UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-CSRS
CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT
INVESTMENT COMPANIES
Investment Company Act file number 811-8603
Name of Fund: Debt Strategies Fund, Inc.
Fund Address: P.O. Box 9011
Princeton, NJ 08543-9011
Name and address of agent for service: Terry K. Glenn, President, Debt
Strategies Fund, Inc., 800 Scudders Mill Road, Plainsboro, NJ 08536.
Mailing address: P.O. Box 9011, Princeton, NJ 08543-9011
Registrant's telephone number, including area code: (609) 282-2800
Date of fiscal year end: 02/29/04
Date of reporting period: 03/01/04 - 08/31/04
Item 1 - Report to Stockholders
[LOGO] Merrill Lynch Investment Managers www.mlim.ml.com
Debt Strategies Fund, Inc.
Semi-Annual Report
August 31, 2004
[LOGO] Merrill Lynch Investment Managers
Debt Strategies Fund, Inc.
The Benefits and Risks of Leveraging
Debt Strategies Fund, Inc. utilizes leverage through borrowings or issuance of
short-term debt securities or shares of Preferred Stock. The concept of
leveraging is based on the premise that the cost of assets to be obtained from
leverage will be based on short-term interest rates, which normally will be
lower than the income earned by the Fund on its longer-term portfolio
investments. To the extent that the total assets of the Fund (including the
assets obtained from leverage) are invested in higher-yielding portfolio
investments, the Fund's Common Stock shareholders will benefit from the
incremental yield.
Leverage creates risks for holders of Common Stock including the likelihood of
greater net asset value and market price volatility. In addition, there is the
risk that fluctuations in interest rates on borrowings (or in the dividend rates
on any Preferred Stock, if the Fund were to issue Preferred Stock) may reduce
the Common Stock's yield and negatively impact its net asset value and market
price. If the income derived from securities purchased with assets received from
leverage exceeds the cost of leverage, the Fund's net income will be greater
than if leverage had not been used. Conversely, if the income from the
securities purchased is not sufficient to cover the cost of leverage, the Fund's
net income will be less than if leverage had not been used, and therefore the
amount available for distribution to Common Stock shareholders will be reduced.
Proxy Results
During the six-month period ended August 31, 2004, Debt Strategies Fund, Inc.'s
shareholders voted on the following proposal. The proposal was approved at a
shareholders' meeting on August 25, 2004. A description of the proposal and
number of shares voted are as follows:
- -----------------------------------------------------------------------------------------------------------
Shares Voted Shares Withheld
For From Voting
- -----------------------------------------------------------------------------------------------------------
1. To elect the Fund's Board of Directors: Terry K. Glenn 96,016,520 4,023,082
Ronald W. Forbes 96,125,034 3,914,568
Cynthia A. Montgomery 96,025,665 4,013,937
Kevin A. Ryan 95,968,497 4,071,105
Roscoe S. Suddarth 95,976,809 4,062,793
Richard R. West 96,000,027 4,039,575
Edward D. Zinbarg 95,982,293 4,057,309
- -----------------------------------------------------------------------------------------------------------
Availability of Quarterly Schedule of Investments
The Fund files its complete schedule of portfolio holdings with the Securities
and Exchange Commission ("SEC") for the first and third quarters of each fiscal
year on Form N-Q. The Fund's Forms N-Q are available on the SEC's Web site at
http://www.sec.gov. The Fund's Forms N-Q may also be reviewed and copied at the
SEC's Public Reference Room in Washington, DC. Information on the operation of
the Public Reference Room may be obtained by calling 1-800-SEC-0330.
2 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
A Letter From the President
Dear Shareholder
In recent months, the Federal Reserve Board (the Fed) has taken center stage as
it shifts away from its long-accommodative monetary stance. The Fed raised the
Federal Funds rate 75 basis points (.75%) in three separate moves since June,
bringing the target short-term interest rate to 1.75% -- still low by historical
standards. The Fed has been deliberate in telegraphing its intention to take a
"measured" approach to interest rate increases in order to avoid upsetting the
economy or the financial markets, while still leaving room to move more
aggressively if inflation and economic growth accelerate more than anticipated.
The forward curve currently projects further increases in short-term interest
rates before year-end. In addition to the Fed policy change, the financial
markets recently have had to grapple with a tense geopolitical environment,
higher oil prices and the worry and anticipation that accompanies a presidential
election.
The transition to higher rates can cause concern among equity and fixed income
investors alike. For bond investors, rising interest rates means the value of
older issues declines because they bear the former lower interest rates. In
addition, increasing inflation erodes the purchasing power of fixed income
securities. Nevertheless, for the six-month and 12-month periods ended August
31, 2004, fixed income markets provided positive results. For example, the
Lehman Brothers Aggregate Bond Index returned +1.15% and +6.13%; the Credit
Suisse First Boston High Yield Index returned +3.42% and +14.68%; and the
Citigroup Mortgage Index returned +1.79% and +6.07% for the six-month and
12-month periods, respectively.
As always, our investment professionals are closely monitoring the markets, the
economy and the overall environment in an effort to make well-informed decisions
for the portfolios they manage. Our goal is to provide shareholders with
competitive returns, while always keeping one eye on managing the unavoidable
risk inherent in investing.
We thank you for trusting Merrill Lynch Investment Managers with your investment
assets, and we look forward to serving you in the months and years ahead.
Sincerely,
/s/ Terry K. Glenn
Terry K. Glenn
President and Director
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 3
[LOGO] Merrill Lynch Investment Managers
A Discussion With Your Fund's Portfolio Manager
The Fund provided positive returns for the period, outperforming its
blended benchmark due to an overweight position in high yield bonds and our use
of leverage.
How did the Fund perform during the period in light of the existing market
conditions?
For the six-month period ended August 31, 2004, the Common Stock of Debt
Strategies Fund, Inc. had net annualized yields of 9.77% and 9.71%, based on a
period-end per share net asset value of $6.74 and a per share market price of
$6.78, respectively, and $.332 per share income dividends. Over the same period,
the total investment return on the Fund's Common Stock was +5.64%, based on a
change in per share net asset value from $6.71 to $6.74, and assuming
reinvestment of $.334 per share ordinary income dividends. The Fund's benchmark,
which is an equal blend of the Credit Suisse First Boston (CSFB) High Yield
Index and the CSFB Leveraged Loan Index, returned +2.85% for the same period.
For a description of the Fund's total investment return based on a change in the
per share market value of the Fund's Common Stock (as measured by the trading
price of the Fund's shares on the New York Stock Exchange), and assuming
reinvestment of dividends, please refer to the Financial Highlights section of
this report. As a closed-end fund, the Fund's shares may trade in the secondary
market at a premium or discount to the Fund's net asset value. As a result,
total investment returns based on changes in the market value of the Fund's
Common Stock can vary significantly from total investment returns based on
changes in the Fund's net asset value.
The rate of high yield bond issuance has kept pace with that of 2003, with high
yield proceeds of $66 billion in the first half of 2004 versus $68 billion in
the first half of 2003. As in 2003, this year's issuance has consisted primarily
of refinancing activity (75%), as corporate treasurers capitalized on the
relatively low interest rate environment. During this period, there was a
troublesome trend whereby companies were issuing zero-coupon debt at the holding
company to finance dividends to equity sponsors. This activity had a
"double-barreled" impact on leverage -- increasing debt while decreasing equity
- -- and often stretched credit parameters beyond reasonable limits. However, the
market eventually pushed back and we have seen this trend subside. Nevertheless,
the high yield market's risk appetite has been steadily increasing. The
percentage of transactions rated B or lower has risen from 45% in 2001 to 54% in
2002, 63% in 2003 and 68% in the first half of 2004. This trend may persist as
the forecast default rate continues to decline. Moody's Investors Service is
predicting a 2004 default rate of 2.3%, compared to 4.13% in 2003.
Technicals in the leveraged bank loan market were similar to those of the high
yield market. Refinancing accounted for 81% of bank loan issuance in the first
half of 2004, while investor demand for bank loans soared. The resulting
supply/demand imbalance prompted tighter spreads, smaller allocations and
transaction upsizing. For example, the average spread on B-rated loans
compressed from 350 basis points (3.5%) in September 2003 to 291 basis points in
August 2004.
What were the reasons for the Fund's outperformance of its benchmark?
The Fund's outperformance was driven primarily by our overweight position in
high yield bonds. We rebalanced the Fund toward fixed rate investments after the
events of September 11, 2001, as the Federal Reserve Board (the Fed) cut the
Federal Funds rate from 3.5% to 1.0% by June 2003. The interest rate cuts had
dramatically reduced the yield on the LIBOR-based bank loan component of the
portfolio. (LIBOR refers to the London Interbank Offer Rate. The three-month
LIBOR is the base upon which nearly all our bank loans and floating rate notes
are set.)
Also contributing to the Fund's outperformance was our ample use of the Fund's
leverage lines. We use commercial paper-based borrowings for leverage up to a
maximum of 33% of the Fund's total assets. The average amount of Fund leverage
during the six-month period was 28.6%. (For a complete discussion of the
benefits and risk of leverage, refer to page 2 of this report to shareholders.)
Top-performing portfolio holdings during the period included High Voltage
Engineering Corporation (HVE), Vectura Group (also known as American Commercial
Lines or ACL) and Western Forest Products Inc. HVE manufactures industrial power
control systems. On March 1, 2004, HVE filed a
4 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
prepackaged Chapter 11 plan whereby our $10 million bond investment would be
converted to equity. The price of this bond, which we purchased as a distressed
credit, rallied from 25 to 51 during the period after the company filed its
reorganization disclosure statement, which contained promising financial
projections.
Another distressed investment, ACL is an inland waterway barge transportation
company that filed Chapter 11 in January 2003. Our $10 million bond position
repriced from 28 to 58, owing to better operating conditions and prospects for
improved creditor recoveries.
Western Forest Products is the successor company to Doman Industries, the
Canadian paper company that emerged from Chapter 11 in July 2004. We purchased
$7.3 million (face value) worth of units, comprising 15% senior secured notes
and common shares. The value of this investment rose to $9.93 million as of
August 31, 2004, based on the prospects for much-improved profitability going
forward.
