PART B
VANGUARD[R] FENWAY FUNDS
(THE TRUST)
STATEMENT OF ADDITIONAL INFORMATION
JANUARY 21, 2000;
REVISED MAY ___, 2000
This Statement is not a Prospectus but should be read in conjunction with the
Trust's current Prospectuses (dated January 21, 2000 for Vanguard Equity Income
Fund and May ___, 2000 for Vanguard Growth Equity Fund). To obtain the
Prospectuses or the most recent Annual Reports to Shareholders, which contain
the Trust's financial statements as hereby incorporated by reference, please
call:
INVESTOR INFORMATION DEPARTMENT
1-800-662-7447
TABLE OF CONTENTS
PAGE
DESCRIPTION OF THE TRUST .................................................B-__
INVESTMENT POLICIES ......................................................B-__
FUNDAMENTAL INVESTMENT LIMITATIONS .......................................B-__
PURCHASE OF SHARES .......................................................B-__
REDEMPTION OF SHARES .....................................................B-__
SHARE PRICE ..............................................................B-__
MANAGEMENT OF THE FUNDS...................................................B-__
YIELD AND TOTAL RETURNS ..................................................B-__
INVESTMENT ADVISORY SERVICES .............................................B-__
PORTFOLIO TRANSACTIONS ...................................................B-__
FINANCIAL STATEMENTS .....................................................B-__
COMPARATIVE INDEXES ......................................................B-__
DESCRIPTION OF THE TRUST
ORGANIZATION
The Trust was organized as Vanguard Equity Income Fund, Inc., a Maryland
corporation, in 1987, and was reorganized as Vanguard Equity Income, a Delaware
business trust, in May 1998. On March 1, 2000, the Trust was renamed Vanguard
Fenway Funds. The Trust is registered with the United States Securities and
Exchange Commission (the Commission) under the Investment Company Act of 1940
(the 1940 Act) as an open-end, diversified management company. It currently
offers the following funds:
VANGUARD EQUITY INCOME FUND
VANGUARD GROWTH EQUITY FUND
(INDIVIDUALLY, THE FUND; COLLECTIVELY THE FUNDS)
The Trust has the ability to offer additional funds or classes of shares.
There is no limit on the number of full and fractional shares that each Fund may
issue.
SERVICE PROVIDERS
CUSTODIAN. State Street Bank and Trust Company, 225 Franklin Street,
Boston, Massachusetts 02110, serves as the custodian for Vanguard Equity Income
Fund. The custodian for Vanguard
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Capital Growth Fund is First Union National Bank, PA4943, 530 Walnut Street,
Philadelphia, Pennsylvania 19106. The custodians are responsible for maintaining
the Funds' assets and keeping all necessary accounts and records.
INDEPENDENT ACCOUNTANTS. PricewaterhouseCoopers LLP, 30 South 17th Street,
Philadelphia, Pennsylvania 19103, serves as the Funds' independent accountants.
The accountants audit the Funds' financial statements and provide other related
services.
TRANSFER AND DIVIDEND-PAYING AGENT. The Funds' transfer agent and
dividend-paying agent is The Vanguard Group, Inc., 100 Vanguard Boulevard,
Malvern, Pennsylvania 19355.
CHARACTERISTICS OF THE FUND'S SHARES
RESTRICTIONS ON HOLDING OR DISPOSING OF SHARES. There are no restrictions
on the right of shareholders to retain or dispose of the Funds' shares, other
than the possible future termination of the Funds. Each Fund may be terminated
by reorganization into another mutual fund or by liquidation and distribution of
its assets. Unless terminated by reorganization or liquidation, the Funds will
continue indefinitely.
SHAREHOLDER LIABILITY. The Funds are organized under Delaware law, which
provides that shareholders of a business trust are entitled to the same
limitations of personal liability as shareholders of a corporation organized
under Delaware law. Effectively, this means that a shareholder of a Fund will
not be personally liable for payment of the Fund's debts except by reason of his
or her own conduct or acts. In addition, a shareholder could incur a financial
loss on account of a Fund obligation only if the Fund itself had no remaining
assets with which to meet such obligation. We believe that the possibility of
such a situation arising is extremely remote.
DIVIDEND RIGHTS. The shareholders of a Fund are entitled to receive any
dividends or other distributions declared for such Fund. No shares have priority
or preference over any other shares of the same Fund with respect to
distributions. Distributions will be made from the assets of a Fund, and will be
paid ratably to all shareholders of the Fund according to the number of shares
of such Fund held by shareholders on the record date.
VOTING RIGHTS. Shareholders are entitled to a vote on a matter if: (i) a
shareholder vote is required under the 1940 Act; (ii) the matter concerns an
amendment to the Declaration of Trust that would adversely affect to a material
degree the rights and preferences of the shares of any Fund; or (iii) the
Trustees determine that it is necessary or desirable to obtain a shareholder
vote. The 1940 Act requires a shareholder vote under various circumstances,
including to elect or remove Trustees upon the written request of shareholders
representing 10% or more of a Fund's net assets, and to change any fundamental
policy of a Fund. Shareholders of each Fund receive one vote for each dollar of
net asset value owned on the record date, and a fractional vote for each
fractional dollar of net asset value owned on the record date. However, only the
shares of the Fund affected by a particular matter are entitled to vote on that
matter. Voting rights are non-cumulative and cannot be modified without a
majority vote.
LIQUIDATION RIGHTS. In the event of liquidation, shareholders will be
entitled to receive a pro rata share of the applicable Fund's net assets.
PREEMPTIVE RIGHTS. There are no preemptive rights associated with each
Fund's shares.
CONVERSION RIGHTS. There are no conversion rights associated with each
Fund's shares.
REDEMPTION PROVISIONS. Each Fund's redemption provisions are described in
its current prospectus and elsewhere in this Statement of Additional
Information.
SINKING FUND PROVISIONS. The Funds have no sinking fund provisions.
CALLS OR ASSESSMENT. Each Fund's shares, when issued, are fully paid and
non-assessable.
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TAX STATUS OF THE FUNDS
Each Fund intends to qualify as a "regulated investment company" under
Subchapter M of the Internal Revenue Code. This special tax status means that a
Fund will not be liable for federal tax on income and capital gains distributed
to shareholders. In order to preserve its tax status, each Fund must comply with
certain requirements. If a Fund fails to meet these requirements in any taxable
year, it will be subject to tax on its taxable income at corporate rates, and
all distributions from earnings and profits, including any distributions of net
tax-exempt income and net long-term capital gains, will be taxable to
shareholders as ordinary income. In addition, the Fund could be required to
recognize unrealized gains, pay substantial taxes and interest, and make
substantial distributions before regaining its tax status as a regulated
investment company.
INVESTMENT POLICIES
The following policies supplement the Funds' investment objectives and policies
set forth in the Prospectuses. Vanguard Equity Income Fund intends to invest at
least 65% of its total assets in equity securities intended to produce income.
Vanguard Growth Equity Fund intends to invest at least 65% of its total assets
in common stocks of growth companies.
FUTURES CONTRACTS AND OPTIONS
Each Fund may enter into futures contracts, options, and options on futures
contracts in order to maintain cash reserves while simulating full investment.
Futures contracts provide for the future sale by one party and purchase by
another party of a specified amount of a specific security at a specified future
time and at a specified price. Futures contracts which are standardized as to
maturity date and underlying financial instrument are traded on national futures
exchanges. Futures exchanges and trading are regulated under the Commodity
Exchange Act by the Commodity Futures Trading Commission (CFTC), a U.S.
Government Agency. Assets committed to futures contracts will be segregated to
the extent required by law.
Although futures contracts by their terms call for actual delivery or
acceptance of the underlying securities, in most cases the contracts are closed
out before the settlement date without the making or taking of delivery. Closing
out an open futures position is done by taking an opposite position ("buying" a
contract which has previously been "sold," "selling" a contract previously
"purchased") in an identical contract to terminate the position. Brokerage
commissions are incurred when a futures contract is bought or sold.
Futures traders are required to make a good faith margin deposit in cash or
government securities with a broker or custodian to initiate and maintain open
positions in futures contracts. A margin deposit is intended to assure
completion of the contract (delivery or acceptance of the underlying security)
if it is not terminated prior to the specified delivery date. Minimal initial
margin requirements are established by the futures exchange and may be changed.
Brokers may establish deposit requirements which are higher than the exchange
minimums. Futures contracts are customarily purchased and sold on margin that
may range upward from less than 5% of the value of the contract being traded.
After a futures contract position is opened, the value of the contract is
marked to the market daily. If the futures contract price changes to the extent
that the margin on deposit does not satisfy margin requirements, payment of
additional "variation" margin will be required. Conversely, change in the
contract value may reduce the required margin, resulting in a repayment of
excess margin to the contract holder. Variation margin payments are made to and
from the futures broker for as long as the contract remains open. Each Fund
expects to earn interest income on its margin deposits.
Traders in futures contracts may be broadly classified as either "hedgers"
or "speculators." Hedgers use the futures markets primarily to offset
unfavorable changes in the value of securities otherwise held for investment
purposes or expected to be acquired by them. Speculators are less inclined to
own the securities underlying the futures contracts which they trade, and use
futures
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contracts with the expectation of realizing profits from fluctuations in the
value of the underlying securities. Each Fund intends to use futures contracts
only for bona fide hedging purposes. Regulations of the CFTC applicable to each
Fund require that all of its futures transactions constitute bona fide hedging
transactions except to the extent that the aggregate initial margins and
premiums required to establish any non-hedging positions do not exceed five
percent of the value of the respective Fund's portfolio.
Although techniques other than the sale and purchase of futures contracts
could be used to control the exposure of a Fund's income to fluctuations in the
market value of its securities, the use of futures contracts may be a more
effective means of hedging this exposure. While the Funds will incur commission
expenses in both opening and closing out futures positions, these costs are
lower than transaction costs incurred in the purchase and sale of the underlying
securities.
RESTRICTIONS ON THE USE OF FUTURES CONTRACTS AND OPTIONS. Each Fund will
not enter into futures contract transactions to the extent that, immediately
thereafter, the sum of its initial margin deposits on open contracts exceeds 5%
of the Fund's total assets. In addition, each Fund will not enter into futures
contracts to the extent that its outstanding obligations to purchase securities
under these contracts would exceed 20% of the Fund's total assets.
