance Analysis - measure total return and average current yield for the
mutual fund industry and rank individual mutual fund performance over
specified time periods, assuming reinvestment of all distributions, exclusive
of any applicable sales charges.
f) CDA Mutual Fund Report, published by CDA Investment Technologies, Inc. -
analyzes price, current yield, risk, total return, and average rate of return
(average annual compounded growth rate) over specified time periods for the
mutual fund industry.
g) Mutual Fund Source Book, published by Morningstar, Inc. - analyzes price,
yield, risk, and total return for mutual funds.
h) Financial publications: THE WALL STREET JOURNAL, AND BUSINESS WEEK,
CHANGING TIMES, FINANCIAL WORLD, FORBES, FORTUNE, AND MONEY MAGAZINES -
provide performance statistics over specified time periods.
i) Consumer Price Index (or Cost of Living Index), published by the U.S.
Bureau of Labor Statistics - a statistical measure of change, over time, in
the price of goods and services in major expenditure groups.
j) Stocks, Bonds, Bills, and Inflation, published by Ibbotson Associates -
historical measure of yield, price, and total return for common and small
company stock, long-term government bonds, Treasury bills, and inflation.
k) Savings and Loan Historical Interest Rates -
as published in the U.S. Savings & Loan League Fact Book.
l) Historical data supplied by the research departments of CS First Boston
Corporation, the J. P. Morgan companies, Salomon Brothers, Merrill Lynch,
Lehman Brothers and Bloomberg L.P.
m) Standard & Poor's(R) 100 Stock Index - an unmanaged index based on the
prices of 100 blue-chip stocks, including 92 industrials, one utility, two
transportation companies, and 5 financial institutions. The S&P 100 Stock
Index is a smaller more flexible index for options trading.
n) Morningstar - information published by Morningstar, Inc., including
Morningstar proprietary mutual fund ratings. The ratings reflect
Morningstar's assessment of the historical risk-adjusted performance of a
fund over specified time periods relative to other funds within its category.
o) The Russell 2000 Index - consists of the 2,000 smallest securities in the
Russell 3000 Index. Representing approximately 11% of the Russell 3000 total
market capitalization, this is Russell's Small Cap Index.
p) The Russell 2500 Index - consists of the bottom 500 securities in the
Russell Index, as ranked by total market capitalization, and all 2,000
securities in the Russell 2000 Index. This Index is a good measure of small
to medium-small stock performance.
q) The Russell 3000 Index - consists of 3,000 large U.S. companies, as
determined by market capitalization. This portfolio of securities represents
approximately 98% of the investable U.S. equity market.
From time to time, advertisements or information for the fund may include a
discussion of certain attributes or benefits to be derived from an investment
in the fund. The advertisements or information may include symbols,
headlines, or other material that highlights or summarizes the information
discussed in more detail in the communication.
Advertisements or information may also compare the fund's performance to the
return on CDs or other investments. You should be aware, however, that an
investment in the fund involves the risk of fluctuation of principal value, a
risk generally not present in an investment in a CD issued by a bank. For
example, as the general level of interest rates rise, the value of the fund's
fixed-income investments, if any, as well as the value of its shares that are
based upon the value of such portfolio investments, can be expected to
decrease. Conversely, when interest rates decrease, the value of the fund's
shares can be expected to increase. CDs are frequently insured by an agency
of the U.S. government. An investment in the fund is not insured by any
federal, state or private entity.
In assessing comparisons of performance, you should keep in mind that the
composition of the investments in the reported indices and averages is not
identical to the fund's portfolio, the indices and averages are generally
unmanaged, and the items included in the calculations of the averages may not
be identical to the formula used by the fund to calculate its figures. In
addition, there can be no assurance that the fund will continue its
performance as compared to these other averages.
MISCELLANEOUS INFORMATION
The fund may help you achieve various investment goals such as accumulating
money for retirement, saving for a down payment on a home, college costs and
other long-term goals. The Franklin College Costs Planner may help you in
determining how much money must be invested on a monthly basis in order to
have a projected amount available in the future to fund a child's college
education. (Projected college cost estimates are based upon current costs
published by the College Board.) The Franklin Retirement Planning Guide leads
you through the steps to start a retirement savings program. Of course, an
investment in the fund cannot guarantee that these goals will be met.
The fund is a member of the Franklin Templeton Group of Funds, one of the
largest mutual fund organizations in the U.S., and may be considered in a
program for diversification of assets. Founded in 1947, Franklin, one of the
oldest mutual fund organizations, has managed mutual funds for over 50 years
and now services more than 3 million shareholder accounts. In 1992, Franklin,
a leader in managing fixed-income mutual funds and an innovator in creating
domestic equity funds, joined forces with Templeton, a pioneer in
international investing. The Mutual Series team, known for its value-driven
approach to domestic equity investing, became part of the organization four
years later. Together, the Franklin Templeton Group has over $236 billion in
assets under management for more than 6 million U.S. based mutual fund
shareholder and other accounts. The Franklin Templeton Group of Funds offers
119 U.S. based open-end investment companies to the public. The fund may
identify itself by its NASDAQ symbol or CUSIP number.
Currently, there are more mutual funds than there are stocks listed on the
NYSE. While many of them have similar investment goals, no two are exactly
alike. As noted in the Prospectus, shares of the fund are generally sold
through Securities Dealers. Investment representatives of such Securities
Dealers are experienced professionals who can offer advice on the type of
investment suitable to your unique goals and needs, as well as the types of
risks associated with such investment.
As of June 2, 1998, the principal shareholders of the fund, beneficial or of
record, were as follows:
SHARE
NAME AND ADDRESS AMOUNT PERCENTAGE
ADVISOR CLASS
First Union National Bank 365,816.139 6.8%
Trustee for the benefit of
Willis Corroon Corporation
1525 West Wt.
Harris Blvd. NC-1151
Charlotte, NC 28288
The Northern Trust
Company 444,879.836 8.3%
Trustee for the NALCO
Chemical Co. Retirement Trust
50 S. LaSalle Street
Chicago, IL 60675
Old Second National 419,482.089 7.8%
Bank of Aurora
37 South River St.
Aurora, IL 60506-4173
Trust Company of Illinois 411,552.207 7.7%
45 S. Park Blvd., Ste. 315
Glen Ellyn, IL 60137-6282
Carey & Co. 268,971.602 5.0%
P.O. Box 1558 HC 1024
Columbus, OH 43216
From time to time, the number of fund shares held in the "street name"
accounts of various Securities Dealers for the benefit of their clients or in
centralized securities depositories may exceed 5% of the total shares
outstanding.
In the event of disputes involving multiple claims of ownership or authority
to control your account, the fund has the right (but has no obligation) to:
(a) freeze the account and require the written agreement of all persons
deemed by the fund to have a potential property interest in the account,
before executing instructions regarding the account; (b) interplead disputed
funds or accounts with a court of competent jurisdiction; or (c) surrender
ownership of all or a portion of the account to the IRS in response to a
Notice of Levy.
SUMMARY OF CODE OF ETHICS. Employees of the Franklin Templeton Group who are
access persons under the 1940 Act are permitted to engage in personal
securities transactions subject to the following general restrictions and
procedures: (i) the trade must receive advance clearance from a compliance
officer and must be completed by the close of the business day following the
day clearance is granted; (ii) copies of all brokerage confirmations and
statements must be sent to a compliance officer; (iii) all brokerage accounts
must be disclosed on an annual basis; and (iv) access persons involved in
preparing and making investment decisions must, in addition to (i), (ii) and
(iii) above, file annual reports of their securities holdings each January
and inform the compliance officer (or other designated personnel) if they own
a security that is being considered for a fund or other client transaction or
if they are recommending a security in which they have an ownership interest
for purchase or sale by a fund or other client.
FINANCIAL STATEMENTS
The audited financial statements contained in the Annual Report to
Shareholders of the Trust, for the fiscal year ended April 30, 1998,
including the auditor's report, are incorporated herein by reference.
USEFUL TERMS AND DEFINITIONS
1940 ACT - Investment Company Act of 1940, as amended
Advisers - Franklin Advisers, Inc., the fund's investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I, CLASS II AND ADVISOR CLASS - The fund offers three classes of
shares, designated "Class I," "Class II," and "Advisor Class." The three
classes have proportionate interests in the fund's portfolio. They differ,
however, primarily in their sales charge and expense structures.
CODE - Internal Revenue Code of 1986, as amended
DEPOSITARY RECEIPTS - Certificates that give their holders the right to
receive securities (a) of a foreign issuer deposited in a U.S. bank or trust
company (American Depositary Receipts, "ADRs"); or (b) of a foreign or U.S.
issuer deposited in a foreign bank or trust company (Global Depositary
Receipts, "GDRs" or European Depositary Receipts, "EDRs")
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the fund's principal
underwriter
FRANKLIN TEMPLETON FUNDS - The U.S. registered mutual funds in the Franklin
Group of Funds(R) and the Templeton Group of Funds except Franklin Valuemark
Funds, Templeton Capital Accumulator Fund, Inc., and Templeton Variable
Products Series Fund
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the fund's administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the fund's
shareholder servicing and transfer agent
IRS - Internal Revenue Service
LETTER - Letter of Intent
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by
the number of shares outstanding.
NYSE - New York Stock Exchange
OFFERING PRICE - The public offering price is based on the Net Asset Value
per share of the class and includes the front-end sales charge. The maximum
front-end sales charge is 5.75% for Class I and 1% for Class II. We calculate
the offering price to two decimal places using standard rounding criteria.
PROSPECTUS - The prospectus for the fund's Class I and Class II shares dated
September 1, 1998, which we may amend from time to time
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
WE/OUR/US - Unless a different meaning is indicated by the context, these
terms refer to the fund and/or Investor Services, Distributors, or other
wholly owned subsidiaries of Resources.
APPENDIX
DESCRIPTION OF RATINGS
CORPORATE BOND RATINGS
Moody's
Aaa - Bonds rated Aaa are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as
"gilt-edged." Interest payments are protected by a large or exceptionally
stable margin, and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of such issues.
Aa - Bonds rated Aa are judged to be high quality by all standards. Together
with the Aaa group, they comprise what are generally known as high-grade
bonds. They are rated lower than the best bonds because margins of protection
may not be as large, fluctuation of protective elements may be of greater
amplitude, or there may be other elements present that make the long-term
risks appear somewhat larger.
A - Bonds rated A possess many favorable investment attributes and are
considered upper medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
that suggest a susceptibility to impairment sometime in the future.
Baa - Bonds rated Baa are considered medium-grade obligations. They are
neither highly protected nor poorly secured. Interest payments and principal
security appear adequate for the present but certain protective elements may
be lacking or may be characteristically unreliable over any great length of
time. These bonds lack outstanding investment characteristics and, in fact,
have speculative characteristics as well.
Ba - Bonds rated Ba are judged to have predominantly speculative elements and
their future cannot be considered well assured. Often the protection of
interest and principal payments is very moderate and, thereby, not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B - Bonds rated B generally lack characteristics of the desirable investment.
Assurance of interest and principal payments or of maintenance of other terms
of the contract over any long period of time may be small.
Caa - Bonds rated Caa are of poor standing. These issues may be in default or
there may be present elements of danger with respect to principal or interest.
Ca - Bonds rated Ca represent obligations that are speculative to a high
degree. These issues are often in default or have other marked shortcomings.
C - Bonds rated C are the lowest rated class of bonds and can be regarded as
having extremely poor prospects of ever attaining any real investment
standing.
Note: Moody's applies numerical modifiers 1, 2 and 3 in each generic rating
classification from Aa through B in its corporate bond ratings. The modifier
1 indicates that the security ranks in the higher end of its generic rating
category; modifier 2 indicates a mid-range ranking; and modifier 3 indicates
that the issue ranks in the lower end of its generic rating category.
S&P
AAA - This is the highest rating assigned by S&P to a debt obligation and
indicates an extremely strong capacity to pay principal and interest.
AA - Bonds rated AA also qualify as high-quality debt obligations. Capacity
to pay principal and interest is very strong and, in the majority of
instances, differ from AAA issues only in a small degree.
A - Bonds rated A have a strong capacity to pay principal and interest,
although they are somewhat more susceptible to the adverse effects of changes
in circumstances and economic conditions.
BBB - Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit protection parameters,
adverse economic conditions or changing circumstances are more likely to lead
to a weakened capacity to pay principal and interest for bonds in this
category than for bonds in the A category.
BB, B, CCC, CC - Bonds rated BB, B, CCC and CC are regarded, on balance, as
predominantly speculative with respect to the issuer's capacity to pay
interest and repay principal in accordance with the terms of the obligations.
BB indicates the lowest degree of speculation and CC the highest degree of
speculation. While these bonds will likely have some quality and protective
characteristics, they are outweighed by large uncertainties or major risk
exposures to adverse conditions.
C - Bonds rated C are typically subordinated debt to senior debt that is
assigned an actual or implied CCC- rating. The C rating may also reflect the
filing of a bankruptcy petition under circumstances where debt service
payments are continuing. The C1 rating is reserved for income bonds on which
no interest is being paid.
D - Debt rated D is in default and payment of interest and/or repayment of
principal is in arrears.
PLUS (+) OR MINUS (-): The ratings from "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
COMMERICAL PAPER RATINGS
MOODY'S
Moody's commercial paper ratings, which are also applicable to municipal
paper investments permitted to be made by the fund, are opinions of the
ability of issuers to repay punctually their promissory obligations not
having an original maturity in excess of nine months. Moody's employs the
following designations, all judged to be investment grade, to indicate the
relative repayment capacity of rated issuers:
P-1 (PRIME-1): Superior capacity for repayment.
P-2 (PRIME-2): Strong capacity for repayment.
S&P
S&P's ratings are a current assessment of the likelihood of timely payment of
debt having an original maturity of no more than 365 days. Ratings are graded
into four categories, ranging from "A" for the highest quality obligations to
"D" for the lowest. Issues within the "A" category are delineated with the
numbers 1, 2 and 3 to indicate the relative degree of safety, as follows:
A-1: This designation indicates the degree of safety regarding timely payment
is very strong. A "plus" (+) designation indicates an even stronger
likelihood of timely payment.
A-2: Capacity for timely payment on issues with this designation is strong.
The relative degree of safety, however, is not as overwhelming as for issues
designated A-1.
A-3: Issues carrying this designation have a satisfactory capacity for timely
payment. They are, however, somewhat more vulnerable to the adverse effects
of changes in circumstances than obligations carrying the higher designations.
FRANKLIN
SMALL CAP
GROWTH FUND -
ADVISOR CLASS
FRANKLIN STRATEGIC SERIES
STATEMENT OF
ADDITIONAL INFORMATION
SEPTEMBER 1, 1998
777 MARINERS ISLAND BLVD., P.O. BOX 7777
SAN MATEO, CA 94403-7777 1-800/DIAL BEN(R)
TABLE OF CONTENTS
How Does the Fund Invest Its Assets? ........................... 2
What Are the Risks
of Investing in the Fund? ..................................... 9
Investment Restrictions ........................................ 13
Officers and Trustees .......................................... 14
Investment Management
and Other Services ............................................ 18
How Does the Fund Buy
Securities for Its Portfolio? ................................. 19
How Do I Buy, Sell
and Exchange Shares? .......................................... 20
How Are Fund Shares Valued? .................................... 22
Additional Information on
Distributions and Taxes ....................................... 23
The Fund's Underwriter ......................................... 27
How Does the Fund
Measure Performance? .......................................... 28
Miscellaneous Information ...................................... 30
Financial Statements ........................................... 31
Useful Terms and Definitions ................................... 31
Appendix
Description of Ratings ........................................ 32
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When reading this SAI, you will see certain terms beginning with capital
letters. This means the term is explained under "Useful Terms and
Definitions."
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The fund is a diversified series of Franklin Strategic Series (the "Trust"),
an open-end management investment company. The Prospectus, dated September 1,
1998, which we may amend from time to time, contains the basic information
you should know before investing in the fund. For a free copy, call
1-800/DIAL BEN.
This SAI describes the fund's Advisor Class shares. The fund currently offers
other share classes with different sales charge and expense structures, which
affect performance. To receive more information about the fund's other share
classes, contact your investment representative or call 1-800/DIAL BEN.
THIS SAI IS NOT A PROSPECTUS. IT CONTAINS INFORMATION IN ADDITION TO AND IN
MORE DETAIL THAN SET FORTH IN THE PROSPECTUS. THIS SAI IS INTENDED TO PROVIDE
YOU WITH ADDITIONAL INFORMATION REGARDING THE ACTIVITIES AND OPERATIONS OF
THE FUND, AND SHOULD BE READ IN CONJUNCTION WITH THE PROSPECTUS.
- ------------------------------------------------------------------------------
MUTUAL FUNDS, ANNUITIES, AND OTHER INVESTMENT PRODUCTS:
O ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE
FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S. GOVERNMENT;
O ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED BY, ANY BANK;
O ARE SUBJECT TO INVESTMENT RISKS, INCLUDING THE POSSIBLE LOSS OF PRINCIPAL.
- ------------------------------------------------------------------------------
HOW DOES THE FUND INVEST ITS ASSETS?
WHAT IS THE FUND'S GOAL?
The investment goal of the fund is long-term capital growth. This goal is
fundamental, which means that it may not be changed without shareholder
approval.
The following gives more detailed information about the fund's investment
policies and the types of securities that it may buy. Please read this
information together with the section "How Does the Fund Invest Its Assets?"
in the Prospectus.
MORE INFORMATION ABOUT THE
KINDS OF SECURITIES THE FUND BUYS
EQUITY SECURITIES. The purchaser of an equity security typically receives an
ownership interest in the company as well as certain voting rights. The owner
of an equity security may participate in a company's success through the
receipt of dividends, which are distributions of earnings by the company to
its owners. Equity security owners may also participate in a company's
success or lack of success through increases or decreases in the value of the
company's shares as traded in the public trading market for such shares.
Equity securities generally take the form of common stock or preferred stock.
Preferred stockholders typically receive greater dividends but may receive
less appreciation than common stockholders and may have greater voting rights
as well. Equity securities may also include convertible securities, warrants,
or rights. Warrants or rights give the holder the right to purchase a common
stock at a given time for a specified price.
DEBT SECURITIES. A debt security typically has a fixed payment schedule that
obligates the issuer to pay interest to the lender and to return the lender's
money over a certain time period. A company typically meets its payment
obligations associated with its outstanding debt securities before it
declares and pays any dividend to holders of its equity securities. Bonds,
notes, debentures, and commercial paper differ in the length of the issuer's
payment schedule, with bonds carrying the longest repayment schedule and
commercial paper the shortest.
The market value of debt securities generally varies in response to changes
in interest rates and the financial condition of each issuer. During periods
of declining interest rates, the value of debt securities generally
increases. Conversely, during periods of rising interest rates, the value of
debt securities generally declines. These changes in market value will be
reflected in a fund's Net Asset Value.
REPURCHASE AGREEMENTS. Repurchase agreements are contracts under which the
buyer of a security simultaneously commits to resell the security to the
seller at an agreed upon price and date. Under a repurchase agreement, the
seller is required to maintain the value of the securities subject to the
repurchase agreement at not less than the repurchase price. Advisers will
monitor the value of such securities daily to determine that the value equals
or exceeds the repurchase price. Repurchase agreements may involve risks in
the event of default or insolvency of the seller, including possible delays
or restrictions upon a fund's ability to dispose of the underlying
securities. The funds will enter into repurchase agreements only with parties
who meet creditworthiness standards approved by the fund's Board, i.e., banks
or broker-dealers that have been determined by Advisers to present no serious
risk of becoming involved in bankruptcy proceedings within the time frame
contemplated by the repurchase transaction.
Although reverse repurchase agreements are borrowings under federal
securities laws, the fund does not treat these arrangements as borrowings
under investment restriction 3 below, provided the segregated account is
properly maintained.
LOANS OF PORTFOLIO SECURITIES. The fund may lend to banks and broker-dealers
portfolio securities with an aggregate market value of up to 20% of its total
assets. Such loans must be secured by collateral (consisting of any
combination of cash, U.S. government securities, or irrevocable letters of
credit) in an amount at least equal (on a daily marked-to-market basis) to
the current market value of the securities loaned. The fund retains all or a
portion of the interest received on investment of the cash collateral or
receives a fee from the borrower. The fund may terminate the loans at any
time and obtain the return of the securities loaned within five business
days. The fund will continue to receive any interest or dividends paid on the
loaned securities and will continue to have voting rights with respect to the
securities. However, as with other extensions of credit, there are risks of
delay in recovery or even loss of rights in collateral should the borrower
fail.
SMALL COMPANIES. The fund seeks to invest at least one third of its assets in
companies with a market capitalization of $550 million or less. Advisers will
monitor the availability of securities suitable for investment by the fund.
If it appears that the goal of investing one third of the fund's assets in
companies with market capitalization of $550 million or less may not be
attainable consistent with the fund's current investment goal and policies,
Advisers will recommend appropriate action to the Board. Advisers will also
present to the Board its views and recommendation regarding the fund's
ability to meet this goal in the future. The Board will review the
availability of suitable investments quarterly. If the Board determines that
under the circumstances it is not likely that sufficient suitable investments
will be available to permit the fund to meet its goal of investing one third
of its assets in companies with market capitalization of $550 million or
less, it may determine to take appropriate remedial action.
Small companies are often overlooked by investors or undervalued in relation
to their earnings power. Because small companies generally are not as well
known to the investing public and have less of an investor following than
larger companies, they may provide greater opportunities for long-term
capital growth as a result of relative inefficiencies in the marketplace.
These companies may be undervalued because they are part of an industry that
is out of favor with investors, although the individual companies may have
high rates of earnings growth and be financially sound.
CONVERTIBLE SECURITIES. The fund may invest in convertible securities. A
convertible security is generally a debt obligation or preferred stock that
may be converted within a specified period of time into a certain amount of
common stock of the same or a different issuer. A convertible security
provides a fixed-income stream and the opportunity, through its conversion
feature, to participate in the capital appreciation resulting from a market
price advance in its underlying common stock. As with a straight fixed-income
security, a convertible security tends to increase in market value when
interest rates decline and decrease in value when interest rates rise. Like a
common stock, the value of a convertible security also tends to increase as
the market value of the underlying stock rises, and it tends to decrease as
the market value of the underlying stock declines. Because its value can be
influenced by both interest rate and market movements, a convertible security
is not as sensitive to interest rates as a similar fixed-income security, nor
is it as sensitive to changes in share price as its underlying stock.
A convertible security is usually issued either by an operating company or by
an investment bank. When issued by an operating company, a convertible
security tends to be senior to common stock, but subordinate to other types
of fixed-income securities issued by that company. When a convertible
security issued by an operating company is "converted," the operating company
often issues new stock to the holder of the convertible security but, if the
parity price of the convertible security is less than the call price, the
operating company may pay out cash instead of common stock. If the
convertible security is issued by an investment bank, the security is an
obligation of and is convertible through the issuing investment bank.
The issuer of a convertible security may be important in determining the
security's true value. This is because the holder of a convertible security
will have recourse only to the issuer. In addition, a convertible security
may be subject to redemption by the issuer, but only after a specified date
and under circumstances established at the time the security is issued.
While the fund uses the same criteria to rate a convertible debt security
that it uses to rate a more conventional debt security, a convertible
preferred stock is treated like a preferred stock for the fund's financial
reporting, credit rating, and investment limitation purposes. A preferred
stock is subordinated to all debt obligations in the event of insolvency, and
an issuer's failure to make a dividend payment is generally not an event of
default entitling the preferred shareholder to take action. A preferred stock
generally has no maturity date, so that its market value is dependent on the
issuer's business prospects for an indefinite period of time. In addition,
distributions from preferred stock are dividends, rather than interest
payments, and are usually treated as such for corporate tax purposes.
The fund may invest in convertible preferred stocks that offer enhanced yield
features, such as Preferred Equity Redemption Cumulative Stocks ("PERCS"),
which provide an investor, such as the fund, with the opportunity to earn
higher dividend income than is available on a company's common stock. PERCS
are preferred stocks that generally feature a mandatory conversion date, as
well as a capital appreciation limit which is usually expressed in terms of a
stated price. Most PERCS expire three years from the date of issue, at which
time they are convertible into common stock of the issuer. PERCS are
generally not convertible into cash at maturity. Under a typical arrangement,
after three years PERCS convert into one share of the issuer's common stock
if the issuer's common stock is trading at a price below that set by the
capital appreciation limit, and into less than one full share if the issuer's
common stock is trading at a price above that set by the capital appreciation
limit. The amount of that fractional share of common stock is determined by
dividing the price set by the capital appreciation limit by the market price
of the issuer's common stock. PERCS can be called at any time prior to
maturity, and hence do not provide call protection. If called early, however,
the issuer must pay a call premium over the market price to the investor.
This call premium declines at a preset rate daily, up to the maturity date.
The fund may also invest in other enhanced convertible securities. These
include but are not limited to ACES (Automatically Convertible Equity
Securities), PEPS (Participating Equity Preferred Stock), PRIDES (Preferred
Redeemable Increased Dividend Equity Securities), SAILS (Stock Appreciation
Income Linked Securities), TECONS (Term Convertible Notes), QICS (Quarterly
Income Cumulative Securities), and DECS (Dividend Enhanced Convertible
Securities). ACES, PEPS, PRIDES, SAILS, TECONS, QICS, and DECS all have the
following features: they are issued by the company, the common stock of which
will be received in the event the convertible preferred stock is converted;
unlike PERCS they do not have a capital appreciation limit; they seek to
provide the investor with high current income with some prospect of future
capital appreciation; they are typically issued with three to four-year
maturities; they typically have some built-in call protection for the first
two to three years; and, upon maturity, they will automatically convert to
either cash or a specified number of shares of common stock.
Similarly, there may be enhanced convertible debt obligations issued by the
operating company, whose common stock is to be acquired in the event the
security is converted, or by a different issuer, such as an investment bank.
These securities may be identified by names such as ELKS (Equity Linked
Securities) or similar names. Typically they share most of the salient
characteristics of an enhanced convertible preferred stock but will be ranked
as senior or subordinated debt in the issuer's corporate structure according
to the terms of the debt indenture. There may be additional types of
convertible securities not specifically referred to herein which may be
similar to those described above in which a fund may invest, consistent with
its goals and policies.
An investment in an enhanced convertible security or any other security may
involve additional risks to the fund. The fund may have difficulty disposing
of such securities because there may be a thin trading market for a
particular security at any given time. Reduced liquidity may have an adverse
impact on market price and the fund's ability to dispose of particular
securities, when necessary, to meet the fund's liquidity needs or in response
to a specific economic event, such as the deterioration in the credit
worthiness of an issuer. Reduced liquidity in the secondary market for
certain securities may also make it more difficult for the fund to obtain
market quotations based on actual trades for purposes of valuing the fund's
portfolio. The fund, however, intends to acquire liquid securities, though
there can be no assurances that this will be achieved.
ILLIQUID SECURITIES. The fund's policy is not to invest more than 10% of its
net assets in illiquid securities. Generally, an "illiquid security" is any
security that cannot be disposed of within seven days in the ordinary course
of business at approximately the amount at which the fund has valued the
instrument.
Notwithstanding this limitation, the Board has authorized the fund to invest
in certain restricted securities (securities not registered with the SEC,
which might otherwise be considered illiquid) and has authorized these
securities to be considered liquid to the extent Advisers determines that
there is a liquid institutional or other market for the securities. For
example, restricted securities that may be freely transferred among qualified
institutional buyers pursuant to Rule 144A under the Securities Act of 1933,
as amended, and for which a liquid
institutional market has developed, may be considered liquid. The Board will
review any determination by Advisers to treat a restricted security as a
liquid security on an ongoing basis, including Advisers assessment of current
trading activity and the availability of reliable price information. In
determining whether a restricted security is properly considered a liquid
security, Advisers and the Board will take into account the following
factors: (i) the frequency of trades and quotes for the security; (ii) the
number of dealers willing to buy or sell the security and the number of other
potential buyers; (iii) dealer undertakings to make a market in the security;
and (iv) the nature of the security and the nature of the marketplace trades
(e.g., the time needed to dispose of the security, the method of
soliciting offers, and the mechanics of transfer). To the extent the fund
invests in restricted securities that are deemed liquid, the general level of
illiquidity in the fund may be increased if qualified institutional buyers
become uninterested in buying these securities or the market for these
securities contracts.
SECURITIES INDUSTRY RELATED INVESTMENTS. To the extent it is consistent with
its investment goal and certain limitations under the 1940 Act, the fund may
invest its assets in securities issued by companies engaged in securities
related businesses, including companies that are securities brokers, dealers,
underwriters or investment advisors. These companies are considered to be
part of the financial services industry. Generally, under the 1940 Act, the
fund may not acquire a security or any interest in a securities related
business, to the extent the acquisition would result in the fund acquiring in
excess of 5% of a class of an issuer's outstanding equity securities or 10%
of the outstanding principal amount of an issuer's debt securities, or
investing more than 5% of the value of the fund's total assets in securities
of the issuer. In addition, any equity security of a securities related
business must be a marginable security under Federal Reserve Board
regulations and any debt security of a securities related business must be
investment grade as determined by the Board. The fund does not believe that
these limitations will impede its ability to achieve its investment goal.
FOREIGN SECURITIES. As noted in the Prospectus, the fund may invest up to 25%
of its total assets in foreign securities, although the fund currently does
not intend to invest more than 10% of its total assets in foreign securities.
When buying foreign securities, the fund will ordinarily buy securities that
are traded in the U.S. or buy sponsored or unsponsored Depositary Receipts.
A sponsored Depositary Receipt is a Depositary Receipt in which establishment of
the issuing facility is brought about by the participation of the issuer and the
depositary institution pursuant to a deposit agreement that sets out the rights
and responsibilities of the issuer, the depositary and the Depositary Receipt
holder. Under the terms of most sponsored arrangements, depositaries agree to
distribute notices of shareholder meetings and voting instructions, thereby
ensuring that Depositary Receipt holders will be able to exercise voting rights
through the depositary with respect to the deposited securities. An unsponsored
Depositary Receipt has no sponsorship by the issuing facility and additionally,
more than one depositary institution may be involved in the issuance of the
unsponsored Depositary Receipt. It typically clears, however, through the
Depositary Trust Company and therefore, there should be no additional delays in
selling the security or in obtaining dividends. Although not required, the
depositary normally requests a letter of non-objection from the issuer. In
addition, the depositary is not required to distribute notices of shareholder
meetings or financial information to the buyer.
