o FTIT P-1
SUPPLEMENT DATED JANUARY 1, 2000
TO THE PROSPECTUS OF
FRANKLIN TEMPLETON INTERNATIONAL TRUST
(TEMPLETON FOREIGN SMALLER COMPANIES FUND AND TEMPLETON PACIFIC GROWTH FUND)
DATED MARCH 1, 1999
The prospectus is amended as follows:
I. The following sentence is added after the minimum investments table on
page 33:
Please note that you may only buy shares of a fund eligible for sale in your
state or jurisdiction.
II. In the Selling Shares table on page 39 the section "By Wire" is replaced
with the following:
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[Insert graphic of You can call or write to have redemption
three lightning proceeds sent to a bank account. See the
bolts] policies above for selling shares by mail or
phone.
BY ELECTRONIC
FUNDS TRANSFER Before requesting to have redemption proceeds
(ACH) sent to a bank account, please make sure we
have your bank account information on file.
If we do not have this information, you will
need to send written instructions with your
bank's name and address, a voided check or
savings account deposit slip, and a signature
guarantee if the ownership of the bank and
fund accounts is different.
If we receive your request in proper form by
1:00 p.m. Pacific time, proceeds sent by ACH
generally will be available within two to
three business days.
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III. The sections "Waivers for investments from certain payments," "Waivers
for certain investors," "CDSC waivers" and "Retirement plans," on pages 30
through 32, are replaced with the following:
SALES CHARGE WAIVERS Class A shares may be purchased without an initial
sales charge or CDSC by various individuals, institutions and retirement
plans or by investors who reinvest certain distributions and proceeds within
365 days. Certain investors also may buy Class C shares without an initial
sales charge. The CDSC for each class may be waived for certain redemptions
and distributions. If you would like information about available sales
charge waivers, call your investment representative or call Shareholder
Services at 1-800/632-2301. For information about retirement plans, you may
call Retirement Plan Services at 1-800/527-2020. A list of available sales
charge waivers also may be found in the Statement of Additional Information
(SAI).
IV. The section "Dealer compensation" on page 42 is replaced with the
following:
DEALER COMPENSATION Qualifying dealers who sell fund shares may receive
sales commissions and other payments. These are paid by Franklin Templeton
Distributors, Inc. (Distributors) from sales charges, distribution and
service (12b-1) fees and its other resources.
CLASS A CLASS B CLASS C
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COMMISSION (%) - 4.00 2.00
Investment under $50,000 5.00 - -
$50,000 but under $100,000 3.75 - -
$100,000 but under $250,000 2.80 - -
$250,000 but under $500,000 2.00 - -
$500,000 but under $1 million 1.60 - -
$1 million or more up to 1.00 1 - -
12B-1 FEE TO DEALER 0.25 0.25 2 1.00 3
A dealer commission of up to 1% may be paid on Class A NAV purchases by
certain retirement plans1 and on Class C NAV purchases. A dealer commission
of up to 0.25% may be paid on Class A NAV purchases by certain trust
companies and bank trust departments, eligible governmental authorities, and
broker-dealers or others on behalf of clients participating in comprehensive
fee programs.
1. During the first year after purchase, dealers may not be eligible to
receive the 12b-1 fee.
2. Dealers may be eligible to receive up to 0.25% from the date of purchase.
After 8 years, Class B shares convert to Class A shares and dealers may then
receive the 12b-1 fee applicable to Class A.
3. Dealers may be eligible to receive up to 0.25% during the first year
after purchase and may be eligible to receive the full 12b-1 fee starting in
the 13th month.
V. The section "Statements and reports" on page 40 is replaced with the
following:
STATEMENTS AND REPORTS You will receive quarterly account statements that
show all your account transactions during the quarter. You also will receive
written notification after each transaction affecting your account (except
for distributions and transactions made through automatic investment or
withdrawal programs, which will be reported on your quarterly statement).
You also will receive the fund's financial reports every six months. To
reduce fund expenses, we try to identify related shareholders in a household
and send only one copy of the financial reports. If you need additional
copies, please call 1-800/DIAL BEN.
If there is a dealer or other investment representative of record on your
account, he or she also will receive copies of all notifications and
statements and other information about your account directly from the fund.
Please keep this supplement for future reference.
FRANKLIN TEMPLETON
INTERNATIONAL TRUST
TEMPLETON FOREIGN SMALLER
COMPANIES FUND - CLASS A, B & C
TEMPLETON PACIFIC GROWTH FUND - CLASS A & C
STATEMENT OF
ADDITIONAL INFORMATION
MARCH 1, 1999, AS AMENDED JANUARY 1, 2000
[INSERT FRANKLIN TEMPLETON BEN HEAD]
777 MARINERS ISLAND BLVD., P.O. BOX 7777
SAN MATEO, CA 94403-7777 1-800/DIAL BEN(R)
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This Statement of Additional Information (SAI) is not a prospectus. It contains
information in addition to the information in the funds' prospectus. The funds'
prospectus, dated March 1, 1999, which we may amend from time to time, contains
the basic information you should know before investing in the funds. You should
read this SAI together with the funds' prospectus.
The audited financial statements and auditor's report in the trust's Annual
Report to Shareholders, for the fiscal year ended October 31, 1998, are
incorporated by reference (are legally a part of this SAI).
For a free copy of the current prospectus or annual report, contact your
investment representative or call 1-800/DIAL BEN (1-800/342-5236).
CONTENTS
Goal and Strategies 2
Risks 13
Officers and Trustees 18
Management and Other Services 22
Portfolio Transactions 24
Distributions and Taxes 25
Organization, Voting Rights
and Principal Holders 26
Buying and Selling Shares 28
Pricing Shares 34
The Underwriter 35
Performance 37
Miscellaneous Information 39
Description of Bond Ratings 40
[Begin callout]
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.
[End callout]
GOAL AND STRATEGIES
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The investment goal of each fund is long-term capital growth. This goal is
fundamental, which means it may not be changed without shareholder approval.
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.
Convertible securities typically are debt securities or preferred stocks which
are convertible into common stock after certain time periods or under certain
circumstances. 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 which
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 such
securities generally declines. These changes in market value will be reflected
in the fund's net asset value.
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 Smaller Companies Fund may buy debt securities which are rated C or better
by Moody's or S&P; or unrated debt which it determines to be of comparable
quality. At present, the fund does not intend to 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), including defaulted securities.
The Pacific Fund may buy debt securities which are rated Baa by Moody's or BBB
by S&P or better; or unrated debt which it determines to be of comparable
quality. The fund's investments in debt instruments may include U.S. and foreign
government and corporate securities, including Samurai bonds, Yankee bonds and
Eurobonds.
FOREIGN INVESTMENTS The fund invests in securities of foreign issuers. The funds
may invest up to 100% of total assets in emerging markets. The Smaller Companies
Fund may invest up to 5% of its total assets in Russian securities.
On occasion the fund may invest more than 25% of its assets in the securities of
issuers in one industrialized country that, in the view of the manager, poses no
unique investment risk. Consistent with this policy, the fund may invest up to
30% of its assets in securities issued by Hong Kong companies. However, each
fund will not invest more than 25% of its assets in any one industry or
securities issued by any foreign government.
CURRENCY TRANSACTIONS Although each fund has the authority to enter into forward
currency exchange contracts ("forward contracts") and currency futures contracts
and options on these 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, they presently have no intention of entering into such transactions.
A forward contract involves an obligation to buy or sell a specific currency at
a future date, that may be any fixed number of days from the date of the
contract agreed upon by the parties, at a price set at the time of the contract.
These contracts are traded in the interbank market conducted directly between
currency traders (usually large commercial banks).
Each 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 the managers determine that there is a pattern of
correlation between the two currencies. Each fund may also buy and sell forward
contracts (to the extent they are not deemed "commodities") for non-hedging
purposes when the managers anticipate 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 funds'
portfolio.
Each fund's custodian bank will place cash or liquid high grade debt securities
(securities rated in one of the top three ratings categories by Moody's or S&P
or, if unrated, deemed by the managers to be of comparable quality) into a
segregated account of the fund maintained by its custodian bank in an amount
equal to the value of the funds' total assets committed to the forward foreign
currency exchange contracts requiring the funds to purchase 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 funds' commitments with
respect to such contracts. The segregated account is marked-to-market on a daily
basis. Although the contracts are not presently regulated by the Commodity
Futures Trading Commission (the "CFTC"), the CFTC may in the future assert
authority to regulate these contracts. In such event, the funds' ability to
utilize 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.
A currency futures contract is a standardized contract for the future delivery
of a specified amount of currency at a future date at a price set at the time of
the contract. Each fund may enter into currency futures contracts traded on
regulated commodity exchanges, including non-U.S. exchanges.
The funds may either accept or make delivery of the currency specified at the
maturity of a forward or futures contract or, prior to maturity, enter into a
closing transaction involving the purchase or sale of an offsetting contract.
Closing transactions with respect to forward contracts are usually effected with
the currency trader who is a party to the original forward contract.
Each fund may enter into forward currency exchange contracts and currency
futures contracts in several circumstances. For example, when a fund enters into
a contract for the purchase or sale of a security denominated in a foreign
currency (or options contracts with respect to such futures contracts), or when
a fund anticipates the receipt in a foreign currency of dividends or interest
payments on such a security that it holds, it may desire to "lock in" the U.S.
dollar price of the security or the U.S. dollar equivalent of such dividend or
interest payment, as the case may be. In addition, when the managers believe
that the currency of a particular country may suffer a substantial decline
against the U.S. dollar, they may enter into a forward or futures contract to
sell, for a fixed amount of U.S. dollars, the amount of that currency
approximating the value of some or all of the fund's portfolio securities
denominated in that 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 these 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 a 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 a 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.
Each fund may write 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 purchasing options on one currency to hedge against
changes in exchange rates for a different currency with a pattern of
correlation. In addition, the funds may buy call options on currency for
non-hedging purposes when the managers anticipate 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 a 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 a 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 risk that a 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. Such purchases are referred to as
"closing purchase transactions." A fund would also be able to enter into closing
sale transactions in order to realize gains or minimize losses on options bought
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 purchase 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 such 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. A fund may forfeit the entire
amount of the premium plus related transaction costs if exchange rates move in a
manner adverse to the fund's position.
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"). Buying 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. Buying 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. The fund will buy and sell foreign currency
options traded on U.S. or foreign exchanges or over-the-counter.
The fund will not enter into forward currency exchange contracts or currency
futures contracts or buy or write such options or maintain a net exposure to
such contracts where the completion of the contracts would obligate the fund to
deliver an amount of currency other than U.S. dollars in excess of the value of
the fund's portfolio securities or other assets denominated in that currency or,
in the case of cross-hedging, in a currency closely correlated to that currency.
OPTIONS ON SECURITIES AND SECURITIES INDICES Although the funds have the
authority to enter into these transactions, they currently have no intention of
doing so.
WRITING CALL AND PUT OPTIONS ON SECURITIES. A fund may write options to generate
additional income and to hedge its investment portfolio against anticipated
adverse market and/or exchange rate movements. A fund may write covered call and
put options on any securities in which it may invest. A fund may buy and write
these options on securities that are listed on domestic or foreign securities
exchanges or traded in the over-the-counter market. Call options written by a
fund give the holder the right to buy the underlying securities from the fund at
a stated exercise price. Put options written by a fund give the holder the right
to sell the underlying security to the fund at a stated exercise price. All
options written by a fund will be "covered." The purpose of writing covered call
options is to realize greater income than would be realized on portfolio
securities transactions alone. However, in writing covered call options for
additional income, a fund may forego the opportunity to profit from an increase
in the market price of the underlying security.