RISK FACTORS IN FUTURES TRANSACTIONS. Positions in futures may be closed
out only on an Exchange which provides a secondary market for such futures.
However, there can be no assurance that a liquid secondary market will exist for
any particular futures contract at any specific time. Thus, it may not be
possible to close a futures position. In the event of adverse price movements,
each Fund would continue to be required to make daily cash payments to maintain
its required margin. In such situations, if the Fund has insufficient cash, it
may have to sell portfolio securities to meet daily margin requirements at a
time when it may be disadvantageous to do so. In addition, each Fund may be
required to make delivery of the instruments underlying the futures contracts it
holds. The inability to close options and futures positions also could have an
adverse impact on the ability to effectively hedge. Each Fund will minimize the
risk that it will be unable to close out a futures contract by only entering
into futures which are traded on national futures exchanges and for which there
appears to be a liquid secondary market.
The risk of loss in trading futures contracts in some strategies can be
substantial, due both to the low margin deposits required, and the extremely
high degree of leverage involved in futures pricing. As a result, a relatively
small price movement in a futures contract may result in immediate and
substantial loss (as well as gain) to the investor. For example, if at the time
of purchase, 10% of the value of the futures contract is deposited as margin, a
subsequent 10% decrease in the value of the futures contract would result in a
total loss of the margin deposit, before any deduction for the transaction
costs, if the account were then closed out.
A 15% decrease in the value of the futures contract would result in a loss
equal to 150% of the original margin deposit if the contract were closed out.
Thus, a purchase or sale of a futures contract may result in losses in excess of
the amount invested in the contract. However, because the futures strategies of
each Fund are engaged in only for hedging purposes, the Advisers do not believe
that the Funds are subject to the risks of loss frequently associated with
futures transactions. Each Fund would presumably have sustained comparable
losses if, instead of the futures contract, it had invested in the underlying
financial instrument and sold it after the decline.
Utilization of futures transactions by each Fund does involve the risk of
imperfect or no correlation where the securities underlying futures contracts
have different maturities than the portfolio securities being hedged. It is also
possible that each Fund could both lose money on futures contracts and also
experience a decline in the value of its portfolio securities. There is also the
risk of loss by each Fund of margin deposits in the event of bankruptcy of a
broker with whom the respective Fund has an open position in a futures contract
or related option.
Most futures exchanges limit the amount of fluctuation permitted in futures
contract prices during a single trading day. The daily limit establishes the
maximum amount that the price of a futures contract may vary either up or down
from the previous day's settlement price at the end of a
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trading session. Once the daily limit has been reached in a particular type of
contract, no trades may be made on that day at a price beyond that limit. The
daily limit governs only price movement during a particular trading day and
therefore does not limit potential losses, because the limit may prevent the
liquidation of unfavorable positions. Futures contract prices have occasionally
moved to the daily limit for several consecutive trading days with little or no
trading, thereby preventing prompt liquidation of futures positions and
subjecting some futures traders to substantial losses.
FEDERAL TAX TREATMENT OF FUTURES CONTRACTS. Except for transactions that
each Fund has identified as hedging transactions, each Fund is required for
Federal income tax purposes to recognize as income for each taxable year its net
unrealized gains and losses on certain futures contracts held as of the end of
the year as well as those actually realized during the year. In most cases, any
gain or loss recognized with respect to a futures contract is considered to be
60% long-term capital gain or loss and 40% short-term capital gain or loss,
without regard to the holding period of the contract. Furthermore, sales of
futures contracts which are intended to hedge against a change in the value of
securities held by each Fund may affect the holding period of such securities
and, consequently, the nature of the gain or loss on such securities upon
disposition. The Funds may be required to defer the recognition of losses on
futures contracts to the extent of any unrecognized gains on related positions
held by the Funds.
In order for each Fund to continue to qualify for Federal income tax
treatment as a regulated investment company, at least 90% of its gross income
for a taxable year must be derived from qualifying income; i.e., dividends,
interest, income derived from loans of securities, and gains from the sale of
securities or foreign currencies, or other income derived with respect to its
business of investing in such securities or currencies. It is anticipated that
any net gain realized from the closing out of futures contracts will be
considered qualifying income for purposes of the 90% requirement.
Each Fund will distribute to shareholders annually any net capital gains
which have been recognized for Federal income tax purposes including unrealized
gains at the end of the Fund's fiscal year on futures transactions. Such
distributions will be combined with distributions of capital gains realized on a
Fund's other investments and shareholders will be advised on the nature of the
payments.
REPURCHASE AGREEMENTS
Each Fund, along with other members of The Vanguard Group, may invest in
repurchase agreements with commercial banks, brokers or dealers either for
defensive purposes due to market conditions or to generate income from its
excess cash balances. A repurchase agreement is an agreement under which a Fund
acquires a fixed-income security (generally a security issued by the U.S.
Government or an agency thereof, a banker's acceptance or a certificate of
deposit) from a commercial bank, broker or dealer, subject to resale to the
seller at an agreed upon price and date (normally, the next business day). A
repurchase agreement may be considered a loan collateralized by securities. The
resale price reflects an agreed upon interest rate effective for the period the
instrument is held by a Fund and is unrelated to the interest rate on the
underlying instrument. In these transactions, the securities acquired by a Fund
(including accrued interest earned thereon) must have a total value in excess of
the value of the repurchase agreement and are held by a custodian bank until
repurchased. In addition, each Fund's Board of Trustees will monitor repurchase
agreement transactions generally and will establish guidelines and standards for
review by the investment adviser of the creditworthiness of any bank, broker or
dealer party to a repurchase agreement
The use of repurchase agreements involves certain risks. For example, if
the other party to the agreement defaults on its obligation to repurchase the
underlying security at a time when the value of the security has declined, a
Fund may incur a loss upon disposition of the security. If the other party to
the agreement becomes insolvent and subject to the liquidation or reorganization
under the Bankruptcy Code or other laws, a court may determine that the
underlying security is collateral for a loan by a Fund not within the control of
a Fund and therefore the realization by the Fund on such collateral may be
automatically stayed. Finally, it is possible that the Fund may not be able to
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substantiate its interest in the underlying security and may be deemed an
unsecured creditor of the other party to the agreement. While the Funds'
management acknowledges these risks, it is expected that they can be controlled
through careful monitoring procedures.
LENDING OF SECURITIES
Each Fund may lend its investment securities to qualified institutional
investors (typically brokers, dealers, banks or other financial institutions)
who need to borrow securities in order to complete certain transactions, such as
covering short sales, avoiding failures to deliver securities or completing
arbitrage operations. By lending its investment securities, a Fund attempts to
increase its net investment income through the receipt of interest on the loan.
Any gain or loss in the market price of the securities loaned that might occur
during the term of the loan would be for the account of the Fund. The terms, the
structure and the aggregate amount of such loans must be consistent with the
1940 Act and the Rules and Regulations or interpretations of the Commission
thereunder. These provisions limit the amount of securities a Fund may lend to
33 1/3% of the Fund's total assets, and require that (a) the borrower pledge and
maintain with the Fund collateral consisting of cash, an irrevocable letter of
credit or securities issued or guaranteed by the United States Government having
at all times not less than 100% of the value of the securities loaned, (b) the
borrower add to such collateral whenever the price of the securities loaned
rises (i.e., the borrower "marks to the market" on a daily basis), (c) the loan
be made subject to termination by the Fund at any time and (d) the Fund receive
reasonable interest on the loan (which may include the Fund's investing any cash
collateral in interest bearing short-term investments), any distribution on the
loaned securities and any increase in their market value. Loan arrangements made
by a Fund will comply with all other applicable regulatory requirements,
including the rules of the New York Stock Exchange, which presently require the
borrower, after notice, to redeliver the securities within the normal settlement
time of three business days. All relevant facts and circumstances, including the
creditworthiness of the broker, dealer or institution, will be considered in
making decisions with respect to the lending of securities, subject to review by
the Funds' Board of Trustees.
At the present time, the Staff of the Commission does not object if an
investment company pays reasonable negotiated fees in connection with loaned
securities, so long as such fees are set forth in a written contract and
approved by the investment company's Trustees. In addition, voting rights pass
with the loaned securities, but if a material event will occur affecting an
investment on the loan, the loan must be called and the securities voted.
VANGUARD INTERFUND LENDING PROGRAM
The Commission has issued an exemptive order permitting each Fund to participate
in Vanguard's interfund lending program. This program allows the Vanguard funds
to borrow money from and loan money to each other for temporary or emergency
purposes. The program is subject to a number of conditions, including the
requirement that no fund may borrow or lend money through the program unless it
receives a more favorable interest rate than is available from a typical bank
for a comparable transaction. In addition, a fund may participate in the program
only if and to the extent that such participation is consistent with the fund's
investment objective and other investment policies. The Boards of Trustees of
the Vanguard funds are responsible for ensuring that the interfund lending
program operates in compliance with all conditions of the Commission's exemptive
order.
TEMPORARY INVESTMENTS
Each Fund may take temporary defensive measures that are inconsistent with the
Fund's normal fundamental or non-fundamental investment policies and strategies
in response to adverse market, economic, political or other conditions. Such
measures could include investments in (a) highly liquid short-term fixed income
securities issued by or on behalf of municipal or corporate issuers, obligations
of the U.S. Government and its agencies, commercial paper, and bank certificates
of deposit; (b) repurchase agreements involving any such securities; (c) shares
of other investment companies which have investment objectives consistent with
those of the Fund; and (d) other
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money market instruments. There is no limit on the extent to which a Fund may
take temporary defensive measures. In taking such measures, a Fund may fail to
achieve its investment objective.
FOREIGN INVESTMENTS
As indicated in the Prospectuses, Vanguard Equity Income Fund and Vanguard
Growth Equity Fund each may invest up to 20% of its total assets in securities
of foreign companies. Investors should recognize that investing in foreign
companies involves certain special considerations which are not typically
associated with investing in U.S. companies.
CURRENCY RISK. Since the stocks of foreign companies are frequently
denominated in foreign currencies, and since the Fund may temporarily hold
uninvested reserves in bank deposits in foreign currencies, Vanguard Equity
Income Fund and Vanguard Growth Equity Fund will be affected favorably or
unfavorably by changes in currency rates and in exchange control regulations,
and may incur costs in connection with conversions between various currencies.