Investments that detracted from performance included Pegasus Satellite
Communications, Inc. (PGTV), New World Pasta Company (NWP) and International
Utility Structures Inc. (IUSI). Two of the Fund's holdings in Direct TV
re-marketing company PGTV collapsed during the period. Our $10 million senior
note position fell from 89 to 66, while our $3.5 million preferred position
dropped from 82 to 1. Our hopes for a favorable resolution of some longstanding
litigation issues following Newscorp's acquisition of Direct TV were not
fulfilled. PGTV filed Chapter 11 on June 2, 2004.
The Fund's $28 million distressed investment in NWP declined in price from 15 to
7 during the period. Operational difficulties, a high debt burden and sluggish
pasta sales combined to force a Chapter 11 filing in the second quarter.
IUSI is another distressed investment. We took the price of our $8 million bond
position to zero from 22 during the period. Following a bankruptcy filing by the
company, we engaged a crisis manager to help liquidate the company's two main
operations in France and Kansas. These efforts have failed, and we expect a
complete write-off here.
What changes were made to the portfolio during the period?
We continued to reposition the portfolio during the period, shifting to an
allocation of 70% fixed rate and 30% floating rate investments. This compared to
a composition of 80% fixed rate and 20% floating rate last year. Given the
robust demand for bank loans, allocations were usually a small percentage of our
original order. To achieve our 70% fixed/30% floating rate target, we purchased
$70 million in floating rate notes during the six-month period.
We continue to believe that the downside risk associated with rising interest
rates outweighs the benefits we may see from a bond rally. At period-end, the
Fed had already initiated two interest rate hikes of 25 basis points. There was
a third quarter-point increase in September, bringing the target short-term
interest rate to 1.75%. This, and the prospect of additional interest rate
hikes, served to raise the three-month LIBOR rate from 1.12% at August 31, 2003,
to 1.80% at August 31, 2004.
How would you characterize the Fund's position at the close of the period?
We would characterize our position at period-end as defensive while still
focused on maintaining the Fund's attractive yield. We also continue to be
cautious and selective in adding new positions, and intend to maintain our use
of leverage within a target range of 25% - 30% of total assets.
Kevin J. Booth
Vice President and Portfolio Manager
September 22, 2004
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 5
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (in U.S. dollars)
S&P Moody's Face
Industry@ Ratings Ratings Amount Corporate Debt Obligations Value
===================================================================================================================================
Aerospace & B B2 $ 5,000,000 Alliant Techsystems Inc., 2.75% due 2/15/2024
Defense--2.5% (Convertible) (d) $ 5,068,750
The Titan Corporation:
B B2 2,000,000 8% due 5/15/2011 2,065,000
Ba3 B1 5,984,733 Term B, due 6/30/2009** 6,013,412
B B2 4,920,000 Vought Aircraft Industries, Inc., 8% due 7/15/2011 4,883,100
------------
18,030,262
===================================================================================================================================
Airlines--0.7% BB B3 4,938,027 American Airlines, Inc., 7.379% due 5/23/2016 2,947,963
CCC- Ca 3,300,000 Evergreen International Aviation, Inc., 12% due 5/15/2010 1,947,000
------------
4,894,963
===================================================================================================================================
Automotive B- B3 6,368,000 Accuride Corporation, Term B, due 6/30/2007** 6,525,213
Equipment--4.7% B- B1 2,700,000 Delco Remy International, Inc., 5.60% due 4/15/2009 (a) 2,740,500
B B2 1,550,000 Dura Operating Corporation, 9% due 5/01/2009 1,534,500
B B2 3,500,000 The Goodyear Tire & Rubber Company, Term, due 3/31/2006** 3,545,938
B Caa1 4,900,000 Metaldyne Corporation, 11% due 6/15/2012 4,263,000
B+ B1 2,873,437 NFIL Holdings Inc., Term B, due 2/27/2010** 2,912,051
Tenneco Automotive Inc.:
B- B3 6,375,000 11.625% due 10/15/2009 6,805,312
B- B2 925,000 10.25% due 7/15/2013 1,070,687
B+ B1 2,470,345 Tranche B, due 12/12/2010** 2,516,664
B+ B1 1,117,241 Tranche B-1, Credit Link, due 12/12/2010** 1,140,284
+Venture Holdings Company LLC:
NR* NR* 1,800,000 9.50% due 7/01/2005 72,000
NR* NR* 4,450,000 12% due 6/01/2009 5,562
------------
33,131,711
===================================================================================================================================
Broadcasting--2.1% CCC B3 6,000,000 Granite Broadcasting Corporation, 9.75% due 12/01/2010 5,655,000
B B3 770,000 Sinclair Broadcast Group, Inc., 4.875% due 7/15/2018
(Convertible) 711,288
CCC+ Caa1 8,625,000 XM Satellite Radio Inc., 7.194% due 5/01/2009 (a) 8,775,938
------------
15,142,226
===================================================================================================================================
Cable-- B B3 11,350,000 Kabel Deutschland GmbH, 10.625% due 7/01/2014 (d) 11,633,750
International--4.1% NTL Cable PLC (d):
B- B3 4,700,000 6.61% due 10/15/2012 (a) 4,794,000
B- B3 750,000 8.75% due 4/15/2014 780,000
NR* NR* 6,720,000 Telewest Communications PLC, Term, due 1/16/2006** 11,983,162
------------
29,190,912
===================================================================================================================================
Cable--U.S.--14.4% NR* NR* 7,500,000 +Adelphia Communications Corporation, 6% due 2/15/2006
(Convertible) 1,912,500
CCC+ Caa1 2,000,000 Atlantic Broadband Finance, LLC, 9.375% due 1/15/2014 (d) 1,885,000
BB- B1 3,450,000 CSC Holdings, Inc., 7.25% due 7/15/2008 3,588,000
Century Cable Holdings LLC:**
D Caa1 7,000,000 Discretionary Term Loan, due 12/31/2009 6,826,456
D Caa1 10,000,000 Term, due 6/30/2009 9,770,540
Charter Communications Holdings, LLC:
CCC- Ca 3,750,000 10% due 4/01/2009 3,093,750
CCC- Ca 2,000,000 26.032% due 1/15/2010 (c) 1,610,000
CCC- Ca 2,000,000 11.125% due 1/15/2011 1,670,000
CCC- Ca 2,700,000 9.92% due 4/01/2011 2,133,000
CCC- Ca 3,000,000 10% due 5/15/2011 2,370,000
B B2 15,000,000 Term B, due 4/27/2011** 14,823,435
Inmarsat Investments Limited:**
BB- Ba3 5,000,000 Term B, due 1/23/2017 5,024,530
BB- Ba3 5,000,000 Term C, due 1/23/2012 5,043,280
BB+ Ba3 7,960,000 Insight Midwest Holdings, LLC, Term B, due 12/31/2009** 8,084,996
B+ B2 2,500,000 Insight Midwest, LP, 9.75% due 10/01/2009 2,625,000
NR* NR* 2,500,000 +Loral Cyberstar, Inc., 10% due 7/15/2006 2,037,500
NR* NR* 5,515,955 +Mallard Cablevision LLC & Sun Tel Communications, Term B,
due 9/30/2008** 55,160
B+ B2 5,500,000 Mediacom Broadband LLC, 11% due 7/15/2013 5,953,750
6 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
Schedule of Investments (continued) (in U.S. dollars)
S&P Moody's Face
Industry@ Ratings Ratings Amount Corporate Debt Obligations Value
===================================================================================================================================
Cable--U.S. NR* B2 $ 6,000,000 Olympus Cable Holdings LLC, Term B, due 9/30/2010** $ 5,865,000
(concluded) NR* NR* 1,100,080 Pegasus Media & Communications, Inc., Term,
due 4/30/2005** 1,101,627
NR* NR* 9,500,000 +Pegasus Satellite Communications, Inc., 11.25%
due 1/15/2010 (d) 6,246,250
CCC+ Caa1 10,000,000 Rainbow National Services LLC, 10.375% due 9/01/2014 (d) 10,350,000
------------
102,069,774
===================================================================================================================================
Chemicals--16.1% B+ B1 6,000,000 Arteva Specialties Sarl, 9.25% due 5/01/2012 (d) 6,390,000
B- B3 6,575,000 BCP Caylux Holdings Luxembourg SCA, 9.625%
due 6/15/2014 (d) 7,059,906
B- NR* 4,000,000 Compass Minerals International, Inc., 12%
due 6/01/2013 (c) 3,120,000
Crompton Corporation (d):
B B1 7,000,000 7.67% due 8/01/2010 (a) 7,157,500
B B1 4,675,000 9.875% due 8/01/2012 4,862,000
NR* C 8,700,000 +GEO Specialty Chemicals, Inc., 10.125% due 8/01/2008 4,350,000
CCC+ Caa2 16,000,000 Huntsman International Holdings LLC, 16.865%
due 12/31/2009 (c) 8,160,000
Huntsman International LLC:
B- B3 1,900,000 9.875% due 3/01/2009 2,052,000
CCC+ Caa1 2,000,000 10.125% due 7/01/2009 2,060,000
B B1 3,750,000 Term, due 12/31/2010** 3,806,250
B+ B2 3,150,000 ISP Holdings, Inc., 10.625% due 12/15/2009 3,465,000
B- B3 500,000 Innophos, Inc., 8.875% due 8/15/2014 (d) 520,000
BB Ba3 5,250,000 KoSa BV / INVISTA, Term, due 4/29/2011** 5,282,812
B+ B1 3,550,000 Lyondell Chemical Worldwide, Inc., 9.80% due 2/01/2020 3,585,500
BB- B1 2,400,000 Millennium America Inc., 7.625% due 11/15/2026 2,172,000
BB- B2 7,000,000 Omnova Solutions Inc., 11.25% due 6/01/2010 7,700,000
NR* NR* 7,575,917 PCI Chemicals Canada, 10% due 12/31/2008 7,386,519
NR* NR* 3,342,177 Pinnacle Polymers, Term, due 12/15/2006** 3,384,118
NR* NR* 4,209,457 Pioneer Companies, Inc., 5.086% due 12/31/2006 (a) 3,977,937
B+ B3 9,500,000 PolyOne Corporation, 10.625% due 5/15/2010 10,331,250
Rockwood Specialties Group, Inc.:
B- B3 3,700,000 10.625% due 5/15/2011 4,033,000
B+ B1 3,200,000 Term B, due 7/30/2012** 3,226,573
B- Caa1 2,450,000 Terra Capital, Inc., 11.50% due 6/01/2010 2,731,750
B- B3 750,000 United Agri Products, Inc., 8.25% due 12/15/2011 (d) 810,000
B- B1 6,500,000 Wellman, Inc., Second Lien Term, due 2/10/2010** 6,424,165
------------
114,048,280
===================================================================================================================================
Consumer-- B- Caa1 5,750,000 Sealy Mattress Company, 8.25% due 6/15/2014 (d) 5,936,875
Durables--2.2% Simmons Company:
B- Caa1 4,975,000 7.875% due 1/15/2014 (d) 5,124,250
B+ B3 5,000,000 Term B, due 6/19/2012** 5,046,095
