<PAGE>
PROSPECTUS
May 1, 1997
THE ENDEAVOR VARIABLE ANNUITY
Issued Through
AUSA ENDEAVOR VARIABLE ANNUITY ACCOUNT
by
AUSA LIFE INSURANCE COMPANY, INC.
The Endeavor Variable Annuity Policy is a Flexible Premium Variable Annuity
that is offered by AUSA Life Insurance Company, Inc. ("AUSA"). You can use the
Policy to accumulate funds for retirement or other long-term financial
planning purposes. You are generally not taxed on any earnings on amounts you
invest until you withdraw them or begin to receive annuity payments. The
Policy is a "variable" annuity because the value of your investments can go up
or down based on the performance of mutual fund portfolios that you select. It
is a flexible premium policy because after you purchase it you can generally
make additional investments of any amount of $50 or more, until the Annuity
Commencement Date when AUSA begins making annuity payments to you.
You have twelve investment options to choose from. They include these eleven
mutual fund portfolios:
TCW Managed Asset Allocation Dreyfus Small Cap Value Portfolio
Portfolio
Dreyfus U.S. Government Securities
TCW Money Market Portfolio Portfolio
T. Rowe Price International Stock
Portfolio Value Equity Portfolio
Opportunity Value Portfolio
T. Rowe Price Equity Income
Portfolio Enhanced Index Portfolio
WRL Growth Portfolio, managed by
T. Rowe Price Growth Stock Portfolio Janus Capital Corporation
YOU AS THE OWNER OF THE POLICY, BEAR THE ENTIRE INVESTMENT RISK FOR ALL
AMOUNTS THAT YOU ALLOCATE TO ANY OF THE MUTUAL FUNDS. THIS MEANS THAT YOU
COULD LOSE THE AMOUNT THAT YOU INVEST. But if the mutual fund shares increase
in value, then the value of your Policy will also increase.
The twelfth investment option is the Fixed Account. If you invest in one of
the alternatives offered in the Fixed Account, then AUSA guarantees to return
your investment with interest at rates that AUSA will declare from time to
time.
Of course, you can choose any combination of these investment options. You
can also transfer amounts among these options (subject to some restrictions).
LIKE ALL SECURITIES, THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED
BY THE SECURITIES AND EXCHANGE COMMISSION, NOR HAS THE SECURITIES AND EXCHANGE
COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
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You should only purchase a Policy as a long-term investment. However, you do
have access to all or some of the current Cash Value of your investments at
any time before the Annuity Commencement Date. But, if you do withdraw cash
from your Policy, there may be a surrender charge. You may also have to pay
income taxes on some or all of the amount you withdraw, and if you are under
the age 59 1/2 there may also be a tax penalty. Finally, there may be an
interest penalty if you make a premature withdrawal from the Fixed Account
(this is called an "Excess Interest Adjustment," and it could also result in
you earning extra interest). AUSA has the right to postpone withdrawals from
the Fixed Account.
Prospectuses for the mutual fund portfolios are attached to the back of this
Prospectus. This Prospectus and the mutual fund prospectuses give you vital
information about the Policies and the mutual funds. Please read them
carefully before you invest. Keep them for future reference.
PLEASE NOTE THAT THE POLICIES AND THE MUTUAL FUNDS: ARE NOT BANK DEPOSITS,
ARE NOT FEDERALLY INSURED, ARE NOT ENDORSED BY ANY BANK OR GOVERNMENT AGENCY
AND ARE NOT GUARANTEED TO ACHIEVE THEIR GOAL.
This Prospectus sets forth the information that a prospective purchaser
should consider before purchasing a Policy. A Statement of Additional
Information about the Policy and the Mutual Fund Account which has the same
date as this Prospectus has been filed with the Securities and Exchange
Commission and is incorporated herein by reference. The Statement of
Additional Information is available at no cost to any person requesting a copy
by writing AUSA at the Administrative and Service Office or by calling 1-800-
525-6205. The table of contents of the Statement of Additional Information is
included at the end of this Prospectus.
This Prospectus and the Statement of Additional Information generally
describe only the Policies and the Mutual Fund Account, except when the Fixed
Account is specifically mentioned.
Service Office
Financial Markets Division--Variable Annuity Department
AUSA Life Insurance Company, Inc.
4333 Edgewood Road, N.E.
Cedar Rapids, Iowa 52499-0001
Administrative Office
AUSA Life Insurance
Company, Inc.
666 Fifth Avenue, 25th Floor
New York, NY 10103
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<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
DEFINITIONS................................................................ 5
SUMMARY.................................................................... 8
CONDENSED FINANCIAL INFORMATION............................................ 19
FINANCIAL STATEMENTS....................................................... 20
HISTORICAL PERFORMANCE DATA................................................ 20
Standardized Performance Data............................................ 20
TCW Money Market Subaccount.............................................. 21
Other Subaccounts........................................................ 21
Hypothetical Performance Data of Subaccounts............................. 22
Opportunity Value and Equity Index Portfolios............................ 23
Non-Standardized Performance Data........................................ 23
PUBLISHED RATINGS.......................................................... 24
AUSA LIFE INSURANCE COMPANY, INC. ......................................... 24
THE ENDEAVOR ACCOUNTS...................................................... 25
The Mutual Fund Account.................................................. 25
The Fixed Account........................................................ 29
Transfers................................................................ 30
Dollar Cost Averaging.................................................... 31
Reinstatements........................................................... 32
THE POLICY................................................................. 32
Policy Application and Issuance of Policies.............................. 32
Premium Payments......................................................... 33
Policy Value............................................................. 34
Non-participating Policy................................................. 35
Amendments............................................................... 35
DISTRIBUTIONS UNDER THE POLICY............................................. 35
Surrenders............................................................... 35
Systematic Withdrawal Plan............................................... 36
Annuity Payments......................................................... 37
Annuity Commencement Date.............................................. 37
Election of Payment Option............................................. 37
Premium Tax............................................................ 38
Supplementary Policy................................................... 38
Annuity Payment Options.................................................. 38
Death Benefit............................................................ 42
Death of Annuitant Prior to Annuity Commencement Date.................. 42
Death of Annuitant On or After Annuity Commencement Date............... 43
Beneficiary............................................................ 43
Death of Owner........................................................... 44
Restrictions Under Section 403(b) Plans.................................. 44
Restrictions under Qualified Policies.................................... 44
</TABLE>
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<TABLE>
<CAPTION>
PAGE
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<S> <C>
CHARGES AND DEDUCTIONS..................................................... 44
Contingent Deferred Sales Charge......................................... 45
Mortality and Expense Risk Fee........................................... 45
Administrative Charges................................................... 46
Premium Taxes............................................................ 47
Federal, State and Local Taxes........................................... 47
Transfer Charge.......................................................... 47
Other Expenses Including Investment Advisory Fees........................ 47
Employee and Agent Purchases............................................. 48
CERTAIN FEDERAL INCOME TAX CONSEQUENCES.................................... 48
Tax Status of the Policy................................................. 49
Taxation of Annuities.................................................... 49
DISTRIBUTOR OF THE POLICIES................................................ 54
VOTING RIGHTS.............................................................. 55
LEGAL PROCEEDINGS.......................................................... 55
STATEMENT OF ADDITIONAL INFORMATION........................................ 56
</TABLE>
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<PAGE>
DEFINITIONS
Accumulation Unit--An accounting unit of measure used in calculating the
Policy Value.
Administrative Office--666 Fifth Avenue, 25th Floor, New York, New York
10103.
Annuitant--The person entitled to receive Annuity Payments after the Annuity
Commencement Date and during whose life any Annuity Payments involving life
contingencies will continue.
Annuity Commencement Date--The date upon which Annuity Payments are to
commence.
Annuity Payment Option or Payment Option--A method of receiving a stream of
Annuity Payments.
Annuity Purchase Value--An amount equal to the Policy Value for the
Valuation Period which ends immediately preceding the Annuity Commencement
Date reduced by any applicable premium or similar taxes.
Annuity Unit--An accounting unit of measure used in the calculation of the
amount of the second and each subsequent Variable Annuity Payment.
AUSA--AUSA Life Insurance Company, Inc., the issuer of the Policies.
Beneficiary--Before the Annuity Commencement Date, the person to whom the
death proceeds will be paid if the Annuitant, who is also the owner, dies.
After the Annuity Commencement Date, the person to whom payments will be made
if the Annuitant dies. In the event the Annuitant, who is not the Owner, dies
prior to the Annuity Commencement Date, the Owner will become the Annuitant
unless the Owner specifically requests on the application or in writing that
the death benefit be paid upon the Annuitant's death and AUSA agrees to such
an election.
Business Day--A day when the New York Stock Exchange is open for business.
Cash Value--The Policy Value less the Contingent Deferred Sales Charge, if
any.
Code--The Internal Revenue Code of 1986, as amended.
Current Interest Guarantee--AUSA's guarantee to pay a declared Current
Interest Rate on amounts under a Policy allocated to the Fixed Account. A
particular Current Interest Guarantee will be in effect for at least one year.
Current Interest Guarantee Period--The period during which a Current
Interest Guarantee is in effect.
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<PAGE>
Current Interest Rate--The interest rate currently guaranteed to be paid on
amounts under a Policy allocated to the Fixed Account. This interest rate on a
Policy sold pursuant to this Prospectus will always equal or exceed a minimum
of 4%.
Date of Issue--The date the Policy is issued, as shown on the Policy
Schedule Page.
Due Proof of Death--A certified copy of a death certificate, a certified
copy of a decree of a court of competent jurisdiction as to the finding of
death, a written statement by the attending physician, or any other proof
satisfactory to AUSA will constitute Due Proof of Death.
Fixed Account--All of the assets of AUSA that are not in separate accounts.
Fixed Annuity Payments--Payments made pursuant to an Annuity Payment Option
which do not fluctuate in amount.
Investment Options--The Fixed Account and any of the Subaccounts of the
Mutual Fund Account.
Mutual Fund Account--The AUSA Endeavor Variable Annuity Account, a separate
account established and registered as a unit investment trust under the
Investment Company Act of 1940 to which Premium Payments under the Policies
may be allocated and which invests in the WRL Growth Portfolio of the WRL
Series Fund, Inc., and the Endeavor Series Trust.
Nonqualified Policy--A Policy other than a Qualified Policy.
Policy--One of the variable annuity policies offered by this Prospectus.
Policy Anniversary--Each anniversary of the Date of Issue.
Policy Owner or Owner--The person who may exercise all rights and privileges
under the Policy. The Policy Owner during the lifetime of the Annuitant and
prior to the Annuity Commencement Date is the person designated as the Policy
Owner in the application or a Successor Owner; the Policy Owner on and after
the Annuity Commencement Date is the Annuitant; and the Policy Owner after the
death of the Annuitant who is also the Owner (unless the Owner has elected in
writing that the death benefit be paid upon the Annuitant's death and AUSA
agrees to such an election), is the Beneficiary.
Policy Value--The sum of the value of all Accumulation Units credited to a
Policy for any particular Valuation Period in the Mutual Fund Account, plus
the value in the Fixed Account.
Policy Year--A Policy Year begins on the Date of Issue and each anniversary
of the Date of Issue.
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<PAGE>
Premium Payment--An amount paid to AUSA by the Policy Owner or on the Policy
Owner's behalf as consideration for the benefits provided by the Policy.
Qualified Policy--A Policy issued in connection with retirement plans that
qualify for special Federal income tax treatment.
Service Office--Financial Markets Division--Variable Annuity Dept., 4333
Edgewood Road N.E., Cedar Rapids, IA 52499.
Subaccount--A segregated account within the Mutual Fund Account which
invests in a specified Portfolio of the Underlying Funds.
Successor Policy Owner--A person appointed by the Policy Owner to succeed to
ownership of the Policy in the event of the death of the Policy Owner who is
not the Annuitant before the Annuity Commencement Date.
Underlying Funds--The WRL Growth Portfolio of the WRL Series Fund, Inc.,
managed by Janus Capital Corporation, and the Endeavor Series Trust.
Valuation Period--The period of time from one determination of Accumulation
Unit and Annuity Unit values to the next subsequent determination of values.
Such determination shall be made on each Business Day.
Variable Annuity Payments--Payments made pursuant to an Annuity Payment
Option which fluctuate as to dollar amount or payment term in relation to the
investment performance of the specified Subaccounts within the Mutual Fund
Account.
Written Notice or Request--Written notice, signed by the Policy Owner, that
gives AUSA the information it requires and is received at the Service Office.
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<PAGE>
THE ENDEAVOR VARIABLE ANNUITY
SUMMARY
THE POLICY
The Endeavor Variable Annuity is a Flexible Premium Variable Annuity which
can be purchased on a non-tax qualified basis ("Nonqualified Policy") or with
the proceeds from certain plans qualifying for favorable federal income tax
treatment ("Qualified Policy"). The Owner allocates the Premium Payments among
the two Endeavor Accounts of AUSA Life Insurance Company, Inc. ("AUSA"): the
AUSA Endeavor Variable Annuity Account (the "Mutual Fund Account") and the
Fixed Account.
THE ACCOUNTS
The Mutual Fund Account. The Mutual Fund Account is a separate account of
AUSA, which invests exclusively in shares of the ten portfolios of the
Endeavor Series Trust, and the Growth Portfolio of the WRL Series Fund, Inc.
(collectively, the "Underlying Funds"). The Endeavor Series Trust is a mutual
fund managed by Endeavor Investment Advisers, a general partnership between
Endeavor Management Co. and AUSA Financial Markets, Inc. (an affiliate of
AUSA), which contracts with several subadvisers (as described in a separate
prospectus that accompanies this Prospectus) for investment advisory services.
The WRL Growth Portfolio is a portfolio within the WRL Series Fund, Inc. The
WRL Series Fund, Inc. is a mutual fund whose investment adviser is WRL
Investment Management, Inc., a subsidiary of Western Reserve Life Assurance
Co. of Ohio ("Western Reserve"), (an affiliate of AUSA). WRL Investment
Management, Inc. contracts with Janus Capital Corporation as a sub-adviser to
the WRL Growth Portfolio for investment advisory services.
The Underlying Funds currently have eleven Portfolios: the WRL Growth
Portfolio, managed by Janus Capital Corporation; the TCW Managed Asset
Allocation Portfolio; the TCW Money Market Portfolio; the T. Rowe Price
International Stock Portfolio; the Value Equity Portfolio; the Dreyfus Small
Cap Value Portfolio; the Dreyfus U.S. Government Securities Portfolio; the T.
Rowe Price Equity Income Portfolio; the T. Rowe Price Growth Stock Portfolio;
the Opportunity Value Portfolio; and the Enhanced Index Portfolio. Each of the
eleven Subaccounts of the Mutual Fund Account invests solely in a
corresponding Portfolio of the Underlying Funds. Because the Policy Value may
depend on the investment experience of the selected Subaccounts, the Owner
bears the entire investment risk with respect to Premium Payments allocated
to, and amounts transferred to, the Mutual Fund Account. (See "The Mutual Fund
Account," p. 25.)
The Fixed Account. The Fixed Account guarantees safety of principal and a
minimum 4% return on Premium Payments allocated to, and amounts transferred
to, the Fixed Account. AUSA may, in its sole discretion, declare a higher
Current Interest Rate. A Current Interest Rate is guaranteed for at
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least one year. (See "The Fixed Account," p. 29.)
PREMIUM PAYMENTS
A Nonqualified Policy may be purchased with an initial Premium Payment of at
least $5,000, and a Qualified Policy generally may be purchased with an
initial Premium Payment of at least $1,000, but a Policy purchased and used in
connection with a Tax Deferred 403(b) Annuity may be purchased with an initial
Premium Payment of at least $50. An Owner may make additional Premium Payments
of at least $500 each under either a Nonqualified Policy or a Qualified
Policy, or $50 each under a Policy used in connection with a Tax Deferred
403(b) Annuity, at any time before the Annuity Commencement Date. There is
nothing deducted from Premium Payments, so all funds are invested immediately.
(But see "Contingent Deferred Sales Charge," p. 45.)
On the Date of Issue, the initial Premium Payment is allocated among the
Investment Options (that is, among the Fixed Account and/or the Subaccounts of
the Mutual Fund Account) in accordance with the allocation percentages
specified by the Owner in the Policy application. Any allocation must be in
whole percents, and the total allocation must equal 100%. Allocations for
additional Premium Payments may be changed by sending Written Notice to AUSA's
Service Office. (See "Premium Payments," p. 33.)
TRANSFERS
An Owner can transfer Policy Values from one Account or Subaccount to
another Account or Subaccount prior to the Annuity Commencement Date, with
certain limitations. The minimum amount which may be transferred is the lesser
of $500 or the entire Fixed Account or Subaccount Value. However, following a
transfer out of a particular Fixed Account or Subaccount, at least $500 must
remain in that Fixed Account or Subaccount. Transfers out of the Mutual Fund
Account currently may be made as often as the Owner wishes by sending Written
Notice to the Service Office.
For Policies issued under endorsement AE877 695, (after June, 1996),
transfers from the One Year Fixed Account (see "The Fixed Account", p. 29),
except through Dollar Cost Averaging, are not allowed. In addition, transfers
from the Three Year Fixed Account are subject to a yearly limit equal to the
greater of 25% of the current policy value in the Three Year Fixed Account, or
the amount transferred out of the Three Year Fixed Account during the prior
Policy Year.
A charge may be imposed for any transfers in excess of 12 per Policy Year,
but currently there is no charge for any transfers. (See "Transfers," p. 30.)
SURRENDERS
The Owner may elect to surrender all or a portion of the Cash Value ($500
minimum) in exchange for a cash withdrawal payment from AUSA at
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<PAGE>
anytime prior to the earlier of the Annuitant's death or the Annuity
Commencement Date. The Cash Value equals the Policy Value less any applicable
Contingent Deferred Sales Charge (described below). A surrender request must
be made by Written Request, and a request for a partial surrender must specify
the Accounts or Subaccounts from which the withdrawal is requested. There is
currently no limit on the frequency or timing of withdrawals. (See
"Surrenders," p. 35.) In addition to the Contingent Deferred Sales Charge and
any applicable premium taxes, surrenders may be subject to income taxes and a
10% tax penalty.
CHARGES AND DEDUCTIONS
Contingent Deferred Sales Charge. In order to permit investment of the
entire Premium Payment, AUSA does not deduct sales or other charges at the
time of investment. However, a Contingent Deferred Sales Charge of up to 7% of
the amount withdrawn is imposed on certain full or partial withdrawals of
Premium Payments in order to cover expenses relating to the sale of the
Policies. The applicable Contingent Deferred Sales Charge is based on the
number of Policy Years that have elapsed since the Premium Payment that is
being withdrawn was made, and there will be no Contingent Deferred Sales
Charge imposed seven or more Policy Years after the Premium Payment(s) was
paid. For purposes of determining the applicable Contingent Deferred Sales
Charge, Premium Payments are considered to be withdrawn on a "first in--first
out" basis. (See "Contingent Deferred Sales Charge," p. 45.) After the first
Policy Year, up to 10% of the Policy Value may be withdrawn without a
Contingent Deferred Sales Charge if it is the first withdrawal in the Policy
Year. Amounts applied to provide Annuity Payments, if applied during the first
five Policy Years and applied under certain Payment Options, may also be
subject to a Contingent Deferred Sales Charge. (See "Surrenders," p. 35.)
Account Charges. AUSA deducts a daily charge equal to a percentage of the
net assets in the Mutual Fund Account for the mortality and expense risks
assumed by AUSA. The effective annual rate of this charge is 1.25% of the
value of the Account's net assets. (See "Mortality and Expense Risk Fee," p.
45.)
AUSA also deducts a daily Administrative Charge from the net assets of the
Mutual Fund Account to partially cover expenses incurred by AUSA in connection
with the administration of the Account and the Policies. The effective annual
rate of this charge is currently .15% of the value of each Account's net
assets. This charge is guaranteed never to exceed .30% during the term of the
Policy. (See "Administrative Charges," p. 46.)
The account charges for mortality and expense risks and administrative
expenses are guaranteed not to exceed their current level of a total of 1.40%
during the term of the Policy.
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Policy Charges. There is also an annual Service Charge each year for Policy
maintenance and related administrative expenses prior to the Annuity
Commencement Date. This charge is the lesser of 2% of the Policy Value or $35
per year and is deducted only from the Mutual Fund Account. For Policies
issued under Endorsement AE877 695 (after June, 1996), this charge is waived
if the sum of the Premium Payments made less the sum of all partial
withdrawals is at least $50,000 on the Policy Anniversary. THIS CHARGE WILL
NOT BE INCREASED DURING THE TERM OF THE POLICY. (See "Administrative Charges,"
p. 46.)
Taxes. AUSA may incur premium taxes relating to the Policies. When permitted
by state law, AUSA will not deduct any premium taxes related to a particular
Policy from the Policy Value until the later of the date of payment of the
death proceeds, the withdrawal of all Policy Value, or the Annuity
Commencement Date. (See "Premium Taxes," p. 47.)
No charges are currently made against any of the Accounts for federal,
state, or local income taxes. Should AUSA determine that any such taxes may be
imposed with respect to any of the Accounts, AUSA may deduct such taxes from
amounts held in the relevant Account. (See "Federal, State and Local Taxes,"
p. 47.)
Charges Against the Underlying Funds. The value of the net assets of the
Subaccounts of the Mutual Fund Account will reflect the investment advisory
fee and other expenses incurred by the Underlying Funds. Those fees and
expenses are detailed in the prospectuses for the Underlying Funds that
accompany this Prospectus.
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Expense Data. The charges and deductions are summarized in the following
tables. This tabular information regarding expenses assumes that the entire
Policy Value is in the Mutual Fund Account.
<TABLE>
<CAPTION>
DREYFUS
TCW T. ROWE U.S.
TCW MANAGED PRICE DREYFUS GOVERNMENT
MONEY ASSET INTERNATIONAL VALUE SMALL CAP SECURITIES
MARKET ALLOCATION STOCK EQUITY VALUE PORTFOLIO
------ ---------- ------------- ------ --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Policy Owner Transaction
Expenses
Sales Load(/1/) On Pur-
chase Payments........ 0 0 0 0 0 0
Maximum Surrender
Charge (as a % of Pre-
mium Payment Surren-
dered)(/2/)........... 7 7 7 7 7 7
Surrender Fees......... 0 0 0 0 0 0
Annual Service
Charge(/1/)........... $35 Per Policy
-----------------------------------------------------
Transfer Fee(/1/)...... Currently no fee
-----------------------------------------------------
Mutual Fund Account An-
nual Expenses (as a
percentage of account
value)
Mortality and Expense
Risk Fees............. 1.25 1.25 1.25 1.25 1.25 1.25
Administrative Charge.. 0.15 0.15 0.15 0.15 0.15 0.15
Total Mutual Fund Ac-
count Annual Ex-
penses................ 1.40 1.40 1.40 1.40 1.40 1.40
Underlying Funds Annual
Expenses(/3/) (as a
percentage of average
net assets and after
expense reimbursements)
Management Fees........ 0.50 0.75 0.90 0.80 0.80 0.65
Other Expenses......... 0.10 0.10 0.28 0.11 0.12 0.17
Total Underlying Funds
Annual
Expense(/3/)(/4/)..... 0.60 0.85 1.18 0.91 0.92 0.82
</TABLE>
<TABLE>
<CAPTION>
T. ROWE T. ROWE
PRICE PRICE
EQUITY GROWTH OPPORTUNITY ENHANCED WRL
INCOME STOCK VALUE INDEX GROWTH
------- ------- ----------- -------- ------
<S> <C> <C> <C> <C> <C>
Policy Owner Transaction Ex-
penses
Sales Load On Purchase Pay-
ments(/1/).................. 0 0 0 0 0
Maximum Surrender Charge (as
a % of Premium Payment
Surrendered)(/2/)........... 7 7 7 7 7
Surrender Fees............... 0 0 0 0 0
Annual Service Charge(/1/)... $35 Per Policy
-----------------------------------------------
Transfer Fee(/1/)............ Currently no fee
-----------------------------------------------
Mutual Fund Account Annual
Expenses
(as a percentage of account
value)
Mortality and Expense Risk
Fees........................ 1.25 1.25 1.25 1.25 1.25
Administrative Charge........ 0.15 0.15 0.15 0.15 0.15
Total Mutual Fund Account
Annual Expenses............. 1.40 1.40 1.40 1.40 1.40
Underlying Funds Annual
Expenses(/3/) (as a
percentage of average net
assets and after expense
reimbursements)
Management Fees.............. 0.80 0.80 0.80 0.75 0.80
Other Expenses............... 0.16 0.21 0.50 0.55 0.08
Total Underlying Funds
Annual Expenses(/3/)(/4/)... 0.96 1.01 1.30 1.30 0.88
</TABLE>
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/1/The Contingent Deferred Sales Charge and Transfer Fee, if any is imposed,
apply to each Policy, regardless of how Policy Value is allocated among the
Mutual Fund Account and the Fixed Account. The Annual Service Charge and
Mutual Fund Account Annual Expenses do not apply to the Fixed Account. The
Service Charge is deducted on each Policy Anniversary before the Annuity
Commencement Date. (See "Other Expenses Including Investment Advisory
Fees," p. 47.)
/2/The Surrender Charge is decreased based on the number of Policy Years since
the Premium Payment date in which the withdrawal is made, from 7% in the
first Policy Year since the Premium Payment date to 0% in the eighth Policy
Year since the Premium Payment date.
/3/Endeavor Investment Advisers has agreed, until terminated by Endeavor
Investment Advisers, to assume expenses of the Portfolios that exceed the
following rates: TCW Money Market--0.99%; TCW Managed Asset Allocation--
1.25%; T. Rowe Price International Stock--1.53%; Value Equity--1.30%;
Dreyfus Small Cap Value--1.30%; Dreyfus U.S. Government Securities--1.00%;
T. Rowe Price Equity Income 1.30%; T. Rowe Price Growth Stock--1.30%;
Opportunity Value--1.30%; Enhanced Index--1.30%. Amounts shown for the
Enhanced Index Portfolios are estimated for 1997. During 1996, Endeavor
Investment Advisers waived fees relative to, or reimbursed, the Opportunity
Value Portfolio. The annualized operating expense ratio before
waiver/reimbursement by Endeavor Investment Advisers for the period ended
December 31, 1996, was 12.69%. The fee table information relating to the
Underlying Funds was provided to AUSA by the Underlying Funds, and AUSA has
not independently verified such information.
/4/Effective January 1, 1997, the WRL Series Fund, Inc. has adopted a Plan of
Distribution pursuant to Rule 12b-1 under the Investment Company Act of
1940 (the "1940 Act") ("Distribution Plan") and pursuant to the
Distribution Plan, has entered into a Distribution Agreement with
InterSecurities, Inc. ("ISI"), principal underwriter for the WRL Series
Fund, Inc. Under the Distribution Plan, the WRL Series Fund, Inc., on
behalf of the WRL Growth Portfolio, is authorized to pay to various service
providers, as direct payment for expenses incurred in connection with the
distribution of the Portfolio's shares, amounts equal to actual expenses
associated with distributing the Portfolio's shares, up to a maximum rate
of 0.15% (fifteen one-hundredths of one percent) on an annualized basis of
the average daily net assets. This fee is measured and accrued daily and
paid monthly. ISI has determined that it will not seek payment by the WRL
Series Fund, Inc. of distribution expenses with respect to any portfolio
(including the WRL Growth Portfolio) during the fiscal year ending December
31, 1997. Owners will be notified in advance prior to ISI's seeking such
reimbursement.
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Examples
I. An Owner would pay the following expenses on a $1,000 investment, assuming
5% Annually Compounding Death Benefit or Annual Step-Up Death Benefit, a
hypothetical 5% annual return on assets, and assuming the entire Policy Value
is in the applicable Subaccount:
1. If the Policy is surrendered at the end of the applicable time period:*
<TABLE>
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C> <C>
TCW Money Market Portfolio..................... $91 $109 $136 $237
TCW Managed Asset Allocation Portfolio......... $93 $116 $149 $263
T. Rowe Price International Stock Portfolio.... $97 $126 $166 $296
Value Equity Portfolio......................... $94 $118 $152 $269
Dreyfus Small Cap Value Portfolio.............. $94 $118 $153 $270
Dreyfus U.S. Government Securities Portfolio... $93 $115 $148 $260
T. Rowe Price Equity Income Portfolio.......... $94 $119 $155 $274
T. Rowe Price Growth Stock Portfolio........... $95 $121 $157 $279
Opportunity Value Portfolio.................... $98 $130 $172 $307
Enhanced Index Portfolio....................... $98 $130 $172 $307
WRL Growth Portfolio........................... $94 $117 $151 $266
2. If the Policy is annuitized at the end of the applicable time period:
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C> <C>
TCW Money Market Portfolio..................... $21 $ 64 $110 $237
TCW Managed Asset Allocation Portfolio......... $23 $ 72 $123 $263
T. Rowe Price International Stock Portfolio.... $27 $ 81 $139 $296
Value Equity Portfolio......................... $24 $ 73 $126 $269
Dreyfus Small Cap Value Portfolio.............. $24 $ 74 $126 $270
Dreyfus U.S. Government Securities Portfolio... $23 $ 71 $121 $260
T. Rowe Price Equity Income Portfolio.......... $24 $ 75 $128 $274
T. Rowe Price Growth Stock Portfolio........... $25 $ 76 $131 $279
Opportunity Value Portfolio.................... $28 $ 85 $145 $307
Enhanced Index Portfolio....................... $28 $ 85 $145 $307
WRL Growth Portfolio........................... $24 $ 72 $124 $266
3. If the Policy is not surrendered or annuitized:
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C> <C>
TCW Money Market Portfolio..................... $21 $ 64 $110 $237
TCW Managed Asset Allocation Portfolio......... $23 $ 72 $123 $263
T. Rowe Price International Stock Portfolio.... $27 $ 81 $139 $296
Value Equity Portfolio......................... $24 $ 73 $126 $269
Dreyfus Small Cap Value Portfolio.............. $24 $ 74 $126 $270
Dreyfus U.S. Government Securities Portfolio... $23 $ 71 $121 $260
T. Rowe Price Equity Income Portfolio.......... $24 $ 75 $128 $274
T. Rowe Price Growth Stock Portfolio........... $25 $ 76 $131 $279
Opportunity Value Portfolio.................... $28 $ 85 $145 $307
Enhanced Index Portfolio....................... $28 $ 85 $145 $307
WRL Growth Portfolio........................... $24 $ 72 $124 $266
</TABLE>
- 14 -
<PAGE>
II. An Owner would pay the following expenses on a $1,000 investment, assuming
Return of Premium Death Benefit, a hypothetical 5% annual return on assets, and
assuming the entire Policy Value is in the applicable Subaccount:
1. If the Policy is surrendered at the end of the applicable time period:*
<TABLE>
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C> <C>
TCW Money Market Portfolio..................... $89 $104 $129 $221
TCW Managed Asset Allocation Portfolio......... $92 $112 $142 $247
T. Rowe Price International Stock Portfolio.... $95 $122 $158 $281
Value Equity Portfolio......................... $92 $113 $145 $254
Dreyfus Small Cap Value Portfolio.............. $92 $114 $145 $255
Dreyfus U.S. Government Securities Portfolio... $91 $111 $140 $244
T. Rowe Price Equity Income Portfolio.......... $93 $115 $147 $259
T. Rowe Price Growth Stock Portfolio........... $93 $116 $150 $264
Opportunity Value Portfolio.................... $96 $125 $164 $293
Enhanced Index Portfolio....................... $96 $125 $164 $293
WRL Growth Portfolio........................... $92 $113 $143 $250
2. If the Policy is annuitized at the end of the applicable time period:
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C> <C>
TCW Money Market Portfolio..................... $19 $ 59 $102 $221
TCW Managed Asset Allocation Portfolio......... $22 $ 67 $115 $247
T. Rowe Price International Stock Portfolio.... $25 $ 77 $132 $281
Value Equity Portfolio......................... $22 $ 69 $118 $254
Dreyfus Small Cap Value Portfolio.............. $22 $ 69 $119 $255
Dreyfus U.S. Government Securities Portfolio... $21 $ 66 $113 $244
T. Rowe Price Equity Income Portfolio.......... $23 $ 70 $121 $259
T. Rowe Price Growth Stock Portfolio........... $23 $ 72 $123 $264
Opportunity Value Portfolio.................... $26 $ 81 $138 $293
Enhanced Index Portfolio....................... $26 $ 81 $138 $293
WRL Growth Portfolio........................... $22 $ 68 $117 $250
</TABLE>
- 15 -
<PAGE>
3. If the Policy is not surrendered or annuitized:
<TABLE>
<CAPTION>
1 YEAR 3 YEARS 5 YEARS 10 YEARS
------ ------- ------- --------
<S> <C> <C> <C> <C>
TCW Money Market Portfolio..................... $19 $59 $102 $221
TCW Managed Asset Allocation Portfolio......... $22 $67 $115 $247
T. Rowe Price International Stock Portfolio.... $25 $77 $132 $281
Value Equity Portfolio......................... $22 $69 $118 $254
Dreyfus Small Cap Value Portfolio.............. $22 $69 $119 $255
Dreyfus U.S. Government Securities Portfolio... $21 $66 $113 $244
T. Rowe Price Equity Income Portfolio.......... $23 $70 $121 $259
T. Rowe Price Growth Stock Portfolio........... $23 $72 $123 $264
Opportunity Value Portfolio.................... $26 $81 $138 $293
Enhanced Index Portfolio....................... $26 $81 $138 $293
WRL Growth Portfolio........................... $22 $68 $117 $250
</TABLE>
- ----------------------------------
* If the Policy is annuitized during the first five Policy Years, under a
period certain only payment option, with payments of less than five years,
then the expenses would be the same as if the Policy were surrendered.
The above tables are intended to assist the Owner in understanding the costs
and expenses that will be borne, directly or indirectly. These include the
expenses of the Underlying Funds. See "Charges and Deductions," p. 44, and the
Underlying Funds' prospectuses. In addition to the expenses listed above,
premium taxes may be applicable.
THE EXAMPLES SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE
EXPENSES, AND ACTUAL EXPENSES MAY BE GREATER OR LESSER THAN THOSE SHOWN. The
assumed 5% annual return is hypothetical and should not be considered a
representation of past or future annual returns, which could be greater or
less than the assumed rate. The figures and data for the Underlying Fund
annual expenses have been provided by Western Reserve Life Assurance Co. of
Ohio and Endeavor Investment Advisers, and while AUSA does not dispute these
figures, AUSA has not independently verified their accuracy.
In these examples, the $35 Annual Service Charge is reflected as a charge of
.0583% based on an average Policy Value of $60,083. For Policies issued under
Endorsement AE877 695 (issued after June, 1996), the $35 Service Charge will
be waived if the Premium Payments less partial withdrawals is at least
$50,000. It has been included in these examples for illustrative purposes.
DEATH BENEFIT
In the event that the Annuitant who is not the Owner dies prior to the
Annuity Commencement Date, the Owner will become the Annuitant unless the
Owner specifically requests on the application or in writing that the death
benefit be paid upon the Annuitant's death and AUSA agrees to such an
election. Upon receipt of proof that the Annuitant, who is the Owner, has died
before the Annuity Commencement Date, (or the Annuitant has died, if
- 16 -
<PAGE>
the Owner has elected to have the death proceeds paid upon the Annuitant's
death) the Death Benefit is calculated and is payable to the Beneficiary when
AUSA receives an election of the method of settlement and return of the
Policy.
During the first seven policy years, the Death Benefit will be the greater
of (a) the Policy Value on the date proof of death and election of the method
of settlement are received; or (b) the total Premiums paid less any Adjusted
Partial Withdrawals (see page 42) taken. After the seventh Policy Anniversary,
the Death Benefit amount will be the greatest of (a), (b), and (c), where (a)
and (b) are defined above and where (c) is the Policy Value on the seventh
Policy Anniversary plus all Premiums paid less any Adjusted Partial
Withdrawals (see page 42) taken since that Policy Anniversary. This death
benefit does not apply on the death of the Owner if the Owner is not the
Annuitant (see "Death of Owner", p. 44). These death benefit provisions may
vary depending on which state the Policy is issued and when it was issued. No
Contingent Deferred Sales Charge is imposed upon amounts received as a Death
Benefit. The Death Benefit may be paid as either a lump sum cash benefit or as
an Annuity as permitted by federal or state law. Interest on death proceeds
will be paid as required by applicable law. (See "Death Benefit," p. 42.)
For Policies issued under Endorsement AE877 695 (issued after June, 1996)
the amount of the death proceeds will be the greater of (a) or (b) where:
(a) is the Policy Value on the date AUSA receives due proof of death and
an election of a method of settlement, and:
(b) is the Guaranteed Minimum Death Benefit.
The "Guaranteed Minimum Death Benefit" is equal to the largest Policy Value on
the Date of Issue or on any Policy Anniversary prior to the Owner's 81st
birthday, plus any premiums paid, less any Adjusted Partial Withdrawals taken,
subsequent to the date of the largest anniversary Policy Value.
RIGHT TO RETURN THE POLICY
The Policy Owner may, until the end of the period of time specified in the
Policy, examine the Policy and return it for a refund. The applicable period
will depend on the state in which the Policy is issued. In New York it is
twenty (20) days (in other states it may be ten (10) days) after the Policy is
delivered to the Policy Owner. The amount of refund will also depend on the
state in which the Policy is issued. Most states, including New York, require
the amount of the refund to be the sum of all Premium Payments made under the
Policy and the accumulated gains or losses in the Mutual Fund Account, if any.
However, some states may require a return of the premium(s) paid, or the
greater of the premium(s) paid or Cash Value. AUSA will pay the refund within
seven (7) days after it receives written notice of cancellation and the
returned Policy.
- 17 -
<PAGE>
FEDERAL INCOME TAX CONSEQUENCES OF INVESTMENT IN THE POLICY
With respect to Owners who are natural persons, there should be no federal
income tax on increases in the Policy Value until a distribution under the
Policy occurs (e.g., a surrender or Annuity Payment) or is deemed to occur
(e.g., a pledge or assignment of a Policy). Generally, all or a portion of any
distribution or deemed distribution will be taxable as ordinary income. The
taxable portion of certain distributions will be subject to withholding unless
the recipient elects otherwise. In addition, prior to age 59 1/2 a ten percent
penalty tax may apply to certain distributions or deemed distributions under
the Policy. (See "Certain Federal Income Tax Consequences," p. 48)
INQUIRIES AND WRITTEN NOTICES AND REQUESTS
Any questions about procedures or the Policy, or any Written Notice or
Written Request required to be sent to AUSA, should be sent to AUSA's Service
Office, Financial Markets Division--Variable Annuity Dept., 4333 Edgewood Road
N.E., Cedar Rapids, Iowa 52499. Inquiries may be made by calling 800-525-6205.
All inquiries, Notices and Requests should include the Policy number, the
Owner's name and the Annuitant's name.
* * *
Note: The foregoing summary is qualified in its entirety by the detailed
information in the remainder of this Prospectus and in the Statement of
Additional Information and in the prospectuses for the Underlying Funds and in
the Policy, all of which should be referred to for more detailed information.
This Prospectus generally describes only the Policy and the Mutual Fund
Account. Separate prospectuses describe the Underlying Funds. (There is no
prospectus for the Fixed Account since interests in the Fixed Account are not
securities. See "The Fixed Account," p. 29.)
- 18 -
<PAGE>
CONDENSED FINANCIAL INFORMATION
The following Accumulation Unit Values and the number of Accumulation Units
outstanding for each Subaccount from the date of inception (January 1, 1995,
except as noted below) is derived from the financial statements of the Mutual
Fund Account. The data should be read in connection with those financial
statements, which are contained in the Statement of Additional Information.
<TABLE>
<CAPTION>
TCW MONEY MARKET SUBACCOUNT*
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996......................... 1.115718 1.154219 665,174.123
1995......................... 1.072424 1.115718 271,034.756
<CAPTION>
TCW MANAGED ASSET ALLOCATION SUBACCOUNT**
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996......................... 1.577873 1.833135 1,123,469.170
1995......................... 1.301669 1.577873 607,869.454
<CAPTION>
T. ROWE PRICE INTERNATIONAL STOCK SUBACCOUNT
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996......................... 1.171039 1.330640 2,084,832.841
1995......................... 1.073958 1.171039 681,093.799
<CAPTION>
VALUE EQUITY SUBACCOUNT***
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996......................... 1.387903 1.694854 1,565,599.143
1995......................... 1.045610 1.387903 547,233.586
<CAPTION>
DREYFUS SMALL CAP VALUE SUBACCOUNT****
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996......................... 1.206843 1.496065 1,239,443.264
1995......................... 1.072941 1.206843 535,283.029
<CAPTION>
DREYFUS U.S. GOVERNMENT SECURITIES SUBACCOUNT*****
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996......................... 1.124292 1.128769 589,799.900
1995(1)...................... 1.072051 1.124292 204,813.593
<CAPTION>
T. ROWE PRICE EQUITY INCOME SUBACCOUNT
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996......................... 1.287240 1.521680 1,387,607.312
1995(2)...................... 1.116497 1.287240 293,619.530
</TABLE>
- 19 -
<PAGE>
<TABLE>
<CAPTION>
T. ROWE PRICE GROWTH STOCK SUBACCOUNT
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996......................... 1.353339 1.611613 964,658.085
1995(/3/).................... 1.145983 1.353339 189,613.999
<CAPTION>
OPPORTUNITY VALUE SUBACCOUNT
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996(/4/).................... .999050 1.004355 178,913.412
<CAPTION>
ENHANCED INDEX SUBACCOUNT
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996(/5/).................... -- -- --
<CAPTION>
WRL GROWTH SUBACCOUNT
--------------------------------------------------
ACCUMULATION ACCUMULATION NUMBER OF
UNIT VALUE AT UNIT VALUE AT ACCUMULATION UNITS
BEGINNING OF YEAR END OF YEAR AT END OF YEAR
----------------- ------------- ------------------
<S> <C> <C> <C>
1996......................... 14.583843 16.964068 306,855.075
1995......................... 10.051117 14.583843 97,436.321
</TABLE>
- ----------------------------------
* Prior to May 1, 1996, known as the Money Market Subaccount
** Prior to May 1, 1996, known as the Managed Asset Allocation Subaccount
*** Prior to May 1, 1996, known as the Quest for Value Equity Subaccount
**** Prior to October 29, 1996, known as the Value Small Cap Subaccount, and
prior to May 1, 1996, known as the Quest for Value Small Cap Subaccount
***** Prior to May 1, 1996, known as the U.S. Government Securities Subaccount
(1) Period from June 16, 1995 through December 31, 1995
(2) Period from June 28, 1995 through December 31, 1995
(3) Period from April 28, 1995 through December 31, 1995
(4) Period from December 13, 1996 through December 31, 1996.
(5) The offering of the Enhanced Index Subaccount is expected to commence on
or about the date of this Prospectus. Accordingly, no comparable data is
available for that Subaccount.
FINANCIAL STATEMENTS
The financial statements of AUSA and the independent auditors' report
thereon are in the Statement of Additional Information which is available free
upon request.
HISTORICAL PERFORMANCE DATA
STANDARDIZED PERFORMANCE DATA
From time to time, AUSA may advertise historical yields and total returns
for the Subaccounts of the Mutual Fund Account. In addition, AUSA
- 20 -
<PAGE>
may advertise the effective yield of the Money Market Subaccount. These
figures will be calculated according to standardized methods prescribed by the
Securities and Exchange Commission ("SEC"). They will be based on historical
earnings and are not intended to indicate future performance.
TCW MONEY MARKET SUBACCOUNT
The yield of the Money Market Subaccount for a Policy refers to the
annualized income generated by an investment under a Policy in the Subaccount
over a specified seven-day period. The yield is calculated by assuming that
the income generated for that seven-day period is generated each seven-day
period over a 52-week period and is shown as a percentage of the investment.
The effective yield is calculated similarly but, when annualized, the income
earned by an investment under a Policy in the Subaccount is assumed to be
reinvested. The effective yield will be slightly higher than the yield because
of the compounding effect of this assumed reinvestment.
OTHER SUBACCOUNTS
The yield of a Subaccount of the Mutual Fund Account (other than the Money
Market Subaccount) for a Policy refers to the annualized income generated by
an investment under a Policy in the Subaccount over a specified thirty-day
period. The yield is calculated by assuming that the income generated by the
investment during that thirty-day period is generated each thirty-day period
over a 12-month period and is shown as a percentage of the investment.
The total return of a Subaccount of the Mutual Fund Account refers to return
quotations assuming an investment under a Policy has been held in the
Subaccount for various periods of time including, but not limited to, a period
measured from the date the Subaccount commenced operations. When a Subaccount
has been in operation for one, five, and ten years, respectively, the total
return for these periods will be provided. The total return quotations for a
Subaccount will represent the average annual compounded rates of return that
equate an initial investment of $1,000 in the Subaccount to the redemption
value of that investment as of the first day of each of the periods for which
total return quotations are provided.
The yield and total return calculations for a Subaccount do not reflect the
effect of any premium taxes that may be applicable to a particular Policy. The
yield calculations also do not reflect the effect of any Contingent Deferred
Sales Charge that may be applicable to a particular Policy. To the extent that
a premium tax and/or Contingent Deferred Sales Charge is applicable to a
particular Policy, the yield and/or total return of that Policy will be
reduced. For additional information regarding yields and total returns
calculated using the standard formats briefly summarized above, please refer
to the Statement of Additional Information, a copy of which may be obtained
from AUSA.
Based on the method of calculation described in the Statement of Additional
Information, the average annual total returns for periods from inception of
the Subaccounts to December 31, 1996, and for the one and five year periods
ended December 31, 1996 are shown below.
- 21 -
<PAGE>
AVERAGE ANNUAL TOTAL RETURNS
<TABLE>
<CAPTION>
ONE YEAR INCEPTION
PERIOD FIVE YEARS OF THE SUBACCOUNT
ENDED ENDED SUBACCOUNT TO INCEPTION
SUBACCOUNT 12/31/96 12/31/96 12/31/96 DATE
---------- -------- ---------- ------------- -----------------
<S> <C> <C> <C> <C>
TCW Managed Asset Alloca-
tion.................... 10.81% N/A 16.75% January 1,1995
T. Rowe Price Interna-
tional Stock............ 8.25% N/A 9.25% January 1, 1995
Value Equity............. 16.80% N/A 25.23% January 1, 1995
Dreyfus Small Cap Value.. 18.64% N/A 16.15% January 1, 1995
Dreyfus U.S. Government
Securities.............. (5.06)% N/A (0.11)% June 16, 1995
T. Rowe Price Equity In-
come.................... 12.85% N/A 19.55% June 28, 1995
T. Rowe Price Growth
Stock................... 13.73% N/A 19.75% April 28, 1995
Opportunity Value........ N/A N/A (6.47)% December 13, 1996
Enhanced Index(/1/)...... N/A N/A N/A --
WRL Growth............... 10.99% N/A 28.23% January 1, 1995
</TABLE>
- ----------------------------------
(1) The Enhanced Index Subaccount is expected to begin operations on or about
the date of this Prospectus, therefore comparable information is not
available.
The figures for the "from inception" periods in the above tables reflect
waiver of advisory fees and reimbursement of other expenses for all portfolios
except the T. Rowe Price Equity Income Portfolio and the T. Rowe Price Growth
Stock Portfolio. In the absence of such waivers, the average annual total
return figures above for the inception periods would have been lower.
HYPOTHETICAL PERFORMANCE DATA OF SUBACCOUNTS
Prior to December 31, 1994, the Subaccounts had not yet commenced
operations. However, the following is standardized average annual total return
information based on the hypothetical assumption that the Subaccounts had been
available to the AUSA Endeavor Variable Annuity Account since inception of the
corresponding Portfolio, with a level of charges equal to those currently
assessed against the Subaccounts or against Owners' Policy Values. Performance
data for periods of less than seven years reflects deduction of the Contingent
Deferred Sales Charge.
HYPOTHETICAL AVERAGE ANNUAL TOTAL RETURNS
<TABLE>
<CAPTION>
TEN YEARS* CORRESPONDING
FIVE YEARS OR PORTFOLIO PORTFOLIO
ENDED INCEPTION TO INCEPTION
SUBACCOUNT 12/31/96 12/31/96 DATE
---------- ---------- ------------ -----------------
<S> <C> <C> <C>
TCW Managed Asset Allocation........ 9.97% 10.93% April 8, 1991
T. Rowe Price International
Stock(/1/)......................... 4.69% 4.83% April 8, 1991
Value Equity........................ N/A 14.97% May 27, 1993
Dreyfus Small Cap Value............. N/A 10.88% May 4, 1994
Dreyfus U.S. Government Securities.. N/A 3.11% May 9, 1994
T. Rowe Price Equity Income......... N/A 21.26% January 3, 1995
T. Rowe Price Growth Stock.......... N/A 24.95% January 3, 1995
Opportunity Value................... N/A (6.57)% November 18, 1996
Enhanced Index(/2/)................. N/A N/A --
WRL Growth(/3/)..................... 9.14% 16.26%* October 2, 1986
</TABLE>
- 22 -
<PAGE>
- ----------------------------------
(1) Effective January 1, 1995, Rowe-Price Fleming International, Inc. became
the Adviser to the T. Rowe Price International Stock Portfolio. The
Portfolio's name was changed from the Global Growth Portfolio and the
Portfolio's shareholders approved a change in investment objective from
investments in small capitalization companies on a global basis to
investments in a broad range of companies on an international basis (i.e.,
non-U.S. companies).
(2) The Enhanced Index Portfolio is expected to begin operations on or about
the date of this Prospectus, therefore comparable information is not
available.
(3) The WRL Growth Portfolio, commenced operations on October 2, 1986. For
purposes of the calculation of the performance data prior to July 1, 1992,
the deductions for the Mortality and Expense Risk Fee, and Administrative
Charge are made on a monthly basis, rather than a daily basis. The monthly
deduction is made at the beginning of each month and generally
approximates the performance which would have resulted if the Subaccount
had actually been in existence since the inception of the WRL Growth
Portfolio.
The figures for the "five year" and "from inception" periods in the above
tables reflect waiver of advisory fees and reimbursement of other expenses for
all portfolios except the T. Rowe Price Equity Income Portfolio and the T.
Rowe Price Growth Stock Portfolio. In the absence of such waivers, the average
annual total return figures above from the five year and from inception
periods would have been lower.
OPPORTUNITY VALUE AND EQUITY INDEX PORTFOLIOS
The Opportunity Value Portfolio and the Equity Index Portfolio are new and
therefore do not have (in the case of the Opportunity Value Portfolio, no
significant) historical performance data. However, their investment managers
(OpCap Advisors and J.P. Morgan Investment Management Inc. respectively) have
years of experience managing very similar portfolios with substantially the
same investment objectives and policies. Historical performance data showing
the results the investment managers achieved for those other portfolios is in
the prospectus for the Endeavor Series Trust, which is included with this
Prospectus. See "Performance Information" in the Endeavor Series Trust's
prospectus. That performance information in the Endeavor Series Trust's
prospectus does not take into account the fees and charges under the Policy;
if those fees and charges were reflected, the investment returns would be
lower.
NON-STANDARDIZED PERFORMANCE DATA
AUSA may from time to time also advertise or disclose average annual total
return or other performance data in non-standard formats for a Subaccount of
the Mutual Fund Account. The non-standard performance data may assume that no
Contingent Deferred Sales Charge is applicable, and may also make other
assumptions.
- 23 -
<PAGE>
All non-standard performance data will be advertised only if the standard
performance data is also disclosed. For additional information regarding the
calculation of other performance data, please refer to the Statement of
Additional Information, a copy of which may be obtained from AUSA.
PUBLISHED RATINGS
AUSA may from time to time publish in advertisements, sales literature and
reports to Owners, the ratings and other information assigned to it by one or
more independent rating organizations such as A.M. Best Company, Standard &
Poor's Insurance Ratings Services, Moody's Investors Service and Duff & Phelps
Credit Rating Co. The purpose of the ratings is to reflect the financial
strength and/or claims-paying ability of AUSA and should not be considered as
bearing on the investment performance of assets held in the Mutual Fund
Account. Each year the A.M. Best Company reviews the financial status of
thousands of insurers, culminating in the assignment of Best's ratings. These
ratings reflect their current opinion of the relative financial strength and
operating performance of an insurance company in comparison to the norms of
the life/health insurance industry. In addition, the claims-paying ability of
AUSA as measured by Standard & Poor's Insurance Ratings Services, Moody's
Investors Service or Duff & Phelps Credit Rating Co. may be referred to in
advertisements or sales literature or in reports to Owners. These ratings are
opinions of an operating insurance company's financial capacity to meet the
obligations of its insurance policies in accordance with their terms. Claims-
paying ability ratings do not refer to an insurer's ability to meet non-policy
obligations (i.e., debt/commercial paper). These ratings do not reflect the
investment performance of the Mutual Fund Account or Fixed Account or the
degree of risk associated with an investment in either account.
AUSA LIFE INSURANCE COMPANY, INC.
AUSA Life Insurance Company, Inc. ("AUSA"), 666 Fifth Avenue, New York, New
York 10103, is a stock life insurance company. It was incorporated under the
laws of the State of New York on October 3, 1947. It is principally engaged in
the sale of life insurance and annuity policies, and is licensed in the
District of Columbia, and in all states except Alabama, Arkansas, Hawaii,
Idaho, Montana, and Oregon. As of December 31, 1996, AUSA had assets of $9.0
billion. AUSA is a wholly-owned indirect subsidiary of AEGON USA, Inc., which
conducts substantially all of its operations through subsidiary companies
engaged in the insurance business or in providing non-insurance financial
services. All of the stock of AEGON USA, Inc. is indirectly owned by AEGON
n.v. of the Netherlands. AEGON n.v., a holding company, conducts its business
through subsidiary companies engaged primarily in the insurance business.
- 24 -
<PAGE>
THE ENDEAVOR ACCOUNTS
Premiums paid under a Policy may be allocated to the Mutual Fund Account, to
the Fixed Account, or to a combination of these Accounts.
THE MUTUAL FUND ACCOUNT
The AUSA Endeavor Variable Annuity Account of AUSA Life Insurance Company,
Inc. (the "Mutual Fund Account") was established as a separate investment
account under the laws of the State of New York on September 27, 1994. The
Mutual Fund Account was created due to the assumption of certain policies of
AUSA's former affiliate, International Life Investors Insurance Company
("ILI"). The assumed policies have terms identical to those policies being
issued by AUSA. The ILI policies have been transferred to allow AUSA to
succeed to the variable annuity business of ILI. The Mutual Fund Account
receives and invests the Premiums under the Policies that are allocated to it
for investment in shares of the WRL Growth Portfolio of the WRL Series Fund,
Inc. managed by Janus Capital Corporation, and the Endeavor Series Trust.
The Mutual Fund Account currently is divided into eleven Subaccounts.
Additional Subaccounts may be established in the future at the discretion of
AUSA. Each Subaccount invests exclusively in shares of one of the Portfolios
of the Underlying Funds. Under New York law, the assets of the Mutual Fund
Account are owned by AUSA, but they are held separately from the other assets
of AUSA and are not chargeable with liabilities incurred in any other business
operation of AUSA (except to the extent that assets in the Mutual Fund Account
exceed the reserves and other liabilities of the Mutual Fund Account). Income,
gains, and losses incurred on the assets in the Subaccounts of the Mutual Fund
Account, whether or not realized, are credited to or charged against that
Subaccount without regard to other income, gains or losses of any other
Account or Subaccount of AUSA. Therefore, the investment performance of any
Subaccount should be entirely independent of the investment performance of
AUSA's general account assets or any other Account or Subaccount maintained by
AUSA.
The Mutual Fund Account is registered with the SEC under the Investment
Company Act of 1940 (the "1940 Act") as a unit investment trust and meets the
definition of a separate account under federal securities laws. However, the
SEC does not supervise the management or the investment practices or policies
of the Mutual Fund Account or AUSA.
Underlying Funds. The Mutual Fund Account will invest exclusively in shares
of Endeavor Series Trust and the WRL Growth Portfolio of the WRL Series Fund,
Inc. (collectively the "Underlying Funds"). The Endeavor Series Trust is a
series-type mutual fund registered with the SEC under the 1940 Act as an open-
end, diversified management investment company. The registration of the
Underlying Funds does not involve supervision of the management or investment
practices or policies of the Underlying Funds by the SEC. The Underlying Funds
currently consist of the following eleven
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Portfolios: the WRL Growth Portfolio, managed by Janus Capital Corporation,
the TCW Managed Asset Allocation Portfolio, the TCW Money Market Portfolio,
the T. Rowe Price International Stock Portfolio, the Value Equity Portfolio,
the Dreyfus Small Cap Value Portfolio, the Dreyfus U.S. Government Securities
Portfolio, the T. Rowe Price Equity Income Portfolio, the T. Rowe Price Growth
Stock Portfolio, the Opportunity Value Portfolio and the Enhanced Index
Portfolio. The assets of each Portfolio are held separate from the assets of
the other Portfolios, and each Portfolio has its own distinct investment
objectives and policies. Each Portfolio operates as a separate investment
fund, and the income or losses of one Portfolio generally have no effect on
the investment performance of any other Portfolio.
Endeavor Investment Advisers (the "Manager"), an investment adviser
registered with the SEC under the Investment Advisers Act of 1940, is the
Endeavor Series Trust's manager. The Manager selects and contracts with
advisers for investment services for the Portfolios of Endeavor Series Trust,
reviews the advisers' activities, and otherwise performs administerial and
managerial functions for the Endeavor Series Trust. Six advisers, TCW Funds
Management, Inc. (a wholly-owned subsidiary of The TCW Group, Inc.) T. Rowe
Price Associates, Inc., Rowe Price-Fleming International, Inc. (a joint
venture between T. Rowe Price Associates, Inc. and Robert Fleming Holdings
Limited), OpCap Advisors (formerly known as Quest for Value Advisors), J.P.
Morgan Investment Management Inc. (a wholly owned subsidiary of J.P. Morgan
and Co. Incorporated), and The Dreyfus Corporation, (a wholly-owned subsidiary
of Mellon Bank, N.A.) (the "Advisers"), each perform investment advisory
services for particular Portfolios of Endeavor Series Trust.
TCW Funds Management, Inc. is the Adviser for the TCW Managed Asset
Allocation Portfolio and the TCW Money Market Portfolio. T. Rowe Price
Associates, Inc. is the Adviser for the T. Rowe Price Equity Income Portfolio
and the T. Rowe Price Growth Stock Portfolio. Rowe Price-Fleming
International, Inc. is the Adviser for the T. Rowe Price International Stock
Portfolio. OpCap Advisors is the Adviser for the Value Equity Portfolio and
the Opportunity Value Portfolio. The Dreyfus Corporation is the Adviser for
the Dreyfus U.S. Government Securities Portfolio, and the Dreyfus Small Cap
Value Portfolio. J.P. Morgan Investment Management Inc. ("Morgan") is the
Adviser for the Enhanced Index Portfolio. WRL Investment Management, Inc., a
subsidiary of Western Reserve Life Assurance Co. of Ohio, (an affiliate of
AUSA) is the Adviser for the WRL Series Fund, Inc. and contracts with Janus
Capital Corporation (also an "Adviser") as a sub-adviser to the WRL Growth
Portfolio.
The Adviser of a Portfolio is responsible for selecting the investments of
the Portfolio consistent with the investment objectives and policies of the
Portfolio, and will conduct securities trading for the Portfolio. All Advisers
are investment advisers registered with the SEC under the Investment Advisers
Act of 1940.
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The investment objectives of each Portfolio are summarized as follows:
TCW Money Market Portfolio--seeks current income, preservation of capital
and maintenance of liquidity through investment in short-term money market
securities. The Portfolio seeks to maintain a constant net asset value of
$1.00 per share although no assurances can be given that such constant net
asset value will be maintained.
TCW Managed Asset Allocation Portfolio--seeks high total return through a
managed asset allocation portfolio of equity, fixed income and money market
securities.
T. Rowe Price International Stock Portfolio--seeks long-term growth of
capital through investments primarily in common stocks of established non-U.S.
companies.
Value Equity Portfolio--seeks long-term capital appreciation through
investment in securities (primarily equity securities) of companies that are
believed by the Portfolio's Adviser to be undervalued in the marketplace in
relation to factors such as the companies' assets or earnings.
Dreyfus Small Cap Value Portfolio--seeks capital appreciation through
investments in a diversified portfolio consisting primarily of equity
securities of companies with a median capitalization of approximately $750
million, provided that under normal market conditions at least 75% of the
Portfolio's investments will be in equity securities of companies with
capitalizations at the time of purchase between $150 million and $1.5 billion.
Dreyfus U.S. Government Securities Portfolio--seeks as high a level of total
return as is consistent with prudent investment strategies by investing under
normal conditions at least 65% of its assets in debt obligations and mortgage-
backed securities issued or guaranteed by the U.S. Government, its agencies or
instrumentalities.
T. Rowe Price Equity Income Portfolio--seeks to provide substantial dividend
income and also capital appreciation by investing primarily in dividend paying
stocks of established companies.
T. Rowe Price Growth Stock Portfolio--seeks long-term growth of capital and
to increase dividend income through investment primarily in common stocks of
well established growth companies.
Opportunity Value Portfolio--seeks growth of capital over time through
investment in a portfolio consisting of common stocks, bonds and cash
equivalents, the percentages of which will vary based upon the Portfolio
Adviser's assessment of relative values.
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Enhanced Index Portfolio--seeks to earn a total return modestly in excess of
the total return performance of the Standard & Poor's 500 Composite Stock
Index (the "S&P 500 Index") while maintaining a volatility of return similar
to the S&P 500 Index.
WRL Growth Portfolio, managed by Janus Capital Corporation--seeks growth of
capital. At most times, this Portfolio will be invested primarily in equity
securities which are selected solely for their capital growth potential;
investment income is not a consideration.
THERE IS NO ASSURANCE THAT ANY PORTFOLIO WILL ACHIEVE ITS STATED OBJECTIVE.
MORE DETAILED INFORMATION, INCLUDING A DESCRIPTION OF EACH PORTFOLIO'S
INVESTMENT OBJECTIVE AND POLICIES AND A DESCRIPTION OF RISKS INVOLVED IN
INVESTING IN EACH OF THE PORTFOLIOS AND OF EACH PORTFOLIO'S FEES AND EXPENSES
IS CONTAINED IN THE PROSPECTUSES FOR THE UNDERLYING FUNDS, CURRENT COPIES OF
WHICH ARE ATTACHED TO THIS PROSPECTUS. INFORMATION CONTAINED IN THE UNDERLYING
FUNDS' PROSPECTUSES SHOULD BE READ CAREFULLY BEFORE INVESTING IN A SUBACCOUNT
OF THE MUTUAL FUND ACCOUNT.
An investment in the Mutual Fund Account, or in any Portfolio, including the
TCW Money Market Portfolio, and the Dreyfus U.S. Government Securities
Portfolio is not insured or guaranteed by the U.S. government or any
Government Agency.
Addition, Deletion, or Substitution of Investments. AUSA cannot and does not
guarantee that any of the Portfolios will always be available for Premium
Payments, allocations, or transfers. AUSA retains the right, with prior
approval of the New York Insurance Superintendent, subject to any applicable
law, to make changes in the Mutual Fund Account and its investments. AUSA
reserves the right to eliminate the shares of any Portfolio held by a
Subaccount and to substitute shares of another Portfolio of the Underlying
Funds, or of another registered open-end management investment company for the
shares of any Portfolio, if the shares of the Portfolio are no longer
available for investment or if, in AUSA's judgment, investment in any
Portfolio would be inappropriate in view of the purposes of the Mutual Fund
Account. To the extent required by the 1940 Act, substitutions of shares
attributable to an Owner's interest in a Subaccount will not be made without
prior notice to the Owner and the prior approval of the SEC. Nothing contained
herein shall prevent the Mutual Fund Account from purchasing other securities
for other series or classes of variable annuity policies, or from effecting an
exchange between series or classes of variable annuity policies on the basis
of requests made by Owners.
New Subaccounts may be established when, in the sole discretion of AUSA,
marketing, tax, investment or other conditions warrant. Any new Subaccounts
may be made available to existing Owners on a basis to be determined by AUSA.
Each additional Subaccount will purchase shares in a mutual fund portfolio or
other investment vehicle. AUSA may also eliminate
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one or more Subaccounts if, in its sole discretion, marketing, tax, investment
or other conditions warrant such change.
In the event any Subaccount is eliminated, AUSA will notify Owners and
request a reallocation of the amounts invested in the eliminated Subaccount.
If no such reallocation is provided by the Owner, AUSA will reinvest the
amounts invested in the eliminated Subaccount in the Subaccount that invests
in the TCW Money Market Portfolio (or in a similar portfolio of money market
instruments) or in another Subaccount, if appropriate.
In the event of any such substitution or change, AUSA may, by appropriate
endorsement, make such changes in the Policies as may be necessary or
appropriate to reflect such substitution or change. Furthermore, if deemed to
be in the best interests of persons having voting rights under the Policies,
the Mutual Fund Account may be (i) operated as a management company under the
1940 Act or any other form permitted by law, (ii) deregistered under the 1940
Act in the event such registration is no longer required or (iii) combined
with one or more other separate accounts. To the extent permitted by
applicable law, AUSA also may transfer the assets of the Mutual Fund Account
associated with the Policies to another account or accounts.
THE FIXED ACCOUNT
This Prospectus is generally intended to serve as a disclosure document only
for the Policy and the Mutual Fund Account. For complete details regarding the
Fixed Account, see the Policy itself.
Premiums allocated and amounts transferred to the Fixed Account become part
of the general account of AUSA, which supports insurance and annuity
obligations. Interests in the general account have not been registered under
the Securities Act of 1933 (the "1933 Act"), nor is the general account
registered as an investment company under the Investment Company Act of 1940
(the "1940 Act"). Accordingly, neither the general account nor any interests
therein are generally subject to the provisions of the 1933 or 1940 Acts and
AUSA has been advised that the staff of the Securities and Exchange Commission
has not reviewed the disclosures in this Prospectus which relate to the fixed
portion.
The Fixed Account is made up of all the general assets of AUSA, other than
those in the Mutual Fund Account or in any other segregated asset account. The
Policy Owner may allocate Premium Payments to the Fixed Account at the time of
Premium Payment or by subsequent transfers from the Mutual Fund Account.
Instead of the Policy Owner bearing the investment risk as is the case for
Policy Value in the Mutual Fund Account, AUSA bears the full investment risk
for all Policy Value in the Fixed Account. AUSA has sole discretion to invest
the assets of its general account, including the Fixed Account, subject to
applicable law.
AUSA currently offers two interest rate guarantee periods in the Fixed
Account, a "One Year Option" and a "Three Year Option." The One Year
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Option is only available if the premium paid or the amount transferred into it
is set up on Dollar Cost Averaging (see "Dollar Cost Averaging," p. ), or will
be set up on Dollar Cost Averaging in the future. Except as otherwise provided
in the Contract, transfers out of the One Year Option, except through Dollar
Cost Averaging, are not allowed. The "One Year Option" guarantees the current
interest rate for one year from the payment or transfer date. At the end of
the one year period, AUSA will declare a renewal rate which will be guaranteed
for at least one year. AUSA also offers a "Three Year Option" which guarantees
the current interest rate for three years from the payment or transfer date.
At the end of the three year period, AUSA will declare a renewal rate which
will be guaranteed for at least one year.
AUSA guarantees that it will credit interest to amounts in the Fixed Account
at an effective annual rate of at least 4.0% per year. AUSA may, in its sole
discretion, credit amounts in the Fixed Account with interest at a Current
Interest Rate in excess of 4.0%. Once declared, a Current Interest Rate will
be guaranteed for at least one year. Transfers out of the Fixed Account are
subject to restrictions on amount and timing. (See "Transfers," p. , and
"Surrenders," p. ). For purposes of crediting interest, the oldest payment or
transfer into the Fixed Account, plus interest allocable to that payment or
transfer, is considered to be withdrawn or transferred out first; the next
oldest payment plus interest is considered to be transferred out next, and so
on (this is a "first-in, first-out" procedure). The Owner bears the risk that
AUSA will not credit interest in excess of 4% per year.
AUSA guarantees that, at any time prior to the Annuity Commencement Date,
the amount in the Fixed Account allocable to a particular Policy will be not
less than the amount of the Premium Payments allocated or transferred to the
Fixed Account, plus interest at the rate of 4.0% per year, plus any excess
interest credited to amounts in the Fixed Account, less any applicable premium
or other taxes allocable to the Fixed Account, and less any amounts deducted
from the Fixed Account in connection with partial surrenders (including any
Contingent Deferred Sales Charges) or transfers to the Mutual Fund Account.
The Current Interest Rates will be determined by AUSA in its sole discretion
regardless of market interest rates. There is no obligation to declare a rate
in excess of 4%; The Policy Owner bears the risk that no interest will be
credited in excess of 4.0% per year.
AUSA'S MANAGEMENT HAS COMPLETE AND SOLE DISCRETION TO DETERMINE THE
GUARANTEED INTEREST RATES. AUSA CANNOT PREDICT OR GUARANTEE THE LEVEL OF
FUTURE GUARANTEED INTEREST RATES, EXCEPT THAT AUSA GUARANTEES THAT FUTURE
GUARANTEED EFFECTIVE INTEREST RATES WILL NOT BE BELOW 4% PER YEAR.
TRANSFERS
An Owner can transfer Policy Value from one Investment Option to another
within certain limits.
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Subject to the limitations and restrictions described below, transfers from
an Investment Option may be made, up to thirty days prior to the Annuity
Commencement Date, by sending Written Notice, signed by the Policy Owner, to
the Service Office. The minimum amount which may be transferred is the lesser
of $500 or the entire Account or Subaccount Value. If the Account or
Subaccount Value remaining after a transfer is less than $500, AUSA reserves
the right, at its discretion, to include that amount as part of the transfer.
Transfers out of a Subaccount of the Mutual Fund Account currently may be
made as often as the Owner wishes, subject to the minimum amount specified
above (AUSA reserves the right to otherwise limit or restrict transfers in the
future).
For Policies issued under Endorsement AE876 695 (issued after June, 1996)
transfers will be allowed out of the One Year Fixed Account except through
Dollar Cost Averaging.
Transfers from the Three Year Fixed Account are subject to a yearly limit
equal to 25% of the current Three Year Fixed Account Value, or an amount equal
to the amount the Owner transferred out of the Three Year Fixed Account during
the prior year, whichever is greater. After the Annuity Commencement Date,
transfers out of the Fixed Account are not permitted. See "Annuity Payment
Options", page 38.
A transfer charge may be imposed for any transfer in excess of 12 per Policy
Year; however, currently there is no charge for any transfers. Transfers by
telephone or other electronic means are not permitted.
DOLLAR COST AVERAGING
Under the Dollar Cost Averaging program, the Policy Owner can instruct AUSA
to automatically transfer an amount specified by the Policy Owner from the
Money Market Subaccount, the One Year Fixed Account or the U.S. Government
Securities Subaccount to any other Subaccount or Subaccounts of the Mutual
Fund Account. The automatic transfers can occur monthly or quarterly, and will
occur on the 28th day of the month. The first transfer will occur on the 28th
day of the month following AUSA's receipt of the Dollar Cost Averaging
request. The amount transferred each time must be at least $500. A minimum of
six monthly or four quarterly transfers are required. Dollar Cost Averaging
results in the purchase of more Units when the Unit Value is low, and less
units when the Unit Value is high. However, there is no guarantee that the
Dollar Cost Averaging program will result in higher Policy Values or otherwise
be successful.
The Policy Owner can request Dollar Cost Averaging when purchasing the
Policy or at a later date. The program will terminate when the amount in the
Money Market Subaccount, the One Year Fixed Account or the U.S. Government
Securities Subaccount is insufficient for the next transfer, at which time the
remaining balance is transferred.
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The Owner can increase or decrease the amount of the transfers by sending
AUSA a new Dollar Cost Averaging form. The owner can discontinue the program
by sending a Written Notice to the Service Office. There is no charge for this
program.
REINSTATEMENTS
Requests are occasionally received by AUSA to reinstate funds which had been
transferred to another company via a Section 1035 exchange or trustee-to-
trustee transfer under the Code. In this situation AUSA will require the Owner
to replace the same total amount of money in the applicable Subaccounts and/or
Fixed Account as was taken from them to effect the Exchange. The total dollar
amount of funds reapplied to the Separate Account will be used to purchase a
number of Accumulation Units available for each Subaccount based on the
Accumulation Unit prices at the date of Reinstatement (within two days of the
date the funds are received by AUSA). It should be noted that the number of
Accumulation Units available on the Reinstatement date may be more or less
than the number surrendered for the Exchange. Amounts reapplied to the Fixed
Account will receive the effective annual interest rate they would otherwise
have received, had they not been withdrawn. However, an adjustment will be
made to the amount reapplied to compensate AUSA for the additional interest
credited during the period of time between the withdrawal and the
reapplication of the funds. Owners should consult a qualified tax adviser
concerning the tax consequences of any Section 1035 exchanges or
reinstatements.
THE POLICY
The Endeavor Variable Annuity Policy is a Flexible Premium Variable Annuity
Policy. The rights and benefits under the Policy are summarized below;
however, the description of the Policy contained in this Prospectus is
qualified in its entirety by the Policy itself, a copy of which is available
upon request from AUSA. The Policy may be purchased on a non-tax qualified
basis ("Nonqualified Policy"). The Policy may also be purchased and used in
connection with retirement plans or individual retirement accounts that
qualify for favorable federal income tax treatment ("Qualified Policy").
POLICY APPLICATION AND ISSUANCE OF POLICIES
Before it will issue a Policy, AUSA must receive a completed Policy
application or transmittal form and a minimum initial Premium Payment of
$5,000 for a Nonqualified Policy, $50 for a Policy purchased for use in
connection with a Tax Deferred 403(b) Annuity, or $1,000 for any other
Qualified Policy. A Policy ordinarily will be issued only in respect of
Annuitants Age 0 through 80. Acceptance or declination of an application shall
be based on AUSA's underwriting standards, and AUSA reserves the right to
reject any application or Premium Payment based on those underwriting
standards.
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<PAGE>
If the application can be accepted in the form received, the initial Premium
Payment will be credited to the Policy Value within two Business Days after
the later of receipt of the application or receipt of the initial Premium
Payment. If the initial Premium Payment cannot be credited because the
application or other issuing requirements are incomplete, the applicant will
be contacted within five Business Days and given an explanation for the delay
and the initial Premium Payment will be returned at that time unless the
applicant consents to AUSA's retaining the initial Premium Payment and
crediting it as soon as the necessary requirements are fulfilled.
The date on which the initial Premium Payment is credited to the Policy
Value is the Policy Date. The Policy Date is the date used to determine Policy
Years and Policy Anniversaries.
PREMIUM PAYMENTS
All initial Premium Payment checks or drafts should be made payable to AUSA
Life Insurance Company, Inc. and sent to the Administrative Office. Additional
premium payments should be sent to the Service Office. The Death Benefit will
not take effect until the check or draft for the Premium Payment is honored.
Initial Premium Payment. The minimum initial Premium Payment that AUSA
currently will accept under a Policy is $5,000 under a Nonqualified Policy,
$50 under a Policy purchased for use in connection with a Tax Deferred 403(b)
Annuity, and $1,000 under any other Qualified Policy. AUSA reserves the right
to increase or decrease this amount for a class of Policies issued after some
future date. The initial Premium Payment is the only Premium Payment required
to be paid under a Policy.
Additional Premium Payments. While the Annuitant is living and prior to the
Annuity Commencement Date, the Owner may make additional Premium Payments at
any time, and in any frequency. The minimum additional Premium Payment under
both a Nonqualified Policy and a Qualified Policy is $500 with the exception
of Policies used in connection with Tax Deferred 403(b) Annuities, for which
the minimum additional Premium Payment is $50. Additional Premium Payments
will be credited to the Policy and added to the Policy Value as of the
Business Day when they are received.
Allocation of Premium Payments. An Owner must allocate Premium Payments to
one or more of the Investment Options. The Owner must specify the initial
allocation in the Policy application. This allocation will be used for
additional Premium Payments unless the Owner requests a change of allocation.
All allocations must be made in whole percentages and must total 100%. The
minimum amount that can be allocated to any Investment Option is $500 ($50 for
Policies used in connection with Tax Deferred Section 403(b) Annuities). If
the Owner fails to specify how Premium Payments are to be allocated, the
Premium Payment(s) cannot be accepted.
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<PAGE>
All additional Premium Payments will be allocated and credited to the Owner's
Policy as of the Valuation Period during which they are received.
The Owner may change the allocation instructions for future additional
Premium Payments by sending Written Notice, signed by the Owner, to AUSA's
Service Office. The allocation change will apply to payments received after
the date the Written Notice is received.
Payment Not Honored by Bank. Any payment due under the Policy which is
derived, all or in part, from any amount paid to AUSA by check or draft may be
postponed until such time as AUSA determines that such instrument has been
honored.
POLICY VALUE
On the Policy Date, the Policy Value equals the initial Premium Payment.
Thereafter, the Policy Value equals the sum of the values in the Mutual Fund
Account and the Fixed Account. The Policy Value will increase by (1) any
additional Premium Payments received by AUSA; and (2) any increases in the
Policy Value due to investment results of the selected Account(s). The Policy
Value will decrease by (1) any surrenders, including Contingent Deferred Sales
Charges; (2) any decreases in the Policy Value due to investment results of
the selected Accounts or Subaccounts; and (3) the charges imposed by AUSA.
The Policy Value is expected to change from Valuation Period to Valuation
Period, reflecting the investment experience of the selected Account(s) and/or
Subaccount(s), as well as Additional Premium Payments and the deductions for
charges. A Valuation Period is the period between successive Business Days. It
begins at the close of business on each Business Day and ends at the close of
business on the next succeeding Business Day. A Business Day is each day that
the New York Stock Exchange is open for business. Holidays are generally not
Business Days.
The Mutual Fund Account Value. When a Premium is allocated or an amount is
transferred to a Subaccount of the Mutual Fund Account, it is credited to the
Policy Value in the form of Accumulation Units. Each Subaccount of the Mutual
Fund Account has a distinct Accumulation Unit value (the "Unit Value"). The
number of units credited is determined by dividing the Premium Payment or
amount transferred by the Unit Value of the Subaccount as of the end of the
Valuation Period during which the allocation is made. When amounts are
transferred out of, or surrendered or withdrawn from an Account or Subaccount,
units are canceled or redeemed in a similar manner.
For each Subaccount, the Unit Value for a given Business Day is based on the
net asset value of a share of the corresponding Portfolio of the Underlying
Funds. Therefore, the Unit Values will fluctuate from day to day based on the
investment experience of the corresponding Portfolio. The
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determination of Subaccount Unit Values is described in detail in the
Statement of Additional Information.
NON-PARTICIPATING POLICY
The Policy does not participate or share in the profits or surplus earnings
of AUSA. No dividends are payable on the Policy.
AMENDMENTS
No change in the Policy is valid unless made in writing by AUSA and approved
by one of AUSA's officers. No registered representative has authority to
change or waive any provision of the Policy.
AUSA reserves the right to amend the Policies to meet the requirements of
the Code, regulations or published rulings. An Owner can refuse such a change
by giving Written Notice, but a refusal may result in adverse tax consequences
DISTRIBUTIONS UNDER THE POLICY
SURRENDERS
The Owner may surrender all or a portion of the Cash Value in exchange for a
cash withdrawal payment from AUSA. The Cash Value is the Policy Value less any
applicable Contingent Deferred Sales Charge. (See "Annuity Payment Options,"
p. 38).
The Owner may surrender the Cash Value from the Mutual Fund Account at any
time during the life of the Annuitant and prior to the Annuity Commencement
Date by sending a Written Request to AUSA's Service Office. The minimum amount
that can be withdrawn from any Subaccount or Fixed Account is $500. After the
Annuity Commencement Date, the Policy can only be surrendered if Annuity
Payment Option 4-V is in effect. (See "Annuity Payments," p. 38).
Surrenders from the Fixed Account may be delayed for up to six months.
Currently, the only charge for surrenders is the Contingent Deferred Sales
Charge, if it applies. Premium taxes may also be deducted from the Policy
Value. Accordingly, the amount available for surrender is the Cash Value,
which is the Policy Value less any applicable Contingent Deferred Sales
Charge. However, beginning in the second Policy Year, an Owner may surrender
up to 10% of the Policy Value without a Contingent Deferred Sales Charge if no
withdrawal has been made in the current Policy Year. Amounts withdrawn in
excess of this free withdrawal amount or withdrawn in the same Policy Year as
a previous withdrawal (and all surrenders in the first Policy Year) are
subject to the Contingent Deferred Sales Charge. In addition, a Contingent
Deferred Sales Charge will not be assessed if the
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withdrawal is necessary to meet the minimum distribution requirements for that
policy specified by the IRS for tax qualified plans or if the Policy Value is
applied to provide an Annuity under one of the Annuity Payment Options, unless
the Policy Value is applied, during the first five Policy Years, under Payment
Option 2, 4, or 4-V with payments for less than five years. The Owner must
specify the Investment Option from which surrendered amounts should be taken
(otherwise, the surrender request is incomplete and cannot be processed). For
a discussion of the Contingent Deferred Sales Charge, see "Contingent Deferred
Sales Charge," p. 45.
Since the Owner assumes the investment risk with respect to Premium Payments
allocated to the Mutual Fund Account, and because withdrawals are subject to a
Contingent Deferred Sales Charge, and possibly premium taxes, the total amount
paid upon total surrender of the Cash Value (taking any prior surrenders into
account) may be more or less than the total Premium Payments made. Following a
surrender of the total Cash Value, or at any time the Policy Value is zero,
all rights of the Owner and Annuitant will terminate.
In addition to the Contingent Deferred Sales Charges and any applicable
premium taxes, surrenders may be subject to income taxes and, prior to age 59
1/2, a ten percent Federal tax penalty. (See "Certain Federal Income Tax
Consequences", page 48.)
SYSTEMATIC WITHDRAWAL PLAN
Under the Systematic Withdrawal Plan Policy Owners can instruct AUSA to make
automatic payments to them monthly, quarterly, semi-annually or annually from
a specified Subaccount. Monthly and quarterly payments can only be sent by
electronic funds transfer directly to a checking or savings account. The
minimum monthly payment is $50, the minimum quarterly payment is $100, and the
minimum semi-annual or annual payment is $250. If the withdrawal is less than
the minimum then it can only be sent on an annual basis. The maximum payment
is 10% of the Policy Value divided by the number of payments made per year
(e.g. 12 for monthly). If this amount is below the minimum distribution
requirements for that policy specified by the IRS for tax qualified plans, the
maximum payment will be increased to this minimum required distribution
amount. The "Request for Systematic Withdrawal" form must specify a date for
the first payment, which must be at least 30 days but not more than one year
after the form is submitted.
The Contingent Deferred Sales Charge will be waived for Policy Owners under
age 59 1/2 of Qualified Policies if they take Systematic Withdrawals using one
of the three payout methods described in I.R.S. Notice 89-25, Q&A-12 (the Life
Expectancy Recalculation Option, Amortization, or Annuity Factor) which
generally require payments for life or life expectancy. These payments must be
continued until the later of age 59 1/2 or five years from their commencement.
No additional withdrawals may be taken during this time. For Qualified
Policies, Policy Owners age 59 1/2 or older, the
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<PAGE>
Contingent Deferred Sales Charge will be waived if payments are made using the
Life Expectancy Recalculation Option.