The fund may also buy the securities of foreign issuers directly in foreign
markets so long as, in Advisers' judgment, an established public trading
market exists (that is, there is a sufficient number of shares traded
regularly relative to the number of shares to be purchased by the fund).
Any investments made by the fund in foreign securities where delivery takes
place outside the U.S. will be made in compliance with applicable U.S. and
foreign currency restrictions and tax and other laws limiting the amount and
types of foreign investments. Changes of governmental administrations,
economic or monetary policies in the U.S. or abroad, or changed circumstances
in dealings between nations could result in investment losses for the fund
and could adversely affect the fund's operations. The fund's purchase of
securities in foreign countries will involve currencies of the U.S. and of
foreign countries; consequently, changes in exchange rates, currency
convertibility and repatriation may favorably or adversely affect the fund.
Although current regulations do not, in the opinion of Advisers, seriously
limit the fund's investment activities, if such regulations are changed in
the future, they may restrict the ability of the fund to make its investments
or impair the liquidity of the fund's investments.
The fund does not consider securities that it acquires outside of the U.S. and
that are publicly traded in the U.S. or on a foreign securities exchange or in a
foreign securities market to be illiquid assets if (a) the fund reasonably
believes it can readily dispose of the securities for cash in the U.S. or
foreign market or (b) current market quotations are readily available. The fund
will not acquire the securities of foreign issuers outside of the U.S. under
circumstances where, at the time of acquisition, the fund has reason to believe
that it could not resell the securities in a public trading market.
Investors should recognize that foreign securities are often traded with less
frequency and volume, and therefore may have greater price volatility than
many U.S. securities. Notwithstanding the fact that the fund intends to
acquire the securities of foreign issuers only where there are public trading
markets, investments by the fund in the securities of foreign issuers may
tend to increase the risks with respect to the liquidity of the fund's
portfolio and the fund's ability to meet a large number of shareholders'
redemption requests should there be economic or political turmoil in a
country in which the fund has its assets invested or should relations between
the U.S. and a foreign country deteriorate markedly.
OPTIONS, FUTURES AND
OPTIONS ON FINANCIAL FUTURES
WRITING CALL AND PUT OPTIONS. The fund may write (sell) covered put and call
options and buy put and call options on securities and indices that trade on
securities exchanges and in the over-the-counter market.
Call options written by the fund give the holder the right to buy the
underlying securities from the fund at a stated exercise price; put options
written by the fund give the holder the right to sell the underlying security
to the fund at a stated exercise price. A call option written by the fund is
"covered" if the fund owns the underlying security which is subject to the
call or has an absolute and immediate right to acquire that security without
additional cash consideration (or for additional cash consideration held in a
segregated account by its custodian) upon conversion or exchange of other
securities held in its portfolio. A call option is also covered if the fund
holds a call on the same security and in the same principal amount as the
call written where the exercise price of the call held is (a) equal to or
less than the exercise price of the call written or (b) greater than the
exercise price of the call written if the difference is maintained by the
fund in cash and high grade debt securities in a segregated account with its
custodian bank. A put option written by the fund is covered if the fund
maintains cash and high grade debt securities with a value equal to the
exercise price in a segregated account with its custodian bank, or holds a
put on the same security and in the same principal amount as the put written
where the exercise price of the put held is equal to or greater than the
exercise price of the put written. The premium paid by the buyer of an option
will reflect, among other things, the relationship of the exercise price to
the market price and volatility of the underlying security, the remaining
term of the option, supply and demand, and interest rates.
In the case of a call option, the writer of an option may have no control
over when the underlying securities must be sold or purchased, in the case of
a put option, since with regard to certain options, the writer may be
assigned an exercise notice at any time prior to the termination of the
obligation. Whether or not an option expires unexercised, the writer retains
the amount of the premium. This amount, of course, may, in the case of a
covered call option, be offset by a decline in the market value of the
underlying security during the option period. If a call option is exercised,
the writer experiences a profit or loss from the sale of the underlying
security. If a put option is exercised, the writer must fulfill the
obligation to buy the underlying security at the exercise price, which will
usually exceed the then current market value of the underlying security.
The writer of an option that wishes to terminate its obligation may effect a
"closing purchase transaction." This is accomplished by buying an option of
the same series as the option previously written. The effect of the purchase
is that the writer's position will be canceled by the clearing corporation. A
writer, however, may not effect a closing purchase transaction after being
notified of the exercise of an option. Likewise, an investor who is the
holder of an option may liquidate its position by effecting a "closing sale
transaction." This is accomplished by selling an option of the same series as
the option previously purchased. There is no guarantee that either a closing
purchase or a closing sale transaction can be effected.
Effecting a closing transaction in the case of a written call option will
permit the fund to write another call option on the underlying security with
either a different exercise price or expiration date or both, or in the case
of a written put option will permit the fund to write another put option to
the extent that the exercise price thereof is secured by deposited cash or
short-term securities. Effecting a closing transaction will also permit the
cash or proceeds from the concurrent sale of any securities subject to the
option to be used for other fund investments. If the fund desires to sell a
particular security from its portfolio on which it has written a call option,
it will effect a closing transaction prior to or at the same time as the sale
of the security.
The fund will realize a profit from a closing transaction if the price of the
transaction is less than the premium received from writing the option or is
more than the premium paid to buy the option; the fund will realize a loss
from a closing transaction if the price of the transaction is more than the
premium received from writing the option or is less than the premium paid to
buy the option. Because increases in the market price of a call option will
generally reflect increases in the market price of the underlying security,
any loss resulting from the repurchase of a call option is likely to be
offset in whole or in part by appreciation of the underlying security owned
by the fund.
The writing of covered put options involves certain risks. For example, if
the market price of the underlying security rises or otherwise is above the
exercise price, the put option will expire worthless and the fund's gain will
be limited to the premium received. If the market price of the underlying
security declines or otherwise is below the exercise price, the fund may
elect to close the position or take delivery of the security at the exercise
price, and the fund's return will be the premium received from the put option
minus the amount by which the market price of the security is below the
exercise price.
BUYING CALL AND PUT OPTIONS. The fund may buy call options on securities
which it intends to buy in order to limit the risk of a substantial increase
in the market price of the security. The fund may also buy call options on
securities held in its portfolio and on which it has written call options. A
call option gives the option holder the right to buy the underlying
securities from the option writer at a stated exercise price. Prior to its
expiration, a call option may be sold in a closing sale transaction. Profit
or loss from such a sale will depend on whether the amount received is more
or less than the premium paid for the call option plus the related
transaction costs.
The fund intends to buy put options on particular securities in order to
protect against a decline in the market value of the underlying security
below the exercise price less the premium paid for the option. A put option
gives the option holder the right to sell the underlying security at the
option exercise price at any time during the option period. The ability to
buy put options will allow the fund to protect the unrealized gain in an
appreciated security in its portfolio without actually selling the security.
In addition, the fund will continue to receive interest or dividend income on
the security. The fund may sell a put option which it has previously
purchased prior to the sale of the securities underlying such option. Such a
sale will result in a net gain or loss depending on whether the amount
received on the sale is more or less than the premium and other transaction
costs paid for the put option that is sold. This gain or loss may be wholly
or partially offset by a change in the value of the underlying security which
the fund owns or has the right to acquire.
OVER-THE-COUNTER ("OTC") OPTIONS. The fund intends to write covered put and
call options and buy put and call options that trade in the over-the-counter
market to the same extent that it will engage in exchange traded options.
Just as with exchange traded options, OTC call options give the option holder
the right to buy an underlying security from an option writer at a stated
exercise price; OTC put options give the holder the right to sell an
underlying security to an option writer at a stated exercise price. OTC
options, however, differ from exchange traded options in certain material
respects.
OTC options are arranged directly with dealers and not, as is the case with
exchange traded options, with a clearing corporation. Thus, there is a risk
of non-performance by the dealer. Because there is no exchange, pricing is
typically done by reference to information from market makers. OTC options,
however, are available for a greater variety of securities, and in a wider
range of expiration dates and exercise prices, than exchange traded options;
and the writer of an OTC option is paid the premium in advance by the dealer.
The fund understands the current position of the SEC staff to be that purchased
OTC options are illiquid securities, and that the assets used to cover the sale
of an OTC option are considered illiquid. The fund and Advisers disagree with
this position. Nevertheless, pending a change in the staff's position, the fund
will treat OTC options and "cover" assets as subject to the fund's limitation on
illiquid securities.
OPTIONS ON STOCK INDICES. The fund may also buy call options on stock indices
in order to hedge against the risk of market or industry-wide stock price
fluctuations. Call and put options on stock indices are similar to options on
securities except that, rather than the right to buy or sell stock at a
specified price, options on a stock index give the holder the right to
receive, upon exercise of the option, an amount of cash if the closing level
of the underlying stock index is greater than (or less than, in the case of
puts) the exercise price of the option. This amount of cash is equal to the
difference between the closing price of the index and the exercise price of
the option, expressed in dollars, multiplied by a specified number. Thus,
unlike stock options, all settlements are in cash, and gain or loss depends
on price movements in the stock market generally (or in a particular industry
or segment of the market) rather than price movements in individual stocks.
When the fund writes an option on a stock index, the fund will establish a
segregated account containing cash or high quality fixed-income securities
with its custodian bank in an amount at least equal to the market value of
the underlying stock index and will maintain the account while the option is
open or will otherwise cover the transaction.
FUTURES CONTRACTS. The fund may enter into contracts for the purchase or sale
for future delivery of securities or currencies and into such contracts based
upon financial indices ("financial futures"). Financial futures contracts are
commodity contracts that obligate the long or short holder to take or make
delivery of a specified quantity of a financial instrument, such as a
security, or the cash value of a securities index during a specified future
period at a specified price. A "sale" of a futures contract means the
acquisition of a contractual obligation to deliver the securities called for
by the contract at a specified price on a specified date. A "purchase" of a
futures contract means the acquisition of a contractual obligation to acquire
the securities called for by the contract at a specified price on a specified
date. Futures contracts have been designed by exchanges that have been
designated "contracts markets" by the Commodities Futures Trading Commission
and must be executed through a futures commission merchant, or brokerage
firm, that is a member of the relevant contract market.
At the same time a futures contract is purchased or sold, the fund must
allocate cash or securities as a deposit payment ("initial deposit"). Daily
thereafter, the futures contract is valued and the payment of "variation
margin" may be required since each day the fund would provide or receive cash
that reflects any decline or increase in the contract's value.
Although futures contracts by their terms call for the actual delivery or
acquisition of securities, in most cases the contractual obligation is
fulfilled before the date of the contract without having to make or take
delivery of the securities. The offsetting of a contractual obligation is
accomplished by buying (or selling, as the case may be) on a commodities
exchange an identical futures contract calling for delivery in the same
month. This transaction, which is effected through a member of an exchange,
cancels the obligation to take delivery of the securities. Since all
transactions in the futures market are made, offset or fulfilled through a
clearinghouse associated with the exchange on which the contracts are traded,
the fund will incur brokerage fees when it buys or sells futures contracts.
The fund will not engage in transactions in futures contracts or related
options for speculation but only as a hedge against changes resulting from
market conditions in the values of its securities or securities which it
intends to buy. The fund will not enter into any stock index or financial
futures contract or related option if, immediately thereafter, more than one
third of the fund's net assets would be represented by futures contracts or
related options. In addition, the fund may not buy or sell futures contracts
or buy or sell related options if, immediately thereafter, the sum of the
amount of its initial deposits and premiums on its existing futures and
related options positions would exceed 5% of the fund's total assets (taken
at current value). In instances involving the purchase of futures contracts
or related call options, money market instruments equal to the market value
of the futures contract or related option will be deposited in a segregated
account with the custodian to collateralize such long positions.
The purpose of the acquisition or sale of a futures contract is to attempt to
protect the fund from fluctuations in the price of portfolio securities
without actually buying or selling the underlying security. To the extent the
fund enters into a futures contract, it will maintain in a segregated account
with its custodian bank, to the extent required by the rules of the SEC,
assets to cover its obligations with respect to such contract which will
consist of cash, cash equivalents or high quality debt securities in an
amount equal to the difference between the fluctuating market value of such
futures contract and the aggregate value of the initial and variation margin
payments made by the fund with respect to such futures contract.
STOCK INDEX FUTURES AND OPTIONS ON STOCK INDEX FUTURES. The fund may buy and
sell stock index futures contracts and options on stock index futures
contracts.
A stock index futures contract obligates the seller to deliver (and the buyer
to take) an amount of cash equal to a specific dollar amount times the
difference between the value of a specific stock index at the close of the
last trading day of the contract and the price at which the agreement is
made. No physical delivery of the underlying stocks in the index is made.
The fund may sell stock index futures contracts in anticipation of or during
a market decline to attempt to offset the decrease in market value of its
equity securities that might otherwise result. When the fund is not fully
invested in stocks and it anticipates a significant market advance, it may
buy stock index futures in order to gain rapid market exposure that may in
part or entirely offset increases in the cost of stocks that it intends to
buy.
The fund may buy and sell call and put options on stock index futures to
hedge against risks of market-side price movements. The need to hedge against
such risks will depend on the extent of diversification of the fund's common
stock portfolio and the sensitivity of such investments to factors
influencing the stock market as a whole.
Call and put options on stock index futures are similar to options on
securities except that, rather than the right to buy stock at a specified
price, options on stock index futures give the holder the right to receive
cash. Upon exercise of the option, the delivery of the futures position by
the writer of the option to the holder of the option will be accompanied by
delivery of the accumulated balance in the writer's futures margin account
which represents the amount by which the market price of the futures
contract, at exercise, exceeds, in the case of a call, or is less than, in
the case of a put, the exercise price of the option on the futures contract.
If an option is exercised on the last trading day prior to the expiration
date of the option, the settlement will be made entirely in cash equal to the
difference between the exercise price of the option and the closing price of
the futures contract on the expiration date.
BOND INDEX FUTURES AND RELATED OPTIONS. The fund may buy and sell futures
contracts based on an index of debt securities and options on such futures
contracts to the extent they currently exist and, in the future, may be
developed. The fund reserves the right to conduct futures and options
transactions based on an index which may be developed in the future to
correlate with price movements in certain categories of debt securities. The
fund's investment strategy in employing futures contracts based on an index
of debt securities will be similar to that used by it in other financial
futures transactions.
The fund also may buy and write put and call options on such index futures
and enter into closing transactions with respect to such options.
FUTURE DEVELOPMENTS. The fund may take advantage of opportunities in the area
of options and futures contracts and options on futures contracts and any
other derivative investments which are not presently contemplated for use by
the fund or which are not currently available but which may be developed, to
the extent such opportunities are both consistent with the fund's investment
goal and legally permissible for the fund. Prior to investing in any such
investment vehicle, the fund will supplement its Prospectus, if appropriate.
WHAT ARE THE RISKS
OF INVESTING IN THE FUND?
FOREIGN SECURITIES. You should consider carefully the substantial risks
involved in securities of companies of foreign nations, which are in addition
to the usual risks inherent in domestic investments.
There may be less publicly available information about foreign companies
comparable to the reports and ratings published about companies in the U.S.
Foreign companies are not generally subject to uniform accounting or
financial reporting standards, and auditing practices and requirements may
not be comparable to those applicable to U.S. companies. The fund, therefore,
may encounter difficulty in obtaining market quotations for purposes of
valuing its portfolio and calculating its Net Asset Value. Foreign markets
have substantially less volume than the NYSE, and securities of some foreign
companies are less liquid and more volatile than securities of comparable
U.S. companies. Commission rates in foreign countries, which are generally
fixed rather than subject to negotiation as in the U.S., are likely to be
higher. In many foreign countries there is less government supervision and
regulation of stock exchanges, brokers, and listed companies than in the U.S.
Investments in companies domiciled in developing countries may be subject to
potentially higher risks than investments in developed countries. These risks
include (i) less social, political, and economic stability; (ii) the small
current size of the markets for such securities and the currently low or
nonexistent volume of trading, which result in a lack of liquidity and in
greater price volatility; (iii) certain national policies which may restrict
the fund's investment opportunities, including restrictions on investment in
issuers or industries deemed sensitive to national interests; (iv) foreign
taxation; (v) the absence of developed legal structures governing private or
foreign investment or allowing for judicial redress for injury to private
property; (vi) the absence, until recently in certain Eastern European
countries, of a capital market structure or market-oriented economy; and
(vii) the possibility that recent favorable economic developments in Eastern
Europe may be slowed or reversed by unanticipated political or social events
in such countries.
In addition, many countries in which the funds may invest have experienced
substantial, and in some periods extremely high, rates of inflation for many
years. Inflation and rapid fluctuations in inflation rates have had and may
continue to have negative effects on the economies and securities markets of
certain countries. Moreover, the economies of some developing countries may
differ favorably or unfavorably from the U.S. economy in such respects as
growth of gross domestic product, rate of inflation, currency depreciation,
capital reinvestment, resource self-sufficiency, and balance of payments
position.
The fund's management endeavors to buy and sell foreign currencies on as
favorable a basis as practicable. Some price spread on currency exchange (to
cover service charges) may be incurred, particularly when the fund changes
investments from one country to another or when proceeds of the sale of
shares in U.S. dollars are used for the purchase of securities in foreign
countries. Also, some countries may adopt policies that would prevent the
fund from transferring cash out of the country or withhold portions of
interest and dividends at the source. There is the possibility of cessation
of trading on national exchanges, expropriation, nationalization, or
confiscatory taxation, withholding, and other foreign taxes on income or
other amounts, foreign exchange controls (which may include suspension of the
ability to transfer currency from a given country), default in foreign
government securities, political or social instability, or diplomatic
developments that could affect investments in securities of issuers in
foreign nations.
The fund may be affected either favorably or unfavorably by fluctuations in
the relative rates of exchange between the currencies of different nations,
by exchange control regulations, and by indigenous economic and political
developments. Some countries in which the fund may invest may also have fixed
or managed currencies that are not free-floating against the U.S. dollar.
Further, certain currencies may not be internationally traded.
Certain of these currencies have experienced a steady devaluation relative to
the U.S. dollar. Any devaluations in the currencies in which the fund's
portfolio securities are denominated may have a detrimental impact on the
fund. Through the fund's flexible policy, management endeavors to avoid
unfavorable consequences and to take advantage of favorable developments in
particular nations where, from time to time, it places the fund's
investments.
The exercise of this flexible policy may include decisions to purchase
securities with substantial risk characteristics and other decisions such as
changing the emphasis on investments from one nation to another and from one
type of security to another. Some of these decisions may later prove
profitable and others may not. No assurance can be given that profits, if
any, will exceed losses.
The Board considers at least annually the likelihood of the imposition by any
foreign government of exchange control restrictions which would affect the
liquidity of the fund's assets maintained with custodians in foreign
countries, as well as the degree of risk from political acts of foreign
governments to which such assets may be exposed. The Board also considers the
degree of risk involved through the holding of portfolio securities in
domestic and foreign securities depositories. However, in the absence of
willful misfeasance, bad faith, or gross negligence on the part of Advisers,
any losses resulting from the holding of the fund's portfolio securities in
foreign countries and/or with securities depositories will be at the risk of
the shareholders. No assurance can be given that the Board's appraisal of the
risks will always be correct or that such exchange control restrictions or
political acts of foreign governments might not occur.
OPTIONS, FUTURES AND OPTIONS ON FUTURES. The fund's ability to hedge
effectively all or a portion of its securities through transactions in
options on stock indices, stock index futures, financial futures and related
options depends on the degree to which price movements in the underlying
index or underlying securities correlate with price movements in the relevant
portion of the fund's portfolio. Inasmuch as such securities will not
duplicate the components of the index or underlying securities, the
correlation will not be perfect. Consequently, the fund bears the risk that
the prices of the securities being hedged will not move in the same amount as
the hedging instrument. It is also possible that there may be a negative
correlation between the index or other securities underlying the hedging
instrument and the hedged securities which would result in a loss on both the
securities and the hedging instrument. Accordingly, successful use by the
fund of options on stock indices, stock index futures, financial futures and
related options will be subject to Advisers' ability to predict correctly
movements in the direction of the securities markets generally or a
particular segment. This requires different skills and techniques than
predicting changes in the price of individual stocks.
Adverse market movements could cause the fund to lose up to its full
investment in a call option contract and/or to experience substantial losses
on an investment in a futures contract. There is also the risk of loss by the
fund of margin deposits in the event of bankruptcy of a broker with whom the
fund has an open position in a futures contract.
Positions in stock index options, stock index futures and financial futures
and related options may be closed out only on an exchange which provides a
secondary market. There can be no assurance that a liquid secondary market
will exist for any particular stock index option or futures contract or
related option at any specific time. Thus, it may not be possible to close an
option or futures position. The inability to close options or futures
positions also could have an adverse impact on the fund's ability to
effectively hedge its securities. The fund will enter into an option or
futures position only if there appears to be a liquid secondary market for
the option or futures contract.
There can be no assurance that a continuous liquid secondary market will
exist for any particular OTC option at any specific time. Consequently, the
fund may be able to realize the value of an OTC option it has purchased only
by exercising it or entering into a closing sale transaction with the dealer
that issued it. Similarly, when the fund writes an OTC option, it generally
can close out that option prior to its expiration only by entering into a
closing purchase transaction with the dealer to which the fund originally
wrote it. If a covered call option writer cannot effect a closing
transaction, it cannot sell the underlying security until the option expires
or the option is exercised. Therefore, a covered call option writer of an OTC
option may not be able to sell an underlying security even though it might
otherwise be advantageous to do so. Likewise, a secured put writer of an OTC
option may be unable to sell the securities pledged to secure the put for
other investment purposes while it is obligated as a put writer. Similarly, a
buyer of such put or call option might also find it difficult to terminate
its position on a timely basis in the absence of a secondary market.
The Commodities Futures Trading Commission and the various exchanges have
established limits, referred to as "speculative position limits," on the
maximum net long or net short position which any person may hold or control
in a particular futures contract. Trading limits are imposed on the maximum
number of contracts which any person may trade on a particular trading day.
An exchange may order the liquidation of positions found to be in violation
of these limits and it may impose other sanctions or restrictions. The fund
does not believe that these trading and positions limits will have an adverse
impact on the fund's strategies for hedging its securities.
The ordinary spreads between prices in the cash and futures markets, due to
differences in the nature of those markets, are subject to distortions.
First, all participants in the futures market are subject to initial deposit
and variation margin requirements. Rather than meeting additional variation
margin requirements, investors may close futures contracts through offsetting
transactions which could distort the normal relationship between the cash and
futures markets. Second, the liquidity of the futures market depends on
participants entering into offsetting transactions rather than making or
taking delivery. To the extent participants decide to make or take delivery,
liquidity in the futures market could be reduced, thus producing distortion.
Third, from the point of view of speculators, the margin deposit requirements
in the futures market are less onerous than margin requirements in the
securities market. Therefore, increased participation by speculators in the
futures market may cause temporary price distortions. Due to the possibility
of distortion, a correct forecast of general interest rate trends by Advisers
may still not result in a successful transaction.
Although the fund believes that the use of futures contracts will benefit the
fund, if Advisers' judgment about the general direction of interest rates is
incorrect, the fund's overall performance would be poorer than if it had not
entered into any such contract. For example, if the fund has hedged against
the possibility of an increase in interest rates which would adversely affect
the price of bonds held in its portfolio and interest rates decrease instead,
the fund will lose part or all of the benefit of the increased value of its
bonds which it has hedged because it will have offsetting losses in its
futures positions. In addition, in such situations, if the fund has
insufficient cash, it may have to sell securities from its portfolio to meet
daily variation margin requirements. Such sales may be, but will not
necessarily be, at increased prices which reflect the rising market. The fund
may have to sell securities at a time when it may be disadvantageous to do so.
The fund's sale of futures contracts and purchase of put options on futures
contracts will be solely to protect its investments against declines in
value. The fund expects that in the normal course of business it will buy
securities upon termination of long futures contracts and long call options
on future contracts, but under unusual market conditions it may terminate any
of these positions without a corresponding purchase of securities.
HIGH YIELD SECURITIES. The fund intends to invest not more than 5% of its
assets in lower rated, fixed-income securities and unrated securities of
comparable quality. You should consider the increased risk of loss to
principal that is present with an investment in higher risk securities, such
as those in which the fund invests. Accordingly, an investment in the fund
should not be considered a complete investment program and should be
carefully evaluated for its appropriateness in light of your overall
investment needs and goals.
The market value of high yield, lower-quality fixed-income securities,
commonly known as junk bonds, tends to reflect individual developments
affecting the issuer to a greater degree than the market value of
higher-quality securities, which react primarily to fluctuations in the
general level of interest rates. Lower-quality securities also tend to be
more sensitive to economic conditions than higher-quality securities.
Issuers of high yield, fixed-income securities are often highly leveraged and
may not have more traditional methods of financing available to them.
Therefore, the risk associated with buying the securities of these issuers is
generally greater than the risk associated with higher-quality securities.
For example, during an economic downturn or a sustained period of rising
interest rates, issuers of lower-quality securities may experience financial
stress and may not have sufficient cash flow to make interest payments. The
issuer's ability to make timely interest and principal payments may also be
adversely affected by specific developments affecting the issuer, including
the issuer's inability to meet specific projected business forecasts or the
unavailability of additional financing.
The risk of loss due to default may also be considerably greater with
lower-quality securities because they are generally unsecured and are often
subordinated to other creditors of the issuer. If the issuer of a security in
the fund's portfolio defaults, the fund may have unrealized losses on the
security, which may lower the fund's Net Asset Value. Defaulted securities
tend to lose much of their value before they default. Thus, the fund's Net
Asset Value may be adversely affected before an issuer defaults. In addition,
the fund may incur additional expenses if it must try to recover principal or
interest payments on a defaulted security.
High yield, fixed-income securities frequently have call or buy-back features
that allow an issuer to redeem the securities from the fund. Although these
securities are typically not callable for a period of time, usually for three
to five years from the date of issue, if an issuer calls its securities
during periods of declining interest rates, Advisers may find it necessary to
replace the securities with lower-yielding securities, which could result in
less net investment income for the fund. The premature disposition of a high
yield security due to a call or buy-back feature, the deterioration of an
issuer's creditworthiness, or a default by an issuer may make it more
difficult for the fund to manage the timing of its income. Under the Code and
U.S. Treasury regulations, the fund may have to accrue income on defaulted
securities and distribute the income to shareholders for tax purposes, even
though the fund is not currently receiving interest or principal payments on
the defaulted securities. To generate cash to satisfy these distribution
requirements, the fund may have to sell portfolio securities that it
otherwise may have continued to hold or use cash flows from other sources,
such as the sale of fund shares.
Lower-quality, fixed-income securities may not be as liquid as higher-quality
securities. Reduced liquidity in the secondary market may have an adverse
impact on market price of a security and on the fund's ability to sell a
security in response to a specific economic event, such as a deterioration in
the creditworthiness of the issuer, or if necessary to meet the fund's
liquidity needs. Reduced liquidity may also make it more difficult to obtain
market quotations based on actual trades for purposes of valuing the fund's
portfolio.
The fund may buy high yield, fixed-income securities that are sold without
registration under the federal securities laws and therefore carry
restrictions on resale. While many high yielding securities have been sold
with registration rights, covenants and penalty provisions for delayed
registration, if the fund is required to sell restricted securities before
the securities have been registered, it may be deemed an underwriter of the
securities under the Securities Act of 1933, which entails special
responsibilities and liabilities. The fund may also incur special costs in
disposing of restricted securities, although the fund will generally not
incur any costs when the issuer is responsible for registering the securities.
The fund may buy high yield, fixed-income securities during an initial
underwriting. These securities involve special risks because they are new
issues. Advisers will carefully review their credit and other
characteristics. The fund has no arrangement with its underwriter or any
other person concerning the acquisition of these securities.
The high yield securities market is relatively new and much of its growth
before 1990 paralleled a long economic expansion. The recession that began in
1990 disrupted the market for high yield securities and adversely affected
the value of outstanding securities, as well as the ability of issuers of
high yield securities to make timely principal and interest payments.
Although the economy has improved and high yield securities have performed
more consistently since that time, the adverse effects previously experienced
may reoccur. For example, the highly publicized defaults on some high yield
securities during 1989 and 1990 and concerns about a sluggish economy that
continued into 1993, depressed the prices of many of these securities. While
market prices may be temporarily depressed due to these factors, the ultimate
price of any security generally reflects the true operating results of the
issuer. Factors adversely impacting the market value of high yield securities
may lower the fund's Net Asset Value.
The fund relies on Advisers' judgment, analysis and experience in evaluating
the creditworthiness of an issuer. In this evaluation, Advisers takes into
consideration, among other things, the issuer's financial resources, its
sensitivity to economic conditions and trends, its operating history, the
quality of the issuer's management and regulatory matters.
INVESTMENT RESTRICTIONS
The fund has adopted the following restrictions as fundamental policies.