The investment policies of each Fund permit it to enter into forward foreign
currency exchange contracts in order to hedge holdings and commitments against
changes in the level of future currency rates. Such contracts involve an
obligation to purchase or sell a specific currency at a future date at a price
set at the time of the contract.
FEDERAL TAX TREATMENT OF NON-U.S. TRANSACTIONS. Special rules govern the
Federal income tax treatment of certain transactions denominated in terms of a
currency other than the U.S. dollar or determined by reference to the value of
one or more currencies other than the U.S. dollar. The types of transactions
covered by the special rules include the following: (i) the acquisition of, or
becoming the obligor under, a bond or other debt instrument (including, to the
extent provided in Treasury regulations, preferred stock); (ii) the accruing of
certain trade receivables and payables; and (iii) the entering into or
acquisition of any forward contract, futures contract, option or similar
financial instrument if such instrument is not marked to market. The disposition
of a currency other than the U.S. dollar by a U.S. taxpayer is also treated as a
transaction subject to the special currency rules. However, foreign
currency-related regulated futures contracts and nonequity options are generally
not subject to the special currency rules if they are or would be treated as
sold for their fair market value at year-end under the marking-to-market rules
applicable to other futures contracts unless an election is made to have such
currency rules apply. With respect to transactions covered by the special rules,
foreign currency gain or loss is calculated separately from any gain or loss on
the underlying transaction and is normally taxable as ordinary gain or loss. A
taxpayer may elect to treat as capital gain or loss foreign currency gain or
loss arising from certain identified forward contracts, futures contracts and
options that are capital assets in the hands of the taxpayer and which are not
part of a straddle. The Treasury Department issued regulations under which
certain transactions subject to the special currency rules that are part of a
"section 988 hedging transaction" (as defined in the Internal Revenue Code of
1986, as amended, and the Treasury regulations) will be integrated and treated
as a single transaction or otherwise treated consistently for purposes of the
Code. Any gain or loss attributable to the foreign currency component of a
transaction engaged in by the Fund which is not subject to the special currency
rules (such as foreign equity investments other than certain preferred stocks)
will be treated as capital gain or loss and will not be segregated from the gain
or loss on the underlying transaction. It is anticipated that some of the
non-U.S. dollar-denominated investments and foreign currency contracts the Fund
may make or enter into will be subject to the special currency rules described
above.
COUNTRY RISK. As foreign companies are not generally subject to uniform
accounting, auditing and financial reporting standards and practices comparable
to those applicable to domestic companies, there may be less publicly available
information about certain foreign companies than about domestic companies.
Securities of some foreign companies are generally less liquid and more volatile
than securities of comparable domestic companies. There is generally less
government supervision and regulation of foreign stock exchanges, brokers and
listed companies than in the U.S. In addition, with respect to certain foreign
countries, there is the possibility of
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expropriation or confiscatory taxation, political or social instability, or
diplomatic developments which could affect U.S. investments in companies in
those countries.
Although the Fund will endeavor to achieve most favorable execution costs
in its portfolio transactions in foreign securities, fixed commissions on many
foreign stock exchanges are generally higher than negotiated commissions on U.S.
exchanges. In addition, it is expected that the expenses for custodial
arrangements of foreign securities will be somewhat greater than the expenses
for the custodial arrangements for handling U.S. securities of equal value.
Certain foreign governments levy withholding taxes against dividend and
interest income. Although in some countries a portion of these taxes is
recoverable, the non-recovered portion of foreign withholding taxes will reduce
the income the Fund receives from its foreign investments.
ILLIQUID SECURITIES
Each Fund may invest up to 15% of its net assets in illiquid securities.
Illiquid securities are securities that may not be sold or disposed of in the
ordinary course of business within seven business days at approximately the
value at which they are being carried on a Fund's books.
Each Fund may invest in restricted, privately placed securities that, under
the Commission's rules, may be sold only to qualified institutional buyers.
Because these securities can be resold only to qualified institutional buyers,
they may be considered illiquid securities--meaning that they could be difficult
for a Fund to convert to cash if needed.
If a substantial market develops for a restricted security held by a Fund,
it will be treated as a liquid security, in accordance with procedures and
guidelines approved by the Funds' Board of Trustees. This generally includes
securities that are unregistered that can be sold to qualified institutional
buyers in accordance with Rule 144A under the Securities Act of 1933 (the 1933
Act). While the Funds' investment advisers determine the liquidity of restricted
securities on a daily basis, the Board oversees and retains ultimate
responsibility for the advisers' decisions. Several factors the Board considers
in monitoring these decisions include the valuation of a security, the
availability of qualified institutional buyers, and the availability of
information about the security's issuer.
AMERICAN DEPOSITARY RECEIPTS ("ADRS")
ADRs are securities, typically issued by a U.S. financial institutional (a
"depositary"), that evidence ownership interests in a security or a pool of
securities issued by a foreign issuer and deposited with the depositary. ADRs
may be available through "sponsored" or "unsponsored" facilities. A sponsored
facility is established jointly by the issuer of the security underlying the
receipt and a depositary, whereas an unsponsored facility may be established by
a depositary without participation by the issuer of the underlying security.
Holders of unsponsored depositary receipts generally bear all the costs of the
unsponsored facility. The depositary of an unsponsored facility frequently is
under no obligation to distribute shareholder communications received from the
issuer of the deposited security or to pass through, to the holders of the
receipts, voting rights with respect to the deposited securities.
CONVERTIBLE SECURITIES
Convertible securities are corporate securities that are exchangeable for a set
number of another security at a prestated price. Convertible securities
typically have characteristics of both fixed income and equity securities.
Because of the conversion feature, the market value of a convertible security
tends to move with the market value of the underlying stock. The value of a
convertible security is also affected by prevailing interest rates, the credit
quality of the issuer and any call provisions.
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VARIABLE AND FLOATING RATE INSTRUMENTS
Certain obligations may carry variable or floating rates of interest, and may
involve a conditional or undconditional demand feature. Such instruments bear
interest at rates which are not fixed, but which vary with changes in specified
market rates or indices. The interest rates on these securities may be reset
daily, weekly, quarterly or some other reset period, and may have a floor or
ceiling on interest rate changes. There is a risk that the current interest rate
on such obligations may not accurately reflect existing market interest rates. A
demand instrument with a demand notice exceeding seven days may be considered
illiquid if there is no secondary market for such security.
WARRANTS
Warrants are instruments giving holders the right, but not the obligation, to
buy equity or fixed income securities of a company at a given price during a
specified period.
WHEN-ISSUED AND DELAYED DELIVERY SECURITIES
When-issued or delayed delivery securities are subject to market fluctuations
due to changes in market interest rates and it is possible that the market value
at the time of settlement could be higher or lower than the purchase price if
the general level of interest rates has changed. Although a Fund generally
purchases securities on a when-issued or forward commitment basis with the
intention of actually acquiring securities for its investment portfolio, a Fund
may dispose of a when- issued security or forward commitment prior to settlement
if it deems appropriate.
FUNDAMENTAL INVESTMENT LIMITATIONS
Each Fund is subject to the following fundamental investment limitations, which
cannot be changed in any material way without the approval of the holders of a
majority of the Fund's shares. For these purposes, a "majority" of the Fund's
shares means shares representing the lesser of: (i) 67% or more of the votes
cast to approve a change, so long as shares representing more than 50% of the
Fund's net assets value are present or represented by proxy; or (ii) more than
50% of a Fund's net asset value.
BORROWING. Vanguard Equity Income Fund may not borrow money, except for
temporary purposes in an amount not exceeding 15% of the Fund's net assets.
Vanguard Growth Equity Fund may not borrow money in an amount exceeding 33 1/3%
of the value of its total assets, provided that, for purposes of this
limitation, investment strategies which either obligate the Fund to purchase
securities or require the Fund to segregate assets are not considered to be
borrowings. For Vanguard Growth Equity Fund, asset coverage of at least 300% is
required for all borrowings, except where the Fund has borrowed for temporary
purposes in amounts not exceeding 5%. Each Fund may borrow money through banks,
or Vanguard's interfund lending program only, and must comply with all
applicable regulatory conditions. Each Fund may not make any additional
investments whenever outstanding borrowings exceed 5% of net assets.
COMMODITIES. The Fund may not invest in commodities, except that each Fund
may invest in stock futures contracts, stock options and options on stock
futures contracts. No more than 5% of the Fund's total assets may be used as
initial margin deposit for futures contracts, and no more than 20% of the Fund's
total assets may be obligated under futures contracts or options at any time.
DIVERSIFICATION. With respect to 75% of its total assets, the Fund may not:
(i) purchase more than 10% of the outstanding voting securities of any one
issuer, or (ii) purchase securities of any issuer if, as a result, more than 5%
of the Fund's total assets would be invested in that issuer's securities. This
limitation does not apply to obligations of the United States Government, its
agencies, or instrumentalities.
INDUSTRY CONCENTRATION. The Fund may not invest more than 25% of its total
assets in any one industry.
B-9
INVESTING FOR CONTROL. The Fund may not invest in a company for the purpose
of controlling its management.*
INVESTMENT COMPANIES. The Fund may not invest in any other investment
company, except through a merger, consolidation or acquisition of assets, or to
the extent permitted by Section 12 of the 1940 Act. Investment companies whose
shares the Fund acquires pursuant to Section 12 must have investment objectives
and investment policies consistent with those of the Fund.*
LOANS. The Fund may not lend money to any person except by purchasing fixed
income securities that are publicly distributed, by entering into repurchase
agreements, by lending its portfolio securities, or through Vanguard's interfund
lending program.
MARGIN. The Fund may not purchase securities on margin or sell securities
short, except as permitted by the Fund's investment policies relating to
commodities.*
PLEDGING ASSETS. The Fund may not pledge, mortgage or hypothecate more than
15% of its net assets.*
REAL ESTATE. The Fund may not invest directly in real estate, although it
may invest in securities of companies that deal in real estate.
SENIOR SECURITIES. The Fund may not issue senior securities, except in
compliance with the 1940 Act.
UNDERWRITING. The Fund may not engage in the business of underwriting
securities issued by other persons. The Fund will not be considered an
underwriter when disposing of its investment securities.