------------
16,107,220
===================================================================================================================================
Consumer-- CCC+ B3 2,500,000 American Safety Razor Company, Term C, due 9/05/2011** 2,512,500
Non-Durables--4.5% B+ Ba3 3,400,000 Chattem, Inc., 4.79% due 3/01/2010 (a) 3,493,500
B- Caa1 2,000,000 General Binding Corporation, 9.375% due 6/01/2008 2,045,000
B- Caa2 9,925,000 Levi Strauss & Co., Term A, due 9/29/2009** 10,801,705
B- Caa1 4,000,000 North Atlantic Holding Company, 12.25% due 3/01/2014 (c) 2,100,000
CCC+ Caa2 10,500,000 Playtex Products, Inc., 9.375% due 6/01/2011 10,670,625
------------
31,623,330
===================================================================================================================================
Diversified B B2 2,000,000 Cadmus Communications Corporation, 8.375%
Media--3.1% due 6/15/2014 (d) 2,125,000
Houghton Mifflin Company:
B B3 775,000 9.875% due 2/01/2013 808,906
B Caa1 7,525,000 11.328% due 10/15/2013 (c)(d) 4,449,156
BBB- Baa3 7,500,000 Liberty Media Corporation, 0.75% due 3/30/2023
(Convertible) 8,240,625
NR* NR* 1,800,000 +Loews Cineplex Entertainment Corporation, 8.875%
due 8/01/2008 22,320
CCC Ca 2,675,000 Muzak Holdings, LLC, 13% due 3/15/2010 2,059,750
CCC+ Caa2 3,875,000 NBC Acquisition Corp., 11% due 3/15/2013 (c) 2,654,375
CCC+ Caa1 1,700,000 Nebraska Book Company, Inc., 8.625% due 3/15/2012 1,691,500
------------
22,051,632
=========================================================================================================
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 7
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (continued) (in U.S. dollars)
S&P Moody's Face
Industry@ Ratings Ratings Amount Corporate Debt Obligations Value
===================================================================================================================================
Energy--Exploration CCC+ Caa1 $ 8,900,000 Continental Resources, Inc., 10.25% due 8/01/2008 $ 9,200,375
& Production--1.6% Quest Cherokee, LLC:**
NR* NR* 222,222 LC Facility, due 7/25/2010 223,889
B B2 1,777,778 Term B, due 7/25/2010 1,791,111
------------
11,215,375
===================================================================================================================================
Energy--Other--5.8% Dresser, Inc.:
B B2 1,000,000 9.375% due 4/15/2011 1,075,000
BB- Ba3 2,500,000 Term, due 2/25/2010** 2,562,500
BB- Ba3 1,179,094 Term B, due 4/10/2009** 1,196,964
NR* Caa3 2,244,000 Energy Corporation of America, 9.50% due 5/15/2007 2,131,800
Giant Industries, Inc.:
B- NR* 9,020,000 11% due 5/15/2012 10,215,150
B- B3 3,525,000 8% due 5/15/2014 3,551,437
BBB Baa2 7,500,000 Halliburton Company, 3.125% due 7/15/2023
(Convertible) (d) 8,137,500
Star Gas Partners, LP:
B B3 5,500,000 10.25% due 2/15/2013 5,940,000
B B3 3,000,000 10.25% due 2/15/2013 (d) 3,240,000
D Ca 6,000,000 +Trico Marine Services, Inc., 8.875% due 5/15/2012 2,880,000
------------
40,930,351
===================================================================================================================================
Finance--1.6% NR* NR* 1,500,000 Investcorp SA, Term, due 10/21/2008** 1,497,519
NR* Ca 2,277,618 Pennant CBO Limited, 13.43% due 3/14/2011 (d)(f) 1,138,809
B B3 7,625,000 Refco Finance Holdings LLC, 9% due 8/01/2012 (d) 7,891,875
+SKM-Libertyview CBO I Limited (d)(f):
NR* Ca 1,500,000 8.71% due 4/10/2011 675,000
NR* C 1,000,000 11.91% due 4/10/2011 80,000
------------
11,283,203
===================================================================================================================================
Food/Tobacco--5.8% NR* NR* 3,095,261 +Archibald Candy Corporation, 10% due 11/01/2007 1,888,109
Atkins Nutritionals, Inc.:**
NR* NR* 2,412,500 First Lien, due 11/26/2009 2,147,125
NR* NR* 2,500,000 Second Lien, due 11/26/2009 2,158,333
Commonwealth Brands, Inc. (d):
NR* NR* 4,550,000 9.75% due 4/15/2008 4,811,625
NR* NR* 8,000,000 10.625% due 9/01/2008 8,460,000
CCC B2 1,175,000 Doane Pet Care Company, 10.75% due 3/01/2010 1,245,500
B+ B2 3,825,000 Dole Food Company, Inc., 8.875% due 3/15/2011 4,092,750
NR* NR* 4,042,883 Dr Pepper Bottling, Term B, due 12/19/2010** 4,088,997
B- B2 4,425,000 Gold Kist Inc., 10.25% due 3/15/2014 (d) 4,867,500
B+ B1 2,493,750 Luigino's, Inc., Term, due 4/02/2011** 2,518,688
NR* NR* 28,918,000 +New World Pasta Company, 9.25% due 2/15/2009 2,024,260
B- Caa1 4,800,000 Tabletop Holdings, Inc., 12.25% due 5/15/2014 (c)(d) 2,808,000
------------
41,110,887
===================================================================================================================================
Gaming--3.0% NR* NR* 13,000,000 +Aladdin Gaming LLC, 13.50% due 3/01/2010 1
NR* NR* 4,828,916 Buffington Harbor Parking Associates LLC, Term B,
due 7/01/2011** 4,840,988
B B3 4,000,000 Inn of the Mountain Gods Resort and Casino, 12%
due 11/15/2010 4,520,000
B B2 2,000,000 Jacobs Entertainment, Inc., 11.875% due 2/01/2009 2,245,000
B B2 1,825,000 The Majestic Star Casino, LLC, 9.50% due 10/15/2010 1,866,062
B+ B2 3,264,091 Marina District Finance Co. (Borgota), Term B,
due 5/31/2007** 3,282,452
CCC+ Caa1 254,000 Pinnacle Entertainment, Inc., 9.25% due 2/15/2007 (d) 261,302
B B2 4,000,000 Venetian Casino Resort, LLC, 11% due 6/15/2010 4,555,000
------------
21,570,805
=========================================================================================================
8 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
Schedule of Investments (continued) (in U.S. dollars)
S&P Moody's Face
Industry@ Ratings Ratings Amount Corporate Debt Obligations Value
===================================================================================================================================
Health Care--4.1% HealthSouth Corporation:
NR* NR* $ 2,500,000 8.50% due 2/01/2008 $ 2,500,000
NR* NR* 2,500,000 10.75% due 10/01/2008 2,587,500
NR* NR* 5,000,000 7.625% due 6/01/2012 4,787,500
NR* NR* 4,500,000 Term A, due 1/16/2011** 4,635,000
B B1 3,434,469 MedPointe Inc., Term B, due 9/30/2008** 3,448,423
B- B3 6,000,000 Tenet Healthcare Corporation, 7.375% due 2/01/2013 5,550,000
B B3 1,400,000 VWR International, Inc., 8% due 4/15/2014 (d) 1,445,500
CCC+ B3 3,325,000 Vanguard Health Systems, Inc., 9.75% due 8/01/2011 3,857,000
------------
28,810,923
===================================================================================================================================
Housing--1.0% NR* NR* 421,312 Formica Holdings Corporation, 7.86% due 6/10/2011 400,246
BB Ba1 4,000,000 Lone Star Industries Inc., 8.85% due 6/15/2005 (d) 4,116,152
NR* NR* 2,219,401 Trussway Industries Inc., Term B, due 12/31/2006** 1,803,264
B- B3 1,000,000 U.S. Concrete, Inc., 8.375% due 4/01/2014 1,025,000
------------
7,344,662
===================================================================================================================================
Information BB+ Ba2 4,725,000 Freescale Semiconductor, Inc., 4.38% due 7/15/2009 (a)(d) 4,807,687
Technology--0.7% NR* NR* 2,435,874 +Trend Technologies, Inc., Term, due 2/28/2007** 0
------------
4,807,687
===================================================================================================================================
Leisure--3.3% B- B1 12,000,000 FelCor Lodging LP, 5.84% due 6/01/2011 (a)(d) 12,060,000
B+ B1 8,250,000 Intrawest Corporation, 10.50% due 2/01/2010 8,879,062
Wyndham International, Inc.:**
NR* NR* 1,105,832 Increasing Rate Term II, due 4/01/2006 1,096,985
NR* Caa3 1,615,386 Term I, due 6/30/2006 1,582,742
------------
23,618,789
===================================================================================================================================
Manufacturing--5.4% B- B3 575,000 Aearo Company, 8.25% due 4/15/2012 589,375
B- B2 2,550,000 Da-Lite Screen Company, Inc., 9.50% due 5/15/2011 (d) 2,677,500
B- B3 4,000,000 Eagle-Picher Incorporated, 9.75% due 9/01/2013 4,310,000
NR* NR* 11,200,000 High Voltage Engineering Corporation, Term B,
due 7/31/2007** 11,592,000
NR* Caa3 8,350,000 +International Utility Structures Inc., 10.75%
due 2/01/2008 1
B+ B1 5,000,000 Invensys International Holdings Ltd., Second Lien Term,
due 10/25/2009** 5,165,625
B- B3 5,875,000 Invensys PLC, 9.875% due 3/15/2011 (d) 5,963,125
B- Caa1 3,300,000 Mueller Group, Inc., 10% due 5/01/2012 (d) 3,555,750
B+ B3 600,000 NMHG Holding Company, 10% due 5/15/2009 660,000
BBB Baa3 3,000,000 Tyco International Group SA, 2.75% due 1/15/2018
(Convertible) 4,312,500
------------
38,825,876
===================================================================================================================================
Metal--Other--1.3% B+ B1 8,550,000 Massey Energy Company, 6.95% due 3/01/2007 8,977,500
===================================================================================================================================
Packaging--8.2% B+ B2 9,625,000 Anchor Glass Container Corporation, 11% due 2/15/2013 10,972,500
CCC B3 3,800,000 Consolidated Container Company LLC, 10.75%
due 6/15/2009 (c)(d) 3,040,000
B B2 4,400,000 Crown Euro Holdings SA, 10.875% due 3/01/2013 5,115,000
Graham Packaging Company:
CCC+ Caa1 5,000,000 5.485% due 1/15/2008 (a) 5,000,000
CCC+ Caa1 2,000,000 8.75% due 1/15/2008 2,055,000
CCC+ Caa2 5,700,000 Graham Packaging Holdings Company, 10.75% due 1/15/2009 5,920,875
BB- B1 9,857,143 Owens-Illinois Inc., Term C, due 4/01/2008** 9,986,518
B- Caa2 9,800,000 Pliant Corporation, 13% due 6/01/2010 9,016,000
CCC+ Caa1 2,500,000 Radnor Holdings Corporation, 11% due 3/15/2010 2,100,000
Tekni-Plex, Inc.:
B- B3 2,000,000 12.75% due 6/15/2010 1,930,000
B- B2 1,250,000 8.75% due 11/15/2013 (d) 1,200,000
B B2 1,850,000 Wise Metals Group LLC, 10.25% due 5/15/2012 (d) 1,859,250
------------
58,195,143
=========================================================================================================
