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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM N-CSR
N-CSR
CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT
INVESTMENT COMPANIES
Investment Company Act file number 811-5022
Skyline Funds
(Exact name of registrant as specified in charter)
311 South Wacker Drive, Suite 4500
Chicago, IL 60606
(Address of principal executive offices) (Zip Code)
William M. Dutton Alan Goldberg
Skyline Funds Bell, Boyd & Lloyd LLC
311 South Wacker Drive, Suite 4500 Three First National Plaza, #3300
Chicago, IL 60606 Chicago, IL 60602
(Name and address of agents for service)
Registrant's telephone number, including area code: (312) 913-0900
Date of fiscal year end: 12/31/03
Date of reporting period: 12/31/03
<Page>
ITEM 1. REPORT TO SHAREHOLDERS.
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ANNUAL REPORT -- DECEMBER 31, 2003
SKYLINE SPECIAL EQUITIES PORTFOLIO
[GRAPHIC]
[SKYLINE FUNDS LOGO]
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COMMENTARY(1)
December 31, 2003
OVERVIEW
The Fund generated a return of 14.79% for the fourth quarter, compared to a
16.37% gain for the Russell 2000 Value Index and a 14.52% gain for the Russell
2000 Index. For all of 2003, the Fund rose 40.71%, versus a 46.03% gain for the
Russell 2000 Value Index and a 47.25% rise for the Russell 2000 Index. The
40.71% return for 2003 marked the third largest calendar-year gain for the Fund
since its inception. The returns generated by the Russell small cap Indexes were
the largest on record.
The outstanding returns generated by small cap stocks in the fourth quarter and
for all of 2003 were due in part to increased earnings. The stocks that made up
the Fund at year end are estimated to have grown their median 2003 earnings per
share (EPS) by 10.6%. We believe a more important contributor to 2003's stock
price gains was an improvement in investor sentiment. The uncertainties (Iraq,
terrorism, SARS, corporate scandals) that abounded in early 2003 failed to
derail the U.S. economy. On the contrary, economic reports grew increasingly
positive as the year progressed. Bolstered by a more favorable outlook,
investors placed higher valuations on stocks.
In both the fourth quarter and for all of 2003, the gains generated by the Fund
lagged the returns posted by the Russell 2000 Value Index. This was due
primarily to the higher proportion of smaller and riskier stocks in the Index,
which were among the best performing stocks for both the quarter and year. We
define riskier stocks as those with no earnings and/or high financial leverage.
MARKET REVIEW
Stock gains were broad based during the fourth quarter, with all of the major
style indexes posting double-digit gains. Small cap stocks outperformed large
cap stocks in the quarter, as indicated by the 14.52% gain for the Russell 2000
Index versus the 12.18% rise for the S&P 500 Index. Within the small cap arena,
the Russell 2000 Value Index's 16.37% gain outpaced the 12.68% rise for the
Russell 2000 Growth Index. The best performing economic sectors in the Russell
2000 Value Index during the quarter were other energy, materials and processing,
and producer durables, all rising more than 20%. Companies in these sectors are
impacted by manufacturing activity, and several reports released during the
quarter pointed to improvement in that area of the economy. For example, the
widely followed Manufacturing ISM Report on Business reported in December that
manufacturing activity rose for the fifth consecutive month in November to its
highest level since December 1983. The utilities, financial services, consumer
discretionary, and health care sectors, which are less tied to manufacturing
activity, despite posting double-digit gains, lagged the Russell 2000 Value
Index's total return for the quarter.
1
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For the year, small cap stocks, as measured by the Russell 2000 Index, rose
47.25%, outpacing the 28.71% gain registered by the S&P 500 Index. It was the
fourth consecutive year that small cap stocks outperformed large cap stocks.
Among small caps, the Russell 2000 Value Index rose 46.03% and the Russell 2000
Growth Index was up 48.54%, marking the first year since 1999 that small cap
growth stocks outperformed small cap value stocks. The smallest and riskiest
stocks were the best performers in 2003. According to Prudential Financial,
within the Russell 2000 Index, the stocks with market caps under $500 million
were up 59.5%, stocks not expected to earn money over the next 12 months were up
72% for the year, and stocks with prices below $5 increased 114%. Strong
relative performance by smaller and riskier stocks often occurs during the early
stages of an economic rebound, similar to the one we believe we are currently
experiencing.
PORTFOLIO REVIEW
As previously noted, the Fund posted a gain of 14.79% for the fourth quarter and
40.71% for all of 2003. This compares to gains of 16.37% and 46.03% for the
Russell 2000 Value Index and 14.52% and 47.25% for the Russell 2000 Index for
the fourth quarter and all of 2003, respectively.
For the fourth quarter, the materials and processing, consumer discretionary,
financial services, and technology sectors contributed most to the Fund's
return. The materials and processing and technology sectors benefited from
strong price performance. Six of the ten stocks that contributed most to the
Fund's return for the quarter came from these two sectors. The contribution from
the consumer discretionary and financial sectors was due primarily to the heavy
weighting of those sectors in the Fund. Compared to the benchmark, the
technology sector contributed most during the quarter, due to its relatively
heavy weighting and strong stock selection. The financial services sector, which
included four of the ten poorest performing stocks during the quarter, was the
largest detractor to the Fund's performance relative to the benchmark.
For the year, the consumer discretionary and financial services sectors
contributed the most to the return of the Fund, due to their high absolute
weightings and returns. Seven of the top ten best performing stocks were from
these two sectors. For the most part, the sectors of the Fund performed roughly
in line with the corresponding sectors of the benchmark. The exceptions were the
autos and transportation, other energy, and health care sectors, which lagged
the respective sectors of the benchmark. The returns for the other energy and
health care sectors of the Index benefited disproportionately from the strong
performance of smaller and riskier stocks during the year.
In certain instances, the Fund benefited from the strong performance of smaller
and riskier stocks during the year. Graftech International, Ltd. and Fairchild
Semiconductor International, Inc. are examples of stocks that, at the time of
purchase, were generating very low levels of earnings (but inexpensive on other
measures of value) and performed extremely well in 2003 as investors became more
confident in their outlooks. However, the bulk of the Fund's performance in 2003
was driven by stocks that were inexpensive on current earnings at the beginning
of the year or at the time
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of purchase, and that responded positively to improving fundamentals. Examples
of the types of stocks that were significant contributors to the Fund's
performance in 2003 are Michaels Stores Inc., Ruby Tuesday Inc., and iStar
Financial Inc.
OUTLOOK
We believe statistics reported over the last several months point to a positive
outlook for the U.S. economy and corporate profits. The employment situation
appears to be improving -- payroll jobs were up in each of the last four months
of 2003, and initial claims for unemployment insurance have been trending lower.
The long U.S. manufacturing recession appears to be coming to an end, as
indicated by the previously mentioned Manufacturing ISM report. Massive fiscal
(higher government spending on defense, tax cuts, and accelerated depreciation
allowances) and monetary (a Fed Funds rate of 1.0%) stimulus has been applied by
government authorities. Importantly, in its December 9, 2003 statement, the
Federal Open Market Committee stated,"...with inflation quite low and resource
use slack, the Committee believes that policy accommodation can be maintained
for a considerable period." The U.S. dollar declined almost 15% against a basket
of major currencies in 2003, which should improve the competitiveness of U.S.
companies in global markets. Companies are well positioned to finance capital
expansion projects. In aggregate, companies are now generating more cash flow
from operations than they are committing to capital expenditures. Those
companies that require outside funding are able to raise capital at attractive
rates due to low interest rates, tighter credit spreads, and an accommodating
equity market.
The improving outlook for corporate profits has not gone unnoticed by investors.