In addition, for either Qualified or Nonqualified policies, the Contingent
Deferred Sales Charge will not be imposed on Systematic Withdrawals that do
not exceed 10% of the Policy Value (that is, the Sales Charge will apply as if
the "annualized" payments were a single payment). For other Systematic
Withdrawals, the Contingent Deferred Sales Charge will apply in accordance
with its terms.
Systematic Withdrawals will not be available for Tax Deferred 403(b)
Annuities under age 59 1/2 or that have an outstanding loan, and AUSA will
terminate the option under such Policies if a loan is taken out.
Qualified Policies are subject to complex rules with respect to restrictions
on and taxation of distributions, including the applicability of penalty
taxes. In addition, the treatment of periodic withdrawals from Nonqualified
Policies is unclear, particularly with respect to avoiding the 10% Federal tax
penalty. Therefore, a qualified tax adviser should be consulted before a
Systematic Withdrawal Plan is requested. In certain circumstances withdrawn
amounts may be included in the Policy Owner's gross income. (See "Certain
Federal Income Tax Consequences," Page .)
ANNUITY PAYMENTS
Annuity Commencement Date. Unless the Annuity Commencement Date is changed,
Annuity Payments under a Policy will begin on the Annuity Commencement Date
which is selected by the Policy Owner at the time the Policy is applied for.
The Annuity Commencement Date may be changed from time to time by the Policy
Owner by Written Notice to AUSA, provided that notice of each change is
received by AUSA at its Service Office at least thirty (30) days prior to the
then current Annuity Commencement Date. Except as otherwise permitted by AUSA,
a new Annuity Commencement Date must be a date which is: (1) after the
Annuitant attains age 40; (2) at least thirty (30) days after the date notice
of the change is received by AUSA; and (3) not later than the first day of the
first month following the Annuitant's 90th birthday.
The Annuity Commencement Date may also be changed by the Beneficiary's
election of the Annuity Option after the Annuitant's death.
Election of Payment Option. During the lifetime of the Annuitant and prior
to the Annuity Commencement Date, the Policy Owner may choose an Annuity
Payment Option or change the election, but Written Notice of any election or
change of election must be received by AUSA at its Service Office at least
thirty (30) days prior to the Annuity Commencement Date. If no election is
made prior to the Annuity Commencement Date, Annuity Payments will be made
under Option 3-V, life income with variable payments for 10 years certain. If
the Annuity Purchase Value on the Annuity
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Commencement Date is less than $2000, AUSA reserves the right to pay it in one
lump sum in lieu of applying it under an Annuity Payment Option.
Prior to the Annuity Commencement Date, the Beneficiary may elect to receive
the Death Benefit in a lump sum or under one of the Payment Options, to the
extent allowed by law and subject to the terms of any settlement agreement.
(See "Death Benefit," p 42.) Annuity Payments will be made on either a fixed
basis or a variable basis as selected by the Policy Owner (or the Beneficiary,
after the Annuitant's death).
The person who elects a Payment Option can also name one or more successor
payees to receive any unpaid amount AUSA has at the death of a payee. Naming
these payees cancels any prior choice of a successor payee.
A payee who did not elect the Payment Option does not have the right to
advance or assign payments, take the payments in one sum, or make any other
change. However, the payee may be given the right to do one or more of these
things if the person who elects the option tells AUSA in writing and AUSA
agrees.
Unless the Policy Owner specifies otherwise, the payee shall be the
Annuitant, or, after the Annuitant's death, the Beneficiary. AUSA may require
written proof of the age of any person who has an annuity purchased under
Option 3, 3-V, 5 or 5-V.
Premium Tax. AUSA may be required by state law to pay premium tax on the
amount applied to a payment option or upon withdrawal. If so, AUSA will deduct
the premium tax before applying or paying the proceeds.
Supplementary Policy. Once proceeds become payable and a choice has been
made, AUSA will issue a Supplementary Policy in settlement of the option
elected under the Policy setting forth the terms of the option elected. The
Supplementary Policy will name the payees and will describe the payment
schedule.
ANNUITY PAYMENT OPTIONS
The Policy provides five Payment Options which are described below. Three of
these are offered as either "Fixed Payment Options" or "Variable Payment
Options," and two are only available as Fixed Payment Options. The Policy
Owner may elect a Fixed Payment Option, a Variable Payment Option, or a
combination of both. If the Policy Owner elects a combination, he must specify
what part of the Annuity Purchase Value is to be applied to the Fixed and
Variable Options.
NOTE CAREFULLY: Under Payment Options 3(1) and 5 (including 3-V(1) and 5-V),
it would be possible for only one Annuity Payment to be made if the
Annuitant(s) were to die before the due date of the second annuity payment;
only two Annuity Payments if the Annuitant(s) were to die before the due date
of the third annuity payment; and so forth.
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<PAGE>
On the Annuity Commencement Date, the Policy's Annuity Purchase Value will
be applied to provide for Annuity Payments under the selected Annuity Option
as specified. The Annuity Purchase Value is the Policy Value for the Valuation
Period which ends immediately preceding the Annuity Commencement Date, reduced
by any applicable premium or similar taxes and in some cases during the first
five Policy Years, any applicable Contingent Deferred Sales Charge.
The effect of choosing a Fixed Annuity Option is that the amount of each
payment will be set on the Annuity Commencement Date and will not change. If a
Fixed Annuity Option is selected, the Policy Value will be transferred to the
general account of AUSA, and the Annuity Payments will be fixed in amount by
the fixed annuity provisions selected and the age and sex (if consideration of
sex is allowed) of the Annuitant. For further information, contact AUSA at its
Service Office.
Guaranteed Values. There are five Fixed Annuity Options. Options 1, 2 and 4
are based on a guaranteed interest rate of 3%. Options 3 and 5 are based on a
guaranteed interest rate of 3% using the "1983 Table a" (male, female, and
unisex if required by law) mortality table with projection scale G. ("The 1983
Table a" mortality rates are adjusted based on improvements in mortality since
1983 to more appropriately reflect increased longevity. This is accomplished
using a set of improvement factors referred to as projection scale G.)
Option 1--Interest Payments. The policy proceeds may be left with AUSA for
any term agreed to. AUSA will pay the interest in equal payments or it may be
left to accumulate. Withdrawal rights will be agreed upon by the Owner and
AUSA when the option is elected.
Option 2--Income for a Specified Period. Level payments of the proceeds with
interest are made for the fixed period elected, at which time the funds are
exhausted.
Option 3--Life Income. An election may be made between:
1. "No Period Certain"--Level payments will be made during the lifetime of
the Annuitant.
2. "10 Years Certain"--Level Payments will be made for the longer of the
Annuitant's lifetime or ten years.
3. "Guaranteed Return of Policy Proceeds"--Level payments will be made for
the longer of the Annuitant's lifetime or the number of payments which,
when added together, equals the proceeds applied to the income option.
Option 4--Income of a Specified Amount. Payments are made for any specified
amount until the proceeds with interest are exhausted.
Option 5--Joint and Survivor Annuity. Payments are made during the joint
lifetime of the payee and a joint payee of the Owner's selection. Payments
will be made as long as either person is living.
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<PAGE>
Other options may be arranged by agreement with AUSA. Certain options may
not be available in some states.
Current immediate annuity rates for the same class of annuities will be used
if higher than the guaranteed amount (guaranteed amounts are based upon the
tables contained in the Policy). Current amounts may be obtained from AUSA.
Variable Payment Options. The dollar amount of the first Variable Annuity
Payment will be determined in accordance with the annuity payment rates set
forth in the applicable table contained in the Policy. The tables are based on
the "1983 Table a" with projection Scale G, ("The 1983 Table a" mortality
rates are adjusted based on improvements in mortality since 1983 to more
appropriately reflect increased longevity. This is accomplished using a set of
improvement factors referred to as projection scale G.) with a 5% effective
annual Assumed Interest Rate and assume a retirement date in the year 2000.
The dollar amount of every subsequent Variable Annuity Payment will vary based
on the investment performance of the Subaccount of the Mutual Fund Account
selected by the Annuitant or Beneficiary. If the actual investment performance
exactly matched the Assumed Interest Rate of 5% at all times, the amount of
each Variable Annuity Payment would remain equal. If actual investment
performance exceeds the Assumed Interest Rate, the amount of the payments
would increase. Conversely, if actual investment performance is worse than the
Assumed Interest Rate, the amount of the payments would decrease.
Determination of the First Variable Payment. The amount of the first
variable payment depends upon the sex (if consideration of sex is allowed) and
adjusted age of the Annuitant. The adjusted age is the annuitant's actual age
nearest birthday, at the Annuity Commencement Date, adjusted as follows:
<TABLE>
<CAPTION>
ANNUITY COMMENCEMENT DATE ADJUSTED AGE
------------------------- ------------
<S> <C>
Before 2001........................................ Actual Age
2001-2010.......................................... Actual Age minus 1
2011-2020.......................................... Actual Age minus 2
2021-2030.......................................... Actual Age minus 3
2031-2040.......................................... Actual Age minus 4
After 2040......................................... As determined by AUSA
</TABLE>
This adjustment assumes an increase in life expectancy, and therefore it
results in lower payments than without such an adjustment.
The following Variable Payment Options generally are available:
Option 3-V--Life Income. An election may be made between:
1. "No Period Certain"--Payments will be made during the lifetime of the
Annuitant.
2. "10 Years Certain"--Payments will be made for the longer of the
Annuitant's lifetime or ten years.
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<PAGE>
Option 4-V--Income of a specified Amount. Payments are made for any
specified amount until the proceeds with accumulated gains or losses are
exhausted. At any time this option is in effect, the Annuitant can surrender
the Policy for the remaining value. Payments under this option are considered
withdrawals for federal income tax purposes.
Option 5-V--Joint and Survivor Annuity. Payments are made as long as either
the annuitant or the joint annuitant is living.
Certain options may not be available in some states.
Determination of Subsequent Variable Payments. All Variable Annuity Payments
other than the first are calculated using "Annuity Units" which are credited
to the Policy. The number of Annuity Units to be credited in respect of a
particular Subaccount is determined by dividing that portion of the first
Variable Annuity Payment attributable to that Subaccount by the Annuity Unit
Value of that Subaccount for the Annuity Commencement Date. The number of
Annuity Units of each particular Subaccount credited to the Policy then
remains fixed. The dollar value of variable Annuity Units in the chosen
Subaccount will increase or decrease reflecting the investment experience of
the chosen Subaccount. The dollar amount of each Variable Annuity Payment
after the first may increase, decrease or remain constant, and is equal to the
sum of the amounts determined by multiplying the number of Annuity Units of
each particular Subaccount credited to the Policy by the Annuity Unit Value
for the particular Subaccount on the date the payment is made.
Unless restricted by a particular Account or Subaccount, a Policy Owner may
transfer the value of the Annuity Units from one Subaccount to another within
the Mutual Fund Account or to the Fixed Account. However, after the Annuity
Commencement Date no transfers may be made from the Fixed Account to the
Mutual Fund Account. The minimum amount which may be transferred is the lesser
of $10 of monthly income or the entire monthly income of the variable Annuity
Units in the Subaccount from which the transfer is being made. The remaining
Annuity Units in the Subaccount must provide at least $10 of monthly income.
If, after a transfer, the monthly income of the remaining Annuity Units in a
Subaccount would be less than $10, AUSA reserves the right to include those
Annuity Units as part of the transfer. AUSA reserves the right to limit
transfers between Subaccounts or to the Fixed Account to once per Policy Year.
Tax Withholding. A portion or the entire amount of the Annuity Payments may
be taxable as ordinary income. If, at the time the Annuity Payments begin, the
Policy Owner has not provided AUSA with a written election not to have federal
income taxes withheld, AUSA must by law withhold such taxes from the taxable
portion of such annuity payments and remit that amount to the federal
government. Withholding is mandatory as to certain Qualified Policies. (See
"Certain Federal Income Tax Consequences," p. 48).
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<PAGE>
Adjustment of Annuity Payments. Payments will be made at 1, 3, 6, or 12
month intervals. If the individual payments provided for would be or become
less than $30, AUSA may change, at its discretion, the frequency of payments
to such intervals as will result in payments of at least $30. If the Annuity
Purchase Value on the Annuity Commencement Date is less than $2,000, AUSA may
pay such value in one sum in lieu of the payments otherwise provided for.
DEATH BENEFIT
Death of Annuitant Prior to Annuity Commencement Date. If the Annuitant who
is the Owner dies prior to the Annuity Commencement Date, a Death Benefit will
be payable to the Beneficiary. During the first seven policy years, the Death
Benefit will equal the larger of (a) the sum of the Premium Payments, less
Adjusted Partial Withdrawals taken, or (b) the Policy Value as of the date Due
Proof of Death and an election of a method of settlement and return of the
Policy are received by AUSA's Service Office. After the seventh Policy
Anniversary, the Death Benefit amount will be the greatest of (a), (b), and
(c), where (a) and (b) are defined above and where (c) is the Policy Value on
the seventh Policy Anniversary plus all Premiums paid less any Adjusted
Partial Withdrawals taken since that Policy Anniversary. The Adjusted Partial
Withdrawal amount for each partial withdrawal is equal to the product of (a)
times (b), where:
(a) is the ratio of the amount of partial withdrawal taken to the Policy
Value on the date of, but prior to the partial withdrawal; and
(b) is the Death Benefit on the date of, but prior to the partial
withdrawal.
If a partial withdrawal is taken when the Death Benefit exceeds the Policy
Value, then the Adjusted Partial Withdrawal amount will exceed the amount of
the partial withdrawal. In that case, the total proceeds of a partial
withdrawal followed by a Death Benefit could be less than total Premium
Payments.
For Policies issued under Endorsement AE877 695 (issued after June 1996) the
amount of the death proceeds will be the greater of (a) or (b) where:
(a) is the Policy Value on the date AUSA receives due proof of death and
an election of a method of settlement, and:
(b) is the Guaranteed Minimum Death Benefit.
The "Guaranteed Minimum Death Benefit" is equal to the largest Policy Value on
the Date of Issue or on any Policy Anniversary prior to the Owner's 81st
birthday, plus any premiums paid, less any Adjusted Partial Withdrawals taken,
subsequent to the date of the largest anniversary Policy Value.
Note that the Death Benefit is payable on the death of the Annuitant who is
the owner, not the death of the Owner, if different. If the Annuitant
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<PAGE>
who is not the Owner dies, the Owner will become the Annuitant unless the
Owner specifically requests on the application or in writing that the death
benefit be paid upon the Annuitant's death and AUSA agrees to such an
election.
Due Proof of Death of the Annuitant is proof that the Annuitant who is the
Owner died prior to the commencement of Annuity Payments. Upon receipt of this
proof and an election of a method of settlement and return of the Policy, the
Death Benefit generally will be paid within seven days, or as soon thereafter
as AUSA has sufficient information about the Beneficiary to make the payment.
The Beneficiary may receive the amount payable in a lump sum cash benefit, or,
subject to any limitation under any state or federal law, rule, or regulation,
under one of the Annuity Payment Options described above, unless a settlement
agreement is effective at the death of the Annuitant preventing such election.
If the Annuitant was the Policy Owner, and the Beneficiary was not the
Annuitant's spouse, then (1) the Death Benefit must be distributed within five
years of the Annuitant's death, or (2) payments under a Payment Option must
begin within one year of the Annuitant's death and must be made for the
Beneficiary's lifetime or for a period certain (so long as any certain period
does not exceed the Beneficiary's life expectancy). Death proceeds which are
not paid to or for the benefit of a natural person must be distributed within
five years of Annuitant's death. If the sole Beneficiary is the Annuitant's
surviving spouse, such spouse may elect to continue the Policy as the new
Annuitant and Policy Owner instead of receiving the Death Benefit. (See
"Federal Tax Matters" in the Statement of Additional Information.)
If the Annuitant is not the Owner, and the Owner dies prior to the Annuity
Commencement Date, a Successor Owner may surrender the Policy at any time for
the Adjusted Policy Value. If the Successor Owner is not the deceased Owner's
surviving spouse, however, this amount must be distributed within five years
after the date of death of the Owner, or payments under a Payment Option must
begin within one year of the deceased Owner's death and must be made for the
Beneficiary's lifetime or for a period certain (so long as any certain period
does not exceed the Beneficiary's life expectancy).
Death of Annuitant On or After Annuity Commencement Date. The death benefit
payable if the Annuitant dies on or after the Annuity Commencement Date
depends on the Payment Option selected. Upon the Annuitant's death, the
remaining portion of the entire interest in the Policy, if any, will be
distributed at least as rapidly as under the method of distribution being used
as of the date of the Annuitant's death.
Beneficiary. The Beneficiary designation in the application will remain in
effect until changed. The Policy Owner may change the designated Beneficiary
by sending Written Notice to AUSA. The Beneficiary's consent to such change is
not required unless the Beneficiary was irrevocably
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<PAGE>
designated or consent is required by law. (If an irrevocable Beneficiary dies,
the Policy Owner may then designate a new Beneficiary.) The change will take
effect as of the date the Policy Owner signs the Written Notice, whether or
not the Policy Owner is living when the Notice is received by AUSA. AUSA will
not be liable for any payment made before the Written Notice is received. If
more than one Beneficiary is designated, and the Policy Owner fails to specify
their interests, they will share equally.
DEATH OF OWNER
Federal tax law requires that if any Policy Owner (including any joint Owner
or any Successor Policy Owner who has become a current Owner) dies before the
Annuity Commencement Date, then the entire value of the Policy must generally
be distributed within five years of the date of death of such Policy Owner or
the Contingent Policy Owner. Certain rules apply where 1) the spouse of the
deceased Owner is the sole Beneficiary, 2) the Policy Owner is not a natural
person and the primary Annuitant dies or is changed, or 3) any Policy Owner
dies after the Annuity Commencement Date. See "Federal Tax Matters" in the
Statement of Additional Information for a detailed description of these rules.
Other rules may apply to Qualified Contracts.
RESTRICTIONS UNDER SECTION 403(B) PLANS
Section 403(b) of the Internal Revenue Code provides for tax-deferred
retirement savings plans for employees of certain non-profit and educational
organizations. In accordance with the requirements of Section 403(b), any
Policy used for a 403(b) plan will prohibit distributions of elective
contributions and earnings on elective contributions except upon death of the
employee, attainment of age 59 1/2, separation from service, disability, or
financial hardship. In addition, income attributable to elective contributions
may not be distributed in the case of hardship.
RESTRICTIONS UNDER QUALIFIED POLICIES
Other restrictions with respect to the election, commencement, or
distribution of benefits may apply under Qualified Policies or under the terms
of the plans in respect of which Qualified Policies are issued.
CHARGES AND DEDUCTIONS
No deductions are made from Premium Payments, so that the full amount of
each Premium Payment is invested in one or more of the Accounts. AUSA will
make certain charges and deductions in connection with the Policy in order to
compensate it for incurring expenses in distributing the Policy, bearing
mortality and expense risks under the Policy, and administering the Accounts
and the Policies. Charges may also be made for premium taxes, federal, state
or local taxes, or for certain transfers or other transactions. Charges and
expenses are also deducted from the Underlying Funds.
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<PAGE>
CONTINGENT DEFERRED SALES CHARGE
AUSA will incur expenses relating to the sale of Policies, including
commissions to registered representatives and other promotional expenses. AUSA
may apply a Contingent Deferred Sales Charge to any amount surrendered (i.e.,
withdrawn) in connection with a full or partial Policy surrender in order to
cover distribution expenses. A Contingent Deferred Sales Charge will not be
applied to withdrawal, after the first Policy Year, of up to 10% of the Policy
Value, if there have been no withdrawals in the current Policy Year. A
Contingent Deferred Sales Charge will also not be applied if the withdrawal is
necessary to meet the minimum distribution requirements for that policy
specified by the IRS for tax qualified plans or if the Policy Value is applied
to provide an Annuity under one of the Annuity Payment Options, unless the
Policy Value is applied, during the first five Policy Years, under Payment
Options 2, 4, or 4-V with payments for less than five years. The Contingent
Deferred Sales Charge is also waived upon certain Systematic Withdrawals (see
p. 36).
The amount of the Contingent Deferred Sales Charge is determined by
multiplying the amount of the premium withdrawn by the applicable Contingent
Deferred Sales Charge Percentage. The applicable Contingent Deferred Sales
Charge Percentage will depend upon the number of Policy Anniversaries that
have elapsed since the Premium Payment that is being withdrawn was made. For
this purpose, surrenders are allocated to Premium Payments on a "first in-
first out" basis, i.e., first to the oldest Premium Payment, then to the next
oldest Premium Payment, and so on. Premium Payments are deemed to be withdrawn
before earnings, and after all Premium Payments have been withdrawn, the
remaining Cash Value may be withdrawn without any Contingent Deferred Sales
Charge. The following is the table of Contingent Deferred Sales Charge
Percentages:
<TABLE>
<CAPTION>
NUMBER OF POLICY APPLICABLE CONTINGENT
YEARS SINCE DEFERRED SALES
PREMIUM PAYMENT CHARGE PERCENTAGE
---------------- ---------------------
<S> <C>
Less than 1.......................................... 7%
At least 1 and less than 2........................... 6%
At least 2 and less than 3........................... 5%
At least 3 and less than 4........................... 4%
At least 4 and less than 5........................... 3%
At least 5 and less than 6........................... 2%
At least 6 and less than 7........................... 1%
</TABLE>
AUSA anticipates that the Contingent Deferred Sales Charge will not generate
sufficient funds to pay the cost of distributing the Policies. If this charge
is insufficient to cover the distribution expenses, the deficiency will be met
from AUSA's general funds, which will include amounts derived from the charge
for mortality and expense risks.
MORTALITY AND EXPENSE RISK FEE
AUSA imposes a daily charge as compensation for bearing certain mortality
and expense risks in connection with the Policies. This charge is
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<PAGE>
equal to an effective annual rate of 1.25% of the value of net assets in the
Mutual Fund Account. The Mortality and Expense Risk Fee is reflected in the
Accumulation or Annuity Unit Values for the Policy for each Subaccount.
Policy Values and Annuity Payments are not affected by changes in actual
mortality experience nor by actual expenses incurred by AUSA. The mortality
risks assumed by AUSA arise from its contractual obligations to make Annuity
Payments (determined in accordance with the Annuity tables and other
provisions contained in the Policy) and to pay Death Benefits prior to the
Annuity Commencement Date. Thus, Owners are assured that neither an
Annuitant's own longevity nor an unanticipated improvement in general life
expectancy will adversely affect the monthly Annuity payments that the
Annuitant will receive under the Policy.
AUSA also bears substantial risk in connection with the Death Benefit
Guarantee since AUSA will pay a Death Benefit equal to the Premium Payments,
less withdrawals, (or the Policy Value on the seventh policy anniversary, as
set out in Death Benefits Section, page 42) if that amount is higher than the
Policy Value at the date of the Annuitant's death.
The expense risk assumed by AUSA is the risk that AUSA's actual expenses in
administering the Policy and the Accounts will exceed the amount recovered
through the Administrative and Service Charges.
If the Mortality and Expense Risk Fee is insufficient to cover AUSA's actual
costs, AUSA will bear the loss; conversely, if the charge is more than
sufficient to cover costs, the excess will be profit to AUSA. AUSA expects a
profit from this charge. To the extent that the Contingent Deferred Sales
Charge is insufficient to cover the actual cost of Policy distribution, the
deficiency will be met from AUSA's general corporate assets, which may include
amounts, if any, derived from the Mortality and Expense Risk Fee. A Mortality
and Expense Risk Fee is also assessed during the annuity phase for all
Variable Annuity Options including those that do not carry a life contingency.
ADMINISTRATIVE CHARGES
In order to cover the costs of administering the Policies and the Accounts,
AUSA deducts a Service Charge from the Policy Value of each Policy, and also
deducts a daily Administrative Expense Charge from the assets of each
Subaccount of the Mutual Fund Account.
The annual Service Charge is deducted from the Policy Value of each Policy
on each Policy Anniversary prior to the Annuity Commencement Date. After the
Annuity Commencement Date, the charge is not deducted. This annual Service
Charge is $35 and it will not be increased during the term of the Policy. It
will never exceed 2% of the Policy Value. For Policies issued after June, 1,
1996, this charge is waived if the sum of the Premium Payments made less the
sum of all Partial Withdrawals is at least $50,000 on the Policy Anniversary.
AUSA does not anticipate realizing any profit from
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<PAGE>
this charge. The Service Charge will be deducted only from the Subaccounts in
the Mutual Fund Account, in the same proportion that the Policy Owner's
interest in each Subaccount bears to the Policy Value in the Mutual Fund
Account.
AUSA also deducts a daily Administrative Expense Charge from the assets of
each Subaccount of the Mutual Fund Account. This charge currently is equal to
an effective annual rate of .15% of the net assets of each Subaccount of the
Mutual Fund Account. The Administrative Expense Charge may be increased in the
future (but it will never exceed .30%, and the combined total of this charge
and the Mortality and Expense Risk Fee will never exceed the current level of
1.40%).
PREMIUM TAXES
AUSA currently makes no deduction from the Premium Payments for any state
premium taxes AUSA pays in connection with Premium Payments under the
Policies. However, AUSA will deduct the aggregate premium taxes paid on behalf
of a particular Policy from the Policy Value on the later of (i) the Annuity
Commencement Date (thus reducing the Policy Value), (ii) the total surrender
of a Policy, or (iii) date of payment of the death proceeds of a Policy.
Premium taxes currently range from 0% to 3.50% of Premium Payments.
FEDERAL, STATE AND LOCAL TAXES
No charges are currently made for federal, state, or local taxes other than
premium taxes. However, AUSA reserves the right to deduct charges in the
future from the Accounts or Subaccounts for any taxes or other economic burden
resulting from the application of any tax laws that AUSA determines to be
attributable to the accounts or the policies.
TRANSFER CHARGE
There is no charge for the first 12 transfers between Investment Options in
each Policy Year. AUSA reserves the right to impose a $25 charge for the
thirteenth and each subsequent transfer request made by the Owner during a
single Policy Year. For the purpose of determining whether a transfer charge
is payable, initial Premium Payment allocations are not considered transfers.
All transfer requests made simultaneously will be treated as a single request.
No transfer charge will be imposed for any transfer which is not at the
Owner's request.
OTHER EXPENSES INCLUDING INVESTMENT ADVISORY FEES
Each of the Portfolios of the Underlying Funds is responsible for all of its
expenses. In addition, charges will be made against each of the Portfolios of
the Underlying Funds for investment advisory services provided to the
Portfolio. The net assets of each Portfolio of the Underlying Funds will
reflect deductions in connection with the investment advisory fee and other
expenses.
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<PAGE>
For more information concerning the investment advisory fee and other
charges against the Portfolios, see the prospectuses for the Underlying Funds,
current copies of which accompany this Prospectus.
EMPLOYEES AND AGENT PURCHASES
The Policy may be acquired by an employee or registered representative of
any broker/dealer authorized to sell the Policy or their spouse or minor
children, or by an officer, director, trustee or bona-fide full-time employee
of AUSA or its affiliated companies or their spouse or minor children. In such
a case, a bonus of 5% of each premium deposit may be credited to the Policy
due to lower acquisition costs AUSA experiences on those purchases.
Compensation to the registered representative and broker/dealer will be
reduced by the amount of such bonus.
CERTAIN FEDERAL INCOME TAX CONSEQUENCES
The following summary does not constitute tax advice. It is a general
discussion of certain of the expected federal income tax consequences of
investment in and distributions with respect to a Policy, based on the
Internal Revenue Code of 1986, as amended (the "Code"), proposed and final
Treasury Regulations thereunder, judicial authority, and current
administrative rulings and practice. This summary discusses only certain
federal income tax consequences to "United States Persons," and does not
discuss state, local, or foreign tax consequences. United States Persons means
citizens or residents of the United States, domestic corporations, domestic
partnerships and trusts or estates that are subject to United States federal
income tax regardless of the source of their income.
At the time the initial Premium Payment is paid, a prospective purchaser
must specify whether he or she is purchasing a Nonqualified Policy or a
Qualified Policy. If the initial Premium Payment is derived from an exchange
or surrender of another annuity policy, AUSA may require that the prospective
purchaser provide information with regard to the federal income tax status of
the previous annuity policy. AUSA will require that persons purchase separate
Policies if they desire to invest monies qualifying for different annuity tax
treatment under the Code. Each such separate Policy would require the minimum
initial Premium Payment stated above. Additional Premium Payments under a
Policy must qualify for the same federal income tax treatment as the initial
Premium Payment under the Policy; AUSA will not accept an additional Premium
Payment under a Policy if the federal income tax treatment of such Premium
Payment would be different from that of the initial Premium Payment.
The Qualified Policies were designed for use by retirement plans and
individual retirement accounts that qualify for special federal income tax
treatment under Sections 401(a), 403(b), or 408(a) of the Code and individuals
purchasing individual retirement annuities that qualify for special federal
income tax treatment under Section 408(b) of the Code. Certain
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<PAGE>
requirements must be satisfied in purchasing a Qualified Policy in order for
the plan, account or annuity to retain its special tax treatment. This summary
is not intended to cover such requirements, and assumes that Qualified
Policies are purchased pursuant to retirement plans or individual retirement
accounts, or are individual retirement annuities, that qualify for such
special tax treatment. This summary was prepared by AUSA after consultation
with tax counsel, but no opinion of tax counsel has been obtained.
THE DISCUSSION SET FORTH BELOW IS INCLUDED FOR GENERAL PURPOSES ONLY. EACH
POTENTIAL PURCHASER IS URGED TO CONSULT HIS/HER OWN TAX ADVISER AS TO THE
CONSEQUENCES OF INVESTMENT IN A POLICY UNDER FEDERAL AND APPLICABLE STATE,
LOCAL AND FOREIGN TAX LAWS.
TAX STATUS OF THE POLICY
The following discussion is based on the assumption that the Policy
qualifies as an annuity contract for federal income tax purposes. The
Statement of Additional Information discusses the tax requirements for
qualifying as an annuity contract.
TAXATION OF ANNUITIES
The discussion below applies only to those Policies owned by natural
persons, and that qualify as annuity contracts for federal income tax
purposes. With respect to Owners who are natural persons, the Policy should be
treated as an annuity contract for federal income tax purposes.
In General. Except as described below with respect to Owners who are not
natural persons, an Owner who holds a Policy satisfying the diversification
and distribution requirements described in the Statement of Additional
Information should not be taxed on increases in the Policy Value until an
amount is received or deemed received, e.g., upon a partial or full surrender
or as Annuity Payments under the Annuity Option selected. Generally, any
amount received or deemed received under a Nonqualified Annuity Contract prior
to the Annuity Commencement Date is deemed to come first from any "Income on
the Contract" and then from the "Investment in the Contract." The "Investment
in the Contract" generally equals total premium payments less amounts received
which were not includable in gross income. To the extent that the Policy Value
(Cash Value in the event of a surrender) exceeds the "Investment in the
Contract," such excess constitutes the "Income on the Contract." As a result,
any such amount received or deemed received (i) shall be includable in gross
income to the extent that such amount does not exceed any such "Income on the
Contract," and (ii) shall not be includable in gross income to the extent that
such amount does exceed any such "Income on the Contract." For these purposes
such "Income on the Contract" shall be computed by reference to the
aggregation rules described below, and the amount includable in gross income
will be taxable as ordinary income. If at the time that any amount is
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<PAGE>
received or deemed received there is no "Income on the Contract" (e.g.,
because the gross Policy Value does not exceed the "Investment in the
Contract" and no aggregation rule applies), then such amount received or
deemed received will not be includable in gross income, and will simply reduce
the "Investment in the Contract."
For this purpose, the assignment, pledge or agreement to assign or pledge
any portion of the Policy Value (including assignment of Owner's right to
receive Annuity Payments prior to the Annuity Commencement Date) generally
will be treated as a distribution in the amount of such portion of the Policy
Value. Additionally, if an Owner designates a new Owner prior to the Annuity
Commencement Date without receiving full and adequate consideration, the old
Owner generally will be treated as receiving a distribution under the Policy
in an amount equal to the Policy Value. A transfer of ownership or an
assignment of a Policy, or designation of an Annuitant or Beneficiary who is
not also the Owner, may result in certain tax consequences to the Owner that
are not discussed herein. An Owner contemplating any such transfer,
designation or assignment of a Policy should contact a competent tax adviser
with respect to the potential tax effects of such a transaction.
Aggregation Rules. Generally all nonqualified deferred annuity contracts
issued by the same company (or an affiliated company) to the same owner during
any calendar year shall be treated as one annuity contract, and "aggregated"
for purposes of determining the amount includable in gross income. In
addition, for such purposes all individual retirement annuities and accounts
under Section 408 of the Code for an individual are aggregated, and generally
all distributions therefrom during a calendar year are treated as one
distribution made as of the end of such year.
Surrenders. In the case of a partial surrender (including systematic
withdrawals) under a Nonqualified Policy or the amount received generally will
be includable in gross income only up to the amount of the "Income on the
Contract." In the case of a partial surrender (including systematic
withdrawals) under a Qualified Policy, (other than one qualified under Section
457 of the Code), a ratable portion of the amount received is generally
excludable from gross income, based on the ratio of the "Investment in the
Contract" to the individual's total account balance or accrued benefit under
the retirement plan at the time of each such payment. For a Qualified Policy,
the "Investment in the Contract" can be zero. Special tax rules may be
available for certain distributions from a Qualified Policy. In the case of a
full surrender under a Nonqualified Policy or a Qualified Policy, the amount
received generally will be taxable only to the extent it exceeds the
"Investment in the Contract."
Annuity Payments. Although the tax consequences may vary depending on the
Annuity Payment Option elected under the Policy, in general, only a portion of
the Annuity Payments received after the Annuity Commencement Date will be
includable in the gross income of the recipient.
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<PAGE>
For Fixed Annuity Payments, in general the excludable portion of each
payment is determined by dividing the Investment in the Contract on the
Annuity Commencement Date by the total expected return resulting from Annuity
Payments for the term of the payments. The remainder of each Annuity Payment
is includable in gross income. Once the Investment in the Contract has been
fully recovered, the full amount of any additional Annuity Payments received
is includable in gross income.
For Variable Annuity Payments, the includable portion is generally
determined by an equation that establishes a specific dollar amount of each
payment that is excludable from gross income. This dollar amount is determined
by dividing the "Investment in the Contract" on the Annuity Commencement Date
by the total number of expected periodic payments. The remainder of each
Annuity Payment is includable in gross income. Once the "Investment in the
Contract" has been fully recovered, the full amount of any additional Annuity
Payments is includable in gross income.
Where an Owner allocates a portion of the Annuity Purchase Value on the
Annuity Commencement Date to more than one annuity payment option (fixed or
variable), special rules govern the allocation of the Policy's entire
"Investment in the Contract" on such date to each such option, for purposes of
determining the excludable amount of each payment received under that option.
AUSA makes no attempt to describe these allocation rules, because they would
prescribe a complex variety of results, depending on how the allocations were
made among the various types of options. Instead, any Owner is advised to
consult a competent tax adviser as to the potential tax effects of allocating
any amount of Annuity Purchase Value to any particular annuity payment option.
If, after the Annuity Commencement Date, Annuity Payments cease by reason of
the death of the Annuitant, the excess (if any) of the Investment in the
Contract as of the Annuity Commencement Date over the aggregate amount of
Annuity Payments received on or after the Annuity Commencement Date that was
excluded from gross income is allowable as a deduction for the last taxable
year of the Annuitant.
Taxation of Death Benefit Proceeds. Amounts may be distributed from the
Policy because of the death of an Owner or the Annuitant. Generally, such
amounts are includable in the income of the recipient as follows: (1) if
distributed in a lump sum, they are taxed in the same manner as a full
surrender, as described above, or (2) if distributed under an Annuity Payment
Option, they are taxed in the same manner as Annuity Payments, as described
above. For these purposes, the "Investment in the Contract" is not affected by
the Owner's or Annuitant's death. That is, the "Investment in the Contract"
remains generally the total premium payments less amounts received which were
not includable in gross income.
Penalty Taxes. In the case of any amount received or deemed received from
the Policy, e.g., upon a surrender of a Policy (including systematic
withdrawals) or a deemed distribution under a Policy resulting
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<PAGE>
from a pledge, assignment or agreement to pledge or assign or an Annuity
Payment with respect to a Policy, there may be imposed on the recipient a
Federal tax penalty equal to 10% of the amount includable in gross income. The
penalty tax generally will not apply to any distribution: (i) made on or after
the date on which the taxpayer attains age 59 1/2; (ii) made as a result of
the death of the holder (generally the Owner); (iii) attributable to the
disability of the taxpayer; or (iv) which is part of a series of substantially
equal periodic payments made (not less frequently than annually) for the life
(or life expectancy) of the taxpayer or the joint lives (or joint life
expectancies) of such taxpayer and his/her beneficiary. Other rules may apply
to Qualified Policies.
Withholding. The portion of any distribution under a Policy that is
includable in gross income will be subject to federal income tax withholding
unless the recipient of such distribution elects not to have federal income
tax withheld. Election forms will be provided at the time distributions are
requested or made. For certain Qualified Policies, certain distributions are
subject to mandatory withholding.
Qualified Policies. The Qualified Policy is designed for use with several
types of tax-qualified retirement plans. The tax rules applicable to
participants and beneficiaries in tax-qualified retirement plans vary
according to the type of plan and the terms and conditions of the plan.
Special favorable tax treatment may be available for certain types of
contributions and distributions. Adverse tax consequences may result from
contributions in excess of specified limits; distributions prior to age 59 1/2
(subject to certain exceptions); distributions that do not conform to
specified commencement and minimum distribution rules; aggregate distributions
in excess of a specified annual amount; and in other specified circumstances.
Some retirement plans are subject to distribution and other requirements that
are not incorporated into our Policy administration procedures. Owners,
participants and beneficiaries are responsible for determining that
contributions, distributions and other transactions with respect to the
Policies comply with applicable law.
AUSA makes no attempt to provide more than general information about use of
the Policy with the various types of retirement plans. Purchasers of Policies
for use with any retirement plan should consult their legal counsel and tax
adviser regarding the suitability of the Policy.
Individual Retirement Annuities. In order to qualify as an individual
retirement annuity under Section 408(b) of the Code, a Policy must contain
certain provisions: (i) the Owner must be the Annuitant; (ii) the Policy
generally is not be transferable by the Owner, e.g., the Owner may not
designate a new Owner, a Successor Owner or assign the Policy as collateral
security; (iii) the total Premium Payments for any calendar year may not
exceed $2,000, except in the case of a rollover amount or contribution under
Section 402(c), 403(a)(4), 403(b)(8) or 408(d)(3) of the Code; (iv) Annuity
Payments or withdrawals must begin no later than April 1 of the calendar year
following the calendar year in which the Annuitant attains age 70 1/2;
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<PAGE>
(v) an Annuity Payment Option with a Period Certain that will guarantee
Annuity Payments beyond the life expectancy of the Annuitant and the
Beneficiary may not be selected; and (vi) certain payments of Death Benefits
must be made in the event the Annuitant dies prior to the distribution of the
Policy Value. Policies intended to qualify as individual retirement annuities
under Section 408(b) of the Code contain such provisions.
Section 408 of the Code also indicates that no part of the funds for an
individual retirement account or annuity should be invested in a life
insurance contract, but the regulations thereunder allow such funds to be
invested in an annuity contract that provides a death benefit that equals the
greater of the premiums paid or the Cash Value for the contract. The Policy
provides an enhanced death benefit that could exceed the amount of such a
permissible death benefit, but it is unclear to what extent such an enhanced
death benefit could disqualify the Policy under Section 408 of the Code. The
Internal Revenue Service has not reviewed the Policy for qualification as an
IRA, and has not addressed in a ruling of general applicability whether an
enhanced death benefit provision such as the provision in the Policy comports
with IRA qualification requirements.
Section 403(b) Plans. Under Section 403(b) of the Code, payments made by
public school systems and certain tax exempt organizations to purchase
Policies for their employees are excludable from the gross income of the
employee, subject to certain limitations. However, such payments may be
subject to FICA (Social Security) taxes. Additionally, in accordance with the
requirements of the Code, Section 403(b) annuities generally may not permit
distribution of (i) elective contributions made in years beginning after
December 31, 1988, and (ii) earnings on those contributions and (iii) earnings
on amounts attributed to elective contributions held as of the end of the last
year beginning before January 1, 1989. Distributions of such amounts will be
allowed only upon the death of the employee, on or after attainment of age 59
1/2, separation from service, disability, or financial hardship, except that
income attributable to elective contributions may not be distributed in the
case of hardship.
Corporate Pension and Profit-Sharing Plans and H.R. 10 Plans. Section 401(a)
and 403(a) of the Code permit corporate employers to establish various types
of retirement plans for employees and self-employed individuals to establish
qualified plans for themselves and their employees. Such retirement plans may
permit the purchase of the Policies to accumulate retirement savings. Adverse
tax consequences to the Plan, the Participant, or both may result if the
Policy is assigned or transferred to any individual as a means to provide
benefit payments.
Deferred Compensation Plans. Section 457 of the Code, while not actually
providing for a qualified plan as that term is normally used, provides for
certain deferred compensation plans with respect to service for state
governments, local governments, political sub-divisions, agencies,
instrumentalities and certain affiliates of such entities and tax exempt
organizations which enjoy special treatment. The Policies can be used with
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<PAGE>
such plans. Under such plans a participant may specify the form of investment
in which his or her participation will be made. All such investments, however,
are owned by, and are subject to, the claims of the general creditors of the
sponsoring employer. Depending on the terms of the particular plan, the
employer may be entitled to draw on deferred amounts for purposes unrelated to
its section 457 plan obligations. In general, all amounts required under a
Section 457 Plan are taxable and are subject to federal income tax withholding
as wages.
Non-natural Persons. Pursuant to Section 72(u) of the Code, an annuity
contract held by a taxpayer other than a natural person generally will not be
treated as an annuity contract under the Code; accordingly, an Owner who is
not a natural person will recognize as ordinary income for a taxable year the
excess of (i) the sum of the Policy Value as of the close of the taxable year
and all previous distributions under the Policy over (ii) the sum of the
Premium Payments paid for the taxable year and any prior taxable year and the
amounts includable in gross income for any prior taxable year with respect to
the Policy. Notwithstanding the preceding sentence, Section 72(u) of the Code
does not apply to (i) a Policy the nominal Owner of which is not a natural
person but the beneficial Owner of which is a natural person, (ii) a Policy
acquired by the estate of a decedent by reason of such decedent's death, (iii)
a Qualified Policy or (iv) a single-payment annuity the Annuity Commencement
Date for which is no later than one year from the date of the single Premium
Payment; instead, such Policies are taxed as described above under the heading
"Taxation of Annuities."
Possible Changes in Taxation. In past years, legislation has been proposed
in the U.S. Congress that would have adversely modified the federal taxation
of certain annuities. For example, one such proposal would have changed the
tax treatment of non-qualified annuities that did not have "substantial life
contingencies" by taxing income as it is credited to the annuity. Although as
of the date of this Prospectus Congress was not actively considering any
legislation regarding the taxation of annuities, there is always the
possibility that the tax treatment of annuities could change by legislation or
other means (such as IRS regulations, revenue rulings, judicial decisions,
etc.). Moreover, it is also possible that any change could be retroactive
(that is, effective prior to the date of the change).
DISTRIBUTOR OF THE POLICIES
AEGON USA Securities, Inc., an affiliate of AUSA, is the principal
underwriter of the Policies. AEGON USA Securities, Inc. has entered or will
enter into one or more agreements with various broker-dealers for the
distribution of the Policies. Commissions on Policy sales ar paid to
broker/dealers. Commissions payable to broker/dealers will be up to 6% of
Premium Payments. In addition, certain broker/dealers may receive additional
commissions or expense allowances based upon sales volume, agent or service
training responsibilities, and other factors. These commissions and expense
allowances are not deducted from Premium Payments, they are paid by AUSA.
- 54 -
<PAGE>
VOTING RIGHTS
To the extent required by law, AUSA will vote the Underlying Funds shares
held by the Mutual Fund Account at regular and special shareholder meetings of
the Underlying Funds in accordance with instructions received from persons
having voting interests in the portfolios (although the Underlying Funds do
not hold regular annual shareholders meetings). If, however, the 1940 Act or
any regulation thereunder should be amended or if the present interpretation
thereof should be amended or if the present interpretation thereof should
change, and as a result AUSA determines that it is permitted to vote the
Underlying Funds' shares in its own right, it may elect to do so.
Before the Annuity Commencement Date, the Policy Owner holds the voting
interest in the selected Portfolios. The number of votes that an Owner has the
right to instruct will be calculated separately for each Subaccount. The
number of votes that an Owner has the right to instruct for a particular
Subaccount will be determined by dividing his or her Policy Value in the
Subaccount by the net asset value per share of the corresponding Portfolio in
which the Subaccount invests. Fractional shares will be counted.
After the Annuity Commencement Date, the person receiving Annuity Payments
has the voting interest, and the number of votes decreases as Annuity Payments
are made and as the reserves for the Policy decrease. The person's number of
votes will be determined by dividing the reserve for the Policy allocated to
the applicable Subaccount by the net asset value per share of the
corresponding Portfolio. Fractional shares will be counted.
The number of votes that the Owner or person receiving income payments has
the right to instruct will be determined as of the date established by the
Underlying Funds for determining shareholders eligible to vote at the meeting
of the Underlying Funds. AUSA will solicit voting instructions by sending
Owners or other persons entitled to vote written requests for instructions
prior to that meeting in accordance with procedures established by the
Underlying Funds. Portfolio shares as to which no timely instructions are
received and shares held by AUSA in which Owners or other persons entitled to
vote have no beneficial interest will be voted in proportion to the voting
instructions that are received with respect to all Policies participating in
the same Subaccount.
Each person having a voting interest in a Subaccount will receive proxy
material, reports, and other materials relating to the appropriate Portfolio.
LEGAL PROCEEDINGS
There are no legal proceedings to which the Mutual Fund Account is a party
or to which the assets of the Account are subject. AUSA is not involved in any
litigation that is of material importance in relation to its total assets or
that relates to the Mutual Fund Account.
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<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
A Statement of Additional Information is available (at no cost) which
contains more details concerning the subjects discussed in this Prospectus.
The following is the Table of Contents for that Statement:
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
The Policy-General Provisions.............................................. 3
Owner.................................................................... 3
Entire Policy............................................................ 3
Delay of Payment and Transfers........................................... 3
Misstatement of Age or Sex............................................... 3
Reallocation of Policy Values After the Annuity Commencement Date........ 4
Assignment............................................................... 4
Evidence of Survival..................................................... 4
Amendments............................................................... 4
Federal Tax Matters........................................................ 5
Tax Status of the Policy................................................. 5
Taxation of AUSA......................................................... 6
Investment Experience...................................................... 6
State Regulation of AUSA................................................... 10
Records and Reports........................................................ 10
Distribution of the Policies............................................... 10
Custody of Assets.......................................................... 10
Historical Performance Data................................................ 11
Money Market Yields...................................................... 11
Other Subaccount Yields.................................................. 12
Total Returns............................................................ 12
Other Performance Data................................................... 13
Legal Matters.............................................................. 13
Independent Auditors....................................................... 13
Other Information.......................................................... 14
Financial Statements....................................................... 14
</TABLE>
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<PAGE>
PROSPECTUS
ENDEAVOR SERIES TRUST
Endeavor Series Trust (the "Fund") is a diversified, open-end management
investment company, that offers a selection of managed investment portfolios,
each with its own investment objective designed to meet different investment
goals. There can be no assurance that these investment objectives will be
achieved.
This Prospectus describes the following ten portfolios currently offered by
the Fund (the "Portfolios").
. TCW Money Market Portfolio
. TCW Managed Asset Allocation Portfolio
. T. Rowe Price International Stock Portfolio
. Value Equity Portfolio
. Dreyfus Small Cap Value Portfolio
. Dreyfus U.S. Government Securities Portfolio
. T. Rowe Price Equity Income Portfolio
. T. Rowe Price Growth Stock Portfolio
. Opportunity Value Portfolio
. Enhanced Index Portfolio
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION NOR HAS THE COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY
OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
This Prospectus sets forth concisely the information about the Fund and the
Portfolios that a prospective investor should know before investing. Please
read the Prospectus and retain it for future reference. Additional information
contained in a Statement of Additional Information also dated May 1, 1997, has
been filed with the Securities and Exchange Commission and is available upon
request without charge by writing or calling the Fund at the address or
telephone number set forth on the back cover of this Prospectus. The Statement
of Additional Information is incorporated by reference into this Prospectus.
The date of this Prospectus is May 1, 1997.
<PAGE>
THE FUND
Endeavor Series Trust is a diversified, open-end management investment
company that offers a selection of managed investment portfolios. Each
portfolio constitutes a separate mutual fund with its own investment objective
and policies. The Fund currently issues shares of ten portfolios. The Trustees
of the Fund may establish additional portfolios at any time.
Shares of the Portfolios are issued and redeemed at their net asset value
without a sales load and currently are offered only to various separate
accounts of PFL Life Insurance Company and certain of its affiliates ("PFL") to
fund various insurance contracts, including variable life insurance policies
(whether scheduled premium, flexible premium or single premium policies) or
variable annuity contracts. These insurance contracts are hereinafter referred
to as the "Contracts." The rights of PFL as the record holder for a separate
account of shares of the Portfolios are different from the rights of the owner
of a Contract. The terms "shareholder" or "shareholders" in this Prospectus
refer to PFL and not to any Contract owner.
The structure of the Fund permits Contract owners, within the limitations
described in the appropriate Contract, to allocate the amounts held by PFL
under the Contracts for investment in the various portfolios of the Fund. See
the prospectus and other material accompanying this Prospectus for a
description of the Contracts, which portfolios of the Fund are available to
Contract owners, and the relationship between increases or decreases in the net
asset value of shares of the portfolios (and any dividends and distributions on
such shares) and the benefits provided under the Contracts.
It is conceivable that in the future it may be disadvantageous for scheduled
premium variable life insurance separate accounts, flexible and single premium
variable life insurance separate accounts, and variable annuity separate
accounts to invest simultaneously in the Fund due to tax or other
considerations. The Trustees of the Fund intend to monitor events for the
existence of any irreconcilable material conflict between or among such
accounts, and PFL will take whatever remedial action may be necessary.
INVESTMENT OBJECTIVES
The Investment objectives of the Portfolios are as follows:
TCW Money Market Portfolio (formerly, Money Market Portfolio)--seeks current
income, preservation of capital and maintenance of liquidity through investment
in short-term money market securities. The Portfolio's shares are neither
insured by nor guaranteed by the U.S. government. The Portfolio seeks to
maintain a constant net asset value of $1.00 per share although no assurances
can be given that such constant net asset value will be maintained.
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<PAGE>
TCW Managed Asset Allocation Portfolio (formerly, Managed Asset Allocation
Portfolio)--seeks high total return through a managed asset allocation
portfolio of equity, fixed income and money market securities.
T. Rowe Price International Stock Portfolio--seeks long-term growth of
capital through investments primarily in common stocks of established non-U.S.
companies.
Value Equity Portfolio (formerly, Quest for Value Equity Portfolio)-- seeks
long term capital appreciation through investment in a diversified portfolio of
equity securities selected on the basis of a value oriented approach to
investing.
Dreyfus Small Cap Value Portfolio (formerly known as the Value Small Cap
Portfolio and prior to that the Quest for Value Small Cap Portfolio)--seeks
capital appreciation through investment in a diversified portfolio of equity
securities of companies with a median market capitalization of approximately
$750 million, provided that under normal market conditions at least 75% of the
Portfolio's investments will be in equity securities of companies with
capitalizations at the time of purchase between $150 million and $1.5 billion.
Dreyfus U.S. Government Securities Portfolio (formerly, U.S. Goverment
Securities Portfolio)--seeks as high a level of total return as is consistent
with prudent investment strategies by investing under normal conditions at
least 65% of its assets in U.S. government debt obligations and mortgage-backed
securities issued or guaranteed by the U.S. government, its agencies or
instrumentalities.
T. Rowe Price Equity Income Portfolio--seeks to provide substantial dividend
income and also capital appreciation by investing primarily in dividend-paying
common stocks of established companies.
T. Rowe Price Growth Stock Portfolio--seeks long-term growth of capital and
to increase dividend income through investment primarily in common stocks of
well-established growth companies.
Opportunity Value Portfolio--seeks growth of capital over time through
investment in a portfolio consisting of common stocks, bonds and cash
equivalents, the percentages of which will vary based upon the Portfolio
Adviser's assessment of relative values.
Enhanced Index Portfolio--seeks to earn a total return modestly in excess of
the total return performance of the S&P 500 Composite Stock Price Index (the
"S&P 500 Index") while maintaining a volatility of return similar to the S&P
500 Index.
- 3 -
<PAGE>
FINANCIAL HIGHLIGHTS
The following tables are based on a Portfolio share outstanding throughout
each period and should be read in conjunction with the financial statements
and related notes that also appear in the Fund's Annual Report dated December
31, 1996 which is incorporated by reference into the Statement of Additional
Information. The financial statements contained in the Fund's Annual Report
have been audited by Ernst & Young LLP, independent auditors, whose report
appears in the Annual Report. Additional information concerning the
performance of the Fund is included in the Annual Report which may be obtained
without charge by writing the Fund at the address on the back cover of this
Prospectus.
TCW MONEY MARKET PORTFOLIO*
<TABLE>
<CAPTION>
YEAR YEAR YEAR YEAR YEAR PERIOD
ENDED ENDED ENDED ENDED ENDED ENDED
12/31/96 12/31/95 12/31/94 12/31/93 12/31/92 12/31/91*
-------- -------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Operating Performance:
Net asset value,
beginning of period... $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
------- -------- -------- -------- -------- --------
Net investment income#. 0.0479 0.0540 0.0337 0.0218 0.0287 0.0377
------- -------- -------- -------- -------- --------
Distributions:
Dividends from net
investment income..... (0.0479) (0.0540) (0.0336) (0.0218) (0.0287) (0.0377)
Distributions from net
realized capital
gains................. -- -- (0.0001) -- -- --
------- -------- -------- -------- -------- --------
Total distributions.... (0.0479) (0.0540) (0.0337) (0.0218) (0.0287) (0.0377)
------- -------- -------- -------- -------- --------
Net asset value, end of
period................ $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00
======= ======== ======== ======== ======== ========
Total return++......... 4.91% 5.54% 3.41% 2.19% 2.90% 3.84%
======= ======== ======== ======== ======== ========
Ratios to average net
assets/
supplemental data:
Net assets, end of
period
(in 000's)............ $41,545 $ 27,551 $ 20,766 $ 12,836 $ 4,527 $ 1,907
Ratio of net investment
income to average net
assets................ 4.81%+ 5.37% 3.58% 2.19% 2.84% 5.02%+
Ratio of operating
expenses to average
net assets**.......... 0.60%+ 0.60% 0.85% 0.99% 0.91% 0.00%+
</TABLE>
- ----------
* Effective May 1, 1996, the name of the Money Market Portfolio was changed
to TCW Money Market Portfolio. The Portfolio commenced operations on April
8, 1991.
** Annualized operating expense ratios before waiver of fees and/or
reimbursement of expenses by investment manager for the years ended
December 31, 1993, December 31, 1992 and the period ended December 31,
1991 were 1.23%, 2.37% and 8.48%, respectively.
+ Annualized.
++ Total return represents the aggregate total return for the periods
indicated. The total return of the Portfolio does not reflect the charges
against the separate accounts of PFL or the Contracts.
# Net investment income/(loss) before fees waived and/or reimbursement of
expenses by investment manager for the years ended December 31, 1993,
December 31, 1992 and the period ended December 31, 1991 were $0.0195,
$0.0140 and $(0.0259), respectively.
- 4 -
<PAGE>
TCW MANAGED ASSET ALLOCATION PORTFOLIO*
<TABLE>
<CAPTION>
YEAR YEAR YEAR YEAR YEAR PERIOD
ENDED ENDED ENDED ENDED ENDED ENDED
12/31/96 12/31/95 12/31/94+++ 12/31/93+++ 12/31/92+++ 12/31/91*
-------- -------- ----------- ----------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C>
Operating Performance:
Net asset value,
beginning of period.. $ 16.28 $ 13.48 $ 14.30 $ 12.31 $ 11.37 $10.00
-------- -------- -------- ------- ------- ------
Net investment
income#.............. 0.27 0.33 0.28 0.23 0.24 0.10
Net realized and
unrealized
gain/(loss) on
investments.......... 2.61 2.72 (1.03) 1.84 0.77 1.27
-------- -------- -------- ------- ------- ------
Net
increase/(decrease)
in net assets
resulting from
investment
operations........... 2.88 3.05 (0.75) 2.07 1.01 1.37
Distributions:
Dividends from net
investment income.... (0.32) (0.25) (0.07) (0.08) (0.07) --
-------- -------- -------- ------- ------- ------
Net asset value, end
of period............ $ 18.84 $ 16.28 $ 13.48 $ 14.30 $ 12.31 $11.37
======== ======== ======== ======= ======= ======
Total return++........ 17.82% 22.91% (5.28)% 16.79% 9.01% 13.70%
======== ======== ======== ======= ======= ======
Ratios to average net
assets/supplemental
data:
Net assets, end of
period (in 000's).... $240,210 $198,876 $172,449 $96,657 $14,055 $4,247
Ratio of net
investment income to
average net assets... 1.59%+ 2.12% 2.03% 1.71% 2.11% 4.54%+
Ratio of operating
expenses to average
net assets**......... 0.85%+ 0.84% 0.90% 1.12% 1.18% 0.00%+
Portfolio turnover
rate................. 58% 93% 67% 67% 50% 61%
Average commission
rate (per share of
security)(a)......... $ 0.0041 -- -- -- -- --
</TABLE>
- ----------
* Effective May 1, 1996, the name of the Managed Asset Allocation Portfolio
was changed to TCW Managed Asset Allocation Portfolio. The Portfolio
commenced operations on April 8, 1991.
** Annualized operating expense ratios before waiver of fees and/or
reimbursement of expense by investment manager for the year ended December
31, 1992 and the period ended December 31, 1991 were 1.73% and 5.18%,
respectively.
+ Annualized.
++ Total return represents aggregate total return for the periods indicated.
The total return of the Portfolio does not reflect the charges against the
separate accounts of PFL or the Contracts.
+++ Per share amounts have been calculated using the monthly average share
method, which more appropriately presents the per share data for this
period since use of the undistributed method does not accord with results
of operations.
# Net investment income/(loss) before fees waived and/or reimbursement of
expenses by investment manager for the year ended December 31, 1992 and the
period ended December 31, 1991 were $0.18 and $(0.01), respectively.
(a) Average commission rate paid per share of securities purchased and sold by
the Portfolio.
- 5 -
<PAGE>
T. ROWE PRICE INTERNATIONAL STOCK PORTFOLIO*
<TABLE>
<CAPTION>
YEAR YEAR PERIOD
YEAR ENDED ENDED ENDED YEAR ENDED YEAR ENDED ENDED
12/31/96+++ 12/31/95## 12/31/94 12/31/93+++ 12/31/92+++ 12/31/91*
----------- ---------- -------- ----------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C>
Operating Performance:
Net asset value,
beginning of period.. $ 12.19 $ 11.31 $ 11.99 $ 10.12 $10.52 $10.00
-------- ------- ------- ------- ------ ------
Net investment
income/(loss)#....... 0.09 0.09 (0.02) (0.04) 0.00*** 0.06
Net realized and
unrealized
gain/(loss) on
investments.......... 1.76 1.06 (0.66) 1.91 (0.38) 0.46
-------- ------- ------- ------- ------ ------
Net
increase/(decrease)
in net assets
resulting from
investment
operations........... 1.85 1.15 (0.68) 1.87 (0.38) 0.52
-------- ------- ------- ------- ------ ------
Distributions:
Dividends from net
investment income.... (0.09) -- -- -- (0.02) --
Distributions from net
realized gains....... 0.00*** (0.27) -- -- -- --
-------- ------- ------- ------- ------ ------
Total distributions... (0.09) (0.27) -- -- (0.02) --
-------- ------- ------- ------- ------ ------
Net asset value, end
of period............ $ 13.95 $ 12.19 $ 11.31 $ 11.99 $10.12 $10.52
======== ======= ======= ======= ====== ======
Total return++........ 15.23% 10.37% (5.67)% 18.48% (3.61)% 5.20%
======== ======= ======= ======= ====== ======
Ratios to average net
assets/supplemental
data:
Net assets, end of
period (in 000's).... $134,435 $92,352 $84,102 $52,777 $6,305 $3,200
Ratio of net
investment
income/(loss) to
average net assets... 0.73%+ 0.81% (0.16)% (0.31)% 0.01% 3.18%+
Ratio of operating
expenses to average
net assets**......... 1.18%+ 1.15% 1.16% 1.52% 1.43% 0.00%+
Portfolio turnover
rate................. 11% 111% 88% 37% 34% 0%
Average commission
rate (per share of
security)(a)......... $ 0.0024 -- -- -- -- --
</TABLE>
- ----------
* Effective March 24, 1995, the name of the Global Growth Portfolio was
changed to T. Rowe Price International Stock Portfolio and the investment
objective was changed from investment on a global basis to investment on
an international basis (i.e., in non-U.S. companies). The Portfolio
commenced operations on April 8, 1991.
** Annualized operating expense ratios before waiver of fees and/or
reimbursement of expenses by investment manager for the year ended
December 31, 1992 and the period ended December 31, 1991 were 2.10% and
6.83%, respectively.
*** Amount represents less than $0.01 per share.
+ Annualized.
++ Total return represents aggregate total return for the periods indicated.
The total return of the Portfolio does not reflect the charges against the
separate accounts of PFL or the Contracts.
+++ Per share amounts have been calculated using the monthly average share
method, which more appropriately presents the per share data for this
period since use of the undistributed method does not accord with results
of operations.
# Net investment loss before fees waived and/or reimbursement of expenses by
investment manager for the year ended December 31, 1992 and the period
ended December 31, 1991 were $(0.07) and $(0.07), respectively.
## Rowe Price-Fleming International, Inc. became the Portfolio's Adviser
effective January 3, 1995.
(a) Average commission rate paid per share of securities purchased and sold by
the Portfolio.
- 6 -
<PAGE>
VALUE EQUITY PORTFOLIO*
<TABLE>
<CAPTION>
YEAR YEAR PERIOD
YEAR ENDED ENDED ENDED ENDED
12/31/96+++ 12/31/95 12/31/94 12/31/93*+++
----------- -------- -------- ------------
<S> <C> <C> <C> <C>
Operating Performance:
Net asset value, beginning of
period.......................... $ 14.23 $ 10.69 $ 10.28 $ 10.00
-------- ------- ------- -------
Net investment income#............ 0.20 0.15 0.09 0.05
Net realized and unrealized gain
on investments.................. 3.15 3.52 0.33 0.23
-------- ------- ------- -------
Net increase in net assets
resulting from investment
operations...................... 3.35 3.67 0.42 0.28
-------- ------- ------- -------
Distributions:
Dividends from net investment in-
come............................ (0.13) (0.09) (0.01) --
Distributions from net realized
gains........................... (0.24) (0.04) -- --
-------- ------- ------- -------
Total distributions............... (0.37) (0.13) (0.01) --
-------- ------- ------- -------
Net asset value, end of period.... $ 17.21 $ 14.23 $ 10.69 $ 10.28
======== ======= ======= =======
Total return++.................... 23.84% 34.59% 4.09% 2.80%
======== ======= ======= =======
Ratios to average net
assets/supplemental data:
Net assets, end of period (in
000's).......................... $127,927 $68,630 $32,776 $11,178
Ratio of net investment income to
average net assets.............. 1.29%+ 1.56% 1.31% 0.84%+
Ratio of operating expenses to av-
erage net assets**.............. 0.91%+ 0.86% 1.02% 1.30%+
Portfolio turnover rate........... 27% 28% 56% 1%
Average commission rate (per share
of security)(a) ................ $ 0.0569 -- -- --
</TABLE>
- -----------
* Effective May 1, 1996, the name of the Quest for Value Equity Portfolio was
changed to Value Equity Portfolio. The Portfolio commenced operations on
May 27, 1993.
** Annualized expense ratio before waiver of fees by investment manager for
the period ended December 31, 1993 was 2.10%.
+ Annualized.
++ Total return represents aggregate total return for the periods indicated.
The total return of the Portfolio does not reflect the charges against the
separate accounts of PFL or the Contracts.
+++ Per share amounts have been calculated using the monthly average share
method which more appropriately presents the per share data for this period
since use of the undistributed method did not accord with results of
operations.
# Net investment income before fees waived by investment manager for the
period ended December 31, 1993 was $0.00.
(a) Average commission rate paid per share of securities purchased and sold by
the Portfolio.
- 7 -
<PAGE>
DREYFUS SMALL CAP VALUE PORTFOLIO*
<TABLE>
<CAPTION>
YEAR YEAR PERIOD
YEAR ENDED ENDED ENDED ENDED
12/31/96+++## 12/31/95 12/31/94+++ 12/31/93*+++
------------- -------- ----------- ------------
<S> <C> <C> <C> <C>
Operating Performance:
Net asset value, beginning of
period..................... $ 12.22 $ 10.98 $ 11.18 $ 10.00
------- ------- ------- -------
Net investment income#....... 0.12 0.15 0.10 0.22
Net realized and unrealized
gain/(loss) on investments. 2.95 1.36 (0.30) 0.96
------- ------- ------- -------
Net increase/(decrease) in
net assets resulting from
investment operations...... 3.07 1.51 (0.20) 1.18
------- ------- ------- -------
Distributions:
Dividends from net investment
income..................... (0.14) (0.10) -- --
Distributions from net
realized gains............. (0.46) (0.17) -- --
------- ------- ------- -------
Total distributions.......... (0.60) (0.27) -- --
------- ------- ------- -------
Net asset value, end of
period..................... $ 14.69 $ 12.22 $ 10.98 $ 11.18
======= ======= ======= =======
Total return++............... 25.63% 14.05% (1.79)% 11.80%
======= ======= ======= =======
Ratios to average net
assets/supplemental data:
Net assets, end of period (in
000's)..................... $85,803 $52,597 $35,966 $12,699
Ratio of net investment
income to average net
assets..................... 0.95%+ 1.56% 0.89% 3.98%+
Ratio of operating expenses
to average net assets**.... 0.92%+ 0.87% 1.03% 1.30%+
Portfolio turnover rate...... 171% 75% 77% 41%
Average commission rate (per
share of security)(a)...... $0.0539 -- -- --
</TABLE>
- -----------
* Effective October 29, 1996, the name of the Value Small Cap Portfolio was
changed to Dreyfus Small Cap Value Portfolio. On May 1, 1996, the name of
the Quest for Value Small Cap Portfolio was changed to Value Small Cap
Portfolio. The Portfolio commenced operations on May 4, 1993.
** Annualized operating expense ratio before waiver of fees by investment
manager for the period ended December 31, 1993 was 2.10%.
+ Annualized.
++ Total return represents aggregate total return for the periods indicated.
The total return of the Portfolio does not reflect the charges against the
separate accounts of PFL or the Contracts.
+++ Per share amounts have been calculated using the monthly average share
method which more appropriately presents the per share data for this
period since use of the undistributed method did not accord with results
of operations.
# Net investment income before fees waived by investment manager for the
period ended December 31, 1993 was $0.18.
## The Dreyfus Corporation became the Portfolio's Adviser effective September
16, 1996.
(a) Average commission rate paid per share of securities purchased and sold by
the Portfolio.
- 8 -
<PAGE>
DREYFUS U.S. GOVERNMENT SECURITIES PORTFOLIO*
<TABLE>
<CAPTION>
YEAR YEAR PERIOD
ENDED ENDED ENDED
12/31/96 +++ 12/31/95 12/31/94*+++
------------ -------- ------------
<S> <C> <C> <C>
Operating Performance:
Net asset value, beginning of period...... $ 11.39 $ 9.96 $10.00
------- ------- ------
Net investment income#.................... 0.62 0.30 0.24
Net realized and unrealized gain/(loss) on
investments............................. (0.44) 1.25 (0.28)
------- ------- ------
Net increase/(decrease) in net assets
resulting from investment operations.... 0.18 1.55 (0.04)
------- ------- ------
Distributions:
Dividends from net investment income...... (0.22) (0.12) --
Distributions from net realized gains..... (0.12) -- --
------- ------- ------
Total distributions....................... (0.34) (0.12) --
------- ------- ------
Net asset value, end of period............ $ 11.23 $ 11.39 $ 9.96
======= ======= ======
Total return++............................ 1.81% 15.64% (0.40)%
======= ======= ======
Ratios to average net assets/supplemental
data:
Net assets, end of period (in 000's)...... $24,727 $12,718 $3,505
Ratio of net investment income to average
net assets.............................. 5.68%+ 5.58% 4.14%+
Ratio of operating expenses to average net
assets**................................ 0.82%+ 0.84% 0.78%+
Portfolio turnover rate................... 222% 161% 100%
</TABLE>
- -----------
* Effective May 1, 1996, the name of the U.S. Government Securities Portfolio
was changed to Dreyfus U.S. Government Securities Portfolio. The Portfolio
commenced operations on May 13, 1994.
** Annualized operating expense ratio before waiver of fees and reimbursement
of expenses by investment manager for the period ended December 31, 1994
was 1.83%.
+ Annualized.
++ Total return represents aggregate total return for the periods indicated.
The total return of the Portfolio does not reflect the charges against the
separate accounts of PFL or the Contracts.
+++ Per share amounts have been calculated using the monthly average share
method, which more appropriately presents the per share data for this
period since use of the undistributed method did not accord with results of
operations.
# Net investment income before fees waived and reimbursement of expenses by
investment manager for the period ended December 31, 1994 was $0.18.
- 9 -
<PAGE>
T. ROWE PRICE EQUITY INCOME PORTFOLIO
<TABLE>
<CAPTION>
YEAR YEAR
ENDED ENDED
12/31/96 +++ 12/31/95*+++
------------ ------------
<S> <C> <C>
Operating performance:
Net asset value, beginning of year................. $ 13.05 $ 10.00
------- -------
Net investment income.............................. 0.41 0.34
Net realized and unrealized gain on investments.... 2.17 2.71
------- -------
Net increase in net assets resulting from
investment operations............................ 2.58 3.05
------- -------
Distributions:
Dividends from net investment income............... (0.10) --
Distribution from net realized gains............... (0.04) --
------- -------
Total distributions................................ (0.14) --
------- -------
Net asset value, end of year....................... $ 15.49 $ 13.05
======= =======
Total return++..................................... 19.88% 30.50%
======= =======
Ratios to average net assets/supplemental data:
Net assets, end of year (in 000's)................. $78,251 $21,910
Ratio of net investment income to average net
assets........................................... 2.89%+ 3.24%+
Ratio of operating expenses to average net assets.. 0.96%+ 1.15%+
Portfolio turnover rate............................ 19% 16%
Average commission rate (per share of security)(a). $0.0396 --
</TABLE>
- -----------
* The Portfolio commenced operations on January 3, 1995.
+ Annualized.
++ Total return represents aggregate total return for the periods indicated.
The total return of the Portfolio does not reflect the charges against the
separate accounts of PFL or the Contracts.
+++ Per share amounts have been calculated using the monthly average share
method which more appropriately presents the per share data for the period
since use of the undistributed method did not accord with results of
operations.
(a) Average commission rate paid per share of securities purchased and sold by
the Portfolio.
- 10 -
<PAGE>
T. ROWE PRICE GROWTH STOCK PORTFOLIO
<TABLE>
<CAPTION>
YEAR YEAR
ENDED ENDED
12/31/96+++ 12/31/95*+++
----------- ------------
<S> <C> <C>
Operating performance:
Net asset value, beginning of year.................. $ 13.72 $ 10.00
------- -------
Net investment income............................... 0.11 0.08
Net realized and unrealized gain on investments..... 2.71 3.64
------- -------
Net increase in net assets resulting from investment
operations........................................ 2.82 3.72
------- -------
Distributions:
Dividends from net investment income................ (0.01) --
Distributions from net realized gains............... (0.24) --
------- -------
Total distributions................................. (0.25) --
------- -------
Net asset value, end of year........................ $ 16.29 $ 13.72
======= =======
Total return++...................................... 20.77% 37.20%
======= =======
Ratios to average net assets/supplemental data:
Net assets, end of year (in 000's).................. $59,732 $21,651
Ratio of net investment income to average net
assets............................................ 0.75%+ 0.69%+
Ratio of operating expenses to average net assets... 1.01%+ 1.26%+
Portfolio turnover rate............................. 44% 64%
Average commission rate (per share of security)(a).. $0.0385 --
</TABLE>
- -----------
* The Portfolio commenced operations on January 3, 1995.
+ Annualized.
++ Total return represents aggregate total return for the periods indicated.
The total return of the Portfolio does not reflect the charges against the
separate accounts of PFL or the Contracts.
+++ Per share amounts have been calculated using the monthly average share
method which more appropriately presents the per share data for the period
since use of the undistributed method did not accord with results of
operations.
(a) Average commission rate paid per share of securities purchased and sold by
the Portfolio.
- 11 -
<PAGE>
OPPORTUNITY VALUE PORTFOLIO
<TABLE>
<CAPTION>
THREE MONTHS
ENDED PERIOD
3/31/97 ENDED
(UNAUDITED)+++ 12/31/96*
-------------- ---------
<S> <C> <C>
Operating performance:
Net asset value, beginning of period.............. $ 10.06 $ 10.00
------- -------
Net investment income (loss)#..................... 0.05 0.00##
Net realized and unrealized gain on investments... (0.09) 0.06
------- -------
Net increase (decrease) in net assets resulting
from investment operations...................... (0.04) 0.06
------- -------
Net asset value, end of period.................... $ 10.02 $ 10.06
======= =======
Total return++.................................... (0.04)% 0.60%
======= =======
Ratios to average net assets/supplemental data:
Net assets, end of period (in 000's).............. $ 5,167 $ 701
Ratio of net investment income (loss) to average
net assets...................................... 1.97% (1.09)%+
Ratio of operating expenses to average net
assets**........................................ 1.30%+ 1.30%+
Portfolio turnover rate........................... 4% 0%
Average commission rate (per share of
security)(a).................................... $0.0564 $0.0600
</TABLE>
- -----------
* The Portfolio commenced operations on November 18, 1996.
** Annualized operating expense ratio before waiver/reimbursement by
investment manager for the period ended December 31, 1996 was 12.69%.
+ Annualized.
++ Total return represents aggregate total return for the periods indicated.
The total return of the Portfolio does not reflect the charges against the
separate accounts of PFL or the Contracts.
+++ Per share amounts have been calculated using the monthly average share
method which more appropriately presents the per share data for the period
since use of the undistributed method did not accord with the results of
operations.
# Net investment loss before waiver/reimbursement of expenses by investment
manager for the period ended December 31, 1996 was ($0.04).
## Amount represents less than $(0.01) per share.
(a) Average commission rate paid per share of securities purchased and sold by
the Portfolio.
----------------------
Endeavor Investment Advisers (the "Manager") has agreed, until terminated by
the Manager, to assume expenses of the Portfolios that exceed the rates stated
below. This has the effect of lowering each Portfolio's expense ratio and of
increasing returns otherwise available to investors at the time such amounts
are assumed. While this arrangement
- 12 -
<PAGE>
is in effect, the Manager pays all expenses of the Portfolios to the extent
they exceed the following percentages of a Portfolio's average net assets: TCW
Money Market--.99%, TCW Managed Asset Allocation--1.25%, T. Rowe Price
International Stock--1.53%, Value Equity--1.30%, Dreyfus Small Cap Value--
1.30%, Dreyfus U.S. Government Securities--1.00%, T. Rowe Price Equity Income--
1.30%, T. Rowe Price Growth Stock--1.30%, Opportunity Value--1.30% and Enhanced
Index--1.30%.
The offering of shares of the Enhanced Index Portfolio is expected to
commence on or about the date of the Prospectus. Accordingly, no financial
highlight data is available for shares of this Portfolio.
INVESTMENT OBJECTIVES AND POLICIES
The following is a brief description of the investment objectives and
policies of the Portfolios. The investment objective and the policies of each
Portfolio other than those listed under the caption "Investment Restrictions"
in the Statement of Additional Information are not fundamental policies and may
be changed by the Trustees of the Fund without the approval of shareholders.
Certain portfolio investments and techniques discussed below are described in
greater detail in the Statement of Additional Information. Due to the
uncertainty inherent in all investments, there can be no assurance that the
Portfolios will be able to achieve their respective investment objectives.
TCW MONEY MARKET PORTFOLIO
The investment objective of the TCW Money Market Portfolio is to provide
current income, preservation of capital and liquidity through investment in
short-term money market securities.
The Portfolio seeks to maintain a constant net asset value of $1.00 per
share. If the Trustees believe that the extent of any deviation from a $1.00
price per share may result in material dilution or other unfair results to
shareholders, they will take such steps as they consider appropriate to
eliminate or reduce these consequences to the extent reasonably practicable.
This may include selling portfolio securities prior to maturity, shortening the
average maturity of the Portfolio, withholding or reducing dividends, redeeming
shares in kind, reducing the number of the Portfolio's outstanding shares
without monetary consideration, or utilizing a net asset value per share
determined by using available market quotations.
The Portfolio expects to invest in the following types of money market
securities:
. securities issued or guaranteed as to principal and interest by the U.S.
government or by its agencies or instrumentalities ("U.S. government
securities");
. certificates of deposit, bankers' acceptances and other obligations
issued or guaranteed by bank holding companies in the United States and
their subsidiaries;
- 13 -
<PAGE>
. U.S. dollar denominated obligations ("Eurodollar obligations") of bank
holding companies in the United States, their subsidiaries and their
foreign branches or of the International Bank for Reconstruction and
Development (also known as the World Bank);
. commercial paper and other short-term obligations of, and variable
amount master demand notes and variable rate notes issued by U.S. and
foreign corporations; and
. repurchase agreements (see "Investment Strategies").
Investment Criteria. With respect to investments in money market securities,
in accordance with applicable regulations of the Securities and Exchange
Commission, the Portfolio will:
. invest only in high quality money market instruments that present
minimal credit risks;
. invest only in money market instruments with remaining or implied
maturities of thirteen months or less; and
. maintain an average dollar weighted maturity of the Portfolio's
investments of 90 days or less.
The Portfolio will invest only in high quality money market instruments,
i.e., securities which have been assigned the highest quality ratings by
nationally recognized statistical rating organizations ("NRSROs") such as "A-1"
by Standard & Poor's Ratings Service, a division of McGraw-Hill Companies, Inc.
("Standard & Poor's") or "Prime-1" by Moody's Investors Service, Inc.
("Moody's"), or if not rated, determined to be of comparable quality by the
Portfolio's Adviser (as hereinafter defined); provided, that up to 5% of the
Portfolio's total assets may be invested in instruments assigned the second
highest quality ratings such as "A-2" or "Prime-2", or if not rated, determined
to be of comparable quality by the Portfolio's Adviser. For a description of
the NRSROs and their ratings, see the Appendix attached to the Statement of
Additional Information.
The Portfolio may not invest in the securities of any one issuer if,
immediately after such investment, more than 5% of the total assets of the
Portfolio (taken at current value) would be invested in the securities of such
issuer; provided, that this limitation does not apply to U.S. government
securities or to repurchase agreements secured by such securities and that with
respect to 25% of the Portfolio's total assets more than 5% may be invested in
securities of any one issuer for three business days after the purchase thereof
if the securities have been assigned the highest quality ratings by NRSROs, or
if not rated, have been determined to be of comparable quality by the
Portfolio's Adviser. With respect to U.S. government securities, the Portfolio
will not invest more than 55% of its assets in securities issued or guaranteed
by the U.S. Treasury or any single U.S. government agency or instrumentality.
See "Investment Restrictions" in the Statement of Additional Information for a
further description of the Portfolio's investment criteria.
- 14 -
<PAGE>
U.S. Government Securities. Securities issued or guaranteed as to principal
and interest by the U.S. government or its agencies and instrumentalities
include U.S. Treasury obligations, consisting of bills, notes and bonds, which
principally differ in their interest rates, maturities and times of issuance,
and obligations issued or guaranteed by agencies and instrumentalities which
are supported by (i) the full faith and credit of the U.S. Treasury (such as
securities of the Small Business Administration), (ii) the limited authority of
the issuer to borrow from the U.S. Treasury (such as securities of the Student
Loan Marketing Association) or (iii) the authority of the U.S. government to
purchase certain obligations of the issuer (such as securities of the Federal
National Mortgage Association). No assurance can be given that the U.S.
government will provide financial support to U.S. government agencies or
instrumentalities as described in clauses (ii) or (iii) above in the future,
other than as set forth above, since it is not obligated to do so by law.
Other Money Market Securities. Other money market securities in which the
Portfolio may invest include U.S. dollar denominated instruments (such as
bankers' acceptances, commercial paper, certificates of deposit and Eurodollar
obligations) issued or guaranteed by bank holding companies in the United
States, their subsidiaries and their foreign branches. These bank obligations
may be general obligations of the parent bank holding company or may be limited
to the issuing entity by the terms of the specific obligation or by government
regulation.
Obligations of the International Bank for Reconstruction and Development
(also known as the World Bank) are supported by subscribed but unpaid
commitments of its member countries. There can be no assurance that these
commitments will be undertaken or complied with in the future.
The other money market securities in which the Portfolio may invest also
include certain variable and floating rate instruments and participations in
corporate loans to corporations in whose commercial paper or other short-term
obligations the Portfolio may invest. Because the bank issuing the
participations does not guarantee them in any way, they are subject to the
credit risks generally associated with the underlying corporate borrower. To
the extent that the Portfolio may be regarded as a creditor of the issuing bank
(rather than of the underlying corporate borrower under the terms of the loan
participation), the Portfolio may also be subject to credit risks associated
with the issuing bank. The secondary market, if any, for these loan
participations is extremely limited and any such participations purchased by
the Portfolio will be regarded as illiquid.
Other money market securities in which the Portfolio may invest also include
bonds and notes with remaining maturities of thirteen months or less, variable
rate notes and variable amount master demand notes. A variable amount master
demand note differs from ordinary commercial paper in that it is issued
pursuant to a written agreement
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between the issuer and the holder, its amount may be increased from time to
time by the holder (subject to an agreed maximum) or decreased by the holder or
the issuer, it is payable on demand, the rate of interest payable on it varies
with an agreed formula and it is typically not rated by a rating agency.
Transfer of such notes is usually restricted by the issuer, and there is no
secondary trading market for them. Any variable amount master demand note
purchased by the Portfolio will be regarded as an illiquid security. See
"Investment Restrictions" in the Statement of Additional Information.
Foreign Securities. The Portfolio may invest up to 10% of its total assets in
the securities (payable in U.S. dollars) of foreign issuers in developed
countries and in the securities of foreign branches of U.S. banks such as
negotiable certificates of deposit (Eurodollars). Because the Portfolio may
invest in foreign securities, investment in the Portfolio involves investment
risks that are different in some respects from an investment in a fund which
invests only in debt obligations of U.S. domestic issuers. Such risks may
include adverse future political and economic developments, the possible
imposition of foreign withholding taxes on interest income payable on the
securities held in the Portfolio, possible seizure or nationalization of
foreign deposits, the possible establishment of exchange controls, or the
adoption of other foreign governmental restrictions which might adversely
affect the payment of principal and interest on securities in the Portfolio.
There may also be less publicly available information about a foreign issuer
than about a domestic issuer and foreign issuers are not generally subject to
uniform accounting, auditing and financial reporting standards, practices and
requirements comparable to those applicable to domestic issuers.
The Portfolio may employ certain investment strategies which are described
under the caption "Investment Strategies" below and in the Statement of
Additional Information.
