-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, A2MC65azv8O+CvBBbEeqr9h3rD80PHS9JEzBn4abYXSizyGt3eGj899ZaP8yksCp JrG/M9VHUcxC2cuQTtPu8A== 0001047469-04-033537.txt : 20041109 0001047469-04-033537.hdr.sgml : 20041109 20041109125104 ACCESSION NUMBER: 0001047469-04-033537 CONFORMED SUBMISSION TYPE: N-CSR PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20040804 FILED AS OF DATE: 20041109 DATE AS OF CHANGE: 20041109 EFFECTIVENESS DATE: 20041109 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HIGHLAND FLOATING RATE ADVANTAGE FUND CENTRAL INDEX KEY: 0001093062 IRS NUMBER: 000000000 FISCAL YEAR END: 0831 FILING VALUES: FORM TYPE: N-CSR SEC ACT: 1940 Act SEC FILE NUMBER: 811-09709 FILM NUMBER: 041128414 BUSINESS ADDRESS: STREET 1: TWO GALLERIA TOWER STREET 2: 13455 NOEL ROAD, SUITE 1300 CITY: DALLAS STATE: TX ZIP: 75240 BUSINESS PHONE: 9726284100 MAIL ADDRESS: STREET 1: TWO GALLERIA TOWER STREET 2: 13455 NOEL ROAD, SUITE 1300 CITY: DALLAS STATE: TX ZIP: 75240 FORMER COMPANY: FORMER CONFORMED NAME: COLUMBIA FLOATING RATE ADVANTAGE FUND DATE OF NAME CHANGE: 20031107 FORMER COMPANY: FORMER CONFORMED NAME: LIBERTY FLOATING RATE ADVANTAGE FUND DATE OF NAME CHANGE: 20001211 FORMER COMPANY: FORMER CONFORMED NAME: LIBERTY STEIN ROE ADVISOR FLOATING RATE ADVANTAGE FUND DATE OF NAME CHANGE: 20000124 N-CSR 1 a2145952zn-csr.txt N-CSR UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM N-CSR CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT INVESTMENT COMPANIES Investment Company Act file number 811-9709 -------- HIGHLAND FLOATING RATE ADVANGE FUND (Exact name of Registrant as specified in charter) 13455 Noel Road, Suite 1300 Dallas, Texas 75240 (Address of principal executive offices) James D. Dondero Highland Capital Management, L.P. 13455 Noel Road, Suite 1300 Dallas, Texas 75240 COPIES TO: Stuart H. Coleman, Esq. Stroock & Stroock & Lavan LLP 180 Maiden Lane New York, New York 10038 (Name and address of agent for service) Registrant's telephone number, including area code: (877) 532-2834 Date of fiscal year end: 8/31 ---- Date of reporting period: 8/31/2004 --------- FORM N-CSR ITEM 1. REPORTS TO STOCKHOLDERS. [GRAPHIC] HIGHLAND FLOATING RATE ADVANTAGE FUND ANNUAL REPORT AUGUST 31, 2004 [HIGHLAND FUNDS LOGO] MANAGED BY HIGHLAND CAPITAL MANAGEMENT, L.P. TABLE OF CONTENTS Fund Profile 1 Performance Information 2 Understanding Your Expenses 3 Economic Update 4 Portfolio Managers' Report 5 Financial Statements 7 Investment Portfolio 8 Statement of Assets and Liabilities 27 Statement of Operations 28 Statement of Changes in Net Assets 29 Statement of Cash Flows 31 Notes to Financial Statements 32 Financial Highlights 38 Report of Independent Registered Public Accounting Firm 43 Unaudited Information 44 Trustees 45 Officers 46 Important Information About This Report 47
Economic and market conditions change frequently. There is no assurance that the trends described in this report will continue or commence. NOT FDIC MAY LOSE VALUE INSURED ----------------- NO BANK GUARANTEE TO OUR FELLOW SHAREHOLDERS HIGHLAND FLOATING RATE ADVANTAGE FUND DEAR SHAREHOLDER: I am pleased to submit this annual report for the period ended August 31, 2004. I am also pleased to have announced on April 15, 2004 that Highland Capital Management, L.P. ("Highland") entered into a new investment advisory agreement with the Highland Floating Rate Advantage Fund, formerly Columbia Floating Rate Advantage Fund. The agreement was approved at a special meeting of the Fund's shareholders held on July 30, 2004. As you may know, since April 15, 2004, when the investment management of the Fund was transferred to Highland and the distribution of the Fund to PFPC Distributors, Inc., Highland acted as advisor to the Fund under an interim agreement pending final shareholder approval. At the shareholder meeting, five new Trustees were elected to the Fund's Board of Trustees. The Fund's Board of Trustees now consists of: Timothy K. Hui, Scott F. Kavanaugh, James F. Leary, Bryan A. Ward and R. Joseph Dougherty. Mr. Dougherty is the only Trustee affiliated with Highland. Biographical information for each Trustee can be found in the report that follows. Effective October 18, 2004, PFPC Inc. ("PFPC") replaced Columbia Funds Services, Inc. as the Fund's transfer agent. As of that date, PFPC assumed all account servicing responsibilities for the Fund. Some changes that will affect shareholders of the Highland Floating Rate Advantage Fund include the following: Effective October 18, 2004, the name of the Fund changed from Columbia Floating Rate Advantage Fund to Highland Floating Rate Advantage Fund and you should anticipate new fund CUSIP numbers. (A CUSIP is a unique identification number assigned to each class of a fund by the Committee on Uniform Security Identification Procedures.) Ticker symbols for the Fund will remain the same. A list of the new CUSIP numbers and other information related to these changes are available online at www.highlandfunds.com, our new website. Please don't hesitate to contact your financial advisor or call Shareholder Services at 877-665-1287 for more information. In the report that follows, your portfolio manager talks in depth about investment strategies and other factors that affected your Fund's performance during the period. I encourage you to read the report carefully. I thank you for your business and I look forward to continuing to serve your investment needs. Sincerely, /s/ James D. Dondero James D. Dondero President FUND PROFILE HIGHLAND FLOATING RATE ADVANTAGE FUND The information below gives you a snapshot of your fund at the end of the reporting period. Your fund is actively managed and the composition of its portfolio will change over time. QUALITY BREAKDOWN AS OF 08/31/04 (%) Aa 0.7 Baa 0.1 Ba 28.6 B 46.3 Caa 3.7 Ca 0.1 NR 20.3 Other 0.2
TOP 5 SECTORS AS OF 08/31/04 (%) Utilities 9.5 Cable & Satellite Television 7.9 Oil & Gas 5.8 Lodging & Casinos 5.5 Telecommunication/Cellular 5.5
TOP 10 ISSUERS AS OF 08/31/04 (%) Allied Waste North America 2.6 Olympus Cable Holdings 1.9 Century Cable Holdings 1.7 Mission Energy Holdings 1.4 Conseco 1.4 Airgates PCS 1.3 NUI 1.3 RLC Industries 1.3 Opbiz 1.2 Michael Foods 1.2
Quality is calculated as a percentage of total investments. Sectors and issuers are calculated as a percentage of net assets. [SIDENOTE] SUMMARY - - FOR THE ONE-YEAR PERIOD THAT ENDED AUGUST 31, 2004, THE FUND'S CLASS A SHARES RETURNED 13.14% WITHOUT A SALES CHARGE. OBJECTIVE To provide a high level of current income, consistent with preservation of capital TOTAL NET ASSETS $668.6 million 1 PERFORMANCE INFORMATION HIGHLAND FLOATING RATE ADVANTAGE FUND [CHART] VALUE OF $10,000 INVESTMENT 01/13/00 - 08/31/04
CLASS A SHARES CLASS A SHARES CSFB LEVERAGED WITHOUT SALES CHARGE WITH SALES CHARGE LOAN INDEX 1/13/2000 $ 10,000 $ 9,650 $ 10,000 1/31/2000 $ 10,050 $ 9,698 $ 10,097 2/29/2000 $ 10,141 $ 9,787 $ 10,130 3/31/2000 $ 10,151 $ 9,795 $ 10,050 4/30/2000 $ 10,210 $ 9,853 $ 10,086 5/31/2000 $ 10,316 $ 9,955 $ 10,171 6/30/2000 $ 10,420 $ 10,055 $ 10,233 7/31/2000 $ 10,521 $ 10,153 $ 10,307 8/31/2000 $ 10,604 $ 10,233 $ 10,359 9/30/2000 $ 10,696 $ 10,322 $ 10,393 10/31/2000 $ 10,778 $ 10,400 $ 10,398 11/30/2000 $ 10,821 $ 10,442 $ 10,421 12/31/2000 $ 10,895 $ 10,514 $ 10,494 1/31/2001 $ 10,998 $ 10,613 $ 10,557 2/28/2001 $ 11,049 $ 10,663 $ 10,647 3/31/2001 $ 11,020 $ 10,634 $ 10,660 4/30/2001 $ 10,915 $ 10,533 $ 10,615 5/31/2001 $ 11,027 $ 10,641 $ 10,742 6/30/2001 $ 11,041 $ 10,654 $ 10,755 7/31/2001 $ 11,176 $ 10,785 $ 10,782 8/31/2001 $ 11,316 $ 10,920 $ 10,868 9/30/2001 $ 11,128 $ 10,739 $ 10,660 10/31/2001 $ 10,873 $ 10,493 $ 10,494 11/30/2001 $ 11,007 $ 10,622 $ 10,659 12/31/2001 $ 11,176 $ 10,784 $ 10,769 1/31/2002 $ 11,344 $ 10,947 $ 10,829 2/28/2002 $ 11,274 $ 10,879 $ 10,788 3/31/2002 $ 11,493 $ 11,090 $ 10,913 4/30/2002 $ 11,652 $ 11,245 $ 11,029 5/31/2002 $ 11,683 $ 11,274 $ 11,022 6/30/2002 $ 11,455 $ 11,054 $ 10,855 7/31/2002 $ 11,051 $ 10,664 $ 10,690 8/31/2002 $ 10,878 $ 10,497 $ 10,659 9/30/2002 $ 10,723 $ 10,347 $ 10,683 10/31/2002 $ 10,621 $ 10,249 $ 10,540 11/30/2002 $ 10,806 $ 10,427 $ 10,721 12/31/2002 $ 11,067 $ 10,680 $ 10,889 1/31/2003 $ 11,232 $ 10,839 $ 11,036 2/28/2003 $ 11,249 $ 10,855 $ 11,094 3/31/2003 $ 11,398 $ 10,999 $ 11,130 4/30/2003 $ 11,778 $ 11,366 $ 11,287 5/31/2003 $ 12,143 $ 11,718 $ 11,438 6/30/2003 $ 12,421 $ 11,986 $ 11,600 7/31/2003 $ 12,494 $ 12,057 $ 11,679 8/31/2003 $ 12,572 $ 12,132 $ 11,704 9/30/2003 $ 12,810 $ 12,361 $ 11,821 10/31/2003 $ 13,040 $ 12,584 $ 11,928 11/30/2003 $ 13,283 $ 12,818 $ 12,015 12/31/2003 $ 13,473 $ 13,001 $ 12,089 1/31/2004 $ 13,777 $ 13,295 $ 12,215 2/29/2004 $ 13,794 $ 13,311 $ 12,253 3/31/2004 $ 13,874 $ 13,388 $ 12,303 4/30/2004 $ 13,967 $ 13,478 $ 12,360 5/31/2004 $ 13,974 $ 13,484 $ 12,388 6/30/2004 $ 14,090 $ 13,596 $ 12,467 7/31/2004 $ 14,170 $ 13,674 $ 12,511 8/31/2004 $ 14,220 $ 13,723 $ 12,533
The graph and table do not reflect a deduction of the taxes that a shareholder would pay on fund distributions or the redemption of fund shares. The Credit Suisse First Boston (CSFB) Leveraged Loan Index is an unmanaged index that tracks the performance of senior floating rate bank loans. Unlike mutual funds, indices are not investments, do not incur fees or expenses and are not professionally managed. It is not possible to invest directly in an index. Securities in the fund may not match those in an index. Index performance is from December 31, 1999. AVERAGE ANNUAL TOTAL RETURN AS OF 08/31/04 (%)
SHARE CLASS A B C Z - ----------------------------------------------------------------------------------- INCEPTION 01/13/00 01/13/00 01/13/00 01/13/00 - ----------------------------------------------------------------------------------- SALES CHARGE WITHOUT WITH WITHOUT WITH WITHOUT WITH WITHOUT - ----------------------------------------------------------------------------------- 1-year 13.14 9.18 12.75 9.50 12.57 11.57 13.52 Life 7.90 7.07 7.53 7.37 7.38 7.38 8.26
AVERAGE ANNUAL TOTAL RETURN AS OF 06/30/04 (%)
SHARE CLASS A B C Z - ----------------------------------------------------------------------------------- SALES CHARGE WITHOUT WITH WITHOUT WITH WITHOUT WITH WITHOUT - ----------------------------------------------------------------------------------- 1-year 13.46 9.49 13.07 9.82 12.89 11.89 13.85 Life 7.99 7.13 7.62 7.45 7.47 7.47 8.35
Investors should consider the investment objectives, risks, charges and expenses of the Highland Funds carefully before investing. A prospectus with this and other information about the Fund maybe obtained at 1-877-665-1287 or www.highlandfunds.com. Prospectus should be read carefully before investing. Average annual total return "without sales charge", does not include sales charges or contingent deferred sales charges. Average annual total return "with sales charge" reflect the maximum sales charge of 3.50% on class A shares. The maximum early withdrawal charge (EWC) on class B shares is 3.25% for shares submitted and accepted for repurchase during the first year after each purchase. The EWC on class C shares is 1% within the first year from each purchase. There is no EWC on class C shares thereafter. All results shown assume reinvestment of distributions. Performance results reflect voluntary waivers or reimbursement arrangements, performance results would have been lower. The fund commenced operations on 1/13/00. Class A, B and C share (newer share classes) performance information includes returns of the Fund's class Z shares (the oldest existing share class) for periods prior to the inception dates of the newer share classes. These returns are not restated to reflect any expense differential (e.g., Rule 12b-1 fees) between class Z shares and the newer share classes. Had the expense differential been reflected, the returns for periods prior to the inception date of the newer share classes would have been lower. The fund is available with no transaction fee on all major platforms. The sales charge typically applied to class A shares, which carry a 12b-1 fee, is waived for purchases of the fund through registered investment advisors (RIAs) and defined contribution (DC) plans. Class Z shares, also offered to RIAs and DC plans, are sold without a 12b-1 fee at NAV. [SIDENOTE] PERFORMANCE OF A $10,000 INVESTMENT 01/13/00 - 08/31/04 ($)
SALES CHARGE: WITHOUT WITH - -------------------------------------- Class A 14,220 13,723 Class B 14,001 13,901 Class C 13,906 13,906 Class Z 14,445 n/a
Performance data quoted represents past performance and current performance may be lower or higher. Past performance is no guarantee of future results. The investment return and principal value will fluctuate so that shares, when redeemed, may be worth more or less than the original cost. Please visit www.highlandfunds.com for daily net asset value and most recent month-end performance updates. 2 UNDERSTANDING YOUR EXPENSES HIGHLAND FLOATING RATE ADVANTAGE FUND As a fund shareholder, you incur two types of costs. There are transaction costs, which generally include sales charges on purchases and may include redemption or exchange fees. There are also continuing costs, which generally include investment advisory and/or Rule 12b-1 fees, and other fund expenses. The information on this page is intended to help you understand your ongoing costs of investing in the fund and to compare this cost with the continuing costs of investing in other funds. ANALYZING YOUR FUND'S EXPENSES BY SHARE CLASS To illustrate these ongoing costs, we have provided an example and calculated the expenses paid by investors in each share class during the reporting period. The information in the following table is based on an initial investment of $1,000, which is invested at the beginning of the reporting period and held for the entire period. Expense information is calculated two ways and each method provides you with different information. The amount listed in the "actual" column is calculated using the fund's actual operating expenses and total return for the period. The amount listed in the "hypothetical" column for each share class assumes that the return each year is 5% before expenses and includes the fund's actual expense ratio. You should not use the hypothetical account values and expenses to estimate either your actual account balance at the end of the period or the expenses you paid during this reporting period. MARCH 1, 2004 - AUGUST 31, 2004
ACCOUNT VALUE AT THE ACCOUNT VALUE AT THE EXPENSES PAID FUND'S ANNUALIZED BEGINNING OF THE PERIOD ($) END OF THE PERIOD ($) DURING THE PERIOD ($) EXPENSE RATIO (%) ACTUAL HYPOTHETICAL ACTUAL HYPOTHETICAL ACTUAL HYPOTHETICAL Class A 1,000.00 1,000.00 1,034.64 1,017.29 7.98 7.91 1.56 Class B 1,000.00 1,000.00 1,032.93 1,015.53 9.76 9.68 1.91 Class C 1,000.00 1,000.00 1,032.12 1,014.78 10.52 10.43 2.06 Class Z 1,000.00 1,000.00 1,036.35 1,019.05 6.19 6.14 1.21