The record setting performance registered by small cap stocks during 2003 has
driven the Russell 2000 Index's price/earnings (excluding negative earnings) of
14.0x at the end of the first quarter to 20.4x at year end. At current
valuations, it is difficult to make a strong case for a significant expansion in
price earnings multiples. Therefore, it is our belief that further gains in
stock prices will be a function of the growth in earnings. As previously
mentioned, we are quite optimistic about the outlook for corporate profits, and
therefore for the outlook for stock prices, but without significant multiple
expansion, gains approaching 2003 levels are unlikely.
The rise in stock prices and an improved economic outlook have combined to alter
the risk/reward equation for investors. Valuations are no longer at levels to
provide a margin of safety to investors if earnings are disappointing. However,
we believe there is more evidence supporting the case for strong earnings than
there has been in some time. If earnings come through as or better than
expected, as we anticipate they will, stocks should respond positively.
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PERFORMANCE (%)(1)
<Table>
<Caption>
4Q
2003* 2003 3 YRS
SPECIAL EQUITIES 14.79 40.71 14.12
RUSSELL 2000 VALUE 16.37 46.03 13.83
RUSSELL 2000 14.52 47.25 6.27
S&P 500 12.18 28.71 -4.04
<Caption>
CALENDAR YEARS 2003 2002 2001 2000 1999 1998 1997 1996
SPECIAL EQUITIES 40.7 -7.3 13.9 24.2 -13.3 -7.2 35.4 30.4
RUSSELL 2000 VALUE 46.0 -11.4 14.0 22.8 -1.5 -6.5 31.8 21.4
RUSSELL 2000 47.3 -20.5 2.5 -3.0 21.3 -2.6 22.4 16.5
S&P 500 28.7 -22.1 -11.9 -9.2 21.1 28.8 33.4 23.3
</Table>
The table does not reflect the deduction of taxes that a shareholder would
pay on fund distributions or the redemption of fund shares.
* Not annualized
CHANGE IN VALUE OF A $10,000 INVESTMENT(1)
[CHART]
COMPARISON OF CHANGE IN VALUE OF A $10,000 INVESTMENT SINCE INCEPTION
<Table>
<Caption>
INITIAL INVESTMENT SPECIAL EQUITIES RUSSELL 2000 RUSSELL 2000 VALUE S&P 500
$ 10,000 $ 10,000 $ 10,000 $ 10,000
1987 $ 8,314 $ 7,567 $ 7,855 $ 8,794
1988 $ 10,787 $ 9,449 $ 10,170 $ 10,247
1989 $ 13,377 $ 10,986 $ 11,434 $ 13,469
1990 $ 12,135 $ 8,843 $ 8,945 $ 13,037
1991 $ 17,885 $ 12,914 $ 12,675 $ 17,018
1992 $ 25,470 $ 15,294 $ 16,368 $ 18,325
1993 $ 31,289 $ 18,184 $ 20,270 $ 20,158
1994 $ 30,929 $ 17,582 $ 19,956 $ 20,424
1995 $ 35,206 $ 22,932 $ 25,095 $ 28,087
1996 $ 45,897 $ 26,715 $ 30,458 $ 34,617
1997 $ 62,161 $ 32,663 $ 40,137 $ 46,172
1998 $ 57,703 $ 31,849 $ 37,548 $ 59,444
1999 $ 50,038 $ 38,620 $ 36,989 $ 72,011
2000 $ 62,154 $ 37,488 $ 45,433 $ 65,436
2001 $ 70,761 $ 38,422 $ 51,808 $ 57,669
2002 $ 65,648 $ 30,553 $ 45,886 $ 44,924
2003 $ 92,375 $ 44,989 $ 67,008 $ 57,822
</Table>
See "Notes to Performance." The graph does not reflect the deduction of taxes
that a shareholder would pay on fund distributions or the redemption of fund
shares.
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<Table>
<Caption>
SINCE
5 YRS 10 YRS INCEPTION(2)
SPECIAL EQUITIES 9.87 11.43 14.25
RUSSELL 2000 VALUE 12.28 12.70 12.08
RUSSELL 2000 7.13 9.47 9.42
S&P 500 -0.57 11.11 11.08
<Caption>
CALENDAR YEARS 1995 1994 1993 1992 1991 1990 1989 1988 1987(2)
SPECIAL EQUITIES 13.8 -1.2 22.9 42.5 47.4 -9.3 24.0 29.7 -16.9
RUSSELL 2000 VALUE 25.8 -1.6 23.8 29.1 41.7 -21.8 12.4 29.5 -21.5
RUSSELL 2000 28.4 -1.8 18.9 18.4 46.1 -19.5 16.2 24.9 -24.3
S&P 500 37.5 1.3 10.0 7.7 30.6 -3.2 31.4 16.5 -12.0
</Table>
SECTOR PERFORMANCE (%)(1) (as of December 31, 2003)
<Table>
<Caption>
4Q 2003
- --------------------------------------------------------------
RUSSELL
SPECIAL 2000 RUSSELL
EQUITIES VALUE 2000
Technology 24.4 16.1 13.2
Materials & Processing 23.8 26.4 25.8
Producer Durables 19.6 20.9 19.4
Consumer Staples 19.4 16.1 14.7
Autos & Transportation 17.4 18.9 15.6
Consumer Discretionary 14.0 13.6 12.8
Other Energy 11.7 28.1 24.9
Health Care 10.2 14.3 9.6
Financial Services 9.6 12.7 12.9
Other NA 22.9 22.7
Utilities NA 11.5 10.9
<Caption>
YTD 2003
- --------------------------------------------------------------
RUSSELL
SPECIAL 2000 RUSSELL
EQUITIES VALUE 2000
Technology 63.0 64.0 64.8
Producer Durables 54.4 59.5 59.6
Health Care 52.2 70.4 59.4
Materials & Processing 44.2 44.6 44.1
Consumer Discretionary 43.0 45.0 42.0
Financial Services 41.3 40.7 39.6
Consumer Staples 35.1 34.1 31.9
Autos & Transportation 27.4 37.7 39.4
Other Energy 20.7 43.7 38.4
Other NA 40.8 38.0
Utilities NA 30.3 31.4
</Table>
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PORTFOLIO CHARACTERISTICS(1)
<Table>
<Caption>
SPECIAL RUSSELL 2000
EQUITIES VALUE RUSSELL 2000 S&P 500
P/E RATIO (EXCLUDING NEGATIVE EARNINGS) 17.5x 17.5x 20.4x 20.3x
PRICE/BOOK 1.95 1.62 2.15 3.12
PRICE/SALES 0.86 0.74 1.01 1.59
- --------------------------------------------------------------------------------------------------------------
EPS GROWTH--3 YRS (HISTORICAL) 9.5% 3.0% 9.7% 5.3%
EPS GROWTH--1 YR (FORECASTED) 18.0% 9.1% 24.2% 27.8%
- --------------------------------------------------------------------------------------------------------------
MARKET CAP $ WGHTD. MEDIAN $1.5 billion $796 million $832 million $50 billion
ASSETS $525 million -- -- --
NUMBER OF HOLDINGS 73 -- -- --
- --------------------------------------------------------------------------------------------------------------
TICKER SYMBOL SKSEX
CUSIP: 830833208
NET ASSET VALUE (PER SHARE) $27.78
INITIAL INVESTMENT $1,000
SUBSEQUENT INVESTMENT $100
</Table>
SECTOR WEIGHTINGS(1) (as of December 31, 2003)
[CHART]
<Table>
Autos & Transportation 4.00%
Cash 6.30%
Consumer Discretionary 19.10%
Consumer Staples 1.30%
Financial Services 26.10%
Health Care 5.80%
Materials & Processing 14.60%
Other Energy 3.50%
Producer Durables 9.40%
Technology 9.90%
</Table>
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STOCK HIGHLIGHTS(3)
DELPHI FINANCIAL GROUP INC. (DFG)
Delphi Financial Group, Inc. is an employee benefit services company. DFG
provides group life insurance, long-term and short-term disability insurance,
excess workers' compensation insurance, and fixed annuities. The excess workers'
compensation business is the driving force behind higher overall levels of
profitability and earnings growth. The excess workers' compensation business is
benefiting from several trends. Corporations are faced with significant
increases in employee benefits costs and many are choosing to self-insure as a
method of controlling the costs. When companies self-insure workers'
compensation, they will purchase excess workers' compensation from DFG to insure
against any catastrophic losses. In addition, there are very few competitors
offering similar products, therefore the current strong demand is creating a
positive pricing environment for DFG. The stock sells at a low P/E and is
expected to grow earnings in excess of 12% per year over the next several years.
