<PAGE>
The Greater China Fund, Inc.
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TABLE OF CONTENTS
The Fund's Management 2
Letter to Shareholders 3
Report of the Investment Manager 4
Portfolio of Investments 9
Statement of Assets and Liabilities 13
Statement of Operations 14
Statement of Changes in Net Assets 15
Notes to Financial Statements 16
Financial Highlights 22
Report of Independent Accountants 23
Dividend Reinvestment Plan 24
Other Information 25
This report, including the financial statements herein, is sent to the
shareholders of The Greater China Fund, Inc. for their information. It is not
a prospectus, circular or representation intended for use in the purchase or
sale of shares of the Fund or any securities mentioned in this report.
Notice is hereby given in accordance with Section 23(c) of the Investment
Company Act of 1940, as amended, that from time to time the Fund may purchase
at market prices shares of its common stock in the open market.
The Greater China Fund, Inc.
1285 Avenue of the Americas
New York, New York 10019
For information call (212) 713-2848
Additional information (including updated net asset value and market price) may
be obtained through the Fund's dedicated toll-free number, 800-655-2599.
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1
<PAGE>
The Greater China Fund, Inc.
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THE FUND'S MANAGEMENT
Directors
Richard B. Bradley, Chairman
Edward Y. Baker
John A. Bult
Richard Graham
John A. Hawkins
Don G. Hoff
Jonathan J.K.Taylor
Tak Lung Tsim
Executive Officers
David G. P. Scholfield, President
Peter Cairns, Secretary
Henry Ho, Vice President
Julian F. Sluyters, Vice President
C. William Maher, Treasurer & Assistant Secretary
Investment Manager
Baring International Investment (Far East) Limited
19th Floor
Edinburgh Tower
15 Queen's Road Central
Hong Kong
Administrator
Mitchell Hutchins Asset Management Inc.
1285 Avenue of the Americas
New York, New York 10019
Custodian
Brown Brothers Harriman & Co.
40 Water Street
Boston, Massachusetts 02109
Shareholder Servicing Agent
PNC Bank, National Association
400 Bellevue Parkway
Wilmington, Delaware 19809
Independent Accountants
Price Waterhouse LLP
1177 Avenue of the Americas
New York, New York 10036
Legal Counsel
White & Case
1155 Avenue of the Americas
New York, New York 10036
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2
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The Greater China Fund, Inc.
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LETTER TO SHAREHOLDERS
February 4, 1998
Dear Shareholder,
Despite a very successful first eight months of 1997, during which the net asset
value per share rose to a high of US$28.13, the severe deterioration of economic
and market conditions in the region over the last few months resulted in a
reversal of last year's good results. For the year overall, the Fund's net asset
value per share decreased from US$19.49 to US$13.46. Of the US$6.03 fall in net
asset value per share, US$3.62 represented distributions of ordinary income and
long-term capital gains to shareholders.
By mid-summer, the increasing risk associated with the Fund's exposure to
smaller, cyclical red chip and China stocks, which had appreciated very steeply
in the first half of the year, was becoming alarmingly disproportionate to
further upside potential. Accordingly, a major sales program was undertaken,
with the objective of redeploying the proceeds largely into more-defensive
counters, such as electricity suppliers and other utilities. Substantial capital
gains were realized, resulting in a substantial distribution of US$3.50 per
share on January 16, 1998.
The economic recovery in China which I mentioned in last year's annual report
continued into 1997 and appeared set to produce strong results. Unfortunately,
contagion from the debt crisis elsewhere in Asia took its toll on the Chinese
stock markets, although the renminbi held firm against the plummeting currencies
of China's competitors. Strict controls introduced by the government to control
an unacceptable increase in speculation in the market, combined with foreign
investors' fears over the effects of the region's economic problems, witnessed a
sharp fall off in both "A" and "B" shares.
The changeover of Hong Kong's sovereignty on June 30 proved to be less
disruptive than some commentators had expected. Furthermore, many investors
initially felt that Hong Kong would be fairly immune to the troubles of its
Asian counterparts. This, coupled with forecasts for solid domestic and mainland
growth, made the market attractive. Nevertheless, Hong Kong fell prey to the
effects of the regional crisis and investors became increasingly concerned as
the Hong Kong dollar peg came under threat. As interest rates were raised to
defend the fixed exchange rate, there was a rapid decline in both property and
equity market valuations.
Although investment prospects for the immediate future remain uncertain, lower
valuations in both China and Hong Kong make for attractive investment
opportunities. Your Board of Directors remains confident that restructuring in
mainland China and strong fundamentals in Hong Kong provide opportunities for
premium medium- and long-term growth and investment returns.
Sincerely,
Richard B. Bradley
Chairman
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3
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The Greater China Fund, Inc.
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REPORT OF THE INVESTMENT MANAGER
Overview
The stock markets of "Greater China" experienced significant fluctuation in
investment sentiment during 1997. Share prices rose sharply in the first seven
months of the year on the back of buoyant liquidity conditions in these markets
and the prospect of an improving economic outlook. However, in the last few
months of the year, optimism in the equity market quickly evaporated as a result
of currency turmoil in the region. Concerns about currencies in Hong Kong and
China grew and worries of corporate earnings were raised on the prospect of
slower economic growth. As a result, equity prices collapsed and closed the year
with negative returns.
During the year, the Fund benefited from its large weighting in red chip stocks,
Hong Kong listed companies ultimately controlled by mainland Chinese parents.
Their share prices rose substantially in the first half of the year on
expectations of high earnings, further enhancing their values. Though affected
by the major de-rating of the markets in the last quarter of the year, red chips
remain an important component of the Hong Kong stock market, as reflected in
their share of market turnover and capitalization.