* For Vanguard Growth Equity Fund, this is a non-fundamental limitation and may
be changed by the Fund's Board of Trustees.
None of these limitations prevents the Funds from participating in The
Vanguard Group (Vanguard). Because the Trust is a member of the Group, each Fund
may own securities issued by Vanguard, make loans to Vanguard, and contribute to
Vanguard's costs or other financial requirements. See "Management of the Funds"
for more information.
The investment limitations set forth above are considered at the time
investment securities are purchased. If a percentage restriction is adhered to
at the time the investment is made, a later increase in percentage resulting
from a change in the market value of assets will not constitute a violation of
such restriction.
PURCHASE OF SHARES
Each Fund reserves the right in its sole discretion (i) to suspend the offerings
of its shares, (ii) to reject purchase orders when in the judgment of management
such rejection is in the best interest of the Fund, and (iii) to reduce or waive
the minimum investment for, or any other restrictions on, initial and subsequent
investments for certain fiduciary accounts or under circumstances where certain
economies can be achieved in sales of the Fund's shares.
TRADING SHARES THROUGH CHARLES SCHWAB
Each Fund has authorized Charles Schwab & Co., Inc. (Schwab) to accept on its
behalf purchase and redemption orders under certain terms and conditions. Schwab
is also authorized to designate other intermediaries to accept purchase and
redemption orders on each Fund's behalf subject to those terms and conditions.
Under this arrangement, a Fund will be deemed to have received a purchase or
redemption order when Schwab or, if applicable, Schwab's authorized designee,
accepts the order in accordance with each Fund's instructions. Customer orders
that are properly transmitted to each Fund by Schwab, or if applicable, Schwab's
authorized designee, will be priced as follows:
B-10
Orders received by Schwab BEFORE 3 p.m. Eastern time on any business day,
will be sent to Vanguard that day and your share price will be based on the
Fund's net asset value calculated at the close of trading that day. Orders
received by Schwab AFTER 3 p.m. Eastern time, will be sent to Vanguard on the
following business day and your share price will be based on the Fund's net
asset value calculated at the close of trading that day.
REDEMPTION OF SHARES
Each Fund may suspend redemption privileges or postpone the date of payment (i)
during any period that the New York Stock Exchange is closed, or trading on the
Exchange is restricted as determined by the Commission, (ii) during any period
when an emergency exists as defined by the rules of the Commission as a result
of which it is not reasonably practicable for each Fund to dispose of securities
owned by it, or fairly to determine the value of its assets, and (iii) for such
other periods as the Commission may permit.
Each Fund has made an election with the Commission to pay in cash all
redemptions requested by any shareholder of record limited in amount during any
90-day period to the lesser of $250,000 or 1% of the net assets of the Fund at
the beginning of such period.
No charge is made by the Funds for redemptions. Shares redeemed may be
worth more or less than what was paid for them, depending on the market value of
the securities held by the Funds.
SHARE PRICE
Each Fund's share price, or "net asset value" per share, is calculated by
dividing the total assets of the Fund, less all liabilities, by the total number
of shares outstanding. The net asset value is determined as of the close of the
New York Stock Exchange (the Exchange) generally 4:00 p.m. Eastern time on each
day that the Exchange is open for trading.
Portfolio securities for which market quotations are readily available
(includes those securities listed on national securities exchanges, as well as
those quoted on the NASDAQ Stock Market) will be valued at the last quoted sales
price on the day the valuation is made. Such securities which are not traded on
the valuation date are valued at the mean of the bid and ask prices. Price
information on exchange-listed securities is taken from the exchange where the
security is primarily traded. Any foreign securities are valued at the latest
quoted sales price available before the time when assets are valued. Securities
may be valued on the basis of prices provided by a pricing service when such
prices are believed to reflect the fair market value of such securities.
Short-term instruments (those acquired with remaining maturities of 60 days
or less) may be valued at cost, plus or minus any amortized discount or premium,
which approximates market value.
Bonds and other fixed income securities may be valued on the basis of
prices provided by a pricing service when such prices are believed to reflect
the fair market value of such securities. The prices provided by a pricing
service may be determined without regard to bid or last sale prices of each
security, but take into account institutional-size transactions in similar
groups of securities as well as any developments related to specific securities.
Other assets and securities for which no quotations are readily available
or which are restricted as to sale (or resale) are valued by such methods as the
Board of Trustees deems in good faith to reflect fair value.
The share price for each Fund can be found daily in the mutual fund
listings of most major newspapers under the heading of Vanguard Funds.
B-11
MANAGEMENT OF THE FUNDS
OFFICERS AND TRUSTEES
The Officers of the Funds manage their day-to-day operations and are responsible
to the Funds' Board of Trustees. The Trustees set broad policies for each Fund
and choose its Officers. The following is a list of Trustees and Officers of
each Fund and a statement of their present positions and principal occupations
during the past five years. As a group, the Fund's Trustees and Officers own
less than 1% of the outstanding shares of the Fund. Each Trustee also serves as
a Director of The Vanguard Group, Inc., and as a Trustee of each of the 103
funds administered by Vanguard (93 in the case of Mr. MacLaury). The mailing
address of the Trustees and Officers of the Funds is Post Office Box 876, Valley
Forge, PA 19482.
JOHN J. BRENNAN, (DOB: 7/29/1954) CHAIRMAN, CHIEF EXECUTIVE OFFICER & TRUSTEE*
Chairman, Chief Executive Officer and Director of The Vanguard Group, Inc., and
Trustee of each of the investment companies in The Vanguard Group.
JOANN HEFFERNAN HEISEN, (DOB: 1/25/1950) TRUSTEE
Vice President, Chief Information Officer, and member of the Executive Committee
of Johnson & Johnson (Pharmaceuticals/Consumer Products); Director of Johnson &
Johnson*MERCK Consumer Pharmaceuticals Co., The Medical Center at Princeton, and
Women's Research and Education Institute.
BRUCE K. MACLAURY, (DOB: 5/7/1931) TRUSTEE
President Emeritus of The Brookings Institution (Independent Non-Partisan
Research Organization); Director of American Express Bank, Ltd., The St. Paul
Companies, Inc. (Insurance and Financial Services), and National Steel Corp.
ALFRED M. RANKIN, JR., (DOB: 10/8/1941) TRUSTEE
Chairman, President, Chief Executive Officer, and Director of NACCO Industries,
Inc. (Machinery/ Coal/Appliances); and Director of The BFGoodrich Co. (Aircraft
Systems/Manufacturing/Chemicals).
JOHN C. SAWHILL, (DOB: 6/12/1936) TRUSTEE
President and Chief Executive Officer of The Nature Conservancy (Non-Profit
Conservation Group); Director of Pacific Gas and Electric Co., Procter & Gamble
Co., NACCO Industries (Machinery/Coal/ Appliances), and Newfield Exploration Co.
(Energy); formerly, Director and Senior Partner of McKinsey & Co., and President
of New York University.
JAMES O. WELCH, JR., (DOB: 5/13/1931) TRUSTEE
Retired Chairman of Nabisco Brands, Inc. (Food Products); retired Vice Chairman
and Director of RJR Nabisco (Food and Tobacco Products); Director of TECO
Energy, Inc., and Kmart Corp.
J. LAWRENCE WILSON, (DOB: 3/2/1936) TRUSTEE
Retired Chairman of Rohm & Haas Co. (Chemicals); Director of Cummins Engine Co.
(Diesel Engine Company), and The Mead Corp. (Paper Products); and Trustee of
Vanderbilt University.
RAYMOND J. KLAPINSKY, (DOB: 12/7/1938) SECRETARY*
Managing Director of The Vanguard Group, Inc.; Secretary of The Vanguard Group,
Inc. and of each of the investment companies in The Vanguard Group.
THOMAS J. HIGGINS, (DOB: 5/21/1957) TREASURER*
Principal of The Vanguard Group, Inc.; Treasurer of each of the investment
companies in The Vanguard Group.
ROBERT D. SNOWDEN, (DOB: 9/4/1961) CONTROLLER*
Principal of The Vanguard Group, Inc.; Controller of each of the investment
companies in The Vanguard Group.
* OFFICERS OF THE FUND ARE "INTERESTED PERSONS" AS DEFINED IN THE 1940 ACT.
B-12
THE VANGUARD GROUP
Each Fund is a member of The Vanguard Group of Investment Companies, which
consists of more than 100 funds. Through their jointly-owned subsidiary, The
Vanguard Group, Inc. (Vanguard), the Funds and the other funds in The Vanguard
Group obtain at cost virtually all of their corporate management, administrative
and distribution services. Vanguard also provides investment advisory services
on an at-cost basis to certain of the Vanguard funds.
Vanguard employs a supporting staff of management and administrative
personnel needed to provide the requisite services to the funds and also
furnishes the funds with necessary office space, furnishings and equipment. Each
fund pays a share of Vanguard's total expenses which are allocated among the
funds under methods approved by the Board of Trustees of each fund. In addition,
each fund bears its own direct expenses such as legal, auditing and custodian
fees. In order to generate additional revenues for Vanguard and thereby reduce
the funds' expenses, Vanguard also provides certain administrative services to
other organizations.
The funds' Officers are also Officers and employees of Vanguard. No Officer
or employee owns, or is permitted to own, any securities of any external adviser
for the funds.
Vanguard adheres to a Code of Ethics established pursuant to Rule 17j-1
under the 1940 Act. The Code is designed to prevent unlawful practices in
connection with the purchase or sale of securities by persons associated with
Vanguard. Under Vanguard's Code of Ethics, certain Officers and employees of
Vanguard who are considered access persons are permitted to engage in personal
securities transactions. However, such transactions are subject to procedures
and guidelines similar to, and in many cases more restrictive than, those
recommended by a blue ribbon panel of mutual fund industry executives.
Vanguard was established and operates under an Amended and Restated Funds'
Service Agreement which was approved by the shareholders of each of the funds.