IKON OFFICE SOLUTIONS, INC. (IKN)
Ikon Office Solutions, Inc. is one of the largest distributors of copiers in the
U.S. and Europe. IKN should generate strong EPS growth over the next few years
due to the following three factors: IKN will likely benefit from the
implementation of a new enterprise-wide operating system which will allow for a
material reduction in staffing; IKN is selling its leasing business to GE
Capital which will generate significant proceeds to reduce debt and repurchase
shares; and an improving economy will increase sales of new equipment. IKN is a
very cheap stock trading at a mid-teens P/E multiple on trailing earnings with
the ability to generate strong EPS growth over the next three to five years.
TOP TEN HOLDINGS(3)
<Table>
<Caption>
% OF NET ASSETS
ISTAR FINANCIAL INC.
Commercial real estate lender 2.6%
SCHOOL SPECIALTY, INC.
Non-textbook school supplies 2.5%
DAVITA INC.
Provider of dialysis services 2.4%
AIRGAS, INC.
Gas distributor 2.4%
DELPHI FINANCIAL GROUP, INC.
Accident & health insurance 2.3%
FURNITURE BRANDS INTERNATIONAL, INC.
Furniture manufacturer 2.2%
HEALTH NET, INC.
Managed health care 2.2%
COMMERCE BANCSHARES, INC.
Regional bank 2.1%
BEARINGPOINT, INC.
IT consulting 1.7%
SPARTECH CORPORATION
Plastics producer 1.7%
TOP TEN HOLDINGS 22.1%
</Table>
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NOTES TO PERFORMANCE
(1) PAST PERFORMANCE IS NO GUARANTEE OF FUTURE RESULTS. THE PRINCIPAL VALUE AND
RETURN ON YOUR INVESTMENT WILL FLUCTUATE AND ON REDEMPTION MAY BE WORTH MORE
OR LESS THAN YOUR ORIGINAL COST. The performance for the one, three, five,
and ten years ended December 31, 2003, and for the period April 23, 1987
(inception) through December 31, 2003, is an average annual return
calculation which is described in the Fund's Statement of Additional
Information.
The Russell 2000 Value Index is an unmanaged, value-oriented index
comprised of small stocks that have relatively low price-to-book
ratios. The Russell 2000 Index is an unmanaged, market value weighted index
comprised of small-sized companies. The S&P 500 Index, a widely quoted stock
market index, includes 500 of the largest companies publicly traded in the
United States. The Russell 1000 Index is an unmanaged index comprised of the
largest 1,000 companies ranked by market capitalization. The Russell 2000
Growth Index is an unmanaged index measuring the performance of those
Russell 2000 companies with higher price-to-book ratios and higher
forecasted growth rates. The Dow Jones Industrial Average is an average of
the stock prices of 30 major corporations in the United States. The NASDAQ
Composite Index is an unmanaged, market-value weighted index which measures
all domestic and non-U.S. based common stocks listed on the NASDAQ Stock
Market. The acronym stands for National Association of Securities Dealers
Automated Quotations system. All figures take into account reinvested
dividends. You cannot invest directly in an index.
Sources: Frank Russell Company and FactSet.
(2) Return is calculated from the Fund's inception on April 23, 1987. The
Russell 2000 Value performance reflects an inception date of May 1, 1987.
(3) Fund holdings are subject to change and should not be considered a
recommendation to buy individual securities.
This report is not authorized for distribution unless accompanied or preceded by
a current prospectus.
There are risks of investing in a fund that invests in stocks of small sized
companies, which tend to be more volatile and less liquid than stocks of large
cap companies. There are also risks in investing in value-oriented stocks
including the risk that value-oriented stocks will underperform growth-oriented
stocks during some periods.
THE DISCUSSION OF THE FUND'S INVESTMENTS AND INVESTMENT STRATEGY REPRESENT THE
VIEWS OF SKYLINE ASSET MANAGEMENT, L.P., THE FUND'S ADVISER, AT THE TIME OF THIS
REPORT. THE INVESTMENTS OF THE FUND ARE SUBJECT TO CHANGE AND SHOULD NOT BE
CONSIDERED A RECOMMENDATION TO BUY INDIVIDUAL SECURITIES.
DISTRIBUTOR: FUNDS DISTRIBUTOR, INC.
8
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GLOSSARY OF INVESTMENT TERMS
EARNINGS PER SHARE (EPS) A company's net income divided by its outstanding
shares.
EARNINGS PER SHARE GROWTH -- 3 YRS (HISTORICAL) The compounded annual growth
rate of a company's EPS over the last 3 years.
EARNINGS PER SHARE GROWTH -- 1 YR (FORECASTED) Analysts' consensus forecast for
a company's growth in operating EPS over the immediate future 12 months.
MEDIAN MARKET CAP An indicator of the size of companies in which a fund invests;
the mid-point of market capitalization (market price times shares outstanding)
of a fund's stocks, weighted by the proportion of the fund's assets invested in
each stock. Stocks representing half of the fund's assets have market
capitalizations above the median, and the rest below it.
PRICE/BOOK RATIO The share price of a stock divided by its net worth, or book
value, per share.
PRICE/EARNINGS (P/E) RATIO The ratio of a stock's current price to its per-share
earnings over the past 12 months. For a fund, the price/earnings ratio is the
weighted average P/E of the stocks in that fund. P/E is an indicator of market
expectations about corporate prospects.
PRICE/SALES RATIO The ratio of a stock's current price to its per-share revenue
over the past 12 months.
