-----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, GIQLinCxnROvZ3OS92NpbCcxKbR2ogJ1JWJxff6+L45Sn3wwk0jGUvVsOcQrhlhe a71NDU0lHYl6xnS4tP64vg== 0001047469-06-003137.txt : 20060310 0001047469-06-003137.hdr.sgml : 20060310 20060309174355 ACCESSION NUMBER: 0001047469-06-003137 CONFORMED SUBMISSION TYPE: N-CSR PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20051231 FILED AS OF DATE: 20060310 DATE AS OF CHANGE: 20060309 EFFECTIVENESS DATE: 20060310 FILER: COMPANY DATA: COMPANY CONFORMED NAME: LEHMAN BROTHERS FIRST TRUST INCOME OPPORTUNITY FUND CENTRAL INDEX KEY: 0001228361 IRS NUMBER: 000000000 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: N-CSR SEC ACT: 1940 Act SEC FILE NUMBER: 811-21342 FILM NUMBER: 06677040 BUSINESS ADDRESS: STREET 1: 399 PARK AVE CITY: NEW YORK STATE: NY ZIP: 10022 BUSINESS PHONE: 6179377763 MAIL ADDRESS: STREET 1: 399 PARK AVE CITY: NEW YORK STATE: NY ZIP: 10022 N-CSR 1 a2166625zn-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 811-21342 --------------------------------------------- Lehman Brothers First Trust Income Opportunity Fund - -------------------------------------------------------------------------------- (Exact name of registrant as specified in charter) 399 Park Ave., New York, NY 10022 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip code) Bradley Tank, Chief Executive Officer of Lehman Brothers Asset Management Inc. 399 Park Ave., New York, NY 10022 - -------------------------------------------------------------------------------- (Name and address of agent for service) Registrant's telephone number, including area code: (212) 526-7000 --------------------------- Date of fiscal year end: 12/31/2005 --------------------------- Date of reporting period: 12/31/2005 --------------------------- ITEM 1. REPORTS TO STOCKHOLDERS. The annual report for the period January 1, 2005 through December 31, 2005 is filed herewith. ANNUAL REPORT 2005 LEHMAN BROTHERS FIRST TRUST INCOME OPPORTUNITY FUND [GRAPHIC] LEHMAN BROTHERS CONTENTS Chairman's and President's Letter 2 Portfolio Manager's Report 3 Fund Overview 4 Schedule of Investments 5 Notes to Schedule of Investments 15 Statement of Assets and Liabilities 16 Statement of Operations 17 Statements of Changes in Net Assets 18 Financial Highlights 19 Notes to Financial Statements 20 Shareholder Voting Results 25 Report of Independent Registered Public Accounting Firm 26 Dividend Reinvestment Plan (Unaudited) 27 Trustees and Officers Table (Unaudited) 28
CHAIRMAN AND PRESIDENT'S LETTER Dear Shareholder: We are pleased to present to you the 2005 annual report of the Lehman Brothers First Trust Income Opportunity Fund. The report includes portfolio commentary, a listing of the Fund's investments, and its financial statements for the reporting period. The high yield market was volatile over the course of 2005, with changes in interest rates being the primary source of the volatility. With fears of higher inflation, a spike in Treasury rates, and Federal Reserve Chairman Alan Greenspan's comments about a bond market "conundrum," high yield bonds declined in value. While interest rates were the main culprit, a modest increase in spreads over the year also contributed to price declines. However, the attractive coupon levels associated with high yield securities more than offset any price declines and resulted in a positive overall return for the market. The Fund's investment objective is to seek high total return through income plus capital appreciation. The Fund pursues this investment objective by investing primarily in high yield debt securities*. Its performance is dependent on several factors, including the rate of interest received on securities held by the Fund, the interest cost of Money Market Cumulative Preferred Shares issued by the Fund, and the results of interest rate hedges used by the Fund in seeking to manage short-term interest rate costs. Portfolio Manager Ann H. Benjamin and her team of seasoned investment professionals at Lehman Brothers Asset Management LLC manage the portfolio. The team takes a proactive approach to high yield asset management, integrating detailed security and industry analysis within the context of a global economic outlook. Ann's portfolio co-managers and research analysts are industry specialists who carry out independent primary research on companies and industries. In addition to seeking value from specific issue selections, they also implement strategies seeking to take advantage of valuation opportunities across industry sectors and credit quality tiers. We thank you for the trust you have placed in us by investing in the Lehman Brothers First Trust Income Opportunity Fund. We will continue to do our best to earn it. Sincerely, /s/ Kurt A. Locher /s/ Brad Tank Kurt A. Locher Brad Tank CHAIRMAN AND TRUSTEE PRESIDENT - ---------- * Portfolios that invest in bonds and other fixed income securities can provide regular income and have historically been less volatile than most stock funds. However, they are subject to risks including credit risk, default on principal or interest payments and interest rate fluctuations. High-yield bonds, also known as "junk bonds," are subject to additional risks such as the increased risk of default. LEHMAN BROTHERS FIRST TRUST INCOME OPPORTUNITY FUND ANNUAL REPORT 2005 PORTFOLIO MANAGER'S REPORT For the annual reporting period ended December 31, 2005, the Lehman Brothers First Trust Income Opportunity Fund (NYSE: LBC) returned 3.63% on a Net Asset Value (NAV) basis and 5.40% on a Market Value basis. For the year, the high yield bond market* produced modest returns that were driven by higher interest rates, despite historically low default levels and a relatively benign credit environment. While most sectors in the high yield market performed fairly well, three sectors in particular weighed on the market's overall performance. These sectors included the Autos, which were affected by credit downgrades of both General Motors and Ford, and Forest and Paper Products. Automotive suppliers in particular were hurt by cost pressures from GM and Ford. In general, credit spreads were only modestly wider for the year, but returns were dampened primarily by the rise in interest rates. The portfolio's relative outperformance came from a number of market sectors. For example, an overweight in the strongly performing gaming sector helped results. We purposefully maintained an underweight position in the weak paper sector, which helped our returns relative to the broad market. In the Media sector, the Fund's strong performance was mostly the result of good security selection. Other areas that did well included Wireless and Health Care. In the Wireless segment, we enjoyed favorable security selection and benefited from an overweight, as the sector as a whole was strong. In Health Care, the portfolio also benefited from positive security selection. The majority of our alpha generation came from security selection. Looking ahead, there are a number of factors that we believe bode well for the high yield market. First, we anticipate that the Federal Reserve Board's tightening cycle is going to end sometime in the first part of 2006. Second, although default rates among lower quality bonds may experience a slight uptick, they are still low relative to historical standards. Third, the economy generally appears to be doing well. Our strategy is to stay focused on intermediate duration bonds in the BB area of the market, where we are seeing the best value. The spread conversion between B- and BB-rated bonds is extremely narrow, so there is little to gain from taking on the excess risk in the B-rated segment of the market. We therefore expect to continue to move up the credit quality spectrum (within the non-investment grade category) as our lower quality bonds mature and are called or tendered. In addition, we continue to focus on industries with stable cash flows, such as Cable, Media, Health Care and Gaming. We also plan to underweight the cyclical segment of the market. From a valuation perspective, cyclical components are trading similarly to more defensive industries and, to us, appear fully valued. Over the past year, we began lowering our cyclical weighting and we plan to maintain a significant underweight until valuations in this area of the market start to look more attractive. Sincerely, /s/ Ann H. Benjamin Ann H. Benjamin PORTFOLIO MANAGER - ---------- Past performance is not indicative of future results. * Portfolios that invest in bonds and other fixed income securities can provide regular income and have historically been less volatile than most stock funds. However, they are subject to risks including credit risk, default on principal or interest payments and interest rate fluctuations. High-yield bonds, also known as "junk bonds," are subject to additional risks such as the increased risk of default. 3 LEHMAN BROTHERS FIRST TRUST INCOME OPPORTUNITY FUND FUND OVERVIEW (AS OF 12/31/05)(1) PERFORMANCE HIGHLIGHTS(2)
3 MONTHS 6 MONTHS ENDED ENDED YEAR ENDED CUMULATIVE TOTAL RETURN INCEPTION DATE 12/31/05 12/31/05 12/31/05 SINCE INCEPTION(3) NAV 07/28/03 1.28% 2.54% 3.63% 30.82% Market Price 07/28/03 2.62% 8.00% 5.40% 34.46%
FUND FACTS Ticker NYSE: LBC Market Price (12/31/2005) $ 15.61 Net Asset Value (NAV) $ 14.51 Premium / (Discount) 7.58% Shares outstanding: 12,247,538 CUSIP number: 525178 10 9 Inception Date: 7/28/03
PORTFOLIO CHARACTERISTICS Portfolio Turnover 96.18% Expense Ratio 1.53% Wtd. Avg. Maturity 7.98 Years Average Coupon 8.14% Average Credit Quality B Portfolio Composition - % High Yield 89.1%
CAPITAL STRUCTURE AND LEVERAGE ($ MM) Total Net Assets $ 267.9 Net Assets Attributable to Common Shares $ 177.7 Net Assets Attributable to Preferred Shares $ 90.2 Net Assets Attributable to Other Borrowings - Leverage (% of total net assets) 33.7%
[CHART] CREDIT QUALITY BREAKDOWN (% OF TOTAL INVESTMENTS AND CASH) Cash (AAA) 2.0% BBB 7.0% BB 43.0% A 0.5% B 38.4% CCC 7.7% Not Rated 1.4%
[CHART] MARKET PRICE AND NAV PERFORMANCE