The amounts which each of the funds have invested are adjusted from time to time
in order to maintain the proportionate relationship between each fund's relative
net assets and its contribution to Vanguard's capital. At May 31, 2000, Vanguard
Equity Income Fund had contributed $___ to Vanguard, representing ___% of the
Fund's net assets and ___% of Vanguard's capitalization. (Vanguard Growth Equity
Fund had not commenced operations as a Vanguard fund as of May 31, 2000.) The
Amended and Restated Funds' Service Agreement provides as follows: (a) each
Vanguard fund may be called upon to invest up to 0.40% of its current assets in
Vanguard, and (b) there is no other limitation on the dollar amount that each
Vanguard fund may contribute to Vanguard's capitalization.
MANAGEMENT. Corporate management and administrative services include: (1)
executive staff; (2) accounting and financial; (3) legal and regulatory; (4)
shareholder account maintenance; (5) monitoring and control of custodian
relationships; (6) shareholder reporting; and (7) review and evaluation of
advisory and other services provided to the funds by third parties.
DISTRIBUTION. Vanguard Marketing Corporation, a wholly-owned subsidiary of
The Vanguard Group, Inc., provides all distribution and marketing activities for
the funds in the Group. The principal distribution expenses are for advertising,
promotional materials and marketing personnel. Distribution services may also
include organizing and offering to the public, from time to time, one or more
new investment companies which will become members of The Vanguard Group. The
Trustees and Officers of Vanguard determine the amount to be spent annually on
distribution activities, the manner and amount to be spent on each fund, and
whether to organize new investment companies.
One half of the distribution expenses of a marketing and promotional nature
is allocated among the funds based upon relative net assets. The remaining one
half of those expenses is allocated among the funds based upon each fund's sales
for the preceding 24 months relative to the total sales of the funds as a Group,
provided, however, that no fund's aggregate quarterly rate of contribution for
distribution expenses of a marketing and promotional nature shall exceed 125% of
the average distribution expense rate for The Vanguard Group, and that no fund
shall incur annual distribution expenses in excess of 20/100 of 1% of its
average month-end net assets.
B-13
During the fiscal years ended September 30, 1997, 1998, and 1999, Vanguard
Equity Income Fund incurred the following approximate amounts of The Vanguard
Group's management (including transfer agency), distribution, and marketing
expenses: $4,423,000, $5,443,000, and $7,897,000, respectively.
Prior to joining the Vanguard Group, Vanguard Growth Equity Fund was party
to an administration agreement, under which, for the fiscal years ended
September 30, 1997, 1998, and 1999, the Fund paid the following administrative
fees, net of waivers: $110,759, $114,049, and $117,203, respectively.
INVESTMENT ADVISORY SERVICES. An experienced investment management staff
employed directly by Vanguard provides investment advisory services to Vanguard
Equity Income Fund and many Vanguard funds. These services are provided on an
internalized, at-cost basis. The compensation and other expenses of this staff
are paid by the funds utilizing these services.
TRUSTEE COMPENSATION
The same individuals serve as Trustees of all Vanguard funds (with two
exceptions, which are noted in the table appearing below, and each fund pays a
proportionate share of the Trustees' compensation. The funds employ their
officers on a shared basis, as well. However, officers are compensated by the
Vanguard Group, Inc., not the funds.
INDEPENDENT TRUSTEES. The funds compensate their independent Trustees--that
is, the ones who are not also officers of the fund--in three ways:
[bullet] The independent Trustees receive an annual fee for their service to the
Funds, which is subject to reduction based on absences from scheduled
Board meetings.
[bullet] The independent Trustees are reimbursed for the travel and other
expenses that they incur in attending Board meetings.
[bullet] Upon retirement, the independent Trustees receive an aggregate annual
fee of $1,000 for each year served on the Board, up to fifteen years of
service. This annual fee is paid for ten years following retirement,
or until each Trustee's death.
"INTERESTED" TRUSTEE. Mr. Brennan serves as a Trustee, but is not paid in
this capacity. He is, however, paid in his role as officer of The Vanguard
Group, Inc.
COMPENSATION TABLE. The following table provides compensation details for
each of the Trustees. We list the amounts paid as compensation and accrued as
retirement benefits by the Funds for each Trustee. In addition, the table shows
the total amount of benefits that we expect each Trustee to receive from all
Vanguard funds upon retirement, and the total amount of compensation paid to
each Trustee by all Vanguard funds. All information shown is for the fiscal year
ended September 30, 1999:
B-14
VANGUARD FENWAY FUNDS
TRUSTEES' COMPENSATION TABLE
PENSION OR
RETIREMENT TOTAL
BENEFITS COMPENSATION
AGGREGATE ACCRUED AS ESTIMATED FROM ALL
COMPENSATION PART OF THESE ANNUAL VANGUARD
FROM THESE FUNDS' BENEFITS UPON FUNDS PAID TO
NAMES OF TRUSTEES FUNDS EXPENSES RETIREMENT TRUSTEES(1)
- --------------------------------------------------------------------------------------------------------
John C. Bogle (2)...................... None None None None
John J. Brennan........................ None None None None
Barbara Barnes Hauptfuhrer (3)......... $167 $21 $15,000 $0
JoAnn Heffernan Heisen................. $667 $37 $15,000 $80,000
Bruce K. MacLaury...................... $697 $62 $12,000 $75,000
Alfred M. Rankin, Jr................... $667 $44 $15,000 $80,000
John C. Sawhill........................ $667 $57 $15,000 $80,000
James O. Welch, Jr..................... $667 $65 $15,000 $80,000
J. Lawrence Wilson..................... $667 $48 $15,000 $80,000
<FN>
(1) THE AMOUNTS REPORTED IN THIS COLUMN REFLECT THE TOTAL COMPENSATION PAID TO
EACH TRUSTEE FOR HIS OR HER SERVICE AS TRUSTEE OF 103 VANGUARD FUNDS (93 IN
THE CASE OF MR. MACLAURY).
(2) MR. BOGLE HAS RETIRED FROM THE VANGUARD EQUITY INCOME FUND'S BOARD,
EFFECTIVE DECEMBER 31, 1999.
(3) MRS. HAUPTFUHRER HAS RETIRED FROM VANGUARD EQUITY INCOME FUND'S BOARD,
EFFECTIVE DECEMBER 31, 1998.
</FN>
YIELD AND TOTAL RETURNS
The yield of Vanguard Equity Income Fund for the 30-day period ended September
30, 1999 was 2.64%. The yield is calculated daily. The average annual total
return of Vanguard Equity Income Fund for one, five, and ten years ended
September 30, 1999, was 12.56%, 19.53% and 12.96%, respectively.
The yield of Vanguard Growth Equity Fund for the 30-day period ended September
30, 1999 was 0.00%. The yield is calculated daily. The average annual total
return of Vanguard Growth Equity Fund for the one-, and five-years ended
September 30, 1999, and since inception, was 38.16%, 24.63%. and 19.17%,
respectively.
SEC YIELDS
Yield is the net annualized yield based on a specified 30-day (or one month)
period assuming semiannual compounding of income. Yield is calculated by
dividing the net investment income per share earned during the period by the
maximum offering price per share on the last day of the period, according to the
following formula:
YIELD = 2[((A-B)/CD+1)(6)-1]
Where:
a = dividends and interest earned during the period.
b = expenses accrued for the period (net of reimbursements).
c = the average daily number of shares outstanding during the
period that were entitled to receive dividends.
d = the maximum offering price per share on the last day of
the period.
B-15
AVERAGE ANNUAL TOTAL RETURN
Average annual total return is the average annual compounded rate of return for
the periods of one year, five years, ten years or the life of a Fund, all ended
on the last day of a recent month. Average annual total return quotations will
reflect changes in the price of each Fund's shares and assume that all dividends
and capital gains distributions during the respective periods were reinvested in
Fund shares.
Average annual total return is calculated by finding the average annual
compounded rates of return of a hypothetical investment over such periods
according to the following formula (average annual total return is then
expressed as a percentage):
T = (ERV/P)(1/n)-1
Where:
T = average annual total return
P = a hypothetical initial investment of $1,000
n = number of years
ERV = ending redeemable value: ERV is the value, at the end of
the applicable period, of a hypothetical $1,000 investment
made at the beginning of the applicable period.
AVERAGE ANNUAL AFTER-TAX TOTAL RETURN QUOTATION
We calculate the Fund's average annual after-tax total return by finding the
average annual compounded rate of return over the 1-, 5-, and 10-year periods
that would equate the initial amount invested to the after-tax value, according
to the following formulas:
AFTER-TAX RETURN:
P (1+T)(n) = ATV
Where:
P = a hypothetical initial payment of $1,000
T = average annual after-tax total return
n = number of years
ATV = after-tax value at the end of the 1-, 5-, or 10-year periods
of a hypothetical $1,000 payment made at the beginning of
the time period, assuming no liquidation of the investment
at the end of the measurement periods.
INSTRUCTIONS.
1. Assume all distributions by each Fund are reinvested--less the taxes due on
such distributions--at the price on the reinvestment dates during the
period. Adjustments may be made for subsequent re-characterizations of
distributions.
2. Calculate the taxes due on distributions by each Fund by applying the
highest federal marginal tax rates to each component of the distributions
on the reinvestment date (e.g., ordinary income, short-term capital gain,
long-term capital gain, etc.). For periods after December 31, 1997, the
federal marginal tax rates used for the calculations are 39.6% for ordinary
income and short-term capital gains and 20% for long-term capital gains.
Note that the applicable tax rates may vary over the measurement period.
Assume no taxes are due on the portions of any distributions classified as
exempt interest or non-taxable (i.e., return of capital). Ignore any
potential tax liabilities other than federal tax liabilities (e.g., state
and local taxes).
3. Include all recurring fees that are charged to all shareholder accounts.
For any account fees that vary with the size of the account, assume an
account size equal to the Fund's mean (or median) account size. Assume that
no additional taxes or tax credits result from any redemption of shares
required to pay such fees.
4. State the total return quotation to the nearest hundredth of one percent.
B-16
CUMULATIVE TOTAL RETURN
Cumulative total return is the cumulative rate of return on a hypothetical
initial investment of $1,000 for a specified period. Cumulative total return
quotations reflect changes in the price of the Fund's shares and assume that all
dividends and capital gains distributions during the period were reinvested in
Fund shares. Cumulative total return is calculated by finding the cumulative
rates of a return of a hypothetical investment over such periods, according to
the following formula (cumulative total return is then expressed as a
percentage):
C = (ERV/P)-1
Where:
C = cumulative total return
P = a hypothetical initial investment of $1,000
ERV = ending redeemable value: ERV is the value, at the end of the
applicable period, of a hypothetical $1,000 investment made
at the beginning of the applicable period.