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PORTFOLIO HOLDINGS as of December 31, 2003
<Table>
<Caption>
COMPANY NUMBER MARKET
DESCRIPTION SHARES VALUE
------------------------------- -------------- --------------
COMMON STOCKS
AUTOS & TRANSPORTATION -- 4.0%
OTHER TRANSPORTATION -- 2.9%
Interpool, Inc. Container leasing firm 306,700 $ 4,447,150
Monaco Coach Corp.(a) RV producer 215,950 5,139,610
Ryder System, Inc. Truck leasing company 157,900 5,392,285
--------------
14,979,045
TRUCKING -- 1.1%
Werner Enterprises Inc. Truckload carrier 295,557 5,760,406
--------------
TOTAL AUTOS & TRANSPORTATION 20,739,451
CONSUMER DISCRETIONARY -- 19.1%
COMMERCIAL SERVICES -- 3.5%
IKON Office Solutions, Inc. Distributor of copiers 453,000 5,372,580
ProQuest Company(a) Information content provider 254,100 7,483,245
United Stationers Inc.(a) Office products distributor 129,800 5,311,416
--------------
18,167,241
CONSUMER PRODUCTS/SERVICES -- 9.0%
Furniture Brands Int'l., Inc.(a) Furniture manufacturer 400,300 11,740,799
Polaris Industries Inc. Snowmobiles, ATVs,
motorcycles 88,000 7,795,040
School Specialty, Inc.(a) Non-textbook school
supplies 382,803 13,019,130
Scotts Company(a) Turf & horticultural products 131,200 7,761,792
The Toro Company Turf maintenance products 153,900 7,140,960
--------------
47,457,721
PRINTING/PUBLISHING -- 0.9%
Journal Communications Media and communication
Incorporated company 266,900 4,945,657
RESTAURANTS -- 1.5%
Ruby Tuesday, Inc. Casual dining 272,300 7,757,827
RETAIL -- 4.2%
Aaron Rents, Inc. Furniture rental chain 167,050 3,362,717
Borders Group, Inc. Book retailer 363,500 7,967,920
Linens `n Things, Inc.(a) Home textiles and
housewares retailer 131,800 3,964,544
Pier 1 Imports, Inc. Home furnishings retailer 298,200 6,518,652
--------------
21,813,833
--------------
TOTAL CONSUMER DISCRETIONARY 100,142,279
CONSUMER STAPLES -- 1.3%
CONSUMER STAPLES -- 1.3%
Del Monte Foods Co.(a) Canned foods 678,700 7,058,478
--------------
TOTAL CONSUMER STAPLES 7,058,478
</Table>
10
<Page>
<Table>
<Caption>
COMPANY NUMBER MARKET
DESCRIPTION SHARES VALUE
------------------------------- -------------- --------------
FINANCIAL SERVICES -- 26.1%
BANKS/THRIFTS -- 5.7%
Bank of Hawaii Corporation Commercial bank 188,500 $ 7,954,700
Commerce Bancshares, Inc. Regional bank 226,813 11,118,373
First Niagra Financial Group, Inc. Savings & loan 370,165 5,519,160
Provident Financial Group Inc. Regional bank 167,010 5,335,970
--------------
29,928,203
INSURANCE-- 13.0%
Amerus Group Inc. Life insurer 160,900 5,626,673
Clark, Inc.(a) Insurance brokerage and
consulting 203,600 3,917,264
Delphi Financial Group, Inc. Accident & health insurance 329,068 11,846,448
Direct General Corporation Personal auto insurance 186,300 6,166,530
IPC Holdings, Ltd.(a) Property catastrophe
reinsurer 137,395 5,350,161
Infinity Property and Casualty
Corporation Personal auto insurance 153,277 5,065,805
Reinsurance Group of America Life reinsurer 202,500 7,826,625
Scottish Re Group Limited Life reinsurer 244,400 5,078,632
Selective Insurance Group, Inc. Property & casualty
insurance 211,435 6,842,037
Triad Guaranty Inc.(a) Mortgage insurance 75,013 3,776,905
U.S.I. Holdings Corporation(a) Insurance brokerage 508,253 6,632,702
--------------
68,129,782
OTHER FINANCIAL SERVICES -- 2.7%
CCC Information Services
Group Inc. Financial data processing
services 86,874 1,468,171
MCG Capital Corporation Business development
company 373,800 7,289,100
Westcorp Auto finance 144,000 5,263,200
--------------
14,020,471
REAL ESTATE INVESTMENT TRUSTS -- 4.7%
AMB Property Corporation Industrial REIT 183,700 6,040,056
Brandywine Realty Trust Office REIT 187,100 5,008,667
iStar Financial Inc. Commercial real estate
lender 352,700 13,720,030
--------------
24,768,753
--------------
TOTAL FINANCIAL SERVICES 136,847,209
HEALTH CARE -- 5.8%
HEALTH CARE SERVICES -- 5.8%
Apria Healthcare Group Inc.(a) Home healthcare service
provider 215,900 6,146,673
Davita Inc.(a) Provider of dialysis services 326,200 12,721,800
Health Net, Inc.(a) Managed health care 347,500 11,363,250
--------------
TOTAL HEALTH CARE 30,231,723
</Table>
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<Page>
<Table>
<Caption>
COMPANY NUMBER MARKET
DESCRIPTION SHARES VALUE
------------------------------- -------------- --------------
MATERIALS & PROCESSING -- 14.6%
BUILDING/CONSTRUCTION PRODUCTS -- 4.1%
Hughes Supply, Inc. Construction/industrial supplies 152,500 $ 7,567,050
Jacuzzi Brands, Inc.(a) Manufacturer of plumbing
products 963,600 6,831,924
York International Corporation Manufacturer of HVAC
products 198,100 7,290,080
--------------
21,689,054
ENGINEERING & CONSTRUCTION -- 0.5%
Shaw Group Inc.(a) Engineering and construction
company 177,900 2,422,998
INDUSTRIAL PRODUCTS -- 1.6%
Graftech International Ltd.(a) Graphite electrodes 633,600 8,553,600
PACKAGING & PAPER -- 1.6%
Albany International Corp. Gas distributor 247,600 8,393,640
SPECIALTY CHEMICALS -- 5.7%
Airgas, Inc. Gas distributor 575,900 12,370,332
Minerals Technologies Inc. Specialty minerals 142,200 8,425,350
Spartech Corp. Plastics producer 366,600 9,033,024
--------------
29,828,706
STEEL/IRON -- 1.1%
Reliance Steel & Aluminum Metal service center 177,000 5,878,170
--------------
TOTAL MATERIALS & PROCESSING 76,766,168
OTHER ENERGY -- 3.5%
EQUIPMENT & SERVICES -- 1.1%
Key Energy Services, Inc.(a) Workover services provider 534,600 5,511,726
EXPLORATION & PRODUCTION -- 2.4%
Forest Oil Corporation(a) Oil and gas producer 201,800 5,765,426
Newfield Exploration Company(a) Oil and gas producer 152,900 6,810,166
--------------
12,575,592
--------------
TOTAL OTHER ENERGY 18,087,318
PRODUCER DURABLES -- 9.4%
AEROSPACE -- 1.2%
Curtiss-Wright Corporation Aerospace & defense
components mfg. 140,400 6,319,404
DIVERSIFIED MANUFACTURING -- 3.9%
Crane Co. Industrial conglomerate 247,700 7,614,298
Mettler-Toloedo International Inc.(a) Manufacturer of scales 160,600 6,778,926
Pentair, Inc. Industrial conglomerate 133,900 6,119,230
--------------
20,512,454
MACHINERY -- 4.3%
Flowserve Corporation(a) Pump & valve manufacturer 301,100 6,286,968
IDEX Corporation Specialty pump products 178,800 7,436,292
Kennametal Inc. Metal-cutting tools 138,300 5,497,425
MSC Industrial Direct Co. Inc.(a) Marketer of industrial products 125,100 3,440,250
--------------
22,660,935
--------------
TOTAL PRODUCER DURABLES 49,492,793
</Table>
12
<Page>
<Table>
<Caption>
COMPANY NUMBER MARKET
DESCRIPTION SHARES VALUE
------------------------------- -------------- --------------
TECHNOLOGY -- 9.9%
DISTRIBUTION -- 2.1%
Synnex Corporation(a) Distributor of PCs and
peripherals 247,200 $ 3,401,472
Tech Data Corporation(a) Distributor of PCs and
peripherals 195,200 7,747,488
--------------
11,148,960
ELECTRONIC COMPONENTS -- 2.0%
Fairchild Semiconductor Int'l.,
Inc.(a) Semiconductors 183,200 4,574,504
KEMET Corporation(a) Capacitor manufacturer 441,900 6,049,611
--------------
10,624,115
OTHER TECHNOLOGY -- 2.1%
Electronics for Imaging, Inc.(a) Products that support color
printing 195,800 5,094,716
Park Electrochemical Corporation Advanced electronic
materials 219,600 5,817,204
--------------
10,911,920
SERVICES -- 2.6%
BearingPoint, Inc.(a) IT consulting 908,700 9,168,783
Ceridian Corporation(a) Payroll processing 218,800 4,581,672
--------------
13,750,455
SOFTWARE -- 1.1%
eFunds Corporation(a) Provider of EFT software 344,608 5,978,949
--------------
Total Technology 52,414,399
--------------
TOTAL COMMON STOCKS -- 93.7%
(Cost $366,375,398) 491,779,818
MONEY MARKET INSTRUMENTS
US Bank Demand Note, .87%, due 12/31/04 5,444,389
US Bank Commercial Paper, .80%, due 1/2/04 26,819,000
--------------
TOTAL MONEY MARKET INSTRUMENTS -- 6.2%
(Cost $32,263,389) 32,263,389
--------------
TOTAL INVESTMENTS -- 99.9%
(Cost $398,638,787) 524,043,207
OTHER ASSETS LESS LIABILITIES -- 0.1% 531,797
--------------
NET ASSETS -- 100% $ 524,575,004
==============
</Table>
(a) Non-income producing security.