PRICE ($) NAV ($) PREMIUM/DISCOUNT (%) 7/29/2003 $ 15.00 $ 14.30 0.049000 8/8/2003 $ 15.00 $ 14.16 0.059300 8/15/2003 $ 15.10 $ 13.98 0.080100 8/22/2003 $ 14.56 $ 14.39 0.011800 8/29/2003 $ 14.45 $ 14.60 -0.010300 9/5/2003 $ 14.75 $ 14.75 0.000000 9/12/2003 $ 14.83 $ 14.93 -0.006700 9/19/2003 $ 14.82 $ 14.90 -0.005370 9/26/2003 $ 14.78 $ 14.92 -0.009380 10/3/2003 $ 14.93 $ 14.87 0.004035 10/10/2003 $ 15.14 $ 15.00 0.009330 10/17/2003 $ 15.10 $ 14.95 0.010000 10/24/2003 $ 15.23 $ 14.80 0.029054 10/31/2003 $ 15.25 $ 14.88 0.024900 11/7/2003 $ 15.27 $ 14.94 0.022100 11/14/2003 $ 15.48 $ 15.01 0.031300 11/21/2003 $ 15.14 $ 14.99 0.010000 11/28/2003 $ 15.26 $ 15.06 0.013300 12/5/2003 $ 15.36 $ 15.34 0.001300 12/12/2003 $ 15.32 $ 15.43 -0.007130 12/19/2003 $ 15.43 $ 15.60 -0.010900 12/26/2003 $ 15.49 $ 15.46 0.001940 12/31/2003 $ 15.91 $ 15.51 0.027800 1/9/2004 $ 15.79 $ 15.92 -0.008233 1/16/2004 $ 16.59 $ 15.98 0.038173 1/23/2004 $ 16.25 $ 15.95 0.018809 1/30/2004 $ 16.10 $ 15.60 0.032051 2/6/2004 $ 16.00 $ 15.31 0.045069 2/13/2004 $ 16.52 $ 15.49 0.066495 2/20/2004 $ 15.99 $ 15.22 0.050591 2/27/2004 $ 16.17 $ 15.17 0.065920 3/5/2004 $ 16.03 $ 15.27 0.049771 3/12/2004 $ 16.22 $ 15.25 0.063607 3/19/2004 $ 16.43 $ 15.12 0.086640 3/26/2004 $ 16.02 $ 14.98 0.069426 3/31/2004 $ 16.20 $ 15.09 0.073559 4/2/2004 $ 16.16 $ 15.06 0.073041 4/8/2004 $ 15.90 $ 15.16 0.048813 4/16/2004 $ 14.82 $ 15.17 -0.023617 4/23/2004 $ 14.90 $ 15.14 -0.016107 4/30/2004 $ 14.71 $ 15.02 -0.021074 5/7/2004 $ 14.39 $ 14.65 -0.018068 5/21/2004 $ 13.87 $ 14.35 -0.034607 5/28/2004 $ 14.94 $ 14.54 0.027510 6/4/2004 $ 14.95 $ 14.54 0.028198 6/10/2004 $ 14.98 $ 14.62 0.024624 6/18/2004 $ 14.95 $ 14.71 0.016315 6/25/2004 $ 14.75 $ 14.69 0.004084 6/30/2004 $ 14.85 $ 14.67 0.012270 7/2/2004 $ 14.94 $ 14.72 0.014946 7/9/2004 $ 15.00 $ 14.85 0.010101 7/16/2004 $ 15.20 $ 14.98 0.014686 7/23/2004 $ 15.18 $ 14.85 0.022222 7/30/2004 $ 15.15 $ 14.82 0.022267 8/13/2004 $ 15.44 $ 14.81 0.042539 8/20/2004 $ 15.55 $ 14.88 0.045027 8/27/2004 $ 15.49 $ 14.85 0.043098 8/31/2004 $ 15.58 $ 14.87 0.047747 8/13/2004 $ 15.44 $ 14.81 0.042539 8/20/2004 $ 15.55 $ 14.88 0.045027 8/27/2004 $ 15.49 $ 14.85 0.043098 8/31/2004 $ 15.58 $ 14.87 0.047747 9/3/2004 $ 15.53 $ 14.91 0.041583 9/10/2004 $ 15.73 $ 15.06 0.044489 9/17/2004 $ 15.85 $ 15.11 0.048974 9/24/2004 $ 15.67 $ 15.03 0.042582 10/1/2004 $ 15.75 $ 15.03 0.047904 10/15/2004 $ 16.29 $ 15.20 0.071711 10/22/2004 $ 16.13 $ 15.08 0.069629 10/29/2004 $ 15.86 $ 15.32 0.035248 11/5/2004 $ 16.30 $ 15.53 0.049581 11/12/2004 $ 16.10 $ 15.49 0.039380 11/19/2004 $ 16.35 $ 15.57 0.050096 11/26/2004 $ 16.34 $ 15.48 0.055556 12/3/2004 $ 16.40 $ 15.43 0.062865 12/10/2004 $ 16.10 $ 15.55 0.035370 12/17/2004 $ 16.48 $ 15.63 0.054383 12/23/2004 $ 16.26 $ 15.55 0.045659 12/31/2004 $ 16.48 $ 15.59 0.057088 1/7/2005 $ 15.98 $ 15.61 0.023700 1/14/2005 $ 16.30 $ 15.53 0.049600 1/21/2005 $ 16.00 $ 15.36 0.041700 1/28/2005 $ 15.91 $ 15.46 0.029100 1/31/2005 $ 15.91 $ 15.49 0.027100 2/4/2005 $ 15.84 $ 15.65 0.012100 2/11/2005 $ 15.99 $ 15.68 0.019800 2/18/2005 $ 15.73 $ 15.64 0.005800 2/25/2005 $ 15.53 $ 15.72 -0.012100 2/28/2005 $ 15.50 $ 15.75 -0.015900 3/4/2005 $ 15.44 $ 15.73 -0.018400 3/11/2005 $ 15.23 $ 15.69 -0.029300 3/18/2005 $ 15.05 $ 15.45 -0.025900 3/24/2005 $ 14.20 $ 15.02 -0.054600 3/31/2005 $ 14.85 $ 14.83 0.001300 4/1/2005 $ 14.78 $ 14.85 -0.004700 4/8/2005 $ 15.00 $ 15.03 -0.002000 4/15/2005 $ 14.58 $ 14.68 -0.006800 4/22/2005 $ 14.68 $ 14.66 0.001400 4/29/2005 $ 14.72 $ 14.38 0.023600 5/6/2005 $ 14.94 $ 14.45 0.033900 5/13/2005 $ 14.87 $ 14.27 0.042000 5/20/2005 $ 14.86 $ 14.16 0.049400 5/27/2005 $ 14.78 $ 14.56 0.015100 5/31/2005 $ 15.01 $ 14.65 0.024600 6/3/2005 $ 15.01 $ 14.94 0.004700 6/10/2005 $ 15.13 $ 14.87 0.017500 6/17/2005 $ 15.34 $ 14.95 0.026100 6/24/2005 $ 15.17 $ 14.84 0.022200 6/30/2005 $ 15.27 $ 14.95 0.021400 7/1/2005 $ 15.31 $ 14.96 0.023400 7/8/2005 $ 15.70 $ 14.98 0.048100 7/15/2005 $ 15.95 $ 15.16 0.052100 7/22/2005 $ 15.92 $ 15.04 0.058500 7/29/2005 $ 15.93 $ 15.15 0.051500 8/5/2005 $ 15.49 $ 15.06 0.028600 8/12/2005 $ 15.55 $ 15.10 0.029800 8/19/2005 $ 15.98 $ 15.17 0.053400 8/26/2005 $ 15.85 $ 15.10 0.049700 8/31/2005 $ 15.82 $ 15.05 0.051200 9/22/2005 $ 15.70 $ 15.02 0.045300 9/9/2005 $ 15.90 $ 15.06 0.055800 9/16/2005 $ 15.82 $ 15.01 0.054000 9/23/2005 $ 15.73 $ 14.72 0.068600 9/30/2005 $ 15.64 $ 14.73 0.061800 10/7/2005 $ 15.84 $ 14.68 0.079000 10/14/2005 $ 15.30 $ 14.50 0.055200 10/21/2005 $ 15.05 $ 14.61 0.030100 10/28/2005 $ 15.10 $ 14.45 0.045000 10/31/2005 $ 15.14 $ 14.48 0.045600 11/4/2005 $ 15.16 $ 14.51 0.044800 11/11/2005 $ 15.40 $ 14.50 0.062100 11/18/2005 $ 15.36 $ 14.32 0.072600 11/25/2005 $ 15.36 $ 14.38 0.068200 11/30/2005 $ 15.24 $ 14.45 0.054700 12/2/2005 $ 15.46 $ 14.50 0.066200 12/9/2005 $ 15.60 $ 14.53 0.073600 12/16/2005 $ 15.67 $ 14.59 0.074000 12/23/2005 $ 15.69 $ 14.46 0.085100 12/31/2005 $ 15.61 $ 14.51 0.075800
[CHART] TOP INDUSTRIES (% OF TOTAL INVESTMENTS) Media Broadcasting & Publishing 14.6% Telephone Systems 7.4% Entertainment & Leisure 9.2% Electric Utilities 7.4% Automotive 9.9% Oil & Gas 10.0% Health Care Providers 6.3% Communications 2.6% Commercial Services 6.7% Retailers 4.1% Other 21.8%
[CHART] MATURITY BREAKDOWN (% OF TOTAL INVESTMENTS AND CASH) < 1 Year 4.06% 1-3 Years 6.42% 3-5 Years 10.35% 5-7 Years 27.98% 7-10 Years 38.39% 10+ Years 12.80%
- ---------- 1. Unless noted, data at or for twelve months ended December 31, 2005. High yield securities, also known as "junk bonds," are subject to additional risks such as the increased risk of default. Portfolio holdings are subject to change. 2. Performance for NAV and Market Price assume reinvestment of all dividends and capital gains. Shares of the Fund fluctuate in value. Fund performance changes over time and currently may be different from that shown as of 12/31/05. Past performance is no guarantee of future results. More current Fund performance information can be obtained by visiting the Fund's website at www.lbftincomeopportunity.com. 3. Not annualized. LEHMAN BROTHERS FIRST TRUST INCOME OPPORTUNITY FUND SCHEDULE OF INVESTMENTS DECEMBER 31, 2005
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) ASSET BACKED SECURITIES -- 1.5% AIRLINES -- 1.5% $ 1,336,646 Continental Airlines, Inc., Pass-Through Certificates, Series 2004-ERJ1, Class A 9.558%, 9/01/2019 BBB Ba NR $ 1,341,940 1,405,000 Delta Airlines, Inc., Pass-Through Certificates, Series 2000-1, Class A2 7.570%, 11/18/2010 BB Ba B 1,384,338 TOTAL ASSET BACKED SECURITIES (IDENTIFIED COST $2,630,698) 2,726,278 CORPORATE DEBT -- 141.6% ADVERTISING -- 0.7% 1,325,000 Lamar Media Corp., Senior Subordinated Note 6.625%, 8/15/2015 B Ba NR 1,329,969 AUTOMOTIVE -- 14.2% 2,000,000 Ford Motor Co., Global Note 7.450%, 7/16/2031 BB Ba BB 1,360,000 1,405,000 Ford Motor Credit Co., Global Note 6.875%, 2/01/2006 BB Baa BB 1,401,979 1,500,000 Ford Motor Credit Co., Global Note 7.875%, 6/15/2010 BB Baa BB 1,349,838 2,175,000 Ford Motor Credit Co., Global Note (FRN) 5.290%, 11/16/2006 BB Baa BB 2,111,838 4,000,000 Ford Motor Credit Co., Note 6.500%, 1/25/2007 BB Baa BB 3,869,880 3,070,000 Ford Motor Credit Co., Senior Note 4.950%, 1/15/2008 BB Baa BB 2,750,702 1,355,000 General Motors Acceptance Corp., Global Note 6.125%, 2/01/2007 BB Ba BB 1,293,547 4,145,000 General Motors Acceptance Corp., Global Note 6.875%, 9/15/2011 BB Ba BB 3,780,012 2,690,000 General Motors Acceptance Corp., Note 8.000%, 11/01/2031 BB Ba BB 2,576,700 5,155,000 General Motors Acceptance Corp., Senior Note 7.000%, 2/01/2012 BB Ba BB 4,675,204 25,169,700 BEVERAGES, FOOD & TOBACCO -- 0.6% 1,000,000 Del Monte Corp., Senior Subordinated Note 8.625%, 12/15/2012 B B BB 1,062,500
See accompanying notes to financial statements. 5
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) CORPORATE DEBT -- CONTINUED BUILDING MATERIALS -- 0.8% $ 1,460,000 Nortek, Inc., Senior Subordinated Note 8.500%, 9/01/2014 CCC Caa NR $ 1,408,900 CHEMICALS -- 3.3% 1,155,000 Equistar Chemicals, LP/Equistar Funding Corp., Senior Note 10.625%, 5/01/2011 BB B B 1,270,500 1,645,000 Methanex Corp., Senior Note 8.750%, 8/15/2012 BBB Ba BBB 1,830,062 2,000,000 Millennium America, Inc., Senior Note 9.250%, 6/15/2008 BB B BB 2,157,500 610,000 PQ Corp., Senior Subordinated Note, 144A 7.500%, 2/15/2013 B B NR 567,300 5,825,362 COAL -- 1.6% 1,350,000 Massey Energy Co., Senior Note 6.625%, 11/15/2010 BB B NR 1,371,937 1,500,000 Massey Energy Co., Senior Note, 144A 6.875%, 12/15/2013 BB B NR 1,513,125 2,885,062 COMMERCIAL SERVICES -- 9.6% 1,905,000 Allied Waste North America, Inc., Senior Secured Note 8.875%, 4/01/2008 BB B B 2,009,775 1,400,000 Allied Waste North America, Inc., Senior Note 7.250%, 3/15/2015 BB B B 1,414,000 2,300,000 Cardtronics, Inc., Senior Subordinated Note, 144A 9.250%, 8/15/2013 B Caa NR 2,288,500 1,014,000 Coinmach Corp., Senior Note 9.000%, 2/01/2010 CCC B NR 1,062,165 2,945,000 Knowledge Learning Corp., Inc., Senior Subordinated Note, 144A 7.750%, 2/01/2015 B B NR 2,797,750 3,105,000 Language Line, Inc., Note 11.125%, 6/15/2012 CCC Caa NR 2,887,650 3,105,000 Monitronics International, Inc., Senior Subordinated Note 11.750%, 9/01/2010 B B NR 3,066,187 1,595,000 Service Corp. International/US, Senior Note, Step Up,144A 0.000%/7.000%, 6/15/2017 (c) BB Ba NR 1,583,037 17,109,064
See accompanying notes to financial statements.
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) CORPORATE DEBT -- CONTINUED COMMUNICATIONS -- 3.8% $ 1,305,000 Dycom Industries, Inc., Senior Subordinated Note, 144A 8.125%, 10/15/2015 B Ba NR $ 1,305,000 3,365,000 Intelsat Bermuda, Ltd., Senior Note, 144A 8.625%, 1/15/2015 B B B 3,398,650 1,000,000 L-3 Communications Corp., Senior Subordinated Note 7.625%, 6/15/2012 BB Ba BB 1,052,500 1,345,000 PanAmSat Holding Corp., Senior Note, Step-Up 0.000%/10.375%, 11/01/2014 (c) B B NR 941,500 6,697,650 COMPUTERS -- 0.9% 1,630,000 Sungard Data Systems, Inc., Senior Note, 144A 9.125%, 8/15/2013 B B B 1,687,050 CONTAINERS & PACKAGING -- 3.5% 3,645,000 Crown Americas, Inc., Guaranteed Senior Note, 144A 7.750%, 11/15/2015 B B NR 3,772,575 2,345,000 Owens-Brockway Glass Container, Senior Secured Note 8.750%, 11/15/2012 BB B BB 2,520,875 6,293,450 COSMETICS & PERSONAL CARE -- 1.6% 1,985,000 Playtex Products, Inc., Senior Secured Note 8.000%, 3/01/2011 B B NR 2,114,025 655,000 Playtex Products, Inc., Senior Subordinated Note 9.375%, 6/01/2011 CCC Caa NR 686,112 2,800,137 ELECTRIC UTILITIES -- 10.5% 4,305,000 AES Corp. (The), Senior Secured Note, 144A 8.750%, 5/15/2013 B Ba BB 4,687,069 2,505,000 CMS Energy Corp., Senior Note 7.750%, 8/01/2010 B B BB 2,627,119 440,000 Edison Mission Energy Corp., Senior Note 9.875%, 4/15/2011 B B B 513,150 1,785,000 Midwest Generation LLC, Senior Secured Note 8.750%, 5/01/2034 B B B 1,965,731 740,000 Mirant North America LLC, Senior Note, 144A 7.375%, 12/31/2013 B B BB 748,325 1,410,000 Mission Energy Holding Co., Senior Secured Note 13.500%, 7/15/2008 CCC B B 1,635,600
See accompanying notes to financial statements. 7
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) CORPORATE DEBT -- CONTINUED ELECTRIC UTILITIES -- CONTINUED $ 1,910,000 Reliant Energy, Inc., Senior Secured Note 9.500%, 7/15/2013 B B BB $ 1,914,775 3,000,000 TECO Energy, Inc., Note 7.500%, 6/15/2010 BB Ba BB 3,195,000 1,500,000 TXU Corp., Series Q, Senior Note 6.500%, 11/15/2024 BB Ba BBB 1,424,058 18,710,827 ELECTRONICS -- 2.3% 2,130,000 Freescale Semiconductor, Inc., Senior Note 7.125%, 7/15/2014 BB Ba BB 2,268,450 1,720,000 Xerox Corp., Note 7.625%, 6/15/2013 BB Ba BB 1,814,600 4,083,050 ENTERTAINMENT & LEISURE -- 13.2% 2,400,000 AMF Bowling Worldwide, Inc., Senior Subordinated Note 10.000%, 3/01/2010 CCC Caa NR 2,379,000 1,770,000 Blockbuster, Inc., Senior Subordinated Note, 144A 9.000%, 9/01/2012 CCC Caa CC 1,557,600 1,150,000 Choctaw Resort Development Enterprise, Senior Note, 144A 7.250%, 11/15/2019 BB B NR 1,168,687 2,790,000 Chukchansi Economic Development Authority, Note, 144A 8.000%, 11/15/2013 BB B NR 2,863,237 2,000,000 Chumash Casino & Resort Enterprise, Senior Note, 144A 9.000%, 7/15/2010 BB Ba NR 2,125,000 490,000 Majestic Star Casino LLC/Majestic Star Casino Cap, Senior Note 9.500%, 10/15/2010 BB B NR 515,725 910,000 Majestic Star Casino LLC/Majestic Star Casino Capital Corp. II, Senior Secured Note, 144A 9.750%, 1/15/2011 B B NR 916,825 1,090,000 Marquee, Inc., Series B, Senior Note 8.625%, 8/15/2012 B B NR 1,139,050 1,400,000 Mohegan Tribal Gaming Authority, Senior Subordinated Note 7.125%, 8/15/2014 B Ba NR 1,433,250 665,000 Penn National Gaming, Inc., Senior Subordinated Note 6.875%, 12/01/2011 B B NR 671,650 790,000 Royal Caribbean Cruises, Ltd., Senior Note 7.500%, 10/15/2027 BB Ba NR 846,287
See accompanying notes to financial statements.