INVESTMENT ADVISORY SERVICES
VANGUARD EQUITY INCOME FUND
The Fund currently has four investment advisers: Newell Associates (Newell),
525 University Avenue, Palo Alto, California 94301; John A. Levin & Co., Inc.
(Levin), One Rockefeller Plaza, 19th Floor, New York, NY 10020; Wellington
Management Company, LLP (Wellington Management), 75 State Street, Boston MA
02109; and The Vanguard Group, Inc. (Vanguard), Post Office Box 2600, Valley
Forge, PA 19482. Prior to January 1, 1995, Newell was the sole investment
adviser to the Fund. Spare, Kaplan, Bischel & Associates (Spare Kaplan) served
as an adviser to the Fund from 1995 through 1999. Levin was added as an
investment adviser effective January 1, 1995. Vanguard was added as an adviser
effective January 16, 1998. Wellington Management was added as an adviser
effective January 1, 2000. The Fund has entered into investment advisory
agreements with Newell, Levin, and Wellington Management which provide that the
advisers manage the investment and reinvestment of the Fund's assets and
continuously review, supervise and administer the Fund's investment program. The
advisers discharge their responsibilities subject to the control of the Officers
and Trustees of the Fund.
The proportion of the net assets of the Fund managed by each adviser is
established by the Board of Trustees, and may be changed in the future as
circumstances warrant. As of March 31, 2000, Newell was responsible for
approximately ___% of the Fund's investment, and Levin was responsible for
approximately ___%, and Wellington Management was responsible for approximately
___%. Vanguard's advisory role is limited; it currently manages just the Fund's
cash reserves, which normally represent about 5% of the Fund's assets.
NEWELL ASSOCIATES
The Fund pays Newell an advisory fee at the end of each fiscal quarter,
calculated by applying a quarterly rate, based on the following annual
percentage rates, to the average month-end net assets managed by Newell for the
quarter:
NET ASSETS ANNUAL RATE
---------- -----------
First $250 million............................ .200%
Next $500 million............................. .150%
Next $250 million............................. .100%
Over $1 billion............................... .080%
B-17
During the fiscal years ended September 30, 1997, 1998, and 1999, Vanguard
Equity Income Fund incurred the following advisory fees owed to Newell:
$1,526,568, $1,851,435, and $2,150,288, respectively.
JOHN A. LEVIN & CO., INC.
The Fund pays Levin a basic advisory fee at the end of each fiscal quarter,
calculated by applying a quarterly rate, based on the following annual
percentage rates, to the average month-end assets of the Fund managed by Levin
(Levin Portfolio) for the quarter:
NET ASSETS ANNUAL RATE
---------- -----------
First $100 million ..................... 0.40%
Next $200 million ...................... 0.25%
NEXT $200 MILLION ...................... 0.30%
NEXT $500 MILLION ...................... 0.25%
OVER $1 BILLION ........................ 0.10%
The basic fee paid to Levin, as provided above, may be increased or
decreased by applying an incentive/penalty adjustment to the basic fee
reflecting the investment performance of the Levin Portfolio relative to the
return of the Standard and Poor's 500 Composite Stock Price Index (S&P 500
Index), an index which emphasizes large capitalization companies.
The following table sets forth the incentive/penalty fee rates payable by
the Fund to Levin under the investment advisory agreement:
THREE YEAR PERFORMANCE PERFORMANCE FEE
DIFFERENTIAL VS. THE S&P 500 INDEX ADJUSTMENT*
---------------------------------- ---------------
Less than 0% ............................ -0.40 x Basic Fee
Between 0% and 3% ....................... -0.20 x Basic Fee
Between 3% and 6% ....................... 0.00 x Basic Fee
Between 6% and 9% ....................... 0.20 x Basic Fee
More than 9% ............................ 0.40 x Basic Fee
* FOR PURPOSES OF THIS CALCULATION, THE BASIC FEE IS CALCULATED BY APPLYING A
QUARTERLY RATE BASED ON THE ANNUAL BASIC FEE RATE USING AVERAGE ASSETS OVER THE
SAME PERIOD OVER WHICH THE PERFORMANCE IS MEASURED.
The investment performance of the Levin Portfolio, for any period,
expressed as a percentage of the "Levin Portfolio Unit Value" at the beginning
of such period, will be the sum of: (i) the change in the Levin Portfolio Unit
Value during such period; (ii) the unit value of the Fund's cash distributions
from the Levin Portfolio's net investment income and realized net capital gains
(whether long-term or short-term) having an ex-dividend date occurring within
such period; and (iii) the unit value of capital gains taxes paid or accrued
during such period by the Fund for undistributed long-term capital gains
realized from the Levin Portfolio.
The Levin Portfolio Unit Value will be determined by dividing the total net
assets of the Levin Portfolio by a given number of units. On the initial date of
the agreement, the number of units in the Levin Portfolio will equal the total
shares outstanding of the Fund. After such initial date, as assets are added to
or withdrawn from the Levin Portfolio, the number of units of the Levin
Portfolio will be adjusted based on the unit value of the Levin Portfolio on the
day such changes are executed.
The investment record of the S&P 500 Index will be calculated monthly by
(i) multiplying the total return for the month (change in market price plus
dividends) of each stock included in the S&P 500 Index by its weighings in the
S&P 500 Index at the beginning of the month, and (ii) adding the values
discussed in (i). For any period, therefore, the investment record of the S&P
500 Index will be the compounded monthly returns of the S&P 500 Index.
B-18
For the purposes of determining the incentive/penalty fee adjustment, the
net assets managed by Levin will be averaged over the same period as the
investment performance of those assets and the investment record of the S&P 500
Index are computed.
Under the Fund's investment advisory agreement with Levin, the maximum
performance adjustment for an incentive fee is made at a difference of +9
percentage points from the performance of the index over a thirty-six month
period. The maximum performance adjustment for a penalty fee is made at a
difference of less than +0 percentage points from the performance of the index
over a thirty-six month period. On a per year basis, these maximum adjustments
effectively would occur at differences from the index of +3 percentage points
and less than +0 percentage point, respectively.
In the event of termination of this Agreement, the fee paid to Levin shall
be computed on the basis of the period ending on the last business day on which
this Agreement is in effect subject to a pro rata adjustment based on the number
of days elapsed in the current fiscal quarter as a percentage of the total
number of days in such quarter.
During the fiscal years ended September 30, 1997, 1998, and 1999, Vanguard
Equity Income Fund incurred the following advisory fees owed to Levin:
1997 1998 1999
-------- ---------- ----------
Basic Fee........................ $781,369 $1,084,801 $1,583,863
Increase or Decrease for
Performance Adjustment........... (228,534) (290,030) (402,526)
-------- ---------- ----------
Total............................ $552,835 $ 794,771 $1,181,337
======== ========== ==========
WELLINGTON MANAGEMENT COMPANY, LLP
The Fund pays Wellington Management a basic advisory fee at the end of each
fiscal quarter, calculated by applying a quarterly rate, based on the following
annual percentage rates, to the average month-end net assets of the Fund managed
by Wellington Management (Wellington Management Portfolio) for the quarter:
NET ASSETS ANNUAL RATE
---------- -----------
First $1 billion.............................. .125%
Next $4 billion............................... .100%
Over $5 billion............................... .080%
The basic fee paid to Wellington Management, as provided above, may be
increased or decreased by applying an incentive/penalty adjustment to the basic
fee reflecting the investment performance of the Wellington Management Portfolio
relative to the return of the Lipper Equity Income average.
The following table sets forth the incentive/penalty fee rates payable by
the Fund to Wellington Management under the investment advisory agreement:
THREE YEAR PERFORMANCE
DIFFERENTIAL VS. THE LIPPER EQUITY PERFORMANCE FEE
INCOME AVERAGE ADJUSTMENT*
-------------- -----------------
Exceeds by 3% to 6%...................... 0.10 x Basic Fee
Exceeds by more than 6%.................. 0.20 x Basic Fee
Trails by 3% to 6%....................... -0.10 x Basic Fee
Trails by more than 6%................... -0.20 x Basic Fee
* FOR PURPOSES OF THIS CALCULATION, THE BASIC FEE IS CALCULATED BY APPLYING A
QUARTERLY RATE BASED ON THE ANNUAL BASIC FEE RATE USING AVERAGE ASSETS OVER
THE SAME PERIOD OVER WHICH THE PERFORMANCE IS MEASURED.
B-19
The Performance Fee Adjustment will not be fully operable until the quarter
ending December 31, 2002. Until that time, the following transition rules will
apply:
(A) JANUARY 1, 2000 THROUGH SEPTEMBER 30, 2000. Wellington Management's
compensation will be the Basic Fee. No Performance Fee Adjustment will apply
during this period.
(B) OCTOBER 1, 2000 THROUGH DECEMBER 31, 2002. Beginning October 1, 2000,
the Performance Fee Adjustment will take effect on a progressive basis with
regards to the number of months elapsed between January 1, 2000, and the quarter
for which Wellington Management's fee is being computed. During this period, the
Performance Fee Adjustment will be multiplied by a fraction. The fraction will
equal the number of months elapsed since January 1, 2000, divided by thirty-six.
(C) ON AND AFTER DECEMBER 31, 2002. For the quarter ending December 31,
2002, and thereafter, the Performance Fee Adjustment will be fully operable. The
period used to calculate the Adjustment shall be the 36 months preceding the end
of the quarter for which the fee is being computed.
The investment performance of the Wellington Management Portfolio for any
period, expressed as a percentage of the "Wellington Management Portfolio unit
value" at the beginning of such period, will be calculated in a manner
consistent with the total return methodology used by Lipper Inc., to calculate
investment performance.
The "Wellington Management Portfolio unit value" will be determined by
dividing the total net assets of the Wellington Management Portfolio by a given
number of units. Initially, the number of units in the Wellington Management
Portfolio will equal the total shares outstanding of the Fund on January 1,
2000. Subsequently, as assets are added to or withdrawn from the Wellington
Management Portfolio, the number of units of the Wellington Management Portfolio
will be adjusted based on the unit value of the Wellington Management Portfolio
on the day such changes are executed. Any cash buffer maintained by the Fund
outside of the Wellington Management Portfolio shall neither be included in the
total net assets of the Wellington Management Portfolio nor included in the
computation of the Wellington Management Portfolio Unit Value.