Based on cost of investments for federal income tax purposes of $399,973,685 on
December 31, 2003, net unrealized appreciation was $124,069,522, consisting of
gross unrealized appreciation of $126,801,010 and gross unrealized depreciation
of $2,732,488.
The differences between book-basis and tax-basis unrealized
appreciation/(depreciation) is attributable primarily to the estimated tax
deferral on wash sales and return of capital distributions received from
investments in real estate investment trusts.
See accompanying notes to financial statements.
13
<Page>
STATEMENT OF ASSETS AND LIABILITIES As of December 31, 2003
<Table>
ASSETS
Investments, at value (Cost: $398,638,787) $ 524,043,207
Receivable for:
Securities sold $ 2,646,708
Fund shares sold 162,981
Dividends and interest 421,482 3,231,171
---------------
Other assets 82,634
---------------
Total assets 527,357,012
LIABILITIES & NET ASSETS
Payable for:
Fund shares redeemed $ 2,051,126
Comprehensive management fee 639,515
Trustees' compensation 8,733
Trustees' deferred compensation 82,634 2,782,008
--------------- ---------------
Net assets applicable to shares outstanding $ 524,575,004
===============
Shares outstanding--no par value (unlimited number
of shares authorized) 18,880,839
===============
PRICING OF SHARES
Net asset value, offering price and redemption price
per share $ 27.78
===============
ANALYSIS OF NET ASSETS
Paid-in capital $ 386,501,267
Undistributed net investment income 259,570
Accumulated net realized gain on sales of investments 12,409,747
Net unrealized appreciation of investments 125,404,420
---------------
Net assets applicable to shares outstanding $ 524,575,004
===============
</Table>
See accompanying notes to financial statements.
14
<Page>
STATEMENT OF OPERATIONS For the Year Ended December 31, 2003
<Table>
Investment income
Dividends $ 5,031,722
Interest 184,255
-------------
Total investment income 5,215,977
Expenses:
Comprehensive management fee 6,246,221
Fees to unaffilliated trustees 55,422
-------------
Total expenses 6,301,643
-------------
Net investment loss (1,085,666)
Net realized and unrealized gain/loss on investments:
Net realized gain on sales of investments 41,784,701
Change in net unrealized appreciation 109,634,105
-------------
Net realized and unrealized gain on investments 151,418,806
-------------
Net increase in net assets resulting from operations $ 150,333,140
=============
</Table>
See accompanying note to financial statements.
15
<Page>
STATEMENTS OF CHANGES IN NET ASSETS
<Table>
<Caption>
YEAR ENDED YEAR ENDED
12/31/2003 12/31/2002
--------------- ---------------
From operations:
Net investment loss $ (1,085,666) $ (1,155,225)
Net realized gain on sales of investments 41,784,701 1,614,999
Change in net unrealized appreciation 109,634,105 (49,268,826)
--------------- ---------------
Net increase/decrease in net assets resulting
from operations 150,333,140 (48,809,052)
Distributions to shareholders from net realized gains (27,937,092) -
From fund share transactions:
Proceeds from fund shares sold 139,277,671 342,123,732
Reinvestment of dividends 27,404,752 -
Payments for fund shares redeemed (143,342,383) (289,420,437)
--------------- ---------------
Net increase in net assets resulting from
share transactions 23,340,040 52,703,295
--------------- ---------------
Total increase in net assets 145,736,088 3,894,243
Net assets at beginning of year 378,838,916 374,944,673
--------------- ---------------
Net assets at end of year
(including undistributed net investment
income of $259,570 and $0 at December 31,
2003 and 2002, respectively) $ 524,575,004 $ 378,838,916
=============== ===============
</Table>
See accompanying notes to financial statements.
16
<Page>
FINANCIAL HIGHLIGHTS
<Table>
<Caption>
YEAR YEAR YEAR YEAR YEAR
ENDED ENDED ENDED ENDED ENDED
12/31/03 12/31/02 12/31/01 12/31/00 12/31/99
----------- ----------- ----------- ----------- -----------
Net asset value at
beginning of year $ 20.86 $ 22.50 $ 19.75 $ 15.90 $ 19.78
----------- ----------- ----------- ----------- -----------
Income from Investment
Operations
Net investment loss (0.06)* (0.06)* (0.04)* (0.06)* (0.14)*
Net realized and unrealized
gain/(loss) on investments 8.54 (1.58) 2.79 3.91 (2.51)
----------- ----------- ----------- ----------- -----------
Total from investment
operations 8.48 (1.64) 2.75 3.85 (2.65)
----------- ----------- ----------- ----------- -----------
Less distributions from net
realized gains on investments (1.56) -- -- -- (1.23)
----------- ----------- ----------- ----------- -----------
Net asset value at end of year $ 27.78 $ 20.86 $ 22.50 $ 19.75 $ 15.90
=========== =========== =========== =========== ===========
Total Return 40.71% (7.29%) 13.92% 24.21% (13.28%)
Ratios/Supplemental Data
Ratio of expenses to
average net assets 1.48% 1.48% 1.49% 1.51% 1.48%
Ratio of net investment loss
to average net assets (0.26%) (0.26%) (0.16%) (0.32%) (0.32%)
Portfolio turnover rate 52% 81% 93% 92% 81%
Net assets, end of year
(in thousands) $ 524,575 $ 378,839 $ 374,945 $ 286,951 $ 220,346
=========== =========== =========== =========== ===========
</Table>
* Based on monthly average shares outstanding.
17
<Page>
NOTES TO FINANCIAL STATEMENTS
Skyline Funds is an open-end, diversified investment management company the sole
portfolio of which is Special Equities Portfolio (the "Fund"). The Fund
commenced public offering of its shares on April 23, 1987. Skyline Special
Equities Portfolio closed to new investors on January 30, 1997 and re-opened to
new investors on October 27, 1999. The Fund's investment adviser is Skyline
Asset Management, L.P. ("The Adviser"). The Fund seeks maximum capital
appreciation primarily through investment in common stocks that its investment
adviser considers to be undervalued.
1
SIGNIFICANT ACCOUNTING POLICIES
- - SECURITY VALUATION - Investments are stated at value. Each equity security
traded on a securities exchange shall be valued at the last current sale price
as of the time of valuation on the exchange on which the security is principally
traded (the "principal exchange"), or lacking any current reported sale on the
principal exchange at the time of valuation, at the most recent bid quotation on
the principal exchange. Each over-the-counter security traded in the Nasdaq
Stock Market ("Nasdaq") shall be valued at the Nasdaq Official Closing Price
("NOCP"), as determined by Nasdaq, or lacking an NOCP, the last current reported
sale price as of the time of valuation on Nasdaq, or lacking any current
reported sale on Nasdaq at the time of valuation, at the most recent bid
quotation on Nasdaq. For certain fixed-income securities, Skyline Funds' Board
of Trustees has authorized the use of market valuations provided by an
independent pricing service. Short-term instruments with sixty days or less to
maturity are valued at amortized cost which approximates market value.