Expenses paid during the period are equal to the fund's annualized expense ratio, multiplied by the average account value over the period, then multiplied by the number of days in most recent fiscal half-year and divided by 366. Had the advisor or its affiliates not waived or reimbursed a portion of expenses, total return would have been reduced. It is important to note that the expense amounts shown in the table are meant to highlight only continuing costs of investing in the fund and do not reflect any transactional costs, such as sales charges, redemption or exchange fees. Therefore, the hypothetical examples provided will not help you determine the relative total costs of owning different funds. If these transactional costs were included, your costs would have been higher. COMPARE WITH OTHER FUNDS Since all funds are required to include the same hypothetical calculations about expenses in shareholder reports, you can use this information to compare the ongoing cost of investing in the fund with other funds. To do so, compare the 5% hypothetical example with the 5% hypothetical examples that appear in the shareholder reports of other funds. As you compare hypothetical examples of other fund companies, it is important to note that hypothetical examples are meant to highlight the continuing cost of investing in a fund and do not reflect any transactional costs, such as sales charges or redemption or exchange fees. [SIDENOTE] ESTIMATING YOUR ACTUAL EXPENSES To estimate the expenses that you paid over the period, first you will need your account balance at the end of the period: - - FOR SHAREHOLDERS WHO RECEIVE THEIR ACCOUNT STATEMENTS FROM PFPC INC., YOUR ACCOUNT BALANCE IS AVAILABLE ONLINE AT www.highlandfunds.com OR BY CALLING SHAREHOLDER SERVICES AT 877-665-1287 - - FOR SHAREHOLDERS WHO RECEIVE THEIR ACCOUNT STATEMENTS FROM THEIR BROKERAGE FIRM, CONTACT YOUR BROKERAGE FIRM TO OBTAIN YOUR ACCOUNT BALANCE 1. DIVIDE YOUR ENDING ACCOUNT BALANCE BY $1,000. FOR EXAMPLE, IF AN ACCOUNT BALANCE WAS $8,600 AT THE END OF THE PERIOD, THE RESULT WOULD BE 8.6 2. IN THE SECTION OF THE TABLE BELOW TITLED "EXPENSES PAID DURING THE PERIOD," LOCATE THE AMOUNT FOR YOUR SHARE CLASS. YOU WILL FIND THIS NUMBER IS IN THE COLUMN LABELED "ACTUAL." MULTIPLY THIS NUMBER BY THE RESULT FROM STEP 1. YOUR ANSWER IS AN ESTIMATE OF THE EXPENSES YOU PAID ON YOUR ACCOUNT DURING THE PERIOD 3 ECONOMIC UPDATE HIGHLAND FLOATING RATE ADVANTAGE FUND Despite occasional uncertainty about jobs and consumer spending, the US economy grew at a pace of more than 4.5% during the 12-month period that began September 1, 2003 and ended August 31, 2004. Growth slowed in the final months of the period, and many economists lowered their expectations for the balance of 2004. Nevertheless, the US economy remained on solid ground. Consumer confidence seesawed, mostly in reaction to changing job data, which dominated much of the economic news during the year. The Conference Board reported that confidence declined on weak job figures early in 2004. Confidence rose after the US labor markets added more than 1.2 million new jobs between March and May. However, disappointing job creation in June and July curbed consumer enthusiasm again in August. Consumers expressed their confidence in the economy by spending on retail goods, autos and housing. Low mortgage rates continued to fuel a red-hot housing market. However, consumer spending declined in two of the last three months of the period, the first such pullback in a year. Businesses stepped into the gap and helped fuel the economy during the period. Industrial production rose and factories utilized more of their capacity. Spending on technology and capital equipment picked up, and outlays for office and warehouse construction turned the corner after a three-year downturn. BONDS DELIVER RESPECTABLE RETURNS Despite periods of interest rate volatility, the US bond market delivered respectable gains. The yield on the 10-year US Treasury bond drifted generally lower for the first eight months of the period. Then it rose sharply as the economy strengthened, the employment picture brightened and investors began to anticipate a shift in the Federal Reserve Board's policy on short-term interest rates. The Fed delivered on these expectations and raised the federal funds rate, a key short-term rate, twice during the period--from 1.0% to 1.25% in June and to 1.50% in August.(1) A shaky stock market, higher energy prices and some weak economic data gave the bond market a boost in July and August as the 10-year Treasury yield fell to 4.1%, ending the period lower than where it started. As a result, the Lehman Brothers Aggregate Bond Index, a broad measure of investment grade bond market performance, returned 6.13%. Municipals were the best performers among investment-grade bonds, returning 7.11% as measured by the Lehman Municipal Bond Index. However, the high-yield sector outdistanced all other sectors. The Merrill Lynch US High Yield, Cash Pay Index returned 13.64%. US STOCKS OUTPERFORMED BONDS Buoyed by strong gains at the beginning of the period, the S&P 500 Index returned 11.46% during this 12-month reporting period. However, concerns about new terror threats and higher interest rates and energy prices sidelined investors as the period wore on. Late in the period, leadership passed from small-cap stocks, which were strong performers early in the period, to mid- and large-cap stocks. Value stocks continued to lead growth stocks. Energy stocks and real estate investment trusts were the best-performing sectors for the period. (1) The federal funds rate was raised to 1.75% in September. [SIDENOTE] SUMMARY FOR THE ONE-YEAR PERIOD ENDED AUGUST 31, 2004 - - PERFORMANCE IN THE FIXED INCOME UNIVERSE WAS LED BY HIGH YIELD BONDS. AS MEASURED BY THE MERRILL LYNCH US HIGH YIELD, CASH PAY INDEX, THIS SECTOR POSTED A RETURN MORE THAN SEVEN PERCENTAGE POINTS HIGHER THAN THE RETURN FOR INVESTMENT-GRADE BONDS, AS MEASURED BY THE LEHMAN BROTHERS AGGREGATE BOND INDEX. - - THE US STOCK MARKET ROSE AS THE ECONOMY STRENGTHENED. BOTH THE RUSSELL 3000 INDEX, WHICH TRACKS APPROXIMATELY 98% OF THE US STOCK MARKET, AND THE S&P 500 INDEX POSTED DOUBLE-DIGIT RETURNS THIS PERIOD. [CHART] LEHMAN BROTHERS AGGREGATE BOND INDEX 6.13 MERRILL LYNCH US HIGH YIELD, CASH PAY INDEX 13.64
[CHART] RUSSELL 3000 INDEX 11.31 S&P 500 INDEX 11.46
4 PORTFOLIO MANAGERS' REPORT HIGHLAND FLOATING RATE ADVANTAGE FUND For the 12-month period ended August 31, 2004, class A shares of Highland Floating Rate Advantage Fund returned 13.14% without sales charge. That was greater than the return of the fund's benchmark, the CSFB Leveraged Loan Index, which was 7.05% for the period. The fund also did better than the Lipper Loan Participation Funds Category average, which was 8.82%(1). These high returns reflect an advantageous environment for all types of credit instruments. We believe the fund was able to outperform because of favorable security selection and sector allocation, and also because of the positive effect of using leverage in a rising market. A STRONG CREDIT ENVIRONMENT The period ended August 31, 2004 was another strong year for the credit markets, fueled by improved earnings, strong job growth and increased demand for floating-rate loans. However, financial markets faced pressure from the political instability in the Middle East, high oil prices and increased interest rates. During both its June 30 and August 10 meetings, the Federal Reserve increased the fed funds rate 25 basis points, bringing the fed funds rate to 1.50%. Leveraged loan default rates continued to drop as corporate balance sheets improved. As always, the use of leverage tends to exaggerate the trends of the underlying market. When the market was declining in 2001, the decline was magnified by leverage. Since November 2002, however, the fund's one-fifth to one-third leverage position added several percentage points to the fund's return. CABLE AND TELECOM - RESPECTABLE GAINS Cable and satellite television, which constituted 7.9% of the Fund's net assets, performed well for the fund. Century Cable and Olympus Cable (1.7% and 1.9% of net assets, respectively) had another strong year for the fund. Both of these holdings are wholly-owned subsidiaries of Adelphia, a cable industry bellwether. The fund's position in telecommunications contributed significantly to its strong performance. Telecommunications, which accounted for 8.1% of the fund's net assets, showed continued strength for the second year. Cricket Communications was a very solid performer for the fund. After trading well above par, the bank loans converted to Cricket Communications notes and equity in Leap Wireless during the year. Both the notes and equity had strong performance through the end of the period. Cricket Communications and Leap Wireless were 0.1% and 0.3% of net assets, respectively. (1) Lipper, Inc., a widely respected data provider in the industry, calculates an average total return for mutual funds with similar investment objectives as the fund. This Fund falls under the Lipper Loan Participation Category average. [SIDENOTE] NET ASSET VALUE PER SHARE AS OF 08/31/04 ($) Class A 12.08 Class B 12.08 Class C 12.08 Class Z 12.08
DISTRIBUTIONS DECLARED PER SHARE 09/01/03 - 08/31/04 ($) Class A 0.59 Class B 0.55 Class C 0.53 Class Z 0.63
SEC YIELDS AS OF 08/31/04 (%) Class A 3.91 Class B 3.75 Class C 3.56 Class Z 4.39
The 30-day SEC yields reflect the fund's earning power net of expenses, expressed as an annualized percentage of the public offering price at the end of the period. If the advisor or its affiliates had not waived certain fund expenses, the SEC yields would have been lower. HOLDINGS DISCUSSED IN THIS REPORT AS OF 08/31/04 (%) Century Cable 1.7 Olympus Cable 1.9 Cricket Communications 0.1 Leap Wireless 0.3
Your fund is actively managed and the composition of its portfolio will change over time. Information provided is calculated as a percentage of net assets. 5 The fund did not experience any major defaults during the period. Many lower rated companies have improved their financial condition via newfound access to the high yield bond market. As a result, lower quality credits performed well again this year. /s/ Mark Okada /s/ Joe Dougherty Mark Okada and Joe Dougherty have been portfolio managers of the Highland Floating Rate Advantage Fund since April 15, 2004. Just like any other investment, floating rate loan investments present financial risks. Defaults on the loans in the portfolio could reduce the fund's net asset value and its distributions, as could nonpayment of scheduled interest and principal. Prepayment of principal by a borrower could mean that the fund managers have to replace the loan with a lower-yielding security, which could affect the valuation of the portfolio's holdings. The fund is a continuously offered, closed-end management investment company and provides limited liquidity through a quarterly tender offer for between 5% and 25% of outstanding shares. Each quarter, the fund's trustees must approve the actual tender amount. Please read the prospectus carefully for more details. The fund may invest a high percentage of assets in a limited number of loans, so the default of any individual holding can have a greater impact on the fund's net asset value than could a default in a more diversified portfolio. Floating rate loans are not covered by FDIC insurance or other guarantees relating to timely payment of principal and interest. Since economic and market conditions change frequently, there can be no assurance that the trends described here will continue or that the forecasts will come to pass. The opinions expressed are those of the contributor and are subject to change. Prior investment returns are not indicative of future results. 6 FINANCIAL STATEMENTS AUGUST 31, 2004 HIGHLAND FLOATING RATE ADVANTAGE FUND A GUIDE TO UNDERSTANDING YOUR FUND'S FINANCIAL STATEMENTS INVESTMENT PORTFOLIO The investment portfolio details all of the fund's holdings and their market value as of the last day of the reporting period. Portfolio holdings are organized by type of asset, industry, country or geographic region (if applicable) to demonstrate areas of concentration and diversification. STATEMENT OF ASSETS AND LIABILITIES This statement details the fund's assets, liabilities, net assets and share price for each share class as of the last day of the reporting period. Net assets are calculated by subtracting all the fund's liabilities (including any unpaid expenses) from the total of the fund's investment and non-investment assets. The share price for each class is calculated by dividing net assets for that class by the number of shares outstanding in that class as of the last day of the reporting period. STATEMENT OF OPERATIONS This statement details income earned by the fund and the expenses accrued by the fund during the reporting period. The Statement of Operations also shows any net gain or loss the fund realized on the sales of its holdings during the period, as well as any unrealized gains or losses recognized over the period. The total of these results represents the fund's net increase or decrease in net assets from operations. STATEMENT OF CHANGES IN NET ASSETS This statement demonstrates how the fund's net assets were affected by its operating results, distributions to shareholders and shareholder transactions (e.g., subscriptions, redemptions and dividend reinvestments) during the reporting period. The Statement of Changes in Net Assets also details changes in the number of shares outstanding. STATEMENT OF CASH FLOWS The statement of cash flows reports net cash provided or used by operating, investing and financing activities and the net effect of those flows on cash and cash equivalents during the period. NOTES TO FINANCIAL STATEMENTS These notes disclose the organizational background of the fund, its significant accounting policies (including those surrounding security valuation, income recognition and distributions to shareholders), federal tax information, fees and compensation paid to affiliates and significant risks and contingencies. FINANCIAL HIGHLIGHTS The financial highlights demonstrate how the fund's net asset value per share was affected by the fund's operating results. The financial highlights table also discloses the classes' performance and certain key ratios (e.g., class expenses and net investment income as a percentage of average net assets). 7 INVESTMENT PORTFOLIO AUGUST 31, 2004 HIGHLAND FLOATING RATE ADVANTAGE FUND
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - 105.6% AEROSPACE/DEFENSE - 0.6% DECRANE AIRCRAFT HOLDINGS, INC. Term Loan B 7.110% 06/30/08 1,657,759 1,646,361 VOUGHT AIRCRAFT INDUSTRIES, INC. Term Loan B 5.14% 06/30/07 (b) 216,435 218,599 Term Loan C 5.39% 06/30/08 (b) 1,334,577 1,347,923 Term Lsoan X 4.89% 12/31/06 (b) 847,637 855,054 ---------------------------------------------------------------------------- AEROSPACE/DEFENSE TOTAL 4,067,937 AIR TRANSPORT - 0.2% UNITED AIRLINES, INC. Term Loan B 9.000% 09/30/04 1,486,779 1,503,505 ---------------------------------------------------------------------------- AIR TRANSPORT TOTAL 1,503,505 AUTOMOTIVE - 5.0% EXIDE TECHNOLOGIES European Borrower Dollar Term Loan 5.250% 05/05/10 2,500,000 2,510,938 US Borrower Term Loan 5.250% 05/05/10 2,500,000 2,512,500 FEDERAL-MOGUL CORP. Supplemental Revolver 5.390% 02/06/05 (b) 1,449,678 1,446,053 Term Loan B 4.140% 02/24/05 5,000,000 4,673,440 Term Loan C 5.390% 02/05/05 573,404 577,705 HLI OPERATING CO., INC. Term Loan 4.910% 09/28/04 110,405 112,682 5.390% 09/30/04 571,058 582,836 5.120% 10/29/04 376,423 384,187 5.420% 10/29/04 14,752 15,056 5.330% 11/29/04 380,706 388,558 5.730% 01/26/05 181,787 185,537 KEY AUTOMOTIVE GROUP Term Loan B 4.490% 09/01/04 1,227,273 1,242,614 4.610% 09/29/04 1,295,454 1,311,647 4.780% 11/30/04 1,227,273 1,242,614 Term Loan C 7.270% 09/03/04 1,200,000 1,214,250 7.360% 09/29/04 1,350,000 1,366,031 7.530% 11/30/04 1,200,000 1,214,250 PLASTECH, INC. Term loan B 4.340% 02/12/10 1,484,483 1,506,750 SHILOH INDUSTRIES, INC. Term Loan B 5.640% 01/14/09 3,482,500 3,499,912
See accompanying Notes to Financial Statements. 8
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) AUTOMOTIVE - (CONTINUED) TRW AUTOMOTIVE ACQUISITIONS CORP. Term Loan D1 4.125% 02/28/11 6,765,652 6,888,280 UNITED COMPONENTS, INC. Tranche C 4.420% 06/30/10 856,667 868,981 ---------------------------------------------------------------------------- AUTOMOTIVE TOTAL 33,744,821 BEVERAGE & TOBACCO - 3.8% BUFFETS, INC. Term Loan 4.980% 09/01/04 853,696 863,300 4.590% 09/30/04 2,513,043 2,541,315 Synthetic Letters of Credit 4.610% 06/28/09 466,700 471,950 CARIBBEAN RESTAURANTS LLC Tranche B 4.850% 06/30/09 3,000,000 3,041,250 COMMONWEALTH BRANDS, INC. Term Loan 5.688% 08/28/07 2,135,002 2,160,356 DEL MONTE CORP. Term Loan B 3.836% 09/30/04 759,622 771,847 3.930% 10/29/04 2,950,981 2,998,475 DR. PEPPER BOTTLING COMPANY OF TEXAS Term Loan 3.400% 09/22/04 4,265,258 4,313,907 3.400% 09/30/04 11,371 11,501 DS WATERS ENTERPRISES LP Term Loan 4.336% 09/30/04 1,687,500 1,610,508 4.620% 12/30/04 750,000 715,781 KEYSTONE FOODS HOLDINGS LLC Term Loan 3.938% 06/16/11 4,000,000 4,053,124 SUNNY DELIGHT BEVERAGE CO. First Lien Term Loan 5.980% 08/20/10 2,000,000 2,020,000 ---------------------------------------------------------------------------- BEVERAGE & TOBACCO TOTAL 25,573,314 BROADCASTING RADIO & TELEVISION - 2.6% DIRECTV HOLDINGS LLC Term Loan B2 3.760% 09/15/04 1,517,506 1,539,320 3.880% 10/12/04 1,482,663 1,503,976 FREEDOM COMMUNICATIONS, INC. Term Loan 3.340% 09/01/04 4,061,538 4,124,366 3.750% 11/29/04 1,938,462 1,968,448 GRAY TELEVISION, INC. Incremental Term Loan 3.360% 10/01/04 1,802,483 1,817,128 3.450% 11/03/04 277,305 279,558
See accompanying Notes to Financial Statements. 9
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) BROADCASTING RADIO & TELEVISION - (CONTINUED) GT BRANDS LLC Term Loan 9.500% 09/30/07 1,896,307 1,706,676 SPANISH BROADCASTING SYSTEMS, INC. Term Loan 4.840% 10/30/09 4,353,125 4,423,863 ---------------------------------------------------------------------------- BROADCASTING RADIO & TELEVISION TOTAL 17,363,335 BUILDING & DEVELOPMENT - 1.1% AIMCO PROPERTIES LP Term Loan 4.700% 05/30/08 2,000,000 2,018,750 CB RICHARD ELLIS SERVICES, INC. Term Loan 4.060% 09/15/04 1,002,046 1,008,622 4.419% 12/15/04 1,473,008 1,482,675 4.420% 02/16/05 330,675 332,846 NATG HOLDINGS LLC Credit Linked Certificate of Deposit 0.850% 01/23/05 131,418 101,849 Term Loan A 6.130% 01/23/09 121,791 25,843 Term Loan B1 6.630% 01/23/10 86,522 18,359 Term Loan B2 6.630% 01/23/10 9,144 7,406 ST. MARY'S CEMENT, INC. Term Loan B 4.086% 12/04/09 995,000 1,003,706 TAPCO INTERNATIONAL CORP. Term Loan B 4.330% 09/29/04 243,353 244,570 4.340% 09/30/04 602,297 605,309 Term Loan C 4.580% 09/29/04 243,353 244,570 4.590% 09/30/04 361,378 363,185 ---------------------------------------------------------------------------- BUILDING & DEVELOPMENT TOTAL 7,457,690 BUSINESS EQUIPMENT & SERVICES - 4.2% AMERICAN ACHIEVEMENT CORP. Term Loan B 4.086% 09/28/04 3,251,613 3,280,065 4.290% 11/29/04 225,806 227,782 6.000% 11/30/04 5,081 5,125 BRICKMAN GROUP HOLDINGS, INC. Term Loan 6.775% 11/15/09 4,888,889 4,876,667 GLOBAL IMAGING SYSTEMS, INC. First Additional Term Loan 3.590% 09/30/04 348,357 352,276 3.680% 11/12/04 378,081 382,334 3.720% 11/16/04 3,213,687 3,249,841 HILLMAN GROUP, INC. Term Loan B 6.750% 09/30/04 14,375 14,537 4.625% 10/26/04 5,721,250 5,785,614