These restrictions may not be changed without the approval of a majority of
the outstanding voting securities of the fund. Under the 1940 Act, this means
the approval of (i) more than 50% of the outstanding shares of the fund or
(ii) 67% or more of the shares of the fund present at a shareholder meeting
if more than 50% of the outstanding shares of the fund are represented at the
meeting in person or by proxy, whichever is less. The fund MAY NOT:
1. Purchase the securities of any one issuer (other than obligations of the
U.S., its agencies or instrumentalities) if immediately thereafter, and as a
result of the purchase, the fund would (a) have invested more than 5% of the
value of its total assets in the securities of the issuer, or (b) hold more
than 10% of any voting class of the securities of any one issuer;
2. Make loans to other persons, except by the purchase of bonds, debentures
or similar obligations which are publicly distributed or of a character
usually acquired by institutional investors or through loans of the fund's
portfolio securities, or to the extent the entry into a repurchase agreement
may be deemed a loan;
3. Borrow money (does not preclude the fund from obtaining such short-term
credit as may be necessary for the clearance of purchases and sales of its
portfolio securities), except in the form of reverse repurchase agreements or
from banks in order to meet redemption requests that might otherwise require
the untimely disposition of portfolio securities or for other temporary or
emergency (but not investment) purposes, in an amount up to 10% of the value
of the fund's total assets (including the amount borrowed) based on the
lesser of cost or market, less liabilities (not including the amount
borrowed) at the time the borrowing is made. While borrowings exceed 5% of
the fund's total assets, the fund will not make any additional investments;
4. Invest more than 25% of the fund's assets (at the time of the most recent
investment) in any single industry;
5. Underwrite securities of other issuers or invest more than 10% of its
assets in securities with legal or contractual restrictions on resale
(although the fund may invest in such securities to the extent permitted
under the federal securities laws for example, transactions between the fund
and Qualified Institutional Buyers subject to Rule 144A under the Securities
Act of 1933) or which are not readily marketable, or which have a record of
less than three years continuous operation, including the operations of any
predecessor companies, if more than 10% of the fund's total assets would be
invested in such companies;
6. Invest in securities for the purpose of exercising management or control
of the issuer;
7. Maintain a margin account with a securities dealer or invest in
commodities and commodity contracts (except that the fund may engage in
financial futures, including stock index futures, and options on stock index
futures) or lease or acquire any interests, including interests issued by
limited partnerships (other than publicly traded equity securities) in oil,
gas, or other mineral exploration or development programs, or invest in
excess of 5% of its total assets in options unrelated to the fund's
transactions in futures, including puts, calls, straddles, spreads, or any
combination thereof;
8. Effect short sales, unless at the time the fund owns securities
equivalent in kind and amount to those sold (which will normally be for
deferring recognition of gains or losses for tax purposes). The fund does not
currently intend to employ this investment technique;
9. Invest directly in real estate, real estate limited partnerships or
illiquid securities issued by real estate investment trusts; (the fund may,
however, invest in marketable securities issued by real estate investment
trusts);
10. Invest in the securities of other investment companies, except where
there is no commission other than the customary brokerage commission or sales
charge, or except that securities of another investment company may be
acquired pursuant to a plan of reorganization, merger, consolidation or
acquisition, and except where the fund would not own, immediately after the
acquisition, securities of the investment companies which exceed in the
aggregate i) more than 3% of the issuer's outstanding voting stock, ii) more
than 5% of the fund's total assets, and iii) together with the securities of
all other investment companies held by the fund, exceed, in the aggregate,
more than 10% of the fund's total assets. The fund may invest in shares of
one or more money market funds managed by Advisers or its affiliates; and
11. Purchase from or sell to its officers and trustees, or any firm of which
any officer or trustee is a member, as principal, any securities, but may
deal with such persons or firms as brokers and pay a customary brokerage
commission; or purchase or retain securities of any issuer, if to the
knowledge of the Trust, one or more of the officers or trustees of the Trust,
or Advisers, own beneficially more than one-half of 1% of the securities of
such issuer and all such officers and trustees together own beneficially more
than 5% of such securities.
In addition to these fundamental policies, it is the present policy of the
fund (which may be changed without shareholder approval) not to pledge,
mortgage or hypothecate the fund's assets as security for loans, and not to
engage in joint or joint and several trading accounts in securities, except
that it may participate in joint repurchase arrangements, invest its
short-term cash in shares of the Franklin Money Fund (pursuant to the terms
and conditions of the SEC order permitting such investments), or combine
orders to buy or sell with orders from other persons to obtain lower
brokerage commissions. The fund may not invest in excess of 5% of its net
assets, valued at the lower of cost or market, in warrants, nor more than 2%
of its net assets in warrants not listed on either the NYSE or American Stock
Exchange.
If a percentage restriction is met at the time of investment, a later
increase or decrease in the percentage due to a change in the value or
liquidity of portfolio securities or the amount of assets will not be
considered a violation of any of the foregoing restrictions.
OFFICERS AND TRUSTEES
The Board has the responsibility for the overall management of the fund,
including general supervision and review of its investment activities. The
Board, in turn, elects the officers of the fund who are responsible for
administering the fund's day-to-day operations. The affiliations of the
officers and Board members and their principal occupations for the past five
years are shown below. Members of the Board who are considered "interested
persons" of the fund under the 1940 Act are indicated by an asterisk (*).
POSITIONS AND OFFICES PRINCIPAL OCCUPATION
NAME, AGE AND ADDRESS WITH THE TRUST DURING THE PAST FIVE YEARS
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Frank H. Abbott, III (77)
1045 Sansome Street
San Francisco, CA 94111
Trustee
President and Director, Abbott Corporation (an investment company); director
or trustee, as the case may be, of 27 of the investment companies in the
Franklin Templeton Group of Funds; and FORMERLY, Director, MotherLode Gold
Mines Consolidated (gold mining) and Vacu-Dry Co. (food processing).
Harris J. Ashton (66)
191 Clapboard Ridge Road
Greenwich, CT 06830
Trustee
Director, RBC Holdings, Inc. (a bank holding company) and Bar-S Foods (a meat
packing company); director or trustee, as the case may be, of 49 of the
investment companies in the Franklin Templeton Group of Funds; and FORMERLY,
President, Chief Executive Officer and Chairman of the Board, General Host
Corporation (nursery and craft centers).
*Harmon E. Burns (53)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Trustee
Executive Vice President and Director, Franklin Resources, Inc., Franklin
Templeton Distributors, Inc. and Franklin Templeton Services, Inc.; Executive
Vice President, Franklin Advisers, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case
may be, of most of the other subsidiaries of Franklin Resources, Inc. and of
53 of the investment companies in the Franklin Templeton Group of Funds.
S. Joseph Fortunato (66)
Park Avenue at Morris County
P.O. Box 1945
Morristown, NJ 07962-1945
Trustee
Member of the law firm of Pitney, Hardin, Kipp & Szuch; director or trustee,
as the case may be, of 51 of the investment companies in the Franklin
Templeton Group of Funds; and FORMERLY, Director, General Host Corporation
(nursery and craft centers).
Edith E. Holiday (46)
3239 38th Street, N.W.
Washington, DC 20016
Trustee
Director, Amerada Hess Corporation (crude oil and natural gas refining)
(1993-present), Hercules Incorporated (chemicals, fibers and resins)
(1993-present), Beverly Enterprises, Inc. (1995-present) and H.J. Heinz
Company (packaged foods and allied products) (1994-present); director or
trustee, as the case may be, of 25 of the investment companies in the
Franklin Templeton Group of Funds; and FORMERLY, Chairman (1995-1997) and
Trustee (1993-1997), National Child Research Center, Assistant to the
President of the United States and Secretary of the Cabinet (1990-1993),
General Counsel to the United States Treasury Department (1989-1990), and
Counselor to the Secretary and Assistant Secretary for Public Affairs and
Public
Liaison-United States Treasury Department (1988-1989).
*Charles B. Johnson (65)
777 Mariners Island Blvd.
San Mateo, CA 94404
Chairman of
the Board
and Trustee
President, Chief Executive Officer and Director, Franklin Resources, Inc.;
Chairman of the Board and Director, Franklin Advisers, Inc., Franklin
Advisory Services, Inc., Franklin Investment Advisory Services, Inc. and
Franklin Templeton Distributors, Inc.; Director, Franklin/Templeton Investor
Services, Inc. and Franklin Templeton Services, Inc.; officer and/or director
or trustee, as the case may be, of most of the other subsidiaries of Franklin
Resources, Inc. and of 50 of the investment companies in the Franklin
Templeton Group of Funds; and FORMERLY, Director, General Host Corporation
(nursery and craft centers).
*Rupert H. Johnson, Jr. (58)
777 Mariners Island Blvd.
San Mateo, CA 94404
President
and Trustee
Executive Vice President and Director, Franklin Resources, Inc. and Franklin
Templeton Distributors, Inc.; President and Director, Franklin Advisers,
Inc.; Senior Vice President and Director, Franklin Advisory Services, Inc.
and Franklin Investment Advisory Services, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case
may be, of most of the other subsidiaries of Franklin Resources, Inc. and of
53 of the investment companies in the Franklin Templeton Group of Funds.
Frank W.T. LaHaye (69)
20833 Stevens Creek Blvd.
Suite 102
Cupertino, CA 95014
Trustee
General Partner, Miller & LaHaye, which is the General Partner of Peregrine
Ventures II (venture capital firm); Chairman of the Board and Director,
Quarterdeck Corporation (software firm); Director, Digital Transmission
Systems, Inc. (wireless communications); director or trustee, as the case may
be, of 27 of the investment companies in the Franklin Templeton Group of
Funds; and FORMERLY, Director, Fischer Imaging Corporation (medical imaging
systems) and General Partner, Peregrine Associates, which was the General
Partner of Peregrine Ventures (venture capital firm).
Gordon S. Macklin (70)
8212 Burning Tree Road
Bethesda, MD 20817
Trustee
Director, Fund American Enterprises Holdings, Inc., MCI Communications
Corporation, MedImmune, Inc. (biotechnology), Spacehab, Inc. (aerospace
services) and Real 3D (software); director or trustee, as the case may be, of
49 of the investment companies in the Franklin Templeton Group of Funds; and
FORMERLY, Chairman, White River Corporation (financial services) and
Hambrecht and Quist Group (investment banking), and President, National
Association of Securities Dealers, Inc.
Martin L. Flanagan (38)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Chief
Financial Officer
Senior Vice President and Chief Financial Officer, Franklin Resources, Inc.;
Executive Vice President and Director, Templeton Worldwide, Inc.; Executive Vice
President, Chief Operating Officer and Director, Templeton Investment Counsel,
Inc.; Executive Vice President and Chief Financial Officer, Franklin Advisers,
Inc.; Chief Financial Officer, Franklin Advisory Services, Inc. and Franklin
Investment Advisory Services, Inc.; President and Director, Franklin Templeton
Services, Inc.; Senior Vice President and Chief Financial Officer,
Franklin/Templeton Investor Services, Inc.; officer and/or director of some of
the other subsidiaries of Franklin Resources, Inc.; and officer and/or director
or trustee, as the case may be, of 53 of the investment companies in the
Franklin Templeton Group of Funds.
Deborah R. Gatzek (49)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
and Secretary
Senior Vice President and General Counsel, Franklin Resources, Inc.; Senior
Vice President, Franklin Templeton Services, Inc. and Franklin Templeton
Distributors, Inc.; Executive Vice President, Franklin Advisers, Inc.; Vice
President, Franklin Advisory Services, Inc.; Vice President, Chief Legal
Officer and Chief Operating Officer, Franklin Investment Advisory Services,
Inc.; and officer of 53 of the investment companies in the Franklin Templeton
Group of Funds.
Charles E. Johnson (42)
500 East Broward Blvd.
Fort Lauderdale, FL 33394-3091
Vice President
Senior Vice President and Director, Franklin Resources, Inc.; Senior Vice
President, Franklin Templeton Distributors, Inc.; President and Director,
Templeton Worldwide, Inc.; President, Chief Executive Officer, Chief
Investment Officer and Director, Franklin Institutional Services Corporation;
Chairman and Director, Templeton Investment Counsel, Inc.; Vice President,
Franklin Advisers, Inc.; officer and/or director of some of the other
subsidiaries of Franklin Resources, Inc.; and officer and/or director or
trustee, as the case may be, of 34 of the investment companies in the
Franklin Templeton Group of Funds.
Diomedes Loo-Tam (59)
777 Mariners Island Blvd.
San Mateo, CA 94404
Treasurer and
Principal
Accounting
Officer
Senior Vice President, Franklin Templeton Services, Inc.; and officer of 32
of the investment companies in the Franklin Templeton Group of Funds.
Edward V. McVey (61)
777 Mariners Island Blvd.
San Mateo, CA 94404
Vice President
Senior Vice President and National Sales Manager, Franklin Templeton
Distributors, Inc.; and officer of 28 of the investment companies in the
Franklin Templeton Group of Funds.
The table above shows the officers and Board members who are affiliated with
Distributors and Advisers. As of June 1, 1998, nonaffiliated members of the
Board are paid $1,575 for each of the Trust's eight regularly scheduled Board
meetings plus $1,050 per meeting attended. As shown above, the nonaffiliated
Board members also serve as directors or trustees of other investment
companies in the Franklin Templeton Group of Funds. They may receive fees
from these funds for their services. The fees payable to nonaffiliated Board
members by the Trust are subject to reductions resulting from fee caps
limiting the amount of fees payable to Board members who serve on other
boards within the Franklin Templeton Group of Funds. The following table
provides the total fees paid to nonaffiliated Board members by the Trust and
by other funds in the Franklin Templeton Group of Funds.
TOTAL FEES NUMBER OF BOARDS
RECEIVED FROM IN THE FRANKLIN
TOTAL FEES THE FRANKLIN TEMPLETON GROUP
RECEIVED FROM TEMPLETON OF FUNDS ON
NAME THE TRUST*** GROUP OF FUNDS****WHICH EACH SERVES*****
Frank H. Abbott, III ......$5,400 $165,937 27
Harris J. Ashton .......... 5,100 344,642 49
S. Joseph Fortunato ....... 5,100 361,562 51
David W. Garbellano* ...... 1,500 91,317 N/A
Edith Holiday** ........... 1,200 72,875 25
Frank W.T. LaHaye ......... 5,400 141,433 27
Gordon S. Macklin ......... 5,100 337,292 49
*Deceased, September 27, 1997.
**Appointed, January 15, 1998.
***For the fiscal year ended April 30, 1998, during which time fees at the
rate of $300 for each of the Trust's eight regularly scheduled Board meetings
plus $300 per meeting attended were in effect.
****For the calendar year ended December 31, 1997.
*****We base the number of boards on the number of registered investment
companies in the Franklin Templeton Group of Funds. This number does not
include the total number of series or funds within each investment company
for which the Board members are responsible. The Franklin Templeton Group of
Funds currently includes 54 registered investment companies, with
approximately 170 U.S. based funds or series.
Nonaffiliated members of the Board are reimbursed for expenses incurred in
connection with attending board meetings, paid pro rata by each fund in the
Franklin Templeton Group of Funds for which they serve as director or
trustee. No officer or Board member received any other compensation,
including pension or retirement benefits, directly or indirectly from the
fund or other funds in the Franklin Templeton Group of Funds. Certain
officers or Board members who are shareholders of Resources may be deemed to
receive indirect remuneration by virtue of their participation, if any, in
the fees paid to its subsidiaries.
As of June 2, 1998, the officers and Board members, as a group, owned of
record and beneficially the following shares of the fund: approximately 5,157
Class I shares and 587 Advisor Class shares, or less than 1%, of the total
outstanding Class I and Advisor Class shares of the fund. Many of the Board
members also own shares in other funds in the Franklin Templeton Group of
Funds. Charles B. Johnson and Rupert H. Johnson, Jr. are brothers and the
father and uncle, respectively, of Charles E. Johnson.
INVESTMENT MANAGEMENT
AND OTHER SERVICES
INVESTMENT MANAGER AND SERVICES PROVIDED. The fund's investment manager is
Advisers. Advisers provides investment research and portfolio management
services, including the selection of securities for the fund to buy, hold or
sell and the selection of brokers through whom the fund's portfolio
transactions are executed. Advisers' activities are subject to the review and
supervision of the Board to whom Advisers renders periodic reports of the
fund's investment activities. Advisers and its officers, directors and
employees are covered by fidelity insurance for the protection of the fund.
Advisers and its affiliates act as investment manager to numerous other
investment companies and accounts. Advisers may give advice and take action
with respect to any of the other funds it manages, or for its own account,
that may differ from action taken by Advisers on behalf of the fund.
Similarly, with respect to the fund, Advisers is not obligated to recommend,
buy or sell, or to refrain from recommending, buying or selling any security
that Advisers and access persons, as defined by the 1940 Act, may buy or sell
for its or their own account or for the accounts of any other fund. Advisers
is not obligated to refrain from investing in securities held by the fund or
other funds that it manages. Of course, any transactions for the accounts of
Advisers and other access persons will be made in compliance with the fund's
Code of Ethics. Please see "Miscellaneous Information - Summary of Code of
Ethics."
MANAGEMENT FEES. Under its management agreement, the fund pays Advisers a
management fee equal to an annual rate of .625 of 1% of the value of average
daily net assets up to and including $100 million; and .50 of 1% of the value
of average daily net assets over $100 million up to and including $250
million; and .45 of 1% of the value of average daily net assets over $250
million up to and including $10 billion; and .44 of 1% of the value of
average daily net assets over $10 billion up to and including $12.5 billion;
and .42 of 1% of the value of average daily net assets over $12.5 billion up
to and including $15 billion; and .40 of 1% of the value of average daily net
assets over $15 billion. The fee is computed at the close of business on the
last business day of each month. Each class of the fund's shares pays its
proportionate share of the management fee.
For the fiscal years ended April 30, 1998 and 1997, management fees totaling
$13,566,077 and $3,859,067 were paid to Advisers. For the fiscal year ended
April 30, 1996, management fees, before any advance waiver, totaled
$1,232,136. Under an agreement by Advisers to limit its fees, the fund paid
management fees totaling $1,174,738 for the same period.
MANAGEMENT AGREEMENT. The management agreement is in effect until April 30,
1999. It may continue in effect for successive annual periods if its
continuance is specifically approved at least annually by a vote of the Board
or by a vote of the holders of a majority of the fund's outstanding voting
securities, and in either event by a majority vote of the Board members who
are not parties to the management agreement or interested persons of any such
party (other than as members of the Board), cast in person at a meeting
called for that purpose. The management agreement may be terminated without
penalty at any time by the Board or by a vote of the holders of a majority of
the fund's outstanding voting securities on 60 days' written notice to
Advisers, or by Advisers on 60 days' written notice to the fund, and will
automatically terminate in the event of its assignment, as defined in the
1940 Act.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services
provides certain administrative services and facilities for the fund. These
include preparing and maintaining books, records, and tax and financial
reports, and monitoring compliance with regulatory requirements. FT Services
is a wholly owned subsidiary of Resources.
Under its administration agreement, Advisers pays FT Services a monthly
administration fee equal to an annual rate of 0.15% of the fund's average
daily net assets up to $200 million, 0.135% of average daily net assets over
$200 million up to $700 million, 0.10% of average daily net assets over $700
million up to $1.2 billion, and 0.075% of average daily net assets over $1.2
billion. During the fiscal year ended April 30, 1998, and the period from
October 1, 1996, through April 30, 1997, administration fees totaling
$2,794,347 and $717,201,
respectively, were paid to FT Services. The fee is paid by Advisers. It is
not a separate expense of the fund.
SHAREHOLDER SERVICING AGENT. Investor Services, a wholly owned subsidiary of
Resources, is the fund's shareholder servicing agent and acts as the fund's
transfer agent and dividend-paying agent. Investor Services is compensated on
the basis of a fixed fee per account. The fund may also reimburse Investor
Services for certain out-of-pocket expenses, which may include payments by
Investor Services to entities, including affiliated entities, that provide
sub-shareholder services, recordkeeping and/or transfer agency services to
beneficial owners of the fund. The amount of reimbursements for these
services per benefit plan participant fund account per year may not exceed
the per account fee payable by the fund to Investor Services in connection
with maintaining shareholder accounts.
CUSTODIAN. Bank of New York, Mutual Funds Division, 90 Washington Street, New
York, New York 10286, acts as custodian of the securities and other assets of
the fund. The custodian does not participate in decisions relating to the
purchase and sale of portfolio securities.
AUDITOR. Coopers & Lybrand L.L.P., 333 Market Street, San Francisco,
California 94105, is the fund's independent auditor. During the fiscal year
ended April 30, 1998, the auditor's services consisted of rendering an
opinion on the financial statements of the Trust included in the Trust's
Annual Report to Shareholders for the fiscal year ended April 30, 1998.
HOW DOES THE FUND BUY
SECURITIES FOR ITS PORTFOLIO?
Advisers selects brokers and dealers to execute the fund's portfolio
transactions in accordance with criteria set forth in the management
agreement and any directions that the Board may give.
When placing a portfolio transaction, Advisers seeks to obtain prompt
execution of orders at the most favorable net price. For portfolio
transactions on a securities exchange, the amount of commission paid by the
fund is negotiated between Advisers and the broker executing the transaction.
The determination and evaluation of the reasonableness of the brokerage
commissions paid are based to a large degree on the professional opinions of
the persons responsible for placement and review of the transactions. These
opinions are based on the experience of these individuals in the securities
industry and information available to them about the level of commissions
being paid by other institutional investors of comparable size. Advisers will
ordinarily place orders to buy and sell over-the-counter securities on a
principal rather than agency basis with a principal market maker unless, in
the opinion of Advisers, a better price and execution can otherwise be
obtained. Purchases of portfolio securities from underwriters will include a
commission or concession paid by the issuer to the underwriter, and purchases
from dealers will include a spread between the bid and ask price.
Advisers may pay certain brokers commissions that are higher than those
another broker may charge, if Advisers determines in good faith that the
amount paid is reasonable in relation to the value of the brokerage and
research services it receives. This may be viewed in terms of either the
particular transaction or Advisers' overall responsibilities to client
accounts over which it exercises investment discretion. The services that
brokers may provide to Advisers include, among others, supplying information
about particular companies, markets, countries, or local, regional, national
or transnational economies, statistical data, quotations and other securities
pricing information, and other information that provides lawful and
appropriate assistance to Advisers in carrying out its investment advisory
responsibilities. These services may not always directly benefit the fund.
They must, however, be of value to Advisers in carrying out its overall
responsibilities to its clients.
It is not possible to place a dollar value on the special executions or on
the research services Advisers receives from dealers effecting transactions
in portfolio securities. The allocation of transactions in order to obtain
additional research services permits Advisers to supplement its own research
and analysis activities and to receive the views and information of
individuals and research staffs of other securities firms. As long as it is
lawful and appropriate to do so, Advisers and its affiliates may use this
research and data in their investment advisory capacities with other clients.
If the fund's officers are satisfied that the best execution is obtained, the
sale of fund shares, as well as shares of other funds in the Franklin
Templeton Group of Funds, may also be considered a factor in the selection of
broker-dealers to execute the fund's portfolio transactions.
Because Distributors is a member of the NASD, it may sometimes receive
certain fees when the fund tenders portfolio securities pursuant to a
tender-offer solicitation. As a means of recapturing brokerage for the
benefit of the fund, any portfolio securities tendered by the fund will be
tendered through Distributors if it is legally permissible to do so. In turn,
the next management fee payable to Advisers will be reduced by the amount of
any fees received by Distributors in cash, less any costs and expenses
incurred in connection with the tender.
If purchases or sales of securities of the fund and one or more other
investment companies or clients supervised by Advisers are considered at or
about the same time, transactions in these securities will be allocated among
the several investment companies and clients in a manner deemed equitable to
all by Advisers, taking into account the respective sizes of the funds and
the amount of securities to be purchased or sold. In some cases this
procedure could have a detrimental effect on the price or volume of the
security so far as the fund is concerned. In other cases it is possible that
the ability to participate in volume transactions may improve execution and
reduce transaction costs to the fund.
During the fiscal years ended April 30, 1998, 1997 and 1996, the fund paid
brokerage commissions totaling $14,648,944, $1,155,691 and $570,572,
respectively.
As of April 30, 1998, the fund did not own securities of its regular
broker-dealers.
HOW DO I BUY, SELL AND EXCHANGE SHARES?
ADDITIONAL INFORMATION ON BUYING SHARES
The fund continuously offers its shares through Securities Dealers who have
an agreement with Distributors. Banks and financial institutions that sell
shares of the fund may be required by state law to register as Securities
Dealers.
When you buy shares, if you submit a check or a draft that is returned unpaid
to the fund we may impose a $10 charge against your account for each returned
item.
OTHER PAYMENTS TO SECURITIES DEALERS. Distributors and/or its affiliates
provide financial support to various Securities Dealers that sell shares of
the Franklin Templeton Group of Funds. This support is based primarily on the
amount of sales of fund shares. The amount of support may be affected by:
total sales; net sales; levels of redemptions; the proportion of a Securities
Dealer's sales and marketing efforts in the Franklin Templeton Group of
Funds; a Securities Dealer's support of, and participation in, Distributors'
marketing programs; a Securities Dealer's compensation programs for its
registered representatives; and the extent of a Securities Dealer's marketing
programs relating to the Franklin Templeton Group of Funds. Financial support
to Securities Dealers may be made by payments from Distributors' resources,
from Distributors' retention of underwriting concessions and, in the case of
funds that have Rule 12b-1 plans, from payments to Distributors under such
plans. In addition, certain Securities Dealers may receive brokerage
commissions generated by fund portfolio transactions in accordance with the
NASD's rules.
Distributors routinely sponsors due diligence meetings for registered
representatives during which they receive updates on various Franklin
Templeton Funds and are afforded the opportunity to speak with portfolio
managers. Invitation to these meetings is not conditioned on selling a
specific number of shares. Those who have shown an interest in the Franklin
Templeton Funds, however, are more likely to be considered. To the extent
permitted by their firm's policies and procedures, registered
representatives' expenses in attending these meetings may be covered by
Distributors.
REINVESTMENT DATE. Shares acquired through the reinvestment of dividends will
be purchased at the Net Asset Value determined on the business day following
the dividend record date (sometimes known as the "ex-dividend date"). The
processing date for the reinvestment of dividends may vary and does not
affect the amount or value of the shares acquired.
ADDITIONAL INFORMATION
ON EXCHANGING SHARES
If you request the exchange of the total value of your account, declared but
unpaid income dividends and capital gain distributions will be exchanged into
the new fund and will be invested at Net Asset Value. Backup withholding and
information reporting may apply. Information regarding the possible tax
consequences of an exchange is included in the tax section in this SAI and in
the Prospectus.
If a substantial number of shareholders should, within a short period, sell
their shares of the fund under the exchange privilege, the fund might have to
sell portfolio securities it might otherwise hold and incur the additional costs
related to such transactions. On the other hand, increased use of the exchange
privilege may result in periodic large inflows of money. If this occurs, it is
the fund's general policy to initially invest this money in short-term,
interest-bearing money market instruments, unless it is believed that attractive
investment opportunities consistent with the fund's investment goal exist
immediately. This money will then be withdrawn from the short-term, money market
instruments and invested in portfolio securities in as orderly a manner as is
possible when attractive investment opportunities arise.
The proceeds from the sale of shares of an investment company are generally
not available until the seventh day following the sale. The funds you are
seeking to exchange into may delay issuing shares pursuant to an exchange
until that seventh day. The sale of fund shares to complete an exchange will
be effected at Net Asset Value at the close of business on the day the
request for exchange is received in proper form. Please see "May I Exchange
Shares for Shares of Another Fund?" in the Prospectus.
ADDITIONAL INFORMATION ON SELLING SHARES
SYSTEMATIC WITHDRAWAL PLAN. There are no service charges for establishing or
maintaining a systematic withdrawal plan. Payments under the plan will be
made from the redemption of an equivalent amount of shares in your account,
generally on the 25th day of the month in which a payment is scheduled. If
the 25th falls on a weekend or holiday, we will process the redemption on the
next business day.
Redeeming shares through a systematic withdrawal plan may reduce or exhaust
the shares in your account if payments exceed distributions received from the
fund. This is especially likely to occur if there is a market decline. If a
withdrawal amount exceeds the value of your account, your account will be
closed and the remaining balance in your account will be sent to you. Because
the amount withdrawn under the plan may be more than your actual yield or
income, part of the payment may be a return of your investment.
The fund may discontinue a systematic withdrawal plan by notifying you in
writing and will automatically discontinue a systematic withdrawal plan if
all shares in your account are withdrawn or if the fund receives notification
of the shareholder's death or incapacity.
THROUGH YOUR SECURITIES DEALER. If you sell shares through your Securities
Dealer, it is your dealer's responsibility to transmit the order to the fund
in a timely fashion. Any loss to you resulting from your dealer's failure to
do so must be settled between you and your Securities Dealer.
REDEMPTIONS IN KIND. The fund has committed itself to pay in cash (by check)
all requests for redemption by any shareholder of record, limited in amount,
however, during any 90-day period to the lesser of $250,000 or 1% of the
value of the fund's net assets at the beginning of the 90-day period. This
commitment is irrevocable without the prior approval of the SEC. In the case
of redemption requests in excess of these amounts, the Board
reserves the right to make payments in whole or in part in securities or
other assets of the fund, in case of an emergency, or if the payment of such
a redemption in cash would be detrimental to the existing shareholders of the
fund. In these circumstances, the securities distributed would be valued at
the price used to compute the fund's net assets and you may incur brokerage
fees in converting the securities to cash. The fund does not intend to redeem
illiquid securities in kind. If this happens, however, you may not be able to
recover your investment in a timely manner.
GENERAL INFORMATION
If dividend checks are returned to the fund marked "unable to forward" by the
postal service, we will consider this a request by you to change your
dividend option to reinvest all distributions. The proceeds will be
reinvested in additional shares at Net Asset Value until we receive new
instructions.
Distribution or redemption checks sent to you do not earn interest or any
other income during the time the checks remain uncashed. Neither the fund nor
its affiliates will be liable for any loss caused by your failure to cash
such checks. The fund is not responsible for tracking down uncashed checks,
unless a check is returned as undeliverable.
In most cases, if mail is returned as undeliverable we are required to take
certain steps to try to find you free of charge. If these attempts are
unsuccessful, however, we may deduct the costs of any additional efforts to
find you from your account. These costs may include a percentage of the
account when a search company charges a percentage fee in exchange for its
location services.
All checks, drafts, wires and other payment mediums used to buy or sell
shares of the fund must be denominated in U.S. dollars. We may, in our sole
discretion, either (a) reject any order to buy or sell shares denominated in
any other currency or
(b) honor the transaction or make adjustments to your account for the
transaction as of a date and with a foreign currency exchange factor
determined by the drawee bank.
SPECIAL SERVICES. Investor Services may pay certain financial institutions
that maintain omnibus accounts with the fund on behalf of numerous beneficial
owners for recordkeeping operations performed with respect to such owners.
For each beneficial owner in the omnibus account, the fund may reimburse
Investor Services an amount not to exceed the per account fee that the fund
normally pays Investor Services. These financial institutions may also charge
a fee for their services directly to their clients.