Securities or other assets for which market quotations are not readily
available, which may include certain restricted securities, are valued at a fair
value as determined in good faith by the Skyline Funds' Board of Trustees or a
committee thereof.
- - SECURITY TRANSACTIONS AND INVESTMENT INCOME - Security transactions are
accounted for on the trade date (date the order to buy or sell is executed) and
dividend income is recorded on the ex-dividend date. Interest income is recorded
on an accrual basis and includes amortization of premiums and discounts.
Realized gains and losses from security transactions are reported on an
identified cost basis.
- - FUND SHARE VALUATION - Fund shares are sold and redeemed on a continuous
basis at net asset value. Net asset value per share is determined as of the
close of regular session trading on the New York Stock Exchange (normally 3:00
p.m. Central Time), each day that the Exchange is open for trading. The net
asset value per share is determined by dividing the value of all securities and
other assets, less liabilities, by the number of shares of the Fund outstanding.
- - FEDERAL INCOME TAXES AND DIVIDENDS TO SHAREHOLDERS - It is the Fund's policy
to comply with the special provisions of the Internal Revenue Code applicable to
regulated investment companies and, in the manner provided therein, to
distribute
18
<Page>
substantially all of its taxable income to shareholders. Such provisions were
complied with and, therefore, no federal income taxes have been accrued in the
accompanying financial statements.
Dividends payable to its shareholders are recorded by the Fund on the
ex-dividend date. The timing and characterization of certain income and capital
gain distributions are determined annually in accordance with Federal income tax
regulations that may differ from accounting principles generally accepted in the
United States. As a result, net investment income or loss and net realized gain
or loss for a reporting period may differ from the amount distributed during
such period. In addition, the Fund may periodically record reclassifications
among certain capital accounts to reflect differences between financial
reporting and income tax purposes. These reclassifications have no impact on the
net asset value of the Fund. Accordingly, at December 31, 2003, the following
reclassifications were recorded:
<Table>
<Caption>
ACCUMULATED
UNDISTRIBUTED NET NET REALIZED
INVESTMENT INCOME/(LOSS) GAIN/(LOSS)
------------------------ --------------
$ 1,354,854 $ (1,354,854)
</Table>
On December 17, 2003, a distribution of $1.55614 per share was declared. The
dividend was paid on December 19, 2003, to shareholders of record on December
18, 2003.
The tax character of distributions paid during 2003 is as follows:
<Table>
<Caption>
Distributions paid from: 2003 2002
Ordinary income $ 8,393,488 $ -
Long-term capital gain 19,543,604 -
------------- ------
27,937,092 -
</Table>
As of December 31, 2003, the components of distributable earnings on a tax basis
were as follows:
<Table>
<Caption>
NET
UNDISTRIBUTED UNDISTRIBUTED UNREALIZED
ORDINARY CAPITAL LOSS LONG-TERM APPRECIATION/
INCOME CARRYFORWARD GAIN (DEPRECIATION)
-------------- ------------ ------------- --------------
$ 13,245,321 $ 0 $ 822,895 $ 124,069,522
</Table>
The differences between book-basis and tax-basis unrealized
appreciation/(depreciation) is attributable primarily to the estimated tax
deferral on wash sales and return of capital distributions received from
investments in real estate investment trusts.
- - LINE OF CREDIT - The Fund has a $3 million committed revolving credit
facility for temporary or emergency purposes, including the meeting of
redemption requests that otherwise might require the untimely disposition of
securities. The Adviser pays a commitment fee of 10 basis points per annum of
the average daily unutilized portion
19
<Page>
of the committed line of credit not utilized. Under the terms of the credit
agreement, interest on each loan would be fixed at the prime rate less 150 basis
points. During 2003, there were no loans outstanding under the credit facility.
- - Use of Estimates - The preparation of financial statements in conformity
with accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Actual results may differ from
those estimates.
2
TRANSACTIONS WITH AFFILIATES
For the Adviser's management and advisory services and the assumption of most of
the Fund's ordinary operating expenses, the Fund incurs a monthly comprehensive
fee based on its average daily net assets at the annual rate of 1.50% of the
first $200 million, 1.45% of the next $200 million, 1.40% of the next $200
million, and 1.35% of any excess over $600 million. The total comprehensive
management fee incurred for the year ended December 31, 2003 was $6,246,221.
Certain officers and trustees of the Skyline Funds are also officers, limited
partners or shareholders of limited partners of the Adviser. The Fund makes no
direct payments to the officers or trustees who are affiliated with the Adviser.
For the year ended December 31, 2003, the Fund incurred fees of $55,422 to its
unaffiliated trustees.
The Fund provides a deferred compensation plan for its trustees who are not
officers, limited partners or shareholders of limited partners of the Adviser.
Under the deferred compensation plan, trustees may elect to defer all or a
portion of their compensation. Amounts deferred are retained by the Fund, and to
the extent permitted by the 1940 Act, as amended, may be invested in the common
shares of the Fund, as selected by the trustees. Investments in such funds are
reflected as in "Other Assets" on the Statement of Assets and Liabilities at
December 31, 2003. Appreciation/depreciation and distributions received from
these investments are recorded with an offsetting increase/decrease in the
deferred compensation obligation and do not affect the net asset value of the
Fund.
20
<Page>
3
FUND SHARE TRANSACTIONS
As of December 31, 2003, there were an unlimited number of shares of beneficial
interest, no par value, authorized. Transactions in the Fund's shares of
beneficial interest were as follows:
<Table>
<Caption>
SHARES DOLLAR AMOUNT
------------------------------ ---------------------------------
YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED
12/31/03 12/31/02 12/31/03 12/31/02
------------------------------------------------------------------
Shares sold 5,795,462 14,223,915 $ 139,277,671 $ 342,123,732
Shares issued for
reinvestment of
dividends 996,899 - 27,404,752 -
------------ ------------- -------------- ----------------
Total shares issued 6,792,361 (12,728,080) 166,682,423 (289,420,437)
Less shares redeemed (6,070,255) (143,342,383)
------------ ------------- -------------- ----------------
Net increase 722,106 1,495,835 $ 23,340,040 $ 52,703,295
============ ============= ============== ================
</Table>
4
INVESTMENT TRANSACTIONS
Investment transactions (exclusive of money market instruments) for the year
ended December 31, 2003, were as follows:
<Table>
Cost of purchases $ 211,818,827
Proceeds from sales $ 241,349,197
</Table>
21
<Page>
REPORT OF INDEPENDENT AUDITORS
To the Shareholders of Skyline Special Equities Portfolio and the Board of
Trustees of Skyline Funds
We have audited the accompanying statement of assets and liabilities, including
the portfolio holdings, of Skyline Special Equities Portfolio (the "Fund") as of
December 31, 2003, the related statements of operations for the year then ended,
changes in net assets for each of the two years in the period then ended, and
the financial highlights for each of the five years in the period then ended.
These financial statements and financial highlights are the responsibility of
the Fund's management. Our responsibility is to express an opinion on these
financial statements and financial highlights based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements and
financial highlights are free of material misstatement. An audit includes
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements and financial highlights. Our procedures included
confirmation of investments owned as of December 31, 2003, by correspondence
with the custodian. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Skyline Special Equities Portfolio at December 31, 2003, the results of its
operations for the year then ended, the changes in its net assets for each of
the two years in the period then ended, and the financial highlights for each of
the five years in the period then ended, in conformity with accounting
principles generally accepted in the United States.