The table below portrays the net asset value performance of the Fund compared
with the relevant market indices over the last three years:
Source: MSCI/BAM
Performance of Net Asset Value Per Share
Note: This information represents the historical performance of The Greater
China Fund, Inc. and assumes the reinvestment of all dividends and
distributions.
Past performance is not predictive of future returns.
Asset Allocation
The major changes in asset allocation have been the increased weighting in China
"H" and "B" shares. The weighting in these China stocks increased from 18% to
32%, funded mainly from a reduction in Hong Kong weightings. Holdings in Taiwan,
Korea and Singapore have also been sold to re-invest in these shares.
In terms of sectors, weightings have been increased in manufacturing, utilities,
services and infrastructure. These sectors offer companies with stable earnings
growth and healthy balance sheets.
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4
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The Greater China Fund, Inc.
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CHINA
Market Review
The Chinese stock markets were mainly driven by the government's policies
towards the corporate sector, equity markets and the external shocks from the
Asian crisis. Share prices rose strongly in the first half of the year on the
back of buoyant domestic liquidity conditions and the prospect of an
improving economic outlook. Administrative measures adopted by the government
to cool down "excessive" speculation in the market led to a drastic retreat
of both "A" and "B" shares. The "B" share markets were subsequently hit hard
by the sell-off of foreign investors concerned over the contagion effects of
currency turmoil in the region.
Prospects
Based on preliminary statistics, the Chinese economy, in terms of gross
domestic product, rose 8.8% in 1997, compared to 9.7% in 1996 and 10.2% in
1995, as strong exports led the way. Domestic economic activity was slow,
particularly in domestic consumption and investment areas. In the absence of
inflationary pressure, growth in the nation-wide retail price index ("RPI")
was down to 0.8% for 1997, from 6.1% in 1996. China recorded negative RPI
growth in the last three months of 1997, giving rise to concerns about
deflation in the economy.
In view of the sluggish domestic economy and deterioration of export
competitiveness, government policy has turned reflationary. Interest rates
were lowered for the third time in October 1997 and may be reduced further.
There is ongoing discussion of further reform in the financial sector, which
may involve reductions in the reserve requirement ratio for the banks. While
there is a risk that reflationary policies may not be implemented in time and
be sufficiently strong to promote domestic demand, the need for sustained
economic growth for social stability and the reform of state-owned
enterprises should keep government policies on the reflationary track. This
should benefit Hong Kong and China companies' corporate earnings in 1998.
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5
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The Greater China Fund, Inc.
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REPORT OF THE INVESTMENT MANAGER
continued
The Chinese renminbi ("RMB") appreciated slightly in 1997, despite currency
turmoil in the region. Leaders in Beijing have repeatedly denied the
intention to devalue the currency to restore export competitiveness.
Devaluation of the rmb would have a significant effect on the currencies and
economies of the region, in particular Hong Kong where political and economic
costs of devaluation appear to be prohibitively high under current
circumstances. The government announced at the end of the year that
foreign-invested enterprises will be given tariff exemptions on imported
machinery and equipment. There is also some expectation of increased tax
rebates on exports. It appears that non-currency policies deregulation is
accelerating to attract foreign investment and boost external trade.
Reform of the Chinese economy continues. In October, the 15th Communist Party
Congress confirmed the resolution to move ahead with the reform of
state-owned enterprises. This reform process will increase productivity, but
requires a shift from central planning to market-driven entities. Merger and
acquisition activities will increase, which will present attractive
opportunities for listed red chips, "H" and "B" share companies. In addition,
increased awareness of risk among government officials, banks and
enterprises, together with the commitment to banking reform is encouraging.
The government also appears determined to restructure its banking system.
These reforms are expected to bring about significant improvement in
efficiencies, and hence higher returns on capital. However, risks remain on
the potential escalation of unemployment and bankruptcy of Chinese banks.
HONG KONG
Market Review
The equity market performed strongly prior to the changeover of sovereignty.
The equity market was considered a safe haven, with expectations that
economic growth domestically and in China would remain strong and relatively
immune from accelerating economic deterioration in other Asian countries.
There was an element of euphoria reflected in red chip stocks which rose to
extreme levels in price and valuation. Following the handover, and from the
end of the third quarter, the woes of the rest of the region caught up with
Hong Kong. The question of the sustainability of Hong Kong's currency peg
with the U.S. dollar attracted the attention of international investors as
other Asian currencies collapsed. Domestic short-term interest rates rose in
Hong Kong and remained high, property stocks came under significant selling
pressure and in October the share market fell sharply.
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6
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The Greater China Fund, Inc.
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Prospects
Pressure on the Hong Kong dollar caused concern on the basis that either the
peg itself might be broken, resulting in currency depreciation, or that high
interest rates would contract earnings and growth prospects, particularly in
the real estate sector.
On balance, we believe the peg will hold in the short-term, but the
sustainability of the cost of the peg -- high interest rates -- in the
longer-term is an important issue. Hong Kong runs a fiscal surplus and, more
or less, a balanced current account. Both the government and corporates have
prudent balance sheets. The economic structure, which is a free-market
economy, is therefore capable of adjusting to the imposition of considerably
higher interest rates in defense of the currency. Based on the operation of
the linked exchange rate system, the adjustment of currency pressure is in
domestic price levels. As a result, both the equity market and the domestic
property market had drastic corrections in the fourth quarter of 1997,
demonstrating the efficiency and flexibility of these asset markets.
A slowdown of the Hong Kong economy in 1998 appears inevitable, given the
effect that the repricing of assets such as property has had on net wealth
and, therefore, actual and future consumption, reduction in tourist income
and the likely delay in private investments. There are already signs of
rising unemployment and bankruptcies. While these are unavoidable costs of
defending the HK$-US$ peg, the key issue is whether there will be a failure
of the banking system due to the sharp decline in asset prices and hence, the
value of collateral. However, the banks in Hong Kong remain well capitalized
and there are already signs of changes in the government's land policy to
stabilize the property market.
