See footnotes on page 43.
See footnotes on page 43.
See Notes to Financial Statements.
Matters Relating to the Trustees’
Consideration of the Continuance of the Management Agreement
The term “Trust” refers to Seligman Municipal Series Trust, and the term “Series” refers to the California High-Yield Series, the California Quality Series, the Florida Series and the North Carolina Series. There is a single management agreement between the Manager and the Trust that relates to all four Series.
In the discussion of Investment Results below, references to one-, three-, five-, or ten-year periods are for those periods ended September 30, 2004. References to the most recent ten-month period are for the period ended October 31, 2004.
The trustees of the Trust unanimously approved the continuance of the Management Agreement with the Manager in respect of each Series at a meeting held on November 18, 2004.
In preparation for the meeting, the trustees had requested and evaluated extensive materials from the Manager, including performance and expense information for other investment companies with similar investment objectives derived from data compiled by Lipper Inc. (“Lipper”). Prior to voting, the trustees reviewed the proposed continuance of the Management Agreement with management and with experienced counsel who are independent of the Manager and received a memorandum from such counsel discussing the legal standards for their consideration of the proposed continuance. The independent trustees also discussed the proposed continuance in a private session with counsel at which no representatives of the Manager were present. In reaching their determination relating to continuance of the Management Agreement in respect of each Series, the trustees considered all factors they believed relevant, including the following:
| | 1. | information comparing the performance of each of the Series to other investment companies with similar investment objectives; |
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| | 2. | the nature, extent and quality of investment and administrative services rendered by the Manager; |
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| | 3. | payments received by the Manager from all sources in respect of each Series and all investment companies in the Seligman Group of Funds; |
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| | 4. | the costs borne by, and profitability of, the Manager and its affiliates in providing services to each Series and to all investment companies in the Seligman Group of Funds; |
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| | 5. | comparative fee and expense data for each Series and other investment companies with similar investment objectives; |
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| | 6. | the extent to which economies of scale would be realized as the Series grow and whether fee levels reflect any economies of scale for the benefit of investors; |
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| | 7. | the Manager’s policies and practices regarding allocation of portfolio transactions of the Series, including the extent to which the Manager benefits from soft dollar arrangements; |
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| | 8. | information about “revenue sharing” arrangements that the Manager enters into in respect of each Series; |
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| | 9. | portfolio turnover rates of each Series compared to other investment companies with similar investment objectives; |
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| | 10. | fall-out benefits which the Manager and its affiliates receive from their relationships to the Series; |
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| | 11. | the professional experience and qualifications of each Series’ portfolio management team and other senior personnel of the Manager; and |
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| | 12. | the terms of the Management Agreement. |
The trustees also considered their knowledge of the nature and quality of the services provided by the Manager to the Series gained from their experience as directors and/or trustees of the Seligman Group of Funds, their overall confidence in the Manager’s integrity and competence gained from that experience and the Manager’s responsiveness to concerns raised by them in the past, including the Manager’s willingness to consider and implement organizational and operational changes designed to improve investment results and the services provided to the Seligman Group of Funds.
Matters Relating to the Trustees’
Consideration of the Continuance of the Management Agreement
In their deliberations, the trustees did not identify any particular information that was all-important or controlling, and each trustee attributed different weights to the various factors. The trustees evaluated all information available to them on a Series-by-Series basis, and their determinations were made separately in respect of each Series.
The trustees determined that the overall arrangements between each Series and the Manager, as provided in the Management Agreement in respect of that Series, were fair and reasonable in light of the services performed, expenses incurred and such other matters as the trustees considered relevant in the exercise of their reasonable judgment.
The material factors and conclusions that formed the basis for the trustees’ reaching their determination to approve the continuance of the Management Agreement (including their determinations that the Manager should continue to be the investment adviser for each Series and that the fees payable to the Manager pursuant to the Management Agreement are appropriate) were separately discussed by the trustees.
Nature, Extent and Quality of Services Provided by the Manager
The trustees noted that, under the Management Agreement, the Manager, subject to the control of the trustees, administers each Series’ business and other affairs. The Manager manages the investment of the assets of each Series, including making purchases and sales of portfolio securities consistent with such Series’ investment objective and policies. The Manager also provides each Series with such office space, administrative and other services (exclusive of, and in addition to, any such services provided by any others retained by each Series) and executive and other personnel as are necessary for Series operations. The Manager pays all of the compensation of trustees of the Trust who are employees or consultants of the Manager and of the officers and employees of the Trust. The Manager also provides senior management for Seligman Data Corp. (“SDC”), a company owned by certain of the investment companies in the Seligman Group of Funds that provides shareholder services to the Trust and other investment companies in the Seligman Group of Funds at cost.