TCW MANAGED ASSET ALLOCATION PORTFOLIO
The investment objective of the TCW Managed Asset Allocation Portfolio is to
provide high total return through a managed asset allocation portfolio of
equity, fixed income and money market securities. The Portfolio seeks to
achieve its objective by investing primarily in securities issued by United
States companies.
The composition of the Portfolio's investments will be based on the
determination by the Portfolio's Adviser of the appropriate weighting for each
asset class and will be adjusted periodically. In making adjustments to the
asset allocation, the Portfolio's Adviser will use its asset allocation model
and will integrate its view of the expected returns for each asset class,
conditions in the stock, bond and money markets, interest rate and corporate
earnings growth trends, and economic conditions.
The asset class weightings may theoretically range from 0% to 100%, although
the Portfolio's Adviser expects these extremes to be
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reached rarely, if at all, for any class. The Portfolio will be "rebalanced" or
checked for possible reallocation monthly or more often if market conditions
demand.
The equity portion of the Portfolio will be invested in a diversified
selection of equity securities of established companies in sound financial
condition. The equity securities in which the Portfolio will be invested may
include common stocks, preferred stocks, securities convertible into or
exchangeable for common stocks and warrants. The Portfolio's Adviser will
strive to achieve total returns from dividends and capital gains in excess of
those from broadly-based stock market indices, but will not incur excessive
risk of loss to do so.
The fixed income portion of the Portfolio will be invested in taxable
securities including securities issued or guaranteed by the U.S. government and
its agencies or instrumentalities, collateralized mortgage obligations that are
issued or guaranteed by the U.S. government or instrumentalities or that are
collateralized by a portfolio of mortgages or mortgage-related securities
guaranteed by such an agency or instrumentality and high grade corporate and
mortgage-backed bonds with maturities typically ranging from 2 to 30 years. The
weighted average maturity of such investments will generally range from 3 to 10
years and securities will, at time of purchase, have ratings within the four
highest rating categories established by Moody's, Standard & Poor's, or a
similar NRSRO or if not rated, be of comparable quality as determined by the
Portfolio's Adviser. The NRSROs' descriptions of these bond ratings are set
forth in the Appendix to the Statement of Additional Information. Securities
rated in the fourth highest category may have speculative characteristics;
changes in economic or business conditions are more likely to lead to a
weakened capacity to make principal and interest payments than in the case of
higher grade bonds. Like the three highest grades, however, these securities
are considered investment grade.
Mortgage-backed bonds have yield and maturity characteristics corresponding
to the underlying mortgage loans. Thus, for example, unlike other bonds, which
pay a fixed rate of interest until maturity when the entire principal amount
comes due, payments on mortgage-backed bonds include both interest and a
partial repayment of principal. Fluctuating prepayments of principal may result
from the refinancing or foreclosure of the underlying mortgage loans. Although
maturities of the underlying mortgage loans range up to 30 years, such
prepayments may shorten the effective maturities. Because of the prepayment
feature, mortgage-backed bonds may be less effective than other types of
securities as a means of "locking in" attractive long-term interest rates. This
is caused by the need to reinvest repayments of principal generally and the
possibility of significant unscheduled prepayments resulting from declines in
mortgage interest rates. As a result, mortgage-backed bonds may have less
potential for capital appreciation during periods of declining interest rates
than other investments of comparable
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maturities, while having a comparable risk of decline during periods of rising
interest rates.
Foreign Securities. The Portfolio may invest up to 10% of its total assets in
equity securities (payable in U.S. dollars) of foreign issuers in developed
countries. Because the Portfolio may invest in foreign securities, investment
in the Portfolio involves investment risks that are different in some respects
from an investment in a fund which invests only in securities of U.S. domestic
issuers. Such risks may include adverse future political and economic
developments, the possible imposition of foreign withholding taxes on interest
income payable on the securities held in the Portfolio, possible seizure or
nationalization of foreign deposits, the possible establishment of exchange
controls, or the adoption of other foreign governmental restrictions which
might adversely affect the payment of principal and interest on securities in
the Portfolio. There may also be less publicly available information about a
foreign issuer than about a domestic issuer and foreign issuers are not
generally subject to uniform accounting, auditing and financial reporting
standards, practices and requirements comparable to those applicable to
domestic issuers.
The cash portion of the Portfolio will be invested in the same portfolio
securities that are eligible for investment by the TCW Money Market Portfolio
described above. The Portfolio may employ certain investment strategies which
are discussed under the caption "Investment Strategies" below and in the
Statement of Additional Information.
T. ROWE PRICE INTERNATIONAL STOCK PORTFOLIO
The T. Rowe Price International Stock Portfolio was formerly known as the
Global Growth Portfolio. Effective March 24, 1995, the name of the Global
Growth Portfolio was changed to T. Rowe Price International Stock Portfolio and
the Portfolio's investment objective was changed from seeking long-term capital
appreciation through a policy of investing in small capitalization common
stocks and their convertible equivalents on a global basis to the investment
objective and policies set forth below.
The investment objective of the T. Rowe Price International Stock Portfolio
is to seek long-term growth of capital through investments primarily in common
stocks of established non-U.S. companies.
Over the last 30 years, many foreign economies have grown faster than the
United States' economy, and the return from equity investments in these
countries has often exceeded the return on similar investments in the United
States. Moreover, there has normally been a wide and largely unrelated
variation in performance between international equity markets over this period.
Although there can be no assurance that these conditions will continue, the
Portfolio's Adviser, within the framework of diversification, seeks to identify
and invest in companies participating in the faster growing foreign economies
and
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markets. The Adviser believes that investment in foreign securities offers
significant potential for long-term capital appreciation and an opportunity to
achieve investment diversification.
The Adviser intends to invest substantially all of the Portfolio's assets
outside the United States and diversify investments broadly among countries
throughout the world--developed, newly industrialized and emerging--by having
at least five different countries represented in the Portfolio. The Portfolio
may invest in countries of the Far East and Europe as well as South Africa,
Australia, Canada, and other areas (including developing countries). Further,
not more than 20% of the Portfolio's net asset value will be invested in
securities of issuers located in any one country with the exception of issuers
located in Australia, Canada, France, Japan, the United Kingdom or Germany
(where the investment limitation is 35%). In addition, the Adviser will
consider factors applicable to United States investors in making investment
decisions for the Portfolio.
In seeking its objective, the Portfolio invests primarily in common stocks of
established foreign companies which have, in the Adviser's opinion, the
potential for growth of capital. However, the Portfolio may also invest in a
variety of other equity related securities such as preferred stocks, warrants
and convertible securities, as well as corporate and governmental debt
securities, when considered consistent with the Portfolio's investment
objective and program. The Portfolio may also invest in investment funds which
have been authorized by the governments of certain countries specifically to
permit foreign investment in securities of companies listed and traded on the
stock exchanges in these respective countries. The Portfolio's investment in
these funds is subject to the provisions of the Investment Company Act of 1940
(the "1940 Act"). If the Portfolio invests in such investment funds, the
Portfolio's shareholders will bear not only their proportionate share of the
expenses of the Portfolio (including operating expenses and the fees of the
investment manager), but also will bear indirectly similar expenses of the
underlying investment funds. In addition, the securities of these investment
funds may trade at a premium of their net asset value. Under normal conditions,
the Portfolio's investments in securities other than common stocks is limited
to no more than 35% of its total assets.
In determining the appropriate distribution of investments among various
countries and geographic regions, the Portfolio's Adviser ordinarily considers
the following factors: prospects for relative economic growth between foreign
countries; expected levels of inflation; government policies influencing
business conditions; the outlook for currency relationships; and the range of
individual investment opportunities available to international investors.
In analyzing companies for investment, the Adviser ordinarily looks for one
or more of the following characteristics: an above-average earnings growth per
share; high return on invested capital; healthy
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<PAGE>
balance sheet; sound financial and accounting policies and overall financial
strength; strong competitive advantages; effective research and product
development and marketing; efficient service; pricing flexibility; strength of
management; and general operating characteristics which will enable the
companies to compete successfully in their market place. While current dividend
income is not a prerequisite in the selection of portfolio companies, the
companies in which the Portfolio invests normally will have a record of paying
dividends, and will generally be expected to increase the amounts of such
dividends in future years as earnings increase. It is expected that the
Portfolio's investments will ordinarily be traded on exchanges located at least
in the respective countries in which the various issuers of such securities are
principally based.
In the event that future economic or financial conditions abroad adversely
affect equity securities, or stocks are considered overvalued, or the
Portfolio's Adviser believes that investing for defensive purposes is
appropriate, or in order to meet anticipated redemption requests, the Portfolio
may invest part or all of its assets in U.S. government securities, investment-
grade debt obligations of U.S. companies and high quality (within the two
highest rating categories assigned by a NRSRO) short-term debt securities (with
remaining maturities of one year or less) including certificates of deposit,
bankers' acceptances, commercial paper, short-term corporate securities and
repurchase agreements.
The international objectives of the Portfolio allow investors an opportunity
to achieve potentially higher returns, reflecting participation in countries
and economies with higher growth rates than those available domestically.
However, foreign investments involve certain risks that are not present in
domestic securities. Because the Portfolio intends to purchase securities
denominated in foreign currencies, a change in the value of any such currency
against the U.S. dollar will result in a change in the U.S. dollar value of the
Portfolio's assets and the Portfolio's income. In addition, although a portion
of the Portfolio's investment income may be received or realized in such
currencies, the Portfolio will be required to compute and distribute its income
in U.S. dollars. Therefore, if the exchange rate for any such currency declines
after the Portfolio's income has been earned and computed in U.S. dollars but
before conversion and payment, the Portfolio could be required to liquidate
portfolio securities to make such distributions.
The values of foreign investments and the investment income derived from them
may also be affected unfavorably by changes in currency exchange control
regulations. Although the Portfolio will invest only in securities denominated
in foreign currencies that are fully exchangeable into U.S. dollars without
legal restriction at the time of investment, there can be no assurance that
currency controls will not be imposed subsequently. In addition, the values of
foreign fixed income investments will fluctuate in response to changes in U.S.
and foreign interest rates.
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<PAGE>
There may be less information publicly available about a foreign issuer than
about a U.S. issuer, and foreign issuers are not generally subject to
accounting, auditing and financial reporting standards and practices comparable
to those in the United States. Foreign stock markets are generally not as
developed or efficient as, and may be more volatile than, those in the United
States. While growing in volume, they usually have substantially less volume
than U.S. markets and the Portfolio's investment securities may be less liquid
and subject to more rapid and erratic price movements than securities of
comparable U.S. companies. Equity securities may trade at price/earnings
multiples higher than comparable United States securities and such levels may
not be sustainable. There is generally less government supervision and
regulation of foreign stock exchanges, brokers and listed companies than in the
United States. Moreover, settlement practices for transactions in foreign
markets may differ from those in United States markets. Such differences may
include delays beyond periods customary in the United States and practices,
such as delivery of securities prior to receipt of payment, which increase the
likelihood of a "failed settlement." Failed settlements can result in losses to
the Portfolio. In less liquid and well developed stock markets, such as those
in some Asian and Latin American countries, volatility may be heightened by
actions of a few major investors. For example, substantial increases or
decreases in cash flows of mutual funds investing in these markets could
significantly affect stock prices and, therefore, share prices.
Foreign brokerage commissions, custodial expenses and other fees are also
generally higher than for securities traded in the United States. Consequently,
the overall expense ratios of international funds are usually somewhat higher
than those of typical domestic stock funds.
In addition, the economies, markets and political structures of a number of
the countries in which the Portfolio can invest do not compare favorably with
the United States and other mature economies in terms of wealth and stability.
Therefore, investments in these countries may be riskier, and will be subject
to erratic and abrupt price movements. Some economies are less well developed
and less diverse (for example, Latin America, Eastern Europe and certain Asian
countries), and more vulnerable to the ebb and flow of international trade,
trade barriers and other protectionist or retaliatory measures (for example,
Japan, southeast Asia and Latin America). Some countries, particularly in Latin
America, are grappling with severe inflation and high levels of national debt.
Investments in countries that have recently begun moving away from central
planning and state-owned industries toward free markets, such as the Eastern
European or Chinese economies, should be regarded as speculative.
Certain portfolio countries have histories of instability and upheaval (Latin
America) and internal politics that could cause their governments to act in a
detrimental or hostile manner toward private enterprise or foreign investment.
Any such actions, for example, nationalizing an
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<PAGE>
industry or company, could have a severe and adverse effect on security prices
and impair the Portfolio's ability to repatriate capital or income. The
Portfolio's Adviser will not invest the Portfolio's assets in countries where
it believes such events are likely to occur.
Income received by the Portfolio from sources within foreign countries may be
reduced by withholding and other taxes imposed by such countries. Tax
conventions between certain countries and the United States may reduce or
eliminate such taxes. The Portfolio's Adviser will attempt to minimize such
taxes by timing of transactions and other strategies, but there can be no
assurance that such efforts will be successful. Any such taxes paid by the
Portfolio will reduce its net income available for distribution to
shareholders.
The Portfolio may employ certain investment strategies which are discussed
under the caption "Investment Strategies" below and in the Statement of
Additional Information.
VALUE EQUITY PORTFOLIO
The investment objective of the Value Equity Portfolio is long term capital
appreciation through investment in securities (primarily equity securities) of
companies that are believed by the Portfolio's Adviser to be undervalued in the
marketplace in relation to factors such as the companies' assets or earnings.
It is the Portfolio Adviser's intention to invest in securities which in its
opinion possess one or more of the following characteristics: undervalued
assets, valuable consumer or commercial franchises, securities valuation below
peer companies, substantial and growing cash flow and/or a favorable price to
book value relationship.
Investment policies aimed at achieving the Portfolio's objective are set in a
flexible framework of securities selection which primarily includes equity
securities, such as common stocks, preferred stocks, convertible securities,
rights and warrants in proportions which vary from time to time. Under normal
circumstances at least 65% of the Portfolio's assets will be invested in common
stocks or securities convertible into common stocks. The Portfolio will invest
primarily in stocks listed on the New York Stock Exchange. In addition, it may
also purchase securities listed on other domestic securities exchanges or
traded in the domestic over-the-counter market and foreign securities that are
listed on a domestic or foreign securities exchange, traded in the domestic or
foreign over-the-counter markets or represented by American Depositary
Receipts.
In the event that future economic or financial conditions adversely affect
equity securities, or stocks are considered overvalued, or the Portfolio's
Adviser believes that investing for defensive purposes is appropriate, or in
order to meet anticipated redemption requests, the Portfolio may invest part or
all of its assets in U.S. government securities
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<PAGE>
and high quality short-term debt securities (with remaining maturities of one
year or less) including certificates of deposit, bankers' acceptances,
commercial paper, short-term corporate securities and repurchase agreements.
The Portfolio may invest in certain foreign securities which may represent a
greater degree of risk than investing in domestic securities. These risks are
discussed in the above section of this Prospectus describing the T. Rowe Price
International Stock Portfolio.
It is the present intention of the Portfolio's Adviser to invest no more than
5% of the Portfolio's net assets in bonds rated below Baa3 by Moody's or BBB by
Standard & Poor's (commonly known as "junk bonds"). In the event that the
Portfolio's Adviser intends in the future to invest more than 5% of the
Portfolio's net assets in junk bonds, appropriate disclosures will be made to
existing and prospective shareholders. For information about the possible risks
of investing in junk bonds see "Investment Objective and Policies--Lower Rated
Bonds" in the Statement of Additional Information.
The Portfolio may employ certain investment strategies which are discussed
under the caption "Investment Strategies" below and in the Statement of
Additional Information.
DREYFUS SMALL CAP VALUE PORTFOLIO
The investment objective of the Dreyfus Small Cap Value Portfolio is to seek
capital appreciation through investments in a diversified portfolio of equity
securities of companies with a median market capitalization of approximately
$750 million, provided that under normal market conditions at least 75% of the
Portfolio's investments will be in equity securities of companies with
capitalizations at the time of purchase between $150 million and $1.5 billion.
Small-capitalization companies are often under-priced for the following
reasons: (i) institutional investors, which currently represent a majority of
the trading volume in the shares of publicly-traded companies, are often less
interested in such companies because in order to acquire an equity position
that is large enough to be meaningful to an institutional investor, such an
investor may be required to buy a large percentage of the company's outstanding
equity securities and (ii) such companies may not be regularly researched by
stock analysts, thereby resulting in greater discrepancies in valuation.
The Portfolio will invest in equity securities of domestic and foreign (up to
5% of its total assets) issuers which would be characterized as "value"
companies according to criteria established by the Portfolio's Adviser. To
manage the Portfolio, the Portfolio's Adviser classifies issuers as "growth" or
"value" companies. In general, the Portfolio's Adviser believes that companies
with relatively low price to book ratios, low price to earnings ratios or
higher than average dividend payments
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in relation to price should be classified as value companies. Alternatively,
companies which have above average earnings or sales growth and retention of
earnings and command higher price to earnings ratios fit the more classic
growth description.
While seeking desirable equity investments, the Portfolio may invest in money
market instruments consisting of U.S. government securities, certificates of
deposit, time deposits, bankers' acceptances, short-term investment grade
corporate bonds and other short-term debt instruments, and repurchase
agreements. Under normal market conditions, the Portfolio does not expect to
have a substantial portion of its assets invested in money market instruments.
However, when the Portfolio's Adviser determines that adverse market conditions
exist, the Portfolio may adopt a temporary defensive posture and invest all of
its assets in money market instruments.
Equity securities consist of common stocks, preferred stocks and securities
convertible into common stocks. Securities purchased by the Portfolio will be
traded on the New York Stock Exchange, the American Stock Exchange or in the
over-the-counter market, and will also include options, warrants, bonds, notes
and debentures which are convertible into or exchangeable for, or which grant a
right to purchase or sell, such securities. In addition, the Portfolio may
purchase securities issued by closed-end investment companies and foreign
securities that are listed on a domestic or foreign securities exchange, traded
in domestic or foreign over-the-counter markets or represented by American
Depositary Receipts.
The Portfolio is expected to have greater risk exposure and reward potential
than a fund which invests primarily in larger-capitalization companies. The
trading volumes of securities of smaller-capitalization companies are normally
less than those of larger-capitalization companies. This often translates into
greater price swings, both upward and downward. Since trading volumes are
lower, new demand for the securities of such companies could result in
disproportionately large increases in the price of such securities. The waiting
period for the achievement of an investor's objectives might be longer since
these securities are not closely monitored by research analysts and, thus, it
takes more time for investors to become aware of fundamental changes or other
factors which have motivated the Portfolio's purchase. Small-capitalization
companies often achieve higher growth rates and experience higher failure rates
than do larger-capitalization companies.
The Portfolio may invest in certain foreign securities which may represent a
greater degree of risk than investing in domestic securities. These risks are
discussed in the above section of this Prospectus describing the T. Rowe Price
International Stock Portfolio.
The Portfolio may employ certain investment strategies which are discussed
under the caption "Investment Strategies" below and in the Statement of
Additional Information.
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DREYFUS U.S. GOVERNMENT SECURITIES PORTFOLIO
The investment objective of the Dreyfus U.S. Government Securities Portfolio
is to seek as high a level of total return as is consistent with prudent
investment strategies by investing under normal conditions at least 65% of its
assets in U.S. government debt obligations and mortgage-backed securities
issued or guaranteed by the U.S. government, its agencies or instrumentalities
("U.S. Government Securities").
The Portfolio expects to invest in the following types of U.S. Government
Securities:
. U.S. Treasury obligations;
. obligations issued or guaranteed by agencies or instrumentalities of the
U.S. government which are backed by their own credit and may not be
backed by the full faith and credit of the U.S. government;
. mortgage-backed securities guaranteed by the Government National
Mortgage Association that are supported by the full faith and credit of
the U.S. government and which are the "modified pass-through" type of
mortgage-backed security ("GNMA Certificates"). Such securities entitle
the holder to receive all interest and principal payments due whether or
not payments are actually made on the underlying mortgages;
. mortgage-backed securities guaranteed by agencies or instrumentalities
of the U.S. government which are supported by their own credit but not
the full faith and credit of the U.S. government, such as the Federal
Home Loan Mortgage Corporation and the Federal National Mortgage
Association; and
. collateralized mortgage obligations issued by private issuers for which
the underlying mortgage-backed securities serving as collateral are
backed (i) by the credit alone of the U.S. government agency or
instrumentality which issues or guarantees the mortgage-backed
securities, or (ii) by the full faith and credit of the U.S. government.
Mortgage-Backed Securities. The mortgage-backed securities in which the
Portfolio invests represent participation interests in pools of mortgage loans
which are guaranteed by agencies or instrumentalities of the U.S. government.
However, the guarantee of these types of securities runs only to the principal
and interest payments and not to the market value of such securities. In
addition, the guarantee only runs to the portfolio securities held by the
Portfolio and not the purchase of shares of the Portfolio.
Mortgage-backed securities are issued by lenders such as mortgage bankers,
commercial banks, and savings and loan associations. Such securities differ
from conventional debt securities which provide for periodic payment of
interest in fixed amounts (usually semiannually) with principal payments at
maturity or specified call dates. Mortgage-backed
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<PAGE>
securities provide for monthly payments which are, in effect, a "pass-through"
of the monthly interest and principal payments (including any prepayments)
made by the individual borrowers on the pooled mortgage loans. Principal
prepayments result from the sale of the underlying property or the refinancing
or foreclosure of underlying mortgages.
The yield of mortgage-backed securities is based on the average life of the
underlying pool of mortgage loans, which is computed on the basis of the
maturities of the underlying instruments. The actual life of any particular
pool may be shortened by unscheduled or early payments of principal and
interest. The occurrence of prepayments is affected by a wide range of
economic, demographic and social factors and, accordingly, it is not possible
to accurately predict the average life of a particular pool. For pools of
fixed rate 30-year mortgages, it has been common practice to assume that
prepayments will result in a 12-year average life. The actual prepayment
experience of a pool of mortgage loans may cause the yield realized by the
Portfolio to differ from the yield calculated on the basis of the average life
of the pool. In addition, if any of these mortgage-backed securities are
purchased at a premium, the premium may be lost in the event of early
prepayment which may result in a loss to the Portfolio.
Prepayments tend to increase during periods of falling interest rates, while
during periods of rising interest rates prepayments will most likely decline.
Reinvestment by the Portfolio of scheduled principal payments and unscheduled
prepayments may occur at higher or lower rates than the original investment,
thus affecting the yield of the Portfolio. Monthly interest payments received
by the Portfolio have a compounding effect which will increase the yield to
shareholders as compared to debt obligations that pay interest semiannually.
Because of the reinvestment of prepayments of principal at current rates,
mortgage-backed securities may be less effective than Treasury bonds of
similar maturity at maintaining yields during periods of declining interest
rates. Also, although the value of debt securities may increase as interest
rates decline, the value of these pass-through type of securities may not
increase as much due to the prepayment feature.
Collateralized Mortgage Obligations. Collateralized mortgage obligations
("CMOs"), which are debt obligations collateralized by mortgage loans or
mortgage pass-through securities, provide the holder with a specified interest
in the cash flow of a pool of underlying mortgages or other mortgage-backed
securities. Issuers of CMOs frequently elect to be taxed as a pass-through
entity known as real estate mortgage investment conduits. CMOs are issued in
multiple classes, each with a specified fixed or floating interest rate and a
final distribution date. The relative payment rights of the various CMO
classes may be structured in many ways. In most cases, however, payments of
principal are applied to the CMO classes in the order of their respective
stated maturities, so that no principal payments will be made on a CMO class
until all other classes having an earlier stated maturity date are paid in
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full. The classes may include accrual certificates (also known as "Z-Bonds"),
which only accrue interest at a specified rate until other specified classes
have been retired and are converted thereafter to interest-paying securities.
They may also include planned amortization classes which generally require,
within certain limits, that specified amounts of principal be applied on each
payment date, and generally exhibit less yield and market volatility than other
classes.
Stripped Mortgage-Backed Securities. The Portfolio may also invest a portion
of its assets in stripped mortgage-backed securities ("SMBS"), which are
derivative multi-class mortgage securities. SMBS are usually structured with
two classes that receive different proportions of the interest and principal
distributions from a pool of mortgage assets. The Portfolio will only invest in
SMBS whose mortgage assets are U.S. Government Securities.
A common type of SMBS will be structured so that one class receives some of
the interest and most of the principal from the mortgage assets, while the
other class receives most of the interest and the remainder of the principal.
In the most extreme case, one class will receive all of the interest (the
interest-only or "IO" class) while the other class will receive all of the
principal (the principal-only or "PO" class). The yield to maturity on an IO
class is extremely sensitive to the rate of principal payments (including
prepayments) on the related underlying mortgage assets, and a rapid rate of
principal payments may have a material adverse effect on the Portfolio's yield
to maturity from these securities. If the underlying mortgage assets experience
greater than anticipated prepayments of principal, the Portfolio may fail to
fully recoup its initial investment in these securities even if the security is
in one of the highest rating categories. The Portfolio may invest not more than
5% of its total assets in CMOs deemed by its Adviser to be complex, such as
floating rate and inverse floating rate tranches and SMBS.
Non-Mortgage Asset Backed Securities. The Portfolio may invest in non-
mortgage backed securities including interests in pools of receivables, such as
motor vehicle installment purchase obligations and credit card receivables.
Such securities are generally issued as pass-through certificates, which
represent undivided fractional ownership interests in the underlying pools of
assets.
Non-mortgage backed securities are not issued or guaranteed by the U.S.
government or its agencies or instrumentalities; however, the payment of
principal and interest on such obligations may be guaranteed up to certain
amounts and for a certain time period by a letter of credit issued by a
financial institution (such as a bank or insurance company) unaffiliated with
the issuers of such securities. In addition, such securities generally will
have remaining estimated lives at the time of purchase of five years or less.
The purchase of non-mortgage backed securities raises considerations peculiar
to the financing of the instruments underlying
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such securities. For example, most organizations that issue asset backed
securities relating to motor vehicle installment purchase obligations perfect
their interests in their respective obligations only by filing a financing
statement and by having the servicer of the obligations, which is usually the
originator, take custody thereof. In such circumstances, if the servicer were
to sell the same obligations to another party, in violation of its duty not to
do so, there is a risk that such party could acquire an interest in the
obligations superior to that of holders of the asset backed securities. Also,
although most such obligations grant a security interest in the motor vehicle
being financed, in most states the security interest in a motor vehicle must be
noted on the certificate of title to perfect such security interest against
competing claims of other parties. Due to the large number of vehicles
involved, however, the certificate of title to each vehicle financed, pursuant
to the obligations underlying the asset backed securities, usually is not
amended to reflect the assignment of the seller's security interest for the
benefit of the holders of the asset backed securities. Therefore, there is the
possibility that recoveries on repossessed collateral may not, in some cases,
be available to support payments on those securities. In addition, various
state and federal laws give the motor vehicle owner the right to assert against
the holder of the owner's obligation certain defenses such owner would have
against the seller of the motor vehicle. The assertion of such defenses could
reduce payments on the related asset backed securities. Insofar as credit card
receivables are concerned, credit card holders are entitled to the protection
of a number of state and federal consumer credit laws, many of which give such
holders the right to set off certain amounts against balances owed on the
credit card, thereby reducing the amounts paid on such receivables. In
addition, unlike most other asset backed securities, credit card receivables
are unsecured obligations of the card holder.
U.S. Treasury Obligations. U.S. Treasury obligations consist of bills, notes
and bonds which principally differ in their interest rates, maturities and
times of issuance. Obligations issued or guaranteed by agencies or
instrumentalities of the U.S. government are supported by (i) the full faith
and credit of the U.S. Treasury (such as securities of the Small Business
Administration), (ii) the limited authority of the issuer to borrow from the
U.S. Treasury (such as securities of the Student Loan Marketing Association) or
(iii) the authority of the U.S. government to purchase certain obligations of
the issuer (such as securities of the Federal National Mortgage Association).
No assurance can be given that the U.S. government will provide financial
support to U.S. government agencies or instrumentalities as described in
clauses (ii) or (iii) above in the future, other than as set forth above, since
it is not obligated to do so by law. The Portfolio will not invest more than
55% of the value of its assets in GNMA Certificates or in securities issued or
guaranteed by any other single U.S. government agency or instrumentality.
Corporate and Other Obligations. In seeking to obtain its investment
objective, the Portfolio may also invest in a broad range of
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debt securities, other than U.S. Government Securities, with varying maturities
such as corporate convertible and non-convertible debt obligations such as
fixed and variable rate bonds. The weighted average maturity of such
investments will generally range from 2 to 10 years. Debt securities may also
include money market securities, including bank certificates of deposit and
time deposits, bankers' acceptances, prime commercial paper, high-grade, short-
term corporate obligations, and repurchase agreements with respect to these
instruments.
Investment-grade debt securities are securities rated Baa or higher by
Moody's or BBB or higher by Standard & Poor's, and unrated securities that are
of equivalent quality in the opinion of the Portfolio's Adviser. The NRSROs'
descriptions of these bond ratings are set forth in the Appendix to the
Statement of Additional Information. Securities rated in the fourth highest
category may have speculative characteristics; changes in economic conditions
are more likely to lead to a weakened capacity to make principal and interest
payments than in the case of higher grade bonds. Like the three highest grades,
however, these securities are considered investment grade.
Lower-Rated Securities. The Portfolio may also invest a portion of its
assets, not to exceed 25%, in securities rated below Baa by Moody's or BBB by
Standard & Poor's (commonly known as "junk bonds"), so long as they are
consistent with the Portfolio's objective of seeking as high a level of total
return as is consistent with prudent investment strategies. Such securities may
include bonds rated as low as C by Moody's and by Standard & Poor's. See the
Appendix to the Statement of Additional Information. The Portfolio's Adviser
anticipates that a substantial portion of the Portfolio's lower-rated
securities will be in the higher end of these ratings.
Lower-rated and comparable unrated securities (collectively referred to in
this discussion as "lower-rated securities") will likely have some quality and
protective characteristics that, in the judgment of the rating organization,
are out-weighed by large uncertainties or major risk exposures to adverse
conditions; and are predominantly speculative with respect to the issuer's
capacity to pay interest and repay principal in accordance with the terms of
the obligation.
While the market values of lower-rated securities tend to react less to
fluctuations in interest rate levels than the market values of higher-rated
securities, the market values of certain lower-rated securities also tend to be
more sensitive to individual corporate developments and changes in economic
conditions than higher-rated securities. In addition, lower-rated securities
generally present a higher degree of credit risk. Issuers of lower-rated
securities are often highly leveraged and may not have more traditional methods
of financing available to them so that their ability to service their debt
obligations during an economic downturn or during sustained periods of rising
interest rates may be impaired. The risk of loss due to default by such issuers
is significantly
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greater because lower-rated securities generally are unsecured and frequently
are subordinated to the prior payment of senior indebtedness. The Portfolio may
incur additional expenses to the extent that it is required to seek recovery
upon a default in the payment of principal or interest on its portfolio
holdings. The existence of limited markets for lower-rated securities may
diminish the Portfolio's ability to obtain accurate market quotations for
purposes of valuing such securities and calculating its net asset value. For
additional information about the possible risks of investing in junk bonds, see
"Investment Objectives and Policies--Lower-Rated Bonds" in the Statement of
Additional Information.
Foreign Securities. The Portfolio may invest up to 15% of its total assets in
debt securities, including securities denominated in foreign currencies of
foreign issuers (including foreign governments) in developed countries and
emerging markets. Because the Portfolio may invest in foreign securities,
investment in the Portfolio involves investment risks that are different in
some respects from an investment in a fund which invests only in securities of
U.S. domestic issuers. Such risks may include adverse future political and
economic developments, the possible imposition of foreign withholding taxes on
interest income payable on the securities held in the Portfolio, possible
seizure or nationalization of foreign deposits, the possible establishment of
exchange controls, or the adoption of other foreign governmental restrictions
which might adversely affect the payment of principal and interest on
securities in the Portfolio. There may also be less publicly available
information about a foreign issuer than about a domestic issuer and foreign
issuers are not generally subject to uniform accounting, auditing and financial
reporting standards, practices and requirements comparable to those applicable
to domestic issuers.
The considerations described above generally are more of a concern in
developing countries inasmuch as their economic systems are generally smaller
and less diverse and mature and their political systems less stable than those
in developed countries. The Portfolio seeks to mitigate the risks associated
with these considerations through diversification and active portfolio
management.
The Portfolio may invest up to 35% of its assets in U.S. dollar-denominated
obligations issued by foreign branches of domestic banks ("Eurodollar"
obligations) and domestic branches of foreign banks ("Yankee dollar"
obligations).
The Portfolio may employ certain investment strategies which are discussed
under the caption "Investment Strategies" below and in the Statement of
Additional Information.
T. ROWE PRICE EQUITY INCOME PORTFOLIO
The investment objective of the T. Rowe Price Equity Income Portfolio is to
seek to provide substantial dividend income and also
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capital appreciation by investing primarily in dividend-paying common stocks of
established companies. In pursuing its objective, the Portfolio emphasizes
companies with favorable prospects for increasing dividend income, and
secondarily, capital appreciation. Over time, the income component (dividends
and interest earned) of the Portfolio's investments is expected to be a
significant contributor to the Portfolio's total return. The Portfolio's yield
is expected to be significantly above that of the S&P 500 Index. Total return
will consist primarily of dividend income and secondarily of capital
appreciation (or depreciation).
The investment program of the Portfolio is based on several premises. First,
the Portfolio's Adviser believes that, over time, dividend income can account
for a significant component of the total return from equity investments.
Second, dividends are normally a more stable and predictable source of return
than capital appreciation. While the price of a company's stock generally
increases or decreases in response to short-term earnings and market
fluctuations, its dividends are generally less volatile. Finally, the
Portfolio's Adviser believes that stocks which distribute a high level of
current income tend to have less price volatility than those which pay below
average dividends.
To achieve its objective, the Portfolio, under normal circumstances, will
invest at least 65% of its total assets in income-producing common stocks,
whose prospects for dividend growth and capital appreciation are considered
favorable by its Adviser. To enhance capital appreciation potential, the
Portfolio also uses a "value" approach and invests in stocks and other
securities its Adviser believes are temporarily undervalued by various
measures, such as price/earnings ratios. The Portfolio's investments will
generally be made in companies which share some of the following
characteristics:
. established operating histories;
. above-average current dividend yields relative to the S&P 500 Index;
. low price/earnings ratios relative to the S&P 500 Index;
. sound balance sheets and other financial characteristics; and
. low stock price relative to company's underlying value as measured by
assets, earnings, cash flow or business franchises.
Although the Portfolio will invest primarily in U.S. common stocks, it may
also purchase other types of securities, for example, foreign securities,
preferred stocks, convertible securities and warrants, when considered
consistent with the Portfolio's investment objective and program.
In the event that future economic or financial conditions adversely affect
equity securities, or stocks are considered overvalued, or the Portfolio's
Adviser believes that investing for defensive purposes is appropriate, or in
order to meet anticipated redemption requests, the Portfolio may invest part or
all of its assets in U.S. government securities
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and high quality (within the two highest rating categories assigned by a NRSRO)
U.S. and foreign dollar-denominated money market securities including
certificates of deposit, bankers' acceptances, commercial paper, short-term
corporate securities and repurchase agreements.
The Portfolio may invest up to 25% of its total assets in foreign securities.
These include non-dollar denominated securities traded outside the U.S. and
dollar denominated securities traded in the U.S. (such as American Depositary
Receipts). Such investments increase a portfolio's diversification and may
enhance return, but they may represent a greater degree of risk than investing
in domestic securities. These risks are discussed in the above section of this
Prospectus describing the T. Rowe Price International Stock Portfolio.
The Portfolio may invest in debt securities of any type including municipal
securities, without regard to quality or rating. Such securities would be
purchased in companies which meet the investment criteria for the Portfolio.
The price of a bond fluctuates with changes in interest rates, rising when
interest rates fall and falling when interest rates rise. The Portfolio,
however, will not invest more than 10% of its total assets in securities rated
below Baa by Moody's or BBB by Standard & Poor's (commonly known as "junk
bonds"). Such securities may include bonds rated as low as C by Moody's and by
Standard & Poor's. See the Appendix to the Statement of Additional Information.
Investments in non-investment grade securities entail certain risks which are
discussed in the above section of this Prospectus describing the Dreyfus U.S.
Government Securities Portfolio under the heading "Lower-Rated Securities."
The Portfolio may employ certain investment strategies which are discussed
under the caption "Investment Strategies" below and in the Statement of
Additional Information.
T. ROWE PRICE GROWTH STOCK PORTFOLIO
The investment objectives of the T. Rowe Price Growth Stock Portfolio are to
seek long-term growth of capital and to increase dividend income through
investment primarily in common stocks of well-established growth companies. A
growth company is defined by the Portfolio's Adviser as one which: (1) has
demonstrated historical growth of earnings faster than the growth of inflation
and the economy in general; and (2) has indications of being able to continue
this growth pattern in the future. Total return will consist primarily of
capital appreciation or depreciation and secondarily of dividend income.
More than fifty years ago, Thomas Rowe Price pioneered the Growth Stock
Theory of Investing. It is based on the premise that inflation represents a
more serious, long-term threat to an investor's portfolio than stock market
fluctuations or recessions. Mr. Price believed that when a company's earnings
grow faster than both inflation and the economy in general, the market will
eventually reward its long-term
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earnings growth with a higher stock price. In addition, the company should be
able to raise its dividend in line with its growth in earnings.
Although corporate earnings can be expected to be lower during periods of
recession, it is the Portfolio Adviser's opinion that, over the long term, the
earnings of well-established growth companies will not be affected adversely by
unfavorable economic conditions to the same extent as the earnings of more
cyclical companies. However, investors should be aware that the Portfolio's
share value may not always reflect the long-term earnings trend of growth
companies.
The Portfolio will invest primarily in the common stocks of a diversified
group of well-established growth companies. While current dividend income is
not a prerequisite in the selection of a growth company, the companies in which
the Portfolio will invest normally have a record of paying dividends and are
generally expected to increase the amounts of such dividends in future years as
earnings increase.
Although the Portfolio will invest primarily in U.S. common stocks, it may
also purchase other types of securities, for example, foreign securities,
preferred stocks, convertible securities and warrants, when considered
consistent with the Portfolio's investment objectives and program.
In the event that future economic or financial conditions adversely affect
equity securities, or stocks are considered overvalued, or the Portfolio's
Adviser believes that investing for defensive purposes is appropriate, or in
order to meet anticipated redemption requests, the Portfolio may invest part or
all of its assets in U.S. government securities and high quality (within the
two highest rating categories assigned by a NRSRO) U.S. and foreign dollar-
denominated money market securities including certificates of deposit, bankers'
acceptances, commercial paper, short-term corporate securities and repurchase
agreements.
The Portfolio may invest up to 30% of its total assets in foreign securities.
These include non-dollar denominated securities traded outside the U.S. and
dollar denominated securities traded in the U.S. (such as American Depositary
Receipts). Such investments increase a portfolio's diversification and may
enhance return, but they may represent a greater degree of risk than investing
in domestic securities. These risks are discussed in the above section of this
Prospectus describing the T. Rowe Price International Stock Portfolio.
The Portfolio may employ certain investment strategies which are discussed
under the caption "Investment Strategies" below and in the Statement of
Additional Information.
OPPORTUNITY VALUE PORTFOLIO
The investment objective of the Opportunity Value Portfolio is to achieve
growth of capital over time through investment in a portfolio
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consisting of common stocks, bonds and cash equivalents, the percentages of
which will vary based on the Portfolio Adviser's assessments of the relative
outlook for such investments. In seeking to achieve its investment objective,
the types of equity securities in which the Portfolio may invest will be
securities of companies that are believed by the Portfolio's Adviser to be
undervalued in the marketplace in relation to factors such as the companies'
assets or earnings. It is the Adviser's intention to invest in securities of
companies which in its opinion possess one or more of the following
characteristics: undervalued assets, valuable consumer or commercial
franchises, securities valuation below peer companies, substantial and growing
cash flow and/or a favorable price to book value relationship. Investment
policies aimed at achieving the Portfolio's objective are set in a flexible
framework of securities selection which primarily includes equity securities,
such as common stocks, preferred stocks, convertible securities, rights and
warrants in proportions which vary from time to time. The Portfolio will invest
primarily in stocks listed on the New York Stock Exchange. In addition, it may
also purchase securities of companies, including companies with small market
capitalizations, listed on other domestic securities exchanges, securities
traded in the domestic over-the-counter market and foreign securities provided
that they are listed on a domestic or foreign securities exchange or
represented by American Depositary Receipts listed on a domestic securities
exchange or traded in domestic or foreign over-the-counter markets.
Investing in foreign securities may present a greater degree of risk than
investing in domestic securities. These risks are discussed in the above
section of this Prospectus describing the T. Rowe Price International Stock
Portfolio. Investing in the securities of small capitalization companies
involves greater risk exposure and reward potential than investments in larger
capitalization companies. These risks are discussed in the above section of
this Prospectus describing the Dreyfus Small Cap Value Portfolio.
Debt securities are expected to be predominantly investment grade
intermediate to long-term U.S. government and corporate debt, although the
Portfolio will also invest in high quality short-term money market and cash
equivalent securities and may invest almost all of its assets in such
securities when the Portfolio's Adviser deems it advisable in order to preserve
capital. The Portfolio's debt securities may also include mortgage-backed
securities issued by the U.S. government, its agencies or instrumentalities and
collateralized mortgage obligations that are issued or guaranteed by the U.S.
government or its agencies or instrumentalities or that are collateralized by a
portfolio of mortgages or mortgage-related securities guaranteed by such an
agency or instrumentality.
The effective maturity of a mortgage-backed security may be shortened by
unscheduled or early payment of principal and interest on the underlying
mortgages, which may affect the effective yield of such
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securities. The principal that is returned may be invested in instruments
having a higher or lower yield than the prepaid instruments depending on then-
current market conditions.
Investment grade securities will, at the time of purchase, have ratings
within the four highest rating categories established by Moody's, Standard &
Poor's, or a similar NRSRO or, if not rated, be of comparable quality as
determined by the Portfolio's Adviser. The NRSROs' descriptions of these bond
ratings are set forth in the Appendix to the Statement of Additional
Information. Securities rated in the fourth highest category may have
speculative characteristics; changes in economic or business conditions are
more likely to lead to a weakened capacity to make principal and interest
payments than in the case of higher grade bonds. Like the three highest grades,
however, these securities are considered investment grade.
It is the present intention of the Portfolio's Adviser to invest no more than
5% of the Portfolio's net assets in bonds rated below Baa3 by Moody's or BBB by
Standard & Poor's (commonly knows as "junk bonds"). In the event that the
Portfolio's Adviser intends in the future to invest more than 5% of the
Portfolio's net assets in junk bonds, appropriate disclosures will be made to
existing and prospective shareholders. For information about the possible risks
of investing in junk bonds see "Investment Objectives and Policies--Lower Rated
Bonds" in the Statement of Additional Information.
The allocation of the Portfolio's assets among the different types of
permitted investments will vary from time to time based upon the Portfolio
Adviser's evaluation of economic and market trends and its perception of the
relative values available from such types of securities at any given time.
There is neither a minimum nor a maximum percentage of the Portfolio's assets
that may, at any given time, be invested in any of the types of investments
identified above. Consequently, while the Portfolio will earn income to the
extent it is invested in bonds or cash equivalents, the Portfolio does not have
any specific income objective. Although there is neither a minimum nor maximum
percentage of the Portfolio's assets that may, at any given time, be invested
in any of the types of investments identified above, it is anticipated that
most of the time the substantial majority of the Portfolio's assets will be
invested in common stocks.
The Portfolio may employ certain investment strategies which are discussed
under the caption "Investment Strategies" below and in the Statement of
Additional Information.
ENHANCED INDEX PORTFOLIO
The investment objective of the Enhanced Index Portfolio is to earn a total
return modestly in excess of the total return performance of the S&P 500 Index
(including the reinvestment of dividends) while maintaining a volatility of
return similar to the S&P 500 Index. The
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Portfolio is appropriate for investors who seek a modestly enhanced total
return relative to that of large and medium sized U.S. companies typically
represented in the S&P 500 Index. The Portfolio intends to invest in securities
of approximately 300 issuers, which securities are rated by the Portfolio's
Adviser to have above average expected returns.
The Portfolio seeks to achieve its investment objective through fundamental
analysis, systematic stock valuation and disciplined portfolio construction.
. Fundamental research: The Portfolio Adviser's approximately 25 domestic
equity analysts, each an industry specialist with an average of
approximately 12 years experience, follow over 900 predominantly large
and medium sized U.S. companies--approximately 525 of which form the
universe for the Portfolio's investments. A substantial majority of
these companies are issuers of securities which are included in the S&P
500 Index. The analysts' research goal is to forecast normalized, longer
term earnings and dividends for the companies that they cover.
. Systematic valuation: The analysts' forecasts are converted into
comparable expected returns by a dividend discount model, which
calculates those expected returns by solving for the rate of return that
equates the company's current stock price to the present value of its
estimated long-term earnings power. Within each sector, companies are
ranked by their expected return and grouped into quintiles; those with
the highest expected returns (Quintile 1) are deemed the most
undervalued relative to their long-term earnings power, while those with
the lowest expected returns (Quintile 5) are deemed the most overvalued.
. Disciplined portfolio construction: A diversified portfolio is
constructed using disciplined buy and sell rules. Portfolio sector
weightings will generally approximate those of the S&P 500 Index. The
Portfolio will normally be principally comprised, based on the dividend
discount model, of stocks in the first three Quintiles. Finally, the
Portfolio holds a large number of stocks to enhance its diversification.
Under normal market circumstances, the Portfolio's Adviser will invest at
least 65% of its net assets in equity securities consisting of common stocks
and other securities with equity characteristics such as trust interests,
limited partnership interests, preferred stocks, warrants, rights and
securities convertible into common stock. The Portfolio's primary equity
investments will be the common stock of large and medium sized U.S. companies
with market capitalizations above $1 billion. Such securities will be listed on
a national securities exchange or traded in the over-the-counter market. The
Portfolio may invest in similar securities of foreign corporations, provided
that the securities of such corporations are included in the S&P 500 Index.
The Portfolio intends to manage its portfolio actively in pursuit of its
investment objective. Since the Portfolio has a long-term investment
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perspective, it does not intend to respond to short-term market fluctuations
or to acquire securities for the purpose of short-term trading; however, it
may take advantage of short-term trading opportunities that are consistent
with its objective.
During ordinary market conditions, the Portfolio's Adviser will keep the
Portfolio as fully invested as practicable in the equity securities described
above. In the event that future economic or financial conditions adversely
affect equity securities, or stocks are considered overvalued, or the
Portfolio's Adviser believes that investing for defensive purposes is
appropriate, or in order to meet anticipated redemption requests, the
Portfolio may invest part or all of its assets in U.S. government securities
and high quality (within the two highest rating categories assigned by a
NRSRO) U.S. dollar-denominated money market securities including certificates
of deposit, bankers' acceptances, commercial paper, short-term debt securities
and repurchase agreements.
Convertible bonds and other fixed income securities (other than money market
instruments) in which the Portfolio may invest will, at the time of
investment, have ratings within the four highest rating categories established
by Moody's, Standard & Poor's, or a similar NRSRO or, if not rated, be of
comparable quality as determined by the Portfolio's Adviser. The NRSROs'
descriptions of these bond ratings are set forth in the Appendix to the
Statement of Additional Information. Securities rated in the fourth highest
category may have speculative characteristics; changes in economic or business
conditions are more likely to lead to a weakened capacity to make principal
and interest payments than in the case of higher grade bonds. Like the three
highest grades, however, these securities are considered investment grade.
The Portfolio may invest in certain foreign securities which may represent a
greater degree of risk than investing in domestic securities. These risks are
discussed in the above section of this Prospectus describing the T. Rowe Price
International Stock Portfolio.
The Portfolio may employ certain investment strategies which are discussed
under the caption "Investment Strategies" below and in the Statement of
Additional Information.
INVESTMENT STRATEGIES
In addition to making investments directly in securities, the Portfolios
(other than the TCW Money Market Portfolio) may write covered call and put
options and hedge their investments by purchasing options and engaging in
transactions in futures contracts and related options. The Adviser to the TCW
Managed Asset Allocation Portfolio does not presently intend to utilize
futures contracts and related options but may do so in the future. The
Advisers to the Dreyfus Small Cap Value Portfolio and the Opportunity Growth
Portfolio do not currently intend to write covered call and put options or
engage in transactions in futures contracts and related options, but may do so
in the future. The
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T. Rowe Price International Stock, Dreyfus U.S. Government Securities, T. Rowe
Price Equity Income, T. Rowe Price Growth Stock, Opportunity Value and
Enhanced Index Portfolios may engage in foreign currency exchange transactions
to protect against changes in future exchange rates. All Portfolios except the
TCW Money Market Portfolio may invest in American Depositary Receipts and
European Depositary Receipts. All Portfolios may enter into repurchase
agreements, may make forward commitments to purchase securities, lend their
portfolio securities and borrow funds under certain limited circumstances. The
T. Rowe Price Equity Income, T. Rowe Price Growth Stock, T. Rowe Price
International Stock and Dreyfus U.S. Government Securities Portfolios may
invest in hybrid instruments. The investment strategies referred to above and
the risks related to them are summarized below and certain of these strategies
are described in more detail in the Statement of Additional Information.
Options and Futures Transactions. A Portfolio (other than the TCW Money
Market Portfolio) may seek to increase the current return on its investments
by writing covered call or covered put options. The Advisers to the Dreyfus
Small Cap Value Portfolio and the Opportunity Value Portfolio have no present
intention to engage in this strategy, but may do so in the future.
In addition, a Portfolio (other than the TCW Money Market Portfolio) may at
times seek to hedge against either a decline in the value of its portfolio
securities or an increase in the price of securities which its Adviser plans
to purchase through the writing and purchase of options on securities and any
index of securities in which the Portfolio may invest and the purchase and
sale of futures contracts and related options. The Advisers to the TCW Managed
Asset Allocation, Dreyfus Small Cap Value and Opportunity Value Portfolios
have no present intention to use this strategy, but may do so in the future.
The Adviser to the Dreyfus U.S. Government Securities Portfolio does not
presently intend to purchase or sell call or put options but may enter into
interest rate futures contracts and write and purchase put and call options on
such futures contracts. The Portfolio may purchase and sell interest rate
futures contracts as a hedge against changes in interest rates. A futures
contract is an agreement between two parties to buy and sell a security for a
set price on a future date. Futures contracts are traded on designated
"contracts markets" which, through their clearing corporations, guarantee
performance of the contracts. Currently, there are futures contracts based on
securities such as long-term U.S. Treasury bonds, U.S. Treasury notes, GNMA
Certificates and three-month U.S. Treasury bills.
Generally, if market interest rates increase, the value of outstanding debt
securities declines (and vice versa). Entering into a futures contract for the
sale of securities has an effect similar to the actual sale of securities,
although the sale of the futures contracts might be accomplished more easily
and quickly. For example, if the Portfolio holds
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long-term U.S. Government Securities and the Adviser anticipates a rise in
long-term interest rates, it could, in lieu of disposing of its portfolio
securities, enter into futures contracts for the sale of similar long-term
securities. If interest rates increased and the value of the Portfolio's
securities declined, the value of the Portfolio's futures contracts would
increase, thereby protecting the Portfolio by preventing the net asset value
from declining as much as it otherwise would have. Similarly, entering into
futures contracts for the purchase of securities has an effect similar to the
actual purchase of the underlying securities, but permits the continued holding
of securities other than the underlying securities. For example, if the Adviser
expects long-term interest rates to decline, the Portfolio might enter into
futures contracts for the purchase of long-term securities, so that it could
gain rapid market exposure that may offset anticipated increases in the cost of
securities it intends to purchase, while continuing to hold higher-yielding
short-term securities or waiting for the long-term market to stabilize.
A Portfolio (other than the TCW Money Market Portfolio) also may purchase and
sell listed put and call options on futures contracts. An option on a futures
contract gives the purchaser the right, in return for the premium paid, to
assume a position in a futures contract (a long position if the option is a
call and a short position if the option is a put), at a specified exercise
price at any time during the option period. When an option on a futures
contract is exercised, delivery of the futures position is accompanied by cash
representing the difference between the current market price of the futures
contract and the exercise price of the option.
The Dreyfus U.S. Government Securities Portfolio may purchase put options on
interest rate futures contracts in lieu of, and for the same purpose as, sale
of a futures contract. It also may purchase such put options in order to hedge
a long position in the underlying futures contract in the same manner as it
purchases "protective puts" on securities. The purchase of call options on
interest rate futures contracts is intended to serve the same purpose as the
actual purchase of the futures contract, and the Portfolio will set aside cash
or cash equivalents sufficient to purchase the amount of portfolio securities
represented by the underlying futures contracts.
A Portfolio may not purchase futures contracts or related options if,
immediately thereafter, more than 33 1/3% (25% for the T. Rowe Price Equity
Income Portfolio, the T. Rowe Price Growth Stock Portfolio and the T. Rowe
Price International Stock Portfolio) of the Portfolio's total assets would be
so invested.
The Portfolios' Advisers generally expect that options and futures
transactions for the Portfolios will be conducted on securities and other
exchanges. In certain instances, however, a Portfolio may purchase and sell
options in the over-the-counter market. The staff of the Securities and
Exchange Commission considers over-the-counter options to be illiquid. A
Portfolio's ability to terminate option positions established in
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the over-the-counter market may be more limited than in the case of exchange
traded options and may also involve the risk that securities dealers
participating in such transactions would fail to meet their obligations to the
Portfolio. There can be no assurance that a Portfolio will be able to effect
closing transactions at any particular time or at an acceptable price. The use
of options and futures involves the risk of imperfect correlation between
movements in options and futures prices and movements in the prices of the
securities that are being hedged. Expenses and losses incurred as a result of
these hedging strategies will reduce the Portfolio's current return. In many
foreign countries, futures and options markets do not exist or are not
sufficiently developed to be effectively used by a Portfolio.
Foreign Currency Transactions. The Dreyfus U.S. Government Securities, T.
Rowe Price Equity Income, T. Rowe Price Growth Stock, T. Rowe Price
International Stock, Opportunity Value and Enhanced Index Portfolios may
purchase foreign currency on a spot (or cash) basis, enter into contracts to
purchase or sell foreign currencies at a future date ("forward contracts"),
purchase and sell foreign currency futures contracts, and purchase exchange
traded and over-the-counter call and put options on foreign currency futures
contracts and on foreign currencies. The Adviser to a Portfolio may engage in
these transactions to protect against uncertainty in the level of future
exchange rates in connection with the purchase and sale of portfolio securities
("transaction hedging") and to protect the value of specific portfolio
positions ("position hedging").
Hedging transactions involve costs and may result in losses. The Dreyfus U.S.
Government Securities, T. Rowe Price Equity Income, T. Rowe Price Growth Stock,
T. Rowe Price International Stock, Opportunity Value and Enhanced Index
Portfolios may write covered call options on foreign currencies to offset some
of the costs of hedging those currencies. A Portfolio will engage in over-the-
counter transactions only when appropriate exchange traded transactions are
unavailable and when, in the opinion of the Portfolio's Adviser, the pricing
mechanism and liquidity are satisfactory and the participants are responsible
parties likely to meet their contractual obligations. A Portfolio's ability to
engage in hedging and related option transactions may be limited by tax
considerations.
Transaction and position hedging do not eliminate fluctuations in the
underlying prices of the securities which the Portfolio owns or intends to
purchase or sell. They simply establish a rate of exchange which one can
achieve at some future point in time. Additionally, although these techniques
tend to minimize the risk of loss due to a decline in the value of the hedged
currency, they tend to limit any potential gain which might result from the
increase in the value of such currency.
Interest Rate Transactions. In order to attempt to protect the value of its
portfolio from interest rate fluctuations, the Dreyfus U.S.
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Government Securities Portfolio may enter into various hedging transactions,
such as interest rate swaps and the purchase or sale of interest rate caps and
floors. Interest rate swaps involve the exchange by the Portfolio with another
party of their respective commitments to pay or receive interest, e.g., an
exchange of floating rate payments for fixed rate payments. The purchase of an
interest rate cap entitles the purchaser, to the extent that a specified index
exceeds a predetermined interest rate, to receive payments of interest on a
notional principal amount from the party selling such interest rate cap. The
purchase of an interest rate floor entitles the purchaser, to the extent that a
specified index falls below a predetermined interest rate, to receive payments
of interest on a notional principal amount from the party selling such interest
rate floor. The Adviser to the Portfolio expects to enter into these
transactions on behalf of the Portfolio primarily to preserve a return or
spread on a particular investment or portion of its portfolio or to protect
against any increase in the price of securities the Portfolio anticipates
purchasing at a later date. The Portfolio intends to use these transactions as
a hedge and not as a speculative investment. The Portfolio will not sell
interest rate caps or floors that it does not own.
The Portfolio may enter into interest rate swaps, caps and floors on either
an asset-based or liability-based basis, depending on whether it is hedging its
assets or its liabilities, and will usually enter into interest rate swaps on a
net basis, i.e., the two payment streams are netted out, with the Portfolio
receiving or paying, as the case may be, only the net amount of the two
payments. Inasmuch as these hedging transactions are entered into for good
faith hedging purposes, the Adviser to the Portfolio and the Fund believe such
obligations do not constitute senior securities and accordingly, will not treat
them as being subject to the Portfolio's borrowing restrictions. The net amount
of the excess, if any, of the Portfolio's obligations over its entitlement with
respect to each interest rate swap will be accrued on a daily basis and an
amount of cash or liquid securities having an aggregate net asset value at
least equal to the accrued excess will be maintained in a segregated account by
the Portfolio's custodian. The Portfolio will not enter into any interest rate
swap, cap or floor transactions unless the unsecured senior debt or the claims-
paying ability of the other party thereto is rated in the highest category of
at least one NRSRO at the time of entering into such transaction. If there is a
default by the other party to such a securities transaction, the Portfolio will
have contractual remedies pursuant to the agreements related to the
transactions. The swap market has grown substantially in recent years with a
large number of banks and investment banking firms acting both as principals
and as agents utilizing standardized swap documentation. As a result, the swap
market has become relatively liquid. Caps and floors are more recent
innovations for which standardized documentation has not yet been developed
and, accordingly, they are less liquid than swaps.
Dollar Roll Transactions. The Dreyfus U.S. Government Securities Portfolio
may enter into dollar roll transactions with selected banks and
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broker-dealers. Dollar roll transactions are comprised of the sale by the
Portfolio of mortgage-based securities, together with a commitment to purchase
similar, but not identical, securities at a future date. In addition, the
Portfolio is paid a fee as consideration for entering into the commitment to
purchase. Dollar rolls may be renewed after cash settlement and initially may
involve only a firm commitment agreement by the Portfolio to buy a security. If
the broker-dealer to whom the Portfolio sells the security becomes insolvent,
the Portfolio's right to purchase or repurchase the security may be restricted;
the value of the security may change adversely over the term of the dollar
roll; the security that the Portfolio is required to repurchase may be worth
less than the security that the Portfolio originally held, and the return
earned by the Portfolio with the proceeds of a dollar roll may not exceed
transaction costs. Dollar roll transactions are treated as borrowings for
purposes of the 1940 Act, and the aggregate of such transactions and all other
borrowings of the Portfolio (including reverse repurchase agreements) will be
subject to the requirement that the Portfolio maintain asset coverage of 300%
for all borrowings.
Reverse Repurchase Agreements. Each Portfolio is permitted to enter into
reverse repurchase agreements. In a reverse repurchase agreement, the Portfolio
sells a security and agrees to repurchase it at a mutually agreed upon date and
price, reflecting the interest rate effective for the term of the agreement.
For the purposes of the 1940 Act it is considered a form of borrowing by the
Portfolio and, therefore, is a form of leverage. Leverage may cause any gains
or losses of the Portfolio to be magnified.
Borrowings. A Portfolio other than the Dreyfus U.S. Government Securities, T.
Rowe Price Equity Income, T. Rowe Price Growth Stock, T. Rowe Price
International Stock, Opportunity Value and Enhanced Index Portfolios may borrow
money for temporary purposes in amounts up to 5% of its total assets. The
Dreyfus U.S. Government Securities Portfolio may borrow from banks and enter
into reverse repurchase agreements or dollar rolls transactions in an amount
equal to up to 33 1/3% of the value of its net assets (computed at the time the
loan is made) to take advantage of investment opportunities and for temporary,
extraordinary or emergency purposes. The Dreyfus U.S. Government Securities
Portfolio may pledge up to 33 1/3% of its total assets to secure these
borrowings. If the Portfolio's asset coverage for borrowings falls below 300%,
the Portfolio will take prompt action to reduce its borrowings.
The T. Rowe Price Equity Income, T. Rowe Price Growth Stock and T. Rowe Price
International Stock Portfolios may borrow money as a temporary measure for
emergency purposes, to facilitate redemption requests, or for other purposes
consistent with the Portfolio's investment objective and program in an amount
up to 33 1/3% of the Portfolio's net assets. Each Portfolio may pledge up to 33
1/3% of its total assets to secure these borrowings. These Portfolios may not
purchase additional securities when borrowings exceed 5% of total assets.
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The Opportunity Value and Enhanced Index Portfolios may borrow money from
banks as a temporary measure for extraordinary or emergency purposes in amounts
up to 10% of its total assets. Neither Portfolio may purchase additional
securities when borrowings exceed 5% of total assets.
As a matter of operating policy, each of the Dreyfus U.S. Government
Securities, T. Rowe Price Equity Income, T. Rowe Price Growth Stock and T. Rowe
Price International Stock Portfolios will limit all borrowings to no more than
25% of such Portfolio's net assets.
American and European Depositary Receipts. All Portfolios except the TCW
Money Market Portfolio may purchase foreign securities in the form of American
Depositary Receipts ("ADRs"), European Depositary Receipts ("EDRs") or other
securities convertible into securities of corporations in which the Portfolios
are permitted to invest pursuant to their respective investment objectives and
policies. These securities may not necessarily be denominated in the same
currency into which they may be converted. ADRs are receipts typically issued
by a United States bank or trust company which evidence ownership of underlying
securities issued by a foreign corporation. EDRs are receipts issued in Europe
by banks or depositories which evidence a similar ownership arrangement.
Generally, ADRs, in registered form, are designed for use in United States
securities markets and EDRs, in bearer form, are designed for use in European
securities markets.
Repurchase Agreements. All Portfolios may enter into repurchase agreements
with a bank, broker-dealer or other financial institution as a means of earning
a fixed rate of return on its cash reserves for periods as short as overnight.
A repurchase agreement is a contract pursuant to which a Portfolio, against
receipt of securities of at least equal value including accrued interest,
agrees to advance a specified sum to the financial institution which agrees to
reacquire the securities at a mutually agreed upon time (usually one day) and
price. Each repurchase agreement entered into by a Portfolio will provide that
the value of the collateral underlying the repurchase agreement will always be
at least equal to the repurchase price, including any accrued interest. The
Portfolio's right to liquidate such securities in the event of a default by the
seller could involve certain costs, losses or delays and, to the extent that
proceeds from any sale upon a default of the obligation to repurchase are less
than the repurchase price, the Portfolio could suffer a loss.
Forward Commitments. Each Portfolio may make contracts to purchase securities
for a fixed price at a future date beyond customary settlement time ("forward
commitments") if it holds, and maintains until the settlement date in a
segregated account, cash or high-grade debt obligations in an amount sufficient
to meet the purchase price, or if it enters into offsetting contracts for the
forward sale of other securities it owns. Forward commitments may be considered
securities in themselves and involve a risk of loss if the value of the
security to be purchased
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declines prior to the settlement date, which risk is in addition to the risk of
decline in value of the Portfolio's other assets. Where such purchases are made
through dealers, the Portfolio relies on the dealer to consummate the sale. The
dealer's failure to do so may result in the loss to the Portfolio of an
advantageous yield or price.
Securities Loans. Each Portfolio may seek to obtain additional income by
making secured loans of its portfolio securities with a value up to 33 1/3% of
its total assets. All securities loans will be made pursuant to agreements
requiring the loans to be continuously secured by collateral in cash or high-
grade debt obligations at least equal at all times to the market value of the
loaned securities. The borrower pays to the Portfolio an amount equal to any
dividends or interest received on loaned securities. The Portfolio retains all
or a portion of the interest received on investment of cash collateral or
receives a fee from the borrower. Lending portfolio securities involves risks
of delay in recovery of the loaned securities or in some cases loss of rights
in the collateral should the borrower fail financially.
Hybrid Instruments. The T. Rowe Price Equity Income, T. Rowe Price Growth
Stock and T. Rowe Price International Stock Portfolios may invest up to 10% of
their total assets, and the Dreyfus U.S. Government Securities Portfolio may
invest up to 5% of its total assets, in hybrid instruments. Hybrid instruments
have recently been developed and combine the elements of futures contacts or
options with those of debt, preferred equity or a depository instrument. Often
these hybrid instruments are indexed to the price of a commodity, particular
currency, or a domestic or foreign debt or equity securities index. Hybrid
instruments may take a variety of forms, including, but not limited to, debt
instruments with interest or principal payments or redemption terms determined
by reference to the value of a currency or commodity or securities index at a
future point in time, preferred stock with dividend rates determined by
reference to the value of a currency, or convertible securities with the
conversion terms related to a particular commodity. Hybrid instruments may bear
interest or pay dividends at below market (or even relatively nominal) rates.
Under certain conditions, the redemption value of such an instrument could be
zero. Hybrid instruments can have volatile prices and limited liquidity and
their use by a Portfolio may not be successful.
Fixed-Income Securities--Downgrades. If any security invested in by any of
the Portfolios loses its rating or has its rating reduced after the Portfolio
has purchased it, unless required by law, the Portfolio is not required to sell
or otherwise dispose of the security, but may consider doing so.
Illiquid Securities. Each Portfolio may invest up to 10% (15% with respect to
T. Rowe Price International Stock Portfolio, T. Rowe Price Equity Income
Portfolio, T. Rowe Price Growth Stock Portfolio, Dreyfus Small Cap Value
Portfolio, Opportunity Value Portfolio, Enhanced Index Portfolio and, if
approved by shareholders at an upcoming shareholders meeting, the Value Equity
Portfolio) of its net assets in illiquid securities
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and other securities which are not readily marketable, including non-negotiable
time deposits, certain restricted securities not deemed by the Fund's Trustees
to be liquid and repurchase agreements with maturities longer than seven days.
Securities eligible for resale pursuant to Rule 144A under the Securities Act
of 1933, which have been determined to be liquid, will not be considered by the
Portfolios' Advisers to be illiquid or not readily marketable and, therefore,
are not subject to the aforementioned 10% or 15% limits. The inability of a
Portfolio to dispose of illiquid or not readily marketable investments readily
or at a reasonable price could impair the Portfolio's ability to raise cash for
redemptions or other purposes. The liquidity of securities purchased by a
Portfolio which are eligible for resale pursuant to Rule 144A will be monitored
by the Portfolios' Advisers on an ongoing basis, subject to the oversight of
the Trustees. In the event that such a security is deemed to be no longer
liquid, a Portfolio's holdings will be reviewed to determine what action, if
any, is required to ensure that the retention of such security does not result
in a Portfolio having more than 10% or 15%, as applicable, of its assets
invested in illiquid or not readily marketable securities.
MANAGEMENT OF THE FUND
The Trustees and officers of the Fund provide broad supervision over the
business and affairs of the Portfolios and the Fund.
THE MANAGER
The Fund is managed by Endeavor Investment Advisers ("the Manager") which,
subject to the supervision and direction of the Trustees of the Fund, has
overall responsibility for the general management and administration of the
Fund. The Manager is a general partnership of which Endeavor Management Co. is
the managing partner. Endeavor Management Co., by whose employees all
management services performed under the management agreement are rendered to
the Fund, holds a 50.01% interest in the Manager and AUSA Financial Markets,
Inc., an affiliate of PFL, holds the remaining 49.99% interest therein. Vincent
J. McGuinness, a Trustee of the Fund, together with his family members and
trusts for the benefit of his family members, own all of Endeavor Management
Co.'s outstanding common stock. Mr. McGuinness is Chairman, Chief Executive
Officer and President of Endeavor Management Co.
The Manager is responsible for providing investment management and
administrative services to the Fund and in the exercise of such responsibility
selects the investment advisers for the Fund's Portfolios (the "Advisers") and
monitors the Advisers' investment programs and results, reviews brokerage
matters, oversees compliance by the Fund with various federal and state
statutes, and carries out the directives of the Trustees. The Manager is
responsible for providing the Fund with office space, office equipment, and
personnel necessary to operate and administer the Fund's business, and also
supervises the provision of
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services by third parties such as the Fund's custodian and transfer agent.
Pursuant to an administration agreement, First Data Investor Services Group,
Inc. ("FDISG") assists the Manager in the performance of its administrative
responsibilities to the Fund.
As compensation for these services the Fund pays the Manager a monthly fee at
the following annual rates of each Portfolio's average daily net assets: TCW
Money Market Portfolio--.50%; TCW Managed Asset Allocation Portfolio--.75%; T.
Rowe Price International Stock Portfolio--.90%; Value Equity Portfolio--.80%;
Dreyfus Small Cap Value Portfolio--.80%; Dreyfus U. S. Government Securities
Portfolio--.65%; T. Rowe Price Equity Income Portfolio--.80%; T. Rowe Price
Growth Stock Portfolio--.80%; Opportunity Value Portfolio--.80%; Enhanced Index
Portfolio--.75%. The management fees paid by the Portfolios (other than the TCW
Money Market Portfolio and Dreyfus U.S. Government Securities Portfolio),
although higher than the fees paid by most other investment companies in
general, are comparable to management fees paid for similar services by many
investment companies with similar investment objectives and policies. From the
management fees, the Manager pays the expenses of providing investment advisory
services to the Portfolios, including the fees of the Adviser of each Portfolio
and the fees and expenses of FDISG pursuant to the administration agreement.
In addition to the management fees, the Fund pays all expenses not assumed by
the Manager, including, without limitation, expenses for legal, accounting and
auditing services, interest, taxes, costs of printing and distributing reports
to shareholders, proxy materials and prospectuses, charges of its custodian,
transfer agent and dividend disbursing agent, registration fees, fees and
expenses of the Trustees who are not interested persons of the Fund, insurance,
brokerage costs, litigation, and other extraordinary or nonrecurring expenses.
All general Fund expenses are allocated among and charged to the assets of the
Portfolios of the Fund on a basis that the Trustees deem fair and equitable,
which may be on the basis of relative net assets of each Portfolio or the
nature of the services performed and relative applicability to each Portfolio.
THE ADVISERS
Pursuant to an investment advisory agreement with the Manager, the Adviser to
a Portfolio furnishes continuously an investment program for the Portfolio,
makes investment decisions on behalf of the Portfolio, places all orders for
the purchase and sale of investments for the Portfolio's account with brokers
or dealers selected by such Adviser and may perform certain limited related
administrative functions in connection therewith. For its services, the Manager
pays the Adviser a fee based on a percentage of the average daily net assets of
the Portfolio. An Adviser may place portfolio securities transactions with
broker-dealers who furnish it with certain services of value in advising the
Portfolio and other clients. In so doing, an Adviser may cause a Portfolio
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to pay greater brokerage commissions than it might otherwise pay. In seeking
the most favorable price and execution available, an Adviser may, if permitted
by law, consider sales of the Contracts as a factor in the selection of broker-
dealers. OpCap Advisors may select, under certain circumstances, Oppenheimer &
Co., Inc., one of its affiliates, to execute transactions for the Value Equity
and Opportunity Value Portfolios. T. Rowe Price Associates, Inc. and Rowe
Price-Fleming International, Inc. may utilize certain brokers indirectly
related to them in the capacity as broker in connection with the execution of
transactions for the T. Rowe Price Equity Income, T. Rowe Price Growth Stock
and T. Rowe Price International Stock Portfolios. J.P. Morgan Investment
Management Inc. may utilize certain brokers affiliated with it in connection
with the execution of transactions for the Enhanced Index Portfolio. See the
Statement of Additional Information for a further discussion of Portfolio
trading.
The Board of Trustees of the Fund has authorized the Manager and the Advisers
to enter into arrangements with brokers who execute brokerage transactions for
the Portfolios whereby a portion of the commissions earned by such brokers will
be shared with a broker-dealer affiliate of the Manager. The affiliated broker
will act an "introducing broker" in the transaction. Subject to the
requirements of applicable law including seeking best price and execution of
orders, commissions paid to executing brokers will not exceed ordinary and
customary brokerage commissions.
The Board of Trustees has determined that the Fund's brokerage commissions
should be utilized for the Fund's benefit to the extent possible. After
reviewing various alternatives, the Board concluded that commissions received
by the broker-dealer affiliate of the Manager can be used to promote the
distribution of the Fund's shares including payments to broker-dealers who sell
the Contracts, the costs of training and educating such broker-dealers with
respect to the Contracts and other bona-fide distribution costs payable to
unaffiliated persons. Other than incidental costs related to establishing the
broker-dealer affiliate as an "introducing broker", no portion of the
commissions received by the broker-dealer affiliate of the Manager will be
retained for its or any affiliate's benefit. On a quarterly basis, the Manager
will report to the Board of Trustees the aggregate commissions received by its
broker-dealer affiliate and the distribution expenses paid from such
commissions. The Board of Trustees will periodically review the extent to which
the foregoing arrangement reduces distribution expenses currently being
incurred by the Manager or its affiliates on behalf of the Fund. The Board of
Trustees may determine from time to time other appropriate uses for the Fund
from the commissions it pays to executing brokers.
The Manager will not implement this program until any required exemptive or
no action relief is obtained from the Securities and Exchange Commission.
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TCW Funds Management, Inc. ("TCW") is the Adviser to the TCW Money Market
Portfolio and the TCW Managed Asset Allocation Portfolio. As compensation for
its services as investment adviser, the Manager pays TCW a monthly fee at the
annual rate of .25% of the average daily net assets of the TCW Money Market
Portfolio and .375% of the average daily net assets of the TCW Managed Asset
Allocation Portfolio. TCW is a wholly owned subsidiary of The TCW Group, Inc.,
whose subsidiaries, including Trust Company of the West and TCW Asset
Management Company, provide a variety of trust, investment management and
investment advisory services. TCW and its affiliates, which as of December 31,
1996 had over $50 billion under management or committed for management, provide
investment advisory services to a number of open-end and closed-end investment
companies.
James M. Goldberg, a Managing Director and Chairman of the Fixed Income
Policy Committee of TCW, is the portfolio manager for the TCW Money Market
Portfolio. Mr. Goldberg has been with TCW since 1984. Investment decisions for
the equity portion of the TCW Managed Asset Allocation Portfolio are made by
Norman Ridley in consultation with Stefan D. Abrams. Mr. Ridley is a Senior
Vice President of TCW and has been with the firm since 1985. Since 1992 Mr.
Abrams has been a Managing Director of TCW and is Director of Equity Strategy
and Asset Allocation. Investment decisions for the fixed income portion of the
TCW Managed Asset Allocation Portfolio are made by Mr. Goldberg.
OpCap Advisors ("OpCap") (formerly known as Quest for Value Advisors) is the
Adviser to the Value Equity Portfolio and the Opportunity Value Portfolio. As
compensation for its services as investment adviser, the Manager pays OpCap a
monthly fee at the annual rate of .40% of the average daily net assets of each
of the Value Equity and Opportunity Value Portfolios, subject to reduction with
respect to the Opportunity Value Portfolio in certain circumstances.
OpCap is a majority-owned subsidiary of Oppenheimer Capital, a general
partnership which is registered as an investment adviser under the Investment
Advisers Act of 1940. The employees of Oppenheimer Capital render all
investment management services performed under the investment advisory
agreements to the Portfolios. Oppenheimer Financial Corp. holds a 33% interest
in Oppenheimer Capital. Oppenheimer Capital, L.P., a Delaware limited
partnership of which Oppenheimer Financial Corp. is the sole general partner,
owns the remaining 67% interest of Oppenheimer Capital. The units of
Oppenheimer Capital, L.P. are traded on the New York Stock Exchange. OpCap and
its affiliates have operated as investment advisers to both mutual funds and
other clients since 1968, and had approximately $48.2 billion under management
as of December 31, 1996.
On February 13, 1997, PIMCO Advisors L.P. ("PIMCO Advisors"), a registered
investment adviser with approximately $110 billion in assets under management
through various subsidiaries, signed an Agreement and Plan of Merger with
Oppenheimer Group, Inc. ("OGI") and its
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subsidiary Oppenheimer Financial Corp. ("Opfin") pursuant to which PIMCO
Advisors and its affiliate, Thomson Advisory Group Inc. ("TAG"), will acquire
the one-third managing general partner interest in Oppenheimer Capital, its
1.0% general partnership interest in OpCap, and its 1.0% general partner
interest in Oppenheimer Capital L.P. (the "Transaction") and OGI will be
merged with and into TAG. The Transaction is subject to certain conditions
being satisfied prior to closing, including consents from certain lenders,
approvals from regulatory authorities, including a favorable tax ruling from
the Internal Revenue Service, and consents of certain clients, which are
expected to take up six months to obtain. If the Transaction is consummated,
it will involve a change in control of Oppenheimer Capital and its subsidiary
OpCap which will constitute an assignment and termination of the investment
advisory agreements between the Manager and OpCap. At a meeting held on April
8, 1997, the Fund's Board of Trustees, including all of the "disinterested
Trustees" as defined in the 1940 Act, approved and determined to submit to
shareholders for approval, new investment advisory agreements with OpCap,
substantially upon the same terms and conditions as the existing investment
advisory agreements. Proxy material will be sent to shareholders of the Value
Equity and Opportunity Value Portfolios concerning approval of the new
investment advisory agreements.
Eileen Rominger, Managing Director of Oppenheimer Capital, is the portfolio
manager for the Value Equity Portfolio. Ms. Rominger has been with Oppenheimer
Capital since 1981. Richard J. Glasebrook II, Managing Director of Oppenheimer
Capital, is the portfolio manager for the Opportunity Value Portfolio. Mr.
Glasebrook has been with Oppenheimer Capital since 1990. Mr. Glasebrook was
named by Morningstar, Inc. (an independent service that monitors the
performance of registered investment companies) as its 1995 Variable Fund
Manager of the Year.
The Dreyfus Corporation ("Dreyfus") is the Adviser to the Dreyfus U.S.
Government Securities Portfolio and the Dreyfus Small Cap Value Portfolio.
Dreyfus, which was formed in 1947, is a wholly-owned subsidiary of Mellon
Bank, N.A., which is a wholly-owned subsidiary of Mellon Bank Corporation
("Mellon"). As of December 31, 1996, Dreyfus managed or administered
approximately $82 billion in assets for more than 1.7 million investor
accounts nationwide. As compensation for its services as investment adviser,
the Manager pays Dreyfus a monthly fee at the annual rate of .15% of the
average daily net assets of the Dreyfus U.S. Government Securities Portfolio
and .375% of the average daily net assets of the Dreyfus Small Cap Value
Portfolio.
Prior to September 16, 1996, OpCap was the Adviser to the Dreyfus Small Cap
Value Portfolio (formerly known as the Value Small Cap Portfolio and prior to
that the Quest for Value Small Cap Portfolio). As compensation for its
services as investment adviser, the Manager paid OpCap a monthly fee at the
annual rate of .40% of the Portfolio's average daily net assets.
Mellon is a publicly-owned multibank holding company incorporated under
Pennsylvania law in 1971 and registered under the Federal Bank
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Holding Company Act of 1956, as amended. Mellon provides a comprehensive range
of financial products and services in domestic and selected international
markets. Mellon is among the twenty-five largest bank holding companies in the
United States based on total assets. Mellon's principal wholly-owned
subsidiaries are Mellon Bank, N.A., Mellon Bank (DE) National Association,
Mellon Bank (MD), The Boston Company, Inc., AFCO Credit Corporation and a
number of companies known as Mellon Financial Services Corporations. Through
its subsidiaries, including Dreyfus, Mellon managed more than $233 billion in
assets as of December 31, 1996, including approximately $81 billion in mutual
fund assets. As of December 31, 1996, Mellon, through various subsidiaries,
provided non-investment services, such as custodial or administrative services,
for more than $1,046 billion in assets, including approximately $57 billion in
mutual fund assets.
Prior to May 1, 1996, The Boston Company Asset Management, Inc. ("Boston
Company"), an affiliate of Dreyfus, was the Dreyfus U.S. Government Securities
Portfolio's Adviser. Boston Company is a wholly-owned subsidiary of The Boston
Company, Inc., which is an indirect wholly-owned subsidiary of Mellon.
Andrew S. Windmueller, who has been employed by Dreyfus since October 1994
and by The Boston Company, Inc. since 1986, is the portfolio manager for the
Dreyfus U.S. Government Securities Portfolio. Mr. Windmueller is co-member of
the Fixed Income Strategy Committee and the Head of Credit Research of The
Boston Company, Inc. and Vice President of Boston Company.
The portfolio managers for the Dreyfus Small Cap Value Portfolio are David L.
Diamond and Peter I. Higgins. Mr. Diamond has been employed by Boston Company
since June, 1991 and by Dreyfus since October, 1994. Mr. Higgins has been
employed by The Boston Company, Inc. since August, 1988, by Boston Company
since June, 1991 and by Dreyfus since February, 1996.
T. Rowe Price Associates, Inc. ("T. Rowe Price") is the Adviser to the T.
Rowe Price Equity Income Portfolio and the T. Rowe Price Growth Stock
Portfolio. As compensation for its services as investment adviser, the Manager
pays T. Rowe Price a monthly fee at the annual rate of .40% of the average
daily net assets of each of the T. Rowe Price Equity Income and T. Rowe Price
Growth Stock Portfolios. T. Rowe Price serves as investment manager to a
variety of individual and institutional investor accounts, including limited
and real estate partnerships and other mutual funds.
Investment decisions with respect to the T. Rowe Price Equity Income
Portfolio are made by an Investment Advisory Committee composed of the
following members: Brian C. Rogers, Chairman, Thomas H. Broadus, Jr., Richard
P. Howard, and William J. Stromberg. The Committee Chairman has day-to-day
responsibility for managing the Portfolio and works with the Committee in
developing and executing the Portfolio's investment program. Mr. Rogers has
been Chairman of the
- 50 -
<PAGE>
Committee since 1993. He joined T. Rowe Price in 1982 and has been managing
investments since 1983.
Investment decisions with respect to the T. Rowe Price Growth Stock Portfolio
are made by an Investment Advisory Committee composed of the following members:
Richard W. Smith, Chairman, James A.C. Kennedy and Brian C. Rogers. The
Committee Chairman has day-to-day responsibility for managing the Portfolio and
works with the Committee in developing and executing the Portfolio's investment
program. Mr. Smith has served on the Committee since 1995 and has been Chairman
of the Committee since February, 1997. He joined T. Rowe Price in 1992. From
1987 to 1992, Mr. Smith was an Investment Analyst for Massachusetts Financial
Services.
Rowe Price-Fleming International, Inc. ("Price-Fleming") is the Adviser to
the T. Rowe Price International Stock Portfolio (formerly the Global Growth
Portfolio). As compensation for its services as investment adviser, the Manager
pays Price-Fleming a monthly fee at an annual rate based on the Portfolio's
average daily net assets as follows: .75% up to $20 million; .60% in excess of
$20 million up to $50 million; and .50% of assets in excess of $50 million. At
such time as the net assets of the Portfolio exceed $200 million, the fee shall
be .50% of total average daily net assets.