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7
<PAGE>
The Greater China Fund, Inc.
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REPORT OF THE INVESTMENT MANAGER
continued
OUTLOOK
The near-term outlook for the "Greater China" stock markets remains
uncertain, largely due to the continuing financial crisis in Asia. However,
the healthy fundamental structure of the Hong Kong economy and the benefit
from likely lowered interest rates should bode well for the longer-term
outlook of these markets.
There is no doubt that corporate earnings growth in 1998 will be
significantly affected by the slowdown of economies in the region. However,
the sharp decline in share prices should have discounted much of the bad
news. The valuation of the markets appears attractive at the current level,
as Hong Kong stocks are trading at the lower end of historic valuation ranges
and the majority of Chinese stocks are at historic lows.
The political environment, by contrast, appears relatively benign. The
political handover in Hong Kong has been smooth and the new SAR Government
appears to have been well received by the general public. In China, the 15th
Party Congress of the Communist Party has further consolidated the power base
of current leaders, especially Jiang Zemin.
In short, Hong Kong and China are relatively well positioned in this Asian
currency crisis. The Investment Manager will continue to adopt a cautious and
selective approach towards the stocks in "Greater China" and will be actively
looking to accumulate undervalued China stocks, which are expected to offer
long-term organic growth. However, the possible knock-on effects of serious
regional social or political unrest is a risk that cannot be completely
discounted.
BARING INTERNATIONAL INVESTMENT (FAR EAST) LIMITED
HONG KONG
February 3, 1998
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8
<PAGE>
The Greater China Fund, Inc.
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PORTFOLIO OF INVESTMENTS
December 31, 1997
<TABLE>
<CAPTION>
Shares Description Value
(Note 1)
<C> <S> <C>
Equities and Equity Equivalents -- 105.3%
CHINA -- 40.2%
Building Materials -- 0.6%
800,000 Shenzhen Fangda "B" $ 918,828
------------
Conglomerates -- 0.6%
400,000 Beijing Enterprises "H"* 1,027,229
------------
Consumption -- 0.4%
5,152,000 Gauangzhou Pharmaceutical "H"* 691,454
------------
Infrastructure -- 1.3%
361,800 Guangdong Prov. Express Development "B" 148,474
10,074,000 Zhejiang Expressway "H"* 2,041,061
------------
2,189,535
------------
Manufacturing -- 17.2%
3,340,562 China International Marine Containers "B" 3,013,360
9,478,000 First Tractor "H"* 5,718,112
3,975,000 Guangdong Kelon Electronic Holdings "H" 4,103,755
19,800,000 Harbin Power Equipment "H" 2,376,307
466,700 Hubei Sanonda "B"* 187,909
1,157,200 Inner Mongolia Erdos Cashmere Products "B" 393,448
5,830,000 Qingling Motor "H" 2,858,950
2,769,080 Shanghai Diesel Engine "B"* 348,904
3,770,000 Wafangdian Bearing "B"* 1,508,195
4,614,500 Weifu Fuel Injection "B" 1,548,290
10,614,000 Zhenhai Refining & Chemical "H" 4,451,607
3,937,000 Zhenhua Port Machinery "B"* 2,708,656
------------
29,217,493
------------
Services -- 4.7%
1,063,200 China Merchant Shekou Port Service "B"* 273,038
8,938,160 Shanghai Dazhong Taxi "B" 6,685,744
2,000,000 Tietsen Marine Shipping "B"* 948,000
------------
7,906,782
------------
</TABLE>
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9
<PAGE>
The Greater China Fund, Inc.
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PORTFOLIO OF INVESTMENTS
continued
<TABLE>
<CAPTION>
Shares Description Value
(Note 1)
<C> <S> <C>
Utilities -- 11.2%
9,358,000 Beijing Datang Power "H"* $ 4,287,121
453,800 Huaneng Power International ADR "N"* 10,522,487
13,000,000 Zhejiang Southeast Electric "B"* 4,186,000
------------
18,995,608
------------
Miscellaneous -- 4.2%
25,980,000 Anhui Expressway "H" 4,492,605
6,938,300 Inner Mongolia Yitai "B" 2,705,937
------------
7,198,542
------------
Total China 68,145,471
------------
HONG KONG -- 65.1%
Banking -- 4.6%
5,503,697 The Ka Wah Bank 4,829,673
2,430,000 Union Bank of Hong Kong 2,979,094
------------
7,808,767
------------
Conglomerates -- 16.0%
5,860,000 China Resources Enterprise 13,082,720
2,248,000 Hutchison Whampoa 14,069,944
------------
27,152,664
------------
Consumption -- 2.8%
4,544,000 NG Fung Hong 4,779,146
------------
Infrastructure -- 13.5%
2,763,000 Cheung Kong Infrastructure Holdings 7,844,367
4,518,000 Cosco Pacific 3,673,171
5,048,574 New World Infrastructure* 11,434,053
------------
22,951,591
------------
</TABLE>
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The Greater China Fund, Inc.