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 9
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (continued) (in U.S. dollars)
S&P Moody's Face
Industry@ Ratings Ratings Amount Corporate Debt Obligations Value
===================================================================================================================================
Paper--7.2% BB Ba2 $ 6,500,000 Abitibi-Consolidated Inc., 5.02% due 6/15/2011 (a)(d) $ 6,630,000
BB Ba2 7,600,000 Bowater Incorporated, 4.52% due 3/15/2010 (a) 7,562,000
BB+ Ba2 4,250,000 Georgia-Pacific Corporation, 9.375% due 2/01/2013 5,004,375
B- B3 2,000,000 Graphic Packaging International Inc., 9.50% due 8/15/2013 2,240,000
B Caa1 9,149,767 JSG Funding PLC, 15.50% due 10/01/2013 10,522,232
B+ B1 2,487,500 SP Newsprint Co., Term B, due 1/09/2010** 2,523,717
Stone Container Corporation:
B B2 1,600,000 8.375% due 7/01/2012 1,760,000
NR* NR* 3,505,205 Term B, due 6/30/2009** 3,538,066
B+ NR* 460,781 Term C, due 6/30/2009** 465,964
BB- Ba3 3,000,000 Tembec Industries, Inc., 8.625% due 6/30/2009 3,127,500
NR* NR* 7,281,000 Western Forest Products Inc., 15% due 7/28/2009 (b) 8,154,720
------------
51,528,574
===================================================================================================================================
Services--4.2% Allied Waste North America, Inc.:
BB- Ba3 1,440,000 7.875% due 4/15/2013 1,519,200
B+ B2 6,250,000 7.375% due 4/15/2014 6,070,312
NR* C 3,750,000 Anthony Crane Rental Holdings LP, Term, due 7/20/2006** 825,000
B B1 3,200,000 Corrections Corporation of America, 9.875% due 5/01/2009 3,572,000
CCC Caa2 350,000 Great Lakes Dredge & Dock Corporation, 7.75%
due 12/15/2013 290,062
NR* Caa3 1,800,000 +IT Group Inc., 11.25% due 4/01/2009 18
Outsourcing Solutions Inc.:**
NR* NR* 8,537 Revolving Credit, due 12/09/2008 8,367
NR* NR* 4,064,544 Term, due 12/09/2008 4,044,221
B+ B2 7,525,000 United Rentals North America, Inc., 7.75%
due 11/15/2013 (d) 6,998,250
B+ B1 3,990,000 Waste Services, Inc., Term B, due 3/31/2011** 3,885,263
B- B3 2,500,000 Williams Scotsman, Inc., 9.875% due 6/01/2007 2,462,500
------------
29,675,193
===================================================================================================================================
Steel--0.0% NR* NR* 7,711,831 +Acme Metals Incorporated, Term, due 12/01/2005** 1
===================================================================================================================================
Telecommunications-- NR* NR* 5,000,000 ADC Telecommunications, Inc., 2.235% due 6/15/2013
10.4% (Convertible) (a) 4,693,750
B- B2 5,000,000 Alaska Communications System Holdings, Inc., 9.875%
due 8/15/2011 5,000,000
B- B3 7,500,000 Cincinnati Bell Inc., 8.375% due 1/15/2014 6,637,500
B+ B1 2,000,000 Consolidated Communications Acquisition of TXU, Inc.,
Term B, due 10/14/2011** 2,027,500
B- Caa1 11,025,000 FairPoint Communications, Inc., 12.50% due 5/01/2010 11,796,750
Qwest Capital Funding, Inc.:
B Caa2 2,000,000 6.375% due 7/15/2008 1,780,000
B Caa2 6,000,000 7.25% due 2/15/2011 5,130,000
B Caa2 8,200,000 6.875% due 7/15/2028 5,842,500
B B3 7,900,000 Qwest Communications International Inc., 5.211%
due 2/15/2009 (a)(d) 7,347,000
NR* NR* 6,000,000 Terremark Worldwide, Inc., 9% due 6/15/2009
(Convertible) (d) 5,737,500
B B1 7,000,000 Time Warner Telecom Holdings, Inc., 5.711%
due 2/15/2011 (a) 6,825,000
CCC+ B3 8,000,000 Time Warner Telecom, Inc., 9.75% due 7/15/2008 7,760,000
NR* NR* 3,454,305 WilTel Communications Group, Inc., Term, due 5/03/2008** 3,449,987
------------
74,027,487
===================================================================================================================================
Transportation NR* NR* 10,000,000 +American Commercial Lines LLC, 11.25% due 1/01/2008 5,800,000
Services--1.3% B+ B2 2,950,000 Laidlaw International, Inc., 10.75% due 6/15/2011 3,363,000
------------
9,163,000
=========================================================================================================
10 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
Schedule of Investments (continued) (in U.S. dollars)
S&P Moody's Face
Industry@ Ratings Ratings Amount Corporate Debt Obligations Value
===================================================================================================================================
Utilities--6.8% B- B3 $ 1,250,000 The AES Corporation, 8.50% due 11/01/2007 $ 1,278,125
CCC+ Caa1 3,000,000 Calpine Canada Energy Finance ULC, 8.50% due 5/01/2008 1,912,500
Calpine Corporation:
CCC+ Caa1 2,700,000 8.50% due 2/15/2011 1,667,250
B B2 7,920,000 Term B, due 7/15/2007** 6,732,000
BBB- Ba2 7,000,000 CenterPoint Energy, Inc., 3.75% due 5/15/2023
(Convertible) 7,980,000
D NR* 2,300,000 +Mirant Americas Generation LLC, 7.625% due 5/01/2006 1,914,750
Mission Energy Holding Company:
CCC B3 7,100,000 13.50% due 7/15/2008 8,928,250
NR* NR* 3,000,000 Term, due 12/11/2006** 3,015,000
Sierra Pacific Resources:
NR* B2 3,200,000 8.75% due 5/15/2005 3,280,000
B- B2 6,000,000 8.625% due 3/15/2014 (d) 6,300,000
BB- Ba1 1,584,000 TNP Enterprises, Inc., Term, due 12/31/2006** 1,613,700
BB B1 2,000,000 TransWestern Pipeline Company, LLC, Term 2,
due 4/30/2009** 2,018,334
B+ B3 1,425,000 The Williams Companies, Inc., 8.625% due 6/01/2010 1,653,000
------------
48,292,909
===================================================================================================================================
Wireless CCC Caa1 5,500,000 Alamosa (Delaware), Inc., 8.50% due 1/31/2012 5,472,500
Communications--8.5% CCC Caa1 3,000,000 American Tower Corporation, 9.375% due 2/01/2009 3,202,500
B- B2 5,970,000 Centennial Cellular, Term A, due 2/09/2011** 5,990,991
Crown Castle International Corp.:
CCC B3 3,500,000 9.375% due 8/01/2011 4,042,500
CCC B3 13,000,000 7.50% due 12/01/2013 13,000,000
CCC+ B1 2,382,000 Dobson Cellular Systems, Inc., Term, due 3/31/2010** 2,381,107
CCC B3 950,000 Horizon PCS, Inc., 11.375% due 7/15/2012 (d) 973,750
CCC B3 2,500,000 iPCS Escrow Company, 11.50% due 5/01/2012 (d) 2,618,750
B- B3 3,775,000 MobiFon Holdings B.V., 12.50% due 7/31/2010 4,379,000
B- B2 1,600,000 Rural Cellular Corporation, 6.02% due 3/15/2010 (a)(d) 1,624,000
CCC- Caa2 2,150,000 SBA Communications Corporation, 10.25% due 2/01/2009 2,262,875
CCC+ B3 7,400,000 SpectraSite, Inc., 8.25% due 5/15/2010 7,733,000
CCC+ B2 6,600,000 US Unwired Inc., 5.791% due 6/15/2010 (a) 6,699,000
------------
60,379,973
---------------------------------------------------------------------------------------------------------
Total Investments in Corporate Debt Obligations
(Cost--$976,540,733)--134.6% 956,048,648
=========================================================================================================
Shares
Held Common Stocks
===================================================================================================================================
Airlines--0.0% 1,810 US Airways Group, Inc. (Class A) (i) 3,892
===================================================================================================================================
Cable--International--0.4% 245,382 Telewest Global, Inc. 2,834,162
===================================================================================================================================
Chemicals--0.1% 93,826 Pioneer Companies, Inc. 872,582
===================================================================================================================================
Consumer--Non-Durables--0.0% 2,634 Galey & Lord, Inc. 0
===================================================================================================================================
Finance--0.4% 35,000 Preferred Term Securities VI (d) 2,905,000
===================================================================================================================================
Food/Tobacco--0.2% 15,252 Archibald Candy Corporation (j) 153
1,428,423 Viskase Companies, Inc. 1,642,686
------------
1,642,839
===================================================================================================================================
Leisure--0.1% 27,787 Lodgian, Inc. 289,541
===================================================================================================================================
Manufacturing--0.8% 724,291 ACP Holding Company (d) 796,720
509,720 High Voltage Engineering Corporation 4,153,953
21,203 Thermadyne Holdings Corporation 254,436
------------
5,205,109
===================================================================================================================================
Paper--0.3% 211,149 Western Forest Products Inc. (Restricted Shares) 1,730,730
===================================================================================================================================
Services--0.4% 89,976 Outsourcing Solutions Inc. 2,879,232
===================================================================================================================================
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 11
[LOGO] Merrill Lynch Investment Managers
Schedule of Investments (continued) (in U.S. dollars)
Shares
Industry@ Held Common Stocks Value
===================================================================================================================================
Steel--0.0% 41,149 Acme Package Corp. Senior Holdings $ 205,745
===================================================================================================================================
Telecommunications--0.1% 26,457 IDT Corporation 338,001
33,077 IDT Corporation (Class B) 497,147
------------
835,148
===================================================================================================================================
Wireless Communications--0.2% Microcell Telecommunications Inc.