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) CORPORATE DEBT -- CONTINUED ENTERTAINMENT & LEISURE -- CONTINUED $ 1,815,000 San Pasqual Casino, Senior Note, 144A 8.000%, 9/15/2013 B B NR $ 1,842,225 3,510,000 Station Casinos, Inc., Senior Subordinated Note 6.875%, 3/01/2016 B Ba NR 3,588,975 3,475,000 WMG Holdings Corp., Senior Note, Step-Up 0.000%/9.500%, 12/15/2014 (c) B B NR 2,432,500 23,480,011 FINANCIAL SERVICES -- 2.6% 500,000 American Real Estate Partners, LP, Senior Note 8.125%, 6/01/2012 BB Ba NR 518,750 1,340,000 American Real Estate Partners, LP, Senior Note 144A 7.125%, 2/15/2013 BB Ba NR 1,340,000 2,650,000 Arch Western Finance LLC, Guaranteed Senior Note 6.750%, 7/01/2013 BB Ba NR 2,699,687 4,558,437 FOREST PRODUCTS & PAPER -- 0.3% 500,000 Georgia-Pacific Corp., Note 7.750%, 11/15/2029 BB Ba B 456,250 HEALTH CARE PROVIDERS -- 8.9% 1,510,000 HCA, Inc., Note 7.500%, 11/06/2033 BB Ba BB 1,559,099 2,100,000 Rural/Metro Corp., Senior Subordinated Note, 144A 9.875%, 3/15/2015 CCC Caa NR 2,142,000 1,350,000 Select Medical Corp., Senior Note, 144A, (FRN) 9.933%, 9/15/2015 B Caa NR 1,356,750 2,485,000 Spheris, Senior Subordinated Note, 144A 11.000%, 12/15/2012 CCC Caa NR 2,199,225 500,000 Tenet Healthcare Corp., Senior Note, 144A 9.250%, 2/01/2015 B B B 496,250 4,165,000 US Oncology Holdings, Inc., Senior Note, (FRN) 9.264%, 3/15/2015 B Caa NR 4,144,175 2,500,000 US Oncology, Inc., Senior Note 9.000%, 8/15/2012 B B NR 2,675,000 1,330,000 Ventas Realty, LP/Ventas Capital Corp. REIT, Note, 144A 6.500%, 6/01/2016 BB Ba NR 1,336,650 15,909,149
See accompanying notes to financial statements. 9
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) CORPORATE DEBT -- CONTINUED HEAVY MACHINERY -- 1.6% $ 1,040,000 Mueller Group, Inc., Senior Subordinated Note 10.000%, 5/01/2012 B Caa NR $ 1,105,000 2,280,000 Mueller Holdings, Inc., Senior Note, Step-Up 0.000%/14.750%, 4/15/2014 (c) B NR NR 1,715,700 2,820,700 HOME CONSTRUCTION, FURNISHINGS & APPLIANCES -- 2.8% 1,900,000 Beazer Homes USA, Inc., Senior Note 8.625%, 5/15/2011 BB Ba BB 1,985,500 560,000 K Hovnanian Enterprises, Inc., Senior Note 8.000%, 4/01/2012 BB Ba BB 578,404 1,255,000 Simmons Bedding Co., Senior Subordinated Note 7.875%, 1/15/2014 B Caa NR 1,160,875 1,255,000 Standard-Pacific Corp., Senior Note 7.750%, 3/15/2013 BB Ba BB 1,228,331 4,953,110 MEDIA - BROADCASTING & PUBLISHING -- 20.9% 2,005,000 CCH I Holdings LLC, Guaranteed Senior Note, 144A 10.000%, 5/15/2014 CCC Ca CCC 1,137,837 1,613,000 CCH I LLC, Guaranteed Senior Secured Note, 144A 11.000%, 10/01/2015 CCC Caa CCC 1,354,920 1,845,000 Charter Communications Operating LLC/Charter Communications Capital Corp., Senior Note, 144A 8.000%, 4/30/2012 B B B 1,835,775 1,000,000 Charter Communications Operating LLC/Charter Communications Capital Corp., Senior Note, 144A 8.375%, 4/30/2014 B B B 995,000 2,525,000 CSC Holdings, Inc., Series B, Senior Note 8.125%, 8/15/2009 B B BB 2,550,250 2,960,000 Dex Media, Inc., Note 8.000%, 11/15/2013 B B CCC 3,019,200 650,000 DirecTV Holdings LLC, Senior Note 6.375%, 6/15/2015 BB Ba BB 635,375 550,000 DirecTV Holdings LLC/DirecTV Financing Co., Senior Note 8.375%, 3/15/2013 BB Ba BB 591,250 1,400,000 Echostar DBS Corp., Senior Note 6.625%, 10/01/2014 BB Ba BB 1,342,250 960,000 Entercom Radio LLC/Entercom Capital, Inc., Senior Subordinated Note 7.625%, 3/01/2014 B Ba NR 962,400
See accompanying notes to financial statements.
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) CORPORATE DEBT -- CONTINUED MEDIA - BROADCASTING & PUBLISHING -- CONTINUED $ 1,915,000 Houghton Mifflin Co., Senior Note 8.250%, 2/01/2011 B B B $ 1,977,237 1,000,000 Liberty Media Corp., Senior Note 8.500%, 7/15/2029 BB Ba BB 990,326 585,000 LIN Television Corp., Series B, Senior Subordinated Note 6.500%, 5/15/2013 B NR NR 560,869 910,000 Mediacom Broadband LLC, Senior Note, 144A 8.500%, 10/15/2015 B B B 842,887 610,000 Mediacom LLC/Mediacom Capital Corp., Senior Note 9.500%, 1/15/2013 B B B 595,512 7,300,000 Ono Finance Plc, Note 14.000%, 2/15/2011 CCC B B 7,874,875 2,050,000 Paxson Communications Corp., Senior Note, 144A, (FRN) 10.777%, 1/15/2013 CCC B NR 1,970,562 1,665,000 Primedia, Inc., Senior Note 8.000%, 5/15/2013 B B NR 1,409,006 1,185,000 Primedia, Inc., Senior Note 8.875%, 5/15/2011 B B NR 1,093,163 325,000 RH Donnelley Inc., Senior Subordinated Note 10.875%, 12/15/2012 B B NR 366,438 605,000 Rogers Cable, Inc., Senior Secured Note 7.875%, 5/01/2012 BB Ba BB 649,619 1,355,000 Rogers Cable, Inc., Senior Secured Note 8.750%, 5/01/2032 BB Ba BB 1,558,250 1,300,000 Shaw Communications, Inc., Senior Note 7.200%, 12/15/2011 BB Ba NR 1,355,250 775,000 Young Broadcasting, Inc., Senior Subordinated Note 8.750%, 1/15/2014 CCC Caa NR 682,969 775,000 Young Broadcasting, Inc., Senior Subordinated Note 10.000%, 3/01/2011 CCC Caa NR 725,594 37,076,814 MEDICAL SUPPLIES -- 1.3% 3,785,000 CDRV Investors, Inc., Senior Note, Step-Up 0.000%/9.625%, 1/01/2015 (c) B Caa NR 2,318,313
See accompanying notes to financial statements. 11
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) CORPORATE DEBT -- CONTINUED OIL & GAS -- 14.3% $ 670,000 Chesapeake Energy Corp., Senior Note 6.875%, 1/15/2016 BB Ba BB $ 686,750 2,380,000 Chesapeake Energy Corp., Senior Note 7.000%, 8/15/2014 BB Ba BB 2,463,300 2,300,000 Dynegy Holdings, Inc., Senior Note, 144A 10.125%, 7/15/2013 B B B 2,599,000 2,650,000 El Paso Corp., Note, 144A 7.750%, 6/15/2010 NR NR NR 2,703,000 920,000 El Paso Corp., Senior Note, 144A 9.625%, 5/15/2012 NR NR NR 1,014,300 1,970,000 El Paso Natural Gas Co., Note 8.375%, 6/15/2032 B B NR 2,224,991 1,095,000 El Paso Natural Gas Co., Senior Note 7.625%, 8/01/2010 B B NR 1,151,479 840,000 Forest Oil Corp., Senior Note 7.750%, 5/01/2014 BB Ba NR 871,500 1,710,000 Forest Oil Corp., Senior Note 8.000%, 12/15/2011 BB Ba NR 1,868,175 1,820,000 Kerr-McGee Corp., Note 6.950%, 7/01/2024 BB Ba BB 1,930,441 500,000 Newfield Exploration Co., Senior Note 7.625%, 3/01/2011 BB Ba BB 535,000 3,000,000 Newfield Exploration Co., Senior Subordinated Note 8.375%, 8/15/2012 BB Ba BB 3,210,000 435,000 Southern Natural Gas Co., Note 8.000%, 3/01/2032 B B NR 476,983 1,420,000 Targa Resources, Inc., Senior Note, 144A 8.500%, 11/01/2013 B B NR 1,455,500 1,965,000 Transcontinental Gas Pipe Line Corp., Note 7.250%, 12/01/2026 B Ba BB 2,146,763 25,337,182 PHARMACEUTICALS -- 2.4% 3,015,000 Athena Neurosciences Finance LLC, Senior Note 7.250%, 2/21/2008 B B NR 2,943,394 1,330,000 Biovail Corp., Senior Subordinated Note 7.875%, 4/01/2010 BB B NR 1,378,213 4,321,607
See accompanying notes to financial statements.