The investment record of the Lipper Equity Income average for any period
will be obtained from an independent source at the end of each applicable
quarter. The calculation will be based on the thirty-six month period ending
with the applicable quarter and will be gross of applicable costs and expenses.
In the event of termination of this agreement with Wellington Management,
the fees will be computed on the basis of the period ending on the last business
day on which this agreement is in effect, subject to a pro rata adjustment based
on the number of days elapsed in the current fiscal quarter as a percentage of
the total number of days in such quarter.
This agreement became effective on January 1, 2000, and will continue in
effect until December 31, 2002, and thereafter, only so long as such continuance
is approved at least annually by votes of the Fund's Board of Trustees who are
not parties to the agreement or interested persons of any such party, cast in
person at a meeting called for the purpose of voting on such approval. In
addition, the question of continuance of the advisory agreement may be presented
to the shareholders of the Fund; in such event, such continuance will be
effected only if approved by the affirmative vote of a majority of the
outstanding voting securities of the Fund.
The Fund's Board of Trustees may, without the approval of shareholders,
provide for:
[bullet] The employment of a new investment adviser pursuant to the terms of a
new advisory agreement, either as a replacement for an existing adviser
or as an additional adviser.
[bullet] A change in the terms of an advisory agreement.
[bullet] The continued employment of an existing adviser on the same advisory
contract terms where a contract has been assigned because of a change
in control of the adviser.
Any such change will be communicated to shareholders in writing.
B-20
DESCRIPTION OF THE ADVISERS
NEWELL ASSOCIATES. Newell Associates, a California corporation, was founded
in 1986 to provide investment management services to institutions. Newell
Associates uses its proprietary Relative Yield Strategy to determine when stocks
are undervalued and, therefore, candidates for purchase or overvalued and,
therefore, candidates for sale. The officers of the corporation are: Roger D.
Newell, Chairman; Robert A. Huret, Vice Chairman; and Jennifer C. Newell, CFA,
President.
JOHN A. LEVIN & CO. INC. John A. Levin, which commenced operations in 1982,
provides investment advisory services to institutional and private clients,
including registered investment trusts and several private investment
partnerships. The investment process at Levin emphasizes identifying investment
value through fundamental research. John A. Levin, a founding principal and
Chairman and Chief Executive Officer of Levin, and Jeffrey A. Kigner,
Co-Chairman and Chief Investment Officer of Levin, are responsible for managing
the portion of the Fund's assets managed by Levin. Levin is an indirect
subsidiary of Baker, Fentress & Company.
WELLINGTON MANAGEMENT COMPANY, LLP.Wellington Management is a professional
investment advisory firm that provides services to individuals, employee benefit
plans, endowment funds, and other institutions. The firm was founded in 1928,
and is organized as a Massachusetts limited liability partnership. The managing
partners of Wellington Management are Duncan M. McFarland, Laurie A. Gabriel,
and John R. Ryan. Mr. Ryan is the portfolio manager who is primarily responsible
for Wellington Management's portion of the Fund.
THE VANGUARD GROUP.The Vanguard Group is a family of more than 100 funds
holding assets worth more than $530 billion. Vanguard serves as an investment
adviser to the Fund and currently manages about $320 billion in total assets.
VANGUARD GROWTH EQUITY FUND
TURNER INVESTMENT PARTNERS. The Fund pays Turner a Basic Fee at the end of
each fiscal quarter, calculated by applying a quarterly rate, based on the
following annual percentage rates, to the average month-end net assets of the
Fund.
NET ASSETS ANNUAL RATE
---------- -----------
First $200 million.................................... 0.50%
Next $300 million..................................... 0.40%
Next $1.5 billion..................................... 0.30%
Over $2 billion....................................... 0.20%
The Basic Fee paid to Turner, as provided above, may be increased or
decreased by applying performance adjustment ("Adjustment"). The Adjustment will
be calculated as a percentage of the Basic Fee and will change proportionately
with the investment performance of the Fund relative to the return of the
Russell 1000 Growth Index for the 36-month period ending with the then-ended
quarter.
The following table sets forth the incentive/penalty fee rates payable by
the Fund to Turner under the investment advisory agreement.
CUMULATIVE 36-MONTH ADJUSTMENT AS A
PERFORMANCE OF PORTFOLIO PERCENTAGE OF BASIC FEE (B)
------------------------ ---------------------------
VERSUS THE INDEX (A)
TRAILS BY MORE THAN 9% -75%
TRAILS BY 0% TO 9% LINEAR DECREASE FROM 0% TO 75%
EXCEEDS BY 0% TO 9% LINEAR INCREASE FROM 0% TO +75%
EXCEEDS BY MORE THAN 9% +75%
B-21
(a) During the first thirty-six month (36) period, inception-to-date Fund
performance versus performance of the Index for the same period will be
utilized. Subject to the transition rules provided for below, the +/-9% hurdle
rate illustrated in the table above will be multiplied by a fraction, the
numerator being the months elapsed since inception and the denominator being
thirty-six (36).
For purposes of the Adjustment calculator, the Basic Fee is calculated by
applying the above rate schedule against the average month-end net assets over
the same time period for which the performance is measured.
(b) Linear application of the adjustment provides for an infinite number of
results within the stated range. Example: Cumulative 36-month performance of
Portfolio versus the Index is +7.2%. Accordingly, a performance fee adjustment
of +60% [(7.2% divided by 9.0%) times 75% maximum] of the Basic Fee would be due
and payable.
The Adjustment will not be fully operable until the Fund has operated under this
Agreement for a full 36 months. Until that time, the following transition rules
will apply:
(a) JUNE 1, 2000 THROUGH MAY 31, 2001. Adviser compensation will be the Basic
Fee. No Adjustment will apply during this period.
(b) JUNE 1, 2001 THROUGH MAY 31, 2003. Beginning June 1, 2001 the Adjustment
will take effect on a progressive basis with regards to the number of months
elapsed between June 1, 2000 and the quarter end for which the Adviser fee is
being computed. During this period, the Adjustment that has been determined as
provided above will be multiplied by a fraction. The fraction's numerator will
equal the number of months that have elapsed since June 1, 2000 and the
denominator will be thirty-six (36).
(c) ON AND AFTER JUNE 1, 2003. Commencing June 1, 2003, the adjustment will be
fully operable.
During the fiscal years ended September 30, 1997, 1998, and 1999, Vanguard
Growth Equity Fund incurred the following investment advisory fees:**
1997 1998 1999
-------- -------- --------
BASIC FEE.......................... $694,046 $664,499 $987,424
ADVISORY FEE WAIVED................ $ 24,250 $76,793 $0
** THESE FEES WERE PAID UNDER A PRIOR INVESTMENT ADVISORY FEE STRUCTURE.
DESCRIPTION OF THE ADVISER
TURNER INVESTMENT PARTNERS. Turner Investment Partners is a professional
advisory firm, founded in March 1990. Robert E. Turner is the Chairman and
controlling shareholder of the Adviser. As of December 31, 1999, Turner had
discretionary management authority with respect to approximately $___, provides
investment advisory services to $5.6 billion of assets. Turner has provided
investment advisory services to investment companies since 1992.
DURATION AND TERMINATION OF INVESTMENT ADVISORY AGREEMENTS
The Fund's current agreements are renewable for successive one-year periods,
only if each renewal is specifically approved by a vote of the Fund's Board of
Trustees, including the affirmative votes of a majority of Trustees who are not
parties to the contract or "interested persons" (as defined in the 1940 Act) of
any such party, cast in person at a meeting called for the purpose of
considering such approval. An agreement is automatically terminated if assigned,
and may be terminated without penalty at any time (1) by vote of the Board of
Trustees of the Fund on 60 days' written notice to the adviser, or (2) by the
adviser upon 90 days' written notice to the Fund.
B-22
PORTFOLIO TRANSACTIONS
The investment advisory agreements authorize the Advisers (with the approval of
the Fund's Board of Trustees) to select the brokers or dealers that will execute
the purchases and sales of portfolio securities for the Fund and direct the
Advisers to use their best efforts to obtain the best available price and most
favorable execution as to all transactions for the Fund. The Advisers have
undertaken to execute each investment transaction at a price and commission
which provides the most favorable total cost or proceeds reasonably obtainable
under the circumstances.
In placing portfolio transactions, each Adviser will use its best judgment
to choose the broker most capable of providing the brokerage services necessary
to obtain the best available price and most favorable execution. The full range
and quality of brokerage services available will be considered in making these
determinations. In those instances where it is reasonably determined that more
than one broker can offer the brokerage services needed to obtain the best
available price and most favorable execution, consideration may be given to
those brokers which supply investment research and statistical information and
provide other services in addition to execution services to the Fund and/or the
Adviser. Each Adviser considers such information useful in the performance of
its obligations under the agreement, but is unable to determine the amount by
which such services may reduce its expenses.
The investment advisory agreements also incorporate the concepts of Section
28(e) of the Securities Exchange Act of 1934 by providing that, subject to the
approval of the Fund's Board of Trustees, each Adviser may cause the Fund to pay
a broker-dealer which furnishes brokerage and research services a higher
commission than that which might be charged by another broker-dealer for
effecting the same transaction; provided that such commission is deemed
reasonable in terms of either that particular transaction or the overall
responsibilities of the Adviser to the Fund.
Currently, it is the Fund's policy that each Adviser may at times pay
higher commissions in recognition of brokerage services felt necessary for the
achievement of better execution of certain securities transactions that
otherwise might not be available. Each Adviser will only pay such higher
commissions if it believes this to be in the best interest of the Fund. Some
brokers or dealers who may receive such higher commissions in recognition of
brokerage services related to execution of securities transactions are also
providers of research information to the Adviser and/or the Fund. However, each
Adviser has informed the Fund that it generally will not pay higher commission
rates solely for the purpose of obtaining research services.