The trustees considered the scope and quality of services provided by the Manager under the Management Agreement and noted that the scope of services provided had expanded over time as a result of regulatory and other developments. The trustees noted that, for example, the Manager is responsible for maintaining and monitoring its own and the Trust’s compliance programs, and these compliance programs have recently been refined and enhanced in light of new regulatory requirements. The trustees considered the quality of the investment research capabilities of the Manager and the other resources they have dedicated to performing services for the Series. The quality of administrative and other services, including the Manager’s role in coordinating the activities of the Trust’s other service providers, also were considered. The trustees also considered the Manager’s response to recent regulatory compliance issues affecting it and other investment companies in the Seligman Group of Funds. The trustees concluded that, overall, they were satisfied with the nature, extent and quality of services provided (and expected to be provided) to each of the Series under the Management Agreement.
Costs of Services Provided and Profitability to the Manager
At the request of the trustees, the Manager provided information concerning profitability of the Manager’s investment advisory and investment company activities and its financial condition based on historical information for 2003 and 2004 (through September 30) and estimates for full-year 2004. The information considered by the trustees included operating profit margin information for
Matters Relating to the Trustees’
Consideration of the Continuance of the Management Agreement
the Manager’s investment company business alone (i.e., excluding results of its other businesses) and on a consolidated basis. The trustees also reviewed the Manager’s profitability data and estimated profitability data for each Series. The trustees reviewed with the Manager’s chief financial officer assumptions and methods of allocation used by the Manager in preparing Series-specific profitability data. The Manager stated its belief that the methods of allocation used were reasonable, but it noted that there are limitations inherent in allocating costs to multiple individual advisory products served by an organization such as the Manager where each of the advisory products draws on, and benefits from, the research and other resources of the organization.
The trustees recognized that it is difficult to make comparisons of profitability from fund management contracts because comparative information is not generally publicly available and is affected by numerous factors, including the structure of the particular adviser, the types of funds it manages, its business mix, numerous assumptions regarding allocations and the adviser’s capital structure and cost of capital. In considering profitability information, the trustees considered the effect of fall-out benefits on the Manager’s expenses, as well as the “revenue sharing” arrangements the Manager has entered into with certain entities that distribute shares of the Series. The trustees focused on profitability of the Manager’s relationships with the Series before taxes and distribution expenses. The trustees recognized that the Manager should, in the abstract, be entitled to earn a reasonable level of profits for the services it provides to each Series and, based on their review, concluded that they were satisfied that the Manager’s level of profitability from its relationship with each Series was not excessive.
Fall-Out Benefits
The trustees considered that the Manager benefits from soft dollar arrangements whereby it receives brokerage and research services from brokers that execute the Seligman Group of Funds’ purchases and sales of securities. The trustees received and reviewed information concerning the Manager’s soft dollar arrangements, which included a description of the Manager’s policies with respect to allocating portfolio brokerage for brokerage and research services, Series-by-Series data for the twelve months ended September 30, 2004 on the dollar amount of commissions allocated for third-party research and brokerage services and for proprietary research and brokerage services, and a list of firms providing third-party research and brokerage to the Manager as of September 30, 2004.
The trustees also considered that a broker-dealer affiliate of the Manager receives 12b-1 fees from the Series in respect of shares held in accounts for which there is no other broker of record, and that the Series’ distributor (another affiliate of the Manager) retains a portion of the 12b-1 fees from the Series and receives a portion of the sales charges on sales or redemptions of certain classes of shares.
The trustees recognized that the Manager’s profitability would be somewhat lower if it did not receive research and brokerage services for soft dollars or if its affiliates did not receive the other benefits described above. The trustees noted that the Manager derives reputational and other benefits from its association with the Series.
Investment Results
In addition to the information received by the trustees for the meeting, the trustees receive detailed performance information for each Series at each regular Board meeting during the year. The trustees reviewed information showing performance of each Series compared to other funds in the appropriate Lipper average and compared to a group of competitor funds selected by the Manager. The Manager explained that there was no appropriate benchmark index against which to compare each Series.
Matters Relating to the Trustees’
Consideration of the Continuance of the Management Agreement
California High-Yield Series. The trustees compared the California High-Yield Series’ performance to the Lipper California Municipal Debt Funds Average and to 10 competitor funds selected by the Manager. They noted that the California High-Yield Series ranked above the median for its Lipper category in all periods and that its results were close to or above the Lipper average and the competitor average for 2003 and the most recent 10-month period as well as for the five-year period. Based upon their review, the trustees concluded that the California High-Yield Series’ relative investment performance over time had been highly satisfactory.
California Quality Series. The trustees compared the California Quality Series’ performance to the Lipper California Municipal Debt Funds Average and to 10 competitor funds selected by the Manager. They noted that the California Quality Series ranked relatively close to the median for its Lipper category in all periods and that its results were above the Lipper average and the competitor average for the five-year period although they were somewhat below those benchmarks in more recent periods. The Manager explained that the California Quality Series’ medium-term performance had been adversely affected by defensive positioning in anticipation of rising interest rates, which did not rise as quickly as the Manager anticipated. Based upon their review, the trustees concluded that the California Quality Series’ relative investment performance over time had been satisfactory.