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) CORPORATE DEBT -- CONTINUED RETAILERS -- 5.9% $ 2,330,000 Amscan Holdings, Inc., Senior Subordinated Note 8.750%, 5/01/2014 CCC B NR $ 1,963,025 1,415,000 Dollarama Group, LP, Senior Subordinated Note, 144A 8.875%, 8/15/2012 B B NR 1,386,700 2,045,000 JC Penney Corp., Note 8.125%, 4/01/2027 BB Ba BBB 2,142,138 2,325,000 Jean Coutu Group, Inc., Senior Subordinated Note 8.500%, 8/01/2014 B Caa NR 2,127,375 2,755,000 Movie Gallery, Inc., Senior Note 11.000%, 5/01/2012 CCC B NR 2,148,900 730,000 Stripes Acquisition LLC/Susser Finance Corp., Senior Note, 144A 10.625%, 12/15/2013 B B NR 740,950 10,509,088 TELEPHONE SYSTEMS -- 10.6% 640,000 American Cellular Corp., Series B, Senior Note 10.000%, 8/01/2011 B B NR 694,400 1,759,645 Calpoint Receivables Structured Trust 2001, Note, 144A 7.440%, 12/10/2006 NR B CCC 1,764,044 2,635,000 Centennial Cellular Operating Co./Centennial Communications Corp., Guaranteed Senior Note 10.125%, 6/15/2013 CCC B NR 2,865,563 35,000 Dobson Cellular Systems, Senior Note 8.375%, 11/01/2011 B B NR 37,144 2,740,000 Dobson Communications Corp., Senior Note 8.875%, 10/01/2013 CCC Caa NR 2,733,150 1,300,000 Nextel Communications, Inc., Series E, Senior Note 6.875%, 10/31/2013 A Baa BBB 1,356,178 725,000 Qwest Corp., Note 7.875%, 9/01/2011 BB Ba BB 781,188 5,530,000 Qwest Corp., Note 8.875%, 3/15/2012 BB Ba BB 6,235,075 665,000 Rogers Wireless Communications, Inc., Senior Secured Note 7.500%, 3/15/2015 BB Ba BB 718,200 1,490,000 Time Warner Telecom Holdings, Inc., Senior Note 9.250%, 2/15/2014 CCC B NR 1,571,950 18,756,892
See accompanying notes to financial statements. 13
PRINCIPAL S&P MOODY'S FITCH AMOUNT DESCRIPTION RATINGS* RATINGS* RATINGS* VALUE (a) CORPORATE DEBT -- CONTINUED TEXTILES, CLOTHING & FABRICS -- 0.6% $ 1,075,000 Quiksilver, Inc., Senior Note 6.875%, 4/15/2015 BB B NR $ 1,034,688 TRANSPORTATION -- 2.8% 2,640,000 Grupo Transportacion Ferroviaria Mexicana SA de CV, Note, 144A 9.375%, 5/01/2012 B B B 2,890,800 175,000 Stena AB, Note 9.625%, 12/01/2012 BB Ba NR 190,094 2,055,000 Stena AB, Senior Note 7.000%, 12/01/2016 BB Ba NR 1,880,325 4,961,219 TOTAL CORPORATE DEBT (IDENTIFIED COST $248,149,537) 251,556,181 TOTAL INVESTMENTS -- 143.1% (IDENTIFIED COST $250,780,235) (b) 254,282,459 Other Assets, Less Liabilities -- 7.7% 13,558,476 Money Market Cumulative Preferred Shares plus cumulative unpaid dividends (50.8%) (90,182,360) TOTAL NET ASSETS APPLICABLE TO COMMON SHAREHOLDERS -- 100% $ 177,658,575
See accompanying notes to financial statements. LEHMAN BROTHERS FIRST TRUST INCOME OPPORTUNITY FUND NOTES TO SCHEDULE OF INVESTMENTS * Ratings of issues shown are unaudited. (a) See Note 2a of Notes to Financial Statements. (b) Federal Tax Information: At December 31, 2005, the net unrealized appreciation on investments based on cost of $251,265,051 for federal income tax purposes was as follows: Aggregate gross unrealized appreciation for all investments in which there is an excess of value over tax cost $ 7,045,228 Aggregate gross unrealized depreciation for all investments in which there is an excess of tax cost over value (4,027,820) Net unrealized appreciation $ 3,017,408
(c) Denotes a step-up bond: a zero coupon bond that converts to a fixed rate of interest at a designated future date. FRN Floating rate note. Rate shown is rate in effect at December 31, 2005. 144A Securities exempt from registration under Rule 144A of the Securities Act of 1933. These securities may be resold in transactions exempt from registration, normally to qualified institutional buyers under Rule 144A, and have been deemed by the adviser to be liquid. At the period end, the value of 144A securities amounted to $66,384,105 or 37.4% of net assets applicable to common shareholders. Quality Profile (unaudited) The quality ratings of securities in the fund as of December 31, 2005 were as follows:
PERCENT OF TOTAL INVESTMENTS S&P RATING/MOODY'S RATING/FITCH RATING AND CASH** A/A/A 0.5% BBB/Baa/BBB 7.0 BB/Ba/BB 43.0 B/B/B 38.4 CCC/Caa/CCC 7.7 NR (Not Rated)*** 1.4 Cash 2.0 100.0%
** Percentages compiled using the highest rating for each security. *** Securities not rated are of quality that is permitted to be invested in by the fund. See accompanying notes to financial statements. 15 LEHMAN BROTHERS FIRST TRUST INCOME OPPORTUNITY FUND STATEMENT OF ASSETS & LIABILITIES DECEMBER 31, 2005 ASSETS Investments at cost $ 250,780,235 Net unrealized appreciation 3,502,224 INVESTMENTS AT VALUE 254,282,459 Cash 5,250,485 Receivable for securities sold 6,019,561 Interest receivable 5,401,735 Interest rate swap contracts, at market value 1,402,642 Prepaid expenses 53,700 - ------------------------------------------------------------------------------------------------------------------------------ TOTAL ASSETS 272,410,582 LIABILITIES Payable for securities purchased 3,071,167 Management fees payable 136,421 Payable for collateral on interest rate swap contracts 1,226,000 Other accrued expenses 136,059 - ------------------------------------------------------------------------------------------------------------------------------ TOTAL LIABILITIES 4,569,647 MONEY MARKET CUMULATIVE PREFERRED SHARES (3,600 SHARES ISSUED AND OUTSTANDING) AT LIQUIDATION VALUE PLUS CUMULATIVE UNPAID DIVIDENDS 90,182,360 - ------------------------------------------------------------------------------------------------------------------------------ NET ASSETS APPLICABLE TO COMMON SHARES $ 177,658,575 ============================================================================================================================== NET ASSETS CONSIST OF: Common Shares, no par value; unlimited number of shares authorized, 12,247,538 shares issued and outstanding $ 173,824,127 Accumulated net realized gain on investments (1,070,418) Net unrealized appreciation of investments and interest rate swap contracts 4,904,866 - ------------------------------------------------------------------------------------------------------------------------------ NET ASSETS APPLICABLE TO COMMON SHARES $ 177,658,575 COMPUTATION OF NET ASSET VALUE PER COMMON SHARE: NET ASSETS $ 177,658,575 COMMON SHARES ISSUED AND OUTSTANDING 12,247,538 NET ASSET VALUE PER SHARE $ 14.51 MARKET VALUE (CLOSING PRICE PER SHARE ON THE NEW YORK STOCK EXCHANGE) $ 15.61
See accompanying notes to financial statements. STATEMENT OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 2005 INVESTMENT INCOME Interest $ 23,709,909 Expenses Management fee 1,636,931 Investor service fee 136,411 Trustees' fees and expenses 109,346 Custodian fee 312,318 Audit and tax services 51,550 Legal fee 130,608 Shareholder reports 54,812 Preferred shares auction 232,002 Insurance expense 85,416 Miscellaneous 40,843 - ------------------------------------------------------------------------------------------------- TOTAL EXPENSES 2,790,237 NET INVESTMENT INCOME 20,919,672 REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS Realized gain (loss) on: Investments -- net (707,367) Interest rate swap contracts -- net 591,395 Change in unrealized appreciation (depreciation) of: Investments -- net (11,744,400) Interest rate swap contracts -- net 322,642 - ------------------------------------------------------------------------------------------------- Net realized and unrealized loss on investments and interest rate swap contracts (11,537,730) - ------------------------------------------------------------------------------------------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS 9,381,942 ================================================================================================= LESS DISTRIBUTIONS TO PREFERRED SHAREHOLDERS FROM NET INVESTMENT INCOME (2,993,978) ================================================================================================= NET INCREASE IN NET ASSETS APPLICABLE TO COMMON SHARES RESULTING FROM OPERATIONS $ 6,387,964 =================================================================================================
See accompanying notes to financial statements. 17 STATEMENTS OF CHANGES IN NET ASSETS
YEAR ENDED YEAR ENDED DECEMBER 31, 2005 DECEMBER 31, 2004 FROM OPERATIONS: Net investment income $ 20,919,672 $ 21,013,341 Net realized gain (loss) on investments and interest rate swap contracts (115,972) 222,124 Net change in unrealized appreciation (depreciation) of investments and interest rate swap contracts (11,421,758) 1,240,507 Dividends to preferred shareholders from net investment income (2,993,978) (1,380,048) - --------------------------------------------------------------------------------------------------------------------------- NET INCREASE IN NET ASSETS APPLICABLE TO COMMON SHARES RESULTING FROM OPERATIONS 6,387,964 21,095,924 LESS DISTRIBUTIONS TO COMMON SHAREHOLDERS Net investment income (19,265,627) (19,016,408) Net realized gain on investments (235,064) (1,173,302) Return of capital (49,045) -- - --------------------------------------------------------------------------------------------------------------------------- (19,549,736) (20,189,710) INCREASE (DECREASE) IN NET ASSETS DERIVED FROM COMMON SHARE TRANSACTIONS: 120,786 128,713 Offering costs and underwriting discounts on preferred shares -- 1,000 - --------------------------------------------------------------------------------------------------------------------------- TOTAL NET INCREASE (DECREASE) IN NET ASSETS APPLICABLE TO COMMON SHARES (13,040,986) 1,035,927 NET ASSETS APPLICABLE TO COMMON SHARES Beginning of period 190,699,561 189,663,634 End of period $ 177,658,575 $ 190,699,561
See accompanying notes to financial statements. FINANCIAL HIGHLIGHTS
FOR THE PERIOD JULY 28, 2003 YEAR ENDED DECEMBER 31, THROUGH ------------------------------- DECEMBER 31, 2005 2004 2003* NET ASSET VALUE, BEGINNING OF PERIOD (COMMON SHARES) $ 15.58 $ 15.51 $ 14.33(a) - ------------------------------------------------------------------------------------------------------------------------ Net Investment Income (b) 1.71 1.72 0.64 Net Realized and Unrealized Gain (Loss) on Investments (0.94) 0.11 1.31 Dividends to Preferred Shareholders from Net Investment Income (0.24) (0.11) (0.02) - ------------------------------------------------------------------------------------------------------------------------ TOTAL FROM INVESTMENT OPERATIONS APPLICABLE TO COMMON SHAREHOLDERS 0.53 1.72 1.93 Less Distributions to Common Shareholders From Net Investment Income (1.58) (1.55) (0.60) From Net Realized Gains (0.02) (0.10) (0.02) From Return of Capital (0.00)(g) -- -- - ------------------------------------------------------------------------------------------------------------------------ TOTAL DISTRIBUTIONS TO COMMON SHAREHOLDERS (1.60) (1.65) (0.62) Common Shares Offering Costs Charged to Paid-in Capital -- -- (0.03) Preferred Shares Underwriting Commissions and Offering Costs Charged to Paid in Capital -- -- (0.10) NET ASSET VALUE, END OF PERIOD (COMMON SHARES) $ 14.51 $ 15.58 $ 15.51 ======================================================================================================================== MARKET VALUE - END OF PERIOD (COMMON SHARES) $ 15.61 $ 16.48 $ 15.91 ======================================================================================================================== Total Return on Net Asset Value (Common Shares) (%) 3.63 11.99 12.73(c) - ------------------------------------------------------------------------------------------------------------------------ Total Return on Market Value (Common Shares) (%) 5.40 15.48 10.47(d) - ------------------------------------------------------------------------------------------------------------------------ Ratio of Expenses (excluding interest expense) to Average Net Assets Applicable to Common Shares (%) (f) 1.53 1.48 1.42(e) Ratio of Interest Expense to Average Net Assets Applicable to Common Shares (%) (f) -- -- 0.19(e) Ratio of Net Investment Income to Average Net Assets Applicable to Common Shares (%) (f) 11.44 11.36 10.00(e) Portfolio Turnover Rate (%) 96.18 106.76 32.08 - ------------------------------------------------------------------------------------------------------------------------ Net Assets Applicable to Common Shares, End of Period (000) $ 177,659 $ 190,700 $ 189,644 - ------------------------------------------------------------------------------------------------------------------------ MONEY MARKET CUMULATIVE PREFERRED SHARES Preferred Shares Outstanding, End of Period (000) 90,000 90,000 90,000 Asset Coverage Per Share $ 74,350 $ 77,975 $ 77,675 Involuntary Liquidation Preference Per Share $ 25,000 $ 25,000 $ 25,000 Approximate Market Value Per Share $ 25,000 $ 25,000 $ 25,000
* Commencement of operations. (a) Net asset value at beginning of period reflects the deduction from the $15.00 offering price of the sales load of $0.675 per share paid by the shareholder. (b) Calculated using average shares outstanding during the period. (c) Total return on net asset value is calculated assuming a purchase at the offering price of $15.00 less the sales load of $0.675 paid by the shareholder on the first day and a sale at the ending net asset value per share and is not annualized. (d) Total return on market value is calculated assuming a purchase at the offering price of $15.00 on the first day and a sale at the current market price on the last day of the period and is not annualized. (e) Annualized. (f) Expense and net investment income ratios include accumulated and unpaid dividends. (g) Rounds to less than $0.01. See accompanying notes to financial statements. 19 LEHMAN BROTHERS FIRST TRUST INCOME OPPORTUNITY FUND NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 2005 NOTE 1 -- ORGANIZATION Lehman Brothers First Trust Income Opportunity Fund (the "Fund") was organized as a statutory trust under the laws of the state of Delaware on April 8, 2003, and is registered under the Investment Company Act of 1940, as amended (the "1940 Act"), as a diversified, closed-end management investment company. Lehman Brothers Asset Management Inc. (the "Adviser") is investment adviser to the Fund. Lehman Brothers Asset Management LLC (formerly Lincoln Capital Fixed Income Management Company, LLC) is the sub-adviser to the Fund. The Fund's common shares are listed on the New York Stock Exchange under the symbol LBC. The Fund's investment objective is to seek high total return (income plus capital appreciation). The Fund will pursue its investment objective by investing its assets primarily in high yield debt securities. NOTE 2 -- SIGNIFICANT ACCOUNTING POLICIES The preparation of financial statements in accordance with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of income 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. a) VALUATION: Debt securities are valued using an independent pricing service approved by the Board of Trustees, which utilizes closing market prices, market quotations and transactions, quotations from dealers and various relationships among securities in determining value. Securities for which closing market prices or market quotations are not available or are not considered by the Adviser to be reflective of a security's market value, are valued at fair value as determined in good faith under consistently applied procedures established by and applied under the supervision of the Board of Trustees. Criteria considered in making this determination may include, but are not limited to, a review of other securities by the same issuer for which market quotations are available, recent bid and ask prices for the security, the issuer's position in and economic outlook of the industry and, if necessary, a review of similar securities in similar industries. Securities with remaining maturities of 60 days or less are valued at amortized cost. This method involves valuing a portfolio security initially at its cost and thereafter assumes a constant amortization to maturity of any discount or premium. b) SECURITY TRANSACTIONS AND RELATED INVESTMENT INCOME: Security transactions are recorded on a trade date basis. Dividend income is recorded on the ex-dividend date. Interest income, including amortization of premium and accretion of discount on securities, is recorded on the accrual basis. Realized gains and losses on investments are recorded on the basis of identified cost. c) FEDERAL INCOME TAXES: It is the policy of the Fund to continue to comply with the requirements of Subchapter M of the Internal Revenue Code applicable to regulated investment companies and distribute all of its net taxable income, including any net realized gains on investments, to its shareholders. Therefore, no federal income tax provision is required. d) REVERSE REPURCHASE AGREEMENTS: The Fund is permitted to enter into reverse repurchase agreements with banks or securities firms deemed creditworthy by the Adviser. A reverse repurchase agreement involves the sale of a security by the Fund, with an agreement to repurchase the same or substantially similar security at an agreed upon price and date. Securities purchased subject to repurchase agreements must have an aggregate market value greater than or equal to the repurchase price plus accrued interest at all times. Reverse repurchase agreements involve the risk that the market value of the securities purchased with the proceeds from the sale of securities received by the Fund may decline below the price of the securities that the Fund is obligated to repurchase. There were no reverse repurchase agreements outstanding at December 31, 2005. e) INTEREST RATE SWAP CONTRACTS: The Fund may enter into interest rate swap transactions. A swap is an agreement to exchange the return generated by one instrument for the return generated by another instrument. The Fund may enter into interest rate swap agreements to manage its exposure to interest rate risk. Interest rate swap contracts involve the exchange by the Fund with another party of their respective commitments to pay or receive interest. Swaps are marked to market daily based upon quotations from market makers and the change in value, if any, is recorded as unrealized gain or loss in the Statement of Operations. Net payments of interest on interest rate swap contracts are included as part of realized gain or loss. Entering into these agreements involves, to varying degrees, elements of credit and market risk in excess of the amounts recognized on the Statement of Assets and Liabilities. Such risks involve the possibility that there will be no liquid market for these agreements, that the counterparty to these agreements may default on its obligation to perform and that there may be unfavorable changes in interest rates. At December 31, 2005, the Fund had the following open swap agreements:
NET UNREALIZED NOTIONAL AMOUNT EXPIRATION DATE DESCRIPTION APPRECIATION - ------------------------------------------------------------------------------------------------------------------ $ 22,500,000 03/15/06 Agreement with Citibank N.A. dated 03/11/04 to pay the $ 149,499 notional amount multiplied by 1.78% and to receive the notional amount multiplied by the 1 month U.S. Dollars -- London Interbank Offered Rate -- British Bankers Association (USD -- LIBOR -- BBA). $ 22,500,000 03/15/07 Agreement with Citibank N.A. dated 03/11/04 to pay the $ 677,612 notional amount multiplied by 2.27% and to receive the notional amount multiplied by the 1 month U.S. Dollars -- London Interbank Offered Rate -- British Bankers Association (USD -- LIBOR -- BBA). $ 22,500,000 09/28/07 Agreement with Citibank N.A. dated 09/24/04 to pay the $ 575,531 notional amount multiplied by 3.22% and to receive the notional amount multiplied by the 1 month U.S. Dollars -- London Interbank Offered Rate -- British Bankers Association (USD -- LIBOR -- BBA).
