REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Partners of
Zazove Convertible Fund, L.P.:
We have audited the accompanying balance sheet of ZAZOVE CONVERTIBLE
FUND L.P. (a Delaware limited partnership), including the schedule of
investments, as of December 31, 1997, and the related statements of
operations, and cash flows for the year then ended and the statements
of changes in partners' capital and financial highlights for each of
the two years in the period then ended. These financial statements
and financial highlights are the responsibility of the Managing General
Partner. Our responsibility is to express an opinion on these financial
statements and financial highlights based on our audit.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards 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. Our procedures included confirmation of
securities owned as of December 31, 1997, by correspondence with the
custodian and brokers. An audit also includes assessing the accounting
principles used and significant estimates made by the Managing General
Partner, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements and financial highlights
referred to above present fairly, in all material respects, the
financial position of Zazove Convertible Fund L.P. as of December 31,
1997, and the results of its operations and its cash flows for the
year then ended and the changes in its partners' capital and the
financial highlights for each of the two years in the period then
ended, in conformity with generally accepted accounting principles.
[Signature]
Arthur Andersen LLP
Chicago, Illinois
February 12, 1998
ZAZOVE CONVERTIBLE FUND L.P.
BALANCE SHEET
As of December 31, 1997
ASSETS
Investment securities, at market value--cost $42,027,676 (Note 1)
$37,723,134
Cash and cash equivalents
7,182
Receivables-
Dividends
30,504
Interest
440,556
Securities sold, not settled
547,162
Organizational costs (Note 1)
7,815
Total assets
$38,756,353
LIABILITIES AND PARTNERS' CAPITAL
Common stock sold short, at market value--proceeds $(206,118) (Note 8)
117,468
Payables-
Securities purchased, not settled
1,078,313
Margin account due to brokers
14,438
Accounting fees
16,500
Payable to adviser
1,455
Contributions held in advance
172,673
Other
7,838
Total liabilities
1,408,685
Partners' capital (Note 3)
General partners
386,698
Limited partners
36,960,970
Total partners' capital (net asset value)
37,347,668
Total liabilities and partners' capital
$38,756,353
Net asset value per unit (based on 2,424,991 units outstanding)
$15.40116
The accompanying notes to financial statements
are an integral part of this balance sheet.
ZAZOVE CONVERTIBLE FUND L.P.
SCHEDULE OF INVESTMENTS
December 31, 1997
Market
CONVERTIBLE BONDS-67%
Principal
Value
* APP Global Finance, 0.000%, due 11/18/12
$ 980,352
$ 972,000
** APP Global Finance, 2.000%, due 7/25/00
1,000,000
850,000
Aames Financial Corp., 5.500%, due 3/15/06
717,000
783,000
Advanced Agro Public Co., 3.500%, due 6/17/01
767,500
607,500
Altos Hornos De Mexico, 5.500%, due 12/15/01
460,000
472,500
American Residential Services, 7.250%, due 4/15/04
985,750
895,000
* Boston Chicken Inc., 0.000%, due 6/01/15
103,000
60,000
Capstone Capital Corp., 6.550%, due 3/14/02
632,100
704,375
Chock Full O'Nuts, 7.000%, due 4/01/12
95,713
122,400
Cityscape Financial Corp., 6.000%, due 5/01/06
1,216,500
221,000
** Cityscape Financial Group , 6.000%, due 5/01/06
1,422,415
195,500
Complete Management Inc., 8.000%, due 8/15/03
280,450
321,000
Corestaff Inc., 2.940%, due 8/15/04
923,901
925,375
DRS Technologies Inc., 9.000%, due 10/01/03
145,600
238,938
Emerson Radio, 8.500%, due 8/15/02
894,450
1,116,550
FPA Medical Management, 6.500%, due 12/15/01
609,100
595,225
** Family Golf Centers, 5.750%, due 10/15/04
750,000
793,125
** Fuisz Technologies Ltd., 7.000%, due 10/15/04
600,000
541,500
** General DataComm Industries Inc., 7.750%, due 9/30/02
1,000,000
930,000
** Gilat Satellite Networks, 6.500%, due 6/03/04
300,000
280,500
** Heartport Inc., 7.250%, due 5/01/04
900,000
877,500
** Hybridon Inc., 9.000%, due 4/01/04
500,000
285,000
Intevac Inc., 6.500%, due 3/01/04
500,000
397,500
** Inversiones y Representaciones SA, 4.500%, due 8/02/03
200,000
221,000
** Kellstrom, 5.750%, due 10/15/02
900,000
994,500
