-----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, Sp5CJa/hbHA6udc3b5sPN6bUnB2NpV+P1nIfSfXs2b7BOCgllejEeNQnzPGRuIBK HNdtnhiX8xCDr9tzVDC3JA== 0000932471-07-001065.txt : 20070814 0000932471-07-001065.hdr.sgml : 20070814 20070814160528 ACCESSION NUMBER: 0000932471-07-001065 CONFORMED SUBMISSION TYPE: 485BPOS PUBLIC DOCUMENT COUNT: 4 FILED AS OF DATE: 20070814 DATE AS OF CHANGE: 20070814 EFFECTIVENESS DATE: 20070817 FILER: COMPANY DATA: COMPANY CONFORMED NAME: VANGUARD EXPLORER FUND CENTRAL INDEX KEY: 0000034066 IRS NUMBER: 510106626 STATE OF INCORPORATION: DE FISCAL YEAR END: 1031 FILING VALUES: FORM TYPE: 485BPOS SEC ACT: 1940 Act SEC FILE NUMBER: 811-01530 FILM NUMBER: 071055153 BUSINESS ADDRESS: STREET 1: PO BOX 2600 STREET 2: V26 CITY: VALLEY FORGE STATE: PA ZIP: 19482 BUSINESS PHONE: 6106696295 MAIL ADDRESS: STREET 1: P.O. BOX 2600 STREET 2: V26 CITY: VALLEY FORGE STATE: PA ZIP: 19482 FORMER COMPANY: FORMER CONFORMED NAME: VANGUARD EXPLORER FUND INC DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: EXPLORER FUND INC DATE OF NAME CHANGE: 19900305 FILER: COMPANY DATA: COMPANY CONFORMED NAME: VANGUARD EXPLORER FUND CENTRAL INDEX KEY: 0000034066 IRS NUMBER: 510106626 STATE OF INCORPORATION: DE FISCAL YEAR END: 1031 FILING VALUES: FORM TYPE: 485BPOS SEC ACT: 1933 Act SEC FILE NUMBER: 002-27203 FILM NUMBER: 071055154 BUSINESS ADDRESS: STREET 1: PO BOX 2600 STREET 2: V26 CITY: VALLEY FORGE STATE: PA ZIP: 19482 BUSINESS PHONE: 6106696295 MAIL ADDRESS: STREET 1: P.O. BOX 2600 STREET 2: V26 CITY: VALLEY FORGE STATE: PA ZIP: 19482 FORMER COMPANY: FORMER CONFORMED NAME: VANGUARD EXPLORER FUND INC DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: EXPLORER FUND INC DATE OF NAME CHANGE: 19900305 0000034066 S000002578 VANGUARD EXPLORER FUND C000007081 Investor Shares VEXPX C000007082 Admiral Shares VEXRX 485BPOS 1 explorerfund485b082007.txt VANGUARD EXPLORER FUND 485B 082007 - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM N-1A REGISTRATION STATEMENT (NO. 2-27203) UNDER THE SECURITIES ACT OF 1933 PRE-EFFECTIVE AMENDMENT NO. POST-EFFECTIVE AMENDMENT NO. 79 AND REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 AMENDMENT NO. 80 VANGUARD EXPLORER FUND (EXACT NAME OF REGISTRANT AS SPECIFIED IN DECLARATION OF TRUST) P.O. BOX 2600, VALLEY FORGE, PA 19482 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICE) REGISTRANT'S TELEPHONE NUMBER (610) 669-1000 HEIDI STAM, ESQUIRE P.O. BOX 876 VALLEY FORGE, PA 19482 IT IS PROPOSED THAT THIS AMENDMENT BECOME EFFECTIVE ON AUGUST 17, 2007, PURSUANT TO PARAGRAPH (B) OF RULE 485. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- [SHIP] [THE VANGUARD GROUP LOGO] VANGUARD(R) EXPLORER(TM) FUND SUPPLEMENT TO THE PROSPECTUS IMPORTANT CHANGES TO VANGUARD EXPLORER FUND FUND CLOSED TO NEW ACCOUNTS Effective as of the close of business on February 2, 2006, Vanguard Explorer Fund will no longer open accounts for new or current shareholders and will limit additional investments by current shareholders in existing Fund accounts as further described below. There is no specific time frame for when the Fund will reopen. LIMITS ON ADDITIONAL INVESTMENTS BY CURRENT SHAREHOLDERS Current shareholders of Vanguard Explorer Fund may invest up to $25,000 per year in the Fund. This $25,000 limit applies to the total amount invested during any calendar year in each Fund account registered to the same primary Social Security or taxpayer identification number. Investments made on or before February 2, 2006, do not count toward the $25,000 annual limit, nor do reinvestments of dividend and capital gains distributions. Participants in certain qualified retirement plans may continue to invest in accordance with the terms of their plans. Certain qualifying asset allocation programs may continue to operate in accordance with the program terms. TRANSACTIONS During the Fund's closed period, current shareholders may continue to purchase, exchange, or redeem shares of the Fund online, by telephone, or by mail subject to the $25,000 annual contribution limit. Vanguard Explorer Fund may modify these transaction policies at any time without prior notice to shareholders. You may call Vanguard for more detailed information about the Fund's transaction policies. Investors in nonretirement accounts and IRAs may call Vanguard's Investor Information Department at 800-662-7447. Participants in employer-sponsored retirement plans may call Vanguard Participant Services at 800-523-1188. (C) 2006 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor. PSFC24 022006 VANGUARD/(R)/ EXPLORER(TM) FUND > PROSPECTUS INVESTOR SHARES & ADMIRAL(TM) SHARES August 17, 2007 ------------------------------------------------------------------------------ [SHIP LOGO VANGUARD/(R)/] - ------------------------------------------------------------------------------- This prospectus contains financial data for the Fund through the fiscal period ended April 30, 2007. Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense. CONTENTS - ------------------------------------------------------------------------------- Fund Profile 1 Investing With Vanguard 25 - ------------------------------------------------------------------------------- More on the Fund 6 Purchasing Shares 25 - ------------------------------------------------------------------------------- The Fund and Vanguard 14 Converting Shares 28 - ------------------------------------------------------------------------------- Investment Advisors 15 Redeeming Shares 29 - ------------------------------------------------------------------------------- Dividends, Capital Gains, and Exchanging Shares 32 Taxes 18 - ------------------------------------------------------------------------------- Share Price 20 Frequent-Trading Limits 32 - ------------------------------------------------------------------------------- Financial Highlights 21 Other Rules You Should Know 34 - ------------------------------------------------------------------------------- Fund and Account Updates 38 - ------------------------------------------------------------------------------- Contacting Vanguard 40 - ------------------------------------------------------------------------------- Glossary of Investment Terms 42 - ------------------------------------------------------------------------------- WHY READING THIS PROSPECTUS IS IMPORTANT This prospectus explains the investment objective, policies, strategies, and risks associated with the Fund. To highlight terms and concepts important to mutual fund investors, we have provided Plain Talk/(R)/ explanations along the way. Reading the prospectus will help you decide whether the Fund is the right investment for you. We suggest that you keep this prospectus for future reference. SHARE CLASS OVERVIEW The Fund offers two separate classes of shares: Investor Shares and Admiral Shares. Please note that Admiral Shares are not available for: .. SIMPLE IRAs and 403(b)(7) custodial accounts; .. Other retirement plan accounts receiving special administrative services from Vanguard; or .. Accounts maintained by financial intermediaries, except in limited circumstances. The Fund's separate share classes have different expenses; as a result, their investment performances will differ. FUND PROFILE INVESTMENT OBJECTIVE The Fund seeks to provide long-term capital appreciation. PRIMARY INVESTMENT STRATEGIES The Fund invests mainly in the stocks of small companies. These companies tend to be unseasoned but are considered by the Fund's advisors to have superior growth potential. Also, these companies often provide little or no dividend income. The Fund uses multiple investment advisors. PRIMARY RISKS An investment in the Fund could lose money over short or even long periods. You should expect the Fund's share price and total return to fluctuate within a wide range, like the fluctuations of the overall stock market. The Fund's performance could be hurt by: .. Stock market risk, which is the chance that stock prices overall will decline. Stock markets tend to move in cycles, with periods of rising prices and periods of falling prices. .. Investment style risk, which is the chance that returns from small-capitalization growth stocks will trail returns from the overall stock market. Historically, small-cap stocks have been more volatile in price than the large-cap stocks that dominate the overall market, and they often perform quite differently. .. Manager risk, which is the chance that poor security selection will cause the Fund to underperform relevant benchmarks or other funds with a similar investment objective. PERFORMANCE/RISK INFORMATION The following bar chart and table are intended to help you understand the risks of investing in the Fund. The bar chart shows how the performance of the Fund's Investor Shares has varied from one calendar year to another over the periods shown. The table shows how the average annual total returns of the share classes presented compare with those of a relevant market index. Keep in mind that the Fund's past performance (before and after taxes) does not indicate how the Fund will perform in the future. 1 ANNUAL TOTAL RETURNS--INVESTOR SHARES/1/ - ------------------------------------------------------------------------------- [BAR CHART: SCALE -40% to 60%] 1997 14.57 1998 3.52 1999 37.26 2000 9.22 2001 0.56 2002 -24.58 2003 44.25 2004 13.75 2005 9.28 2006 9.70 - ------------------------------------------------------------------------------- 1 The year-to-date return as of the most recent calendar quarter, which ended June 30, 2007, was 10.69% During the periods shown in the bar chart, the highest return for a calendar quarter was 29.99% (quarter ended December 31, 1999), and the lowest return for a quarter was -21.73% (quarter ended September 30, 2001). AVERAGE ANNUAL TOTAL RETURNS FOR PERIODS ENDED DECEMBER 31, 2006 1 Year 5 Years 10 Years - -------------------------------------------------------------------------------- VANGUARD EXPLORER FUND INVESTOR SHARES - -------------------------------------------------------------------------------- Return Before Taxes 9.70% 8.21% 10.25% - -------------------------------------------------------------------------------- Return After Taxes on Distributions 7.94 7.52 8.53 - -------------------------------------------------------------------------------- Return After Taxes on Distributions and Sale of Fund Shares 8.15 6.99 8.16 - -------------------------------------------------------------------------------- VANGUARD EXPLORER FUND ADMIRAL SHARES/1/ - -------------------------------------------------------------------------------- Return Before Taxes 9.88% 8.36% -- - -------------------------------------------------------------------------------- RUSSELL 2500 GROWTH INDEX (reflects no deduction for fees, expenses, or taxes) 12.26% 7.62% 7.11% - -------------------------------------------------------------------------------- 1 From the inception of the Fund's Admiral Shares on November 12, 2001, through December 31, 2006, the average annual total returns were 10.59% for the Admiral Shares and 9.51% for the Russell 2500 Growth Index. NOTE ON AFTER-TAX RETURNS. Actual after-tax returns depend on your tax situation and may differ from those shown in the preceding table. When after-tax returns are calculated, it is assumed that the shareholder was in the highest federal marginal income tax bracket at the time of each distribution of income or capital gains or upon redemption. State and local income taxes are not reflected in the calculations. Please note that after-tax returns are shown only for the Investor Shares and differ among a fund's share classes only to the extent that expense ratios differ. After-tax returns are not relevant for a shareholder who holds fund shares in a tax-deferred account, such as an individual retirement account or a 401(k) plan. Also, figures captioned Return 2 After Taxes on Distributions and Sale of Fund Shares will be higher than other figures for the same period if a capital loss occurs upon redemption and results in an assumed tax deduction for the shareholder. FEES AND EXPENSES The following table describes the fees and expenses you may pay if you buy and hold Investor Shares or Admiral Shares of the Fund. As is the case with all mutual funds, transaction costs incurred by the Fund for buying and selling securities are not reflected in the table. However, these costs are reflected in the investment performance figures included in this prospectus. The expenses shown under Annual Fund Operating Expenses are based on estimated amounts for the current fiscal year.
Shareholder Fees (Fees paid directly from your investment) Investor Shares Admiral Shares - ------------------------------------------------------------------------------------------------------------ Sales Charge (Load) Imposed on Purchases None None - ------------------------------------------------------------------------------------------------------------ Purchase Fee None None - ------------------------------------------------------------------------------------------------------------ Sales Charge (Load) Imposed on Reinvested Dividends None None - ------------------------------------------------------------------------------------------------------------ Redemption Fee None None - ------------------------------------------------------------------------------------------------------------ Account Service Fee (for fund account balances below $10,000) $20/Year /1/ -- - ------------------------------------------------------------------------------------------------------------ Annual Fund Operating Expenses (Expenses deducted from the Fund's assets) Investor Shares Admiral Shares - ------------------------------------------------------------------------------------------------------------ Management Expenses 0.42% 0.24% - ------------------------------------------------------------------------------------------------------------ 12b-1 Distribution Fee None None - ------------------------------------------------------------------------------------------------------------ Other Expenses 0.03% 0.03% - ------------------------------------------------------------------------------------------------------------ Total Annual Fund Operating Expenses 0.45% 0.27% - ------------------------------------------------------------------------------------------------------------ 1 If applicable, the account service fee will be assessed by redeeming fund shares in the amount of $20.