259 (Class A) 6,086
61,867 (Class B) 1,455,584
------------
1,461,670
---------------------------------------------------------------------------------------------------------
Total Investments in Common Stocks
(Cost--$34,617,529)--3.0% 20,865,650
=========================================================================================================
Preferred Stocks
===================================================================================================================================
Airlines--0.0% 1,110 US Airways Group, Inc. (Convertible) (i) 0
===================================================================================================================================
Automotive Equipment--0.8% 200,000 General Motors Corporation (Convertible) 5,568,000
===================================================================================================================================
Broadcasting--0.0% 38 Paxson Communications Corporation (Convertible) (b)(d) 265,300
===================================================================================================================================
Cable--U.S.--0.0% 5,000 Adelphia Communications Corporation 30,000
3,500 Pegasus Satellite Communications, Inc. (j) 35,000
------------
65,000
===================================================================================================================================
Diversified Media--0.9% 250,000 Newscorp Overseas Limited 6,257,500
===================================================================================================================================
Total Investments in Preferred Stocks
(Cost--$12,472,948)--1.7% 12,155,800
=========================================================================================================
Warrants (g)
===================================================================================================================================
Airlines--0.0% 1,110 US Airways Group, Inc. 666
===================================================================================================================================
Broadcasting--0.0% 15,000 Sirius Satellite Radio Inc. 150
===================================================================================================================================
Consumer--Non-Durables--0.0% Galey & Lord, Inc.:
13,858 (Series A) 0
14,583 (Series B) 0
------------
0
===================================================================================================================================
Gaming--0.0% 15,140 Peninsula Gaming Company, LLC 90,842
===================================================================================================================================
Health Care--0.0% 126,761 HealthSouth Corporation 285,212
===================================================================================================================================
Manufacturing--0.1% 652,739 ACP Holding Company 718,013
20,290 Thermadyne Holdings Corporation (Series B) 0
------------
718,013
===================================================================================================================================
Paper--0.0% 17 Cellu Tissue Holdings, Inc., Series A 0
7,000 JSG Funding PLC 70,000
------------
70,000
===================================================================================================================================
Services--0.0% Anthony Crane Rental Holdings LP:
4,769 (Class A) 0
530 (Class L) 0
------------
0
===================================================================================================================================
Wireless Communications--0.1% 1,325 American Tower Escrow Corporation 245,125
11,456 Microcell Telecommunications Inc. 98,858
19,093 Microcell Telecommunications Inc. 153,167
------------
497,150
---------------------------------------------------------------------------------------------------------
Total Investments in Warrants
(Cost--$6,176,284)--0.2% 1,662,033
=========================================================================================================
12 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
Schedule of Investments (concluded) (in U.S. dollars)
Beneficial
Interest Other Interests (e) Value
===================================================================================================================================
$ 3,614,601 Cambridge Industries, Inc. (Litigation Trust
Certificates) (j) $ 36,166
2,641,443 US Airways Group, Inc.--Certificate of Beneficial
Interest 792,468
5,500,000 WilTel Communications Group, Inc. (Litigation Trust
Certificates) (j) 0
- -----------------------------------------------------------------------------------------------------------------------------------
Total Investments in Other Interests
(Cost--$713,190)--0.1% 828,634
===================================================================================================================================
Short-Term Investments
===================================================================================================================================
$7,797,438 Merrill Lynch Liquidity Series, LLC Cash Sweeps Series
I (h) 7,797,438
- -----------------------------------------------------------------------------------------------------------------------------------
Total Short-Term Investments (Cost--$7,797,438)--1.1% 7,797,438
===================================================================================================================================
Total Investments (Cost--$1,038,318,122***)--140.7% 999,358,203
Liabilities in Excess of Other Assets--(40.7%) (289,121,379)
------------
Net Assets--100.0% $710,236,824
============
* Not Rated.
** Floating rate corporate debt in which the Fund invests generally pays
interest at rates that are periodically redetermined by reference to a
base lending rate plus a premium. The base lending rates are generally (i)
the lending rate offered by one or more major European banks, such as
LIBOR (London Interbank Offered Rate), (ii) the prime rate offered by one
or more major U.S. banks or (iii) the certificate of deposit rate.
Corporate loans represent 33.6% of the Fund's net assets.
*** The cost and unrealized appreciation/depreciation of investments as of
August 31, 2004, as computed for federal income tax purposes, were as
follows:
-------------------------------------------------------------------------
Aggregate cost .......................................... $1,038,474,951
==============
Gross unrealized appreciation ........................... $ 57,763,984
Gross unrealized depreciation ........................... (96,880,732)
--------------
Net unrealized depreciation ............................. $ (39,116,748)
==============
+ Non-income producing-issuer filed for bankruptcy or is in default of
interest payments.
@ For Fund compliance purposes, "Industry" means any one or more of the
industry sub-classifications used by one or more widely recognized market
indexes or ratings group indexes, and/or as defined by Fund management.
This definition may not apply for purposes of this report, which may
combine industry sub-classifications for reporting ease.
(a) Floating rate note.
(b) Represents a pay-in-kind security which may pay interest/dividends in
additional face/shares.
(c) Represents a zero coupon or step bond; the interest rate shown reflects
the effective yield at the time of purchase by the Fund.
(d) The security may be offered and sold to "qualified institutional buyers"
under Rule 144A of the Securities Act of 1933.
(e) Other interests represent beneficial interest in liquidation trusts and
other reorganization entities.
(f) Mortgage-Backed Securities are subject to principal paydowns as a result
of prepayments or refinancing of the underlying mortgage instruments. As a
result, the average life may be substantially less than the original
maturity.
(g) Warrants entitle the Fund to purchase a predetermined number of shares of
common stock and are non-income producing. The purchase price and number
of shares are subject to adjustment under certain conditions until the
expiration date.
(h) Investments in companies considered to be an affiliate of the Fund (such
companies are defined as "Affiliated Companies" in Section 2 (a)(3) of the
Investment Company Act of 1940) were as follows:
--------------------------------------------------------------------------
Net Interest
Affiliate Activity Income
--------------------------------------------------------------------------
Merrill Lynch Liquidity Series, LLC
Cash Sweep Series I $6,858,007 $31,864
--------------------------------------------------------------------------
(i) Non-income producing security. Company is in bankruptcy.
(j) Non-income producing security.
See Notes to Financial Statements.
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 13
[LOGO] Merrill Lynch Investment Managers
Statement of Assets, Liabilities and Capital
As of August 31, 2004
================================================================================================================================
Assets
- --------------------------------------------------------------------------------------------------------------------------------
Investments in unaffiliated securities, at value (identified
cost--$1,030,520,684) ............................................... $ 991,560,765
Investments in affiliated securities, at value (identified
cost--$7,797,438) ................................................... 7,797,438
Receivables:
Interest (including $277 from affiliates) ......................... $ 14,569,858
Securities sold ................................................... 3,044,980 17,614,838
-------------
Deferred facility fees ............................................... 10,867
Prepaid expenses and other assets .................................... 98,462
---------------
Total assets ......................................................... 1,017,082,370
---------------
================================================================================================================================
Liabilities
- --------------------------------------------------------------------------------------------------------------------------------
Loans ................................................................ 304,775,000
Payables:
Custodian bank .................................................... 1,023,904
Interest on loans ................................................. 108,009
Investment adviser ................................................ 33,337
Commitment fees ................................................... 8,614
Other affiliates .................................................. 4,855 1,178,719
-------------
Deferred income ...................................................... 272,277
Accrued expenses and other liabilities ............................... 619,550
---------------
Total liabilities .................................................... 306,845,546
---------------
================================================================================================================================
Net Assets
- --------------------------------------------------------------------------------------------------------------------------------
Net assets ........................................................... $ 710,236,824
===============
================================================================================================================================
Capital
- --------------------------------------------------------------------------------------------------------------------------------
Common Stock, $.10 par value, 200,000,000 shares authorized .......... $ 10,538,568
Paid-in capital in excess of par ..................................... 1,062,896,256
Undistributed investment income--net ................................. $ 3,707,029
Accumulated realized capital losses--net ............................. (327,680,762)
Unrealized depreciation--net ......................................... (39,224,267)
-------------
Total accumulated losses--net ........................................ (363,198,000)
---------------
Total capital--Equivalent to $6.74 per share based on 105,385,682
shares of Capital Stock outstanding (market price--$6.78) ........... $ 710,236,824
===============
See Notes to Financial Statements.