Mail-Well Inc., 5.000%, due 11/01/02
300,000
366,000
** New World Infrastructure , 5.000%, due 7/15/01
708,750
742,500
** North American Vaccine, 6.500%, due 5/01/03
500,000
534,375
** Omnicom Group Inc., 2.250%, due 1/06/13
1,000,000
1,070,000
** Plasma & Materials Tech, 7.125%, due 10/15/01
100,000
42,500
Reno Air, 9.000%, due 9/30/02
807,339
682,313
** SpaceHab Inc., 8.000%, due 10/15/07
250,000
253,750
System Software Assoc. Inc., 7.000%, due 9/15/02
650,000
572,000
Tel-Save Holdings, Inc., 4.500%, due 9/15/02
1,155,000
1,150,500
** Thermo Fibertek Inc., 4.500%, due 7/15/04
1,035,000
1,070,000
** Thermo Optek Inc., 5.000%, due 10/15/00
1,132,200
1,130,000
** Tingyi Holding Corp., 1.625%, due 7/17/02
250,000
182,500
U.S. Diagnostic Labs Inc., 9.000%, due 3/31/03
1,393,013
959,950
** U.S. Diagnostic Labs Inc., 6.500%, due 6/30/01
645,750
459,900
+ Westbridge Capital Corp, 7.500%, due 5/01/04
600,000
102,000
** World Airways, Inc., 8.000%, due 8/26/04
1,310,500
1,228,500
Total convertible bonds (cost--$28,721,382)
$24,947,776
CONVERTIBLE PREFERRED STOCK-28%
Shares
Value
** BTI CAP Trust , $3.25
20,000
$ 977,500
Banco Comerc Portugues, $4.000
12,000
891,000
** General Datacomm Industries, $2.25
25,000
393,750
** KTI Inc., $2.1875
44,000
1,677,500
** Kapson Senior Quarters, $2.00
30,000
896,250
Lab Corp of America (Class B) PIK, $4.250
34,583
1,599,464
Metromedia Int'l Group, Inc., $3.625
17,000
769,250
Network Imaging, $2.00
85,500
742,824
Phoenix Duff & Phelps (Class A), $1.500
8,000
229,000
Reno Air, $2.25
80,000
1,670,000
Walden Residential Prop (Class B), $2.29
24,000
708,000
Total convertible preferred stock (cost--$10,794,861)
10,554,538
OTHER-6%
Alliance Capital Management, L.P.
25,000
995,325
Audiovox Corporation
16,800
42,000
Oppenheimer Capital L.P.
25,050
757,762
Sunsource Inc.
9,750
230,958
Viacom, Class E
519,400
194,775
Total other (cost--$2,511,433)
2,220,820
Total investment securities (cost--$42,027,676)
37,723,134
COMMON STOCK SOLD SHORT-(.3)%
Heartport Inc.
(5,500)
(112,233)
Trikon Technologies Inc.
(5,000)
(5,235)
Total common stock sold short (proceeds--$206,118)
(117,468)
Other assets less liabilities-(.7)%
(257,998)
Partners capital-100%
$ 37,347,668
The above percentages were computed as a percentage of partners' capital.
* Nonincome producing.
** These securities are subject to contractual or legal restrictions on
their resale. At December 31, 1997, the value of these securities was
$16,627,650 representing 44.08% of investment securities at market value.
+ The interest payment that was due and payable on November 1, 1997 for
this bond was not paid.
The accompanying notes to financial statements are an integral part of
this statement.
ZAZOVE CONVERTIBLE FUND L.P.
STATEMENT OF OPERATIONS
For the Year Ended December 31, 1997
INVESTMENT INCOME:
Interest
$ 1,805,146
Dividends
777,405
Other
938
Total investment income
2,583,489
EXPENSES:
Management fees (Note 4)
672,021
Margin interest
181,051
Custodian fees
21,628
Director fees
6,000
Organizational expense
7,214
Accounting expense
20,000
Other
3,446
Total expenses
911,360
Net investment income
1,672,129
NET REALIZED AND UNREALIZED GAINS ON INVESTMENTS:
Net realized gain on investments
8,067,197
Net change in unrealized appreciation of investments
(6,523,009)
Net gains on investments
1,544,188
NET INCREASE IN PARTNERS' CAPITAL RESULTING FROM OPERATIONS
$ 3,216,317
The accompanying notes to financial statements
are an integral part of this statement.
ZAZOVE CONVERTIBLE FUND L.P.
STATEMENTS OF CHANGES IN PARTNERS' CAPITAL
For the Years Ended December 31, 1997 and 1996
1997
1996
OPERATIONS:
Net investment income
$ 1,672,129
$ 1,229,262
Net realized gain on investments
8,067,197
3,901,786
Net change in unrealized appreciation of investments
(6,523,009)
1,449,052
Net increase in partners' capital resulting from operations
3,216,317
6,580,100
PARTNERS' CAPITAL TRANSACTIONS:
Contributions
5,304,429
5,165,982
Withdrawals
(5,947,748)
(1,910,324)
Net contributions/(withdrawals)
(643,320)
3,255,658
Net increase in partners' capital
2,572,997
9,835,758
PARTNERS' CAPITAL, beginning of year
34,774,671
24,938,913
PARTNERS' CAPITAL, end of year
$37,347,668
$34,774,671
The accompanying notes to financial statements
are an integral part of these statements.