3 The following examples are intended to help you compare the cost of investing in the Fund's Investor Shares or Admiral Shares with the cost of investing in other mutual funds. They illustrate the hypothetical expenses that you would incur over various periods if you invest $10,000 in the Fund's shares. These examples assume that the shares provide a return of 5% a year and that operating expenses match our estimates. The results apply whether or not you redeem your investment at the end of the given period. 1 Year 3 Years 5 Years 10 Years - ---------------------------------------------------------- Investor Shares $46 $144 $252 $567 - ---------------------------------------------------------- Admiral Shares 28 87 152 343 - ---------------------------------------------------------- These examples should not be considered to represent actual expenses or performance from the past or for the future. Actual future expenses may be higher or lower than those shown. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT FUND EXPENSES All mutual funds have operating expenses. These expenses, which are deducted from a fund's gross income, are expressed as a percentage of the net assets of the fund. We expect Vanguard Explorer Fund's expense ratios in the current fiscal year to be as follows: for Investor Shares, 0.45%, or $4.50 per $1,000 of average net assets; for Admiral Shares, 0.27%, or $2.70 per $1,000 of average net assets. The average small-cap growth fund had expenses in 2006 of 1.64%, or $16.40 per $1,000 of average net assets (derived from data provided by Lipper Inc., which reports on the mutual fund industry). Management expenses, which are one part of operating expenses, include investment advisory fees as well as other costs of managing a fund--such as account maintenance, reporting, accounting, legal, and other administrative expenses. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- PLAIN TALK ABOUT COSTS OF INVESTING Costs are an important consideration in choosing a mutual fund. That's because you, as a shareholder, pay the costs of operating a fund, plus any transaction costs incurred when the fund buys or sells securities. These costs can erode a substantial portion of the gross income or the capital appreciation a fund achieves. Even seemingly small differences in expenses can, over time, have a dramatic effect on a fund's performance. - ------------------------------------------------------------------------------- 4
Additional Information As of April 30, 2007 - ------------------------------------------------------------------------------------------------ Net Assets (all share classes) $12.4 billion - ------------------------------------------------------------------------------------------------ Investment Advisors .AXA Rosenberg Investment Management LLC, Orinda, Calif., since 2007 .Chartwell Investment Partners, L.P., Berwyn, Pa., since 1997 .Granahan Investment Management, Inc., Waltham, Mass., since 1990 .Grantham, Mayo, Van Otterloo & Co. LLC, Boston, Mass., since 2000 .Kalmar Investment Advisers, Wilmington, Del., since 2005 .Wellington Management Company, LLP, Boston, Mass., since inception .The Vanguard Group, Inc., Valley Forge, Pa., since 1997 - ------------------------------------------------------------------------------------------------ Dividends and Capital Gains Distributed annually in December - ------------------------------------------------------------------------------------------------ Suitable for IRAs Yes - ------------------------------------------------------------------------------------------------ Investor Shares Admiral Shares - ------------------------------------------------------------------------------------------------ Inception Date December 11, 1967 November 12, 2001 - ------------------------------------------------------------------------------------------------ Minimum Initial Investment $3,000 $100,000 - ------------------------------------------------------------------------------------------------ Conversion Features May be converted to Admiral May be converted to Investor Shares if you meet eligibility shares if you are no longer requirements eligible for Admiral Shares - ------------------------------------------------------------------------------------------------ Newspaper Abbreviation Explr ExplrAdml - ------------------------------------------------------------------------------------------------ Vanguard Fund Number 24 5024 - ------------------------------------------------------------------------------------------------ Cusip Number 921926101 921926200 - ------------------------------------------------------------------------------------------------ Ticker Symbol VEXPX VEXRX - ------------------------------------------------------------------------------------------------
5 More on the Fund This prospectus describes the primary risks you would face as a Fund shareholder. It is important to keep in mind one of the main axioms of investing: The higher the risk of losing money, the higher the potential reward. The reverse, also, is generally true: The lower the risk, the lower the potential reward. As you consider an investment in any mutual fund, you should take into account your personal tolerance for fluctuations in the securities markets. Look for this [FLAG] symbol throughout the prospectus. It is used to mark detailed information about the more significant risks that you would confront as a Fund shareholder. The following sections explain the primary investment strategies and policies that the Fund uses in pursuit of its objective. The Fund's board of trustees, which oversees the Fund's management, may change investment strategies or policies in the interest of shareholders without a shareholder vote, unless those strategies or policies are designated as fundamental. MARKET EXPOSURE The Fund focuses on companies that are considered small-cap by the Fund's advisors. Stocks of publicly traded companies and funds that invest in stocks are often classified according to market value, or market capitalization. These classifications typically include small-cap, mid-cap, and large-cap. It's important to understand that, for both companies and stock funds, market-capitalization ranges change over time. Also, interpretations of size vary, and there are no "official" definitions of small-, mid-, and large-cap, even among Vanguard fund advisors. The asset-weighted median market capitalization of the Fund as of April 30, 2007, was $2.7 billion. Small-cap stocks tend to have greater volatility than large-cap stocks because, among other things, smaller companies often have fewer customers, financial resources, and products than larger firms. Such characteristics can make small-cap companies more sensitive to changing economic conditions. In addition, these companies typically provide little or no dividend income. [FLAG] The Fund is subject to stock market risk, which is the chance that stock prices overall will decline. Stock markets tend to move in cycles, with periods of rising prices and periods of falling prices. To illustrate the volatility of stock prices, the following table shows the best, worst, and average annual total returns for the U.S. stock market over various periods as measured by the Standard & Poor's 500 Index, a widely used barometer of market activity. (Total returns consist of dividend income plus change in market price.) Note that the returns shown do not include the costs of buying and selling stocks or other expenses that a real-world investment portfolio would incur. 6 U.S. Stock Market Returns (1926-2006) 1 Year 5 Years 10 Years 20 Years - ------------------------------------------------------------ Best 54.2% 28.6% 19.9% 17.8% - ------------------------------------------------------------ Worst -43.1 -12.4 -0.8 3.1 - ------------------------------------------------------------ Average 12.3 10.4 11.1 11.4 - ------------------------------------------------------------ The table covers all of the 1-, 5-, 10-, and 20-year periods from 1926 through 2006. You can see, for example, that although the average return on common stocks for all of the 5-year periods was 10.4%, average returns for individual 5-year periods ranged from -12.4% (from 1928 through 1932) to 28.6% (from 1995 through 1999). These average returns reflect past performance of common stocks; you should not regard them as an indication of future performance of either the stock market as a whole or the Fund in particular. Keep in mind that the Fund focuses on the stocks of smaller companies. Historically, small-cap stocks have been more volatile than--and at times have performed quite differently from--the large-cap stocks found in the S&P 500 Index. This volatility is due to several factors, including less-certain growth and dividend prospects for smaller companies. [FLAG] The Fund is subject to investment style risk, which is the chance that returns from small-capitalization growth stocks will trail returns from the overall stock market. Historically, small-cap stocks have been more volatile in price than the large-cap stocks that dominate the overall market, and they often perform quite differently. 7 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT GROWTH FUNDS AND VALUE FUNDS Growth investing and value investing are two styles employed by stock-fund managers. Growth funds generally focus on stocks of companies believed to have above-average potential for growth in revenue, earnings, cash flow, or other similar criteria. These stocks typically have low dividend yields and above-average prices in relation to such measures as earnings and book value. Value funds typically emphasize stocks whose prices are below average in relation to those measures; these stocks often have above-average dividend yields. Growth and value stocks have historically produced similar long-term returns, though each category has periods when it outperforms the other. - ------------------------------------------------------------------------------- SECURITY SELECTION The Fund uses multiple investment advisors. Each advisor independently selects and maintains a portfolio of common stocks for the Fund. These advisors employ active investment management methods, which means that securities are bought and sold according to the advisors' evaluations of companies and their financial prospects, the prices of the securities, and the stock market and the economy in general. Each advisor will sell a security when it is no longer as attractive as an alternative investment. Each advisor uses a different process to select securities for its portion of the Fund's assets; however, each is committed to buying stocks of small companies that, in the advisor's opinion, have strong growth potential. Granahan Investment Management, Inc. (Granahan), which manages approximately 21% of the Fund's assets, groups securities into three categories as part of its selection process. The first category, "core growth," emphasizes companies that have a well-known or established product or service and, as a result, have a proven record of growth and a strong market position. The second category, "pioneers," is made up of companies that offer unique products or services, technologies that may lead to new products, or expansion into new markets. Granahan judges "pioneer" stocks based on their estimated growth potential compared with market value. The third category, "special situation," includes companies that lack a record of strong growth but that, in Granahan's view, are both undervalued in the market and likely to grow in the next few years. "Core growth" stocks generally make up 35% to 70% of the advisor's share of Fund assets, with the other two categories generally at 10% to 35% each. Grantham, Mayo, Van Otterloo & Co. LLC (GMO), which manages approximately 16% of the Fund's assets, uses computerized models to select the most attractive small-cap growth stocks according to several criteria, including earnings revision, which 8 selects companies that are likely to experience positive earnings surprises; intrinsic value, which seeks out high-quality growth companies that are selling below their intrinsic value; and finally, recent price trends. This quantitative investment method is expected to result in a portfolio that is broadly diversified among small-cap stocks. GMO seeks to maintain reasonable liquidity by limiting positions in individual issues. Wellington Management Company, LLP (Wellington Management), which manages approximately 13% of the Fund's assets, uses research and analysis of individual companies to select stocks that the advisor feels have exceptional growth potential relative to their valuations in the marketplace. Wellington Management considers each stock individually before purchase, and continually monitors developments at these companies for comparison with the advisor's expectations for growth. To help limit risk, the portfolio is broadly diversified both by number of stocks and by exposure to a range of industries. AXA Rosenberg Investment Management LLC (AXA Rosenberg), which manages approximately 12% of the Fund's assets, constructs a portfolio of common stocks based on fundamental analysis using a two-part quantitative model: a valuation model and an earnings forecast model. The valuation model seeks to identify the fair value of a stock using a sum-of-the-parts technique. The sum of a company's parts is then compared to the current stock price to determine whether the stock appears to be under- or overvalued by the market. The earnings forecast model seeks to identify companies that are expected to have superior, year-ahead earnings. A mix of fundamental indicators (e.g., profitability measures) and indicators from market participants (e.g., analyst forecasts) is combined to generate a forecast of next year's earnings for a company. The output of the two models is combined to form a single predicted return for each company that AXA Rosenberg covers. The predicted returns are fed into a risk model that maximizes the portfolio's expected return while minimizing common factor differences versus the benchmark index. Each stock is compared with its next-best alternative, taking into account round-trip trading costs. AXA Rosenberg optimizes its portfolio against the Russell 2500 Growth Index, the benchmark for the Fund. Kalmar Investment Advisers (Kalmar), which manages approximately 9% of the Fund's assets, is a research-driven investment firm that is entirely focused on the management of "growth-with-value" smaller-cap equity portfolios. Kalmar believes that there is a high-reward and low-risk anomaly offered by the equity market in the stocks of solid, well-managed, rapidly growing smaller companies that are not fully on the radar screen of most institutional growth managers. Through independent fundamental research, Kalmar attempts to discover such companies, buy them at undervalued levels, and own them for the longer term. Kalmar searches for companies that it believes have the following characteristics: strong products, 9 strong balance sheets, attractive financial returns, conservative accounting, and superior management with the ability to deliver positive results. Chartwell Investment Partners, L.P. (Chartwell), which manages approximately 8% of the Fund's assets, uses a research-driven process to choose stocks judged to have exceptional growth potential and reasonable prices. After considering each stock individually before purchase, Chartwell constantly monitors the characteristics of its holdings as a group by using computerized techniques. The Vanguard Group (Vanguard), which manages approximately 18% of the Fund's assets, constructs a broadly diversified portfolio of small-cap domestic growth stocks based on its assessment of the relative return potential of the underlying securities. The advisor selects securities that it believes offer a good balance between reasonable valuations and attractive earnings growth prospects relative to their small-cap domestic growth peers. Vanguard implements its stock selection process through the use of proprietary software programs that compare thousands of securities at a time. In addition, Vanguard manages approximately 3% of the Fund's assets by investing in stock index futures and/or shares of exchange-traded funds. For more details, see "Other Investment Policies and Risks." The Fund is generally managed without regard to tax ramifications. [FLAG] The Fund is subject to manager risk, which is the chance that poor security selection will cause the Fund to underperform relevant benchmarks or other funds with a similar investment objective. OTHER INVESTMENT POLICIES AND RISKS Besides investing in common stocks of growth companies, the Fund may make other kinds of investments to achieve its objective. Although the Fund typically does not make significant investments in foreign securities, it reserves the right to invest up to 25% of its assets this way. Foreign securities may be traded on U.S. or foreign markets. To the extent that it owns foreign securities, the Fund is subject to (1) country risk, which is the chance that domestic events--such as political upheaval, financial troubles, or natural disasters--will weaken a country's securities markets; and (2) currency risk, which is the chance that the value of a foreign investment, measured in U.S. dollars, will decrease because of unfavorable changes in currency exchange rates. The Fund may invest up to 15% of its net assets in restricted securities with limited marketability or in other illiquid securities. The Fund may invest, to a limited extent, in derivatives. Generally speaking, a derivative is a financial contract whose value is based on the value of a financial asset 10 (such as a stock, bond, or currency), a physical asset (such as gold), or a market index (such as the S&P 500 Index). Investments in derivatives may subject the Fund to risks different from, and possibly greater than, those of the underlying securities, assets, or market indexes. The Fund will not use derivatives for speculation or for the purpose of leveraging (magnifying) investment returns. The Fund may enter into forward foreign currency exchange contracts, which are types of derivative contracts. A forward foreign currency exchange contract is an agreement to buy or sell a country's currency at a specific price on a specific date, usually 30, 60, or 90 days in the future. In other words, the contract guarantees an exchange rate on a given date. Managers of funds that invest in foreign securities use these contracts to guard against sudden, unfavorable changes in the U.S. dollar/ foreign currency exchange rates. These contracts, however, will not prevent the Fund's securities from falling in value during foreign market downswings. Vanguard typically invests a small portion of the Fund's assets in stock index futures and/or shares of exchange-traded funds (ETFs), including ETF Shares issued by Vanguard stock index funds. Stock index futures and ETFs provide returns similar to those of common stocks. Vanguard may purchase futures or ETFs when doing so will reduce the Fund's transaction costs or add value because the instruments are favorably priced. Vanguard receives no additional revenue from investing Fund assets in ETF Shares of other Vanguard funds. Fund assets invested in ETF Shares are excluded when allocating to the Fund its share of the costs of Vanguard operations. - -------------------------------------------------------------------------------- PLAIN TALK ABOUT DERIVATIVES Derivatives can take many forms. Some forms of derivatives, such as exchange-traded futures and options on securities, commodities, or indexes, have been trading on regulated exchanges for decades. These types of derivatives are standardized contracts that can easily be bought and sold, and whose market values are determined and published daily. Nonstandardized derivatives (such as swap agreements), on the other hand, tend to be more specialized or complex, and may be harder to value. - -------------------------------------------------------------------------------- 11 CASH MANAGEMENT The Fund's daily cash balance may be invested in one or more Vanguard CMT Funds, which are very low-cost money market funds. When investing in a Vanguard CMT Fund, the Fund bears its proportionate share of the at-cost expenses of the CMT Fund in which it invests. TEMPORARY INVESTMENT MEASURES The Fund may temporarily depart from its normal investment policies--for instance, by allocating substantial assets to cash investments--in response to extraordinary market, economic, political, or other conditions. In doing so, the Fund may succeed in avoiding losses, but may otherwise fail to achieve its investment objective. FREQUENT TRADING OR MARKET-TIMING Background. Some investors try to profit from strategies involving frequent trading of mutual fund shares, such as market-timing. For funds holding foreign securities, investors may try to take advantage of an anticipated difference between the price of the fund's shares and price movements in overseas markets, a practice also known as time-zone arbitrage. Investors also may try to engage in frequent trading of funds holding investments such as small-cap stocks and high-yield bonds. As money is shifted into and out of a fund by a shareholder engaging in frequent trading, a fund incurs costs for buying and selling securities, resulting in increased brokerage and administrative costs. These costs are borne by all fund shareholders, including the long-term investors who do not generate the costs. In addition, frequent trading may interfere with an advisor's ability to efficiently manage the fund. Policies to Address Frequent Trading. The Vanguard funds (other than money market funds, short-term bond funds, and Vanguard ETF(TM) Shares) do not knowingly accommodate frequent trading. The board of trustees of each Vanguard fund has adopted policies and procedures reasonably designed to detect and discourage frequent trading and, in some cases, to compensate the fund for the costs associated with it. Although there is no assurance that Vanguard will be able to detect or prevent frequent trading or market-timing in all circumstances, the following policies have been adopted to address these issues: .. Each Vanguard fund reserves the right to reject any purchase request--including exchanges from other Vanguard funds--without notice and regardless of size. For example, a purchase request could be rejected if Vanguard determines that such purchase may negatively affect a fund's operation or performance or because of a history of frequent trading by the investor. .. Each Vanguard fund (other than money market funds, short-term bond funds, and ETF Shares) generally prohibits, except as otherwise noted in the Investing With 12 Vanguard section, an investor's purchases or exchanges into a fund account for 60 calendar days after the investor has redeemed or exchanged out of that fund account. .. Certain Vanguard funds charge shareholders purchase and/or redemption fees on transactions. See the Investing With Vanguard section of this prospectus for further details on Vanguard's transaction policies. Each fund (other than money market funds), in determining its net asset value, will use fair-value pricing as described in the Share Price section. Fair-value pricing may reduce or eliminate the profitability of certain frequent-trading strategies. Do not invest with Vanguard if you are a market-timer. TURNOVER RATE Although the Fund normally seeks to invest for the long term, it may sell securities regardless of how long they have been held. The Financial Highlights section of this prospectus shows historical turnover rates for the Fund. A turnover rate of 100%, for example, would mean that the Fund had sold and replaced securities valued at 100% of its net assets within a one-year period. The average turnover rate for small growth funds was approximately 120%, as reported by Morningstar, Inc., on October 31, 2006. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT TURNOVER RATE Before investing in a mutual fund, you should review its turnover rate. This gives an indication of how transaction costs, which are not included in the fund's expense ratio, could affect the fund's future returns. In general, the greater the volume of buying and selling by the fund, the greater the impact that brokerage commissions and other transaction costs will have on its return. Also, funds with high turnover rates may be more likely to generate capital gains that must be distributed to shareholders as taxable income. - ------------------------------------------------------------------------------- 13 THE FUND AND VANGUARD The Fund is a member of The Vanguard Group, a family of 36 investment companies with more than 140 funds holding assets in excess of $1 trillion. All of the funds that are members of The Vanguard Group share in the expenses associated with administrative services and business operations, such as personnel, office space, equipment, and advertising. Vanguard also provides marketing services to the funds. Although shareholders do not pay sales commissions or 12b-1 distribution fees, each fund (or in the case of a fund with multiple share classes, each share class of the fund) pays its allocated share of The Vanguard Group's marketing costs. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT VANGUARD'S UNIQUE CORPORATE STRUCTURE The Vanguard Group is truly a mutual mutual fund company. It is owned jointly by the funds it oversees and thus indirectly by the shareholders in those funds. Most other mutual funds are operated by management companies that may be owned by one person, by a group of individuals, or by investors who own the management company's stock. The management fees charged by these companies include a profit component over and above the companies' cost of providing services. By contrast, Vanguard provides services to its member funds on an at-cost basis, with no profit component, which helps to keep the funds' expenses low. - ------------------------------------------------------------------------------- 14 INVESTMENT ADVISORS The Fund uses a multimanager approach. Each advisor independently manages its assigned portion of the Fund's assets, subject to the supervision and oversight of Vanguard and the board of trustees. The Fund's board of trustees designates the proportion of Fund assets to be managed by each advisor and may change these proportions at any time. .. Granahan Investment Management, Inc., 275 Wyman Street, Waltham, MA 02451, is an investment advisory firm founded in 1985. As of March 31, 2007, Granahan managed approximately $4 billion in assets. .. Grantham, Mayo, Van Otterloo & Co. LLC, 40 Rowes Wharf, Boston, MA 02110, is an investment advisory firm founded in 1977. As of March 31, 2007, GMO managed approximately $144 billion in assets. .. Wellington Management Company, LLP, 75 State Street, Boston, MA 02109, is an investment advisory firm founded in 1928. As of March 31, 2007, Wellington Management managed approximately $573 billion in assets. .. AXA Rosenberg Investment Management LLC, 4 Orinda Way, Building E, Orinda, CA 94563, is an investment advisory firm founded in 1985. As of April 30, 2007, AXA Rosenberg managed approximately $120 billion in assets. .. Kalmar Investment Advisers, Barley Mill House, 3701 Kennett Pike, Wilmington, DE 19807, is an investment advisory firm founded in 1996. As of March 31, 2007, Kalmar, together with its parent company, Kalmar Investments Inc., founded in 1982, managed approximately $2.6 billion in small-cap and small-/mid-cap assets. .. Chartwell Investment Partners, L.P., 1235 Westlakes Drive, Suite 400, Berwyn, PA 19312, is an investment advisory firm founded in 1997. As of March 31, 2007, Chartwell managed approximately $5.4 billion in assets. .. The Vanguard Group, Inc., P.O. Box 2600, Valley Forge, PA 19482, which began operations in 1975, serves as advisor to the Fund through its Quantitative Equity Group. As of March 31, 2007, Vanguard served as advisor for approximately $895 billion in assets. The Fund pays six of its investment advisors--Granahan, GMO, Wellington Management, AXA Rosenberg, Kalmar, and Chartwell--on a quarterly basis. For each advisor, the quarterly fee is based on certain annual percentage rates applied to average net assets managed by the advisor over the period. In addition, the quarterly fees paid to each advisor are increased or decreased based on the advisor's performance compared with that of a benchmark index. For these purposes, the cumulative total return of each advisor's portion of the Fund over a trailing 36-month period is compared with that of the Russell 2500 Growth Index over part of the same period. 15 Vanguard's performance is also evaluated against the Russell 2500 Growth Index. Vanguard provides services to the Fund on an at-cost basis. For the fiscal year ended October 31, 2006, the advisory fees and expenses represented an effective annual rate of 0.17% of the Fund's average net assets, before a performance-based decrease of 0.03%. For the six-month period ended April 30, 2007, the advisory fees and expenses represented an effective-annual rate of 0.17% of the Fund's average net assets, before a performance-based decrease of 0.04%. Under the terms of an SEC exemption, the Fund's board of trustees may, without prior approval from shareholders, change the terms of an advisory agreement or hire a new investment advisor--either as a replacement for an existing advisor or as an additional advisor. Any significant change in the Fund's advisory arrangements will be communicated to shareholders in writing. As the Fund's sponsor and overall manager, The Vanguard Group may provide additional investment advisory services to the Fund, on an at-cost basis, at any time. Vanguard may also recommend to the board of trustees that an advisor be hired, terminated, or replaced, or that the terms of an existing advisory agreement be revised. For a discussion of why the board of trustees approved the Fund's investment advisory arrangements, see the semiannual report to shareholders covering the Fund's most recent fiscal period, which ended on April 30. George U. Sauter is Chief Investment Officer and Managing Director of Vanguard. As Chief Investment Officer, he is responsible for the oversight of Vanguard's Quantitative Equity and Fixed Income Groups. The investments managed by these two groups include active quantitative equity funds, equity index funds, active bond funds, index bond funds, stable value portfolios, and money market funds. Since joining Vanguard in 1987, Mr. Sauter has been a key contributor to the development of Vanguard's stock indexing and active quantitative equity investment strategies. He received his A.B. in Economics from Dartmouth College and an M.B.A. in Finance from the University of Chicago. Joel M. Dickson, Ph.D., is head of Active Quantitative Equity Management and Principal of Vanguard. He has direct oversight responsibility for all active quantitative equity portfolios managed by Vanguard's Quantitative Equity Group. He has been with Vanguard since 1996 and has managed investment portfolios since 2003. He received his A.B. in Economics from Washington University in St. Louis and a Ph.D. in Economics from Stanford University. 16 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT THE FUND'S PORTFOLIO MANAGERS The managers primarily responsible for the day-to-day management of the Fund are: John J. Granahan, CFA, Founder and President of Granahan. He has worked in investment management since 1960; has been with Granahan since 1985; and has managed a portion of the Fund since 1990. Education: B.A., St. Joseph's University; Graduate Fellow of Catholic University of America. Sam Wilderman, CFA, Partner and Director of the U.S. Quantitative Equity Division at GMO. He has worked in investment management for GMO since 1996 and has managed a portion of the Fund since 2006. Education: B.A., Yale University. Kenneth L. Abrams, Senior Vice President, Partner, and Equity Portfolio Manager at Wellington Management. He has worked in investment management with Wellington Management since 1986 and has managed a portion of the Fund since 1994. Education: B.A. and M.B.A., Stanford University. William E. Ricks, Americas Chief Executive and Chief Investment Officer at AXA Rosenberg. He has worked in investment management with AXA Rosenberg since 1989 and has managed a portion of the Fund since June 2007. Education: B.S., University of New Orleans; Ph.D., University of California, Berkeley. Ford B. Draper, Jr., President, Chief Investment Officer, and Founder of Kalmar. He has worked in investment management since 1967; founded Kalmar Investments Inc., the parent company of Kalmar, in 1982; and has managed a portion of the Fund since 2005. Education: B.A., Yale University; M.B.A., Columbia University. Edward N. Antoian, CFA, CPA, Managing Partner at Chartwell. He has managed equity funds since 1984 and has co-managed a portion of the Fund since 1997. Education: B.S., State University of New York; M.B.A., University of Pennsylvania. John Heffern, Managing Partner at Chartwell. He has worked in investment management since 1988, has been with Chartwell since 2005, and has co-managed a portion of the Fund since 2006. Education: B.S. and M.B.A., University of North Carolina at Chapel Hill. James D. Troyer, CFA, Principal of Vanguard. He has worked in investment management since 1979; has been with Vanguard since 1989; and has managed a portion of the Fund since 2006. Education: A.B., Occidental College. - ------------------------------------------------------------------------------- 17 The Statement of Additional Information provides information about each portfolio manager's compensation, other accounts under management, and ownership of securities in the Fund. DIVIDENDS, CAPITAL GAINS, AND TAXES FUND DISTRIBUTIONS The Fund distributes to shareholders virtually all of its net income (interest and dividends, less expenses) as well as any net capital gains realized from the sale of its holdings. Distributions generally occur annually in December. You can receive distributions of income or capital gains in cash, or you can have them automatically reinvested in more shares of the Fund. - ------------------------------------------------------------------------------- Plain Talk About Distributions As a shareholder, you are entitled to your portion of a fund's income from interest and dividends as well as gains from the sale of investments. Income consists of both the dividends that the fund earns from any stock holdings and the interest it receives from any money market and bond investments. Capital gains are realized whenever the fund sells securities for higher prices than it paid for them. These capital gains are either short-term or long-term, depending on whether the fund held the securities for one year or less or for more than one year. You receive the fund's earnings as either a dividend or capital gains distribution. - ------------------------------------------------------------------------------- BASIC TAX POINTS Vanguard will send you a statement each year showing the tax status of all your distributions. In addition, investors in taxable accounts should be aware of the following basic tax points: .. Distributions are taxable to you for federal income tax purposes, whether or not you reinvest these amounts in additional Fund shares. .. Distributions declared in December--if paid to you by the end of January--are taxable for federal income tax purposes as if received in December. .. Any dividend and short-term capital gains distributions that you receive are taxable to you as ordinary income for federal income tax purposes. If you are an individual and meet certain holding-period requirements with respect to your Fund shares, you may be eligible for reduced federal tax rates on "qualified dividend income," if any, distributed by the Fund. .. Any distributions of net long-term capital gains are taxable to you as long-term capital gains for federal income tax purposes, no matter how long you've owned shares in the Fund. 18 .. Capital gains distributions may vary considerably from year to year as a result of the Fund's normal investment activities and cash flows. .. A sale or exchange of Fund shares is a taxable event. This means that you may have a capital gain to report as income, or a capital loss to report as a deduction, when you complete your federal income tax return. .. Dividend and capital gains distributions that you receive, as well as your gains or losses from any sale or exchange of Fund shares, may be subject to state and local income taxes. .. Any conversion between classes of shares of the same fund is a nontaxable event. By contrast, an exchange between classes of shares of different funds is a taxable event. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT "BUYING A DIVIDEND" Unless you are investing through a tax-deferred retirement account (such as an IRA), you should consider avoiding a purchase of fund shares shortly before the fund makes a distribution, because doing so can cost you money in taxes. This is known as "buying a dividend." For example: On December 15, you invest $5,000, buying 250 shares for $20 each. If the fund pays a distribution of $1 per share on December 16, its share price will drop to $19 (not counting market change). You still have only $5,000 (250 shares x $19 = $4,750 in share value, plus 250 shares x $1 = $250 in distributions), but you owe tax on the $250 distribution you received--even if you reinvest it in more shares. To avoid "buying a dividend," check a fund's distribution schedule before you invest. - ------------------------------------------------------------------------------- GENERAL INFORMATION Backup withholding. By law, Vanguard must withhold 28% of any taxable distributions or redemptions from your account if you do not: .. Provide us with your correct taxpayer identification number; .. Certify that the taxpayer identification number is correct; and .. Confirm that you are not subject to backup withholding. Similarly, Vanguard must withhold taxes from your account if the IRS instructs us to do so. Foreign investors. Vanguard funds generally are not sold outside the United States, except to certain qualified investors. If you reside outside the United States, please consult our website at www.vanguard.com and review "Non-U.S. investors." Foreign investors should be aware that U.S. withholding and estate taxes may apply to any investments in Vanguard funds. 19 Invalid addresses. If a dividend or capital gains distribution check mailed to your address of record is returned as undeliverable, Vanguard will automatically reinvest all future distributions until you provide us with a valid mailing address. Tax consequences. This prospectus provides general tax information only. If you are investing through a tax-deferred retirement account, such as an IRA, special tax rules apply. Please consult your tax advisor for detailed information about a fund's tax consequences for you. SHARE PRICE The Fund's share price, called its net asset value, or NAV, is calculated each business day as of the close of regular trading on the New York Stock Exchange, generally 4 p.m., Eastern time. NAV per share is computed by dividing the net assets allocated to each share class by the number of Fund shares outstanding for that class. On holidays or other days when the Exchange is closed, the NAV is not calculated, and the Fund does not transact purchase or redemption requests. However, on those days the value of the Fund's assets may be affected to the extent that the Fund holds foreign securities that trade on foreign markets that are open. Stocks held by a Vanguard fund are valued at their market value when reliable market quotations are readily available. Certain short-term debt instruments used to manage a fund's cash are valued on the basis of amortized cost. The values of any foreign securities held by a fund are converted into U.S. dollars using an exchange rate obtained from an independent third party. The values of any mutual fund shares held by a fund are based on the NAVs of the underlying mutual funds (in the case of conventional share classes) or the market value of the shares (in the case of exchange-traded fund shares, such as ETF Shares). When reliable market quotations are not readily available, securities are priced at their fair value (the amount that the owner might reasonably expect to receive upon the current sale of a security). A fund also will use fair-value pricing if the value of a security it holds has been materially affected by events occurring before the fund's pricing time but after the close of the primary markets or exchanges on which the security is traded. This most commonly occurs with foreign securities, which may trade on foreign exchanges that close many hours before the fund's pricing time. Intervening events might be company-specific (e.g., earnings report, merger announcement); country-specific (e.g., natural disaster, economic or political news, act of terrorism, interest rate change); or global. Intervening events include price movements in U.S. markets that are deemed to affect the value of foreign securities. Although rare, fair-value pricing also may be used for domestic securities--for example, if (1) trading in a security is halted and does not resume before the fund's 20 pricing time or if a security does not trade in the course of a day, and (2) the fund holds enough of the security that its price could affect the fund's NAV. Fair-value prices are determined by Vanguard according to procedures adopted by the board of trustees. When fair-value pricing is employed, the prices of securities used by a fund to calculate its NAV may differ from quoted or published prices for the same securities. Vanguard fund share prices can be found daily in the mutual fund listings of most major newspapers under various "Vanguard" headings. FINANCIAL HIGHLIGHTS The following financial highlights tables are intended to help you understand the Fund's financial performance for the periods shown, and certain information reflects financial results for a single Fund share. The total returns in each table represent the rate that an investor would have earned or lost each period on an investment in the Fund (assuming reinvestment of all distributions). The information for the six-month period ended April 30, 2007, has not been audited by an independent registered public accounting firm. The information for all other periods in the table through October 31, 2006, has been derived from the financial statements audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, whose report--along with the Fund's financial statements--is included in the Fund's most recent annual report to shareholders. To receive a free copy of the latest annual or semiannual report, you may access a report online at www.vanguard.com, or you may contact Vanguard by telephone or by mail. 21 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT HOW TO READ THE FINANCIAL HIGHLIGHTS TABLES This explanation uses the Fund's Investor Shares as an example. The Investor Shares began the fiscal period ended April 30, 2007, with a net asset value (price) of $80.26 per share. During the period, each Investor Share earned $0.191 from investment income (interest and dividends) and $7.433 from investments that had appreciated in value or that were sold for higher prices than the Fund paid for them. Shareholders received $7.744 per share in the form of dividend and capital gains distributions. A portion of each year's distributions may come from the prior year's income or capital gains. The share price at the end of the period was $80.14, reflecting earnings of $7.624 per share and distributions of $7.744 per share. This was an decrease of $0.12 per share (from $80.26 at the beginning of the period to $80.14 at the end of the period). For a shareholder who reinvested the distributions in the purchase of more shares, the total return was 10.10% for the period. As of April 30, 2007, the Investor Shares had approximately $8.9 billion in net assets. For the period, the annualized expense ratio was 0.45% ($4.50 per $1,000 of net assets), and the annualized net investment income amounted to 0.45% of average net assets. The Fund sold and replaced securities valued at an annualized rate of 75% of its net assets. - ------------------------------------------------------------------------------- 22
EXPLORER FUND INVESTOR SHARES Six Months Ended Apr. 30, Year Ended October 31, ------------------------------------------------------------------ 2007 2006 2005 2004 2003 2002 - ----------------------------------------------------------------------------------------------------------------------------- Net Asset Value, Beginning of Period $80.26 $76.67 $67.01 $63.17 $44.60 $51.91 - ----------------------------------------------------------------------------------------------------------------------------- Investment Operations - ----------------------------------------------------------------------------------------------------------------------------- Net Investment Income (Loss) .191 .302 .111 (.05) (.012) (.005) - ----------------------------------------------------------------------------------------------------------------------------- Net Realized and Unrealized Gain (Loss) 7.433 9.724 9.622 3.89 18.587 (7.200) on Investments - ----------------------------------------------------------------------------------------------------------------------------- Total from Investment Operations 7.624 10.026 9.733 3.84 18.575 (7.205) - ----------------------------------------------------------------------------------------------------------------------------- Distributions - ----------------------------------------------------------------------------------------------------------------------------- Dividends from Net Investment Income (.320) (.230) -- -- (.005) (.105) - ----------------------------------------------------------------------------------------------------------------------------- Distributions from Realized Capital Gains (7.424) (6.206) (.073) -- -- -- - ----------------------------------------------------------------------------------------------------------------------------- Total Distributions (7.744) (6.436) (.073) -- (.005) (.105) - ----------------------------------------------------------------------------------------------------------------------------- Net Asset Value, End of Period $80.14 $80.26 $76.67 $67.01 $63.17 $44.60 - ----------------------------------------------------------------------------------------------------------------------------- Total Return 10.10% 13.59% 14.53% 6.08% 41.65% -13.93% - ----------------------------------------------------------------------------------------------------------------------------- Ratios/Supplemental Data - ----------------------------------------------------------------------------------------------------------------------------- Net Assets, End of Period (Millions) $8,913 $8,517 $7,836 $7,302 $5,662 $3,432 - ----------------------------------------------------------------------------------------------------------------------------- Ratio of Total Expenses to Average 0.45%/2/ 0.46% 0.51% 0.57% 0.72% 0.70% Net Assets/1/ - ----------------------------------------------------------------------------------------------------------------------------- Ratio of Net Investment Income (Loss) to 0.45%/2/ 0.36% 0.16% (0.11%) (0.08%) (0.01%) Average Net Assets - ----------------------------------------------------------------------------------------------------------------------------- Turnover Rate 75%/2/ 96% 80% 82% 77% 69% - ----------------------------------------------------------------------------------------------------------------------------- 1 Includes performance-based investment advisory fee increases (decreases) of (0.04%), (0.03%), (0.01%), 0.02%, 0.07%, and 0.07%. 2 Annualized.
23
EXPLORER FUND ADMIRAL SHARES Six Nov. 12, Months 2001 /1/ Ended to Apr. 30, Year Ended Oct. 31, Oct. 31, ---------------------------------------------------- 2007 2006 2005 2004 2003 2002 - -------------------------------------------------------------------------------------------------------------------------------- Net Asset Value, Beginning of Period $74.82 $71.47 $62.37 $58.71 $41.43 $50.00 - -------------------------------------------------------------------------------------------------------------------------------- Investment Operations - -------------------------------------------------------------------------------------------------------------------------------- Net Investment Income .246 .422 .215 .04 .064 .035 - -------------------------------------------------------------------------------------------------------------------------------- Net Realized and Unrealized Gain (Loss) 6.931 9.050 8.953 3.62 17.259 (8.498) on Investments - -------------------------------------------------------------------------------------------------------------------------------- Total from Investment Operations 7.177 9.472 9.168 3.66 17.323 (8.463) - -------------------------------------------------------------------------------------------------------------------------------- Distributions - -------------------------------------------------------------------------------------------------------------------------------- Dividends from Net Investment Income (.437) (.346) -- -- (.043) (.107) - -------------------------------------------------------------------------------------------------------------------------------- Distributions from Realized Capital Gains (6.910) (5.776) (.068) -- -- -- - -------------------------------------------------------------------------------------------------------------------------------- Total Distributions (7.347) (6.122) (.068) -- (.043) (.107) - -------------------------------------------------------------------------------------------------------------------------------- Net Asset Value, End of Period $74.65 $74.82 $71.47 $62.37 $58.71 $41.43 - -------------------------------------------------------------------------------------------------------------------------------- Total Return 10.21% 13.79% 14.70% 6.23% 41.85% -16.98% - -------------------------------------------------------------------------------------------------------------------------------- Ratios/Supplemental Data - -------------------------------------------------------------------------------------------------------------------------------- Net Assets, End of Period (Millions) $3,474 $3,264 $2,402 $1,161 $721 $293 - -------------------------------------------------------------------------------------------------------------------------------- Ratio of Total Expenses to Average 0.27%/3/ 0.28% 0.34% 0.43% 0.57% 0.61%/3/ Net Assets/2/ - -------------------------------------------------------------------------------------------------------------------------------- Ratio of Net Investment Income to Average 0.63%/3/ 0.54% 0.33% 0.04% 0.05% 0.13%/3/ Net Assets - -------------------------------------------------------------------------------------------------------------------------------- Turnover Rate 75%/3/ 96% 80% 82% 77% 69% - -------------------------------------------------------------------------------------------------------------------------------- 1 Inception. 2 Includes performance-based investment advisory fee increases (decreases) of (0.04%), (0.03%), (0.01%), 0.02%, 0.07%, and 0.07%. 3 Annualized.