A call option written by a fund is covered if the fund owns the underlying
security covered by 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 a 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
(i) is equal to or less than the exercise price of the call written or (ii) 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.
A put option written by a 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 else 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 that wishes to terminate its obligation may effect a
closing purchase transaction. 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.
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. There
is no guarantee that either a closing purchase or a closing sale transaction can
be effected when the fund so desires.
BUYING PUT OPTIONS. A fund may buy put options on 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
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 that it has previously purchased prior to the sale of the securities
underlying that option. These sales 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 that the fund owns or has the right to acquire.
BUYING CALL OPTIONS. A 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 this security. A 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.
OPTIONS ON STOCK INDICES. A fund may buy and write call and put options on stock
indices in order to hedge against the risk of market or industry-wide stock
price fluctuations or to increase income to the fund. Call and put options on
stock indices are similar to options on securities except that, rather than the
right to buy or sell particular securities 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 options on individual securities, 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 securities.
All options written on stock indices must be covered. When a fund writes an
option on a stock index, it 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 option and will maintain the account
while the option is open or will otherwise cover the transaction.
OVER-THE-COUNTER OPTIONS ON SECURITIES ("OTC OPTIONS"). A fund may 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 may engage in exchange traded
options. 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.
The funds understand the current position of the staff of the SEC to be that
purchased OTC options and the assets used as "cover" for written OTC options are
illiquid securities. The funds and their managers disagree with this position.
Nevertheless, pending a change in the staff's position, the funds will treat OTC
options as subject to its limitation on illiquid securities.
Please see "Illiquid Investments" below.
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, 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. If a put option is exercised, the writer must
fulfill its obligation to buy the underlying security at the exercise price,
which will usually exceed the then market value of the underlying security.
FORWARD CONVERSIONS. In a forward conversion, a fund will buy securities and
write call options and buy put options on these securities. All options written
by the fund will be covered. By buying puts, the fund protects the underlying
security from depreciation in value. By selling or writing calls on the same
security, the fund receives premiums that may offset part or all of the cost of
purchasing the puts while foregoing the opportunity for appreciation in the
value of the underlying security. The fund will not exercise a put it has
purchased while a call option on the same security is outstanding. The use of
options in connection with forward conversions is intended to hedge against
fluctuations in the market value of the underlying security. Although it is
generally intended in forward conversion transactions that the exercise price of
put and call options would be identical, situations might occur in which some
option positions are acquired with different exercise prices. Therefore, the
fund's return may depend in part on movements in the price of the underlying
security because of the different exercise prices of the call and put options.
These price movements may also affect a fund's total return if the conversion is
terminated prior to the expiration date of the options. In this event, the
fund's return may be greater or less than it would otherwise have been if it had
hedged the security only by buying put options.
SPREAD AND STRADDLE TRANSACTIONS. A fund may engage in "spread" transactions in
which it buys and writes a put or call option on the same underlying security,
with the options having different exercise prices and/or expiration dates. All
options written by the fund will be covered. A fund may also engage in so-called
"straddles," in which it buys or writes combinations of put and call options on
the same security. Because buying options in connection with these transactions
may, under certain circumstances, involve a limited degree of investment
leverage, the fund will not enter into any spreads or straddles if, as a result,
more than 5% of its net assets will be invested at any time in these options
transactions. A fund's ability to engage in spread or straddle transactions may
be further limited by state securities laws.
FUTURES TRANSACTIONS Although each fund has the authority to enter into these
transactions, it currently has no intention of doing so.
Each fund may buy or sell (i) financial futures contracts such as interest rate
futures contracts; (ii) options on interest rate futures contracts; (iii) stock
index futures contracts; and (iv) options on stock index futures contracts
(collectively, "Futures Transactions") for bona fide hedging purposes. Each fund
may enter into these Futures Transactions on domestic exchanges and, to the
extent these transactions have been approved by the CFTC for sale to customers
in the U.S., on foreign exchanges. The fund will not engage in Futures
Transactions for speculation but only as a hedge against changes resulting from
market conditions such as changes in interest rates, currency exchange rates, or
securities that it intends to buy. Each fund will not enter into any Futures
Transactions if, immediately thereafter, more than 20% of the fund's net assets
would be represented by futures contracts or options thereon. In addition, each
fund will not engage in any Futures Transactions if, immediately thereafter, the
sum of the amount of initial margin deposits on the fund's futures positions and
premiums paid for options on its futures contracts would exceed 5% of the market
value of the fund's total assets.
To the extent a 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
fund will be required to pay to the futures commission merchant an amount equal
to this change in value.
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).
When interest rates are rising or securities prices are falling, a fund can
seek, through the sale of futures contracts, to offset a decline in the value of
its current portfolio securities. When rates are falling or prices are rising, a
fund, through the purchase of futures contracts, can attempt to secure better
rates or prices than might later be available in the market when it affects
anticipated purchases. Similarly, the fund can sell futures contracts on a
specified currency to protect against a decline in the value of this currency
and its portfolio securities that are denominated in this currency. Each fund
can buy futures contracts on foreign currency to fix the price in U.S. dollars
of a security denominated in this 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 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 this 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. Such a
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. A 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 funds' futures contracts on securities or currency
will usually be liquidated in this manner, each fund may instead make or take
delivery of the underlying securities or currency whenever it appears
economically advantageous for it to do so. A clearing corporation associated
with the exchange on which futures on securities or currency are traded
guarantees that, if still open, the buying or selling will be performed on the
settlement date.
OPTIONS ON FUTURES CONTRACTS. The acquisition of put and call options on futures
contracts will give each 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 purchaser of an option on a futures
contract, each 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.
FINANCIAL FUTURES CONTRACTS. Financial futures are contracts that obligate the
holder to take or make delivery of a specified quantity of a financial
instrument, such as a U.S. Treasury security or foreign currencies, during a
specified future period at a specified price. A "sale" of a financial 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 financial 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. Examples of financial futures contracts
include interest rate futures contracts and stock index futures contracts.
INTEREST RATE FUTURES CONTRACTS. Interest rate futures contracts are futures
contracts on debt securities. The value of these instruments changes in response
to changes in the value of the underlying debt security, that depends primarily
on prevailing interest rates. Each fund may enter into interest rate futures
contracts in order to protect its portfolio securities from fluctuations in
interest rates without necessarily buying or selling the underlying fixed-income
securities. For example, if a fund owns bonds, and interest rates are expected
to increase, it might sell futures contracts on debt securities having
characteristics similar to those held in the portfolio. A sale would have much
the same effect as selling an equivalent value of the bonds owned by the fund.
If interest rates did increase, the value of the debt securities in the
portfolio would decline, but the value of the futures contracts to the fund
would increase at approximately the same rate, thereby keeping the Net Asset
Value of the fund from declining as much as it otherwise could have.
STOCK INDEX FUTURES CONTRACTS. A stock index futures contract obligates the
seller to deliver (and the purchaser 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 was made. Open futures contracts are valued on a daily
basis, and a fund may be obligated to provide or receive cash reflecting any
decline or increase in the contract's value. No physical delivery of the
underlying stocks in the index is made in the future.
Each fund may sell stock index futures contracts in anticipation of or during a
market decline in an 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 buy stock index
futures in order to gain rapid market exposure that may offset increases in the
cost of common stocks that it intends to buy.
OPTIONS ON STOCK INDEX FUTURES CONTRACTS. 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 a stock index futures
contract 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 that 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.
HEDGING STRATEGIES WITH FUTURES. Hedging by use of futures contracts seeks to
establish with more certainty, than would otherwise be possible, the effective
price, rate of return or currency exchange rate on portfolio securities or
securities that a fund owns or proposes to acquire. The fund may, for example,
take a "short" position in the futures market by selling futures contracts in
order to hedge against an anticipated rise in interest rates or a decline in
market prices of foreign currency rates that would adversely affect the dollar
value of the fund's portfolio securities. These futures contracts may include
contracts for the future delivery of securities held by the fund or securities
with characteristics similar to those of the fund's portfolio securities.
Similarly, 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.
If, in the opinion of the managers, there is a sufficient degree of correlation
between price trends for the funds' portfolio securities and futures contracts
based on other financial instruments, securities indices or other indices, the
funds may also enter into these futures contracts as part of its hedging
strategy. Although under some circumstances prices of securities in the funds'
portfolio may be more or less volatile than prices of these futures contracts,
the managers will attempt to estimate the extent of this difference in
volatility based on historical patterns and to compensate for it by having the
funds enter into a greater or fewer number of futures contracts or by attempting
to achieve only a partial hedge against price changes affecting the funds'
securities portfolio. When hedging of this character is successful, any
depreciation in the value of the portfolio securities will substantially be
offset by appreciation in the value of the futures position. On the other hand,
any unanticipated appreciation in the value of the funds' portfolio securities
would be substantially offset by a decline in the value of the futures position.
On other occasions, a fund may take a "long" position by buying these futures
contracts. This would be done, for example, when a fund anticipates the
subsequent buy of particular securities when it has the necessary cash, but
expects the prices or currency exchange rates then available in the applicable
market to be less favorable than prices or rates that are currently available.
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 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 their strategies for hedging their securities.
The need to hedge against these risks will depend on the extent of
diversification of each funds' common stock portfolio and the sensitivity of
these investments to factors influencing the stock market as a whole.
OTHER CONSIDERATIONS In certain cases, the options and futures markets provide
investment or risk management opportunities that are not available from direct
investments in securities. In addition, some strategies can be performed more
effectively and at a lower cost by utilizing the options and futures markets
rather than purchasing or selling portfolio securities. However, there are risks
involved in these transactions as discussed below. The funds will engage in
futures and related options transactions only for bona fide hedging or other
appropriate risk management purposes in accordance with CFTC regulations that
permit principals of an investment company registered under the Investment
Company Act of 1940 ("1940 Act") to engage in these transactions without
registering as commodity pool operators. "Appropriate risk management purposes"
means activities in addition to bona fide hedging that the CFTC deems
appropriate for operators of entities, including registered investment
companies, that are excluded from the definition of commodity pool operator. The
funds are not permitted to engage in speculative futures trading. Each fund will
determine that the price fluctuations in the futures contracts and options on
futures used for hedging purposes are substantially related to price
fluctuations in securities held by the fund or which it expects to buy.
Except as stated below, the funds' futures transactions will be entered into for
traditional hedging purposes - that is, futures contracts will be sold to
protect against a decline in the price of securities it intends to buy (or the
currency will be purchased to protect the fund against an increase in the price
of the securities (or the currency in which they are denominated)). As evidence
of this hedging intent, each fund expects that on 75% or more of the occasions
on which it takes a long futures (or option) position involving the purchase of
futures contracts, the fund will have bought, or will be in the process of
buying, equivalent amounts of related securities (or assets denominated in the
related currency) in the cash market at the time when the futures (or option)
position is closed out. However, in particular cases when it is economically
advantageous for the fund to do so, a long futures position may be terminated
(or an option may expire) without the corresponding purchase of securities or
other assets. In the alternative, a CFTC regulation permits the fund to elect to
comply with a different test, under which (i) the fund's long futures positions
will be used as part of its portfolio management strategy and will be incidental
to its activities in the underlying cash market and (ii) the aggregate initial
margin and premiums required to establish these positions will not exceed 5% of
the liquidation value of the fund's investment portfolio (a) after taking into
account unrealized profits and losses on any such contracts into which the fund
has entered and (b) excluding the in-the-money amount with respect to any option
that is in-the-money at the time of purchase.