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<TABLE>
<CAPTION>
Shares Description Value
(Note 1)
<C> <S> <C>
HONG KONG -- (continued)
Real Estate Development -- 11.0%
816,000 Cheung Kong Holdings $ 5,344,173
2,486,000 Concord Land Development 986,508
12,000,000 Far East Hotels & Entertainment 3,329,462
1,873,000 New World Development 6,477,791
353,000 Sun Hung Kai Properties 2,471,319
------------
18,609,253
------------
Services -- 7.9%
6,544,000 China Telecom* 11,231,798
1,103,000 Smartone Telecom Holdings 2,127,997
------------
13,359,795
------------
Trading -- 4.6%
1,517,000 Shanghai Industrial Holdings 5,647,884
2,250,000 Tianjin Development Holdings* 2,090,592
------------
7,738,476
------------
Miscellaneous -- 4.7%
1,816,000 China Everbright IHD Pacific* 1,464,705
3,970,000 China Merchants Holdings International 4,072,977
8,520,000 CNPC Hong Kong* 2,391,405
------------
7,929,087
------------
Total Hong Kong 110,328,779
------------
Total Equities and Equity Equivalents
(cost $189,186,133) 178,474,250
------------
</TABLE>
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11
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The Greater China Fund, Inc.
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PORTFOLIO OF INVESTMENTS
continued
<TABLE>
<CAPTION>
Principal Description Value
Amount (Note 1)
<C> <S> <C>
Time Deposits -- 17.9%
$29,100,000 Bank of Montreal, 4.50%** $ 29,100,000
1,300,000 BNP Georgetown
Grand Cayman, 4.50%** 1,300,000
------------
Total Time Deposits (cost $30,400,000) 30,400,000
------------
Investments from Cash Collateral for
Securities on Loan -- 18.0%
Discount Notes -- 15.4%
8,000,000 Dow Chemical Company, 1/2/98 8,000,000
9,000,000 Koch Industries, 1/2/98 9,000,000
9,000,000 UBS Financial (Delaware) 1/2/98 9,000,000
------------
Total Discount Notes (cost $26,000,000) 26,000,000
------------
Shares
Money Market Fund -- 2.6%
4,436,167 AIM Liquid Assets Portfolio (cost $4,436,167) 4,436,167
------------
Total Investments from Cash Collateral for
Securities on Loan (cost $30,436,167) 30,436,167
------------
Total Investments -- 141.2% (cost $250,022,300) 239,310,417
Liabilities in excess of other assets -- (41.2%) (69,792,711)
------------
Net Assets -- 100.0% $169,517,706
------------
------------
* Non-income producing security.
Security, or a portion thereof, was on loan at
December 31, 1997.
** Variable rate account -- rate resets on a monthly basis;
amount available upon 48 hours' notice.
ADR -- American Depositary Receipt.
</TABLE>
See Notes to Financial Statements.
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12
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The Greater China Fund, Inc.
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STATEMENT OF ASSETS AND LIABILITIES
December 31, 1997
<TABLE>
<S> <C>
Assets
Investments at value (cost $250,022,300) $239,310,417
Cash (including Hong Kong dollars with a cost
and value of $9,429) 92,991
Receivable for investments sold 5,082,128
Dividends and interest receivable 231,850
Prepaid expenses 37,697
-----------
Total assets 244,755,083
-----------
Liabilities
Collateral for securities on loan 30,436,167
Dividend and distribution payable 44,075,671
Investment management fee payable 248,151
Administration fee payable 42,786
Accrued expenses 434,602
-----------
Total liabilities 75,237,377
-----------
Net Assets $169,517,706
-----------
-----------
Composition of Net Assets
Common stock, $0.001 par value; 12,593,049 shares issued
and outstanding (100,000,000 shares authorized) $ 12,593
Paid-in capital in excess of par 170,419,027
Dividends in excess of net investment income (1,772,768)
Accumulated net realized gain on investments 11,570,699
Net unrealized depreciation of investments and other
assets and liabilities denominated in foreign currency (10,711,845)
-----------
Net Assets $169,517,706
-----------
-----------
Shares outstanding 12,593,049
-----------
Net Asset Value Per Share $13.46
------
------
</TABLE>
See Notes to Financial Statements.
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13
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The Greater China Fund, Inc.
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STATEMENT OF OPERATIONS
For the Year Ended December 31, 1997
<TABLE>
<S> <C>
Investment Income
Dividends (net of foreign withholding taxes of $13,421) $ 3,768,149
Interest 332,926
-----------
Total investment income 4,101,075
-----------
Expenses
Investment management fees 3,474,551
Custodian and accounting fees 617,353
Administration fees 570,928
Directors' fees and expenses 223,810
Shareholder reports expense 121,752
Legal fees 71,658
Insurance expense 64,951
Audit fees 45,929
New York Stock Exchange listing fee 22,991
Amortization of organizational expenses 13,682
Transfer agent fees and expenses 7,889
Miscellaneous expenses 3,300
-----------
Total expenses 5,238,794
-----------
Net investment loss (1,137,719)
-----------
Realized and Unrealized Gain (Loss) on Investments
and Foreign Currency Transactions
Net realized gain(loss) on:
Investments 62,519,397
Foreign currency transactions (50,936)
-----------
62,468,461
-----------
Net change in unrealized appreciation/depreciation of:
Investments (91,585,224)
Other assets and liabilities denominated in
foreign currency (508)
-----------
(91,585,732)
-----------
Net realized and unrealized loss on investments
and foreign currency transactions (29,117,217)
-----------
Net Decrease in Net Assets
From Investment Operations $(30,254,990)
-----------
-----------
</TABLE>
See Notes to Financial Statements.
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14
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The Greater China Fund, Inc.