24 INVESTING WITH VANGUARD This section of the prospectus explains the basics of doing business with Vanguard. Be sure to carefully read each topic that pertains to your relationship with Vanguard. Vanguard reserves the right to change the following policies, without prior notice to shareholders. Purchasing Shares Account Minimums for Investor Shares To open and maintain an account. $3,000. To add to an existing account. $50 by Automatic Investment Plan; $100 by check, exchange, wire, or electronic bank transfer (other than Automatic Investment Plan). Vanguard reserves the right, without prior notice, to increase or decrease the minimum amount required to open or maintain a fund account, or to add to an existing fund account. Investment minimums may differ for certain categories of investors. Account Minimums for Admiral Shares To open and maintain an account. $100,000 for new investors. Shareholders who are registered on Vanguard.com, have held shares of the Fund for ten years, and have $50,000 or more in the same Fund account are eligible to convert their Investor Shares into Admiral Shares. See Converting Shares. Institutional clients should contact Vanguard for information on special rules that may apply to them. To add to an existing account. $50 by Automatic Investment Plan; $100 by check, exchange, wire, or electronic bank transfer (other than Automatic Investment Plan). Vanguard reserves the right, without prior notice, to increase or decrease the minimum amount required to open, convert shares to, or maintain a fund account, or to add to an existing fund account. Investment minimums may differ for certain categories of investors. How to Purchase Shares Be sure to check Exchanging Shares, Frequent-Trading Limits, and Other Rules You Should Know before initiating your request. Online transactions. You may open certain types of accounts, request an electronic bank transfer, and make an exchange (the purchase of shares in an open fund with the proceeds of a redemption from another fund) through our website at www.vanguard.com. 25 By telephone. You may call Vanguard to request a purchase of shares by wire, by electronic bank transfer, or by an exchange. You may also begin the account registration process or request that the forms be sent to you. See Contacting Vanguard. By mail. You may send your check and account registration form to open a new fund account at Vanguard. To add to an existing fund account, you may send your check with an Invest-by-Mail form (from your account statement) or with a deposit slip (available online). You may also send a written request to Vanguard to add to a fund account or to make an exchange. The request must be in good order. See How to Make a Purchase Request: By check. For a list of Vanguard addresses, see Contacting Vanguard. HOW TO MAKE A PURCHASE REQUEST By electronic bank transfer. To establish the electronic bank transfer option, you must designate a bank account online, complete a special form, or fill out the appropriate section of your account registration form. You can then purchase shares by electronic bank transfer on a regular schedule (Automatic Investment Plan) or whenever you wish. Your transaction can be initiated online, by telephone, or by mail if your request is in good order. By wire. Because wiring instructions vary for different types of purchases, please call Vanguard for instructions and policies on purchasing shares by wire. See Contacting Vanguard. By check. You may send a check to make initial or additional purchases to your fund account. Also see How to Purchase Shares: By mail. Make your check payable to: Vanguard--"Fund #__. " For a list of Fund numbers (for share classes in this prospectus), see Contacting Vanguard. TRADE DATES You buy shares at a fund's next-determined NAV after Vanguard receives your purchase request in good order, including any special required documentation. For example, if your request is received by Vanguard before the close of regular trading on the New York Stock Exchange (generally 4 p.m., Eastern time), your shares are purchased at that day's NAV. This is known as your trade date. For check and wire purchases into all funds other than money market funds, and for exchanges into all funds: A purchase request received by Vanguard before the close of regular trading on the New York Stock Exchange (generally 4 p.m., Eastern time) will have a trade date of the same day, and a purchase request received after that time will have a trade date of the first business day following the date of receipt. 26 For check purchases of money market funds only: A request received by Vanguard before the close of regular trading on the New York Stock Exchange (generally 4 p.m., Eastern time) will have a trade date of the first business day following the date of receipt. For a request received after that time, the trade date will be the second business day following the date of receipt. Because money market instruments must be purchased with federal funds and it takes a money market mutual fund one business day to convert check proceeds into federal funds, the trade date will always be one business day later than for other funds. For an electronic bank transfer by Automatic Investment Plan: Your trade date will be one business day before the date you designated for withdrawal from your bank account. For an electronic bank transfer (other than an Automatic Investment Plan purchase): A purchase request received by Vanguard on a business day before 10 p.m., Eastern time, will have a trade date of the following business day. For further information about purchase transactions, consult our website at www.vanguard.com or see Contacting Vanguard. Good order. The required information on your purchase request must be accurate and complete. See Other Rules You Should Know--Good Order. The requirements vary among types of accounts and transactions. Other Purchase Rules You Should Know Admiral Shares. Please note that Admiral Shares are not available for: .. SIMPLE IRAs and 403(b)(7) custodial accounts; .. Other retirement plan accounts receiving special administrative services from Vanguard; or .. Accounts maintained by financial intermediaries, except in limited circumstances. Check purchases. All purchase checks must be written in U.S. dollars and drawn on a U.S. bank. Vanguard does not accept cash, traveler's checks, or money orders. In addition, to protect the funds from fraud, Vanguard may refuse "starter checks" and checks that are not made payable to Vanguard. New accounts. We are required by law to obtain from you certain personal information that we will use to verify your identity. If you do not provide the information, we may not be able to open your account. If we are unable to verify your identity, Vanguard reserves the right, without prior notice, to close your account or take such other steps as we deem reasonable. 27 Purchase requests. Vanguard reserves the right to stop selling shares or to reject any purchase request at any time and without prior notice, including, but not limited to, purchases requested by exchange from another Vanguard fund. This also includes the right to reject any purchase request because of a history of frequent trading by the investor or because the purchase may negatively affect a fund's operation or performance. Large purchases. Please call Vanguard before attempting to invest a large dollar amount. No cancellations. Place your transaction requests carefully. Vanguard will not cancel any transaction request received by telephone or through Vanguard.com once it has been confirmed. In the case of written, wire, check, or automatic transaction requests, Vanguard will not cancel any transaction once it has been processed. CONVERTING SHARES A conversion between share classes of the same fund is a nontaxable event. A conversion request (other than a request to convert to ETF Shares) received in good order by Vanguard before the close of regular trading on the New York Stock Exchange (generally 4 p.m., Eastern time) will have a trade date of the same day, and a conversion request received after that time will have a trade date of the first business day following the date of receipt. See Other Rules You Should Know. (Please contact Vanguard for information on conversions into ETF Shares.) PRICING OF SHARE CLASS CONVERSIONS If you convert from one class of shares to another, the transaction will be based on the respective net asset values of the separate classes on the trade date for the conversion. Consequently, a conversion may provide you with fewer shares or more shares than you originally owned, depending on that day's net asset values. At the time of conversion, the total dollar value of your "old" shares will equal the total dollar value of your "new" shares. However, subsequent share price fluctuations may decrease or increase the total dollar value of your "new" shares compared with that of your "old" shares. Conversions From Investor Shares Into Admiral Shares Shares purchased before the issuance of Admiral Shares are considered Investor Shares. Self-directed conversions. You may convert Investor Shares into Admiral Shares at any time if your account balance in the Fund is at least $100,000. Registered users of Vanguard.com may request a conversion to Admiral Shares online, or you may contact Vanguard by telephone or by mail to request this transaction. See Contacting Vanguard. 28 Tenure conversions. You are eligible for a self-directed conversion from Investor Shares into Admiral Shares if you have had an account in the Fund for ten years, that account balance is at least $50,000, and you are registered with Vanguard.com. Registered users of Vanguard.com may request a tenure conversion online, or you may contact Vanguard by telephone or by mail to request this transaction. Automatic conversions. The Fund conducts periodic reviews of account balances and may convert an eligible account's Investor Shares into Admiral Shares. The Fund will notify the investor in writing before any automatic conversion into Admiral Shares. If you do not wish to convert to the lower-cost Admiral Shares, you may choose not to convert to them. Automatic conversions do not apply to accounts that qualify for Admiral Shares on the basis of tenure in the Fund. Mandatory Conversions Into Investor Shares If an investor no longer meets the requirements for Admiral Shares, the Fund may automatically convert the investor's Admiral Shares into Investor Shares. A decline in the investor's account balance because of market movement may result in such a conversion. The Fund will notify the investor in writing before any mandatory conversion into Investor Shares. REDEEMING SHARES How to Redeem Shares Be sure to check Exchanging Shares, Frequent-Trading Limits, and Other Rules You Should Know before initiating your request. ONLINE TRANSACTIONS. You may redeem shares, request an electronic bank transfer, and make an exchange (the purchase of shares with the proceeds of a redemption from another fund) through our website at www.vanguard.com. BY TELEPHONE. You may call Vanguard to request a redemption of shares by wire, by electronic bank transfer, by check, or by an exchange. See Contacting Vanguard. BY MAIL. You may send a written request to Vanguard to redeem from a fund account or to make an exchange. The request must be in good order. See Contacting Vanguard. How to Receive Redemption Proceeds By electronic bank transfer. To establish the electronic bank transfer option, you must designate a bank account online, complete a special form, or fill out the appropriate section of your account registration form. You can then redeem shares by electronic bank transfer on a regular schedule (Automatic Withdrawal Plan--$50 minimum) or whenever you wish ($100 minimum). Your transaction can be initiated online, by telephone, or by mail if your request is in good order. 29 BY WIRE. When redeeming from a money market fund or a bond fund, you may instruct Vanguard to wire your redemption proceeds ($1,000 minimum) to a previously designated bank account. Wire redemptions generally are not available for Vanguard's balanced or stock funds. The wire redemption option is not automatic; you must designate a bank account online, complete a special form, or fill out the appropriate section of your account registration form. Vanguard charges a $5 fee for wire redemptions under $5,000. BY CHECK. Vanguard will normally mail you a redemption check within two business days of your trade date. TRADE DATES You redeem shares at a fund's next-determined NAV after Vanguard receives your redemption request in good order, including any special required documentation. For example, if your request is received by Vanguard before the close of regular trading on the New York Stock Exchange (generally 4 p.m., Eastern time), your shares are redeemed at that day's NAV. This is known as your trade date. For check redemptions and exchanges from all funds: A request received by Vanguard before the close of regular trading on the New York Stock Exchange (generally 4 p.m., Eastern time) will have a trade date of the same day, and a request received after that time will have a trade date of the first business day following the date of receipt. For money market fund redemptions by wire: For telephone requests received by Vanguard before 10:45 a.m., Eastern time (2 p.m., Eastern time, for Vanguard Prime Money Market Fund), the redemption proceeds will leave Vanguard by the close of business that same day. For other requests received before 4 p.m., Eastern time, the redemption proceeds will leave Vanguard by the close of business on the following business day. For bond fund redemptions by wire: For requests received by Vanguard before 4 p.m., Eastern time, the redemption proceeds will leave Vanguard by the close of business on the following business day. For an electronic bank transfer by Automatic Withdrawal Plan: Proceeds of redeemed shares will be credited to your bank account two business days after your trade date. (The trade date is two business days prior to the date you designated for the proceeds to be in your bank account.) For an electronic bank transfer (other than an Automatic Withdrawal Plan redemption): A redemption request received by Vanguard before the close of regular trading on the New York Stock Exchange (generally 4 p.m., Eastern time) will have a 30 trade date of the same day, and a redemption request received after that time will have a trade date of the first business day following the date of receipt. For further information about redemption transactions, consult our website at www.vanguard.com or see Contacting Vanguard. GOOD ORDER. The required information on your redemption request must be accurate and complete. See Other Rules You Should Know--Good Order. The requirements vary among types of accounts and transactions. OTHER REDEMPTION RULES YOU SHOULD KNOW DOCUMENTATION FOR CERTAIN ACCOUNTS. Special documentation may be required to redeem from certain types of accounts, such as trust, corporate, nonprofit, or retirement accounts. Please call us before attempting to redeem from these types of accounts. POTENTIALLY DISRUPTIVE REDEMPTIONS. Vanguard reserves the right to pay all or part of a redemption in kind--that is, in the form of securities--if we reasonably believe that a cash redemption would negatively affect the fund's operation or performance or that the shareholder may be engaged in frequent trading. Under these circumstances, Vanguard also reserves the right to delay payment of the redemption proceeds for up to seven calendar days. By calling us before you attempt to redeem a large dollar amount, you may avoid in-kind or delayed payment of your redemption. Please see Frequent-Trading Limits for information about Vanguard's policies to limit frequent trading. RECENTLY PURCHASED SHARES. Although you can redeem shares at any time, proceeds may not be made available to you until the fund collects payment for your purchase. This may take up to ten calendar days for shares purchased by check or by electronic bank transfer. If you have written a check on a fund with checkwriting privileges, that check may be rejected if your fund account does not have a sufficient available balance. SHARE CERTIFICATES. If share certificates have been issued for your fund account, those shares cannot be redeemed until you return the certificates (unsigned) to Vanguard by registered mail. For the correct address, see Contacting Vanguard. ADDRESS CHANGE. If you change your address online or by telephone, there may be a 15-day hold on online and telephone redemptions. Address-change confirmations are sent to both the old and new addresses. Payment to a different person or address. At your request, we can make your redemption check payable to a different person or send it to a different address. However, this requires the written consent of all registered account owners and may require a signature guarantee. You can obtain a signature guarantee from most commercial and savings banks, credit unions, trust companies, or member firms of a U.S. stock exchange. A notary public cannot provide a signature guarantee. 31 NO CANCELLATIONS. Place your transaction requests carefully. Vanguard will not cancel any transaction request received by telephone or through Vanguard.com once it has been confirmed. In the case of written or automatic transaction requests, Vanguard will not cancel any transaction once it has been processed. EMERGENCY CIRCUMSTANCES. Vanguard funds can postpone payment of redemption proceeds for up to seven calendar days. In addition, Vanguard funds can suspend redemptions and/or postpone payments of redemption proceeds beyond seven calendar days at times when the New York Stock Exchange is closed or during emergency circumstances, as determined by the SEC. Exchanging Shares An exchange occurs when the assets redeemed from one Vanguard fund are used to purchase shares in an open Vanguard fund. You can make exchange requests online (through your account registered with Vanguard.com), by telephone, or by mail. Please note that Vanguard reserves the right, without prior notice, to revise or terminate the exchange privilege, limit the amount of any exchange, or reject an exchange, at any time, for any reason. FREQUENT-TRADING LIMITS Because excessive transactions can disrupt management of a fund and increase the fund's costs for all shareholders, Vanguard places certain limits on frequent trading in the Vanguard funds. Each Vanguard fund (other than money market funds, short-term bond funds, and ETF Shares) limits an investor's purchases or exchanges into a fund account for 60 calendar days after the investor has redeemed or exchanged out of that fund account. For Vanguard Retirement Investment Program pooled plans, the policy applies to exchanges made by participants online or by phone. The policy does not apply to the following: .. Purchases of shares with reinvested dividend or capital gains distributions. .. Transactions through Vanguard's Automatic Investment Plan, Automatic Exchange Service, Direct Deposit Service, Automatic Withdrawal Plan, Required Minimum Distribution Service, and Vanguard Small Business Online/(R)/. .. Redemptions of shares to pay fund or account fees. .. Transaction requests submitted by mail to Vanguard from shareholders who hold their accounts directly with Vanguard. (Transactions submitted by fax or wire are not mail transactions and are subject to the policy.) .. Transfers and re-registrations of shares within the same fund. 32 .. Purchases of shares by asset transfer or direct rollover. .. Conversions of shares from one share class to another in the same fund. .. Checkwriting redemptions. .. Section 529 college savings plans. .. Certain approved institutional portfolios and asset allocation programs, as well as trades made by Vanguard funds that invest in other Vanguard funds. (Please note that shareholders of Vanguard's funds of funds are subject to the policy.) For participants in employer-sponsored defined contribution plans that are not serviced by Vanguard Small Business Services, the frequent-trading policy does not apply to: .. Purchases of shares with participant payroll or employer contributions or loan repayments. .. Purchases of shares with reinvested dividend or capital gains distributions. .. Distributions, loans, and in-service withdrawals from a plan. .. Redemptions of shares as part of a plan termination or at the direction of the plan. .. Automated transactions executed during the first six months of a participant's enrollment in the Vanguard Managed Account Program. .. Redemptions of shares to pay fund or account fees. .. Share or asset transfers or rollovers. .. Re-registrations of shares. .. Conversions of shares from one share class to another in the same fund. Accounts Held by Institutions (Other Than Defined Contribution Plans) Vanguard will systematically monitor for frequent trading in institutional clients' accounts. If we detect suspicious trading activity, we will investigate and take appropriate action, which may include applying to a client's accounts the 60-day policy previously described, prohibiting a client's purchases of fund shares, and/or eliminating the client's exchange privilege. 33 ACCOUNTS HELD BY INTERMEDIARIES When intermediaries establish accounts in Vanguard funds for their clients, we cannot always monitor the trading activity of individual clients. However, we review trading activity at the omnibus level, and if we detect suspicious activity, we will seek to investigate and take appropriate action. If necessary, Vanguard may prohibit additional purchases of fund shares by an intermediary or by certain of the intermediary's clients. Intermediaries may also monitor their clients' trading activities in the Vanguard funds. For those Vanguard funds that charge purchase or redemption fees, intermediaries will be asked to assess purchase and redemption fees on shareholder and participant accounts and remit these fees to the funds. The application of purchase and redemption fees and frequent-trading policies may vary among intermediaries. There are no assurances that Vanguard will successfully identify all intermediaries or that intermediaries will properly assess purchase and redemption fees or administer frequent-trading policies. If you invest with Vanguard through an intermediary, please read that firm's materials carefully to learn of any other rules or fees that may apply. OTHER RULES YOU SHOULD KNOW Vanguard.com/(R)/ REGISTRATION. If you are a registered user of Vanguard.com, you can use your personal computer to review your account holdings; to buy, sell, or exchange shares of most Vanguard funds; and to perform most other transactions. You must register for this service online. ELECTRONIC DELIVERY. Vanguard can deliver your account statements, transaction confirmations, and fund financial reports electronically. If you are a registered user of Vanguard.com, you can consent to the electronic delivery of these documents by logging on and changing your mailing preference under "My Profile." You can revoke your electronic consent at any time, and we will begin to send paper copies of these documents within 30 days of receiving your notice. Telephone Transactions AUTOMATIC. When we set up your account, we'll automatically enable you to do business with us by telephone, unless you instruct us otherwise in writing. TELE-ACCOUNT/(R)/. To conduct account transactions through Vanguard's automated telephone service, you must first obtain a Personal Identification Number (PIN). Call Tele-Account at 800-662-6273 to obtain a PIN, and allow seven days after requesting the PIN before using this service. 