Prior to January 1, 1995, Ivory & Sime International, Inc. ("I&S") and Ivory
& Sime plc acted as adviser and sub-adviser, respectively, for the Global
Growth Portfolio. As compensation for its services as investment adviser, the
Manager paid ISI a monthly fee at the annual rate of .45% of the average daily
net assets of the Portfolio up to $400 million and .30% of average daily net
assets in excess of $400 million. As compensation for its services, Ivory &
Sime plc received from ISI 78% of the gross monthly fees paid by the Manager to
ISI.
Price-Fleming was incorporated in Maryland in 1979 as a joint venture between
T. Rowe Price and Robert Fleming Holdings Limited ("Flemings"). Flemings is a
diversified investment organization which participates in a global network of
regional investment offices in New York, London, Zurich, Geneva, Tokyo, Hong
Kong, Manila, Kuala Lampur, South Korea and Taiwan.
T. Rowe Price was incorporated in Maryland in 1947 as successor to the
investment counseling business founded by the late Thomas Rowe Price, Jr., in
1937. Flemings was incorporated in 1974 in the United Kingdom as successor to
the business founded by Robert Fleming in 1873. As of December 31, 1996, T.
Rowe Price and its affiliates managed more than $95 billion of assets of which
Price-Fleming managed the U.S. equivalent of approximately $25 billion.
The common stock of Price-Fleming is 50% owned by a wholly-owned subsidiary
of T. Rowe Price, 25% by a subsidiary of Fleming and 25% by
- 51 -
<PAGE>
Jardine Fleming Group Limited ("Jardine Fleming"). (Half of Jardine Fleming is
owned by Flemings and half by Jardine Matheson Holdings Limited.) T. Rowe Price
has the right to elect a majority of the board of directors of Price-Fleming,
and Flemings has the right to elect the remaining directors, one of whom will
be nominated by Jardine Fleming.
Investment decisions with respect to the T. Rowe Price International Stock
Portfolio are made by an investment advisory group composed of the following
members: Martin G. Wade, Christopher D. Alderson, Richard J. Bruce, Mark J. T.
Edwards, John R. Ford, James B. M. Seddon, Benedict R. F. Thomas and David J.
L. Warren.
Martin Wade joined Price-Fleming in 1979 and has 27 years of experience with
the Fleming Group in research, client service and investment management.
(Fleming Group includes Flemings and/or Jardine Fleming). Christopher Alderson
jointed Price-Fleming in 1988 and has 10 years of experience with the Fleming
Group in research and portfolio management. Peter Askew joined Price-Fleming in
1988 and has 21 years of experience managing multi-currency fixed income
portfolios. Mark Edwards joined Price-Fleming in 1986 and has 15 years of
experience in financial analysis. John Ford joined Price-Fleming in 1982 and
has 16 years of experience with the Fleming Group in research and portfolio
management. James Seddon joined Price-Fleming in 1987 and has nine years of
experience in investment management. Benedict Thomas joined Price-Fleming in
1988 and has seven years of portfolio management experience. David Warren
joined Price-Fleming in 1984 and has 16 years of experience in equity research,
fixed income research and portfolio management.
J.P. Morgan Investment Management Inc. ("Morgan") is the Adviser to the
Enhanced Index Portfolio. As compensation for its services as investment
adviser the Manager pays Morgan a monthly fee at the annual rate of .35% of the
average daily net assets of the Enhanced Index Portfolio.
Morgan is a wholly-owned subsidiary of J.P. Morgan and Co. Incorporated
("J.P. Morgan"), a bank holding company. Through offices in New York City and
abroad, J.P. Morgan, through Morgan and other subsidiaries, including Morgan
Guaranty Trust Company of New York, offers a wide range of services to
governmental, institutional, corporate and individual customers and acts as
investment adviser to individual and institutional clients with combined assets
under management (as of December 31, 1996) of over $178 billion (of which
Morgan advises over $176 billion). J.P. Morgan has a long history of service as
adviser, underwriter and lender to an extensive roster of major companies and
as a financial adviser to national governments. The firm, through its
predecessor firms, has been in business for over a century and has been
managing investments since 1913.
Investment decisions with respect to the Enhanced Index Portfolio are made by
an investment advisory group composed of Frederic A. Nelson, III, James Wiess,
Leon Roisenberg and Timothy J. Devlin.
- 52 -
<PAGE>
Mr. Nelson is a Managing Director of Morgan and is responsible for the U.S.
equity business, including active equity and structured strategies. Mr. Nelson
joined Morgan in 1994 after 14 years at Bankers Trust Company where he was part
of the Global Investment Management Group. Mr. Wiess, a Vice President of
Morgan, is a portfolio manager in the Equity and Balanced Accounts Group with
responsibility for portfolio rebalancing and product research and development
in structured equity strategies. Mr. Wiess joined Morgan in 1992 and from 1984
to 1991 was employed by Oppenheimer & Co. Mr. Roisenberg joined Morgan in 1996
as a Vice President. From 1991 to 1996, Mr. Roisenberg was a quantative
analyst/portfolio manager at Bankers Trust Company. Mr. Devlin joined Morgan in
1996 and is a member of the Structured Equity Group with the dual
responsibilities of client servicing and portfolio management. From 1988 to
1996, Mr. Devlin was at Mitchell Hutchins where he managed quantitatively
driven equity portfolios.
DIVIDENDS, DISTRIBUTIONS AND TAXES
Each Portfolio intends to qualify each year as a "regulated investment
company" under the Internal Revenue Code. By so qualifying, a Portfolio will
not be subject to federal income taxes to the extent that its net investment
income and net realized capital gains are distributed to shareholders.
It is the intention of each Portfolio to distribute substantially all its net
investment income. Although the Trustees of the Fund may decide to declare
dividends at other intervals, dividends from investment income of each
Portfolio are expected to be declared annually (except with respect to the TCW
Money Market Portfolio where dividends will be declared daily and paid monthly)
and will be distributed to the various separate accounts of PFL and not to
Contract owners in the form of additional full and fractional shares of the
Portfolio and not in cash. The result is that the investment performance of the
Portfolios, including the effect of dividends, is reflected in the cash value
of the Contracts. See the prospectus for the Contracts accompanying this
Prospectus.
All net realized long- or short-term capital gains of each Portfolio, if any,
will be declared and distributed at least annually either during or after the
close of the Portfolio's fiscal year and will be reinvested in additional full
and fractional shares of the Portfolio. In certain foreign countries, interest
and dividends are subject to a tax which is withheld by the issuer. U.S. income
tax treaties with certain countries reduce the rates of these withholding
taxes. The Fund intends to provide the documentation necessary to achieve the
lower treaty rate of withholding whenever applicable or to seek refund of
amounts withheld in excess of the treaty rate.
For a discussion of the impact on Contract owners of income taxes PFL may owe
as a result of (i) its ownership of shares of the Portfolios, (ii) its receipt
of dividends and distributions thereon, and (iii) its gains from the purchase
and sale thereof, reference should be made to the prospectus for the Contracts
accompanying this Prospectus.
- 53 -
<PAGE>
SALE AND REDEMPTION OF SHARES
The Fund continuously offers shares of each Portfolio only to separate
accounts of PFL, but may at any time offer shares to a separate account of any
other insurer approved by the Trustees.
AEGON USA Securities, Inc. ("AEGON Securities"), an affiliate of PFL, is the
principal underwriter and distributor of the Contracts. AEGON Securities places
orders for the purchase or redemption of shares of each Portfolio based on,
among other things, the amount of net Contract premiums or purchase payments
transferred to the separate accounts, transfers to or from a separate account
investment division, policy loans, loan repayments, and benefit payments to be
effected on a given date pursuant to the terms of the Contracts. Such orders
are effected, without sales charge, at the net asset value per share for each
Portfolio determined as of the close of regular trading on the New York Stock
Exchange (currently 4:00 p.m., New York City time), on that same date.
The net asset value of the shares of each Portfolio for the purpose of
pricing orders for the purchase and redemption of shares is determined as of
the close of the New York Stock Exchange, Monday through Friday, exclusive of
national business holidays. Net asset value per share is computed by dividing
the value of all assets of a Portfolio (including accrued interest and
dividends), less all liabilities of the Portfolio (including accrued expenses
and dividends payable), by the number of outstanding shares of the Portfolio.
The assets of the TCW Money Market Portfolio are valued at amortized cost and
the assets of the other Portfolios are valued on the basis of their market
values or, in the absence of a market value with respect to any portfolio
securities, at fair value as determined by or under the direction of the Fund's
Board of Trustees including the employment of an independent pricing service,
as described in the Statement of Additional Information.
Shares of the Portfolios may be redeemed on any day on which the Fund is open
for business.
PERFORMANCE INFORMATION
From time to time, the Fund may advertise the "average annual or cumulative
total return" of the TCW Managed Asset Allocation, Value Equity, Dreyfus Small
Cap Value, Dreyfus U.S. Government Securities, T. Rowe Price Equity Income, T.
Rowe Price Growth Stock, T. Rowe Price International Stock, Opportunity Value
and Enhanced Index Portfolios or the "yield" and "effective yield" of the TCW
Money Market and Dreyfus U.S. Government Securities Portfolios and may compare
the performance of the Portfolios with that of other mutual funds with similar
investment objectives as listed in rankings prepared by Lipper Analytical
Services, Inc., or similar independent services monitoring mutual fund
performance, and with appropriate securities or other
- 54 -
<PAGE>
relevant indices. The "average annual total return" of a Portfolio refers to
the average annual compounded rate of return over the stated period that would
equate an initial investment in that Portfolio at the beginning of the period
to its ending redeemable value, assuming reinvestment of all dividends and
distributions and deduction of all recurring charges other than charges and
deductions which are, or may be, imposed under the Contracts. Figures will be
given for the recent one, five and ten year periods and for the life of the
Portfolio if it has not been in existence for any such periods. When
considering "average annual total return" figures for periods longer than one
year, it is important to note that a Portfolio's annual total return for any
given year might have been greater or less than its average for the entire
period. "Cumulative total return" represents the total change in value of an
investment in a Portfolio for a specified period (again reflecting changes in
Portfolio share prices and assuming reinvestment of Portfolio distributions).
The TCW Money Market Portfolio's "yield" refers to the income generated by an
investment in the Portfolio over a seven-day period (which period will be
stated in the advertisement). This income is then "annualized." That is, the
amount of income generated by the investment during that week is assumed to be
generated each week over a 52-week period and is shown as a percentage of the
investment. The "effective yield" is calculated similarly but, when annualized,
the income earned by an investment in the Portfolio is assumed to be
reinvested. The "effective yield" will be slightly higher than the "yield"
because of the compounding effect of this assumed reinvestment. The Dreyfus
U.S. Government Securities Portfolio may advertise its 30-day yield. Such yield
refers to the income that is generated over a stated 30-day (or one month)
period (which period will be stated in the advertisement), divided by the net
asset value per share on the last day of the period. The income is annualized
by assuming that the income during the 30-day period remains the same each
month over one year and compounded semi-annually. The methods used to calculate
"average annual and cumulative total return" and "yield" are described further
in the Statement of Additional Information.
The performance of each Portfolio will vary from time to time in response to
fluctuations in market conditions, interest rates, the composition of the
Portfolio's investments and expenses. Consequently, a Portfolio's performance
figures are historical and should not be considered representative of the
performance of the Portfolio for any future period.
OpCap is the investment adviser of the Managed Portfolio of the Accumulation
Trust (formerly known as the Quest for Value Accumulation Trust) (the
"Accumulation Trust"), a registered open-end investment company whose shares
are sold to certain variable accounts of life insurance companies. The Managed
Portfolio of the Accumulation Trust is substantially similar to the Opportunity
Value Portfolio in that it has the same investment objective as the Opportunity
Value Portfolio and is managed using the same investment strategies and
techniques as contemplated for the Opportunity Value Portfolio.
- 55 -
<PAGE>
The Opportunity Value Portfolio commenced operations in November, 1996 and,
consequently, does not have a significant operating history. See "Financial
Highlights." Set forth below is certain performance information regarding the
Managed Portfolio of the Accumulation Trust which has been obtained from OpCap,
and is set forth in the current prospectus and statement of additional
information of the Accumulation Trust. Investors should not rely on the
following financial information as an indication of the future performance of
the Opportunity Value Portfolio.
AVERAGE ANNUAL TOTAL RETURN OF COMPARABLE PORTFOLIO*(1)
<TABLE>
<CAPTION>
FOR THE PERIOD
FOR THE YEAR FOR THE FIVE YEARS FROM INCEPTION
ENDED DECEMBER 31, ENDED DECEMBER 31, TO DECEMBER 31,
1996 1996 1996(2)
------------------ ------------------ ---------------
<S> <C> <C> <C>
Managed Portfolio of
Accumulation Trust..... 22.77% 19.13% 20.09%
</TABLE>
- -----------
* On September 16, 1994, an investment company called Quest for Value
Accumulation Trust (the "Old Trust") was effectively divided into two
investment funds, the Old Trust and the Accumulation Trust, at which time
the Accumulation Trust commenced operations. The total net assets for the
Managed Portfolio immediately after the transaction was $682,601,380 with
respect to the Old Trust and $51,345,102 with respect to the Accumulation
Trust. For the period prior to September 16, 1994, the performance figures
above for the Managed Portfolio reflect the performance of the
corresponding Portfolio of the Old Trust.
(1) Reflects waiver of all or a portion of the advisory fees and reimbursements
of other expenses. Without such waivers and reimbursements, the average
annual total return during the periods would have been lower.
(2) The Portfolio commenced operations on August 1, 1988.
Morgan is the investment manager of certain Private Accounts. At December 31,
1996 and as of the date of this Prospectus, the Enhanced Index Portfolio had
not commenced operations. However, these Private Accounts are substantially
similar to the Enhanced Index Portfolio in that they have the same investment
objectives as the Enhanced Index Portfolio and are managed using the same
investment strategies and techniques as contemplated for the Enhanced Index
Portfolio.
Investors should not rely on the following financial information as an
indication of the future performance of the Enhanced Index Portfolio. The
performance of the Enhanced Index Portfolio may vary from the Private Account
composite information because the Portfolio will be actively managed and its
investments will vary from time to time and will not be identical to the past
portfolio investments of the Private Accounts. Moreover, the Private Accounts
are not registered under the 1940 Act and therefore are not subject to certain
investment restrictions
- 56 -
<PAGE>
that are imposed by the 1940 Act, which, if imposed, could have adversely
affected the Private Accounts' performances. In addition, the Private Accounts
are not subject to the provisions of the Internal Revenue Code with respect to
"regulated investment companies," which provisions, if imposed, could have
adversely affected the Private Accounts' performances.
The chart below shows hypothetical performance information derived from
historical composite performance of the Private Accounts included in the
Structured Stock Selection Composite. The hypothetical performance figures
represent the actual performance results of the composite of comparable Private
Accounts, adjusted to reflect the deduction of the fees and expenses
anticipated to be paid by the Enhanced Index Portfolio. The actual Private
Account composite performance figures are time-weighted rates of return which
include all income and accrued income and realized and unrealized gains or
losses, but do not reflect the deduction of investment advisory fees actually
charged to the Private Accounts.
HYPOTHETICAL AVERAGE ANNUAL TOTAL RETURN INFORMATION
DERIVED FROM PRIVATE ACCOUNT COMPOSITE
<TABLE>
<CAPTION>
FOR THE PERIOD
FOR THE FOR THE FIVE FROM INCEPTION
YEAR ENDED YEARS ENDED (NOVEMBER 1, 1989)
DECEMBER 31, DECEMBER 31, TO DECEMBER 31,
1996 1996 1996
------------ ------------ ------------------
<S> <C> <C> <C>
Structured Stock Selection
Composite....................... 22.21% 15.45% 14.61%
</TABLE>
----------------------
The calculations of total return assume the reinvestment of all dividends and
capital gains distributions on the reinvestment dates during the period and the
deduction of all recurring expenses that were charged to shareholder accounts.
The above tables do not reflect charges and deductions which are, or may be,
imposed under the Contracts. For a description of such charges and deductions,
see the prospectus accompanying this Prospectus which describes the Contracts.
ORGANIZATION AND CAPITALIZATION OF THE FUND
The Fund was established in November 1988 as a business trust under
Massachusetts law. The Fund has authorized an unlimited number of shares of
beneficial interest which may, without shareholder approval, be divided into an
unlimited number of series. Shares of the Fund are presently divided into ten
series of shares, one for each of the Fund's ten Portfolios. Shares are freely
transferable, are entitled to dividends as declared by the Trustees, and in
liquidation are entitled to receive the net assets of their respective
Portfolios, but not the net assets of the other Portfolios.
Fund shares are entitled to vote at any meeting of shareholders. The Fund
does not generally hold annual meetings of shareholders and will do so only
when required by law. Matters submitted to a shareholder vote
- 57 -
<PAGE>
must be approved by each portfolio of the Fund separately except (i) when
required by the 1940 Act, shares will be voted together as a single class and
(ii) when the Trustees have determined that the matter does not affect all
portfolios, then only shareholders of the affected portfolio will be entitled
to vote on the matter.
Owners of the Contracts have certain voting interests in respect of shares of
the Portfolios. See "Voting Rights" in the prospectus for the Contracts
accompanying this Prospectus for a description of the rights granted Contract
owners to instruct voting of shares.
ADDITIONAL INFORMATION
TRANSFER AGENT AND CUSTODIAN
All cash and securities of the Fund are held by Boston Safe Deposit and Trust
Company as custodian. FDISG, located at 4400 Computer Drive, Westborough,
Massachusetts 01581, serves as transfer agent for the Fund.
INDEPENDENT AUDITORS
Ernst & Young LLP, located at 200 Clarendon Street, Boston, Massachusetts,
02116, serves as the Fund's independent auditors.
----------------------
Statements contained in this Prospectus as to the contents of any contract or
other document referred to are not necessarily complete, and, in each instance,
reference is made to the copy of such contract or other document filed as an
exhibit to the registration statement of which this Prospectus forms a part,
each such statement being qualified in all respects by such reference.
- 58 -
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
The Fund................................................................... 2
Financial Highlights....................................................... 4
Investment Objectives and Policies......................................... 13
TCW Money Market Portfolio................................................ 13
TCW Managed Asset Allocation Portfolio.................................... 16
T. Rowe Price International Stock Portfolio............................... 18
Value Equity Portfolio.................................................... 22
Dreyfus Small Cap Value Portfolio......................................... 23
Dreyfus U.S. Government Securities Portfolio.............................. 25
T. Rowe Price Equity Income Portfolio..................................... 30
T. Rowe Price Growth Stock Portfolio...................................... 32
Opportunity Value Portfolio............................................... 33
Enhanced Index Portfolio.................................................. 35
Investment Strategies..................................................... 37
Management of the Fund..................................................... 45
The Manager............................................................... 45
The Advisers.............................................................. 46
Dividends, Distributions and Taxes......................................... 53
Sale and Redemption of Shares.............................................. 54
Performance Information.................................................... 54
Organization and Capitalization of the Fund................................ 57
Additional Information..................................................... 58
Transfer Agent and Custodian.............................................. 58
Independent Auditors...................................................... 58
</TABLE>
---------------------
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY REPRE-
SENTATION NOT CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFOR-
MATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED.
THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFERING OF ANY SECURITIES OTHER THAN
THE REGISTERED SECURITIES TO WHICH IT RELATES OR AN OFFER TO ANY PERSON IN ANY
STATE OR JURISDICTION OF THE UNITED STATES OR ANY COUNTRY WHERE SUCH OFFER
WOULD BE UNLAWFUL.
ENDEAVOR SERIES TRUST
2101 East Coast Highway, Suite 300
Corona del Mar, California 92625
(800) 854-8393
MANAGER
------------------------------------------
Endeavor Investment Advisers
2101 East Coast Highway, Suite 300
Corona del Mar, California 92625
INVESTMENT ADVISERS
------------------------------------------
TCW Funds Management, Inc.
865 S. Figueroa Street
Los Angeles, California 90071
OpCap Advisors
One World Financial Center
New York, New York 10281
The Dreyfus Corporation
200 Park Avenue
New York, New York 10166
T. Rowe Price Associates, Inc.
100 East Pratt Street
Baltimore, Maryland 21202
Rowe Price-Fleming International, Inc.
100 East Pratt Street
Baltimore, Maryland 21202
J.P. Morgan Investment Management Inc.
522 Fifth Avenue
New York, New York 10036
CUSTODIAN
------------------------------------------
Boston Safe Deposit and Trust Company
One Boston Place
Boston, Massachusetts 02108
<PAGE>
PROSPECTUS
WRL SERIES FUND, INC.
GROWTH PORTFOLIO
201 HIGHLAND AVENUE
LARGO, FLORIDA 33770-2597
TELEPHONE (319) 398-8511
WRL Series Fund, Inc. (the "Fund") is a diversified, open-end management
investment company consisting of separate series or investment portfolios.
This Prospectus pertains only to the Growth Portfolio of the Fund (the
"Portfolio").
The investment objective of the Growth Portfolio is growth of capital. There
can be, of course, no assurance that the Portfolio will achieve its objective.
Shares of the Fund are sold only to the separate accounts (the "Separate
Accounts") of Western Reserve Life Assurance Co. of Ohio ("WRL"), PFL Life
Insurance Company ("PFL"), and AUSA Life Insurance Company, Inc. ("AUSA")
(WRL, PFL, and AUSA together, the "Life Companies") to fund the benefits under
certain variable life insurance policies (the "Policies") and variable annuity
contracts (the "Annuity Contracts"). The Life Companies are affiliates. The
Separate Accounts, which may or may not be registered with the Securities and
Exchange Commission, invest in shares of one or more of the portfolios in
accordance with the allocation instructions received from holders of the
Policies and the Annuity Contracts (collectively, the "Contract Owners"). Such
allocation rights are further described in the prospectuses or disclosure
documents for the Policies and the Annuity Contracts.
WRL Investment Management, Inc. ("WRL Management") and Janus Capital
Corporation serve as the investment adviser ("Investment Adviser") and the
sub-adviser ("Sub-Adviser") respectively, to the Portfolio (collectively,
"Advisers"). See "The Investment Adviser" and "The Sub-Adviser."
This Prospectus sets forth concisely the information about the Portfolio
that prospective investors ought to know before investing. Investors should
read this Prospectus and retain it for future reference.
Additional information about the Fund, the Portfolio and other portfolios of
the Fund has been filed with the Securities and Exchange Commission (the
"SEC") and is available upon request without charge by calling or writing the
Fund. The Statement of Additional Information (the "SAI") pertaining to the
Portfolio bears the same date as this Prospectus and is incorporated by
reference into this Prospectus in its entirety.
----------------------
SHARES OF THE FUND ARE NOT DEPOSITS OR OBLIGATIONS OF, OR GUARANTEED OR
ENDORSED BY, A BANK OR OTHER FINANCIAL INSTITUTION, AND THE SHARES ARE NOT
FEDERALLY INSURED BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, THE FEDERAL
RESERVE BOARD, OR ANY OTHER AGENCY. INVESTMENTS IN SHARES OF THE FUND INVOLVE
INVESTMENT RISK, INCLUDING POSSIBLE LOSS OF PRINCIPAL AMOUNT INVESTED.
THIS PROSPECTUS MUST BE ACCOMPANIED BY THE CURRENT PROSPECTUS OR DISCLOSURE
DOCUMENT FOR THE APPLICABLE VARIABLE ANNUITY CONTRACT OR FLEXIBLE PREMIUM
VARIABLE LIFE INSURANCE POLICY. ALL PROSPECTUSES SHOULD BE READ AND RETAINED
FOR FUTURE REFERENCE.
----------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE COMMISSION
OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF
THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
----------------------
PROSPECTUS DATED MAY 1, 1997
<PAGE>
TABLE OF CONTENTS
<TABLE>
<S> <C>
Financial Highlights........................................................ 3
Performance Information..................................................... 4
The Growth Portfolio and the Fund........................................... 5
Other Investment Policies and Restrictions.................................. 6
Portfolio Securities and Risk Factors....................................... 8
Management of the Fund...................................................... 14
Other Information........................................................... 18
Distribution and Taxes...................................................... 21
</TABLE>
2
<PAGE>
FINANCIAL HIGHLIGHTS
PER SHARE INCOME AND CAPITAL CHANGES
The information contained in the table below for one share of capital stock
outstanding during the fiscal periods ended on December 31 of each year is
taken from the Fund's audited financial statements, which have been
incorporated by reference in the SAI. The Fund's Annual Report contains
additional performance information for the Portfolio. A copy of the Annual
Report may be obtained without charge upon request.
GROWTH PORTFOLIO
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-----------------------------------------------------------------------------------------------------
1996 1995 1994 1993 1992 1991 1990 1989 1988 1987
---------- ---------- -------- -------- -------- -------- -------- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net Asset Value,
Beginning of Period... $31.66 $ 23.81 $ 26.25 $ 25.83 $ 26.26 $ 17.48 $ 17.85 $ 12.97 $ 11.14 $ 10.14
INCOME FROM INVESTMENT
OPERATIONS
Net Investment Income. .34 .26 .22 .28 .36 .27 .30 .19 .31 .21
Net Gains or Losses on
Securities (both
realized and
unrealized).......... 5.35 10.97 (2.41) .79 .52 10.75 (.33) 6.29 1.83 1.00
---------- ---------- -------- -------- -------- -------- -------- ------- ------- -------
Total Income (Loss)
From Investment
Operations.......... 5.69 11.23 (2.19) 1.07 .88 11.02 (.03) 6.48 2.14 1.21
---------- ---------- -------- -------- -------- -------- -------- ------- ------- -------
LESS DISTRIBUTIONS
Dividends (from net
investment income)... (.35) (.24) (.22) (.28) (.36) (.27) (.30) (.19) (.31) (.21)
Dividends (in excess
of net investment
income).............. (.01) .00 .00 .00 .00 .00 .00 .00 .00 .00
Distributions (from
capital gains)....... (1.99) (3.14) (.00) (.37) (.95) (1.97) (.04) (1.41) .00 .00
Distributions in
excess of capital
gains................ .00 .00 (.03) .00 .00 .00 .00 .00 .00 .00
---------- ---------- -------- -------- -------- -------- -------- ------- ------- -------
Total Distributions.. (2.35) (3.38) (.25) (.65) (1.31) (2.24) (.34) (1.60) (.31) (.21)
---------- ---------- -------- -------- -------- -------- -------- ------- ------- -------
Net Asset Value,
End of Period......... $35.00 $ 31.66 $ 23.81 $ 26.25 $ 25.83 $ 26.26 $ 17.48 $ 17.85 $ 12.97 $ 11.14
========== ========== ======== ======== ======== ======== ======== ======= ======= =======
Total Return*.......... 17.96% 47.12% (8.31%) 3.97% 2.35% 59.79% (.22%) 47.04% 18.62% 10.90%
RATIOS/SUPPLEMENTAL
DATA
Net Assets, End of
Period (000 omitted).. $1,527,409 $1,195,174 $814,383 $934,810 $711,422 $393,511 $129,057 $74,680 $28,497 $15,815
Ratio of Expenses to
Average Net Assets**.. .88% .86% .84% .87% .86% .90% 1.00% 1.00% 1.00% 1.00%
Ratio of Net Investment
Income to Average Net
Assets................ .98% .90% .88% 1.07% 1.44% 1.21% 2.06% 1.18% 2.50% 1.84%
Ratios of Commissions
paid to number of
shares................ 4.93% N/A N/A N/A N/A N/A N/A N/A N/A N/A
Portfolio Turnover Rate
...................... 45.21% 130.48% 107.33% 77.91% 77.70% 7.27% 157.07% 123.80% 76.27% 222.13%
</TABLE>
- ----------
*The total return of the Portfolio reflects the advisory fee and all other
Portfolio expenses and includes reinvestment of dividends and capital gains;
it does not reflect the charges against the corresponding sub-accounts or the
charges and deductions under the applicable Policy or Annuity Contract;
including these charges would reduce total return figures for all periods
shown.
**Ratio is net of advisory fee waiver for the periods ended December 31, 1987,
1988 and 1989 for which periods the ratio of expenses to average net assets
would have been 1.90%, 1.49% and 1.13%, respectively, absent the advisory fee
waiver by WRL.
3
<PAGE>
PERFORMANCE INFORMATION
The Fund may include quotations of the Portfolio's total return or yield in
connection with the total return for the appropriate Separate Account, in
advertisements, sales literature or reports to Contract Owners or to
prospective investors. Total return and yield quotations for the Portfolio
reflect only the performance of a hypothetical investment in the Portfolio
during the particular time period shown as calculated based on the historical
performance of the Portfolio during that period. Such quotations do not in any
way indicate or project future performance. Quotations of total return and
yield will not reflect charges or deductions against the Separate Accounts or
charges and deductions against the Policies or the Annuity Contracts. Where
relevant, the prospectuses for the Policies and the Annuity Contracts contain
performance information which show total return and yield for the Separate
Accounts, Policies or Annuity Contracts.
TOTAL RETURN. Total return refers to the average annual percentage change in
value of an investment in the Portfolio held for a stated period of time as of
a stated ending date. When the Portfolio has been in operation for the stated
period, the total return for such period will be provided if performance
information is quoted. Total return quotations are expressed as average annual
compound rates of return for each of the periods quoted. They also reflect the
deduction of a proportionate share of the Portfolio's investment advisory fees
and expenses, and assume that all dividends and capital gains distributions
during the period are reinvested in the Portfolio when made.
PERFORMANCE SHOWN IN ADVERTISING. The Portfolio may disclose in
advertisements, sales literature and reports to Contract Owners or to
prospective Contract Owners, total returns for the Portfolio for periods in
addition to those required to be presented. It may also disclose other
nonstandardized data, such as cumulative total returns, actual year-by-year
returns, or any combination thereof.
PERFORMANCE RANKINGS AND COMPARISONS TO STANDARD INDEXES. Performance of the
Portfolio may also be compared to: (1) indexes, such as the S&P 500, the Dow
Jones Industrial Average or other widely recognized indexes; (2) other mutual
funds whose performance is reported by all or any of Lipper Analytical
Services, Inc., ("Lipper"), Variable Annuity Research & Data Service ("VARDS")
and Morningstar, Inc. ("Morningstar"), or as reported by other services,
companies, individuals or other industry or financial publications of general
interest, such as Forbes, Money, The Wall Street Journal, Business Week,
Barron's, Kiplinger's Personal Finance and Fortune, which rank and/or rate
mutual funds by overall performance or other criteria; and (3) the Consumer
Price Index. Lipper, VARDS and Morningstar are widely quoted independent
research firms which rank mutual funds according to overall performance,
investment objective, and assets. Unmanaged indexes, such as the S&P 500, may
assume the reinvestment of dividends but usually do not reflect any
"deduction" for
4
<PAGE>
the expenses associated with operating and managing a portfolio. In connection
with a ranking, the Portfolio will also provide information in sales
literature, advertisements, and reports with respect to the ranking, including
the particular category of fund to which it relates, the number of funds in
the category, the period and criteria on which the ranking is based, and the
effect of any fee waivers and/or expense reimbursements.
THE GROWTH PORTFOLIO AND THE FUND
The Fund is a diversified, open-end management investment company registered
under the Investment Company Act of 1940, as amended (the "1940 Act"). The
Growth Portfolio is a series of the Fund. The Fund consists of several series,
or separate investment portfolios, which offer shares for investment by the
Separate Accounts. This Prospectus describes only the Growth Portfolio.
INVESTMENT OBJECTIVE OF THE PORTFOLIO
The Portfolio's investment objective and, unless otherwise noted, its
investment policies and techniques, may be changed by the Board of Directors
of the Fund without shareholder or Contract Owner approval. A change in the
investment objective or policies of the Portfolio may result in the Portfolio
having an investment objective or policies different from that which a
Contract Owner deemed appropriate at the time of investment.
GROWTH PORTFOLIO
The investment objective of the Portfolio is growth of capital.
The Portfolio will invest substantially all of its assets in common stocks
when the Sub-Adviser believes that the relevant market environment favors
profitable investing in those securities. Common stock investments are
selected in industries and companies that the Sub-Adviser believes are
experiencing favorable demand for their products and services, and which
operate in a favorable competitive environment and regulatory climate. The
Sub-Adviser's analysis and selection process focuses on stocks issued by
companies with earnings growth potential. In particular, the Portfolio intends
to buy stocks with earnings growth potential that may not be recognized by the
market. Securities are selected solely for their growth potential; investment
income is not a consideration.
The Portfolio may invest up to 25% of its assets in foreign securities
(which may be purchased through American Depositary Receipts ("ADRs"),
European Depositary Receipts ("EDRs") and Global Depositary Receipts ("GDRs"),
as well as directly), as described below and in the SAI. (See "PORTFOLIO
SECURITIES AND RISK FACTORS--Foreign Securities," p.12.)
Although the Portfolio's assets will be invested primarily in common stocks
at most times, the Portfolio may increase its cash position when the Sub-
Adviser is unable to locate investment opportunities with
5
<PAGE>
desirable risk/reward characteristics. The Portfolio may invest in government
securities, high grade commercial paper, corporate bonds and debentures,
warrants, preferred stocks or certificates of deposit of commercial banks or
other debt securities when the Sub-Adviser perceives an opportunity for
capital growth from such securities, or so that the Portfolio may receive a
return on its uninvested cash. See the SAI for further descriptions of such
securities. In the latter case, investment income may increase and may
constitute a larger portion of the return on the Portfolio's investments, and
the Portfolio may not participate in market advances or declines to the extent
it would if the Portfolio were fully invested in common stocks. The Portfolio
may invest up to 25% of its assets in securities of issuers in a single
industry. The Portfolio does not currently hold or intend to invest more than
5% of its assets in non-investment grade securities. See the SAI for further
information concerning such securities and bond ratings.
The Portfolio may also invest in repurchase agreements and reverse repur-
chase agreements. See "PORTFOLIO SECURITIES AND RISK FACTORS--Repurchase and
Reverse Repurchase Agreements," p. 10.
OTHER INVESTMENT POLICIES AND RESTRICTIONS
The Portfolio is subject to certain other investment policies and
restrictions which are described in the SAI for the Portfolio. Unless
otherwise noted, the investment policies, techniques, and percentage
restrictions described below are non-fundamental and may be changed by the
Fund's Board of Directors without Contract Owner approval. In addition, unless
otherwise stated below, the percentage limitations included in these policies
and elsewhere in this Prospectus apply only at the time of purchase of the
security.
LENDING AND BORROWING
The Portfolio may lend its portfolio securities to qualified institutional
buyers for the purpose of realizing additional income. Such loans must be
continuously secured by liquid assets at least equal to the market value of
the securities loaned and may not together with any other outstanding loans
exceed 25% of the Portfolio's total assets. Securities lending may involve
some credit risk to the Portfolio if the borrower defaults and the Portfolio
is delayed or prevented from recovering the collateral or is otherwise
required to cover a transaction in the security loaned. The Portfolio does not
presently intend to lend securities or make any other loans valued at more
than 5% of its total assets. To secure borrowings, the Portfolio may not
mortgage or pledge its securities in amounts that exceed 15% of its net
assets, at the time the loan or borrowing is made. If portfolio securities are
loaned, collateral values will be continuously maintained at no less than 100%
by marking to market daily. If a material event is to be voted upon
6
<PAGE>
affecting the Portfolio's investment in securities which are on loan, the
Portfolio will take such action as may be appropriate in order to vote its
shares. The Portfolio does not have the right to vote securities on loan, but
would terminate the loan and regain the right to vote if it were considered
important with respect to the investment.
The Portfolio may borrow money from or lend money to other funds that permit
such transactions and are advised by the Sub-Adviser and if the Portfolio
seeks and obtains permission to do so from the SEC. There is no assurance that
such permission would be granted. The Portfolio may also borrow money from
banks. Any such loans or borrowings are expected to be short-term in nature
and used for temporary or emergency purposes, such as to provide cash for
redemptions, and will not exceed 25% of the Portfolio's net assets at the time
the loan or borrowing is made.
PORTFOLIO TURNOVER
A portfolio turnover rate is, in general, the percentage calculated by
taking the lesser of purchases or sales of portfolio securities (excluding
certain short-term securities) for a year and dividing it by the monthly
average of the market value of such securities during the year. (See
"Financial Highlights" for the Portfolio on page 3 for more information on
historical turnover rates.)
Changes in security holdings are made by the Portfolio's Sub-Adviser when it
is deemed necessary. Such changes may result from: liquidity needs; securities
having reached a price or yield objective; anticipated changes in interest
rates or the credit standing of an issuer; or developments not foreseen at the
time of the investment decision.
The Sub-Adviser may engage in a significant number of short-term
transactions if such investing serves the Portfolio's objective. The rate of
portfolio turnover will not be a limiting factor when such short-term
investing is considered appropriate.
Increased turnover results in higher brokerage costs or mark-up charges for
the Portfolio; these charges are ultimately borne by the Contract Owners. For
further discussion of portfolio turnover, see the SAI.
SPECIAL SITUATIONS
The Portfolio may invest in "special situations" from time to time. A
special situation arises when, in the opinion of the Sub-Adviser, the
securities of a particular issuer will be recognized and appreciate in value
due to a specific development with respect to that issuer. Developments
creating a special situation might include, among others,
7
<PAGE>
a new product or process, a management change, a technological breakthrough,
or other extraordinary corporate event, or differences in market supply and
demand for the security.
Investment in special situations may carry an additional risk of loss in the
event that the anticipated development does not occur or does not attract the
expected attention. The impact of this strategy on the Portfolio will depend
on the Portfolio's size and the extent of the holdings of the special
situation issuer relative to its total assets.
PORTFOLIO SECURITIES AND RISK FACTORS
FUTURES, OPTIONS AND OTHER DERIVATIVES
Subject to certain limitations, the Portfolio may engage in hedging
strategies involving instruments commonly called "derivatives." "Derivatives"
used by the Portfolio include futures contracts and related options, forward
currency contracts, and interest rate swaps, caps and floors. These
instruments are commonly called derivatives because their price is derived
from an underlying index, security or other measure of value.
The Portfolio may engage in futures contracts and options. The Portfolio
intends to use such derivatives primarily for bona fide hedging purposes,
including to protect portfolio positions against market, interest rate or
currency fluctuations, to equitize a cash position, for duration management,
or to reduce the risk inherent in the management of the Portfolio. If used for
other purposes as may be permitted under applicable rules pursuant to which
the Portfolio would remain exempt from the definition of a "commodity pool
operator" under the rules of the CFTC, the aggregate initial margin and
premiums required to establish any non-hedging positions will not exceed 5% of
the fair market value of the Portfolio's net assets.
FORWARD CONTRACTS are contracts to purchase or sell a specified amount of
property for an agreed upon price at a specified time. Forward contracts are
not currently exchange traded and are typically negotiated on an individual
basis. The Portfolio may enter into forward currency contracts to hedge
against declines in the value of non-dollar denominated securities or to
reduce the impact of currency appreciation on purchases of non-dollar
denominated securities. The Portfolio may also enter into forward contracts to
purchase or sell securities or other financial indices.
FUTURES CONTRACTS are contracts that obligate the buyer to receive and the
seller to deliver an instrument or money at a specified price on a specified
date. The Portfolio may buy and sell futures contracts on foreign currencies,
securities and financial indexes including interest rates or an index of U.S.
Government, foreign government, equity or fixed-income securities.
8
<PAGE>
The Portfolio may also buy options on futures contracts. An option on a
futures contract gives the buyer the right, but not the obligation, to buy or
sell a futures contract at a specific price on or before a specified date.
Futures contracts and options on futures are standardized and traded on
designated exchanges.
INTEREST RATE SWAPS involve the exchange by two parties of their respective
commitments to pay or receive interest (e.g., an exchange or floating rate
payments for fixed rate payments).
INTEREST RATE FUTURES CONTRACTS involve the purchase or sale of contracts
for the future delivery of fixed-income securities at an established price.
The purchase of an interest rate cap entitles the purchaser, to the extent
that a specified index exceeds a predetermined interest rate, to receive
payments of interest on a contractually based principal amount from the party
selling the interest rate cap. The purchase of an interest rate floor entitles
the purchaser, to the extent that a specified index falls below a
predetermined interest rate, to receive payments of interest on a
contractually based principal amount from the party selling the interest rate
floor.
OPTIONS are the right, but not the obligation, to buy or sell a specified
amount of securities or other assets on or before a fixed date at a
predetermined price. The Portfolio may purchase put and call options on
securities, securities indexes and foreign currencies, subject to its
investment restrictions.
CALL OPTIONS give a buyer the right to purchase a portfolio security at a
designated price until a certain date. The option must be "covered"--for
example, the seller may own the securities required to fulfill the contract.
PUT OPTIONS give the buyer the right to sell the security at a designated
price until a certain date. Put options are "covered", for example, by
segregating an amount of cash or securities equal to the exercise price.
STOCK INDEX FUTURES obligate the seller to deliver (and the purchaser to
take) an amount of cash equal to a specified dollar amount times the
difference between the value of a specified stock index at the close of the
last trading day of the contract and the price at which the agreement is made.
No physical delivery of the underlying stocks in the index is made.
OPTIONS ON STOCK INDEX futures contracts, as contrasted with the direct
investment in such a contract, gives the purchaser the right, in return for
the premium paid, to assume a position in a stock index futures contract at a
specified exercise price at any time prior to the expiration date of the
option.
9
<PAGE>
RISK FACTORS. There can be no assurance the use of derivatives will help the
Portfolio achieve its investment objective. Derivatives involve special risks
and transaction costs, and draw upon skills and experience which are different
from those needed to choose the other securities or instruments in which the
Portfolio invests. Special risks of these instruments include:
INACCURATE MARKET PREDICTIONS. If interest rates, securities prices or
currency markets do not move in the direction expected by the Sub-Adviser
who uses derivatives based on those measures, these instruments may fall in
their intended purpose and result in losses to the Portfolio.
IMPERFECT CORRELATION. Derivatives' prices may be imperfectly correlated
with the prices of the securities, interest rates or currencies being
hedged. When this happens, the expected benefits may be diminished.
ILLIQUIDITY. A liquid secondary market may not be available for a
particular instrument at a particular time. The Portfolio may therefore be
unable to control losses by closing out a derivative position.
TAX CONSIDERATIONS. The Portfolio may have to delay closing out certain
derivative positions to avoid adverse tax consequences.
The risk of loss from investing in derivative instruments is potentially
unlimited.
REPURCHASE AND REVERSE REPURCHASE AGREEMENTS
The Portfolio may invest in repurchase and reverse repurchase agreements. A
repurchase agreement involves the purchase of a security by the Portfolio and
a simultaneous agreement (generally from a bank or broker-dealer) to
repurchase that security back from the Portfolio at a specified price and date
upon demand. This technique offers a method of earning income on idle cash.
The repurchase agreement is effectively secured by the value of the underlying
security. Repurchase agreements not terminable within seven days are
considered illiquid securities.
The Portfolio invests in a reverse repurchase agreement when it sells a
portfolio security to another party, such as a bank or broker-dealer, in
return for cash, and agrees to buy the security back at a future date and
price. Reverse repurchase agreements may be used to provide cash to satisfy
unusually heavy redemption requests or for other temporary or emergency
purposes without the necessity of selling portfolio securities or to earn
additional income on portfolio securities such as U.S. Treasury bills and
notes. While a reverse repurchase agreement is outstanding, the Portfolio will
segregate with its custodian
10
<PAGE>
cash and other liquid assets to cover its obligation under the agreement.
Reverse repurchase agreements are considered a form of borrowing by the
Portfolio for the purposes of the 1940 Act.
RISK FACTORS. Repurchase agreements involve the risk that the seller will
fail to repurchase the security, as agreed. In that case, the Portfolio will
bear the risk of market value fluctuations until the security can be sold and
may encounter delays and incur costs in liquidating the security. In the event
of bankruptcy or insolvency of the seller, delays and costs are incurred.
Reverse repurchase agreements may expose the Portfolio to greater
fluctuations in the value of its assets.
ILLIQUID SECURITIES
The Portfolio may invest up to 15% of its net assets in securities that are
considered illiquid because of the absence of a readily available market or
due to legal or contractual restrictions on resale. However, certain
restricted securities that are not registered for sale to the general public
but that can be sold to institutional investors ("Rule 144A Securities") may
not be considered illiquid, provided that a dealer or institutional trading
market exists. The institutional trading market is relatively new and
liquidity of the Portfolio's investments could be impaired if such trading
does not further develop or declines. The Sub-Adviser will determine the
liquidity of Rule 144A Securities under guidelines approved by the Fund's
Board of Directors.
RISK FACTORS. Investment in illiquid securities involve certain risks to the
extent that the Portfolio may be unable to dispose of such securities at the
time desired or at a reasonable price. In addition, in order to resell a
restricted security, the Portfolio might have to bear the expense and incur
the delays associated with effecting a registration required in order to
qualify for resale.
WHEN-ISSUED SECURITIES
The Portfolio may purchase new issues of U.S. Government securities on a
"when-issued" basis.
"When-issued" refers to securities whose terms are available, and for which
a market exists, but which are not available for immediate delivery. When-
issued transaction may be expected to occur a month or more before delivery is
due.
The Portfolio may engage in when-issued transactions to obtain what is
considered to be an advantageous price and yield at the time of the
transaction. When the Portfolio engages in when-issued transactions, it will
do so for the purpose of acquiring securities consistent with its investment
objective and policies and not for the purpose of investment leverage.
11
<PAGE>
RISK FACTORS. At the time of settlement, the market value of the security may
be more or less than the purchase price. The Portfolio bears the risk of such
market value fluctuations. These transactions also involve risk to the
Portfolio if the other party to the transaction defaults on its obligation to
make payment or delivery, and the Portfolio is delayed or prevented from
completing the transaction.
FOREIGN SECURITIES
The Portfolio may invest up to 25% of net assets at the time of purchase in
the securities of foreign issuers and obligors. Investments may be made in both
domestic and foreign companies. Foreign securities include equity and debt
securities of foreign issuers.
If appropriate and available, the Sub-Adviser may purchase foreign securities
through dollar-denominated ADRs, EDRs, GDRs and other types of receipts or
shares evidencing ownership of the underlying foreign securities. While ADRs
are dollar-denominated receipts that are issued by domestic banks and traded in
the United States, EDRs are typically issued by European banks, and GDRs may be
issued by either domestic or foreign banks. In addition, the Portfolio may
invest indirectly in foreign securities through foreign investment funds or
trusts (including passive foreign investment companies).
RISK FACTORS. For U.S. investors, the returns on foreign securities are
influenced not only by the returns on the foreign investments themselves, but
also by several risks which include:
CURRENCY RISK. Changes in the value of the currencies in which the
securities are denominated relative to the U.S. dollar may affect the value
of foreign securities and the value of their dividend or interest payments
and, therefore, the Portfolio's share price and returns.
Generally, in a period when the U.S. dollar commonly rises against foreign
currencies, the return on foreign securities for a U.S. investor are
diminished. By contrast, in a period when the U.S. dollar generally
declines, the returns on foreign securities generally are enhanced.
Exchange rates are affected by numerous factors, including relative
interest rates, balances of trade, levels of foreign investment and
manipulation of central banks. The foreign currency market is essentially
unregulated and can be subject to speculative trading. From time to time,
many countries impose exchange controls which limit or prohibit trading in
certain currencies.
ADRs do not involve the same direct currency and liquidity risks as
securities denominated in foreign currencies. However, the value of the
currency in which the foreign security represented by the ADR is denominated
may affect the value of the ADR.
12
<PAGE>
To the extent that the Portfolio invests in foreign securities denominated
in foreign currencies, its share price reflects the price movements both of
its securities and of the currencies in which they are denominated. The
share price of the Portfolio that invests in both U.S. and foreign
securities may have a low correlation with movements in the U.S. markets. If
most of the securities in the Portfolio are denominated in foreign
currencies or depend on the value of foreign currencies, the relative
strength of the U.S. dollar against those foreign currencies may be an
important factor in the Portfolio's performance.
CURRENCY TRADING COSTS. The Portfolio incurs costs in converting foreign
currencies into U.S. dollars, and vice versa.
DIFFERENT ACCOUNTING AND REPORTING PRACTICES. Foreign companies are
generally subject to tax laws and to accounting, auditing and financial
reporting standards, practices and requirements different from those that
apply in the U.S.
LESS INFORMATION AVAILABLE. There is generally less public information
available about foreign companies.
MORE DIFFICULT BUSINESS NEGOTIATIONS. The Portfolio may find it difficult
to enforce obligations in foreign countries or to negotiate favorable
brokerage commission rates.
REDUCED LIQUIDITY/INCREASED VOLATILITY. Some foreign securities are less
liquid and their prices more volatile, than securities of comparable U.S.
companies.
SETTLEMENT DELAYS. Settling foreign securities may take longer than
settlements in the U.S.
HIGHER CUSTODY CHARGES. Custodianship of shares may cost more for foreign
securities than it does for U.S. securities.
ASSET VULNERABILITY. In some foreign countries, there is a risk of direct
seizure or appropriation through taxation of assets of the Portfolio.
Certain countries may also impose limits on the removal of securities or
other assets of the Portfolio. Interest, dividends and capital gains on
foreign securities held by the Portfolio may be subject to foreign
withholding taxes.
POLITICAL INSTABILITY. In some countries, political instability, war or
diplomatic developments could affect investments.
These risks may be greater in developing countries or in countries with
limited or developing markets. In particular, developing countries have
relatively unstable governments, economies based on only a few industries,
and securities markets that trade only a small number of securities. As a
result, securities of issuers located in developing countries may have
limited marketability and may be subject to abrupt or erratic price
fluctuations.
13
<PAGE>
At times, the Portfolio's foreign securities may be listed on exchanges or
traded in markets which are open on days (such as Saturday) when the Portfolio
does not compute a price or accept orders for purchase, sale or exchange of
shares. As a result, the net asset value of the Portfolio may be significantly
affected by trading on days when Contract Owners cannot make transactions.
ADRS are subject to some of the same risks as direct investments in foreign
securities, including the currency risk discussed above. The regulatory
requirements with respect to ADRs that are issued in sponsored and unsponsored
programs are generally similar but the issuers of unsponsored ADRs are not
obligated to disclose material information in the U.S., and, therefore, such
information may not be reflected in the market value of the ADRs.
MANAGEMENT OF THE FUND
Overall responsibility for management and supervision of the Fund rests with
the Fund's Board of Directors. There are currently five Directors, three of
whom are not "interested persons" of the Fund within the meaning of that term
under the 1940 Act. The Board meets regularly four times each year and at
other times as necessary. By virtue of the functions performed by WRL
Management as Investment Adviser and Janus Capital Corporation as Sub-Adviser,
the Fund requires no employees other than its executive officers, none of whom
devotes full time to the affairs of the Fund. These officers are employees of
WRL and receive no compensation from the Fund. The SAI contains the names of
and general background information regarding each Director and executive
officer of the Fund.
THE INVESTMENT ADVISER
WRL Management, located at 201 Highland Avenue, Largo, Florida 33770-2597,
serves as the Fund's Investment Adviser. The Investment Adviser is a direct,
wholly-owned subsidiary of WRL, which is a wholly-owned subsidiary of First
AUSA Life Insurance Company ("First AUSA"), a stock life insurance company
which is wholly-owned by AEGON USA, Inc. ("AEGON"). AEGON is a financial
services holding company whose primary emphasis is on life and health
insurance and annuity and investment products. AEGON is a wholly-owned
indirect subsidiary of AEGON nv, a Netherlands corporation, which is a
publicly traded international insurance group. The Investment Adviser has
served as the investment adviser to the Fund since January 1, 1997. Prior to
that date, WRL served as the investment adviser to the Fund.
Subject to the supervision and direction of the Fund's Board of Directors,
the Investment Adviser is responsible for managing the Portfolio in accordance
with the Portfolio's stated investment objective and policies. As compensation
for its services to the Portfolio, the Investment Adviser receives monthly
compensation at the annual rate of 0.80% of the average daily net assets of
the Portfolio. For the fiscal year ended December 31, 1996, the Fund paid the
Investment Adviser advisory fees of 0.80% of the average daily net assets of
the Portfolio.
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<PAGE>
The Investment Adviser is responsible for furnishing continuous advice and
recommendations to the Portfolio as to the acquisition, holding or disposition
of any or all of the securities or other assets which the Portfolio may own or
contemplate acquiring from time to time; to cause the Fund's officers to
attend meetings and furnish oral or written reports, as the Fund may
reasonably require, in order to keep the Board of Directors and appropriate
officers of the Fund fully informed as to the conditions of the investment
portfolio of the Portfolio, the investment recommendations of the Investment
Adviser, and the investment considerations which have given rise to those
recommendations; to supervise the purchase and sale of securities of the
Portfolio as directed by the appropriate officers of the Fund; and to maintain
all books and records required to be maintained by the Investment Adviser
pursuant to the 1940 Act and the rules and regulations promulgated thereunder
with respect to transactions on behalf of the Fund.
The Investment Adviser has voluntarily undertaken, until at least April 30,
1998, to pay expenses on behalf of the Portfolio to the extent normal
operating expenses (including investment advisory fees but excluding interest,
taxes, brokerage fees, commissions and extraordinary charges) exceed, as a
percentage of the Portfolio's average daily net assets, 1.00%. For the fiscal
year ended December 31, 1996, the expenses of the Portfolio, as a percentage
of the Portfolio's average daily net assets, were 0.88%.
In addition to the Investment Adviser's responsibilities discussed above,
the Investment Adviser's advisory agreement with the Fund (the "Advisory
Agreement") contemplates that the Investment Adviser, in connection with the
performance of its responsibilities under the Advisory Agreement, will enter
into sub-advisory agreements ("Sub-Advisory-Agreements") with Sub-Advisers to
provide each Portfolio with portfolio management. Under current law, every
Sub-Advisory Agreement must be submitted to and approved by shareholders and
Contract Owners of a Portfolio before the Sub-Adviser can provide investment
advice to that Portfolio. For example, if a new Sub-Adviser were retained,
shareholders and Contract Owners would be required to approve the Sub-Advisory
agreement with that Sub-Adviser. Similarly, if a Sub-Advisory Agreement were
amended in any material respect, such amendment would generally be deemed to
result in a new contract for which shareholder and Contract Owner approval
would also be required. Moreover, in most instances when there is a change of
control of a Sub-Adviser, shareholder and Contract Owner approval is required.
The Fund's Board of Directors has determined that shareholders and Contract
Owners of each Portfolio have, in effect, elected to have the Investment
Adviser select one or more Sub-Advisers best suited to achieve the Portfolio's
investment objectives. The Board believes that part of a shareholder's and
Contract Owner's investment decision is a determination to have those
selections made by the Investment Adviser, a professional management
organization with personnel having substantial experience in making such
evaluations, selections and terminations.
15
<PAGE>
Under applicable law, the Fund is not generally required to hold annual
shareholders' meetings, and does not generally hold such meetings, unless
legally required to do so, in order to avoid the attendant costs. The Fund is
currently required to call a meeting of shareholders of a Portfolio whenever
it decides to employ new or additional Sub-Advisers, or to approve a new Sub-
Advisory Agreement after an "assignment," or due to a material change in Sub-
Advisory Agreement terms, with respect to such Portfolio. Given the nature of
the Fund's operations and shareholders' reasons for investing in various of
the Portfolios, such expenses are considered to provide little if any benefit
to shareholders. For these reasons, the Fund and the Investment Adviser have
applied to the SEC for an exemption from the provisions of the 1940 Act to
permit the Fund and the Investment Adviser, subject to certain conditions, to
enter into, materially amend, and terminate, and to permit Sub-Advisers to act
pursuant to, Sub-Advisory Agreements without shareholder or Contract Owner
approval (the "Proposed Sub-Advisory Arrangement").
If the SEC exemption is granted, certain conditions would apply. The
conditions are intended to ensure that shareholders and Contract Owners
receive adequate disclosure about the Sub-Advisers or a decision by the
Investment Adviser and the Fund's Board of Directors to appoint a new Sub-
Adviser or to change materially the terms of a Sub-Advisory Agreement. In
addition, before a Portfolio could rely on the exemption, the Proposed Sub-
Advisory Arrangement must be approved by a majority of the outstanding voting
securities of the Portfolio.
DISTRIBUTION AND SERVICE PLANS
DISTRIBUTION PLAN AND DISTRIBUTION AGREEMENT. Effective January 1, 1997, the
Fund adopted a Plan of Distribution pursuant to Rule 12b-1 under the 1940 Act
("Distribution Plan") and pursuant to the Plan, has entered into a
Distribution Agreement with InterSecurities, Inc. ("ISI"), whose principal
office is located at 201 Highland Avenue, Largo, Florida 33770-2597. ISI is an
affiliate of the Investment Adviser, and serves as principal underwriter for
the Fund.
The expenses the Fund may pay pursuant to the Distribution Plan may include,
but are not necessarily limited to, the following: cost of printing and
mailing Fund prospectuses and statements of additional information, and any
supplements thereto to prospective Contract Owners; costs relating to
development and preparation of Fund advertisements, sales literature and
brokers' and other promotional materials describing and/or relating to the
Fund; expenses in connection with presentation of seminars and sales meetings
describing the Fund; development of consumer-oriented sales materials
describing the Fund; and expenses attributable to "distribution-related
services" provided to the Fund (e.g., salaries and benefits, office expenses,
equipment (i.e., computers, software, office equipment, etc.), training
expenses, travel
16
<PAGE>
costs, printing costs, supply expenses, programming time and data center
expenses, each as they relate to the promotion of the sale of Fund shares).
Under the Distribution Plan, the Fund, on behalf of the Portfolio, is
authorized to pay to various service providers, as direct payment for expenses
incurred in connection with the distribution of the Portfolio's shares,
amounts equal to actual expenses associated with distributing the Portfolio's
shares, up to a maximum rate of 0.15% on an annualized basis of the average
daily net assets. This fee is measured and accrued daily and paid monthly.
ISI will submit to the Fund's Board of Directors for approval annual
distribution expenses with respect to the Portfolio. ISI allocates to the
Portfolio distribution expenses specifically attributable to the distribution
of shares of the Portfolio. Distribution expenses not specifically
attributable to the distribution of shares of the Portfolio are allocated
among the other Portfolios of the Fund, based upon the ratio of net asset
value of each Portfolio to the net asset value of all Portfolios, or such
other factors as ISI deems fair and are approved by the Fund's Board. ISI has
determined that it will not seek payment by the Fund of distribution expenses
with respect to the Portfolio during the fiscal year ending December 31, 1997.
Prior to ISI seeking reimbursement, Contract Owners will be notified in
advance.
ADMINISTRATIVE AND TRANSFER AGENCY SERVICES. Effective January 1, 1997, the
Fund entered into an Administrative Services and Transfer Agency Agreement
with WRL Investment Services, Inc. ("WRL Services"), located at 201 Highland
Avenue, Largo, Florida 33770-2597, an affiliate of WRL Management and WRL, to
furnish the Fund with administrative services to assist the Fund in carrying
out certain of its functions and operations. Under this Agreement, WRL
Services shall furnish to the Portfolio, subject to the overall supervision of
the Board of Directors, supervisory, administrative, and transfer agency
services, including recordkeeping and reporting. WRL Services is reimbursed by
the Fund monthly on a cost incurred basis. Prior to January 1, 1997, WRL
performed these services in connection with its serving as the Fund's
investment adviser.
THE SUB-ADVISER
Janus Capital Corporation, located at 100 Fillmore Street, Denver, Colorado
80206, serves as the Sub-Adviser to the Portfolio. Thomas H. Bailey is the
President of Janus Capital Corporation. Kansas City Southern Industries, Inc.
("KCSI") owns 83% of the Sub-Adviser. The Sub-Adviser provides investment
management and related services to other mutual funds, and individual,
corporate, charitable and retirement accounts. See "Management of the Fund--
The Sub-Adviser" in the SAI for a more detailed description of the previous
experience of Janus Capital Corporation as an investment adviser.
17
<PAGE>
Scott W. Schoelzel has served as the portfolio manager for the Portfolio
since January 2, 1996. Mr. Schoelzel also serves as co-portfolio manager of
other mutual funds. Mr. Schoelzel is a Vice president of the Sub-Adviser,
where he has been employed since 1994. From 1991 to 1993, Mr. Schoelzel was a
portfolio manager with Founders Asset Management, Denver, Colorado.
The Sub-Adviser provides investment advisory assistance and portfolio
management advice to the Investment Adviser for the Portfolio. Subject to
review and supervision by the Investment Adviser and the Board of Directors of
the Fund, the Sub-Adviser is responsible for the actual management of the
Portfolio and for making decisions to buy, sell or hold any particular
security, and it places orders to buy or sell securities on behalf of the
Portfolio. The Sub-Adviser bears all of its expenses in connection with the
performance of its services, such as compensating and furnishing office space
for its officers and employees connected with investment and economic
research, trading and investment management of the Portfolio.
For its services, the Sub-Adviser receives monthly compensation from the
Investment Adviser at the annual rate of 0.40% of the average daily net assets
of the Portfolio.
The Sub-Adviser is also responsible for selecting the broker-dealers who
execute the portfolio transactions for the Portfolio. The Sub-Adviser is
authorized to consider sales of the Annuity Contracts described in the
accompanying prospectus by a broker-dealer as a factor in the selection of
broker-dealers to execute portfolio transactions. In placing portfolio
business with all dealers, the Sub-Adviser seeks best execution of each
transaction and all brokerage placement must be consistent with the Rules of
Fair Practice of the National Association of Securities Dealers, Inc. In
addition, the Sub-Adviser may occasionally place portfolio business with
broker-dealers affiliated with the Investment Adviser or the Sub-Adviser; in
such event, the Sub-Adviser always will seek best execution.
OTHER INFORMATION
JOINT TRADING ACCOUNTS
Subject to approval by the Fund's Board of Directors, the Portfolio may
transfer uninvested cash balances on a daily basis into certain joint trading
accounts. Assets in the joint trading accounts are invested in money market
instruments. All other participants in the joint trading accounts will be
registered mutual funds or other clients of the Sub-Adviser or its affiliates.
The Portfolio will participate in the joint trading accounts only to the
extent that the investments of the joint trading accounts are consistent with
the Portfolio's investment policies and restrictions. The Sub-Adviser
anticipates that the investments made by the Portfolio through the joint
trading accounts will be at least as advantageous to the Portfolio as if the
Portfolio had made such investment directly. (See "The Sub-Adviser" in the
SAI.)
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<PAGE>
PERSONAL SECURITIES TRANSACTIONS
The Fund permits "Access Persons" as defined by Rule 17j-1 under the 1940
Act to engage in personal securities transactions, subject to the terms of the
Code of Ethics and Insider Trading Policy ("Ethics Policy") that has been
adopted by the Board of Directors of the Fund. Access Persons are required to
follow the guidelines established by this Ethics Policy in connection with all
personal securities transactions and are subject to certain prohibitions on
personal trading. The Fund's Sub-Advisers, pursuant to Rule 17j-1 and other
applicable laws, and pursuant to the terms of the Ethics Policy, must adopt
and enforce their own Code of Ethics and Insider Trading Policies appropriate
to their operations. Each Sub-Adviser is required to report to the Board of
Directors on a quarterly basis with respect to the administration and
enforcement of such Ethics Policy, including any violations thereof which may
potentially affect the Fund.
PURCHASE AND REDEMPTION OF SHARES
Shares of the Portfolio are sold and redeemed at their net asset value next
determined after receipt of a purchase order or notice of redemption in proper
form. Shares are sold and redeemed without the imposition of any sales
commission or redemption charge. However, certain sales and other charges may
apply to the Contract. Such charges are described in the prospectus for the
Contract.
VALUATION OF SHARES
The Portfolio's net asset value per share is ordinarily determined, once
daily, as of the close of the regular session of business on the New York
Stock Exchange ("Exchange") (usually 4:00 p.m., Eastern time), on each day the
Exchange is open.
Net asset value of a Portfolio share is computed by dividing the value of
the net assets of the Portfolio by the total number of shares outstanding in
the Portfolio.
Except for money market instruments maturing in 60 days or less, securities
held by the Portfolio are valued at market value. Securities for which market
values are not readily available are valued at fair value as determined in
good faith by the Advisers under the supervision of the Fund's Board of
Directors. Money market instruments maturing in 60 days or less are valued on
the amortized cost basis. (See the SAI for details.)
THE FUND AND ITS SHARES
The Fund was incorporated under the laws of the State of Maryland on August
21, 1985 and is registered with the SEC as a diversified, open-end, management
investment company.
19
<PAGE>
The Portfolio offers its shares only for purchase by the Separate Accounts
of the Life Companies to fund benefits under variable life insurance or
variable annuity contracts issued by the Life Companies. Shares may be offered
to other life insurance companies in the future. Because the Portfolio's
shares are sold to the Separate Accounts established to receive and invest
premiums received under variable life insurance policies and purchase payments
received under the variable annuity contracts, it is conceivable that, in the
future, it may become disadvantageous for variable life insurance Separate
Accounts and variable annuity Separate Accounts to invest in the Portfolio
simultaneously. Neither the Life Companies nor the Fund currently foresees any
such disadvantages or conflicts, either to variable life insurance
policyowners or to variable annuity contract owners. After being notified by
one or more of the Life Companies of a potential or existing conflict, the
Fund's Board of Directors will determine if a material conflict exists and
what action, if any, should be taken in response thereto. Such action could
include the sale of Portfolio shares by one or more of the Separate Accounts,
which could have adverse consequences. Material conflicts could result from,
for example, (1) changes in state insurance laws, (2) changes in Federal
income tax laws, or (3) differences in voting instructions between those given
by variable life insurance policyowners and those given by variable annuity
contract owners. If the Board of Directors were to conclude that separate
funds should be established for variable life and variable annuity separate
accounts, the affected Life Companies will bear the attendant expenses, but
variable life insurance policyowners and variable annuity contract owners
would no longer have the economies of scale typically resulting from a larger
combined fund.
The Fund offers a separate class of common stock for each portfolio. All
shares of the Portfolio and of each of the other portfolios of the Fund have
equal voting rights, except that only shares of a particular portfolio will be
entitled to vote on matters concerning only that portfolio. Each issued and
outstanding share of the Portfolio is entitled to one vote and to participate
equally in dividends and distributions declared by the Portfolio and, upon any
liquidation or dissolution, to participate equally in the net assets of the
Portfolio remaining after satisfaction of outstanding liabilities. The shares
of the Portfolio, when issued, will be fully paid and nonassessable, have no
preference, preemptive, conversion, exchange or similar rights, and will be
freely transferable. Shares do not have cumulative voting rights and the
holders of more than 50% of the shares of the Fund voting for the election of
directors can elect all of the directors of the Fund if they choose to do so,
and in such event holders of the remaining shares would not be able to elect
any directors.
Only the Separate Accounts of the Life Companies may hold shares of the
Portfolio and are entitled to exercise the rights directly as described above.
If and to the extent required by law, Life Companies will vote the Portfolio's
shares held in the Separate Accounts, including
20
<PAGE>
the Portfolio's shares which are not attributable to Contract Owners, at
meetings of the Fund in accordance with instructions received from persons
having voting interests in the corresponding sub-accounts of the Separate
Accounts. Except as required by the 1940 Act, the Fund does not hold regular
or special shareholder meetings. If the 1940 Act or any regulation thereunder
should be amended, or if present interpretation thereof should change, and as
a result it is determined that the Life Companies are permitted to vote the
Portfolio's shares in their own right, they may elect to do so. The rights of
Contract Owners are described in more detail in the prospectuses or disclosure
documents for the Annuity Contracts.
REPORTS TO CONTRACT OWNERS
The fiscal year of the Portfolio ends on December 31 of each year. The Fund
will send to the Portfolio's Contract Owners, at least semi-annually, reports
showing the Portfolio's composition and other information. An annual report,
containing financial statements, audited by the Fund's independent
accountants, will be sent to Contract Owners each year.
CUSTODIAN AND DIVIDEND DISBURSING AGENT
Investors Bank & Trust Company, 89 South Street, Boston, MA 02111, acts as
Custodian and Dividend Disbursing Agent of the Portfolio's assets.
ADDITIONAL INFORMATION
The telephone number or the address of the Fund appearing on the first page
of this Prospectus should be used for requests for additional information.
DISTRIBUTION AND TAXES
DIVIDENDS AND DISTRIBUTIONS
The Portfolio intends to distribute substantially all of the net investment
income, if any. Dividends from investment income, if any, of the Portfolio
normally are declared and paid semi-annually in additional shares of the
Portfolio at net asset value. Distributions of net realized capital gains from
security transactions and net gains from foreign currency transactions, if
any, normally are declared and paid in additional shares of the Portfolio at
the end of the fiscal year.
TAXES
The Portfolio has qualified and expects to continue to qualify as a
regulated investment company under Subchapter M of the Internal Revenue Code
of 1986, as amended ("Code"). As such, the Portfolio is not subject to Federal
income tax on that part of its investment company taxable income (consisting
generally of net investment income, net gains from certain foreign currency
transactions, and net short-term capital
21
<PAGE>
gain, if any) and any net capital gain (the excess of net long-term capital
gain over net short-term capital loss) that it distributes to its
shareholders. It is the Portfolio's intention to distribute all such income
and gains.
Shares of the Portfolio are offered only to the Separate Accounts (which are
insurance company separate accounts that fund the Contract). Under the Code,
no tax is imposed on an insurance company with respect to income of a
qualifying separate account properly allocable to the value of eligible
variable annuity or variable life insurance contracts. For a discussion of the
taxation of life insurance companies and the Separate Account, as well as the
tax treatment of the Contract and the Contract Owners thereof, see "Certain
Federal Income Tax Consequences" included in the prospectus for the Contract.
The Portfolio intends to comply with the diversification requirements
imposed by section 817(h) of the Code and the regulations thereunder. These
requirements are in addition to the diversification requirements imposed on
the Portfolio by Subchapter M and the 1940 Act. These requirements place
certain limitations on the assets of each separate account that may be
invested in securities of a single issuer, and, because section 817(h) and the
regulations thereunder treat the Portfolio's assets as assets of the related
Separate Accounts, these limitations also apply to the Portfolio's assets that
may be invested in securities of a single issuer. Specifically, the
regulations provide that, except as permitted by the "safe harbor" described
below, as of the end of each calendar quarter or within 30 days thereafter no
more than 55% of the Portfolio's total assets may be represented by any one
investment, no more than 70% by any two investments, no more than 80% by any
three investments, and no more than 90% by any four investments.
Section 817(h) provides, as a safe harbor, that a separate account will be
treated as being adequately diversified if the diversification requirements
under Subchapter M are satisfied and no more than 55% of the value of the
account's total assets are cash and cash items, government securities, and
securities of other regulated investment companies. For purposes of section
817(h), all securities of the same issuer, all interests in the same real
property project, and all interests in the same commodity are treated as a
single investment. In addition, each U.S. Government agency or instrumentality
is treated as a separate issuer, while the securities of a particular foreign
government and its agencies, instrumentalities, and political subdivisions
will be considered securities issued by the same issuer. Failure of the
Portfolio to satisfy the section 817(h) requirements would result in taxation
of the Separate Accounts, the insurance companies, the Contract, and tax
consequences to the Contract Owners thereof, other than as described in the
prospectus for the Contract.
The foregoing is only a summary of some of the important Federal income tax
considerations generally affecting the Portfolio and its Contract Owners; see
the SAI for a more detailed discussion. Prospective Contract Owners are urged
to consult their tax advisors.
22
<PAGE>
WRL SERIES FUND, INC.
GROWTH PORTFOLIO
201 HIGHLAND AVENUE
LARGO, FLORIDA 33770-2597
TELEPHONE (319) 398-8511
INVESTMENT ADVISER:
WRL Investment Management, Inc. 201 Highland Avenue Largo, FL 33770-2597
SUB-ADVISER:
Janus Capital Corporation 100 Fillmore Street Denver, CO 80206
CUSTODIAN:
Investors Bank & Trust Company 89 South Street Boston, MA 02111
INDEPENDENT ACCOUNTANTS:
Price Waterhouse LLP 1055 Broadway Kansas City, MO 64105
TRANSFER AGENT:
WRL Investment Services, Inc. 201 Highland Avenue Largo, FL 33770-2597
DISTRIBUTOR:
InterSecurities, Inc. 201 Highland Avenue Largo, FL 33770-2597
NO PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY REP-
RESENTATION NOT CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH IN-
FORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHO-
RIZED. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFERING OF ANY SECURITIES
OTHER THAN THE REGISTERED SECURITIES TO WHICH IT RELATES OR AN OFFER TO ANY
PERSON IN ANY STATE OR JURISDICTION OF THE UNITED STATES OR ANY COUNTRY
WHERE SUCH OFFER WOULD BE UNLAWFUL.
23
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
THE ENDEAVOR VARIABLE ANNUITY
ISSUED THROUGH
AUSA ENDEAVOR VARIABLE
ANNUITY ACCOUNT
Offered by
AUSA LIFE INSURANCE COMPANY, INC.
666 Fifth Avenue
New York, New York 10103
________________________
This Statement of Additional information expands upon subjects discussed in
the current Prospectus for the Endeavor Variable Annuity Policy (the "Policy")
offered by AUSA Life Insurance Company, Inc. You may obtain a copy of the
Prospectus dated May 1, 1997 by calling 1-800-525-6205, or by writing to the
Service Office, Financial Markets Division - Variable Annuity Dept., 4333
Edgewood Road N.E., Cedar Rapids, Iowa 52499. Terms used in the current
Prospectus for the Policy are incorporated in this Statement.
THIS STATEMENT OF ADDITIONAL INFORMATION IS NOT A PROSPECTUS AND SHOULD BE
READ ONLY IN CONJUNCTION WITH THE PROSPECTUSES FOR THE POLICY, ENDEAVOR SERIES
TRUST AND THE WRL GROWTH PORTFOLIO OF THE WRL SERIES FUND, INC.
Dated: May 1, 1997
1
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
====
<S> <C>
The Policy-General Provisions......................................... 3
Owner............................................................... 3
Entire Policy....................................................... 3
Delay of Payment and Transfers...................................... 3
Misstatement of Age or Sex.......................................... 3
Reallocation of Policy Values After the
Annuity Commencement Date......................................... 4
Assignment.......................................................... 4
Evidence of Survival................................................ 4
Amendments.......................................................... 4
Federal Tax Matters (48).............................................. 5
Tax Status of the Policy............................................ 5
Taxation of AUSA.................................................... 6
Investment Experience................................................. 6
State Regulation of AUSA.............................................. 10
Records and Reports................................................... 10
Distribution of the Policies (35)..................................... 10
Custody of Assets..................................................... 10
Historical Performance Data (20)...................................... 11
Money Market Yields................................................. 11
Other Subaccount Yields............................................. 12
Total Returns....................................................... 12
Other Performance Data.............................................. 13
Legal Matters......................................................... 13
Independent Auditors.................................................. 13
Other Information..................................................... 14
Financial Statements (20)............................................. 14
</TABLE>
(Numbers in parenthesis indicate corresponding sections of the Prospectus).
2
<PAGE>
In order to supplement the description in the Prospectus, the following
provides additional information about AUSA and the Policy which may be of
interest to an Owner.
THE POLICY - GENERAL PROVISIONS
OWNER
The Policy shall belong to the Policy Owner upon issuance of the Policy after
completion of an application and delivery of the initial Premium Payment. While
the Annuitant is living, the Owner may: (1) assign the Policy; (2) surrender
the Policy; (3) amend or modify the Policy with AUSA's consent; (4) receive
annuity payments or name a Payee to receive the payments; and (5) exercise,
receive and enjoy every other right and benefit contained in the Policy. The
exercise of these rights may be subject to the consent of any assignee or
irrevocable Beneficiary.
A Successor Owner can be named in the Policy application or in a Written
Notice. The Successor Owner will become the new Owner upon the Owner's death, if
the Owner predeceases the Annuitant. If no Successor Owner survives the Owner
and the Owner predeceases the Annuitant, the Owner's estate will become the
Owner.
The Owner may change the ownership of the Policy in a Written Notice. When
this change takes effect, all rights of ownership in the Policy will pass to the
new Owner. A change of ownership may have adverse tax consequences.
When there is a change of Owner or Successor Owner, the change will take
effect as of the date the Owner signs the Written Notice, subject to any payment
AUSA has made or action AUSA has taken before recording the change. Changing
the Owner or naming a new Successor Owner cancels any prior choice of Successor
Owner, but does not change the designation of the Beneficiary or the Annuitant.
If ownership is transferred (except to the Owner's spouse) because the Owner
dies before the Annuitant, the Cash Value generally must be distributed to the
Successor Owner within five years of the Owner's death, or payments must be made
for a period certain or for the Successor Owner's lifetime so long as any period
certain does not exceed that Successor Owner's life expectancy, if the first
payment begins within one year of the Owner's death.
ENTIRE POLICY
The Policy and any endorsements thereon and the Policy application constitute
the entire contract between AUSA and the Owner. All statements in the
application are representations and not warranties. No statement will cause the
Policy to be void or to be used in defense of a claim unless contained in the
application.
DELAY OF PAYMENT AND TRANSFERS
Payment of any amount due from the Mutual Fund Account in respect of a
surrender, the Death Benefit or the death of the Owner of a Nonqualified Policy
generally will occur within seven business days from the date the Written Notice
(and any other required documentation or information) is received, except that
AUSA may be permitted to defer such payment from the Mutual Fund Account if:
(1) the New York Stock Exchange is closed for other than usual weekends or
holidays or trading on the Exchange is otherwise restricted; or (2) an emergency
exists as defined by the SEC or the SEC requires that trading be restricted; or
(3) the SEC permits a delay for the protection of Owners. In addition,
transfers of amounts from the Subaccounts may be deferred under these
circumstances.
Certain delays and restrictions apply to transfers of amounts out of the Fixed
Account. See page 29 of the Policy Prospectus.
MISSTATEMENT OF AGE OR SEX
If the age or sex of the Annuitant has been misstated, AUSA will change the
annuity benefit payable to that which the Premium Payments would have purchased
for the correct age or sex. The dollar amount of any
3
<PAGE>
underpayment made by AUSA shall be paid in full with the next payment due such
person or the Beneficiary. The dollar amount of any overpayment made by AUSA due
to any misstatement shall be deducted from payments subsequently accruing to
such person or Beneficiary. Any underpayment or overpayment will include
interest at 5% per year, from the date of the wrong payment to the date of the
adjustment. The age of the Annuitant may be established at any time by the
submission of proof satisfactory to AUSA.
If the age or sex of the Annuitant has been misstated, AUSA will also change
the Death Benefit to that which the Premium Payments would have purchased for
the correct age or sex.
REALLOCATION OF ANNUITY UNIT VALUES AFTER THE ANNUITY COMMENCEMENT DATE
After the Annuity Commencement Date, the Policy Owner may reallocate the value
of a designated number of Annuity Units of a Subaccount of the Mutual Fund
Account then credited to a Policy into an equal value of Annuity Units of one or
more other Subaccounts of the Mutual Fund Account, or the Fixed Account. The
reallocation shall be based on the relative value of the Annuity Units of the
Account(s) or Subaccount(s) at the end of the Business Day on the next payment
date. The minimum amount which may be reallocated is the lesser of (1) $10 of
monthly income or (2) the entire monthly income of the Annuity Units in the
Account or Subaccount from which the transfer is being made. If the monthly
income of the Annuity Units remaining in an Account or Subaccount after a
reallocation is less than $10, AUSA reserves the right to include the value of
those Annuity Units as part of the transfer. The request must be in writing to
AUSA's Service Office. There is no charge assessed in connection with such
reallocation. AUSA reserves the right to limit the number of times a
reallocation of Policy Value may be made in any given Policy Year.
ASSIGNMENT
During the lifetime of the Annuitant the Policy Owner may assign any rights or
benefits provided by the Policy. An assignment will not be binding on AUSA
until a copy has been filed at its Service Office. The rights and benefits of
the Policy Owner and Beneficiary are subject to the rights of the assignee.
AUSA assumes no responsibility for the validity or effect of any assignment.
Any claim made under an assignment shall be subject to proof of interest and the
extent of the assignment. An assignment may have tax consequences.
Unless the Policy Owner so directs by filing written notice with AUSA, no
Beneficiary may assign any payments under the Policy before they are due. To
the extent permitted by law, no payments will be subject to the claims of any
Beneficiary's creditors.
EVIDENCE OF SURVIVAL
AUSA reserves the right to require satisfactory evidence that a person is
alive if a payment is based on that person being alive. No payment will be made
until AUSA receives such evidence.
AMENDMENTS
No change in the Policy is valid unless made in writing by AUSA and approved
by one of AUSA's officers. No Registered Representative has authority to change
or waive any provision of the Policy.
AUSA reserves the right to amend the Policies to meet the requirements of the
Internal Revenue Code, regulations or published rulings. A Policy Owner can
refuse such a change by giving Written Notice, but a refusal may result in
adverse tax consequences.
4
<PAGE>
FEDERAL TAX MATTERS
TAX STATUS OF THE POLICY
Diversification Requirements. Section 817(h) of the Code provides that in
order for a variable contract which is based on a segregated asset account to
qualify as an annuity contract under the Code, the investments made by such
account must be "adequately diversified" in accordance with Treasury
regulations. The Treasury regulations issued under Section 817(h) (Treas. Reg.
(S) 1.817-5) apply a diversification requirement to each of the Subaccounts of
the Mutual Fund Account. The Mutual Fund Account, through the Underlying Funds
and their Portfolios, intend to comply with the diversification requirements of
the Treasury. AUSA has entered into agreements regarding participation in the
Endeavor Series Trust and WRL Series Fund, Inc. that require the Underlying
Funds and their Portfolios to be operated in compliance with the Treasury
regulations.
Owner Control. In certain circumstances, owners of variable annuity
contracts may be considered the owners, for federal income tax purposes, of the
assets of the separate accounts used to support their contracts. In those
circumstances, income and gains from the separate account assets would be
includable in the variable contract owner's gross income. The IRS has stated in
published rulings that a variable contract owner will be considered the owner of
separate account assets if the contract owner possesses incidents of ownership
in those assets, such as the ability to exercise investment control over the
assets. The Treasury Department has also announced, in connection with the
issuance of regulations concerning diversification, that those regulations Ado
not provide guidance concerning the circumstances in which investor control of
the investments of a segregated asset account may cause the investor (i.e., the
Owner), rather than the insurance company, to be treated as the owner of the
assets in the account. This announcement also stated that guidance would be
issued by way of regulations or rulings on the "extent to which policyholders
may direct their investments to particular subaccounts without being treated as
owners of the underlying assets.
The ownership rights under the Policy are similar to, but different in certain
respects from, those described by the IRS in rulings in which it was determined
that contract owners were not owners of separate account assets. For example,
the Owner has the choice of one or more Subaccounts in which to allocate
premiums and Policy Values, and may be able to transfer among these accounts
more frequently than in such rulings. These differences could result in an
Owner being treated as the owner of a pro rata portion of the assets of the
Mutual Fund Account. In addition, AUSA does not know what standards will be set
forth, in any, in the regulations or rulings which the Treasury Department has
stated it expects to issue. AUSA therefore reserves the right to modify the
Policy as necessary to attempt to prevent an Owner from being considered the
owner of a pro rata share of the assets of the Mutual Fund Account.