ZAZOVE CONVERTIBLE FUND L.P.
STATEMENT OF CASH FLOWS
For the Year Ended December 31, 1997
CASH FLOWS FROM OPERATING ACTIVITIES:
Net increase in partners' capital resulting from operations
$ 3,216,317
Adjustments to reconcile net increase in partners' capital
resulting from operations to cash provided by operating activities-
Net change in unrealized appreciation of investments
6,523,009
Net realized gain on investments
(8,067,197)
Increase in dividends receivable
(30,504)
Increase in interest receivable
(96,456)
Decrease in organizational costs
7,214
Increase in contributions held in advance
172,673
Decrease in adviser payable
(2,145)
Decrease in dividend expense payable
(5,817)
Decrease in accounting fees payable
(3,500)
Decrease in other payables
(34,503)
Net cash provided by operating activities
1,679,091
CASH FLOWS FROM INVESTING ACTIVITIES:
Cash received from-
Sale of investment securities
156,331,450
Common stock sold short
4,411,167
Securities sold in prior period, settled this period
966,744
Cash paid-
To purchase investment securities
(153,831,068)
To cover short sales
(5,693,710)
For securities purchased in prior period, settled this period
(2,278,569)
Net cash used in investing activities
(93,986)
CASH FLOWS FROM FINANCING ACTIVITIES:
Partners' contributions
5,304,429
Partners' withdrawals
(5,947,748)
Decrease in margin account due to brokers
(976,236)
Net cash provided by financing activities
(1,619,556)
NET DECREASE IN CASH AND CASH EQUIVALENTS
(34,451)
CASH AND CASH EQUIVALENTS, beginning of year
41,633
CASH AND CASH EQUIVALENTS, end of year
$7,182
The accompanying notes to financial statements
are an integral part of this statement.
ZAZOVE CONVERTIBLE FUND L.P.
NOTES TO FINANCIAL STATEMENTS
December 31, 1997
1. SIGNIFICANT ACCOUNTING POLICIES
Zazove Convertible Fund L.P., a Delaware limited partnership
(the "Partnership"), is registered under the Investment Company Act of
1940 as a nondiversified management investment company that
operates as a closed-end interval fund. The investment objective
of the Partnership is to maximize long-term appreciation and the
preservation of capital primarily through investments in convertible
debt and equity securities. Zazove Associates, L.L.C., is the
Partnership's Investment Advisor.
The following is a summary of significant accounting policies:
Security Valuations
Securities traded on national securities exchanges are valued at the
last reported sales price or, if there are no sales, at the mean
between the bid and ask prices. Securities traded over the counter
are valued at the average of the highest current independent bid and
lowest current independent offer reported upon the close of trading
at that day. If the market for a security exists predominantly through
a limited number of market makers, the security is valued by attaining
an independent bid and offer by at least two market makers in the
security and valuing the security at the mid-point of the quote that,
under the circumstances and in the good faith judgment of the Managing
General Partner, represents the fair value of the security. Securities
for which market quotations are not available are valued at a fair
value as determined in good faith by the Managing General Partner.
Cash and Cash Equivalents
For purposes of the statement of cash flows, cash and cash equivalents
include cash and money market investments. Total interest payments
during 1997 were $23,949.
Organizational Costs
Costs incurred by the Partnership in connection with its organization
and registration were $36,000. These costs are being charged ratably
against income over 60 months from commencement of operations by the
Partnership.
Other Policies
The accounts of the Partnership are kept on the accrual basis of
accounting. Security transactions are recorded on the trade date.
Realized gains or losses from sales of securities are determined on
the specific identification basis. Dividend income is recognized
on the ex dividend date. Interest income and expense are recognized
on the accrual basis.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results
could differ from those estimates.
2. GENERAL PARTNERS
The Partnership's business and affairs are managed by its General
Partners, which consist of the Managing General Partner and five
Director General Partners.
Managing General Partner
Zazove Convertible Management Limited Partnership, an Illinois
limited partnership that is an affiliate of the Investment Advisor
and is controlled by Gene T. Pretti, is responsible for the
supervision of the business and affairs of the Partnership. Except
for certain actions requiring the approval of the Partners or the
Director General Partners, the Managing General Partner has the power
and authority to take all actions that it deems necessary and
appropriate to pursue the Partnership's objective.
Director General Partners
Gene T. Pretti, Andrew J. Goodwin, III, Steven M. Kleiman, Jack L.