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STATEMENT OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
For the Year For the Year
Ended Ended
December 31, 1997 December 31, 1996
----------------- -----------------
<S> <C> <C>
Income (Loss) from Investment
Operations
Net investment income (loss) $ (1,137,719) $ 1,190,587
Net realized gain on investments
and foreign currency transactions 62,468,461 2,051,827
Net change in unrealized appreciation/
depreciation of investments and
other assets and liabilities
denominated in foreign currency (91,585,732) 69,206,724
----------- -----------
Total from investment operations (30,254,990) 72,449,138
----------- -----------
Dividends and Distributions
to Shareholders
From net investment income -- (1,141,575)
In excess of net investment income (1,635,864) (369,591)
From net realized gain on investments (43,974,900) --
----------- -----------
Total dividends and distributions
to shareholders (45,610,764) (1,511,166)
----------- -----------
Fund Share Transactions
Proceeds from dividends reinvested -- 84,972
Proceeds from the sale of shares in
rights offering -- 35,640,952
Offering costs charged to paid-in
capital in excess of par -- (526,378)
----------- -----------
Total Fund share transactions -- 35,199,546
----------- -----------
Net increase (decrease) in net assets (75,865,754) 106,137,518
Net Assets
Beginning of period 245,383,460 139,245,942
----------- -----------
End of period $169,517,706 $245,383,460
----------- -----------
----------- -----------
</TABLE>
See Notes to Financial Statements.
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15
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The Greater China Fund, Inc.
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NOTES TO FINANCIAL STATEMENTS
Note 1
ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
The Greater China Fund (the "Fund") was incorporated in Maryland on May 11,
1992, as a non-diversified, closed-end management investment company. The
Fund's investment objective is to seek long-term capital appreciation by
investing substantially all of its assets in listed equity securities of
companies which derive or are expected to derive a significant portion of
their revenues from goods produced or sold, investments made or services
performed in China. The Fund had no operations until July 7, 1992, when it
sold 7,200 shares of common stock for $100,440 to Baring International
Investment (Far East) Limited (the "Investment Manager"), an indirect
wholly-owned subsidiary of ING Groep NV. Investment operations commenced on
July 23, 1992. Organizational costs of $123,000 have been deferred and
amortized on a straight-line basis over a 60-month period from the date the
Fund commenced operations.
The preparation of financial statements in accordance with generally accepted
accounting principles requires Fund management to make estimates and
assumptions that affect the reported amounts and disclosures in the financial
statements. Actual results could differ from those estimates.
The following is a summary of significant accounting policies followed by the
Fund.
VALUATION OF INVESTMENTS
All securities for which market quotations are readily available are valued
at the last sales price on the day of valuation or, if there was no sale on
such day, the last bid price quoted on such day. Short-term debt securities
having a maturity of 60 days or less are valued at amortized cost, or by
amortizing their value on the 61st day prior to maturity if their term to
maturity from the date of purchase was greater than 60 days, unless the
Fund's Board of Directors determines that such value does not represent the
fair value of such securities. Securities and assets for which market
quotations are not readily available (including investments which are subject
to limitations as to their sale) are valued at fair value as determined in
good faith by or under the direction of the Board of Directors.
INVESTMENT TRANSACTIONS AND INVESTMENT INCOME
Investment transactions are recorded on the trade date (the date on which the
buy or sell order is executed). Realized gains and losses on investments and
foreign currency transactions are calculated on the identified cost basis.
Interest income is recorded on an accrual basis. Dividend income and other
distributions are recorded on the ex-dividend date, except for certain
dividends which are recorded as soon after the ex-dividend date as the Fund,
using reasonable diligence, becomes aware of such dividends.
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16
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The Greater China Fund, Inc.
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FOREIGN CURRENCY TRANSLATION
The books and records of the Fund are maintained in U.S. dollars. Foreign
currency amounts are translated into U.S. dollars on the following basis:
(i) the foreign currency market value of investments and other
assets and liabilities denominated in foreign currency are
translated at the closing rate of exchange on the valuation
date; and
(ii) purchases and sales of investments, income and expenses are
translated at the rate of exchange prevailing on the respective
dates of such transactions.
The resulting net foreign currency gain or loss is included in the Statement
of Operations.
The Fund does not generally isolate that portion of the results of operations
arising as a result of changes in foreign currency exchange rates from
fluctuations arising from changes in the market prices of securities.
Accordingly, such foreign currency gain (loss) is included in net realized
and unrealized gain (loss) on investments. However, the Fund does isolate the
effect of fluctuations in foreign currency exchange rates when determining
the gain or loss upon the sale or maturity of foreign currency denominated
debt obligations pursuant to U.S. federal income tax regulations; such amount
is categorized as foreign currency gain or loss for both financial reporting
and income tax reporting purposes.
Net foreign currency gain (loss) from valuing foreign currency denominated
assets and liabilities at period end exchange rates is reflected as a
component of net unrealized depreciation of investments and other assets and
liabilities denominated in foreign currency. Net realized foreign currency
gain (loss) is treated as ordinary income (loss) for income tax reporting
purposes.
SECURITY LENDING
The Fund may lend up to 30% of its total assets to qualified institutions.
When the Fund lends its securities, it continues to earn dividends and other
income on such securities. Under the terms of the securities lending
agreement, the loans of securities are to be secured at all times by cash or
liquid securities in an amount at least equal to 105% of the market value of
the loaned securities that are foreign securities, which are marked to market
daily. The Fund bears the risk of delay in recovery of, or even loss of
rights in, the securities loaned should the borrower fail financially. The
Fund's lending agent is PaineWebber Incorporated ("PaineWebber") who
administers the Fund's lending program. PaineWebber is authorized to invest
the cash collateral received in short-term securities, including investments
in affiliated mutual funds. Any income from investments of cash collateral in
excess of agency fees and of a predetermined rebate to the borrowers is
retained by the Fund and is included in interest income. For non-cash
collateral, the Fund earns a net fee, after payment of lending agents' fees,
paid by the borrowers. For the year ended December 31, 1997, net earnings to
the Fund from investment of cash collateral was $12,356, after deducting the
borrowers' rebate of $72,436 and PaineWebber fees of $6,653 which were due at
December 31, 1997. At December 31, 1997, the market value of the securities
loaned and the amount of cash collateral received with respect to such loans
were $26,477,732 and $30,436,167, respectively.