34 PROOF OF A CALLER'S AUTHORITY. We reserve the right to refuse a telephone request if the caller is unable to provide the requested information or if we reasonably believe that the caller is not an individual authorized to act on the account. Before we allow a caller to act on an account, we may request the following information: .. Authorization to act on the account (as the account owner or by legal documentation or other means). .. Account registration and address. .. Social Security or employer identification number. .. Fund name and account number, if applicable. .. Other information relating to the caller, the account holder, or the account. SUBJECT TO REVISION. We reserve the right, at any time without prior notice, to revise, suspend, or terminate the ability for any or all shareholders to transact or communicate with Vanguard by telephone. GOOD ORDER We reserve the right to reject any transaction instructions that are not in "good order." Good order generally means that your instructions include: .. The fund name and account number. .. The amount of the transaction (stated in dollars, shares, or percentage). Written instructions also must include: .. Signatures of all registered owners. .. Signature guarantees, if required for the type of transaction.* .. Any supporting legal documentation that may be required. The requirements vary among types of accounts and transactions. *Call Vanguard for specific signature-guarantee requirements. Vanguard reserves the right, without prior notice, to revise the requirements for good order. FUTURE TRADE-DATE REQUESTS Vanguard does not accept requests to hold a purchase, conversion, redemption, or exchange transaction for a future date. All such requests will receive trade dates as previously described in Purchasing Shares, Converting Shares, and Redeeming Shares. Vanguard reserves the right to return future-dated checks. 35 ACCOUNTS WITH MORE THAN ONE OWNER If an account has more than one owner or authorized person, Vanguard will accept telephone or online instructions from any one owner or authorized person. RESPONSIBILITY FOR FRAUD Vanguard will not be responsible for any account losses because of fraud if we reasonably believe that the person transacting business on an account is authorized to do so. Please take precautions to protect yourself from fraud. Keep your account information private, and immediately review any account statements that we send to you. It is important that you contact Vanguard immediately about any transactions you believe to be unauthorized. UNCASHED CHECKS Please cash your distribution or redemption checks promptly. Vanguard will not pay interest on uncashed checks. UNUSUAL CIRCUMSTANCES If you experience difficulty contacting Vanguard online, by telephone, or by Tele-Account, you can send us your transaction request by regular or express mail. See Contacting Vanguard for addresses. INVESTING WITH VANGUARD THROUGH OTHER FIRMS You may purchase or sell Investor Shares of most Vanguard funds through a financial intermediary, such as a bank, broker, or investment advisor. Please see Frequent-Trading Limits--Accounts Held by Intermediaries for information about the assessment of redemption fees and monitoring of frequent trading for accounts held by intermediaries. ACCOUNT SERVICE FEE For most shareholders, Vanguard deducts a $20 account service fee from all fund accounts that have a balance below $10,000 for any reason, including market fluctuations. The account service fee applies to both retirement and nonretirement fund accounts. The fee will be assessed on fund accounts in all Vanguard funds, regardless of a fund's minimum investment amount. The account service fee, which will be assessed by redeeming fund shares in the amount of $20, will be deducted from a fund account only once per calendar year. If you register on Vanguard.com and elect electronic delivery of statements, reports, and other materials for all of your fund accounts, the account service fee will not be charged for balances below $10,000. 36 The account service fee also does not apply to the following: .. Money market sweep accounts held through Vanguard Brokerage Services. .. Accounts held through intermediaries. .. Accounts registered under your taxpayer identification number and having aggregate Vanguard mutual fund assets greater than $100,000 (including IRAs, employer-sponsored retirement plans, brokerage accounts, annuities, and non-IRA accounts). .. Participant accounts in employer-sponsored defined contribution plans (other than those served by the Vanguard Small Business Services Department, which are subject to various fee structures. Please consult your account registration paperwork for the rules that apply to your account). .. Section 529 college savings plans. LOW-BALANCE ACCOUNTS All Vanguard funds reserve the right, without prior notice, to liquidate any investment-only retirement-plan fund account or any nonretirement fund account whose balance falls below the minimum initial investment for any reason, including market fluctuation. Shares redeemed in accordance with this policy will be subject to applicable redemption fees. RIGHT TO CHANGE POLICIES In addition to the rights expressly stated elsewhere in this prospectus, Vanguard reserves the right to (1) alter, add, or discontinue any conditions of purchase (including eligibility requirements), redemption, exchange, conversion, service, or privilege at any time without prior notice; (2) accept initial purchases by telephone; (3) freeze any account and/or suspend account services when Vanguard has received reasonable notice of a dispute regarding the assets in an account, including notice of a dispute between the registered or beneficial account owners or when we reasonably believe a fraudulent transaction may occur or has occurred; (4) alter, impose, discontinue, or waive any redemption fee, account service fee, or other fees charged to a group of shareholders; and (5) redeem an account, without the owner's permission to do so, in cases of threatening conduct or suspicious, fraudulent, or illegal activity. Changes may affect any or all investors. These actions will be taken when, at the sole discretion of Vanguard management, we reasonably believe they are deemed to be in the best interest of a fund. SHARE CLASSES Vanguard reserves the right, without prior notice, to change the eligibility requirements of its share classes, including the types of clients who are eligible to purchase each share class. 37 FUND AND ACCOUNT UPDATES CONFIRMATION STATEMENTS We will send (or provide online, whichever you prefer) a confirmation statement confirming your trade date and the amount of your transaction when you buy, sell, exchange, or convert shares. However, we will not send confirmation statements reflecting only checkwriting redemptions or the reinvestment of dividends or capital gains distributions. For any month in which you had a checkwriting redemption, a Checkwriting Activity Statement will be sent to you itemizing the checkwriting redemptions for that month. Promptly review each confirmation statement that we send to you. It is important that you contact Vanguard immediately with any questions you may have about any transaction reflected on the confirmation statement. PORTFOLIO SUMMARIES We will send (or provide online, whichever you prefer) quarterly portfolio summaries to help you keep track of your accounts throughout the year. Each summary shows the market value of your account at the close of the statement period, as well as all distributions, purchases, redemptions, exchanges, transfers, and conversions for the current calendar year. Promptly review each summary that we send to you. It is important that you contact Vanguard immediately with any questions you may have about any transaction reflected on the summary. TAX STATEMENTS For most taxable accounts, we will send annual tax statements to assist you in preparing your income tax returns. These statements, which are generally mailed in January, will report the previous year's dividend and capital gains distributions, proceeds from the sale of shares, and distributions from IRAs and other retirement plans. These statements can be viewed online. AVERAGE-COST REVIEW STATEMENTS For most taxable accounts, average-cost review statements will accompany annual 1099B tax statements. These statements show the average cost of shares that you redeemed during the previous calendar year, using the average-cost single-category method, which is one of the methods established by the IRS. ANNUAL AND SEMIANNUAL REPORTS We will send (or provide online, whichever you prefer) financial reports about Vanguard Explorer Fund twice a year, in June and December. These comprehensive reports include overviews of the financial markets and provide the following specific Fund information: 38 .. Performance assessments and comparisons with industry benchmarks. .. Reports from the advisors. .. Financial statements with listings of Fund holdings. Vanguard attempts to eliminate the unnecessary expense of duplicate mailings by sending just one report when two or more shareholders have the same last name and address. You may request individual reports by contacting our Client Services Department in writing, by telephone, or by e-mail. PORTFOLIO HOLDINGS We generally post on our website at www.vanguard.com, in the Holdings section of the Fund's Profile page, a detailed list of the securities held by the Fund (under Portfolio Holdings), as of the most recent calendar-quarter-end. This list is generally updated within 30 days after the end of each calendar quarter. Vanguard may exclude any portion of these portfolio holdings from publication when deemed in the best interest of the Fund. We also generally post the ten largest stock portfolio holdings of the Fund and the percentage of the Fund's total assets that each of these holdings represents, as of the most recent calendar-quarter-end. This list is generally updated within 15 calendar days after the end of each calendar quarter. These postings generally remain until replaced by new postings as previously described. Please consult the Fund's Statement of Additional Information or our website for a description of the policies and procedures that govern disclosure of the Fund's portfolio holdings. 39
Contacting Vanguard Web Vanguard.com For the most complete source of Vanguard news 24 hours a day, 7 days For fund, account, and service information a week For most account transactions For literature requests - ---------------------------------------------------------------------------------------- Phone - ---------------------------------------------------------------------------------------- Vanguard For automated fund and account information Tele-Account/(R)/ For exchange transactions (subject to limitations) 800-662-6273 Toll-free, 24 hours a day, 7 days a week (ON-BOARD) - ---------------------------------------------------------------------------------------- Investor Information For fund and service information 800-662-7447 (SHIP) For literature requests (Text telephone for Business hours only: Monday-Friday, 8 a.m. to 10 p.m., people with hearing Eastern time; Saturday, 9 a.m. to 4 p.m., Eastern time impairment: 800-952-3335) - ---------------------------------------------------------------------------------------- Client Services For account information 800-662-2739 (CREW) For most account transactions (Text telephone for Business hours only: Monday-Friday, 8 a.m. to 10 p.m., people with hearing Eastern time; Saturday, 9 a.m. to 4 p.m., Eastern time impairment: 800-749-7273) - ---------------------------------------------------------------------------------------- Admiral Service Center For Admiral account information 888-237-9949 For most Admiral transactions Business hours only: Monday-Friday, 8 a.m. to 10 p.m., Eastern time; Saturday, 9 a.m. to 4 p.m., Eastern time - ---------------------------------------------------------------------------------------- Institutional Division For information and services for large institutional investors 888-809-8102 Business hours only : Monday-Friday, 8:30 a.m. to 9 p.m., Eastern time - ---------------------------------------------------------------------------------------- Intermediary Sales For information and services for financial intermediaries Support including broker-dealers, trust institutions, insurance 800-997-2798 companies, and financial advisors Business hours only: Monday-Friday, 8:30 a.m. to 8 p.m., Eastern time - ----------------------------------------------------------------------------------------
40 VANGUARD ADDRESSES Please be sure to use the correct address, depending on your method of delivery. Use of an incorrect address could delay the processing of your transaction. Regular Mail (Individuals) The Vanguard Group P.O. Box 1110 Valley Forge, PA 19482-1110 - ---------------------------------------------------------------------- Regular Mail (Institutions) The Vanguard Group P.O. Box 2900 Valley Forge, PA 19482-2900 - ---------------------------------------------------------------------- Registered, Express, or Overnight The Vanguard Group 455 Devon Park Drive Wayne, PA 19087-1815 - ---------------------------------------------------------------------- FUND NUMBERS Please use the specific fund number when contacting us: - --------------------------------------------------------------------- Investor Shares Admiral Shares Vanguard Explorer Fund 24 5024 - --------------------------------------------------------------------- Vanguard, Vanguard.com, Connect with Vanguard, Plain Talk, Admiral, Explorer, Vanguard Tele-Account, Tele-Account, Vanguard ETF, Vanguard Small Business Online, and the ship logo are trademarks of The Vanguard Group, Inc. All other marks are the exclusive property of their respective owners. 41 GLOSSARY OF INVESTMENT TERMS CAPITAL GAINS DISTRIBUTION. Payment to mutual fund shareholders of gains realized on securities that a fund has sold at a profit, minus any realized losses. CASH INVESTMENTS. Cash deposits, short-term bank deposits, and money market instruments that include U.S. Treasury bills and notes, bank certificates of deposit (CDs), repurchase agreements, commercial paper, and banker's acceptances. COMMON STOCK. A security representing ownership rights in a corporation. A stockholder is entitled to share in the company's profits, some of which may be paid out as dividends. COUNTRY RISK. The chance that domestic events--such as political upheaval, financial troubles, or natural disasters--will weaken a country's securities markets. CURRENCY RISK. The chance that the value of a foreign investment, measured in U.S. dollars, will decrease because of unfavorable changes in currency exchange rates. DIVIDEND DISTRIBUTION. Payment to mutual fund shareholders of income from interest or dividends generated by a fund's investments. EXPENSE RATIO. The percentage of a fund's average net assets used to pay its expenses during a fiscal year. The expense ratio includes management expenses--such as advisory fees, account maintenance, reporting, accounting, legal, and other administrative expenses--and any 12b-1 distribution fees. It does not include the transaction costs of buying and selling portfolio securities. GROWTH FUND. A mutual fund that emphasizes stocks of companies believed to have above-average potential for growth in revenue, earnings, cash flow, or other similar criteria. These stocks typically have low dividend yields and above-average prices in relation to such measures as earnings and book value. INCEPTION DATE. The date on which the assets of a fund (or one of its share classes) are first invested in accordance with the fund's investment objective. For funds with a subscription period, the inception date is the day after that period ends. Investment performance is measured from the inception date. INVESTMENT ADVISOR. An organization that is responsible for making the day-to-day decisions regarding a fund's investments. MEDIAN MARKET CAP. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund's stocks, weighted by the proportion of the fund's assets invested in each stock. Stocks representing half of the fund's assets have market capitalizations above the median, and the rest are below it. MUTUAL FUND. An investment company that pools the money of many people and invests it in a variety of securities in an effort to achieve a specific objective over time. 42 NET ASSET VALUE (NAV). The market value of a mutual fund's total assets, minus liabilities, divided by the number of shares outstanding. The value of a single share is also called its share value or share price. PRINCIPAL. The face value of a debt instrument or the amount of money put into an investment. SECURITIES. Stocks, bonds, money market instruments, and other investment vehicles. TOTAL RETURN. A percentage change, over a specified time period, in a mutual fund's net asset value, assuming the reinvestment of all distributions of dividends and capital gains. VALUE FUND. A mutual fund that emphasizes stocks whose prices typically are below average in relation to such measures as earnings and book value. These stocks often have above-average dividend yields. VOLATILITY. The fluctuations in value of a mutual fund or other security. The greater a fund's volatility, the wider the fluctuations in its returns. YIELD. Income (interest or dividends) earned by an investment, expressed as a percentage of the investment's price. 43 This page intentionally left blank. This page intentionally left blank. [SHIP LOGO VANGUARD/(R)/] P.O. Box 2600 Valley Forge, PA 19482-2600 CONNECT WITH VANGUARD(R) > www.vanguard.com For More Information If you would like more information about Vanguard Explorer Fund, the following documents are available free upon request: Annual/Semiannual Reports to Shareholders Additional information about the Fund's investments is available in the Fund's annual and semiannual reports to shareholders. In the annual report, you will find a discussion of the market conditions and investment strategies that significantly affected the Fund's performance during its last fiscal year. Statement of Additional Information (SAI) The SAI provides more detailed information about the Fund. The current annual and semiannual reports and the SAI are incorporated by reference into (and are thus legally a part of) this prospectus. To receive a free copy of the latest annual or semiannual report or the SAI, or to request additional information about the Fund or other Vanguard funds, please visit www.vanguard.com or contact us as follows: The Vanguard Group Investor Information Department P.O. Box 2600 Valley Forge, PA 19482-2600 Telephone: 800-662-7447 (SHIP) Text Telephone for people with hearing impairment: 800-952-3335 If you are a current Vanguard shareholder and would like information about your account, account transactions, and/or account statements, please call: Client Services Department Telephone: 800-662-2739 (CREW) Text Telephone for people with hearing impairment: 800-749-7273 Information Provided by the Securities and Exchange Commission (SEC) You can review and copy information about the Fund (including the SAI) at the SEC's Public Reference Room in Washington, DC. To find out more about this public service, call the SEC at 202-551-8090. Reports and other information about the Fund are also available in the EDGAR database on the SEC's Internet site at www.sec.gov, or you can receive copies of this information, for a fee, by electronic request at the following e-mail address: publicinfo@sec.gov, or by writing the Public Reference Section, Securities and Exchange Commission, Washington, DC 20549-0102. Fund's Investment Company Act file number: 811-1530 (C) 2007 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor. P024 082007 VANGUARD/(R)/ EXPLORER/(TM)/ FUND > PROSPECTUS INVESTOR SHARES FOR PARTICIPANTS August 17, 2007 [SHIP LOGO VANGUARD/(R)/] This prospectus contains financial data for the Fund through the fiscal period ended April 30, 2007. Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense. CONTENTS - ------------------------------------------------------------------------------- Fund Profile 1 Financial Highlights 19 - ------------------------------------------------------------------------------- More on the Fund 5 Investing With Vanguard 22 - ------------------------------------------------------------------------------- The Fund and Vanguard 13 Accessing Fund Information by Computer 24 - ------------------------------------------------------------------------------- Investment Advisors 14 Glossary of Investment Terms 25 - ------------------------------------------------------------------------------- Dividends, Capital Gains, and Taxes 17 - ------------------------------------------------------------------------------- Share Price 18 - ------------------------------------------------------------------------------- WHY READING THIS PROSPECTUS IS IMPORTANT This prospectus explains the investment objective, policies, strategies, and risks associated with the Fund. To highlight terms and concepts important to mutual fund investors, we have provided Plain Talk/(R)/ explanations along the way. Reading the prospectus will help you decide whether the Fund is the right investment for you. We suggest that you keep this prospectus for future reference. This prospectus offers the Fund's Investor Shares and is intended for participants in employer-sponsored retirement or savings plans. Another version--for investors who would like to open a personal investment account--can be obtained by calling Vanguard at 800-662-7447. FUND PROFILE INVESTMENT OBJECTIVE The Fund seeks to provide long-term capital appreciation. PRIMARY INVESTMENT STRATEGIES The Fund invests mainly in the stocks of small companies. These companies tend to be unseasoned but are considered by the Fund's advisors to have superior growth potential. Also, these companies often provide little or no dividend income. The Fund uses multiple investment advisors. PRIMARY RISKS An investment in the Fund could lose money over short or even long periods. You should expect the Fund's share price and total return to fluctuate within a wide range, like the fluctuations of the overall stock market. The Fund's performance could be hurt by: .. Stock market risk, which is the chance that stock prices overall will decline. Stock markets tend to move in cycles, with periods of rising prices and periods of falling prices. .. Investment style risk, which is the chance that returns from small-capitalization growth stocks will trail returns from the overall stock market. Historically, small-cap stocks have been more volatile in price than the large-cap stocks that dominate the overall market, and they often perform quite differently. .. Manager risk, which is the chance that poor security selection will cause the Fund to underperform relevant benchmarks or other funds with a similar investment objective. PERFORMANCE/RISK INFORMATION The following bar chart and table are intended to help you understand the risks of investing in the Fund. The bar chart shows how the performance of the Fund's Investor Shares has varied from one calendar year to another over the periods shown. The table shows how the average annual total returns compare with those of a relevant market index. Keep in mind that the Fund's past performance does not indicate how the Fund will perform in the future. 