Distribution Requirements. The Code also requires that Nonqualified Policies
contain specific provisions for distribution of Policy proceeds upon the death
of the Owner. In order to be treated as an annuity contract for federal income
tax purposes, the Code requires that such Policies provide that if any Owner
dies on or after the Annuity Commencement Date and before the entire interest in
the Policy has been distributed, the remaining portion must be distributed at
least as rapidly as under the method in effect on such Owner's death. If any
Owner dies before the Annuity Commencement Date, the entire interest in the
Policy must generally be distributed within 5 years after such Owner's date of
death or be applied to provide an immediate annuity under which payments will
begin within one year of such Owner's death and will be made for the life of the
Beneficiary or for a period not extending beyond the life expectancy of the
"Designated Beneficiary as defined in Section 72(s) of the Code. However, if
upon such Owner's death prior to the Annuity Commencement Date, such Owner's
surviving spouse becomes the sole new Owner under the Policy, then the Policy
may be continued with the surviving spouse as the new Owner. Under the Policy,
the Beneficiary is the Designated Beneficiary of an Owner/Annuitant and the
Successor Owner is the Designated Beneficiary of an Owner who is not the
Annuitant. If any Owner is not a natural person, then for purposes of these
distribution requirements, the primary Annuitant shall be treated as the Owner,
and any death or change of such primary Annuitant shall be treated as the death
of the Owner. The Nonqualified Policies contain provisions intended to comply
with these requirements of the Code. No regulations interpreting these
requirements of the Code have yet been issued and thus no assurance can be given
that the provisions contained in the Policies satisfy all such Code
requirements. The provisions contained in the Policies will be reviewed and
modified if necessary to maintain their compliance with the Code requirements
when clarified by regulation or otherwise.
5
<PAGE>
TAXATION OF AUSA
AUSA at present is taxed as a life insurance company under part I of
Subchapter L of the Code. The Mutual Fund Account is treated as part of AUSA
and, accordingly, will not be taxed separately as a "regulated investment
company" under Subchapter M of the Code. AUSA does not expect to incur any
federal income tax liability with respect to investment income and net capital
gains arising from the activities of the Mutual Fund Account retained as part of
the reserves under the Policy. Based on this expectation, it is anticipated
that no charges will be made against the Mutual Fund Account for federal income
taxes. If, in future years, any federal income taxes are incurred by AUSA with
respect to the Mutual Fund Account, AUSA may make a charge to the Mutual Fund
Account.
INVESTMENT EXPERIENCE
An "Investment Experience Factor" is used to determine the value of
Accumulation Units and Annuity Units, and to determine annuity payment rates.
ACCUMULATION UNITS
Upon allocation to the selected Subaccount, Premium Payments are converted
into Accumulation Units of the Subaccount. The number of Accumulation Units to
be credited is determined by dividing the dollar amount allocated to each
Subaccount by the value of an Accumulation Unit for that Subaccount as next
determined after the Premium Payment is received at the Service Office or, in
the case of the initial Premium Payment, when the Policy application is
completed, whichever is later. The value of an Accumulation Unit was arbitrarily
established at $1 (except the WRL Growth Subaccount which was established at
$10) at the inception of each Subaccount. Thereafter, the value of an
Accumulation Unit is determined as of the close of trading on each day the New
York Stock Exchange is open for business.
An index (the "Investment Experience Factor") which measures the investment
performance of a Subaccount during a Valuation Period is used to determine the
value of an Accumulation Unit for the next subsequent Valuation Period. The
Investment Experience Factor may be greater or less than or equal to one;
therefore, the value of an Accumulation Unit may increase, decrease or remain
the same from one Valuation Period to the next. The Policy Owner bears this
investment risk. The Net Investment Performance of a Subaccount and deduction
of certain charges affects the Accumulation Unit Value.
The Investment Experience Factor for any Subaccount for any Valuation Period
is determined by dividing (a) by (b) and subtracting (c) from the result, where:
(a) is the net result of:
(1) the net asset value per share of the shares held in the Subaccount
determined at the end of the current Valuation Period, plus
(2) The per share amount of any dividend or capital gain distribution
made with respect to the shares held in the Subaccount if the ex-dividend date
occurs during the current Valuation Period, plus or minus
(3) a per share credit or charge or credit for any taxes
determined by AUSA to have resulted from the investment operations of the
Subaccount and for which it has created a reserve;
(b) is the net asset value per share of the shares held in the Subaccount
determined as of the end of the immediately preceding Valuation Period.
6
<PAGE>
(c) is a factor representing the charge for mortality and expense risk fee
during the Valuation Period equal on an annual basis to 1.25% of the daily net
asset value of the Subaccount, plus the .15% administrative charge.
ILLUSTRATION OF ACCUMULATION UNIT VALUE CALCULATIONS
FORMULA AND ILLUSTRATION FOR DETERMINING
THE INVESTMENT EXPERIENCE FACTOR
Investment Experience Factor = A + B - C - E
---------
D
Where: A = The Net Asset Value of an Underlying Fund share as of the
end of the current Valuation Period.
Assume..............................A = $11.57
B = The per share amount of any dividend or capital gains
distribution since the end of the immediately preceding
Valuation Period.
Assume..............................B = 0
C = The per share charge or credit for any taxes reserved for
at the end of the current Valuation Period.
Assume..............................C = 0
D = The Net Asset Value of an Underlying Fund share at the
end of the immediately preceding Valuation Period.
Assume..............................D = $11.40
E = The daily deduction for mortality and expense risk and
administrative charges, which totals 1.40% on an annual
basis.
On a daily basis..................... = .0000380909
Then, the Investment Experience Factor =
11.57 - 0 - 0 - .0000380909 = Z = 1.0148741898
-------------
11.40
FORMULA AND ILLUSTRATION FOR DETERMINING ACCUMULATION UNIT VALUE
Accumulation Unit Value = A * B
Where: A = The Accumulation Unit Value for the immediately preceding
Valuation Period.
Assume.............................. = $ X
B = The Net Investment Factor for the current Valuation
Period.
Assume.............................. = Y
Then, the Accumulation Unit Value = $ X * Y = $ Z
7
<PAGE>
ANNUITY UNIT VALUE AND ANNUITY PAYMENT RATES
The amount of Variable Annuity Payments will vary with Annuity Unit Values.
Annuity Unit Values rise if the net investment performance of the Subaccount
exceeds the assumed interest rate of 5% annually. Conversely, Annuity Unit
Values fall if the net investment performance of the Subaccount is less than the
assumed rate. The value of a Variable Annuity Unit in each Subaccount was
established at $1.00 on the date operations began for that Subaccount. The
value of a Variable Annuity Unit on any subsequent Business Day is equal to (a)
multiplied by (b) multiplied by (c), where:
(a) is the variable Annuity Unit Value on the immediately preceding
Business Day;
(b) is the net investment factor of the valuation period; and
(c) is the investment result adjustment factor for the valuation period.
The investment result adjustment factor for the valuation period is the
product of discount factors of .99986634 per day to recognize the 5% effective
annual Assumed Investment Return. The valuation period is the period from the
close of the immediately preceding Business Day to the close of the current
Business Day.
The net investment factor for the Policy used to calculate the value of a
variable Annuity Unit in each Subaccount for the valuation period is determined
by dividing (i) by (ii) and subtracting (iii) from the result, where:
(i) is the result of:
(1) the net asset value of a fund share held in the Mutual Fund
Account for that Subaccount determined at the end of the current valuation
period; plus
(2) the per share amount of any dividend or capital gain
distributions made by the fund for shares held in the Mutual Fund Account for
that Subaccount if the ex-dividend date occurs during the valuation period.
(ii) is the net asset value of a fund share held in the Mutual Fund
Account for that Subaccount determined as of the end of the immediately
preceding valuation period.
(iii) is a factor representing the mortality and expense risk fee and
administrative charge. This factor is equal, on an annual basis, to 1.40% of
the daily net asset value of a fund share held in the Mutual Fund Account for
that Subaccount.
The dollar amount of subsequent Variable Annuity Payments will depend upon
changes in applicable Annuity Unit Values.
The annuity payment rates vary according to the Annuity Option elected and the
sex and adjusted age of the Annuitant at the Annuity Commencement Date. The
Policy also contains a table for determining the adjusted age of the Annuitant.
8
<PAGE>
ILLUSTRATION OF CALCULATIONS FOR ANNUITY UNIT VALUE
AND VARIABLE ANNUITY PAYMENTS
FORMULA AND ILLUSTRATION FOR DETERMINING ANNUITY UNIT VALUE
Annuity Unit Value = A * B * C
Where: A = Annuity Unit Value for the immediately preceding
Valuation Period.
Assume.............................. = $ X
B = Investment Experience Factor for the Valuation Period for
which the Annuity Unit value is being calculated.
Assume.............................. = Y
C = A factor to neutralize the assumed interest rate of 5%
built into the Annuity Tables used.
Assume.............................. = Z
Then, the Annuity Unit Value is:
$ X * Y * Z = $ Q
FORMULA AND ILLUSTRATION FOR DETERMINING AMOUNT
OF FIRST MONTHLY VARIABLE ANNUITY PAYMENT
First Monthly Variable Annuity Payment = A x B
--------
$1,000
Where: A = The Policy Value as of the Annuity Commencement Date.
Assume...................... = $ X
B = The Annuity purchase rate per $1,000 based upon the
option selected, the sex and adjusted age of the
Annuitant according to the tables contained in the
Policy.
Assume....................... = $ Y
Then, the first Monthly Variable Annuity
Payment = $ X * $ Y = $ Z
------
$1,000
9
<PAGE>
FORMULA AND ILLUSTRATION FOR DETERMINING THE NUMBER OF ANNUITY
UNITS REPRESENTED BY EACH MONTHLY VARIABLE ANNUITY PAYMENT
Number of Annuity Units = A
B
Where: A = The dollar amount of the first monthly Variable
Annuity Payment.
Assume....................... = $ X
B = The Annuity Unit Value for the Valuation Date on
which the first monthly payment is due.
Assume....................... = $ Y
Then, the number of Annuity Units = $ X = Z
-------
$ Y
STATE REGULATION OF AUSA
AUSA is subject to the laws of New York governing insurance companies
and to regulation by the New York Department of Insurance. An annual statement
in a prescribed form is filed with the Department of Insurance each year
covering the operation of AUSA for the preceding year and its financial
condition as of the end of such year. Regulation by the Department of Insurance
includes periodic examination to determine AUSA's contract liabilities and
reserves so that the Department may determine the items are correct. AUSA's
books and accounts are subject to review by the Department of Insurance at all
times and a full examination of its operations is conducted periodically by the
National Association of Insurance Commissioners. In addition, AUSA is subject
to regulation under the insurance laws of other jurisdictions in which it may
operate.
RECORDS AND REPORTS
All records and accounts relating to the Mutual Fund Account will be
maintained by AUSA. As presently required by the Investment Company Act of 1940
and regulations promulgated thereunder, AUSA will mail to all Policy Owners at
their last known address of record, at least annually, reports containing such
information as may be required under that Act or by any other applicable law or
regulation. Policy Owners will also receive confirmation of each financial
transaction and any other reports required by law or regulation.
DISTRIBUTION OF THE POLICIES
The Policies are offered to the public through brokers licensed under
the federal securities laws and state insurance laws. The offering of the
Policies is continuous and AUSA does not anticipate discontinuing the offering
of the Policies. However, AUSA reserves the right to discontinue the offering
of the Policies.
AEGON USA Securities, Inc., an affiliate of AUSA, will be the principal
underwriter of the Policies. AEGON USA Securities, Inc. has entered into
agreements with broker-dealers for the distribution of the Policies. During
1996, the amount paid to AEGON USA Securities, Inc. and/or broker-dealers for
their services was $1,115.508. Amount paid for these services in 1995 were
$397,382.
CUSTODY OF ASSETS
The assets of each of the Subaccounts of the Mutual Fund Account are
held by AUSA. The assets of each of the Subaccounts of the Mutual Fund Account
are segregated and held separate and apart from the assets of
10
<PAGE>
the other Subaccounts and from AUSA's general account assets. AUSA maintains
records of all purchases and redemptions of shares of the Underlying Funds held
by each of the Subaccounts. Additional protection for the assets of the Mutual
Fund Account is afforded by AUSA's fidelity bond, presently in the amount of
$5,000,000, covering the acts of officers and employees of AUSA.
HISTORICAL PERFORMANCE DATA
MONEY MARKET YIELDS
AUSA may from time to time disclose the current annualized yield of the
TCW Money Market Subaccount, which invests in the TCW Money Market Portfolio,
for a 7-day period in a manner which does not take into consideration any
realized or unrealized gains or losses on shares of the TCW Money Market
Portfolio or on its portfolio securities. This current annualized yield is
computed by determining the net change (exclusive of realized gains and losses
on the sale of securities and unrealized appreciation and depreciation) at the
end of the 7-day period in the value of a hypothetical account; having a balance
of 1 unit of the TCW Money Market Subaccount at the beginning of the 7-day
period, dividing such net change in account value by the value of the account at
the beginning of the period to determine the base period return, and annualizing
this quotient on a 365-day basis. The net change in account value reflects (i)
net income from the Portfolio attributable to the hypothetical account; and (ii)
charges and deductions imposed under a Policy that are attributable to the
hypothetical account. The charges and deductions include the per unit charges
for the hypothetical account for (i) the Administrative Charges; and (ii) the
Mortality and Expense Risk Fee Mortality and Expense Risk Charge. Current Yield
will be calculated according to the following formula:
Current Yield = ((NCS - ES) / UV) * (365 / 7)
Where:
NCS = The net change in the value of the Portfolio (exclusive
of realized gains and losses on the sale of securities
and unrealized appreciation and depreciation) for the
7-day period attributable to a hypothetical account
having a balance of 1 Subaccount unit.
ES = Per unit expenses of the Subaccount for the 7-day period.
UV = The unit value on the first day of the 7-day period.
Because of the charges and deductions imposed under a Policy, the yield
for the Money Market Subaccount will be lower than the yield for the Money
Market Portfolio. The yield calculations do not reflect the effect of any
premium taxes or Contingent Deferred Sales Charges that may be applicable to a
particular Policy. Contingent Deferred Sales Charges range from 7% to 0% of the
amount of premium withdrawn based on the Policy Year since payment of the
premium.
AUSA may also disclose the effective yield of the TCW Money
Market Subaccount for the same 7-day period, determined on a compounded basis.
The effective yield is calculated by compounding the base period return
according to the following formula:
Effective Yield = (1 + ((NCS - ES) / UV))/365/7/ - 1
Where:
NCS = The net change in the value of the Portfolio (exclusive
of realized gains and losses on the sale of securities
and unrealized appreciation and depreciation) for the
7-day period attributable to a hypothetical account
having a balance of 1 Subaccount unit.
ES = Per unit expenses of the Subaccount for the 7-day period.
11
<PAGE>
UV = The unit value on the first day of the 7-day period.
The yield on amounts held in the Money Market Subaccount normally will
fluctuate on a daily basis. Therefore, the disclosed yield for any given past
period is not an indication or representation of future yields or rates of
return. The Money Market Subaccount's actual yield is affected by changes in
interest rates on money market securities, average portfolio maturity of the
Money Market Portfolio, the types and quality of portfolio securities held by
the Money Market Portfolio and its operating expenses. For the seven days
ended December 31, 1996, the yield of the TCW Money Market Subaccount was 2.75
%, and the effective yield was 2.79 %.
OTHER SUBACCOUNT YIELDS
AUSA may from time to time advertise or disclose the current annualized yield
of one or more of the Subaccounts of the Mutual Fund Account (except the TCW
Money Market Subaccount) for 30-day periods. The annualized yield of a
Subaccount refers to income generated by the Subaccount over a specific 30-day
period. Because the yield is annualized, the yield generated by a Subaccount
during the 30-day period is assumed to be generated each 30-day period over a
12-month period. The yield is computed by: (i) dividing the net investment
income of the Subaccount less Subaccount expenses for the period, by (ii) the
maximum offering price per unit on the last day of the period times the daily
average number of units outstanding for the period, (iii) compounding that yield
for a 6-month period, and (iv) multiplying that result by 2. Expenses
attributable to the Subaccount include (i) the Administrative Charge and (ii)
the Mortality and Expense Risk Fee Mortality and Expense Risk Charge. The 30-day
yield is calculated according to the following formula:
Yield = 2 x ((((NI - ES)/(U * UV)) + 1)/6/ -1)
Where:
NI Net investment income of the Subaccount for the 30-day period
attributable to the Subaccount's unit.
ES Expenses of the Subaccount for the 30-day period.
U The average number of units outstanding.
UV The unit value at the close (highest) of the last day in the 30-day
period.
Because of the charges and deductions imposed by the Mutual Fund Account, the
yield for a Subaccount of the Mutual Fund Account will be lower than the yield
for its corresponding Portfolio. The yield calculations do not reflect the
effect of any premium taxes that may be applicable to a particular Policy.
Contingent Deferred Sales Charges range from 7% to 0% of the amount of premium
withdrawn based on the Policy Year since payment of the premium.
The yield on amounts held in the Subaccounts of the Mutual Fund Account
normally will fluctuate over time. Therefore, the disclosed yield for any given
past period is not an indication or representation of future yields or rates of
return. A Subaccount's actual yield is affected by the types and quality of its
investments and its operating expenses.
TOTAL RETURNS
AUSA may from time to time also advertise or disclose total returns for
one or more of the Subaccounts of the Mutual Fund Account for various periods of
time. One of the periods of time will include the period measured from the date
the Subaccount commenced operations. When a Subaccount has been in operation for
1, 5 and 10 years, respectively, the total return for these periods will be
provided. Total returns for other periods of time may from time to time also be
disclosed. Total returns represent the average annual compounded rates of
return that would equate an initial investment of $1,000 to the redemption value
of that investment as of the last day of each of the periods. The ending date
for each period for which total return quotations are provided will be for the
12
<PAGE>
most recent month end practicable, considering the type and media of the
communication and will be stated in the communication.
Total returns will be calculated using Subaccount Unit Values which AUSA
calculates on each Business Day based on the performance of the Subaccount's
underlying Portfolio, and the deductions for the Mortality and Expense Risk
Fee Mortality and Expense Risk Charge and the Administrative Charges. Total
return calculations will reflect the effect of Contingent Deferred Sales Charges
that may be applicable to a particular period. The total return will then be
calculated according to the following formula:
P(1+T)/N/ = ERV
Where:
T = The average annual total return net of Subaccount
recurring charges.
ERV = The ending redeemable value of the hypothetical account
at the end of the period.
P = A hypothetical initial payment of $1,000.
N = The number of years in the period.
OTHER PERFORMANCE DATA
AUSA may from time to time also disclose average annual total returns in
a non-standard format in conjunction with the standard format described above.
The non-standard format will be identical to the standard format except that the
Contingent Deferred Sales Charge percentage will be assumed to be 0%.
AUSA may from time to time also disclose cumulative total returns in
conjunction with the standard format described above. The cumulative returns
will be calculated using the following formula assuming that the Contingent
Deferred Sales Charge percentage will be 0%.
CTR = (ERV / P) - 1
Where:
CTR = The cumulative total return net of Subaccount recurring
charges for the period.
ERV = The ending redeemable value of the hypothetical
investment at the end of the period.
P = A hypothetical initial payment of $1,000.
All non-standard performance data will only be advertised if the standard
performance data for the same period, as well as for the required period, is
also disclosed.
LEGAL MATTERS
Legal advice relating to certain matters under the federal securities laws
applicable to the issue and sale of the Policies has been provided to AUSA by
Sutherland, Asbill & Brennan, L.L.P., of Washington D.C.
INDEPENDENT AUDITORS
The Financial Statements of AUSA, at December 31, 1996 and 1995, and for
each of the three years in the period ended December 31, 1996, and the Financial
Statements of the AUSA Endeavor Variable Annuity Account at December 31, 1996,
and for each of the two years in the period then ended, included in this
Statement of
13
<PAGE>
Additional Information have been audited by Ernst & Young LLP, Independent
Auditors, 801 Grand Avenue, Suite 3400, Des Moines, Iowa, 50309-2764.
OTHER INFORMATION
A Registration Statement has been filed with the Securities and Exchange
Commission, under the Securities Act of 1933 as amended, with respect to the
Policies discussed in this Statement of Additional Information. Not all of the
information set forth in the Registration Statement, amendments and exhibits
thereto has been included in the Prospectus or this Statement of Additional
Information. Statements contained in the Prospectus and this Statement of
Additional Information concerning the content of the Policies and other legal
instruments are intended to be summaries. For a complete statement of the terms
of these documents, reference should be made to the instruments filed with the
Securities and Exchange Commission.
FINANCIAL STATEMENTS
The values of the interest of Policy Owners in the Mutual Fund Account will
be affected solely by the investment results of the selected Subaccount(s).
Financial statements for the AUSA Endeavor Variable Annuity Account are
contained herein. The Financial Statements of AUSA, which are included in this
Statement of Additional Information, should be considered only as bearing on the
ability of AUSA to meet its obligations under the Policies. They should not be
considered as bearing on the investment performance of the assets held in the
Mutual Fund Account.
14
<PAGE>
- --------------------------------------------------------------------------------
THE AUSA ENDEAVOR VARIABLE ANNUITY ACCOUNT
REPORT OF INDEPENDENT AUDITORS
THE BOARD OF DIRECTORS AND CONTRACT OWNERS OF
THE AUSA ENDEAVOR VARIABLE ANNUITY ACCOUNT,
AUSA LIFE INSURANCE COMPANY, INC.:
We have audited the accompanying balance sheet of The AUSA Endeavor Variable
Annuity Account (comprising, respectively, the TCW Money Market, TCW Managed
Asset Allocation, T. Rowe Price International Stock, Value Equity, Dreyfus
Small Cap Value, Dreyfus U.S. Government Securities, T. Rowe Price Equity
Income, T. Rowe Price Growth Stock, Opportunity Value and Growth subaccounts)
as of December 31, 1996, and the related statements of operations and changes
in contract owners' equity for the periods indicated therein. These financial
statements are the responsibility of the Variable Account's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
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 mutual fund shares owned as of December 31,
1996 by correspondence with the mutual funds' transfer agent. An audit also
includes assessing the accounting principles used and significant estimates
made by management, 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 referred to above present fairly, in
all material respects, the financial position of each of the respective
subaccounts constituting The AUSA Endeavor Variable Annuity Account at December
31, 1996, and the results of their operations and changes in their contract
owners' equity for the periods indicated therein in conformity with generally
accepted accounting principles.
Ernst & Young LLP
Des Moines, Iowa
January 31, 1997
15
<PAGE>
- --------------------------------------------------------------------------------
THE AUSA ENDEAVOR VARIABLE ANNUITY ACCOUNT
BALANCE SHEET
December 31, 1996
<TABLE>
<CAPTION>
TCW
TCW MANAGED
MONEY ASSET
MARKET ALLOCATION
TOTAL SUBACCT. SUBACCT.
----------- -------- ----------
<S> <C> <C> <C>
ASSETS
Cash.......................................... $ 45 -- --
Investments in mutual funds, at current market
value (Note 2):
Endeavor Series Trust--TCW Money Market
Portfolio................................... 767,863 767,863 --
Endeavor Series Trust--TCW Managed Asset
Allocation Portfolio........................ 2,059,658 -- 2,059,658
Endeavor Series Trust--T. Rowe Price
International Stock Portfolio............... 2,774,308 -- --
Endeavor Series Trust--Value Equity
Portfolio................................... 2,653,713 -- --
Endeavor Series Trust--Dreyfus Small Cap
Value Portfolio............................. 1,854,244 -- --
Endeavor Series Trust--Dreyfus U.S.
Government Securities Portfolio............. 665,734 -- --
Endeavor Series Trust--T. Rowe Price Equity
Income Portfolio............................ 2,111,546 -- --
Endeavor Series Trust--T. Rowe Price Growth
Stock Portfolio............................. 1,554,683 -- --
Endeavor Series Trust--Opportunity Value
Portfolio................................... 179,692 -- --
WRL Series Fund, Inc.--Growth Portfolio...... 5,205,872 -- --
----------- ------- ---------
Total investments in mutual funds............ 19,827,313 767,863 2,059,658
----------- ------- ---------
Total Assets................................. $19,827,358 767,863 2,059,658
=========== ======= =========
LIABILITIES AND CONTRACT OWNERS' EQUITY
Liabilities:
Contract terminations payable................ $ 1,141 106 187
----------- ------- ---------
Total Liabilities............................ 1,141 106 187
Contract Owners' Equity:
Deferred annuity contracts terminable by
owners (Notes 3 and 6)...................... 19,826,217 767,757 2,059,471
----------- ------- ---------
$19,827,358 767,863 2,059,658
=========== ======= =========
</TABLE>
See accompanying Notes to Financial Statements.
16
<PAGE>
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
T. ROWE T. ROWE T. ROWE
PRICE DREYFUS DREYFUS U.S. PRICE PRICE
INT'L. VALUE SMALL CAP GOV'T. EQUITY GROWTH OPPORTUNITY
STOCK EQUITY VALUE SECURITIES INCOME STOCK VALUE GROWTH
SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT.
-------- --------- --------- ------------ --------- --------- ----------- ---------
<S> <C> <C> <C> <C> <C> <C> <C>
-- -- 44 -- -- -- 1 --
-- -- -- -- -- -- -- --
-- -- -- -- -- -- -- --
2,774,308 -- -- -- -- -- -- --
-- 2,653,713 -- -- -- -- -- --
-- -- 1,854,244 -- -- -- -- --
-- -- -- 665,734 -- -- -- --
-- -- -- -- 2,111,546 -- -- --
-- -- -- -- -- 1,554,683 -- --
-- -- -- -- -- -- 179,692 --
-- -- -- -- -- -- -- 5,205,872
--------- --------- --------- ------- --------- --------- ------- ---------
2,774,308 2,653,713 1,854,244 665,734 2,111,546 1,554,683 179,692 5,205,872
--------- --------- --------- ------- --------- --------- ------- ---------
2,774,308 2,653,713 1,854,288 665,734 2,111,546 1,554,683 179,693 5,205,872
========= ========= ========= ======= ========= ========= ======= =========
146 251 -- 9 52 28 -- 362
--------- --------- --------- ------- --------- --------- ------- ---------
146 251 -- 9 52 28 -- 362
2,774,162 2,653,462 1,854,288 665,725 2,111,494 1,554,655 179,693 5,205,510
--------- --------- --------- ------- --------- --------- ------- ---------
2,774,308 2,653,713 1,854,288 665,734 2,111,546 1,554,683 179,693 5,205,872
========= ========= ========= ======= ========= ========= ======= =========
</TABLE>
17
<PAGE>
- --------------------------------------------------------------------------------
THE AUSA ENDEAVOR VARIABLE ANNUITY ACCOUNT
STATEMENT OF OPERATIONS
Year Ended December 31, 1996, Except as Noted
<TABLE>
<CAPTION>
TCW
MONEY
MARKET
TOTAL SUBACCT.
---------- --------
<S> <C> <C>
NET INVESTMENT INCOME (LOSS)
Income:
Dividends................................................. $ 499,367 27,558
Expenses (Note 5):
Administrative fee........................................ 5,211 181
Mortality and expense risk charge......................... 168,854 8,063
---------- -------
Net investment income (loss)............................ 325,302 19,314
---------- -------
NET REALIZED AND UNREALIZED CAPITAL GAIN (LOSS) FROM
INVESTMENTS
Net realized capital gain (loss) from sales of investments:
Proceeds from sales....................................... 1,050,069 414,686
Cost of investments sold.................................. 960,815 414,686
---------- -------
Net realized capital gain (loss) from sales of
investments............................................... 89,254 --
---------- -------
Net change in unrealized appreciation/depreciation of
investments:
Beginning of the period................................... 354,489 --
End of the period......................................... 1,762,593 --
---------- -------
Net change in unrealized appreciation/depreciation of
investments............................................ 1,408,104 --
---------- -------
Net realized and unrealized capital gain (loss) from
investments............................................ 1,497,358 --
---------- -------
INCREASE (DECREASE) FROM OPERATIONS........................ $1,822,660 19,314
========== =======
</TABLE>
/1/Period from December 13, 1996 (commencement of operations) to December 31,
1996
See accompanying Notes to Financial Statements.
18
<PAGE>
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
TCW T. ROWE DREYFUS T. ROWE T. ROWE
MANAGED PRICE DREYFUS U.S. PRICE PRICE
ASSET INT'L. VALUE SMALL CAP GOV'T. EQUITY GROWTH OPPORTUNITY
ALLOCATION STOCK EQUITY VALUE SECURITIES INCOME STOCK VALUE GROWTH
SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT./1/ SUBACCT.
- ---------- -------- -------- --------- ---------- -------- -------- ----------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
24,797 9,703 38,881 46,612 15,913 10,384 14,414 -- 311,105
791 563 616 468 167 651 309 -- 1,465
19,583 22,343 23,500 16,062 6,488 16,576 12,146 8 44,085
------- ------- ------- ------- ------ ------- ------- ---- -------
4,423 (13,203) 14,765 30,082 9,258 (6,843) 1,959 (8) 265,555
------- ------- ------- ------- ------ ------- ------- ---- -------
92,138 65,520 64,146 154,397 88,868 62,231 32,296 -- 75,787
75,827 60,515 43,398 135,314 91,441 50,909 27,721 -- 61,004
------- ------- ------- ------- ------ ------- ------- ---- -------
16,311 5,005 20,748 19,083 (2,573) 11,322 4,575 -- 14,783
------- ------- ------- ------- ------ ------- ------- ---- -------
109,510 22,294 60,104 45,750 5,718 21,338 15,903 -- 73,872
299,221 236,578 348,773 278,785 7,435 227,251 174,087 (106) 190,569
------- ------- ------- ------- ------ ------- ------- ---- -------
189,711 214,284 288,669 233,035 1,717 205,913 158,184 (106) 116,697
------- ------- ------- ------- ------ ------- ------- ---- -------
206,022 219,289 309,417 252,118 (856) 217,235 162,759 (106) 131,480
------- ------- ------- ------- ------ ------- ------- ---- -------
210,445 206,086 324,182 282,200 8,402 210,392 164,718 (114) 397,035
======= ======= ======= ======= ====== ======= ======= ==== =======
</TABLE>
19
<PAGE>
- --------------------------------------------------------------------------------
THE AUSA ENDEAVOR VARIABLE ANNUITY ACCOUNT
STATEMENTS OF CHANGES IN CONTRACT OWNERS' EQUITY
Years Ended December 31, 1996 and 1995, Except as Noted
<TABLE>
<CAPTION>
TCW
TCW MANAGED T. ROWE PRICE
MONEY ASSET INTERNATIONAL
MARKET ALLOCATION STOCK
TOTAL SUBACCOUNT SUBACCOUNT SUBACCOUNT
---------------------- ------------------ ------------------ ------------------
1996 1995 1996 1995 1996 1995 1996 1995
----------- --------- -------- -------- --------- ------- --------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
OPERATIONS
Net investment income
(loss).................. $ 325,302 127,095 19,314 3,105 4,423 70 (13,203) 2,658
Net realized capital gain
(loss).................. 89,254 31,866 -- -- 16,311 3,066 5,005 (5,399)
Net change in unrealized
appreciation/depreciation
of investments.......... 1,408,104 426,743 -- -- 189,711 126,529 214,284 45,378
----------- --------- -------- -------- --------- ------- --------- -------
Increase (decrease) from
operations.............. 1,822,660 585,704 19,314 3,105 210,445 129,665 206,086 42,637
----------- --------- -------- -------- --------- ------- --------- -------
CONTRACT TRANSACTIONS
Net contract purchase
payments................ 8,945,238 3,101,963 849,831 364,210 451,716 171,807 996,418 414,317
Transfer payments from
(to) other subaccounts
or general account...... 3,698,118 359,061 (403,786) (120,602) 506,790 123,270 843,943 (11,421)
Contract terminations,
withdrawals, and other
deductions.............. (390,272) (116,242) -- -- (68,621) (36,468) (69,872) (27,021)
----------- --------- -------- -------- --------- ------- --------- -------
Increase from contract
transactions............ 12,253,084 3,344,782 446,045 243,608 889,885 258,609 1,770,489 375,875
----------- --------- -------- -------- --------- ------- --------- -------
Net increase in contract
owners' equity.......... 14,075,744 3,930,486 465,359 246,713 1,100,330 388,274 1,976,575 418,512
----------- --------- -------- -------- --------- ------- --------- -------
CONTRACT OWNERS' EQUITY
Beginning of period...... 5,750,473 1,819,987 302,398 55,685 959,141 570,867 797,587 379,075
----------- --------- -------- -------- --------- ------- --------- -------
End of period............ $19,826,217 5,750,473 767,757 302,398 2,059,471 959,141 2,774,162 797,587
=========== ========= ======== ======== ========= ======= ========= =======
</TABLE>
/1/Period from June 16, 1995 (commencement of operations) to December 31, 1995
/2/Period from June 28, 1995 (commencement of operations) to December 31, 1995
/3/Period from April 28, 1995 (commencement of operations) to December 31, 1995
/4/Period from December 13, 1996 (commencement of operations) to December 31,
1996
See accompanying Notes to Financial Statements.
20
<PAGE>
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
DREYFUS DREYFUS U.S. T. ROWE PRICE T. ROWE PRICE
VALUE SMALL CAP GOVERNMENT EQUITY GROWTH OPPORTUNITY
EQUITY VALUE SECURITIES INCOME STOCK VALUE
SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT SUBACCOUNT
- ------------------ ------------------ ---------------- ------------------ ------------------ -----------
1996 1995 1996 1995 1996 1995/1/ 1996 1995/2/ 1996 1995/3/ 1996/4/
- --------- ------- --------- ------- ------- ------- --------- ------- --------- ------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
14,765 (2,984) 30,082 2,286 9,258 (658) (6,843) (702) 1,959 (930) (8)
20,748 12,440 19,083 3,137 (2,573) 802 11,322 2,964 4,575 810 --
288,669 58,248 233,035 45,887 1,717 5,718 205,913 21,338 158,184 15,903 (106)
- --------- ------- --------- ------- ------- ------- --------- ------- --------- ------- -------
324,182 67,704 282,200 51,310 8,402 5,862 210,392 23,600 164,718 15,783 (114)
- --------- ------- --------- ------- ------- ------- --------- ------- --------- ------- -------
1,032,776 452,866 581,260 337,487 336,517 223,574 1,120,024 269,068 890,676 203,721 179,807
598,804 138,439 367,127 (3,930) 111,586 834 458,878 86,340 250,896 38,125 --
(61,807) (2,005) (22,302) (23,639) (21,050) -- (55,759) (1,049) (8,247) (1,017) --
- --------- ------- --------- ------- ------- ------- --------- ------- --------- ------- -------
1,569,773 589,300 926,085 309,918 427,053 224,408 1,523,143 354,359 1,133,325 240,829 179,807
- --------- ------- --------- ------- ------- ------- --------- ------- --------- ------- -------
1,893,955 657,004 1,208,285 361,228 435,455 230,270 1,733,535 377,959 1,298,043 256,612 179,693
- --------- ------- --------- ------- ------- ------- --------- ------- --------- ------- -------
759,507 102,503 646,003 284,775 230,270 -- 377,959 -- 256,612 -- --
- --------- ------- --------- ------- ------- ------- --------- ------- --------- ------- -------
2,653,462 759,507 1,854,288 646,003 665,725 230,270 2,111,494 377,959 1,554,655 256,612 179,693
========= ======= ========= ======= ======= ======= ========= ======= ========= ======= =======
<CAPTION>
GROWTH
SUBACCOUNT
--------------------
1995 1996
--------- ---------
<C> <C>
124,250 265,555
14,046 14,783
107,742 116,697
--------- ---------
246,038 397,035
--------- ---------
664,913 2,506,213
108,006 963,880
(25,043) (82,614)
--------- ---------
747,876 3,387,479
--------- ---------
993,914 3,784,514
--------- ---------
427,082 1,420,996
--------- ---------
1,420,996 5,205,510
========= =========
</TABLE>
21
<PAGE>
- --------------------------------------------------------------------------------
THE AUSA ENDEAVOR VARIABLE ANNUITY ACCOUNT
NOTES TO FINANCIAL STATEMENTS
December 31, 1996
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Organization -- Effective January 1, 1995, AUSA Life Insurance Company, Inc.
assumed the Endeavor Variable Annuity contracts issued by International Life
Investors Insurance Company, another indirect, wholly-owned subsidiary of AEGON
USA, Inc. ("AUSA"). In conjunction with this assumption, The AUSA Endeavor
Variable Annuity Account ("Mutual Fund Account") commenced operations on
January 1, 1995. On that same day, all the assets and liabilities of The ILI
Endeavor Variable Annuity Account were merged into the Mutual Fund Account. The
Mutual Fund Account is a segregated investment account of AUSA Life Insurance
Company, Inc. ("AUSA Life"), an indirect, wholly-owned subsidiary of AUSA, a
holding company. AUSA is an indirect, wholly-owned subsidiary of AEGON nv, a
holding company organized under the laws of The Netherlands.
The Opportunity Value Subaccount commenced operations on December 13, 1996. The
T. Rowe Price Equity Income, the U.S. Government Securities and the T. Rowe
Price Growth Stock subaccounts, as part of the Mutual Fund Account, commenced
operations on June 28, 1995, June 16, 1995, and April 28, 1995. Effective May
1, 1996, the names of the Money Market, Managed Asset Allocation, Quest for
Value Equity, Quest for Value Small Cap and U.S. Government Securities
Portfolios and Subaccounts were changed to TCW Money Market, TCW Managed Asset
Allocation, Value Equity, Value Small Cap and Dreyfus U.S. Government
Securities Portfolios and Subaccounts, respectively. Effective October 29,
1996, the names of the Value Small Cap Portfolio and Subaccount were changed to
Dreyfus Small Cap Value Portfolio and Subaccount, respectively. Effective March
24, 1995, the names of the Global Growth Portfolio and Subaccount were changed
to T. Rowe Price International Stock Portfolio and Subaccount, respectively.
The investment objective of the portfolio was changed from an investment on a
global basis to an investment on an international basis (i.e. non-U.S.
companies). The investment advisor of the Endeavor Series Trust is Endeavor
Investment Advisors, a general partnership between Endeavor Management Co. and
AUSA Financial Markets, Inc., an affiliate of AUSA Life. The investment advisor
for the WRL Series Fund, Inc. is Western Reserve Life Assurance Co. of Ohio, an
affiliate of AUSA Life.
The Mutual Fund Account is registered with the Securities and Exchange
Commission as a Unit Investment Trust pursuant to provisions of the Investment
Company Act of 1940.
Investments -- Net purchase payments received by the Mutual Fund Account are
invested in the portfolios of the Endeavor Series Trust, and the Growth
Portfolio of the WRL Series Fund, Inc. (collectively the "Series Funds"), as
selected by the contract owner. Investments are stated at the closing net asset
values per share on December 31, 1996.
Realized capital gains and losses from sale of shares in the Series Funds are
determined on the first-in, first-out basis. Investment transactions are
accounted for on the trade date (date the order to buy or sell is executed) and
dividend income is recorded on the ex-dividend date. Unrealized gains or losses
from investments in the Series Funds are credited or charged to contract
owners' equity.
Dividend Income -- Dividends received from the Series Funds investments are
reinvested to purchase additional mutual fund shares.
22
<PAGE>
- --------------------------------------------------------------------------------
2. INVESTMENTS
A summary of the mutual fund investment at December 31, 1996 follows:
<TABLE>
<CAPTION>
NUMBER OF NET ASSET VALUE MARKET
SHARES HELD PER SHARE VALUE COST
----------- --------------- ----------- -----------
<S> <C> <C> <C> <C>
Endeavor Series Trust
TCW Money Market Portfo-
lio...................... 767,863.040 $ 1.00 $ 767,863 $ 767,863
TCW Managed Asset Alloca-
tion Portfolio........... 109,323.685 18.84 2,059,658 1,760,437
T. Rowe Price Interna-
tional Stock Portfolio... 198,875.152 13.95 2,774,308 2,537,730
Value Equity Portfolio.... 154,195.969 17.21 2,653,713 2,304,940
Dreyfus Small Cap Value
Portfolio................ 126,139.028 14.70 1,854,244 1,575,459
Dreyfus U.S. Government
Securities Portfolio..... 59,281.758 11.23 665,734 658,299
T. Rowe Price Equity In-
come Portfolio........... 136,316.691 15.49 2,111,546 1,884,295
T. Rowe Price Growth Stock
Portfolio................ 95,437.886 16.29 1,554,683 1,380,596
Opportunity Value Portfo-
lio...................... 17,862.080 10.06 179,692 179,798
WRL Series Fund, Inc.
Growth Portfolio.......... 148,733.752 35.001280 5,205,872 5,015,303
----------- -----------
$19,827,313 $18,064,720
=========== ===========
</TABLE>
3. CONTRACT OWNERS' EQUITY
A summary of deferred annuity contracts terminable by owners at December 31,
1996 follows:
<TABLE>
<CAPTION>
ACCUMULATION ACCUMULATION TOTAL
SUBACCOUNT UNITS OWNED UNIT VALUE CONTRACT VALUE
- ---------- ------------- ------------ --------------
<S> <C> <C> <C>
TCW Money Market..................... 665,174.123 $ 1.154219 $ 767,757
TCW Managed Asset Allocation......... 1,123,469.170 1.833135 2,059,471
T. Rowe Price International Stock.... 2,084,832.841 1.330640 2,774,162
Value Equity......................... 1,565,599.143 1.694854 2,653,462
Dreyfus Small Cap Value.............. 1,239,443.264 1.496065 1,854,288
Dreyfus U.S. Government Securities... 589,779.900 1.128769 665,725
T. Rowe Price Equity Income.......... 1,387,607.312 1.521680 2,111,494
T. Rowe Price Growth Stock........... 964,658.085 1.611613 1,554,655
Opportunity Value.................... 178,913.412 1.004355 179,693
Growth............................... 306,855.075 16.964068 5,205,510
-----------
$19,826,217
===========
</TABLE>
A summary of changes in contract owners' account units follows:
<TABLE>
<CAPTION>
TCW T. ROWE DREYFUS T. ROWE T. ROWE
TCW MANAGED PRICE DREYFUS U.S. PRICE PRICE
MONEY ASSET INT'L. VALUE SMALL CAP GOV'T. EQUITY GROWTH OPPORTUNITY
MARKET ALLOCATION STOCK EQUITY VALUE SECURITIES INCOME STOCK VALUE GROWTH
SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT.
-------- ---------- --------- --------- --------- ---------- --------- -------- ----------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Units outstanding
at 1/1/95....... 51,924 438,566 352,970 98,032 265,416 -- -- -- -- 42,491
Units purchased.. 329,022 110,905 362,256 344,140 292,146 204,064 223,477 160,519 -- 48,457
Units redeemed
and
transferred..... (109,911) 58,398 (34,132) 105,062 (22,279) 750 70,143 29,095 -- 6,488
-------- --------- --------- --------- --------- ------- --------- ------- ------- -------
Units outstanding
at 12/31/95..... 271,035 607,869 681,094 547,234 535,283 204,814 293,620 189,614 -- 97,436
Units purchased.. 750,980 264,897 798,316 680,695 445,979 305,474 810,397 615,741 178,913 156,541
Units redeemed
and
transferred..... (356,841) 250,703 605,423 337,670 258,181 79,492 283,590 159,303 -- 52,878
-------- --------- --------- --------- --------- ------- --------- ------- ------- -------
Units outstanding
at 12/31/96..... 665,174 1,123,469 2,084,833 1,565,599 1,239,443 589,780 1,387,607 964,658 178,913 306,855
======== ========= ========= ========= ========= ======= ========= ======= ======= =======
</TABLE>
23
<PAGE>
- --------------------------------------------------------------------------------
4. TAXES
Operations of the Mutual Fund Account form a part of AUSA Life, which is taxed
as a life insurance company under Subchapter L of the Internal Revenue Code of
1986, as amended (the Code). The operations of the Mutual Fund Account are
accounted for separately from other operations of AUSA Life for purposes of
federal income taxation. The Mutual Fund Account is not separately taxable as a
regulated investment company under Subchapter M of the Code and is not
otherwise taxable as an entity separate from AUSA Life. Under existing federal
income tax laws, the income of the Mutual Fund Account, to the extent applied
to increase reserves under the variable annuity contracts, is not taxable to
AUSA Life.
5. ADMINISTRATIVE, MORTALITY AND EXPENSE RISK CHARGE
Administrative charges include an annual charge of the lesser of 2% of the
policy value or $35 per contract which will commence on the first policy
anniversary of each contract owner's account. For policies issued on or after
May 1, 1995, the fee is waived if the sum of the premium payments made less the
sum of all partial withdrawals is at least $50,000 on the policy anniversary.
Charges for administrative fees to the variable annuity contracts are an
expense of the Mutual Fund Account.
AUSA Life deducts a daily charge equal to an annual rate of 1.25% of the value
of the contract owners' account as a charge for assuming certain mortality and
expense risks. AUSA Life also deducts a daily charge equal to an annual rate of
.15% of the contract owners' account for administrative expenses.
6. NET ASSETS
At December 31, 1996 contract owners' equity was comprised of:
<TABLE>
<CAPTION>
TCW T. ROWE DREYFUS DREYFUS T. ROWE T. ROWE
TCW MANAGED PRICE SMALL U.S. PRICE PRICE
MONEY ASSET INT'L. VALUE CAP GOV'T. EQUITY GROWTH
MARKET ALLOCATION STOCK EQUITY VALUE SECURITIES INCOME STOCK
TOTAL SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT. SUBACCT.
----------- -------- ---------- --------- --------- --------- ---------- --------- ---------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Unit transac-
tions, accumu-
lated net in-
vestment income
and realized
capital gains.. $18,063,624 767,757 1,760,250 2,537,584 2,304,689 1,575,503 658,290 1,884,243 1,380,568
Adjustment for
appreciation/depreciation
to market
value.......... 1,762,593 -- 299,221 236,578 348,773 278,785 7,435 227,251 174,087
----------- ------- --------- --------- --------- --------- ------- --------- ---------
Total Contract
Owners'
Equity......... $19,826,217 767,757 2,059,471 2,774,162 2,653,462 1,854,288 665,725 2,111,494 1,554,655
=========== ======= ========= ========= ========= ========= ======= ========= =========
<CAPTION>
OPPORTUNITY
VALUE GROWTH
SUBACCT. SUBACCT.
----------- ---------
<S> <C> <C>
Unit transac-
tions, accumu-
lated net in-
vestment income
and realized
capital gains.. 179,799 5,014,941
Adjustment for
appreciation/depreciation
to market
value.......... (106) 190,569
----------- ---------
Total Contract
Owners'
Equity......... 179,693 5,205,510
=========== =========
</TABLE>
7. PURCHASES AND SALES OF INVESTMENT SECURITIES
The aggregate cost of purchases and proceeds from sales of investments were as
follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31 OR
COMMENCEMENT OF OPERATIONS TO
DECEMBER 31
---------------------------------------
1996 1995
--------------------- -----------------
PURCHASES SALES PURCHASES SALES
----------- --------- --------- -------
<S> <C> <C> <C> <C>
Endeavor Series Trust
TCW Money Market Portfolio............ $ 880,105 414,686 396,123 149,327
TCW Managed Asset Allocation
Portfolio............................ 986,607 92,138 380,622 123,035
T. Rowe Price International Stock
Portfolio............................ 1,822,939 65,520 482,406 104,421
Value Equity Portfolio................ 1,648,916 64,146 639,975 53,908
Dreyfus Small Cap Value Portfolio..... 1,110,497 154,397 436,139 124,482
Dreyfus U.S. Government Securities
Portfolio............................ 525,184 88,868 274,251 50,497
T. Rowe Price Equity Income
Portfolio............................ 1,578,572 62,231 406,641 52,973
T. Rowe Price Growth Stock Portfolio.. 1,167,599 32,296 245,760 5,852
Opportunity Value Portfolio........... 179,798 -- -- --
WRL Series Fund, Inc.
Growth Portfolio...................... 3,729,079 75,787 970,989 100,431
----------- --------- --------- -------
$13,629,296 1,050,069 4,232,906 764,926
=========== ========= ========= =======
</TABLE>
24
<PAGE>
[LETTERHEAD OF ERNST & YOUNG LLP]
Report of Independent Auditors
The Board of Directors
AUSA Life Insurance Company, Inc.
We have audited the accompanying statutory-basis balance sheets of AUSA Life
Insurance Company, Inc. as of December 31, 1996 and 1995, and the related
statutory-basis statements of operations, changes in capital and surplus, and
cash flows for each of the three years in the period ended December 31, 1996.
Our audits also included the accompanying statutory-basis financial statement
schedules pursuant to Article 7 of Regulation S-X. These financial statements
and schedules are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements and
schedules based on our audits.
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. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
As described in Note 1 to the financial statements, the Company presents its
financial statements in conformity with accounting practices prescribed or
permitted by the Department of Insurance of the State of New York, which
practices differ from generally accepted accounting principles. The variances
between such practices and generally accepted accounting principles also are
described in Note 1. The effects on the financial statements of these variances
are not reasonably determinable but are presumed to be material.
In our opinion, because of the effects of the matters described in the preceding
paragraph, the financial statements referred to above do not present fairly, in
conformity with generally accepted accounting principles, the financial position
of AUSA Life Insurance Company, Inc. at December 31, 1996 and 1995, or the
results of its operations or its cash flows for each of the three years in the
period ended December 31, 1996.
25
<PAGE>
Also, in our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of AUSA Life Insurance Company,
Inc. at December 31, 1996 and 1995, and the results of its operations and its
cash flows for each of the three years in the period ended December 31, 1996 in
conformity with accounting practices prescribed or permitted by the Department
of Insurance of the State of New York. Also, in our opinion, the related
financial statement schedules, when considered in relation to the basic
statutory-basis financial statements taken as a whole, present fairly in all
material respects the information set forth therein.
/s/ Ernst & Young LLP
Des Moines, Iowa
February 21, 1997
26
<PAGE>
AUSA Life Insurance Company, Inc.
Balance Sheets - Statutory Basis
(Dollars in thousands, except per share data)
<TABLE>
<CAPTION>
DECEMBER 31
1996 1995
------------------------------
(RESTATED)
<S> <C> <C>
ADMITTED ASSETS
Cash and invested assets:
Cash and short-term investments $ 25,391 $ 111,533
Bonds 3,495,667 3,198,777
Stocks:
Preferred 125 426
Common, at market (cost: $13 in 1996 and $4,212 in 1995) 18 4,407
Mortgage loans on real estate 618,633 768,424
Real estate acquired in satisfaction of debt, at cost less
accumulated depreciation ($1,087 in 1996 and $404 in 1995) 58,100 29,333
Policy loans 755 759
Other invested assets 3,393 722
------------------------------
Total cash and invested assets 4,202,082 4,114,381
Premiums deferred and uncollected 3,257 3,365
Accrued investment income 62,258 63,062
Federal income taxes recoverable 416 1,195
Receivable from affiliates - 1,932
Other assets 5,177 8,432
Separate account assets 4,755,131 4,249,345
------------------------------
Total admitted assets $9,028,321 $8,441,712
==============================
</TABLE>
See accompanying notes.
27
<PAGE>
<TABLE>
<CAPTION>
DECEMBER 31
1996 1995
--------------------------------
(RESTATED)
<S> <C> <C>
LIABILITIES AND CAPITAL AND SURPLUS
Liabilities:
Aggregate reserves for policies and contracts:
Life $ 19,716 $ 18,159
Annuity 768,212 709,122
Accident and health 10,180 10,851
Policy and contract claim reserves:
Life 3,826 3,716
Accident and health 11,160 13,515
Other policyholders' funds 3,088,016 2,993,918
Remittances and items not allocated 16,252 28,560
Asset valuation reserve 44,849 38,958
Interest maintenance reserve 5,494 2,913
Payable to affiliates 8,074 4,028
Short-term note payable to affiliate 600 19,800
Deferred income 18,023 19,182
Payable under assumption reinsurance agreement 67,217 73,546
Other liabilities 10,748 23,662
Separate account liabilities 4,721,974 4,230,472
--------------------------------
Total liabilities 8,794,341 8,190,402
Commitments and contingencies
Capital and surplus:
Common stock, $125 par value, 20 shares authorized,
issued and outstanding 2,500 2,500
Paid-in surplus 306,694 306,694
Unassigned surplus (deficit) (75,214) (57,884)
--------------------------------
Total capital and surplus 233,980 251,310
--------------------------------
Total liabilities and capital and surplus $9,028,321 $8,441,712
================================
</TABLE>
See accompanying notes.
28
<PAGE>
AUSA Life Insurance Company, Inc.
Statements of Operations - Statutory Basis
(Dollars in thousands)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
1996 1995 1994
----------------------------------------
(RESTATED) (RESTATED)
<S> <C> <C> <C>
Revenues:
Premiums and other considerations, net of reinsurance:
Life $ 9,344 $ 9,066 $ 9,048
Annuity 1,060,655 1,144,423 656,806
Accident and health 47,695 53,346 45,411
Net investment income 323,828 318,004 292,007
Amortization of interest maintenance reserve 1,903 1,931 208
Commissions and expense allowances on reinsurance ceded 11,280 8,826 11,961
----------------------------------------
1,454,705 1,535,596 1,015,441
Benefits and expenses:
Benefits paid or provided for:
Life and accident and health benefits 39,921 40,719 37,852
Surrender benefits 852,745 815,882 488,243
Other benefits 9,778 7,804 5,068
Increase (decrease) in aggregate reserves for policies
and contracts:
Life 1,557 1,570 433
Annuity 59,090 127,403 212,984
Accident and health (671) 775 606
Other 609 609 270
Increase in liability for premium and other deposit
type funds 93,893 229,485 34,294
----------------------------------------
1,056,922 1,224,247 779,750
Insurance expenses:
Commissions 87,861 95,900 110,731
General insurance expenses 79,310 69,933 68,136
Taxes, licenses and fees 2,643 1,638 1,399
Transfers to separate accounts 227,802 139,912 64,922
Other expenses 479 (37) (6)
----------------------------------------
398,095 307,346 245,122
----------------------------------------
1,455,017 1,531,593 1,024,872
----------------------------------------
Gain (loss) from operations before federal income taxes
and net realized capital losses on investments (312) 4,003 (9,431)
Federal income tax expense 1,305 5,588 1,293
----------------------------------------
Loss from operations before net realized capital losses on
investments (1,617) (1,585) (10,724)
Net realized capital losses on investments (net of related federal
income taxes and amounts transferred to interest maintenance reserve) (12,097) (3,464) (957)
----------------------------------------
Net loss $ (13,714) $ (5,049) $ (11,681)
========================================
</TABLE>
See accompanying notes.
29
<PAGE>
AUSA Life Insurance Company, Inc.
Statements of Changes in Capital and Surplus - Statutory Basis
(Dollars in thousands)
<TABLE>
<CAPTION>
UNASSIGNED TOTAL
COMMON PAID-IN SURPLUS CAPITAL AND
STOCK SURPLUS (DEFICIT) SURPLUS
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Balance at January 1, 1994 (restated) $2,500 $246,894 $(16,772) $232,622
Capital contribution - 18,800 - 18,800
Net loss for 1994 - - (11,681) (11,681)
Net unrealized capital losses - - (123) (123)
Increase in non-admitted assets - - (920) (920)
Increase in asset valuation reserve - - (14,168) (14,168)
Seed money contributed to separate
account, net of redemptions - - (15,000) (15,000)
Decrease in liability for reinsurance
in unauthorized companies - - 2 2
Increase in surplus in separate account - - 15,698 15,698
Change in reserve valuation methodology - - (80) (80)
-------------------------------------------------------------------------------
Balance at December 31, 1994 (restated) 2,500 265,694 (43,044) 225,150
Capital contribution - 41,000 - 41,000
Net loss for 1995 - - (5,049) (5,049)
Net unrealized capital losses - - (501) (501)
Increase in non-admitted assets - - (920) (920)
Increase in asset valuation reserve - - (10,370) (10,370)
Surplus effect of reinsurance - - (70) (70)
Seed money contributed to separate
account, net of redemptions - - (1,000) (1,000)
Increase in liability for reinsurance
in unauthorized companies - - (51) (51)
Increase in surplus in separate account - - 3,121 3,121
-------------------------------------------------------------------------------
Balance at December 31, 1995 (restated) 2,500 306,694 (57,884) 251,310
Net loss for 1996 - - (13,714) (13,714)
Net unrealized capital losses - - (486) (486)
Decrease in non-admitted assets - - 520 520
Increase in liability for reinsurance
in unauthorized companies - - (42) (42)
Increase in asset valuation reserve - - (5,891) (5,891)
Seed money contributed to separate
account, net of redemptions - - (12,500) (12,500)
Increase in surplus in separate account - - 14,783 14,783
-------------------------------------------------------------------------------
Balance at December 31, 1996 $2,500 $306,694 $(75,214) $233,980
===============================================================================
</TABLE>
See accompanying notes.
30
<PAGE>
AUSA Life Insurance Company, Inc.
Statements of Cash Flows - Statutory Basis
(Dollars in thousands)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
1996 1995 1994
--------------------------------------------
(RESTATED) (RESTATED)
<S> <C> <C> <C>
SOURCES OF CASH
Premiums and other considerations, net of reinsurance $1,128,792 $1,215,941 $ 724,388
Net investment income 329,948 316,494 282,678
--------------------------------------------
1,458,740 1,532,435 1,007,066
Life and accident and health claims (42,143) (39,194) (35,132)
Surrender benefits and other fund withdrawals (852,745) (815,882) (488,243)
Other benefits to policyholders (9,776) (7,789) (5,051)
Commissions, other expenses and other taxes (187,930) (183,810) (111,031)
Net transfers to separate accounts (229,556) (139,912) (64,922)
Federal income taxes, excluding tax on capital gains (526) (6,299) (1,039)
--------------------------------------------
Net cash provided by operations 136,064 339,549 301,648
Proceeds from investments sold, matured or repaid:
Bonds 703,936 529,363 525,148
Common stocks 5,288 2,957 6,559
Mortgage loans 165,460 138,243 189,421
Net decrease in policy loans 4 - -
Real estate - 4,953 32
--------------------------------------------
Total cash from investments 874,688 675,516 721,160
Capital contribution - 41,000 18,800
Issuance of intercompany notes payable, net - 14,600 5,200
Other sources 9,071 29,930 34,370
--------------------------------------------
Total sources of cash 1,019,823 1,100,595 1,081,178
APPLICATIONS OF CASH
Cost of investments acquired:
Bonds 1,016,678 1,018,097 1,375,143
Common stocks 589 5,174 6,481
Mortgage loans 42,118 54,140 1,544
Net increase in policy loans - 40 101
Real estate 521 - -
Issuance of intercompany notes receivable, net 19,200 - -
Other invested assets 2,881 747 48
--------------------------------------------
Total investments acquired 1,081,987 1,078,198 1,383,317
Other applications 23,978 23,043 3,854
--------------------------------------------
Total applications of cash 1,105,965 1,101,241 1,387,171
--------------------------------------------
Net change in cash and short-term investments (86,142) (646) (305,993)
Cash and short-term investments at beginning of year 111,533 112,179 418,172
--------------------------------------------
Cash and short-term investments at end of year $ 25,391 $ 111,533 $ 112,179
============================================
</TABLE>
See accompanying notes.
31
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis
(Dollars in thousands)
December 31, 1996
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
AUSA Life Insurance Company, Inc. ("the Company") is a stock life insurance
company and is a wholly-owned subsidiary of First AUSA Life Insurance Company
("First AUSA") which, in turn, is a wholly-owned subsidiary of AEGON USA
("AEGON"). AEGON is a wholly-owned subsidiary of AEGON nv, a holding company
organized under the laws of The Netherlands. On December 31, 1993, the Company
entered into an assumption reinsurance agreement with Mutual of New York
("MONY") to transfer certain group pension business of MONY to the Company.
In July 1996, the Company completed a merger with International Life Investors
Insurance Company ("ILI"), a wholly-owned subsidiary of Life Investors Insurance
Company of America, another wholly-owned subsidiary of First AUSA, whereby ILI
was merged directly into the Company. The Company received assets of $688,233
and liabilities of $635,189. The difference between assets and liabilities was
transferred directly to capital and surplus. In accordance with National
Association of Insurance Commissioners ("NAIC") statutory accounting principles,
all prior period financial statements presented have been restated as if the
merger took place at the beginning of such periods. Historical book values
carried over from the separate companies to the combined entity. Separate
results of operations for the periods prior to the merger with ILI are as
follows:
<TABLE>
<CAPTION>
JUNE 30, 1996 DECEMBER 31
(UNAUDITED) 1995 1994
-------------------------------------------
<S> <C> <C> <C>
Revenues:
The Company $730,485 $1,386,871 $ 692,957
ILI 59,947 148,725 322,484
-------------------------------------------
Combined $790,432 $1,535,596 $1,015,441
===========================================
Net income (loss):
The Company $ (4,448) $ (14,745) $ (11,522)
ILI 3,714 9,696 (159)
Combined $ (734) $ (5,049) $ (11,681)
===========================================
Capital and surplus:
The Company $194,144 $ 202,639 $ 183,830
ILI 53,044 48,671 41,320
Combined $247,188 $ 251,310 $ 225,150
===========================================
</TABLE>
32
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
NATURE OF BUSINESS
The Company primarily sells group fixed and variable annuities. The Company is
licensed in 48 states and the District of Columbia and is actively in the
process of becoming licensed in all 50 states. Sales of the Company's products
are primarily through brokers.
BASIS OF PRESENTATION
The preparation of financial statements of insurance companies requires
management to make estimates and assumptions that affect amounts reported in the
financial statements and accompanying notes. Actual results could differ from
those estimates.
Significant estimates and assumptions are utilized in the calculation of
aggregate policy reserves, policy and contract reserves, guarantee fund
assessment accruals and valuation allowances on investments. It is reasonably
possible that actual experience could differ from the estimates and assumptions
utilized which could have a material impact on the financial statements.
The accompanying financial statements have been prepared on the basis of
accounting practices prescribed or permitted by the Department of Insurance of
the State of New York, which practices differ in some respects from generally
accepted accounting principles. The more significant of these differences are
as follows: (a) bonds are generally reported at amortized cost rather than
segregating the portfolio into held-to-maturity (reported at amortized cost),
available-for-sale (reported at fair value), and trading (reported at fair
value) classifications; (b) acquisition costs of acquiring new business are
charged to current operations as incurred rather than deferred and amortized
over the life of the policies; (c) policy reserves on traditional life products
are based on statutory mortality rates and interest which may differ from
reserves based on reasonable assumptions of expected mortality, interest, and
withdrawals which include a provision for possible unfavorable deviation from
such assumptions; (d) policy reserves on certain investment products use
discounting methodologies utilizing statutory interest rates rather than full
account values; (e) reinsurance amounts are netted against the corresponding
asset or liability rather than shown as gross amounts on the balance sheet; (f)
deferred income taxes are not provided for the difference between the financial
statement and income tax bases of assets and liabilities; (g) net realized gains
or losses attributed to changes in the level of interest rates in the market are
deferred and amortized over the remaining life of the bond or mortgage loan,
rather than recognized as gains or losses in the statement of operations when
the sale is completed; (h) declines in the estimated realizable value of
investments are provided for through the establishment of a formula-determined
statutory investment reserve (carried as a liability), changes to which are
33
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
charged directly to surplus, rather than through recognition in the statement of
operations for declines in value, when such declines are judged to be other than
temporary; (i) certain assets designated as "non-admitted assets" have been
charged to surplus rather than being reported as assets; (j) revenues for
universal life and investment products consist of premiums received rather than
policy charges for the cost of insurance, policy administration charges,
amortization of policy initiation fees and surrender charges assessed; (k)
pension expense is recorded as amounts are paid; (l) adjustments to federal
income taxes of prior years are charged or credited directly to unassigned
surplus, rather than reported as a component of expense in the statement of
operations; and (m) gains or losses on dispositions of business are charged or
credited directly to unassigned surplus rather than being reported in the
statement of operations. The effects of these variances have not been
determined by the Company.
The National Association of Insurance Commissioners (NAIC) currently is in the
process of recodifying statutory accounting practices, the result of which is
expected to constitute the only source of "prescribed" statutory accounting
practices. Accordingly, that project, which is expected to be completed in
1997, will likely change, to some extent, prescribed statutory accounting
practices and may result in changes to the accounting practices that the Company
uses to prepare its statutory-basis financial statements.
CASH AND CASH EQUIVALENTS
For purposes of the statement of cash flows, the Company considers all highly
liquid investments with remaining maturity of one year or less when purchased to
be cash equivalents.
INVESTMENTS
Investments in bonds (except those to which the Securities Valuation Office of
the NAIC has ascribed a value), mortgage loans on real estate and short-term
investments are reported at cost adjusted for amortization of premiums and
accrual of discounts. Amortized costs for bonds and mortgage loans on real
estate that were acquired through the reinsurance agreement, described earlier,
were initially recorded at market value, consistent with the aforementioned
agreement and as prescribed by the Department of Insurance of the State of New
York. Amortization is computed using methods which result in a level yield over
the expected life of the security. The Company reviews its prepayment
assumptions on mortgage and other asset backed securities at regular intervals
and adjusts amortization rates retrospectively when such assumptions are changed
due to experience and/or expected future patterns. Investments in preferred
stocks in good standing are reported at cost. Investments in preferred stocks
not in good standing are reported at the lower of cost or market. Common
stocks, which may include
34
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
shares of mutual funds (money market and other), are carried at market. Real
estate is reported at cost less allowances for depreciation. Depreciation is
computed principally by the straight-line method. Policy loans are reported at
unpaid principal. Other invested assets consist principally of investments in
various joint ventures and are recorded at equity in underlying net assets.
Other "admitted assets" are valued, principally at cost, as required or
permitted by New York Insurance Laws.
Realized capital gains and losses are determined on the basis of specific
identification and are recorded net of related federal income taxes. The Asset
Valuation Reserve (AVR) is established by the Company to provide for anticipated
losses in the event of default by issuers of certain invested assets. These
amounts are determined using a formula prescribed by the NAIC and are reported
as a liability. The formula for the AVR provides for a corresponding adjustment
for realized gains and losses, net of amounts attributed to changes in the
general level of interest rates. Under a formula prescribed by the NAIC, the
Company defers, in the Interest Maintenance Reserve (IMR), the portion of
realized gains and losses on sales of fixed income investments, principally
bonds and mortgage loans, attributable to changes in the general level of
interest rates and amortizes those deferrals over the remaining period to
maturity of the security.
Interest income is recognized on an accrual basis. The Company does not accrue
income on bonds in default, mortgage loans on real estate in default and/or
foreclosure or which are delinquent more than twelve months, or real estate
where rent is in arrears for more than three months. Further, income is not
accrued when collection is uncertain. At December 31, 1996, 1995 and 1994, the
Company excluded investment income due and accrued of $469, $216 and $1,092,
respectively, with respect to such practices.
MONY entered into foreign exchange interest rate swap agreements to modify the
interest characteristics of certain of its outstanding fixed maturity securities
from a fixed rate in a foreign currency to a fixed rate in U. S. Dollars prior
to the reinsurance assumption agreement. These agreements were assigned to the
Company in connection with the reinsurance assumption agreement. The interest
rate swap agreements involve the exchange of a fixed rate in a foreign currency
for fixed rate interest payments in U. S. Dollars over the life of the agreement
without an exchange of the underlying principal amount of $32,500 at December
31, 1996, 1995 and 1994. The differential to be paid or received is accrued as
incurred and recognized as an adjustment to interest related to the underlying
fixed maturity. The related amount payable to or receivable from counterparties
is included in other liabilities or assets. The fair values of the swap
agreements are not recognized in the financial statements.
35
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
The Company entered into an interest rate swap agreement to modify the interest
characteristics of certain outstanding fixed maturity securities from a fixed
rate to a variable rate. The agreement involved the exchange of a fixed rate
for a variable rate interest payment over the life of the agreement without an
exchange of the underlying principal amount of $4,000 at December 31, 1996, 1995
and 1994. The differential to be paid or received is accrued as interest rates
change and recognized as an adjustment to interest related to the underlying
fixed maturity. The related amount payable to or receivable from counterparts
is included in other liabilities or assets. The fair values of the swap
agreements are not recognized in the financial statements.
Deferred income for unrealized gains and losses on the securities valued at
market at the time of the assumption reinsurance agreement (described in Note 4)
are returned to MONY at the time of realization pursuant to the agreement.
AGGREGATE POLICY RESERVES
Life, annuity and accident and health benefit reserves are developed by
actuarial methods and are determined based on published tables using statutorily
specified interest rates and valuation methods that will provide, in the
aggregate, reserves that are greater than or equal to the minimum required by
law.
The aggregate policy reserves for life insurance policies are based principally
upon the 1941, 1958 and 1980 Commissioners' Standard Ordinary Mortality and
American Experience Mortality Tables. The reserves are calculated using
interest rates ranging from 2.50 to 6.50 percent and are computed principally on
the Net Level Premium Valuation and the Commissioners' Reserve Valuation
Methods.
Deferred annuity reserves are calculated according to the Commissioners' Annuity
Reserve Valuation Method including excess interest reserves to cover situations
where the future interest guarantees plus the decrease in surrender charges are
in excess of the maximum valuation rates of interest. Reserves for immediate
annuities and supplementary contracts with and without life contingencies are
equal to the present value of future payments assuming interest rates ranging
from 3.00 to 8.25 percent and mortality rates, where appropriate, from a variety
of tables.
Accident and health policy reserves are equal to the greater of the gross
unearned premiums or any required midterminal reserves plus net unearned
premiums and the present value of amounts not yet due on both reported and
unreported claims.
36
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
POLICY AND CONTRACT CLAIM RESERVES
Claim reserves represent the estimated accrued liability for claims reported to
the Company and claims incurred but not yet reported through the statement date.
These reserves are estimated using either individual case-basis valuations or
statistical analysis techniques. These estimates are subject to the effects of
trends in claim severity and frequency. The estimates are continually reviewed
and adjusted as necessary as experience develops or new information becomes
available.
SEPARATE ACCOUNT
Assets held in trust for purchases of separate account contracts and the
Company's corresponding obligation to the contract owners are shown separately
in the balance sheets. Income and gains and losses with respect to these assets
accrue to the benefit of the policyholders. The Company received nonguaranteed
separate account premiums of $716,524, $536,128 and $182,465 in 1996, 1995 and
1994, respectively. The assets in the separate accounts for the variable
annuities and participating annuities are held at a market value of $4,141,566,
$3,650,091 and $2,399,949 for the years ended December 31, 1996, 1995 and 1994,
respectively. The separate account assets in the fixed government accounts and
stable fund accounts are carried at an amortized cost of $613,565, $599,254 and
$509,549 for the years ended December 31, 1996, 1995 and 1994, respectively.
RECLASSIFICATIONS
Certain reclassifications have been made to the 1995 and 1994 financial
statements to conform to the 1996 presentation.
2. FAIR VALUES OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards (SFAS) No. 107, Disclosures about
Fair Value of Financial Instruments, requires disclosure of fair value
information about financial instruments, whether or not recognized in the
statutory-basis balance sheet, for which it is practicable to estimate that
value. SFAS No. 119, Disclosures About Derivative Financial Instruments and
Fair Value of Financial Instruments, requires additional disclosures about
derivatives. In cases where quoted market prices are not available, fair values
are based on estimates using present value or other valuation techniques. Those
techniques are significantly affected by the assumptions used, including the
discount rate and estimates of future cash flows. In that regard, the derived
fair value estimates cannot be substantiated by comparisons to independent
markets and, in many cases, could not be realized in immediate settlement of the
instrument. SFAS
37
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
2. FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED)
No. 107 and No. 119 exclude certain financial instruments and all nonfinancial
instruments from their disclosure requirements and allow companies to forego the
disclosures when those estimates can only be made at excessive cost.
Accordingly, the aggregate fair value amounts presented do not represent the
underlying value of the Company.
The following methods and assumptions were used by the Company in estimating its
fair value disclosures for financial instruments:
Cash and short-term investments: The carrying amounts reported in the
statutory-basis balance sheet for these instruments approximate their fair
values.
Investment securities: Fair values for fixed maturity securities
(including redeemable preferred stocks) are based on quoted market prices,
where available. For fixed maturity securities not actively traded, fair
values are estimated using values obtained from independent pricing
services or, in the case of private placements, are estimated by
discounting expected future cash flows using a current market rate
applicable to the yield, credit quality, and maturity of the investments.
The fair values for equity securities are based on quoted market prices.
Mortgage loans and policy loans: The fair values for mortgage loans are
estimated utilizing discounted cash flow analyses, using interest rates
reflective of current market conditions and the risk characteristics of the
loans. The fair value of policy loans are assumed to equal their carrying
value.
Investment contracts: Fair values for the Company's liabilities under
investment-type insurance contracts are estimated using discounted cash
flow calculations, based on interest rates currently being offered for
similar contracts with maturities consistent with those remaining for the
contracts being valued.
Interest rate swap: Estimated fair value of the interest rate swaps are
based upon the pricing differential for similar swap agreements. The fair
value of the interest rate swaps has been included with the fair value of
the underlying fixed maturities.
Fair values for the Company's insurance contracts other than investment
contracts are not required to be disclosed. However, the fair values of
liabilities under all insurance contracts are taken into consideration in the
Company's overall management of interest rate risk, which minimizes exposure to
changing interest rates through the matching of investment maturities with
amounts due under insurance contracts.
38
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
2. FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED)
The following sets forth a comparison of the fair values and carrying values of
the Company's financial instruments subject to the provisions of Statement of
Financial Accounting Standards No. 107 and No. 119:
<TABLE>
<CAPTION>
DECEMBER 31
1996 1995
----------------------------- ---------------------------
CARRYING CARRYING
VALUE FAIR VALUE VALUE FAIR VALUE
----------------------------- ---------------------------
<S> <C> <C> <C> <C>
ADMITTED ASSETS
Bonds $3,495,667 $3,530,250 $3,198,777 $3,314,015
Preferred stocks 125 120 426 366
Common stock 18 18 4,407 4,407
Mortgage loans on real estate 618,633 619,479 768,424 806,395
Policy loans 755 755 759 759
Cash and short-term investments 25,391 25,391 111,533 111,533
Separate account assets 4,755,131 4,754,781 4,249,345 4,261,843
LIABILITIES
Investment contract liabilities 3,855,787 3,731,340 3,701,584 3,663,253
Separate account annuities 4,707,568 4,677,289 4,237,983 4,219,281
</TABLE>
3. INVESTMENTS
The carrying value and estimated market value of investments in debt securities
were as follows:
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
CARRYING UNREALIZED UNREALIZED FAIR
VALUE GAINS LOSSES VALUE
------------------------------------------------------------------------
<S> <C> <C> <C> <C>
DECEMBER 31, 1996
Bonds:
United States Government and agencies $ 122,355 $ 1,170 $ 1,086 $ 122,439
State, municipal and other government 25,027 519 36 25,510
Public utilities 229,732 2,086 2,977 228,841
Industrial and miscellaneous 2,031,086 33,621 14,895 2,049,812
Mortgage-backed securities 1,087,467 22,579 6,398 1,103,648
------------------------------------------------------------------------
3,495,667 59,975 25,392 3,530,250
Preferred stocks 125 5 10 120
------------------------------------------------------------------------
$3,495,792 $59,980 $25,402 $3,530,370
========================================================================
</TABLE>
39
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
3. INVESTMENTS (CONTINUED)
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
CARRYING UNREALIZED UNREALIZED FAIR
VALUE GAINS GAINS VALUE
----------------------------------------------------------------------
<S> <C> <C> <C> <C>
DECEMBER 31, 1995
Bonds:
United States Government and agencies $ 101,736 $ 2,141 $ 21 $ 103,856
State, municipal and other government 29,522 1,337 16 30,843
Public utilities 203,495 4,863 499 207,859
Industrial and miscellaneous 1,859,496 71,268 8,672 1,922,092
Mortgage-backed securities 1,004,528 47,612 2,775 1,049,365
----------------------------------------------------------------------
3,198,777 127,221 11,983 3,314,015
Preferred stocks 426 - 60 366
----------------------------------------------------------------------
$3,199,203 $127,221 $12,043 $3,314,381
======================================================================
</TABLE>
The carrying value and estimated market value of bonds at December 31, 1996, by
contractual maturity, are shown below. Expected maturities may differ from
contractual maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties.
<TABLE>
<CAPTION>
CARRYING ESTIMATED
VALUE FAIR VALUE
-----------------------------
<S> <C> <C>
Due in one year or less $ 136,961 $ 137,460
Due after one year through five years 1,188,865 1,198,864
Due after five years through ten years 892,453 902,918
Due after ten years 189,921 187,360
-----------------------------
2,408,200 2,426,602
Mortgage-backed securities 1,087,467 1,103,648
-----------------------------
$3,495,667 $3,530,250
=============================
</TABLE>
40
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
3. INVESTMENTS (CONTINUED)
A detail of net investment income is presented below:
<TABLE>
<CAPTION>
DECEMBER 31
1996 1995 1994
--------------------------------
<S> <C> <C> <C>
Interest on bonds and notes $251,923 $231,206 $184,048
Mortgage loans 83,511 98,653 117,859
Real estate 7,225 2,400 322
Dividends on equity investments 25 137 70
Interest on policy loans 34 40 35
Other investment loss (5,511) (3,926) (2,449)
--------------------------------
Gross investment income 337,207 328,510 299,885
Investment expenses 13,379 10,506 7,878
--------------------------------
Net investment income $323,828 $318,004 $292,007
================================
</TABLE>
Proceeds from sales and maturities of debt securities and related gross realized
gains and losses were as follows:
<TABLE>
<CAPTION>
DECEMBER 31
1996 1995 1994
--------------------------------
<S> <C> <C> <C>
Proceeds $703,936 $529,363 $525,148
================================
Gross realized gains $ 9,527 $ 8,541 $ 8,693
Gross realized losses (11,595) (15,255) (15,984)
--------------------------------
Net realized losses $ (2,068) $ (6,714) $ (7,291)
================================
</TABLE>
At December 31, 1996, investments with an aggregate carrying value of $2,329
were on deposit with regulatory authorities or were restrictively held in bank
custodial accounts for the benefit of such regulatory authorities as required by
statute.
41
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
3. INVESTMENTS (CONTINUED)
Realized investment gains (losses) and changes in unrealized gains (losses) for
investments are summarized below:
<TABLE>
<CAPTION>
REALIZED
---------------------------------
YEAR ENDED DECEMBER 31
1996 1995 1994
---------------------------------
<S> <C> <C> <C>
Debt securities $ (2,068) $ (6,714) $ (7,291)
Common stock 244 - -
Preferred stock (44) - -
Short-term investments (115) (24) (93)
Mortgage loans on real estate (12,415) (3,650) 1,067
Real estate - (628) -
Other invested assets 6,872 11,109 5,412
---------------------------------
(7,526) 93 (905)
Tax effect (87) 247 414
Transfer to interest maintenance reserve (4,484) (3,804) (466)
---------------------------------
Total realized losses $(12,097) $ (3,464) $ (957)
=================================
</TABLE>
<TABLE>
<CAPTION>
CHANGE IN UNREALIZED
---------------------------------
YEAR ENDED DECEMBER 31
1996 1995 1994
---------------------------------
<S> <C> <C> <C>
Debt securities $(80,600) $265,890 $(166,278)
Equity securities (190) 74 (47)
---------------------------------
Change in unrealized appreciation $(80,790) $265,964 $(166,325)
=================================
</TABLE>
Gross unrealized gains and gross unrealized losses on equity securities at
December 31, 1996, 1995 and 1994 were as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
1996 1995 1994
---------------------------------
<S> <C> <C> <C>
Unrealized gains $ 16 $ 206 $ 133
Unrealized losses (11) (11) (12)
---------------------------------
Net unrealized gains $ 5 $ 195 $ 121
=================================
</TABLE>
42
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
3. INVESTMENTS (CONTINUED)
During 1996, the Company issued mortgage loans with interest rates ranging from
7.46% to 8.75%. The maximum percentage of any one loan to the value of the
underlying real estate at origination was 86%. No mortgage loans were non-
income producing for the previous twelve months and, accordingly, no accrued
interest related to these mortgage loans was excluded from investment income.
During 1996, the Company refinanced the mortgage loans of three properties with
an aggregate carrying value of $98,543 to reduce the interest rates, as a result
of the current interest rate environment. The Company requires all mortgage
loans to carry fire insurance equal to the value of the underlying property.
During 1996, 1995 and 1994, there were $28,929, $14,264 and $10,587,
respectively, in foreclosed mortgage loans that were transferred to real estate.
At December 31, 1996 and 1995, the Company held a mortgage loan loss reserve in
the asset valuation reserve of $8,368 and $9,921, respectively. The mortgage
loan portfolio is diversified by geographic region and specific collateral
property type as follows:
<TABLE>
<CAPTION>
GEOGRAPHIC DISTRIBUTION PROPERTY TYPE DISTRIBUTION
-------------------------------- ------------------------------
DECEMBER 31 DECEMBER 31
1996 1995 1996 1995
-------------- ---------------
<S> <C> <C> <C> <C> <C>
South Atlantic 37% 31% Retail 30% 37%
E. North Central 21 21 Office 42 33
Mountain 15 16 Apartment 10 17
New England 10 11 Other 17 10
W. North Central 5 10 Industrial 1 3
W. South Central 5 8
Mid-Atlantic 5 -
Pacific 2 3
</TABLE>
At December 31, 1996, the Company had the following investments, excluding U. S.
Government guaranteed or insured issues, which individually represented more
than ten percent of capital and surplus and the asset valuation reserve:
<TABLE>
<CAPTION>
CARRYING
DESCRIPTION OF SECURITY VALUE
- ------------------------------------------- ---------------
<S> <C>
Bonds:
Chase Manhattan Corp. $42,469
Citibank 42,197
Connecticut National Bank 32,463
PSEG Capital 28,157
</TABLE>
43
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
4. REINSURANCE
The Company reinsures portions of risk on certain insurance policies which
exceed its established limits, thereby providing a greater diversification of
risk and minimizing exposure on larger risks. The Company remains contingently
liable with respect to any insurance ceded, and this would become an actual
liability in the event that the assuming insurance company became unable to meet
its obligation under the reinsurance treaty.
Premiums earned reflect the following reinsurance assumed and ceded amounts for
the year ended December 31:
<TABLE>
<CAPTION>
1996 1995 1994
-------------------------------------
<S> <C> <C> <C>
Direct premiums $1,135,315 $1,207,720 $ 685,212
Reinsurance assumed 9,962 37,423 132,314
Reinsurance ceded (27,583) (38,308) (106,261)
-------------------------------------
Net premiums earned $1,117,694 $1,206,835 $ 711,265
=====================================
</TABLE>
The Company received reinsurance recoveries in the amounts of $953, $533 and
$149 during 1996, 1995 and 1994, respectively.
The aggregate reserves for policies and contracts were reduced for reserve
credits for reinsurance ceded at December 31, 1996 and 1995 of $157,396 and
$136,439, respectively.
At December 31, 1995, reserve credits for reinsurance ceded to unauthorized
reinsurers of $103,182 were associated with a single reinsurer. No significant
reinsurance credits were ceded to unauthorized reinsurers at December 31, 1996.
The Company holds collateral under these reinsurance agreements in the form of
trust agreements and letters of credit totaling $111,891 at December 31, 1995
that can be drawn on for unpaid balances. In addition, the reinsurer has an
investment management agreement, with an affiliate, to manage the investments
held in the trust account.
On December 31, 1993, the Company and MONY entered into an assumption
reinsurance agreement whereby all of the general account liabilities were
novated to the Company from MONY as state approvals were received.
In accordance with the agreement, MONY will receive payments relating to the
performance of the assets and liabilities that exist at the date of closing for
a period of nine years. These payments will be reduced for certain
administrative expenses as defined in the agreement. The Company will recognize
operating gains and losses on renewal premiums received after December 31, 1993
of the business in-force at
44
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
4. REINSURANCE (CONTINUED)
December 31, 1993, and on all new business written after that date. At the end
of nine years, the Company will purchase from MONY the remaining transferred
business inforce based upon a formula described in the agreement. At
December 31, 1996 and 1995, the Company owed MONY $67,217 and $73,546,
respectively, which represents the amount earned by MONY under the gain sharing
calculation and certain fees for investment management services for the
respective years.