Certain shareholder servicing agents may be authorized to accept your
transaction request.
HOW ARE FUND SHARES VALUED?
We calculate the Net Asset Value per share as of the close of the NYSE,
normally 1:00 p.m. Pacific time, each day that the NYSE is open for trading.
As of the date of this SAI, the fund is informed that the NYSE observes the
following holidays: New Year's Day, Martin Luther King Jr. Day, Presidents'
Day, Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day
and Christmas Day.
For the purpose of determining the aggregate net assets of the fund, cash and
receivables are valued at their realizable amounts. Interest is recorded as
accrued and dividends are recorded on the ex-dividend date. Portfolio
securities listed on a securities exchange or on the NASDAQ National Market
System for which market quotations are readily available are valued at the
last quoted sale price of the day or, if there is no such reported sale,
within the range of the most recent quoted bid and ask prices.
Over-the-counter portfolio securities are valued within the range of the most
recent quoted bid and ask prices. Portfolio securities that are traded both
in the over-the-counter market and on a stock exchange are valued according
to the broadest and most representative market as determined by Advisers.
Portfolio securities underlying actively traded call options are valued at
their market price as determined above. The current market value of any
option held by the fund is its last sale price on the relevant exchange
before the time when assets are valued. Lacking any sales that day or if the
last sale price is outside the bid and ask prices, options are valued within
the range of the current closing bid and ask prices if the valuation is
believed to fairly reflect the contract's market value.
The value of a foreign security is determined as of the close of trading on
the foreign exchange on which it is traded or as of the close of trading on
the NYSE, if that is earlier. The value is then converted into its U.S.
dollar equivalent at the foreign exchange rate in effect at noon, New York
time, on the day the value of the foreign security is determined. If no sale
is reported at that time, the foreign security is valued within the range of
the most recent quoted bid and ask prices. Occasionally, events that affect
the values of foreign securities and foreign exchange rates may occur between
the times at which they are determined and the close of the exchange and
will, therefore, not be reflected in the computation of the Net Asset Value.
If events materially affecting the values of these foreign securities occur
during this period, the securities will be valued in accordance with
procedures established by the Board.
Generally, trading in corporate bonds, U.S. government securities and money
market instruments is substantially completed each day at various times
before the close of the NYSE. The value of these securities used in computing
the Net Asset Value is determined as of such times. Occasionally, events
affecting the values of these securities may occur between the times at which
they are determined and the close of the NYSE that will not be reflected in
the computation of the Net Asset Value. If events materially affecting the
values of these securities occur during this period, the securities will be
valued at their fair value as determined in good faith by the Board.
Other securities for which market quotations are readily available are valued
at the current market price, which may be obtained from a pricing service,
based on a variety of factors including recent trades, institutional size
trading in similar types of securities (considering yield, risk and maturity)
and/or developments related to specific issues. Securities and other assets
for which market prices are not readily available are valued at fair value as
determined following procedures approved by the Board. With the approval of
the Board, the fund may use a pricing service, bank or Securities Dealer to
perform any of the above described functions.
ADDITIONAL INFORMATION
ON DISTRIBUTIONS AND TAXES
DISTRIBUTIONS
DISTRIBUTIONS OF NET INVESTMENT INCOME. The fund receives income generally in
the form of dividends and other income derived from its investments. This
income, less expenses incurred in the operation of the fund, constitutes its
net investment income from which dividends may be paid to you. Any
distributions by the fund from such income will be taxable to you as ordinary
income, whether you take them in cash or in additional shares.
DISTRIBUTIONS OF CAPITAL GAINS. The fund may derive capital gains and losses
in connection with sales or other dispositions of its portfolio securities.
Distributions derived from the excess of net short-term capital gain over net
long-term capital loss will be taxable to you as ordinary income.
Distributions paid from long-term capital gains realized by the fund will be
taxable to you as long-term capital gain, regardless of how long you have
held your shares in the fund. Any net short-term or long-term capital gains
realized by the fund (net of any capital loss carryovers) generally will be
distributed once each year, and may be distributed more frequently, if
necessary, in order to reduce or eliminate federal excise or income taxes on
the fund.
Gain from securities sold by the fund that are held for more than one year
will be taxable at a maximum rate of 20% for individual investors in the 28%
or higher federal income tax brackets; or at a maximum rate of 10% for
individual investors in the 15% federal income tax bracket.
Gains from securities sold by the fund prior to January 1, 1998 are taxable
at different rates depending on the length of time the fund held such assets.
For "qualified 5-year gains," the maximum capital gains rate is 18% for
individuals in the 28% or higher federal income tax brackets; and 8% for
individuals in the 15% federal income tax bracket. For individuals in the 15%
bracket, qualified 5-year gains are net gains on securities held for more
than 5 years which are sold after December 31, 2000. For individuals who are
subject to tax at higher rates, qualified 5-year gains are net gains on
securities which are purchased after December 31, 2000 and are held for more
than 5 years. Taxpayers subject to tax at the higher rates may also make an
election for shares held on January 1, 2001 to recognize gain on their shares
in order to qualify such shares as qualified 5-year property.
Additional information on reporting capital gains distributions on your
personal income tax returns is available in Franklin Templeton's Tax
Information Handbook. Please call Fund Information to request a copy.
Questions concerning each investor's personal tax reporting should be
addressed to the investor's personal tax advisor.
CERTAIN DISTRIBUTIONS PAID IN JANUARY. Distributions which are declared in
October, November or December and paid to you in January of the following
year, will be treated for tax purposes as if they had been received by you on
December 31 of the year in which they were declared. The fund will report
this income to you on your Form 1099-DIV for the year in which these
distributions were declared.
INFORMATION ON THE TAX CHARACTER OF DISTRIBUTIONS. The fund will inform you
of the amount and character of your distributions at the time they are paid,
and will advise you of the tax status for federal income tax purposes of such
distributions shortly after the close of each calendar year. If you have not
held fund shares for a full year, you may have designated and distributed to
you as ordinary income or capital gain a percentage of income that is not
equal to the actual amount of such income earned during the period of your
investment in the fund.
TAXES
ELECTION TO BE TAXED AS A REGULATED INVESTMENT COMPANY. The fund has elected
to be treated as a regulated investment company under Subchapter M of the
Code, has qualified as such for its most recent fiscal year, and intends to
so qualify during the current fiscal year. The Board reserves the right not
to maintain the qualification of the fund as a regulated investment company
if it determines such course of action to be beneficial to you. In such case,
the fund will be subject to federal, and possibly state, corporate taxes on
its taxable income and gains, and distributions to you will be taxed as
ordinary dividend income to the extent of the fund's available earnings and
profits.
In order to qualify as a regulated investment company for tax purposes, the
fund must meet certain specific requirements, including:
o The fund must maintain a diversified portfolio of securities, wherein no
security (other than U.S. government securities and securities of other
regulated investment companies) can exceed 25% of the fund's total assets,
and, with respect to 50% of the fund's total assets, no investment (other
than cash and cash items, U.S. government securities and securities of
other regulated investment companies) can exceed 5% of the fund's total
assets or 10% of the outstanding voting securities of the issuer;
o The fund must derive at least 90% of its gross income from dividends,
interest, payments with respect to securities loans, and gains from the
sale or disposition of stock, securities or foreign currencies, or other
income derived with respect to its business of investing in such stock,
securities, or currencies; and
o The fund must distribute to its shareholders at least 90% of its investment
company taxable income (i.e., net investment income plus net short-term
capital gains) and net tax-exempt income for each of its fiscal years.
EXCISE TAX DISTRIBUTION REQUIREMENTS. The Code requires the fund to
distribute at least 98% of its taxable ordinary income earned during the
calendar year and 98% of its capital gain net income earned during the twelve
month period ending October 31 (in addition to undistributed amounts from the
prior year) to you by December 31 of each year in order to avoid federal
excise taxes. The fund intends to declare and pay sufficient dividends in
December (or in January that are treated by you as received in December) but
does not guarantee and can give no assurances that its distributions will be
sufficient to eliminate all such taxes.
REDEMPTION OF FUND SHARES. Redemptions and exchanges of fund shares are
taxable transactions for federal and state income tax purposes. The tax law
requires that you recognize a gain or loss in an amount equal to the
difference between your tax basis and the amount you received in exchange for
your shares, subject to the rules described below. If you hold your shares as
a capital asset, the gain or loss that you realize will be capital gain or
loss, and will be long-term for federal income tax purposes if you have held
your shares for more than one year at the time of redemption or exchange. Any
loss incurred on the redemption or exchange of shares held for six months or
less will be treated as a long-term capital loss to the extent of any
long-term capital gains distributed to you by the fund on those shares.
All or a portion of any loss that you realize upon the redemption of your
fund shares will be disallowed to the extent that you purchase other shares
in the fund (through reinvestment of dividends or otherwise) within 30 days
before or after your share redemption. Any loss disallowed under these rules
will be added to your tax basis in the new shares you purchase.
DEFERRAL OF BASIS. All or a portion of the sales charge that you paid for
your shares in the fund will be excluded from your tax basis in any of the
shares sold within 90 days of their purchase (for the purpose of determining
gain or loss upon the sale of such shares) if you reinvest the sales proceeds
in the fund or in another of the Franklin Templeton Funds, and the sales
charge that would otherwise apply to your reinvestment is reduced or
eliminated. The portion of the sales charge excluded from your tax basis in
the shares sold will equal the amount that the sales charge is reduced on
your reinvestment. Any portion of the sales charge excluded from your tax
basis in the shares sold will be added to the tax basis of the shares you
acquire from your reinvestment.
U.S. GOVERNMENT OBLIGATIONS. Many states grant tax-free status to dividends
paid to you from interest earned on direct obligations of the U.S.
government, subject in some states to minimum investment requirements that
must be met by the fund. Investments in GNMA/FNMA securities, bankers'
acceptances, commercial paper and repurchase agreements collateralized by
U.S. government securities do not generally qualify for tax-free treatment.
At the end of each calendar year, the fund will provide you with the
percentage of any dividends paid that may qualify for tax-free treatment on
your personal income tax return. You should consult with your own tax advisor
to determine the application of your state and local laws to these
distributions. Because the rules on exclusion of this income are different
for corporations, corporate shareholders should consult with their corporate
tax advisors about whether any of their distributions may be exempt from
corporate income or franchise taxes.
DIVIDENDS-RECEIVED DEDUCTION FOR CORPORATIONS. As a corporate shareholder,
you should note that only a small percentage of the dividends paid by the
fund for the most recent fiscal year qualified for the dividends-received
deduction. You will be permitted in some circumstances to deduct these
qualified dividends, thereby reducing the tax that you would otherwise be
required to pay on these dividends. The dividends-received deduction will be
available only with respect to dividends designated by the fund as eligible
for such treatment. Dividends so designated by the fund must be attributable
to dividends earned by the fund from U.S. corporations that were not
debt-financed.
INVESTMENT IN COMPLEX SECURITIES. The fund's investment in options, futures
contracts and forward contracts, including transactions involving actual or
deemed short sales or foreign exchange gains or losses are subject to many
complex and special tax rules. Over-the-counter options on debt securities
and equity options, including options on stock and on narrow-based stock
indexes, will be subject to tax under section 1234 of the Code, generally
producing a long-term or short-term capital gain or loss upon exercise,
lapse, or closing out of the option or sale of the underlying stock or
security. Certain other options, futures and forward contracts entered into
by the fund are generally governed by section 1256 of the Code. These
"section 1256" positions generally include listed options on debt securities,
options on broad-based stock indexes, options on securities indexes, options
on futures contracts, regulated futures contracts and certain foreign
currency contracts and options thereon.
Absent a tax election to the contrary, each such section 1256 position held
by the fund will be marked-to-market (i.e., treated as if it were sold for
fair market value) on the last business day of the fund's fiscal year (and on
other dates as prescribed by the Code), and all gain or loss associated with
fiscal year transactions and mark-to-market positions at fiscal year end
(except certain currency gain or loss covered by section 988 of the Code)
will generally be treated as 60% long-term capital gain or loss and 40%
short-term capital gain or loss. Even though marked-to-market, gains and
losses realized on foreign currency and foreign security investments will
generally be treated as ordinary income. The effect of section 1256
mark-to-market rules may be to accelerate income or to convert what otherwise
would have been long-term capital gains into short-term capital gains or
short-term capital losses into long-term capital losses within the fund. The
acceleration of income on section 1256 positions may require the fund to
accrue taxable income without the corresponding receipt of cash. In order to
generate cash to satisfy the distribution requirements of the Code, the fund
may be required to dispose of portfolio securities that it otherwise would
have continued to hold or to use cash flows from other sources such as the
sale of fund shares. In these ways, any or all of these rules may affect the
amount, character and timing of income distributed to you by the fund.
When the fund holds an option or contract which substantially diminishes the
fund's risk of loss with respect to another position of the fund (as might
occur in some hedging transactions), this combination of positions could be
treated as a "straddle" for tax purposes, possibly resulting in deferral of
losses, adjustments in the holding periods and conversion of short-term
capital losses into long-term capital losses. The fund may make certain tax
elections for mixed straddles (i.e., straddles comprised of at least one
section 1256 position and at least one non-section 1256 position) which may
reduce or eliminate the operation of these straddle rules.
When a fund enters into "constructive sale transactions," the fund must
recognize gain (but not loss) on any constructive sale of an appreciated
financial position in stock, a partnership interest or certain debt
instruments. The fund will generally be treated as making a constructive sale
when it: (i) enters into a short sale on the same property, (ii) enters into
an offsetting notional principal contract, or (iii) enters into a futures or
forward contract to deliver the same or substantially similar property. Other
transactions (including certain financial instruments called collars) will be
treated as constructive sales as provided in Treasury regulations to be
published. There are also certain exceptions that apply for transactions that
are closed before the end of the 30th day after the close of the taxable year.
Distributions paid to you by the fund of ordinary income and short-term
capital gains arising from the fund's investments, including investments in
options, forwards, and futures contracts, will be taxable to you as ordinary
income. The fund will monitor its transactions in such options and contracts
and may make certain other tax elections in order to mitigate the effect of
the above rules.
INVESTMENTS IN FOREIGN CURRENCIES AND FOREIGN SECURITIES. The fund is
authorized to invest in foreign currency denominated securities. Such
investments, if made, will have the following additional tax consequences:
Under the Code, gains or losses attributable to fluctuations in foreign
currency exchange rates which occur between the time the fund accrues income
(including dividends), or accrues expenses which are denominated in a foreign
currency, and the time the fund actually collects such income or pays such
expenses generally are treated as ordinary income or loss. Similarly, on the
disposition of debt securities denominated in a foreign currency and on the
disposition of certain options, futures, forward contracts, gain or loss
attributable to fluctuations in the value of foreign currency between the
date of acquisition of the security or contract and the date of its
disposition are also treated as ordinary gain or loss. These gains or losses,
referred to under the Code as "section 988" gains or losses, may increase or
decrease the amount of the fund's net investment company taxable income,
which, in turn, will affect the amount of income to be distributed to you by
the fund.
If the fund's section 988 losses exceed the fund's other net investment
company taxable income during a taxable year, the fund generally will not be
able to make ordinary dividend distributions to you for that year, or
distributions made before the losses were realized will be recharacterized as
return of capital distributions for federal income tax purposes, rather than
as an ordinary dividend or capital gain distribution. If a distribution is
treated as a return of capital, your tax basis in your fund shares will be
reduced by a like amount (to the extent of such basis), and any excess of the
distribution over your tax basis in your fund shares will be treated as
capital gain to you.
INVESTMENT IN PASSIVE FOREIGN INVESTMENT COMPANY SECURITIES. The fund may
invest in shares of foreign corporation which may be classified under the
Code as passive foreign investment companies ("PFICs"). In general, a foreign
corporation is classified as a PFIC if at least one-half of its assets
constitute investment-type assets or 75% or more of its gross income is
investment-type income.
If the fund receives an "excess distribution" with respect to PFIC stock, the
fund itself may be subject to U.S. federal income tax on a portion of the
distribution, whether or not the corresponding income is distributed by the
fund to you. In general, under the PFIC rules, an excess distribution is
treated as having been realized ratably over the period during which the fund
held the PFIC shares. The fund itself will be subject to tax on the portion,
if any, of an excess distribution that is so allocated to prior fund taxable
years, and an interest factor will be added to the tax, as if the tax had
been payable in such prior taxable years. In this case, you would not be
permitted to claim a credit on your own tax return for the tax paid by the
fund. Certain distributions from a PFIC as well as gain from the sale of PFIC
shares are treated as excess distributions. Excess distributions are
characterized as ordinary income even though, absent application of the PFIC
rules, certain excess distributions might have been classified as capital
gain. This may have the effect of increasing fund distributions to you that
are treated as ordinary dividends rather than long-term capital gain
dividends.
The fund may be eligible to elect alternative tax treatment with respect to
PFIC shares. Under an election that currently is available in some
circumstances, the fund generally would be required to include in its gross
income its share of the earnings of a PFIC on a current basis, regardless of
whether distributions are received from the PFIC during such period. If this
election were made, the special rules, discussed above, relating to the
taxation of excess distributions, would not apply. In addition, under another
election that involves marking-to-market the fund's PFIC shares at the end of
each taxable year (and on certain other dates as prescribed in the Code),
unrealized gains would be treated as though they were realized. The fund
would also be allowed an ordinary deduction for the excess, if any, of the
adjusted basis of its investment in the PFIC stock over its fair market value
at the end of the taxable year. This deduction would be limited to the amount
of any net mark-to-market gains previously included with respect to that
particular PFIC security. If the fund were to make this second PFIC election,
tax at the fund level under the PFIC rules would generally be eliminated.
The application of the PFIC rules may affect, among other things, the amount
of tax payable by the fund (if any), the amounts distributable to you by the
fund, the time at which these distributions must be made, and whether these
distributions will be classified as ordinary income or capital gain
distributions to you.
You should be aware that it is not always possible at the time shares of a
foreign corporation are acquired to ascertain that the foreign corporation is
a PFIC, and that there is always a possibility that a foreign corporation
will become a PFIC after the fund acquires shares in that corporation. While
the fund will generally seek to avoid investing in PFIC shares to avoid the
tax consequences detailed above, there are no guarantees that it will do so
and it reserves the right to make such investments as a matter of its
fundamental investment policy.
CONVERSION TRANSACTIONS. Gains realized by a fund from transactions that are
deemed to be "conversion transactions" under the Code, and that would
otherwise produce capital gain may be recharacterized as ordinary income to
the extent that such gain does not exceed an amount defined as the
"applicable imputed income amount." A conversion transaction is any
transaction in which substantially all of the fund's expected return is
attributable to the time value of the fund's net investment in such
transaction, and any one of the following criteria are met:
1) there is an acquisition of property with a substantially contemporaneous
agreement to sell the same or substantially identical property in the future;
2) the transaction is an applicable straddle;
3) the transaction was marketed or sold to the fund on the basis that it
would have the economic characteristics of a loan but would be taxed as
capital gain; or
4) the transaction is specified in Treasury regulations to be promulgated in
the future.
The applicable imputed income amount, which represents the deemed return on
the conversion transaction based upon the time value of money, is computed
using a yield equal to 120 percent of the applicable federal rate, reduced by
any prior recharacterizations under this provision or the provisions of
Section 263(g) of the Code dealing with capitalized carrying costs.
STRIPPED PREFERRED STOCK. Occasionally, the fund may purchase "stripped
preferred stock" that is subject to special tax treatment. Stripped preferred
stock is defined as certain preferred stock issues where ownership of the
stock has been separated from the right to receive dividends that have not
yet become payable. The stock must have a fixed redemption price, must not
participate substantially in the growth of the issuer, and must be limited
and preferred as to dividends. The difference between the redemption price
and purchase price is taken into fund income over the term of the instrument
as if it were original issue discount. The amount that must be included in
each period generally depends on the original yield to maturity, adjusted for
any prepayments of principal.
DEFAULTED OBLIGATIONS. The fund may be required to accrue income on defaulted
obligations and to distribute such income to you even though it is not
currently receiving interest or principal payments on such obligations. In
order to generate cash to satisfy these distribution requirements, the fund
may be required to dispose of portfolio securities that it otherwise would
have continued to hold or to use cash flows from other sources such as the
sale of fund shares.
THE FUND'S UNDERWRITER
Pursuant to an underwriting agreement, Distributors acts as principal
underwriter in a continuous public offering of the fund's shares. The
underwriting agreement will continue in effect for successive annual periods
if its continuance is specifically approved at least annually by a vote of
the Board or by a vote of the holders of a majority of the fund's outstanding
voting securities, and in either event by a majority vote of the Board
members who are not parties to the underwriting agreement or interested
persons of any such party (other than as members of the Board), cast in
person at a meeting called for that purpose. The underwriting agreement
terminates automatically in the event of its assignment and may be terminated
by either party on 90 days' written notice.
Distributors pays the expenses of the distribution of fund shares, including
advertising expenses and the costs of printing sales material and
prospectuses used to offer shares to the public. The fund pays the expenses
of preparing and printing amendments to its registration statements and
prospectuses (other than those necessitated by the activities of
Distributors) and of sending prospectuses to existing shareholders.
Distributors does not receive compensation from the fund for acting as
underwriter of the fund's Advisor Class shares.
HOW DOES THE FUND
MEASURE PERFORMANCE?
Performance quotations are subject to SEC rules. These rules require the use
of standardized performance quotations or, alternatively, that every
non-standardized performance quotation furnished by the fund be accompanied
by certain standardized performance information computed as required by the
SEC. Average annual total return quotations used by the fund are based on the
standardized methods of computing performance mandated by the SEC. If a Rule
12b-1 plan is adopted, performance figures reflect fees from the date of the
plan's implementation.
For periods before January 2, 1997, standardized performance quotations for
Advisor Class are calculated by substituting Class I performance for the
relevant time period, excluding the effect of Class I's maximum initial sales
charge, and including the effect of the Rule 12b-1 fees applicable to Class I
shares of the fund. For periods after January 2, 1997, standardized
performance quotations for Advisor Class are calculated as described below.
An explanation of these and other methods used by the fund to compute or
express performance follows. Regardless of the method used, past performance
does not guarantee future results, and is an indication of the return to
shareholders only for the limited historical period used.
TOTAL RETURN
AVERAGE ANNUAL TOTAL RETURN. Average annual total return is determined by
finding the average annual rates of return over the periods indicated below
that would equate an initial hypothetical $1,000 investment to its ending
redeemable value. The calculation assumes income dividends and capital gain
distributions are reinvested at Net Asset Value. The quotation assumes the
account was completely redeemed at the end of each period and the deduction
of all applicable charges and fees. If a change is made to the sales charge
structure, historical performance information will be restated to reflect the
maximum front-end sales charge currently in effect. The average annual total
return for Advisor Class for the one- and five-year periods ended April 30,
1998, and for the period from inception (February 14, 1992) through April 30,
1998, was 43.68%, 27.76% and 22.43%, respectively.
These figures were calculated according to the SEC formula:
n
P(1+T) = 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 each period at the end of each period
CUMULATIVE TOTAL RETURN. Like average annual total return, cumulative total
return assumes income dividends and capital gain distributions are reinvested
at Net Asset Value. Cumulative total return, however, is based on the actual
return for a specified period rather than on the average return over the
periods indicated above. The cumulative total return for Advisor Class for
the one- and five-year periods ended April 30, 1998, and for the period from
inception (February 14, 1992) through April 30, 1998, was 43.68%, 240.43% and
251.11%, respectively.
VOLATILITY
Occasionally statistics may be used to show the fund's volatility or risk.
Measures of volatility or risk are generally used to compare the fund's Net
Asset Value or performance to a market index. One measure of volatility is
beta. Beta is the volatility of a fund relative to the total market, as
represented by an index considered representative of the types of securities
in which the fund invests. A beta of more than 1.00 indicates volatility
greater than the market and a beta of less than 1.00 indicates volatility
less than the market. Another measure of volatility or risk is standard
deviation. Standard deviation is used to measure variability of Net Asset
Value or total return around an average over a specified period of time. The
idea is that greater volatility means greater risk undertaken in achieving
performance.
OTHER PERFORMANCE QUOTATIONS
Sales literature referring to the use of the fund as a potential investment
for Individual Retirement Accounts (IRAs), Business Retirement Plans, and
other tax-advantaged retirement plans may quote a total return based upon
compounding of dividends on which it is presumed no federal income tax
applies.
The fund may include in its advertising or sales material information
relating to investment goals and performance results of funds belonging to
the Franklin Templeton Group of Funds. Resources is the parent company of the
advisors and underwriter of the Franklin Templeton Group of Funds.
COMPARISONS
To help you better evaluate how an investment in the fund may satisfy your
investment goal, advertisements and other materials about the fund may
discuss certain measures of fund performance as reported by various financial
publications. Materials may also compare performance (as calculated above) to
performance as reported by other investments, indices, and averages. These
comparisons may include, but are not limited to, the following examples:
a) Dow Jones Composite Average or its component averages - an unmanaged index
composed of 30 blue-chip industrial corporation stocks (Dow Jones(R) Industrial
Average), 15 utilities company stocks (Dow Jones Utilities Average), and 20
transportation company stocks. Comparisons of performance assume reinvestment
of dividends.
b) Standard & Poor's(R) 500 Stock Index or its component indices - an unmanaged
index composed of 400 industrial stocks, 40 financial stocks, 40 utilities
stocks, and 20 transportation stocks. Comparisons of performance assume
reinvestment of dividends.
c) The New York Stock Exchange composite or component indices - an unmanaged
index of all industrial, utilities, transportation, and finance stocks listed
on the NYSE.
d) Wilshire 5000 Equity Index - represents the return on the market value of
all common equity securities for which daily pricing is available.
Comparisons of performance assume reinvestment of dividends.
e) Lipper - Mutual Fund Performance Analysis and Lipper - Fixed Income Fund
Performance Analysis - measure total return and average current yield for the
mutual fund industry and rank individual mutual fund performance over
specified time periods, assuming reinvestment of all distributions, exclusive
of any applicable sales charges.
f) CDA Mutual Fund Report, published by CDA Investment Technologies, Inc. -
analyzes price, current yield, risk, total return, and average rate of return
(average annual compounded growth rate) over specified time periods for the
mutual fund industry.
g) Mutual Fund Source Book, published by Morningstar, Inc. - analyzes price,
yield, risk, and total return for mutual funds.
h) Financial publications: THE WALL STREET JOURNAL, and BUSINESS WEEK,
CHANGING TIMES, FINANCIAL WORLD, FORBES, FORTUNE, and MONEY magazines -
provide performance statistics over specified time periods.
i) Consumer Price Index (or Cost of Living Index), published by the U.S.
Bureau of Labor Statistics - a statistical measure of change, over time, in
the price of goods and services in major expenditure groups.
j) Stocks, Bonds, Bills, and Inflation, published by Ibbotson Associates -
historical measure of yield, price, and total return for common and small
company stock, long-term government bonds, Treasury bills, and inflation.
k) Savings and Loan Historical Interest Rates - as published in the U.S.
Savings & Loan League Fact Book.
l) Historical data supplied by the research departments of CS First Boston
Corporation, the J. P. Morgan companies, Salomon Brothers, Merrill Lynch,
Lehman Brothers and Bloomberg L.P.
m) Standard & Poor's(R) 100 Stock Index - an unmanaged index based on the
prices of 100 blue-chip stocks, including 92 industrials, one utility, two
transportation companies, and 5 financial institutions. The S&P 100 Stock
Index is a smaller more flexible index for options trading.
n) Morningstar - information published by Morningstar, Inc., including
Morningstar proprietary mutual fund ratings. The ratings reflect
Morningstar's assessment of the historical risk-adjusted performance of a
fund over specified time periods relative to other funds within its category.
o) The Russell 2000 Index - consists of the 2,000 smallest securities in the
Russell 3000 Index. Representing approximately 11% of the Russell 3000 total
market capitalization, this is Russell's Small Cap Index.
p) The Russell 2500 Index - consists of the bottom 500 securities in the
Russell Index, as ranked by total market capitalization, and all 2,000
securities in the Russell 2000 Index. This Index is a good measure of small
to medium-small stock performance.
q) The Russell 3000 Index - consists of 3,000 large U.S. companies, as
determined by market capitalization. This portfolio of securities represents
approximately 98% of the investable U.S. equity market.
From time to time, advertisements or information for the fund may include a
discussion of certain attributes or benefits to be derived from an investment
in the fund. The advertisements or information may include symbols,
headlines, or other material that highlights or summarizes the information
discussed in more detail in the communication.
Advertisements or information may also compare the fund's performance to the
return on CDs or other investments. You should be aware, however, that an
investment in the fund involves the risk of fluctuation of principal value, a
risk generally not present in an investment in a CD issued by a bank. For
example, as the general level of interest rates rise, the value of the fund's
fixed-income investments, if any, as well as the value of its shares that are
based upon the value of such portfolio investments, can be expected to
decrease. Conversely, when interest rates decrease, the value of the fund's
shares can be expected to increase. CDs are frequently insured by an agency
of the U.S. government. An investment in the fund is not insured by any
federal, state or private entity.
In assessing comparisons of performance, you should keep in mind that the
composition of the investments in the reported indices and averages is not
identical to the fund's portfolio, the indices and averages are generally
unmanaged, and the items included in the calculations of the averages may not
be identical to the formula used by the fund to calculate its figures. In
addition, there can be no assurance that the fund will continue its
performance as compared to these other averages.
MISCELLANEOUS INFORMATION
The fund may help you achieve various investment goals such as accumulating
money for retirement, saving for a down payment on a home, college costs and
other long-term goals. The Franklin College Costs Planner may help you in
determining how much money must be invested on a monthly basis in order to
have a projected amount available in the future to fund a child's college
education. (Projected college cost estimates are based upon current costs
published by the College Board.) The Franklin Retirement Planning Guide leads
you through the steps to start a retirement savings program. Of course, an
investment in the fund cannot guarantee that these goals will be met.