/s/ Ernst & Young LLP
Chicago, Illinois
February 20, 2004
22
<Page>
FEDERAL TAX STATUS OF 2003 DIVIDENDS
Capital gain dividends paid to you, whether received in cash or reinvested in
shares, must be included in your federal income tax return and must be reported
by the Fund to the Internal Revenue Service in accordance with U.S. Treasury
Department regulations. Short-term capital gain dividends paid to you are
taxable as ordinary income. Long-term capital gain dividends paid to you are
taxable as long-term capital gain income regardless of how long you have held
Fund shares. Distributions as a return of capital are not taxable, but reduce
the cost basis of shares held.
MANAGEMENT OF SKYLINE
The Board of Trustees serve indefinite terms of unlimited duration so long as a
majority of trustees have been elected by Skyline's shareholders. The trustees
appoint their own successors, provided that at least two-thirds of the trustees,
after such appointment, have been elected by Skyline's shareholders. Skyline's
shareholders may remove a trustee, with or without cause, upon the declaration
in writing or vote of two-thirds of Skyline's outstanding shares. A trustee may
be removed with or without cause upon the written declaration of a majority of
the trustees.
The names of the trustees and officers of Skyline, the year each was first
elected or appointed to office, their principal business occupations and other
directorships they have held during at least the last five years, are shown
below.
<Table>
<Caption>
NAME, POSITION(S) WITH YEAR FIRST ELECTED
SKYLINE AND AGE AT OR APPOINTED TO PRINCIPAL OCCUPATION(S) DURING
DECEMBER 31, 2003 OFFICE PAST FIVE YEARS OTHER DIRECTORSHIPS
- -------------------------- ----------------------- -------------------------------- -------------------------
TRUSTEES WHO ARE NOT INTERESTED PERSONS OF SKYLINE:
William L. Achenbach, 61, 1995 President, W.L. Achenbach & None.
Trustee Associates, Inc., a financial
counseling firm.
Paul J. Finnegan, 50, 1995 Co-President & Managing Rural Cellular
Trustee Director, Madison Dearborn Corporation, Allegiance
Partners, Inc., a private equity Telecom, Inc.
firm.
David A. Martin, 52, 1995 Attorney and Principal, None.
Trustee Righeimer, Martin & Cinquino,
P.C., a law firm.
</Table>
23
<Page>
<Table>
<Caption>
NAME, POSITION(S) WITH YEAR FIRST ELECTED
SKYLINE AND AGE AT OR APPOINTED TO PRINCIPAL OCCUPATION(S) DURING
DECEMBER 31, 2003 OFFICE PAST FIVE YEARS OTHER DIRECTORSHIPS
- -------------------------- ----------------------- -------------------------------- -------------------------
Richard K. Pearson, 64, 1998 Director and President, First Director, First Community
Trustee DuPage Bank (Westmont, IL) Bank (Milton, WI).
since June 1999, Director and
President, First DuPage
Bancorp, Inc., (Westmont,
Illinois) since November 1998.
Previously, Director, Citizens
Savings Bank (Anamosa, Iowa),
from February 1998 to January
2001.
TRUSTEE WHO IS AN INTERESTED PERSON OF SKYLINE:
William M. Dutton,* 50, 1995 Managing Partner, Research and None.
President and Trustee Portfolio Management, Skyline
Asset Management, L.P. and
registered representative,
Funds Distributor, Inc.
Previously, Portfolio Manager,
Skyline Asset Management, L.P.
OFFICERS OF SKYLINE:
Stephen F. Kendall, 49, 1998 Partner and Chief Operating None.
Executive Vice President, Officer, Skyline Asset
Treasurer and Secretary Management, L.P.
Geoffrey P. Lutz, 53, 1995 Partner, Institutional None.
Executive Vice President Marketing, Skyline Asset
Management, L.P. and
registered representative,
Funds Distributor, Inc.
Michael Maloney, 41, 1995 Partner, Research and None.
Executive Vice President Portfolio Management, Skyline
Asset Management, L.P.
Michele M. Brennan, 32, 1998 Director of Fund Marketing, None.
Vice President Skyline Asset Management, L.P.
and registered representative,
Funds Distributor, Inc.
</Table>
* Mr. Dutton is an "interested person" of Skyline, as defined in the Investment
Company Act of 1940, because he is an officer of the Adviser.
24
<Page>
The address of Messrs. Dutton, Kendall, Lutz, and Maloney and Ms. Brennan is c/o
Skyline Asset Management, L.P., 311 South Wacker Drive, Suite 4500, Chicago,
Illinois 60606. The addresses of the other trustees are: William L. Achenbach,
510 East Main Street, Charlottesville, Virginia 22902; Paul J. Finnegan, Three
First National Plaza, Suite 3800, Chicago, Illinois 60602; David A. Martin, 20
North Clark Street, Suite 1900, Chicago, Illinois 60602; and Richard K. Pearson,
3510 Spring Road, Oak Brook, Illinois 60523.
Skyline's Statement of Additional Information includes additional information
about Skyline's trustees and officers. You may obtain a free copy of the
Statement of Additional Information, or request any other information and
discuss your questions about us, by writing or calling toll-free:
Skyline Funds
c/o U.S. Bancorp Fund Services, LLC
P.O. Box 701
Milwaukee, WI 53201-0701
800.828.2759
The Statement of Additional Information includes additional information about
the Fund's directors and is available, without charge, upon request
800.828.2759.
PROXY POLICY & PROCEDURES
A description of the policies and procedures that the Fund uses to determine how
to vote proxies relating to portfolio securities is available without charge,
upon request, by calling 800.828.2759, and on the Securities and Exchange
Commission's website at www.sec.gov.
REPORT FOR THE YEAR ENDED DECEMBER 31, 2003
This report, including the audited financial statements contained herein, is
submitted for the general information of the shareholders of the Fund.
Funds Distributor Inc. is the principal underwriter of Skyline Funds.
25
<Page>
For 24-hour account information CALL: 1.800.828.2SKY
(1.800.828.2759)
To speak with a Skyline Funds Representative during normal business hours CALL:
1.800.828.2SKY and press 0 when prompted.
To learn more about our expertise in small cap value, and to view up-to-date
Fund information, please visit our website at www.skylinefunds.com
[SKYLINE FUNDS LOGO]
311 South Wacker Drive
Suite 4500
Chicago, Illinois 60606
<Page>
ITEM 2. CODE OF ETHICS.
(a) Registrant has adopted a code of ethics that applies to its principal
executive and senior financial officers (the "Code").
(b) No disclosures are required by this Item 2(b).
(c) During the period covered by the report, registrant did not make any
amendments to the provisions of the Code.
(d) During the period covered by the report, registrant did not grant any
waivers, including implicit waivers, from the provisions of the Code.
(e) Not applicable.
(f) A copy of the Code is filed as Exhibit (a)(1) to this Form N-CSR.
ITEM 3. AUDIT COMMITTEE FINANCIAL EXPERT.
Registrant's board of trustees has determined that Richard K. Pearson, a member
of the registrant's Committee of the Independent Trustess, qualifies as an
"audit committee financial expert," as such term is defined in Instruction 2(b)
to Item 3 of Form N-CSR. Mr. Pearson is "independent" as such term is defined in
paragraph (a)(2) of Item 3 of Form N-CSR.