14 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
Statement of Operations
For the Six Months Ended August 31, 2004
================================================================================================================================
Investment Income
- --------------------------------------------------------------------------------------------------------------------------------
Interest (including $31,864 from affiliates) ......................... $ 40,203,493
Dividends ............................................................ 1,316,351
Facility and other fees .............................................. 514,417
---------------
Total income ......................................................... 42,034,261
---------------
================================================================================================================================
Expenses
- --------------------------------------------------------------------------------------------------------------------------------
Investment advisory fees ............................................. $ 3,049,456
Loan interest expense ................................................ 2,276,468
Borrowing costs ...................................................... 187,486
Accounting services .................................................. 117,175
Professional fees .................................................... 75,769
Transfer agent fees .................................................. 59,596
Listing fees ......................................................... 43,277
Printing and shareholder reports ..................................... 34,405
Custodian fees ....................................................... 31,211
Directors' fees and expenses ......................................... 21,646
Pricing services ..................................................... 13,687
Other ................................................................ 18,815
-------------
Total expenses ....................................................... 5,928,991
---------------
Investment income--net ............................................... 36,105,270
---------------
================================================================================================================================
Realized & Unrealized Gain (Loss)--Net
- --------------------------------------------------------------------------------------------------------------------------------
Realized gain on:
Investments--net .................................................. 10,813,631
Foreign currency transactions--net ................................ 719,851 11,533,482
-------------
Changes in unrealized depreciation on:
Investments--net .................................................. (9,521,143)
Unfunded corporate loans .......................................... (252,848)
Foreign currency transactions--net ................................ (4,128) (9,778,119)
--------------------------------
Total realized and unrealized gain--net .............................. 1,755,363
---------------
Net Increase in Net Assets Resulting from Operations ................. $ 37,860,633
===============
See Notes to Financial Statements.
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 15
[LOGO] Merrill Lynch Investment Managers
Statements of Changes in Net Assets
For the Six For the
Months Ended Year Ended
August 31, February 29,
Increase (Decrease) in Net Assets: 2004 2004
================================================================================================================================
Operations
- --------------------------------------------------------------------------------------------------------------------------------
Investment income--net ............................................... $ 36,105,270 $ 78,995,576
Realized gain (loss)--net ............................................ 11,533,482 (35,622,531)
Change in unrealized depreciation--net ............................... (9,778,119) 181,822,398
--------------------------------
Net increase in net assets resulting from operations ................. 37,860,633 225,195,443
--------------------------------
================================================================================================================================
Dividends to Shareholders
- --------------------------------------------------------------------------------------------------------------------------------
Dividends to shareholders from investment income--net ................ (35,157,024) (82,761,761)
--------------------------------
================================================================================================================================
Capital Share Transactions
- --------------------------------------------------------------------------------------------------------------------------------
Value of shares issued in reinvestment of dividends .................. 1,272,001 6,747,816
Recovery of previously expensed Common Stock offering costs .......... -- 11,432
--------------------------------
Net increase in net assets resulting from capital share
transactions ........................................................ 1,272,001 6,759,248
--------------------------------
================================================================================================================================
Net Assets
- --------------------------------------------------------------------------------------------------------------------------------
Total increase in net assets ......................................... 3,975,610 149,192,930
Beginning of period .................................................. 706,261,214 557,068,284
--------------------------------
End of period* ....................................................... $ 710,236,824 $ 706,261,214
================================
* Undistributed investment income--net ............................ $ 3,707,029 $ 2,758,783
================================
See Notes to Financial Statements.
16 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
Statement of Cash Flows
For the Six Months Ended August 31, 2004
================================================================================================
Cash Used for Operating Activities
- ------------------------------------------------------------------------------------------------
Net increase in net assets resulting from operations ... $ 37,860,633
Adjustments to reconcile net increase in net assets
resulting from operations to net cash provided by
operating activities:
Decrease in receivables ............................. 247,481
Decrease in other assets ............................ 46,130
Increase in other liabilities ....................... 1,503,122
Realized and unrealized gain--net ................... (1,755,363)
Amortization of premium and discount ................ (4,189,916)
Proceeds from sales and paydowns of long-term securities 349,594,297
Purchases of long-term securities ...................... (378,293,448)
Purchases of short-term investments--net ............... (6,858,007)
-------------
Net cash used for operating activities ................. (1,845,071)
-------------
================================================================================================
Cash Provided by Financing Activities
- ------------------------------------------------------------------------------------------------
Cash receipts from borrowings .......................... 173,200,000
Cash payments on borrowings ............................ (137,500,000)
Dividends paid to shareholders ......................... (33,885,023)
-------------
Net cash provided by financing activities .............. 1,814,977
-------------
================================================================================================
Cash
- ------------------------------------------------------------------------------------------------
Net decrease in cash ................................... (30,094)
Cash at beginning of period ............................ 30,094
-------------
Cash at end of period .................................. $ --
=============
================================================================================================
Cash Flow Information
- ------------------------------------------------------------------------------------------------
Cash paid for interest ................................. $ 2,216,884
=============
================================================================================================
Non-Cash Financing Activities
- ------------------------------------------------------------------------------------------------
Capital shares issued in reinvestment of dividends paid
to shareholders ....................................... $ 1,272,001
=============
See Notes to Financial Statements.
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 17
[LOGO] Merrill Lynch Investment Managers
Financial Highlights
The following per share data and ratios have been derived For the Six For the For the Year Ended
from information provided in the financial statements. Months Ended Year Ended February 28,
August 31, February 29, ----------------------------------
Increase (Decrease) in Net Asset Value: 2004 2004 2003 2002 2001
==================================================================================================================================
Per Share Operating Performance
- ----------------------------------------------------------------------------------------------------------------------------------
Net asset value, beginning of period ........... $ 6.71 $ 5.35 $ 6.03 $ 7.53 $ 8.60
------------------------------------------------------------
Investment income--net*** ...................... .34 .75 .79 .92 .96
Realized and unrealized gain (loss)--net ....... .02 1.40 (.68) (1.49) (1.07)
------------------------------------------------------------
Total from investment operations ............... .36 2.15 .11 (.57) (.11)
------------------------------------------------------------
Less dividends from investment income--net ..... (.33) (.79) (.79) (.93) (.96)
------------------------------------------------------------
Recovery of previously expensed offering costs
(capital write-off) resulting from the issuance
of Common Stock ............................... -- --+ -- --+ --
------------------------------------------------------------
Net asset value, end of period ................. $ 6.74 $ 6.71 $ 5.35 $ 6.03 $ 7.53
============================================================
Market price per share, end of period .......... $ 6.78 $ 6.69 $ 5.99 $ 6.57 $ 7.15
============================================================
==================================================================================================================================
Total Investment Return**
- ----------------------------------------------------------------------------------------------------------------------------------
Based on market price per share ................ 6.59%@ 26.31% 4.85% 5.69% 13.97%
============================================================
Based on net asset value per share ............. 5.64%@ 41.84% 2.04% (7.89%) .31%
============================================================
==================================================================================================================================
Ratio to Average Net Assets
- ----------------------------------------------------------------------------------------------------------------------------------
Expenses, excluding interest expense ........... 1.04%* 1.00% 1.07% 1.04% 1.20%
============================================================
Expenses ....................................... 1.68%* 1.53% 1.91% 2.59% 3.87%
============================================================
Investment income--net ......................... 10.24%* 12.22% 14.32% 13.69% 12.23%
============================================================
==================================================================================================================================
Leverage
- ----------------------------------------------------------------------------------------------------------------------------------
Amount of borrowings, end of period (in
thousands) .................................... $304,775 $269,075 $245,900 $273,600 $301,000
============================================================
Average amount of borrowings outstanding during
the period (in thousands) ..................... $307,949 $239,315 $238,863 $280,460 $228,640
============================================================
Average amount of borrowings outstanding per
share during the period ....................... $ 2.93 $ 2.29 $ 2.31 $ 2.75 $ 3.07
============================================================
==================================================================================================================================
Supplemental Data
- ----------------------------------------------------------------------------------------------------------------------------------
Net assets, end of period (in thousands) ....... $710,237 $706,261 $557,068 $620,043 $763,834
============================================================
Portfolio turnover ............................. 35.62% 70.43% 64.54% 49.58% 36.86%
============================================================
* Annualized.
** Total investment returns based on market value, which can be significantly
greater or lesser than the net asset value, may result in substantially
different returns. Total investment returns exclude the effects of sales
charges.
*** Based on average shares outstanding.
+ Amount is less than $.01 per share.
@ Aggregate total investment return.
See Notes to Financial Statements.
18 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
Notes to Financial Statements
1. Significant Accounting Policies:
Debt Strategies Fund, Inc. (the "Fund") is registered under the Investment
Company Act of 1940, as amended, as a diversified, closed-end management
investment company. The Fund's financial statements are prepared in conformity
with U.S. generally accepted accounting principles, which may require the use of
management accruals and estimates. Actual results may differ from these
estimates. These unaudited financial statements reflect all adjustments, which
are, in the opinion of management, necessary to present a fair statement of the
results for the interim period. All such adjustments are of a normal, recurring
nature. The Fund determines and makes available for publication the net asset
value of its Common Stock on a daily basis. The Fund's Common Stock is listed on
the New York Stock Exchange ("NYSE") under the symbol DSU.