See accompanying Notes to Financial Statements. 10
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) BUSINESS EQUIPMENT & SERVICES - (CONTINUED) INFOUSA , INC. Term Loan 4.000% 03/25/09 3,833,333 3,881,250 TRANSCORE HOLDINGS, INC. Term Loan B 4.827% 09/30/04 1,128,000 1,142,100 6.250% 11/30/04 2,981 3,018 Term Loan C 4.828% 09/30/04 3,952,941 4,002,353 6.250% 11/30/04 17,059 17,272 URS CORP. Term Loan B 3.630% 08/22/08 727,451 731,316 ---------------------------------------------------------------------------- BUSINESS EQUIPMENT & SERVICES TOTAL 27,951,550 CABLE & SATELLITE TELEVISION - 7.9% ATLANTIC BROADBAND FINANCE LLC Term Loan B 4.610% 09/01/11 4,000,000 4,055,000 BRESNAN COMMUNICATIONS LLC Term Loan B 4.830% 09/07/04 1,244,444 1,262,722 4.860% 09/07/04 311,111 315,681 5.090% 09/30/04 311,111 315,681 5.110% 10/15/04 1,633,334 1,657,324 CENTURY CABLE HOLDINGS LLC Discretionary Term Loan 6.500% 12/31/09 1,000,000 975,208 Term Loan 6.500% 06/30/09 10,500,000 10,259,067 CHARTER COMMUNICATIONS OPERATING LLC Tranche A Term Loan 4.670% 04/27/10 3,000,000 2,930,556 Tranche B Term Loan 4.920% 04/27/11 5,000,000 4,941,145 CSC HOLDINGS, INC. (b) Revolver 2.563% 09/01/04 731,250 723,024 2.813% 09/01/04 43,750 43,258 2.750% 09/07/04 718,750 710,664 5.250% 09/30/04 7,500 7,416 3.063% 10/08/04 175,000 173,031 3.413% 11/08/04 730,000 721,787 OLYMPUS CABLE HOLDINGS LLC Term Loan A 5.750% 06/30/10 6,000,000 5,826,426 Term Loan B 6.500% 09/30/10 7,000,000 6,842,500 SUSQUEHANNA MEDIA CO. Term Loan B 3.150% 03/31/12 4,000,000 4,056,252 UPC FINANCING PARTNERSHIP Term Loan C2 7.381% 12/30/04 35,000 35,361 7.325% 01/07/05 6,930,000 7,001,469 ---------------------------------------------------------------------------- CABLE & SATELLITE TELEVISION TOTAL 52,853,572
See accompanying Notes to Financial Statements. 11
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) CHEMICALS/PLASTICS - 4.2% BCP CAYLUX HOLDINGS LUXEMBOURG Bridge Term C 5.730% 02/19/05 4,000,000 4,054,376 BRENNTAG AG Term Loan B2 4.730% 02/27/12 3,500,000 3,545,937 HUNTSMAN LLC Term Loan A 5.625% 03/31/07 5,372,299 5,400,122 Term Loan B 11.438% 09/16/04 832,978 837,292 11.438% 09/23/04 18,948 19,046 KRATON POLYMERS LLC Term Loan 4.063% 09/24/04 259,259 259,583 4.375% 12/23/04 1,996,946 1,999,442 4.500% 01/04/05 32,408 32,449 NALCO CO. Term Loan A 4.070% 09/23/04 1,350,000 1,365,862 4.080% 09/23/04 1,145,674 1,159,136 4.430% 01/24/05 787,500 796,753 Term Loan B 4.080% 09/23/04 926,905 942,216 4.110% 09/23/04 648,525 659,237 4.430% 01/24/05 572,228 581,680 POLYPORE, INC. Term Loan 4.840% 11/12/11 2,000,000 2,016,250 4.840% 11/12/11 2,000,000 2,016,250 WADDINGTON NORTH AMERICA, INC. Term Loan B 4.570% 04/07/11 4,455,000 4,445,257 ---------------------------------------------------------------------------- CHEMICALS/PLASTICS TOTAL 28,114,638 CLOTHING/TEXTILES - 1.8% MAIDENFORM, INC. Term Loan 4.850% 05/11/10 3,000,000 3,022,500 POLYMER GROUP, INC. First Lien Term Loan 3.890% 04/27/10 3,000,000 3,021,876 SPRINGS INDUSTRIES, INC. Term Loan A 4.875% 03/05/07 666,379 669,919 Term Loan B 5.586% 09/05/08 4,986,010 5,049,372 ---------------------------------------------------------------------------- CLOTHING/TEXTILES TOTAL 11,763,667 CONGLOMERATE - 1.4% APPLETON PAPERS, INC. Term Loan 3.790% 09/20/04 1,750,000 1,770,781 3.980% 11/19/04 1,750,000 1,770,782
See accompanying Notes to Financial Statements. 12
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) CONGLOMERATE - (CONTINUED) JASON, INC. Term Loan B 5.890% 09/29/04 3,281 3,248 6.031% 11/29/04 1,256,458 1,243,894 MUELLER GROUP, INC. Term Loan 4.400% 09/30/04 1,523,133 1,530,748 4.930% 10/29/04 183,511 184,428 4.540% 11/30/04 183,510 184,428 YOUTH & FAMILY CENTERED SERVICES, INC. Term Loan B 7.250% 05/28/11 3,000,000 3,000,000 ---------------------------------------------------------------------------- CONGLOMERATE TOTAL 9,688,309 CONTAINERS/GLASS PRODUCTS - 1.4% CONSOLIDATED CONTAINERS CO. LLC Term Loan 4.688% 09/30/04 8,750 8,804 3.250% 12/31/04 8,750 8,805 5.125% 03/03/05 3,482,500 3,504,266 GRAPHIC PACKAGING INTERNATIONAL, INC. Term Loan B 4.350% 08/09/10 3,960,000 4,019,400 REDDY ICE GROUP, INC. Supplemental Term Loan 4.150% 08/14/09 744,375 752,439 SOLA INTERNATIONAL, INC. Term Loan 4.090% 12/11/09 1,234,375 1,251,348 ---------------------------------------------------------------------------- CONTAINERS/GLASS PRODUCTS TOTAL 9,545,062 COSMETICS/TOILETRIES - 1.7% AMERICAN SAFETY RAZOR CO. Tranche B 4.950% 10/29/04 20,000 20,250 4.840% 11/29/04 1,137,255 1,151,470 5.020% 11/29/04 837,745 848,217 CHURCH & DWIGHT CO., INC. Tranche B 3.270% 05/30/11 3,000,000 3,039,843 JOHNSON DIVERSEY, INC. Term Loan B 3.754% 09/03/04 117,204 119,211 3.950% 11/03/04 3,814,425 3,879,747 REVLON CONSUMER PRODUCTS CORP. Term Loan 7.600% 10/13/04 1,000,000 1,017,500 7.860% 01/11/05 1,000,000 1,017,500 ---------------------------------------------------------------------------- COSMETICS/TOILETRIES TOTAL 11,093,738 ECOLOGICAL SERVICES & EQUIPMENT - 3.3% ALLIED WASTE NORTH AMERICA, INC. Tranche A 3.860% 01/15/10 13,064,343 13,263,574 Tranche C 4.270% 09/15/04 760,569 773,166 4.300% 09/22/04 3,042,274 3,092,664
See accompanying Notes to Financial Statements. 13
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) ECOLOGICAL SERVICES & EQUIPMENT - (CONTINUED) ENVIRONMENTAL SYSTEMS PRODUCTS HOLDINGS Second Lien 11.586% 09/30/04 2,083,333 2,151,041 11.680% 10/29/04 1,861,111 1,921,597 11.781% 11/30/04 555,556 573,612 ---------------------------------------------------------------------------- ECOLOGICAL SERVICES & EQUIPMENT TOTAL 21,775,654 ELECTRONICS/ELECTRIC - 3.5% AMI SEMICONDUCTOR, INC. Term Loan 4.140% 09/26/08 992,500 1,003,666 CACI INTERNATIONAL, INC. Term Loan 3.630% 09/30/04 12,500 12,570 3.710% 11/09/04 12,500 12,571 3.950% 02/09/05 4,962,500 4,990,414 SEMICONDUCTORS COMPONENTS INDUSTRIES LLC Term Loan F 4.375% 08/04/09 3,064,619 3,092,071 TRANSACTION NETWORK SERVICES, INC. Term Loan 3.875% 12/31/08 3,661,541 3,652,387 TRANSFIRST HOLDINGS, INC. Term Loan C 9.200% 03/31/11 2,250,000 2,255,625 UGS CORP. Term Loan B 3.850% 05/27/11 3,000,000 3,022,500 VERIFONE, INC. Second Lien Term Loan 7.680% 12/31/11 1,000,000 1,020,000 VIASYSTEMS, INC. Term Loan B 7.150% 09/30/08 4,289,988 4,331,099 ---------------------------------------------------------------------------- ELECTRONICS/ELECTRIC TOTAL 23,392,903 EQUIPMENT LEASING - 1.1% NATIONAL EQUIPMENT SERVICES Revolver 7.000% 08/17/09 (b) 80,000 80,400 First Lien Term Loan 9.500% 08/17/09 1,333,333 1,340,000 UNITED RENTALS (NORTH AMERICA), INC. Credit Linked Deposit 3.611% 02/14/11 2,723,333 2,765,319 Delayed Draw Term Loan B 3.890% 09/30/04 2,533,333 2,562,783 4.030% 11/30/04 625,417 632,687 ---------------------------------------------------------------------------- EQUIPMENT LEASING TOTAL 7,381,189 FARMING/AGRICULTURE - 1.0% AGCO CORP. Term Loan 3.586% 09/30/04 1,165,500 1,173,149 3.590% 10/13/04 5,296,667 5,331,429 ---------------------------------------------------------------------------- FARMING/AGRICULTURE TOTAL 6,504,578
See accompanying Notes to Financial Statements. 14
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) FINANCIAL INTERMEDIARIES - 2.4% CONSECO, INC. Term Loan 5.110% 06/22/10 9,000,000 9,136,872 MARINA DISTRICT FINANCE CO., INC. Term Loan A 3.410% 09/30/04 293,551 295,263 3.840% 09/30/04 267,516 269,076 3.890% 09/30/04 1,400,637 1,408,807 3.850% 10/04/04 735,669 739,960 3.900% 10/13/04 189,067 190,170 METRIS COMPANIES., INC. Term Loan 10.992% 5/6/07 4,000,000 4,150,000 ---------------------------------------------------------------------------- FINANCIAL INTERMEDIARIES TOTAL 16,190,148 FOOD/DRUG RETAIL - 1.2% MICHAEL FOODS, INC. Floater Term Loan 5.214% 11/20/11 3,000,000 3,088,125 Term Loan 3.964% 11/22/04 4,191,920 4,256,765 4.230% 11/22/04 353,535 359,004 4.240% 11/22/04 13,005 13,206 4.090% 11/26/04 404,040 410,290 ---------------------------------------------------------------------------- FOOD/DRUG RETAIL TOTAL 8,127,390 FOOD PRODUCTS - 3.5% BURNS PHILP, INC. Delayed Drraw Term Loan B 4.828% 02/20/09 6,559,332 6,649,523 INTERSTATE BRANDS CORP. Term Loan B 5.350% 09/24/04 389,873 363,557 3.336% 09/30/04 155,949 145,423 5.480% 11/22/04 389,874 363,557 Term Loan C 5.086% 09/30/04 238,791 222,673 4.920% 02/14/05 2,656,549 2,477,232 Tranche A 5.230% 11/19/04 166,667 155,417 5.420% 02/25/05 458,333 427,395 LUIGINO'S, INC. Term Loan B 4.313% 09/01/04 2,571,429 2,597,144 4.688% 09/30/04 1,917,321 1,936,494 MERISANT CO. Term Loan B 4.430% 01/11/10 791,995 796,252 PINNACLE FOODS CORP. Delayed Draw Term Loan 4.030% 09/30/04 18,000 18,225 4.200% 12/31/04 18,000 18,225 4.260% 01/04/05 7,146,000 7,235,325 ---------------------------------------------------------------------------- FOOD PRODUCTS TOTAL 23,406,442
See accompanying Notes to Financial Statements. 15
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) FOOD SERVICES - 0.4% AFC ENTERPRISES, INC. Term Loan A 3.938% 09/13/04 295,039 291,351 4.250% 09/14/04 295,039 291,350 4.375% 09/30/04 225,494 222,675 DOMINO'S, INC. Term Loan 3.875% 06/25/10 2,115,161 2,151,185 ---------------------------------------------------------------------------- FOOD SERVICES TOTAL 2,956,561 FOREST PRODUCTS - 2.5% RLC INDUSTRIES CO. Term Loan B 3.640% 02/26/10 8,469,969 8,554,668 SOLO CUP, INC. Term Loan 4.086% 09/30/04 2,980,385 3,014,534 4.210% 11/01/04 3,984,615 4,030,271 SP NEWSPRINT CO. Term Loan 4.610% 01/08/10 350,556 355,376 Term Loan B 1.579% 01/09/08 644,444 654,111 ---------------------------------------------------------------------------- FOREST PRODUCTS TOTAL 16,608,960 HEALTHCARE - 5.4% AMERIPATH, INC. Term Loan 4.360% 03/27/10 3,220,000 3,244,150 COLGATE MEDICAL LTD. Term Loan B 4.340% 09/30/04 867,045 876,529 4.340% 09/28/04 795,455 804,155 CONCENTRA OPERATING CORP. Term Loan 4.120% 09/30/04 5,774 5,774 4.260% 11/26/04 2,303,896 2,303,896 DAVITA, INC. Term Loan B 3.160% 09/30/04 650,232 656,792 3.586% 09/30/04 650,232 656,792 3.600% 10/15/04 387,112 391,017 3.740% 11/23/04 387,111 391,017 3.870% 12/31/04 650,231 656,792 3.980% 01/31/05 229,400 231,714 DJ ORTHOPEDICS LLC Term Loan 3.875% 09/30/04 9,375 9,482 3.938% 10/29/04 196,875 199,092 4.250% 01/31/05 525,000 530,903 HANGER ORTHOPEDIC Term Loan B 4.340% 09/30/09 1,994,975 1,997,469 KINETIC CONCEPTS, INC. Term Loan B1 3.590% 08/11/10 1,664,992 1,687,885
See accompanying Notes to Financial Statements. 16
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) HEALTHCARE - (CONTINUED) KNOWLEDGE LEARNING CORP. Term Loan B 4.780% 09/03/04 106,383 107,181 4.880% 09/27/04 808,511 814,575 4.890% 09/30/04 42,220 42,536 6.500% 09/30/04 3,936,170 3,965,692 LEINER HEALTH PRODUCTS GROUP, INC. Term Loan B 4.590% 09/30/04 7,500 7,594 4.890% 12/31/04 2,992,500 3,029,906 MEDASSETS, INC. Second Lien Term Loan 11.150% 06/16/08 500,000 507,500 Senior Term Loan 5.900% 09/30/04 832,015 838,255 6.350% 09/30/04 107,143 107,947 MEDEX, INC. Term Loan 4.600% 05/30/09 1,980,000 2,002,687 MEDPOINTE, INC. Term Loan B 6.850% 09/30/04 7,079 7,108 6.950% 11/05/04 2,746,800 2,757,960 PACIFICARE HEALTH SYSTEMS, INC. Term Loan 4.100% 09/13/04 323,333 327,913 4.143% 10/13/04 333,333 338,056 4.210% 11/15/04 333,334 338,056 PERKINELMER, INC. Term Loan B 3.600% 09/24/04 3,912,088 3,949,578 5.750% 09/30/04 98,504 99,448 VICAR OPERATING, INC. Term Loan E 3.938% 06/30/09 2,493,750 2,531,156 ---------------------------------------------------------------------------- HEALTHCARE TOTAL 36,416,607 HOME FURNISHINGS - 1.3% HOLMES GROUP, INC. First Lien Term Loan 4.719% 09/13/04 693,182 689,716 4.850% 09/17/04 3,466 3,449 4.961% 11/19/04 689,716 686,267 JARDEN CORP. Term Loan B 3.836% 04/24/08 1,240,625 1,249,154 JUNO LIGHTING, INC. First Lien Term Loan 4.340% 10/01/04 1,927,273 1,956,182 4.620% 10/01/04 909,090 922,727 6.250% 11/30/04 10,682 10,842 SEALY MATTRESS CO. Term Loan C 4.063% 08/06/12 2,866,071 2,898,911 ---------------------------------------------------------------------------- HOME FURNISHINGS TOTAL 8,417,248
See accompanying Notes to Financial Statements. 17
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) INDUSTRIAL EQUIPMENT - 1.0% AXIA, INC. Term Loan B 5.680% 09/13/04 250,000 252,969 5.890% 09/30/04 16,667 16,865 5.930% 11/12/04 233,333 236,104 5.990% 12/13/04 458,333 463,776 DRESSER, INC. Term Loan C 4.150% 04/10/09 1,014,673 1,030,051 TEREX CORP. Incremental Term Loan 3.890% 11/08/04 303,149 307,791 4.160% 12/07/04 359,629 365,136 Term Loan 3.160% 09/30/04 1,625,230 1,647,577 3.340% 10/29/04 1,625,230 1,647,577 3.781% 11/30/04 621,644 630,191 ---------------------------------------------------------------------------- INDUSTRIAL EQUIPMENT TOTAL 6,598,037 LEISURE GOODS/ACTIVITIES/MOVIES - 4.0% AMF BOWLING WORLDWIDE, INC. Term Loan B 4.150% 09/29/04 1,425,926 1,438,849 4.580% 09/30/04 2,037,037 2,055,499 6.500% 09/30/04 122,222 123,330 4.670% 10/29/04 1,208,472 1,219,424 4.760% 11/26/04 692,593 698,870 AMSCAN HOLDINGS, INC. Term Loan 4.350% 09/14/04 907,317 918,658 4.350% 10/14/04 195,122 197,561 4.591% 01/14/05 897,561 908,781 CNL HOSPITALITY PARTNERS LP Term Loan 4.313% 01/03/05 2,640,845 2,640,845 METRO-GOLDWYN-MAYER STUDIOS, INC. Term Loan B 4.140% 04/30/11 5,000,000 5,024,375 REGAL CINEMAS, INC. Term Loan 3.881% 11/10/10 2,901,591 2,937,861 SIX FLAGS THEME PARKS, INC. Term Loan B 4.040% 06/30/09 1,584,525 1,592,943 TRUE TEMPER SPORTS, INC. Term Loan 3.860% 09/07/04 995,000 985,050 4.210% 11/09/04 1,000,000 990,000 WARNER MUSIC GROUP Term Loan B 4.025% 10/22/04 1,250,000 1,267,858 4.319% 11/30/04 2,487,500 2,523,036 4.531% 11/24/04 1,237,500 1,255,179 ---------------------------------------------------------------------------- LEISURE GOODS/ACTIVITIES/MOVIES TOTAL 26,778,119
See accompanying Notes to Financial Statements. 18
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) LODGING & CASINOS - 5.5% OPBIZ Term Loan A 4.800% 08/31/10 (c) 8,239,367 8,113,498 Term Loan B 5.975% 08/31/10 (c) 19,057 18,766 ALLIANCE GAMING CORP. Term Loan B 3.788% 09/04/09 3,320,269 3,364,539 AMERISTAR CASINOS, INC. Term Loan B1 3.563% 12/20/06 787,505 798,087 BORA BORA LLC Term Loan 7.070% 12/31/05 5,000,000 5,087,500 BOYD GAMING CORP. Term Loan B 3.350% 09/30/04 2,000,000 2,022,188 3.690% 12/31/04 2,000,000 2,022,188 GLOBAL CASH ACCESS LLC Term Loan 4.390% 03/10/10 4,937,500 5,011,562 GREEN VALLEY RANCH GAMING LLC Term Loan B 4.336% 12/22/10 3,980,000 4,039,700 WYNDHAM INTERNATIONAL, INC. Term Loan I 6.375% 06/30/06 6,639,342 6,505,174 ---------------------------------------------------------------------------- LODGING & CASINOS TOTAL 36,983,202 NONFERROUS METALS/MINERALS - 0.7% CONSOL ENERGY, INC. Tranche B 3.990% 06/30/10 2,000,000 2,023,750 FAIRMOUNT MINERALS, LTD. First Lien Term Loan 4.850% 04/07/10 2,459,375 2,471,672 ---------------------------------------------------------------------------- NONFERROUS METALS/MINERALS TOTAL 4,495,422 OIL & GAS - 5.8% ALON USA, INC. Term Loan 10.000% 12/12/08 6,000,000 6,180,000 ATP OIL & GAS CORP. First Lien Term loan 10.500% 09/15/04 661,667 678,209 10.500% 09/30/04 666,667 683,334 10.500% 10/29/04 333,333 341,666 10.500% 01/31/05 333,333 341,666 Second Lien Term Loan 12.000% 09/15/04 701,786 819,335 12.000% 01/31/05 4,285,714 5,003,571 BELDEN & BLAKE CORP. Term Loan 6.000% 06/30/11 2,500,000 2,523,437
See accompanying Notes to Financial Statements. 19
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) OIL & GAS - (CONTINUED) DYNEGY HOLDINGS, INC. Term Loan 5.530% 05/27/10 3,000,000 3,057,189 GETTY PETROLEUM MARKETING, INC. Term Loan 4.840% 05/19/10 3,000,000 3,049,689 LA GRANGE ACQUISITION LP Term Loan 4.480% 09/03/04 551,724 560,000 4.640% 09/30/04 448,276 455,000 MAGELLAN MIDSTREAM HOLDINGS LP Tranche B 4.650% 06/17/08 507,766 515,382 PREMCOR REFINING GROUP Synthetic Tranche Facility 3.495% 04/13/09 1,000,000 1,010,625 PRIDE OFFSHORE, INC. Term Advances 3.340% 07/07/11 3,000,000 3,038,124 SECUNDA INTERNATIONAL LTD. Floating Rate Note 9.780% 09/01/12 4,500,000 4,432,500 TESORO PETROLEUM CORP. Fixed Asset Term Loan 7.100% 04/15/08 1,979,950 2,041,206 WESTERN REFINING CO. LP Term Loan B 5.140% 08/28/08 1,920,000 1,948,800 WILLIAMS PRODUCTION RMT CO. Term Loan C 4.100% 05/30/07 1,856,297 1,884,915 ---------------------------------------------------------------------------- OIL & GAS TOTAL 38,564,648 PUBLISHING - 3.6% ADAMS OUTDOOR ADVERTISING LP First Lien Term Loan 3.880% 10/15/11 1,500,000 1,518,124 DEX MEDIA EAST LLC Term Loan A 3.570% 09/09/04 895,476 906,296 3.580% 09/13/04 660,749 668,733 3.600% 09/20/04 615,421 622,857 3.590% 09/30/04 895,476 906,296 3.710% 11/08/04 1,119,345 1,132,870 3.760% 11/26/04 727,355 736,144 3.790% 11/30/04 911,894 922,912 DEX MEDIA WEST LLC Term Loan A 3.570% 09/09/04 780,274 790,677 3.580% 09/13/04 361,765 366,588 3.540% 09/20/04 478,804 485,188 3.590% 09/30/04 997,509 1,010,809 3.580% 10/08/04 580,772 588,515 3.700% 10/26/04 1,644,781 1,666,711 3.680% 11/12/04 319,203 323,459 3.730% 11/19/04 545,305 552,576 3.790% 11/30/04 987,755 1,000,925