- ------------------------------------------------------------------------------
17
<PAGE>
The Greater China Fund, Inc.
- ------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
continued
DIVIDENDS AND DISTRIBUTIONS
Dividends and distributions are recorded on the ex-dividend date. Dividends
and distributions from net investment income and net realized capital gains
are determined in accordance with federal income tax regulations, which may
differ from generally accepted accounting principles. These "book/tax"
differences are considered either temporary or permanent in nature. To the
extent these differences are permanent in nature, such amounts are
reclassified within the capital accounts based on their federal tax-basis
treatment; temporary differences do not require reclassification. Dividends
and distributions which exceed net investment income or net realized capital
gains for financial reporting purposes, but not for tax purposes, are
reported as dividends in excess of net investment income or distributions in
excess of net realized gain on investments. To the extent they exceed net
investment income or net realized capital gains for tax purposes, they are
reported as distributions of paid-in capital in excess of par. Dividends in
excess of net investment income during the year ended December 31, 1997
result from temporary differences relating to unrealized gains on investments
in passive foreign investment companies. In addition, as a result of
permanent book/tax differences primarily attributed to sales of passive
foreign investment companies, $1,862,293 has been reclassified from
accumulated net realized gain on investments to dividends in excess of net
investment income. Net assets were not affected by this reclassification.
On December 19, 1997, the Board of Directors declared an ordinary income and
long-term capital gain dividend aggregating $3.50 per share. The dividend was
paid on January 16, 1998 to shareholders of record on December 31, 1997.
TAX STATUS
United States
The Fund generally intends to distribute all or substantially all of its
taxable income and to comply with the other requirements of the U.S. Internal
Revenue Code applicable to regulated investment companies. Accordingly, no
provision for U.S. federal income tax is required. The Fund's Board of
Directors, under certain circumstances, may determine to retain a portion of
the Fund's taxable income, if such retention is in the best interest of the
Fund and its shareholders.
China
Presently, as a result of a ruling issued in July 1993 (the "July Ruling"),
The People's Republic of China ("PRC") State Tax Bureau determined that
dividends paid on "B" shares and dividends received from a PRC company, the
shares of which are listed on non-PRC securities exchanges, including
dividends paid with respect to "H" shares, will not for the time being be
subject to PRC withholding tax. However, there is no assurance that the July
Ruling will remain in effect for the entire period that such shares are held
by the Fund, as it is a temporary provision. Based on the July Ruling,
capital gains from the sale of "B" shares and shares of a PRC company listed
on a non-PRC securities exchange, including "H" shares, will not for the
time being be subject to 20% withholding tax.
Capital gains with respect to debt securities of PRC companies are not
covered by the July Ruling and may be subject to 20% withholding tax.
In the future, were the July Ruling to be reversed, dividends received and
capital gains derived with respect to investments in securities of PRC
companies would be subject to withholding tax at a maximum rate of 20%.
- ------------------------------------------------------------------------------
18
<PAGE>
The Greater China Fund, Inc.
- ------------------------------------------------------------------------------
Hong Kong
Under current Hong Kong law, no income tax is charged on dividends or other
distributions received by any person with respect to investments in Hong Kong
securities. Additionally, there is no tax in Hong Kong on capital gains
realized from the disposition of such securities. However, income received
and gains realized by any person in the course of a trade, profession or
business carried on in Hong Kong may be subject to Hong Kong profits tax. It
is the intention of the Fund to conduct its affairs in such a manner that it
will not be subject to such profits tax. To the extent that the Fund were to
derive any profit from such a trade, profession or business, its profit from
the trading of securities (including interest, dividends and capital gains)
would be subject to profits tax, which is currently a flat rate of 16.5% for
corporations.
Other Foreign Countries
The Fund may be subject to certain taxes on dividends, capital gains and
other income imposed by the other foreign countries in which it invests.
- -------------------------------------------------------------------------------
Note 2
INVESTMENT MANAGEMENT AND ADMINISTRATION AGREEMENTS
The Fund has an investment management agreement ("Investment Management
Agreement") with the Investment Manager. Under the terms of the Investment
Management Agreement, the Investment Manager manages the Fund's investments
in accordance with the Fund's investment objectives, policies and
restrictions, and makes investment decisions on behalf of the Fund, including
the selection of and the placing of orders with brokers and dealers to
execute portfolio transactions on behalf of the Fund. As compensation for its
services, the Investment Manager receives a monthly fee, computed weekly, at
an annual rate of 1.25% of the Fund's average weekly net assets.
Mitchell Hutchins Asset Management Inc. (the "Administrator"), a wholly-owned
subsidiary of PaineWebber, has an administration agreement ("Administration
Agreement") with the Fund. Under the terms of the Administration Agreement,
the Administrator provides certain administrative services to the Fund. As
compensation for its services, the Administrator receives a monthly fee,
computed weekly, at an annual rate of 0.22% of the Fund's average weekly net
assets up to $75million and 0.20% of such net assets in excess of $75
million, subject to a minimum annual fee of $150,000.
- -------------------------------------------------------------------------------
Note 3
TRANSACTIONS WITH AFFILIATES
The Investment Manager, out of its own assets, pays PaineWebber a quarterly
fee at an annual rate of 0.10% of the Fund's average weekly net assets in
consideration for certain consulting and shareholder support services (not
including advice or recommendations regarding the purchase or sale of
investment securities). For the year ended December 31, 1997, $277,964 was
paid or accrued by the Investment Manager to PaineWebber for such services.