The fund is a member of the Franklin Templeton Group of Funds, one of the
largest mutual fund organizations in the U.S., and may be considered in a
program for diversification of assets. Founded in 1947, Franklin, one of the
oldest mutual fund organizations, has managed mutual funds for over 50 years
and now services more than 3 million shareholder accounts. In 1992, Franklin,
a leader in managing fixed-income mutual funds and an innovator in creating
domestic equity funds, joined forces with Templeton, a pioneer in
international investing. The Mutual Series team, known for its value-driven
approach to domestic equity investing, became part of the organization four
years later. Together, the Franklin Templeton Group has over $236 billion in
assets under management for more than 6 million U.S. based mutual fund
shareholder and other accounts. The Franklin Templeton Group of Funds offers
119 U.S. based open-end investment companies to the public. The fund may
identify itself by its NASDAQ symbol or CUSIP number.
As of June 2, 1998, the principal shareholders of the fund, beneficial or of
record, were as follows:
SHARE PER-
NAME AND ADDRESS AMOUNT CENTAGE
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ADVISOR CLASS
First Union National Bank
Trustee for the benefit of
Willis Corroon Corporation
1525 West Wt.
Harris Blvd. NC-1151
Charlotte, NC 28288........................ 365,816.139 6.8%
The Northern Trust Company
Trustee for the NALCO
Chemical Co. Retirement Trust
50 S. LaSalle Street
Chicago, IL 60675 ......................... 444,879.836 8.3%
Old Second National
Bank of Aurora
37 South River St.
Aurora, IL 60506-4173 ..................... 419,482.089 7.8%
Trust Company of Illinois
45 S. Park Blvd., Ste. 315
Glen Ellyn, IL
60137-6282 ................................ 411,552.207 7.7%
Carey & Co.
P.O. Box 1558 HC 1024
Columbus, OH 43216 ........................ 268,971.602 5.0%
From time to time, the number of fund shares held in the "street name"
accounts of various Securities Dealers for the benefit of their clients or in
centralized securities depositories may exceed 5% of the total shares
outstanding.
In the event of disputes involving multiple claims of ownership or authority
to control your account, the fund has the right (but has no obligation) to:
(a) freeze the account and require the written agreement of all persons
deemed by the fund to have a potential property interest in the account,
before executing instructions regarding the account; (b) interplead disputed
funds or accounts with a court of competent jurisdiction; or (c) surrender
ownership of all or a portion of the account to the IRS in response to a
Notice of Levy.
SUMMARY OF CODE OF ETHICS. Employees of the Franklin Templeton Group who are
access persons under the 1940 Act are permitted to engage in personal
securities transactions subject to the following general restrictions and
procedures: (i) the trade must receive advance clearance from a compliance
officer and must be completed by the close of the business day following the
day clearance is granted; (ii) copies of all brokerage confirmations and
statements must be sent to a compliance officer; (iii) all brokerage accounts
must be disclosed on an annual basis; and (iv) access persons involved in
preparing and making investment decisions must, in addition to (i), (ii) and
(iii) above, file annual reports of their securities holdings each January
and inform the compliance officer (or other designated personnel) if they own
a security that is being considered for a fund or other client transaction or
if they are recommending a security in which they have an ownership interest
for purchase or sale by a fund or other client.
FINANCIAL STATEMENTS
The audited financial statements contained in the Annual Report to
Shareholders of the Trust, for the fiscal year ended April 30, 1998,
including the auditor's report, are incorporated herein by reference.
USEFUL TERMS AND DEFINITIONS
1940 ACT - Investment Company Act of 1940, as amended
ADVISERS - Franklin Advisers, Inc., the fund's investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I, CLASS II AND ADVISOR CLASS - The fund offers three classes of
shares, designated "Class I," "Class II," and "Advisor Class." The three
classes have proportionate interests in the fund's portfolio. They differ,
however, primarily in their sales charge and expense structures.
CODE - Internal Revenue Code of 1986, as amended
DEPOSITARY RECEIPTS - Certificates that give their holders the right to
receive securities (a) of a foreign issuer deposited in a U.S. bank or trust
company (American Depositary Receipts, "ADRs"); or (b) of a foreign or U.S.
issuer deposited in a foreign bank or trust company (Global Depositary
Receipts, "GDRs" or European Depositary Receipts, "EDRs")
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the fund's principal
underwriter
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the fund's administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the fund's
shareholder servicing and transfer agent
IRS - Internal Revenue Service
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by
the number of shares outstanding.
NYSE - New York Stock Exchange
PROSPECTUS - The prospectus for Advisor Class shares of the fund dated
September 1, 1998, which we may amend from time to time
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
WE/OUR/US - Unless a different meaning is indicated by the context, these
terms refer to the fund and/or Investor Services, Distributors, or other
wholly owned subsidiaries of Resources.
APPENDIX
DESCRIPTION OF RATINGS
CORPORATE BOND RATINGS
MOODY'S
Aaa - Bonds rated Aaa are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as
"gilt-edged." Interest payments are protected by a large or exceptionally
stable margin, and principal is secure. While the various protective elements
are likely to change, such changes as can be visualized are most unlikely to
impair the fundamentally strong position of such issues.
Aa - Bonds rated Aa are judged to be high quality by all standards. Together
with the Aaa group, they comprise what are generally known as high-grade
bonds. They are rated lower than the best bonds because margins of protection
may not be as large, fluctuation of protective elements may be of greater
amplitude, or there may be other elements present that make the long-term
risks appear somewhat larger.
A - Bonds rated A possess many favorable investment attributes and are
considered upper medium-grade obligations. Factors giving security to
principal and interest are considered adequate, but elements may be present
that suggest a susceptibility to impairment sometime in the future.
Baa - Bonds rated Baa are considered medium-grade obligations. They are
neither highly protected nor poorly secured. Interest payments and principal
security appear adequate for the present but certain protective elements may
be lacking or may be characteristically unreliable over any great length of
time. These bonds lack outstanding investment characteristics and, in fact,
have speculative characteristics as well.
Ba - Bonds rated Ba are judged to have predominantly speculative elements and
their future cannot be considered well assured. Often the protection of
interest and principal payments is very moderate and, thereby, not well
safeguarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B - Bonds rated B generally lack characteristics of the desirable investment.
Assurance of interest and principal payments or of maintenance of other terms
of the contract over any long period of time may be small.
Caa - Bonds rated Caa are of poor standing. These issues may be in default or
there may be present elements of danger with respect to principal or interest.
CA - Bonds rated Ca represent obligations that are speculative to a high
degree. These issues are often in default or have other marked shortcomings.
C - Bonds rated C are the lowest rated class of bonds and can be regarded as
having extremely poor prospects of ever attaining any real investment
standing.
Note: Moody's applies numerical modifiers 1, 2 and 3 in each generic rating
classification from Aa through B in its corporate bond ratings. The modifier
1 indicates that the security ranks in the higher end of its generic rating
category; modifier 2 indicates a mid-range ranking; and modifier 3 indicates
that the issue ranks in the lower end of its generic rating category.
S&P
AAA - This is the highest rating assigned by S&P to a debt obligation and
indicates an extremely strong capacity to pay principal and interest.
AA - Bonds rated AA also qualify as high-quality debt obligations. Capacity
to pay principal and interest is very strong and, in the majority of
instances, differ from AAA issues only in a small degree.
A - Bonds rated A have a strong capacity to pay principal and interest,
although they are somewhat more susceptible to the adverse effects of changes
in circumstances and economic conditions.
BBB - Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit protection parameters,
adverse economic conditions or changing circumstances are more likely to lead
to a weakened capacity to pay principal and interest for bonds in this
category than for bonds in the A category.
BB, B, CCC, CC - Bonds rated BB, B, CCC and CC are regarded, on balance, as
predominantly speculative with respect to the issuer's capacity to pay
interest and repay principal in accordance with the terms of the obligations.
BB indicates the lowest degree of speculation and CC the highest degree of
speculation. While these bonds will likely have some quality and protective
characteristics, they are outweighed by large uncertainties or major risk
exposures to adverse conditions.
C - Bonds rated C are typically subordinated debt to senior debt that is
assigned an actual or implied CCC- rating. The C rating may also reflect the
filing of a bankruptcy petition under circumstances where debt service
payments are continuing. The C1 rating is reserved for income bonds on which
no interest is being paid.
D - Debt rated D is in default and payment of interest and/or repayment of
principal is in arrears.
PLUS (+) OR MINUS (-): The ratings from "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
COMMERCIAL PAPER RATINGS
MOODY'S
Moody's commercial paper ratings are opinions of the ability of issuers to
repay punctually their promissory obligations not having an original maturity
in excess of nine months. Moody's employs the following designations, all
judged to be investment grade, to indicate the relative repayment capacity of
rated issuers:
P-1 (PRIME-1): Superior capacity for repayment.
P-2 (PRIME-2): Strong capacity for repayment.
S&P
S&P's ratings are a current assessment of the likelihood of timely payment of
debt having an original maturity of no more than 365 days. Ratings are graded
into four categories, ranging from "A" for the highest quality obligations to
"D" for the lowest. Issues within the "A" category are delineated with the
numbers 1, 2 and 3 to indicate the relative degree of safety, as follows:
A-1: This designation indicates the degree of safety regarding timely payment
is very strong. A "plus" (+) designation indicates an even stronger
likelihood of timely payment.
A-2: Capacity for timely payment on issues with this designation is strong.
The relative degree of safety, however, is not as overwhelming as for issues
designated A-1.
A-3: Issues carrying this designation have a satisfactory capacity for timely
payment. They are, however, somewhat more vulnerable to the adverse effects
of changes in circumstances than obligations carrying the higher designations.
FRANKLIN NATURAL
RESOURCES FUND -
ADVISOR CLASS
FRANKLIN STRATEGIC SERIES
STATEMENT OF
ADDITIONAL INFORMATION
SEPTEMBER 1, 1998
777 MARINERS ISLAND BLVD., P.O. BOX 7777
SAN MATEO, CA 94403-7777 1-800/DIAL BEN(R)
TABLE OF CONTENTS
How Does the Fund
Invest Its Assets? ........................................ 2
What Are the Risks
of Investing in the Fund? ................................. 7
Investment Restrictions .................................... 10
Officers and Trustees ...................................... 12
Investment Management
and Other Services ........................................ 16
How Does the Fund Buy
Securities for Its Portfolio? ............................. 17
How Do I Buy, Sell
and Exchange Shares? ...................................... 18
How Are Fund Shares Valued? ................................ 20
Additional Information on
Distributions and Taxes ................................... 21
The Fund's Underwriter ..................................... 26
How Does the Fund
Measure Performance? ...................................... 26
Miscellaneous Information .................................. 29
Financial Statements ....................................... 30
Useful Terms and Definitions ............................... 30
Appendix
Description of Ratings .................................... 30
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When reading this SAI, you will see certain terms beginning with capital
letters. This means the term is explained under "Useful Terms and
Definitions."
- ------------------------------------------------------------------------------
The fund is a non-diversified series of Franklin Strategic Series (the "Trust"),
an open-end management investment company. The Prospectus, dated September 1,
1998, which we may amend from time to time, contains the basic information you
should know before investing in the fund. For a free copy, call 1-800/DIAL BEN.
This SAI describes the fund's Advisor Class shares. The fund currently offers
another share class with a different sales charge and expense structure, which
affects performance. To receive more information about the fund's other share
class, contact your investment representative or call 1-800/DIAL BEN.
THIS SAI IS NOT A PROSPECTUS. IT CONTAINS INFORMATION IN ADDITION TO AND IN MORE
DETAIL THAN SET FORTH IN THE PROSPECTUS. THIS SAI IS INTENDED TO PROVIDE YOU
WITH ADDITIONAL INFORMATION REGARDING THE ACTIVITIES AND OPERATIONS OF THE FUND,
AND SHOULD BE READ IN CONJUNCTION WITH THE PROSPECTUS.
- ------------------------------------------------------------------------------
MUTUAL FUNDS, ANNUITIES, AND OTHER INVESTMENT PRODUCTS:
o ARE NOT FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE
FEDERAL RESERVE BOARD, OR ANY OTHER AGENCY OF THE U.S. GOVERNMENT;
o ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR ENDORSED BY, ANY BANK;
o ARE SUBJECT TO INVESTMENT RISKS, INCLUDING THE POSSIBLE LOSS OF PRINCIPAL.
- ------------------------------------------------------------------------------
HOW DOES THE FUND INVEST ITS ASSETS?
WHAT IS THE FUND'S GOAL?
The investment goal of the fund is to seek to provide high total return. The
fund's total return consists of both capital appreciation and current dividend
and interest income. This goal is fundamental, which means that it may not be
changed without shareholder approval.
The following gives more detailed information about the fund's investment
policies and the types of securities that it may buy. Please read this
information together with the section "How Does the Fund Invest Its Assets?" in
the Prospectus.
MORE INFORMATION ABOUT THE
KINDS OF SECURITIES THE FUND BUYS
EQUITY SECURITIES. The purchaser of an equity security typically receives an
ownership interest in the company as well as certain voting rights. The owner of
an equity security may participate in a company's success through the receipt of
dividends, which are distributions of earnings by the company to its owners.
Equity security owners may also participate in a company's success or lack of
success through increases or decreases in the value of the company's shares as
traded in the public trading market for such shares. Equity securities generally
take the form of common stock or preferred stock. Preferred stockholders
typically receive greater dividends but may receive less appreciation than
common stockholders and may have greater voting rights as well. Equity
securities may also include convertible securities.
DEBT SECURITIES. A debt security typically has a fixed payment schedule that
obligates the issuer to pay interest to the lender and to return the lender's
money over a certain time period. A company typically meets its payment
obligations associated with its outstanding debt securities before it declares
and pays any dividend to holders of its equity securities. Bonds, notes,
debentures, and commercial paper differ in the length of the issuer's payment
schedule, with bonds carrying the longest repayment schedule and commercial
paper the shortest.
The market value of debt securities generally varies in response to changes in
interest rates and the financial condition of each issuer. During periods of
declining interest rates, the value of debt securities generally increases.
Conversely, during periods of rising interest rates, the value of debt
securities generally declines. These changes in market value will be reflected
in a fund's Net Asset Value.
REPURCHASE AGREEMENTS. Repurchase agreements are contracts under which the buyer
of a security simultaneously commits to resell the security to the seller at an
agreed upon price and date. Under a repurchase agreement, the seller is required
to maintain the value of the securities subject to the repurchase agreement at
not less than the repurchase price. Advisers will monitor the value of such
securities daily to determine that the value equals or exceeds the repurchase
price. Repurchase agreements may involve risks in the event of default or
insolvency of the seller, including possible delays or restrictions upon a
fund's ability to dispose of the underlying securities. The fund will enter into
repurchase agreements only with parties who meet creditworthiness standards
approved by the fund's Board, i.e., banks or broker-dealers that have been
determined by Advisers to present no serious risk of becoming involved in
bankruptcy proceedings within the time frame contemplated by the repurchase
transaction.
LOANS OF PORTFOLIO SECURITIES. The fund may lend to banks and broker-dealers
portfolio securities with an aggregate market value of up to 33% of its total
assets. Such loans must be secured by collateral (consisting of any combination
of cash, U.S. government securities, or irrevocable letters of credit) in an
amount at least equal (on a daily marked-to-market basis) to the current market
value of the securities loaned. The fund retains all or a portion of the
interest received on investment of the cash collateral or receives a fee from
the borrower. The fund may terminate the loans at any time and obtain the return
of the securities loaned within five business days. The fund will continue to
receive any interest or dividends paid on the loaned securities and will
continue to have voting rights with respect to the securities. However, as with
other extensions of credit, there are risks of delay in recovery or even loss of
rights in collateral should the borrower fail.
GOVERNMENT SECURITIES. Securities issued or guaranteed by the U.S. government or
its agencies or instrumentalities, including U.S. Treasury bills, notes and
bonds, as well as certain agency securities and mortgage-backed securities
issued by the Government National Mortgage Association (GNMA), may carry
guarantees which are backed by the "full faith and credit" of the U.S.
government. The guarantee extends only to the payment of interest and principal
due on the securities and does not provide any protection from fluctuations in
either the securities' yield or value or to the yield or value of the fund's
shares. Other investments in agency securities are not necessarily backed by the
"full faith and credit" of the U.S. government. These include securities issued
by the Federal National Mortgage Association (FNMA), the Federal Home Loan
Mortgage Corporation, the Student Loan Marketing Association and the Farm Credit
Bank.
The fund may invest in debt securities issued or guaranteed by foreign
governments. These securities are typically denominated in foreign currencies
and are subject to the currency fluctuation and other risks of foreign
securities investments. The foreign government securities in which the fund
intends to invest generally will include obligations issued by national, state,
or local governments or similar political subdivisions. Foreign government
securities also include debt obligations of supranational entities, including
international organizations designed or supported by governmental entities to
promote economic reconstruction or development and international banking
institutions and related government agencies. Examples include the International
Bank of Reconstruction and Development (the World Bank), the European Investment
Bank, the Asian Development Bank and the Inter-American Development Bank.
Foreign government securities also include debt securities of
"quasi-governmental agencies" and debt securities denominated in multinational
currency units. An example of a multinational currency unit is the European
Currency Unit. A European Currency Unit represents specified amounts of the
currencies of certain of the 12-member states of the European Economic
Community. Debt securities of quasi-governmental agencies are issued by entities
owned by either a national or local government or are obligations of a political
unit that is not backed by the national government's full faith and credit and
general taxing powers. Foreign government securities also include
mortgage-related securities issued or guaranteed by national or local
governmental instrumentalities, including quasi-governmental agencies.
AMERICAN DEPOSITARY RECEIPTS. Generally, ADRs, which are issued in registered
form, are designed for use in the U.S. securities markets. The issuers of
unsponsored ADRs are not obligated to disclose material information in the U.S.
and, therefore, there may be less information available to the investing public
than with sponsored ADRs. Advisers will attempt to independently accumulate and
evaluate information with respect to the issuers of the underlying securities of
sponsored and unsponsored ADRs to attempt to limit the fund's exposure to the
market risk associated with such investments. For purposes of the fund's
investment policies, investments in ADRs will be deemed to be investments in the
equity securities of the foreign issuers into which they may be converted.
CONVERTIBLE SECURITIES. The fund may invest in convertible securities. A
convertible security is generally a debt obligation or preferred stock that may
be converted within a specified period of time into a certain amount of common
stock of the same or a different issuer. A convertible security provides a
fixed-income stream and the opportunity, through its conversion feature, to
participate in the capital appreciation resulting from a market price advance in
its underlying common stock. As with a straight fixed-income security, a
convertible security tends to increase in market value when interest rates
decline and decrease in value when interest rates rise. Like a common stock, the
value of a convertible security also tends to increase as the market value of
the underlying stock rises, and it tends to decrease as the market value of the
underlying stock declines. Because both interest rate and market movements can
influence its value, a convertible security is not as sensitive to interest
rates as a similar fixed-income security, nor is it as sensitive to changes in
share price as its underlying stock.
A convertible security is usually issued either by an operating company or by an
investment bank. When issued by an operating company, a convertible security
tends to be senior to common stock, but subordinate to other types of
fixed-income securities issued by that company. When a convertible security
issued by an operating company is "converted," the operating company often
issues new stock to the holder of the convertible security but, if the parity
price of the convertible security is less than the call price, the operating
company may pay out cash instead of common stock. If the convertible security is
issued by an investment bank, the security is an obligation of and is
convertible through the issuing investment bank.
The issuer of a convertible security may be important in determining the
security's true value. This is because the holder of a convertible security will
have recourse only to the issuer. In addition, a convertible security may be
subject to redemption by the issuer, but only after a specified date and under
circumstances established at the time the security is issued.
While the fund uses the same criteria to rate a convertible debt security that
it uses to rate a more conventional debt security, a convertible preferred stock
is treated like a preferred stock for the fund's financial reporting, credit
rating, and investment limitation purposes. A preferred stock is subordinated to
all debt obligations in the event of insolvency, and an issuer's failure to make
a dividend payment is generally not an event of default entitling the preferred
shareholder to take action. A preferred stock generally has no maturity date, so
that its market value is dependent on the issuer's business prospects for an
indefinite period of time. In addition, distributions from preferred stock are
dividends, rather than interest payments, and are usually treated as such for
corporate tax purposes.
ILLIQUID INVESTMENTS. The fund's policy is not to invest more than 15% of its
net assets in illiquid securities. The fund may invest up to 5% of its net
assets in illiquid securities, the disposition of which may be subject to legal
or contractual restrictions. To comply with applicable state restrictions, the
fund will limit its investments in illiquid securities, including illiquid
securities with legal or contractual restrictions on resale, except for Rule
144A restricted securities, and including securities which are not readily
marketable, to 10% of the fund's net assets.
Subject to these limitations, the Board has authorized the fund to invest in
restricted securities where such investments are consistent with the fund's
investment goal and has authorized such securities to be considered liquid to
the extent Advisers determines that there is a liquid institutional or other
market for the securities. An example of these securities are restricted
securities that may be freely transferred among qualified institutional buyers
under Rule 144A of the Securities Act of 1933, as amended, and for which a
liquid institutional market has developed. The Board will review any
determination by Advisers to treat a restricted security as a liquid security on
an ongoing basis, including Advisers' assessment of current trading activity and
the availability of reliable price information. In determining whether a
restricted security is properly considered a liquid security, Advisers and the
Board will take into account the following factors: (i) the frequency of trades
and quotes for the security; (ii) the number of dealers willing to buy or sell
the security and the number of other potential buyers; (iii) dealer undertakings
to make a market in the security; and (iv) the nature of the security and
marketplace trades (e.g., the time needed to dispose of the security, the method
of soliciting offers, and the mechanics of transfer). To the extent the fund
invests in restricted securities that are deemed liquid, the general level of
illiquidity in the fund may be increased if qualified institutional buyers
become uninterested in buying these securities or the market for these
securities contracts.
WHEN-ISSUED OR DELAYED DELIVERY TRANSACTIONS. The fund may buy securities on a
when-issued or delayed delivery basis. These transactions are arrangements under
which the fund buys securities with payment and delivery scheduled for a future
time. The securities are subject to market fluctuation prior to delivery to the
fund and generally do not earn interest until their scheduled delivery date.
Therefore, the value or yields at delivery may be more or less than the purchase
price or the yields available when the transaction was entered into. Although
the fund will generally buy these securities on a when-issued basis with the
intention of acquiring the securities, it may sell the securities before the
settlement date if it is deemed advisable. When the fund is the buyer, it will
maintain, in a segregated account with its custodian bank, cash or high-grade
marketable securities having an aggregate value equal to the amount of its
purchase commitments until payment is made. In such an arrangement, the fund
relies on the seller to complete the transaction. The seller's failure to do so
may cause the fund to miss a price or yield considered advantageous. The fund is
not subject to any percentage limit on the amount of its assets that may be
invested in when-issued purchase obligations. To the extent the fund engages in
when-issued and delayed delivery transactions, it will do so only for the
purpose of acquiring portfolio securities consistent with its investment goal
and policies, and not for the purpose of investment leverage.
STANDBY COMMITMENT AGREEMENTS. The fund may, from time to time, enter into
standby commitment agreements. These agreements commit the fund, for a stated
period of time, to buy a stated amount of a security that may be issued and sold
to the fund at the option of the issuer. The price and coupon of the security is
fixed at the time of the commitment. When the fund enters into the agreement,
the fund is paid a commitment fee, regardless of whether the security is
ultimately issued, typically equal to approximately 0.5% of the aggregate
purchase price of the security that the fund has committed to buy. The fund will
enter into such agreements only for the purpose of investing in the security
underlying the commitment at a yield and/or price that is considered
advantageous to the fund.
The fund will not enter into a standby commitment with a remaining term in
excess of 45 days and will limit its investment in standby commitments so that
the aggregate purchase price of the securities subject to the commitments with
remaining terms exceeding seven days, together with the value of other portfolio
securities deemed illiquid, will not exceed the fund's limit on holding illiquid
investments, taken at the time of acquisition of such commitment or security.
The fund will at all times maintain a segregated account with its custodian bank
of cash, cash equivalents, U.S. government securities, or other high grade
liquid debt securities denominated in U.S. dollars or non-U.S. currencies in an
aggregate amount equal to the purchase price of the securities underlying the
commitment.
There can be no assurance that the securities subject to a standby commitment
will be issued, and the value of the security, if issued, on the delivery date
may be more or less than its purchase price. Since the issuance of the security
underlying the commitment is at the option of the issuer, the fund may bear the
risk of a decline in the value of the security and may not benefit from an
appreciation in the value of the security during the commitment period.
The purchase of a security subject to a standby commitment agreement and the
related commitment fee will be recorded on the date on which the security can
reasonably be expected to be issued, and the value of the security will
thereafter be reflected in the calculation of the fund's Net Asset Value. The
cost basis of the security will be adjusted by the amount of the commitment fee.
In the event the security is not issued, the commitment fee will be recorded as
income on the expiration date of the standby commitment.
CURRENCY HEDGING TRANSACTIONS
In order to hedge against currency exchange rate risks, the fund may enter into
forward currency exchange contracts and currency futures contracts and options
on such futures contracts, as well as buy put or call options and write covered
put and call options on currencies traded in U.S. or foreign markets.
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS. The fund may enter into forward
foreign currency exchange contracts in certain circumstances, as indicated in
the Prospectus. Additionally, when Advisers believes that the currency of a
particular foreign country may suffer a substantial decline against the U.S.
dollar, the fund may enter into a forward contract to sell, for a fixed amount
of dollars, the amount of foreign currency approximating the value of some or
all of the fund's portfolio securities denominated in that foreign currency. The
precise matching of the forward contract amounts and the value of the securities
involved is not generally possible because the future value of such securities
in foreign currencies changes as a consequence of market movements in the value
of those securities between the date on which the contract is entered into and
the date it matures. Using forward contracts to protect the value of the fund's
portfolio securities against a decline in the value of a currency does not
eliminate fluctuations in the underlying prices of the securities. It simply
establishes a rate of exchange that the fund can achieve at some future point in
time. The precise projection of short-term currency market movements is not
possible, and short-term hedging provides a means of fixing the dollar value of
only a portion of the fund's foreign assets.
The fund may engage in cross-hedging by using forward contracts in one currency
to hedge against fluctuations in the value of securities denominated in a
different currency if Advisers determines that there is a pattern of correlation
between the two currencies. The fund may also buy and sell forward contracts (to
the extent they are not deemed "commodities") for non-hedging purposes when
Advisers anticipates that the foreign currency will appreciate or depreciate in
value, but securities denominated in that currency do not present attractive
investment opportunities and are not held in the fund's portfolio.
The fund's custodian bank will place cash or liquid high grade debt securities
(i.e., securities rated in one of the top three ratings categories by Moody's or
S&P or, if unrated, deemed by Advisers to be of comparable credit quality) into
a segregated account of the fund in an amount equal to the value of the fund's
total assets committed to the consummation of forward foreign currency exchange
contracts requiring the fund to buy foreign currencies. If the value of the
securities placed in the segregated account declines, additional cash or
securities is placed in the account on a daily basis so that the value of the
account equals the amount of the fund's commitments with respect to its
contracts. The segregated account is marked-to-market on a daily basis. Although
the Commodity Futures Trading Commission (the "CFTC") does not presently
regulate the contracts, the CFTC may in the future assert authority to regulate
these contracts. If this happens, the fund's ability to use forward foreign
currency exchange contracts may be restricted.
The fund generally will not enter into a forward contract with a term of greater
than one year.
WRITING AND BUYING CURRENCY CALL AND PUT OPTIONS. The fund may write (sell)
covered put and call options and buy put and call options on foreign currencies
for the purpose of protecting against declines in the dollar value of portfolio
securities and against increases in the dollar cost of securities to be
acquired. The fund may use options on currency to cross-hedge, which involves
writing or buying options on one currency to hedge against changes in exchange
rates for a different currency with a pattern of correlation. In addition, the
fund may buy call options on currency for non-hedging purposes when Advisers
anticipates that the currency will appreciate in value, but the securities
denominated in that currency do not present attractive investment opportunities
and are not included in the fund's portfolio.
A call option written by the fund obligates the fund to sell specified currency
to the holder of the option at a specified price at any time before the
expiration date. A put option written by the fund would obligate the fund to buy
specified currency from the option holder at a specified time before the
expiration date. The writing of currency options involves a risk that the fund
will, upon exercise of the option, be required to sell currency subject to a
call at a price that is less than the currency's market value or be required to
buy currency subject to a put at a price that exceeds the currency's market
value.
The fund may terminate its obligations under a call or put option by buying an
option identical to the one it has written. These purchases are referred to as
"closing purchase transactions." The fund would also be able to enter into
closing sale transactions in order to realize gains or minimize losses on
options purchased by the fund.
The fund would normally buy call options in anticipation of an increase in the
dollar value of the currency in which securities to be acquired by the fund are
denominated. The purchase of a call option would entitle the fund, in return for
the premium paid, to buy specified currency at a specified price during the
option period. The fund would ordinarily realize a gain if, during the option
period, the value of the currency exceeded the sum of the exercise price, the
premium paid and transaction costs; otherwise the fund would realize either no
gain or a loss on the purchase of the call option.
The fund would normally buy put options in anticipation of a decline in the
dollar value of currency in which securities in its portfolio are denominated
("protective puts"). The purchase of a put option would entitle the fund, in
exchange for the premium paid, to sell specific currency at a specified price
during the option period. The purchase of protective puts is designed merely to
offset or hedge against a decline in the dollar value of the fund's portfolio
securities due to currency exchange rate fluctuations. The fund would ordinarily
realize a gain if, during the option period, the value of the underlying
currency decreased below the exercise price sufficiently to more than cover the
premium and transaction costs; otherwise the fund would realize either no gain
or a loss on the purchase of the put option. Gains and losses on the purchase of
protective put options would tend to be offset by countervailing changes in the
value of the underlying currency.
FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS. Advisers may choose to hedge
against changes in interest rates, securities prices or currency exchange rates
by buying and selling various kinds of futures contracts. The fund may also
enter into closing purchase and sale transactions with respect to any such
contracts and options. The futures contracts may be based on foreign currencies.
The fund will engage in futures and related options transactions only for bona
fide hedging or other appropriate risk management purposes as defined below. All
futures contracts entered into by the fund are traded on U.S. exchanges or
boards of trade that are licensed and regulated by the CFTC or on foreign
exchanges.