In connection with the transaction, MONY purchased $150,000 and $50,000 in
Series A and Series B notes, respectively, of AEGON. The proceeds were used to
enhance the surplus of the Company. Both the Series A and Series B notes bear a
market rate of interest and mature in nine years.
AEGON provides general and administrative services for the transferred business
under a related agreement with MONY. The agreement specifies prescribed rates
for expenses to administer the business up to certain levels. In addition,
AEGON also provides investment management services on the assets underlying the
new pension business written by the Company while MONY continues to provide
investment management services for assets supporting the remaining policy
liabilities which were transferred at December 31, 1993.
On October 1, 1995, the Company entered into a reinsurance agreement with a non-
affiliate. As a result, the Company received $4,242 of assets, including $38 of
cash, and $4,312 of liabilities. The difference between the assets and the
liabilities of $70 was charged directly to unassigned surplus.
45
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
5. INCOME TAXES
The Company files a separate federal income tax return.
Federal income tax expense differs from the amount computed by applying the
statutory federal income tax rate to loss from operations before taxes and
realized capital losses for the following reasons:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
1996 1995 1994
---------------------------
<S> <C> <C> <C>
Computed tax expense (benefit) at
federal statutory rate (35%) $ (109) $1,402 $(3,301)
Tax reserve adjustment (211) 755 189
Deferred acquisition cost - tax basis 465 636 992
Carryforward of current year operating 2,611 3,351 3,460
loss
Excess tax depreciation (13) - -
Dividend received deduction (4) - -
Prior year (over)/under accrual 114 (67) (85)
IMR amortization (666) (676) (73)
Other items - net (882) 187 111
---------------------------
Federal income tax expense $1,305 $5,588 $ 1,293
===========================
</TABLE>
Federal income tax expense (benefit) differs from the amount computed by
applying the statutory federal income tax rate to realized gains (losses) due to
the agreement between MONY and the Company, as discussed in Note 4 to the
financial statements. In accordance with this agreement, these gains and losses
are included in the net payments MONY will receive relating to the performance
of the assets that existed at the date of closing. Accordingly, income taxes
relating to gains and losses on such assets are not provided for on the income
tax return filed by the Company.
Prior to 1984, as provided for under the Life Insurance Company Tax Act of 1959,
a portion of statutory income was not subject to current taxation but was
accumulated for income tax purposes in a memorandum account referred to as the
policyholders' surplus account. No federal income taxes have been provided for
in the financial statements on income deferred in the policyholders' surplus
account ($797 at December 31, 1996). To the extent dividends are paid from the
amount accumulated in the policyholders' surplus account, net earnings would be
reduced by the amount of tax required to be paid. Should the entire amount in
the policyholders' surplus account become taxable, the tax thereon computed at
current rates would amount to approximately $279.
At December 31, 1996, the Company had net operating loss carryforwards of
approximately $22,400 which expire through 2011.
An examination by the Internal Revenue Service is underway for years 1993 -
1995.
46
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
6. POLICY AND CONTRACT ATTRIBUTES
A portion of the Company's policy reserves and other policyholders' funds relate
to liabilities established on a variety of the Company's products that are not
subject to significant mortality or morbidity risk; however, there may be
certain restrictions placed upon the amount of funds that can be withdrawn
without penalty. The amount of reserves on these products, by withdrawal
characteristics, are summarized as follows:
<TABLE>
<CAPTION>
DECEMBER 31
1996 1995
-------------------------------------------------------------
PERCENT OF PERCENT OF
AMOUNT TOTAL AMOUNT TOTAL
-------------------------------------------------------------
<S> <C> <C> <C> <C>
Subject to discretionary withdrawal
with market value adjustment $ 834,176 10% $ 797,367 10%
Subject to discretionary withdrawal at
book value less surrender charge 1,583,989 18 2,173,509 27
Subject to discretionary withdrawal at
market value 2,254,074 26 1,589,721 20
Subject to discretionary withdrawal at
book value (minimal or no charges or 1,913,542 22 1,213,021 15
adjustments)
Not subject to discretionary withdrawal
provision 2,136,222 24 2,303,747 28
-------------------------------------------------------------
8,722,003 100% 8,077,365 100%
================ ================
Less reinsurance ceded 157,039 136,130
------------ -------------
Total policy reserves on annuities and
deposit fund liabilities $8,564,964 $7,941,235
============ =============
</TABLE>
Separate and variable account assets held by the Company represent contracts
where the benefit is determined by the performance of the investments held in
the separate account. There may be certain restrictions placed upon the amount
of funds that can be withdrawn without penalty. The amount of separate account
liabilities on these products, by withdrawal characteristics, are summarized as
follows:
<TABLE>
<CAPTION>
GUARANTEED NON-GUARANTEED
SEPARATE SEPARATE
ACCOUNT ACCOUNT TOTAL
----------------------------------------------------------
<S> <C> <C> <C>
DECEMBER 31, 1996
Subject to discretionary withdrawal
with market value adjustment $ 269,991 $ - $ 269,991
Subject to discretionary withdrawal at
book value less surrender charge 279,399 - 279,399
Subject to discretionary withdrawal at
market value 181,158 2,071,160 2,252,318
Not subject to discretionary withdrawal 1,905,860 - 1,905,860
----------------------------------------------------------
$2,636,408 $ 2,071,160 $4,707,568
==========================================================
</TABLE>
47
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
6. POLICY AND CONTRACT ATTRIBUTES (CONTINUED)
<TABLE>
<CAPTION>
GUARANTEED NON-GUARANTEED
SEPARATE SEPARATE
ACCOUNT ACCOUNT TOTAL
----------------------------------------------------------
<S> <C> <C> <C>
DECEMBER 31, 1995
Subject to discretionary withdrawal
with market value adjustment $ 290,684 $ - $ 290,684
Subject to discretionary withdrawal at
book value less surrender charge 280,770 - 280,770
Subject to discretionary withdrawal at
market value 97,049 1,492,670 1,589,719
Not subject to discretionary withdrawal 2,076,810 - 2,076,810
----------------------------------------------------------
$2,745,313 $1,492,670 $4,237,983
==========================================================
</TABLE>
A reconciliation of the amounts transferred to and from the separate accounts is
presented below:
<TABLE>
<CAPTION>
1996 1995 1994
---------------------------------------------------------------
<S> <C> <C> <C>
Transfers as reported in the summary of
operations of the separate accounts
statement:
Transfers to separate accounts $ 716,525 $ 536,128 $ 180,789
Transfers from separate accounts 502,244 404,120 117,442
---------------------------------------------------------------
Net transfers to separate accounts 214,281 132,008 63,347
Reconciling adjustments - HUB level
fees not paid to AUSA general account 13,520 7,904 1,575
---------------------------------------------------------------
Transfers as reported in the summary of
operations of the life, accident and
health annual statement $ 227,802 $ 139,912 $ 64,922
===============================================================
</TABLE>
48
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
6. POLICY AND CONTRACT ATTRIBUTES (CONTINUED)
Reserves on the Company's traditional life products are computed using mean
reserving methodologies. These methodologies result in the establishment of
assets for the amount of the net valuation premiums that are anticipated to be
received between the policy's paid-through date to the policy's next anniversary
date. At December 31, 1996 and 1995, these assets (which are reported as
premiums deferred and uncollected) and the amounts of the related gross premiums
and loadings, are as follows:
<TABLE>
<CAPTION>
GROSS LOADING NET
---------------------------
<S> <C> <C> <C>
DECEMBER 31, 1996
Ordinary direct first year business $ 83 $(1) $ 84
Ordinary direct renewal business 3,078 25 3,053
Group life direct business 135 22 113
Credit life 5 - 5
Reinsurance ceded (163) - (163)
---------------------------
3,138 46 3,092
Accident and health:
Direct 165 - 165
Reinsurance ceded - - -
---------------------------
Total accident and health 165 - 165
---------------------------
$3,303 $46 $3,257
===========================
DECEMBER 31, 1995
Ordinary direct first year business $ 60 $42 $ 18
Ordinary direct renewal business 3,147 32 3,115
Group life direct business 109 24 85
Credit life - - -
Reinsurance ceded (16) - (16)
---------------------------
3,300 98 3,202
Accident and health:
Direct 163 - 163
Reinsurance ceded - - -
---------------------------
Total accident and health 163 - 163
---------------------------
$3,463 $98 $3,365
===========================
</TABLE>
At December 31, 1996 and 1995, the Company had insurance in force aggregating
$615,025 and $688,470, respectively, in which the gross premiums are less than
the net premiums required by the valuation standards established by the
Department of Insurance of the State of New York. The Company established
policy reserves of $1,520 and $1,272 to cover these deficiencies at December 31,
1996 and 1995, respectively.
49
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
6. POLICY AND CONTRACT ATTRIBUTES (CONTINUED)
In 1994, the NAIC enacted a guideline to clarify reserving methodologies for
contracts that require immediate payment of claims upon proof of death of the
insured. A direct charge to surplus of $80 was made for the year ended December
31, 1994, related to the change in reserve methodology.
7. DIVIDEND RESTRICTIONS
Generally, an insurance company's ability to pay dividends is limited to the
amount that their net assets, as determined in accordance with statutory
accounting practices, exceed minimum statutory capital requirements. However,
payment of such amounts as dividends may be subject to approval by regulatory
authorities. The Company is not entitled to pay out any dividends in 1997
without prior approval.
8. RETIREMENT AND COMPENSATION PLANS
The Company's employees participate in a qualified benefit pension plan
sponsored by AEGON. The Company has no legal obligation for the plan. The
Company recognizes pension expense equal to its allocation from AEGON. The
pension expense is allocated among the participating companies based on the FASB
87 expense as a percent of salaries. The benefits are based on years of service
and the employee's compensation during the highest five consecutive years of
employment. The Company was allocated $13, $14 and $12 of pension expense for
the years ended December 31, 1996, 1995 and 1994, respectively. The plan is
subject to the reporting and disclosure requirements of the Employee Retirement
Income Security Act of 1974.
The Company's employees also participate in a contributory defined contribution
plan sponsored by AEGON which is qualified under Section 401(k) of the Internal
Revenue Service Code. Employees of the Company who customarily work at least
1,000 hours during each calendar year and meet the other eligibility
requirements, are participants of the plan. Participants may elect to
contribute up to fifteen percent of their salary to the plan. The Company will
match an amount up to three percent of the participant's salary. Participants
may direct all of their contributions and plan balances to be invested in a
variety of investment options. The plan is subject to the reporting and
disclosure requirements of the Employee Retirement Income Security Act of 1974.
The Company was allocated $21, $8 and $6 of expense for the years ended December
31, 1996, 1995 and 1994, respectively.
50
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
8. RETIREMENT AND COMPENSATION PLANS (CONTINUED)
AEGON sponsors supplemental retirement plans to provide the Company's senior
management with benefits in excess of normal pension benefits. The plans are
noncontributory and benefits are based on years of service and the employee's
compensation level. The plans are unfunded and nonqualified under the Internal
Revenue Service Code. In addition, AEGON has established incentive deferred
compensation plans for certain key employees of the Company. AEGON also
sponsors an employee stock option plan for individuals employed at least three
years and a stock purchase plan for its producers, with the participating
affiliated companies establishing their own eligibility criteria, producer
contribution limits and company matching formula. These plans have been accrued
or funded as deemed appropriate by management of AEGON and the Company.
In addition to pension benefits, the Company participates in plans sponsored by
AEGON that provide postretirement medical, dental and life insurance benefits to
employees meeting certain eligibility requirements. Portions of the medical and
dental plans are contributory. The expenses of the postretirement plans
calculated on the pay-as-you-go basis are charged to affiliates in accordance
with an intercompany cost sharing arrangement. The Company expensed $2 for the
years ended December 31, 1996, 1995 and 1994.
9. RELATED PARTY TRANSACTIONS
In accordance with an agreement between AEGON and the Company, AEGON will ensure
the maintenance of certain minimum tangible net worth, operating leverage and
liquidity levels of the Company, as defined in the agreement, through the
contribution of additional capital by the Company's parent as needed.
The Company shares certain officers, employees and general expenses with
affiliated companies.
The Company receives data processing, investment advisory and management,
marketing and administration services from certain affiliates. During 1996,
1995 and 1994, the Company paid $3,539, $3,961 and $1,332, respectively, for
these services, which approximates their costs to the affiliates.
Payable to affiliates and intercompany borrowings bear interest at the thirty-
day commercial paper rate of 5.48% at December 31, 1996. During 1996, 1995 and
1994, the Company paid net interest of $29, $289 and $72, respectively, to
affiliates.
51
<PAGE>
AUSA Life Insurance Company, Inc.
Notes to Financial Statements - Statutory Basis (continued)
(Dollars in thousands)
10. COMMITMENTS AND CONTINGENCIES
The Company is a party to legal proceedings incidental to its business.
Although such litigation sometimes includes substantial demands for compensatory
and punitive damages, in addition to contract liability, it is management's
opinion, after consultation with counsel and a review of available facts, that
damages arising from such demands will not be material to the Company's
financial position.
The Company is subject to insurance guaranty laws in the states in which it
writes business. These laws provide for assessments against insurance companies
for the benefit of policyholders and claimants in the event of insolvency of
other insurance companies. In accordance with the purchase agreement,
assessments related to periods prior to the purchase of the Company will be paid
by Dreyfus. Assessments attributable to business reinsured from MONY for
premiums received prior to the date of the transaction will be paid by MONY.
The Company will be responsible for assessments, if any, attributable to premium
income after the date of purchase. Assessments are charged to operations when
received by the Company except where right of offset against other taxes paid is
allowed by law; amounts available for future offsets are recorded as an asset on
the Company's balance sheet. Potential future obligations for unknown
insolvencies are not determinable by the Company. The future obligation has
been based on the most recent information available from the National
Organization of Life and Health Insurance Guaranty Association (NOLHGA). The
Company has established a reserve of $199 and $432 at December 31, 1995 and
1994, respectively, for its estimated share of future guaranty fund assessments
related to several major insurer insolvencies. No such reserve was established
at December 31, 1996. The guaranty fund expense was $167, $(207) and $61 for
the years ended December 31, 1996, 1995 and 1994, respectively.
52
<PAGE>
AUSA Life Insurance Company, Inc.
Summary of Investments - Other Than
Investments in Related Parties
(Dollars in thousands)
December 31, 1996
SCHEDULE I
<TABLE>
<CAPTION>
AMOUNT AT WHICH
MARKET SHOWN IN THE
TYPE OF INVESTMENT COST (1) VALUE BALANCE SHEET (2)
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C>
FIXED MATURITIES
Bonds:
United States Government and
government agencies and
authorities $ 674,877 $ 680,987 $ 674,241
States, municipalities and political
subdivisions 8,948 9,399 8,933
Foreign governments 16,283 16,111 16,094
Public utilities 233,895 228,841 229,732
All other corporate bonds 2,591,226 2,594,912 2,566,667
Redeemable preferred stock 125 120 125
---------------------------------------------------
Total fixed maturities 3,525,354 3,530,370 3,495,792
EQUITY SECURITIES
Common stocks - industrial,
miscellaneous and all other 13 18 18
---------------------------------------------------
Total equity securities 13 18 18
Mortgage loans on real estate 618,633 618,633
Real estate 58,100 58,100
Policy loans 755 755
Cash and short-term investments 25,391 25,391
------------ -----------------
Total investments $4,228,246 $4,198,689
============ =================
</TABLE>
(1) Original cost of equity securities and, as to fixed maturities, original
cost reduced by repayments.
(2) Amounts differ from cost as certain bonds have been adjusted to reflect
other than temporary declines in value charged to surplus, as prescribed by
the NAIC.
53
<PAGE>
AUSA Life Insurance Company, Inc.
Supplementary Insurance Information
(Dollars in thousands)
SCHEDULE III
<TABLE>
<CAPTION>
FUTURE POLICY POLICY AND
BENEFITS AND UNEARNED CONTRACT
EXPENSES PREMIUMS LIABILITIES
-------------------------------------------------
<S> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1996
Individual life $ 19,493 $ - $ 3,826
Individual health 7,687 2,493 11,160
Group life and health 223 - -
Annuity 768,212 - -
-------------------------------------------------
$795,615 $2,493 $14,986
=================================================
YEAR ENDED DECEMBER 31, 1995
Individual life $ 17,935 $ - $ 3,716
Individual health 8,009 2,842 13,515
Group life and health 224 - -
Annuity 709,122 - -
-------------------------------------------------
$735,290 $ 2,842 $17,231
=================================================
YEAR ENDED DECEMBER 31, 1994
Individual life $ 16,357 $ - $ 3,481
Individual health 3,630 2,267 12,037
Group life and health 232 - -
Annuity 581,717 - -
-------------------------------------------------
$601,936 $ 2,267 $15,518
=================================================
</TABLE>
54
<PAGE>
<TABLE>
<CAPTION>
NET BENEFITS, CLAIMS OTHER
PREMIUM INVESTMENT LOSSES AND OPERATING PREMIUMS
REVENUE INCOME* SETTLEMENT EXPENSES EXPENSES* WRITTEN
- -------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
$ 8,468 $ 2,040 $ 9,087 $ 734 -
40,479 1,734 25,674 12,534 $40,098
8,092 372 6,056 3,044 10,683
1,060,655 319,682 1,016,105 381,783 -
------------------------------------------------------------------------------
$1,117,694 $323,828 $1,056,922 $398,095
==============================================================================
$ 8,388 $ 1,634 $ 8,062 $ 770 -
46,975 1,438 29,657 15,204 $46,558
7,049 306 5,293 970 6,074
1,144,423 314,626 1,181,235 290,402
------------------------------------------------------------------------------
$1,206,835 $318,004 $1,224,247 $307,346
==============================================================================
$ 8,238 $ 1,521 $ 8,404 $ 952 -
42,086 1,209 27,665 14,603 $ 4,326
4,135 261 2,897 854 42,168
656,806 289,016 740,784 228,713 -
------------------------------------------------------------------------------
$ 711,265 $292,007 $ 779,750 $245,122
==============================================================================
</TABLE>
* Allocations of net investment income and other operating expenses are based on
a number of assumptions and estimates, and the results would change if
different methods were applied.
55
<PAGE>
AUSA Life Insurance Company, Inc.
Reinsurance
(Dollars in thousands)
SCHEDULE IV
<TABLE>
<CAPTION>
ASSUMED PERCENTAGE
CEDED TO FROM OF AMOUNT
GROSS OTHER OTHER NET ASSUMED
AMOUNT COMPANIES COMPANIES AMOUNT TO NET
--------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31,
1996
Life insurance in force $1,238,554 $ 68,804 $241,117 $1,410,867 17%
======================================================================================
Premiums:
Individual life $ 7,652 $ 560 $ 1,376 $ 8,468 16%
Individual health 39,593 4 890 40,479 2
Group life and health 8,085 - 7 8,092 -
Annuity 1,079,985 27,019 7,689 1,060,655 1
--------------------------------------------------------------------------------------
$1,135,315 $ 27,583 $ 9,962 $1,117,694 1%
======================================================================================
YEAR ENDED DECEMBER 31,
1995
Life insurance in force $1,497,961 $ 34,206 $266,127 $1,729,882 15%
======================================================================================
Premiums:
Individual life $ 7,348 $ 359 $ 1,399 $ 8,388 17%
Individual health 46,609 5 371 46,975 1
Group life and health 7,043 - 6 7,049 -
Annuity 1,146,720 37,944 35,647 1,144,423 3
--------------------------------------------------------------------------------------
$1,207,720 $ 38,308 $ 37,423 $1,206,835 3%
======================================================================================
YEAR ENDED DECEMBER 31,
1994
Life insurance in force $1,616,254 $ 40,221 $296,942 $1,872,975 16%
======================================================================================
Premiums:
Individual life $ 7,143 $ 349 $ 1,442 $ 8,238 18%
Individual health 41,912 6 180 42,086 -
Group life and health 4,129 - 6 4,135 -
Annuity 632,026 105,906 130,686 656,806 20
--------------------------------------------------------------------------------------
$ 685,212 $106,261 $132,314 $ 711,265 19%
======================================================================================
</TABLE>
56
<PAGE>
STATEMENT OF ADDITIONAL INFORMATION
ENDEAVOR SERIES TRUST
This Statement of Additional Information is not a prospectus and should be
read in conjunction with the Prospectus for the TCW Money Market Portfolio
(formerly, the Money Market Portfolio), the TCW Managed Asset Allocation
Portfolio (formerly, the Managed Asset Allocation Portfolio), the T. Rowe Price
International Stock Portfolio (formerly, the Global Growth Portfolio), the Value
Equity Portfolio (formerly, the Quest for Value Equity Portfolio), the Dreyfus
Small Cap Value Portfolio (formerly, the Value Small Cap Portfolio and prior to
that the Quest for Value Small Cap Portfolio), the Dreyfus U.S. Government
Securities Portfolio (formerly, the U.S. Government Securities Portfolio), the
T. Rowe Price Equity Income Portfolio, the T. Rowe Price Growth Stock Portfolio,
the Opportunity Value Portfolio and the Enhanced Index Portfolio of Endeavor
Series Trust (the "Fund"), dated May 1, 1997, which may be obtained by writing
the Fund at 2101 East Coast Highway, Suite 300, Corona del Mar, California 92625
or by telephoning (800) 854-8393. Unless otherwise defined herein, capitalized
terms have the meanings given to them in the Prospectus.
-1-
<PAGE>
TABLE OF CONTENTS
Page
----
Investment Objectives and Policies................ 3
Options and Futures Strategies............... 3
Foreign Currency Transactions................ 9
Repurchase Agreements........................ 13
Forward Commitments.......................... 14
Securities Loans............................. 14
Lower Rated Bonds ........................... 14
Interest Rate Transactions................... 16
Dollar Roll Transactions..................... 17
Portfolio Turnover........................... 18
Investment Restrictions........................... 19
Other Policies............................... 22
Performance Information........................... 23
Total Return................................. 24
Yield........................................ 26
Non-Standardized Performance................. 27
Portfolio Transactions............................ 27
Management of the Fund............................ 32
Trustees and Officers........................ 32
The Manager.................................. 38
The Advisers................................. 40
Redemption of Shares.............................. 44
Net Asset Value................................... 44
Taxes............................................. 47
Federal Income Taxes......................... 47
Organization and Capitalization of the Fund....... 48
Legal Matters..................................... 51
Custodian......................................... 51
Financial Statements.............................. 51
Appendix.......................................... A-1
______________________
No person has been authorized to give any information or to make any
representation not contained in this Statement of Additional Information or in
the Prospectus and, if given or made, such information or representation must
not be relied upon as having been authorized. This Statement of Additional
Information does not constitute an offering of any securities other than the
registered securities to which it relates or an offer to any person in any state
or other jurisdiction of the United States or any country where such offer would
be unlawful.
The date of this Statement of Additional Information is May 1, 1997.
-2-
<PAGE>
INVESTMENT OBJECTIVES AND POLICIES
The following information supplements the discussion of the investment
objectives and policies of the Portfolios in the Prospectus of the Fund. The
Fund is managed by Endeavor Investment Advisers. The Manager has selected TCW
Funds Management, Inc. as investment adviser for the TCW Money Market Portfolio
and the TCW Managed Asset Allocation Portfolio, Rowe Price-Fleming
International, Inc. as investment adviser for the T. Rowe Price International
Stock Portfolio, OpCap Advisors (formerly, Quest for Value Advisors) as
investment adviser for the Value Equity Portfolio and Opportunity Value
Portfolio, The Dreyfus Corporation as investment adviser for the Dreyfus U.S.
Government Securities Portfolio and Dreyfus Small Cap Value Portfolio, T. Rowe
Price Associates, Inc. as investment adviser for the T. Rowe Price Equity Income
Portfolio and T. Rowe Price Growth Stock Portfolio and J.P. Morgan Investment
Management Inc. as investment adviser for the Enhanced Index Portfolio.
Options and Futures Strategies (All Portfolios except TCW Money Market
Portfolio)
A Portfolio may seek to increase the current return on its investments by
writing covered call or covered put options. In addition, a Portfolio may at
times seek to hedge against either a decline in the value of its portfolio
securities or an increase in the price of securities which its Adviser plans to
purchase through the writing and purchase of options including options on stock
indices and the purchase and sale of futures contracts and related options. A
Portfolio may utilize options or futures contracts and related options for other
than hedging purposes to the extent that the aggregate initial margins and
premiums do not exceed 5% of the Portfolio's net asset value. The Adviser to the
TCW Managed Asset Allocation Portfolio does not presently intend to utilize
options or futures contracts and related options but may do so in the future.
The Advisers to the Dreyfus Small Cap Value Portfolio and the Opportunity Value
Portfolio do not currently intend to write covered put and call options or
engage in transactions in futures contracts and related options, but may do so
in the future. Expenses and losses incurred as a result of such hedging
strategies will reduce a Portfolio's current return.
The ability of a Portfolio to engage in the options and futures strategies
described below will depend on the availability of liquid markets in such
instruments. Markets in options and futures with respect to stock indices and
U.S. government securities are relatively new and still developing. It is
impossible to predict the amount of trading interest that may
-3-
<PAGE>
exist in various types of options or futures. Therefore no assurance can be
given that a Portfolio will be able to utilize these instruments effectively for
the purposes stated below.
Writing Covered Options on Securities. A Portfolio may write covered call
-------------------------------------
options and covered put options on optionable securities of the types in which
it is permitted to invest from time to time as its Adviser determines is
appropriate in seeking to attain the Portfolio's investment objective. Call
options written by a Portfolio give the holder the right to buy the underlying
security from the Portfolio at a stated exercise price; put options give the
holder the right to sell the underlying security to the Portfolio at a stated
price.
A Portfolio may only write call options on a covered basis or for cross-
hedging purposes and will only write covered put options. A put option would be
considered "covered" if the Portfolio owns an option to sell the underlying
security subject to the option having an exercise price equal to or greater than
the exercise price of the "covered" option at all times while the put option is
outstanding. A call option is covered if the Portfolio owns or has the right to
acquire the underlying securities subject to the call option (or comparable
securities satisfying the cover requirements of securities exchanges) at all
times during the option period. A call option is for cross-hedging purposes if
it is not covered, but is designed to provide a hedge against another security
which the Portfolio owns or has the right to acquire. In the case of a call
written for cross-hedging purposes or a put option, the Portfolio will maintain
in a segregated account at the Fund's custodian bank cash or short-term U.S.
government securities with a value equal to or greater than the Portfolio's
obligation under the option. A Portfolio may also write combinations of covered
puts and covered calls on the same underlying security.
A Portfolio will receive a premium from writing an option, which increases
the Portfolio's return in the event the option expires unexercised or is
terminated at a profit. The amount of the premium will reflect, among other
things, the relationship of the market price of the underlying security to the
exercise price of the option, the term of the option, and the volatility of the
market price of the underlying security. By writing a call option, a Portfolio
will limit its opportunity to profit from any increase in the market value of
the underlying security above the exercise price of the option. By writing a put
option, a Portfolio will assume the risk that it may be required to purchase the
underlying security for an exercise price higher than its then current market
price, resulting in a potential
-4-
<PAGE>
capital loss if the purchase price exceeds the market price plus the amount of
the premium received.
A Portfolio may terminate an option which it has written prior to its
expiration by entering into a closing purchase transaction in which it purchases
an option having the same terms as the option written. The Portfolio will
realize a profit (or loss) from such transaction if the cost of such transaction
is less (or more) than the premium received from the writing of 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 may be offset in whole or in part by
unrealized appreciation of the underlying security owned by the Portfolio.
Purchasing Put and Call Options on Securities. A Portfolio may purchase put
---------------------------------------------
options to protect its portfolio holdings in an underlying security against a
decline in market value. This protection is provided during the life of the put
option since the Portfolio, as holder of the put, is able to sell the underlying
security at the exercise price regardless of any decline in the underlying
security's market price. For the purchase of a put option to be profitable, the
market price of the underlying security must decline sufficiently below the
exercise price to cover the premium and transaction costs. By using put options
in this manner, any profit which the Portfolio might otherwise have realized on
the underlying security will be reduced by the premium paid for the put option
and by transaction costs.
A Portfolio may also purchase a call option to hedge against an increase in
price of a security that it intends to purchase. This protection is provided
during the life of the call option since the Portfolio, as holder of the call,
is able to buy the underlying security at the exercise price regardless of any
increase in the underlying security's market price. For the purchase of a call
option to be profitable, the market price of the underlying security must rise
sufficiently above the exercise price to cover the premium and transaction
costs. By using call options in this manner, any profit which the Portfolio
might have realized had it bought the underlying security at the time it
purchased the call option will be reduced by the premium paid for the call
option and by transaction costs.
No Portfolio intends to purchase put or call options if, as a result of any
such transaction, the aggregate cost of options held by the Portfolio at the
time of such transaction would exceed 5% of its total assets.
-5-
<PAGE>
Purchase and Sale of Options and Futures on Stock Indices. A Portfolio may
---------------------------------------------------------
purchase and sell options on stock indices and stock index futures contracts
either as a hedge against movements in the equity markets or for other
investment purposes.
Options on stock indices are similar to options on specific securities
except that, rather than the right to take or make delivery of the specific
security at a specific price, an option on a stock index gives the holder the
right to receive, upon exercise of the option, an amount of cash if the closing
level of that stock index is greater than, in the case of a call, or less than,
in the case of a put, the exercise price of the option. This amount of cash is
equal to such difference between the closing price of the index and the exercise
price of the option expressed in dollars times a specified multiple. The writer
of the option is obligated, in return for the premium received, to make delivery
of this amount. Unlike options on specific securities, all settlements of
options on stock indices are in cash and gain or loss depends on general
movements in the stocks included in the index rather than price movements in
particular stocks. Currently options traded include the Standard & Poor's 500
Composite Stock Price Index, the NYSE Composite Index, the AMEX Market Value
Index, the National Over-The-Counter Index, the Nikkei 225 Stock Average Index,
the Financial Times Stock Exchange 100 Index and other standard broadly based
stock market indices. Options are also traded in certain industry or market
segment indices such as the Pharmaceutical Index.
A stock index futures contract is an agreement in which one party agrees to
deliver to the other an amount of cash equal to a specific dollar amount times
the difference between the value of a specific stock index at the close of the
last trading day of the contract and the price at which the agreement is made.
No physical delivery of securities is made.
If a Portfolio's Adviser expects general stock market prices to rise, it
might purchase a call option on a stock index or a futures contract on that
index as a hedge against an increase in prices of particular equity securities
it wants ultimately to buy for the Portfolio. If in fact the stock index does
rise, the price of the particular equity securities intended to be purchased may
also increase, but that increase would be offset in part by the increase in the
value of the Portfolio's index option or futures contract resulting from the
increase in the index. If, on the other hand, the Portfolio's Adviser expects
general stock market prices to decline, it might purchase a put option or sell a
futures contract on the index. If that index does in fact decline, the value of
some or all of the equity securities held
-6-
<PAGE>
by the Portfolio may also be expected to decline, but that decrease would be
offset in part by the increase in the value of the Portfolio's position in such
put option or futures contract.
Purchase and Sale of Interest Rate Futures. A Portfolio may purchase and
------------------------------------------
sell interest rate futures contracts on U.S. Treasury bills, notes and bonds and
Government National Mortgage Association ("GNMA") certificates either for the
purpose of hedging its portfolio securities against the adverse effects of
anticipated movements in interest rates or for other investment purposes.
A Portfolio may sell interest rate futures contracts in anticipation of an
increase in the general level of interest rates. Generally, as interest rates
rise, the market value of the securities held by a Portfolio will fall, thus
reducing the net asset value of the Portfolio. This interest rate risk can be
reduced without employing futures as a hedge by selling such securities and
either reinvesting the proceeds in securities with shorter maturities or by
holding assets in cash. However, this strategy entails increased transaction
costs in the form of dealer spreads and brokerage commissions and would
typically reduce the Portfolio's average yield as a result of the shortening of
maturities.
The sale of interest rate futures contracts provides a means of hedging
against rising interest rates. As rates increase, the value of a Portfolio's
short position in the futures contracts will also tend to increase thus
offsetting all or a portion of the depreciation in the market value of the
Portfolio's investments that are being hedged. While the Portfolio will incur
commission expenses in selling and closing out futures positions (which is done
by taking an opposite position in the futures contract), commissions on futures
transactions are lower than transaction costs incurred in the purchase and sale
of portfolio securities.
A Portfolio may purchase interest rate futures contracts in anticipation of
a decline in interest rates when it is not fully invested. As such purchases are
made, it is expected that an equivalent amount of futures contracts will be
closed out.
A Portfolio will enter into futures contracts which are traded on national
or foreign futures exchanges, and are standardized as to maturity date and the
underlying financial instrument. Futures exchanges and trading in the United
States are regulated under the Commodity Exchange Act by the Commodity Futures
Trading Commission ("CFTC"). Futures are traded in
-7-
<PAGE>
London at the London International Financial Futures Exchange, in Paris, at the
MATIF, and in Tokyo at the Tokyo Stock Exchange.
Options on Futures Contracts. A Portfolio may purchase and write call and
----------------------------
put options on stock index and interest rate futures contracts. A Portfolio may
use such options on futures contracts in connection with its hedging strategies
in lieu of purchasing and writing options directly on the underlying securities
or stock indices or purchasing or selling the underlying futures. For example, a
Portfolio may purchase put options or write call options on stock index futures
or interest rate futures, rather than selling futures contracts, in anticipation
of a decline in general stock market prices or rise in interest rates,
respectively, or purchase call options or write put options on stock index or
interest rate futures, rather than purchasing such futures, to hedge against
possible increases in the price of equity securities or debt securities,
respectively, which the Portfolio intends to purchase.
In connection with transactions in stock index options, stock index
futures, interest rate futures and related options on such futures, a Portfolio
will be required to deposit as "initial margin" an amount of cash and short-term
U.S. government securities. The current initial margin requirement per contract
is approximately 2% of the contract amount. Thereafter, subsequent payments
(referred to as "variation margin") are made to and from the broker to reflect
changes in the value of the futures contract. Brokers may establish deposit
requirements higher than exchange minimums.
Limitations. A Portfolio will not purchase or sell futures contracts or
-----------
options on futures contracts or stock indices for non-hedging purposes if, as a
result, the sum of the initial margin deposits on its existing futures contracts
and related options positions and premiums paid for options on futures contracts
or stock indices would exceed 5% of the net assets of the Portfolio unless the
transaction meets certain "bona fide hedging" criteria.
Risks of Options and Futures Strategies. The effective use of options and
---------------------------------------
futures strategies depends, among other things, on a Portfolio's ability to
terminate options and futures positions at times when its Adviser deems it
desirable to do so. Although a Portfolio will not enter into an option or
futures position unless its Adviser believes that a liquid market exists for
such option or future, there can be no assurance that a Portfolio will be able
to effect closing transactions at any particular time or at an acceptable price.
The Advisers generally expect that
-8-
<PAGE>
options and futures transactions for the Portfolios will be conducted on
recognized exchanges. In certain instances, however, a Portfolio may purchase
and sell options in the over-the-counter market. The staff of the Securities and
Exchange Commission considers over-the-counter options to be illiquid. A
Portfolio's ability to terminate option positions established in the over-the-
counter market may be more limited than in the case of exchange traded options
and may also involve the risk that securities dealers participating in such
transactions would fail to meet their obligations to the Portfolio.
The use of options and futures involves the risk of imperfect correlation
between movements in options and futures prices and movements in the price of
the securities that are the subject of the hedge. The successful use of these
strategies also depends on the ability of a Portfolio's Adviser to forecast
correctly interest rate movements and general stock market price movements. This
risk increases as the composition of the securities held by the Portfolio
diverges from the composition of the relevant option or futures contract.
Foreign Currency Transactions (Dreyfus U.S. Government Securities, T. Rowe Price
Equity Income, T. Rowe Price Growth Stock, T. Rowe Price International Stock,
Opportunity Value and Enhanced Index Portfolios)
Foreign Currency Exchange Transactions. The Dreyfus U.S. Government
--------------------------------------
Securities, T. Rowe Price Equity Income, T. Rowe Price Growth Stock, T. Rowe
Price International Stock, Opportunity Value and Enhanced Index Portfolios may
engage in foreign currency exchange transactions to protect against uncertainty
in the level of future exchange rates. The Adviser to a Portfolio may engage in
foreign currency exchange transactions in connection with the purchase and sale
of portfolio securities ("transaction hedging"), and to protect the value of
specific portfolio positions ("position hedging").
A Portfolio may engage in "transaction hedging" to protect against a change
in the foreign currency exchange rate between the date on which the Portfolio
contracts to purchase or sell the security and the settlement date, or to "lock
in" the U.S. dollar equivalent of a dividend or interest payment in a foreign
currency. For that purpose, a Portfolio may purchase or sell a foreign currency
on a spot (or cash) basis at the prevailing spot rate in connection with the
settlement of transactions in portfolio securities denominated in that foreign
currency.
-9-
<PAGE>
If conditions warrant, a Portfolio may also enter into contracts to
purchase or sell foreign currencies at a future date ("forward contracts") and
purchase and sell foreign currency futures contracts as a hedge against changes
in foreign currency exchange rates between the trade and settlement dates on
particular transactions and not for speculation. A foreign currency forward
contract is a negotiated agreement to exchange currency at a future time at a
rate or rates that may be higher or lower than the spot rate. Foreign currency
futures contracts are standardized exchange-traded contracts and have margin
requirements.
For transaction hedging purposes, a Portfolio may also purchase exchange-
listed and over-the-counter call and put options on foreign currency futures
contracts and on foreign currencies. A put option on a futures contract gives a
Portfolio the right to assume a short position in the futures contract until
expiration of the option. A put option on currency gives a Portfolio the right
to sell a currency at an exercise price until the expiration of the option. A
call option on a futures contract gives a Portfolio the right to assume a long
position in the futures contract until the expiration of the option. A call
option on currency gives a Portfolio the right to purchase a currency at the
exercise price until the expiration of the option.
A Portfolio may engage in "position hedging" to protect against a decline
in the value relative to the U.S. dollar of the currencies in which its
portfolio securities are denominated or quoted (or an increase in the value of
currency for securities which the Portfolio intends to buy, when it holds cash
reserves and short-term investments). For position hedging purposes, a Portfolio
may purchase or sell foreign currency futures contracts and foreign currency
forward contracts, and may purchase put or call options on foreign currency
futures contracts and on foreign currencies on exchanges or over-the-counter
markets. In connection with position hedging, a Portfolio may also purchase or
sell foreign currency on a spot basis.
The precise matching of the amounts of foreign currency exchange
transactions and the value of the portfolio securities involved will not
generally be possible since the future value of such securities in foreign
currencies will change as a consequence of market movements in the value of
those securities between the dates the currency exchange transactions are
entered into and the dates they mature.
-10-
<PAGE>
It is impossible to forecast with precision the market value of portfolio
securities at the expiration or maturity of a forward or futures contract.
Accordingly, it may be necessary for a Portfolio to purchase additional foreign
currency on the spot market (and bear the expense of such purchase) if the
market value of the security or securities being hedged is less than the amount
of foreign currency the Portfolio is obligated to deliver and if a decision is
made to sell the security or securities and make delivery of the foreign
currency. Conversely, it may be necessary to sell on the spot market some of the
foreign currency received upon the sale of the portfolio security or securities
if the market value of such security or securities exceeds the amount of foreign
currency the Portfolio is obligated to deliver.
Hedging transactions involve costs and may result in losses. A Portfolio
may write covered call options on foreign currencies to offset some of the costs
of hedging those currencies. A Portfolio will engage in over-the-counter
transactions only when appropriate exchange-traded transactions are unavailable
and when, in the opinion of the Portfolio's Adviser, the pricing mechanism and
liquidity are satisfactory and the participants are responsible parties likely
to meet their contractual obligations. A Portfolio's ability to engage in
hedging and related option transactions may be limited by tax considerations.
Transaction and position hedging do not eliminate fluctuations in the
underlying prices of the securities which a Portfolio owns or intends to
purchase or sell. They simply establish a rate of exchange which one can achieve
at some future point in time. Additionally, although these techniques tend to
minimize the risk of loss due to a decline in the value of the hedged currency,
they tend to limit any potential gain which might result from the increase in
the value of such currency.
Currency Forward and Futures Contracts. A forward foreign currency exchange
--------------------------------------
contract involves an obligation to purchase or sell a specific currency at a
future date, which may be any fixed number of days from the date of the contract
as agreed by the parties, at a price set at the time of the contract. In the
case of a cancelable forward contract, the holder has the unilateral right to
cancel the contract at maturity by paying a specified fee. The contracts are
traded in the interbank market conducted directly between currency traders
(usually large commercial banks) and their customers. A forward contract
generally has no deposit requirement, and no commissions are charged at any
stage for trades. A foreign currency futures contract is a standardized contract
for the future delivery of a specified amount of a foreign currency at a future
date at a price set at the time of
-11-
<PAGE>
the contract. Foreign currency futures contracts traded in the United States are
designed by and traded on exchanges regulated by the CFTC, such as the New York
Mercantile Exchange. A Portfolio would enter into foreign currency futures
contracts solely for hedging or other appropriate investment purposes as defined
in CFTC regulations.
Forward foreign currency exchange contracts differ from foreign currency
futures contracts in certain respects. For example, the maturity date of a
forward contract may be any fixed number of days from the date of the contract
agreed upon by the parties, rather than a predetermined date in any given month.
Forward contracts may be in any amounts agreed upon by the parties rather than
predetermined amounts. Also, forward foreign exchange contracts are traded
directly between currency traders so that no intermediary is required. A forward
contract generally requires no margin or other deposit.
At the maturity of a forward or futures contract, a Portfolio may either
accept or make delivery of the currency specified in the contract, or at 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. Closing transactions with respect to futures
contracts are effected on a commodities exchange; a clearing corporation
associated with the exchange assumes responsibility for closing out such
contracts.
Positions in foreign currency futures contracts may be closed out only on
an exchange or board of trade which provides a secondary market in such
contracts. Although a Portfolio intends to purchase or sell foreign currency
futures contracts only on exchanges or boards of trade where there appears to be
an active secondary market, there can be no assurance that a secondary market on
an exchange or board of trade will exist for any particular contract or at any
particular time. In such event, it may not be possible to close a futures
position and, in the event of adverse price movements, a Portfolio would
continue to be required to make daily cash payments of variation margin.
Foreign Currency Options. Options on foreign currencies operate similarly
------------------------
to options on securities, and are traded primarily in the over-the-counter
market, although options on foreign currencies have recently been listed on
several exchanges. Such options will be purchased or written only when a
Portfolio's Adviser believes that a liquid secondary market exists for such
options. There can be no assurance that a liquid
-12-
<PAGE>
secondary market will exist for a particular option at any specific time.
Options on foreign currencies are affected by all of those factors which
influence foreign exchange rates and investments generally.
The value of a foreign currency option is dependent upon the value of the
foreign currency and the U.S. dollar, and may have no relationship to the
investment merits of a foreign security. Because foreign currency transactions
occurring in the interbank market involve substantially larger amounts than
those that may be involved in the use of foreign currency options, investors may
be disadvantaged by having to deal in an odd lot market (generally consisting of
transactions of less than $1 million) for the underlying foreign currencies at
prices that are less favorable than for round lots.
There is no systematic reporting of last sale information for foreign
currencies and there is no regulatory requirement that quotations available
through dealers or other market sources be firm or revised on a timely basis.
Available quotation information is generally representative of very large
transactions in the interbank market and thus may not reflect relatively smaller
transactions (less than $1 million) where rates may be less favorable. The
interbank market in foreign currencies is a global, around-the-clock market. To
the extent that the U.S. options markets are closed while the markets for the
underlying currencies remain open, significant price and rate movements may take
place in the underlying markets that cannot be reflected in the options markets.
Foreign Currency Conversion. Although foreign exchange dealers do not
---------------------------
charge a fee for currency conversion, they do realize a profit based on the
difference (the "spread") between prices at which they are buying and selling
various currencies. Thus, a dealer may offer to sell a foreign currency to a
Portfolio at one rate, while offering a lesser rate of exchange should a
Portfolio desire to resell that currency to the dealer.
Repurchase Agreements (All Portfolios)
Each of the Portfolios may enter into repurchase agreements with a bank,
broker-dealer, or other financial institution but no Portfolio may invest more
than 10% (15% with respect to each of the T. Rowe Price Equity Income, T. Rowe
Price Growth Stock, T. Rowe Price International Stock, Dreyfus Small Cap Value,
Opportunity Value and Enhanced Index Portfolios) of its net assets in repurchase
agreements having maturities of greater than seven days. A Portfolio may enter
into repurchase agreements,
-13-
<PAGE>
provided the Fund's custodian always has possession of securities serving as
collateral whose market value at least equals the amount of the repurchase
obligation. To minimize the risk of loss a Portfolio will enter into repurchase
agreements only with financial institutions which are considered by its Adviser
to be creditworthy under guidelines adopted by the Trustees of the Fund. If an
institution enters an insolvency proceeding, the resulting delay in liquidation
of the securities serving as collateral could cause a Portfolio some loss, as
well as legal expense, if the value of the securities declines prior to
liquidation.
Forward Commitments (All Portfolios)
Each of the Portfolios may enter into forward commitments to purchase
securities. An amount of cash or short-term U.S. government securities equal to
the Portfolio's commitment will be deposited in a segregated account at the
Fund's custodian bank to secure the Portfolio's obligation. Although a Portfolio
will generally enter into forward commitments to purchase securities with the
intention of actually acquiring the securities for its portfolio (or for
delivery pursuant to options contracts it has entered into), the Portfolio may
dispose of a security prior to settlement if its Adviser deems it advisable to
do so. The Portfolio may realize short-term gains or losses in connection with
such sales.
Securities Loans (All Portfolios)
Each of the Portfolios may pay reasonable finders', administrative and
custodial fees in connection with loans of its portfolio securities. Although
voting rights or the right to consent accompanying loaned securities pass to the
borrower, a Portfolio retains the right to call the loan at any time on
reasonable notice, and will do so in order that the securities may be voted by
the Portfolio with respect to matters materially affecting the investment. A
Portfolio may also call a loan in order to sell the securities involved. Loans
of portfolio securities will only be made to borrowers considered by a
Portfolio's Adviser to be creditworthy under guidelines adopted by the Trustees
of the Fund.
Lower Rated Bonds (Value Equity, Dreyfus U.S. Government Securities, Opportunity
Value and T. Rowe Price Equity Income Portfolios)
The Value Equity Portfolio and Opportunity Value Portfolio may invest up to
5% of their assets, the T. Rowe Price Equity
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<PAGE>
Income Portfolio may invest up to 10% of its assets, and the Dreyfus U.S.
Government Securities Portfolio may invest up to 25% of its assets in bonds
rated below Baa3 by Moody's Investors Service Inc. ("Moody's") or BBB by
Standard & Poor's Ratings Service, a division of McGraw-Hill Companies, Inc.
("Standard & Poor's") (commonly known as "junk bonds"). Securities rated less
than Baa by Moody's or BBB by Standard & Poor's are classified as non-investment
grade securities and are considered speculative by those rating agencies. It is
each Portfolio Adviser's policy not to rely exclusively on ratings issued by
credit rating agencies but to supplement such ratings with the Adviser's own
independent and ongoing review of credit quality. Junk bonds may be issued as a
consequence of corporate restructurings, such as leveraged buyouts, mergers,
acquisitions, debt recapitalizations, or similar events or by smaller or highly
leveraged companies. When economic conditions appear to be deteriorating, junk
bonds may decline in market value due to investors' heightened concern over
credit quality, regardless of prevailing interest rates. Although the growth of
the high yield securities market in the 1980s had paralleled a long economic
expansion, in the past many issuers have been affected by adverse economic and
market conditions. It should be recognized that an economic downturn or increase
in interest rates is likely to have a negative effect on (i) the high yield bond
market, (ii) the value of high yield securities and (iii) the ability of the
securities' issuers to service their principal and interest payment obligations,
to meet their projected business goals or to obtain additional financing. The
market for junk bonds, especially during periods of deteriorating economic
conditions, may be less liquid than the market for investment grade bonds. In
periods of reduced market liquidity, junk bond prices may become more volatile
and may experience sudden and substantial price declines. Also, there may be
significant disparities in the prices quoted for junk bonds by various dealers.
Under such conditions, a Portfolio may find it difficult to value its junk bonds
accurately. Under such conditions, a Portfolio may have to use subjective rather
than objective criteria to value its junk bond investments accurately and rely
more heavily on the judgment of the Fund's Board of Trustees. Prices for junk
bonds also may be affected by legislative and regulatory developments. For
example, recent federal rules require that savings and loans gradually reduce
their holdings of high-yield securities. Also, from time to time, Congress has
considered legislation to restrict or eliminate the corporate tax deduction for
interest payments or to regulate corporate restructurings such as takeovers,
mergers or leveraged buyouts. Such legislation, if enacted, could depress the
prices of outstanding junk bonds.
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<PAGE>
Interest Rate Transactions (Dreyfus U.S. Government Securities Portfolio)
Among the strategic transactions into which the Dreyfus U.S. Government
Securities Portfolio may enter are interest rate swaps and the purchase or sale
of related caps and floors. The Portfolio expects to enter into these
transactions primarily to preserve a return or spread on a particular investment
or portion of its portfolio, to protect against currency fluctuations, as a
duration management technique or to protect against any increase in the price of
securities the Portfolio anticipates purchasing at a later date. The Portfolio
intends to use these transactions as hedges and not as speculative investments
and will not sell interest rate caps or floors where it does not own securities
or other instruments providing the income stream the Portfolio may be obligated
to pay. Interest rate swaps involve the exchange by the Portfolio with another
party of their respective commitments to pay or receive interest, e.g., an
exchange of floating rate payments for fixed rate payments with respect to a
notional amount of principal. A currency swap is an agreement to exchange cash
flows on a notional amount of two or more currencies based on the relative value
differential among them and an index swap is an agreement to swap cash flows on
a notional amount based on changes in the values of the reference indices. The
purchase of a cap entitles the purchaser, to the extent that a specific index
exceeds a predetermined interest rate, to receive payments of interest on a
notional principal amount from the party selling such cap. The purchase of a
floor entitles the purchaser to receive payments on a notional principal amount
from the party selling such floor to the extent that a specified index falls
below a predetermined interest rate or amount.
The Portfolio will usually enter into swaps on a net basis, i.e., the
two payment streams are netted out in a cash settlement on the payment date or
dates specified in the instrument, with the Portfolio receiving or paying, as
the case may be, only the net amount of the two payments. Inasmuch as these
swaps, caps and floors are entered into for good faith hedging purposes, the
Adviser to the Portfolio and the Fund believe such obligations do not constitute
senior securities under the Investment Company Act of 1940 (the "1940 Act") and,
accordingly, will not treat them as being subject to its borrowing restrictions.
The Portfolio will not enter into any swap, cap and floor transaction unless, at
the time of entering into such transaction, the unsecured long-term debt of the
counterparty, combined with any credit enhancements, is rated at least "A" by
Standard & Poor's or Moody's or has an equivalent rating from a nationally
recognized statistical rating organization ("NRSRO") or is determined to be of
equivalent
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<PAGE>
credit quality by the Adviser. For a description of the NRSROs and their
ratings, see the Appendix. If there is a default by the counterparty, the
Portfolio may have contractual remedies pursuant to the agreements related to
the transaction. The swap market has grown substantially in recent years with a
large number of banks and investment banking firms acting both as principals and
as agents utilizing standardized swap documentation. As a result, the swap
market has become relatively liquid. Caps and floors are more recent innovations
for which standardized documentation has not yet been fully developed and,
accordingly, they are less liquid than swaps.
With respect to swaps, the Portfolio will accrue the net amount of the
excess, if any, of its obligations over its entitlements with respect to each
swap on a daily basis and will segregate an amount of cash or liquid high grade
securities having a value equal to the accrued excess. Caps and floors require
segregation of assets with a value equal to the Portfolio's net obligations, if
any.
Dollar Roll Transactions (Dreyfus U.S. Government Securities Portfolio)
The Dreyfus U.S. Government Securities Portfolio may enter into "dollar
roll" transactions, which consist of the sale by the Portfolio to a bank or
broker-dealer (the "counterparty") of GNMA certificates or other mortgage-backed
securities together with a commitment to purchase from the counterparty similar,
but not identical, securities at a future date. The counterparty receives all
principal and interest payments, including prepayments, made on the security
while it is the holder. The Portfolio receives a fee from the counterparty as
consideration for entering into the commitment to purchase. Dollar rolls may be
renewed over a period of several months with a different repurchase price and a
cash settlement made at each renewal without physical delivery of securities.
Moreover, the transaction may be preceded by a firm commitment agreement
pursuant to which the Portfolio agrees to buy a security on a future date.
The Portfolio will not use such transactions for leveraging purposes
and, accordingly, will segregate cash, U.S. government securities or other high
grade debt obligations in an amount sufficient to meet its purchase obligations
under the transactions. The Portfolio will also maintain asset coverage of at
least 300% for all outstanding firm commitments, dollar rolls and other
borrowings.
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<PAGE>
Dollar rolls are treated for purposes of the 1940 Act as borrowings of the
Portfolio because they involve the sale of a security coupled with an agreement
to repurchase. Like all borrowings, a dollar roll involves costs to the
Portfolio. For example, while the Portfolio receives a fee as consideration for
agreeing to repurchase the security, the Portfolio forgoes the right to receive
all principal and interest payments while the counterparty holds the security.
These payments to the counterparty may exceed the fee received by the Portfolio,
thereby effectively charging the Portfolio interest on its borrowing. Further,
although the Portfolio can estimate the amount of expected principal prepayment
over the term of the dollar roll, a variation in the actual amount of prepayment
could increase or decrease the cost of the Portfolio's borrowing.
The entry into dollar rolls involves potential risks of loss that are
different from those related to the securities underlying the transactions. For
example, if the counterparty becomes insolvent, the Portfolio's right to
purchase from the counterparty might be restricted. Additionally, the value of
such securities may change adversely before the Portfolio is able to purchase
them. Similarly, the Portfolio may be required to purchase securities in
connection with a dollar roll at a higher price than may otherwise be available
on the open market. Since, as noted above, the counterparty is required to
deliver a similar, but not identical, security to the Portfolio, the security
that the Portfolio is required to buy under the dollar roll may be worth less
than an identical security. Finally, there can be no assurance that the
Portfolio's use of the cash that it receives from a dollar roll will provide a
return that exceeds borrowing costs.
Portfolio Turnover
While it is impossible to predict portfolio turnover rates, the Advisers
to the Portfolios other than the Dreyfus U.S. Government Securities Portfolio,
Dreyfus Small Cap Value Portfolio and the TCW Money Market Portfolio anticipate
that portfolio turnover will generally not exceed 100% per year. The Adviser to
the Dreyfus U.S. Government Securities Portfolio anticipates that portfolio
turnover may exceed 200% per year, exclusive of dollar roll transactions. The
Adviser to the Dreyfus Small Cap Value Portfolio anticipates that the
Portfolio's portfolio turnover rate will generally not exceed 175%. With respect
to the TCW Money Market Portfolio, although the Portfolio intends normally to
hold its investments to maturity, the short maturities of these investments are
expected by the Portfolio's Adviser to result in a relatively high rate of
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<PAGE>
portfolio turnover. Higher portfolio turnover rates usually generate additional
brokerage commissions and expenses.
For the fiscal year ended December 31, 1996, the portfolio turnover rate
for the Dreyfus Small Cap Value Portfolio was 171% as compared with a turnover
rate of 75%% for the fiscal year ended December 31, 1995. The increase in
portfolio turnover rate was in connection with the change of the Portfolio's
investment adviser in September, 1996.
For the fiscal year ended December 31, 1996, the portfolio turnover rate
for the Dreyfus U.S. Government Securities Portfolio was 222% as compared with a
turnover rate of 161% for the period ended December 31, 1995. The increase in
portfolio turnover rate was due to an increased number of market-related
investment opportunities for the Portfolio.
INVESTMENT RESTRICTIONS
Except for restriction numbers 2, 3, 4, 11 and 12 with respect to the T.
Rowe Price Equity Income, T. Rowe Price Growth Stock, Opportunity Value and
Enhanced Index Portfolios and restriction number 11 with respect to the T. Rowe
Price International Stock and Dreyfus Small Cap Value Portfolios (which
restrictions are not fundamental policies), the following investment
restrictions (numbers 1 through 12) are fundamental policies, which may not be
changed without the approval of a majority of the outstanding shares of the
Portfolio, and apply to each of the Portfolios except as otherwise indicated. As
provided in the 1940 Act, a vote of a majority of the outstanding shares
necessary to amend a fundamental policy means the affirmative vote of the lesser
of (1) 67% or more of the shares present at a meeting, if the holders of more
than 50% of the outstanding shares of the Portfolio are present or represented
by proxy, or (2) more than 50% of the outstanding shares of the Portfolio.
A Portfolio may not:
1. Borrow money or issue senior securities (as defined in the 1940 Act),
provided that a Portfolio may borrow amounts not exceeding 5% of the value of
its total assets (not including the amount borrowed) for temporary purposes,
except that the Dreyfus U.S. Government Securities Portfolio may borrow from
banks or through reverse repurchase agreements or dollar roll transactions in an
amount equal to up to 33 1/3% of the value of its total assets (calculated when
the loan is made) for temporary, extraordinary or emergency purposes and to take
advantage of investment opportunities and may pledge up to 33 1/3% of the
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<PAGE>
value of its total assets to secure those borrowings; except that the T. Rowe
Price Equity Income Portfolio, the T. Rowe Price Growth Stock Portfolio and T.
Rowe Price International Stock Portfolio may (i) borrow for non-leveraging,
temporary or emergency purposes and (ii) engage in reverse repurchase agreements
and make other investments or engage in other transactions, which may involve a
borrowing, in a manner consistent with each Portfolio's investment objective and
program, provided that the combination of (i) and (ii) shall not exceed 33 1/3%
of the value of each Portfolios's total assets (including the amount borrowed)
less liabilities (other than borrowings) and may pledge up to 33 1/3% of the
value of its total assets to secure those borrowings; except that the
Opportunity Value Portfolio may borrow money from banks or through reverse
repurchase agreements for temporary or emergency purposes in amounts up to 10%
of its total assets; and except that the Enhanced Index Portfolio may borrow
money from banks for temporary or emergency purposes or through reverse
repurchase agreements in amounts up to 10% of its total assets.
2. Pledge, hypothecate, mortgage or otherwise encumber its assets, except to
secure borrowings permitted by restriction 1 above. Collateral arrangements with
respect to margin for futures contracts and options are not deemed to be pledges
or other encumbrances for purposes of this restriction.
3. Purchase securities on margin, except a Portfolio may obtain such short-
term credits as may be necessary for the clearance of securities transactions
and may make margin deposits in connection with transactions in options, futures
contracts and options on such contracts.
4. Make short sales of securities or maintain a short position for the account
of the Portfolio, unless at all times when a short position is open the
Portfolio owns an equal amount of such securities or owns securities which,
without payment of any further consideration, are convertible or exchangeable
for securities of the same issue as, and in equal amounts to, the securities
sold short.
5. Underwrite securities issued by other persons, except to the extent that
in connection with the disposition of its portfolio investments it may be deemed
to be an underwriter under federal securities laws.
6. Purchase or sell real estate, although a Portfolio may purchase securities
of issuers which deal in real estate,
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<PAGE>
securities which are secured by interests in real estate and securities
representing interests in real estate.
7. Purchase or sell commodities or commodity contracts, except that all
Portfolios other than the TCW Money Market Portfolio may purchase or sell
financial futures contracts and related options. For purposes of this
restriction, currency contracts or hybrid investments shall not be considered
commodities.
8. Make loans, except by purchase of debt obligations in which the Portfolio
may invest consistently with its investment policies, by entering into
repurchase agreements or through the lending of its portfolio securities.
9. Invest in the securities of any issuer if, immediately after such
investment, more than 5% of the total assets of the Portfolio (taken at current
value) would be invested in the securities of such issuer or acquire more than
10% of the outstanding voting securities of any issuer, provided that this
limitation does not apply to obligations issued or guaranteed as to principal
and interest by the U.S. government or its agencies and instrumentalities or to
repurchase agreements secured by such obligations and that up to 25% of the
Portfolio's total assets (taken at current value) may be invested without regard
to this limitation.
10. Invest more than 25% of the value of its total assets in any one industry,
provided that this limitation does not apply to obligations issued or guaranteed
as to interest and principal by the U.S. government, its agencies and
instrumentalities, and repurchase agreements secured by such obligations, and in
the case of the TCW Money Market Portfolio obligations of domestic branches of
United States banks.
11. Invest more than 10% (15% with respect to the T. Rowe Price Equity Income
Portfolio, the T. Rowe Price Growth Stock Portfolio, the T. Rowe Price
International Stock Portfolio, the Dreyfus Small Cap Value Portfolio, the
Opportunity Value Portfolio and the Enhanced Index Portfolio) of its net assets
(taken at current value at the time of each purchase) in illiquid securities
including repurchase agreements maturing in more than seven days.
12. Purchase securities of any issuer for the purpose of exercising control or
management.
All percentage limitations on investments will apply at the time of the
making of an investment and shall not be considered
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<PAGE>
violated unless an excess or deficiency occurs or exists immediately after and
as a result of such investment.
Other Policies
The TCW Money Market Portfolio may not invest in the securities of any one
issuer if, immediately after such investment, more than 5% of the total assets
of the Portfolio (taken at current value) would be invested in the securities of
such issuer, provided that this limitation does not apply to obligations issued
or guaranteed as to principal and interest by the U.S. government or its
agencies and instrumentalities or to repurchase agreements secured by such
obligations and that with respect to 25% of the Portfolio's total assets more
than 5% may be invested in securities of any one issuer for three business days
after the purchase thereof if the securities have been assigned the highest
quality rating by NRSROs, or if not rated, have been determined to be of
comparable quality. These limitations apply to time deposits, including
certificates of deposit, bankers' acceptances, letters of credit and similar
instruments; they do not apply to demand deposit accounts. For a description of
the NRSROs' ratings, see the Appendix.
In addition, the TCW Money Market Portfolio may not purchase any security
that matures more than thirteen months (397 days) from the date of purchase or
which has an implied maturity of more than thirteen months (397 days) except as
provided in (1) below. For the purposes of satisfying this requirement, the
maturity of a portfolio instrument shall be deemed to be the period remaining
until the date noted on the face of the instrument as the date on which the
principal amount must be paid, or in the case of an instrument called for
redemption, the date on which the redemption payment must be made, except that:
1. An instrument that is issued or guaranteed by the U.S. government or any
agency thereof which has a variable rate of interest readjusted no less
frequently than every 25 months (762 days) may be deemed to have a maturity
equal to the period remaining until the next readjustment of the interest rate.
2. A variable rate instrument, the principal amount of which is scheduled on
the face of the instrument to be paid in thirteen months (397 days) or less, may
be deemed to have a maturity equal to the period remaining until the next
readjustment of the interest rate.
3. A variable rate instrument that is subject to a demand feature may be
deemed to have a maturity equal to the longer of
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<PAGE>
the period remaining until the next readjustment of the interest rate or the
period remaining until the principal amount can be recovered through demand.
4. A floating rate instrument that is subject to a demand feature may be
deemed to have a maturity equal to the period remaining until the principal
amount can be recovered through demand.
5. A repurchase agreement may be deemed to have a maturity equal to the period
remaining until the date on which the repurchase of the underlying securities is
scheduled to occur, or where no date is specified, but the agreement is subject
to demand, the notice period applicable to a demand for the repurchase of the
securities.
6. A portfolio lending agreement may be treated as having a maturity equal to
the period remaining until the date on which the loaned securities are scheduled
to be returned, or where no date is specified, but the agreement is subject to
demand, the notice period applicable to a demand for the return of the loaned
securities.
Each of the Value Equity and Dreyfus Small Cap Value Portfolios may not
invest more than 5% of the value of its total assets in warrants not listed on
either the New York or American Stock Exchange. Each of the Opportunity Value
and Enhanced Index Portfolios will not invest in warrants if, as a result
thereof, more than 2% of the value of the total assets of the Portfolio would be
invested in warrants which are not listed on the New York Stock Exchange, the
American Stock Exchange, or a recognized foreign exchange, or more than 5% of
the value of the total assets of the Portfolio would be invested in warrants
whether or not so listed. However, the acquisition of warrants attached to other
securities is not subject to this restriction. Each of the T. Rowe Price Equity
Income, T. Rowe Price Growth Stock and T. Rowe Price International Stock
Portfolios will not invest in warrants if, as a result thereof, the Portfolio
will have more than 5% of the value of its total assets invested in warrants;
provided that this restriction does not apply to warrants acquired as a result
of the purchase of another security.
PERFORMANCE INFORMATION
Total return and yield will be computed as described below.
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<PAGE>
Total Return
Each Portfolio's "average annual total return" figures described and shown
in the Prospectus are computed according to a formula prescribed by the
Securities and Exchange Commission. The formula can be expressed as follows:
P(1+T)n = ERV
Where: P = a hypothetical initial payment of $1000
T = average annual total return
n = number of years
ERV = Ending Redeemable Value of a hypothetical $1000 payment made at the
beginning of the 1, 5, or 10 years (or other) periods at the end of the 1, 5, or
10 years (or other) periods (or fractional portion thereof)
The table below shows the average annual total return for the TCW Managed
Asset Allocation, Value Equity, Dreyfus Small Cap Value, Dreyfus U.S. Government
Securities, T. Rowe Price Equity Income, T. Rowe Price Growth Stock and
Opportunity Value Portfolios for the specific periods.
With respect to the T. Rowe Price International Stock Portfolio which
commenced operation April 8, 1991, effective January 1, 1995, the Portfolio's
Adviser was changed to Rowe Price-Fleming International, Inc. ("Price-Fleming").
Prior to March 24, 1995, the Portfolio was known as the Global Growth Portfolio.
Subsequent to such time, the Portfolio's investment objective was changed from
investments in small capitalization companies on a global basis to investments
in a broad range of established companies on an international basis (i.e., non-
U.S. companies). Because of the change of the Portfolio's Adviser, performance
information for the period from inception to December 31, 1995 is not presented.
Such information is not reflective of Price- Fleming's ability to manage the
Portfolio. Information with respect to the Portfolio's per share income and
capital changes from inception through December 31, 1996 is set forth in the
Prospectus. Average annual total return information for the period from
inception to December 31, 1994 is available upon written request to the Fund.
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<PAGE>
<TABLE>
<CAPTION>
For Period
For the One For the Five From Incep-
Year Period Year Period tion (1) to
Ended December Ended December December 31,
31, 1996 31, 1996 1996
-------------- -------------- --------------
<S> <C> <C> <C>
TCW Managed Asset
Allocation(2)...... 17.82%/17.82%* 12.66%/12.39%* 12.72%/12.41%*
T. Rowe Price
International
Stock.............. 15.23%/15.23%* N/A 12.77%/12.77%*
Value Equity(3)....... 23.84%/23.84%* N/A 17.46%/17.29%*
Dreyfus Small
Cap Value(4)....... 25.63%/25.63%* N/A 13.19%/13.07%*
T. Rowe Price
Equity Income(5)... 19.88%/19.88%* N/A 25.19%/25.19%*
T. Rowe Price Growth
Stock(5)............ 20.77%/20.77%* N/A 28.85%/28.85%*
Dreyfus U.S.
Government
Securities(6)...... 1.81%/1.81%* N/A 6.23%/6.08%*
Opportunity Value(7).. N/A N/A .60%/ .20%*
</TABLE>
________________________
* The figure shows what the Portfolio's performance would have been in the
absence of fee waivers and/or reimbursement of other expenses, if any.
(1) With respect to T. Rowe Price International Stock Portfolio, period
commenced on January 1, 1995.
(2) The Portfolio commenced operations on April 8, 1991.
(3) The Portfolio commenced operations on May 27, 1993.
(4) The Portfolio commenced operations on May 4, 1993.
(5) The Portfolio commenced operations on January 3, 1995.
(6) The Portfolio commenced operations on May 13, 1994.
(7) The Portfolio commenced operations on November 18, 1996.
________________________
The calculations of total return assume the reinvestment of all dividends
and capital gains distributions on the reinvestment dates during the period and
the deduction of all recurring expenses that were charged to shareholders
accounts. The above
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<PAGE>
table does not reflect charges and deductions which are, or may be, imposed
under the Contracts.
The performance of each Portfolio will vary from time to time in response
to fluctuations in market conditions, interest rates, the composition of the
Portfolio's investments and expenses. Consequently, a Portfolio's performance
figures are historical and should not be considered representative of the
performance of the Portfolio for any future period.
Yield
From time to time, the Fund may quote the TCW Money Market Portfolio's and
the Dreyfus U.S. Government Securities Portfolio's yield and effective yield in
advertisements or in reports or other communications to shareholders. Yield
quotations are expressed in annualized terms and may be quoted on a compounded
basis.
The annualized current yield for the TCW Money Market Portfolio is computed
by: (a) determining the net change in the value of a hypothetical pre-existing
account in the Portfolio having a balance of one share at the beginning of a
seven calendar day period for which yield is to be quoted; (b) dividing the net
change by the value of the account at the beginning of the period to obtain the
base period return; and (c) annualizing the results (i.e., multiplying the base
period return by 365/7). The net change in the value of the account reflects the
value of additional shares purchased with dividends declared on the original
share and any such additional shares, but does not include realized gains and
losses or unrealized appreciation and depreciation. In addition, the TCW Money
Market Portfolio may calculate a compound effective annualized yield by adding 1
to the base period return (calculated as described above), raising the sum to a
power equal to 365/7 and subtracting 1.
The Dreyfus U.S. Government Securities Portfolio's 30-day yield will be
calculated according to a formula prescribed by the Securities and Exchange
Commission. The formula can be expressed as follows:
YIELD = 2[(a-b+1)6-1]
---
cd
Where: a = dividends and interest earned during the period
b = expenses accrued for the period (net of
reimbursement)
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<PAGE>
c = the average daily number of shares outstanding
during the period that were entitled to receive
dividends
d = the net asset value per share on the last day of
the period
For the purpose of determining the interest earned (variable "a" in the formula)
on debt obligations that were purchased by the Portfolio at a discount or
premium, the formula generally calls for amortization of the discount or
premium; the amortization schedule will be adjusted monthly to reflect changes
in the market values of the debt obligations.
Yield information is useful in reviewing a Portfolio's performance, but
because yields fluctuate, such information cannot necessarily be used to compare
an investment in a Portfolio's shares with bank deposits, savings accounts and
similar investment alternatives which often provide an agreed or guaranteed
fixed yield for a stated period of time. Shareholders should remember that yield
is a function of the kind and quality of the instruments in the Portfolios'
investment portfolios, portfolio maturity, operating expenses and market
conditions.
It should be recognized that in periods of declining interest rates the
yields will tend to be somewhat higher than prevailing market rates, and in
periods of rising interest rates the yields will tend to be somewhat lower.
Also, when interest rates are falling, the inflow of net new money to a
Portfolio from the continuous sale of its shares will likely be invested in
instruments producing lower yields than the balance of the Portfolio's
investments, thereby reducing the current yield of the Portfolio. In periods of
rising interest rates, the opposite can be expected to occur.
Non-Standardized Performance
In addition to the performance information described above, the Fund may
provide total return information with respect to the Portfolios for designated
periods, such as for the most recent six months or most recent twelve months.
This total return information is computed as described under "Total Return"
above except that no annualization is made.
PORTFOLIO TRANSACTIONS
Subject to the supervision and control of the Manager and the Trustees of
the Fund, each Portfolio's Adviser is responsible
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<PAGE>
for decisions to buy and sell securities for its account and for the placement
of its portfolio business and the negotiation of commissions, if any, paid on
such transactions. Brokerage commissions are paid on transactions in equity
securities traded on a securities exchange and on options, futures contracts and
options thereon. Fixed income securities and certain equity securities in which
the Portfolios invest are traded in the over-the-counter market. These
securities are generally traded on a net basis with dealers acting as principal
for their own account without a stated commission, although prices of such
securities usually include a profit to the dealer. In over-the-counter
transactions, orders are placed directly with a principal market maker unless a
better price and execution can be obtained by using a broker. In underwritten
offerings, securities are usually purchased at a fixed price which includes an
amount of compensation to the underwriter generally referred to as the
underwriter's concession or discount. Certain money market securities may be
purchased directly from an issuer, in which case no commissions or discounts are
paid. U.S. government securities are generally purchased from underwriters or
dealers, although certain newly-issued U.S. government securities may be
purchased directly from the U.S. Treasury or from the issuing agency or
instrumentality. Each Portfolio's Adviser is responsible for effecting its
portfolio transactions and will do so in a manner deemed fair and reasonable to
the Portfolio and not according to any formula. The primary consideration in all
portfolio transactions will be prompt execution of orders in an efficient manner
at a favorable price. In selecting broker-dealers and negotiating commissions,
an Adviser considers the firm's reliability, the quality of its execution
services on a continuing basis and its financial condition. When more than one
firm is believed to meet these criteria, preference may be given to brokers that
provide the Portfolios or their Advisers with brokerage and research services
within the meaning of Section 28(e) of the Securities Exchange Act of 1934. Each
Portfolio's Adviser is of the opinion that, because this material must be
analyzed and reviewed, its receipt and use does not tend to reduce expenses but
may benefit the Portfolio by supplementing the Adviser's research. In seeking
the most favorable price and execution available, an Adviser may, if permitted
by law, consider sales of the Contracts as described in the Prospectus a factor
in the selection of broker-dealers.
The Board of Trustees of the Fund has authorized the Manager and the
Advisers to enter into arrangements with brokers who execute brokerage
transactions for the Portfolios whereby a portion of the commissions earned by
such brokers will be shared with a broker-dealer affiliate of the Manager. The
affiliated
-28-
<PAGE>
broker will act as an "introducing broker" in the transaction. Subject to the
requirements of applicable law including seeking best price and execution of
orders, commissions paid to executing brokers will not exceed ordinary and
customary brokerage commissions.
The Board of Trustees has determined that the Fund's brokerage commissions
should be utilized for the Fund's benefit to the extent possible. After
reviewing various alternatives, the Board concluded that commissions received by
the broker-dealer affiliate of the Manager can be used to promote the
distribution of the Fund's shares including payments to broker-dealers who sell
the Contracts, the costs of training and educating such broker-dealers with
respect to the Contracts and other bona-fide distribution costs payable to
unaffiliated persons. Other than incidental costs related to establishing the
broker-dealer affiliate as an "introducing broker", no portion of the
commissions received by the broker-dealer affiliate of the Manager will be
retained for its or any affiliate's benefit. On a quarterly basis, the Manager
will report to the Board of Trustees the aggregate commissions received by its
broker-dealer affiliate and the distribution expenses paid from such
commissions. The Board of Trustees will periodically review the extent to which
the foregoing arrangement reduces distribution expenses currently being incurred
by the Manager or its affiliates on behalf of the Fund. The Board of Trustees
may determine from time to time other appropriate uses for the Fund from the
commissions it pays to executing brokers.
The Manager will not implement this program until any required exemptive or
no-action relief is obtained from the Securities and Exchange Commission.
An Adviser may effect portfolio transactions for other investment companies
and advisory accounts. Research services furnished by broker-dealers through
which a Portfolio effects its securities transactions may be used by the
Portfolio's Adviser in servicing all of its accounts; not all such services may
be used in connection with the Portfolio. In the opinion of each Adviser, it is
not possible to measure separately the benefits from research services to each
of its accounts, including a Portfolio. Whenever concurrent decisions are made
to purchase or sell securities by a Portfolio and another account, the
Portfolio's Adviser will attempt to allocate equitably portfolio transactions
among the Portfolio and other accounts. In making such allocations between the
Portfolio and other accounts, the main factors to be considered are the
respective investment objectives, the relative size of portfolio holdings of the
same
-29-
<PAGE>
or comparable securities, the availability of cash for investment, the size of
investment commitments generally held, and the opinions of the persons
responsible for recommending investments to the Portfolio and the other
accounts. In some cases this procedure could have an adverse effect on a
Portfolio. In the opinion of each Adviser, however, the results of such
procedures will, on the whole, be in the best interest of each of the accounts.
The Adviser to the Value Equity and Opportunity Value Portfolios may
execute brokerage transactions through Oppenheimer & Co. Inc. ("Opco"), an
affiliated broker-dealer of the Adviser, acting as agent in accordance with
procedures established by the Fund's Board of Trustees, but will not purchase
any securities from or sell any securities to Opco acting as principal for its
own account.
The Adviser to the T. Rowe Price International Stock, T. Rowe Price Equity
Income and T. Rowe Price Growth Stock Portfolios may execute portfolio
transactions through certain affiliates of Robert Fleming Holdings Limited and
Jardine Fleming Group Limited, persons indirectly related to the Adviser, acting
as agent in accordance with procedures established by the Fund's Board of
Trustees, but will not purchase any securities from or sell any securities to
any such affiliate acting as principal for its own account.
The Adviser to the Enhanced Index Portfolio may execute portfolio
transactions through certain of its affiliated brokers, acting as agent in
accordance with the procedures established by the Fund's Board of Trustees, but
will not purchase any securities from or sell any securities to such affiliate
acting as principal for its own account.
For the year ended December 31, 1994, the TCW Money Market Portfolio did
not pay any brokerage commissions, while the TCW Managed Asset Allocation
Portfolio and T. Rowe Price International Stock Portfolio paid $175,548 and
$554,048, respectively, in brokerage commissions. For the year ended December
31, 1994, the Value Equity Portfolio and Dreyfus Small Cap Value Portfolio paid
$58,472 and $100,262, respectively, in brokerage commissions, of which $32,796
(78.29%) with respect to the Value Equity Portfolio and $58,028 (72.78%) with
respect to the Dreyfus Small Cap Value Portfolio was paid to Opco. For the
fiscal period ended December 31, 1994, the Dreyfus U.S. Government Securities
Portfolio paid no brokerage commissions. For the year ended December 31, 1995,
the TCW Money Market Portfolio and the Dreyfus U.S. Government Securities
Portfolio
-30-
<PAGE>
did not pay any brokerage commissions, while the TCW Managed Asset Allocation
Portfolio paid $187,103 in brokerage commissions. For the year ended December
31, 1995, the T. Rowe Price International Stock Portfolio, the Value Equity
Portfolio and the Dreyfus Small Cap Value Portfolio paid $395,753, $57,800, and
$101,885, respectively, in brokerage commissions of which $33,338 (8.42%),
$15,101 (3.82%) and $673 (.17%) with respect to the T. Rowe Price International
Stock Portfolio was paid to Robert Fleming Holdings Limited and Jardine Fleming
Group Limited, Ord Minnett and OpCo, respectively, $29,271 (50.64%) with respect
to the Value Equity Portfolio and $36,216 (35.55%) with respect to the Dreyfus
Small Cap Value Portfolio was paid to OpCo. For the fiscal period ended December
31, 1995, the T. Rowe Price Equity Income Portfolio and the T. Rowe Price Growth
Stock Portfolio paid $18,059 and $39,447, respectively in brokerage commissions
of which $10 (0.06%) with respect to the T. Rowe Price Equity Income Portfolio
was paid to OpCo and $536 (1.36%), $507 (1.29%) and $23 (0.06%) with respect to
the T. Rowe Price Growth Stock Portfolio was paid to Boston Safe Deposit and
Trust Company, Jardine Fleming Group Limited and OpCo, respectively. For the
year ended December 31, 1996, the Dreyfus U.S. Government Securities Portfolio
did not pay any brokerage commissions, while the TCW Money Market Portfolio and
the TCW Managed Asset Allocation Portfolio paid $2,724 and $93,009 in brokerage
commissions, respectively. For the year ended December 31, 1996, the T. Rowe
Price International Stock Portfolio, the Value Equity Portfolio and the Dreyfus
Small Cap Value Portfolio paid $136,536, $90,589, and $398,554, respectively, in
brokerage commissions of which $4,462 (3.27%), $2,908 (2.13%) and $906 (.66%)
with respect to the T. Rowe Price International Stock Portfolio was paid to
Robert Fleming Holdings Limited and Jardine Fleming Group Limited, Ord Minnett
and OpCo, respectively, $35,624 (39.32%) with respect to the Value Equity
Portfolio and $34,511 (8.66%) with respect to the Dreyfus Small Cap Value
Portfolio was paid to OpCo. For the fiscal year ended December 31, 1996, the T.
Rowe Price Equity Income Portfolio and the T. Rowe Price Growth Stock Portfolio
paid $55,261 and $69,409, respectively in brokerage commissions of which $120
(.22%) with respect to the T. Rowe Price Equity Income Portfolio was paid to
OpCo and $3,037 (4.38%) and $63 (.09%) with respect to the T. Rowe Price Growth
Stock Portfolio was paid to Robert Flemings Holdings Limited and OpCo,
respectively. For the fiscal period ended December 31, 1996, the Opportunity
Value Portfolio paid $291 in brokerage commissions.
-31-
<PAGE>
MANAGEMENT OF THE FUND
Trustees and Officers
The Trustees and executive officers of the Trust, their ages and their
principal occupations during the past five years are set forth below. Unless
otherwise indicated, the business address of each is 2101 East Coast Highway,
Suite 300, Corona del Mar, California 92625.
Principal
Positions Occupation(s)
Held with During Past
Name, Age and Address Registrant 5 Years
- --------------------- ---------- -------------
James R. McInnis (49) President President of Endeavor
Group (broker-dealer)
since June, 1991;
President of McGuinness &
Associates (insurance
marketing) from March,
1983 to June, 1991.
*Vincent J. McGuinness (62) Trustee Chairman, Chief Executive
Officer and Director of
McGuinness & Associates,
Endeavor Group, VJM
Corporation (oil and gas),
until July, 1996
McGuinness Group
(insurance marketing) and
until January, 1994 Swift
Energy Marketing Company
and since September, 1988
Endeavor Management Co.;
President of VJM
Corporation, Endeavor
Management Co. and, since
February, 1996, McGuinness
& Associates.
-32-
<PAGE>
Principal
Positions Occupation(s)
Held with During Past
Name, Age and Address Registrant 5 Years
- --------------------- ---------- -------------
Timothy A. Devine (62) Trustee Prior to September, 1993,
1424 Dolphin Terrace President and Chief
Corona del Mar, California Executive Officer, Devine
92625 Properties, Inc. Since
September, 1993, Vice
President, Plant Control,
Inc. (landscape
contracting and
maintenance).
-33-
<PAGE>
Principal
Positions Occupation(s)
Held with During Past
Name, Age and Address Registrant 5 Years
- --------------------- ---------- -------------
Thomas J. Hawekotte (62) Trustee President, Thomas J.
1200 Lake Shore Drive Hawekotte, P.C. (law
Chicago, Illinois 60610 practice).
Steven L. Klosterman (45) Trustee Since July, 1995,
462 Stevens Avenue President of Klosterman
Suite 206 Capital Corporation
Solana Beach, California (investment adviser);
92075 Investment Counselor,
Robert J. Metcalf &
Associates, Inc.
(investment adviser) from
August, 1990 to June,
1995.
*Halbert D. Lindquist (51) Trustee President, Lindquist
1650 E. Fort Lowell Road Enterprises, Inc.
Tucson, Arizona 85719-2324 (financial services) and
since December, 1987
Tucson Asset Management,
Inc. (financial services),
and since November, 1987,
Presidio Government
Securities, Incorporated
(broker-dealer).
