<PAGE>
ROYCE OTC
MICRO-CAP FUND
1st QUARTER REPORT
March 31, 1995
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Dear Stockholder:
What a difference a year makes . . . from rising interest rates and falling
stock prices to falling interest rates and rising stock prices. During the first
quarter of 1995, the S&P 500 reached an all-time high and had its best showing
in four years. The quarter also marked the largest performance differential
between large-cap and small-cap stocks in an up market since the second quarter
of 1987. Small-cap stocks, which outperformed in February, lagged their large
company counterparts in both January and March. This is highly unusual given
that small-cap stocks have historically posted strong absolute and relative
performance results in the month of January. While large-cap indices like the
Dow Jones Industrial Average and the S&P 500 were making new highs seemingly
daily, small stocks (as measured by the Russell 2000) were struggling to reach
their high made one year earlier. In spite of the solid first quarter showing,
the Russell 2000 remains 3.8% below its all-time high.
Contributing to the considerable rise in domestic equity prices, and in
particular those in the Dow Jones Industrial Average and S&P 500, was a major
correction in many emerging markets. Significant declines in foreign stock
markets, most notably Mexico, produced a 'flight to quality' back into domestic,
large-cap securities. This trend was further fueled by a rapid decline in the
U.S. dollar against the currencies of our non North American trading partners.
Larger-cap issues with global exposure stand to benefit from the enhanced export
opportunities and favorable foreign currency translations that a cheap dollar
produces.
For the quarter, the large-cap oriented S&P 500* was up 9.7%, while the
small-cap oriented Russell 2000* and S&P 600* were up 4.6% and 4.7%,
respectively. ROYCE OTC MICRO-CAP FUND, INC. ('OTCM') also enjoyed a strong
absolute quarter and finished ahead of both small-cap indices, UP 4.8% on an NAV
basis. As usual, our diversified portfolio contained its share of successes and
failures. Major positive contributions in the first quarter were made by core
holdings such as Diagnostic Products Corporation (+32%) and Dreco Energy
Services Ltd (+67%). On the other hand, major holdings in K-Swiss Inc (-24%) and
Thomaston Mills, Inc. (-17%) declined, producing an attractive opportunity for
further investment in each.
As to the viability of the small-cap cycle, in spite of last year's slow
returns and the current relative underperformance, it appears to be intact. We
do believe, however, that the next part of the cycle will be different. With the
major downward trend in interest rates behind us, the next phase will probably
include more down periods and a higher level of volatility. Risk management will
play a key role in this phase. We remain committed to reducing volatility and
expect the Fund's risk profile to be a real benefit in this next phase.
Our enthusiasm for the micro-cap sector remains strong.
Yours faithfully,
CHARLES M. ROYCE Jack E. Fockler, Jr.
Charles M. Royce W. Whitney George
President Vice Presidents
April 21, 1995
* The S&P 500, Russell 2000 and S&P Small Cap 600 are unmanaged indices and
include the reinvestment of dividends.
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FUND HIGHLIGHTS
<TABLE>
<CAPTION>
March 31, 1995
--------------
<S> <C>
Net Assets......................................... $86,435,131
Net Asset Value Per Share.......................... $7.94
Market Price Per Share............................. $6.875
Shares Outstanding................................. 10,886,317
</TABLE>
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TOTAL RETURN PERFORMANCE
<TABLE>
<CAPTION>
NAV Market Value S&P
Total Total S&P SmallCap Russell Nasdaq
Period Ended March 31, 1995 Return(a) Return(b) 500 600 2000 Composite
- --------------------------------------------------------- --------- ------------ ---- -------- ------- ---------
<S> <C> <C> <C> <C> <C> <C>
Three Months............................................. 4.8% -1.8% 9.7% 4.7% 4.6% 8.8%
One Year................................................. 10.1 7.6 15.6 5.3 5.5 10.8
From Inception*.......................................... 11.3 -6.7 12.6 3.5 6.2 9.4
</TABLE>
(a) Reflects the NAV experience of a continuous shareholder who reinvested all
distributions and who exercised all primary subscription rights.
(b) Reflects the market value experience of a continuous shareholder who
reinvested all distributions and who exercised all primary subscription
rights.
* Inception date -- 12/14/93
The S&P 500, S&P SmallCap 600 and Russell 2000 are unmanaged indices and include
the reinvestment of dividends. The Nasdaq Composite is unmanaged. Source: Frank
Russell Co.