FUTURES CONTRACTS. A futures contract may generally be described as an agreement
between two parties to buy and sell particular financial instruments for an
agreed price during a designated month (or to deliver the final cash settlement
price, in the case of a contract relating to an index or otherwise not calling
for physical delivery at the end of trading in the contract).
The fund can sell futures contracts on a specified currency to protect against a
decline in the value of the currency and its portfolio securities that are
denominated in that currency. The fund can buy futures contracts on foreign
currency to fix the price in U.S. dollars of a security denominated in the
currency that the fund has acquired or expects to acquire.
Although futures contracts by their terms generally call for the actual delivery
or acquisition of underlying securities, in most cases the contractual
obligation is fulfilled before the date of the contract without having to make
or take delivery. The contractual obligation is offset by buying (or selling, as
the case may be) on a commodities exchange an identical futures contract calling
for delivery in the same month. This transaction, which is effected through a
member of an exchange, cancels the obligation to make or take delivery of the
securities or the cash value of the index underlying the contractual
obligations. The fund may incur brokerage fees when it buys or sells futures
contracts.
Positions taken in the futures markets are not normally held to maturity, but
are instead liquidated through offsetting transactions that may result in a
profit or a loss. While the fund's futures contracts on currency will usually be
liquidated in this manner, the fund may instead make or take delivery of the
currency whenever it appears economically advantageous for it to do so. A
clearing corporation associated with the exchange on which futures on currency
are traded guarantees that, if still open, the sale or purchase will be
performed on the settlement date.
HEDGING STRATEGIES WITH FUTURES. Hedging by use of futures contracts seeks to
establish, with more certainty than would otherwise be possible, the effective
price or currency exchange rate on portfolio securities or securities that the
fund proposes to acquire. The fund may sell futures contracts on currency in
which its portfolio securities are denominated or in one currency to hedge
against fluctuations in the value of securities denominated in a different
currency if there is an established historical pattern of correlation between
the two currencies.
The CFTC and U.S. commodities exchanges have established limits referred to as
"speculative position limits" on the maximum net long or net short position that
any person may hold or control in a particular futures contract. Trading limits
are also imposed on the maximum number of contracts that any person may trade on
a particular trading day. An exchange may order the liquidation of positions
found to be in violation of these limits and it may impose other sanctions or
restrictions. The fund does not believe that these trading and positions limits
will have an adverse impact on its strategies for hedging its securities.
OPTIONS ON FUTURES CONTRACTS. The acquisition of put and call options on futures
contracts will give the fund the right (but not the obligation), for a specified
price, to sell or to buy, respectively, the underlying futures contract at any
time during the option period. As the buyer of an option on a futures contract,
the fund obtains the benefit of the futures position if prices move in a
favorable direction but limits its risk of loss, in the event of an unfavorable
price movement, to the loss of the premium and transaction costs.
The writing of a call option on a futures contract generates a premium that may
be partially offset by a decline in the value of the fund's assets. By writing a
call option, the fund becomes obligated, in exchange for the premium, to sell a
futures contract, which may have a value higher than the exercise price.
Conversely, the writing of a put option on a futures contract generates a
premium that may partially offset an increase in the price of securities that
the fund intends to buy. However, the fund becomes obligated to buy a futures
contract, which may have a value lower than the exercise price. Thus, the loss
incurred by the fund in writing options on futures is potentially unlimited and
may exceed the amount of the premium received. The fund will incur transaction
costs in connection with the writing of options on futures.
The holder or writer of an option on a futures contract may terminate its
position by selling or buying an offsetting option on the same series. There is
no guarantee that closing transactions can be effected. The fund's ability to
establish and close out positions on its options will be subject to the
development and maintenance of a liquid market.
WHAT ARE THE RISKS
OF INVESTING IN THE FUND?
FOREIGN SECURITIES. You should consider carefully the substantial risks involved
in securities of companies of foreign nations, which are in addition to the
usual risks inherent in domestic investments.
There may be less publicly available information about foreign companies
comparable to the reports and ratings published about companies in the U.S.
Foreign companies are not generally subject to uniform accounting or financial
reporting standards, and auditing practices and requirements may not be
comparable to those applicable to U.S. companies. The fund, therefore, may
encounter difficulty in obtaining market quotations for purposes of valuing its
portfolio and calculating its Net Asset Value. Foreign markets have
substantially less volume than the NYSE, and securities of some foreign
companies are less liquid and more volatile than securities of comparable U.S.
companies. Commission rates in foreign countries, which are generally fixed
rather than subject to negotiation as in the U.S., are likely to be higher. In
many foreign countries there is less government supervision and regulation of
stock exchanges, brokers, and listed companies than in the U.S.
Investments in companies domiciled in developing countries may be subject to
potentially higher risks than investments in developed countries. These risks
include (i) less social, political, and economic stability; (ii) the small
current size of the markets for such securities and the currently low or
nonexistent volume of trading, which result in a lack of liquidity and in
greater price volatility; (iii) certain national policies which may restrict the
fund's investment opportunities, including restrictions on investment in issuers
or industries deemed sensitive to national interests; (iv) foreign taxation; (v)
the absence of developed legal structures governing private or foreign
investment or allowing for judicial redress for injury to private property; (vi)
the absence, until recently in certain Eastern European countries, of a capital
market structure or market-oriented economy; and (vii) the possibility that
recent favorable economic developments in Eastern Europe may be slowed or
reversed by unanticipated political or social events in such countries.
In addition, many countries in which the funds may invest have experienced
substantial, and in some periods extremely high, rates of inflation for many
years. Inflation and rapid fluctuations in inflation rates have had and may
continue to have negative effects on the economies and securities markets of
certain countries. Moreover, the economies of some developing countries may
differ favorably or unfavorably from the U.S. economy in such respects as growth
of gross domestic product, rate of inflation, currency depreciation, capital
reinvestment, resource self-sufficiency, and balance of payments position.
The fund's management endeavors to buy and sell foreign currencies on as
favorable a basis as practicable. Some price spread on currency exchange (to
cover service charges) may be incurred, particularly when the fund changes
investments from one country to another or when proceeds of the sale of shares
in U.S. dollars are used for the purchase of securities in foreign countries.
Also, some countries may adopt policies that would prevent the fund from
transferring cash out of the country or withhold portions of interest and
dividends at the source. There is the possibility of cessation of trading on
national exchanges, expropriation, nationalization, or confiscatory taxation,
withholding, and other foreign taxes on income or other amounts, foreign
exchange controls (which may include suspension of the ability to transfer
currency from a given country), default in foreign government securities,
political or social instability, or diplomatic developments that could affect
investments in securities of issuers in foreign nations.
The fund may be affected either favorably or unfavorably by fluctuations in the
relative rates of exchange between the currencies of different nations, by
exchange control regulations, and by indigenous economic and political
developments. Some countries in which the fund may invest may also have fixed or
managed currencies that are not free-floating against the U.S. dollar. Further,
certain currencies may not be internationally traded.
Certain of these currencies have experienced a steady devaluation relative to
the U.S. dollar. Any devaluations in the currencies in which the fund's
portfolio securities are denominated may have a detrimental impact on the fund.
Through the fund's flexible policy, management endeavors to avoid unfavorable
consequences and to take advantage of favorable developments in particular
nations where, from time to time, it places the fund's investments.
The exercise of this flexible policy may include decisions to purchase
securities with substantial risk characteristics and other decisions such as
changing the emphasis on investments from one nation to another and from one
type of security to another. Some of these decisions may later prove profitable
and others may not. No assurance can be given that profits, if any, will exceed
losses.
The Board considers at least annually the likelihood of the imposition by any
foreign government of exchange control restrictions which would affect the
liquidity of the fund's assets maintained with custodians in foreign countries,
as well as the degree of risk from political acts of foreign governments to
which such assets may be exposed. The Board also considers the degree of risk
involved through the holding of portfolio securities in domestic and foreign
securities depositories. However, in the absence of willful misfeasance, bad
faith, or gross negligence on the part of Advisers, any losses resulting from
the holding of the fund's portfolio securities in foreign countries and/or with
securities depositories will be at the risk of the shareholders. No assurance
can be given that the Board's appraisal of the risks will always be correct or
that such exchange control restrictions or political acts of foreign governments
might not occur.
HIGH YIELD SECURITIES. You should consider the increased risk of loss to
principal that is present with an investment in higher risk securities, such as
those in which the fund invests. Accordingly, an investment in the fund should
not be considered a complete investment program and should be carefully
evaluated for its appropriateness in light of your overall investment needs and
goals.
The market value of high yield, lower-quality fixed-income securities, commonly
known as junk bonds, tends to reflect individual developments affecting the
issuer to a greater degree than the market value of higher-quality securities,
which react primarily to fluctuations in the general level of interest rates.
Lower-quality securities also tend to be more sensitive to economic conditions
than higher-quality securities.
Issuers of high yield, fixed-income securities are often highly leveraged and
may not have more traditional methods of financing available to them. Therefore,
the risk associated with buying the securities of these issuers is generally
greater than the risk associated with higher-quality securities. For example,
during an economic downturn or a sustained period of rising interest rates,
issuers of lower-quality securities may experience financial stress and may not
have sufficient cash flow to make interest payments. The issuer's ability to
make timely interest and principal payments may also be adversely affected by
specific developments affecting the issuer, including the issuer's inability to
meet specific projected business forecasts or the unavailability of additional
financing.
The risk of loss due to default may also be considerably greater with
lower-quality securities because they are generally unsecured and are often
subordinated to other creditors of the issuer. If the issuer of a security in
the fund's portfolio defaults, the fund may have unrealized losses on the
security, which may lower the fund's Net Asset Value. Defaulted securities tend
to lose much of their value before they default. Thus, the fund's Net Asset
Value may be adversely affected before an issuer defaults. In addition, the fund
may incur additional expenses if it must try to recover principal or interest
payments on a defaulted security.
High yield, fixed-income securities frequently have call or buy-back features
that allow an issuer to redeem the securities from the fund. These securities
are typically not callable for a period of time, usually for three to five years
from the date of issue. However, if an issuer calls its securities during
periods of declining interest rates, Advisers may find it necessary to replace
the securities with lower-yielding securities, which could result in less net
investment income for the fund. The premature disposition of a high yield
security due to a call or buy-back feature, the deterioration of an issuer's
creditworthiness, or a default by an issuer may make it more difficult for the
fund to manage the timing of its income. Under the Code and U.S. Treasury
regulations, the fund may have to accrue income on defaulted securities and
distribute the income to shareholders for tax purposes, even though the fund is
not currently receiving interest or principal payments on the defaulted
securities. To generate cash to satisfy these distribution requirements, the
fund may have to sell portfolio securities that it otherwise may have continued
to hold or use cash flows from other sources, such as the sale of fund shares.
Lower quality, fixed-income securities may not be as liquid as higher-quality
securities. Reduced liquidity in the secondary market may have an adverse impact
on market price of a security and on the fund's ability to sell a security in
response to a specific economic event, such as a deterioration in the
creditworthiness of the issuer, or if necessary to meet the fund's liquidity
needs. Reduced liquidity may also make it more difficult to obtain market
quotations based on actual trades for purposes of valuing the fund's portfolio.
The fund may buy high yield, fixed-income securities that are sold without
registration under the federal securities laws and therefore carry restrictions
on resale. While many high yielding securities have been sold with registration
rights, covenants and penalty provisions for delayed registration, if the fund
is required to sell restricted securities before the securities have been
registered, it may be deemed an underwriter of the securities under the
Securities Act of 1933, which entails special responsibilities and liabilities.
The fund may also incur special costs in disposing of restricted securities,
although the fund will generally not incur any costs when the issuer is
responsible for registering the securities.
The fund may buy high yield, fixed-income securities during an initial
underwriting. These securities involve special risks because they are new
issues. Advisers will carefully review their credit and other characteristics.
The fund has no arrangement with its underwriter or any other person concerning
the acquisition of these securities.
The high yield securities market is relatively new and much of its growth before
1990 paralleled a long economic expansion. The recession that began in 1990
disrupted the market for high yield securities and adversely affected the value
of outstanding securities, as well as the ability of issuers of high yield
securities to make timely principal and interest payments. Although the economy
has improved and high yield securities have performed more consistently since
that time, the adverse effects previously experienced may reoccur. For example,
the highly publicized defaults on some high yield securities during 1989 and
1990 and concerns about a sluggish economy that continued into 1993 depressed
the prices of many of these securities. While market prices may be temporarily
depressed due to these factors, the ultimate price of any security generally
reflects the true operating results of the issuer. Factors adversely impacting
the market value of high yield securities may lower the fund's Net Asset Value.
The fund relies on Advisers' judgment, analysis and experience in evaluating the
creditworthiness of an issuer. In this evaluation, Advisers takes into
consideration, among other things, the issuer's financial resources, its
sensitivity to economic conditions and trends, its operating history, the
quality of the issuer's management and regulatory matters.
HEDGING TRANSACTIONS
FORWARD FOREIGN CURRENCY EXCHANGE CONTRACTS. While the fund may enter into
forward contracts to reduce currency exchange rate risks, transactions in these
contracts involve certain other risks. Thus, while the fund may benefit from
such transactions, unanticipated changes in currency prices may result in a
poorer overall performance for the fund than if it had not engaged in any
forward contract. Moreover, there may be imperfect correlation between the
fund's portfolio holdings of securities denominated in a particular currency and
forward contracts entered into by the fund. This imperfect correlation may cause
the fund to sustain losses that will prevent the fund from achieving a complete
hedge or expose the fund to risk of foreign exchange loss.
OPTIONS ON CURRENCY. An exchange-traded options position may be closed out only
on an options exchange that provides a secondary market for an option of the
same series. Although the fund will generally buy or write only those options
for which there appears to be an active secondary market, there is no assurance
that a liquid secondary market on an exchange will exist for any particular
option or at any particular time. For some options, no secondary market on an
exchange may exist. In this event, it might not be possible to effect closing
transactions in particular options, with the result that the fund would have to
exercise its options in order to realize any profit and would incur transaction
costs upon the sale of underlying securities pursuant to the exercise of put
options. If the fund, as a covered call option writer, is unable to effect a
closing purchase transaction in a secondary market, it will not be able to sell
the underlying currency (or security denominated in that currency) until the
option expires or it delivers the underlying currency upon exercise.
There is no assurance that higher than anticipated trading activity or other
unforeseen events might not, at times, render certain of the facilities of the
Option Clearing Corporation inadequate, and thereby result in the institution by
an exchange of special procedures that may interfere with the timely execution
of customers' orders.
The fund may buy and write over-the-counter options to the extent consistent
with its limitation on investments in restricted securities. Trading in
over-the-counter options is subject to the risk that the other party will be
unable or unwilling to close out options purchased or written by the fund.
The amount of the premiums that the fund may pay or receive may be adversely
affected as new or existing institutions, including other investment companies,
engage in or increase their option buying and writing activities.
FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS. While transactions in
futures contracts and options on futures may reduce certain risks, these
transactions themselves entail certain other risks. Thus, while the fund may
benefit from the use of futures and options on futures, unanticipated changes in
interest rates, securities prices or currency exchange rates may result in a
poorer overall performance for the fund than if it had not entered into any
futures contracts or options transactions. In the event of an imperfect
correlation between a future position and portfolio position that is intended to
be protected, the desired protection may not be obtained and the fund may be
exposed to risk of loss.
INVESTMENT RESTRICTIONS
The fund has adopted the following restrictions as fundamental policies. These
restrictions may not be changed without the approval of a majority of the
outstanding voting securities of the fund. Under the 1940 Act, this means the
approval of (i) more than 50% of the outstanding shares of the fund or (ii) 67%
or more of the shares of the fund present at a shareholder meeting if more than
50% of the outstanding shares of the fund are represented at the meeting in
person or by proxy, whichever is less. The fund MAY NOT:
1. Make loans to other persons, except by the purchase of bonds, debentures or
similar obligations which are publicly distributed or of a character usually
acquired by institutional investors, or through loans of the fund's portfolio
securities, or to the extent the entry into a repurchase agreement or similar
transaction may be deemed a loan;
2. Borrow money or mortgage or pledge any of its assets, except in the form of
reverse repurchase agreements or from banks for temporary or emergency purposes
in an amount up to 33% of the value of the fund's total assets (including the
amount borrowed) based on the lesser of cost or market, less liabilities (not
including the amount borrowed) at the time the borrowing is made. While
borrowings exceed 5% of the fund's total assets, the fund will not make any
additional investments;
3. Underwrite securities of other issuers (does not preclude the fund from
obtaining such short-term credit as may be necessary for the clearance of
purchases and sales of its portfolio securities) or invest more than 5% of its
assets in illiquid securities with legal or contractual restrictions on resale
(although the fund may invest in Rule 144A restricted securities to the full
extent permitted under the federal securities laws); except that all or
substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and policies
as the fund;
4. Invest in securities for the purpose of exercising management or control of
the issuer; except that all or substantially all of the assets of the fund may
be invested in another registered investment company having the same investment
objective and policies as the fund;
5. Effect short sales, unless at the time the fund owns securities equivalent
in kind and amount to those sold (which will normally be for deferring
recognition of gains or losses for tax purposes);
6. Invest directly in real estate, real estate limited partnerships or illiquid
securities issued by real estate investment trusts (the fund may, however,
invest up to 10% of its assets in marketable securities issued by real estate
investment trusts);
7. Invest directly in interests in oil, gas or other mineral leases,
exploration or development programs;
8. Invest in the securities of other investment companies, except where there
is no commission other than the customary brokerage commission or sales charge,
or except that securities of another investment company may be acquired pursuant
to a plan of reorganization, merger, consolidation or acquisition, and except
where the fund would not own, immediately after the acquisition, securities of
the investment companies which exceed in the aggregate i) more than 3% of the
issuer's outstanding voting stock, ii) more than 5% of the fund's total assets
and iii) together with the securities of all other investment companies held by
the fund, exceed, in the aggregate, more than 10% of the fund's total assets;
except that all or substantially all of the assets of the fund may be invested
in another registered investment company having the same investment objective
and policies as the fund. Pursuant to available exemptions from the 1940 Act,
the fund may invest in shares of one or more money market funds managed by
Advisers, or its affiliates;
9. Purchase from or sell to its officers and trustees, or any firm of which any
officer or trustee is a member, as principal, any securities, but may deal with
such persons or firms as brokers and pay a customary brokerage commission; or
purchase or retain securities of any issuer if one or more of the officers or
trustees of the Trust, or its investment adviser, own beneficially more than
one-half of 1% of the securities of such issuer and all such officers and
trustees together own beneficially more than 5% of such securities;
10. Concentrate in any industry, except that under normal circumstances the fund
will invest at least 25% of total assets in the securities issued by domestic
and foreign companies operating within the natural resources sector; except that
all or substantially all of the assets of the fund may be invested in another
registered investment company having the same investment objective and policies
as the fund; and
11. Invest more than 10% of its assets in securities of companies which have a
record of less than three years continuous operation, including the operations
of any predecessor companies; except that all or substantially all of the assets
of the fund may be invested in another registered investment company having the
same investment objective and policies as the fund.
In addition to these fundamental policies, it is the present policy of the fund
(which may be changed without shareholder approval) not to engage in joint or
joint and several trading accounts in securities, except that it may participate
in joint repurchase arrangements, invest its short-term cash in shares of the
Franklin Money Fund (pursuant to the terms of any order, and any conditions
therein, issued by the SEC permitting such investments), or combine orders to
purchase or sell with orders from other persons to obtain lower brokerage
commissions. The fund may not invest in excess of 5% of its net assets, valued
at the lower of cost or market, in warrants, nor more than 2% of its net assets
in warrants not listed on either the NYSE or American Stock Exchange.
If a percentage restriction is met at the time of investment, a later increase
or decrease in the percentage due to a change in the value or liquidity of
portfolio securities or the amount of assets will not be considered a violation
of any of the foregoing restrictions.
OFFICERS AND TRUSTEES
The Board has the responsibility for the overall management of the fund,
including general supervision and review of its investment activities. The
Board, in turn, elects the officers of the fund who are responsible for
administering the fund's day-to-day operations. The affiliations of the officers
and Board members and their principal occupations for the past five years are
shown below. Members of the Board who are considered "interested persons" of the
fund under the 1940 Act are indicated by an asterisk (*).
POSITIONS AND OFFICES PRINCIPAL OCCUPATION
NAME, AGE AND ADDRESS WITH THE TRUST DURING THE PAST FIVE YEARS
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Frank H. Abbott, III (77) Trustee
1045 Sansome Street
San Francisco, CA 94111
President and Director, Abbott Corporation (an investment company); director or
trustee, as the case may be, of 27 of the investment companies in the Franklin
Templeton Group of Funds; and formerly, Director, MotherLode Gold Mines
Consolidated (gold mining) and Vacu-Dry Co. (food processing).
Harris J. Ashton (66) Trustee
191 Clapboard Ridge Road
Greenwich, CT 06830
Director, RBC Holdings, Inc. (a bank holding company) and Bar-S Foods (a meat
packing company); director or trustee, as the case may be, of 49 of the
investment companies in the Franklin Templeton Group of Funds; and formerly,
President, Chief Executive Officer and Chairman of the Board, General Host
Corporation (nursery and craft centers).
*Harmon E. Burns (53) Vice President
777 Mariners Island Blvd. and Trustee
San Mateo, CA 94404
Executive Vice President and Director, Franklin Resources, Inc., Franklin
Templeton Distributors, Inc. and Franklin Templeton Services, Inc.; Executive
Vice President, Franklin Advisers, Inc.; Director, Franklin/Templeton Investor
Services, Inc.; and officer and/or director or trustee, as the case may be, of
most of the other subsidiaries of Franklin Resources, Inc. and of 53 of the
investment companies in the Franklin Templeton Group of Funds.
S. Joseph Fortunato (66) Trustee
Park Avenue at Morris County
P.O. Box 1945
Morristown, NJ 07962-1945
Member of the law firm of Pitney, Hardin, Kipp & Szuch; director or trustee, as
the case may be, of 51 of the investment companies in the Franklin Templeton
Group of Funds; and formerly, Director, General Host Corporation (nursery and
craft centers).
Edith E. Holiday (46) Trustee
3239 38th Street, N.W.
Washington, DC 20016
Director, Amerada Hess Corporation (crude oil and natural gas refining)
(1993-present), Hercules Incorporated (chemicals, fibers and resins)
(1993-present), Beverly Enterprises, Inc. (1995-present) and H.J. Heinz Company
(packaged foods and allied products) (1994-present); director or trustee, as the
case may be, of 25 of the investment companies in the Franklin Templeton Group
of Funds; and formerly, Chairman (1995-1997) and Trustee (1993-1997), National
Child Research Center, Assistant to the President of the United States and
Secretary of the Cabinet (1990-1993), General Counsel to the United States
Treasury Department (1989-1990), and Counselor to the Secretary and Assistant
Secretary for Public Affairs and Public Liaison-United States Treasury
Department (1988-1989).
*Charles B. Johnson (65) Chairman
777 Mariners Island Blvd. of the Board
San Mateo, CA 94404 and Trustee
President, Chief Executive Officer and Director, Franklin Resources, Inc.;
Chairman of the Board and Director, Franklin Advisers, Inc., Franklin Advisory
Services, Inc., Franklin Investment Advisory Services, Inc. and Franklin
Templeton Distributors, Inc.; Director, Franklin/Templeton Investor Services,
Inc. and Franklin Templeton Services, Inc.; officer and/or director or trustee,
as the case may be, of most of the other subsidiaries of Franklin Resources,
Inc. and of 50 of the investment companies in the Franklin Templeton Group of
Funds; and formerly, Director, General Host Corporation (nursery and craft
centers).
*Rupert H. Johnson, Jr. (58) President
777 Mariners Island Blvd. and Trustee
San Mateo, CA 94404
Executive Vice President and Director, Franklin Resources, Inc. and Franklin
Templeton Distributors, Inc.; President and Director, Franklin Advisers, Inc.;
Senior Vice President and Director, Franklin Advisory Services, Inc. and
Franklin Investment Advisory Services, Inc.; Director, Franklin/Templeton
Investor Services, Inc.; and officer and/or director or trustee, as the case may
be, of most of the other subsidiaries of Franklin Resources, Inc. and of 53 of
the investment companies in the Franklin Templeton Group of Funds.
Frank W.T. LaHaye (69) Trustee
20833 Stevens Creek Blvd.
Suite 102
Cupertino, CA 95014
General Partner, Miller & LaHaye, which is the General Partner of Peregrine
Ventures II (venture capital firm); Chairman of the Board and Director,
Quarterdeck Corporation (software firm); Director, Digital Transmission Systems,
Inc. (wireless communications); director or trustee, as the case may be, of 27
of the investment companies in the Franklin Templeton Group of Funds; and
formerly, Director, Fischer Imaging Corporation (medical imaging systems) and
General Partner, Peregrine Associates, which was the General Partner of
Peregrine Ventures (venture capital firm).
Gordon S. Macklin (70) Trustee
8212 Burning Tree Road
Bethesda, MD 20817
Director, Fund American Enterprises Holdings, Inc., MCI Communications
Corporation, MedImmune, Inc. (biotechnology), Spacehab, Inc. (aerospace
services) and Real 3D (software); director or trustee, as the case may be, of 49
of the investment companies in the Franklin Templeton Group of Funds; and
formerly, Chairman, White River Corporation (financial services) and Hambrecht
and Quist Group (investment banking), and President, National Association of
Securities Dealers, Inc.
Martin L. Flanagan (38) Vice President
777 Mariners Island Blvd. and Chief
San Mateo, CA 94404 Financial Officer
Senior Vice President and Chief Financial Officer, Franklin Resources, Inc.;
Executive Vice President and Director, Templeton Worldwide, Inc.; Executive Vice
President, Chief Operating Officer and Director, Templeton Investment Counsel,
Inc.; Executive Vice President and Chief Financial Officer, Franklin Advisers,
Inc.; Chief Financial Officer, Franklin Advisory Services, Inc. and Franklin
Investment Advisory Services, Inc.; President and Director, Franklin Templeton
Services, Inc.; Senior Vice President and Chief Financial Officer,
Franklin/Templeton Investor Services, Inc.; officer and/or director of some of
the other subsidiaries of Franklin Resources, Inc.; and officer and/or director
or trustee, as the case may be, of 53 of the investment companies in the
Franklin Templeton Group of Funds.
Deborah R. Gatzek (49) Vice President
777 Mariners Island Blvd. and Secretary
San Mateo, CA 94404
Senior Vice President and General Counsel, Franklin Resources, Inc.; Senior Vice
President, Franklin Templeton Services, Inc. and Franklin Templeton
Distributors, Inc.; Executive Vice President, Franklin Advisers, Inc.; Vice
President, Franklin Advisory Services, Inc.; Vice President, Chief Legal Officer
and Chief Operating Officer, Franklin Investment Advisory Services, Inc.; and
officer of 53 of the investment companies in the Franklin Templeton Group of
Funds.
Charles E. Johnson (42) Vice President
500 East Broward Blvd.
Fort Lauderdale, FL 33394-3091
Senior Vice President and Director, Franklin Resources, Inc.; Senior Vice
President, Franklin Templeton Distributors, Inc.; President and Director,
Templeton Worldwide, Inc.; President, Chief Executive Officer, Chief Investment
Officer and Director, Franklin Institutional Services Corporation; Chairman and
Director, Templeton Investment Counsel, Inc.; Vice President, Franklin Advisers,
Inc.; officer and/or director of some of the other subsidiaries of Franklin
Resources, Inc.; and officer and/or director or trustee, as the case may be, of
34 of the investment companies in the Franklin Templeton Group of Funds.
Diomedes Loo-Tam (59) Treasurer and
777 Mariners Island Blvd. Principal
San Mateo, CA 94404 Accounting
Officer
Senior Vice President, Franklin Templeton Services, Inc.; and officer of 32 of
the investment companies in the Franklin Templeton Group of Funds.
Edward V. McVey (61) Vice President
777 Mariners Island Blvd.
San Mateo, CA 94404
Senior Vice President and National Sales Manager, Franklin Templeton
Distributors, Inc.; and officer of 28 of the investment companies in the
Franklin Templeton Group of Funds.
The table above shows the officers and Board members who are affiliated with
Distributors and Advisers. As of June 1, 1998, nonaffiliated members of the
Board are paid $1,575 for each of the Trust's eight regularly scheduled Board
meetings plus $1,050 per meeting attended. As shown above, the nonaffiliated
Board members also serve as directors or trustees of other investment companies
in the Franklin Templeton Group of Funds. They may receive fees from these funds
for their services. The fees payable to nonaffiliated Board members by the Trust
are subject to reductions resulting from fee caps limiting the amount of fees
payable to Board members who serve on other boards within the Franklin Templeton
Group of Funds. The following table provides the total fees paid to
nonaffiliated Board members by the Trust and by other funds in the Franklin
Templeton Group of Funds.
NUMBER OF BOARDS
TOTAL FEES RECEIVED IN THE FRANKLIN
TOTAL FEES FROM THE FRANKLIN TEMPLETON GROUP
RECEIVED TEMPLETON GROUP OF FUNDS ON WHICH
NAME FROM THE TRUST*** OF FUNDS**** EACH SERVES*****
- --------------------------------------------------------------------------------
Frank H. Abbott, III..... $5,400 $165,937 27
Harris J. Ashton......... 5,100 344,642 49
S. Joseph Fortunato...... 5,100 361,562 51
David W. Garbellano*..... 1,500 91,317 N/A
Edith Holiday**.......... 1,200 72,875 25
Frank W.T. LaHaye........ 5,400 141,433 27
Gordon S. Macklin........ 5,100 337,292 49
*Deceased, September 27, 1997.
**Appointed, January 15, 1998.
***For the fiscal year ended April 30, 1998 during which time fees at the rate
of $300 for each of the Trust's eight regularly scheduled Board meetings plus
$300 per meeting attended were in effect.
****For the calendar year ended December 31, 1997.
*****We base the number of boards on the number of registered investment
companies in the Franklin Templeton Group of Funds. This number does not include
the total number of series or funds within each investment company for which the
Board members are responsible. The Franklin Templeton Group of Funds currently
includes 54 registered investment companies, with approximately 170 U.S. based
funds or series.
Nonaffiliated members of the Board are reimbursed for expenses incurred in
connection with attending board meetings, paid pro rata by each fund in the
Franklin Templeton Group of Funds for which they serve as director or trustee.