Florida Series. The trustees compared the Florida Series’ performance to the Lipper Florida Municipal Debt Funds Average and to 10 competitor funds selected by the Manager. They noted that the Florida Series ranked above the median for its Lipper category in the three-, five- and ten- year periods and that its results were above the Lipper average and the competitor average for the three-year and five-year periods. Based upon their review, the trustees concluded that the Florida Series’ relative investment performance over time had been satisfactory.
North Carolina Series. The trustees compared the North Carolina Series’ performance to the Lipper North Carolina Municipal Debt Funds Average and to 6 competitor funds selected by the Manager. The comparative information showed that the North Carolina Series’ investment results were above the Lipper average for the five-year period and even with that average for the three-year period, although they lagged the competitor average in both periods and were also somewhat below both benchmarks for the most recent ten-month period. The trustees also noted that the North Carolina Series’ Lipper ranking was at or above the median for the three-, five- and ten-year periods, although it was below the median for the one-year period. The Manager noted that the North Carolina Series’ results were lowered somewhat by the Series’ relatively high expense ratio, which resulted principally from its small size (approximately $24 million). Based upon their review, the trustees concluded that the North Carolina Series’ relative investment performance over time had been satisfactory.
Management Fees and Other Expenses
The trustees considered the management fee rate paid by each Series to the Manager, which is 0.50%. The trustees noted that each Series’ management fee rate was less than both the average and the median for its peer group. The peer group for each Series consisted of all funds in its Lipper Category. The trustees recognized that it is difficult to make comparisons of management fees because there are variations in the services that are included in the fees paid by other funds.
The trustees also considered the total expense ratio of each Series in comparison to the fees and expenses of funds within its peer group. The trustees recognized that the expense ratio information for the Series potentially reflected on the Manager’s provision of services, as the Manager is responsible for coordinating services provided to the Series by others. The Manager explained that the expense ratios of some peer group funds were lowered by waivers or reimbursements by those funds’ investment advisers, which in some cases were voluntary and perhaps temporary. In considering the expense ratios of the
Matters Relating to the Trustees’
Consideration of the Continuance of the Management Agreement
Series, the trustees noted that the Series have elected to have shareholder services provided at cost by SDC and that the Manager provides senior management of SDC as part of the services covered by its management fees. SDC provides services exclusively to the investment companies in the Seligman Group of Funds, and the trustees noted that the arrangement with SDC has provided the Series and their shareholders with a consistently high level of service.
The trustees noted that the expense ratio of the California High-Yield Series was only slightly higher than its peer group median, and that for two of the other Series with relatively low net assets, the California Quality Series ($58 million) and the Florida Series ($39 million), each had expense ratios somewhat higher than their peer group medians. The trustees also noted that the California Quality Series and another fund with the same expense ratio were the highest in that peer group. The Manager explained that the relatively high expense ratios of these three Series were principally a function of their small sizes. The trustees concluded that the expense ratios of these three Series were satisfactory.
The comparative information showed that the North Carolina Series’ expense ratio was the highest in its peer group. The Manager explained that the North Carolina Series’ small size (approximately $24 million) contributed to its relatively high expense ratio. The trustees noted that the peer group was small, consisting of only five funds in addition to the North Carolina Series, that four of the five peer group funds were significantly larger than the North Carolina Series, and that three peer group funds benefited from reimbursements by their advisers. If expense ratios were considered without those reimbursements, the North Carolina Series’ expense ratio would have been closer to the median. On the basis of this review, the trustees concluded that the North Carolina Series’ expense ratio was acceptable.
Economies of Scale
The trustees noted that the management fee schedules for the Series do not contain breakpoints that reduce the fee rate on assets above specified levels. The trustees recognized that breakpoints may be an appropriate way for the Manager to share its economies of scale with some funds that have substantial assets or that may grow materially over the next year. However, they also recognized that there is no direct relationship between the economies of scale realized by funds and those realized by the Manager as assets increase, largely because economies of scale are realized (if at all) by the Manager across a variety of products and services, and not only in respect of a single fund. The trustees do not believe there is a uniform methodology for establishing breakpoints that give effect to Series-specific services provided by the Manager and to the economies of scale that the Manager may realize in its overall mutual fund business or those components of it which directly or indirectly affect the Series’ operations. The trustees observed that in the mutual fund industry as a whole, as well as among funds similar to the Series, there is no uniformity or pattern in the fees and asset levels at which breakpoints (if any) apply. Depending on the age and size of a particular fund and its manager’s cost structure, different conclusions can be drawn as to whether there are economies of scale to be realized at any particular level of assets, notwithstanding the intuitive conclusion that such economies exist, or will be realized at some level of total assets. Moreover, because different managers have different cost structures and service models, it is difficult to draw meaningful conclusions from the breakpoints that may have been adopted by comparable funds. The trustees also noted that the advisory agreements for many funds do not have breakpoints at all. Having taken these factors into account, the trustees concluded that the absence of breakpoints in each Series’ fee rate schedule was acceptable under each Series’ circumstances.
Trustees