1 - ------------------------------------------------------------------------------- ANNUAL TOTAL RETURNS--INVESTOR SHARES/1/ - ------------------------------------------------------------------------------- BAR CHART: Scale -40% to 60% 1997 14.57% 1998 3.52 1999 37.26 2000 9.22 2001 0.56 2002 -24.58 2003 44.25 2004 13.75 2005 9.28 2006 9.70 - ------------------------------------------------------------------------------- 1 The year-to-date return as of the most recent calendar quarter, which ended June 30, 2007, was 10.69%. During the periods shown in the bar chart, the highest return for a calendar quarter was 29.99% (quarter ended December 31, 1999), and the lowest return for a quarter was -21.73% (quarter ended September 20, 2001). AVERAGE ANNUAL TOTAL RETURNS FOR PERIODS ENDED DECEMBER 31, 2006 1 Year 5 Years 10 Years - ------------------------------------------------------------------------- Vanguard Explorer Fund Investor Shares 9.70% 8.21% 10.25% - ------------------------------------------------------------------------- Russell 2500 Growth Index (reflects no deduction for fees or expenses) 12.26% 7.62% 7.11% - ------------------------------------------------------------------------- FEES AND EXPENSES The following table describes the fees and expenses you may pay if you buy and hold Investor Shares of the Fund. As is the case with all mutual funds, transaction costs incurred by the Fund for buying and selling securities are not reflected in the table. However, these costs are reflected in the investment performance figures included in this prospectus. The expenses shown under Annual Fund Operating Expenses are based estimated amounts for the current fiscal year. 2 Shareholder Fees (Fees paid directly from your investment) - ------------------------------------------------------------------------- Sales Charge (Load) Imposed on Purchases None - ------------------------------------------------------------------------- Purchase Fees None - ------------------------------------------------------------------------- Sales Charge (Load) Imposed on Reinvested Dividends None - ------------------------------------------------------------------------- Redemption Fee None - ------------------------------------------------------------------------- Annual Fund Operating Expenses (Expenses deducted from the Fund's assets) - ------------------------------------------------------------------------- Management Expenses 0.42% - ------------------------------------------------------------------------- 12b-1 Distribution Fees None - ------------------------------------------------------------------------- Other Expenses 0.03% - ------------------------------------------------------------------------- Total Annual Fund Operating Expenses 0.45% - ------------------------------------------------------------------------- The following example is intended to help you compare the cost of investing in the Fund's Investor Shares with the cost of investing in other mutual funds. It illustrates the hypothetical expenses that you would incur over various periods if you invest $10,000 in the Fund's shares. This example assumes that the shares provide a return of 5% a year and that operating expenses match our estimates. The results apply whether or not you redeem your investment at the end of the given period. 1 Year 3 Years 5 Years 10 Years - ---------------------------------------------------------- $46 $144 $252 $567 - ---------------------------------------------------------- This example should not be considered to represent actual expenses or performance from the past or for the future. Actual future expenses may be higher or lower than those shown. 3 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT FUND EXPENSES All mutual funds have operating expenses. These expenses, which are deducted from a fund's gross income, are expressed as a percentage of the net assets of the fund. We expect Vanguard Explorer Fund Investor Shares' expense ratio for the current fiscal year to be 0.45%, or $4.50 per $1,000 of average net assets. The average small-cap growth fund had expenses in 2006 of 1.64%, or $16.40 per $1,000 of average net assets (derived from data provided by Lipper Inc., which reports on the mutual fund industry). Management expenses, which are one part of operating expenses, include investment advisory fees as well as other costs of managing a fund--such as account maintenance, reporting, accounting, legal, and other administrative expenses. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- PLAIN TALK ABOUT COSTS OF INVESTING Costs are an important consideration in choosing a mutual fund. That's because you, as a shareholder, pay the costs of operating a fund, plus any transaction costs incurred when the fund buys or sells securities. These costs can erode a substantial portion of the gross income or the capital appreciation a fund achieves. Even seemingly small differences in expenses can, over time, have a dramatic effect on a fund's performance. - ------------------------------------------------------------------------------- 4
ADDITIONAL INFORMATION AS OF APRIL 30, 2007 - ------------------------------------------------------------------------------------------ Net Assets (all share classes) $12.4 billion - ------------------------------------------------------------------------------------------ Investment Advisors . AXA Rosenberg Investment Management LLC, Orinda, Calif., since 2007 . Chartwell Investment Partners, L.P., Berwyn, Pa., since 1997 . Granahan Investment Management, Inc., Waltham, Mass., since 1990 . Grantham, Mayo, Van Otterloo & Co. LLC, Boston, Mass., since 2000 . Kalmar Investment Advisers, Wilmington, Del., since 2005 . Wellington Management Company, LLP, Boston, Mass., since inception . The Vanguard Group, Inc., Valley Forge, Pa., since 1997 - ------------------------------------------------------------------------------------------ Dividends and Capital Gains Distributed annually in December - ------------------------------------------------------------------------------------------ Inception Date December 11, 1967 - ------------------------------------------------------------------------------------------ Newspaper Abbreviation Explr - ------------------------------------------------------------------------------------------ Vanguard Fund Number 24 - ------------------------------------------------------------------------------------------ Cusip Number 921926101 - ------------------------------------------------------------------------------------------ Ticker Symbol VEXPX - ------------------------------------------------------------------------------------------
MORE ON THE FUND This prospectus describes the primary risks you would face as a Fund shareholder. It is important to keep in mind one of the main axioms of investing: The higher the risk of losing money, the higher the potential reward. The reverse, also, is generally true: The lower the risk, the lower the potential reward. As you consider an investment in any mutual fund, you should take into account your personal tolerance for fluctuations in the securities markets. Look for this [FLAG] symbol throughout the prospectus. It is used to mark detailed information about the more significant risks that you would confront as a Fund shareholder. The following sections explain the primary investment strategies and policies that the Fund uses in pursuit of its objective. The Fund's board of trustees, which oversees the Fund's management, may change investment strategies or policies in the interest of shareholders without a shareholder vote, unless those strategies or policies are designated as fundamental. 5 MARKET EXPOSURE The Fund focuses on companies that are considered small-cap by the Fund's advisors. Stocks of publicly traded companies and funds that invest in stocks are often classified according to market value, or market capitalization. These classifications typically include small-cap, mid-cap, and large-cap. It's important to understand that, for both companies and stock funds, market-capitalization ranges change over time. Also, interpretations of size vary, and there are no "official" definitions of small-, mid-, and large-cap, even among Vanguard fund advisors. The asset-weighted median market capitalization of the Fund as of April 30, 2007, was $2.7 billion. Small-cap stocks tend to have greater volatility than large-cap stocks because, among other things, smaller companies often have fewer customers, financial resources, and products than larger firms. Such characteristics can make small-cap companies more sensitive to changing economic conditions. In addition, these companies typically provide little or no dividend income. [FLAG] The Fund is subject to stock market risk, which is the chance that stock prices overall will decline. Stock markets tend to move in cycles, with periods of rising prices and periods of falling prices. To illustrate the volatility of stock prices, the following table shows the best, worst, and average annual total returns for the U.S. stock market over various periods as measured by the Standard & Poor's 500 Index, a widely used barometer of market activity. (Total returns consist of dividend income plus change in market price.) Note that the returns shown do not include the costs of buying and selling stocks or other expenses that a real-world investment portfolio would incur. U.S. STOCK MARKET RETURNS (1926-2006) 1 Year 5 Years 10 Years 20 Years - ---------------------------------------------------------- Best 54.2% 28.6% 19.9% 17.8% - ---------------------------------------------------------- Worst -43.1 -12.4 -0.8 3.1 - ---------------------------------------------------------- Average 12.3 10.4 11.1 11.4 - ---------------------------------------------------------- The table covers all of the 1-, 5-, 10-, and 20-year periods from 1926 through 2006. You can see, for example, that although the average return on common stocks for all of the 5-year periods was 10.4%, average returns for individual 5-year periods ranged from -12.4% (from 1928 through 1932) to 28.6% (from 1995 through 1999). These average returns reflect past performance of common stocks; you should not regard them as an indication of future performance of either the stock market as a whole or the Fund in particular. 6 Keep in mind that the Fund focuses on the stocks of smaller companies. Historically, small-cap stocks have been more volatile than--and at times have performed quite differently from--the large-cap stocks found in the S&P 500 Index. This volatility is due to several factors, including less-certain growth and dividend prospects for smaller companies. [FLAG] The Fund is subject to investment style risk, which is the chance that returns from small-capitalization growth stocks will trail returns from the overall stock market. Historically, small-cap stocks have been more volatile in price than the large-cap stocks that dominate the overall market, and they often perform quite differently. - -------------------------------------------------------------------------------- PLAIN TALK ABOUT GROWTH FUNDS AND VALUE FUNDS Growth investing and value investing are two styles employed by stock-fund managers. Growth funds generally focus on stocks of companies believed to have above-average potential for growth in revenue, earnings, cash flow, or other similar criteria. These stocks typically have low dividend yields and above-average prices in relation to such measures as earnings and book value. Value funds typically emphasize stocks whose prices are below average in relation to those measures; these stocks often have above-average dividend yields. Growth and value stocks have historically produced similar long-term returns, though each category has periods when it outperforms the other. - -------------------------------------------------------------------------------- SECURITY SELECTION The Fund uses multiple investment advisors. Each advisor independently selects and maintains a portfolio of common stocks for the Fund. These advisors employ active investment management methods, which means that securities are bought and sold according to the advisors' evaluations of companies and their financial prospects, the prices of the securities, and the stock market and the economy in general. Each advisor will sell a security when it is no longer as attractive as an alternative investment. Each advisor uses a different process to select securities for its portion of the Fund's assets; however, each is committed to buying stocks of small companies that, in the advisor's opinion, have strong growth potential. Granahan Investment Management, Inc. (Granahan), which manages approximately 21% of the Fund's assets, groups securities into three categories as part of its selection process. The first category, "core growth," emphasizes companies that have a well-known or established product or service and, as a result, have a proven record of growth and a strong market position. The second category, "pioneers," is 7 made up of companies that offer unique products or services, technologies that may lead to new products, or expansion into new markets. Granahan judges "pioneer" stocks based on their estimated growth potential compared with market value. The third category, "special situation," includes companies that lack a record of strong growth but that, in Granahan's view, are both undervalued in the market and likely to grow in the next few years. "Core growth" stocks generally make up 35% to 70% of the advisor's share of Fund assets, with the other two categories generally at 10% to 35% each. Grantham, Mayo, Van Otterloo & Co. LLC (GMO), which manages approximately 16% of the Fund's assets, uses computerized models to select the most attractive small-cap growth stocks according to several criteria, including earnings revision, which selects companies that are likely to experience positive earnings surprises; intrinsic value, which seeks out high-quality growth companies that are selling below their intrinsic value; and finally, recent price trends. This quantitative investment method is expected to result in a portfolio that is broadly diversified among small-cap stocks. GMO seeks to maintain reasonable liquidity by limiting positions in individual issues. Wellington Management Company, LLP (Wellington Management), which manages approximately 13% of the Fund's assets, uses research and analysis of individual companies to select stocks that the advisor feels have exceptional growth potential relative to their valuations in the marketplace. Wellington Management considers each stock individually before purchase, and continually monitors developments at these companies for comparison with the advisor's expectations for growth. To help limit risk, the portfolio is broadly diversified both by number of stocks and by exposure to a range of industries. AXA Rosenberg Investment Management LLC (AXA Rosenberg), which manages approximately 12% of the Fund's assets, constructs a portfolio of common stocks based on fundamental analysis using a two-part quantitative model: a valuation model and an earnings forecast model. The valuation model seeks to identify the fair value of a stock using a sum-of-the-parts technique. The sum of a company's parts is then compared to the current stock price to determine whether the stock appears to be under- or overvalued by the market. The earnings forecast model seeks to identify companies that are expected to have superior, year-ahead earnings. A mix of fundamental indicators (e.g., profitability measures) and indicators from market participants (e.g., analyst forecasts) is combined to generate a forecast of next year's earnings for a company. The output of the two models is combined to form a single predicted return for each company that AXA Rosenberg covers. The predicted returns are fed into a risk model that maximizes the portfolio's expected return while minimizing common factor differences versus the benchmark index. Each stock is compared with its next-best alternative, taking into account round-trip trading costs. 8 AXA Rosenberg optimizes its portfolio against the Russell 2500 Growth Index, the benchmark for the Fund. Kalmar Investment Advisers (Kalmar), which manages approximately 9% of the Fund's assets, is a research-driven investment firm that is entirely focused on the management of "growth-with-value" smaller-cap equity portfolios. Kalmar believes that there is a high-reward and low-risk anomaly offered by the equity market in the stocks of solid, well-managed, rapidly growing smaller companies that are not fully on the radar screen of most institutional growth managers. Through independent fundamental research, Kalmar attempts to discover such companies, buy them at undervalued levels, and own them for the longer term. Kalmar searches for companies that it believes have the following characteristics: strong products, strong balance sheets, attractive financial returns, conservative accounting, and superior management with the ability to deliver positive results. Chartwell Investment Partners, L.P. (Chartwell), which manages approximately 8% of the Fund's assets, uses a research-driven process to choose stocks judged to have exceptional growth potential and reasonable prices. After considering each stock individually before purchase, Chartwell constantly monitors the characteristics of its holdings as a group by using computerized techniques. The Vanguard Group (Vanguard), which manages approximately 18% of the Fund's assets, constructs a broadly diversified portfolio of small-cap domestic growth stocks based on its assessment of the relative return potential of the underlying securities. The advisor selects securities that it believes offer a good balance between reasonable valuations and attractive earnings growth prospects relative to their small-cap domestic growth peers. Vanguard implements its stock selection process through the use of proprietary software programs that compare thousands of securities at a time. In addition, Vanguard manages approximately 3% of the Fund's assets by investing in stock index futures and/or shares of exchange-traded funds. For more details, see "Other Investment Policies and Risks." The Fund is generally managed without regard to tax ramifications. [FLAG] The Fund is subject to manager risk, which is the chance that poor security selection will cause the Fund to underperform relevant benchmarks or other funds with a similar investment objective. OTHER INVESTMENT POLICIES AND RISKS Besides investing in common stocks of growth companies, the Fund may make other kinds of investments to achieve its objective. Although the Fund typically does not make significant investments in foreign securities, it reserves the right to invest up to 25% of its assets this way. Foreign 9 securities may be traded on U.S. or foreign markets. To the extent that it owns foreign securities, the Fund is subject to (1) country risk, which is the chance that domestic events--such as political upheaval, financial troubles, or natural disasters--will weaken a country's securities markets; and (2) currency risk, which is the chance that the value of a foreign investment, measured in U.S. dollars, will decrease because of unfavorable changes in currency exchange rates. The Fund may invest up to 15% of its net assets in restricted securities with limited marketability or in other illiquid securities. The Fund may invest, to a limited extent, in derivatives. Generally speaking, a derivative is a financial contract whose value is based on the value of a financial asset (such as a stock, bond, or currency), a physical asset (such as gold), or a market index (such as the S&P 500 Index). Investments in derivatives may subject the Fund to risks different from, and possibly greater than, those of the underlying securities, assets, or market indexes. The Fund will not use derivatives for speculation or for the purpose of leveraging (magnifying) investment returns. The Fund may enter into forward foreign currency exchange contracts, which are types of derivative contracts. A forward foreign currency exchange contract is an agreement to buy or sell a country's currency at a specific price on a specific date, usually 30, 60, or 90 days in the future. In other words, the contract guarantees an exchange rate on a given date. Managers of funds that invest in foreign securities use these contracts to guard against sudden, unfavorable changes in the U.S. dollar/ foreign currency exchange rates. These contracts, however, will not prevent the Fund's securities from falling in value during foreign market downswings. Vanguard typically invests a small portion of the Fund's assets in stock index futures and/or shares of exchange-traded funds (ETFs), including ETF Shares issued by Vanguard stock index funds. Stock index futures and ETFs provide returns similar to those of common stocks. Vanguard may purchase futures or ETFs when doing so will reduce the Fund's transaction costs or add value because the instruments are favorably priced. Vanguard receives no additional revenue from investing Fund assets in ETF Shares of other Vanguard funds. Fund assets invested in ETF Shares are excluded when allocating to the Fund its share of the costs of Vanguard operations. 10 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT DERIVATIVES Derivatives can take many forms. Some forms of derivatives, such as exchange-traded futures and options on securities, commodities, or indexes, have been trading on regulated exchanges for decades. These types of derivatives are standardized contracts that can easily be bought and sold, and whose market values are determined and published daily. Nonstandardized derivatives (such as swap agreements), on the other hand, tend to be more specialized or complex, and may be harder to value. - ------------------------------------------------------------------------------- CASH MANAGEMENT The Fund's daily cash balance may be invested in one or more Vanguard CMT Funds, which are very low-cost money market funds. When investing in a Vanguard CMT Fund, the Fund bears its proportionate share of the at-cost expenses of the CMT Fund in which it invests. TEMPORARY INVESTMENT MEASURES The Fund may temporarily depart from its normal investment policies--for instance, by allocating substantial assets to cash investments--in response to extraordinary market, economic, political, or other conditions. In doing so, the Fund may succeed in avoiding losses, but may otherwise fail to achieve its investment objective. 