Some securities considered for investment by the Fund may also be
appropriate for other clients served by each Adviser. If purchase or sale of
securities consistent with the investment policies of the Fund and one or more
of these other clients serviced by the Adviser are considered at or about the
same time, transactions in such securities will be allocated among the Fund and
such other clients in a manner deemed equitable by the Adviser. Although there
may be no specified formula for allocating such transactions, the allocation
methods used, and the results of such allocations, will be subject to periodic
review by the Fund's Board of Trustees.
During the fiscal years ended September 30, 1997, 1998 and 1999, Vanguard
Equity Income Fund paid $1,097,967, $1,404,979, and $1,624,448 respectively, in
brokerage commissions. During the fiscal years ended September 30, 1997, 1998,
and 1999, Vanguard Growth Equity Fund paid $335,291, $464,404, and $671,953,
respectively, in brokerage commissions.
5% SHAREHOLDERS
As of May 31, 2000, the following persons were the only persons who were record
owners (or to the knowledge of the Trust, beneficial owners) of 5% or more of
the shares of the Vanguard Growth Equity Fund. The Trust believes that most of
the shares referred to below were held by the persons indicated in accounts for
their fiduciary, agency, or custodial customers.
B-23
FINANCIAL STATEMENTS
Vanguard Equity Income Fund's financial statements for the year ended September
30, 1999, including the financial highlights for each of the five fiscal years
in the period ended September 30, 1999, appearing in the Vanguard Equity Income
Fund 1999 Annual Report to Shareholders, and the report thereon of
PricewaterhouseCoopers LLP, independent accountants, also appearing therein, are
incorporated by reference in this Statement of Additional Information.
For a more complete discussion of the performance, please see each Fund's
Annual Report to Shareholders, which may be obtained without charge.
The financial statements of Turner Growth Equity Fund for the fiscal year
ended September 30, 1999, including notes thereto and the report of Ernest &
Young LLB thereon, are also incorporated by reference in this Statement of
Additional Information. (Prior to ___, 2000, Vanguard Growth Equity Fund was
organized as Turner Growth Equity Fund.)
COMPARATIVE INDEXES
Vanguard may use reprinted material discussing The Vanguard Group, Inc. or any
of the member funds of The Vanguard Group of Investment Companies.
Each of the investment company members of The Vanguard Group, including
Vanguard Equity Income Fund, may, from time to time, use one or more of the
following unmanaged indexes for comparative performance purposes.
STANDARD & POOR'S 500 COMPOSITE STOCK PRICE INDEX--includes stocks selected by
Standard & Poor's Index Committee to include leading companies in leading
industries and to reflect the U.S. stock market.
STANDARD & POOR'S MIDCAP 400 INDEX--is composed of 400 medium sized domestic
stocks.
STANDARD & POOR'S 500/BARRA VALUE INDEX--consists of the stocks in the Standard
& Poor's 500 Composite Stock Price Index with the lowest price-to-book ratios,
comprising 50% of the market capitalization of the S&P 500.
STANDARD & POOR'S SMALLCAP 600/BARRA VALUE INDEX--contains stocks of the S&P
SmallCap 600 Index which have a lower than average price-to-book ratio.
STANDARD & POOR'S SMALLCAP 600/BARRA GROWTH INDEX--contains stocks of the S&P
SmallCap 600 Index which have a higher than average price-to-book ratio.
RUSSELL 1000 VALUE INDEX--consists of the stocks in the Russell 1000 Index
(comprising the 1,000 largest U.S.-based companies measured by total market
capitalization) with the lowest price-to-book ratios, comprising 50% of the
market capitalization of the Russell 1000.
WILSHIRE 5000 EQUITY INDEX--consists of more than 7,000 common equity
securities, covering all stocks in the U.S. for which daily listing pricing is
available.
WILSHIRE 4500 EQUITY INDEX--consists of all stocks in the Wilshire 5000 except
for the 500 stocks in the Standard and Poor's 500 Index.
RUSSELL 1000 GROWTH INDEX--
RUSSELL 3000 STOCK INDEX--a diversified portfolio of over 3,000 common stocks
accounting for over 90% of the market value of publicly traded stocks in the
U.S.
RUSSELL 2000 STOCK INDEX--composed of the 2,000 smallest securities in the
Russell 3000, representing approximately 7% of the Russell 3000 total market
capitalization.
RUSSELL 2000 VALUE INDEX--contains stocks from the Russell 2000 Index with a
less-than-average growth orientation.
MORGAN STANLEY CAPITAL INTERNATIONAL EAFE INDEX--is an arithmetic, market
value-weighted average of the performance of over 900 securities listed on the
stock exchanges of countries in Europe, Australia, Asia and the Far East.
B-24
GOLDMAN SACHS 100 CONVERTIBLE BOND INDEX--currently includes 71 bonds and 29
preferreds. The original list of names was generated by screening for
convertible issues of $100 million or greater in market capitalization. The
index is priced monthly.
SALOMON BROTHERS GNMA INDEX--includes pools of mortgages originated by private
lenders and guaranteed by the mortgage pools of the Government National Mortgage
Association.
SALOMON BROTHERS HIGH-GRADE CORPORATE BOND INDEX--consists of publicly issued,
non-convertible corporate bonds rated Aa or Aaa. It is a value weighted, total
return index, including approximately 800 issues with maturities of 12 years or
greater.
SALOMON BROTHERS BROAD INVESTMENT-GRADE BOND INDEX--is a market-weighted index
that contains over 4,800 individually priced investment-grade corporate bonds
rated BBB or better, U.S. Treasury/agency issues and mortgage pass-through
securities.
LEHMAN LONG-TERM TREASURY BOND INDEX--is a market-weighted index that contains
individually priced U.S. Treasury Securities with maturities of 10 years or
greater.
MERRILL LYNCH CORPORATE & GOVERNMENT BOND INDEX--consists of over 4,500 U.S.
Treasury, Agency and investment grade corporate bonds.
LEHMAN CORPORATE (Baa) BOND INDEX--all publicly offered fixed rate,
nonconvertible domestic corporate bonds rated Baa by Moody's, with a maturity
longer than 1 year and with more than $100 million outstanding. This index
includes over 1,500 issues.
LEHMAN BROTHERS LONG-TERM CORPORATE BOND INDEX--is a subset of the Lehman
Corporate Bond Index covering all corporate, publicly issued, fixed-rate,
nonconvertible U.S. debt issues rated at least Baa, with at least $100 million
principal outstanding and maturity greater than 10 years.
BOND BUYER MUNICIPAL BOND INDEX--is a yield index on current coupon high grade
general obligation municipal bonds.
STANDARD & POOR'S PREFERRED INDEX--is a yield index based upon the average yield
of four high grade, non-callable preferred stock issues.
NASDAQ INDUSTRIAL INDEX--is composed of more than 3,000 industrial issues. It is
a value-weighted index calculated on price change only and does not include
income.
COMPOSITE INDEX--70% Standard & Poor's 500 Index and 30% NASDAQ Industrial
Index.
COMPOSITE INDEX--65% Standard & Poor's 500 Index and 35% Lehman Long-Term
Corporate AA or Better Bond Index.
COMPOSITE INDEX--65% Lehman Long-Term Corporate AA or Better Bond Index and a
35% weighting in a blended equity composite (75% Standard & Poor's 500/BARRA
Value Index, and 12.5% Standard & Poor's Utilities Index and 12.5% Standard &
Poor's Telephone Index).
LEHMAN LONG-TERM CORPORATE AA OR BETTER BOND INDEX--consists of all publicly
issued, fixed rate, nonconvertible investment grade, dollar-denominated,
SEC-registered corporate debt rated AA or AAA.
LEHMAN BROTHERS AGGREGATE BOND INDEX--is a market weighted index that contains
over 4,000 individually priced U.S. Treasury, agency, corporate, and mortgage
pass-through securities corporate rated BBB- or better. The Index has a market
value of over $5 trillion.
LEHMAN BROTHERS MUTUAL FUND SHORT (1-5) GOVERNMENT/CORPORATE INDEX--is a market
weighted index that contains over 1,500 individually priced U.S. Treasury,
agency, and corporate investment grade bonds rated BBB- or better with
maturities between 1 and 5 years. The index has a market value of over $1.6
trillion.
LEHMAN BROTHERS MUTUAL FUND INTERMEDIATE (5-10) GOVERNMENT/CORPORATE INDEX--is a
market weighted index that contains over 1,500 individually priced U.S.
Treasury, agency, and corporate securities rated BBB- or better with maturities
between 5 and 10 years. The index has a market value of over $800 billion.
B-25
LEHMAN BROTHERS LONG (10+) GOVERNMENT/CORPORATE INDEX--is a market weighted
index that contains over 1,900 individually priced U.S. Treasury, agency, and
corporate securities rated BBB- or better with maturities greater than 10 years.
The index has a market value of over $1.1 trillion.
LIPPER SMALL COMPANY GROWTH FUND AVERAGE--the average performance of small
company growth funds as defined by Lipper Inc. Lipper defines a small company
growth fund as a fund that by prospectus or portfolio practice, limits its
investments to companies on the basis of the size of the company. From time to
time, Vanguard may advertise using the average performance and/or the average
expense ratio of the small company growth funds. (This fund category was first
established in 1982. For years prior to 1982, the results of the Lipper Small
Company Growth category were estimated using the returns of the Funds that
constituted the Group at its inception.)
LIPPER BALANCED FUND AVERAGE--an industry benchmark of average balanced funds
with similar investment objectives and policies, as measured by Lipper Inc.
LIPPER NON-GOVERNMENT MONEY MARKET FUND AVERAGE--an industry benchmark of
average non-government money market funds with similar investment objectives and
policies, as measured by Lipper Inc.
LIPPER GOVERNMENT MONEY MARKET FUND AVERAGE--an industry benchmark of average
government money market funds with similar investment objectives and policies,
as measured by Lipper Inc.
LIPPER GENERAL EQUITY FUND AVERAGE--an industry benchmark of average general
equity funds with similar investment objectives and policies, as measured by
Lipper Inc.
LIPPER FIXED INCOME FUND AVERAGE--an industry benchmark of average fixed income
funds with similar investment objectives and policies, as measured by Lipper
Inc.
LIPPER EQUITY INCOME FUND AVERAGE--an industry benchmark of average equity
income funds with similar investment objectives and policies, as measured by
Lipper Inc.
SAI065-05/16/2000
B-26