Each fund will engage in transactions in futures contracts and related options
only to the extent these transactions are consistent with the requirements of
the Code for maintaining its qualification as a regulated investment company for
federal income tax purposes.
Each fund will not buy or sell futures contracts or buy or sell related options,
except for closing purchase or sale transactions, if immediately thereafter the
sum of the amount of margin deposits on the fund's outstanding futures and
related options positions and the amount of premiums paid for outstanding
options on futures would exceed 5% of the market value of the fund's total
assets. These transactions involve brokerage costs, require margin deposits and,
in the case of contracts and options obligating the fund to buy securities or
currencies, require the fund to segregate assets to cover these contracts and
options.
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 the managers may still not
result in a successful transaction.
Perfect correlation between a fund's futures positions and portfolio positions
may be difficult to achieve because no futures contracts based on corporate
fixed-income securities are currently available. In addition, it is not possible
to hedge fully or perfectly against currency fluctuations affecting the value of
securities denominated in foreign currencies because the value of these
securities is likely to fluctuate as a result of independent factors not related
to currency fluctuations.
OTHER INVESTMENT POLICIES
CONVERTIBLE SECURITIES 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.
While each 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.
Each 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.
Each 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;
investors have the right to convert them into shares of common stock at a preset
conversion ratio or hold them until maturity; 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 goal and
policies.
An investment in an enhanced convertible security or any other security may
involve additional risks to the fund. 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 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 funds, however, intend
to acquire liquid securities, though there can be no assurances that this will
be achieved.
REPURCHASE AGREEMENTS The fund generally will 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. Under
a repurchase agreement, the fund agrees to buy securities guaranteed as to
payment of principal and interest by the U.S. government or its agencies from a
qualified bank or broker-dealer and then to sell the securities back to the bank
or broker-dealer 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 market value of at least 102% of the dollar
amount invested by the fund in each repurchase agreement. The manager 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 bank or broker-dealer, including possible delays or restrictions upon the
fund's ability to sell the underlying securities. The fund will enter into
repurchase agreements only with parties who meet certain creditworthiness
standards, i.e., banks or broker-dealers that the manager has determined present
no serious risk of becoming involved in bankruptcy proceedings within the time
frame contemplated by the repurchase transaction.
ILLIQUID INVESTMENTS Securities that are acquired by the fund 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 are not considered by the fund to be illiquid
assets, so long as the fund acquires and holds the securities with the intention
of reselling the securities in the foreign trading market, the fund reasonably
believes it can readily dispose of the securities for cash in the U.S. or
foreign market, and current market quotations are readily available. Investments
may be in securities of foreign issuers, whether located in developed or
undeveloped countries. The board has authorized each fund to invest in
restricted securities where this investment is consistent with the fund's
investment objective and has authorized these securities to be considered liquid
to the extent the managers, as the case may be, determine that there is a liquid
institutional or other market for these securities, for example, restricted
securities that may be freely transferred among qualified institutional buyers
pursuant to Rule 144A under the Securities Act of 1933 and for which a liquid
institutional market has developed. The board reviews any determination by the
managers to treat a restricted security as liquid on a quarterly basis,
including the managers' assessment of current trading activity and the
availability of reliable price information. In determining whether a restricted
security is properly considered a liquid security, the managers 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 purchasers; (iii) dealer undertakings
to make a market in the security; and (iv) the nature of the security and the
nature of the marketplace trades (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 purchasing these securities or the market for
these securities contracts.
TEMPORARY INVESTMENTS When the manager 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 funds'
portfolios in a temporary defensive manner. Under such circumstances, the funds
may invest up to 100% of their assets in high quality money market instruments.
These include government securities, bank obligations, the highest quality
commercial paper and repurchase agreements. For the Pacific Fund, these
securities must be rated A-1 or A-2 by S&P or Prime-1 or Prime-2 by Moody's or
if unrated, determined to be of comparable quality. The Smaller Companies Fund
may also invest in non-U.S. currency, short-term instruments denominated in
non-U.S. currencies and medium-term (up to five years to maturity) obligations
issued or guaranteed by the U.S. government or the governments of foreign
countries, their agencies or instrumentalities.
INVESTMENT RESTRICTIONS Each fund has adopted the following restrictions as
fundamental policies. This means they may only be changed if the change is
approved by (i) more than 50% of the fund's outstanding shares or (ii) 67% or
more of the fund's shares present at a shareholder meeting if more than 50% of
the fund's outstanding shares are represented at the meeting in person or by
proxy, whichever is less.
Each fund may not:
1. Purchase the securities of any one issuer (other than cash, cash items and
obligations of the U.S. government) if immediately thereafter and as a result of
the purchase, with respect to 75% of its total assets, 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 or all classes of the outstanding
voting 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 either fund's portfolio
securities, or to the extent the entry into a repurchase agreement may be deemed
a loan;
3. Borrow money, except for temporary or emergency (but not investment)
purposes from banks and only in an amount up to 10% of the value of the assets.
While borrowings exceed 5% of a fund's total assets, it 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, except insofar as a fund may be
technically deemed an underwriter under the federal securities laws in
connection with the disposition of portfolio securities;
6. Purchase illiquid securities, including illiquid securities which, at the
time of acquisition, could be disposed of publicly by each fund only after
registration under the 1933 Act, if as a result more than 10% of their net
assets would be invested in such illiquid securities;
7. Invest in securities for the purpose of exercising management or control of
the issuer;
8. Maintain a margin account with a securities dealer, except that either fund
may obtain such short-term credits as may be necessary for the clearance of
purchases and sales of securities, nor invest in commodities or commodities
contracts or interests (other than publicly-traded equity securities) or leases
with respect to any oil, gas or other mineral exploration or development
programs, except that either fund may enter into contracts for hedging purposes
and make margin deposits in connection therewith;
9. Effect short sales, unless at the time the fund owns securities equivalent
in kind and amount to those sold;
10. Invest more than 5% of total assets in companies which have a record of less
than three years continuous operation, including the operations of any
predecessor companies;
11. Invest directly in real estate or real estate limited partnerships (although
either fund may invest in real estate investment trusts) or in the securities of
other investment companies, except to the extent permitted under the 1940 Act or
pursuant to any exemptions therefrom, including any exemption permitting either
fund to invest in shares of one or more money market funds managed by the
manager or its affiliates, or except that securities of another investment
company may be acquired pursuant to a plan of reorganization, merger,
consolidation or acquisition; or
12. Purchase or retain in either fund's portfolio any security if any officer,
trustee or securityholder of the issuer is at the same time an officer, trustee
or employee of the Trust or of its investment advisor and such person owns
beneficially more than 1/2 of 1% of the securities, and if all such persons
owning more than 1/2 of 1% own more than 5% of the outstanding securities of the
issuer.
Each fund presently has the following additional restrictions, which are not
fundamental and may be changed without shareholder approval. Each fund may not
issue senior securities except to the extent that this restriction shall not be
deemed to prohibit the fund from making any permitted borrowings, pledging,
mortgaging or hypothecating the fund's assets as security for loans, entering
into repurchase transactions, engaging in 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 as the fund
may participate in a joint repurchase agreement account with other funds in the
Franklin Templeton Group of Funds.
If a bankruptcy or other extraordinary event occurs concerning a particular
security a fund owns, the fund may receive stock, real estate, or other
investments that the fund would not, or could not, buy. If this happens, the
fund intends to sell such investments 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.
RISKS
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FOREIGN SECURITIES Since foreign companies are not subject to uniform
accounting, auditing and financial reporting practices and requirements
comparable to those applicable to U.S. companies, there may be less publicly
available information about a foreign company than about a U.S. company. Volume
and liquidity in most foreign bond markets are less than in the U.S., and
securities of many foreign companies are less liquid and more volatile than
securities of comparable U.S. companies. Fixed commissions on foreign securities
exchanges are generally higher than negotiated commissions on U.S. exchanges,
although each fund endeavors to achieve the most favorable net results on its
portfolio transactions. There is generally less government supervision and
regulation of securities exchanges, brokers, dealers and listed companies than
in the U.S., thus increasing the risk of delayed settlements of portfolio
transactions or loss of certificates for portfolio securities.
Foreign markets also have different clearance and settlement procedures, and in
certain markets there have been times when settlements have been unable to keep
pace with the volume of securities transactions, making it difficult to conduct
these transactions. These delays in settlement could result in temporary periods
when a portion of the assets of the fund is uninvested and no return is earned
thereon. The inability of each fund to make intended security purchases due to
settlement problems could cause the fund to miss attractive investment
opportunities. Losses to a fund due to subsequent declines in the value of
portfolio securities, or losses arising out of the fund's inability to fulfill a
contract to sell these securities, could result in potential liability to the
fund. In addition, with respect to certain foreign countries, there is the
possibility of expropriation or confiscatory taxation, political or social
instability, or diplomatic developments that could affect the fund's investments
in those countries. Moreover, individual foreign economies may differ favorably
or unfavorably from the U.S. economy in growth of gross national product, rate
of inflation, capital reinvestment, resource self-sufficiency and balance of
payments positions.
Investments in foreign securities where delivery takes place outside the U.S.
will have to be made in compliance with any applicable U.S. and foreign currency
restrictions and tax laws (including laws imposing withholding taxes on any
dividend or interest income) and laws limiting the amount and types of foreign
investments. Changes of governmental administrations or of economic or monetary
policies, in the U.S. or abroad, or changed circumstances in dealings between
nations, or currency convertibility or exchange rates could result in investment
losses for a fund. Investments in foreign securities may also subject the fund
to losses due to nationalization, expropriation or differing accounting
practices and treatments. Moreover, you should recognize that foreign securities
are often traded with less frequency and volume, and therefore may have greater
price volatility, than is the case with many U.S. securities. Brokerage
commissions, custodial services, and other costs relating to investment in
foreign countries are generally more expensive than in the U.S. Notwithstanding
the fact that a fund generally intends to acquire the securities of foreign
issuers where there are public trading markets, investments by a fund in the
securities of foreign issuers may tend to increase the risks with respect to the
liquidity of a fund's portfolio and the fund's ability to meet a large number of
shareholder redemption requests should there be economic or political turmoil in
a country in which a fund has a substantial portion of its assets invested or
should relations between the U.S. and foreign countries deteriorate markedly.
Furthermore, the reporting and disclosure requirements applicable to foreign
issuers may differ from those applicable to domestic issuers, and there may be
difficulties in obtaining or enforcing judgments against foreign issuers.
Depositary Receipts (such as American Depositary Receipts, European Depositary
Receipts and Global Depositary Receipts) may not necessarily be denominated in
the same currency as the underlying securities into which they may be converted.
In addition, the issuers of the securities underlying unsponsored Depositary
Receipts are not obligated to disclose material information in the U.S. and,
therefore, there may be less information available regarding these issuers and
there may not be a correlation between such information and the market value of
the Depositary Receipts. Depositary Receipts also involve the risks of other
investments in foreign securities, as discussed above.