No officer or Board member received any other compensation, including pension or
retirement benefits, directly or indirectly from the fund or other funds in the
Franklin Templeton Group of Funds. Certain officers or Board members who are
shareholders of Resources may be deemed to receive indirect remuneration by
virtue of their participation, if any, in the fees paid to its subsidiaries.
As of June 2, 1998, the officers and Board members, as a group, owned of record
and beneficially the following shares of the fund: approximately 1,512 Class I
shares or less than 1% of the total outstanding Class I shares of the fund. Many
of the Board members also own shares in other funds in the Franklin Templeton
Group of Funds. Charles B. Johnson and Rupert H. Johnson, Jr. are brothers and
the father and uncle, respectively, of Charles E.
Johnson.
INVESTMENT MANAGEMENT AND OTHER SERVICES
INVESTMENT MANAGER AND SERVICES PROVIDED. The fund's investment manager is
Advisers. Advisers provides investment research and portfolio management
services, including the selection of securities for the fund to buy, hold or
sell and the selection of brokers through whom the fund's portfolio transactions
are executed. Advisers' activities are subject to the review and supervision of
the Board to whom Advisers renders periodic reports of the fund's investment
activities. Advisers and its officers, directors and employees are covered by
fidelity insurance for the protection of the fund.
Advisers and its affiliates act as investment manager to numerous other
investment companies and accounts. Advisers may give advice and take action with
respect to any of the other funds it manages, or for its own account, that may
differ from action taken by Advisers on behalf of the fund. Similarly, with
respect to the fund, Advisers is not obligated to recommend, buy or sell, or to
refrain from recommending, buying or selling any security that Advisers and
access persons, as defined by the 1940 Act, may buy or sell for its or their own
account or for the accounts of any other fund. Advisers is not obligated to
refrain from investing in securities held by the fund or other funds that it
manages. Of course, any transactions for the accounts of Advisers and other
access persons will be made in compliance with the fund's Code of Ethics. Please
see "Miscellaneous Information - Summary of Code of Ethics."
MANAGEMENT FEES. Under its management agreement, the fund pays Advisers a
management fee equal to an annual rate of .625 of 1% of the value of average
daily net assets up to and including $100 million; and .50 of 1% of the value of
average daily net assets over $100 million, up to and including $250 million;
and .45 of 1% of the value of average daily net assets over $250 million up to
and including $10 billion; and .44 of 1% of the value of average daily net
assets over $10 billion up to and including $12.5 billion; and .42 of 1% of the
value of average daily net assets over $12.5 billion up to and including $15
billion; and .40 of 1% of the value of average daily net assets over $15
billion. The fee is computed at the close of business on the last business day
of each month. Each class of the fund's shares pays its proportionate share of
the management fee.
For the fiscal years ended April 30, 1998, 1997 and 1996, management fees,
before any advance waiver, totaled $357,984, $175,237 and $21,007, respectively.
Under an agreement by Advisers to limit its fees, the fund paid management fees
totaling $159,204 and $83,520 for the fiscal years ended April 30, 1998 and
1997, respectively, and paid no management fees for the fiscal year ended April
30, 1996.
MANAGEMENT AGREEMENT. The management agreement is in effect until April 30,
1999. It may continue in effect for successive annual periods if its continuance
is specifically approved at least annually by a vote of the Board or by a vote
of the holders of a majority of the fund's outstanding voting securities, and in
either event by a majority vote of the Board members who are not parties to the
management agreement or interested persons of any such party (other than as
members of the Board), cast in person at a meeting called for that purpose. The
management agreement may be terminated without penalty at any time by the Board
or by a vote of the holders of a majority of the fund's outstanding voting
securities on 60 days' written notice to Advisers, or by Advisers on 60 days'
written notice to the fund, and will automatically terminate in the event of its
assignment, as defined in the 1940 Act.
ADMINISTRATIVE SERVICES. Under an agreement with Advisers, FT Services provides
certain administrative services and facilities for the fund. These include
preparing and maintaining books, records, and tax and financial reports, and
monitoring compliance with regulatory requirements. FT Services is a wholly
owned subsidiary of Resources.
Under its administration agreement, Advisers pays FT Services a monthly
administration fee equal to an annual rate of 0.15% of the fund's average daily
net assets up to $200 million, 0.135% of average daily net assets over $200
million up to $700 million, 0.10% of average daily net assets over $700 million
up to $1.2 billion, and 0.075% of average daily net assets over $1.2 billion.
During the fiscal year ended April 30, 1998, and the period from October 1,
1996, through April 30, 1997, administration fees totaling $85,915 and $32,992,
respectively, were paid to FT Services. The fee is paid by Advisers. It is not a
separate expense of the fund.
SHAREHOLDER SERVICING AGENT. Investor Services, a wholly owned subsidiary of
Resources, is the fund's shareholder servicing agent and acts as the fund's
transfer agent and dividend-paying agent. Investor Services is compensated on
the basis of a fixed fee per account. The fund may also reimburse Investor
Services for certain out-of-pocket expenses, which may include payments by
Investor Services to entities, including affiliated entities, that provide
sub-shareholder services, recordkeeping and/or transfer agency services to
beneficial owners of the fund. The amount of reimbursements for these services
per benefit plan participant fund account per year may not exceed the per
account fee payable by the fund to Investor Services in connection with
maintaining shareholder accounts.
CUSTODIAN. Bank of New York, Mutual Funds Division, 90 Washington Street, New
York, New York 10286, acts as custodian of the securities and other assets of
the fund. The custodian does not participate in decisions relating to the
purchase and sale of portfolio securities.
AUDITOR. Coopers & Lybrand L.L.P., 333 Market Street, San Francisco, California
94105, is the fund's independent auditor. During the fiscal year ended April 30,
1998, the auditor's services consisted of rendering an opinion on the financial
statements of the Trust included in the Trust's Annual Report to Shareholders
for the fiscal year ended April 30, 1998.
HOW DOES THE FUND
BUY SECURITIES FOR ITS PORTFOLIO?
Advisers selects brokers and dealers to execute the fund's portfolio
transactions in accordance with criteria set forth in the management agreement
and any directions that the Board may give.
When placing a portfolio transaction, Advisers seeks to obtain prompt execution
of orders at the most favorable net price. For portfolio transactions on a
securities exchange, the amount of commission paid by the fund is negotiated
between Advisers and the broker executing the transaction. The determination and
evaluation of the reasonableness of the brokerage commissions paid are based to
a large degree on the professional opinions of the persons responsible for
placement and review of the transactions. These opinions are based on the
experience of these individuals in the securities industry and information
available to them about the level of commissions being paid by other
institutional investors of comparable size. Advisers will ordinarily place
orders to buy and sell over-the-counter securities on a principal rather than
agency basis with a principal market maker unless, in the opinion of Advisers, a
better price and execution can otherwise be obtained. Purchases of portfolio
securities from underwriters will include a commission or concession paid by the
issuer to the underwriter, and purchases from dealers will include a spread
between the bid and ask price.
Advisers may pay certain brokers commissions that are higher than those another
broker may charge, if Advisers determines in good faith that the amount paid is
reasonable in relation to the value of the brokerage and research services it
receives. This may be viewed in terms of either the particular transaction or
Advisers' overall responsibilities to client accounts over which it exercises
investment discretion. The services that brokers may provide to Advisers
include, among others, supplying information about particular companies,
markets, countries, or local, regional, national or transnational economies,
statistical data, quotations and other securities pricing information, and other
information that provides lawful and appropriate assistance to Advisers in
carrying out its investment advisory responsibilities. These services may not
always directly benefit the fund. They must, however, be of value to Advisers in
carrying out its overall responsibilities to its clients.
It is not possible to place a dollar value on the special executions or on the
research services Advisers receives from dealers effecting transactions in
portfolio securities. The allocation of transactions in order to obtain
additional research services permits Advisers to supplement its own research and
analysis activities and to receive the views and information of individuals and
research staffs of other securities firms. As long as it is lawful and
appropriate to do so, Advisers and its affiliates may use this research and data
in their investment advisory capacities with other clients. If the fund's
officers are satisfied that the best execution is obtained, the sale of fund
shares, as well as shares of other funds in the Franklin Templeton Group of
Funds, may also be considered a factor in the selection of broker-dealers to
execute the fund's portfolio transactions.
Because Distributors is a member of the NASD, it may sometimes receive certain
fees when the fund tenders portfolio securities pursuant to a tender-offer
solicitation. As a means of recapturing brokerage for the benefit of the fund,
any portfolio securities tendered by the fund will be tendered through
Distributors if it is legally permissible to do so. In turn, the next management
fee payable to Advisers will be reduced by the amount of any fees received by
Distributors in cash, less any costs and expenses incurred in connection with
the tender.
If purchases or sales of securities of the fund and one or more other investment
companies or clients supervised by Advisers are considered at or about the same
time, transactions in these securities will be allocated among the several
investment companies and clients in a manner deemed equitable to all by
Advisers, taking into account the respective sizes of the funds and the amount
of securities to be purchased or sold. In some cases this procedure could have a
detrimental effect on the price or volume of the security so far as the fund is
concerned. In other cases it is possible that the ability to participate in
volume transactions may improve execution and reduce transaction costs to the
fund.
During the fiscal years ended April 30, 1998, 1997 and 1996, the fund paid
brokerage commissions totaling $154,303, $120,604 and $21,405, respectively.
As of April 30, 1998, the fund did not own securities of its regular
broker-dealers.How Do I Buy, Sell and Exchange Shares?
HOW DO I BUY, SELL AND EXCHANGE SHARES?
ADDITIONAL INFORMATION ON BUYING SHARES
The fund continuously offers its shares through Securities Dealers who have an
agreement with Distributors. Securities laws of states where the fund offers its
shares may differ from federal law. Banks and financial institutions that sell
shares of the fund may be required by state law to register as Securities
Dealers.
When you buy shares, if you submit a check or a draft that is returned unpaid to
the fund we may impose a $10 charge against your account for each returned item.
OTHER PAYMENTS TO SECURITIES DEALERS. Distributors and/or its affiliates provide
financial support to various Securities Dealers that sell shares of the Franklin
Templeton Group of Funds. This support is based primarily on the amount of sales
of fund shares. The amount of support may be affected by: total sales; net
sales; levels of redemptions; the proportion of a Securities Dealer's sales and
marketing efforts in the Franklin Templeton Group of Funds; a Securities
Dealer's support of, and participation in, Distributors' marketing programs; a
Securities Dealer's compensation programs for its registered representatives;
and the extent of a Securities Dealer's marketing programs relating to the
Franklin Templeton Group of Funds. Financial support to Securities Dealers may
be made by payments from Distributors' resources, from Distributors' retention
of underwriting concessions and, in the case of funds that have Rule 12b-1
plans, from payments to Distributors under such plans. In addition, certain
Securities Dealers may receive brokerage commissions generated by fund portfolio
transactions in accordance with the NASD's rules.
Distributors routinely sponsors due diligence meetings for registered
representatives during which they receive updates on various Franklin Templeton
Funds and are afforded the opportunity to speak with portfolio managers.
Invitation to these meetings is not conditioned on selling a specific number of
shares. Those who have shown an interest in the Franklin Templeton Funds,
however, are more likely to be considered. To the extent permitted by their
firm's policies and procedures, registered representatives' expenses in
attending these meetings may be covered by Distributors.
REINVESTMENT DATE. Shares acquired through the reinvestment of dividends will be
purchased at the Net Asset Value determined on the business day following the
dividend record date (sometimes known as the "ex-dividend date"). The processing
date for the reinvestment of dividends may vary and does not affect the amount
or value of the shares acquired.
ADDITIONAL INFORMATION ON EXCHANGING SHARES
If you request the exchange of the total value of your account, declared but
unpaid income dividends and capital gain distributions will be exchanged into
the new fund and will be invested at Net Asset Value. Backup withholding and
information reporting may apply. Information regarding the possible tax
consequences of an exchange is included in the tax section in this SAI and in
the Prospectus.
If a substantial number of shareholders should, within a short period, sell
their shares of the fund under the exchange privilege, the fund might have to
sell portfolio securities it might otherwise hold and incur the additional costs
related to such transactions. On the other hand, increased use of the exchange
privilege may result in periodic large inflows of money. If this occurs, it is
the fund's general policy to initially invest this money in short-term,
interest-bearing money market instruments, unless it is believed that attractive
investment opportunities consistent with the fund's investment goal exist
immediately. This money will then be withdrawn from the short-term, money market
instruments and invested in portfolio securities in as orderly a manner as is
possible when attractive investment opportunities arise.
The proceeds from the sale of shares of an investment company are generally not
available until the seventh day following the sale. The funds you are seeking to
exchange into may delay issuing shares pursuant to an exchange until that
seventh day. The sale of fund shares to complete an exchange will be effected at
Net Asset Value at the close of business on the day the request for exchange is
received in proper form. Please see "May I Exchange Shares for Shares of Another
Fund?" in the Prospectus.
ADDITIONAL INFORMATION ON SELLING SHARES
SYSTEMATIC WITHDRAWAL PLAN. There are no service charges for establishing or
maintaining a systematic withdrawal plan. Payments under the plan will be made
from the redemption of an equivalent amount of shares in your account, generally
on the 25th day of the month in which a payment is scheduled. If the 25th falls
on a weekend or holiday, we will process the redemption on the next business
day.
Redeeming shares through a systematic withdrawal plan may reduce or exhaust the
shares in your account if payments exceed distributions received from the fund.
This is especially likely to occur if there is a market decline. If a withdrawal
amount exceeds the value of your account, your account will be closed and the
remaining balance in your account will be sent to you. Because the amount
withdrawn under the plan may be more than your actual yield or income, part of
the payment may be a return of your investment.
The fund may discontinue a systematic withdrawal plan by notifying you in
writing and will automatically discontinue a systematic withdrawal plan if all
shares in your account are withdrawn or if the fund receives notification of the
shareholder's death or incapacity.
THROUGH YOUR SECURITIES DEALER. If you sell shares through your Securities
Dealer, it is your dealer's responsibility to transmit the order to the fund in
a timely fashion. Any loss to you resulting from your dealer's failure to do so
must be settled between you and your Securities Dealer.
REDEMPTIONS IN KIND. The fund has committed itself to pay in cash (by check) all
requests for redemption by any shareholder of record, limited in amount,
however, during any 90-day period to the lesser of $250,000 or 1% of the value
of the fund's net assets at the beginning of the 90-day period. This commitment
is irrevocable without the prior approval of the SEC. In the case of redemption
requests in excess of these amounts, the Board reserves the right to make
payments in whole or in part in securities or other assets of the fund, in case
of an emergency, or if the payment of such a redemption in cash would be
detrimental to the existing shareholders of the fund. In these circumstances,
the securities distributed would be valued at the price used to compute the
fund's net assets and you may incur brokerage fees in converting the securities
to cash. The fund does not intend to redeem illiquid securities in kind. If this
happens, however, you may not be able to recover your investment in a timely
manner.
GENERAL INFORMATION
If dividend checks are returned to the fund marked "unable to forward" by the
postal service, we will consider this a request by you to change your dividend
option to reinvest all distributions. The proceeds will be reinvested in
additional shares at Net Asset Value until we receive new instructions.
Distribution or redemption checks sent to you do not earn interest or any other
income during the time the checks remain uncashed. Neither the fund nor its
affiliates will be liable for any loss caused by your failure to cash such
checks. The fund is not responsible for tracking down uncashed checks, unless a
check is returned as undeliverable.
In most cases, if mail is returned as undeliverable we are required to take
certain steps to try to find you free of charge. If these attempts are
unsuccessful, however, we may deduct the costs of any additional efforts to find
you from your account. These costs may include a percentage of the account when
a search company charges a percentage fee in exchange for its location services.
All checks, drafts, wires and other payment mediums used to buy or sell shares
of the fund must be denominated in U.S. dollars. We may, in our sole discretion,
either (a) reject any order to buy or sell shares denominated in any other
currency or (b) honor the transaction or make adjustments to your account for
the transaction as of a date and with a foreign currency exchange factor
determined by the drawee bank.
SPECIAL SERVICES. Investor Services may pay certain financial institutions that
maintain omnibus accounts with the fund on behalf of numerous beneficial owners
for recordkeeping operations performed with respect to such owners. For each
beneficial owner in the omnibus account, the fund may reimburse Investor
Services an amount not to exceed the per account fee that the fund normally pays
Investor Services. These financial institutions may also charge a fee for their
services directly to their clients.
Certain shareholder servicing agents may be authorized to accept your
transaction request.
HOW ARE FUND SHARES VALUED?
We calculate the Net Asset Value per share as of the close of the NYSE, normally
1:00 p.m. Pacific time, each day that the NYSE is open for trading. As of the
date of this SAI, the fund is informed that the NYSE observes the following
holidays: New Year's Day, Martin Luther King Jr. Day, Presidents' Day, Good
Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day and
Christmas Day.
For the purpose of determining the aggregate net assets of the fund, cash and
receivables are valued at their realizable amounts. Interest is recorded as
accrued and dividends are recorded on the ex-dividend date. Portfolio securities
listed on a securities exchange or on the NASDAQ National Market System for
which market quotations are readily available are valued at the last quoted sale
price of the day or, if there is no such reported sale, within the range of the
most recent quoted bid and ask prices. Over-the-counter portfolio securities are
valued within the range of the most recent quoted bid and ask prices. Portfolio
securities that are traded both in the over-the-counter market and on a stock
exchange are valued according to the broadest and most representative market as
determined by Advisers.
Portfolio securities underlying actively traded call options are valued at their
market price as determined above. The current market value of any option held by
the fund is its last sale price on the relevant exchange before the time when
assets are valued. Lacking any sales that day or if the last sale price is
outside the bid and ask prices, options are valued within the range of the
current closing bid and ask prices if the valuation is believed to fairly
reflect the contract's market value.
The value of a foreign security is determined as of the close of trading on the
foreign exchange on which it is traded or as of the close of trading on the
NYSE, if that is earlier. The value is then converted into its U.S. dollar
equivalent at the foreign exchange rate in effect at noon, New York time, on the
day the value of the foreign security is determined. If no sale is reported at
that time, the foreign security is valued within the range of the most recent
quoted bid and ask prices. Occasionally events that affect the values of foreign
securities and foreign exchange rates may occur between the times at which they
are determined and the close of the exchange and will, therefore, not be
reflected in the computation of the Net Asset Value. If events materially
affecting the values of these foreign securities occur during this period, the
securities will be valued in accordance with procedures established by the
Board.
Generally, trading in corporate bonds, U.S. government securities and money
market instruments is substantially completed each day at various times before
the close of the NYSE. The value of these securities used in computing the Net
Asset Value is determined as of such times. Occasionally, events affecting the
values of these securities may occur between the times at which they are
determined and the close of the NYSE that will not be reflected in the
computation of the Net Asset Value. If events materially affecting the values of
these securities occur during this period, the securities will be valued at
their fair value as determined in good faith by the Board.
Other securities for which market quotations are readily available are valued at
the current market price, which may be obtained from a pricing service, based on
a variety of factors including recent trades, institutional size trading in
similar types of securities (considering yield, risk and maturity) and/or
developments related to specific issues. Securities and other assets for which
market prices are not readily available are valued at fair value as determined
following procedures approved by the Board. With the approval of the Board, the
fund may use a pricing service, bank or Securities Dealer to perform any of the
above described functions.
ADDITIONAL INFORMATION
ON DISTRIBUTIONS AND TAXES
DISTRIBUTIONS
DISTRIBUTIONS OF NET INVESTMENT INCOME. The fund receives income generally in
the form of dividends, interest, original issue, market and acquisition
discount, and other income derived from its investments. This income, less
expenses incurred in the operation of the fund, constitute its net investment
income from which dividends may be paid to you. Any distributions by the fund
from such income will be taxable to you as ordinary income, whether you take
them in cash or in additional shares.
DISTRIBUTIONS OF CAPITAL GAINS. The fund may derive capital gains and losses in
connection with sales or other dispositions of its portfolio securities.
Distributions derived from the excess of net short-term capital gain over net
long-term capital loss will be taxable to you as ordinary income. Distributions
paid from long-term capital gains realized by the fund will be taxable to you as
long-term capital gain, regardless of how long you have held your shares in the
fund. Any net short-term or long-term capital gains realized by the fund (net of
any capital loss carryovers) generally will be distributed once each year, and
may be distributed more frequently, if necessary, in order to reduce or
eliminate federal excise or income taxes on the fund.
Gain resulting from securities sold by the fund that are held for more than one
year will be taxable at a maximum rate of 20% for individual investors in the
28% or higher federal income tax brackets; or at a maximum rate of 10% for
individual investors in the 15% federal income tax bracket. Gains from
securities sold by the fund prior to January 1, 1998 are taxable at different
rates depending on the length of time the fund held such assets.
For "qualified 5-year gains," the maximum capital gains rate is 18% for
individuals in the 28% or higher federal income tax brackets; and 8% for
individuals in the 15% federal income tax bracket. For individuals in the 15%
bracket, qualified 5-year gains are net gains on securities held for more than 5
years which are sold after December 31, 2000. For individuals who are subject to
tax at higher rates, qualified 5-year gains are net gains on securities which
are purchased after December 31, 2000 and are held for more than 5 years.
Taxpayers subject to tax at the higher rates may also make an election for
shares held on January 1, 2001 to recognize gain on their shares in order to
qualify such shares as qualified 5-year property.
Additional information on reporting capital gains distributions on your personal
income tax returns is available in Franklin Templeton's Tax Information
Handbook. Please call Fund Information to request a copy. Questions concerning
each investor's personal tax reporting should be addressed to the investor's
personal tax advisor.
CERTAIN DISTRIBUTIONS PAID IN JANUARY. Distributions which are declared in
October, November or December and paid to you in January of the following year,
will be treated for tax purposes as if they had been received by you on December
31 of the year in which they were declared. The fund will report this income to
you on your Form 1099-DIV for the year in which these distributions were
declared.
EFFECT OF FOREIGN INVESTMENTS ON DISTRIBUTIONS. Most foreign exchange gains
realized on the sale of debt instruments are treated as ordinary income by the
fund. Similarly, foreign exchange losses realized by the fund on the sale of
debt instruments are generally treated as ordinary losses by the fund. These
gains when distributed will be taxable to you as ordinary dividends, and any
losses will reduce the fund's ordinary income otherwise available for
distribution to you. This treatment could increase or reduce the fund's ordinary
income distributions to you, and may cause some or all of the fund's previously
distributed income to be classified as a return of capital.
The fund may be subject to foreign withholding taxes on income from certain of
its foreign securities. If more than 50% of the total assets of the fund at the
end of the fiscal year are invested in securities of foreign corporations, the
fund may elect to pass-through to you your pro rata share of foreign taxes paid
by the fund subject to certain holding period requirements. If this election is
made, you will be (i) required to include in your gross income your pro rata
share of foreign source income (including any foreign taxes paid by the fund),
and, (ii) entitled to either deduct your share of such foreign taxes in
computing your taxable income or to claim a credit for such taxes against your
U.S. income tax, subject to certain limitations under the Code. You will be
informed by the fund at the end of each calendar year regarding the availability
of any such foreign tax credits and the amount of foreign source income
(including any foreign taxes paid by the fund). If the fund elects to
pass-through to you the foreign income taxes that it has paid, you will be
informed at the end of the calendar year of the amount of foreign taxes paid and
foreign source income that must be included on your federal income tax return.
If the fund invests 50% or less of its total assets in securities of foreign
corporations, it will not be entitled to pass-through to you your pro rata share
of the foreign taxes paid by the fund. In this case, these taxes will be taken
as a deduction by the fund, and the income reported to you will be the net
amount after these deductions.
Procedures by which investors in funds that invest in foreign securities can
claim tax credits on their individual income tax returns for the foreign taxes
paid by the fund have been simplified for tax years beginning in 1998. These
provisions will allow investors who claim a credit for foreign taxes paid of
$300 or less on a single return or $600 or less on a joint return during any
year (all of which must be reported on IRS Form 1099-DIV from the fund to the
investor) to bypass the burdensome and detailed reporting requirements on the
supporting foreign tax credit schedule (Form 1116) and report foreign taxes paid
directly on page 2 of Form 1040.
INFORMATION ON THE TAX CHARACTER OF DISTRIBUTIONS. The fund will inform you of
the amount and character of your distributions at the time they are paid, and
will advise you of the tax status for federal income tax purposes of such
distributions shortly after the close of each calendar year. If you have not
held fund shares for a full year, you may have designated and distributed to you
as ordinary income or capital gain a percentage of income that is not equal to
the actual amount of such income earned during the period of your investment in
the fund.
TAXES
ELECTION TO BE TAXED AS A REGULATED INVESTMENT COMPANY. The fund has elected to
be treated as a regulated investment company under Subchapter M of the Code, has
qualified as such for its most recent fiscal year, and intends to so qualify
during the current fiscal year. The Board reserves the right not to maintain the
qualification of the fund as a regulated investment company if it determines
such course of action to be beneficial to you. In such case, the fund will be
subject to federal, and possibly state, corporate taxes on its taxable income
and gains, and distributions to you will be taxed as ordinary dividend income to
the extent of the fund's available earnings and profits.
In order to qualify as a regulated investment company for tax purposes, the fund
must meet certain specific requirements, including:
o The fund must maintain a diversified portfolio of securities, wherein no
security (other than U.S. government securities and securities of other
regulated investment companies) can exceed 25% of the fund's total assets,
and, with respect to 50% of the fund's total assets, no investment (other
than cash and cash items, U.S. government securities and securities of other
regulated investment companies) can exceed 5% of the fund's total assets or
10% of the outstanding voting securities of the issuer;
o The fund must derive at least 90% of its gross income from dividends,
interest, payments with respect to securities loans, and gains from the sale
or disposition of stock, securities or foreign currencies, or other income
derived with respect to its business of investing in such stock, securities,
or currencies; and
o The fund must distribute to its shareholders at least 90% of its investment
company taxable income (i.e., net investment income plus net short-term
capital gains) and net tax-exempt income for each of its fiscal years.
EXCISE TAX DISTRIBUTION REQUIREMENTS. The Code requires the fund to distribute
at least 98% of its taxable ordinary income earned during the calendar year and
98% of its capital gain net income earned during the twelve month period ending
October 31 (in addition to undistributed amounts from the prior year) to you by
December 31 of each year in order to avoid federal excise taxes. The fund
intends to declare and pay sufficient dividends in December (or in January that
are treated by you as received in December) but does not guarantee and can give
no assurances that its distributions will be sufficient to eliminate all such
taxes.
REDEMPTION OF FUND SHARES. Redemptions and exchanges of fund shares are taxable
transactions for federal and state income tax purposes. The tax law requires
that you recognize a gain or loss in an amount equal to the difference between
your tax basis and the amount you received in exchange for your shares, subject
to the rules described below. If you hold your shares as a capital asset, the
gain or loss that you realize will be capital gain or loss, and will be
long-term for federal income tax purposes if you have held your shares for more
than one year at the time of redemption or exchange. Any loss incurred on the
redemption or exchange of shares held for six months or less will be treated as
a long-term capital loss to the extent of any long-term capital gains
distributed to you by the fund on those shares.
All or a portion of any loss that you realize upon the redemption of your fund
shares will be disallowed to the extent that you purchase other shares in the
fund (through reinvestment of dividends or otherwise) within 30 days before or
after your share redemption. Any loss disallowed under these rules will be added
to your tax basis in the new shares you purchase.
DEFERRAL OF BASIS. All or a portion of the sales charge that you paid for your
shares in the fund will be excluded from your tax basis in any of the shares
sold within 90 days of their purchase (for the purpose of determining gain or
loss upon the sale of such shares) if you reinvest the sales proceeds in the
fund or in another of the Franklin Templeton Funds, and the sales charge that
would otherwise apply to your reinvestment is reduced or eliminated. The portion
of the sales charge excluded from your tax basis in the shares sold will equal
the amount that the sales charge is reduced on your reinvestment. Any portion of
the sales charge excluded from your tax basis in the shares sold will be added
to the tax basis of the shares you acquire from your reinvestment.
U.S. GOVERNMENT OBLIGATIONS. Many states grant tax-free status to dividends paid
to you from interest earned on direct obligations of the U.S. government,
subject in some states to minimum investment requirements that must be met by
the fund. Investments in GNMA/FNMA securities, bankers' acceptances, commercial
paper and repurchase agreements collateralized by U.S. government securities do
not generally qualify for tax-free treatment. At the end of each calendar year,
the fund will provide you with the percentage of any dividends paid that may
qualify for tax-free treatment on your personal income tax return. You should
consult with your own tax advisor to determine the application of your state and
local laws to these distributions. Because the rules on exclusion of this income
are different for corporations, corporate shareholders should consult with their
corporate tax advisors about whether any of their distributions may be exempt
from corporate income or franchise taxes.
DIVIDENDS-RECEIVED DEDUCTION FOR CORPORATIONS. As a corporate shareholder, you
should note that only a small percentage of the dividends paid by the fund for
the most recent fiscal year qualified for the dividends-received deduction. You
will be permitted in some circumstances to deduct these qualified dividends,
thereby reducing the tax that you would otherwise be required to pay on these
dividends. The dividends-received deduction will be available only with respect
to dividends designated by the fund as eligible for such treatment. Dividends so
designated by the fund must be attributable to dividends earned by the fund from
U.S. corporations that were not debt-financed.
INVESTMENT IN COMPLEX SECURITIES. The fund's investment in options, futures
contracts and forward contracts, including transactions involving actual or
deemed short sales or foreign exchange gains or losses, are subject to many
complex and special tax rules. Over-the-counter options on debt securities and
equity options, including options on stock and on narrow-based stock indexes,
will be subject to tax under section 1234 of the Code, generally producing a
long-term or short-term capital gain or loss upon exercise, lapse, or closing
out of the option or sale of the underlying stock or security. Certain other
options, futures and forward contracts entered into by the fund are generally
governed by section 1256 of the Code. These "section 1256" positions generally
include listed options on debt securities, options on broad-based stock indexes,
options on securities indexes, options on futures contracts, regulated futures
contracts and certain foreign currency contracts and options thereon.