See accompanying Notes to Financial Statements. 20
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) PUBLISHING - (CONTINUED) R.H. DONNELLY, INC. New Term B-2 3.630% 09/08/04 724,059 733,152 3.840% 09/08/04 160,960 162,981 3.800% 09/21/04 160,960 162,981 3.810% 09/23/04 160,960 162,981 3.840% 09/30/04 1,104,997 1,118,885 3.860% 10/04/04 160,961 162,981 3.840% 10/12/04 482,881 488,950 RELIZON CO. Term Loan 4.730% 02/20/11 1,793,333 1,803,421 TRANSWESTERN PUBLISHING CO. First Lien Term Loan 3.375% 09/30/04 1,625,000 1,638,712 3.875% 09/30/04 650,000 655,485 3.938% 04/26/05 2,500,000 2,521,094 ---------------------------------------------------------------------------- PUBLISHING TOTAL 23,811,303 REAL ESTATE INVESTMENT TRUSTS - 0.7% CENTRAL PARKING CORP. Term Loan B 4.336% 03/31/10 1,626,300 1,647,138 CRESCENT REAL ESTATE EQUITIES LP Term Loan 3.742% 09/01/04 519,822 525,833 3.850% 09/15/04 2,038,802 2,062,377 3.850% 09/20/04 318,182 321,861 ---------------------------------------------------------------------------- REAL ESTATE INVESTMENTS TRUSTS TOTAL 4,557,209 RETAILERS - 1.3% ADVANCE STORES CO., INC. Term Loan D 3.563% 09/07/04 131,333 133,016 3.750% 11/04/04 601,944 609,657 Term Loan E 3.375% 09/07/04 1,432,536 1,452,233 3.563% 09/07/04 531,341 538,647 3.750% 11/04/04 1,002,776 1,016,564 CH OPERATING LLC Term Loan 6.188% 09/30/04 206,897 207,414 6.188% 10/29/04 1,137,931 1,140,776 KEYSTONE AUTOMOTIVE INDUSTRIES, INC. Term Loan 6.000% 09/30/04 35,875 36,351 4.669% 12/17/04 995,516 1,008,738 4.671% 02/17/05 932,735 945,122 RAYOVAC CORP. Term Loan C 4.110% 09/23/04 548,896 555,185 4.100% 10/12/04 441,640 446,701 4.211% 11/15/04 630,915 638,144 ---------------------------------------------------------------------------- RETAILERS TOTAL 8,728,548
See accompanying Notes to Financial Statements. 21
PAR ($) VALUE ($) - ------------------------------------------ ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) STEEL - 0.9% AMSTED INDUSTRIES, INC. Term Loan 5.590% 09/30/04 534,706 546,403 5.600% 09/30/04 141,176 144,264 5.710% 11/01/04 2,294,118 2,344,302 THE TECHS INDUSTRIES, INC. Term Loan 3.890% 01/14/10 2,962,500 2,969,906 ---------------------------------------------------------------------------- STEEL TOTAL 6,004,875 SURFACE TRANSPORT - 3.3% COMCAR INDUSTRIES, INC. Term Loan B 6.610% 09/20/04 2,850,000 2,835,750 6.615% 09/24/04 120,000 119,400 8.000% 11/01/04 15,000 14,925 LAIDLAW INVESTMENTS LTD. Term Loan B 5.500% 06/19/09 6,198,750 6,303,354 PACER INTERNATIONAL, INC. Term Loan 4.063% 09/15/04 39,216 39,780 4.188% 09/16/04 47,059 47,735 4.063% 11/12/04 286,216 290,330 4.438% 12/15/04 113,784 115,420 4.063% 04/14/05 215,686 218,786 QUALITY DISTRIBUTIONS, INC. PF Letters of Credit 1.000% 11/13/09 1,000,000 995,000 Term Loan 4.640% 09/30/04 154,343 153,571 4.600% 10/15/04 4,833,094 4,808,929 TRANSPORT INDUSTRIES LP Term Loan B 5.563% 06/13/10 3,000,000 3,005,625 TTI, INC. Term Loan 5.400% 09/30/04 42,957 43,315 4.985% 10/18/04 1,267,217 1,277,777 5.360% 10/18/04 1,153,651 1,163,264 YELLOW ROADWAY CORP. Credit Linked Certificate of Deposit 1.499% 06/11/08 545,455 550,398 Initial Term Loan 5.250% 06/11/08 194,805 196,571 ---------------------------------------------------------------------------- SURFACE TRANSPORT TOTAL 22,179,930 TELECOMMUNICATIONS/CELLULAR - 5.5% AIRGATES PCS, INC. Tranche 1 5.375% 09/30/04 545,045 543,683 5.438% 11/30/04 19,089 19,041 Tranche 2 5.438% 09/30/04 195,612 195,123 5.125% 10/25/04 333,623 332,789
See accompanying Notes to Financial Statements. 22
PAR ($) VALUE ($) - -------------------------------------------- ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) TELECOMMUNICATIONS/CELLULAR - (CONTINUED) 5.625% 12/15/04 200,174 199,673 5.625% 12/31/04 200,174 199,673 5.750% 01/04/05 1,000,870 998,368 5.750% 02/09/05 600,521 599,020 5.750% 02/28/05 5,488,848 5,475,126 AMERICAN TOWER LP Term Loan B 3.880% 08/31/11 2,000,000 2,030,312 CONSOLIDATED COMMUNICATIONS, INC. Term Loan B 4.336% 09/30/04 1,666,667 1,689,584 4.350% 09/30/04 2,261,905 2,293,006 4.480% 11/19/04 3,571,428 3,620,535 NEXTEL PARTNERS OPERATING CORP. Term Loan C 4.313% 05/31/11 6,800,000 6,896,050 QWEST CORP. Term Loan A 6.500% 06/30/07 5,000,000 5,173,750 WESTERN WIRELESS CORP. Term Loan B 4.530% 09/07/04 3,538,461 3,592,171 4.600% 10/05/04 1,230,769 1,249,451 4.630% 10/21/04 615,385 624,726 4.670% 10/28/04 615,385 624,726 ---------------------------------------------------------------------------- TELECOMMUNICATIONS/CELLULAR TOTAL 36,667,659 TELECOMMUNICATIONS/COMBINATION - 1.4% ALASKA COMMUNICATIONS SYSTEMS HOLDINGS, INC. Term Loan 4.875% 02/14/09 1,741,250 1,759,025 CENTENNIAL CELLULAR OPERATING CO. Tranche B 3.910% 09/30/04 6,875,000 6,899,172 4.338% 11/30/04 312,500 313,599 4.531% 11/30/04 275,000 275,967 ---------------------------------------------------------------------------- TELECOMMUNICATIONS/COMBINATION TOTAL 9,247,763 TELECOMMUNICATIONS/WIRELESS - 0.2% DOBSON CELLULAR SYSTEMS, INC. Revolver 5.100% 10/21/09 233,333 223,417 SPECTRASITE COMMUNICATIONS, INC. Incremental Term Loan 3.930% 12/31/07 1,118,866 1,135,649 ---------------------------------------------------------------------------- TELECOMMUNICATIONS/WIRELESS TOTAL 1,359,066 TELECOMMUNICATIONS/WIRELINE - 0.7% VALOR TELECOMMUNICATIONS ENTERPRISES II LLC Term Loan A 4.080% 09/10/04 1,471,927 1,476,527 4.140% 09/30/04 639,971 641,971 Term Loan B 5.330% 09/10/04 1,097,905 1,104,767 5.390% 09/30/04 1,232,793 1,240,498 ---------------------------------------------------------------------------- TELECOMMUNICATIONS/WIRELINE TOTAL 4,463,763
See accompanying Notes to Financial Statements. 23
PAR ($) VALUE ($) - -------------------------------------------- ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) UTILITIES - 9.5% ALLEGHENY ENERGY SUPPLY CO. Term Loan C 5.830% 09/30/04 109,375 111,278 5.640% 11/10/04 5,500,000 5,595,677 6.190% 02/07/05 625,000 635,873 CALPINE CONSTRUCTION FINANCE CO., LP Term Loan 7.625% 08/26/09 4,974,874 5,328,090 CALPINE CORP. Second Lien 7.350% 07/16/07 6,633,000 5,638,050 CENTERPOINT ENERGY, INC. Term Loan 4.723% 10/07/06 4,959,459 4,983,637 INFRASOURCE, INC. Term Loan 4.590% 09/30/10 3,272,961 3,248,413 MIDWEST GENERATION LLC Term Loan 4.850% 10/01/04 742,500 752,709 4.890% 10/01/04 750,000 760,313 4.570% 10/27/04 1,500,000 1,520,625 MISSION ENERGY HOLDING CO. Term Loan 7.000% 09/01/04 875,000 879,375 7.000% 12/10/04 875,000 879,375 Term Loan B 9.110% 07/02/06 7,032,467 7,401,672 NORTHWESTERN CORP. Term Loan 7.100% 12/01/06 2,462,500 2,493,282 NRG ENERGY, INC. Credit Linked Deposit 5.500% 06/23/10 416,667 430,729 Term Loan 5.559% 06/23/10 738,363 763,467 NUI CORP. Closing Date Term Loan 6.559% 11/23/04 1,438,424 1,443,818 Term Loan 8.000% 11/23/04 7,335,963 7,363,473 ORION POWER MIDWEST LP Term Loan 4.610% 09/07/04 1,823,283 1,824,423 4.780% 09/07/04 97,242 97,303 4.890% 09/30/04 3,047,136 3,049,040 RIVERSIDE ENERGY CENTER LLC Term Loan 6.020% 06/24/11 2,785,336 2,813,190 ROCKY MOUNTAIN ENERGY CENTER LLC Credit-Linked Deposit 6.020% 06/24/11 212,396 214,520 Term Loan 6.020% 06/24/11 2,002,268 2,022,290
See accompanying Notes to Financial Statements. 24
PAR ($) VALUE ($) - -------------------------------------------- ---------------------------------------------------------------------------- VARIABLE RATE SENIOR LOAN INTERESTS (a) - (CONTINUED) UTILITIES - (CONTINUED) TNP ENTERPRISES, INC. Term Loan 6.725% 12/31/06 2,970,000 3,025,688 ---------------------------------------------------------------------------- UTILITIES TOTAL 63,276,310 TOTAL VARIABLE RATE SENIOR LOAN INTERESTS (COST OF $697,958,321) 705,614,672 SENIOR NOTES - 0.1% TELECOMMUNICATIONS/WIRELESS - 0.1% CRICKET COMMUNICATIONS, INC. Senior Secured Note 1.000% 08/16/10 460,200 542,461 ---------------------------------------------------------------------------- TELECOMMUNICATIONS/WIRELESS TOTAL 542,461 TOTAL SENIOR NOTES (COST OF $0) 542,461 SHARES ---------------------------------------------------------------------------- COMMON STOCKS ( D) - 0.5% BUSINESS SERVICES - 0.0% NATG HOLDINGS LLC (c) 40,800 -- ---------------------------------------------------------------------------- BUSINESS SERVICES TOTAL -- DIVERSIFIED MANUFACTURING - 0.1% SUPERIOR TELECOM, INC. 47,459 630,730 ---------------------------------------------------------------------------- DIVERSIFIED MANUFACTURING TOTAL 630,730 HEALTHCARE - 0.1% SUN HEALTHCARE GROUP, INC. 84,117 723,406 ---------------------------------------------------------------------------- HEALTHCARE TOTAL 723,406 TELECOMMUNICATIONS/WIRELESS - 0.3% LEAP WIRELESS INTERNATIONAL, INC. 76,137 2,105,188 ---------------------------------------------------------------------------- TELECOMMUNICATIONS/WIRELESS TOTAL 2,105,188 TOTAL COMMON STOCKS (COST OF $4,001,785) 3,459,324
See accompanying Notes to Financial Statements. 25
SHARES VALUE ($) - -------------------------------------------- ---------------------------------------------------------------------------- PREFERRED STOCKS - 0.0% DIVERSIFIED MANUFACTURING - 0.0% SUPERIOR TELECOM, INC. (c) 14,382 14,382 ---------------------------------------------------------------------------- DIVERSIFIED MANUFACTURING TOTAL 14,382 TOTAL PREFERRED STOCKS (COST OF $14,382) 14,382 PAR($) - -------------------------------------------- ---------------------------------------------------------------------------- SHORT-TERM OBLIGATION - 7.1% Repurchase agreement with State Street Bank & Trust Co., dated 08/31/04 due 09/01/04 at 1.490%, collateralized by a U.S. Treasury Note maturing 08/15/05, market value of $48,430,525 (repurchase proceeds $47,480,965) (cost of $47,479,000) 47,479,000 47,479,000 TOTAL INVESTMENTS - 113.3% (COST OF $749,453,488)(e) 757,109,839 OTHER ASSETS & LIABILITIES, NET - (13.3)% (88,535,492) NET ASSETS - 100.0% 668,574,347
NOTES TO INVESTMENT PORTFOLIO: (a) Senior Loans in which the Fund invests generally pay interest at rates which are periodically redetermined by reference to a base lending rate plus a premium. These base lending rates are generally (i) the prime rate offered by one or more major United States banks, (ii) the lending rate offered by one or more European banks such as the London Inter-Bank Offered Rate ("LIBOR") and (iii) the certificate of deposit rate. Senior loans are generally considered to be restricted in that the Fund ordinarily is contractually obligated to receive approval from the Agent Bank and/or borrower prior to the disposition of a Senior Loan. (b) Additional unfunded commitment, see note 8. (c) Represents fair value as determined in good faith under the direction of the Board of Trustees. (d) Non-income producing security. (e) Cost for federal income tax purposes is $749,814,616. See accompanying Notes to Financial Statements. 26 STATEMENT OF ASSETS AND LIABILITIES AUGUST 31, 2004 HIGHLAND FLOATING RATE ADVANTAGE FUND
($) - ----------------------------------- ------------------------------------------------------------------------------------ ASSETS Investments, at cost 749,453,488 -------------- Investments, at value 757,109,839 Cash 756 Receivable for: Investments sold 314,013 Fund shares sold 4,436,619 Interest and fees 3,791,986 Expense reimbursement due from Investment Advisor 209,953 Deferred Trustees' compensation plan 5,055 -------------- Total Assets 765,868,221 LIABILITIES Deferred facility fees 253,923 Payable for: Distributions 818,137 Investment advisory fee 283,452 Administration fee 126,297 Transfer agent fee 81,579 Pricing and bookkeeping fees 66,927 Trustees' fees 108 Custody fee 7,717 Distribution and service fees 332,901 Interest expense 134,092 Deferred Trustees' fees 5,055 Other liabilities 183,686 Notes payable 95,000,000 -------------- Total Liabilities 97,293,874 NET ASSETS 668,574,347 COMPOSITION OF NET ASSETS Paid-in capital 664,492,387 Overdistributed net investment income (215,539) Accumulated net realized loss (3,358,852) Net unrealized appreciation on investments 7,656,351 -------------- NET ASSETS 668,574,347 CLASS A Net assets 212,204,568 Shares outstanding 17,564,848 Net asset value per share 12.08(a) Maximum offering price per share ($12.08/0.9650) 12.52(b) CLASS B Net assets 124,589,114 Shares outstanding 10,312,802 Net asset value and offering price per share 12.08(a) CLASS C Net assets 278,731,246 Shares outstanding 23,071,027 Net asset value and offering price per share 12.08(a) CLASS Z Net assets 53,049,419 Shares outstanding 4,390,867 Net asset value, offering and redemption price per share 12.08
(a) Redemption price per share is equal to net asset value less any applicable contingent deferred sales charge. (b) On sales of $100,000 or more the offering price is reduced. See accompanying Notes to Financial Statements. 27 STATEMENT OF OPERATIONS FOR THE YEAR ENDED AUGUST 31, 2004
($) - --------------------------------------- ------------------------------------------------------------------------------- INVESTMENT INCOME Interest 28,141,699 Dividends 44,246 Facility and other fees 2,135,656 -------------- Total Investment Income 30,321,601 EXPENSES Investment advisory fee 2,582,639 Administration fee 1,149,451 Distribution fee: Class A 153,121 Class B 473,453 Class C 1,116,380 Service fee: Class A 382,802 Class B 263,030 Class C 465,158 Transfer agent fee 670,412 Pricing and bookkeeping fees 294,159 Trustees' fees 16,417 Custody fee 30,582 Other expenses 523,679 -------------- Total Operating Expenses 8,121,283 Interest expense 1,219,796 Commitment fee 664,440 -------------- Total Expenses 10,005,519 Fees and expenses waived or reimbursed by Investment Advisor (830,065) Custody earnings credit (514) -------------- Net Expenses 9,174,940 -------------- Net Investment Income 21,146,661 NET REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS Net realized gain on investments 9,871,654 Net change in unrealized appreciation/depreciation on investments 16,802,971 -------------- Net Gain 26,674,625 -------------- Net Increase in Net Assets from Operations 47,821,286
See accompanying Notes to Financial Statements. 28 STATEMENT OF CHANGES IN NET ASSETS
YEAR ENDED AUGUST 31 2004 ($) 2003 ($) - -------------------------------------- ------------------------------------------------------------------------------------ INCREASE (DECREASE) IN NET ASSETS: OPERATIONS Net investment income 21,146,661 14,268,045 Net realized gain (loss) on investments 9,871,654 (4,458,140) Net change in unrealized appreciation/depreciation on investments 16,802,971 16,553,299 ------------------------------- Net Increase from Operations 47,821,286 26,363,204 DISTRIBUTIONS DECLARED TO SHAREHOLDERS From net investment income: Class A (7,362,637) (4,987,877) Class B (4,785,071) (4,852,868) Class C (7,927,327) (4,288,202) Class Z (1,318,999) (60,225) ------------------------------- Total Distributions Declared to Shareholders (21,394,034) (14,189,172) SHARE TRANSACTIONS Class A: Subscriptions 155,278,295 26,844,332 Distributions reinvested 4,387,935 3,108,790 Redemptions (41,293,262) (18,545,181) ------------------------------- Net Increase 118,372,968 11,407,941 Class B: Subscriptions 55,799,014 15,460,982 Distributions reinvested 2,714,846 2,841,144 Redemptions (17,134,851) (14,388,694) ------------------------------- Net Increase 41,379,009 3,913,432 Class C: Subscriptions 208,181,539 31,262,179 Distributions reinvested 5,151,429 2,853,491 Redemptions (24,993,138) (19,111,456) ------------------------------- Net Increase 188,339,830 15,004,214 Class Z: Subscriptions 50,799,735 4,975,535 Distributions reinvested 465,119 2,309 Redemptions (4,503,807) (23,102) ------------------------------- Net Increase 46,761,047 4,954,742 Net Increase from Share Transactions 394,852,854 35,280,329 ------------------------------- Total Increase in Net Assets 421,280,106 47,454,361 NET ASSETS Beginning of period 247,294,241 199,839,880 End of period (including overdistributed net investment income of $(215,539) and $(59,212), respectively) 668,574,347 247,294,241
See accompanying Notes to Financial Statements. 29
YEAR ENDED AUGUST 31 2004 ($) 2003 ($) - -------------------------------------- ------------------------------------------------------------------------------------ INCREASE (DECREASE) IN NET ASSETS: CHANGES IN SHARES Class A: Subscriptions 13,068,545 2,421,540 Issued for distributions reinvested 368,106 294,027 Redemptions (3,460,892) (1,778,375) ------------------------------- Net Increase 9,975,759 937,192 Class B: Subscriptions 4,712,112 1,412,670 Issued for distributions reinvested 228,200 268,398 Redemptions (1,433,835) (1,376,098) ------------------------------- Net Increase 3,506,477 304,970 Class C: Subscriptions 17,547,735 2,837,998 Issued for distributions reinvested 431,547 269,627 Redemptions (2,088,151) (1,823,827) ------------------------------- Net Increase 15,891,131 1,283,798 Class Z: Subscriptions 4,267,378 449,963 Issued for distributions reinvested 38,768 210 Redemptions (376,712) (2,073) ------------------------------- Net Increase 3,929,434 448,100