DEVELOPING MARKETS Investments in companies domiciled in developing countries
may be subject to potentially higher risks than investments in companies in
developed countries. These risks include (i) less social, political and economic
stability; (ii) the smaller size of the markets for these securities and the
currently low or nonexistent volume of trading, that result in a lack of
liquidity and in greater price volatility; (iii) the lack of publicly available
information, including reports of payments of dividends or interest on
outstanding securities; (iv) certain national policies that may restrict a
fund's investment opportunities, including restrictions on investment in issuers
or industries deemed sensitive to national interests; (v) foreign taxation; (vi)
the absence of developed structures governing private or foreign investment or
allowing for judicial redress for injury to private property; (vii) the absence,
until recently in certain Eastern European countries and Russia, of a capital
market structure or market-oriented economy; (viii) the possibility that recent
favorable economic developments in Eastern Europe and Russia may be slowed or
reversed by unanticipated political or social events in these countries; (ix)
restrictions that may make it difficult or impossible for the fund to vote
proxies, exercise shareholder rights, pursue legal remedies, and obtain
judgments in foreign courts; (x) the risk of uninsured loss due to lost, stolen,
or counterfeit stock certificates; and (xi) possible losses through the holding
of securities in domestic and foreign custodial banks and depositories.
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.
Repatriation of investment income, capital and proceeds of sales by foreign
investors may require governmental registration and/or approval in some
developing countries. The funds could be adversely affected by delays in or a
refusal to grant any required governmental registration or approval for
repatriation.
Further, the economies of developing countries generally are heavily dependent
upon international trade and, accordingly, have been and may continue to be
adversely affected by trade barriers, exchange controls, managed adjustments in
relative currency values and other protectionist measures imposed or negotiated
by the countries with which they trade.
Investments in Eastern European countries may involve risks of nationalization,
expropriation and confiscatory taxation. The communist governments of a number
of Eastern European countries expropriated large amounts of private property in
the past, in many cases without adequate compensation, and there can be no
assurance that this expropriation will not occur in the future. In the event of
this expropriation, the Smaller Companies Fund could lose a substantial portion
of any investments it has made in the affected countries. Further, no accounting
standards exist in Eastern European countries. Finally, even though certain
Eastern European currencies may be convertible into U.S. dollars, the conversion
rates may be artificial relative to the actual market values and may be
unfavorable to fund investors.
Certain Eastern European countries, which do not have market economies, are
characterized by an absence of developed legal structures governing private and
foreign investments and private property. Certain countries require governmental
approval prior to investments by foreign persons, or limit the amount of
investment by foreign persons in a particular company, or limit the investment
of foreign persons to only a specific class of securities of a company that may
have less advantageous terms than securities of the company available for
purchase by nationals.
Authoritarian governments in certain Eastern European countries may require that
a governmental or quasi-governmental authority act as custodian of the Smaller
Companies Fund's assets invested in this country. To the extent these
governmental or quasi-governmental authorities do not satisfy the requirements
of the 1940 Act to act as foreign custodians of the Smaller Companies Fund's
cash and securities, the fund's investment in these countries may be limited or
may be required to be effected through intermediaries. The risk of loss through
governmental confiscation may be increased in these countries.
Investing in Russian securities 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. These risks include: (a)
delays in settling portfolio transactions and risk of loss arising out of
Russia's unique 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 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 hyperinflation or other factors);
(f) controls on foreign investment and local practices disfavoring foreign
investors and limitations on repatriation of invested capital, profits and
dividends, and on the Smaller Companies Fund's ability to exchange local
currencies for U.S. dollars; (g) the risk that the Russian government 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, or a
return to the centrally planned economy that existed prior to the dissolution of
the Soviet Union; (h) the financial condition of Russian companies, including
large amounts of inter-company debt that may create a payments crisis on a
national scale; (i) dependency on exports and the corresponding importance of
international trade; (j) the risk that the Russian tax system will not be
reformed to prevent inconsistent, retroactive and/or exorbitant taxation; and
(k) possible difficulty in identifying a purchaser of securities held by the
Smaller Companies Fund due to the underdeveloped nature of the securities
markets.
There is little historical data on Russian securities markets because they are
relatively new and a substantial proportion of securities transactions in Russia
are 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 depositaries 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 and it is possible for the fund to lose its
registration through fraud, negligence or even mere oversight. While a 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 a 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 a 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 1,000 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 buy and sell the company's
shares by illegally instructing the registrar to refuse to record transactions
in the share register. This practice may prevent a fund from investing in the
securities of certain Russian issuers deemed suitable by the managers. Further,
this could cause a delay in the sale of Russian securities by a fund if a
potential purchaser is deemed unsuitable, which may expose that fund to
potential loss on the investment.
Forward Transactions While each fund will enter into forward contracts to reduce
currency exchange rate risks, transactions in these contracts involve certain
other risks. Thus, while a fund may benefit from these transactions,
unanticipated changes in currency prices may result in a poorer overall
performance for the fund than if it had not engaged in any of these
transactions. 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
a 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 AND FUTURES Each 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,
securities or currencies underlying the hedging instrument and the hedged
securities that would result in a loss on both these securities and the hedging
instrument. In addition, it is not possible to hedge fully or perfectly against
currency fluctuations affecting the value of securities denominated in foreign
currencies because the value of these securities is also likely to fluctuate as
a result of independent factors not related to currency fluctuations. Therefore,
perfect correlation between the fund's futures positions and portfolio positions
will be impossible to achieve. Accordingly, successful use by the fund of
options on stock indices, financial and currency futures contracts and related
options, and currency options will be subject to the fund's managers' ability to
predict correctly movements in the direction of the securities and currency
markets generally or of a particular segment. If the fund's managers are not
successful in employing these instruments in managing the fund's investments,
the fund's performance will be worse than if it did not employ these strategies.
In addition, the fund will pay commissions and other costs in connection with
these investments, that may increase the fund's expenses and reduce the return.
In writing options on futures, the fund's loss is potentially unlimited and may
exceed the amount of the premium received.
Positions in stock index options, stock index futures contracts, financial
futures contracts, foreign currency futures contracts, related options on
futures and options on currencies 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, futures contract or option thereon
at any specific time. Thus, it may not be possible to close such an option or
futures position. The inability to close options or futures positions could have
an adverse impact on a fund's ability to effectively hedge its securities or
foreign currency exposure. Each fund will enter into options or futures
positions only if its managers believe that a liquid secondary market for these
options or futures contracts exist.
In the case of OTC options on securities, 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 prior to its expiration
only by entering into a closing purchase transaction with the dealer to which
the fund originally wrote it. If the fund, on a covered call option, cannot
effect a closing transaction, it cannot sell the underlying security until the
option expires or the option is exercised. Therefore, when a fund writes an OTC
call option, it may not be able to sell the underlying security even though it
might otherwise be advantageous to do so. Likewise, a fund may be unable to sell
the securities it has pledged to secure OTC put options while it is obligated as
a put writer. Similarly, when a fund is a buyer of a put or call option, the
fund might find it difficult to terminate its position on a timely basis in the
absence of a secondary market. The ability to terminate OTC options is more
limited than with exchange traded options and may involve the risk that
broker-dealers participating in such transactions will not fulfill their
obligations. Until such time as the staff of the SEC changes its position, the
fund will treat purchased OTC options and all assets used to cover written OTC
options as illiquid securities, except that with respect to options written with
primary dealers in U.S. government securities pursuant to an agreement requiring
a closing purchase transaction at a formula price, the amount of illiquid
securities may be calculated with reference to a formula approved by the staff
of the SEC.
Reasons for the absence of a liquid secondary market on an exchange include the
following: (i) there may be insufficient trading interest in certain options;
(ii) restrictions may be imposed by an exchange on opening transactions or
closing transactions or both; (iii) trading halts, suspensions or other
restrictions may be imposed with respect to particular classes or series of
options; (iv) unusual or unforeseen circumstances may interrupt normal
operations on an exchange; (v) the facilities of an exchange or the Options
Clearing Corporation (the "OCC") may not at all times be adequate to handle
current trading volume; or (vi) one or more exchanges could, for economic or
other reasons, decide or be compelled at some future date to discontinue the
trading of options (or a particular class or series of options), in which event
the secondary market on that exchange (or in that class or series of options)
would cease to exist, although outstanding options on that exchange that had
been issued by the OCC as a result of trades on that exchange would continue to
be exercisable in accordance with their terms.
HIGH YIELDING, FIXED-INCOME SECURITIES The Smaller Companies Fund may invest up
to 5% of its assets in fixed income securities that are rated below investment
grade or are unrated but deemed by the managers to be of equivalent quality.
The market value of lower rated, fixed-income securities and unrated securities
of comparable quality, commonly known as junk bonds, tends to reflect individual
developments affecting the issuer to a greater extent than the market value of
higher rated securities, that react primarily to fluctuations in the general
level of interest rates. Lower rated securities also tend to be more sensitive
to economic conditions than higher rated securities. These lower rated
fixed-income securities are considered by the rating agencies, on balance, to be
predominantly speculative with respect to the issuer's capacity to pay interest
and repay principal in accordance with the terms of the obligation and will
generally involve more credit risk than securities in the higher rating
categories. Even securities rated "BBB" by S&P or "Baa" by Moody's, ratings that
are considered investment grade, possess some speculative characteristics.
Issuers of high yielding, fixed-income securities are often highly leveraged and
may not have more traditional methods of financing available to them. Therefore,
the risk associated with acquiring the securities of these issuers is generally
greater than is the case with higher rated securities. For example, during an
economic downturn or a sustained period of rising interest rates, highly
leveraged issuers of high yielding securities may experience financial stress.
During these periods, these issuers may not have sufficient cash flow to meet
their interest payment obligations. The issuer's ability to service its debt
obligations may also be adversely affected by specific developments affecting
the issuer, the issuer's inability to meet specific projected business
forecasts, or the unavailability of additional financing. The risk of loss due
to default by the issuer may be significantly greater for the holders of high
yielding securities because the securities are generally unsecured and are often
subordinated to other creditors of the issuer. Current prices for defaulted
bonds are generally significantly lower than their purchase price, and the
Smaller Companies Fund may have unrealized losses on defaulted securities that
are reflected in the price of the Smaller Companies Fund's shares. In general,
securities that default lose much of their value in the time period before the
actual default so that the Smaller Companies Fund's net assets are impacted
prior to the default. The Smaller Companies Fund may retain an issue that has
defaulted because the issue may present an opportunity for subsequent price
recovery. The Smaller Companies Fund may be required under the Code and U.S.
Treasury regulations to accrue income for income tax purposes on defaulted
obligations and to distribute the income to the Smaller Companies Fund's
shareholders even though the Smaller Companies Fund is not currently receiving
interest or principal payments on these obligations. In order to generate cash
to satisfy any or all of these distribution requirements, the Smaller Companies
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 Smaller Companies Fund may have difficulty disposing of certain high
yielding securities because there may be a thin trading market for a particular
security at any given time. The market for lower rated, fixed-income securities
generally tends to be concentrated among a smaller number of dealers than is the
case for securities that trade in a broader secondary retail market. Generally,
buyers of these securities are predominantly dealers and other institutional
buyers, rather than individuals. To the extent the secondary trading market for
a particular high yielding, fixed-income security does exist, it is generally
not as liquid as the secondary market for higher rated securities. Reduced
liquidity in the secondary market may have an adverse impact on market price and
the Smaller Companies Fund's ability to dispose of particular issues, when
necessary, to meet the Smaller Companies Fund's liquidity needs or in response
to a specific economic event, such as a deterioration in the creditworthiness of
the issuer.