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STATEMENT OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
Three Months Ended
March 31, 1995 Year Ended
(unaudited) December 31, 1994
------------------ -----------------
<S> <C> <C>
FROM INVESTMENT ACTIVITIES:
Net investment (loss) income.......................................... ($ 16,122) $ 156,686
Net realized gain on investments...................................... 1,255,000 229,922
Net change in unrealized appreciation on investments.................. 2,662,425 3,785,535
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Increase in net assets resulting from operations...................... 3,901,303 4,172,143
Dividends paid from net investment income............................. -- (216,571)
Distributions paid from net realized gains............................ -- (324,856)
FROM CAPITAL STOCK TRANSACTIONS:
Increase in net assets from capital stock transactions................ -- 7,776,860
------------------ -----------------
INCREASE IN NET ASSETS.................................................. 3,901,303 11,407,576
NET ASSETS:
Beginning of period................................................... 82,533,828 71,126,252
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End of period......................................................... $ 86,435,131 $82,533,828
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</TABLE>
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COMPOSITION OF NET ASSETS
<TABLE>
<CAPTION>
March 31, 1995 % of Net
(unaudited) Assets
------------------ -----------
<S> <C> <C>
Common Stocks........................................................... $ 84,725,803 98.0%
Preferred Stocks........................................................ 632,531 0.7
Cash and Other Assets Less Liabilities.................................. 1,076,797 1.3
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TOTAL NET ASSETS...................................................... $ 86,435,131 100.0%
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</TABLE>
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PORTFOLIO SUMMARY
The following information is provided as a 'bird's eye' view of the OTCM
portfolio.
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WEIGHTED AVERAGES
<TABLE>
<S> <C>
Market Cap (Total Portfolio) $142 Million
Median Market Cap (Total Portfolio) $92 Million
P/E Ratio (100 Largest Positions) 12.5x
P/B Ratio (100 Largest Positions) 1.5x
Portfolio Yield (100 Largest Positions) 1.4%
</TABLE>
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TOP TWENTY POSITIONS
<TABLE>
<CAPTION>
Market
Value
----------
<S> <C> <C>
1. Diagnostic Products Corporation........... $1,330,925
2. Florida Rock Industries, Inc. ............ 1,227,200
3. Grey Advertising Inc. .................... 1,131,000
4. Chemfab Corporation....................... 1,096,500
5. Kiddie Products, Inc. .................... 992,250
6. Lifetime Hoan Corporation................. 985,738
7. DUFF & PHELPS CREDIT RATING CO. .......... 976,650
8. Thomaston Mills, Inc. Cl. A............... 949,000
9. Dreco Energy Services Ltd. Cl. A.......... 943,500
10. Dionex Corporation........................ 941,850
11. The Dress Barn, Inc. ..................... 916,500
12. Garan Incorporated........................ 913,413
13. Cliffs Drilling Company................... 908,238
14. Offshore Logistics, Inc. ................. 884,000
15. Bell Industries, Inc. .................... 872,419
16. Exar Corporation.......................... 868,600
17. ALLIED Life Financial Corporation......... 866,663
18. Baldwin & Lyons, Inc. Cl. B............... 861,640
19. AMRESCO Holdings, Inc. ................... 861,413
20. Nobel Insurance Limited................... 859,575
----------
</TABLE>
<PAGE>
ROYCE OTC MICRO-CAP PHILOSOPHY
Royce OTC Micro-Cap Fund, Inc. ('OTCM') seeks long-term capital appreciation by
investing primarily in micro-capitalization companies traded in the
over-the-counter market.
OTCM focuses on micro-cap companies (those with market caps of $300 million or
less) that meet our valuation and pricing standards. Due to the sector's size
(over 5,600 companies) and liquidity considerations, very few institutions make
the universe a primary area of focus. Limited research and limited institutional
competition mean that micro-cap stocks are less well known and, therefore, less
likely to be understood and properly priced by investors. We believe that
micro-cap stocks today are what small-cap stocks were 10-15 years ago in terms
of return opportunity.
OTCM uses a strict fundamental approach and attempts to understand the private
worth of a business. We believe that we are buying part of a business, not just
a stock. The Fund has a preference for companies which provide high internal
rates of return, generate excess cash flow and have very little debt, if any.
OTCM attempts to purchase only the securities of those firms where price is
significantly under our appraisal of worth.
OTCM attempts to reduce the risks associated with micro-cap company ownership.
Company risk is lowered by investing in low leverage firms which generate excess
cash flow. Valuation risk is lowered by using strict pricing standards and
portfolio risk by investing in a wide range of companies and industries.
We believe that OTCM's emphasis on micro-cap companies, traded in the
over-the-counter market and selected using a disciplined value approach, results
in a unique combination capable of providing above average long-term results.
NOTE:
The Board of Directors of the Fund has authorized the Fund to repurchase up to
300,000 shares of its common stock in transactions through December 31, 1995.
Such repurchases would be effected at a price per share which is less than the
then current net asset value, but not in excess of the then prevailing market
price.
The Board of Directors of the Fund is authorized to offer stockholders an
opportunity to subscribe for additional shares of common stock of the Fund
through rights offerings at a price per share that may be less than the then
current net asset value of the Fund's common stock. The timing and terms of any
such offerings are left to the Board's discretion.
Royce OTC Micro-Cap Fund, Inc.
1414 Avenue of the Americas
New York, N.Y. 10019
800-221-4268