See accompanying Notes to Financial Statements. 30 STATEMENT OF CASH FLOWS HIGHLAND FLOATING RATE ADVANTAGE FUND
YEAR ENDED AUGUST 31, 2004 ($) - ---------------------------------------------- ------------------------------------------------------------------------- INCREASE (DECREASE) IN CASH CASH FLOWS USED FOR OPERATING ACTIVITIES Net investment income 21,146,661 ADJUSTMENTS TO RECONCILE NET INVESTMENT INCOME Purchase of investment securities (968,665,713) TO NET CASH USED FOR OPERATING ACTIVITIES Proceeds from disposition of investment securities 568,377,752 Purchase of short-term portfolio investments, net (27,716,000) Increase in interest and fees receivable (2,062,289) Increase in receivable for expense reimbursement (209,953) Decrease in receivable for investments sold 780,365 Decrease in other assets 2,196 Decrease in deferred facility fees (69,713) Increase in payable for accrued expenses 456,921 Net amortization of premium (discount) (2,066,647) Decrease in payable for investments purchased (60,571) Decrease in payable for expense reimbursement (37,094) Increase in other liabilities 75,014 ------------------- Net cash used for operating activities (410,049,071) CASH FLOWS FROM FINANCING ACTIVITIES Increase in notes payable 35,500,000 Increase in interest payable 60,654 Proceeds from shares sold 470,741,466 Payment of shares redeemed (87,925,058) Distributions paid in cash (8,327,728) ------------------- Net cash flows from financing activities 410,049,334 ------------------- Net increase in cash 263 ------------------- CASH Cash at beginning of the year 493 ------------------- Cash at end of the year 756
See accompanying Notes to Financial Statements. 31 NOTES TO FINANCIAL STATEMENTS AUGUST 31, 2004 HIGHLAND FLOATING RATE ADVANTAGE FUND NOTE 1. ORGANIZATION Highland Floating Rate Advantage Fund (the "Fund"), formerly Columbia Floating Rate Advantage Fund, is a Massachusetts business trust registered under the Investment Company Act of 1940, as amended, as a non-diversified, closed-end management investment company. Effective October 13, 2003, the Fund changed its name from Liberty Floating Rate Advantage Fund to Columbia Floating Rate Advantage Fund. Effective October 18, 2004, Columbia Floating Rate Advantage Fund was renamed Highland Floating Rate Advantage Fund. INVESTMENT GOAL The Fund seeks to provide a high level of current income consistent with preservation of capital. FUND SHARES The Fund may issue an unlimited number of shares and offers four classes of shares: Class A, Class B, Class C and Class Z. Each share class has its own sales charge and expense structure. Class A shares are subject to a maximum front-end sales charge of 3.50% based on the amount of initial investment. Class A shares purchased without an initial sales charge are subject to a 1.00% early withdrawal charge on shares sold within eighteen months on an original purchase of $1 million to $25 million. Class B shares are subject to a maximum early withdrawal charge of 3.25% based upon the holding period after purchase. Class B shares will convert to Class A shares eight years after purchase. Class C shares are subject to a 1.00% early withdrawal charge on shares sold within one year after purchase. Class Z shares are offered continuously at net asset value. There are certain restrictions on the purchase of Class Z shares, as described in the Fund's prospectus. NOTE 2. SIGNIFICANT ACCOUNTING POLICIES USE OF ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America ("GAAP") requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The following is a summary of significant accounting policies consistently followed by the Fund in the preparation of its financial statements. SECURITY VALUATION The value of the Portfolio is determined in accordance with guidelines established and periodically reviewed by the Board of Trustees. Senior loans are generally valued using market prices or quotations provided by banks, dealers or pricing services with respect to secondary market transactions. The prices provided by these principal market makers may differ from the value that would be realized if the loans were sold and the difference could be material to the financial statements. In the absence of actual market values, the senior loans will be valued at fair value, which is intended to approximate market value, pursuant to procedures approved by the Board of Trustees. In determining fair value, the following factors, among others, will be considered on an on-going basis: (i) the creditworthiness of the Borrower; (ii) the current interest rate, the interest rate redetermination period and maturity of such senior loan interests; and (iii) recent prices in the market for instruments of similar quality, rate and interest rate redeterminiation period and maturity. Because of uncertainty inherent in the valuation process, the estimated value of a senior loan may differ significantly from the value that would have been used had there been market activity for that senior loan interest. Equity securities are valued at the last sale price on the principal exchange on which they trade, except for securities traded on the NASDAQ, which are valued at the NASDAQ official close price. Unlisted securities or listed securities for which there were no sales during the day are valued at the closing bid price on such exchanges or over-the-counter markets. Short-term debt obligations maturing within 60 days are valued at amortized cost, which approximates market value. Investments for which market quotations are not readily available, or quotations which management believes are not appropriate, are valued at fair value as determined in good faith under consistently applied procedures established by and under the general supervision of the Board of Trustees. 32 SECURITY TRANSACTIONS Security transactions are accounted for on the trade date. Cost is determined and gains (losses) are based upon the specific identification method for both financial statement and federal income tax purposes. REPURCHASE AGREEMENTS The Fund may engage in repurchase agreement transactions with institutions that the Fund's investment advisor has determined are creditworthy. The Fund, through its custodian, receives delivery of underlying securities collateralizing a repurchase agreement. Collateral is at least equal, at all times, to the value of the repurchase obligation including interest. A repurchase agreement transaction involves certain risks in the event of default or insolvency of the counterparty. These risks include possible delays or restrictions upon the Fund's ability to dispose of the underlying securities and a possible decline in the value of the underlying securities during the period while the Fund seeks to assert its rights. INCOME RECOGNITION Interest income is recorded on the accrual basis and includes accretion of discounts and amortization of premiums. Facility fees received are treated as market discounts. Unamortized facility fees are reflected as deferred fees on the Statement of Assets and Liabilities. DETERMINATION OF CLASS NET ASSET VALUES All income, expenses (other than class-specific expenses, as shown on the Statement of Operations) and realized and unrealized gains (losses) are allocated to each class of the Fund on a daily basis for purposes of determining the net asset value of each class. Income and expenses are allocated to each class based on the settled shares method, while realized and unrealized gains (losses) are allocated based on the relative net assets of each class. FEDERAL INCOME TAX STATUS The Fund intends to qualify each year as a "regulated investment company" under Subchapter M of the Internal Revenue Code, as amended, and will distribute substantially all of its taxable income, if any, for its tax year, and as such will not be subject to federal income taxes. DISTRIBUTIONS TO SHAREHOLDERS Dividends from net investment income are declared daily and paid monthly. Net realized capital gains, if any, are distributed at least annually. STATEMENT OF CASH FLOWS Information on financial transactions which have been settled through the receipt or disbursement of cash is presented in the Statement of Cash Flows. The cash amount shown in the Statement of Cash Flows is the amount included within the Fund's Statement of Assets and Liabilities and includes cash on hand at its custodian bank and does not include any short-term investments. NOTE 3. FEDERAL TAX INFORMATION The timing and character of income and capital gain distributions are determined in accordance with income tax regulations, which may differ from GAAP. Reclassifications are made to the Fund's capital accounts for permanent tax differences to reflect income and gains available for distribution (or available capital loss carryforwards) under income tax regulations. For the year ended August 31, 2004, permanent differences resulting primarily from differing treatments for discount accretion/premium amortization on debt securities were identified and reclassified among the components of the Fund's net assets as follows:
OVERDISTRIBUTED ACCUMULATED NET INVESTMENT NET REALIZED PAID-IN INCOME LOSS CAPITAL - ---------------------------------------------------------------------- $ 91,046 $ (91,045) $ (1)
Net investment income and net realized gains (losses), as disclosed on the Statement of Operations, and net assets were not affected by this reclassification. The tax character of distributions paid during the years ended August 31, 2004 and August 31, 2003 was as follows:
AUGUST 31, AUGUST 31, 2004 2003 - ------------------------------------------------------------------------ Distributions paid from: Ordinary Income* $ 21,394,034 $ 14,189,172 Long-Term Capital Gains -- --
*For tax purposes short-term capital gains distributions, if any, are considered ordinary income distributions. 33 As of August 31, 2004, the components of distributable earnings on a tax basis were as follows:
UNDISTRIBUTED UNDISTRIBUTED ORDINARY LONG-TERM NET UNREALIZED INCOME CAPITAL GAINS APPRECIATION* - -------------------------------------------------------------------------- $ 843,934 $ -- $ 7,295,223
*The differences between book-basis and tax-basis net unrealized appreciation/depreciation are primarily due to deferral of losses from wash sales. Unrealized appreciation and depreciation at August 31, 2004, based on cost of investments for federal income tax purposes and excluding any unrealized appreciation and depreciation from changes in the value of other assets and liabilities resulting from changes in exchange rates, was: Unrealized appreciation $ 45,460,523 Unrealized depreciation (38,165,300) ------------- Net unrealized appreciation $ 7,295,223
The following capital loss carryforwards may be available to reduce taxable income arising from future net realized gains on investments, if any, to the extent permitted by the Internal Revenue Code:
YEAR OF CAPITAL LOSS EXPIRATION CARRYFORWARD - -------------------------------------------------------------------------------- 2011 $ 3,234,575
Capital loss carryforwards of $2,420,026 were utilized during the year ended August 31, 2004 for the Fund. NOTE 4. FEES AND COMPENSATION PAID TO AFFILIATES Effective April 15, 2004, Highland Capital Management, L.P. ("Highland") is the investment advisor to the Fund. Prior to April 15, 2004, Columbia Management Advisors, Inc. ("Columbia") was the investment advisor to the Fund. Columbia was an indirect, wholly owned subsidiary of FleetBoston Financial Corporation ("FleetBoston"), however effective April 1, 2004, FleetBoston, including the Funds' investment advisor, transfer agent and distributor, was acquired by Bank of America Corporation ("BOA"). The change in investment advisor will not impact the Fund's investment strategy. INVESTMENT ADVISORY FEE Highland receives a monthly investment advisory fee based on the Portfolio's average daily managed net assets at the following annual rates:
AVERAGE DAILY NET ASSETS ANNUAL FEE RATE - -------------------------------------------------------------------------------- First $1 billion 0.45% Next $1 billion 0.40% Over $2 billion 0.35%
For the period November 1, 2003 through April 14, 2004, Columbia received a monthly investment advisory fee based on the same fee schedule. Prior to November 1, 2003, Columbia was entitled to receive a monthly investment advisory fee at the annual rate of 0.45% of the Fund's average daily managed net assets. For the year ended August 31, 2004, the Fund's effective investment advisory fee rate was 0.45%. ADMINISTRATION FEES During the year ended August 31, 2004, Columbia provided administrative and other services to the Fund for a monthly administration fee at the annual rate of 0.20% of the Fund's average daily managed net assets. Effective October 18, 2004, Highland replaced Columbia to provide administrative services to the Fund for a monthly administration fee at the annual rate of 0.20% of the Fund's average daily managed assets. Also effective October 18, 2004, under a separate agreement, Highland has delegated certain administrative functions to PFPC, Inc. ("PFPC"). PFPC receives from Highland a fee at the annual rate of 0.01% of the Fund's average daily managed assets. PRICING AND BOOKKEEPING FEES During the year ended August 31, 2004, Columbia was responsible for providing pricing and bookkeeping services to the Fund under a pricing and bookkeeping agreement. Under a separate agreement (the "Outsourcing Agreement"), Columbia delegated those functions to State Street Corporation ("State Street"). As a result, Columbia paid the total fees collected to State Street under the Outsourcing Agreement. Under its pricing and bookkeeping agreement with the Fund, Columbia received from the Fund an annual flat fee of $10,000 paid monthly, and in any month that the Fund's average daily net assets exceeded $50 million, an additional monthly fee. The additional fee rate was 34 calculated by taking into account the fees payable to State Street under the Outsourcing Agreement. This rate is applied to the average daily net assets of the Fund for that month. The Fund also paid additional fees for pricing services based on the number of securities held by the Fund. For the year ended August 31, 2004, the Fund's effective pricing and bookkeeping fee rates, inclusive of out-of-pocket expenses, was 0.062% Effective October 18, 2004, the pricing and bookkeeping agreement with Columbia was terminated, and the Fund entered into a new agreement with PFPC to provide accounting services. TRANSFER AGENT FEE During the year ended August 31, 2004, Columbia Funds Services, Inc. (the "Transfer Agent"), an affiliate of Columbia, provided shareholder services to the Fund. For such services, the Transfer Agent received a fee, paid monthly, at the annual rate of $34.00 per open account. The Transfer Agent also received reimbursement for certain out-of-pocket expenses. Prior to November 1, 2003, the Transfer Agent was entitled to receive a monthly transfer agent fee, in addition to reimbursement for certain out-of-pocket expenses, at the annual rate of 0.06% of the Fund's average daily net assets plus flat-rate charges based on the number of shareholder accounts and transactions. For the year ended August 31, 2004, the Fund's effective transfer agent fee rate, inclusive of out-of-pocket expenses, was 0.14%. Effective October 18, 2004, PFPC replaced Columbia Funds Services, Inc., to provide shareholder services to the Fund. UNDERWRITING DISCOUNTS, SERVICE AND DISTRIBUTION FEES Effective April 15, 2004, PFPC Distributors, Inc. replaced Columbia Funds Distributor, Inc. ("CFDI"), an affiliate of Columbia, as the principal underwriter of the Fund, in connection with the change in investment advisor. For the period September 1, 2003 to April 15, 2004, CFDI retained net underwriting discounts of $71,053 on sales of the Fund's Class A shares and received early withdrawal charges ("EWC") of $61,419, $218,781 and $78,661 on Class A, Class B and Class C share redemptions, respectively. The Fund has adopted a 12b-1 plan (the "Plan") which requires the payment of a monthly service fee to the Distributor at the annual rate of 0.25% of the average daily net assets attributable to Class A, Class B and Class C shares of the Fund. The Plan also requires the payment of a monthly distribution fee to the Distributor at the annual rates of 0.10%, 0.45% and 0.60% of the average daily net assets attributable to Class A, Class B and Class C shares, respectively. The EWC and the fees received from the Plan are used principally as repayment to the Distributor for amounts paid by the Distributor to dealers who sold such