The Smaller Companies Fund may acquire high yielding, fixed-income securities
during an initial underwriting. These securities involve special risks because
they are new issues. The managers will carefully review their credit and other
characteristics. The Smaller Companies 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 prior
to 1990 paralleled a long economic expansion. The recession that began in 1990
disrupted the market for high yielding securities and adversely affected the
value of outstanding securities and the ability of issuers of these securities
to meet their obligations. Although the economy has improved considerably and
high yielding securities have performed more consistently since that time, there
is no assurance that the adverse effects previously experienced will not
reoccur. The Smaller Companies Fund will rely on the managers' judgment,
analysis and experience in evaluating the creditworthiness of an issuer. In this
evaluation, the managers will take 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.
EURO RISK On January 1, 1999, the European Monetary Union (EMU) introduced a new
single currency, the euro, which will replace the national currency for
participating member countries. The transition and the elimination of currency
risk among EMU countries may change the economic environment and behavior of
investors, particularly in European markets.
Franklin Resources, Inc. has created an interdepartmental team to handle all
euro-related changes to enable the Franklin Templeton Funds to process
transactions accurately and completely with minimal disruption to business
activities. While the implementation of the euro could have a negative effect on
the funds, the funds' manager and its affiliated services providers are taking
steps they believe are reasonably designed to address the euro issue.
OFFICERS AND TRUSTEES
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The trust has a board of trustees. The board is responsible for the overall
management of the trust, including general supervision and review of each fund's
investment activities. The board, in turn, elects the officers of the trust who
are responsible for administering the trust's day-to-day operations. The board
also monitors each fund to ensure no material conflicts exist among share
classes. While none is expected, the board will act appropriately to resolve any
material conflict that may arise.
The affiliations of the officers and board members and their principal
occupations for the past five years are shown below.
POSITION(S) HELD PRINCIPAL OCCUPATION(S) DURING
NAME, AGE AND ADDRESS WITH THE TRUST 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. (bank holding company) and Bar-S Foods (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 (54)
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 Investment
Advisory Services, Inc. and 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.
Edith E. Holiday (47)
3239 38th Street, N.W.
Washington, DC 20016
TRUSTEE
Director, Amerada Hess Corporation (exploration and refining of natural gas)
(1993-present), Hercules Incorporated (chemicals, fibers and resins)
(1993-present), Beverly Enterprises, Inc. (health care) (1995-present) and H.J.
Heinz Company (processed 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 (66)
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.
*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.
and Franklin Investment Advisory Services, Inc.; Senior Vice President and
Director, Franklin 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); Director, Quarterdeck Corporation (software
firm) and 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. (holding company), Martek
Biosciences Corporation, MCI WorldCom (information services), 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.,
Franklin/Templeton Investor Services, Inc. and Franklin Mutual Advisers, 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.; 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 (50)
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. and
Franklin Mutual 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 54 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.; 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 (60)
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.
R. Martin Wiskemann (72)
777 Mariners Island Blvd.
San Mateo, CA 94404
VICE PRESIDENT
Senior Vice President, Portfolio Manager and Director, Franklin Advisers, Inc.;
Senior Vice President, Franklin Management, Inc.; Vice President and Director,
ILA Financial Services, Inc.; and officer and/or director or trustee, as the
case may be, of 15 of the investment companies in the Franklin Templeton Group
of Funds.
*This board member is considered an "interested person" under federal securities
laws.
Note: Charles B. Johnson and Rupert H. Johnson, Jr. are brothers and the
father and uncle, respectively, of Charles E. Johnson.
The trust pays noninterested board members $300 per quarter plus $150 per
meeting attended. Board members who serve on the audit committee of the trust
and other funds in the Franklin Templeton Group of Funds receive a flat fee of
$2,000 per committee meeting attended, a portion of which is allocated to the
trust. Members of a committee are not compensated for any committee meeting held
on the day of a board meeting. Noninterested board members may also serve as
directors or trustees of other funds in the Franklin Templeton Group of Funds
and may receive fees from these funds for their services. The fees payable to
noninterested 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 noninterested board members by the trust and by
the Franklin Templeton Group of Funds.
NUMBER OF
TOTAL FEES BOARDS IN THE
RECEIVED FRANKLIN
FROM THE TEMPLETON
TOTAL FEES FRANKLIN GROUP OF
RECEIVED TEMPLETON FUNDS ON
FROM THE GROUP OF WHICH EACH
Name TRUST 1 FUNDS 2 SERVES 3
- --------------------------------------------------------------------
Frank H. Abbott, III $540 $159,051 27
Harris J. Ashton 716 361,157 49
S. Joseph Fortunato 668 367,835 51
Edith E. Holiday 900 211,400 25
Frank W.T. LaHaye 690 163,753 27
Gordon S. Macklin 716 361,157 49
1. For the fiscal year ended October 31, 1998. During the period from October
31, 1997, through May 31, 1998, noninterested board members were not paid fees.
2. For the calendar year ended December 31, 1998.
3. 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 164 U.S. based
funds or series.
Noninterested board members 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 Franklin Resources, Inc. may be deemed to receive indirect remuneration by
virtue of their participation, if any, in the fees paid to its subsidiaries.
Board members historically have followed a policy of having substantial
investments in one or more of the funds in the Franklin Templeton Group of
Funds, as is consistent with their individual financial goals. In February 1998,
this policy was formalized through adoption of a requirement that each board
member invest one-third of fees received for serving as a director or trustee of
a Templeton fund in shares of one or more Templeton funds and one-third of fees
received for serving as a director or trustee of a Franklin fund in shares of
one or more Franklin funds until the value of such investments equals or exceeds
five times the annual fees paid such board member. Investments in the name of
family members or entities controlled by a board member constitute fund holdings
of such board member for purposes of this policy, and a three year phase-in
period applies to such investment requirements for newly elected board members.
In implementing such policy, a board member's fund holdings existing on February
27, 1998, are valued as of such date with subsequent investments valued at cost.
MANAGEMENT AND OTHER SERVICES
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MANAGER AND SERVICES PROVIDED The funds' manager is Franklin Advisers, Inc.
The manager is wholly owned by Franklin Resources, Inc. (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.
The manager provides investment research and portfolio management services, and
selects the securities for the funds to buy, hold or sell. The manager also
selects the brokers who execute the funds' portfolio transactions. The manager
provides periodic reports to the board, which reviews and supervises the
manager's investment activities. To protect the funds, the manager and its
officers, directors and employees are covered by fidelity insurance.
The Templeton organization has been investing globally since 1940. The manager
and its affiliates have offices in Argentina, Australia, Bahamas, Brazil, the
British Virgin Islands, Canada, China, Cyprus, France, Germany, Hong Kong,
India, Italy, Japan, Korea, Luxembourg, Mauritius, the Netherlands, Poland,
Russia, Singapore, South Africa, Spain, Sweden, Switzerland, Taiwan, United
Kingdom, and the U.S.
The manager and its affiliates manage numerous other investment companies and
accounts. The manager 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 the manager on behalf of the fund. Similarly, with respect to each
fund, the manager is not obligated to recommend, buy or sell, or to refrain from
recommending, buying or selling any security that the manager and access
persons, as defined by applicable federal securities laws, may buy or sell for
its or their own account or for the accounts of any other fund. The manager is
not obligated to refrain from investing in securities held by the fund or other
funds it manages. Of course, any transactions for the accounts of the manager
and other access persons will be made in compliance with the fund's code of
ethics.
Under each fund's code of ethics, employees of the Franklin Templeton Group who
are access persons may 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.
The funds' sub-advisor is Templeton Investment Counsel, Inc. The sub-advisor has
an agreement with the manager and provides the manager with investment
management advice and assistance. The sub-advisor recommends the optimal equity
allocation and provides advice regarding the fund's investments. The sub-advisor
also determines which securities will be purchased, retained or sold and
executes these transactions. The sub-advisor's activities are subject to the
board's review and control, as well as the manager's instruction and
supervision.
MANAGEMENT FEES Each fund pays the manager a fee equal to an annual rate of:
o 1% of the value of net assets up to and including $100 million;
o 0.90% of the value of net assets over $100 million up to and including $250
million;
o 0.80% of the value of net assets over $250 million up to and including $500
million;
o 0.75% of the value of net assets over of $500 million.
The fee is computed at the close of business on the last business day of each
month according to the terms of the management agreement. Each class of each
fund's shares pays its proportionate share of the fee.
For the last three fiscal years ended October 31, the funds paid the following
management fees:
MANAGEMENT FEES PAID ($)
------------------------------------
1998 1997 1996
- ----------------------------------------------------------------
Smaller Companies
Fund 1 657,454 866,624 595,387
Pacific Fund 229,542 571,117 623,230
1. Management fees, before any advance waiver, totaled $697,463 for 1998 and
$958,913 for 1997. Under an agreement by the manager to limit its fees, the fund
paid the management fees shown.
The manager pays the sub-advisor a fee equal to an annual rate of:
o 0.50% of the value of the fund's average daily net assets up to and
including $100 million;
o 0.40% of the value of the fund's average daily net assets over $100 million
up to and including $250 million;
o 0.30% of the value of the fund's average daily net assets over $250 million
up to and including $500 million; and
o 0.25% of the value of the fund's average daily assets over $500 million.
The manager pays this fee from the management fees it receives from each fund.
For the last three fiscal years ended October 31, the manager paid the following
sub-advisory fees:
SUB-ADVISORY FEES PAID ($)
-----------------------------------
1998 1997 1996
- ----------------------------------------------------------------
Smaller Companies Fund 659,180 451,416 317,709
Pacific Fund 229,541 284,645 332,419
ADMINISTRATOR AND SERVICES PROVIDED Franklin Templeton Services, Inc. (FT
Services) has an agreement with the manager to provide certain administrative
services and facilities for the funds. FT Services is wholly owned by Resources
and is an affiliate of the funds' manager and principal underwriter.
The administrative services FT Services provides include preparing and
maintaining books, records, and tax and financial reports, and monitoring
compliance with regulatory requirements.
ADMINISTRATION FEES The manager pays FT Services a monthly fee equal to an
annual rate of:
o 0.15% of the fund's average daily net assets up to $200 million;
o 0.135% of average daily net assets over $200 million up to $700 million;
o 0.10% of average daily net assets over $700 million up to $1.2 billion; and
o 0.075% of average daily net assets over $1.2 billion.
During the last three fiscal years ended October 31, the manager paid FT
Services the following administration fees:
ADMINISTRATION
FEES PAID ($)
------------------------
1998 1997
- ---------------------------------------------------
Smaller Companies Fund 209,389 153,165
Pacific Fund 68,924 93,491
SHAREHOLDER SERVICING AND TRANSFER AGENT Franklin/Templeton Investor Services,
Inc. (Investor Services) is the funds' shareholder servicing agent and acts as
the funds' transfer agent and dividend-paying agent. Investor Services is
located at 777 Mariners Island Blvd., P.O. Box 7777, San Mateo, CA 94403-7777.