R. Daniel Olmstead, Jr. (66) Trustee Rancher until January,
2661 Point Del Mar 1997. Since January,
Corona Del Mar, California 1997, real estate
92625 consultant.
Norman Ridley (51) Vice Since 1985, Senior Vice
865 S. Figueroa Street President President, TCW Asset
Suite 1800 Management Company and
Los Angeles, California Trust Company of the West.
90017
-34-
<PAGE>
Principal
Positions Occupation(s)
Held with During Past
Name, Age and Address Registrant 5 Years
- --------------------- ---------- -------------
Ronald E. Robison (58) Vice Since November, 1987,
865 S. Figueroa Street President Managing Director and
Suite 1800 Chief Operating Officer,
Los Angeles, California TCW Funds Management Inc.;
90017 since March, 1990,
Managing Director, Trust
Company of the West and
TCW Asset Management
Company.
James M. Goldberg (51) Vice Since June, 1984, Managing
865 S. Figueroa Street President Director, TCW Asset
Suite 1800 Management Company and
Los Angeles, California Trust Company of the West
90017 and since January, 1987
Managing Director, TCW
Funds Management, Inc.
Eileen Rominger (42) Vice Since May, 1994, Managing
One World Financial Center President Director, Oppenheimer
New York, New York 10281 Capital, prior thereto
Senior Vice President,
Oppenheimer Capital;
Portfolio Manager,
Oppenheimer Quest Value
Fund, Inc., OCC
Accumulation Trust,
Enterprise Accumulation
Trust and Penn Series
Fund, open-end investment
companies.
-35-
<PAGE>
Principal
Positions Occupation(s)
Held with During Past
Name, Age and Address Registrant 5 Years
- --------------------- ---------- -------------
**Vincent J. McGuinness, Jr. Chief Since September, 1996,
(32) Financial Chief Financial Officer
Officer and since May, 1996,
(Treasurer) Director of Endeavor
Management Co.; since
August, 1996, Chief
Financial officer of VJM
Corporation; since May,
1996, Executive Vice
President and Director of
Sales, Western Division of
Endeavor Group; Chief
Financial Officer of
McGuinness & Associates;
since March, 1996,
Director of McGuinness
Group. From July, 1993 to
August, 1995 Rocky
Mountain Regional
Marketing Director for
Endeavor Group. MBA
graduate student from
September, 1991 to May,
1993.
-36-
<PAGE>
Principal
Positions Occupation(s)
Held with During Past
Name, Age and Address Registrant 5 Years
- --------------------- ---------- -------------
Pamela A. Shelton (48) Secretary Since October, 1993,
Executive Secretary to
Chairman of the Board and
Chief Executive Officer
of, and since April, 1996,
Secretary of McGuinness &
Associates, Endeavor
Group, VJM Corporation,
McGuinness Group (until
July, 1996) and Endeavor
Management Co.; from July,
1992 to October, 1993,
Administrative Secretary,
Mayor and City Council,
City of Laguna Niguel,
California; and from
November, 1986 to July,
1992, Executive Secretary
to Chairman of the Board
and Chief Executive
Officer of, and from
October, 1990 to July,
1992, Secretary of
McGuinness & Associates,
Endeavor Group, VJM
Corporation, McGuinness
Group, Endeavor Management
Co. and Swift Energy
Marketing Company.
* An "interested person" of the Fund as defined in the 1940 Act.
** Vincent J. McGuinness, Jr. is the son of Vincent J. McGuinness.
No remuneration will be paid by the Fund to any Trustee or officer of the
Fund who is affiliated with the Manager or the Advisers. Each Trustee who is not
an affiliated person of the Fund will be reimbursed for out-of-pocket expenses
and receives an annual fee of $2,500 and $500 for attendance at each regularly
scheduled Trustees' meeting. Set forth below for each of the Trustees of the
Fund is the aggregate compensation paid to such Trustees for the fiscal year
ended December 31, 1996.
-37-
<PAGE>
COMPENSATION TABLE
<TABLE>
<CAPTION>
Total
Compensation
From Fund
Aggregate and Fund
Name of Compensation Complex
Person From Fund Paid to Trustees
- ------- ------------ ----------------
<S> <C> <C>
Vincent J. McGuinness $ - $ -
Timothy A. Devine 4,500 4,500
Thomas J. Hawekotte 4,500 4,500
Steven L. Klosterman 4,500 4,500
Halbert D. Lindquist 3,500 3,500
R. Daniel Olmstead 4,500 4,500
</TABLE>
The Agreement and Declaration of Trust of the Fund provides that the Fund
will indemnify its Trustees and officers against liabilities and expenses
incurred in connection with litigation in which they may be involved because of
their offices with the Fund, except if it is determined in the manner specified
in the Agreement and Declaration of Trust that they have not acted in good faith
in the reasonable belief that their actions were in the best interests of the
Fund or that such indemnification would relieve any officer or Trustee of any
liability to the Fund or its shareholders by reason of willful misfeasance, bad
faith, gross negligence or reckless disregard of his duties. The Fund, at its
expense, provides liability insurance for the benefit of its Trustees and
officers.
As of the date of this Statement of Additional Information, the officers
and Trustees of the Fund as a group owned less than 1% of the outstanding shares
of the Fund.
The Manager
The Management Agreement between the Fund and the Manager with respect to
the TCW Money Market, TCW Managed Asset Allocation and T. Rowe Price
International Stock Portfolios was approved by the Trustees of the Fund
(including all of the Trustees who are not "interested persons" [as defined in
the 1940 Act] of the Manager) on July 20, 1992, and by the shareholders of the
Fund on November 23, 1992. With respect to the Value Equity and Dreyfus Small
-38-
<PAGE>
Cap Value Portfolios, the Management Agreement was approved by the Trustees of
the Fund (including all of the Trustees who are not "interested persons" of the
Manager) on April 19, 1993 and by PFL Life Insurance Company, the sole
shareholder of the Value Equity and Dreyfus Small Cap Value Portfolios, on April
19, 1993. With respect to the Dreyfus U.S. Government Securities Portfolio, the
Management Agreement was approved by the Trustees of the Fund (including all of
the Trustees who are not "interested persons" of the Manager) on January 24,
1994 and by PFL Life Insurance Company, the sole shareholder of the Dreyfus U.S.
Government Securities Portfolio, on March 7, 1994. With respect to the T. Rowe
Price Equity Income and T. Rowe Price Growth Stock Portfolios, the Management
Agreement was approved by the Trustees of the Fund (including all of the
Trustees who are not "interested persons" of the Manager) on October 24, 1994
and by PFL Life Insurance Company, the sole shareholder of the T. Rowe Price
Equity Income and T. Rowe Price Growth Stock Portfolios, on November 1, 1994.
With respect to the Opportunity Value and Enhanced Index Portfolios, the
Management Agreement was approved by the Trustees of the Fund (including all of
the Trustees who are not "interested persons" of the Manager) on August 13, 1996
and by PFL Life Insurance Company, the sole shareholder of the Opportunity Value
and Enhanced Index Portfolios, on August 26, 1996. See "Organization and
Capitalization of the Fund." The Management Agreement will continue in force for
two years from its date, November 23, 1992 with respect to the TCW Money Market,
TCW Managed Asset Allocation and T. Rowe Price International Stock Portfolios,
April 19, 1993 with respect to the Value Equity and Dreyfus Small Cap Value
Portfolios, March 25, 1994 with respect to the Dreyfus U.S. Government
Securities Portfolio, December 28, 1994 with respect to the T. Rowe Price Equity
Income and T. Rowe Price Growth Stock Portfolios, August 26, 1996 with respect
to the Opportunity Value and Enhanced Index Portfolios and from year to year
thereafter, but only so long as its continuation as to each Portfolio is
specifically approved at least annually (i) by the Trustees or by the vote of a
majority of the outstanding voting securities of the Portfolio, and (ii) by the
vote of a majority of the Trustees who are not parties to the Management
Agreement or "interested persons" of any such party, by votes cast in person at
a meeting called for the purpose of voting on such approval. The Management
Agreement provides that it shall terminate automatically if assigned, and that
it may be terminated as to any Portfolio without penalty by the Trustees of the
Fund or by vote of a majority of the outstanding voting securities of the
Portfolio upon 60 days' prior written notice to the Manager, or by the Manager
upon 90 days' prior written notice to the Fund, or upon such shorter notice as
may be mutually agreed upon. In the event the Manager ceases to be the Manager
of the Fund, the right of the Fund to use the identifying name of "Endeavor" may
be withdrawn.
-39-
<PAGE>
The Advisers
The Investment Advisory Agreements between the Manager and TCW Funds
Management, Inc. were approved by the Trustees of the Fund (including all the
Trustees who are not "interested persons" of the Manager or of the Adviser) on
July 20, 1992, and by the shareholders of the Fund on November 23, 1992. The
Investment Advisory Agreements between the Manager and OpCap Advisors (formerly
known as Quest for Value Advisors) were initially approved by the Trustees of
the Fund (including all of the Trustees who are not "interested persons" of the
Manager or of the Adviser) on April 19, 1993 with respect to the Value Equity
Portfolio and August 13, 1996 with respect to the Opportunity Value Portfolio
and by PFL Life Insurance Company as sole shareholder of the Value Equity and
Opportunity Value Portfolios on April 19, 1993 and August 26, 1996,
respectively. As described in the Prospectus, a transaction is pending whereby
the ownership of OpCap Advisors is being transferred which, under the 1940 Act,
will result in the automatic termination of the Investment Advisory Agreement
between the Manager and OpCap Advisors. On April 8, 1997 the Trustees of the
Fund (including all of the Trustees who are not "interested persons" of the
Manager or the Adviser) approved new Investment Advisory Agreements between the
Manager and OpCap Advisors. Approval of the new Investment Advisory Agreements
will be submitted to the shareholders of the Value Equity and Opportunity Value
Portfolios for approval.
The Investment Advisory Agreement between the Manager and The Boston
Company Asset Management, Inc. was approved by the Trustees of the Fund
(including all of the Trustees who are not "interested persons" of the Manager
or of the Adviser) on January 24, 1994 and by PFL Life Insurance Company as sole
shareholder of the Dreyfus U.S. Government Securities Portfolio on March 7,
1994. The Investment Advisory Agreement was transferred to The Dreyfus
Corporation effective May 1, 1996. The Investment Advisory Agreements between
the Manager and T. Rowe Price Associates, Inc. were approved by the Trustees of
the Fund (including all of the Trustees who are not "interested persons" of the
Manager or of the Adviser) on October 24, 1994 and by PFL Life Insurance Company
as sole shareholder of the T. Rowe Price Equity Income and T. Rowe Price Growth
Stock Portfolios on November 1, 1994. The Investment Advisory Agreement between
the Manager and J.P. Morgan Investment Management Inc. was approved by the
Trustees of the Fund (including all of the Trustees who are not "interested
-40-
<PAGE>
persons" of the Manager or of the Adviser) on August 13, 1996 and by PFL Life
Insurance Company as sole shareholder of the Enhanced Index Portfolio on August
26, 1996. Effective January 1, 1995, Price-Fleming became the Adviser of the T.
Rowe Price International Stock Portfolio. The Investment Advisory Agreement with
Price-Fleming for the T. Rowe Price International Stock Portfolio was approved
by the Trustees of the Fund (including all of the Trustees who are not
"interested persons" of the Manager or of the Adviser) on December 19, 1994 and
by shareholders of the Portfolio on March 24, 1995. Effective September 16,
1996, The Dreyfus Corporation became the Adviser of the Dreyfus Small Cap Value
Portfolio. The Investment Advisory Agreement with The Dreyfus Corporation was
approved by the Trustees of the Fund (including all of the Trustees who are not
"interested persons" of the Manager or of the Adviser) on August 13, 1996 and by
the shareholders of the Portfolio on October 29, 1996. See "Organization and
Capitalization of the Fund."
Each agreement will continue in force for two years from its date, November
23, 1992 with respect to the TCW Money Market and TCW Managed Asset Allocation
Portfolios, April 19, 1993 with respect to the Value Equity Portfolio, March 25,
1994 with respect to the Dreyfus U.S. Government Securities Portfolio, December
28, 1994 with respect to the T. Rowe Price Equity Income and T. Rowe Price
Growth Stock Portfolios, January 1, 1995 with respect to the T. Rowe Price
International Stock Portfolio, September 16, 1996 with respect to the Dreyfus
Small Cap Value Portfolio, November 4, 1996 with respect to the Opportunity
Value Portfolio and April 30, 1997 with respect to the Enhanced Index Portfolio,
and from year to year thereafter, but only so long as its continuation as to a
Portfolio is specifically approved at least annually (i) by the Trustees or by
the vote of a majority of the outstanding voting securities of the Portfolio,
and (ii) by the vote of a majority of the Trustees who are not parties to the
agreement or "interested persons" of any such party, by votes cast in person at
a meeting called for the purpose of voting on such approval. Each Investment
Advisory Agreement provides that it shall terminate automatically if assigned or
if the Management Agreement with respect to the related Portfolio terminates,
and that it may be terminated as to a Portfolio without penalty by the Manager,
by the Trustees of the Fund or by vote of a majority of the outstanding voting
securities of the Portfolio on not less than 60 days' (90 days' with respect to
the Enhanced Index Portfolio) prior written notice to the Adviser or by the
Adviser on not less than 150 days' prior written notice to the Manager, or upon
such shorter notice as may be mutually agreed upon.
-41-
<PAGE>
The following table shows the fees paid by each of the Portfolios and any
fee waivers or reimbursements during the fiscal years ended December 31, 1994,
December 31, 1995 and December 31, 1996.
<TABLE>
<CAPTION>
1996
---------------------------------------
Investment Investment
Management Management Other
Fee Fee Expenses
Paid Waived Reimbursed
---------- ---------- ----------
<S> <C> <C> <C>
TCW Money Market
Portfolio....... $ 165,212 $ -- --
TCW Managed Asset
Allocation
Portfolio....... 1,639,338 -- --
T. Rowe Price
International
Stock Portfolio. 1,015,179 -- --
Value Equity
Portfolio....... 768,579 -- --
Dreyfus Small
Cap Value
Portfolio....... 535,895 -- --
Dreyfus U.S.
Government
Securities
Portfolio....... 122,058 -- --
T. Rowe Price
Equity Income
Portfolio....... 369,356 -- --
T. Rowe Price
Growth Stock
Portfolio....... 313,356 -- --
Opportunity Value
Portfolio*...... 197 -- 2,802
</TABLE>
-42-
<PAGE>
<TABLE>
<CAPTION>
1995**
---------------------------------------
Investment Investment
Management Management Other
Fee Fee Expenses
Paid Waived Reimbursed
---------- ---------- ----------
<S> <C> <C> <C>
TCW Money Market
Portfolio....... $ 117,465 $ --- ---
TCW Managed Asset
Allocation
Portfolio....... 1,388,652 --- ---
T. Rowe Price
International
Stock Portfolio. 759,830 --- ---
Value Equity
Portfolio....... 395,205 --- ---
Dreyfus Small Cap
Value Portfolio. 339,672 --- ---
Dreyfus U.S.
Government
Securities
Portfolio....... 42,531 --- ---
T. Rowe Price
Equity Income
Portfolio....... 70,664 --- ---
T. Rowe Price
Growth Stock
Portfolio....... 75,681 --- ---
</TABLE>
<TABLE>
<CAPTION>
1994
---------------------------------------
Investment
Management Investment Other
Fee Management Expenses
Paid Fee Waived Reimbursed
---------- ---------- ----------
<S> <C> <C> <C>
TCW Money Market
Portfolio....... $ 111,100 $ --- $ ---
TCW Managed Asset
Allocation
Portfolio....... 1,151,688 --- ---
T. Rowe Price
International
Stock Portfolio. 696,732 --- ---
Value Equity
Portfolio....... 191,316 --- ---
Dreyfus Small
Cap Value
Portfolio....... 214,198 --- ---
Dreyfus U.S.
Government
Securities
Portfolio***.... 8,087 8,087 4,955
</TABLE>
- ---------------
-43-
<PAGE>
* The information presented with respect to the Opportunity Value Portfolio
is for the period from November 18, 1996 (commencement of operations) to
December 31, 1996.
** The information presented for the T. Rowe Price Equity Income and T. Rowe
Price Growth Stock Portfolios is for the period from January 3, 1995
(commencement of operations) to December 31, 1995.
*** The information presented with respect to the Dreyfus U.S. Government
Securities Portfolio is for the period from May 13, 1994 (commencement of
operations) to December 31, 1994.
___________________________
Each Investment Advisory Agreement provides that the Adviser shall not be
subject to any liability to the Fund or the Manager for any act or omission in
the course of or connected with rendering services thereunder in the absence of
willful misfeasance, bad faith, gross negligence or reckless disregard of its
duties on the part of the Adviser.
REDEMPTION OF SHARES
The Fund may suspend redemption privileges or postpone the date of payment
on shares of the Portfolios for more than seven days during any period (1) when
the New York Stock Exchange is closed or trading on the Exchange is restricted
as determined by the Securities and Exchange Commission, (2) when an emergency
exists, as defined by the Securities and Exchange Commission, which makes it not
reasonably practicable for a Portfolio to dispose of securities owned by it or
fairly to determine the value of its assets, or (3) as the Securities and
Exchange Commission may otherwise permit.
The value of the shares on redemption may be more or less than the
shareholder's cost, depending upon the market value of the portfolio securities
at the time of redemption.
NET ASSET VALUE
The net asset value per share of each Portfolio is determined as of the
close of regular trading of the New York Stock Exchange (currently 4:00 p.m.,
New York City time), Monday through Friday, exclusive of national business
holidays. The Fund will be closed on the following national business holidays:
New Year's Day, Presidents' Day, Good Friday, Memorial Day, Independence Day,
Labor Day, Thanksgiving Day and Christmas Day. Portfolio securities for which
-44-
<PAGE>
the primary market is on a domestic or foreign exchange or which are traded
over-the-counter and quoted on the NASDAQ System will be valued at the last sale
price on the day of valuation or, if there was no sale that day, at the last
reported bid price, using prices as of the close of trading. Portfolio
securities not quoted on the NASDAQ System that are actively traded in the over-
the-counter market, including listed securities for which the primary market is
believed to be over-the-counter, will be valued at the most recently quoted bid
price provided by the principal market makers.
In the case of any securities which are not actively traded, reliable
market quotations may not be considered to be readily available. These
investments are stated at fair value as determined under the direction of the
Trustees. Such fair value is expected to be determined by utilizing information
furnished by a pricing service which determines valuations for normal,
institutional-size trading units of such securities using methods based on
market transactions for comparable securities and various relationships between
securities which are generally recognized by institutional traders.
If any securities held by a Portfolio are restricted as to resale, their
fair value will be determined following procedures approved by the Trustees. The
fair value of such securities is generally determined as the amount which the
Portfolio could reasonably expect to realize from an orderly disposition of such
securities over a reasonable period of time. The valuation procedures applied in
any specific instance are likely to vary from case to case. However,
consideration is generally given to the financial position of the issuer and
other fundamental analytical data relating to the investment and to the nature
of the restrictions on disposition of the securities (including any registration
expenses that might be borne by the Portfolio in connection with such
disposition). In addition, specific factors are also generally considered, such
as the cost of the investment, the market value of any unrestricted securities
of the same class (both at the time of purchase and at the time of valuation),
the size of the holding, the prices of any recent transactions or offers with
respect to such securities and any available analysts' reports regarding the
issuer.
Notwithstanding the foregoing, short-term debt securities with maturities
of 60 days or less will be valued at amortized cost.
-45-
<PAGE>
The TCW Money Market Portfolio's investment policies and method of
securities valuation are intended to permit the Portfolio generally to maintain
a constant net asset value of $1.00 per share by computing the net asset value
per share to the nearest $.01 per share. The Portfolio is permitted to use the
amortized cost method of valuation for its portfolio securities pursuant to
regulations of the Securities and Exchange Commission. This method may result in
periods during which value, as determined by amortized cost, is higher or lower
than the price the Portfolio would receive if it sold the instrument. The net
asset value per share would be subject to fluctuation upon any significant
changes in the value of the Portfolio's securities. The value of debt
securities, such as those in the Portfolio, usually reflects yields generally
available on securities of similar yield, quality and duration. When such yields
decline, the value of a portfolio holding such securities can be expected to
decline. Although the Portfolio seeks to maintain the net asset value per share
of the Portfolio at $1.00, there can be no assurance that net asset value will
not vary.
The Trustees of the Fund have undertaken to establish procedures reasonably
designed, taking into account current market conditions and the Portfolio's
investment objective, to stabilize the net asset value per share for purposes of
sales and redemptions at $1.00. These procedures include the determination, at
such intervals as the Trustees deem appropriate, of the extent, if any, to which
the net asset value per share calculated by using available market quotations
deviates from $1.00 per share. In the event such deviation exceeds one half of
one percent, the Trustees are required to promptly consider what action, if any,
should be initiated.
With respect to the Portfolios other than the TCW Money Market Portfolio,
foreign securities traded outside the United States are generally valued as of
the time their trading is complete, which is usually different from the close of
the New York Stock Exchange. Occasionally, events affecting the value of such
securities may occur between such times and the close of the New York Stock
Exchange that will not be reflected in the computation of the Portfolio's net
asset value. If events materially affecting the value of such securities occur
during such period, these securities will be valued at their fair value
according to procedures decided upon in good faith by the Fund's Board of
Trustees. All securities and other assets of a Portfolio initially expressed in
foreign currencies will be converted to U.S. dollar values at the mean of the
bid and offer prices of such currencies against U.S. dollars last quoted on a
valuation date by any recognized dealer.
-46-
<PAGE>
TAXES
Federal Income Taxes
Each Portfolio intends to qualify each year as a "regulated investment
company" under the Internal Revenue Code of 1986, as amended (the "Code"). By so
qualifying, a Portfolio will not be subject to federal income taxes to the
extent that its net investment income and net realized capital gains are
distributed.
In order to so qualify, a Portfolio must, among other things, (1) derive at
least 90% of its gross income in each taxable year from dividends, interest,
payments with respect to securities loans, gains from the sale or other
disposition of stocks or securities or foreign currencies, or other income
(including but not limited to gains from options, futures or forward contracts)
derived with respect to its business of investing in such stocks or securities;
(2) derive less than 30% of its gross income in each taxable year from the sale
or other disposition of stocks or securities held less than three months (the
Portfolio's transactions in future transactions, straddles and options may be
restricted in order to comply with this requirement); and (3) diversify its
holdings so that, at the end of each quarter of the Portfolio's taxable year,
(a) at least 50% of the market value of the Portfolio's assets is represented by
cash, government securities and other securities limited in respect of any one
issuer to 5% of the value of the Portfolio's assets and to not more than 10% of
the voting securities of such issuer, and (b) not more than 25% of the value of
its assets is invested in securities of any one issuer (other than government
securities).
As a regulated investment company, a Portfolio will not be subject to
federal income tax on net investment income and capital gains (short- and long-
term), if any, that it distributes to its shareholders if at least 90% of its
net investment income and net short-term capital gains for the taxable year are
distributed, but will be subject to tax at regular corporate rates on any income
or gains that are not distributed. In general, dividends will be treated as paid
when actually distributed, except that dividends declared in October, November
or December and made payable to shareholders of record in such a month will be
treated as having been paid by the Portfolio (and received by shareholders) on
December 31, provided the dividend is paid in the following January. Each
Portfolio intends to satisfy the distribution requirement in each taxable year.
-47-
<PAGE>
The Portfolios will not be subject to the 4% federal excise tax imposed on
registered investment companies that do not distribute all of their income and
gains each calendar year because such tax does not apply to a registered
investment company whose only shareholders are segregated asset accounts of life
insurance companies held in connection with variable annuity and/or variable
life insurance policies.
The Fund intends to comply with section 817(h) of the Code and the
regulations issued thereunder. As required by regulations under that section,
the only shareholders of the Fund and its Portfolios will be life insurance
company segregated asset accounts (also referred to as separate accounts) that
fund variable life insurance or annuity contracts and the general account of PFL
Life Insurance Company which provided the initial capital for the Portfolios of
the Fund. See the prospectus or other material for the Contracts for additional
discussion of the taxation of segregated asset accounts and of the owner of the
particular Contract described therein.
Section 817(h) of the Code and Treasury Department regulations thereunder
impose certain diversification requirements on the segregated asset accounts
investing in the Portfolios of the Fund. These requirements, which are in
addition to the diversification requirements applicable to the Fund under the
1940 Act and under the regulated investment company provisions of the Code, may
limit the types and amounts of securities in which the Portfolios may invest.
Failure to meet the requirements of section 817(h) could result in current
taxation of the owner of the Contract on the income of the Contract.
The Fund may therefore find it necessary to take action to ensure that a
Contract continues to qualify as a Contract under federal tax laws. The Fund,
for example, may be required to alter the investment objectives of a Portfolio
or substitute the shares of one Portfolio for those of another. No such change
of investment objectives or substitution of securities will take place without
notice to the shareholders of the affected Portfolio and the approval of a
majority of such shareholders and without prior approval of the Securities and
Exchange Commission, to the extent legally required.
ORGANIZATION AND CAPITALIZATION OF THE FUND
The Fund is a Massachusetts business trust organized on November 18, 1988.
A copy of the Fund's Agreement and Declaration of Trust, as amended, which is
governed by Massachusetts law, is on file with the Secretary of State of The
Commonwealth of Massachusetts.
-48-
<PAGE>
The Trustees of the Fund have authority to issue an unlimited number of
shares of beneficial interest without par value of one or more series.
Currently, the Trustees have established and designated ten series. Each series
of shares represents the beneficial interest in a separate Portfolio of assets
of the Fund, which is separately managed and has its own investment objective
and policies. The Trustees of the Fund have authority, without the necessity of
a shareholder vote, to establish additional portfolios and series of shares. The
shares outstanding are, and those offered hereby when issued will be, fully paid
and nonassessable by the Fund. The shares have no preemptive, conversion or
subscription rights and are fully transferable.
The assets received from the sale of shares of a Portfolio, and all income,
earnings, profits and proceeds thereof, subject only to the rights of creditors,
constitute the underlying assets of the Portfolio. The underlying assets of a
Portfolio are required to be segregated on the Fund's books of account and are
to be charged with the expenses with respect to that Portfolio. Any general
expenses of the Fund not readily attributable to a Portfolio will be allocated
by or under the direction of the Trustees in such manner as the Trustees
determine to be fair and equitable, taking into consideration, among other
things, the nature and type of expense and the relative sizes of the Portfolio
and the other Portfolios.
Each share has one vote, with fractional shares voting proportionately.
Shareholders of a Portfolio are not entitled to vote on any matter that requires
a separate vote of the shares of another Portfolio but which does not affect the
Portfolio. The Agreement and Declaration of Trust does not require the Fund to
hold annual meetings of shareholders. Thus, there will ordinarily be no annual
shareholder meetings, unless otherwise required by the 1940 Act. The Trustees of
the Fund may appoint their successors until fewer than a majority of the
Trustees have been elected by shareholders, at which time a meeting of
shareholders will be called to elect Trustees. Under the Agreement and
Declaration of Trust, any Trustee may be removed by vote of two-thirds of the
outstanding shares of the Fund, and holders of 10% or more of the outstanding
shares can require the Trustees to call a meeting of shareholders for the
purpose of voting on the removal of one or more Trustees. If ten or more
shareholders who have been such for at least six months and who hold in the
aggregate shares with a net asset value of at least $25,000 inform the Trustees
that they wish to communicate with other shareholders, the Trustees either will
give such shareholders access to the shareholder lists or will inform them of
the cost involved if the Fund forwards materials to the shareholders on their
behalf. If the Trustees object to mailing such materials, they must inform the
Securities and Exchange Commission and thereafter comply with the requirements
of the 1940 Act.
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<PAGE>
PFL will vote shares of the Fund as described under the caption "Voting
Rights" in the prospectus or other material for the Contracts which accompanies
the Prospectus.
As of March 31, 1997, the PFL Endeavor Variable Annuity Account owned of
record the following approximate percentages of the outstanding shares of each
Portfolio: 75% of the TCW Money Market Portfolio; 95% of the TCW Managed Asset
Allocation Portfolio; 89% of the T. Rowe Price International Stock Portfolio;
85% of the Value Equity Portfolio; 88% of the Dreyfus Small Cap Value Portfolio;
83% of the Dreyfus U.S. Government Securities Portfolio; 83% of the T. Rowe
Price Equity Income Portfolio; 81% of the T. Rowe Price Growth Stock Portfolio;
and 77% of the Opportunity Value Portfolio. As of March 31, 1997, the PFL
Endeavor Platinum Variable Annuity Account owned of record the following
approximate percentages of the outstanding shares of each Portfolio: 23% of the
TCW Money Market Portfolio; 4% of the TCW Managed Asset Allocation Portfolio; 8%
of the T. Rowe Price International Stock Portfolio; 12% of the Value Equity
Portfolio; 9% of the Dreyfus Small Cap Value Portfolio; 14% of the Dreyfus U.S.
Government Securities Portfolio; 14% of the T. Rowe Price Equity Income
Portfolio; 10% of the T. Rowe Price Growth Stock Portfolio; and 14% of the
Opportunity Value Portfolio. As of March 31, 1997, the AUSA Endeavor Variable
Annuity Account owned of record the following approximate percentages of the
outstanding shares of each Portfolio: 2% of the TCW Money Market Portfolio; 1%
of the TCW Managed Asset Allocation Portfolio; 3% of the T. Rowe Price
International Stock Portfolio; 2% of the Value Equity Portfolio; 2% of the
Dreyfus Small Cap Value Portfolio; 3% of the Dreyfus U.S. Government Securities
Portfolio; 3% of the T. Rowe Price Equity Income Portfolio; 3% of the T. Rowe
Price Growth Stock Portfolio; and 9% of the Opportunity Value Portfolio.
Under Massachusetts law, shareholders could, under certain circumstances,
be held personally liable for the obligations of the Fund. However, the
Agreement and Declaration of Trust disclaims shareholder liability for acts and
obligations of the Fund and requires that notice of such disclaimer be given in
each agreement, obligation or instrument entered into or executed by the Fund or
the Trustees. The Agreement and Declaration of Trust provides for
indemnification out of Fund property for all loss and expense of any
shareholders held personally liable for obligations of the Fund. Thus, the risk
of a shareholder incurring financial loss on account of shareholder liability is
limited to circumstances in which the Fund would be unable to meet its
obligations. The likelihood of such circumstances is remote.
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<PAGE>
LEGAL MATTERS
Certain legal matters are passed on for the Fund by Sullivan & Worcester
LLP of Washington, D.C.
CUSTODIAN
Boston Safe Deposit and Trust Company, located at One Boston Place, Boston,
Massachusetts 02108, serves as the custodian of the Fund. Under the Custody
Agreement, Boston Safe holds the Portfolios' securities and keeps all necessary
records and documents.
FINANCIAL STATEMENTS
The financial statements of the TCW Money Market Portfolio, TCW Managed
Asset Allocation Portfolio, T. Rowe Price International Stock Portfolio, Value
Equity Portfolio, Dreyfus Small Cap Value Portfolio, Dreyfus U.S. Government
Securities Portfolio, T. Rowe Price Equity Income Portfolio, T. Rowe Price
Growth Stock Portfolio and Opportunity Value Portfolio for the fiscal year ended
December 31, 1996, including notes to the financial statements and supplementary
information and the Independent Auditors' Report are included in the Fund's
Annual Report to Shareholders. A copy of the Annual Report accompanies this
Statement of Additional Information. The financial statements (including the
Independent Auditors' Report) included in the Annual Report are incorporated
herein by reference. Interim financial statements (unaudited) for the
Opportunity Value Portfolio for the period January 1, 1997 through March 31,
1997 accompany this Statement of Additional Information.
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<PAGE>
APPENDIX
SECURITIES RATINGS
Standard & Poor's Bond Ratings
A Standard & Poor's corporate debt rating is a current assessment of the
creditworthiness of an obligor with respect to a specific obligation. Debt rated
"AAA" has the highest rating assigned by Standard & Poor's. Capacity to pay
interest and repay principal is extremely strong. Debt rated "AA" has a very
strong capacity to pay interest and to repay principal and differs from the
highest rated issues only in small degree. Debt rated "A" has a strong capacity
to pay interest and repay principal although it is somewhat more susceptible to
the adverse effects of changes in circumstances and economic conditions than
debt of a higher rated category. Debt rated "BBB" is regarded as having an
adequate capacity to pay interest and repay principal. Whereas it normally
exhibits adequate protection parameters, adverse economic conditions or changing
circumstances are more likely to lead to a weakened capacity to pay interest and
to repay principal for debt in this category than for higher rated categories.
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 obligation. "BB" indicates the
lowest degree of speculation and "CC" the highest degree of speculation. While
such bonds will likely have some quality and protective characteristics, these
are outweighed by large uncertainties or major risk exposures to adverse
conditions. The ratings from "AA" to "B" may be modified by the addition of a
plus or minus sign to show relative standing within the major rating categories.
Moody's Bond Ratings
Bonds rated "Aaa" by Moody's are judged to be of the best quality and to
carry the smallest degree of investment risk. Bonds rated "Aa" are judged to be
of high quality by all standards. Bonds rated "A" possess many favorable
investment attributes and are to be considered as higher medium grade
obligations. Bonds rated "Baa" are considered as medium grade obligations, i.e.,
they are neither highly protected nor poorly secured and have speculative
characteristics as well. Bonds are rated "Ba", "B", "Caa", "Ca", "C" when
protection of interest and principal payments is questionable. A "Ba" rating
indicates some speculative elements while "Ca" represents a high degree of
speculation and "C" represents the lowest rated class of bonds. "Caa", "Ca" and
"C" bonds may be in default. Moody's applies numerical modifiers "1", "2" and
"3" in each generic rating classification from "Aa" to "B" in its corporate bond
rating system. The modifier "1" indicates that the security ranks in the higher
end of its generic rating category; the modifier "2" indicates a mid-range
ranking; and the modifier "3" indicates that the issue ranks at the lower end of
its generic rating category.
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<PAGE>
Standard & Poor's Commercial Paper Ratings
"A" is the highest commercial paper rating category utilized by Standard &
Poor's, which uses the numbers "1+", "1", "2" and "3" to denote relative
strength within its "A" classification. Commercial paper issuers rated "A" by
Standard & Poor's have the following characteristics. Liquidity ratios are
better than industry average. Long-term debt rating is "A" or better. The issuer
has access to at least two additional channels of borrowing. Basic earnings and
cash flow are in an upward trend. Typically, the issuer is a strong company in a
well-established industry and has superior management. Issues rated "B" are
regarded as having only an adequate capacity for timely payment. However, such
capacity may be damaged by changing conditions or short-term adversities. The
rating "C" is assigned to short-term debt obligations with a doubtful capacity
for repayment. An issue rated "D" is either in default or is expected to be in
default upon maturity.
Moody's Commercial Paper Ratings
"Prime-1" is the highest commercial paper rating assigned by Moody's, which
uses the numbers "1", "2" and "3" to denote relative strength within its highest
classification of Prime. Commercial paper issuers rated Prime by Moody's have
the following characteristics. Their short-term debt obligations carry the
smallest degree of investment risk. Margins of support for current indebtedness
are large or stable with cash flow and asset protection well assured. Current
liquidity provides ample coverage of near-term liabilities and unused
alternative financing arrangements are generally available. While protective
elements may change over the intermediate or longer terms, such changes are most
unlikely to impair the fundamentally strong position of short-term obligations.
IBCA Limited/IBCA Inc. Commercial Paper Ratings. Short-term obligations,
including commercial paper, rated A-1+ by IBCA Limited or its affiliate IBCA
Inc., are obligations supported by the highest capacity for timely repayment.
Obligations rated A-1 have a very strong capacity for timely repayment.
Obligations rated A-2 have a strong capacity for timely repayment, although such
capacity may be susceptible to adverse changes in business, economic or
financial conditions.
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<PAGE>
Fitch Investors Service LLP. Commercial Paper Ratings. Fitch Investors
Service LLP employs the rating F-1+ to indicate issues regarded as having the
strongest degree of assurance for timely payment. The rating F-1 reflects an
assurance of timely payment only slightly less in degree than issues rated F-1+,
while the rating F-2 indicates a satisfactory degree of assurance for timely
payment, although the margin of safety is not as great as indicated by the F-1+
and F-1 categories.
Duff & Phelps Inc. Commercial Paper Ratings. Duff & Phelps Inc. employs the
designation of Duff 1 with respect to top grade commercial paper and bank money
instruments. Duff 1+ indicates the highest certainty of timely payment: short-
term liquidity is clearly outstanding, and safety is just below risk-free U.S.
Treasury short-term obligations. Duff 1- indicates high certainty of timely
payment. Duff 2 indicates good certainty of timely payment: liquidity factors
and company fundamentals are sound.
Thomson BankWatch, Inc. ("BankWatch") Commercial Paper Ratings. BankWatch
will assign both short-term debt ratings and issuer ratings to the issuers it
rates. BankWatch will assign a short-term rating ("TBW-1", "TBW-2", "TBW-3", or
"TBW-4") to each class of debt (e.g., commercial paper or non-convertible debt),
having a maturity of one-year or less, issued by a holding company structure or
an entity within the holding company structure that is rated by BankWatch.
Additionally, BankWatch will assign an issuer rating ("A", "A/B", "B", "B/C",
"C", "C/D", "D", "D/E", and "E") to each issuer that it rates.
Various of the NRSROs utilize rankings within rating categories indicated
by a + or -. The Portfolios, in accordance with industry practice, recognize
such rankings within categories as graduations, viewing for example Standard &
Poor's rating of A-1+ and A-1 as being in Standard & Poor's highest rating
category.
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<PAGE>
Portfolio of Investments
Endeavor Series Trust
Opportunity Value Portfolio
March 31, 1997 (Unaudited)
<TABLE>
<CAPTION>
Value
Shares (Note 1)
------ --------
<S> <C>
COMMON STOCK - 58.5%
Banking - 10.1%
2,500 Bank of Boston Corporation.................... $167,500
1,700 Citicorp ..................................... 184,025
600 Wells Fargo & Company ........................ 170,475
--------
522,000
--------
Insurance - 4.9%
2,400 ACE, Ltd. .................................... 153,600
2,300 EXEL Ltd. Ord................................. 97,175
--------
250,775
--------
Restaurants - 4.6%
5,000 McDonald's Corporation ....................... 236,250
--------
Energy - 4.5%
4,000 Tenneco Inc .................................. 156,000
2,000 Triton Energy Corporation+.................... 77,500
--------
233,500
--------
Manufacturing and Engineering - 4.4%
2,800 Caterpillar, Inc ............................. 224,700
--------
Diversified Chemicals - 4.0%
1,600 duPont (E.I.) de Nemours & Company ........... 169,600
300 Hercules, Inc. ............................... 12,675
600 Monsanto Company ............................. 22,950
--------
205,225
--------
Financial Services - 3.5%
4,600 Federal Home Loan Mortgage Corporation ....... 125,350
1,600 Federal National Mortgage Association ........ 57,800
--------
183,150
--------
Paper and Paper Products - 3.5%
4,000 Champion International Corporation ........... 182,000
--------
Aerospace and Defense - 3.5%
1,400 Lockheed Martin Corporation................... 117,600
1,000 McDonnell Douglas Corporation ................ 61,000
--------
178,600
--------
</TABLE>
See Notes to Financial Statements.
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<PAGE>
Portfolio of Investments (Continued)
Endeavor Series Trust
Opportunity Value Portfolio
March 31, 1997 (Unaudited)
<TABLE>
<CAPTION>
Value
Shares (Note 1)
------ ---------
<S> <C>
COMMON STOCK - (Continued)
Electronics - 3.0%
2,800 National Semiconductor Corporation+.............. $77,000
1,500 Varian Associates, Inc........................... 80,250
---------
157,250
---------
Telecommunications - 3.0%
13,000 Tele-Communications, Inc., Class A+ ............. 156,000
---------
Waste Disposal - 2.9%
2,000 Browning-Ferris Industries, Inc.................... 57,750
3,000 WMX Technologies, Inc............................ 91,875
---------
149,625
---------
Toys, Games and Hobbies - 2.8%
6,000 Mattel, Inc ..................................... 144,000
---------
Food and Beverages - 2.3%
3,000 Heinz (H.J.) Company............................. 118,500
---------
Transportation - 0.8%
700 Union Pacific Corporation........................ 39,725
---------
Metals and Mining - 0.4%
700 Freeport McMoRan Copper & Gold, Inc., Class B ... 21,263
---------
Drugs and Medical Products - 0.3%
400 Becton, Dickinson & Company ..................... 18,000
---------
Total Common Stock
(Cost $3,149,798)............................. 3,020,563
---------
</TABLE>
See Notes to Financial Statements.
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<PAGE>
Portfolio of Investments (Continued)
Endeavor Series Trust
Opportunity Value Portfolio
March 31, 1997 (Unaudited)
<TABLE>
<CAPTION>
Principal Value
Amount (Note 1)
--------- ---------
<S> <C>
AGENCY SECURITIES - 20.5%
Federal Farm Credit Bank (FFCB) - 12.9%
FFCB, Discount Notes:
$120,000 5.200%# due 04/07/1997..................... $119,896
550,000 5.340%# due 04/30/1997..................... 547,634
-----------
667,530
-----------
Federal Home Loan Bank (FHLB) - 7.6%
395,000 FHLB, Discount Note,
5.370%# due 04/17/1997..................... 394,057
----------
Total Agency Securities
(Cost $1,061,587).......................... 1,061,587
----------
COMMERCIAL PAPER - 24.2% (Cost $1,249,389)
1,255,000 Ford Motor Credit Corporation,
5.550%# due 04/30/1997.................... 1,249,389
----------
TOTAL INVESTMENTS (Cost $5,460,774*)........................... 103.2 % 5,331,539
OTHER ASSETS AND LIABILITIES (Net)............................. (3.2) (164,070)
--------- ----------
NET ASSETS..................................................... 100.0 % $5,167,469
========= ==========
</TABLE>
* Aggregate cost for federal tax purposes.
+ Non-income producing security.
# Rate represents annualized yield at date of purchase.
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<PAGE>
Abbreviation:
Ord. - Ordinary
- --------------------------------------------------------------------------------
Statement of Assets and Liabilities
Endeavor Series Trust
Opportunity Value Portfolio
March 31, 1997 (Unaudited)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
<S> <C>
ASSETS:
Investments, at value (Cost $5,460,774) (Note 1)
See accompanying schedule................................................ $ 5,331,539
Cash........................................................................ 8,515
Receivable for Portfolio shares sold........................................ 173,798
Unamortized organization costs (Note 5)..................................... 24,073
Dividends receivable........................................................ 2,948
Receivable from investment manager (Note 2)................................. 2,802
--------------
Total Assets................................................................ 5,543,675
LIABILITIES:
Payable for investment securities purchased................................. $ 344,092
Organization costs payable (Note 5)......................................... 26,000
Investment management fee payable (Note 2).................................. 2,972
Custodian fees payable (Note 2)............................................. 1,205
Transfer agent fees payable ................................................ 167
Accrued Trustees' fees and expenses (Note 2)................................ 148
Accrued expenses and other payables......................................... 1,622
------------
Total Liabilities........................................................... 376,206
--------------
NET ASSETS.................................................................. $ 5,167,469
==============
NET ASSETS consist of:
Undistributed net investment income.......................................... $ 13,737
Accumulated net realized gain on investments sold............................ 1,956
Net unrealized depreciation of investments................................... (129,235)
Paid-in capital.............................................................. 5,281,011
--------------
Total Net Assets............................................................. $ 5,167,469
==============
NET ASSET VALUE,
offering price and redemption price per share:
($5,167,469 / 515,792 shares of beneficial interest outstanding).......... $ 10.02
==============
</TABLE>
See Notes to Financial Statements.
- --------------------------------------------------------------------------------
Statement of Assets and Liabilities
Endeavor Series Trust
Opportunity Value Portfolio
For the Three Months Ended March 31, 1997 (Unaudited)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
<S> <C> <C>
INVESTMENT INCOME:
Interest............................................................................. $ 15,822
Dividends............................................................................ 6,495
-------------
Total Investment Income.............................................................. 22,317
EXPENSES:
Investment management fee (Note 2)................................................... $ 5,354
Custodian fees (Note 2).............................................................. 1,721
Amortization of organization costs (Note 5).......................................... 1,300
Transfer agent fees.................................................................. 202
Trustees fees and expenses (Note 2).................................................. 50
Other................................................................................ 245
---------
Total expenses.................................................................... 8,872
-------------
NET INVESTMENT INCOME................................................................ 13,445
-------------
REALIZED AND UNREALIZED GAIN/(LOSS) ON INVESTMENTS
(Notes 1 and 3):
Net realized gain on investments during the period................................ 1,956
Net change in unrealized depreciation of investments during the period............ (129,395)
-------------
Net realized and unrealized loss on investments...................................... (127,439)
-------------
NET DECREASE IN NET ASSETS RESULTING FROM
OPERATIONS......................................................................... $ (113,994)
=============
</TABLE>
See Notes to Financial Statements.
-58-
<PAGE>
- --------------------------------------------------------------------------------
Statement of Changes in Net Assets
Endeavor Series Trust
Opportunity Value Portfolio
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Three months
Ended
03/31/97
(unaudited)
------------
<S> <C>
Net investment income............................................................... $ 13,445
Net realized gain on investments during the period.................................. 1,956
Net unrealized depreciation of investments during the period........................ (129,395)
------------
Net decrease in net assets resulting from operations................................ (113,994)
Net increase in net assets from Portfolio share transactions (Note 4)............... 4,580,338
------------
Net increase in net assets.......................................................... 4,466,344
NET ASSETS:
Beginning of period................................................................. 701,125
------------
End of period (including undistributed net investment income of $13,737)............ $ 5,167,469
============
</TABLE>
See Notes to Financial Statements.
Financial Highlights
Endeavor Series Trust
Opportunity Value Portfolio
For a Portfolio share outstanding throughout the period
<TABLE>
<CAPTION>
Three Months
Ended
03/31/97
(unaudited)+++
---------------
<S> <C>
Operating performance:
Net asset value, beginning of period................................................. $ 10.06
--------------
Net investment income................................................................ 0.05
Net realized and unrealized loss on investments...................................... (0.09)
--------------
Net decrease in net assets resulting from investment operations...................... (0.04)
--------------
Net asset value, end of period....................................................... $ 10.02
==============
Total return ++...................................................................... (0.04)%
==============
Ratios to average net assets/supplemental data:
Net assets, end of period (in 000's)................................................. $ 5,167
Ratio of net investment income to average net assets................................. 1.97%+
Ratio of operating expenses to average net assets.................................... 1.30%+
Portfolio turnover rate.............................................................. 4%
Average commission rate (per share of security)(a)................................... $ 0.0564
</TABLE>
- ---------------------------------------
+ Annualized.
++ Total return represents aggregate total return for the period indicated.
+++ Per share amounts have been calculated using the monthly average share
method which more appropriately presents the per share data for the period
since use of the undistributed method did not accord with results of
operations.
(a) Average commission rate paid per share of securities purchased and sold by
the Portfolio.
See Notes to Financial Statements
-59-
<PAGE>
ENDEAVOR SERIES TRUST
OPPORTUNITY VALUE PORTFOLIO
NOTES TO FINANCIAL STATEMENTS (Unaudited)
1. Significant Accounting Policies
Endeavor Series Trust (the "Fund") was organized as a Massachusetts business
trust on November 19, 1988 under the laws of the Commonwealth of Massachusetts.
The Fund is registered with the Securities and Exchange Commission under the
Investment Company Act of 1940, as amended, as a diversified, open-end
management investment company. As of the date of these financial statements,
the Fund offers nine managed investment portfolios. The information presented
in these financial statements pertains only to the Opportunity Value Portfolio
(the "Portfolio"). The following is a summary of significant accounting
policies consistently followed by the Portfolio in the preparation of its
financial statements. The preparation of financial statements in accordance
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts and disclosures in
the financial statements. Actual results could differ from those estimates.
Portfolio Valuation:
Generally, the Portfolio's investments are valued at market value or, in the
absence of market value with respect to any portfolio securities, at fair value
as determined by, or under the direction of, the Board of Trustees. Portfolio
securities for which the primary market is on a domestic or foreign exchange, or
which are traded over-the-counter and quoted on the NASDAQ System, are valued at
the last sale price on the day of valuation or, if there was no sale that day,
at the last reported bid price using prices as of the close of trading.
Portfolio securities not quoted on the NASDAQ System that are actively traded in
the over-the-counter market, including listed securities for which the primary
market is believed to be over-the-counter, are valued at the most recently
quoted bid price provided by the principal market makers. In the case of any
securities which are not actively traded, these investments are stated at fair
value as determined under the direction of the Board of Trustees. Short-term
investments that mature in 60 days or less are valued at amortized cost.
Foreign securities traded outside the United States are generally valued as
of the time their trading is complete, which is usually different from the close
of the New York Stock Exchange. Occasionally, events affecting the value of
such securities may occur between such times and the close of the New York Stock
Exchange that will not be reflected in the computation of the Portfolio's net
asset value. If events materially affecting the value of such securities occur
during such period, these securities will be valued at their fair value
according to procedures decided upon in good faith by the Fund's Board of
Trustees. All securities and other assets of the Portfolio initially expressed
in foreign currencies will be converted to U.S. dollar values at the mean of the
bid and offer prices of such currencies against U.S. dollars last quoted on a
valuation date by any recognized dealer.
-60-
<PAGE>
Securities Transactions and Investment Income:
Securities transactions are recorded as of the trade date. Realized gains
and losses from securities transactions are recorded on the identified cost
basis. Dividend income is recorded on the ex-dividend date. Interest income is
recorded on the accrual basis.
Securities purchased or sold on a when-issued or delayed-delivery basis may
be settled a month or more after the trade date. Interest income is not accrued
until settlement date.
ENDEAVOR SERIES TRUST
OPPORTUNITY VALUE PORTFOLIO
NOTES TO FINANCIAL STATEMENTS (Unaudited) (Continued)
Forward Foreign Currency Contracts:
The Opportunity Value Portfolio may engage in forward foreign currency
exchange contracts. The Portfolio engages in forward foreign currency exchange
transactions to protect against changes in future exchange rates. Forward
foreign currency exchange contracts are valued at the forward rate and are
marked-to-market daily. The change in market value is recorded by the Portfolio
as an unrealized gain or loss. When the contract is closed, the Portfolio
records a realized gain or loss equal to the difference between the value of the
contract at the time it was opened and the value at the time it was closed.
The use of forward foreign currency exchange contracts does not eliminate
fluctuations in the underlying prices of the Portfolio's securities, but it does
establish a rate of exchange that can be achieved in the future. Although
forward foreign currency contracts limit the risk of loss due to a decline in
the value of the hedged currency, they also limit any potential gain that might
result should the value of the currency increase. In addition, the Portfolio
could be exposed to risks if the counterparties to the contracts are unable to
meet the terms of their contracts.
Foreign Currency:
The books and records of the Portfolio are maintained in U.S. dollars.
Foreign currencies, investments and other assets and liabilities are translated
into U.S. dollars at the exchange rates prevailing at the end of the period.
Purchases and sales of investment securities, and items of income and expense
are translated on the respective dates of such transactions. Unrealized gains
and losses which result from changes in foreign currency exchange rates have
been included in the unrealized appreciation/ (depreciation) of investments and
net other assets. Net realized foreign currency gains and losses include the
effect of changes in exchange rates between trade date and settlement date on
investment security transactions, foreign currency transactions and interest and
dividends received. The portion of foreign currency gains and losses related to
fluctuation in exchange rates between the initial purchase trade date and
subsequent sale trade date is included in realized gains and losses on
investment securities sold.
Dividends and Distributions to Shareholders:
Dividends from net investment income of the Portfolio are declared and paid
at least annually. For the Portfolio, all net realized long-term or short-term
capital gains, if any, will be declared and distributed at least annually.
Income dividends and capital gain distributions are determined in accordance
with income tax regulations which may differ from generally accepted accounting
principles. These differences are primarily due to differing treatments of
income, gains and losses on various investment securities held by the Portfolio,
timing differences in the recognition of income, gains and losses and differing
characterizations of distributions made by the Fund.
-61-
<PAGE>
ENDEAVOR SERIES TRUST
OPPORTUNITY VALUE PORTFOLIO
NOTES TO FINANCIAL STATEMENTS (Unaudited) (Continued)
Federal Income Taxes:
The Fund intends that the Portfolio qualify annually as a regulated
investment company, if such qualification is in the best interest of its
shareholders, by complying with the requirements of the Internal Revenue Code of
1986, as amended, applicable to regulated investment companies and by
distributing substantially all of its taxable income to its shareholders.
Therefore, no federal income tax provision is required.
2. Investment Management Fee, Administrative Fee, Investment Advisory Fee and
Other Related Party Transactions
The Fund is managed by Endeavor Investment Advisers (the "Investment
Manager") pursuant to a management agreement. The Investment Manager is a
general partnership of which Endeavor Management Co. is the managing partner.
The Investment Manager is responsible for providing investment management and
administrative services to the Fund, including selecting the investment adviser
(the "Adviser") for the Fund's Portfolio. As compensation for these services,
the Portfolio pays the Investment Manager a monthly fee at the annual rate of
0.80% of the Portfolio's average daily net assets.
From the investment management fees, the Investment Manager pays the expenses
of providing investment advisory services to the Portfolio, including the fees
of the Adviser of the Portfolio. The Investment Manager also pays the fees and
expenses of First Data Investor Services Group, Inc. ("FDISG"), a wholly-owned
subsidiary of First Data Corporation. FDISG assists the Investment Manager in
the performance of its administrative responsibilities to the Portfolio. As
compensation for these services, the Investment Manager pays FDISG a fee
computed and payable monthly at an annual rate of .10% of the Fund's aggregate
daily net assets on the first $600 million, .06% on the next $400 million and
.01% on assets exceeding $1 billion, with a minimum annual fee for the Portfolio
of $40,000 until its assets reach $40 million.
OpCap Advisors ("OpCap"), a subsidiary of Oppenheimer Capital, serves as the
Adviser to the Portfolio pursuant to a separate investment advisory agreement
between the Investment Manager and OpCap. As compensation for its services as
investment adviser, the Investment Manager pays OpCap a monthly fee at the
annual rate of .40% of the average daily net assets of the Portfolio.
From time to time the Investment Manager may waive a portion or all of the
fees otherwise payable to it and/or reimburse expenses. The Investment Manager
has voluntarily undertaken to waive its fees and has agreed to bear certain
expenses so that total expenses of the Portfolio do not exceed 1.30% of the
Portfolio's average daily net assets. For the three month period ended March
31, 1997, the Investment Manager did not waive fees or reimburse expenses of the
Portfolio.
Boston Safe Deposit and Trust Company, an indirect wholly-owned subsidiary of
Mellon Bank Corporation, serves as the Fund's custodian. FDISG serves as the
Fund's transfer agent.
ENDEAVOR SERIES TRUST
OPPORTUNITY VALUE PORTFOLIO
NOTES TO FINANCIAL STATEMENTS (Unaudited) (Continued)
For the three month period ended March 31, 1997, the Portfolio incurred total
brokerage commissions of $2,900 of which $2,035 was paid to Oppenheimer &
Company, Inc., an affiliate broker-dealer of the Adviser.
No director, officer or employee of the Investment Manager, Endeavor
Management Co., the Adviser or FDISG received any compensation from the
Portfolio for serving as an officer or Trustee of the Fund. The Fund pays each
Trustee who is not a director, officer or employee of the Investment Manager,
Endeavor Management Co., the Adviser, FDISG or any of their affiliates $2,500
per annum plus $500 per regularly scheduled meeting attended and reimburses them
for travel and out-of-pocket expenses. Each series of the Fund, including the
Portfolio, bears its proportionate share of such fees and expenses.
-62-
<PAGE>
3. Purchases and Sales of Securities
Purchases of securities, excluding short-term investments, for the three
month period ended March 31, 1997 were $180,713. Purchases and proceeds from
sales of securities excluding U.S. government securities and short-term
investments, for the three month period ended March 31, 1997 were $2,789,128 and
$64,645, respectively.
At March 31, 1997, aggregate gross unrealized appreciation for all securities
in which there was an excess of value over tax cost and aggregate gross
unrealized depreciation for all securities in which there was an excess of tax
cost over value was $27,152 and $156,387, respectively.
4. Shares of Beneficial Interest
The Fund has authorized an unlimited number of shares of beneficial interest
without par value. Changes in shares of beneficial interest for the Portfolio
were as follows:
<TABLE>
<CAPTION>
Three Month
Period Ended
03/31/97
------------
Shares Amount
------- ----------
<S> <C> <C>
Sold.......... 458,614 $4,708,736
Redeemed...... (12,535) (128,398)
------- ----------
Net increase.. 446,079 $4,580,338
======= ==========
</TABLE>
ENDEAVOR SERIES TRUST
OPPORTUNITY VALUE PORTFOLIO
NOTES TO FINANCIAL STATEMENTS (Unaudited) (Continued)
5. Organization Costs
Organization costs are amortized on a straight-line basis over a period of
five years from the commencement of operations of the Portfolio. In the event
that any of the 10 initial shares of the Portfolio owned by a separate account
of PFL Life Insurance Company are redeemed during such amortization period, the
redemption proceeds will be reduced for any unamortized organization costs in
the same proportion as the number of shares redeemed bears to the number of
initial shares outstanding at the time of the redemption. The Fund bears the
expense of registering and qualifying the shares of the Portfolio for
distribution under Federal and state securities regulations.
ENDEAVOR SERIES TRUST
OPPORTUNITY VALUE PORTFOLIO
NOTES TO FINANCIAL STATEMENTS (Unaudited) (Continued)
- --------------------------------------------------------------------------------
The Financial Statements contained herein are submitted for the general
information of the policyholders of The Endeavor Variable Annuity. This
report is not authorized for distribution to prospective investors
unless preceded or accompanied by an effective prospectus.
- --------------------------------------------------------------------------------
-63-
<PAGE>
WRL SERIES FUND, INC.
GROWTH PORTFOLIO
STATEMENT OF ADDITIONAL INFORMATION
This Statement of Additional Information is not a prospectus but supplements
and should be read in conjunction with the Prospectus for the Growth Portfolio
of the WRL Series Fund, Inc. (the "Fund"). A copy of the Prospectus may be
obtained by writing PFL Life Insurance Company, Administrative and Service
Office, Financial Markets Division--Variable Annuity Dept., 4333 Edgewood
Road, N.E., Cedar Rapids, Iowa 52499 or by calling (800) 525-6205.
-------------------------------------------------
WRL INVESTMENT MANAGEMENT, INC.
Investment Adviser
JANUS CAPITAL CORPORATION
Sub-Adviser
-------------------------------------------------
The date of the Prospectus to which this Statement of Additional Information
relates and the date of this Statement of Additional Information is May 1,
1997.
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE IN THIS STATEMENT OF CROSS-REFERENCE TO
ADDITIONAL INFORMATION PAGE IN PROSPECTUS
------------------------- ------------------
<S> <C> <C>
Investment Objective and
Policies........................ 3 5
Investment Restrictions........ 3 6
Repurchase and Reverse Repur-
chase Agreements.............. 5 10
Lending of Portfolio
Securities.................... 5 6
Foreign Securities............. 6 12
Non-Investment Grade Debt
Securities.................... 6 6
Investments in Futures, Options
and Other Derivative
Instruments................... 7 8
Management of the Fund........... 19 14
Directors and Officers......... 19 14
The Investment Adviser......... 22 14
Distribution and Service Plans. 24 16
The Sub-Adviser................ 25 17
Joint Trading Accounts......... 25 18
Portfolio Transactions and
Brokerage....................... 26 18
Portfolio Turnover............. 26 7
Placement of Portfolio
Brokerage..................... 26 18
Purchase and Redemption of
Shares.......................... 28 19
Offering of the Shares and
Determination of Offering
Price......................... 28 20
Portfolio Net Asset Valuation.. 28 19
Investment Experience
Information..................... 29 4
Calculation of Performance Re-
lated Information............... 29 4
Total Return................... 29 4
Taxes............................ 30 21
Capital Stock of the Fund........ 32 19
Registration Statement........... 32 N/A
Financial Statements............. 32 21
Other Information................ 32 21
Appendix A--Description of Port-
folio Securities................ A-1 8
Appendix B--Description of
Selected Corporate Bond and Com-
mercial Paper Ratings........... B-1 6
</TABLE>
- 2 -
<PAGE>
INVESTMENT OBJECTIVE AND POLICIES
The investment objective of the Growth Portfolio (the "Portfolio") of the
Fund is described in the Portfolio's Prospectus. Shares of the Portfolio are
sold only to the separate accounts of Western Reserve Life Assurance Co. of
Ohio ("WRL"), PFL Life Insurance Company, an affiliate of WRL, and to separate
accounts of certain of their affiliated life insurance companies
(collectively, the "Separate Accounts") to fund benefits under certain
variable life insurance policies (the "Policies") and variable annuity
contracts (the "Annuity Contracts", or "Contracts").
As indicated in the Prospectus, the Portfolio's investment objective and,
unless otherwise noted, its investment policies and techniques, may be changed
by the Board of Directors of the Fund without approval of shareholders or
owners of the Policies or the Annuity Contracts (collectively, "Contract
Owners"). A change in the investment objective or policies of the Portfolio
may result in the Portfolio's having an investment objective or policies
different from those which a Contract Owner deemed appropriate at the time of
investment.
INVESTMENT RESTRICTIONS
As indicated in the Prospectus, the Portfolio is subject to certain
fundamental policies and restrictions which may not be changed without the
approval of the holders of a majority of the outstanding voting shares of the
Portfolio. "Majority" for this purpose and under the Investment Company Act of
1940, as amended (the "1940 Act") means the lesser of (i) 67% of the shares
represented at a meeting at which more than 50% of the outstanding shares of
the Portfolio are represented or (ii) more than 50% of the outstanding shares
of the Portfolio. A complete statement of all such fundamental policies is set
forth below.
The Portfolio may not, as a matter of fundamental policy:
1. With respect to 75% of the Portfolio's total assets, purchase the
securities of any one issuer (other than cash items and "Government
securities" as defined in the 1940 Act) if immediately after and as a result
of such purchase (a) the value of the holdings of the Portfolio in the
securities of such issuer exceeds 5% of the value of the Portfolio's total
assets, or (b) the Portfolio owns more than 10% of the outstanding voting
securities of any one class of securities of such issuer;
2. Invest more than 25% of the value of the Portfolio's assets in any
particular industry (other than Government securities);
3. Purchase or sell physical commodities other than foreign currencies
unless acquired as a result of ownership of securities (but this restriction
shall not prevent the Portfolio from purchasing or selling options, futures
contracts, caps, floors and other derivative instruments, engaging in swap
transactions or investing in securities or other instruments backed by
physical commodities);
4. Invest directly in real estate or interests in real estate, including
limited partnership interests; however, the Portfolio may own debt or equity
securities issued by companies engaged in those businesses;
5. Act as underwriter of securities issued by others, except to the extent
that it may be deemed an underwriter in connection with the disposition of
portfolio securities of the Portfolio; and
6. Lend any security or make any other loan if, as a result, more than 25%
of its total assets would be lent to other parties (but this limitation does
not apply to purchases of commercial paper, debt securities or to repurchase
agreements).
- 3 -
<PAGE>
Furthermore, the Portfolio has adopted the following non-fundamental
investment restrictions which may be changed by the Board of Directors of the
Fund without shareholder or Contract Owner approval:
(A) The Portfolio may not, as a matter of non-fundamental policy: (i) enter
into any futures contracts or options on futures contracts for purposes other
than bona fide hedging transactions within the meaning of Commodity Futures
Trading Commission regulations if the aggregate initial margin deposits and
premiums required to establish positions in futures contracts and related
options that do not fall within the definition of bona fide hedging
transactions would exceed 5% of the fair market value of the Portfolio's net
assets, after taking into account unrealized profits and losses on such
contracts it has entered into and (ii) enter into any futures contracts or
options on futures contracts if the aggregate amount of the Portfolio's
commitments under outstanding futures contracts positions and options on
futures contracts would exceed the market value of its total assets;
(B) The Portfolio may not mortgage or pledge any securities owned or held by
the Portfolio in amounts that exceed, in the aggregate, 15% of the Portfolio's
net assets, provided that this limitation does not apply to reverse repurchase
agreements or in the case of assets deposited to provide margin or guarantee
positions in options, futures contracts, swaps, forward contracts or other
derivative instruments or segregation of assets in connection with such
transactions;
(C) The Portfolio may not sell securities short, unless it owns or has the
right to obtain securities equivalent in kind and amount to the securities
sold short, and provided that transactions in options, futures contracts,
swaps, forward contracts and other derivative instruments are not deemed to
constitute selling securities short;
(D) The Portfolio may not purchase securities on margin, except that the
Portfolio may obtain such short-term credits as are necessary for the
clearance of transactions, and provided that margin payments and other
deposits made in connection with transactions in options, futures contracts,
swaps, forward contracts, and other derivative instruments shall not be deemed
to constitute purchasing securities on margin;
(E) The Portfolio may borrow money only for temporary or emergency purposes
(not for leveraging or investment) in an amount not exceeding 25% of the value
of the Portfolio's total assets (including the amount borrowed) less
liabilities (other than borrowings). Any borrowings that exceed 25% of the
value of the Portfolio's total assets by reason of a decline in net assets
will be reduced within three business days to the extent necessary to comply
with the 25% limitation. This policy shall not prohibit reverse repurchase
agreements or deposits of assets to provide margin or guarantee positions in
connection with transactions in options, futures contracts, swaps, forward
contracts, or other derivative instruments or the segregation of assets in
connection with such transactions;
(F) The Portfolio may not invest more than 15% of its net assets in illiquid
securities. This does not include securities eligible for resale pursuant to
Rule 144A under the Securities Act of 1933 or any securities for which the
Board of Directors or the Sub-Adviser, as appropriate, has made a
determination of liquidity, as permitted under the 1940 Act;
(G) The Portfolio may not (i) purchase securities of other investment
companies, except in the open market where no commission except the ordinary
broker's commission is paid, or (ii) purchase or retain securities issued by
other open-end investment companies. Restrictions (i) and (ii) do not apply to
money market funds or to securities received as dividends, through offers to
exchange, or as a result of reorganization, consolidation, or merger. If the
Portfolio
- 4 -
<PAGE>
invests in a money market fund, the Investment Adviser will reduce its
advisory fee by the amount of any investment advisory or administrative
service fees paid to the investment manager of the money market fund;
(H) The Portfolio may not invest directly in oil, gas or other mineral
development or exploration programs or leases; however, the Portfolio may own
debt or equity securities of companies engaged in those businesses;
(I) The Portfolio may not invest more than 25% of its net assets at the time
of purchase in the securities of foreign issuers and obligors;
(J) The Portfolio may not invest in companies for the purpose of exercising
control or management; and
(K) The Portfolio may not issue senior securities, except as permitted by
the 1940 Act.
Except with respect to borrowing money, if a percentage limitation set forth
above is complied with at the time of the investment, a subsequent change in
the percentage resulting from any change in value or of the Portfolio's net
assets will not result in a violation of such restriction. State laws and
regulations may impose additional limitations on borrowing, lending and use of
options, futures, and other derivative instruments. In addition, such laws and
regulations may require the Portfolio's investments in foreign securities to
meet additional diversification and other requirements.
REPURCHASE AND REVERSE REPURCHASE AGREEMENTS
In a repurchase agreement, the Portfolio purchases a security and
simultaneously commits to resell that security to the seller at an agreed upon
price on an agreed upon date within a number of days (usually not more than
seven) from the date of purchase. The resale price reflects the purchase price
plus an agreed upon incremental amount that is unrelated to the coupon rate or
maturity of the purchased security. A repurchase agreement involves the
obligation of the seller to pay the agreed upon price, which obligation is in
effect secured by the value (at least equal to the amount of the agreed upon
resale price and marked-to-market daily) of the underlying security. The
Portfolio may engage in a repurchase agreement with respect to any security in
which it is authorized to invest. While it does not presently appear possible
to eliminate all risks from these transactions (particularly the possibility
of a decline in the market value of the underlying securities, as well as
delays and costs to the Portfolio in connection with bankruptcy proceedings),
it is the policy of the Portfolio to limit repurchase agreements to those
parties whose creditworthiness has been reviewed and found satisfactory by the
Sub-Adviser.
In a reverse repurchase agreement, the Portfolio sells a portfolio security
to another party, such as a bank or broker-dealer, in return for cash and
agrees to repurchase the instrument at a particular price and time. While a
reverse repurchase agreement is outstanding, the Portfolio will maintain cash
and appropriate liquid assets in a segregated custodial account to cover its
obligation under the agreement. The Portfolio will enter into reverse
repurchase agreements only with parties that the Sub-Adviser deems
creditworthy.
LENDING OF PORTFOLIO SECURITIES
The Portfolio may lend its portfolio securities subject to the restrictions
stated in this Statement of Additional Information. Under applicable
regulatory requirements (which are subject to change), the following
conditions apply to securities loans: (a) the loan must be continuously
secured by liquid assets maintained on a current basis in an amount at least
equal
- 5 -
<PAGE>
to the market value of the securities loaned; (b) the Portfolio must receive
any dividends or interest paid by the issuer on such securities; (c) the
Portfolio must have the right to call the loan and obtain the securities
loaned at any time upon notice of not more than five business days, including
the right to call the loan to permit voting of the securities; and (d) the
Portfolio must receive either interest from the investment of collateral or a
fixed fee from the borrower. Securities loaned by the Portfolio remain subject
to fluctuations in market value. The Portfolio may pay reasonable finders,
custodian and administrative fees in connection with a loan. Securities
lending, as with other extensions of credit, involves the risk that the
borrower may default. Although securities loans will be fully collateralized
at all times, the Portfolio may experience delays in, or be prevented from,
recovering the collateral. During the period that the Portfolio seeks to
enforce its rights against the borrower, the collateral and the securities
loaned remain subject to fluctuations in market value. The Portfolio does not
have the right to vote securities on loan, but would terminate the loan and
regain the right to vote if it were considered important with respect to the
investment. The Portfolio may also incur expenses in enforcing its rights. If
the Portfolio has sold a loaned security, it may not be able to settle the
sale of the security and may incur potential liability to the buyer of the
security on loan for its costs to cover the purchase.
FOREIGN SECURITIES
Subject to the limitations set forth above, the Portfolio may purchase
certain foreign securities. Investments in foreign securities, particularly
those of non-governmental issuers, involve considerations which are not
ordinarily associated with investing in domestic issuers. These considerations
include changes in currency rates, currency exchange control regulations, the
possibility of expropriation, the unavailability of financial information or
the difficulty of interpreting financial information prepared under foreign
accounting standards, less liquidity and more volatility in foreign securities
markets, the impact of political, social or diplomatic developments, and the
difficulty of assessing economic trends in foreign countries. It is possible
that market quotations for foreign securities will not be readily available.
In such event, these securities shall be valued at fair market value as
determined in good faith by the Sub-Adviser under the supervision of the Board
of Directors. If it should become necessary, the Portfolio could encounter
greater difficulties in invoking legal processes abroad than would be the case
in the United States. Transaction costs with respect to foreign securities may
be higher. The Investment Adviser and the Sub-Adviser will consider these and
other factors before investing in foreign securities. The Portfolio will not
concentrate its investments in any particular foreign country.
To the extent the Portfolio invests directly in foreign securities, the
Portfolio will engage in foreign exchange transactions. The foreign currency
exchange market is subject to little government regulation, and such
transactions generally occur directly between parties rather than on an
exchange or in an organized market. This means that the Portfolio is subject
to the full risk of default by a counterparty in such a transaction. Because
such transactions often take place between different time zones, the Portfolio
may be required to complete a currency exchange transaction at a time outside
of normal business hours in the counterparty's location, making prompt
settlement of such transaction impossible. This exposes the Portfolio to an
increased risk that the counterparty will be unable to settle the transaction.
Although the counterparty in such transactions is often a bank or other
financial institution, currency transactions are generally not covered by
insurance otherwise applicable to such institutions. For a more detailed
explanation regarding the special risks of investing in foreign securities,
see "Foreign Investments and Special Risks" in the Prospectus.
NON-INVESTMENT GRADE DEBT SECURITIES
The Portfolio may, but does not currently invest, or intend to invest, in
debt securities below the four highest grades ("lower grade debt securities")
as determined by Moody's Investors
- 6 -
<PAGE>
Service, Inc. ("Moody's") (Baa) or Standard & Poor's (BBB). The Portfolio does
not currently intend to invest more than 5% of its assets in non-investment
grade securities. Before investing in any lower-grade debt securities, the
Sub-Adviser will determine that such investments meet the Portfolio's
investment objectives and that the lower-grade debt securities' ratings are
supported by an internal credit review, which the Sub-Adviser will conduct in
each such instance. Lower-grade debt securities usually have moderate to poor
protection of principal and interest payments, have certain speculative
characteristics (see Appendix B for a description of the ratings), and involve
greater risk of default or price declines due to changes in the issuer's
creditworthiness than investment-grade debt securities. Because the market for
lower-grade debt securities may be thinner and less active than for investment
grade debt securities, there may be market price volatility for these
securities and limited liquidity in the resale market. Market prices for
lower-grade debt securities may decline significantly in periods of general
economic difficulty or rising interest rates. Through portfolio
diversification and credit analysis, investment risk can be reduced, although
there can be no assurance that losses will not occur.
The quality limitation set forth in the Portfolio's investment policies is
determined immediately after the Portfolio's acquisition of a given security.
Accordingly, any later change in ratings will not be considered when
determining whether an investment complies with the Portfolio's investment
policies.
INVESTMENTS IN FUTURES, OPTIONS AND OTHER DERIVATIVE INSTRUMENTS
Futures Contracts. The Portfolio may enter into contracts for the purchase
or sale for future delivery of fixed-income securities, foreign currencies or
contracts based on financial indices including interest rates or indices of
U.S. Government or foreign government securities or equity or fixed-income
securities ("futures contracts"). U.S. futures contracts are traded on
exchanges that have been designated "contract markets" by the Commodity
Futures Trading Commission ("CFTC") and must be executed through a futures
commission merchant ("FCM"), or brokerage firm, which is a member of the
relevant contract market. Through their clearing corporations, the exchanges
guarantee performance of the contracts as between the clearing members of the
exchange. Since all transactions in the futures market are made through a
member of, and are offset or fulfilled through a clearinghouse associated
with, the exchange on which the contracts are traded, the Portfolio will incur
brokerage fees when it buys or sells futures contracts.
When the Portfolio buys or sells a futures contract, it incurs a contractual
obligation to receive or deliver the underlying instrument (or a cash payment
based on the difference between the underlying instrument's closing price and
the price at which the contract was entered into) at a specified price on a
specified date. Transactions in futures contracts will not be made for
speculation and will not be made other than to seek to hedge against potential
changes in interest or currency exchange rates or the price of a security or a
securities index which might correlate with or otherwise adversely affect
either the value of the Portfolio's securities or the prices of securities
which the Portfolio is considering buying at a later date.
The buyer or seller of a futures contract is not required to deliver or pay
for the underlying instrument unless the contract is held until the delivery
date. However, both the buyer and seller are required to deposit "initial
margin" for the benefit of an FCM when the contract is entered into. Initial
margin deposits are equal to a percentage of the contract's value, as set by
the exchange on which the contract is traded, and may be maintained in cash or
certain high-grade liquid assets. If the value of either party's position
declines, that party will be required to make additional "variation margin"
payments with an FCM to settle the change in value on a daily basis. The party
that has a gain may be entitled to receive all or a portion of this amount.
Initial and variation margin payments are similar to good faith deposits or
performance bonds, unlike margin extended by a securities broker, and initial
and variation margin payments do not
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constitute purchasing securities on margin for purposes of the Portfolio's
investment limitations. In the event of the bankruptcy of an FCM that holds
margin on behalf of the Portfolio, the Portfolio may be entitled to return of
margin owed to the Portfolio only in proportion to the amount received by the
FCM's other customers. The Sub-Adviser will attempt to minimize the risk by
careful monitoring of the creditworthiness of the FCM's with which the
Portfolio does business and by depositing margin payments in a segregated
account with the custodian when practical or otherwise required by law.
Although the Portfolio would hold cash and liquid assets in a segregated
account with a value sufficient to cover the Portfolio's open futures
obligations, the segregated assets would be available to the Portfolio
immediately upon closing out the futures position, while settlement of
securities transactions could take several days. However, because the
Portfolio's cash that may otherwise be invested would be held uninvested or
invested in high-grade liquid assets so long as the futures position remains
open, the Portfolio's return could be diminished due to the opportunity cost
of foregoing other potential investments.
The acquisition or sale of a futures contract may occur, for example, when
the Portfolio holds or is considering purchasing equity securities and seeks
to protect itself from fluctuations in prices without buying or selling those
securities. For example, if prices were expected to decrease, the Portfolio
might sell equity index futures contracts, thereby hoping to offset a
potential decline in the value of equity securities in the Portfolio by a
corresponding increase in the value of the futures contract position held by
the Portfolio and thereby preventing the Portfolio's net asset value from
declining as much as it otherwise would have. The Portfolio also could seek to
protect against potential price declines by selling portfolio securities and
investing in money market instruments. However, since the futures market is
more liquid than the cash market, the use of futures contracts as an
investment technique allows the Portfolio to maintain a defensive position
without having to sell portfolio securities.
Similarly, when prices of equity securities are expected to increase,
futures contracts may be bought to attempt to hedge against the possibility of
having to buy equity securities at higher prices. This technique is sometimes
known as an anticipatory hedge. Since the fluctuations in the value of futures
contracts should be similar to those of equity securities, the Portfolio could
take advantage of the potential rise in the value of equity securities without
buying them until the market has stabilized. At that time, the futures
contracts could be liquidated and the Portfolio could buy equity securities on
the cash market. To the extent the Portfolio enters into futures contracts for
this purpose, the assets in the segregated asset account maintained to cover
the Portfolio's obligations with respect to futures contracts will consist of
high-grade liquid assets from its portfolio in an amount equal to the
difference between the contract price and the aggregate value of the initial
and variation margin payments made by the Portfolio with respect to the
futures contracts.
The ordinary spreads between prices in the cash and futures markets, due to
differences in the nature of those markets, are subject to distortions. First,
all participants in the futures market are subject to initial margin and
variation margin requirements. Rather than meeting additional variation margin
requirements, investors may close out futures contracts through offsetting
transactions which could distort the normal price 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 and prices in the futures
market distorted. 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 the foregoing distortions, a correct forecast of general
price trends by the Sub-Adviser still may not result in a successful use of
futures contracts.
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Futures contracts entail risks. Although the Sub-Adviser believes that use
of such contracts can benefit the Portfolio, if the Sub-Adviser's investment
judgment is incorrect, the Portfolio's overall performance could be worse than
if the Portfolio had not entered into futures contracts. For example, if the
Portfolio has attempted to hedge against the effects of a possible decrease in
prices of securities held by the Portfolio and prices increase instead, the
Portfolio may lose part or all of the benefit of the increased value of these
securities because of offsetting losses in the Portfolio's futures positions.
In addition, if the Portfolio has insufficient cash, it may have to sell
securities from its portfolio to meet daily variation margin requirements.
Those sales may, but will not necessarily, be at increased prices which
reflect the rising market and may occur at a time when the sales are
disadvantageous to the Portfolio.
The prices of futures contracts depend primarily on the value of their
underlying instruments. Because there are a limited number of types of futures
contracts, it is possible that the standardized futures contracts available to
the Portfolio will not match exactly the Portfolio's current or potential
investments. The Portfolio may buy and sell futures contracts based on
underlying instruments with different characteristics from the securities in
which it typically invests--for example, by hedging investments in portfolio
securities with a futures contract based on a broad index of securities--which
involves a risk that the futures position will not correlate precisely with
the performance of the Portfolio's investments.
Futures prices can also diverge from the prices of their underlying
instruments, even if the underlying instruments correlate with the Portfolio's
investments. Futures prices are affected by such factors as current and
anticipated short-term interest rates, changes in volatility of the underlying
instruments, and the time remaining until expiration of the contract. Those
factors may affect securities prices differently from futures prices.
Imperfect correlations between the Portfolio's investments and its futures
positions may also result from differing levels of demand in the futures
markets and the securities markets, from structural differences in how futures
and securities are traded, and from imposition of daily price fluctuation
limits for futures contracts. The Portfolio may buy or sell futures contracts
with a greater or lesser value than the securities it wishes to hedge or is
considering purchasing in order to attempt to compensate for differences in
historical volatility between the futures contract and the securities,
although this may not be successful in all cases. If price changes in the
Portfolio's futures positions are poorly correlated with its other
investments, its futures positions may fail to produce desired gains or result
in losses that are not offset by the gains in the Portfolio's other
investments.
Because futures contracts are generally settled within a day from the date
they are closed out, compared with a settlement period of seven days for some
types of securities, the futures markets can provide superior liquidity to the
securities markets. Nevertheless, there is no assurance a liquid secondary
market will exist for any particular futures contract at any particular time.
In addition, futures exchanges may establish daily price fluctuation limits
for futures contracts and may halt trading if a contract's price moves upward
or downward more than the limit in a given day. On volatile trading days when
the price fluctuation limit is reached, it may be impossible for the Portfolio
to enter into new positions or close out existing positions. If the secondary
market for a futures contract is not liquid because of price fluctuation
limits or otherwise, the Portfolio may not be able to promptly liquidate
unfavorable positions and potentially be required to continue to hold a
futures position until the delivery date, regardless of changes in its value.
As a result, the Portfolio's access to other assets held to cover its futures
positions also could be impaired.
Although futures contracts by their terms call for the delivery or
acquisition of the underlying commodities or a cash payment based on the value
of the underlying commodities, in most cases the contractual obligation is
offset before the delivery date of the contract by buying, in the case of a
contractual obligation to sell, or selling, in the case of a contractual
obligation to buy, an identical futures contract on a commodities exchange.
Such a transaction cancels the obligation to make or take delivery of the
commodities.
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The Portfolio intends to comply with guidelines of eligibility for exclusion
from the definition of the term "commodity pool operator" with the CFTC and
the National Futures Association, which regulate trading in the futures
markets. Such guidelines presently require that to the extent that the
Portfolio enters into futures contracts or options on a futures position that
are not for bona fide hedging purposes (as defined by the CFTC), the aggregate
initial margin and premiums on these positions (excluding the amount by which
options are "in-the-money") may not exceed 5% of the Portfolio's net assets.
Options on Futures Contracts. The Portfolio may buy and write options on
futures contracts for only hedging purposes. An option on a futures contract
gives the Portfolio the right (but not the obligation) to buy or sell a
futures contract at a specified price on or before a specified date. The
purchase and writing of options on futures contracts is similar in some
respects to the purchase and writing of options on individual securities. See
"Options on Securities" on page 14. Transactions in options on futures
contracts will not be made for speculation and will not be made other than to
attempt to hedge against potential changes in interest rates or currency
exchange rates or the price of a security or a securities index which might
correlate with or otherwise adversely affect either the value of the
Portfolio's securities or the prices of securities which the Portfolio is
considering buying at a later date.
The purchase of a call option on a futures contract may or may not be less
risky than ownership of the futures contract or the underlying instrument,
depending on the pricing of the option compared to either the price of the
futures contract upon which it is based or the price of the underlying
instrument. As with the purchase of futures contracts, when the Portfolio is
not fully invested it may buy a call option on a futures contract to attempt
to hedge against a market advance.