shares. EXPENSE LIMITS AND FEE REIMBURSEMENTS Highland has voluntarily agreed to waive fees and reimburse certain expenses to the extent that total expenses (exclusive of investment advisory fees, administration fees, distribution and service fees, brokerage commissions, interest, facility fees, taxes and extraordinary expenses, if any) exceed 0.15% annually of the Fund's average daily managed net assets. This arrangement may be revised or discontinued by Highland at any time. Prior to April 15, 2004, Columbia voluntarily waived fees and reimbursed certain expenses of the Fund based on the same fee structure. CUSTODY CREDITS During the year ended August 31, 2004, the Fund had an agreement with its custodian bank under which custody fees may be reduced by balance credits. The Fund could have invested a portion of the assets utilized in connection with the expense offset arrangement in an income-producing asset if it had not entered into such an agreement. Effective October 18, 2004, the agreement with its former custodian bank was terminated. FEES PAID TO OFFICERS AND TRUSTEES Effective August 5, 2004, new officers of the Fund were elected. The Fund pays no compensation to these officers, all of whom are employees of Highland. Prior to this date, all of the Fund's officers were employees of Columbia or its affiliates. The Fund's previous officers also received no compensation from the Fund. Effective July 30, 2004, the shareholders of the Fund voted to elect a new Board of Trustees in connection with the change in Investment Advisor. Each Trustee of the Fund is paid a flat rate fee of $20,000 per year for services provided as a Board member of the Fund. 35 Prior to July 30, 2004, the previous Trustees of the Fund participated in a deferred compensation plan. Any continuing obligations of the plan will be paid solely out of the Fund's assets. OTHER Columbia provided certain services to the Fund related to Sarbanes-Oxley compliance. For the year ended August 31, 2004, the Fund paid $1,704 to Columbia for such services. This amount is included in "Other expenses" on the Statement of Operations. NOTE 5. PORTFOLIO INFORMATION For the year ended August 31, 2004, the cost of purchases and proceeds from sales of securities, excluding short-term obligations, were $968,665,713 and $568,377,752, respectively. NOTE 6. TENDER OF SHARES The Board of Trustees has adopted a policy of making tender offers on a quarterly basis. The Board has designated the 15th day of February, May, August and November of each year, or the next business day if the 15th is not a business day, as the Repurchase Request Deadline. Tender offers are made for a portion of the Fund's outstanding shares at the net asset value of the shares as of the Repurchase Pricing Date. The tender amount, which is determined by the Board of Trustees, will be at least 5% and no more than 25% of the total number of shares outstanding on the Repurchase Request Deadline. The Fund may repurchase an additional amount of shares up to 2% of the shares outstanding on the Repurchase Request Deadline if the shareholders' offer for repurchase exceeds the Repurchase Offer Amount. For the year ended August 31, 2004, there were four tender offers in November, February, May and August. For each tender, the Fund offered to repurchase 10%, 25%, 15% and 25%, respectively, of its shares, and 4.59%, 3.03%, 4.13% and 4.98%, respectively, of shares outstanding were tendered. NOTE 7. SENIOR LOAN PARTICIPATION COMMITMENTS The Fund invests primarily in participations and assignments, or acts as a party to the primary lending syndicate of Variable Rate Senior Loan interests to United States corporations, partnerships, and other entities. If the lead lender in a typical lending syndicate becomes insolvent, enters FDIC receivership or, if not FDIC insured enters into bankruptcy, the Fund may incur certain costs and delays in receiving payment or may suffer a loss of principal and/or interest. When the Fund purchases a participation of a senior loan interest, the Fund typically enters into a contractual agreement with the lender or other third party selling the participation, not with the borrower directly. As such, the Fund assumes the credit risk of the Borrower, Selling Participant or other persons interpositioned between the Fund and the Borrower. The ability of Borrowers to meet their obligations may be affected by economic developments in a specific industry. At August 31, 2004, the following sets forth the selling participants with respect to interests in senior loans purchased by the Fund on a participation basis.
PRINCIPAL SELLING PARTICIPANT AMOUNT VALUE - -------------------------------------------------------------------------------- Citibank: CSC Holdings, Inc. Revolver $ 2,337,500 $ 2,379,180 CSFB: Quality Distributions, Inc. PF Letters of Credit 1,000,000 995,000
NOTE 8. UNFUNDED LOAN COMMITMENTS As of August 31, 2004, the Fund had unfunded loan commitments of $6,822,849, which could be extended at the option of the Borrower, pursuant to the following loan agreements:
UNFUNDED BORROWER COMMITMENT - -------------------------------------------------------------------------------- CSC Holdings, Inc. $ 593,750 Dobson Cellular Systems, Inc. 1,016,667 Federal-Mogul Corp. 125,765 National Equipment Service - Revolver 586,667 Vought Aircraft Industries, Inc. - Revolver 4,500,000 ------------ $ 6,822,849
NOTE 9. LOAN AGREEMENT At August 31, 2004, the Fund had one term loan outstanding with Citicorp North America, Inc., totaling $95,000,000, which bore interest at 1.67% per annum, due October 18, 2004. The Fund could borrow up to $150,000,000. The average daily loan balance was $104,195,915 at a weighted average interest rate of 1.19%. The Fund was required to maintain certain asset coverage with respect to the loan. 36 Effective October 18, 2004, the Fund entered into a new $300,000,000 loan agreement replacing the previous agreement. The Fund is required to maintain certain asset coverage with respect to amounts outstanding under the agreement. NOTE 10. DISCLOSURE OF SIGNIFICANT RISKS AND CONTINGENCIES INDUSTRY FOCUS The Fund may focus its investments in certain industries, subjecting it to greater risk than a fund that is more diversified. NON-PAYMENT RISK Senior Loans, like other corporate debt obligations, are subject to the risk of non-payment of scheduled interest or principal. Non-payment would result in a reduction of income to the Portfolio, a reduction in the value of the Senior Loan experiencing non-payment and a potential decrease in the net asset value of the Fund/Portfolio. CREDIT RISK Securities rated below investment grade are commonly referred to as high-yield, high risk or "junk debt". They are regarded as predominantly speculative with respect to the issuing company's continuing ability to meet principal and interest payments. Investments in high-yield Senior Loans may result in greater net asset value fluctuation than if the Fund/Portfolio did not make such investments. LEGAL PROCEEDINGS Columbia, CFDI, certain of their affiliates and the Fund (collectively, "the Columbia Group"), have received information requests and subpoenas from various regulatory and law enforcement authorities in connection with their investigations of late trading and market timing in mutual funds as well as other industry wide issues. On February 24, 2004, the Securities and Exchange Commission ("SEC") filed a civil complaint in the United States District Court for the District of Massachusetts against Columbia and CFDI, alleging that they had violated certain provisions of the federal securities laws in connection with trading activity in mutual fund shares. Also on February 24, 2004, the New York Attorney General ("NYAG") filed a civil complaint in New York Supreme Court, County of New York against Columbia and CFDI alleging that Columbia and CFDI had violated certain New York anti-fraud statutes. On March 15, 2004, Columbia and CFDI entered into agreements in principle with the SEC Division of Enforcement and NYAG in settlement of the charges. In a separate agreement with the NYAG, the Columbia Group and its affiliate Bank of America Capital Management, LLC have agreed to collectively reduce mutual fund fees by $160 million over a five-year period. As a result of these matters or any adverse publicity or other developments resulting from them, there may be increased redemptions or reduced sales of Fund shares, which could increase transaction costs or operating expenses, or have other adverse consequences for the Fund. In connection with the events described in detail above, various parties have filed suit against certain funds (including the Fund), their Boards and/or FleetBoston (and affiliated entities). More than 300 cases (including those filed against entities unaffiliated with the funds, their Boards and/or FleetBoston and its affiliated entities) have been consolidated in a multi-district proceeding and transferred to the Federal District Court in Maryland. Recently, certain Columbia fund and affiliated entities and the Fund have been named as defendants in several derivative actions under various sections of the Investment Company Act of 1940, as amended, alleging, among other things, that the fees and expenses paid by those funds are excessive. The funds and the other defendants to these actions, including Columbia and various affiliates, certain other mutual funds advised by Columbia and its affiliates, and various directors of such funds and the Fund have denied these allegations and are contesting the plaintiffs' claims. These suits and certain regulatory investigations are ongoing, however, based on currently available information, Columbia believes that these lawsuits are without merit, and that the likelihood they will have a material adverse impact on any fund is remote. 37 FINANCIAL HIGHLIGHTS HIGHLAND FLOATING RATE ADVANTAGE FUND SELECTED DATA FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD IS AS FOLLOWS:
PERIOD ENDED YEAR ENDED AUGUST 31, AUGUST 31, CLASS A SHARES 2004 2003 2002 2001 2000(a) - ----------------------------------------------------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 11.22 $ 10.48 $ 11.74 $ 12.09 $ 12.00 INCOME FROM INVESTMENT OPERATIONS: Net investment income 0.56(b) 0.81(b) 0.83(b)(c) 1.10(b) 0.64 Net realized and unrealized gain (loss) on investments 0.89 0.74 (1.26)(c) (0.32) 0.07 --------- --------- --------- --------- --------- Total from Investment Operations 1.45 1.55 (0.43) 0.78 0.71 LESS DISTRIBUTIONS DECLARED TO SHAREHOLDERS: From net investment income (0.59) (0.81) (0.83) (1.13) (0.62) From net realized gains -- -- -- --(d) -- --------- --------- --------- --------- --------- Total Distributions Declared to Shareholders (0.59) (0.81) (0.83) (1.13) (0.62) NET ASSET VALUE, END OF PERIOD $ 12.08 $ 11.22 $ 10.48 $ 11.74 $ 12.09 Total return (e) (f) 13.14% 15.55% (3.88)% 6.71% 6.04%(g) RATIOS TO AVERAGE NET ASSETS/SUPPLEMENTAL DATA: Operating expenses (h) 1.29% 1.38% 1.38% 1.37% 1.01%(i) Interest and commitment fees expenses 0.40% 0.73% 0.99% 2.04% 1.91%(i) Net expenses (h) 1.69% 2.11% 2.37% 3.41% 2.92%(i) Net investment income (h) 4.73% 7.67% 7.25%(c) 9.24% 9.49%(i) Waiver/reimbursement 0.18% 0.36% 0.32% 0.32% 1.41%(i) Portfolio turnover rate 110% 90% 98% 65% 8%(g) Net assets, end of period (000's) $ 212,205 $ 85,166 $ 69,733 $ 108,399 $ 54,402
(a) The Fund commenced investment operations on January 13, 2000. (b) Per share data was calculated using average shares outstanding during the period. (c) Effective September 1, 2001, the Fund adopted the provisions of the AICPA Audit and Accounting Guide for Investment Companies and began amortizing and accreting premium and discount on all debt securities. The effect of this change for the year ended August 31, 2002, to the net investment income and net realized and unrealized loss per share was less than $0.01. The impact to the ratio of net investment income to average net assets was less than 0.01%. Per share data and ratios for periods prior to August 31, 2002 have not been restated to reflect this change in presentation. (d) Rounds to less than $0.01. (e) Total return at net asset value assuming all distributions reinvested and no initial sales charge or early withdrawal charge. (f) Had the Investment Advisor not waived or reimbursed a portion of expenses, total return would have been reduced. (g) Not annualized. (h) The benefits derived from custody credits and directed brokerage arrangements, if applicable, had an impact of less than 0.01%. (i) Annualized. 38
PERIOD ENDED YEAR ENDED AUGUST 31, AUGUST 31, CLASS B SHARES 2004 2003 2002 2001 2000(a) - ----------------------------------------------------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 11.22 $ 10.48 $ 11.74 $ 12.07 $ 12.00 INCOME FROM INVESTMENT OPERATIONS: Net investment income 0.53(b) 0.78(b) 0.78(b)(c) 1.05(b) 0.62 Net realized and unrealized gain (loss) on investments 0.88 0.73 (1.25)(c) (0.30) 0.05 --------- --------- --------- --------- --------- Total from Investment Operations 1.41 1.51 (0.47) 0.75 0.67 LESS DISTRIBUTIONS DECLARED TO SHAREHOLDERS: From net investment income (0.55) (0.77) (0.79) (1.08) (0.60) From net realized gains -- -- -- --(d) -- --------- --------- --------- --------- --------- Total Distributions Declared to Shareholders (0.55) (0.77) (0.79) (1.08) (0.60) NET ASSET VALUE, END OF PERIOD $ 12.08 $ 11.22 $ 10.48 $ 11.74 $ 12.07 Total return (e) (f) 12.75% 15.16% (4.22)% 6.52% 5.69%(g) RATIOS TO AVERAGE NET ASSETS/SUPPLEMENTAL DATA: Operating expenses (h) 1.64% 1.73% 1.73% 1.72% 1.36%(i) Interest and commitment fees expenses 0.40% 0.73% 0.99% 2.04% 1.91%(i) Net expenses (h) 2.04% 2.46% 2.72% 3.76% 3.27%(i) Net investment income (h) 4.50% 7.34% 6.90%(c) 8.89% 9.14%(i) Waiver/reimbursement 0.18% 0.36% 0.32% 0.32% 1.41%(i) Portfolio turnover rate 110% 90% 98% 65% 8%(g) Net assets, end of period (000's) $ 124,589 $ 76,379 $ 68,157 $ 80,609 $ 19,964
(a) The Fund commenced investment operations on January 13, 2000. (b) Per share data was calculated using average shares outstanding during the period. (c) Effective September 1, 2001, the Fund adopted the provisions of the AICPA Audit and Accounting Guide for Investment Companies and began amortizing and accreting premium and discount on all debt securities. The effect of this change for the year ended August 31, 2002, to the net investment income and net realized and unrealized loss per share was less than $0.01. The impact to the ratio of net investment income to average net assets was less than 0.01%. Per share data and ratios for periods prior to August 31, 2002 have not been restated to reflect this change in presentation. (d) Rounds to less than $0.01. (e) Total return at net asset value assuming all distributions reinvested and no early withdrawal charge. (f) Had the Investment Advisor not waived or reimbursed a portion of expenses, total return would have been reduced. (g) Not annualized. (h) The benefits derived from custody credits and directed brokerage arrangements, if applicable, had an impact of less than 0.01. (i) Annualized. 39
PERIOD ENDED YEAR ENDED AUGUST 31, AUGUST 31, CLASS C SHARES 2004 2003 2002 2001 2000(a) - ----------------------------------------------------------------------------------------------------------------------------- $ 11.22 $ 10.48 $ 11.74 $ 12.07 $ 12.00 INCOME FROM INVESTMENT OPERATIONS: Net investment income 0.50(b) 0.76(b) 0.76(b)(c) 1.03(b) 0.61 Net realized and unrealized gain (loss) on investments 0.89 0.74 (1.25)(c) (0.30) 0.05 --------- --------- --------- --------- --------- Total from Investment Operations 1.39 1.50 (0.49) 0.73 0.66 LESS DISTRIBUTIONS DECLARED TO SHAREHOLDERS: From net investment income (0.53) (0.76) (0.77) (1.06) (0.59) From net realized gains -- -- -- --(d) -- --------- --------- --------- --------- --------- Total Distributions Declared to Shareholders (0.53) (0.76) (0.77) (1.06) (0.59) NET ASSET VALUE, END OF PERIOD $ 12.08 $ 11.22 $ 10.48 $ 11.74 $ 12.07 Total return (e) (f) 12.57% 14.99% (4.36)% 6.35% 5.62%(g) RATIOS TO AVERAGE NET ASSETS/SUPPLEMENTAL DATA: Operating expenses (h) 1.79% 1.88% 1.88% 1.87% 1.51%(i) Interest and commitment fees expenses 0.40% 0.73% 0.99% 2.04% 1.91%(i) Net expenses (h) 2.19% 2.61% 2.87% 3.91% 3.42%(i) Net investment income (h) 4.19% 7.14% 6.75%(c) 8.74% 8.99%(i) Waiver/reimbursement 0.18% 0.36% 0.32% 0.32% 1.41%(i) Portfolio turnover rate 110% 90% 98% 65% 8%(g) Net assets, end of period (000's) $ 278,731 $ 80,572 $ 61,811 $ 64,074 $ 13,013