For its services, Investor Services receives 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 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 funds to Investor Services in
connection with maintaining shareholder accounts.
CUSTODIANS Bank of New York, Mutual Funds Division, 90 Washington Street, New
York, NY 10286, acts as custodian of the securities and other assets of the
Pacific Fund. The Chase Manhattan Bank, at its principal office at MetroTech
Center, Brooklyn, NY 11245, and at the offices of its branches and agencies
throughout the world, acts as custodian of the Smaller Companies Fund's assets.
As foreign custody manager, the bank selects and monitors foreign sub-custodian
banks, selects and evaluates non-compulsory foreign depositories, and furnishes
information relevant to the selection of compulsory depositories.
AUDITOR PricewaterhouseCoopers LLP, 200 East Las Olas, Ft. Lauderdale, FL 33301,
is the fund's independent auditor. The auditor gives an opinion on the financial
statements included in the trust's Annual Report to Shareholders and reviews the
trust's registration statement filed with the U.S. Securities and Exchange
Commission (SEC).
PORTFOLIO TRANSACTIONS
- -------------------------------------------------------------------------------
The managers select brokers and dealers to execute the fund's portfolio
transactions in accordance with criteria set forth in the management and
sub-advisory agreements and any directions that the board may give.
When placing a portfolio transaction, the managers seek to obtain prompt
execution of orders at the most favorable net price. For portfolio transactions
on a securities exchange, the amount of commission paid is negotiated between
the managers 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. The managers 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 the
managers, 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.
The managers may pay certain brokers commissions that are higher than those
another broker may charge, if the managers determine in good faith that the
amount paid is reasonable in relation to the value of the brokerage and research
services they receive. This may be viewed in terms of either the particular
transaction or the managers' overall responsibilities to client accounts over
which it exercises investment discretion. The services that brokers may provide
to the managers 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 the managers in carrying out its investment advisory
responsibilities. These services may not always directly benefit the fund. They
must, however, be of value to the managers in carrying out its overall
responsibilities to their clients.
It is not possible to place a dollar value on the special executions or on the
research services the managers receive from dealers effecting transactions in
portfolio securities. The allocation of transactions in order to obtain
additional research services allows the managers to supplement their 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, the managers and their affiliates may use this
research and data in their investment advisory capacities with other clients. If
a 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 Franklin Templeton Distributors, Inc. (Distributors) is a member of the
National Association of Securities Dealers, Inc., it may sometimes receive
certain fees when a fund tenders portfolio securities pursuant to a tender-offer
solicitation. To recapture 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 the
managers 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 the managers 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 the
managers, 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 last three fiscal years ended October 31, the funds paid the
following brokerage commissions:
BROKERAGE COMMISSIONS ($)
------------------------------------
1998 1997 1996
- ----------------------------------------------------------------
Smaller Companies Fund 208,436 372,889 132,084
Pacific Fund 139,234 141,188 121,723
As of October 31, 1998, the funds did not own securities of their regular
broker-dealers.
DISTRIBUTIONS AND TAXES
- -------------------------------------------------------------------------------
The funds calculate dividends and capital gains the same way for each class. The
amount of any income dividends per share will differ, however, generally due to
the difference in the distribution and service (Rule 12b-1) fees of each class.
The funds do not pay "interest" or guarantee any fixed rate of return on an
investment in its shares.
DISTRIBUTIONS OF NET INVESTMENT INCOME The funds receive income generally in the
form of dividends and interest on their investments. This income, less expenses
incurred in the operation of a fund, constitutes a fund's 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 The funds may derive capital gains and losses in
connection with sales or other dispositions of their portfolio securities.
Distributions from net short-term capital gains will be taxable to you as
ordinary income. Distributions from net long-term capital gains will be taxable
to you as long-term capital gain, regardless of how long you have held your
shares in a fund. Any net capital gains realized by a fund generally will be
distributed once each year, and may be distributed more frequently, if
necessary, in order to reduce or eliminate excise or income taxes on the fund.
Effect of foreign investments on distributions Most foreign exchange gains
realized on the sale of debt securities are treated as ordinary income by a
fund. Similarly, foreign exchange losses realized by a fund on the sale of debt
securities 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 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 a 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 a fund's total assets at the end of the
fiscal year are invested in securities of foreign corporations, a fund may elect
to pass-through to you your pro rata share of foreign taxes paid by the fund. If
this election is made, the year-end statement you receive from a fund will show
more taxable income than was actually distributed to you. However, you will be
entitled to either deduct your share of such taxes in computing your taxable
income or (subject to limitations) claim a foreign tax credit for such taxes
against your U.S. federal income tax. A fund will provide you with the
information necessary to complete your individual income tax return if it makes
this election.
INFORMATION ON THE TAX CHARACTER OF DISTRIBUTIONS The funds will inform you of
the amount of your ordinary income dividends and capital gains distributions at
the time they are paid, and will advise you of their tax status for federal
income tax purposes shortly after the close of each calendar year. If you have
not held fund shares for a full year, a fund may designate and distribute 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.
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 Internal
Revenue Code, has qualified as such for its most recent fiscal year, and intends
to so qualify during the current fiscal year. As regulated investment companies,
the funds generally pay no federal income tax on the income and gains they
distribute to you. 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 shareholders. In such case, a 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 such fund's earnings and profits.
EXCISE TAX DISTRIBUTION REQUIREMENTS To avoid federal excise taxes, the Internal
Revenue Code requires a fund to distribute to you by December 31 of each year,
at a minimum, the following amounts: 98% of its taxable ordinary income earned
during the calendar year; 98% of its capital gain net income earned during the
twelve month period ending October 31; and 100% of any undistributed amounts
from the prior year. Each fund intends to declare and pay these amounts in
December (or in January that are treated by you as received in December) to
avoid these excise taxes, but can give no assurances that its distributions will
be sufficient to eliminate all taxes.
REDEMPTION OF FUND SHARES Redemptions and exchanges of fund shares are taxable
transactions for federal and state income tax purposes. If you redeem your fund
shares, or exchange your fund shares for shares of a different Franklin
Templeton Fund, the IRS will require that you report a gain or loss on your
redemption or exchange. 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 or
short-term, generally depending on how long you hold your shares. 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 buy 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 buy.
DEFERRAL OF BASIS If you redeem some or all of your shares in a fund, and then
reinvest the sales proceeds in such fund or in another Franklin Templeton Fund
within 90 days of buying the original shares, the sales charge that would
otherwise apply to your reinvestment may be reduced or eliminated. The IRS will
require you to report gain or loss on the redemption of your original shares in
a fund. In doing so, all or a portion of the sales charge that you paid for your
original shares in a fund will be excluded from your tax basis in the shares
sold (for the purpose of determining gain or loss upon the sale of such shares).
The portion of the sales charge excluded 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.
DIVIDENDS-RECEIVED DEDUCTION FOR CORPORATIONS As a corporate shareholder, you
should note that no portion of the Smaller Companies Fund's distributions will
generally be eligible for the intercorporate dividends-received deduction. None
of the dividends paid by the fund for the most recent calendar year qualified
for such deduction, and it is anticipated that none of the current year's
dividends will so qualify.
You should also note that 1.96% of the dividends paid by the Pacific Fund for
the most recent fiscal year qualified for the dividends-received deduction. In
some circumstances, you will be allowed 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. All
dividends (including the deducted portion) must be included in your alternative
minimum taxable income calculation.
INVESTMENT IN COMPLEX SECURITIES The funds may invest in complex securities.
These investments may be subject to numerous special and complex tax rules.
These rules could affect whether gains and losses recognized by a fund are
treated as ordinary income or capital gain, accelerate the recognition of income
to a fund and/or defer a fund's ability to recognize losses, and, in limited
cases, subject a fund to U.S. federal income tax on income from certain of its
foreign securities. In turn, these rules may affect the amount, timing or
character of the income distributed to you by a fund.
ORGANIZATION, VOTING RIGHTS
AND PRINCIPAL HOLDERS
- -------------------------------------------------------------------------------
Each fund is a diversified series of Franklin Templeton International Trust, an
open-end management investment company, commonly called a mutual fund. The trust
was organized as a Delaware business trust, and is registered with the SEC.
The Smaller Companies Fund currently offers four classes of shares, Class A,
Class B, Class C and Advisor Class. The Smaller Companies Fund began offering
Class B shares on January 1, 1999. The Pacific Growth Fund currently offers
three classes of shares, Class A, Class C and Advisor Class. Each fund may offer
additional classes of shares in the future. The full title of each class is:
o Templeton Foreign Smaller Companies Fund - Class A
o Templeton Foreign Smaller Companies Fund - Class B
o Templeton Foreign Smaller Companies Fund - Class C
o Templeton Foreign Smaller Companies Fund - Advisor Class
o Templeton Pacific Growth Fund - Class A
o Templeton Pacific Growth Fund - Class C
o Templeton Pacific Growth Fund - Advisor Class
Shares of each class represent proportionate interests in the fund's assets. On
matters that affect a fund as a whole, each class has the same voting and other
rights and preferences as any other class. On matters that affect only one
class, only shareholders of that class may vote. Each class votes 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.
Additional series may be offered in the future.
The trust has noncumulative voting rights. For board member elections, 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 be called by the board to consider the
removal of a board member if requested in writing 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. A special meeting may also be called by the board in its discretion.
As of December 7, 1998, the principal shareholders of the funds, beneficial or
of record, were:
NAME AND ADDRESS SHARE CLASS PERCENTAGE (%)
- ----------------------------------------------------------------------------
Foreign Smaller Companies Fund
Dai-Ichi Kangyo Bank of California Ttee
1200 5th Ave., Ste. 600, Seattle, WA 98101-1188 A 5
Raymond James Assoc., Inc.
FAO Larry A Loftin And Wanda A Loftin Ten Com
Elite 50197725
106 Lybrook Rd., Advance, NC 27006-7629 C 8
Raymond James Assoc., Inc.
Cust Sara T Jones MD IRA
321 Banbury Rd., Winston Salem, NC 27104-1827 C 7
Raymond James & Assoc., Inc.
Elite Acct 50177379
FAO Fred Penzias Ttee UA DTD
4/8/97 Penzias Revoc Tr
3455 S Corona St., Apt. 217, Englewood, CO 80110-2864 C 6
Frederick D. Richburg And Lauretta L. Richburg JT WROS
7831 S. Argonne St., Aurora, CO 80016 C 5
Franklin Templeton Trust Company1 TTEE for ValuSelect
Franklin Resources PSP
Attn: Trading
P.O. Box 2438, Rancho Cordova, CA 95741-2438 Advisor 5
PACIFIC FUND
Rosalind Achtel
150 Prospect St., Clark, NJ 07066 Advisor 7
Franklin Templeton Trust Company 1
TTEE for ValuSelect
Franklin Resources PSP Attn: Trading P.O. Box 2438,
Rancho Cordova, CA 95741-2438 Advisor 65
1. Franklin Templeton Trust Company is a California corporation and is wholly
owned by Franklin Resources, Inc.
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.
As of December 7, 1998, the officers and board members, as a group, owned of
record and beneficially 3% of the Pacific Growth Fund's Advisor Class shares and
less than 1% of the outstanding shares of the other classes of that fund and any
classes of the Smaller Companies Fund. The board members may own shares in other
funds in the Franklin Templeton Group of Funds.