(a) Corporate debt obligations -- The Fund invests principally in debt
obligations of companies, including Corporate Loans made by banks and other
financial institutions and both privately and publicly offered corporate bonds
and notes. Because agents and intermediaries are primarily commercial banks and
other financial institutions, the Fund's investment in Corporate Loans could be
considered concentrated in financial institutions.
(b) Valuation of investments -- Corporate Loans are valued in accordance with
guidelines established by the Board of Directors. Corporate Loans are valued at
the mean between the last available bid and asked prices from one or more
brokers or dealers as obtained from Loan Pricing Corporation. For the limited
number of Corporate Loans for which no reliable price quotes are available, such
Corporate Loans will be valued by Loan Pricing Corporation through the use of
pricing matrices to determine valuations. If the pricing service does not
provide a value for the Corporate Loan, the Investment Adviser will value the
loan at fair value, which is intended to approximate market value.
Securities that are held by the Fund that are traded on stock exchanges or the
Nasdaq National Market are valued at the last sale price or official close price
on the exchange on which such securities are traded, as of the close of business
on the day the securities are being valued or, lacking any sales, at the last
available bid price for long positions, and at the last available ask price for
short positions. In cases where securities are traded on more than one exchange,
the securities are valued on the exchange designated as the primary market by or
under the authority of the Board of the Fund. Long positions in securities
traded in the over-the-counter ("OTC") market, Nasdaq Small Cap or Bulletin
Board are valued at the last available bid price or yield equivalent obtained
from one or more dealers or pricing services approved by the Board of Directors
of the Fund. Short positions in securities traded in the OTC market are valued
at the last available ask price. Portfolio securities that are traded both in
the OTC market and on a stock exchange are valued according to the broadest and
most representative market. When the Fund writes an option, the amount of the
premium received is recorded on the books of the Fund as an asset and an
equivalent liability. The amount of the liability is subsequently valued to
reflect the current market value of the option written, based on the last sale
price in the case of exchange-traded options or, in the case of options traded
in the OTC market, the last ask price. Options purchased by the Fund are valued
at their last sale price in the case of exchange-traded options or, in the case
of options traded in the OTC market, the last bid price. The value of swaps,
including interest rate swaps, caps and floors, will be determined by obtaining
dealer quotations. Other investments, including futures contracts and related
options, are stated at market value. Obligations with remaining maturities of 60
days or less are valued at amortized cost unless the Investment Adviser believes
that this method no longer produces fair valuations. Repurchase agreements will
be valued at cost plus accrued interest. The Fund employs certain pricing
services to provide securities prices for the Fund. Securities and assets for
which market quotations are not readily available are valued at fair value as
determined in good faith by or under the direction of the Directors of the Fund,
including valuations furnished by the pricing services retained by the Fund,
which may use a matrix system for valuations. The procedures of a pricing
service and its valuations are reviewed by the officers of the Fund under the
general supervision of the Directors. Such valuations and procedures will be
reviewed periodically by the Directors.
Generally, trading in foreign securities, as well as U.S. Government securities
and money market instruments, is substantially completed each day at various
times prior to the close of business on the NYSE. The values of such securities
used in computing the net asset value of the Fund's shares are determined as of
such times. Foreign currency exchange rates also are generally determined prior
to the close of business on the NYSE. Occasionally, events affecting the values
of such securities and such exchange rates may occur between the times at which
they are determined and
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 19
[LOGO] Merrill Lynch Investment Managers
Notes to Financial Statements (continued)
the close of business on the NYSE that may not be reflected in the computation
of the Fund's net asset value. If events (for example, a company announcement,
market volatility or a natural disaster) occur during such periods that are
expected to materially affect the value of such securities, those securities may
be valued at their fair value as determined in good faith by the Board of
Directors or by the Investment Adviser using a pricing service and/or procedures
approved by the Board of Directors.
(c) Derivative financial instruments -- The Fund may engage in various portfolio
investment strategies both to increase the return of the Fund and to hedge, or
protect, its exposure to interest rate movements and movements in the securities
markets. Losses may arise due to changes in the value of the contract or if the
counterparty does not perform under the contract.
o Financial futures contracts -- The Fund may purchase or sell financial
futures contracts and options on such futures contracts. Futures contracts
are contracts for delayed delivery of securities at a specific future date
and at a specific price or yield. Upon entering into a contract, the Fund
deposits and maintains as collateral such initial margin as required by
the exchange on which the transaction is effected. Pursuant to the
contract, the Fund agrees to receive from or pay to the broker an amount
of cash equal to the daily fluctuation in value of the contract. Such
receipts or payments are known as variation margin and are recorded by the
Fund as unrealized gains or losses. When the contract is closed, the Fund
records a realized gain or loss equal to the difference between the value
of the contract at the time it was opened and the value at the time it was
closed.
o Forward foreign exchange contracts -- The Fund may enter into forward
foreign exchange contracts as a hedge against either specific transactions
or portfolio positions. The contract is marked-to-market daily and the
change in market value is recorded by the Fund as an unrealized gain or
loss. When the contract is closed, the Fund records a realized gain or
loss equal to the difference between the value at the time it was opened
and the value at the time it was closed.
o Options -- The Fund may write covered call and put options and purchase
call and put options. When the Fund writes an option, an amount equal to
the premium received by the Fund is reflected as an asset and an
equivalent liability. The amount of the liability is subsequently
marked-to-market to reflect the current market value of the option
written. When a security is purchased or sold through an exercise of an
option, the related premium paid (or received) is added to (or deducted
from) the basis of the security acquired or deducted from (or added to)
the proceeds of the security sold. When an option expires (or the Fund
enters into a closing transaction), the Fund realizes a gain or loss on
the option to the extent of the premiums received or paid (or gain or loss
to the extent the cost of the closing transaction exceeds the premium paid
or received).
Written and purchased options are non-income producing investments.
o Swaps -- The Fund may enter into swap agreements, which are
over-the-counter contracts in which the Fund and a counterparty agree to
make periodic net payments on a specified notional amount. The net
payments can be made for a set period of time or may be triggered by a
pre-determined credit event. The net periodic payments may be based on a
fixed or variable interest rate; the change in market value of a specified
security, basket of securities, or index; or the return generated by a
security.
(d) Foreign currency transactions -- Transactions denominated in foreign
currencies are recorded at the exchange rate prevailing when recognized. Assets
and liabilities denominated in foreign currencies are valued at the exchange
rate at the end of the period. Foreign currency transactions are the result of
settling (realized) or valuing (unrealized) assets or liabilities expressed in
foreign currencies into U.S. dollars. Realized and unrealized gains or losses
from investments include the effects of foreign exchange rates on investments.
(e) Income taxes -- It is the Fund's policy to comply with the requirements of
the Internal Revenue Code applicable to regulated investment companies and to
distribute substantially all of its taxable income to its shareholders.
Therefore, no federal income tax provision is required. Under the applicable
foreign tax law, a withholding tax may be imposed on interest, dividends and
capital gains at various rates.
(f) Security transactions and investment income -- Security transactions are
recorded on the dates the transactions are entered into (the trade dates).
Realized gains and losses on security transactions are determined on the
identified cost basis. Dividend income is recorded on the ex-dividend dates.
20 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
Notes to Financial Statements (continued)
Interest income is recognized on the accrual basis. The Fund amortizes all
premiums and discounts on debt securities.
(g) Dividends and distributions -- Dividends from net investment income are
declared and paid monthly. Distributions of capital gains are recorded on the
ex-dividend dates.
(h) Securities lending -- The Fund may lend securities to financial institutions
that provide cash or securities issued or guaranteed by the U.S. government as
collateral, which will be maintained at all times in an amount equal to at least
100% of the current market value of the loaned securities. The market value of
the loaned securities is determined at the close of business of the Fund and any
additional required collateral is delivered to the Fund on the next business
day. Where the Fund receives securities as collateral for the loaned securities,
it collects a fee from the borrower. The Fund typically receives the income on
the loaned securities but does not receive the income on the collateral. Where
the Fund receives cash collateral, it may invest such collateral and retain the
amount earned on such investment, net of any amount rebated to the borrower.
Loans of securities are terminable at any time and the borrower, after notice,
is required to return borrowed securities within five business days. The Fund
may pay reasonable finder's, lending agent, administrative and custodial fees in
connection with its loans. In the event that the borrower defaults on its
obligation to return borrowed securities because of insolvency or for any other
reason, the Fund could experience delays and costs in gaining access to the
collateral. The Fund also could suffer a loss where the value of the collateral
falls below the market value of the borrowed securities, in the event of
borrower default or in the event of losses on investments made with cash
collateral.
(i) Custodian bank -- The Fund recorded an amount payable to the custodian bank
reflecting an overnight overdraft which resulted from a failed trade.
2. Investment Advisory Agreement and Transactions with Affiliates:
The Fund has entered into an Investment Advisory Agreement with Fund Asset
Management, L.P. ("FAM"). The general partner of FAM is Princeton Services, Inc.
("PSI"), an indirect, wholly-owned subsidiary of Merrill Lynch & Co., Inc. ("ML
& Co."), which is the limited partner. FAM has entered into a Sub-Advisory
Agreement with Merrill Lynch Asset Management U.K. Limited ("MLAM U.K."), an
affiliate of FAM, pursuant to which MLAM U.K. provides investment advisory
services to FAM with respect to the Fund. There is no increase in the aggregate
fees paid by the Fund for these services.
FAM is responsible for the management of the Fund's portfolio and provides the
necessary personnel, facilities, equipment and certain other services necessary
to perform the investment advisory function. For such services, the Fund pays a
monthly fee at an annual rate of .60% of the Fund's average weekly net assets
plus the proceeds of any outstanding borrowings used for leverage.
The Fund has received an exemptive order from the Securities and Exchange
Commission permitting it to lend portfolio securities to Merrill Lynch, Pierce,
Fenner & Smith Incorporated ("MLPF&S"), a subsidiary of ML & Co., or its
affiliates. Pursuant to that order, the Fund also has retained Merrill Lynch
Investment Managers, LLC ("MLIM, LLC"), an affiliate of FAM, as the securities
lending agent for a fee based on a share of the returns on investment of cash
collateral. MLIM, LLC may, on behalf of the Fund, invest cash collateral
received by the Fund for such loans, among other things, in a private investment
company managed by MLIM, LLC or in registered money market funds advised by FAM
or its affiliates.