(a) The Fund commenced investment operations on January 13, 2000. (b) Per share data was calculated using average shares outstanding during the period. (c) Effective September 1, 2001, the Fund adopted the provisions of the AICPA Audit and Accounting Guide for Investment Companies and began amortizing and accreting premium and discount on all debt securities. The effect of this change for the year ended August 31, 2002, to the net investment income and net realized and unrealized loss per share was less than $0.01. The impact to the ratio of net investment income to average net assets was less than 0.01%. Per share data and ratios for periods prior to August 31, 2002 have not been restated to reflect this change in presentation. (d) Rounds to less than $0.01. (e) Total return at net asset value assuming all distributions reinvested and no early withdrawal charge. (f) Had the Investment Advisor not waived or reimbursed a portion of expenses, total return would have been reduced. (g) Not annualized. (h) The benefits derived from custody credits and directed brokerage arrangements, if applicable, had an impact of less than 0.01%. (i) Annualized. 40
PERIOD ENDED YEAR ENDED AUGUST 31, AUGUST 31, CLASS Z SHARES 2004 2003 2002 2001 2000(a) - ----------------------------------------------------------------------------------------------------------------------------- $ 11.22 $ 10.48 $ 11.74 $ 12.08 $ 12.00 INCOME FROM INVESTMENT OPERATIONS: Net investment income 0.59(b) 0.78(b) 0.86(b)(c) 1.14(b) 0.67 Net realized and unrealized gain (loss) on investments 0.90 0.81 (1.25)(c) (0.31) 0.05 --------- --------- --------- --------- --------- Total from Investment Operations 1.49 1.59 (0.39) 0.83 0.72 LESS DISTRIBUTIONS DECLARED TO SHAREHOLDERS: From net investment income (0.63) (0.85) (0.87) (1.17) (0.64) From net realized gains -- -- -- --(d) -- --------- --------- --------- --------- --------- Total Distributions Declared to Shareholders (0.63) (0.85) (0.87) (1.17) (0.64) NET ASSET VALUE, END OF PERIOD $ 12.08 $ 11.22 $ 10.48 $ 11.74 $ 12.08 Total return (e) (f) 13.52% 15.95% (3.53)% 7.17% 6.11%(g) RATIOS TO AVERAGE NET ASSETS/SUPPLEMENTAL DATA: Operating expenses (h) 0.94% 1.03% 1.03% 1.02% 0.66%(i) Interest and commitment fees expenses 0.40% 0.73% 0.99% 2.04% 1.91%(i) Net expenses (h) 1.34% 1.76% 2.02% 3.06% 2.57%(i) Net investment income (h) 4.93% 7.21% 7.60%(c) 9.59% 9.84%(i) Waiver/reimbursement 0.18% 0.36% 0.32% 0.32% 1.41%(i) Portfolio turnover rate 110% 90% 98% 65% 8%(g) Net assets, end of period (000's) $ 53,049 $ 5,178 $ 140 $ 2,850 $ 2,656
(a) The Fund commenced investment operations on January 13, 2000. (b) Per share data was calculated using average shares outstanding during the period. (c) Effective September 1, 2001, the Fund adopted the provisions of the AICPA Audit and Accounting Guide for Investment Companies and began amortizing and accreting premium and discount on all debt securities. The effect of this change for the year ended August 31, 2002, to the net investment income and net realized and unrealized loss per share was less than $0.01. The impact to the ratio of net investment income to average net assets was less than 0.01%. Per share data and ratios for periods prior to August 31, 2002 have not been restated to reflect this change in presentation. (d) Rounds to less than $0.01. (e) Total return at net asset value assuming all distributions reinvested. (f) Had the Investment Advisor not waived or reimbursed a portion of expenses, total return would have been reduced. (g) Not annualized. (h) The benefits derived from custody credits and directed brokerage arrangements, if applicable, had an impact of less than 0.01%. (i) Annualized. 41 LOAN AGREEMENT ASSET COVERAGE REQUIREMENTS HIGHLAND FLOATING RATE ADVANTAGE FUND
TOTAL AMOUNT ASSET COVERAGE PER $1,000 DATE OUTSTANDING OF INDEBTNEDNESS - -------------------------------------------------------------------------------- 08/31/2004 $ 95,000,000 $ 8,062 08/31/2003 59,500,000 5,156 08/31/2002 74,000,000 3,701 08/31/2001 88,000,000 3,908 08/31/2000 19,000,000 6,739
42 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM TO THE TRUSTEES AND THE SHAREHOLDERS OF HIGHLAND FLOATING RATE ADVANTAGE FUND In our opinion, the accompanying statements of assets and liabilities, including the investment portfolio, and the related statements of operations, changes in net assets and of cash flows and the financial highlights present fairly, in all material respects, the financial position of Highland Floating Rate Advantage Fund (the "Fund") (formerly Columbia Floating Rate Advantage Fund), at August 31, 2004, and the results of its operations, the changes in its net assets and cash flows and the financial highlights for the periods indicated in conformity with accounting principles generally accepted in the United States of America. These financial statements and financial highlights (hereafter referred to as "financial statements") are the responsibility of the Fund's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States), which require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits, which included confirmation of investments held at August 31, 2004 by correspondence with the custodian and the banks with whom the Fund owns participations in loans, provide a reasonable basis for our opinion. PricewaterhouseCoopers LLP Boston, Massachusetts October 27, 2004 43 UNAUDITED INFORMATION HIGHLAND FLOATING RATE ADVANTAGE FUND On July 30, 2004, a Special Meeting of the Shareholders of the Fund was held to elect five Trustees and to approve a new advisory agreement between Highland Capital Management, L.P. and the Fund. On June 1, 2004, the record date for the Meeting, the Fund had outstanding 49,657,731.2010 shares of beneficial interest. The votes cast at the Meeting were as follows: 1. ELECTION OF FIVE (5) TRUSTEES:
FOR WITHHELD BROKER NON-VOTES --- -------- ---------------- Timothy K. Hui 43,234,867.7470 225,824.4410 0 Scott F. Kavanaugh 43,236,164.8890 224,527.2990 0 James F. Leary 43,235,125.1550 225,567.0330 0 Brian A. Ward 43,235,967.1550 224,725.0330 0 R. Joseph Dougherty 43,235,277.5140 225,414.6740 0
2. TO APPROVE THE FUND'S ADVISORY AGREEMENT BETWEEN HIGHLAND CAPITAL MANAGEMENT, L.P. AND THE FUND: For: 42,907,000.4160 shares of beneficial interest being a majority of the shares represented at the Meeting Against: 204,387.8130 shares of beneficial interest Abstain: 349,303.9560 shares of beneficial interest Broker Non-Votes: 0
44 TRUSTEES HIGHLAND FLOATING RATE ADVANTAGE FUND The Trustees serve terms of indefinite duration. The names, addresses and ages of the Trustees and officers of the Fund, the year each was first elected or appointed to office, their principal business occupations during at least the last five years, the number of portfolios overseen by each Trustee and other directorships they hold are shown below. Each trustee and officer listed below serves in the same capacity for the other three Highland Funds and for the two Prospect Street Funds (Prospect Street(R) High Income Portfolio, Inc. and Prospect Street(R) Income Shares, Inc. (two closed-end funds advised by Highland). The Statement of Additional Information (SAI) contains additional information about the Trustees and is available without charge upon request by calling the Fund's distributor at 877-665-1287.
NAME, ADDRESS AND AGE, POSITION WITH THE FUND, YEAR FIRST ELECTED OR APPOINTED TO OFFICE PRINCIPAL OCCUPATION(S) DURING PAST FIVE YEARS, OTHER DIRECTORSHIPS HELD DISINTERESTED TRUSTEES TIMOTHY K. HUI (age 55) Assistant Provost for and, since September 1998, Director of Learning 48 Willow Greene Drive Resources of the Philadelphia Biblical University. Churchville, PA 18966 Trustee (since 2004) SCOTT F. KAVANAUGH (age 43) Since March 2003, Sales Representative at Round Hill Securities. From 9 Old Ranch Road February 2003 to July 2003, Executive at Provident Funding Mortgage Laguna Niguel, CA 92677 Corporation. From January 2000 to February 2003, Executive Vice President, Trustee (since 2004) Director and Treasurer of Commercial Capital Bank. From April 1998 to February 2003, Managing Principal and Chief Operating Officer of Financial Institutional Partners Mortgage Company and Managing Principal and President of Financial Institutional Partners, LLC, an investment banking firm. JAMES F. LEARY (age 73) Since January 1999, Managing Director of Benefit Capital Sourthwest, Inc, a 15851 N. Dallas Parkway financial consulting firm. Director for Capstone Asset Management Group of Suite 500 Mutual Funds (nine portfolios) Addison, Texas 75001 Trustee (since 2004) BRYAN A. WARD (age 49) Since January 2002, Senior Manager of Accenture, LLP, a consulting firm. From 901 Main Street September 1998 to December 2001, Special Projects Advisor, Contractor and Dallas, Texas 75202 Information Technology consultant to Accenture, LLP. Trustee (since 2004) INTERESTED TRUSTEE R. JOSEPH DOUGHERTY (age 34) Since January 2003, Senior Portfolio Manager of Highland. From January 1999 to 13455 Noel Road Suite 1300 January 2003, Portfolio Manager of Highland. Prior to January 1999, Portfolio Dallas, TX 75240 Analyst for Highland. Trustee (since 2004)
45 OFFICERS HIGHLAND FLOATING RATE ADVANTAGE FUND
NAME, ADDRESS AND AGE, POSITION WITH THE FUND, YEAR FIRST ELECTED OR APPOINTED TO OFFICE PRINCIPAL OCCUPATION(S) DURING PAST FIVE YEARS JAMES D. DONDERO (42) President and Managing Partner of the Highland. 13455 Noel Road Suite 1300 Dallas, TX 75240 President (Since August 5, 2004) MARK K. OKADA (43) Chief Investment Officer of the Adviser. 13455 Noel Road Suite 1300 Dallas, TX 75240 Executive Vice President (Since August 5, 2004) R. JOSEPH DOUGHERTY (34) Since January 2003, Senior Portfolio Manager of Highland. From January 1999 to 13455 Noel Road Suite 1300 January 2003, Portfolio Manager of Highland. Prior to January 1999, Portfolio Dallas, TX 75240 Analyst for Highland. Senior Vice President (Since August 5, 2004) M. JASON BLACKBURN (28) Assistant Controller of the Highland. From September 1999 to October 2001, an 13455 Noel Road Suite 1300 accountant for KPMG LLP. Dallas, TX 75240 Secretary and Treasurer (Since August 5, 2004)
46 IMPORTANT INFORMATION ABOUT THIS REPORT HIGHLAND FLOATING RATE ADVANTAGE FUND TRANSFER AGENT The fund mails one shareholder report to PFPC Inc. each shareholder address. If you would like 400 Bellevue more than one report, please call Wilmington, DE 19809 shareholder services at 877-665-1287 and 877.665.1287 additional reports will be sent to you. This report has been prepared for DISTRIBUTOR shareholders of Highland Floating Rate PFPC Distributors, Inc. Advantage Fund. 760 Moore Road King of Prussia, PA 19406 A description of the policies and procedures that the fund uses to determine how to vote INVESTMENT ADVISOR proxies relating to its portfolio Highland Capital Management, L.P. securities, and the Fund's proxy voting 13455 Noel Rd., Suite 1300 record for the most recent 12-month period Dallas, TX 75240 ended June 30, are available (i) without charge, upon request, by calling INDEPENDENT REGISTERED PUBLIC 877-665-1287 and (ii) on the Securities and ACCOUNTING FIRM Exchange Commission's website at PricewaterhouseCoopers LLP http://www.sec.gov. 125 High Street Boston, MA 02110 The Fund will file its complete schedule of portfolio holdings with the Securities and Exchange Commission for the first and third quarters of each fiscal year on Form N-Q, beginning with the fiscal quarter ending November 30, 2004. The Fund's Forms N-Q are available on the Commission's website at http:/www.sec.gov and also may be reviewed and copied at the Commission's Public Reference Room in Washington, DC. Information on the Public Reference Room may be obtained by calling 1-800-SEC-0330. 47 THIS PAGE INTENTIONALLY LEFT BLANK. HIGHLAND FLOATING RATE ADVANTAGE FUND PRSRT STD ANNUAL REPORT, AUGUST 31, 2004 U.S. POSTAGE PAID HOLLISTON, MA PERMIT NO. 20 [HIGHLAND FUNDS LOGO] MANAGED BY HIGHLAND CAPITAL MANAGEMENT, L.P. (C) 2004 PFPC DISTRIBUTORS, INC. 760 MOORE ROAD KING OF PRUSSIA, PA 19406 www.highlandfunds.com 762-02/777S-0904 (10/04) 04/2929 ITEM 2. CODE OF ETHICS. The Registrant has adopted a code of ethics that applies to the Registrant's principal executive officer, principal financial officer, principal accounting officer or controller, or persons performing similar functions. ITEM 3. AUDIT COMMITTEE FINANCIAL EXPERT. The Registrant's Board of Trustees (the "Board") has determined that James Leary, a member of the Audit Committee of the Board, is an audit committee financial expert as defined by the Securities and Exchange Commission (the "SEC"). Mr. Leary is "independent" as defined by the SEC for purposes of audit committee financial expert determinations. ITEM 4. PRINCIPAL ACCOUNTANT FEES AND SERVICES. (a) AUDIT FEES. The aggregate fees billed for each of the last two fiscal years (the "Reporting Periods") for professional services rendered by the Registrant's principal accountant (the "Auditor") for the audit of the Registrant's annual financial statements, or services that are normally provided by the Auditor in connection with the statutory and regulatory filings or engagements for the Reporting Periods, were $49,510 in 2003 and $48,680 in 2004. (b) AUDIT-RELATED FEES. The aggregate fees billed in the Reporting Periods for assurance and related services by the Auditor that are reasonably related to the performance of the audit of the Registrant's financial statements and are not reported under paragraph (a) of this Item 4 were $7,000 in 2003 and $6,500 in 2004. These services consisted of the review of the semi-annual financial statements, and agreed-upon procedures required by lending organizations. The aggregate fees billed in the Reporting Periods for non-audit assurance and related services by the Auditor to the Registrant's investment adviser (not including any sub-investment adviser whose role is primarily portfolio management and is subcontracted with or overseen by another investment adviser), and any entity controlling, controlled by or under common control with the investment adviser that provides ongoing services to the Registrant ("Service Affiliates") which required pre-approval by the Audit Committee were $0 in 2003 and $0 in 2004 that were reasonably related to the performance of the annual audit of the Service Affiliate. 2 (c) TAX FEES. The aggregate fees billed in the Reporting Periods for professional services rendered by the Auditor for tax compliance, tax advice and tax planning ("Tax Services") were $1,900 in 2003 and $2,612 in 2004 These services consisted of (i) review or preparation of U.S. federal, state, local and excise tax returns; and (ii) U.S. federal, state and local tax planning, advice and assistance regarding statutory, regulatory or administrative developments. The aggregate fees billed in the Reporting Periods for Tax Services by the Auditor to Service Affiliates which required pre-approval by the Audit Committee were $0 in 2003 and $0 in 2004. (d) ALL OTHER FEES. The aggregate fees billed in the Reporting Periods for products and services provided by the Auditor, other than the services reported in paragraphs (a) through (c) of this Item, were $0 in 2003 and $0 in 2004. The aggregate fees billed in the Reporting Periods for Non-Audit Services by the Auditor to Service Affiliates, other than the services reported in paragraphs (b) through (d) of this Item, which required pre-approval by the Audit Committee were $95,000 in 2003 and $95,000 in 2004. NON-AUDIT FEES. The aggregate non-audit fees billed by the Auditor for services rendered to the Registrant, and rendered to Service Affiliates, for the Reporting Periods were $0 in 2003 and $0 in 2004. AUDITOR INDEPENDENCE. The Registrant's Audit Committee has considered whether the provision of non-audit services that were rendered to Service Affiliates which were not pre-approved (not requiring pre-approval) is compatible with maintaining the Auditor's independence. ITEM 5. AUDIT COMMITTEE OF LISTED REGISTRANTS. Not applicable. ITEM 6. SCHEDULE OF INVESTMENTS. Not applicable. ITEM 7. DISCLOSURE OF PROXY VOTING POLICIES AND PROCEDURES FOR CLOSED-END MANAGEMENT INVESTMENT COMPANIES. The Registrant has delegated voting of proxies in respect of portfolio holdings to its investment adviser, Highland Capital Management, L.P. ("HCMLP"), to vote the Registrant's proxies in accordance with HCMLP's proxy voting guidelines and procedures. HCMLP has adopted proxy voting guidelines (the "Guidelines") that provide as follows: - HCMLP votes proxies in respect of the Registrant's securities in the Registrant's best interests and without regard to the interests of HCMLP or any client of HCMLP. 