BUYING AND SELLING SHARES
- -------------------------------------------------------------------------------
A fund continuously offers its shares through securities dealers who have an
agreement with Franklin Templeton Distributors, Inc. (Distributors). A
securities dealer includes any 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. Banks and financial institutions that
sell shares of the fund may be required by state law to register as securities
dealers.
For investors outside the U.S., 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.
All checks, drafts, wires and other payment mediums used to buy or sell shares
of a 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.
When you buy shares, if you submit a check or a draft that is returned unpaid to
a fund we may impose a $10 charge against your account for each returned item.
If you buy shares through the reinvestment of dividends, the shares 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.
INITIAL SALES CHARGES The maximum initial sales charge is 5.75% for Class A and
1% for Class C. There is no initial sales charge for Class B.
The initial sales charge for Class A shares may be reduced for certain large
purchases, as described in the prospectus. We offer several ways for you to
combine your purchases in the Franklin Templeton Funds to take advantage of the
lower sales charges for large purchases. The Franklin Templeton Funds include
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.
CUMULATIVE QUANTITY DISCOUNT. For purposes of calculating the sales charge on
Class A shares, you may combine the amount of your current purchase with the
cost or current value, whichever is higher, of your existing shares in the
Franklin Templeton Funds. You may also combine the shares of your spouse,
children under the age of 21 or 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 (LOI). You may buy Class A shares at a reduced sales charge by
completing the letter of intent section of your account 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. By completing the letter of intent section of the application, you
acknowledge and agree to the following:
o You authorize Distributors to reserve 5% of your total intended purchase in
Class A shares registered in your name until you fulfill your LOI. Your
periodic statements will include the reserved shares in the total shares you
own, and we will pay or reinvest dividend and capital gain distributions on
the reserved shares according to the distribution option you have chosen.
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 LOI.
o Although you may exchange your shares, you may not sell reserved shares until
you complete the LOI or pay the higher sales charge.
After you file your LOI with the fund, you may buy Class A shares at the sales
charge applicable to the amount specified in your LOI. 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. Any Class A purchases you made within 90 days before you filed your
LOI may also qualify for a retroactive reduction in the sales charge. If you
file your LOI with the fund before a change in the fund's sales charge, you may
complete the LOI at the lower of the new sales charge or the sales charge in
effect when the LOI was filed.
Your holdings in the Franklin Templeton Funds acquired more than 90 days before
you filed your LOI will be counted towards the completion of the LOI, but they
will not be entitled to a retroactive reduction 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 LOI have been completed.
If the terms of your LOI are met, 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, is more than the amount specified in your LOI
and is an amount that would qualify for a further sales charge reduction, a
retroactive price adjustment will be made by Distributors and the securities
dealer through whom purchases were made. The price adjustment will be made on
purchases made within 90 days before and on those made after you filed your LOI
and will be applied towards 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 in your LOI, the sales charge will be adjusted upward, depending on
the actual amount purchased (less redemptions) during the period. You will need
to send Distributors an amount equal to the difference in the actual dollar
amount of sales charge paid and the amount of sales charge that would have
applied to the total purchases if the total of the purchases had been made at
one time. Upon payment of this amount, 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, we will redeem an appropriate number of reserved shares to realize
the difference. If you redeem the total amount in your account before you
fulfill your LOI, we will deduct the additional sales charge due from the sale
proceeds and forward the balance to you.
For LOIs filed 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 LOI. These plans are not subject to the requirement to reserve 5% of
the total intended purchase or to the policy on upward adjustments in sales
charges described above, 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 LOI.
GROUP PURCHASES. If you are a member of a qualified group, you may buy Class A
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, although any such plan that purchased the fund's Class A
shares at a reduced sales charge under the group purchase privilege before
February 1, 1998, may continue to do so.
WAIVERS FOR INVESTMENTS FROM CERTAIN PAYMENTS. Class A shares may be purchased
without an initial sales charge or contingent deferred sales charge (CDSC) by
investors who reinvest within 365 days:
o Dividend and capital gain distributions from any Franklin Templeton Fund. The
distributions generally must be reinvested in the same share class. Certain
exceptions apply, however, to Class C shareholders who chose to reinvest their
distributions in Class A 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 the fund's Class A shares. This waiver
category also applies to Class B and C shares.
o Dividend or capital gain distributions from a real estate investment trust
(REIT) sponsored or advised by Franklin Properties, Inc.
o Annuity payments received under either an annuity option or from death benefit
proceeds, 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.
o 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.
o 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 CDSC when you redeemed your Class A shares from a Templeton
Global Strategy Fund, a new CDSC will apply to your purchase of fund shares
and the CDSC holding period will begin again. We will, however, credit your
fund account with additional shares based on the CDSC you previously 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.
o Distributions from an existing retirement plan invested in the Franklin
Templeton Funds
WAIVERS FOR CERTAIN INVESTORS. Class A shares may also be purchased without an
initial sales charge or CDSC by various individuals and institutions due to
anticipated economies in sales efforts and expenses, including:
o 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.
o 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 fund shares without paying sales charges.
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.
o Broker-dealers, registered investment advisors or certified financial planners
who have entered into an agreement with Distributors for clients participating
in comprehensive fee programs
o Qualified registered investment advisors who buy through a broker-dealer or
service agent who has entered into an agreement with Distributors
o Registered securities dealers and their affiliates, for their investment
accounts only
o Current employees of securities dealers and their affiliates and their family
members, as allowed by the internal policies of their employer
o 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
o Any investor who is currently a Class Z shareholder of Franklin Mutual Series
Fund Inc. (Mutual Series), or who is a former Mutual Series Class Z
shareholder who had an account in any Mutual Series fund on October 31, 1996,
or who sold his or her shares of Mutual Series Class Z within the past 365
days
o Investment companies exchanging shares or selling assets pursuant to a
merger, acquisition or exchange offer
o Accounts managed by the Franklin Templeton Group
o Certain unit investment trusts and their holders reinvesting distributions
from the trusts
o Group annuity separate accounts offered to retirement plans
o Chilean retirement plans that meet the requirements described under
"Retirement plans" below
In addition, effective January 1, 2000, Class C shares may be purchased without
an initial sales charge by any investor who buys Class C shares through an
omnibus account with Merrill Lynch Pierce Fenner & Smith, Inc. A CDSC may apply,
however, if the shares are sold within 18 months of purchase.
RETIREMENT PLANS. Retirement plans sponsored by an employer (i) with at least
100 employees, or (ii) with retirement plan assets of $1 million or more, or
(iii) that agrees to invest at least $500,000 in the Franklin Templeton Funds
over a 13 month period may buy Class A shares without an initial sales charge.
Retirement plans that are not qualified retirement plans (employer sponsored
pension or profit-sharing plans that qualify under section 401 of the Internal
Revenue Code, including 401(k), money purchase pension, profit sharing and
defined benefit plans), SIMPLEs (savings incentive match plans for employees) or
SEPs (employer sponsored simplified employee pension plans established under
section 408(k) of the Internal Revenue Code) must also meet the group purchase
requirements described above to be able to buy Class A shares without an initial
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 CDSC 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.
SALES IN TAIWAN. 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.
The funds' Class A shares 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 A
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
DEALER COMPENSATION 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. Financial
institutions or their affiliated brokers may receive an agency transaction fee
in the percentages indicated in the dealer compensation table in the funds'
prospectus.
Distributors may pay the following commissions, out of its own resources, to
securities dealers who initiate and are responsible for purchases of Class A
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 A shares by certain retirement plans without an initial sales
charge: 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 rules of the National Association of Securities Dealers,
Inc.
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.
CONTINGENT DEFERRED SALES CHARGE (CDSC) If you invest $1 million or more in
Class A shares, either as a lump sum or through our cumulative quantity discount
or letter of intent programs, a CDSC may apply on any shares you sell within 12
months of purchase. For Class C shares, a CDSC may apply if you sell your shares
within 18 months of purchase. The CDSC 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 A shares without an initial sales charge may also be
subject to a CDSC 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.
For Class B shares, there is a CDSC if you sell your shares within six years, as
described in the table below. The charge is based on the value of the shares
sold or the net asset value at the time of purchase, whichever is less.
IF YOU SELL YOUR THIS % IS
CLASS B SHARES WITHIN THIS DEDUCTED FROM YOUR
MANY YEARS AFTER BUYING THEM PROCEEDS AS A CDSC
- --------------------------------------------------------------------
1 Year 4
2 Years 4
3 Years 3
4 Years 3
5 Years 2
6 Years 1
7 Years 0
CDSC WAIVERS. The CDSC for any share class will generally be waived for:
o Account fees
o Sales of Class A shares purchased without an initial 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 of Class A shares by investors who purchased $1 million or more
without an initial sales charge if Distributors did not make any payment to
the securities dealer of record in connection with the purchase.
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, up to 1% monthly, 3% quarterly, 6% semiannually or 12% annually of
your account's net asset value depending on the frequency of your plan
o Redemptions by Franklin Templeton Trust Company employee benefit plans or
employee benefit plans serviced by ValuSelect(R) (not applicable to Class B)
o Distributions from individual retirement accounts (IRAs) due to death or
disability or upon periodic distributions based on life expectancy (for Class
B, this applies to all retirement plan accounts, not only IRAs)
o Returns of excess contributions (and earnings, if applicable) from
retirement plan accounts
o Participant initiated distributions from employee benefit plans or participant
initiated exchanges among investment choices in employee benefit plans (not
applicable to Class B)
EXCHANGE PRIVILEGE If you request the exchange of the total value of your
account, declared but unpaid income dividends and capital gain distributions
will be reinvested in the fund and exchanged into the new fund at net asset
value when paid. Backup withholding and information reporting may apply.
If a substantial number of shareholders should, within a short period, sell
their fund shares 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,
interest-bearing 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.
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. There are no service charges for establishing or
maintaining a systematic withdrawal plan. Once your plan is established, any
distributions paid by the fund will be automatically reinvested in your account.
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. 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 CDSC.
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.
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. 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.
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 U.S. Securities and Exchange
Commission (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.
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.
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 funds nor their
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.
The wiring of redemption proceeds is a special service that we make available
whenever possible. 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 the prospectus.
Franklin Templeton Investor Services, Inc. (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, each 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.
If you buy or sell shares through your securities dealer, we use the net asset
value next calculated after your securities dealer receives your request, which
is promptly transmitted to the fund. 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. 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. Any loss to you resulting from your dealer's failure to transmit your
redemption order to the fund in a timely fashion must be settled between you and
your securities dealer.
Certain shareholder servicing agents may be authorized to accept your
transaction request.
For institutional accounts, there may be additional methods of buying or selling
fund shares than those described in this SAI or in the prospectus.
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.
PRICING SHARES
- -------------------------------------------------------------------------------
When you buy shares, you pay the offering price. The offering price is the net
asset value (NAV) per share plus any applicable sales charge, calculated to two
decimal places using standard rounding criteria. When you sell shares, you
receive the NAV minus any applicable CDSC.
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.
The fund calculates the NAV per share of each class each business day at the
close of trading on the New York Stock Exchange (normally 1:00 p.m. pacific
time). The fund does not calculate the NAV on days the New York Stock Exchange
(NYSE) is closed for trading, which include New Year's Day, Martin Luther King
Jr. Day, Presidents' Day, Good Friday, Memorial Day, Independence Day, Labor
Day, Thanksgiving Day and Christmas Day.