- ------------------------------------------------------------------------------
19
<PAGE>
The Greater China Fund, Inc.
- ------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
continued
Note 4
PORTFOLIO SECURITIES
For U.S. federal income tax purposes, the cost of securities owned at
December 31, 1997 was $251,830,527. Accordingly, net unrealized depreciation
of $12,520,110 was composed of gross appreciation of $21,272,179 for those
securities having an excess of value over cost and gross depreciation of
$33,792,289 for those securities having an excess of cost over value.
For the year ended December 31, 1997, aggregate purchases and sales of
portfolio securities, excluding short-term securities, were $220,716,834 and
$257,414,420, respectively.
During the year ended December 31, 1997, the Fund utilized $4,829,037 of
capital loss carryforwards.
- -------------------------------------------------------------------------------
Note 5
CAPITAL STOCK
Of the 12,593,049 shares outstanding at December 31, 1997, the Investment
Manager owned 7,663 shares. There were no transactions in shares of common
stock for the year ended December 31, 1997.
Transactions in shares of common stock for the year ended December 31, 1996
were as follows:
<TABLE>
<CAPTION>
For the Year
Ended
December 31, 1996
-----------------
<S> <C>
Shares outstanding, beginning of period 9,589,377
----------
Shares issued resulting from dividend reinvestment 5,327
Shares issued in connection with rights offering 2,998,345
----------
Net increase in shares outstanding 3,003,672
----------
Shares outstanding, end of period 12,593,049
----------
----------
</TABLE>
- ------------------------------------------------------------------------------
20
<PAGE>
The Greater China Fund, Inc.
- ------------------------------------------------------------------------------
Note 6
CONCENTRATION OF RISK
The Fund may have elements of risk, not typically associated with investments
in the U.S., due to concentrated investments in specific industries or
investments in foreign issuers located in a specific country or region. Such
concentrations may subject the Fund to additional risks resulting from future
political or economic conditions in such country or region and the possible
imposition of adverse governmental laws of currency exchange restrictions
affecting such country or region, which could cause the securities and their
markets to be less liquid and prices more volatile than those of comparable
U.S. companies.
The Fund invests in fixed income securities issued by banks and other
corporations, the market values of which may change in response to interest
rate changes. The ability of the issuers of such fixed income securities to
meet their obligations may be affected by changing business and economic
conditions in a specific state, industry or region.
- -------------------------------------------------------------------------------
Note 7
RIGHTS OFFERING
During the year ended December 31, 1996, the Fund issued 2,998,345 shares in
connection with a rights offering of the Fund's shares. Shareholders of
record on April 15, 1996 were issued one non-transferable right for each
share of common stock owned, entitling shareholders the opportunity to
acquire one newly issued share of common stock for every four rights held at
a subscription price of $12.35 per share. Offering costs of $526,378 were
charged to paid-in capital in excess of par, including $100,000 paid to
PaineWebber, as partial reimbursement for its expenses as dealer manager.
Dealer manager and soliciting fees of $1,388,609 were netted against the
proceeds of the subscription. PaineWebber informed the Fund that they
received approximately $585,000 and $112,500 in dealer manager and soliciting
fees, respectively, in connection with its participation in the rights
offering.
- ------------------------------------------------------------------------------
21
<PAGE>
The Greater China Fund, Inc.
- ------------------------------------------------------------------------------
FINANCIAL HIGHLIGHTS
<TABLE>
<CAPTION>
For the
Year Ended
December 31, For the Year Ended December 31,
------- -------------------------------------
1997 1996 1995 1994 1993
------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
Net asset value, beginning of period $19.49 $14.52 $14.29 $23.79 $13.40
------- ------- ------- ------- -------
Income (Loss) From Investment Operations
Net investment income (loss) (0.09) 0.10* 0.20 0.12* 0.02
Net realized and unrealized gain (loss) on
investment and foreign currency transactions (2.32) 5.93* 0.29 (8.92)* 11.00
------- ------- ------- ------- -------
Total from investment operations (2.41) 6.03 0.49 (8.80) 11.02
------- ------- ------- ------- -------
Dividends and Distributions to Shareholders
From net investment income -- (0.09) (0.20) (0.09) (0.01)
In excess of net investment income (0.13) (0.03) -- -- --
From net realized gain on investments (3.49) -- (0.01) (0.06) (0.62)
In excess of net realized gain on investments -- -- (0.05) -- --
------- ------- ------- ------- -------
Total dividends and distributions to shareholders (3.62) (0.12) (0.26) (0.15) (0.63)
------- ------- ------- ------- -------
Fund Share Transactions
Dilutive effect of rights offering -- (0.89) -- (0.46) --
Offering costs charged to paid-in capital
in excess of par -- (0.05) -- (0.09) --
------- ------- ------- ------- -------
Total Fund share transactions -- (0.94) -- (0.55) --
------- ------- ------- ------- -------
Net asset value, end of period $13.46 $19.49 $14.52 $14.29 $23.79
------- ------- ------- ------- -------
------- ------- ------- ------- -------
Market value, end of period $10.88 $15.63 $14.13 $12.13 $26.75
------- ------- ------- ------- -------
------- ------- ------- ------- -------
Total Investment Return ** (7.29)% 15.53% 18.48% (52.01)% 122.01%
------- ------- ------- ------- -------
------- ------- ------- ------- -------
Ratios/Supplemental Data
Net assets, end of period (000 omitted) $169,518 $245,383 $139,246 $136,994 $160,783
Ratio of expenses to average net assets 1.88% 2.07% 2.36% 2.08% 2.22%
Ratio of net investment income (loss)
to average net assets (0.41)% 0.65% 1.39% 0.63% 0.11%
Portfolio turnover 82% 37% 32% 22% 31%
Average commission rate paid per share of common
stock investments purchased/sold $0.0023 $0.0015 -- -- --
* Based on average shares outstanding.