3 - Unless HCMLP's Proxy Voting Committee (the "Committee") otherwise determines (and documents the basis for its decisions) or as otherwise provided below, HCMLP votes proxies in a manner consistent with the Guidelines. - To avoid material conflicts of interest, HCMLP applies the Guidelines in an objective and consistent manner across the Registrant's accounts. Where a material conflict of interest has been identified and the matter is covered by the Guidelines, the Committee votes in accordance with the Guidelines. For the Registrant, where a conflict of interest has been identified and the matter is not covered in the Guidelines, HCMLP will disclose the conflict and the Committee's determination of the matter in which to vote to the Registrant's Board. - HCMLP also may determine not to vote proxies in respect of securities of the Registrant if it determines it would be in the Registrant's best interests not to vote. HCMLP's Guidelines also address how it will vote proxies on particular types of matters such as corporate governance matters, disclosure of executive compensation and share repurchase programs. For example, HCMLP generally will: - Support management in most elections for directors, unless the board gives evidence of acting contrary to the best economic interests of shareholders; - Support proposals seeking increased disclosure of executive compensation; and - Support management proposals to institute share repurchase plans in which all shareholders may participate on equal terms. ITEM 8. PURCHASE OF EQUITY SECURITIES BY CLOSED-END MANAGEMENT INVESTMENT COMPANIES AND AFFILIATED PURCHASERS. Not applicable. ITEM 9. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. The Registrant has a Nominating Committee (the "Committee") of the Board responsible for selecting and nominating persons as members of the Board for election or appointment by the Board and for election by stockholders. The Committee has adopted a Nominating Committee Charter (the "Charter"), pursuant to which the Committee will consider recommendations for nominees from stockholders submitted to the Secretary of the Registrant, Two Galleria Tower, 13455 Noel Road, Dallas, Texas 75240. In evaluating potential nominees, including any nominees recommended by stockholders, the Committee takes into consideration various factors including character and integrity, business and professional experience, and whether the Committee believes the person has the ability to apply sound and independent business judgment and would act in the interest of the Registrant and its stockholders. Submissions must include all information relating to the recommended nominee that is required to be disclosed in solicitations or proxy statements for the election of Board members, as well as information sufficient to evaluate the factors to be considered by the Committee. Submissions must be accompanied by a written consent of the individual to stand for election if nominated by the Board and to serve if elected by the stockholders, and such additional information must be provided regarding the recommended nominee as reasonably requested by the Committee. ITEM 10. CONTROLS AND PROCEDURES. (a) The Registrant's principal executive and principal financial officers have concluded, based on their evaluation of the Registrant's disclosure controls and procedures as of a date within 90 days of 4 the filing date of this report, that the Registrant's disclosure controls and procedures are reasonably designed to ensure that information required to be disclosed by the Registrant on Form N-CSR is recorded, processed, summarized and reported within the required time periods and that information required to be disclosed by the Registrant in the reports that it files or submits on Form N-CSR is accumulated and communicated to the Registrant's management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding required disclosure. (b) There were no changes to the Registrant's internal control over financial reporting that occurred during the Registrant's most recently ended fiscal half-year that have materially affected, or are reasonably likely to materially affect, the Registrant's internal control over financial reporting. ITEM 11. EXHIBITS. (a)(1) Code of ethics referred to in Item 2. (a)(2) Certifications of principal executive and principal financial officers as required by Rule 30a-2(a) under the Investment Company Act of 1940. (a)(3) Not applicable. (b) Certification of principal executive and principal financial officers as required by Rule 30a-2(b) under the Investment Company Act of 1940. 5 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934 and the Investment Company Act of 1940, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized. HIGHLAND FLOATING RATE ADVANGTAGE FUND By: /s/ James D. Dondero ----------------------- James D. Dondero Chief Executive Officer Date: November 09, 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/ James D. Dondero ----------------------- James D. Dondero Chief Executive Officer Date: November 09, 2004 By: /s/ M. Jason Blackburn ----------------------- M. Jason Blackburn Chief Financial Officer Date: November 09, 2004 EXHIBIT INDEX (a)(1) Code of ethics referred to in Item 2. (a)(2) Certifications of principal executive and principal financial officers as required by Rule 30a-2(a) under the Investment Company Act of 1940. (EX-99.CERT) (b) Certification of principal executive and principal financial officers as required by Rule 30a-2(b) under the Investment Company Act of 1940. (EX-99.906CERT) 6 EX-99.CODEETH 2 a2145952zex-99_codeeth.txt EX-99.CODEETH Exhibit 99.CODE ETH Exhibit (a)(1) CODE OF ETHICS PROSPECT STREET(R) FUNDS HIGHLAND FUNDS CODE OF ETHICS FOR PRINCIPAL EXECUTIVE AND SENIOR FINANCIAL OFFICERS I. COVERED OFFICERS/PURPOSE OF THE CODE This code of ethics (this "Code") for the Funds applies to each Fund's Principal Executive Officer and Principal Financial Officer (the "Covered Officers") for the purpose of promoting: - honest and ethical conduct, including the ethical handling of actual or apparent conflicts of interest between personal and professional relationships; - full, fair, accurate, timely and understandable disclosure in reports and documents that the Fund files with, or submits to, the Securities and Exchange Commission (the "SEC") and in other public communications made by the Fund; - compliance with applicable laws and governmental rules and regulations; - the prompt internal reporting of violations of the Code to an appropriate person or persons identified in the Code; and - accountability for adherence to the Code. Each Covered Officer should adhere to a high standard of business ethics and should be sensitive to situations that may give rise to actual as well as apparent conflicts of interest. II. COVERED OFFICERS SHOULD HANDLE ETHICALLY ACTUAL AND APPARENT CONFLICTS OF INTEREST OVERVIEW. A "conflict of interest" occurs when a Covered Officer's private interest interferes with the interests of, or his service to, the Fund. For example, a conflict of interest would arise if a Covered Officer, or a member of his family, receives improper personal benefits as a result of his position with the Fund. Certain conflicts of interest arise out of the relationships between Covered Officers and the Fund and already are subject to conflict of interest provisions in the Investment Company Act of 1940, as amended (the "Investment Company Act"), and the Investment Advisers Act of 1940, as amended (the "Investment Advisers Act"). For example, Covered Officers may not individually engage in certain transactions (such as the purchase or sale of securities or other property) with the Fund because of their status as "affiliated persons" of the Fund. The compliance programs and procedures of the Fund and the Fund's investment adviser (the "Adviser") are designed to prevent, or identify and correct, violations of these provisions. The Code does not, and is not intended to, repeat or replace these programs and procedures, and the circumstances they cover fall outside of the parameters of this Code. Although typically not presenting an opportunity for improper personal benefit, conflicts arise from, or as a result of, the contractual relationship between the Fund and the Adviser of which the Covered Officers are also officers or employees. As a result, this Code recognizes that the Covered Officers, in the ordinary course of their duties (whether formally for the Fund or for the Adviser, or for both), will be involved in establishing policies and implementing decisions that will have different effects on the Adviser 7 and the Fund. The participation of the Covered Officers in such activities is inherent in the contractual relationship between the Fund and the Adviser and is consistent with the performance by the Covered Officers of their duties as officers of the Fund and, if addressed in conformity with the provisions of the Investment Company Act and the Investment Advisers Act, will be deemed to have been handled ethically. In addition, it is recognized by the Funds' Boards of Directors (the "Boards") that the Covered Officers may also be officers or employees of one or more other investment companies covered by this or other codes of ethics. Other conflicts of interest are covered by the Code, even if such conflicts of interest are not subject to provisions in the Investment Company Act and the Investment Advisers Act. The following list provides examples of conflicts of interest under the Code, but Covered Officers should keep in mind that these examples are not exhaustive. The overarching principle of the Code is that the personal interest of a Covered Officer should not be placed improperly before the interest of the Fund. Each Covered Officer must: - not use his personal influence or personal relationships improperly to influence investment decisions or financial reporting by the Fund whereby the Covered Officer would benefit personally to the detriment of the Fund; - not cause the Fund to take action, or fail to take action, for the individual personal benefit of the Covered Officer rather than the benefit of the Fund; - report at least annually any affiliations or other relationships related to conflicts of interest indicated in the Fund's Directors and Officers Questionnaire; and - disclose any material ownership interest in, or any consulting or employment relationship with, any of the Fund's service providers, other than the Adviser or any affiliated person thereof. III. DISCLOSURE AND COMPLIANCE - Each Covered Officer should familiarize himself with the disclosure requirements generally applicable to the Fund; - each Covered Officer should not knowingly misrepresent, or cause others to misrepresent, facts about the Fund to others, whether within or outside the Fund, including to the Fund's Board members and auditors, and to governmental regulators and self-regulatory organizations; - each Covered Officer should, to the extent appropriate within his area of responsibility, consult with other officers and employees of the Fund and the Adviser and take other appropriate steps with the goal of promoting full, fair, accurate, timely and understandable disclosure in the reports and documents the Fund files with, or submits to, the SEC and in other public communications made by the Fund; and - it is the responsibility of each Covered Officer to promote compliance with the standards and restrictions imposed by laws, rules and regulations applicable to the Funds. IV. REPORTING AND ACCOUNTABILITY Each Covered Officer must: - upon adoption of the Code (or thereafter, as applicable, upon becoming a Covered Officer), affirm in writing to the Board that he has received, read, and understands the Code; - annually thereafter affirm to the Board that he has complied with the requirements of the Code; 8 - not retaliate against any other Covered Officer or any employee of the Funds or their affiliated persons for reports of potential violations that are made in good faith; and - notify the Fund's Qualified Legal Compliance Committee (the "Committee") promptly if he knows of any violation of this Code. Failure to do so is itself a violation of this Code. The Fund will follow these procedures in investigating and enforcing this Code: - the Committee will take all appropriate action to investigate any potential violations reported to it; - if, after such investigation, the Committee believes that no violation has occurred, the Committee is not required to take any further action; - any matter that the Committee believes is a violation will be reported to the Board; - if the Board concurs that a violation has occurred, it will consider appropriate action, which may include: review of, and appropriate modifications to, applicable policies and procedures; notification to appropriate personnel of the Adviser or its board; or a recommendation to dismiss the Covered Officer; - the Committee will be responsible for granting waivers, as appropriate; and - any changes to or waivers of this Code will, to the extent required, be disclosed as provided by SEC rules. V. OTHER POLICIES AND PROCEDURES This Code shall be the sole code of ethics adopted by the Fund for purposes of Section 406 of the Sarbanes-Oxley Act of 2002 and the rules and forms applicable to registered investment companies thereunder. Insofar as other policies and procedures of the Fund, the Adviser or other service providers govern or purport to govern the behavior or activities of the Covered Officers who are subject to this Code, they are superseded by this Code to the extent that they overlap or conflict with the provisions of this Code. The Fund's and the Adviser's codes of ethics under Rule 17j-1 under the Investment Company Act and the Adviser's additional policies and procedures are separate requirements applying to the Covered Officers and others, and are not part of this Code. VI. AMENDMENTS Any amendments to this Code must be approved or ratified by a majority vote of the Fund's Board, including a majority of independent Board members. VII. CONFIDENTIALITY All reports and records prepared or maintained pursuant to this Code will be considered confidential and shall be maintained and protected accordingly. Except as otherwise required by law or this Code, such matters shall not be disclosed to anyone other than the appropriate Fund and its Board and the Adviser and each of their respective counsel. VIII. INTERNAL USE The Code is intended solely for the internal use by the Funds and does not constitute an admission, by or on behalf of any Fund, as to any fact, circumstance, or legal conclusion. As Revised: September 30, 2004 9 EX-99.302CERT 3 a2145952zex-99_302cert.txt EX 99.302CERT EXHIBIT 99.CERT Exhibit (a)(2) SECTION 302 CERTIFICATIONS I, James D. Dondero, certify that: 1. I have reviewed this report on Form N-CSR of Highland Floating Rate Advantage Fund; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations, changes in net assets, and cash flows (if the financial statements are required to include a statement of cash flows) of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Rule 30a-3(c) under the Investment Company Act of 1940) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of a date within 90 days prior to the filing date of this report based on such evaluation; and (c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal half-year (the registrant's second fiscal half-year in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize, and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. By: /s/ James D. Dondero ----------------------- James D. Dondero Chief Executive Officer Date: November 09, 2004 10 SECTION 302 CERTIFICATIONS I, M. Jason Blackburn, certify that: 1. I have reviewed this report on Form N-CSR of Highland Floating Rate Advantage Fund; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations, changes in net assets, and cash flows (if the financial statements are required to include a statement of cash flows) of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Rule 30a-3(c) under the Investment Company Act of 1940) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of a date within 90 days prior to the filing date of this report based on such evaluation; and (c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal half-year (the registrant's second fiscal half-year in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer(s) and I have disclosed to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize, and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. By: /s/ M. Jason Blackburn ----------------------- M. Jason Blackburn Chief Financial Officer Date: November 09, 2004 11 EX-99.906CERT 4 a2145952zex-99_906cert.txt EX 99.906CERT EXHIBIT 99.906CERT Exhibit (b) SECTION 906 CERTIFICATIONS In connection with this report on Form N-CSR for the Registrant as furnished to the Securities and Exchange Commission on the date hereof (the "Report"), the undersigned hereby certify, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as applicable; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Registrant. By: /s/ James D. Dondero ----------------------- James D. Dondero Chief Executive Officer Date: November 09, 2004 By: /s/ M. Jason Blackburn ----------------------- M. Jason Blackburn Chief Financial Officer Date: November 09, 2004 THIS CERTIFICATE IS FURNISHED PURSUANT TO THE REQUIREMENTS OF FORM N-CSR AND SHALL NOT BE DEEMED "FILED" FOR PURPOSES OF SECTION 18 OF THE SECURITIES EXCHANGE ACT OF 1934, OR OTHERWISE SUBJECT TO THE LIABILITY OF THAT SECTION, AND SHALL NOT BE DEEMED TO BE INCORPORATED BY REFERENCE INTO ANY FILING UNDER THE SECURITIES ACT OF 1933 OR THE EXCHANGE ACT OF 1934. 12 -----END PRIVACY-ENHANCED MESSAGE-----