Under applicable securities laws, a person who is determined to be an audit
committee financial expert will not be deemed an "expert" for any purpose,
including without limitation for the purposes of Section 11 of the Securities
Act of 1933, as a result of being designated or identified as an audit committee
financial expert. The designation or identification of a person as an audit
committee financial expert does not impose on such person any duties,
obligations, or liabilities that are greater than the duties, obligations, and
liabilities imposed on such person as a member of the audit committee and board
of trustees in the absence of such designation or identification.
ITEM 4. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
(a) AUDIT FEES
$23,000 (2003) and $21,500 (2002) are the aggregate fees billed in each of
the last two fiscal years for professional services rendered by the principal
accountant to the registrant for the audit of the registrant's annual
financial statements or services that are normally provided by the accountant
in connection with statutory and regulatory filings or engagements for those
fiscal years. Please note that the registrant does not actually pay those
fees. Under the registrant's comprehensive management fee agreement, the
registrant's investment adviser pays those fees.
(b) AUDIT-RELATED FEES
There were no fees billed in each of the last two fiscal years for assurance
and related services rendered by the principal accountant to the
<Page>
registrant that are reasonably related to the performance of the audit of the
registrant's financial statements and are not reported under paragraph (a) of
this Item 4.
There were no fees billed in each of the last two fiscal years for assurance
and related services rendered by the principal accountant to the registrant's
investment adviser and any entity controlling, controlled by or under common
control with the investment adviser that provides ongoing services to the
registrant (collectively, the "investment adviser") that are reasonably
related to the performance of the audit of the registrant's financial
statements, are not reported under paragraph (a) of this Item 4 and were
required to be pre-approved by the audit committee as described in paragraph
(e)(1) of this Item 4.
(c) TAX FEES
$15,440 (2003) and $4,000 (2002) are the aggregate fees billed in each of the
last two fiscal years for professional services rendered by the principal
accountant to the registrant for tax compliance, tax advice and tax planning.
Please note that the registrant does not actually pay for those fees. Under
the registrant's comprehensive management fee agreement, the registrant's
investment adviser pays those fees. The nature of those services was for
qualified dividend income preparation and various tax consultations.
There were no fees billed in each of the last two fiscal years for
professional services rendered by the principal accountant to the investment
adviser for tax compliance, tax advice and tax planning and were required to
be pre-approved by the audit committee as described in paragraph (e)(1) of
this Item 4.
(d) ALL OTHER FEES
There were no fees billed in each of the last two fiscal years for products
and services provided by the principal accountant to the registrant, other
than the services reported in paragraphs (a)-(c) of this Item 4.
There were no fees billed in each of the last two fiscal years for products
and services provided by the principal accountant to the investment adviser,
other than the services reported in paragraphs (a)-(c) of this Item 4, that
were required to be pre-approved by the audit committee as described in
paragraph (e)(1) of this Item 4.
(e)(1) Registrant's Committee of Independent Trustees meets with the
principal accountants and management to review and pre-approve all audit
services to be provided by the principal accountants.
The Committee of Independent Trustees shall pre-approve all non-audit
services to be provided by the principal accountants to the registrant;
provided that the pre-approval requirement does not apply to non-audit
services that (i) were not identified as such at the time of the pre-approval
and (ii) do not aggregate more than 5% of total revenues paid to the
principal accountants by the registrant during the fiscal year in which the
services are provided, if
<Page>
the Committee of Independent Trustees approves the provision of such
non-audit services prior to the completion of the audit.
The Committee of Independent Trustees shall pre-approve all non-audit
services to be provided by the principal accountants to the investment
adviser where the nature of the services provided have a direct impact on the
operations or financial reporting of the registrant; provided that the
pre-approval requirement does not apply to non-audit services that (i) were
not identified as such at the time of the pre-approval and (ii) do not
aggregate more than 5% of total revenue paid to the principal accountants by
the registrant for all services and by the registrant's investment adviser
for services where the nature of the services provided have a direct impact
on the operations or financial reporting of the registrant during the fiscal
year in which those services are provided, if the Committee of Independent
Trustees approves the provision of such non-audit services prior to the
completion of the audit.
(2) 100% of the services provided to the registrant described in
paragraphs (b)-(d) of this Item 4 were pre-approved by the Committee of
Independent Trustees pursuant to paragraph (e)(1) of this Item 4. There were
no services provided to the investment adviser described in paragraphs
(b)-(d) of this Item 4.
(f) No disclosures are required by this Item 4(f).
(g) $15,440 (2003) and $4,000 (2002) are the aggregate non-audit fees billed
in each of the last two fiscal years for services rendered by the principal
accountant to the registrant. Please note that the registrant does not
actually pay those fees. Due to the registrant's comprehensive management
fee, the registrant's investment adviser pays those fees. There were no
non-audit fees billed in each of the last two fiscal years for services
rendered by the principal accountant to the investment adviser.
(h) No disclosures are required by this Item 4(h).
ITEM 5. AUDIT COMMITTEE OF LISTED REGISTRANTS
Not applicable.
ITEM 6. [RESERVED]
Not applicable.
ITEM 7. DISCLOSURE OF PROXY VOTING POLICIES AND PROCEDURES FOR CLOSED-END
MANAGEMENT INVESTMENT COMPANIES.
Not applicable.
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ITEM 8. PURCHASES OF EQUITY SECURITIES BY CLOSED-END MANAGEMENT INVESTMENT
COMPANY AND AFFILIATED PURCHASERS.
Not applicable.
ITEM 9. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
ITEM 10. CONTROLS AND PROCEDURES.
(a) Based on an evaluation of the disclosure controls and procedures (as defined
in Rule 30a-3(c) under the Investment Company Act of 1940, the "Disclosure
Controls") as of a date within 90 days prior to the filing date (the "Filing
Date") of this Form N-CSR (the "Report"), the Disclosure Controls are
effectively designed to ensure that information required to be disclosed by the
registrant in the Report is recorded, processed, summarized and reported by the
Filing Date, including ensuring that information required to be disclosed in the
Report is accumulated and communicated to the registrant's management, including
the registrant's principal executive officer and principal financial officer, as
appropriate to allow timely decisions regarding required disclosure.
(b) There were no changes in the registrant's internal controls over financial
reporting (as defined in Rule 30a-3(d) under the Investment Company Act of 1940)
that occurred during the registrant's most recent fiscal year that has
materially affected, or is reasonably likely to materially affect, the
registrant's internal control over financial reporting.
ITEM 11. EXHIBITS.
(a) (1) Code of Ethics for Principal Executive and Senior Financial Officers (as
referenced in Item 2 above), attached hereto as Exhibit (a)(1)
(2) Certifications of William M. Dutton, President and Trustee of Skyline
Funds and Stephen F. Kendall, Executive Vice President, Treasurer and
Secretary of Skyline Funds pursuant to Rule 30a-2(a) under the
Investment Company Act of 1940 (17 CFR 270.30a-2(a)), attached hereto as
Exhibits (a)(2)(i) and (a)(2)(ii)
(b) Certification of William M. Dutton, President and Trustee of Skyline
Funds and Stephen F. Kendall, Executive Vice President, Treasurer and
Secretary of Skyline Funds pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002, attached hereto as Exhibit (b)
<Page>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
Skyline Funds
By: /s/ William M. Dutton
--------------------------------------------------
William M. Dutton
President and Trustee
(Principal Executive Officer)
Date: March 2, 2004
--------------------------------------------------
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
By: /s/ William M. Dutton
--------------------------------------------------
William M. Dutton
President and Trustee
(Principal Executive Officer)
Date: March 2, 2004
--------------------------------------------------
By: /s/ Stephen F. Kendall
--------------------------------------------------
Stephen F. Kendall
Executive Vice President, Treasurer and
Secretary
(Principal Financial Officer)
Date: March 2, 2004
--------------------------------------------------