Periodically, the Fund receives from or deposits, with the counter party, a specific amount of cash equal to the market value of the interest rate swap contracts. At December 31, 2005, the Fund had $1,226,000 payable for collateral on interest rate swap contracts under this arrangement. NOTE 3 -- FEES AND TRANSACTIONS WITH RELATED PARTIES The Fund pays all expenses incurred in connection with the operations of the Fund. These expenses, among others, include custodian and fund accounting and administrative fees, legal and audit fees, fees and expenses of the disinterested Trustees, registration fees, and printing expenses. The Fund pays the Adviser a monthly fee computed at an annual rate of 0.60% of the Fund's average daily "Managed Assets" (net assets, including assets attributable to any outstanding preferred shares, plus the aggregate principal amount of any borrowings). The Adviser is responsible for developing, implementing and supervising the Fund's investment program and providing certain administrative services to the Fund. The Adviser has retained Lehman Brothers Asset Management LLC ("LBAM LLC") to serve as the sub-adviser of the Fund and to manage the Fund's investment portfolio. The Adviser compensates LBAM LLC for its services as sub-adviser. The Adviser pays LBAM LLC a monthly sub-advisory fee calculated at the following annual percentage rates of the Fund's average daily Managed Assets: 0.55% on the Fund's first $25 million of Managed Assets, 0.45% on the next $25 million of Managed Assets, 0.35% on the next $50 million of Managed Assets, and 0.30% on Managed Assets that are in excess of $100 million. The Adviser and LBAM LLC are wholly owned subsidiaries of Lehman Brothers Holdings Inc., a publicly traded corporation. First Trust Portfolios L.P. ("First Trust") serves as the Fund's distribution and marketing agent, and investor servicing agent. As the Fund's distribution and marketing agent, First Trust provides certain distribution and marketing services for the Fund's common shares including preparing marketing materials and presentations, developing contacts with brokers whose clients may have an interest in acquiring Fund shares and replying to information requests from prospective investors. In consideration for these services, First Trust receives a fee paid by the Adviser. First Trust, as the investor servicing agent, developed and maintains a website for the Fund, assists in the review of shareholder materials, assists in the dissemination of the Fund's net asset value and market price, provides ongoing shareholder and account maintenance services, replies to information requests from shareholders and aids in secondary market support. In consideration for these services, the Fund pays First Trust a monthly fee computed at the annual rate 0.05% of the Fund's average daily Managed Assets. For the year ended 21 December 31, 2005, the Fund paid First Trust, as the investor servicing agent, a fee equal to $136,411. The Fund pays no compensation to its officers or to its Trustees who are interested Trustees of the Adviser or its affiliates. NOTE 4 -- INVESTMENT IN SECURITIES For the year ended December 31, 2005, purchases and sales of investments, other than short-term securities, aggregated $251,964,596 and $258,950,264, respectively. NOTE 5 -- MONEY MARKET CUMULATIVE PREFERRED SHARES The Fund is authorized to issue 3,750 Money Market Cumulative Preferred Shares ("MMP"), each without par value. On October 22, 2003, the Fund issued 3,600 MMP with proceeds of $90,000,000 in a public offering. The underwriting commissions and offering costs of $1,236,545 were incurred in connection with the offering and were charged directly to paid-in capital of the common shares. Distributions to preferred shareholders are cumulative at a rate which was established at the offering and is reset every twenty-eight days based on the results of an auction. The Fund pays commissions to certain broker-dealers at the end of each auction at an annual rate of 0.25%. For the year ended December 31, 2005, Lehman Government Securities, Inc., an affiliate of the Adviser, earned $225,000 in commissions. The MMP are redeemable at the option of the Fund at a redemption price equal to $25,000 per share, plus accumulated and unpaid dividends, on any dividend payment date. The MMP are also subject to mandatory redemption at a redemption price equal to $25,000 per share, plus accumulated and unpaid dividends, if the Fund defaults on its asset maintenance requirements with respect to the MMP and fails to cure such a default within the time permitted. If the dividends on the MMP shall remain unpaid in an amount equal to two full years' dividends, the holders of the MMP, as a class, have the right to elect a majority of the Board of Trustees. In general, the holders of the MMP and the common shares have equal voting rights of one vote per share, except that the holders of the MMP, as a separate class, have the right to elect at least two members of the Board of Trustees and to vote under certain other circumstances specified in the Fund's Amended By-Laws. The MMP have a liquidation preference of $25,000 per share, plus accumulated and unpaid dividends. The Fund is required to maintain certain asset coverage with respect to the MMP as defined in the Fund's Amended By-Laws and the 1940 Act. NOTE 6 -- DISTRIBUTIONS TO SHAREHOLDERS The Fund intends to make monthly distributions of net investment income to common shareholders, after payments of any dividends on outstanding MMP. Distributions to common shareholders are recorded on the ex-dividend date. Distributions to preferred shareholders are recorded daily and are payable at the end of each dividend period. Each dividend payment period for the MMP is generally twenty-eight days. For the year ended December 31, 2005, the dividend rates for MMP ranged from 2.41% to 4.35%. The dividend rate for MMP on December 31, 2005 was 4.35%. In addition, at least annually, the Fund intends to distribute net capital gains, if any. The timing and characterization of certain income and capital gains distributions are determined in accordance with federal tax regulations which may differ from U.S. generally accepted accounting principles. Permanent differences between book and tax accounting relating to distributions are reclassified to paid-in capital. NOTE 7 -- SHARES OF BENEFICIAL INTEREST The Fund's Declaration of Trust authorizes the Trustees to issue an unlimited number of common shares for the Fund, each without par value. Transactions in common shares were as follows:
YEAR ENDED YEAR ENDED DECEMBER 31, 2005 DECEMBER 31, 2004 --------------------- --------------------- SHARES AMOUNT SHARES AMOUNT --------- --------- --------- --------- Shares issued pursuant to the Fund's 8,148 $ 120,786 8,448 $ 128,713 dividend reinvestment plan ----- --------- ----- --------- Increase derived from capital share transactions 8,148 $ 120,786 8,448 $ 128,713 ===== ========= ===== =========
NOTE 8 -- CONCENTRATION OF CREDIT RISK The Fund will normally invest at least 80% of its Managed Assets in investments offering high current income, which generally will be in the lower rating categories of recognized rating agencies. These investments are regarded as predominantly speculative with respect to capacity to pay interest and repay principal in accordance with the terms of the obligations and will generally involve more credit risk than securities in the higher rating categories. In addition, the trading market for high yield investments may be relatively less liquid than the market for higher-rated investments. NOTE 9 -- RISK ASSOCIATED WITH THE USE OF LEVERAGE The Fund's use of leverage through the issuance of preferred shares and borrowings, as well as the economic leverage inherent in certain derivatives, including credit default swaps, creates risks for holders of common shares. There is no assurance that the Fund's leveraging strategies will be successful. If the Fund issues preferred shares or borrows money to make additional investments and the income and capital appreciation from those investments exceed the dividends payable on the preferred shares or the costs of borrowing, the Fund's investment return will be greater than if leverage had not been used. However, if the dividends payable on the preferred shares or the costs of borrowing exceed the income and capital appreciation from the additional investments, the Fund would lose money and its investment return will be lower than if leverage had not been used. Leverage creates risks which may adversely affect the return for holders of common shares, including: (a) the likelihood of greater volatility of net asset value and market price of the Fund's common shares; (b) the possibility either that common share income will fall if the preferred share dividend rate rises or the Fund's borrowing costs increase, or that common share income will fluctuate because of changes in the preferred share dividend rates or borrowing costs. NOTE 10 -- INDEMNIFICATIONS In the ordinary course of business, the Fund enters into contracts that contain a variety of indemnifications. The Fund's maximum exposure under these arrangements is unknown. However, the Fund has not had prior claims or losses pursuant to these contracts and expects the risk of loss to be remote. NOTE 11 -- FEDERAL INCOME TAX INFORMATION For the years ended December 31, 2005 and December 31, 2004, the tax character of distributions paid was $21,925,912 and $21,569,758 of ordinary income, respectively. For the year ended December 31, 2005 the tax character of distributions for long term capital gains and return of capital was $568,757 and $49,045, respectively. As of December 31, 2005, the components of accumulated earnings on a tax basis were as follows: Capital and other losses $ (585,602) Unrealized gains 4,420,050* - ----------------------------------------------------------- TOTAL ACCUMULATED EARNINGS $ 3,834,448
* The difference between book-basis and tax-basis net unrealized gains is attributed primarily to wash sales. A permanent difference incurred during the period ended December 31, 2005, resulting from differences in book and tax accounting due to the tax treatment for paydown gains and losses on mortgage backed securities, the tax treatment for swaps and return of capital distributions, and a redesignation of distributions paid, has been reclassified at year end by increasing undistributed net income by $1,388,978, decreasing undistributed realized gain by $1,339,933 and decreasing paid in capital by $49,045. At December 31, 2005 the Fund elected to defer post October 31 net capital losses by $585,602. NOTE 12 -- SUBSEQUENT EVENT (UNAUDITED) At its meeting held on February 15, 2006, the Board of Trustees of the Fund (the "Board") nominated for election as trustees of the Fund (at the annual meeting of the shareholders of the Fund scheduled to be held on April 19, 2006) the following individuals: John Cannon, Faith Colish, C. Anne Harvey, Barry Hirsch, Robert A. Kavesh, Howard A. Mileaf, Edward I. O'Brien, Jack L. Rivkin, William E. Rulon, Cornelius T. Ryan, Tom D. Seip, Candace L. Straight, Peter E. Sundman and Peter P. Trapp. These individuals currently serve as the trustees/directors of the Neuberger Berman family of funds ("NB Trustees"). This family of funds is advised by an affiliate of Lehman Brothers Asset Management Inc. ("LBAM"), the Fund's investment adviser. The current members of the Board have determined not to continue serving as Trustees of the Fund upon the election of the NB 23 Trustees as Trustees of the Fund. This determination was based on the Board's and the nominating committee's consideration of management's recommendation that the board oversight of the Fund be transitioned to the NB Trustees. Specifically, following thorough review of the matter, and based on representations from LBAM and representatives from NBMI (the investment adviser to the Neuberger Berman family of funds), the Board agreed that transitioning the Fund's governance to the NB Trustees would likely result in the realization of cost savings and operational efficiencies for the Fund and its shareholders. To accomplish this transition, and consistent with management's recommendation, the Board voted to nominate all of the NB Trustees for election as Trustees of the Fund. OTHER INFORMATION SHAREHOLDER VOTING RESULTS (UNAUDITED) The annual meeting of the Trust's shareholders was held on May 25, 2005 at which shareholders considered and approved the following proposals. The voting results were the following: With respect to the election of Stephanie E. Dolan as a Trustee of the Fund: 11,799,430.812 shares of Common Shares and MMP Shares, voting together as a single class, or 99.514% of shares cast, in the affirmative, with 57,670 shares, or 0.486% of shares cast, withheld; With respect to the election of Scott Hall as a Trustee of the Fund: 11,803,145.812 shares of Common Shares and MMP Shares, voting together as a single class, or 99.545% of shares cast, in the affirmative, with 53,955 shares, or 0.455% of shares cast, withheld; and With respect to the election of Michael M. Knetter as a Trustee of the Fund: 1,917 MMP shares, or 100% of shares cast, in the affirmative, with 0 shares or 0% of shares cast withheld. 25 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Shareholders and Board of Trustees Lehman Brothers First Trust Income Opportunity Fund We have audited the accompanying statement of assets and liabilities of Lehman Brothers First Trust Income Opportunity Fund (the "Fund"), including the schedule of investments, as of December 31, 2005, and the related statement of operations for the year then ended, the statements of changes in net assets for each of the two years in the period then ended, and the financial highlights for the each of the periods indicated therein. These financial statements and financial highlights are the responsibility of the Fund's management. Our responsibility is to express an opinion on these financial statements and financial highlights based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements and financial highlights are free of material misstatement. We were not engaged to perform an audit of the Fund's internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Fund's internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements and financial highlights, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our procedures included confirmation of securities owned as of December 31, 2005, by correspondence with the custodian and brokers or by other appropriate auditing procedures where replies from brokers were not received. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements and financial highlights referred to above present fairly, in all material respects, the financial position of Lehman Brothers First Trust Income Opportunity Fund, at December 31, 2005, the results of its operations for the year then ended, the changes in its net assets for each of the two years in the period then ended, and the financial highlights for each of the periods indicated therein, in conformity with U.S. generally accepted accounting principles. /s/ Ernst & Young LLP Boston, Massachusetts February 10, 2006 DIVIDEND REINVESTMENT PLAN The Fund has a Dividend Reinvestment Plan (the "Plan") commonly referred to as an "opt-out" plan. Each common shareholder will have all distributions of dividends and capital gains automatically reinvested in additional common shares by Investors Bank & Trust Company, as agent for shareholders pursuant to the Plan (the "Plan Agent"), unless the shareholder elects to receive cash or unless the shares are registered in the name of a broker-dealer or other nominee (that is, in "street name") and the respective nominee does not participate in the Plan. For Plan participants, the Plan Agent will either (i) effect purchases of common shares under the Plan in the open market or (ii) distribute newly issued common shares of the Fund. Shareholders who elect not to participate in the Plan will receive all distributions in cash paid by check mailed directly to the shareholder of record (or if the shares are held in street or other nominee name, then to the nominee) by the Plan Agent, as dividend disbursing agent. Certain broker-dealers and nominees do not permit their clients to participate in dividend reinvestment plans. Shareholders whose common shares are held in the name of a broker or nominee should contact the broker or nominee to determine whether and how they may participate in the Plan. The Plan Agent serves as agent for the shareholders in administering the Plan. After the Fund declares a dividend or makes a capital gain distribution, the Plan Agent will, as agent for the participants, either (i) receive the cash payment and use it to buy common shares in the open market, on the New York Stock Exchange or elsewhere, for the participants' accounts or (ii) distribute newly issued common shares of the Fund on behalf of the participants. The Plan Agent will receive cash from the Fund with which to buy common shares in the open market if, on the determination date, the net asset value per share exceeds the market price per share plus estimated brokerage commissions on that date. The Plan Agent will receive the dividend or distribution in newly issued common shares of the Fund if, on the determination date, the market price per share plus estimated brokerage commissions equals or exceeds the net asset value per share of the Fund on that date. The number of shares to be issued will be computed at a per share rate equal to the greater of (i) the net asset value or (ii) 95% of the closing market price per share on the payment date. Participants in the Plan may withdraw from the Plan upon written notice to the Plan Agent. Such withdrawal will be effective immediately if received not less than ten days prior to a distribution record date; otherwise, it will be effective for all subsequent dividend record dates. When a participant withdraws from the Plan or upon termination of the Plan as provided below, certificates for whole common shares credited to his or her account under the Plan will be issued and a cash payment will be made for any fraction of a common share credited to such account. In the alternative, upon receipt of the participant's instructions, common shares will be sold and the proceeds sent to the participant less brokerage commissions and any applicable taxes. The Plan Agent maintains each shareholder's account in the Plan and furnishes confirmations of all acquisitions made for the participant. Common shares in the account of each Plan participant will be held by the Plan Agent on behalf of the participant. Proxy material relating to shareholders' meetings of the Fund will include those shares purchased as well as shares held pursuant to the Plan. In the case of shareholders, such as banks, brokers or nominees, which hold common shares for others who are the beneficial owners, the Plan Agent will administer the Plan on the basis of the number of common shares certified from time to time by the record shareholders as representing the total amount registered in the record shareholder's name and held for the account of beneficial owners who are participants in the Plan. The Plan Agent's fees for the handling of reinvestment of dividends and other distributions will be paid by the Fund. Each participant will pay a pro rata share of brokerage commissions incurred with respect to the Plan Agent's open market purchases in connection with the reinvestment of distributions. There are no other charges to participants for reinvesting dividends or capital gain distributions; however, the Fund reserves the right to amend the Plan to include a service charge payable by the participants. The automatic reinvestment of dividends and other distributions will not relieve participants of any income tax that may be payable or required to be withheld on such dividends or distributions. The Fund and the Plan Agent reserve the right to amend or terminate the Plan. All correspondence concerning the Plan should be directed to: Investors Bank & Trust Company, 200 Clarendon Street, Mail Stop OPS22, Boston, MA 02116 (Telephone) 800-988-5196. 27 TRUSTEES AND OFFICERS TABLE Set forth below is information about the Trustees. The address for each Trustee is Lehman Brothers Asset Management Inc., 399 Park Avenue, New York, NY 10022. INDEPENDENT TRUSTEES:
NUMBER OF PORTFOLIOS OVERSEEN IN OTHER LEHMAN TRUSTEESHIPS BROTHERS HELD OUTSIDE OF ASSET LEHMAN LENGTH OF MANAGEMENT BROTHERS ASSET NAME AND POSITION TIME PRINCIPAL OCCUPATIONS FOR LAST FIVE FUNDS MANAGEMENT DATE OF BIRTH WITH FUND SERVED YEARS COMPLEX FUNDS COMPLEX - ------------------------------------------------------------------------------------------------------------------------------------ General James E. Dalton, Trustee Since June Formerly Vice President of Logicon Inc., a 1 Formerly, Director (Retired) 2003 wholly-owned subsidiary of Northrop of Defense Group, 10/17/1930 Grumman (1985-1998); formerly, General Inc., a defense Manager of Logicon's Defense Technology business (since Group (1995-1998). 1999-2005); formerly, Director, Chair of the Audit Committee at William Lyon Homes, a home building business (since 1991-2005); formerly Director of Finance America, a mortgage business (2002-2004). Margaret M. Eisen Trustee Since June Managing Director of Marketing, CFA 1 Director, Chair of 6/19/1953 2003 Institute, since 2005; formerly, Managing Compensation Director and Chief Investment Officer of Committee, and EAM International, LLC, an investment Member of the banking and asset management firm Audit Committee of (2003-2005); formerly, Managing Director Antigenics of DeGuardiola Advisors, an investment Corporation, a bank (2001-2002); formerly, Managing bio-pharmaceutical Director of North American Equities of company (since General Motors Investment Management 2003); Trustee of Corporation (1995-2001). Columbia Acorn family of mutual funds of Wanger Asset Management (six portfolios under management) (since 2002).
NUMBER OF PORTFOLIOS OVERSEEN IN OTHER LEHMAN TRUSTEESHIPS BROTHERS HELD OUTSIDE OF ASSET LEHMAN LENGTH OF MANAGEMENT BROTHERS ASSET NAME AND POSITION TIME PRINCIPAL OCCUPATIONS FOR LAST FIVE FUNDS MANAGEMENT DATE OF BIRTH WITH FUND SERVED YEARS COMPLEX FUNDS COMPLEX - ------------------------------------------------------------------------------------------------------------------------------------ Michael M. Knetter Trustee Since June Dean of the University of Wisconsin- 1 Director, Wausau 4/8/1960 2003 Madison School of Business (since 2002); Paper, since 2005; formerly, Professor of International Director, Great Economics and Associate Dean at the Amos Wolf Resorts Tuck School of Business -- Dartmouth (since 2004). College (1997-2002). Eugene A. Matthews Trustee Since June President of Nintai, Incorporated, an 1 None 11/19/1958 2003 investment advisory firm (since 1997); formerly, Senior Fellow of Asia Studies for the Council of Foreign Relations (2001 2003); formerly, Asia Studies Project Director for the Japan Economic Task Force and Leader of Asia Roundtable (2001- 2003); Founding and General Partner of Apax-Globis Japan, Inc., a private equity investment firm (since 1998); formerly Founder/President of Ashta International, a Vietnamese investment firm (1989-1997). George W. Morriss Trustee Since June Formerly, Executive Vice President and 1 None 9/24/1947 2003 Chief Financial Officer of People's Bank, a financial services company (1991-2001).
29 INTERESTED TRUSTEES:*
NUMBER OF PORTFOLIOS OVERSEEN IN OTHER LEHMAN TRUSTEESHIPS BROTHERS HELD OUTSIDE OF ASSET LEHMAN LENGTH OF MANAGEMENT BROTHERS ASSET NAME AND POSITION TIME PRINCIPAL OCCUPATIONS FOR LAST FIVE FUNDS MANAGEMENT DATE OF BIRTH WITH FUND SERVED YEARS COMPLEX FUNDS COMPLEX - ------------------------------------------------------------------------------------------------------------------------------------ Stephanie E. Dolan Trustee Since June Managing Director of Lehman Brothers Inc., 1 None 4/4/1963 2003 since January 2006; Senior Vice President of Lehman Brothers Inc. (since 2000); Controller of Lehman Brothers Asset Management Inc. (since 2003). Scott Hall Trustee Since June Managing Director of First Trust Advisors 1 None 1/12/1957 2003 L.P. and First Trust Portfolios L.P. (since 1992). Kurt A. Locher Trustee Since June Managing Director of Lehman Brothers 1 None 5/9/1966 2003 Inc. (since 1998); Managing Director of Lehman Brothers Asset Management Inc. (since 2003); formerly Director of BNC Mortgage Inc. (2000-2004), Finance America LLC (1999-2004), and TrueLink Inc. (1999-2004); formerly, President of Lehman Brothers Bank, F.S.B. (1999-2000); formerly, Senior Vice President of Lehman Brothers Inc. (1995-1998).
* Stephanie E. Dolan and Kurt A. Locher are "interested persons" of the Fund, as such term is defined by the 1940 Act, by virtue of their officerships with Lehman Brothers Asset Management Inc., the investment adviser to the Fund ("Lehman Brothers" or the "Adviser"). Scott Hall is an "interested person" of the Fund, as such term is defined by the 1940 Act, by virtue of his employment with First Trust Portfolios LP, the Fund's servicing agent and distribution and marketing agent. Set forth below is information about the officers of the Fund. Each officer serves for a one-year term. The address for each officer is Lehman Brothers Asset Management Inc., 399 Park Avenue, New York, NY 10022.
POSITION NAME AND DATE OF BIRTH WITH FUND PRINCIPAL OCCUPATION FOR LAST FIVE YEARS - ------------------------------------------------------------------------------------------------------------------------------------ Bradley Tank President Chief Executive Officer of Lehman Brothers Asset Management Inc.; Managing Director and 9/29/1957 Global Head of Fixed Income Asset Management for Lehman Brothers (since 2002); Chief Exeutive Officer and Managing Director of Lehman Brothers Asset Management LLC; formerly, Director of Fixed Income for Strong Capital Management in Menomonee Falls, Wisconsin (1990-2002).
POSITION NAME AND DATE OF BIRTH WITH FUND PRINCIPAL OCCUPATION FOR LAST FIVE YEARS - ------------------------------------------------------------------------------------------------------------------------------------ Edward Grieb Treasurer Chief Financial Officer of Lehman Brothers Asset Management Inc.; Managing Director 9/22/1961 (since 2003) and Assistant Controller for Lehman Brothers (since 1997). Stephanie E. Dolan Assistant Managing Director of Lehman Brothers Inc., since January 2006; Senior Vice President of 4/4/1963 Treasuer Lehman Brothers Inc. (since 2000); Controller of Lehman Brothers Asset Management Inc. (since 2003). Jonathan Morris Secretary Senior Vice President of Lehman Brothers Asset Management Inc.; Senior Vice President 3/1/1956 and General Counsel for Lehman Brother's Investment Management Division which includes Lehman Brothers private investment management business and asset management and investment advisory business (since 1997). Rainer L.C. Frost Assistant Director and Counsel, Investors Bank & Trust Company (since 2005); Principal and General 3/5/1957 Secretary Counsel, Clarity Group (2000-2005); Chief Administrative Officer, Executive Vice-President and General Counsel, GoldK, Inc. (2001-2002); Chief Executive Officer and General Counsel, Norfox Software, Inc. (1999-2000). Chamaine Williams Chief Vice President, Lehman Brothers Inc., since 2003; Chief Compliance Officer, fifteen 1/29/1971 Compliance registered investment companies for which Neuberger Berman acts as investment manager Officer and administrator, since 2005; Chief Compliance Officer, Lehman Brothers Asset Management Inc., since 2003; Chief Compliance Officer, Lehman Brothers Alternative Investment Management LLC, since 2003; formerly, Vice President, UBS Global Asset Management (U.S.) Inc. (formerly, Mitchell Hutchins Asset Management, a wholly-owned subsidiary of Paine Webber Inc.), 1997-2003.