** Total investment return is calculated assuming a purchase of common stock
at the current market price on the first day, the purchase of common stock
pursuant to any rights offering occurring in the period, and a sale at the
current market price on the last day of each period reported. Dividends and
distributions, if any, are assumed, for purposes of this calculation, to be
reinvested at prices obtained under the Fund's dividend reinvestment plan. Total
investment return does not reflect sales charges or brokerage commissions.
Disclosure effective for fiscal years beginning on or after September 1, 1995.
</TABLE>
- ------------------------------------------------------------------------------
22
<PAGE>
The Greater China Fund, Inc.
- ------------------------------------------------------------------------------
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareholders and Board of Directors of
The Greater China Fund, Inc.
In our opinion, the accompanying statement of assets and liabilities, including
the portfolio of investments, and the related statements of operations and of
changes in net assets and the financial highlights present fairly, in all
material respects, the financial position of The Greater China Fund, Inc. (the
"Fund") at December 31, 1997, the results of its operations for the year then
ended, the changes in its net assets for each of the two years in the period
then ended and the financial highlights for each of the five years in the period
then ended, in conformity with generally accepted accounting principles. These
financial statements and financial highlights (hereafter referred to as
"financial statements") are the responsibility of the Fund's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these financial statements in accordance
with generally accepted auditing standards which require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates
made by management, and evaluating the overall financial statement presentation.
We believe that our audits, which included confirmation of securities at
December 31, 1997 by correspondence with the custodian, provide a reasonable
basis for the opinion expressed above.
Price Waterhouse LLP
1177 Avenue of the Americas
New York, New York
February 10, 1998
- ------------------------------------------------------------------------------
23
<PAGE>
The Greater China Fund, Inc.
- ------------------------------------------------------------------------------
DIVIDEND REINVESTMENT PLAN
Pursuant to the Fund's Dividend Reinvestment Plan (the "Plan"), each
shareholder will be deemed to have elected, unless PNC Bank, National
Association (the "Plan Agent") is otherwise instructed by the shareholder in
writing, to have all distributions, net of any applicable U.S. withholding
tax, automatically reinvested in additional shares of the Fund by the Plan
Agent. Shareholders who do not participate in the Plan will receive all
dividends and distributions in cash, net of any applicable U.S. withholding
tax, paid in dollars by check mailed directly to the shareholder by PNC Bank,
National Association, as dividend-paying agent. Shareholders who do not wish
to have dividends and distributions automatically reinvested should notify
the Plan Agent. Dividends and distributions with respect to shares registered
in the name of a broker-dealer or other nominee (in "street name") will be
reinvested under the Plan unless such service is not provided by the broker
or nominee or the shareholder elects to receive dividends and distributions
in cash. A shareholder whose shares are held by a broker or nominee that does
not provide a dividend reinvestment program may be required to have his
shares registered in his own name to participate in the Plan.
The Plan Agent serves as agent for the shareholders in administering the Plan.
If the Fund declares an income dividend or a capital gain distribution payable
either in the Fund's Common Stock or in cash, as shareholders may have elected,
non-participants in the Plan will receive cash and participants in the Plan will
receive Common Stock to be issued by the Fund. If the market price per share on
the valuation date equals or exceeds net asset value per share on that date, the
Fund will issue new shares to participants valued at net asset value, or if the
net asset value is less than 95% of the market price on the valuation date, then
valued at 95% of the market price. If net asset value per share on the valuation
date exceeds the market price per share on that date, the Plan Agent, as agent
for the participants, will buy shares of Common Stock on the open market.
The Plan Agent maintains all shareholder accounts in the Plan and furnishes
written confirmations of all transactions in the account, including information
needed by shareholders for personal and tax records. Shares in the account of
each Plan participant will be held by the Plan Agent in non-certificated form in
the name of the participant, and each shareholder's proxy will include those
shares purchased pursuant to the Plan.
There is no charge to participants for reinvesting dividends or capital gain
distributions. The Plan Agent's fee for handling the reinvestment of dividends
and distributions will be paid by the Fund. There will be no brokerage charge
with respect to shares issued directly by the Fund as a result of dividends or
capital gain distributions payable either in shares or in cash. However, each
participant will pay a pro rata share of brokerage commissions incurred with
respect to the Plan Agent's open market purchases in connection with the
reinvestment of dividends and distributions. The automatic reinvestment of
dividends and distributions will not relieve participants of any U.S. income tax
that may be payable on such dividends or distributions.
Experience under the Plan may indicate that changes are desirable. Accordingly,
the Fund and the Plan Agent reserve the right to terminate the Plan as applied
to any dividend or distribution paid subsequent to notice of the termination
sent to the members of the Plan at least 30 days before the record date for
dividends or distributions. The Plan also may be amended by the Fund or the Plan
Agent, but (except when necessary or appropriate to comply with applicable law,
rules or policies of a regulatory authority) only by at least 30 days' written
notice to members of the Plan. All correspondence concerning the Plan should be
directed to the Plan Agent c/o PNC Bank, National Association, 400 Bellevue
Parkway, Wilmington, Delaware 19809.
- ------------------------------------------------------------------------------
24
<PAGE>
The Greater China Fund, Inc.
- ------------------------------------------------------------------------------
OTHER INFORMATION
Since December 31, 1996, there have been no (i) material changes in the
Fund's investment objectives or policies, (ii) changes to the Fund's charter
or by-laws, (iii) material changes in the principal risk factors associated
with investment in the Fund and (iv) change in the person primarily
responsible for the day-to-day management of the Fund's portfolio.
- ------------------------------------------------------------------------------
25