When determining its NAV, the fund values cash and receivables at their
realizable amounts, and records interest as accrued and dividends on the
ex-dividend date. If market quotations are readily available for portfolio
securities listed on a securities exchange or on the NASDAQ National Market
System, the fund values those securities at the last quoted sale price of the
day or, if there is no reported sale, within the range of the most recent quoted
bid and ask prices. The fund values over-the-counter portfolio securities within
the range of the most recent quoted bid and ask prices. If portfolio securities
trade both in the over-the-counter market and on a stock exchange, the fund
values them according to the broadest and most representative market as
determined by the manager.
The fund values portfolio securities underlying actively traded call options at
their market price as determined above. The current market value of any option
the fund holds is its last sale price on the relevant exchange before the fund
values its assets. If there are no sales that day or if the last sale price is
outside the bid and ask prices, the fund values options within the range of the
current closing bid and ask prices if the fund believes the valuation fairly
reflects 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 fund's NAV is not calculated. Thus, the calculation of the fund's NAV
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 NAV
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 NAV.
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.
THE UNDERWRITER
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Franklin Templeton Distributors, Inc. (Distributors) acts as the principal
underwriter in the continuous public offering of the fund's shares. Distributors
is located at 777 Mariners Island Blvd., San Mateo, CA 94404. 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 funds pay 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 Distributors
received in connection with the offering of the funds' shares, the net
underwriting discounts and commissions Distributors retained after allowances to
dealers, and the amounts Distributors received in connection with redemptions or
repurchases of shares for the last three fiscal years ended October 31:
AMOUNT
RECEIVED IN
TOTAL AMOUNT CONNECTION WITH
COMMISSIONS RETAINED BY REDEMPTIONS AND
RECEIVED ($) DISTRIBUTORS ($) REPURCHASES ($)
- -----------------------------------------------------------------------------
1998
Smaller Companies Fund 423,903 63,831 3,023
Pacific Growth Fund 582,215 82,792 8,598
AMOUNT
RECEIVED IN
TOTAL AMOUNT CONNECTION WITH
COMMISSIONS RETAINED BY REDEMPTIONS AND
RECEIVED ($) DISTRIBUTORS ($) REPURCHASES ($)
- -----------------------------------------------------------------------------
1997
Smaller Companies Fund 1,059,592 156,055 0
Pacific Growth Fund 483,600 64,068 600
1996
Smaller Companies Fund 336,526 38,426 0
Pacific Growth Fund 412,861 46,160 0
Distributors may be entitled to reimbursement under the Rule 12b-1 plans, as
discussed below. Except as noted, Distributors received no other compensation
from the fund for acting as underwriter.
DISTRIBUTION AND SERVICE (12B-1) FEES Each class has a separate distribution or
"Rule 12b-1" plan. Under each plan, the fund shall pay or may 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.
The distribution and service (12b-1) fees charged to each class are based only
on the fees attributable to that particular class.
THE CLASS A PLAN. Payments by each fund under the Class A plan may not exceed
0.25% per year of Class A's average daily net assets, payable quarterly. All
distribution expenses over this amount will be borne by those who have incurred
them.
The Class A plan does not permit unreimbursed expenses incurred in a particular
year to be carried over to or reimbursed in later years.
THE CLASS B AND C PLANS. Under the Class B and C plans, the fund pays
Distributors up to 0.75% per year of the class's average daily net assets,
payable quarterly, to pay Distributors or others for providing distribution and
related services and bearing certain expenses. All distribution expenses over
this amount will be borne by those who have incurred them. The fund may also pay
a servicing fee of up to 0.25% per year of the class's average daily net assets,
payable quarterly. 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 expenses relating to each of the Class B and C plans are also used to pay
Distributors for advancing the commission costs to securities dealers with
respect to the initial sale of Class B and C shares. Further, the expenses
relating to the Class B plan may be used by Distributors to pay third party
financing entities that have provided financing to Distributors in connection
with advancing commission costs to securities dealers.
THE CLASS A, B AND C 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, the manager or Distributors or other parties on behalf of the
fund, the manager or Distributors make payments that are deemed to be for the
financing of any activity primarily intended to result in the sale of fund
shares within the context of Rule 12b-1 under the Investment Company Act of
1940, as amended, 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 National Association of Securities Dealers, Inc.
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 noninterested
members of the fund's board. The plans and any related agreement may be
terminated at any time, without penalty, by vote of a majority of the
noninterested 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 the manager or by
vote of a majority of the outstanding shares of the class. The Class A 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 noninterested board
members, 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 October 31, 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:
DISTRIBUTORS' AMOUNT
ELIGIBLE PAID BY THE
EXPENSES ($) FUND ($)
- ---------------------------------------------------------------
Smaller Companies
Fund -Class A 629,935 259,193
Smaller Companies
Fund -Class C 3,905 856
Pacific Fund - Class A 378,426 110,366
Pacific Fund - Class C 112,367 49,105
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 a fund be accompanied by
certain standardized performance information computed as required by the SEC.
Average annual total return quotations used by a 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
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.
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 initial 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 initial sales
charge currently in effect.
When considering the average annual total return quotations, you should keep in
mind that the maximum initial sales charge reflected in each quotation is a one
time fee charged on all direct purchases, which will have its greatest impact
during the early stages of your investment. This charge will affect actual
performance less the longer you retain your investment in the fund. The average
annual total returns for the indicated periods ended October 31, 1998, were:
SINCE
INCEPTION
CLASS A 1 YEAR 5 YEARS (9/21/91)
- -------------------------------------------------------------
Smaller Companies
Fund -17.67% 5.37% 7.65%
Pacific Fund -30.58% -9.77% -1.25%
SINCE
INCEPTION
CLASS C 1 1 YEAR (1/2/97)
- -------------------------------------------------------------
Pacific Fund -27.94% -29.92%
1. Since the Smaller Companies Fund Class C shares have been in existence for
less than 1 year, average annual total returns are not provided.
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 initial 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 returns for the indicated periods
ended October 31, 1998, were:
SINCE
INCEPTION
CLASS A 1 YEAR 5 YEARS (9/21/91)
- -------------------------------------------------------------
Smaller Companies
Fund -17.67% 30.01% 69.08%
Pacific Fund -30.58% -40.20% -8.57%
SINCE
CLASS C 1 YEAR INCEPTION
- -------------------------------------------------------------
Smaller Companies
Fund 1 N/A -15.12%
Pacific Fund 2 -27.94% -47.78%
1. Inception date: 7/1/98
2. Inception date: 1/2/97
VOLATILITY Occasionally statistics may be used to show the funds' volatility or
risk. Measures of volatility or risk are generally used to compare the funds'
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 Each fund may also quote the performance of shares
without a sales charge. Sales literature and advertising may quote a cumulative
total return, average annual total return and other measures of performance 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
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. Franklin Resources, Inc. 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 funds may
satisfy your investment goal, advertisements and other materials about each 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:
(i) unmanaged indices so that you may compare the fund's results with those of a
group of unmanaged securities widely regarded by investors as representative of
the securities market in general; (ii) other groups of mutual funds tracked by
Lipper Analytical Services, Inc., a widely used independent research firm that
ranks mutual funds by overall performance, investment goals and assets, or
tracked by other services, companies, publications, or persons who rank mutual
funds on overall performance or other criteria; and (iii) the Consumer Price
Index (measure for inflation) to assess the real rate of return from an
investment in the fund. Unmanaged indices may assume the reinvestment of
dividends but generally do not reflect deductions for administrative and
management costs and expenses.
From time to time, the fund and the managers may also refer to the following
information:
o The managers' and their affiliates' market share of international equities
managed in mutual funds prepared or published by Strategic Insight or a
similar statistical organization.
o The performance of U.S. equity and debt markets relative to foreign markets
prepared or published by Morgan Stanley Capital International(R) or a similar
financial organization.
o The capitalization of U.S. and foreign stock markets as prepared or
published by the International Finance Corporation, Morgan Stanley Capital
International(R) or a similar financial organization.
o The geographic and industry distribution of the fund's portfolio and the
fund's top ten holdings.
o The gross national product and populations, including age characteristics,
literacy rates, foreign investment improvements due to a liberalization of
securities laws and a reduction of foreign exchange controls, and improving
communication technology, of various countries as published by various
statistical organizations.
o To assist investors in understanding the different returns and risk
characteristics of various investments, the fund may show historical returns
of various investments and published indices (E.G., Ibbotson Associates, Inc.
Charts and Morgan Stanley EAFE - Index).
o The major industries located in various jurisdictions as published by the
Morgan Stanley Index.
o Rankings by DALBAR Surveys, Inc. with respect to mutual fund shareholder
services.
o Allegorical stories illustrating the importance of persistent long-term
investing.
o The funds' portfolio turnover rate and its ranking relative to industry
standards as published by Lipper Analytical Services, Inc. or Morningstar,
Inc.
o A description of the Templeton organization's investment management philosophy
and approach, including its worldwide search for undervalued or "bargain"
securities and its diversification by industry, nation and type of stocks or
other securities.
o Comparison of the characteristics of various emerging markets, including
population, financial and economic conditions.
o Quotations from the Templeton organization's founder, Sir John Templeton,*
advocating the virtues of diversification and long-term investing.
*Sir John Templeton sold the Templeton organization to Franklin Resources,
Inc. in October 1992 and resigned from the Board on April 16, 1995. He is no
longer involved with the investment management process.
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 certificates of deposit (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 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 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 funds to calculate their figures. In
addition, there can be no assurance that the funds will continue their
performance as compared to these other averages.
MISCELLANEOUS INFORMATION
- -------------------------------------------------------------------------------
The funds 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.
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 is one of the
oldest mutual fund organizations 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 $220 billion in assets under management for more than 7 million U.S. based
mutual fund shareholder and other accounts. The Franklin Templeton Group of
Funds offers 115 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 New
York Stock Exchange. While many of them have similar investment goals, no two
are exactly alike. Shares of the funds are generally sold through securities
dealers, whose investment representatives are experienced professionals who can
offer advice on the type of investments suitable to your unique goals and needs,
as well as the risks associated with such investments.
The Information Services & Technology division of Franklin Resources, Inc.
(Resources) established a Year 2000 Project Team in 1996. This team has already
begun making necessary software changes to help the computer systems that
service the funds and their shareholders to be Year 2000 compliant. After
completing these modifications, comprehensive tests are conducted in one of
Resources' U.S. test labs to verify their effectiveness. Resources continues to
seek reasonable assurances from all major hardware, software or data-services
suppliers that they will be Year 2000 compliant on a timely basis. Resources is
also beginning to develop a contingency plan, including identification of those
mission critical systems for which it is practical to develop a contingency
plan. However, in an operation as complex and geographically distributed as
Resources' business, the alternatives to use of normal systems, especially
mission critical systems, or supplies of electricity or long distance voice and
data lines are limited.
DESCRIPTION OF BOND RATINGS
- -------------------------------------------------------------------------------
CORPORATE AND FOREIGN GOVERNMENT
BOND RATINGS
MOODY'S INVESTORS SERVICE, INC. (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.
STANDARD & POOR'S CORPORATION (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.