The Fund's Statement of Additional Information includes additional information about the Trustees of the Fund and is available without charge, upon request, by calling 1-800-988-5196 or visiting the Fund's website at www.lbftincomeopportunity.com. A description of the Fund's proxy voting policies and procedures is available (1) without charge, upon request, by calling 1-800-988-5196, (2) on the Fund's website at www.lbftincomeopportunity.com and (3) on the Commission's website at www.sec.gov. Information regarding how the Fund voted proxies relating to portfolio securities during the most recent 12 month period ended June 30, 2005 is available (1) on the Fund's website www.lbftincomeopportunity.com and (2) on the Commission's website at www.sec.gov. In accordance with Section 303A.12 (a) of the New York Stock Exchange Listed Company Manual, the Fund's Annual CEO Certification certifying as to compliance with NYSE's Corporate Governance Listing Standards was submitted to the Exchange on June 13, 2005. The Fund files a complete schedule of investments with the Commission for the first and third quarters of its fiscal year on Form N-Q, which when filed will be available on the Commission's website at www.sec.gov. The Fund's Form N-Q may be reviewed and copied at the Commission's Public Reference Room, which may be obtained by calling 1-800-SEC-0330. 31 LEHMAN BROTHERS (C) 2005 Lehman Brothers Inc. All Rights Reserved. LB10183 ITEM 2. CODE OF ETHICS. For the year ended December 31, 2005, there were no amendments to a provision of the code of ethics, nor were there any waivers granted from a provision of the code of ethics. A copy of the Registrant's code of ethics is filed with this Form N-CSR under Item 12(a)(1). ITEM 3. AUDIT COMMITTEE FINANCIAL EXPERT. The Registrant's Board of Trustees designated George Morriss as the Registrant's Audit Committee Financial Expert. George Morriss is deemed "independent" for purposes of this item because (i) he does not accept directly or indirectly any consulting, advisory, or compensatory fee from the issuer (other than in his capacity as a committee member or a member of the board of trustees); and (ii) he is not an "interested person" of the Registrant as that term is defined in Section 2(a)(19) of the Investment Company Act of 1940, as amended (the "1940 Act"). ITEM 4. PRINCIPAL ACCOUNTANT FEES AND SERVICES. (a) AUDIT FEES: The aggregate fees billed to the Registrant for professional services rendered by its independent auditors, Ernst & Young LLP, for the audit of the Registrant's annual financial statements for the year ended 2005 and 2004 were $34,500, and $36,400. (b) AUDIT RELATED FEES: The aggregate fees billed to the Registrant for professional services rendered by its independent auditors, Ernst & Young LLP, for the the initial and year end agreed upon procedures reporting for the preferred shares for the years ended 2005 and 2004 were $6,000 and $5,400, respectively. (c) TAX FEES: The aggregate fees accrued for professional services rendered by Ernst & Young LLP for tax compliance, tax advice, and tax planning for the years ended 2005 and 2004 were $8,700 and $4,250, respectively. Such services included the preparation of the year-end tax provision and excise tax work. (d) ALL OTHER FEES: The aggregate fees billed to the Registrant for professional services rendered by its independent auditors, Ernst & Young LLP, other than services reported in Audit Fees, Audited-Related Fees, and Tax Fees for years ended 2005 and 2004 were $0 and $0, respectively. (e) (1) The Registrant's Audit Committee pre-approved the provision of audit and non-audit services by Ernst & Young LLP for the fiscal years ended December 31, 2005 and December 31, 2004. The Registrant has not delegated the pre-approval of audit and non-audit services to a member of the audit committee. Rather, any action of the audit committee with respect to the pre-approval process requires the vote of a majority of the audit committee members present, whether in person or otherwise, at the meeting at which such action is considered. One member of the audit committee shall constitute a quorum for the purpose of taking any action. (2) The percentage of services described in each of paragraphs (b) through (d) of this Item that were approved by the audit committee pursuant to paragraph (c)(7)(i)(C) of Rule 2-01 of Regulation S-X are as follows: (b) 100% (c) 100% (d) 100% (f) Not applicable. 2 (g) Aggregate non-audit fees billed to the Registrant by the Registrant's accountant for the fiscal years ended December 31, 2005 and 2004 were $14,700 and $9,650, respectively Aggregate non-audit fees billed to the investment adviser or sub-adviser by the Registrant's accountant were $165,450 and $167,550 for the fiscal years ended December 31, 2005 and 2004, respectively. In addition to the services outlined under "Tax Fees" and "Audit-Related Fees", these services include AIMR attestation work performed by our New York City Office for the adviser. (h) Non-audit services rendered to the Registrant's investment adviser and any adviser affiliate that were not pre-approved pursuant to Paragraph (c)(7)(ii) of Rule 2-01 of Regulation S-X were considered by the Registrant's audit committee as to whether they were compatible with maintaining the principal accountant's independence. ITEM 5. AUDIT COMMITTEE OF LISTED REGISTRANTS. The Board of Trustees of the Registrant established an audit committee for the purpose of overseeing the accounting and financial reporting processes of the Registrant and audits of the financial statements of the Registrant in accordance with Section 3(a)(58)(A) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). To be eligible to serve as a member of the Registrant's audit committee, a trustee must be an "Independent Trustee," which term shall mean a Trustee (i) who is not an "interested person," as that term is defined in Section 2(a)(19) of the 1940 Act, as amended of the Registrant; and (ii) who has not accepted directly or indirectly any consulting, advisory, or other compensatory fee from the Registrant (other than fees for serving as a trustee or committee member). The Registrant's Audit Committee Members are: James E. Dalton Margaret M. Eisen Michael M. Knetter Eugene A. Matthews George Morriss ITEM 6. SCHEDULE OF INVESTMENTS Not applicable to this filing. ITEM 7. DISCLOSURE OF PROXY VOTING POLICIES AND PROCEDURES FOR CLOSED-END MANAGEMENT INVESTMENT COMPANIES. The Board of the Registrant has delegated to the Registrant's sub-advisor (the "Sub-Advisor") the authority to vote proxies on behalf of the Fund and has approved the Sub-Advisor's proxy voting guidelines and procedures. A copy of the Sub-Advisor's proxy voting procedures and guidelines are filed with this Form N-CSR under Item 12(b). ITEM 8. PORTFOLIO MANAGERS OF CLOSED-END MANAGEMENT INVESTMENT COMPANIES (a) Portfolio Managers of Closed-End Management Investment Companies is attached ITEM 9. PURCHASES OF EQUITY SECURITIES BY CLOSED-END MANAGEMENT INVESTMENT COMPANY AND AFFILIATED PURCHASERS. Not applicable to this registrant. ITEM 10. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. 3 None. ITEM 11. CONTROLS AND PROCEDURES. (a) The Registrant's Principal Executive Officer and Principal Financial Officer concluded that the Registrant's disclosure controls and procedures (as defined in Rule 30a-3(c) under the Investment Company Act of 1940) were effective as of a date within 90 days prior to the filing date of this report, based on their evaluation of the effectiveness of the Registrant's disclosure controls and procedures as of the Evaluation Date. (b) There were no significant changes in the Registrant's internal control over financial reporting (as defined in Rule 30a-3(d) under the 1940 Act) that occurred during the second fiscal quarter of the period covered by this report that has materially affected, or is reasonably likely to materially affect, the Registrant's internal control over financial reporting. ITEM 12. EXHIBITS. (a)(1) Sox Code of Ethics is attached (a)(2) Section 302 Certification letters are attached (b) Proxy voting procedures and guidelines are attached. (c) Section 906 Certifications are attached. Pursuant to the requirements of the Exchange Act and the 1940 Act, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Lehman Brothers First Trust Income Opportunity Fund By: /S/ Bradley Tank -------------------------------------------------- Bradley Tank, President/Chief Executive Officer Date: 3/07/06 Pursuant to the requirements of the Exchange Act and the 1940 Act, 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/ Bradley Tank ---------------------------------------------------------------- Bradley Tank, President/Chief Executive Officer Date: 03/07/06 4 By: /S/ Edward Grieb ---------------------------------------------------------------- Edward Grieb, Treasurer/Chief Financial Officer Date: 3/09/06 N-CSR EXHIBIT FOR ITEM 8(a): PORTFOLIO MANAGERS OF CLOSED-END MANAGEMENT INVESTMENT COMPANIES PORTFOLIO MANAGER INFORMATION Lehman Brothers Asset Management Inc. serves as investment adviser to the Fund, with overall responsibility for overseeing the Fund's management. Lehman Brothers Asset Management LLC ("LBAM LLC") serves as investment sub-adviser to the Fund and has day-to-day responsibility for managing the Fund's portfolio of investments. Information relating to the portfolio managers for the Fund is presented below. Ann H. Benjamin has served as lead portfolio manager for the Fund since its inception. She is the managing director and chief investment officer of high yield for LBAM LLC. She serves as the lead portfolio manager for all of LBAM LLC's high yield strategy accounts. Ann H. Benjamin has been with LBAM LLC since March 1, 1997. Thomas P. O'Reilly has served as portfolio and credit analyst for the Fund since its inception. He is a senior vice president and portfolio manager for LBAM LLC. He serves as portfolio and credit analyst for all of LBAM LLC's high yield strategy accounts. Thomas P. O'Reilly has been with LBAM LLC since July 1, 1997. OTHER ACCOUNTS MANAGED BY PORTFOLIO MANAGERS AS OF 12/31/05 The table below contains information about other accounts managed by the Fund's primary portfolio managers.
ANN H. BENJAMIN THOMAS P. O'REILLY --------------- ------------------ REGISTERED INVESTMENT COMPANIES Total Accounts Managed 5 5 Total Assets Managed $1.1 billion $1.1 billion Accounts with Performance Fees None None Assets with Performance Fees None None OTHER POOLED INVESTMENT VEHICLES Total Accounts Managed 3 3 Total Assets Managed $0.1 billion $0.1 billion Accounts with Performance Fees None None Assets with Performance Fees None None
5 OTHER ACCOUNTS Total Accounts Managed 31 31 Total Assets Managed $3.8 billion $3.8 billion Accounts with Performance Fees 1 1 Assets with Performance Fees $86 million $86 million TOTAL ACCOUNTS MANAGED 39 39 TOTAL ASSETS MANAGED $5.1 billion $5.1 billion
The Fund's portfolio managers may manage other accounts with investment strategies similar to those of the Fund, which may suggest the potential for conflicts of interest. LBAM LLC may charge varying fees to different accounts managed by the portfolio managers. The Fund's portfolio managers may participate personally in some pooled accounts, including the Fund. LBAM LCC may manage accounts with variable fees based on performance. Theoretically, these features could create an incentive for a portfolio manager to favor the higher or variable fee accounts, or accounts in which he or she participates, which may not include the Fund. However, the Fund does not anticipate that management by a Fund portfolio manager of other accounts with a similar investment strategy would conflict with the management of the Fund. LBAM LLC has a fundamental policy to bundle trades for all accounts managed, which LBAM LLC believes promotes best execution. LBAM LLC dedicates high yield trading personnel to focus on purchasing bonds within the levels established by the portfolio managers. LBAM LLC observes the following practices and policies as part of its trading strategies: 1) adherence to the requirement that best execution is the sole criterion for evaluating trades; 2) policies and procedures requiring fair treatment of all clients; 3) professional conduct requirements mandating the primacy of the best interests of clients; 4) a policy against directing soft dollar credits to individual brokers on behalf of individual clients; 5) trading positions for all portfolios or accounts together; 6) seeking competitive bids for purchases and sales, to the extent possible; and 7) close attention to the orderly handling of cash flows. LBAM LLC manages its various portfolios and accounts without regard to management fees. PORTFOLIO MANAGER COMPENSATION All portfolio managers are employed and compensated by LBAM LLC, the investment sub-adviser for the Fund. LBAM LLC evaluates the performance of portfolio managers in light of LBAM LLC's success in meeting its clients stated goals and objectives (i.e. the performance of a client's portfolio; while fees for most of the high yield portfolios or accounts LBAM LLC manages are not based on performance, the performance of a portfolio or account is relevant to the portfolio manager's compensation). Based on this performance evaluation, each portfolio manager earns annual compensation comprised of a salary and bonus. A portion of bonuses may be paid through the Lehman Brothers Stock Award Program, which includes restricted stock units or options with specific terms on vesting and forfeiture. In addition to the annual compensation and Lehman equity, a portfolio manager's success is tied to the company's success through participation in the company's Incentive Payment Pool (IPP). The IPP will be valued at a fixed multiple of future earnings. Payouts will begin in 2007 and extend through 2009. PORTFOLIO MANAGER BENEFICIAL OWNERSHIP OF SHARES OF THE FUND AS OF 12/31/05
NAME OF PORTFOLIO MANAGER DOLLAR RANGE OF SHARES IN THE FUND - ------------------------- ---------------------------------- Ann H. Benjamin $50,001 to $100,000 Thomas P. O'Reilly $10,001 to $50,000
6 EX-99.CODEETH 2 a2166625zex-99_codeeth.txt EX 99.CODEETH Exhibit 99.CODEETH N-CSR EXHIBIT FOR ITEM 12(a)(1): CODE OF ETHICS LEHMAN BROTHERS/FIRST TRUST INCOME OPPORTUNITY FUND CODE OF ETHICS FOR PRINCIPAL EXECUTIVE AND SENIOR FINANCIAL OFFICERS I. COVERED OFFICERS/PURPOSE OF THE CODE The code of ethics (this "Code") for Lehman Brothers/First Trust Income Opportunity Fund (the "Fund") applies to the Fund's principal executive officer and principal financial and accounting officer (the "Covered Officers," each of whom is set forth in Exhibit A) 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 ("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 interests interfere 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 ("Investment Company Act") and the Investment Advisers Act of 1940, as amended ("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 or the Fund's investment adviser or sub-adviser (the "investment adviser") are designed to prevent, or identify and correct, violations of these provisions. This Code does not, and is not intended to, repeat or replace these programs and procedures, and such conflicts fall outside of the parameters of this Code. Although typically not presenting an opportunity for improper personal benefit, conflicts may arise from, or as a result of, the contractual relationship between the Fund and the investment adviser or a third party service provider of which a Covered Officer is also an officer or employee. As a result, this Code recognizes that the Covered Officers will, in the normal course of their duties (whether formally for the Fund and/or for the investment adviser or a third party service provider) be involved in establishing policies and implementing decisions that will have different effects on the investment adviser or a third party service provider and the Fund. The participation of the Covered Officers in such activities is inherent in the contractual relationship between the Fund and the investment adviser or a third party service 7 provider and is consistent with the performance by the Covered Officers of their duties as officers of the Fund. The foregoing activities, if performed in conformity with the provisions of the Investment Company Act and the Investment Advisers Act, will be deemed to have been handled ethically. 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 overarching principle with respect to all conflicts of interest covered by this 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 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 that could potentially present a conflict of interest with the Fund. III. DISCLOSURE AND COMPLIANCE - Each Covered Officer shall become familiar with the disclosure requirements generally applicable to the Fund; - each Covered Officer shall 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 management, and auditors, and to governmental regulators and self-regulatory organizations; - each Covered Officer may, to the extent appropriate within the Covered Officer's area of responsibility and to the extent deemed necessary in the sole discretion of the Covered Officer, consult with other officers and employees of the Fund and the investment adviser 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 - each Covered Officer should seek to promote the Fund's compliance with the standards and restrictions imposed by applicable laws, rules and regulations. 