Hansen and Peter A. Lechman are the Partnership's Director General
Partners. The Managing General Partner must receive the approval
of the Director General Partners before taking any action on certain
major decisions (e.g., retaining the Partnership's investment advisor
and independent public accountant). Each of the three Director General
Partners who are not affiliated with the Investment Advisor received
$2,000 for their service to the Partnership in 1997.
3. CONTRIBUTIONS AND WITHDRAWALS
Capital contributions may be accepted as of the first business day
of each month, upon approval of the Managing General Partner. All
subscription funds received after the first business day of the month
will be added to the general funds of the Partnership at the beginning
of the following month.
Quarterly Repurchase Policy
On a quarterly basis, the Partnership offers to repurchase no less than
5% and no more than 25% of the Partnership's outstanding Units at the
then net asset value per Unit. Notice of the terms and conditions of
each quarterly repurchase offer are sent to the Partners in advance of the
offer. In the case of termination of the Partnership, distributions
to the Partners will be made in proportion to their respective Unit
ownership after the payment of all Partnership creditors.
4. MANAGEMENT ARRANGEMENTS
For 1997, Zazove Associates, L.L.C., the Partnership's Investment Advisor,
received a monthly management fee from the Partnership equal to .166%
(2% annualized rate) of the net asset value of the Partnership as of the
opening of business on the first business day of each month. The
management fee is reduced to .125% (1.5% annualized rate) for the
Partnership's net asset value in excess of $25,000,000.
5. EXPENSES
The Partnership bears all of the costs and expenses of its operations,
including the compensation of the Investment Advisor, reimbursement of
costs paid on its behalf by the Managing General Partner, fees for
professional services, fees and reimbursements paid to Director General
Partners, custodial fees, brokerage and other costs of portfolio
transactions, the cost of regulatory compliance, the costs associated
with maintaining the Partnership's legal existence and the costs
involved with communicating with the Limited Partners.
6. INCOME TAXES
No provision for federal income tax has been made because net income
of the Partnership is not taxable as such for federal income tax
purposes but is included in the income tax returns of the individual
partners.
7. INVESTMENT TRANSACTIONS
For the years ended December 31, 1997 and 1996, purchases of investment
securities (excluding short-term securities) were $160,603,091 and
$96,297,367, respectively, and proceeds from sales were $161,289,777
and $91,874,570, respectively. For federal income tax purposes, at
December 31, 1997, the gross unrealized depreciation on investments
was approximately $7,054,247, and the gross unrealized appreciation
was approximately $2,838,354. The cost of investments for federal
income tax purposes was approximately $42,027,676 at December 31, 1997.
8. OFF-BALANCE-SHEET RISK AND
CONCENTRATIONS OF CREDIT RISK
The Partnership may engage in the short sale of securities. Securities
sold short, not yet purchased, represent obligations of the Partnership
which result in off-balance-sheet risk as the ultimate obligation may
exceed the amount shown in the financial statements due to increases
in the market values of these securities. At December 31, 1997, the
market value of common stock sold short was $117,468. These short
positions are hedged positions and, as a result, any increase in the
Partnership's obligation related to these short positions will generally
be offset by gains in the related long convertible position.
At December 31, 1997, the three largest industry concentrations were as
follows (as a percentage of investment securities at market value):
Financial
10.9%
Air Transport
9.5
Medical Management Services
6.6
Since the Partnership does not clear its own investment transactions,
it has established an account with a brokerage firm for this purpose.
The resulting concentration of credit risk is mitigated by the broker's
obligation to comply with the rules and regulations of the Securities
Exchange Act of 1934. At December 31, 1997, the Partnership owed the
brokerage firm $14,438 for securities purchased on margin. The
Partnership held cash and cash equivalents of $7,182 and had a receivable
of $547,162 which could be used to effectively offset this margin balance.
The Partnership pays interest on any margin balance which is calculated as
the daily margin account balance times the broker's margin interest rate.
9. FINANCIAL HIGHLIGHTS
Per Unit Operating Performance
Year Ended December 31,
1997
1996
Net asset value per unit, beginning of period
$14.09
$11.29
Net investment income
.70
0.54
Net gains on investments (both realized and unrealized)
.61
2.26
Net asset value per unit, end of period
$15.40
$14.09
Total investment return
9.30%
24.80%
Ratios/Supplemental Data
Year ended December 31,1997
Year ended December 31,1996
Partners' capital, end of period
$ 37,347,668
$ 34,774,671
Ratio of expenses (excluding margin interest) to average partners' capital
2.00%
2.31%
Ratio of net investment income to average partners' capital
4.57%
4.51%
Portfolio turnover rate
405%
276%
Average commission rate paid
$ .0234
$ .0391
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