Absent a tax election to the contrary, each such section 1256 position held by
the fund will be marked-to-market (i.e., treated as if it were sold for fair
market value) on the last business day of the fund's fiscal year (and on other
dates as prescribed by the Code), and all gain or loss associated with fiscal
year transactions and mark-to-market positions at fiscal year end (except
certain currency gain or loss covered by section 988 of the Code) will generally
be treated as 60% long-term capital gain or loss and 40% short-term capital gain
or loss. Even though marked-to-market, gains and losses realized on foreign
currency and foreign security investments will generally be treated as ordinary
income. The effect of section 1256 mark-to-market rules may be to accelerate
income or to convert what otherwise would have been long-term capital gains into
short-term capital gains or short-term capital losses into long-term capital
losses within the fund. The acceleration of income on section 1256 positions may
require the fund to accrue taxable income without the corresponding receipt of
cash. In order to generate cash to satisfy the distribution requirements of the
Code, the fund may be required to dispose of portfolio securities that it
otherwise would have continued to hold or to use cash flows from other sources
such as the sale of fund shares. In these ways, any or all of these rules may
affect the amount, character and timing of income distributed to you by the
fund.
When the fund holds an option or contract which substantially diminishes the
fund's risk of loss with respect to another position of the fund (as might occur
in some hedging transactions), this combination of positions could be treated as
a "straddle" for tax purposes, possibly resulting in deferral of losses,
adjustments in the holding periods and conversion of short-term capital losses
into long-term capital losses. The fund may make certain tax elections for mixed
straddles (i.e., straddles comprised of at least one section 1256 position and
at least one non-section 1256 position) which may reduce or eliminate the
operation of these straddle rules.
When a fund enters into "constructive sale transactions," the fund must
recognize gain (but not loss) on any constructive sale of an appreciated
financial position in stock, a partnership interest or certain debt instruments.
The fund will generally be treated as making a constructive sale when it: (i)
enters into a short sale on the same property, (ii) enters into an offsetting
notional principal contract, or (iii) enters into a futures or forward contract
to deliver the same or substantially similar property. Other transactions
(including certain financial instruments called collars) will be treated as
constructive sales as provided in Treasury regulations to be published. There
are also certain exceptions that apply for transactions that are closed before
the end of the 30th day after the close of the taxable year.
Distributions paid to you by the fund of ordinary income and short-term capital
gains arising from the fund's investments, including investments in options,
forwards, and futures contracts, will be taxable to you as ordinary income. The
fund will monitor its transactions in such options and contracts and may make
certain other tax elections in order to mitigate the effect of the above rules.
INVESTMENTS IN FOREIGN CURRENCIES AND FOREIGN SECURITIES. The fund is authorized
to invest in foreign currency denominated securities. Such investments, if made,
will have the following additional tax consequences:
Under the Code, gains or losses attributable to fluctuations in foreign currency
exchange rates which occur between the time the fund accrues income (including
dividends), or accrues expenses which are denominated in a foreign currency, and
the time the fund actually collects such income or pays such expenses generally
are treated as ordinary income or loss. Similarly, on the disposition of debt
securities denominated in a foreign currency and on the disposition of certain
options, futures, forward contracts, gain or loss attributable to fluctuations
in the value of foreign currency between the date of acquisition of the security
or contract and the date of its disposition are also treated as ordinary gain or
loss. These gains or losses, referred to under the Code as "section 988" gains
or losses, may increase or decrease the amount of the fund's net investment
company taxable income, which, in turn, will affect the amount of income to be
distributed to you by the fund.
If the fund's section 988 losses exceed the fund's other net investment company
taxable income during a taxable year, the fund generally will not be able to
make ordinary dividend distributions to you for that year, or distributions made
before the losses were realized will be recharacterized as return of capital
distributions for federal income tax purposes, rather than as an ordinary
dividend or capital gain distribution. If a distribution is treated as a return
of capital, your tax basis in your fund shares will be reduced by a like amount
(to the extent of such basis), and any excess of the distribution over your tax
basis in your fund shares will be treated as capital gain to you.
INVESTMENT IN PASSIVE FOREIGN INVESTMENT COMPANY SECURITIES. The fund may invest
in shares of foreign corporation which may be classified under the Code as
passive foreign investment companies ("PFICs"). In general, a foreign
corporation is classified as a PFIC if at least one-half of its assets
constitute investment-type assets or 75% or more of its gross income is
investment-type income.
If the fund receives an "excess distribution" with respect to PFIC stock, the
fund itself may be subject to U.S. federal income tax on a portion of the
distribution, whether or not the corresponding income is distributed by the fund
to you. In general, under the PFIC rules, an excess distribution is treated as
having been realized ratably over the period during which the fund held the PFIC
shares. The fund itself will be subject to tax on the portion, if any, of an
excess distribution that is so allocated to prior fund taxable years, and an
interest factor will be added to the tax, as if the tax had been payable in such
prior taxable years. In this case, you would not be permitted to claim a credit
on your own tax return for the tax paid by the fund. Certain distributions from
a PFIC as well as gain from the sale of PFIC shares are treated as excess
distributions. Excess distributions are characterized as ordinary income even
though, absent application of the PFIC rules, certain excess distributions might
have been classified as capital gain. This may have the effect of increasing
fund distributions to you that are treated as ordinary dividends rather than
long-term capital gain dividends.
The fund may be eligible to elect alternative tax treatment with respect to PFIC
shares. Under an election that currently is available in some circumstances, the
fund generally would be required to include in its gross income its share of the
earnings of a PFIC on a current basis, regardless of whether distributions are
received from the PFIC during such period. If this election were made, the
special rules, discussed above, relating to the taxation of excess
distributions, would not apply. In addition, under another election that
involves marking-to-market the fund's PFIC shares at the end of each taxable
year (and on certain other dates as prescribed in the Code), unrealized gains
would be treated as though they were realized. The fund would also be allowed an
ordinary deduction for the excess, if any, of the adjusted basis of its
investment in the PFIC stock over its fair market value at the end of the
taxable year. This deduction would be limited to the amount of any net
mark-to-market gains previously included with respect to that particular PFIC
security. If the fund were to make this second PFIC election, tax at the fund
level under the PFIC rules would generally be eliminated.
The application of the PFIC rules may affect, among other things, the amount of
tax payable by the fund (if any), the amounts distributable to you by the fund,
the time at which these distributions must be made, and whether these
distributions will be classified as ordinary income or capital gain
distributions to you.
You should be aware that it is not always possible at the time shares of a
foreign corporation are acquired to ascertain that the foreign corporation is a
PFIC, and that there is always a possibility that a foreign corporation will
become a PFIC after the fund acquires shares in that corporation. While the fund
will generally seek to avoid investing in PFIC shares to avoid the tax
consequences detailed above, there are no guarantees that it will do so and it
reserves the right to make such investments as a matter of its fundamental
investment policy.
CONVERSION TRANSACTIONS. Gains realized by a fund from transactions that are
deemed to be "conversion transactions" under the Code, and that would otherwise
produce capital gain may be recharacterized as ordinary income to the extent
that such gain does not exceed an amount defined as the "applicable imputed
income amount". A conversion transaction is any transaction in which
substantially all of the fund's expected return is attributable to the time
value of the fund's net investment in such transaction, and any one of the
following criteria are met:
1) there is an acquisition of property with a substantially contemporaneous
agreement to sell the same or substantially identical property in the future; 2)
the transaction is an applicable straddle; 3) the transaction was marketed or
sold to the fund on the basis that it would have the economic characteristics of
a loan but would be taxed as capital gain; or 4) the transaction is specified in
Treasury regulations to be promulgated in the future.
The applicable imputed income amount, which represents the deemed return on the
conversion transaction based upon the time value of money, is computed using a
yield equal to 120 percent of the applicable federal rate, reduced by any prior
recharacterizations under this provision or the provisions of Section 263(g) of
the Code dealing with capitalized carrying costs.
STRIPPED PREFERRED STOCK. Occasionally, the fund may purchase "stripped
preferred stock" that is subject to special tax treatment. Stripped preferred
stock is defined as certain preferred stock issues where ownership of the stock
has been separated from the right to receive dividends that have not yet become
payable. The stock must have a fixed redemption price, must not participate
substantially in the growth of the issuer, and must be limited and preferred as
to dividends. The difference between the redemption price and purchase price is
taken into fund income over the term of the instrument as if it were original
issue discount. The amount that must be included in each period generally
depends on the original yield to maturity, adjusted for any prepayments of
principal.
INVESTMENTS IN ORIGINAL ISSUE DISCOUNT (OID) AND MARKET DISCOUNT (MD) BONDS. The
fund's investments in zero coupon bonds, bonds issued or acquired at a discount,
delayed interest bonds, or bonds that provide for payment of interest-in-kind
(PIK) may cause the fund to recognize income and make distributions to you prior
to its receipt of cash payments. Zero coupon and delayed interest bonds are
normally issued at a discount and are therefore generally subject to tax
reporting as OID obligations. The fund is required to accrue as income a portion
of the discount at which these securities were issued, and to distribute such
income each year (as ordinary dividends) in order to maintain its qualification
as a regulated investment company and to avoid income reporting and excise taxes
at the fund level. PIK bonds are subject to similar tax rules concerning the
amount, character and timing of income required to be accrued by the fund. Bonds
acquired in the secondary market for a price less than their stated redemption
price, or revised issue price in the case of a bond having OID, are said to have
been acquired with market discount. For these bonds, the fund may elect to
accrue market discount on a current basis, in which case the fund will be
required to distribute any such accrued discount. If the fund does not elect to
accrue market discount into income currently, gain recognized on sale will be
recharacterized as ordinary income instead of capital gain to the extent of any
accumulated market discount on the obligation.
Defaulted Obligations. The fund may be required to accrue income on defaulted
obligations and to distribute such income to you even though it is not currently
receiving interest or principal payments on such obligations. In order to
generate cash to satisfy these distribution requirements, the fund may be
required to dispose of portfolio securities that it otherwise would have
continued to hold or to use cash flows from other sources such as the sale of
fund shares.
THE FUND'S UNDERWRITER
Pursuant to an underwriting agreement, Distributors acts as principal
underwriter in a continuous public offering of the fund's shares. The
underwriting agreement will continue in effect for successive annual periods if
its continuance is specifically approved at least annually by a vote of the
Board or by a vote of the holders of a majority of the fund's outstanding voting
securities, and in either event by a majority vote of the Board members who are
not parties to the underwriting agreement or interested persons of any such
party (other than as members of the Board), cast in person at a meeting called
for that purpose. The underwriting agreement terminates automatically in the
event of its assignment and may be terminated by either party on 90 days'
written notice.
Distributors pays the expenses of the distribution of fund shares, including
advertising expenses and the costs of printing sales material and prospectuses
used to offer shares to the public. The fund pays the expenses of preparing and
printing amendments to its registration statements and prospectuses (other than
those necessitated by the activities of Distributors) and of sending
prospectuses to existing shareholders.
Distributors does not receive compensation from the fund for acting as
underwriter of the fund's Advisor Class shares.
HOW DOES THE FUND
MEASURE PERFORMANCE?
Performance quotations are subject to SEC rules. These rules require the use of
standardized performance quotations or, alternatively, that every
non-standardized performance quotation furnished by the fund be accompanied by
certain standardized performance information computed as required by the SEC.
Average annual total return and current yield quotations used by the fund are
based on the standardized methods of computing performance mandated by the SEC.
If a Rule 12b-1 plan is adopted, performance figures reflect fees from the date
of the plan's implementation.
For periods before January 2, 1997, standardized performance quotations for
Advisor Class are calculated by substituting Class I performance for the
relevant time period, excluding the effect of Class I's maximum initial sales
charge, and including the effect of the Rule 12b-1 fees applicable to Class I
shares of the fund. For periods after January 2, 1997, standardized performance
quotations for Advisor Class are calculated as described below.
An explanation of these and other methods used by the fund to compute or express
performance follows. Regardless of the method used, past performance does not
guarantee future results, and is an indication of the return to shareholders
only for the limited historical period used.
TOTAL RETURN
AVERAGE ANNUAL TOTAL RETURN. Average annual total return is determined by
finding the average annual rates of return over the periods indicated below that
would equate an initial hypothetical $1,000 investment to its ending redeemable
value. The calculation assumes income dividends and capital gain distributions
are reinvested at Net Asset Value. The quotation assumes the account was
completely redeemed at the end of each period and the deduction of all
applicable charges and fees. If a change is made to the sales charge structure,
historical performance information will be restated to reflect the maximum
front-end sales charge currently in effect.
The average annual total return for Advisor Class for the one-year period ended
April 30, 1998, and for the period from inception (June 5, 1995) through April
30, 1998, was 18.11% and 20.94%, respectively.
These figures were calculated according to the SEC formula:
n
P(1+T) = 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 $1,000payment made at the
beginning of each period at the end of each period
CUMULATIVE TOTAL RETURN. Like average annual total return, cumulative total
return assumes income dividends and capital gain distributions are reinvested at
Net Asset Value. Cumulative total return, however, is based on the actual return
for a specified period rather than on the average return over the periods
indicated above. The cumulative total return for Advisor Class for the one-year
period ended April 30, 1998, and for the period from inception (June 5, 1995)
through April 30, 1998, was 18.11% and 73.62%, respectively.
YIELD
CURRENT YIELD. Current yield shows the income per share earned by the fund. It
is calculated by dividing the net investment income per share earned during a
30-day base period by the Net Asset Value per share on the last day of the
period and annualizing the result. Expenses accrued for the period include any
fees charged to all shareholders during the base period. The yield for Advisor
Class for the 30-day period ended April 30, 1998, was 1.45%.
These figures were obtained using the following SEC formula:
6
Yield = 2 [(a-b + 1) - 1]
---
cd
where:
a = dividends and interest earned during the period
b = expenses accrued for the period (net of reimbursements)
c = the average daily number of shares outstanding during the period that
were entitled to receive dividends
d = the Net Asset Value per share on the last day of the period
CURRENT DISTRIBUTION RATE
Current yield, which is calculated according to a formula prescribed by the SEC,
is not indicative of the amounts which were or will be paid to shareholders of
the fund. Amounts paid to shareholders are reflected in the quoted current
distribution rate. The current distribution rate is usually computed by
annualizing the dividends paid per share during a certain period and dividing
that amount by the current Net Asset Value. The current distribution rate
differs from the current yield computation because it may include distributions
to shareholders from sources other than dividends and interest, such as premium
income from option writing and short-term capital gains, and is calculated over
a different period of time. The current distribution rate for Advisor Class for
the 30-day period ended April 30, 1998, was 0.875%.
VOLATILITY
Occasionally statistics may be used to show the fund's volatility or risk.
Measures of volatility or risk are generally used to compare the fund's Net
Asset Value or performance to a market index. One measure of volatility is beta.
Beta is the volatility of a fund relative to the total market, as represented by
an index considered representative of the types of securities in which the fund
invests. A beta of more than 1.00 indicates volatility greater than the market
and a beta of less than 1.00 indicates volatility less than the market. Another
measure of volatility or risk is standard deviation. Standard deviation is used
to measure variability of Net Asset Value or total return around an average over
a specified period of time. The idea is that greater volatility means greater
risk undertaken in achieving performance.
OTHER PERFORMANCE QUOTATIONS
Sales literature referring to the use of the fund as a potential investment for
Individual Retirement Accounts (IRAs), Business Retirement Plans, and other
tax-advantaged retirement plans may quote a total return based upon compounding
of dividends on which it is presumed no federal income tax
applies.
The fund may include in its advertising or sales material information relating
to investment goals and performance results of funds belonging to the Franklin
Templeton Group of Funds. Resources is the parent company of the advisors and
underwriter of the Franklin Templeton Group of Funds.
COMPARISONS
To help you better evaluate how an investment in the fund may satisfy your
investment goal, advertisements and other materials about the fund may discuss
certain measures of fund performance as reported by various financial
publications. Materials may also compare performance (as calculated above) to
performance as reported by other investments, indices, and averages. These
comparisons may include, but are not limited to, the following examples:
a) Dow Jones Composite Average or its component averages - an unmanaged index
composed of 30 blue-chip industrial corporation stocks (Dow Jones(R) Industrial
Average), 15 utilities company stocks (Dow Jones Utilities Average), and 20
transportation company stocks. Comparisons of performance assume reinvestment of
dividends.
b) Standard & Poor's(R) 500 Stock Index or its component indices - an unmanaged
index composed of 400 industrial stocks, 40 financial stocks, 40 utilities
stocks, and 20 transportation stocks. Comparisons of performance assume
reinvestment of dividends.
c) The New York Stock Exchange composite or component indices - an unmanaged
index of all industrial, utilities, transportation, and finance stocks listed on
the NYSE.
d) Wilshire 5000 Equity Index - represents the return on the market value of all
common equity securities for which daily pricing is available. Comparisons of
performance assume reinvestment of dividends.
e) Lipper - Mutual Fund Performance Analysis and Lipper - Fixed Income Fund
Performance Analysis - measure total return and average current yield for the
mutual fund industry and rank individual mutual fund performance over specified
time periods, assuming reinvestment of all distributions, exclusive of any
applicable sales charges.
f) CDA Mutual Fund Report, published by CDA Investment Technologies, Inc.
analyzes price, current yield, risk, total return, and average rate of return
(average annual compounded growth rate) over specified time periods for the
mutual fund industry.
g) Mutual Fund Source Book, published by Morningstar, Inc. - analyzes price,
yield, risk, and total return for mutual funds.
h) Valueline Index - an unmanaged index which follows the stocks of
approximately 1,700 companies.
i) Consumer Price Index (or Cost of Living Index), published by the U.S. Bureau
of Labor Statistics - a statistical measure of change, over time, in the price
of goods and services in major expenditure groups.
j) Historical data supplied by the research departments of CS First Boston
Corporation, the J. P. Morgan companies, Salomon Brothers, Merrill Lynch,
Lehman Brothers and Bloomberg L.P.
k) Financial publications: THE WALL STREET JOURNAL, and BUSINESS WEEK, CHANGING
TIMES, FINANCIAL WORLD, FORBES, FORTUNE, and MONEY magazines provide performance
statistics over specified time periods.
l) Morgan Stanley Capital International World Indices, including, among others,
the Morgan Stanley Capital International Europe, Australia, Far East Index
("EAFE Index"). The EAFE index is an unmanaged index of more than 1,000
companies of Europe, Australia and the Far East.
m) Financial Times Actuaries Indices - including the FTA-World Index (and
components thereof), which are based on stocks in major world equity markets.
n) Morningstar - information published by Morningstar, Inc., including
Morningstar proprietary mutual fund ratings. The ratings reflect Morningstar's
assessment of the historical risk(adjusted performance of a fund over specified
time periods relative to other funds within its category.
From time to time, advertisements or information for the fund may include a
discussion of certain attributes or benefits to be derived from an investment in
the fund. The advertisements or information may include symbols, headlines, or
other material that highlights or summarizes the information discussed in more
detail in the communication.
Advertisements or information may also compare the fund's performance to the
return on CDs or other investments. You should be aware, however, that an
investment in the fund involves the risk of fluctuation of principal value, a
risk generally not present in an investment in a CD issued by a bank. For
example, as the general level of interest rates rise, the value of the fund's
fixed-income investments, if any, as well as the value of its shares that are
based upon the value of such portfolio investments, can be expected to decrease.
Conversely, when interest rates decrease, the value of the fund's shares can be
expected to increase. CDs are frequently insured by an agency of the U.S.
government. An investment in the fund is not insured by any federal, state or
private entity.
In assessing comparisons of performance, you should keep in mind that the
composition of the investments in the reported indices and averages is not
identical to the fund's portfolio, the indices and averages are generally
unmanaged, and the items included in the calculations of the averages may not be
identical to the formula used by the fund to calculate its figures. In addition,
there can be no assurance that the fund will continue its performance as
compared to these other averages.
MISCELLANEOUS INFORMATION
The fund may help you achieve various investment goals such as accumulating
money for retirement, saving for a down payment on a home, college costs and
other long-term goals. The Franklin College Costs Planner may help you in
determining how much money must be invested on a monthly basis in order to have
a projected amount available in the future to fund a child's college education.
(Projected college cost estimates are based upon current costs published by the
College Board.) The Franklin Retirement Planning Guide leads you through the
steps to start a retirement savings program. Of course, an investment in the
fund cannot guarantee that these goals will be met.
The fund is a member of the Franklin Templeton Group of Funds, one of the
largest mutual fund organizations in the U.S., and may be considered in a
program for diversification of assets. Founded in 1947, Franklin, one of the
oldest mutual fund organizations, has managed mutual funds for over 50 years and
now services more than 3 million shareholder accounts. In 1992, Franklin, a
leader in managing fixed-income mutual funds and an innovator in creating
domestic equity funds, joined forces with Templeton, a pioneer in international
investing. The Mutual Series team, known for its value-driven approach to
domestic equity investing, became part of the organization four years later.
Together, the Franklin Templeton Group has over $236 billion in assets under
management for more than 6 million U.S. based mutual fund shareholder and other
accounts. The Franklin Templeton Group of Funds offers 119 U.S. based open-end
investment companies to the public. The fund may identify itself by its NASDAQ
symbol or CUSIP number.
As of June 2, 1998, the principal shareholder of the fund, beneficial or of
record, was as follows:
SHARE
NAME AND ADDRESS AMOUNT PERCENTAGE
CLASS I
FTTC Trust Operations
Richard Stoker
P.O. Box 7519
San Mateo, CA
94403-7519 246,553.842 6.4%
From time to time, the number of fund shares held in the "street name" accounts
of various Securities Dealers for the benefit of their clients or in centralized
securities depositories may exceed 5% of the total shares outstanding.
In the event of disputes involving multiple claims of ownership or authority to
control your account, the fund has the right (but has no obligation) to: (a)
freeze the account and require the written agreement of all persons deemed by
the fund to have a potential property interest in the account, before executing
instructions regarding the account; (b) interplead disputed funds or accounts
with a court of competent jurisdiction; or (c) surrender ownership of all or a
portion of the account to the IRS in response to a Notice of Levy.
SUMMARY OF CODE OF ETHICS. Employees of the Franklin Templeton Group who are
access persons under the 1940 Act are permitted to engage in personal securities
transactions subject to the following general restrictions and procedures: (i)
the trade must receive advance clearance from a compliance officer and must be
completed by the close of the business day following the day clearance is
granted; (ii) copies of all brokerage confirmations and statements must be sent
to a compliance officer; (iii) all brokerage accounts must be disclosed on an
annual basis; and (iv) access persons involved in preparing and making
investment decisions must, in addition to (i), (ii) and (iii) above, file annual
reports of their securities holdings each January and inform the compliance
officer (or other designated personnel) if they own a security that is being
considered for a fund or other client transaction or if they are recommending a
security in which they have an ownership interest for purchase or sale by a fund
or other client.
FINANCIAL STATEMENTS
The audited financial statements contained in the Annual Report to Shareholders
of the Trust, for the fiscal year ended April 30, 1998, including the auditor's
report, are incorporated herein by reference.
USEFUL TERMS AND DEFINITIONS
1940 ACT - Investment Company Act of 1940, as amended
ADVISERS - Franklin Advisers, Inc., the fund's investment manager
BOARD - The Board of Trustees of the Trust
CD - Certificate of deposit
CLASS I AND ADVISOR CLASS - The fund offers two classes of shares, designated
"Class I" and "Advisor Class." The two classes have proportionate interests in
the fund's portfolio. They differ, however, primarily in their sales charge and
expense structures.
CODE - Internal Revenue Code of 1986, as amended
DISTRIBUTORS - Franklin/Templeton Distributors, Inc., the fund's principal
underwriter
FRANKLIN TEMPLETON GROUP - Franklin Resources, Inc., a publicly owned holding
company, and its various subsidiaries
FRANKLIN TEMPLETON GROUP OF FUNDS - All U.S. registered investment companies
in the Franklin Group of Funds(R) and the Templeton Group of Funds
FT SERVICES - Franklin Templeton Services, Inc., the fund's administrator
INVESTOR SERVICES - Franklin/Templeton Investor Services, Inc., the fund's
shareholder servicing and transfer agent
IRS - Internal Revenue Service
MOODY'S - Moody's Investors Service, Inc.
NASD - National Association of Securities Dealers, Inc.
NET ASSET VALUE (NAV) - The value of a mutual fund is determined by deducting
the fund's liabilities from the total assets of the portfolio. The net asset
value per share is determined by dividing the net asset value of the fund by the
number of shares outstanding.
NYSE - New York Stock Exchange
PROSPECTUS - The prospectus for Advisor Class shares of the fund dated September
1, 1998, which we may amend from time to time
RESOURCES - Franklin Resources, Inc.
SAI - Statement of Additional Information
S&P - Standard & Poor's Corporation
SEC - U.S. Securities and Exchange Commission
SECURITIES DEALER - A financial institution that, either directly or through
affiliates, has an agreement with Distributors to handle customer orders and
accounts with the fund. This reference is for convenience only and does not
indicate a legal conclusion of capacity.
WE/OUR/US - Unless a different meaning is indicated by the context, these terms
refer to the fund and/or Investor Services, Distributors, or other wholly owned
subsidiaries of Resources.
APPENDIX
DESCRIPTION OF RATINGS
CORPORATE BOND RATINGS
MOODY'S
AAA - Bonds rated Aaa are judged to be of the best quality. They carry the
smallest degree of investment risk and are generally referred to as
"gilt-edged." Interest payments are protected by a large or exceptionally stable
margin, and principal is secure. While the various protective elements are
likely to change, such changes as can be visualized are most unlikely to impair
the fundamentally strong position of such issues.
AA - Bonds rated Aa are judged to be high quality by all standards. Together
with the Aaa group, they comprise what are generally known as high-grade bonds.
They are rated lower than the best bonds because margins of protection may not
be as large, fluctuation of protective elements may be of greater amplitude, or
there may be other elements present that make the long-term risks appear
somewhat larger.
A - Bonds rated A possess many favorable investment attributes and are
considered upper medium-grade obligations. Factors giving security to principal
and interest are considered adequate, but elements may be present that suggest a
susceptibility to impairment sometime in the future.
BAA - Bonds rated Baa are considered medium-grade obligations. They are neither
highly protected nor poorly secured. Interest payments and principal security
appear adequate for the present but certain protective elements may be lacking
or may be characteristically unreliable over any great length of time. These
bonds lack outstanding investment characteristics and, in fact, have speculative
characteristics as well.
BA - Bonds rated Ba are judged to have predominantly speculative elements and
their future cannot be considered well assured. Often the protection of interest
and principal payments is very moderate and, thereby, not well safeguarded
during both good and bad times over the future. Uncertainty of position
characterizes bonds in this class.
B - Bonds rated B generally lack characteristics of the desirable investment.
Assurance of interest and principal payments or of maintenance of other terms of
the contract over any long period of time may be small.
CAA - Bonds rated Caa are of poor standing. These issues may be in default or
there may be present elements of danger with respect to principal or interest.
CA - Bonds rated Ca represent obligations that are speculative to a high degree.
These issues are often in default or have other marked shortcomings.
C - Bonds rated C are the lowest rated class of bonds and can be regarded as
having extremely poor prospects of ever attaining any real investment standing.
Note: Moody's applies numerical modifiers 1, 2 and 3 in each generic rating
classification from Aa through B in its corporate bond ratings. The modifier 1
indicates that the security ranks in the higher end of its generic rating
category; modifier 2 indicates a mid-range ranking; and modifier 3 indicates
that the issue ranks in the lower end of its generic rating category.
S&P
AAA - This is the highest rating assigned by S&P to a debt obligation and
indicates an extremely strong capacity to pay principal and interest.
AA - Bonds rated AA also qualify as high-quality debt obligations. Capacity to
pay principal and interest is very strong and, in the majority of instances,
differ from AAA issues only in a small degree.
A - Bonds rated A have a strong capacity to pay principal and interest, although
they are somewhat more susceptible to the adverse effects of changes in
circumstances and economic conditions.
BBB - Bonds rated BBB are regarded as having an adequate capacity to pay
principal and interest. Whereas they normally exhibit protection parameters,
adverse economic conditions or changing circumstances are more likely to lead to
a weakened capacity to pay principal and interest for bonds in this category
than for bonds in the A category.
BB, B, CCC, CC - Bonds rated BB, B, CCC and CC are regarded, on balance, as
predominantly speculative with respect to the issuer's capacity to pay interest
and repay principal in accordance with the terms of the obligations. BB
indicates the lowest degree of speculation and CC the highest degree of
speculation. While these bonds will likely have some quality and protective
characteristics, they are outweighed by large uncertainties or major risk
exposures to adverse conditions.
C - Bonds rated C are typically subordinated debt to senior debt that is
assigned an actual or implied CCC- rating. The C rating may also reflect the
filing of a bankruptcy petition under circumstances where debt service payments
are continuing. The C1 rating is reserved for income bonds on which no interest
is being paid.
D - Debt rated D is in default and payment of interest and/or repayment of
principal is in arrears.
PLUS (+) OR MINUS (-): The ratings from "AA" to "CCC" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
COMMERCIAL PAPER RATINGS
MOODY'S
Moody's commercial paper ratings are opinions of the ability of issuers to repay
punctually their promissory obligations not having an original maturity in
excess of nine months. Moody's employs the following designations, all judged to
be investment grade, to indicate the relative repayment capacity of rated
issuers:
P-1 (PRIME-1): Superior capacity for repayment.
P-2 (PRIME-2): Strong capacity for repayment.
S&P
S&P's ratings are a current assessment of the likelihood of timely payment of
debt having an original maturity of no more than 365 days. Ratings are graded
into four categories, ranging from "A" for the highest quality obligations to
"D" for the lowest. Issues within the "A" category are delineated with the
numbers 1, 2 and 3 to indicate the relative degree of safety, as follows:
A-1: This designation indicates the degree of safety regarding timely payment is
very strong. A "plus" (+) designation indicates an even stronger likelihood of
timely payment.
A-2: Capacity for timely payment on issues with this designation is strong. The
relative degree of safety, however, is not as overwhelming as for issues
designated A-1.
A-3: Issues carrying this designation have a satisfactory capacity for timely
payment. They are, however, somewhat more vulnerable to the adverse effects of
changes in circumstances than obligations carrying the higher designations.