The writing of a call option on a futures contract may constitute a partial
hedge against declining prices of the security or foreign currency which is
deliverable under, or of the index comprising, the futures contract. If the
futures price at the expiration of the option is below the exercise price, the
Portfolio will retain the full amount of the option premium which provides a
partial hedge against any decline that may have occurred in the Portfolio's
holdings. The writing of a put option on a futures contract may constitute a
partial hedge against increasing prices of the security or foreign currency
which is deliverable under, or of the index comprising, the futures contract.
If the futures price at expiration of the option is higher than the exercise
price, the Portfolio will retain the full amount of the option premium which
provides a partial hedge against any increase in the price of securities which
the Portfolio is considering buying. If a call or put option the Portfolio has
written is exercised, the Portfolio will incur loss which will be reduced by
the amount of the premium it received. Depending on the degree of correlation
between change in the value of its portfolio securities and changes in the
value of the futures positions, the Portfolio's losses from existing options
on futures may to some extent be reduced or increased by changes in the value
of portfolio securities.
The purchase of a put option on a futures contract is similar in some
respect to the purchase of protective put options on portfolio securities. For
example, the Portfolio may buy a put option on a futures contract to attempt
to hedge the Portfolio's securities against the risk of falling prices.
The amount of risk the Portfolio assumes when it buys an option on a futures
contract is the premium paid for the option plus related transaction costs. In
addition to the correlation risks discussed above, the purchase of an option
also entails the risk that changes in the value of the underlying futures
contract will not be fully reflected in the value of the options bought.
Forward Contracts. The Portfolio may enter into forward foreign currency
exchange contracts ("forward currency contracts") to attempt to minimize the
risk to the Portfolio from adverse changes in the relationship between the
U.S. dollar and other currencies. A forward
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currency contract is an obligation to buy or sell an amount of a specified
currency for an agreed price (which may be in U.S. dollars or a foreign
currency) at a future date which is individually negotiated between currency
traders and their customers. The Portfolio may invest in forward currency
contracts with stated contract values of up to the value of the Portfolio's
assets.
The Portfolio may exchange foreign currencies for U.S. dollars and for other
foreign currencies in the normal course of business and may buy and sell
currencies through forward currency contracts in order to fix a price for
securities it has agreed to buy or sell. The Portfolio may enter into a
forward currency contract, for example, when it enters into a contract to buy
or sell a security denominated in a foreign currency in order to "lock in" the
U.S. dollar price of the security ("transaction hedge").
Additionally, when the Sub-Adviser believes that a foreign currency in which
portfolio securities are denominated may suffer a substantial decline against
the U.S. dollar, the Portfolio may enter into a forward currency contract to
sell an amount of that foreign currency (or a proxy currency whose performance
is expected to replicate the performance of that currency) for U.S. dollars
approximating the value of some or all of the portfolio securities denominated
in that currency (not exceeding the value of the Portfolio's assets
denominated in that currency) or by participating in options or futures
contracts with respect to the currency, or, when the Sub-Adviser believes that
the U.S. dollar may suffer a substantial decline against a foreign currency,
the Portfolio may enter into a forward currency contract to buy that foreign
currency for a fixed U.S. dollar amount ("position hedge"). This type of hedge
seeks to minimize the effect of currency appreciation as well as depreciation,
but does not protect against a decline in the security's value relative to
other securities denominated in the foreign currency.
The Portfolio also may enter into a forward currency contract with respect
to a currency where the Portfolio is considering the purchase of investments
denominated in that currency but has not yet done so ("anticipatory hedge").
In any of the above circumstances the Portfolio may, alternatively, enter
into a forward currency contract with respect to a different foreign currency
when the Sub-Adviser believes that the U.S. dollar value of that currency will
correlate with the U.S. dollar value of the currency in which portfolio
securities of, or being considered for purchase by, the Portfolio are
denominated ("cross-hedge"). For example, if the Sub-Adviser believes that a
particular foreign currency may decline relative to the U.S. dollar, the
Portfolio could enter into a contract to sell that currency or a proxy
currency (up to the value of the Portfolio's assets denominated in that
currency) in exchange for another currency that the Sub-Adviser expects to
remain stable or to appreciate relative to the U.S. dollar. Shifting the
Portfolio's currency exposure from one foreign currency to another removes the
Portfolio's opportunity to profit from increases in the value of the original
currency and involves a risk of increased losses to the Portfolio if the Sub-
Adviser's projection of future exchange rates is inaccurate.
The Portfolio also may enter into forward contracts to buy or sell at a
later date instruments in which the Portfolio may invest directly or on
financial indices based on those instruments. The market for those types of
forward contracts is developing and it is not currently possible to identify
instruments on which forward contracts might be created in the future.
Forward contracts are currently considered illiquid. Accordingly, the Fund's
custodian will place cash or high-grade liquid assets in a segregated account
of the Portfolio having a value equal to the aggregate amount of the
Portfolio's commitments under forward contracts entered into with respect to
position hedges and cross-hedges. If the value of the securities placed in the
segregated account declines, additional cash or high-grade liquid assets will
be placed in the account on a daily basis so that the value of the account
will be equal to the amount of the Portfolio's
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commitments with respect to such contracts. As an alternative to maintaining
all or part of the segregated account, the Portfolio may buy call options
permitting the Portfolio to buy the amount of foreign currency subject to the
hedging transaction by a forward sale contract or the Portfolio may buy put
options permitting the Portfolio to sell the amount of foreign currency
subject to a forward buy contract.
While forward contracts are not currently regulated by the CFTC, the CFTC
may in the future assert authority to regulate forward contracts. In such
event the Portfolio's ability to utilize forward contracts in the manner set
forth in the Prospectus may be restricted. Forward contracts will reduce the
potential gain from a positive change in the relationship between the U.S.
dollar and foreign currencies. Unforeseen changes in currency prices may
result in poorer overall performance for the Portfolio than if it had not
entered into such contracts. The use of foreign currency forward contracts
will not eliminate fluctuations in the underlying U.S. dollar equivalent value
of the proceeds of or rates of return on the Portfolio's foreign currency
denominated portfolio securities.
The matching of the increase in value of a forward contract and the decline
in the U.S. dollar equivalent value of the foreign currency denominated asset
that is the subject of the hedging transaction generally will not be precise.
In addition, the Portfolio may not always be able to enter into forward
contracts at attractive prices and accordingly may be limited in its ability
to use these contracts in seeking to hedge the Portfolio's assets.
Also, with regard to the Portfolio's use of cross-hedging transactions,
there can be no assurance that historical correlations between the movement of
certain foreign currencies relative to the U.S. dollar will continue. Thus, at
any time poor correlation may exist between movements in the exchange rates of
the foreign currencies underlying the Portfolio's cross-hedges and the
movements in the exchange rates of the foreign currencies in which the
Portfolio's assets that are subject of the cross-hedging transaction are
denominated.
Options on Foreign Currencies. The Portfolio may buy put and call options
and may write covered put and call options on foreign currencies for hedging
purposes in a manner similar to that in which futures contracts or forward
contracts on foreign currencies may be utilized. For example, a decline in the
U.S. dollar value of a foreign currency in which portfolio securities are
denominated will reduce the U.S. dollar value of such securities, even if
their value in the foreign currency remains constant. In order to protect
against such diminutions in the value of portfolio securities, the Portfolio
may buy put options on the foreign currency. If the value of the currency
declines, the Portfolio will have the right to sell such currency for a fixed
amount in U.S. dollars and will thereby offset, in whole or in part, the
adverse effect on its portfolio which otherwise would have resulted.
Conversely, when a rise in the U.S. dollar value of a currency in which
securities to be acquired are denominated is projected, thereby increasing the
cost of such securities, the Portfolio may buy call options thereon. The
purchase of such options could offset, at least partially, the effects of the
adverse movements in exchange rates. The purchase of an option on a foreign
currency may constitute an effective hedge against fluctuations in exchange
rates, although, in the event of exchange rate movements adverse to the
Portfolio's option position, the Portfolio could sustain losses on
transactions in foreign currency options which would require that the
Portfolio lose a portion or all of the benefits of advantageous changes in
those rates. In addition, in the case of other types of options, the benefit
to the Portfolio from purchases of foreign currency options will be reduced by
the amount of the premium and related transaction costs.
The Portfolio may write options on foreign currencies for the same types of
hedging purposes. For example, in attempting to hedge against a potential
decline in the U.S. dollar value of foreign currency denominated securities
due to adverse fluctuations in exchange rates, the Portfolio could,
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instead of purchasing a put option, write a call option on the relevant
currency. If the expected decline occurs, the option will most likely not be
exercised and the diminution in value of portfolio securities will be offset
by the amount of the premium received.
Similarly, instead of purchasing a call option to attempt to hedge against a
potential increase in the U.S. dollar cost of securities to be acquired, the
Portfolio could write a put option on the relevant currency which, if rates
move in the manner projected, will expire unexercised and allow the Portfolio
to hedge the increased cost up to the amount of the premium. As in the case of
other types of options, however, the writing of a foreign currency option will
constitute only a partial hedge up to the amount of the premium received, and
only if exchange rates move in the expected direction. If that does not occur,
the option may be exercised and the Portfolio would be required to buy or sell
the underlying currency at a loss which may not be offset by the amount of the
premium. Through the writing of options on foreign currencies, the Portfolio
also may lose all or a portion of the benefits which might otherwise have been
obtained from favorable movements in exchange rates.
The Portfolio may write covered call options on foreign currencies. A call
option written on a foreign currency by the Portfolio is "covered" if the
Portfolio owns the underlying foreign currency covered by the call or has an
absolute and immediate right to acquire that foreign currency without
additional cash consideration (or for additional cash consideration held in a
segregated account by its custodian) upon conversion or exchange of other
foreign currency held in its portfolio. A call option is also covered if the
Portfolio has a call on the same foreign currency and in the same principal
amount as the call written if 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, and if the difference is maintained by
the Portfolio in cash or high-grade liquid assets in a segregated account with
the Fund's custodian.
The Portfolio may also write call options on foreign currencies for cross-
hedging purposes that may not be deemed to be covered. A call option on a
foreign currency is for cross-hedging purposes if it is not covered but is
designed to provide a hedge against a decline due to an adverse change in the
exchange rate in the U.S. dollar value of a security which the Portfolio owns
or has the right to acquire and which is denominated in the currency
underlying the option. In such circumstances, the Portfolio collateralizes the
option by maintaining, in a segregated account with the Fund's custodian, cash
or high-grade liquid assets in an amount not less than the value of the
underlying foreign currency in U.S. dollars marked-to-market daily.
The Portfolio may buy or write options in privately negotiated transactions
on the types of securities and indices based on the types of securities in
which the Portfolio is permitted to invest directly. The Portfolio will effect
such transactions only with investment dealers and other financial
institutions (such as commercial banks or savings and loan institutions)
deemed creditworthy, and only pursuant to procedures adopted by the Sub-
Adviser for monitoring the creditworthiness of those entities. To the extent
that an option bought or written by the Portfolio in a negotiated transaction
is illiquid, the value of an option bought or the amount of the Portfolio's
obligations under an option written by the Portfolio, as the case may be, will
be subject to the Portfolio's limitation on illiquid investments. In the case
of illiquid options, it may not be possible for the Portfolio to effect an
offsetting transaction at the time when the Sub-Adviser believes it would be
advantageous for the Portfolio to do so.
Options on Securities. In an effort to reduce fluctuations in net asset
value, the Portfolio may write covered put and call options and may buy put
and call options and warrants on securities that are traded on United States
and foreign securities exchanges and over-the-counter. The Portfolio also may
write call options that are not covered for cross-hedging purposes. The
Portfolio may write and buy options on the same types of securities that the
Portfolio could buy directly
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and may buy options on financial indices as described above with respect to
futures contracts. There are no specific limitations on the Portfolio's
writing and buying options on securities.
A put option gives the holder the right, upon payment of a premium, to
deliver a specified amount of a security to the writer of the option on or
before a fixed date at a predetermined price. A call option gives the holder
the right, upon payment of a premium, to call upon the writer to deliver a
specified amount of a security on or before a fixed date at a predetermined
price.
A put option written by the Portfolio is "covered" if the Portfolio (i)
maintains cash not available for investment or high-grade liquid assets with a
value equal to the exercise price in a segregated account with its custodian
or (ii) holds a put on the same security and in the same principal amount as
the put written and 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 the volatility of the underlying security, the
remaining term of the option, supply and demand and interest rates.
A call option written by the Portfolio is "covered" if the Portfolio owns
the underlying security covered by the call or has an absolute and immediate
right to acquire that security without additional cash consideration (or has
segregated additional cash consideration with its custodian) upon conversion
or exchange of other securities held in its portfolio. A call option is also
deemed to be covered if the Portfolio holds a call on the same security and in
the same principal amount as the call written and 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 Portfolio in cash and high-grade liquid assets
in a segregated account with its custodian.
The Portfolio collateralizes its obligation under a written call option for
cross-hedging purposes by maintaining in a segregated account with its
custodian cash or high-grade liquid assets in an amount not less than the
market value of the underlying security, marked-to-market daily. The Portfolio
would write a call option for cross-hedging purposes, instead of writing a
covered call option, when the premium to be received from the cross-hedge
transaction would exceed that which would be received from writing a covered
call option and the Sub-Adviser believes that writing the option would achieve
the desired hedge.
If a put or call option written by the Portfolio was exercised, the
Portfolio would be obligated to buy or sell the underlying security at the
exercise price. Writing a put option involves the risk of a decrease in the
market value of the underlying security, in which case the option could be
exercised and the underlying security would then be sold by the option holder
to the Portfolio at a higher price than its current market value. Writing a
call option involves the risk of an increase in the market value of the
underlying security, in which case the option could be exercised and the
underlying security would then be sold by the Portfolio to the option holder
at a lower price than its current market value. Those risks could be reduced
by entering into an offsetting transaction. The Portfolio retains the premium
received from writing a put or call option whether or not the option is
exercised.
The writer of an option may have no control when the underlying security
must be sold, in the case of a call option, or bought, in the case of a put
option, since with regard to certain options, the writer may be assigned an
exercise notice at any time prior to the termination of the obligation.
Whether or not an option expires unexercised, the writer retains the amount of
the premium. This amount, of course, may, in the case of a covered call
option, be offset by a decline in the market value of the underlying security
during the option period. If a call option is exercised, the writer
experiences a profit or loss from the sale of the underlying security. If a
put option is exercised, the writer must fulfill the obligation to buy the
underlying security.
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The writer of an option that wishes to terminate its obligation may effect a
"closing purchase transaction". This is accomplished by buying an option of
the same series as the option previously written. The effect of the purchase
is that the writer's position will be canceled by the clearing corporation.
However, a writer may not effect a closing purchase transaction after being
notified of the exercise of an option. Likewise, an investor who is the holder
of an option may liquidate its position by effecting a "closing sale
transaction". This is accomplished by selling an option of the same series as
the option previously bought. There is no guarantee that either a closing
purchase or a closing sale transaction can be effected.
Effecting a closing transaction in the case of a written call option will
permit the Portfolio to write another call option on the underlying security
with either a different exercise price or expiration date or both or, in the
case of a written put option, will permit the Portfolio to write another put
option to the extent that the exercise price thereof is secured by deposited
high-grade liquid assets. Also, effecting a closing transaction will permit
the cash or proceeds from the concurrent sale of any securities subject to the
option to be used for other portfolio investments. If the Portfolio desires to
sell a particular security on which the Portfolio has written a call option,
the Portfolio will effect a closing transaction prior to or concurrent with
the sale of the security.
The Portfolio may realize a profit from a closing transaction if the price
of the purchase transaction is less than the premium received from writing the
option or the price received from a sale transaction is more than the premium
paid to buy the option; the Portfolio may realize a loss from a closing
transaction if the price of the purchase transaction is more than the premium
received from writing the option or the price received from a sale transaction
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 Portfolio.
An option position may be closed out only where there exists a secondary
market for an option of the same series. If a secondary market does not exist,
it might not be possible to effect closing transactions in particular options
with the result that the Portfolio would have to exercise the options in order
to realize any profit. If the Portfolio is unable to effect a closing purchase
transaction in a secondary market, it will not be able to sell the underlying
security until the option expires or the Portfolio delivers the underlying
security upon exercise. Reasons for the absence of a liquid secondary market
may include the following: (i) there may be insufficient trading interest in
certain options, (ii) restrictions may be imposed by a national securities
exchange on which the option is traded ("Exchange") on opening or closing
transactions or both, (iii) trading halts, suspensions or other restrictions
may be imposed with respect to particular classes or series of options or
underlying securities, (iv) unusual or unforeseen circumstances may interrupt
normal operations on an Exchange, (v) the facilities of an Exchange or the
Options Clearing Corporation ("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.
The Portfolio may write options in connection with buy-and-write
transactions; that is, the Portfolio may buy a security and then write a call
option against that security. The exercise price of the call the Portfolio
determines to write will depend upon the expected price movement of the
underlying security. The exercise price of a call option may be below ("in-
the-money"), equal to
- 15 -
<PAGE>
("at-the-money") or above ("out-of-the-money") the current value of the
underlying security at the time the option is written. Buy-and-write
transactions using in-the-money call options may be used when it is expected
that the price of the underlying security will remain flat or decline
moderately during the option period. Buy-and-write transactions using at-the-
money call options may be used when it is expected that the price of the
underlying security will remain fixed or advance moderately during the option
period. Buy-and-write transactions using out-of-the-money call options may be
used when it is expected that the premiums received from writing the call
option plus the appreciation in the market price of the underlying security up
to the exercise price will be greater than the appreciation in the price of
the underlying security alone. If the call options are exercised in such
transactions, the Portfolio's maximum gain will be the premium received by it
for writing the option, adjusted upwards or downwards by the difference
between the Portfolio's purchase price of the security and the exercise price.
If the options are not exercised and the price of the underlying security
declines, the amount of such decline will be offset by the amount of premium
received.
The writing of covered put options is similar in terms of risk and return
characteristics to buy-and-write transactions. If the market price of the
underlying security rises or otherwise is above the exercise price, the put
option will expire worthless and the Portfolio's gain will be limited to the
premium received. If the market price of the underlying security declines or
otherwise is below the exercise price, the Portfolio may elect to close the
position or take delivery of the security at the exercise price and the
Portfolio's return will be the premium received from the put option minus the
amount by which the market price of the security is below the exercise price.
The Portfolio may buy put options to attempt to hedge against a decline in
the value of its securities. By using put options in this way, the Portfolio
will reduce any profit it might otherwise have realized in the underlying
security by the amount of the premium paid for the put option and by
transaction costs.
The Portfolio may buy call options to attempt to hedge against an increase
in the price of securities that the Portfolio may buy in the future. The
premium paid for the call option plus any transaction costs will reduce the
benefit, if any, realized by the Portfolio upon exercise of the option, and,
unless the price of the underlying security rises sufficiently, the option may
expire worthless to the Portfolio.
In purchasing an option, the Portfolio would be in a position to realize a
gain if, during the option period, the price of the underlying security
increased (in the case of a call) or decreased (in the case of a put) by an
amount in excess of the premium paid and would realize a loss if the price of
the underlying security did not increase (in the case of a call) or decrease
(in the case of a put) during the period by more than the amount of the
premium. If a put or call option bought by the Portfolio were permitted to
expire without being sold or exercised, the Portfolio would lose the amount of
the premium.
Although they entitle the holder to buy equity securities, warrants on and
options to purchase equity securities do not entitle the holder to dividends
or voting rights with respect to the underlying securities, nor do they
represent any rights in the assets of the issuer of those securities.
Interest Rate Swaps and Swap-Related Products. In order to attempt to
protect the value of the Portfolio's investments from interest rate or
currency exchange rate fluctuations, the Portfolio may enter into interest
rate swaps, and may buy or sell interest rate caps and floors. The Portfolio
expects to enter into these transactions primarily to attempt to preserve a
return or spread on a particular investment or portion of its portfolio. The
Portfolio also may enter into these
- 16 -
<PAGE>
transactions to attempt to protect against any increase in the price of
securities the Portfolio may consider buying at a later date. The Portfolio
does not intend to use these transactions as a speculative investment.
Interest rate swaps involve the exchange by the Portfolio with another party
of their respective commitments to pay or receive interest, e.g., an exchange
of floating rate payments for fixed rate payments. The exchange commitments
can involve payments to be made in the same currency or in different
currencies. The purchase of an interest rate cap entitles the purchaser, to
the extent that a specified index exceeds a predetermined interest rate, to
receive payments of interest on a contractually based principal amount from
the party selling the interest rate cap. The purchase of an interest rate
floor entitles the purchaser, to the extent that a specified index falls below
a predetermined interest rate, to receive payments of interest on a
contractually based principal amount from the party selling the interest rate
floor.
Swap and swap-related products are specialized over-the-counter instruments
and their use involves risks specific to the markets in which they are entered
into. The Portfolio will usually enter into interest rate swaps on a net
basis, i.e., the two payment streams are netted out, with the Portfolio
receiving or paying, as the case may be, only the net amount of the two
payments. The net amount of the excess, if any, of the Portfolio's obligations
over its entitlements with respect to each interest rate swap will be
calculated on a daily basis and an amount of cash or high-grade liquid assets
having an aggregate net asset value at least equal to the accrued excess will
be maintained in a segregated account by the Fund's custodian. If the
Portfolio enters into an interest rate swap on other than a net basis, the
Portfolio would maintain a segregated account in the full amount accrued on a
daily basis of the Portfolio's obligations with respect to the swap. The
Portfolio will not enter into any interest rate swap, cap or floor transaction
unless the unsecured senior debt or the claims-paying ability of the other
party thereto is rated in one of the three highest rating categories of at
least one nationally recognized statistical rating organization at the time of
entering into such transaction. The Sub-Adviser will monitor the
creditworthiness of all counterparties on an ongoing basis. If there is a
default by the other party to such a transaction, the Portfolio will have
contractual remedies pursuant to the agreements related to the transaction.
The swap market has grown substantially in recent years with a large number
of banks and investment banking firms acting both as principals and as agents
utilizing standardized swap documentation. The Sub-Adviser has determined
that, as a result, the swap market has become relatively liquid. Caps and
floors are more recent innovations for which standardized documentation has
not yet been developed and, accordingly, they are less liquid than swaps. To
the extent the Portfolio sells (i.e., writes) caps and floors, it will
maintain in a segregated account cash or high-grade liquid assets having an
aggregate net asset value at least equal to the full amount, accrued on a
daily basis, of the Portfolio's obligations with respect to any caps or
floors.
There is no limit on the amount of interest rate swap transactions that may
be entered into by the Portfolio; although the Portfolio does not presently
intend to engage in such transactions in excess of 5% of its total assets.
These transactions may in some instances involve the delivery of securities or
other underlying assets by the Portfolio or its counterparty to collateralize
obligations under the swap. Under the documentation currently used in those
markets, the risk of loss with respect to interest rate swaps is limited to
the net amount of the interest payments that the Portfolio is contractually
obligated to make. If the other party to an interest rate swap that is not
collateralized defaults, the Portfolio would risk the loss of the net amount
of the payments that the Portfolio contractually is entitled to receive. The
Portfolio may buy and sell (i.e., write) caps and floors without limitation,
subject to the segregated account requirement described above.
In addition to the instruments, strategies and risks described in this
Statement of Additional Information and in the Prospectus, there may be
additional opportunities in connection with
- 17 -
<PAGE>
options, futures contracts, forward currency contracts and other hedging
techniques, that become available as the Sub-Adviser develops new techniques,
as regulatory authorities broaden the range of permitted transactions and as
new instruments and techniques are developed. The Sub-Adviser may use these
opportunities to the extent they are consistent with the Portfolio's
respective investment objectives and are permitted by the Portfolio's
respective investment limitations and applicable regulatory requirements.
Special Investment Considerations and Risks. The successful use of the
investment practices described above with respect to futures contracts,
options on futures contracts, forward contracts, options on securities and on
foreign currencies, and swaps and swap-related products draws upon skills and
experience which are different from those needed to select the other
instruments in which the Portfolio invests. Should interest or exchange rates
or the prices of securities or financial indices move in an unexpected manner,
the Portfolio may not achieve the desired benefits of futures, options, swaps
and forwards or may realize losses and thus be in a worse position than if
such strategies had not been used. Unlike many exchange-traded futures
contracts and options on futures contracts, there are no daily price
fluctuation limits with respect to options on currencies, forward contracts
and other negotiated or over-the-counter instruments, and adverse market
movements could therefore continue to an unlimited extent over a period of
time. In addition, the correlation between movements in the price of the
securities and currencies hedged or used for cover will not be perfect and
could produce unanticipated losses.
The Portfolio's ability to dispose of its positions in the foregoing
instruments will depend on the availability of liquid markets in the
instruments. Markets in a number of the instruments are relatively new and
still developing, and it is impossible to predict the amount of trading
interest that may exist in those instruments in the future. Particular risks
exist with respect to the use of each of the foregoing instruments and could
result in such adverse consequences to the Portfolio as the possible loss of
the entire premium paid for an option bought by the Portfolio, the inability
of the Portfolio, as the writer of a covered call option, to benefit from the
appreciation of the underlying securities above the exercise price of the
option and the possible need to defer closing out positions in certain
instruments to avoid adverse tax consequences. As a result, no assurance can
be given that the Portfolio will be able to use those instruments effectively
for the purposes set forth above.
In connection with certain of its hedging transactions, the Portfolio must
place assets in a segregated account with the Fund's Custodian bank to ensure
that the Portfolio will be able to meet its obligations under these
instruments. Assets held in a segregated account generally may not be disposed
of during the period the Portfolio maintains the positions giving rise to the
segregation requirement. Segregation of a large percentage of the Portfolio's
assets could impede implementation of the Portfolio's investment policies or
the Portfolio's ability to meet redemption requests or other current
obligations.
Additional Risks of Options on Foreign Currencies, Forward Contracts and
Foreign Instruments. Unlike transactions entered into by the Portfolio in
futures contracts, options on foreign currencies and forward contracts are not
traded on contract markets regulated by the CFTC or (with the exception of
certain foreign currency options) by the SEC. To the contrary, such
instruments are traded through financial institutions acting as market-makers,
although foreign currency options are also traded on certain national
securities exchanges, such as the Philadelphia Stock Exchange and the Chicago
Board Options Exchange, subject to SEC regulation. Similarly, options on
currencies may be traded over-the-counter. In an over-the-counter trading
environment, many of the protections afforded to exchange participants will
not be available. For example, there are no daily price fluctuation limits,
and adverse market movements could therefore continue to an unlimited extent
over a period of time. Although the
- 18 -
<PAGE>
buyer of an option cannot lose more than the amount of the premium plus
related transaction costs, this entire amount could be lost. Moreover, an
option writer and a buyer or seller of futures or forward contracts could lose
amounts substantially in excess of any premium received or initial margin or
collateral posted due to the potential additional margin and collateral
requirements associated with such positions.
Options on foreign currencies traded on national securities exchanges are
within the jurisdiction of the SEC, as are other securities traded on such
exchanges. As a result, many of the protections provided to traders on
organized exchanges are available with respect to such transactions. In
particular, all foreign currency option positions entered into on a national
securities exchange are cleared and guaranteed by the OCC, thereby reducing
the risk of counterparty default. Further, a liquid secondary market in
options traded on a national securities exchange may be more readily available
than in the over-the-counter market, potentially permitting the Portfolio to
liquidate open positions at a profit prior to exercise or expiration, or to
limit losses in the event of adverse market movements.
The purchase and sale of exchange-traded foreign currency options, however,
is subject to the risks of the availability of a liquid secondary market
described above, as well as the risks regarding adverse market movements,
margining of options written, the nature of the foreign currency market,
possible intervention by governmental authorities and the effects of other
political and economic events. In addition, exchange-traded options on foreign
currencies involve certain risks not presented by the over-the-counter market.
For example, exercise and settlement of such options must be made exclusively
through the OCC, which has established banking relationships in applicable
foreign countries for this purpose. As a result, the OCC may, if it determines
that foreign government restrictions or taxes would prevent the orderly
settlement of foreign currency option exercises, or would result in undue
burdens on the OCC or its clearing member, impose special procedures on
exercise and settlement.
In addition, options on U.S. Government securities, futures contracts,
options on futures contracts, forward contracts and options on foreign
currencies may be traded on foreign exchanges and over-the-counter in foreign
countries. Such transactions are subject to the risk of governmental actions
affecting trading in or the prices of foreign currencies or securities. The
value of such positions also could be adversely affected by (i) other complex
foreign political and economic factors, (ii) lesser availability than in the
United States of data on which to make trading decisions, (iii) delays in the
Portfolio's ability to act upon economic events occurring in foreign markets
during nonbusiness hours in the United States, (iv) the imposition of
different exercise and settlement terms and procedures and margin requirements
than in the United States, and (v) low trading volume.
MANAGEMENT OF THE FUND
DIRECTORS AND OFFICERS
The directors and executive officers of the Fund and their principal
occupations for at least the last five years are set forth below:
<TABLE>
<CAPTION>
NAME, RELATIONSHIP WITH PRINCIPAL OCCUPATION
THE FUND, AND ADDRESS (1) PAST FIVE YEARS
- ------------------------- --------------------
<S> <C>
PETER R. BROWN (68) Chairman of the Board, Peter Brown Construction Company
Director (construction contractors and engineers), Largo,
1475 South Belcher Road Florida (1963 - present); Trustee of IDEX Series Fund;
Largo, Florida 33771 former Trustee of IDEX Fund, IDEX II Series Fund and
IDEX Fund 3; Rear Admiral (Ret.) U.S. Navy Reserve,
Civil Engineer Corps.
</TABLE>
- 19 -
<PAGE>
<TABLE>
<CAPTION>
NAME, RELATIONSHIP WITH PRINCIPAL OCCUPATION
THE FUND, AND ADDRESS (1) PAST FIVE YEARS
- ------------------------- --------------------
<S> <C>
CHARLES C. HARRIS (66) Retired (1988 - present); Senior Vice President,
Director Treasurer (1966 - 1988), Western Reserve Life Assurance
35 Winston Drive Co. of Ohio; Trustee of IDEX Series Fund; former
Clearwater, Florida Trustee of IDEX Fund; IDEX II Series Fund and IDEX Fund
34616 3; Vice President, Treasurer (1968 - 1988), Director
(1968 - 1987), Pioneer Western Corporation; Vice
President of the Fund (1986 to December, 1990).
RUSSELL A. KIMBALL, Jr. General Manager, Sheraton Sand Key Resort (resort
(52) hotel), Clearwater, Florida (1975 - present).
Director
1160 Gulf Boulevard
Clearwater Beach,
Florida 34630
JOHN R. KENNEY (59) Chairman of the Board of Directors (1987 - present),
Chairman of the Board of Chief Executive Officer (1982 - present), President
Directors and President (1978 - 1987 and December, 1992 - present), Director
(2) (1978 - present), Western Reserve Life Assurance Co. of
Ohio; Chairman of the Board of Directors (September
1996 - present), WRL Investment Management, Inc.
(investment adviser), Largo, Florida; Chairman of the
Board of Directors (September, 1996 - present), WRL
Investment Services, Inc., Largo, Florida; Director,
AEGON Asset Management Services, Inc. (February, 1997 -
present) Largo, Florida; Chairman of the Board of
Directors and Chief Executive Officer (1988 to
February, 1991), President (1988 - 1989), Director
(1976 to February, 1991), Executive Vice President
(1972 - 1988), Pioneer Western Corporation (financial
services), Largo, Florida; President and Director
(1985 - September, 1990) and Director (December, 1990
to present), Idex Management, Inc. (investment
adviser), Largo, Florida; Trustee (1987 - September,
1996), Chairman (December, 1989 to September, 1990 and
November, 1990 to September, 1996) and President and
Chief Executive Officer (November, 1986 to September,
1990), IDEX Fund, IDEX II Series Fund and IDEX Fund 3;
Trustee and Chairman (September, 1996 - present) of
IDEX Series Fund, (investment companies), all of Largo,
Florida.
G. JOHN HURLEY (48) Executive Vice President (June 1993 - present), Chief
Director and Executive Operating Officer (March, 1994 - January, 1997) Western
Vice President (2) Reserve Life Assurance Co. of Ohio; Director
(September, 1996 - present), WRL Investment Management,
Inc. (investment adviser), Largo, Florida; Director
(September, 1996 - present), WRL Investment Services,
Inc., Largo, Florida; Director, President and Chief
Executive Officer, AEGON Asset Management Services,
Inc. (February, 1997 - present), Largo, Florida;
President and Chief Executive Officer (September,
1990 - September, 1996), Trustee (June, 1990 -
September, 1996) and Executive Vice President (June,
1988 -September, 1990) of IDEX Fund, IDEX II Series
Fund and IDEX Fund 3 (investment companies); Trustee,
President and Chief Financial Officer (September,
1996 - present) of IDEX Series Fund; President, Chief
Executive Officer and Director of InterSecurities, Inc.
(May, 1988 - present); Assistant Vice
</TABLE>
- 20 -
<PAGE>
<TABLE>
<CAPTION>
NAME, RELATIONSHIP WITH PRINCIPAL OCCUPATION
THE FUND, AND ADDRESS (1) PAST FIVE YEARS
- ------------------------- --------------------
<S> <C>
President of AEGON USA Managed Portfolios, Inc.
(September, 1991 - August, 1992); Vice President of
Pioneer Western Corporation (May, 1988 -February, 1991)
(financial services), all of Largo, Florida.
ALLAN J. HAMILTON (40) Vice President and Controller (1987 - present),
Treasurer, Principal Fi- Treasurer (February, 1997 - present), Assistant Vice
nancial Officer (2) President and Assistant Controller (1983 - 1987),
Western Reserve Life Assurance Co. of Ohio; Vice
President and Controller (1988 - February, 1991),
Pioneer Western Corporation (financial services), all
of Largo, Florida.
ALAN M. YAEGER (50) Executive Vice President (June, 1993 - present), Chief
Executive Vice President Financial Officer (December, 1995 - present), Senior
(2) Vice President (1981-June, 1993) and Actuary (1972-
present), Western Reserve Life Assurance Co. of Ohio;
Director (September, 1996 - present), WRL Investment
Management, Inc., (investment adviser) Largo, Florida;
Director (September, 1996 - present) WRL Investment
Services, Inc., Largo, Florida.
REBECCA A. FERRELL (36) Vice President and Associate General Counsel (March,
Secretary, Vice Presi- 1997 - present) Assistant Vice President and Counsel
dent, and Counsel (2) (June, 1995 - March, 1997), Attorney (August, 1993 -
June, 1995), Western Reserve Life Assurance Co. of
Ohio; Secretary, Vice President and Counsel of IDEX
Series Fund (September, 1996 - present), Vice President
and Associate General Counsel (February, 1997 -
present) AEGON Asset Management Services, Inc., Largo,
Florida; Secretary and Assistant Vice President (March,
1994 - September, 1995), Vice President and Counsel
(September, 1995 - September, 1996) of IDEX Fund, IDEX
II Series Fund and IDEX Fund 3; Attorney (September,
1992 - August, 1993), Hearne, Graziano, Nader & Buhr,
P.A.; Legal Writing Instructor (August, 1991 - June,
1992), Florida State University College of Law.
</TABLE>
- --------
(1) The principal business address of each person listed, unless otherwise
indicated, is Western Reserve Life Assurance Co. of Ohio, P.O. Box 5068,
Clearwater, Florida 34618.
(2) Interested person as defined in the 1940 Act and affiliated person of
Investment Adviser.
The Fund pays no salaries or compensation to any of its officers, all of
whom are employees of WRL. The Fund pays an annual fee of $6,000 to each
Director who is not affiliated with the Investment Adviser or the Sub-Adviser.
Each Director also receives $500, plus expenses, per each regular and special
Board meeting attended. For the year ended December 31, 1996, the Portfolio
paid Directors' fees and expenses of $8,449. The following table provides
compensation amounts paid to disinterested Directors of the Fund for the
fiscal year ended December 31, 1996.
COMPENSATION TABLE
<TABLE>
<CAPTION>
PENSION OR
RETIREMENT
AGGREGATE BENEFITS
COMPENSATION FROM ACCRUED AS TOTAL COMPENSATION PAID TO
WRL PART OF DIRECTORS FROM WRL SERIES
NAME OF PERSON, POSITION SERIES FUND, INC. FUND EXPENSES* FUND, INC., IDEX SERIES FUND
- ------------------------ ----------------- -------------- ----------------------------
<S> <C> <C> <C>
Peter R. Brown, Director $9,500 $0 $34,000
Charles C. Harris, Di-
rector $9,500 0 $34,000
Russell A. Kimball, Jr.,
Director $9,000 0 $ 9,000
</TABLE>
- --------
* The Plan became effective January 1, 1996.
- 21 -
<PAGE>
Commencing on January 1, 1996, a non-qualified deferred compensation plan
(the "Plan") became available to directors who are not interested persons of
the Fund. Under the Plan, compensation may be deferred that would otherwise be
payable by the Fund or IDEX Series Fund, to a disinterested Director or
Trustee on a current basis for services rendered as director. (IDEX Fund and
IDEX Fund 3 were merged with and into the Growth Portfolio of IDEX II Series
Fund on September 20, 1996, at which time IDEX II Series Fund was renamed IDEX
Series Fund.) Deferred compensation amounts will accumulate based on the value
of Class A shares of a portfolio of IDEX II Series Fund (without imposition of
sales charges), as elected by the directors. It is not anticipated that the
Plan will have any impact on the Fund.
As of March 1, 1997, the Directors and officers of the Fund beneficially
owned in the aggregate less than 1% of the Fund's shares through ownership of
the Contract indirectly invested in the Fund. The Board of Directors has
established an Audit Committee consisting of Messrs. Brown, Harris and
Kimball.
THE INVESTMENT ADVISER
The information that follows supplements the information provided about the
Investment Adviser under the caption "Management of the Fund--The Investment
Adviser" in the Prospectus.
WRL Investment Management, Inc. ("WRL Management" or the "Investment
Adviser") serves as the investment adviser to the Portfolio pursuant to an
Investment Advisory Agreement dated January 1, 1997 with the Fund. The
Investment Adviser is a direct, wholly-owned subsidiary of WRL, which is a
wholly-owned subsidiary of First AUSA Life Insurance Company ("First AUSA"), a
stock life insurance company which is wholly-owned by AEGON USA, Inc.
("AEGON"). AEGON is a financial services holding company whose primary
emphasis is on life and health insurance and annuity and investment products.
AEGON is a wholly-owned indirect subsidiary of AEGON nv, a Netherlands
corporation, which is a publicly traded international insurance group. Prior
to January 1, 1997, WRL served as investment adviser to the Fund.
The Investment Advisory Agreement was approved by the Fund's Board of
Directors, including a majority of the Directors who are not "interested
persons" of the Fund (as defined in the 1940 Act), on October 3, 1996 and by
the shareholders of the Portfolio on December 16, 1996. The Investment
Advisory Agreement provides that it will continue in effect for an initial
term ending January 1, 1999, and from year to year thereafter, if approved
annually (a) by the Board of Directors of the Fund or by a majority of the
outstanding shares of the Portfolio, and (b) by a majority of the Directors
who are not parties to such contract or "interested persons" of any such
party. The Investment Advisory Agreement may be terminated without penalty on
60 days' written notice at the option of either party or by the vote of the
shareholders of the Portfolio and terminates automatically in the event of its
assignment (within the meaning of the 1940 Act).
While the Investment Adviser is at all times subject to the direction of the
Board of Directors of the Fund, the Investment Advisory Agreement provides
that the Investment Adviser, subject to review by the Board of Directors, is
responsible for the actual management of the Portfolio and has responsibility
for making decisions to buy, sell or hold any particular security. The
Investment Adviser also is obligated to provide all the office space,
facilities, equipment and personnel necessary to perform its duties under the
Agreement. For further information about the management of the Portfolio, see
"The Sub-Adviser", below.
- 22 -
<PAGE>
Advisory Fee. The method of computing the investment advisory fee is fully
described in the Prospectus. For the years ended December 31, 1996, 1995 and
1994, the Investment Adviser was paid fees for its services to the Portfolio
in the following amounts:
<TABLE>
<CAPTION>
ADVISORY FEES
YEAR ENDED
----------------------------------------------------------------------------------------
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1996 1995 1994
------------ ------------ ------------
<S> <C> <C>
$11,137,321 $7,847,750 $6,850,340
</TABLE>
Payment of Expenses. Under the terms of the Investment Advisory Agreement,
the Investment Adviser is responsible for providing investment advisory
services and furnishing office space for officers and employees of the
Investment Adviser connected with investment management of the Portfolio. The
Portfolio pays: all expenses incurred in connection with the formation and
organization of the Portfolio, including the preparation (and filing, when
necessary) of the Portfolio's contracts, plans, and documents, conducting
meetings of organizers, directors and shareholders; preparing and filing the
post-effective amendment to the Fund's registration statement effecting
registration of the Portfolio and its shares under the 1940 Act and the
Securities Act of 1933 Act and all other matters relating to the information
and organization of the Portfolio and the preparation for offering its shares;
expenses in connection with ongoing registration or qualification requirements
under Federal and state securities laws; investment advisory fees; pricing
costs (including the daily calculations of net asset value); brokerage
commissions and all other expenses in connection with execution of portfolio
transactions, including interest; all federal, state and local taxes
(including stamp, excise, income and franchise taxes) and the preparation and
filing of all returns and reports in connection therewith; any compensation,
fees, or reimbursements which the Fund pays to its Directors who are not
"interested persons," as that phrase is defined in the 1940 Act, of the Fund
or WRL Management; compensation of the Fund's custodian, administrative and
transfer agent; registrar and dividend disbursing agent; legal, accounting and
printing expenses; other administrative, clerical, recordkeeping and
bookkeeping expenses; auditing fees; certain insurance premiums; services for
shareholders (including allocable telephone and personnel expenses); costs of
certificates and the expenses of delivering such certificates to the purchaser
of shares relating thereto; expenses of local representation in Maryland; fees
and/or expenses payable pursuant to any plan of distribution adopted with
respect to the Fund in accordance with Rule 12b-1 under the 1940 Act; expenses
of shareholders' meetings and of preparing, printing, and distributing
notices, proxy statements and reports to shareholders and Contract Owners;
expenses of preparing and filing reports with Federal and state regulatory
authorities; all costs and expenses, including fees and disbursements, of
counsel and auditors, filing and renewal fees and printing costs in connection
with the filing of any required amendments, supplements or renewals of
registration statement, qualifications or prospectuses under the Securities
Act of 1933 and the securities laws of any states or territories, subsequent
to the effectiveness of the initial registration statement under the
Securities Act of 1933; all costs involved in preparing and printing
prospectuses of the Fund; extraordinary expenses; and all other expenses
properly payable by the Fund or the Portfolio.
The Investment Adviser has voluntarily undertaken, until at least April 30,
1998, to pay expenses on behalf of the Portfolio to the extent normal
operating expenses (including investment advisory fees but excluding interest,
taxes, brokerage fees, commissions and extraordinary charges) exceed, as a
percentage of the Portfolio's average daily net assets, 1.00%. There were no
expenses paid by the Investment Adviser on behalf of the Portfolio for the
fiscal years ended December 31, 1996, 1995 and 1994, inasmuch as the normal
operating expenses of the Portfolio did not exceed the limitations described
above.
- 23 -
<PAGE>
Service Agreement. Effective January 1, 1997, the Fund entered into an
------------------
Administrative Services and Transfer Agency Agreement ("Services Agreement")
with WRL Investment Services, Inc. ("WRL Services"), an affiliate of WRL
Management and WRL, to furnish the Fund with administrative services to assist
the Fund in carrying out certain of its functions and operations. The Service
Agreement was approved by the Fund's Board of Directors, including a majority
of Directors who are not "interested persons" of the Fund (as defined in the
1940 Act) on October 3, 1996. Under this Agreement, WRL Services shall furnish
to each Portfolio, subject to the overall supervision of the Fund's Board,
supervisory, administrative, and transfer agency services, including
recordkeeping and reporting. WRL Services is reimbursed by the Fund monthly on
a cost incurred basis.
Distribution Agreement. Effective January 1, 1997, the Fund adopted a
-----------------------
distribution plan ("Distribution Plan") pursuant to Rule 12b-1 under the 1940
Act, as amended. Pursuant to the Distribution Plan, the Fund entered into a
Distribution Agreement with InterSecurities, Inc. ("ISI"), whose principal
office is located at 201 Highland Avenue, Largo, Florida 33770. The
Distribution Plan and related Agreement were approved by the Fund's Board of
Directors, including a majority of Directors who are not "interested persons"
of the Fund (as defined in the 1940 Act) on October 3, 1996, and the
Distribution Plan was approved by the shareholders and Contract Owners of each
Portfolio of the Fund on December 16, 1996. ISI is an affiliate of the
Investment Adviser.
Under the Distribution Plan and Distribution Agreement, the Fund, on behalf
of the Portfolios, will reimburse ISI after each calendar month for certain
Fund distribution expenses incurred or paid by ISI, provided that these
expenses in the aggregate do not exceed 0.15%, on an annual basis, of the
average daily net asset value of shares of each Portfolio.
Distribution expenses for which ISI may be reimbursed under the Distribution
Plan and Distribution Agreement include, but are not limited to, expenses of
printing and distributing the Fund's prospectus and statement of additional
information to potential Contract Owners; developing and preparing Fund
advertisements; sales literature and other promotional materials; holding
seminars and sales meetings designed to promote distribution of Fund shares;
the development of consumer-oriented sales materials describing and/or
relating to the Fund; and expenses attributable to "distribution-related
services" provided to the Fund, which include such things as salaries and
benefits, office expenses, equipment expenses, training costs, travel costs,
printing costs, supply expenses, computer programming time, and data center
expenses, each as they relate to the promotion of the sale of Fund shares.
ISI submits to the Directors of the Fund for approval annual distribution
budgets and quarterly reports of distribution expenses with respect to each
Portfolio. ISI allocates to each Portfolio distribution expenses specifically
attributable to the distribution of shares of such Portfolio. Distribution
expenses not specifically attributable to the distribution of shares of a
particular Portfolio are allocated among the Portfolios, based upon the ratio
of net asset value of each Portfolio to the net asset value of all Portfolios,
or such other factors as ISI deems fair and are approved by the Fund's Board
of Directors. ISI has determined that will not seek payment by the Fund of
distribution expenses with respect to any Portfolio during the fiscal year
ending December 31, 1997. Prior to ISI seeking reimbursement, Policyowners
will be notified in advance.
It is anticipated that benefits provided by the Distribution Plan may
include lower fixed costs as a percentage of assets as Fund assets increase
through the growth of the Fund due to enhanced marketing efforts.
- 24 -
<PAGE>
THE SUB-ADVISER
This discussion supplements the information provided about the Sub-Adviser
under the caption "Management of the Fund--The Sub-Adviser" in the Prospectus.
Janus Capital Corporation (the "Sub-Adviser") serves as the Sub-Adviser for
the Portfolio pursuant to a Sub-Advisory Agreement dated January 1, 1997
between WRL Management and the Sub-Adviser on behalf of the Portfolio. The
Sub-Advisory Agreement was approved by the Board of Directors of the Fund,
including a majority of the Directors who were not "interested persons" of the
Fund (as defined in the 1940 Act), on October 3, 1996 and by the shareholders
and Contract Owners of the Portfolio on December 16, 1996. The Sub-Advisory
Agreement provides that it will continue in effect for an initial term ending
January 1, 1999, and from year to year thereafter, if approved annually (a) by
the Board of Directors of the Fund or by a majority of the outstanding shares
of the Portfolio, and (b) by a majority of the Directors who are not parties
to such Agreement or "interested persons" (as defined in the 1940 Act) of any
such party. The Sub-Advisory Agreement may be terminated without penalty on 60
days' written notice at the option of either party or by the vote of the
shareholders of the Portfolio and terminates automatically in the event of
assignment (within the meaning of the 1940 Act) or termination of the
Investment Advisory Agreement.
Pursuant to the Sub-Advisory Agreement, the Sub-Adviser provides investment
advisory assistance and portfolio management advice to the Investment Adviser
with respect to the Portfolio. Subject to review by the Investment Adviser and
the Board of Directors of the Fund, the Sub-Adviser is responsible for the
actual management of the Portfolio and for making decisions to buy, sell or
hold any particular security. The Sub-Adviser provides the portfolio managers
for the Portfolio. Such managers consider analyses from various sources, make
the necessary decisions and effect transactions accordingly. The Sub-Adviser
bears all of its expenses in connection with the performance of its services
under the Sub-Advisory Agreement, such as compensating and furnishing office
space for its officers and employees connected with investment and economic
research, trading and investment management of the Portfolio. The method of
computing the Sub-Adviser's fee is set forth in the Prospectus. For the years
ended December 31, 1996, 1995 and 1994, the Sub-Adviser was paid fees in the
amount of $5,568,661, $3,923,875 and $3,425,888, respectively.
The Sub-Adviser, located at 100 Fillmore Street, Denver, Colorado 80206, has
been engaged in the management of Janus funds since 1969. Janus Capital
Corporation also serves as investment adviser or sub-adviser to other mutual
funds, and for individual, corporate, charitable and retirement accounts. The
aggregate market value of the assets managed by the Sub-Adviser was over $50
billion as of January 31, 1997. Kansas City Southern Industries, Inc. ("KCSI")
owns 83% of the Sub-Adviser. KCSI, whose address is 114 West 11th Street,
Kansas City, Missouri 64105-1804, is a publicly-traded holding company whose
largest subsidiary, the Kansas City Southern Railway Company, is primarily
engaged in the transportation industry. Other KCSI subsidiaries are engaged in
financial services and real estate.
JOINT TRADING ACCOUNTS
As described in the Prospectus, the Portfolio and other clients of the Sub-
Adviser and its affiliates may place assets in joint trading accounts for the
purpose of making short-term investments in money market instruments. The
Board of Directors of the Fund must approve the participation of each
Portfolio in these joint trading accounts, and procedures pursuant to which
the joint accounts will operate. The joint trading accounts are to be operated
pursuant to an exemptive order issued to the Sub-Adviser and certain of its
affiliates by the SEC. All joint account participants including the Portfolio,
will bear the expenses of the joint trading accounts in proportion to their
investments. Financial difficulties of other participants in the joint
accounts could cause delays or other difficulties for the Portfolio in
withdrawing their assets from joint trading accounts.
- 25 -
<PAGE>
PORTFOLIO TRANSACTIONS AND BROKERAGE
PORTFOLIO TURNOVER
The information that follows supplements the information provided about
portfolio turnover under the caption "The Growth Portfolio and the Fund--
Portfolio Turnover" in the Prospectus. In computing the portfolio turnover
rate for the Portfolio, securities whose maturities or expiration dates at the
time of acquisition are one year or less are excluded. Subject to this
exclusion, the turnover rate for the Portfolio is calculated by dividing (a)
the lesser of purchases or sales of portfolio securities for the fiscal year
by (b) the monthly average of portfolio securities owned by the Portfolio
during the fiscal year. The portfolio turnover rates for the years 1996, 1995
and 1994 were 45.21%, 130.48%, and 107.33%, respectively. The Fund's
management is unable to predict precisely the Portfolio's future annual
turnover rate, although an annual turnover rate in excess of 150% is not
presently anticipated. Higher turnover rates tend to result in higher
brokerage fees.
There are no fixed limitations regarding the portfolio turnover of the
Portfolio. Portfolio turnover rates are expected to fluctuate under constantly
changing economic conditions and market circumstances. Securities initially
satisfying the basic policies and objectives of the Portfolio may be disposed
of when they are no longer deemed suitable.
PLACEMENT OF PORTFOLIO BROKERAGE
Subject to policies established by the Board of Directors, the Sub-Adviser
is primarily responsible for placement of the Portfolio's securities
transactions. In placing orders, it is the policy of the Portfolio to obtain
the most favorable net results, taking into account various factors, including
price, dealer spread or commissions, if any, size of the transaction and
difficulty of execution. While the Sub-Adviser generally will seek reasonably
competitive spreads or commissions, the Portfolio will not necessarily be
paying the lowest spread or commission available. The Portfolio does not have
any obligation to deal with any broker, dealer or group of brokers or dealers
in the execution of transactions in portfolio securities.
Decisions as to the assignment of portfolio brokerage business for the
Portfolio and negotiation of its commission rates are made by the Sub-Adviser,
whose policy is to obtain "best execution" (prompt and reliable execution at
the most favorable security price) of all portfolio transactions. In placing
portfolio transactions, the Sub-Adviser may give consideration to brokers who
provide supplemental investment research, in addition to such research
obtained for a flat fee, to the Sub-Adviser, and pay spreads or commissions to
such brokers or dealers furnishing such services which are in excess of
spreads or commissions which another broker or dealer may charge for the same
transaction.
In selecting brokers and in negotiating commissions, the Sub-Adviser
considers such factors as: the Sub-Adviser's knowledge of currently available
negotiated commission rates or prices of securities currently available and
other current transaction costs; the nature of the security being traded; the
size and type of the transaction; the nature and character of the markets for
the security to be purchased or sold; the desired timing of the trade; the
activity existing and expected in the market for the particular security;
confidentiality; the quality of execution, clearance, and settlement services;
financial stability; the existence of actual or apparent operational problems
of any broker or dealer; and research products or services to be provided.
These products and services may include furnishing advice, either directly
or through publications or writings, as to the value of securities, the
advisability of purchasing or selling specific securities and the availability
of securities or purchasers or sellers of securities; furnishing seminars,
information, analyses and reports concerning issuers, industries, securities,
trading markets and methods, legislative developments, changes in accounting
practices, economic factors
- 26 -
<PAGE>
and trends and portfolio strategy; access to research analysts, corporate
management personnel, industry experts, economists and government officials;
comparative performance evaluation and technical measurement services and
quotation services, and products and other services (such as third party
publications, reports and analyses, and computer and electronic access,
equipment, software, information and accessories that deliver, process or
otherwise utilize information), including the research described above.
Supplemental research obtained through brokers or dealers will be in
addition to and not in lieu of the services required to be performed by the
Sub-Adviser. The expenses of the Sub-Adviser will not necessarily be reduced
as a result of the receipt of such supplemental information. The Sub-Adviser
may use such research products and services in servicing other accounts in
addition to the Portfolio. If the Sub-Adviser determines that any research
product or service has a mixed use, such that it also serves functions that do
not assist in the investment decision-making process, the Sub-Adviser will
allocate the costs of such service or product accordingly. The portion of the
product or service that a Sub-Adviser determines will assist it in the
investment decision-making process may be paid for in brokerage commission
dollars. Such allocation may create a conflict of interest for the Sub-
Adviser. Conversely, such supplemental information obtained by the placement
of business for the Sub-Adviser will be considered by and may be useful to the
Sub-Adviser in carrying out its obligations to the Portfolio.
When the Portfolio purchases or sells a security in the over-the-counter
market, the transaction takes place directly with a principal market-maker,
without the use of a broker, except in those circumstances where, in the
opinion of the Sub-Adviser, better prices and executions are likely to be
achieved through the use of a broker. The Portfolio does not have any
obligation to deal with any broker, dealer or group of brokers or dealers in
the execution of transactions in portfolio securities.
Normally, the Portfolio will deal directly with the underwriters or dealers
who make a market in the securities involved unless better prices and
execution are available elsewhere. Such dealers usually act as principals for
their own account. On occasion, securities may be purchased directly from the
issuer. Bonds and money market securities are generally traded on a net basis
and do not normally involve either brokerage commissions or transfer taxes.
The cost of portfolio securities transactions of the Portfolio that are
transactions with principals will consist primarily of brokerage commissions
or dealer or underwriter spreads between the bid and asked price, although
purchases from underwriters of portfolio securities include a commission or
concession paid by the issuer. No stated commission is generally applicable to
securities traded in the U.S. over-the-counter markets, but the prices of
those securities include undisclosed commissions or mark-ups.
Securities held by the Portfolio may also be held by other separate
accounts, mutual funds or other accounts for which the Investment Adviser or
Sub-Adviser serves as an adviser, or held by the Investment Adviser or Sub-
Adviser for their own accounts. Because of different investment objectives or
other factors, a particular security may be bought by the Investment Adviser
or Sub-Adviser for one or more clients when one or more clients are selling
the same security. If purchases or sales of securities for the Portfolio or
other entities for which they act as investment adviser or for their advisory
clients arise for consideration at or about the same time, transactions in
such securities will be made, insofar as feasible, for the respective entities
and clients in a manner deemed equitable to all. To the extent that
transactions on behalf of more than one client of the Investment Adviser or
Sub-Adviser during the same period may increase the demand for securities
being purchased or the supply of securities being sold, there may be an
adverse effect on price.
On occasions when the Investment Adviser or the Sub-Adviser deems the
purchase or sale of a security to be in the best interests of the Portfolio as
well as other accounts or companies, it may
- 27 -
<PAGE>
to the extent permitted by applicable laws and regulations, but will not be
obligated to, aggregate the securities to be sold or purchased for the
Portfolio with those to be sold or purchased for such other accounts or
companies in order to obtain favorable execution and lower brokerage
commissions. In that event, allocation of the securities purchased or sold, as
well as the expenses incurred in the transaction, will be made by the Sub-
Adviser in the manner it considers to be most equitable and consistent with
its fiduciary obligations to the Portfolio and to such other accounts or
companies. In some cases this procedure may adversely affect the size of the
position obtainable for the Portfolio.
The Board of Directors of the Fund periodically reviews the brokerage
placement practices of the Sub-Adviser on behalf of the Portfolio, and reviews
the prices and commissions, if any, paid by the Portfolio to determine if they
were reasonable.
The Board of Directors of the Fund has authorized the Sub-Adviser to
consider sales of the Policies and Annuity Contracts issued by a broker-dealer
as a factor in the selection of broker-dealers to execute Portfolio
transactions. In addition, the Sub-Adviser may occasionally place portfolio
business with affiliated brokers of the Investment Adviser or the Sub-Adviser,
including: DST Securities, Inc., 301 West 11th Street, Kansas City, Missouri
64105; and InterSecurities, Inc., P.O. Box 5068, Clearwater, Florida 33518. As
stated above, any such placement of portfolio business will be subject to the
ability of the broker-dealer to provide best execution and to the Conduct
Rules of the National Association of Securities Dealers, Inc.
The Portfolio paid aggregate commissions for the years ended December 31,
1996, 1995 and 1994 in the amount of $720,978, $1,577,115, and $1,466,443,
respectively. For the years ended December 31, 1996 and 1995, the Portfolio
did not pay any brokerage commissions to DST Securities, Inc. For the year
ended December 31, 1994, the Portfolio paid commissions to DST Securities,
Inc. in the amount of $2,796. The percentage of the Portfolio's aggregate
brokerage commissions and aggregate dollar amount of transactions paid to DST
Securities, Inc. during the Portfolio's most recent fiscal year did not exceed
one percent.
PURCHASE AND REDEMPTION OF SHARES
OFFERING OF THE SHARES AND DETERMINATION OF OFFERING PRICE
Shares of the Portfolio are currently sold only to the Separate Accounts.
The Separate Account invests in shares of the Portfolio in accordance with the
allocation instructions received from owners of the Contract ("Owners"). Such
allocation rights are further described in the prospectus and disclosure
documents for the Contract. Shares of the Portfolio are sold and redeemed at
their net asset value as described in the Prospectus. Net asset value of the
Portfolio's shares is determined, once daily, as of the close of the regular
session of business on the New York Stock Exchange ("Exchange") (usually 4:00
p.m., Eastern time), on each day the Exchange is open. (Currently the Exchange
is closed on New Year's Day, Presidents' Day, Good Friday, Memorial Day,
Independence Day, Labor Day, Thanksgiving Day and Christmas Day.)
Net asset value of a Portfolio share is computed by dividing the value of
the net assets of the Portfolio by the total number of shares of the Portfolio
outstanding.
PORTFOLIO NET ASSET VALUATION
As stated in the Prospectus and above, the net asset value of a Portfolio
share is determined, once daily, as of the close of the regular session of
business on the Exchange (usually 4:00 p.m., Eastern time), on each day the
Exchange is open. The per share net asset value of the Portfolio is
- 28 -
<PAGE>
determined by dividing the total value of the securities and other assets,
less liabilities, by the total number of shares outstanding. In determining
asset value, securities listed on the national securities exchanges and the
NASDAQ National Market are valued at the closing prices on such markets, or if
such a price is lacking for the trading period immediately preceding the time
of determination, such securities are valued at their current bid price. Other
securities which are traded on the over-the-counter market are valued at bid
price. Foreign securities and currencies are converted to U.S. dollars using
the exchange rate in effect at the close of the Exchange. Other securities for
which quotations are not readily available, and other assets, are valued at
fair values as determined in good faith by the Sub-Adviser under the
supervision of the Fund's Board of Directors. Money market instruments
maturing in 60 days or less are valued on the amortized cost basis discussed
above.
INVESTMENT EXPERIENCE INFORMATION
The information provided in this section shows the historical investment
experience of the Portfolio. It does not represent or project future
investment performance.
The Portfolio commenced operations on October 2, 1986. The rates of return
shown below depict the actual investment experience of the Portfolio for the
periods shown.
CALCULATION OF PERFORMANCE RELATED INFORMATION
TOTAL RETURN
The rates of return shown below are based on the actual investment
performance, after the deduction of investment advisory fees and direct
Portfolio expenses. The rates are average annual compounded rates of return
for the periods ended on December 31, 1996.
The rates of return do not reflect charges or deductions against the
Separate Accounts, or charges and deductions against the Policies or
Contracts. Accordingly, these rates of return do not illustrate how actual
investment performance will affect benefits under the Contract. The
prospectuses for the Contracts contains relevant performance information.
Moreover, these rates of return are not an estimate, projection or guarantee
of future performance.
Also shown are comparable figures for the unmanaged Standard & Poor's Index
of 500 Common Stocks, a widely used measure of stock market performance.
AVERAGE ANNUAL COMPOUNDED RATES OF RETURN
FOR THE PERIODS ENDED ON DECEMBER 31, 1996
<TABLE>
<CAPTION>
INCEPTION* 10 YEARS 5 YEARS 1 YEAR
---------- -------- ------- ------
<S> <C> <C> <C> <C>
Growth Portfolio 17.66% 17.98% 11.11% 17.96%
Standard & Poor's Index
of 500 Common Stocks 15.46% 15.28% 15.22% 22.96%
</TABLE>
- --------
* The Portfolio commenced operations on October 2, 1986.
Additional information regarding the investment performance of the Portfolio
appears in the Prospectus.
- 29 -
<PAGE>
Total Return for the Portfolio
Total return quotations for the Portfolio are computed by finding the
average annual compounded rates of return over the relevant periods that
would equate the initial amount invested to the ending redeemable value,
according to the following equation:
P(1+T)n = ERV
Where: P = a hypothetical initial payment of $1,000
T = average annual total return
N = number of years
ERV = ending redeemable value (at the end of the applicable period of
a hypothetical $1,000 payment made at the beginning of the applicable
period).
The total return quotation calculations for the Portfolio reflect the
deduction of a proportionate share of the Portfolio's investment advisory fee
and Portfolio expenses and assume that all dividends and capital gains during
the period are reinvested in the Portfolio when made. The calculations also
assume a complete redemption as of the end of the particular period.
TAXES
Shares of the Portfolio are offered to the Separate Account of PFL that
funds the Contracts. See the prospectus for the Contract for a discussion of
the special taxation of insurance companies with respect to the Separate
Account and the Contract, and the owners thereof.
The Portfolio has qualified and expects to continue to qualify as a
regulated investment company ("RIC") under the Internal Revenue Code of 1986,
as amended (the "Code"). In order to qualify for that treatment, the Portfolio
must distribute to its Contract Owners for each taxable year at least 90% of
its investment company taxable income (consisting generally of net investment
income, net short-term capital gain, and net gains from certain foreign
currency transactions) ("Distribution Requirement") and must meet several
additional requirements. These requirements include the following: (1) the
Portfolio must derive at least 90% of its gross income each taxable year from
dividends, interest, payments with respect to securities loans, and gains from
the sale or other disposition of securities or foreign currencies, or other
income (including gains from options, futures or forward contracts) derived
with respect to its business of investing in securities or those currencies
("Income Requirement"); (2) the Portfolio must derive less than 30% of its
gross income each taxable year from the sale or other disposition of
securities, or any of the following, that were held for less than three
months--options, futures or forward contracts (other than those on foreign
currencies), or foreign currencies (or options, futures or forward contracts
thereon) that are not directly related to the Portfolio's principal business
of investing in securities (or options and futures with respect thereto)
("Short-Short Limitation"); (3) at the close of each quarter of the
Portfolio's taxable year, at least 50% of the value of its total assets must
be represented by cash and cash items, U.S. Government securities, securities
of other RICs, and other securities that, with respect to any one issuer, do
not exceed 5% of the value of the Portfolio's total assets and that do not
represent more than 10% of the outstanding voting securities of the issuer;
and (4) at the close of each quarter of the Portfolio's taxable year, not more
than 25% of the value of its total assets may be invested in securities (other
than U.S. Government securities or the securities of other RICs) of any one
issuer.
As noted in the Prospectus, the Portfolio must, and intends to, comply with
the diversification requirements imposed by section 817(h) of the Code and the
regulations thereunder. These
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<PAGE>
requirements, which are in addition to the diversification requirements
mentioned above, place certain limitations on the proportion of the
Portfolio's assets that may be represented by any single investment (which
includes all securities of the same issuer). For purposes of section 817(h),
all securities of the same issuer, all interests in the same real property
project, and all interests in the same commodity are treated as a single
investment. In addition, each U.S. Government agency or instrumentality is
treated as a separate issuer, while a particular foreign government and its
agencies, instrumentalities and political subdivisions all are considered the
same issuer. For information concerning the consequences of failure to meet
the requirements of section 817(h), see the respective prospectus for the
Contract.
The Portfolio will not be subject to the 4% Federal excise tax imposed on
RICs that do not distribute substantially all their income and gains each
calendar year because that tax does not apply to a RIC whose only shareholders
are segregated asset accounts of life insurance companies held in connection
with variable annuity contracts and/or variable life insurance policies.
Dividends and interest received by the Portfolio may be subject to income,
withholding or other taxes imposed by foreign countries and U.S. possessions
that would reduce the yield on its securities. Tax conventions between certain
countries and the United States may reduce or eliminate these foreign taxes,
however, and foreign countries generally do not impose taxes on capital gains
in respect of investments by foreign investors.
The Portfolio may invest in the stock of "passive foreign investment
companies" ("PFICs"). A PFIC is a foreign corporation that, in general, meets
either of the following tests: (1) at least 75% of its gross income is passive
or (2) an average of at least 50% of its assets produce, or are held for the
production of, passive income. Under certain circumstances, the Portfolio will
be subject to Federal income tax on a portion of any "excess distribution"
received on the stock of a PFIC or of any gain on disposition of that stock
(collectively "PFIC income"), plus interest thereon, even if the Portfolio
distributes the PFIC income as a taxable dividend to its shareholders. The
balance of the PFIC income will be included in the Portfolio's investment
company taxable income and, accordingly, will not be taxable to it to the
extent that income is distributed to its shareholders. If the Portfolio
invests in a PFIC and elects to treat the PFIC as a "qualified electing fund,"
then in lieu of the foregoing tax and interest obligation, the Portfolio will
be required to include in income each year its pro rata share of the qualified
electing fund's annual ordinary earnings and net capital gain (the excess of
net long-term capital gain over net short-term capital loss), even if they are
not distributed to the Portfolio; those amounts would be subject to the
Distribution Requirement. In most instances it will be very difficult, if not
impossible, to make this election because of certain requirements thereof.
The use of hedging strategies, such as writing (selling) and purchasing
options and futures contracts and entering into forward contracts, involves
complex rules that will determine for income tax purposes the character and
timing of recognition of the income received in connection therewith by the
Portfolio. Income from the disposition of foreign currencies (except certain
gains therefrom that may be excluded by future regulations), and income from
transactions in options, futures and forward contracts derived by the
Portfolio with respect to its business of investing in securities or foreign
currencies, will qualify as permissible income under the Income Requirement.
However, income from the disposition of options and futures contracts (other
than those on foreign currencies) will be subject to the Short-Short
Limitation if they are held for less than three months. Income from the
disposition of foreign currencies, and options, futures, and forward contracts
on foreign currencies, that are not directly related to the Portfolio's
principal business of investing in securities (or options and futures with
respect thereto) also will be subject to the Short-Short Limitation if they
are held for less than three months.
If the Portfolio satisfies certain requirements, any increase in value on a
position that is part of a "designated hedge" will be offset by any decrease
in value (whether realized or not) of the
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<PAGE>
offsetting hedging position during the period of the hedge for purposes of
determining whether the Portfolio satisfies the Short-Short Limitation. Thus,
only the net gain (if any) from the designated hedge will be included in gross
income for purposes of that limitation. The Portfolio intends that, when it
engages in hedging transactions, they will qualify for this treatment, but at
the present time it is not clear whether this treatment will be available for
all of the Portfolio's hedging transactions. To the extent this treatment is
not available, the Portfolio may be forced to defer the closing out of certain
options and futures contracts beyond the time when it otherwise would be
advantageous to do so, in order for the Portfolio to qualify as a RIC.
The foregoing is only a general summary of some of the important Federal
income tax considerations generally affecting the Portfolio and its Owners. No
attempt is made to present a complete explanation of the Federal tax treatment
of the Portfolio's activities, and this discussion and the discussion in the
prospectus or statement of additional information for the Contract are not
intended as a substitute for careful tax planning. Accordingly, potential
investors are urged to consult their own tax advisors for more detailed
information and for information regarding any state, local, or foreign taxes
applicable to the Contract and the holders thereof.
CAPITAL STOCK OF THE FUND
As described in the Prospectus, the Fund offers a separate class of common
stock for each portfolio of the Fund.
REGISTRATION STATEMENT
The Fund has filed with the Securities and Exchange Commission, Washington,
D.C., a Registration Statement under the Securities Act of 1933, as amended,
with respect to the securities to which this Statement of Additional
Information relates. If further information is desired with respect to the
Portfolio or such securities, reference is made to the Registration Statement
and the exhibits filed as part thereof.
FINANCIAL STATEMENTS
The audited financial statements for the Portfolio described in this
Statement of Additional Information for the year ended December 31, 1996 and
the report of the Fund's independent accountants are included in the Fund's
1996 Annual Report and are incorporated herein by reference to such Report. A
copy of the Annual Report may be obtained without charge upon request.
OTHER INFORMATION
INDEPENDENT ACCOUNTANTS
Price Waterhouse LLP, located at 1055 Broadway, 10th Floor, Kansas City,
Missouri 64105, serves as the Fund's independent accountants. The Fund has
engaged Price Waterhouse LLP to examine, in accordance with generally accepted
auditing standards, its annual report. In addition, Price Waterhouse LLP signs
the tax returns for the Portfolio of the Fund.
CUSTODIAN
Investors Bank & Trust Company ("IBT"), located at 89 South Street, Boston,
Massachusetts 02111, serves as the Fund's Custodian and Dividend Disbursing
Agent. IBT provides comprehensive asset administrative services to the Fund
and other members of the financial industry which include: multi-currency
accounting; institutional transfer agency services; domestic and global
custody; performance measures; foreign exchange; and securities lending and
mutual fund administrative services.
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APPENDIX A
DESCRIPTION OF PORTFOLIO SECURITIES
The following is intended only as a supplement to the information contained
in the Prospectus and should be read only in conjunction with the Prospectus.
Terms defined in the Prospectus and not defined herein have the same meanings
as those in the Prospectus.
1. Certificate of Deposit.* A certificate of deposit generally is a short-
term, interest bearing negotiable certificate issued by a commercial bank or
savings and loan association against funds deposited in the issuing
institution.
2. Eurodollar Certificate of Deposit.* A Eurodollar certificate of deposit is
a short-term obligation of a foreign subsidiary of a U.S. bank payable in U.S.
dollars.
3. Floating Rate Note.* A floating rate note is debt issued by a corporation
or commercial bank that is typically several years in term but whose interest
rate is reset every one to six months.
4. Time Deposit.* A time deposit is a deposit in a commercial bank for a
specified period of time at a fixed interest rate for which a negotiable
certificate is not received.
5. Bankers' Acceptance.* A bankers' acceptance is a time draft drawn on a
commercial bank by a borrower, usually in connection with international
commercial transactions (to finance the import, export, transfer or storage of
goods). The borrower is liable for payment as well as the bank, which
unconditionally guarantees to pay the draft at its face amount on the maturity
date. Most acceptances have maturities of six months or less and are traded in
secondary markets prior to maturity.
6. Variable Amount Master Demand Note.* A variable amount master demand note
is a note which fixes a minimum and maximum amount of credit and provides for
lending and repayment within those limits at the discretion of the lender.
Before investing in any variable amount master demand notes, the Portfolio
will consider the liquidity of the issuer through periodic credit analysis
based upon publicly available information.
7. Commercial Paper.* Commercial paper is a short-term promissory note issued
by a corporation primarily to finance short-term credit needs.
8. Repurchase Agreement.* A repurchase agreement is an instrument under which
the Portfolio acquires ownership of a debt security and the seller agrees to
repurchase the obligation at a mutually agreed upon time and price. The total
amount received on repurchase is calculated to exceed the price paid by the
Portfolio, reflecting an agreed upon market rate of interest for the period
from the time of the Portfolio's purchase of the security to the settlement
date (i.e., the time of repurchase), and would not necessarily relate to the
interest rate on the underlying securities. The Portfolio will only enter into
repurchase agreements with respect to underlying securities consisting of U.S.
Government or government agency securities, certificates of deposit,
commercial paper or bankers' acceptances, and will be entered only with
primary dealers. While the Portfolio may invest in repurchase agreements for
periods up to 30 days, it is expected that typically such periods will be for
a week or less. The staff of the Securities and Exchange Commission has taken
the position that repurchase agreements of greater than seven days together
with other illiquid investments should be limited to an amount not in excess
of 15% of the Portfolio's net assets.
Although repurchase transactions usually do not impose market risks on the
purchaser, the Portfolio would be subject to the risk of loss if the seller
fails to repurchase the securities for any
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* Short-term Securities.
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reason and the value of the securities is less than the agreed upon repurchase
price. In addition, if the seller defaults, the Portfolio may incur
disposition costs in connection with liquidating the securities. Moreover, if
the seller is insolvent and bankruptcy proceedings are commenced, under
current law, the Portfolio could be ordered by a court not to liquidate the
securities for an indeterminate period of time and the amount realized by the
Portfolio upon liquidation of the securities may be limited.
9. Reverse Repurchase Agreement. A reverse repurchase agreement involves the
sale of securities held by the Portfolio, with an agreement to repurchase the
securities at an agreed upon price, date and interest payment. The Portfolio
will use the proceeds of the reverse repurchase agreements to purchase other
money market securities maturing, or under an agreement to resell, at a date
simultaneous with or prior to the expiration of the reverse repurchase
agreement. The Portfolio will utilize reverse repurchase agreements when the
interest income to be earned from the investment of the proceeds from the
transaction is greater than the interest expense of the reverse repurchase
transaction.
10. Asset-Backed Securities. The Portfolio may invest in securities backed by
automobile receivables and credit-card receivables and other securities backed
by other types of receivables or other assets. Credit support for asset-backed
securities may be based on the underlying assets and/or provided through
credit enhancements by a third party. Credit enhancement techniques include
letters of credit, insurance bonds, limited guarantees (which are generally
provided by the issuer), senior-subordinated structures and over-
collateralization. The Portfolio will only purchase an asset-backed security
if it is rated at least "A" by S&P or Moody's.
11. Mortgage-Backed Securities. The Portfolio may purchase mortgage-backed
securities issued by government and non-government entities such as banks,
mortgage lenders, or other financial institutions. Mortgage-backed securities
include mortgage pass-through securities, mortgage-backed bonds, and mortgage
pay-through securities. A mortgage pass-through security is a pro-rata
interest in a pool of mortgages where the cash flow generated from the
mortgage collateral is passed through to the security holder. Mortgage-backed
bonds are general obligations of their issuers, payable out of the issuers'
general funds and additionally secured by a first lien on a pool of mortgages.
Mortgage pay-through securities exhibit characteristics of both pass-through
and mortgage-backed bonds. Mortgage-backed securities also include other debt
obligations secured by mortgages on commercial real estate or residential
properties. Other types of mortgage-backed securities will likely be developed
in the future, and the Portfolio may invest in them if it is determined they
are consistent with the Portfolio's investment objective and policies.
12. Collateralized Mortgage Obligations. (CMOs) are pay-through securities
collateralized by mortgages or mortgage-backed securities. CMOs are issued in
classes and series that have different maturities and often are retired in
sequence.
13. Stripped Mortgage-Backed Securities. Stripped mortgage-backed securities
are created when the principal and interest payments of a mortgage-backed
security are separated by a U.S. Government agency or a financial institution.
The holder of the "principal-only" security receives the principal payments
made by the underlying mortgage-backed security, while the holder of the
"interest-only" security receives interest payments from the same underlying
security.
The value of mortgage-backed securities may change due to changes in the
market's perception of issuers. In addition, the mortgage securities market in
general may be adversely affected by regulatory or tax changes. Non-
governmental mortgage-backed securities may offer a higher yield than those
issued by government entities but also may be subject to greater price change
then government securities.
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Like most mortgage securities, mortgage-backed securities are subject to
prepayment risk. When prepayment occurs, unscheduled or early payments are
made on the underlying mortgages, which may shorten the effective maturities
of those securities and may lower their total returns. Furthermore, the prices
of stripped mortgage-backed securities can be significantly affected by
changes in interest rates as well. As interest rates fall, prepayment rates
tend to increase, which in turn tends to reduce prices of "interest-only"
securities and increase prices of "principal-only" securities. Rising interest
rates can have the opposite effect.
14. Zero Coupon Bonds. Zero coupon bonds are created three ways:
1) U.S. TREASURY STRIPS (Separate Trading of Registered Interest and
Principal of Securities) are created when the coupon payments and the
principal payment are stripped from an outstanding Treasury bond by the
Federal Reserve Bank. Bonds issued by the Resolution Funding Corporation
(REFCORP) and the Financial Corporation (FICO) also can be stripped in
this fashion.
2) STRIPS are created when a dealer deposits a Treasury Security or a
Federal agency security with a custodian for safe keeping and then sells
the coupon payments and principal payments that will be generated by
this security separately. Proprietary receipts, such as Certificates of
Accrual on Treasury Securities (CATS), Treasury Investment Growth
Receipts (TIGRS), and generic Treasury Receipts (TRs), are stripped U.S.
Treasury securities separated into their component parts through
custodial arrangements established by their broker sponsors. FICO bonds
have been stripped in this fashion. The Portfolio has been advised that
the staff of the Division of Investment Management of the Securities and
Exchange Commission does not consider such privately stripped
obligations to be U.S. Government securities, as defined by the 1940
Act. Therefore, the Portfolio will not treat such obligations as U.S.
Government securities for purposes of the 65% portfolio composition
ratio.
3) ZERO COUPON BONDS can be issued directly by Federal agencies and
instrumentalities, or by corporations. Such issues of zero coupon bonds
are originated in the form of a zero coupon bond and are not created by
stripping an outstanding bond.
Zero coupon bonds do not make regular interest payments. Instead they are
sold at a deep discount from their face value. Because a zero coupon bond does
not pay current income, its price can be very volatile when interest rates
change. In calculating its dividends, the fund takes into account as income a
portion of the difference between a zero coupon bond's purchase price and its
face value.
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APPENDIX B
DESCRIPTION OF SELECTED CORPORATE BOND AND
COMMERCIAL PAPER RATINGS
CORPORATE BONDS--MOODY'S INVESTORS SERVICE, INC.
Aaa--Bonds which are 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 edge." Interest payments are protected by a large, or by an
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 on such issues.
Aa--Bonds which are rated Aa are judged to be of 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 as in Aaa securities or fluctuation of
protective elements may be of greater amplitude or there may be other elements
present which make the long-term risks appear somewhat larger than in Aaa
securities.
A--Bonds which are rated A possess many favorable investment attributes and
are to be considered as upper-medium-grade obligations. Factors giving
security to principal and interest are considered adequate but elements may be
present which suggest a susceptibility to impairment sometime in the future.
Baa--Bonds which are rated Baa are considered as medium-grade obligations,
i.e., 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. Such bonds lack outstanding investment characteristics and in
fact have speculative characteristics as well.
Ba--Bonds which are rated Ba are judged to have speculative elements and
their future cannot be considered as well assured. Often the protection of
interest and principal payments may be very moderate and thereby not well
safe-guarded during both good and bad times over the future. Uncertainty of
position characterizes bonds in this class.
B--Bonds which are rated B generally lack characteristics of a 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.
Unrated--Where no rating has been assigned or where a rating has been
suspended or withdrawn, it may be for reasons unrelated to the quality of the
issue.
Should no rating be assigned, the reason may be one of the following:
1. An application for rating was not received or accepted.
2. The issue or issuer belongs to a group of securities or companies
that are not rated as a matter of policy.
3. There is a lack of essential data pertaining to the issue or issuer.
4. The issue was privately placed, in which case the rating is not
published in Moody's publications.
Suspension or withdrawal may occur if new and material circumstances arise,
the effects of which preclude satisfactory analysis; if there is no longer
available reasonable up-to-date data to permit a judgment to be formed; if a
bond is called for redemption; or for other reasons.
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CORPORATE BONDS--STANDARD & POOR'S CORPORATION
AAA--This is the highest rating assigned by Standard & Poor's 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
they differ from AAA issues only in 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 exhibit an adequate degree of protection,
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 and 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 obligation.
BB indicates the lowest degree of speculation. While such bonds will likely
have some quality and protective characteristics, these are outweighed by
large uncertainties or major risk exposures to adverse conditions.
Plus (+) or Minus (-)--The ratings from "AA" to "BBB" may be modified by the
addition of a plus or minus sign to show relative standing within the major
rating categories.
Unrated--Indicates that no public rating has been requested, that there is
insufficient information on which to base a rating, or that S&P does not rate
a particular type of obligation as a matter of policy.
COMMERCIAL PAPER--MOODY'S INVESTORS SERVICE, INC.
"Prime-1"--Commercial paper issuers rated Prime-1 are judged to be of the
best quality. Their short-term debt obligations carry the smallest degree of
investment risk. Margins of support for current indebtedness are large or
stable with cash flow and asset protection well assured. Current liquidity
provides ample coverage of near-term liabilities and unused alternative
financing arrangements are generally available. While protective elements may
change over the intermediate or longer term, such changes are most unlikely to
impair the fundamentally strong position of short-term obligations.
"Prime-2"--Issuers in the Commercial Paper market rated Prime-2 are high
quality. Protection for short-term holders is assured with liquidity and value
of current assets as well as cash generation in sound relationship to current
indebtedness. They are rated lower than the best commercial paper issuers
because margins of protection may not be as large or because fluctuations of
protective elements over the near or immediate term may be of greater
amplitude. Temporary increases in relative short and overall debt load may
occur. Alternative means of financing remain assured.
COMMERCIAL PAPER--STANDARD & POOR'S CORPORATION
"A"--Issues assigned this highest rate are regarded as having the greatest
capacity for timely payment. Issues in this category are further refined with
the designation 1, 2 and 3 to indicate the relative degree of safety.
"A-1"--This designation indicates that the degree of safety regarding timely
payment is very strong.
"A-2"--Capacity for timely payment on issues with this designation is
strong. However, the relative degree of safety is not overwhelming as for
issues designated "A-1".
"A-3"--Issues carrying this designation have a satisfactory capacity for
timely payment. They are, however, somewhat vulnerable to the adverse effects
of changes in circumstances than obligations carrying the higher designation.
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