11 FREQUENT TRADING OR MARKET-TIMING BACKGROUND. Some investors try to profit from strategies involving frequent trading of mutual fund shares, such as market-timing. For funds holding foreign securities, investors may try to take advantage of an anticipated difference between the price of the fund's shares and price movements in overseas markets, a practice also known as time-zone arbitrage. Investors also may try to engage in frequent trading of funds holding investments such as small-cap stocks and high-yield bonds. As money is shifted into and out of a fund by a shareholder engaging in frequent trading, a fund incurs costs for buying and selling securities, resulting in increased brokerage and administrative costs. These costs are borne by all fund shareholders, including the long-term investors who do not generate the costs. In addition, frequent trading may interfere with an advisor's ability to efficiently manage the fund. POLICIES TO ADDRESS FREQUENT TRADING. The Vanguard funds (other than money market funds, short-term bond funds, and Vanguard ETF(TM) Shares) do not knowingly accommodate frequent trading. The board of trustees of each Vanguard fund has adopted policies and procedures reasonably designed to detect and discourage frequent trading and, in some cases, to compensate the fund for the costs associated with it. Although there is no assurance that Vanguard will be able to detect or prevent frequent trading or market-timing in all circumstances, the following policies have been adopted to address these issues: .. Each Vanguard fund reserves the right to reject any purchase request--including exchanges from other Vanguard funds--without notice and regardless of size. For example, a purchase request could be rejected if Vanguard determines that such purchase may negatively affect a fund's operation or performance or because of a history of frequent trading by the investor. .. Each Vanguard fund (other than money market funds, short-term bond funds, and ETF Shares) generally prohibits, except as otherwise noted in the Investing With Vanguard section, a participant from exchanging into a fund account for 60 calendar days after the participant exchanged out of that fund account. .. Certain Vanguard funds charge shareholders purchase and/or redemption fees on transactions. See the Investing With Vanguard section of this prospectus for further details on Vanguard's transaction policies. Each fund (other than money market funds), in determining its net asset value, will use fair-value pricing as described in the Share Price section. Fair-value pricing may reduce or eliminate the profitability of certain frequent-trading strategies. DO NOT INVEST WITH VANGUARD IF YOU ARE A MARKET-TIMER. 12 TURNOVER RATE Although the Fund normally seeks to invest for the long term, it may sell securities regardless of how long they have been held.The Financial Highlights section of this prospectus shows historical turnover rates for the Fund. A turnover rate of 100%, for example, would mean that the Fund had sold and replaced securities valued at 100% of its net assets within a one-year period. The average turnover rate for small growth funds was approximately 120%, as reported by Morningstar, Inc., on October 31, 2006. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT TURNOVER RATE Before investing in a mutual fund, you should review its turnover rate. This gives an indication of how transaction costs, which are not included in the fund's expense ratio, could affect the fund's future returns. In general, the greater the volume of buying and selling by the fund, the greater the impact that brokerage commissions and other transaction costs will have on its return. Also, funds with high turnover rates may be more likely to generate capital gains that must be distributed to shareholders as taxable income. - ------------------------------------------------------------------------------- THE FUND AND VANGUARD The Fund is a member of The Vanguard Group, a family of 36 investment companies with more than 140 funds holding assets in excess of $1 trillion. All of the funds that are members of The Vanguard Group share in the expenses associated with administrative services and business operations, such as personnel, office space, equipment, and advertising. Vanguard also provides marketing services to the funds. Although shareholders do not pay sales commissions or 12b-1 distribution fees, each fund (or in the case of a fund with multiple share classes, each share class of the fund) pays its allocated share of The Vanguard Group's marketing costs. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT VANGUARD'S UNIQUE CORPORATE STRUCTURE The Vanguard Group is truly a mutual mutual fund company. It is owned jointly by the funds it oversees and thus indirectly by the shareholders in those funds. Most other mutual funds are operated by management companies that may be owned by one person, by a group of individuals, or by investors who own the management company's stock. The management fees charged by these companies include a profit component over and above the companies' cost of providing services. By contrast, Vanguard provides services to its member funds on an at-cost basis, with no profit component, which helps to keep the funds' expenses low. - ------------------------------------------------------------------------------- 13 INVESTMENT ADVISORS The Fund uses a multimanager approach. Each advisor independently manages its assigned portion of the Fund's assets, subject to the supervision and oversight of Vanguard and the board of trustees. The Fund's board of trustees designates the proportion of Fund assets to be managed by each advisor and may change these proportions at any time. .. Granahan Investment Management, Inc., 275 Wyman Street, Waltham, MA 02451, is an investment advisory firm founded in 1985. As of March 31, 2007, Granahan managed approximately $4 billion in assets. .. Grantham, Mayo, Van Otterloo & Co. LLC, 40 Rowes Wharf, Boston, MA 02110, is an investment advisory firm founded in 1977. As of March 31, 2007, GMO managed approximately $144 billion in assets. .. Wellington Management Company, LLP, 75 State Street, Boston, MA 02109, is an investment advisory firm founded in 1928. As of March 31, 2007, Wellington Management managed approximately $573 billion in assets. .. AXA Rosenberg Investment Management LLC, 4 Orinda Way, Building E, Orinda, CA 94563, is an investment advisory firm founded in 1985. As of April 30, 2007, AXA Rosenberg managed approximately $120 billion in assets. .. Kalmar Investment Advisers, Barley Mill House, 3701 Kennett Pike, Wilmington, DE 19807, is an investment advisory firm founded in 1996. As of March 31, 2007, Kalmar, together with its parent company, Kalmar Investments Inc., founded in 1982, managed approximately $2.6 billion in small-cap and small-/mid-cap assets. .. Chartwell Investment Partners, L.P., 1235 Westlakes Drive, Suite 400, Berwyn, PA 19312, is an investment advisory firm founded in 1997. As of March 31, 2007, Chartwell managed approximately $5.4 billion in assets. .. The Vanguard Group, Inc., P.O. Box 2600, Valley Forge, PA 19482, which began operations in 1975, serves as advisor to the Fund through its Quantitative Equity Group. As of March 31, 2007, Vanguard served as advisor for approximately $895 billion in assets. The Fund pays six of its investment advisors-- Granahan, GMO, Wellington Management, AXA Rosenberg, Kalmar, and Chartwell--on a quarterly basis. For each advisor, the quarterly fee is based on certain annual percentage rates applied to average net assets managed by the advisor over the period. In addition, the quarterly fees paid to each advisor are increased or decreased based on the advisor's performance compared with that of a benchmark index. For these purposes, the cumulative total return of each advisor's portion of the Fund over a trailing 36-month period is compared with that of the Russell 2500 Growth Index over part of the same period. 14 Vanguard's performance is also evaluated against the Russell 2500 Growth Index. Vanguard provides services to the Fund on an at-cost basis. For the fiscal year ended October 31, 2006, the advisory fees and expenses represented an effective annual rate of 0.17% of the Fund's average net assets, before a performance-based decrease of 0.03%. For the six-month period ended April 30, 2007, the advisory fees and expenses represented an effective-annual rate of 0.17% of the Fund's average net assets, before a performance-based decrease of 0.04%. Under the terms of an SEC exemption, the Fund's board of trustees may, without prior approval from shareholders, change the terms of an advisory agreement or hire a new investment advisor--either as a replacement for an existing advisor or as an additional advisor. Any significant change in the Fund's advisory arrangements will be communicated to shareholders in writing. As the Fund's sponsor and overall manager, The Vanguard Group may provide additional investment advisory services to the Fund, on an at-cost basis, at any time. Vanguard may also recommend to the board of trustees that an advisor be hired, terminated, or replaced, or that the terms of an existing advisory agreement be revised. For a discussion of why the board of trustees approved the Fund's investment advisory arrangements, see the semiannual report to shareholders covering the Fund's most recent fiscal period, which ended on April 30. GEORGE U. SAUTER is Chief Investment Officer and Managing Director of Vanguard. As Chief Investment Officer, he is responsible for the oversight of Vanguard's Quantitative Equity and Fixed Income Groups. The investments managed by these two groups include active quantitative equity funds, equity index funds, active bond funds, index bond funds, stable value portfolios, and money market funds. Since joining Vanguard in 1987, Mr. Sauter has been a key contributor to the development of Vanguard's stock indexing and active quantitative equity investment strategies. He received his A.B. in Economics from Dartmouth College and an M.B.A. in Finance from the University of Chicago. JOEL M. DICKSON, Ph.D., is head of Active Quantitative Equity Management and Principal of Vanguard. He has direct oversight responsibility for all active quantitative equity portfolios managed by Vanguard's Quantitative Equity Group. He has been with Vanguard since 1996 and has managed investment portfolios since 2003. He received his A.B. in Economics from Washington University in St. Louis and a Ph.D. in Economics from Stanford University. 15 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT THE FUND'S PORTFOLIO MANAGERS The managers primarily responsible for the day-to-day management of the Fund are: JOHN J. GRANAHAN, CFA, Founder and President of Granahan. He has worked in investment management since 1960; has been with Granahan since 1985; and has managed a portion of the Fund since 1990. Education: B.A., St. Joseph's University; Graduate Fellow of Catholic University of America. SAM WILDERMAN, CFA, Partner and Director of the U.S. Quantitative Equity Division at GMO. He has worked in investment management for GMO since 1996 and has managed a portion of the Fund since 2006. Education: B.A., Yale University. KENNETH L. ABRAMS, Senior Vice President, Partner, and Equity Portfolio Manager at Wellington Management. He has worked in investment management with Wellington Management since 1986 and has managed a portion of the Fund since 1994. Education: B.A. and M.B.A., Stanford University. WILLIAM E. RICKS, Americas Chief Executive and Chief Investment Officer at AXA Rosenberg. He has worked in investment management with AXA Rosenberg since 1989 and has managed a portion of the Fund since June 2007. Education: B.S., University of New Orleans; Ph.D., University of California, Berkeley. FORD B. DRAPER, JR., President, Chief Investment Officer, and Founder of Kalmar. He has worked in investment management since 1967; founded Kalmar Investments Inc., the parent company of Kalmar, in 1982; and has managed a portion of the Fund since 2005. Education: B.A., Yale University; M.B.A., Columbia University. EDWARD N. ANTOIAN, CFA, CPA, Managing Partner at Chartwell. He has managed equity funds since 1984 and has co-managed a portion of the Fund since 1997. Education: B.S., State University of New York; M.B.A., University of Pennsylvania. JOHN HEFFERN, Managing Partner at Chartwell. He has worked in investment management since 1988, has been with Chartwell since 2005, and has co-managed a portion of the Fund since 2006. Education: B.S. and M.B.A., University of North Carolina at Chapel Hill. JAMES D. TROYER, CFA, Principal of Vanguard. He has worked in investment management since 1979; has been with Vanguard since 1989; and has managed a portion of the Fund since 2006. Education: A.B., Occidental College. - ------------------------------------------------------------------------------- 16 The Statement of Additional Information provides information about each portfolio manager's compensation, other accounts under management, and ownership of securities in the Fund. DIVIDENDS, CAPITAL GAINS, AND TAXES The Fund distributes to shareholders virtually all of its net income (interest and dividends, less expenses) as well as any net capital gains realized from the sale of its holdings. Distributions generally occur annually in December. Your distributions will be reinvested in additional Fund shares and accumulate on a tax-deferred basis if you are investing through an employer-sponsored retirement or savings plan. You will not owe taxes on these distributions until you begin withdrawals from the plan. You should consult your plan administrator, your plan's Summary Plan Description, or your tax advisor about the tax consequences of plan withdrawals. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT DISTRIBUTIONS As a shareholder, you are entitled to your portion of a fund's income from interest and dividends as well as gains from the sale of investments. Income consists of both the dividends that the fund earns from any stock holdings and the interest it receives from any money market and bond investments. Capital gains are realized whenever the fund sells securities for higher prices than it paid for them. These capital gains are either short-term or long-term, depending on whether the fund held the securities for one year or less or for more than one year. You receive the fund's earnings as either a dividend or capital gains distribution. - ------------------------------------------------------------------------------- 17 SHARE PRICE The Fund's share price, called its net asset value, or NAV, is calculated each business day as of the close of regular trading on the New York Stock Exchange, generally 4 p.m., Eastern time. NAV per share is computed by dividing the net assets allocated to each share class by the number of Fund shares outstanding for that class. On holidays or other days when the Exchange is closed, the NAV is not calculated, and the Fund does not transact purchase or redemption requests. However, on those days the value of the Fund's assets may be affected to the extent that the Fund holds foreign securities that trade on foreign markets that are open. Stocks held by a Vanguard fund are valued at their market value when reliable market quotations are readily available. Certain short-term debt instruments used to manage a fund's cash are valued on the basis of amortized cost. The values of any foreign securities held by a fund are converted into U.S. dollars using an exchange rate obtained from an independent third party. The values of any mutual fund shares held by a fund are based on the NAVs of the underlying mutual funds (in the case of conventional share classes) or the market value of the shares (in the case of exchange-traded fund shares, such as ETF Shares). When reliable market quotations are not readily available, securities are priced at their fair value (the amount that the owner might reasonably expect to receive upon the current sale of a security). A fund also will use fair-value pricing if the value of a security it holds has been materially affected by events occurring before the fund's pricing time but after the close of the primary markets or exchanges on which the security is traded. This most commonly occurs with foreign securities, which may trade on foreign exchanges that close many hours before the fund's pricing time. Intervening events might be company-specific (e.g., earnings report, merger announcement); country-specific (e.g., natural disaster, economic or political news, act of terrorism, interest rate change); or global. Intervening events include price movements in U.S. markets that are deemed to affect the value of foreign securities. Although rare, fair-value pricing also may be used for domestic securities--for example, if (1) trading in a security is halted and does not resume before the fund's pricing time or if a security does not trade in the course of a day, and (2) the fund holds enough of the security that its price could affect the fund's NAV. Fair-value prices are determined by Vanguard according to procedures adopted by the board of trustees. When fair-value pricing is employed, the prices of securities used by a fund to calculate its NAV may differ from quoted or published prices for the same securities. Vanguard fund share prices can be found daily in the mutual fund listings of most major newspapers under various "Vanguard" headings. 18 FINANCIAL HIGHLIGHTS The following financial highlights table is intended to help you understand the Investor Shares' financial performance for the periods shown, and certain information reflects financial results for a single Investor Share. The total returns in the table represent the rate that an investor would have earned or lost each period on an investment in the Investor Shares (assuming reinvestment of all distributions). The information for the six-month period ended April 30, 2007, has not been audited by an independent registered public accounting firm. The information for all other periods in the table through October 31, 2006, has been derived from the financial statements audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, whose report--along with the Fund's financial statements--is included in the Fund's most recent annual report to shareholders. To receive a free copy of the latest annual or semiannual report, you may access a report online at www.vanguard.com, or you may contact Vanguard by telephone or by mail. 19 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT HOW TO READ THE FINANCIAL HIGHLIGHTS TABLE The Investor Shares began the fiscal period ended April 30, 2007, with a net asset value (price) of $80.26 per share. During the period, each Investor Share earned $0.191 from investment income (interest and dividends) and $7.433 from investments that had appreciated in value or that were sold for higher prices than the Fund paid for them. Shareholders received $7.744 per share in the form of dividend and capital gains distributions. A portion of each year's distributions may come from the prior year's income or capital gains. The share price at the end of the period was $80.14, reflecting earnings of $7.624 per share and distributions of $7.744 per share. This was an decrease of $0.12 per share (from $80.26 at the beginning of the period to $80.14 at the end of the period). For a shareholder who reinvested the distributions in the purchase of more shares, the total return was 10.10% for the period. As of April 30, 2007, the Investor Shares had approximately $8.9 billion in net assets. For the period, the annualized expense ratio was 0.45% ($4.50 per $1,000 of net assets), and the annualized net investment income amounted to 0.45% of average net assets. The Fund sold and replaced securities valued at an annualized rate of 75% of its net assets. - ------------------------------------------------------------------------------- 20
EXPLORER FUND INVESTOR SHARES Six Months Ended Year Ended October 31, Apr. 30, ------------------------------------------------------------------ 2007 2006 2005 2004 2003 2002 - ------------------------------------------------------------------------------------------------------------------------------ Net Asset Value, Beginning of Period $80.26 $76.67 $67.01 $63.17 $44.60 $51.91 - ------------------------------------------------------------------------------------------------------------------------------ Investment Operations - ------------------------------------------------------------------------------------------------------------------------------ Net Investment Income (Loss) .191 .302 .111 (.05) (.012) (.005) - ------------------------------------------------------------------------------------------------------------------------------ Net Realized and Unrealized Gain (Loss) on Investments 7.433 9.724 9.622 3.89 18.587 (7.200) - ------------------------------------------------------------------------------------------------------------------------------ Total from Investment Operations 7.624 10.026 9.733 3.84 18.575 (7.205) - ------------------------------------------------------------------------------------------------------------------------------ Distributions - ------------------------------------------------------------------------------------------------------------------------------ Dividends from Net Investment Income (.320) (.230) -- -- (.005) (.105) - ------------------------------------------------------------------------------------------------------------------------------ Distributions from Realized Capital Gains (7.424) (6.206) (.073) -- -- -- - ------------------------------------------------------------------------------------------------------------------------------ Total Distributions (7.744) (6.436) (.073) -- (.005) (.105) - ------------------------------------------------------------------------------------------------------------------------------ Net Asset Value, End of Period $80.14 $80.26 $76.67 $67.01 $63.17 $44.60 - ------------------------------------------------------------------------------------------------------------------------------ Total Return 10.10% 13.59% 14.53% 6.08% 41.65% -13.93% - ------------------------------------------------------------------------------------------------------------------------------ Ratios/Supplemental Data - ------------------------------------------------------------------------------------------------------------------------------ Net Assets, End of Period (Millions) $8,913 $8,517 $7,836 $7,302 $5,662 $3,432 - ------------------------------------------------------------------------------------------------------------------------------ Ratio of Total Expenses to Average Net Assets/1/ 0.45%/2/ 0.46% 0.51% 0.57% 0.72% 0.70% - ------------------------------------------------------------------------------------------------------------------------------ Ratio of Net Investment Income (Loss) to Average Net Assets 0.45%/2/ 0.36% 0.16% (0.11%) (0.08%) (0.01%) - ------------------------------------------------------------------------------------------------------------------------------ Turnover Rate 75%/2/ 96% 80% 82% 77% 69% - ------------------------------------------------------------------------------------------------------------------------------ 1 Includes performance-based investment advisory fee increases (decreases) of (0.04%), (0.03%), (0.01%), 0.02%, 0.07%, and 0.07%. 2 Annualized.