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 Chamaine Williams or such other person designated by the Secretary of the Fund (the "Compliance Officer") that the Covered Officer has received, read and understands this Code; - annually thereafter affirm to the Compliance Officer that the Covered Officer has complied with the requirements of this Code; - not retaliate against any other Covered Officer or any employee of the Fund or its affiliated persons for reports of potential violations of this Code that are made in good faith; and - notify the Compliance Officer promptly if the Covered Officer knows of any violation of this Code. Failure to do so is itself a violation of this Code. The Compliance Officer is responsible for applying this Code to specific situations in which questions are presented under it and has the authority to interpret this Code in any particular situation. The Compliance Officer is authorized to consult, as appropriate, with counsel to the Fund, and is encouraged to do so. However, any approvals or 8 waivers(1) must be considered by the trustees of the Fund who are not "interested persons," as defined by Section 2(a)(19) of the Investment Company Act, of the Fund (the "Independent Trustees"). The Fund will follow these procedures in investigating and enforcing this Code: - The Compliance Officer will endeavor to take all appropriate action to investigate any reported potential violations reported to him; - if, after such investigation, the Compliance Officer believes that no violation has occurred, the Compliance Officer is not required to take any further action; - any matter that the Compliance Officer believes is a violation will be reported to the Independent Trustees; - if the Independent Trustees concur that a violation has occurred, the Compliance Officer will inform and make a recommendation to the Fund's board of trustees (the "Board"), which will consider appropriate action, which may include a review of, and appropriate modifications to, applicable Fund policies and procedures; notification to appropriate personnel of the investment adviser or other relevant service provider; or a recommendation to dismiss the Covered Officer; 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 there under. Insofar as other policies or procedures of the Fund, investment adviser, principal underwriter or 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 investment adviser's and the principal underwriter's codes of ethics under Rule 17j-1 under the Investment Company Act are separate requirements applying to the Covered Officers and others, and are not part of this Code. VI. AMENDMENTS Amendments to this Code may be made from time to time, as deemed appropriate by the Compliance Officer. The Board shall be informed of any such amendment to the extent deemed material by the Compliance Officer. VII. CONFIDENTIALITY All reports and records relating to the Fund 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 investment adviser, Board, and counsel to the Fund. VIII. INTERNAL USE The Code is intended solely for the internal use by the Fund and does not constitute an admission, by or on behalf of the Fund, as to any fact, circumstance, or legal conclusion. Date: November 18, 2003 - ---------- (1) For this purpose, the term "waiver" includes the approval by the Fund of a material departure from a provision of this Code or the Fund's failure to take action within a reasonable period of time regarding a material departure from a provision of this Code that has been made known to the Fund's management. 9 EXHIBIT A PERSONS COVERED BY THIS CODE OF ETHICS Bradley Tank, President Edward S. Grieb, Treasurer 10 N-CSR EXHIBIT FOR ITEM 12(b): REGISTRANT'S PROXY VOTING PROCEDURES AND GUIDELINES LEHMAN BROTHERS ASSET MANAGEMENT LLC ("LBAM LLC") PROXY VOTING POLICIES Lehman Brothers Asset Management LLC("LBAM LLC") is aware and compliant with SEC Rule 206(4)-6 regarding proxy voting and disclosure and Rule 204-2 pertaining to books and records. Therefore, LBAM LLC shall vote corporate governance proposals in a manner that promotes clear responsibility of management and boards to the long run interests of shareholders. LBAM LLC shall be diligent, independent and consider the best interest of our clients in arriving at proxy voting decisions. Upon a client's request LBAM LLC will disclose how the client's proxies were voted. Clients can send their requests via e-mail to Csedlak@Lincap.com. PROXY VOTING PROCEDURES Ann Benjamin, a Managing Director, or a designee, is responsible for LBAM LLC proxy votes and guidelines for high yield products. The Security Control unit within the Portfolio Management Information Department has administrative responsibility. Guidelines have been established to apply to the most frequently appearing proxy proposals. Proxy proposals for shares in closed-end funds are excepted from the guidelines, and voting decisions relating to such proposals will be determined on a case-by-case basis. Where specific guidelines don't apply, the general principles of the Proxy Voting Policies are used. Specific fact situations might warrant departure from the guidelines. Proxies are voted after review of relevant materials (annual report, SEC filings -10K, and votes registered from the prior year) in accordance with these guidelines. The voting rights of securities that are on loan are determined at the time of signing the loan agreement between our clients and their custodian banks; usually the securities on loan do not allow LBAM LLC the voting rights. Administratively, LBAM LLC utilizes paper ballots. Paper ballots are received via the United States Postal System and holdings for all clients as of record date are obtained from the accounting system (Portia). The ballots' shares and Lincoln Capital's holdings are verified. If there are discrepancies between the ballot shares and LBAM LLC's holdings, the custodian is contacted for resolution. Proxies are voted by choosing the appropriate vote selection and the signing of the paper ballots. The signed proxies are mailed in the provided pre-addressed envelope. In rare instances where ballot shares have not been received from all custodians within two weeks of the meeting date, LBAM LLC contacts the custodian. The custodian will follow up with a faxed copy of the paper ballot. If a copy of the ballot is faxed, LBAM LLC returns (via fax or by mail) the proxy with voting instructions to the custodian. After all proxies are voted, the Portfolio Management Information Department of LBAM LLC keeps a copy of the signed ballot as record of the security, meeting date, proposals, and how we voted for each client. Records are maintained in the Portfolio Management Information Department of LBAM LLC pital office for five years; after that time the records can be moved to an off-site facility. The guidelines are designed to eliminate the influence of any conflicts of interest on LBAM LLC's proxy voting decisions. Although LBAM LLC does not foresee any material conflicts of interest arising, in the event a material conflict of interest does arise, the facts and circumstances of the conflict would be discussed with Lori Loftus, the Compliance Manager, prior to voting. Lori Loftus and Ann Benjamin will decide if the conflict can be resolved or avoided by applying the guidelines. If the conflict cannot be resolved or avoided by applying the guidelines, Lincoln Capital may rely on the advice of an independent third party to determine how to vote the proxy. Original Date:January 31, 2003 Revised Date: June 30, 2003 Revised Date: July 23, 2003 LBAM LLC PROXY GUIDELINES BOARD RELATED ISSUES June 23, 2003
SUBJECT VOTE JUSTIFICATION - ------------------------------------------------------------------------------------------------------------------------- Election of directors For, w/ caveat Ownership of the stock typically means support of Directors, unless there is an issue of independence or performance. Classification of directors Against The idea, in theory, is to provide stability. However, in practice boards have demonstrated considerable continuity because the majority of votes are for management's slate. Declassification of Board For Annual Election of directors For Directors should be held accountable to shareholders on an annual basis. Director removal only for cause Against Shareholders should not need cause to remove a director. As owners of the corporation, shareholders should have the right to remove directors as they see fit. Require a majority of independent directors For The presence of independent directors allows the board to be more objective in its decisions regarding business operations and top management. Increase in size of the board Against The greater number of directors, the less the w/caveat accountability. However, it may be a good idea if management can show a compelling need (e.g. needed expertise) for additional members. Indemnification and liability protection for For Such protection is necessary to attract and retain directors w/caveat competent individuals to sit on boards for normal remuneration. Companies need to protect their directors as long as they act in the best interest of their shareholders. However, if directors seriously breech their fiduciary duty, they should not be protected. Advisory committees Against The board already has a fiduciary duty to represent all shareholders and is accountable to them by law. It often is not necessary for a corporation to bear the additional expense of an advisory committee.
SUBJECT VOTE JUSTIFICATION - ------------------------------------------------------------------------------------------------------------------------- Grant Stock to Non-Employee Directors Against, w/ We would vote against a management proposal to grant (added 1996 proxy season) caveat stock to non-employee directors except in cases where grant would replace a fee. Separation of CEO and Chairman For Although not required this is generally a good governance model.
EMPLOYEE COMPENSATION
SUBJECT VOTE JUSTIFICATION - ------------------------------------------------------------------------------------------------------------------------- Employee Stock Ownership Plan Case by In general, it is a good idea to support option plans Case which provide incentive to directors, managers and other employees by aligning their economic interest with those of the shareholders while limiting the transfer of wealth out of the company. However, a vote for a specific plan should be decided by weighing a number of factors: - the number and structure of other plans the company currently has in place - the potential dilution percentage of the proposed plan, (in conjunction with other plans in place) - the degree of power the board has to choose a plan among several options, (those proposals allowing the board to chose between five or more options should rarely be approved) - who will administer the plan, (it should be administered by a committee of outside directors who are ineligible to receive benefits from the plan) - the percentage of the company already owned by insiders
SUBJECT VOTE JUSTIFICATION - ------------------------------------------------------------------------------------------------------------------------- Compensation caps or restraints For Consideration should be given to withholding votes from, (by situation) or voting against, directors who support excessive compensation or compensation arrangements that are not in the interest of shareholders. Minimum share ownership to be a director Against Stock Options & Incentive Comp - pricing at fair market value and expire For with 5 years - repricing options to a lower price Against - option plan dilution greater than 5% Against - restricted stock should vest over a For specified time (greater than 1 year) - interest free or low interest loans Against - reload options Against - options for directors Against
MANAGEMENT ENTRENCHMENT
SUBJECT VOTE JUSTIFICATION - ------------------------------------------------------------------------------------------------------------------------- Increase in authorized shares of common stock For Vote for an increase in authorized shares of common w/caveat stock if: - management has already issued most of the authorized shares - the increase is reasonable - past history suggests a prudent issuance - shares are needed for a stock split or dividend - management presents a specific and acceptable reason for the increase. Otherwise, vote no. Targeted share placement Against Targeted share placements dilute ownership and voting rights, entrench current management, and are anti-takeover in nature. Dual Class Stock Against The new class of stock may dilute our ownership, make the company less attractive as a takeover target, entrench incumbent directors or management, and discourage both merger proposals and proxy contests. Authorize or increase a class of preferred Against Available academic evidence indicates that shareholder stock value is decreased when blank-check preferred stock is authorized. Share repurchase For The share repurchase process increases our ownership percentage and raises the equilibrium price by decreasing the supply. Appointment of auditors For Vote for the recommended auditor unless the auditor w/caveat has become complacent or has questionable independence.
SHAREHOLDER RIGHTS
SUBJECT VOTE JUSTIFICATION - ------------------------------------------------------------------------------------------------------------------------- Elimination of preemptive rights For These rights give current shareholders the right to maintain their current ownership percentage through any subsequent equity offerings. These provisions are no longer common in the U.S., and can restrict management's ability to raise new capital. Eliminate shareholders right to call a special Against These proposals limit shareholder rights, and are meeting. anti-takeover in nature. Prohibit shareholder action outside meetings Against These proposals limit shareholders rights. Voting confidentiality For These proposals are often introduced by shareholders w/caveat as a means of reducing management pressure on shareholders regarding their vote on proxy issues. We support the suspension of confidential voting during proxy contest since dissidents have access to the information and we do not wish to put management at an unfair disadvantage. Cumulative voting Against Cumulative voting permits access to the board by special interest groups. Company submission of poison pill and defense For Management rarely submits its defense mechanisms to mechanisms for shareholder ratification shareholders voluntarily so shareholders should vote for authority to ratify such plans when proposed by other shareholders.
ANTI-TAKEOVER
SUBJECT VOTE JUSTIFICATION - ------------------------------------------------------------------------------------------------------------------------- Anti-Greenmail provisions For The only one who reaps any benefit from greenmail is the greenmailer. Shareholders are always harmed. Reincorporation For Vote in favor of reincorporation proposals if there w/caveat are legitimate business reasons for the move. If a corporation is simply attempting to move in order to subject itself to more stringent anti-takeover laws, then vote against it. Require more than simple majority vote to Against These proposals limit shareholder rights. amend or repeal by-laws or remove directors Blank check preferred Against These proposals are for the authorization of shares for which voting rights are not established in advance. Instead, voting rights are established at the discretion of the board of directors when the shares are issued. This gives the board the ability to place a block of stock with an investor sympathetic to management, thereby foiling a takeover bid without a shareholder vote. This proposal is a transfer of authority from shareholders to the board, and a possible entrenchment device. Stockholder provision Against These proposals introduce the concept that the board may consider the interest of constituents other than shareholders in the evaluation of takeover offers. This concept is inconsistent with public ownership of corporations. Poison pill plans Against Poison pill plans are the most effective anti-takeover weapon available to management. Shareholder value declines upon the adoption of these plans. Supermajority vote Against Requiring a high majority vote (i.e. 80%) for corporate charter and by-law amendments relating to term of office, election or removal of directors. Requiring a supermajority vote to convene meetings is an anti-takeover measure.
SOCIAL ISSUES Most social issues are handled on a case-by-case basis. Unique social, environmental, and political issues are decided on the merits of the specific proposal. Therefore, it has not been Lincoln's policy to recommend, general guidelines to cover such issues. EX-99.CERT 3 a2166625zex-99_cert.txt EX 99.CERT EXHIBIT 99.CERT N-CSR EXHIBIT FOR ITEM 12(a)(2): SECTION 302 CERTIFICATIONS I, Bradley Tank, certify that: 1. I have reviewed this report on Form N-CSR of Lehman Brothers First Trust Income Opportunity 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 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) and internal control over financial reporting (as defined in Rule 30a-3(d) 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) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) 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 d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the second fiscal quarter of the period covered by this report that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer 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. Date: 03/07/06 /s/ Bradley Tank --------------------------------------------------- Bradley Tank, President/Chief Executive Officer N-CSR EXHIBIT FOR ITEM 12(a)(2): SECTION 302 CERTIFICATIONS I, Edward Grieb, certify that: 1. I have reviewed this report on Form N-CSR of Lehman Brothers First Trust Income Opportunity 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 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) and internal control over financial reporting (as defined in Rule 30a-3(d) 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) Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; c) 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 d) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the second fiscal quarter of the period covered by this report that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. The registrant's other certifying officer 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. Date: 03/09/06 /S/ Edward Grieb ---------------------------------------------- Edward Grieb, Treasurer/Chief Financial Officer EX-99.906CERT 4 a2166625zex-99_906cert.txt EX 99.906CERT EXHIBIT 99.906.CERT N-CSR EXHIBIT FOR ITEM 12(c): SECTION 906 CERTIFICATIONS CERTIFICATION PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Certified Shareholder Report of Lehman Brothers First Trust Income Opportunity Fund (the "Registrant") on Form N-CSR for the year ended December 31, 2004, as filed with the Securities and Exchange Commission on the date hereof ("the Report"), the undersigned hereby certifies that: 1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, and 2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Registrant. Date: 03/07/06 /s/ Bradley Tank ----------------------- ------------------------------------------------ Bradley Tank, President/Chief Executive Officer Date: 03/09/06 /s/ Edward Grieb ----------------------- ------------------------------------------------ Edward Grieb, Treasurer/Chief Financial Officer A signed original of this written statement required by Section 906 of the Sarbanes-Oxley Act of 2002, or other document authenticating, acknowledging, or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906 has been provided to the Registrant and will be retained by the Registrant and furnished to the Securities and Exchange Commission (the "Commission") or its staff upon request. This certification is being furnished to the Commission solely pursuant to Rule 30a.2(b) under the Investment Company Act of 1940, as amended, and 18 U.S.C. Section 1350 and is not being filed as part of the Form N-CSR with the Commission. -----END PRIVACY-ENHANCED MESSAGE-----