In addition, MLPF&S received $2,688 in commissions on the execution of portfolio
security transactions for the Fund for the six months ended August 31, 2004.
For the six months ended August 31, 2004, the Fund reimbursed FAM $7,147 for
certain accounting services.
Certain officers and/or directors of the Fund are officers and/or directors of
FAM, MLAM U.K., PSI, and/or ML & Co.
3. Investments:
Purchases and sales of investments, excluding short-term securities, for the six
months ended August 31, 2004 were $358,911,968 and $352,359,636, respectively.
4. Capital Share Transactions:
The Fund is authorized to issue 200,000,000 shares of Common Stock, par value
$.10 per share. Shares issued and outstanding during the six months ended August
31, 2004 and the year ended February 29, 2004 increased by 189,675 and
1,056,734, respectively, as a result of dividend reinvestment.
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 21
[LOGO] Merrill Lynch Investment Managers
Notes to Financial Statements (concluded)
5. Unfunded Loan Interests:
As of August 31, 2004, the Fund had unfunded loan commitments of approximately
$2,709,000, which would be extended at the option of the borrower, pursuant to
the following loan agreements:
- --------------------------------------------------------------------------------
Unfunded
Commitment
Borrower (in Thousands)
- --------------------------------------------------------------------------------
Outsourcing Solutions Inc. ................................. $ 209
Quest Cherokee, LLC ........................................ $2,500
- --------------------------------------------------------------------------------
6. Short-Term Borrowings:
On May 26, 2004, the Fund renewed its $318,000,000 revolving credit and security
agreement with Citibank, N.A. and other lenders (the "Lenders"). Under the
revolving credit and security agreement, the Fund may borrow money through (i) a
line of credit from certain Lenders at the eurodollar rate plus .75% or the
highest of the Federal Funds rate plus .50%, a base rate as determined by
Citibank, N.A. and/or the latest three-week moving average of secondary market
morning offering rates in the United States for three-month certificates of
deposit of major U.S. money market banks plus .50%, or (ii) the issuance of
commercial paper notes by certain Lenders at rates of interest based upon the
weighted average of the per annum rates paid or payable by such Lenders in
respect of those commercial paper notes. As security for its obligations to the
Lenders under the revolving credit and security agreement, the Fund has granted
a security interest in substantially all of its assets to and in favor of the
Lenders. The Fund also pays additional borrowing costs which includes a
commitment fee for this facility at the annual rate of .10% and a program fee of
..24% on the borrowings outstanding.
For the six months ended August 31, 2004, the average amount borrowed was
approximately $307,949,000 and the daily weighted average interest rate was
1.47%.
7. Capital Loss Carryforward:
On February 29, 2004, the Fund had a capital loss carryforward of $305,457,461,
of which $263,491 expires in 2005; $12,067,388 expires in 2006; $27,376,921
expires in 2007; $51,234,056 expires in 2008; $21,442,332 expires in 2009;
$90,564,493 expires in 2010; $85,285,305 expires in 2011 and $17,223,475 expires
in 2012. This amount will be available to offset like amounts on any future
taxable gains.
8. Subsequent Event:
The Fund paid an ordinary income dividend in the amount of $.055000 per share on
September 30, 2004 to shareholders of record on September 14, 2004.
Electronic Delivery
The Fund offers electronic delivery of communications to its shareholders. In
order to receive this service, you must register your account and provide us
with e-mail information. To sign up for this service, simply access this Web
site http://www.icsdelivery.com/live and follow the instructions. When you visit
this site, you will obtain a personal identification number (PIN). You will need
this PIN should you wish to update your e-mail address, choose to discontinue
this service and/or make any other changes to the service. This service is not
available for certain retirement accounts at this time.
22 DEBT STRATEGIES FUND, INC. AUGUST 31, 2004
Portfolio Information
As of August 31, 2004
Percent of
Ten Largest Holdings Net Assets
- --------------------------------------------------------------------------------
Charter Communications Holdings, LLC* ................................... 3.6%
Crown Castle International Corp.* ....................................... 2.4
Century Cable Holdings LLC* ............................................. 2.3
HealthSouth Corporation* ................................................ 2.0
Giant Industries, Inc.* ................................................. 1.9
Commonwealth Brands, Inc.* .............................................. 1.9
Qwest Capital Funding* .................................................. 1.8
FelCor Lodging LP ....................................................... 1.7
Crompton Corporation* ................................................... 1.7
Telewest Communications PLC ............................................. 1.7
- --------------------------------------------------------------------------------
* Includes combined holdings.
Percent of
Five Largest Industries* Net Assets
- --------------------------------------------------------------------------------
Chemicals .................................................. 16.2%
Cable -- U.S. .............................................. 14.4
Telecommunications ......................................... 10.5
Wireless Communications .................................... 8.8
Packaging .................................................. 8.2
- --------------------------------------------------------------------------------
* For Fund compliance purposes, "Industries" means any one or more of the
industry sub-classifications used by one or more widely recognized market
indexes or ratings group indexes, and/or as defined by Fund management.
This definition may not apply for purposes of this report which may
combine such industry sub-classifications for reporting ease.
Percent of
Quality Ratings by S&P/Moody's Total Investments
- --------------------------------------------------------------------------------
BBB/Baa .................................................. 2.9%
BB/Ba .................................................... 8.2
B/B ...................................................... 57.2
CCC/Caa or lower ......................................... 13.6
NR (Not Rated) ........................................... 13.8
Other* ................................................... 4.3
- --------------------------------------------------------------------------------
* Includes portfolio holdings in common stocks, preferred stocks, warrants,
other interests and short-term investments.
Officers and Directors
Terry K. Glenn, President and Director
Ronald Forbes, Director
Cynthia A. Montgomery, Director
Jean Margo Reid, Director
Kevin A. Ryan, Director
Roscoe S. Suddarth, Director
Richard R. West, Director
Edward D. Zinbarg, Director
Kevin J. Booth, Vice President
Donald C. Burke, Vice President and Treasurer
Jeffrey Hiller, Chief Compliance Officer
Alice A. Pellegrino, Secretary
Custodian
The Bank of New York
100 Church Street
New York, NY 10286
Transfer Agent
The Bank of New York
101 Barclay Street
New York, NY 10286
NYSE Symbol
DSU
DEBT STRATEGIES FUND, INC. AUGUST 31, 2004 23
[LOGO] Merrill Lynch Investment Managers www.mlim.ml.com
Debt Strategies Fund, Inc. seeks to provide current income by investing
primarily in a diversified portfolio of U.S. companies' debt instruments,
including corporate loans, that are rated in the lower rating categories of the
established rating services (Baa or lower by Moody's Investors Service, Inc. or
BBB or lower by Standard & Poor's) or unrated debt instruments of comparable
quality.
This report, including the financial information herein, is transmitted to
shareholders of Debt Strategies Fund, Inc. for their information. It is not a
prospectus. Past performance results shown in this report should not be
considered a representation of future performance. The Fund leverages its Common
Stock to provide Common Stock shareholders with a potentially higher rate of
return. Leverage creates risk for Common Stock shareholders, including the
likelihood of greater volatility of net asset value and market price of Common
Stock shares, and the risk that fluctuations in short-term interest rates may
reduce the Common Stock's yield. Statements and other information herein are as
dated and are subject to change.
A description of the policies and procedures that the Fund uses to determine how
to vote proxies relating to portfolio securities is available (1) without
charge, upon request, by calling toll-free 1-800-MER-FUND (1-800-637-3863); (2)
at www.mutualfunds.ml.com; and (3) on the Securities and Exchange Commission's
Web site at http://www.sec.gov. Information about how the Fund voted proxies
relating to securities held in the Fund's portfolio during the most recent
12-month period ended June 30 is available (1) at www.mutualfunds.ml.com and (2)
on the Securities and Exchange Commission's Web site at http://www.sec.gov.
Debt Strategies Fund, Inc.
Box 9011
Princeton, NJ 08543-9011
#DEBT -- 8/04
Item 2 - Code of Ethics - Not Applicable to this semi-annual report
Item 3 - Audit Committee Financial Expert - Not Applicable to this semi-annual
report
Item 4 - Principal Accountant Fees and Services - Not Applicable to this
semi-annual report
Item 5 - Audit Committee of Listed Registrants - Not Applicable to this
semi-annual report
Item 6 - Schedule of Investments - Not Applicable
Item 7 - Disclosure of Proxy Voting Policies and Procedures for Closed-End
Management Investment Companies - Not Applicable to this semi-annual
report
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
10(a) - The registrant's certifying officers have reasonably designed such
disclosure controls and procedures to ensure material information
relating to the registrant is made known to us by others particularly
during the period in which this report is being prepared. The
registrant's certifying officers have determined that the registrant's
disclosure controls and procedures are effective based on our evaluation
of these controls and procedures as of a date within 90 days prior to
the filing date of this report.
10(b) - There were no changes in the registrant's internal control over
financial reporting (as defined in Rule 30a-3(d) under the Act (17 CFR
270.30a-3(d)) that occurred during the last fiscal half-year of the
period covered by this report that has materially affected, or is
reasonably likely to materially affect, the registrant's internal
control over financial reporting.
Item 11 - Exhibits attached hereto
11(a)(1) - Code of Ethics - Not Applicable to this semi-annual report
11(a)(2) - Certifications - Attached hereto
11(a)(3) - Not Applicable
11(b) - Certifications - Attached hereto
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.
Debt Strategies Fund, Inc.
By: /s/ Terry K. Glenn
-------------------------------
Terry K. Glenn,
President of
Debt Strategies Fund, Inc.
Date: October 18, 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/ Terry K. Glenn
-------------------------------
Terry K. Glenn,
President of
Debt Strategies Fund, Inc.
Date: October 18, 2004
By: /s/ Donald C. Burke
-------------------------------
Donald C. Burke,
Chief Financial Officer of
Debt Strategies Fund, Inc.
Date: October 18, 2004