21 INVESTING WITH VANGUARD Your retirement or savings plan investment options include the Fund. Your plan administrator or your employee benefits office can provide you with detailed information on how to participate in your plan and how to elect the Fund as an investment option. .. If you have any questions about the Fund or Vanguard, including those about the Fund's investment objective, strategies, or risks, contact Vanguard's Participant Access Center, toll-free, at 800-523-1188. .. If you have questions about your account, contact your plan administrator or the organization that provides recordkeeping services for your plan. .. Be sure to carefully read each topic that pertains to your transactions with Vanguard. .. Vanguard reserves the right to change these policies without prior notice to shareholders. INVESTMENT OPTIONS AND ALLOCATIONS Your plan's specific provisions may allow you to change your investment selections, the amount of your contributions, or how your contributions are allocated among the investment choices available to you. Contact your plan administrator or employee benefits office for more details. TRANSACTIONS Contribution, exchange, or redemption requests must be in good order. Good order means that your request includes complete information on your contribution, exchange, or redemption, and that Vanguard has received the appropriate assets. In all cases, your transaction will be based on the Fund's next-determined NAV after Vanguard receives your request (or, in the case of new contributions, the next-determined NAV after Vanguard receives the order from your plan administrator). As long as this request is received before the close of trading on the New York Stock Exchange, generally 4 p.m., Eastern time, you will receive that day's NAV. This is known as your trade date. EXCHANGES The exchange privilege (your ability to redeem shares from one fund to purchase shares of another fund) may be available to you through your plan. Although we make every effort to maintain the exchange privilege, Vanguard reserves the right to revise or terminate this privilege, limit the amount of an exchange, or reject any exchange, at any time, without notice. Because excessive exchanges can disrupt the management of the Vanguard funds and increase their transaction costs, Vanguard places certain limits on the exchange privilege. 22 If you are exchanging out of any Vanguard fund (other than money market funds, short-term bond funds, and ETF Shares), the following policy applies, regardless of the dollar amount: .. You must wait 60 days before exchanging back into the fund. .. The 60-day clock restarts after every exchange out of the fund. The policy does not apply to the following: .. Purchases of shares with participant payroll or employer contributions or loan repayments. .. Purchases of shares with reinvested dividend or capital gains distributions. .. Distributions, loans, and in-service withdrawals from a plan. .. Redemptions of shares as part of a plan termination or at the direction of the plan. .. Redemptions of shares to pay fund or account fees. .. Share or asset transfers or rollovers. .. Re-registrations of shares within the same fund. .. Conversions of shares from one share class to another in the same fund. .. Automated transactions executed during the first six months of a participant's enrollment in the Vanguard Managed Account Program. Before making an exchange to or from another fund available in your plan, consider the following: .. Certain investment options, particularly funds made up of company stock or investment contracts, may be subject to unique restrictions. .. Be sure to read that fund's prospectus. Contact Vanguard's Participant Access Center, toll-free, at 800-523-1188 for a copy. .. Vanguard can accept exchanges only as permitted by your plan. Contact your plan administrator for details on other exchange policies that apply to your plan. PLANS FOR WHICH VANGUARD DOES NOT SERVE AS RECORDKEEPER: If Vanguard does not serve as recordkeeper for your plan, your plan's recordkeeper will establish accounts in Vanguard funds. In such accounts, we cannot always monitor the trading activity of individual clients. However, we review trading activity at the omnibus level, and if we detect suspicious activity, we will seek to investigate and take appropriate action. If necessary, Vanguard may prohibit additional purchases of fund shares by an intermediary or by certain of the intermediary's clients. Intermediaries may also monitor participants' trading activity in the Vanguard funds. For those Vanguard funds that charge purchase or redemption fees, intermediaries that establish accounts in the Vanguard funds will be asked to assess purchase and redemption fees on participant accounts and remit these fees to the funds. The 23 application of purchase and redemption fees and frequent-trading policies may vary among intermediaries. There are no assurances that Vanguard will successfully identify all intermediaries or that intermediaries will properly assess purchase and redemption fees or administer frequent-trading policies. If a firm other than Vanguard serves as recordkeeper for your plan, please read that firm's materials carefully to learn of any other rules or fees that may apply. PORTFOLIO HOLDINGS We generally post on our website at www.vanguard.com, in the Holdings section of the Fund's Profile page, a detailed list of the securities held by the Fund (under Portfolio Holdings), as of the most recent calendar-quarter-end. This list is generally updated within 30 days after the end of each calendar quarter. Vanguard may exclude any portion of these portfolio holdings from publication when deemed in the best interest of the Fund. We also generally post the ten largest stock portfolio holdings of the Fund and the percentage of the Fund's total assets that each of these holdings represents, as of the most recent calendar-quarter-end. This list is generally updated within 15 calendar days after the end of each calendar quarter. These postings generally remain until replaced by new postings as previously described. Please consult the Fund's Statement of Additional Information or our website for a description of the policies and procedures that govern disclosure of the Fund's portfolio holdings. ACCESSING FUND INFORMATION BY COMPUTER Vanguard on the World Wide Web WWW.VANGUARD.COM Use your personal computer to visit Vanguard's education-oriented website, which provides timely news and information about Vanguard funds and services; the online Education Center that offers a variety of mutual fund classes; and easy-to-use, interactive tools to help you create your own investment and retirement strategies. Vanguard, Connect with Vanguard, Plain Talk, Explorer, Vanguard ETF, and the ship logo are trademarks of The Vanguard Group, Inc. All other marks are the exclusive property of their respective owners. 24 GLOSSARY OF INVESTMENT TERMS CAPITAL GAINS DISTRIBUTION. Payment to mutual fund shareholders of gains realized on securities that a fund has sold at a profit, minus any realized losses. CASH INVESTMENTS. Cash deposits, short-term bank deposits, and money market instruments that include U.S. Treasury bills and notes, bank certificates of deposit (CDs), repurchase agreements, commercial paper, and banker's acceptances. COMMON STOCK. A security representing ownership rights in a corporation. A stockholder is entitled to share in the company's profits, some of which may be paid out as dividends. COUNTRY RISK. The chance that domestic events--such as political upheaval, financial troubles, or natural disasters--will weaken a country's securities markets. CURRENCY RISK. The chance that the value of a foreign investment, measured in U.S. dollars, will decrease because of unfavorable changes in currency exchange rates. DIVIDEND DISTRIBUTION. Payment to mutual fund shareholders of income from interest or dividends generated by a fund's investments. EXPENSE RATIO. The percentage of a fund's average net assets used to pay its expenses during a fiscal year. The expense ratio includes management expenses--such as advisory fees, account maintenance, reporting, accounting, legal, and other administrative expenses--and any 12b-1 distribution fees. It does not include the transaction costs of buying and selling portfolio securities. GROWTH FUND. A mutual fund that emphasizes stocks of companies believed to have above-average potential for growth in revenue, earnings, cash flow, or other similar criteria. These stocks typically have low dividend yields and above-average prices in relation to such measures as earnings and book value. INCEPTION DATE. The date on which the assets of a fund (or one of its share classes) are first invested in accordance with the fund's investment objective. For funds with a subscription period, the inception date is the day after that period ends. Investment performance is measured from the inception date. INVESTMENT ADVISOR. An organization that is responsible for making the day-to-day decisions regarding a fund's investments. MEDIAN MARKET CAP. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund's stocks, weighted by the proportion of the fund's assets invested in each stock. Stocks representing half of the fund's assets have market capitalizations above the median, and the rest are below it. MUTUAL FUND. An investment company that pools the money of many people and invests it in a variety of securities in an effort to achieve a specific objective over time. 25 NET ASSET VALUE (NAV). The market value of a mutual fund's total assets, minus liabilities, divided by the number of shares outstanding. The value of a single share is also called its share value or share price. PRINCIPAL. The face value of a debt instrument or the amount of money put into an investment. SECURITIES. Stocks, bonds, money market instruments, and other investment vehicles. TOTAL RETURN. A percentage change, over a specified time period, in a mutual fund's net asset value, assuming the reinvestment of all distributions of dividends and capital gains. VALUE FUND. A mutual fund that emphasizes stocks whose prices typically are below average in relation to such measures as earnings and book value. These stocks often have above-average dividend yields. VOLATILITY. The fluctuations in value of a mutual fund or other security. The greater a fund's volatility, the wider the fluctuations in its returns. YIELD. Income (interest or dividends) earned by an investment, expressed as a percentage of the investment's price. 26 This page intentionally left blank. This page intentionally left blank. This page intentionally left blank. [SHIP LOGO VANGUARD/(R)/] Institutional Division P.O. Box 2900 Valley Forge, PA 19482-2900 CONNECT WITH VANGUARD/(R)/ > www.vanguard.com For More Information If you would like more information about Vanguard Explorer Fund, the following documents are available free upon request: Annual/Semiannual Reports to Shareholders Additional information about the Fund's investments is available in the Fund's annual and semiannual reports to shareholders. In the annual report, you will find a discussion of the market conditions and investment strategies that significantly affected the Fund's performance during its last fiscal year. Statement of Additional Information (SAI) The SAI provides more detailed information about the Fund. The current annual and semiannual reports and the SAI are incorporated by reference into (and are thus legally a part of) this prospectus. To receive a free copy of the latest annual or semiannual report or the SAI, or to request additional information about the Fund or other Vanguard funds, please visit www.vanguard.com or contact us as follows: The Vanguard Group Participant Access Center P.O. Box 2900 Valley Forge, PA 19482-2900 Telephone: 800-523-1188 Text Telephone for people with hearing impairment: 800-749-7273 Information Provided by the Securities and Exchange Commission (SEC) You can review and copy information about the Fund (including the SAI) at the SEC's Public Reference Room in Washington, DC. To find out more about this public service, call the SEC at 202-551-8090. Reports and other information about the Fund are also available in the EDGAR database on the SEC's Internet site at www.sec.gov, or you can receive copies of this information, for a fee, by electronic request at the following e-mail address: publicinfo@sec.gov, or by writing the Public Reference Section, Securities and Exchange Commission, Washington, DC 20549-0102. Fund's Investment Company Act file number: 811-1530 (C) 2007 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor. I024 082007 VANGUARD/(R)/ EXPLORER(TM) FUND > PROSPECTUS ADMIRAL(TM) SHARES FOR PARTICIPANTS August 17, 2007 [SHIP LOGO VANGUARD/(R)/] This prospectus contains financial data for the Fund through the fiscal period ended April 30, 2007. Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense. CONTENTS - ------------------------------------------------------------------------------- Fund Profile 1 Financial Highlights 19 - ------------------------------------------------------------------------------- More on the Fund 5 Investing With Vanguard 22 - ------------------------------------------------------------------------------- The Fund and Vanguard 13 Accessing Fund Information by Computer 24 - ------------------------------------------------------------------------------- Investment Advisors 14 Glossary of Investment Terms 25 - ------------------------------------------------------------------------------- Dividends, Capital Gains, and Taxes 17 - ------------------------------------------------------------------------------- Share Price 18 - ------------------------------------------------------------------------------- WHY READING THIS PROSPECTUS IS IMPORTANT This prospectus explains the investment objective, policies, strategies, and risks associated with the Fund. To highlight terms and concepts important to mutual fund investors, we have provided Plain Talk/(R)/ explanations along the way. Reading the prospectus will help you decide whether the Fund is the right investment for you. We suggest that you keep this prospectus for future reference. This prospectus offers the Fund's Admiral Shares and is intended for participants in employer-sponsored retirement or savings plans. Another version--for investors who would like to open a personal investment account--can be obtained by calling Vanguard at 800-662-7447. FUND PROFILE INVESTMENT OBJECTIVE The Fund seeks to provide long-term capital appreciation. PRIMARY INVESTMENT STRATEGIES The Fund invests mainly in the stocks of small companies. These companies tend to be unseasoned but are considered by the Fund's advisors to have superior growth potential. Also, these companies often provide little or no dividend income. The Fund uses multiple investment advisors. PRIMARY RISKS An investment in the Fund could lose money over short or even long periods. You should expect the Fund's share price and total return to fluctuate within a wide range, like the fluctuations of the overall stock market. The Fund's performance could be hurt by: .. Stock market risk, which is the chance that stock prices overall will decline. Stock markets tend to move in cycles, with periods of rising prices and periods of falling prices. .. Investment style risk, which is the chance that returns from small-capitalization growth stocks will trail returns from the overall stock market. Historically, small-cap stocks have been more volatile in price than the large-cap stocks that dominate the overall market, and they often perform quite differently. .. Manager risk, which is the chance that poor security selection will cause the Fund to underperform relevant benchmarks or other funds with a similar investment objective. PERFORMANCE/RISK INFORMATION The following bar chart and table are intended to help you understand the risks of investing in the Fund. The bar chart shows how the performance of the Fund's Admiral Shares has varied from one calendar year to another over the periods shown. The table shows how the average annual total returns compare with those of a relevant market index. Keep in mind that the Fund's past performance does not indicate how the Fund will perform in the future. 1 ANNUAL TOTAL RETURNS--ADMIRAL SHARES/1/ - ------------------------------------------------------------------------------- BAR CHART: SCALE -40% to 60% 2002 -24.50% 2003 44.45 2005 13.92 2006 9.46 2007 9.88 - ------------------------------------------------------------------------------- 1 The year-to-date return as of the most recent calendar quarter, which ended June 30, 2007, was 10.81%. During the periods shown in the bar chart, the highest return for a calendar quarter was 22.44% (quarter ended June 30, 2003), and the lowest return for a quarter was -18.45% (quarter ended September 30, 2002). AVERAGE ANNUAL TOTAL RETURNS FOR PERIODS ENDED DECEMBER 31, 2006 Since 1 Year 5 Years Inception/1/ - -------------------------------------------------------------------------------- Vanguard Explorer Fund Admiral Shares 9.88% 8.36% 10.59% - -------------------------------------------------------------------------------- Russell 2500 Growth Index (reflects no deduction for fees or expenses) 12.26% 7.62% 9.51% - -------------------------------------------------------------------------------- 1 Since-inception returns are from November 12, 2001--the inception date of the Admiral Shares--through December 31, 2006. FEES AND EXPENSES The following table describes the fees and expenses you may pay if you buy and hold Admiral Shares of the Fund. As is the case with all mutual funds, transaction costs incurred by the Fund for buying and selling securities are not reflected in the table. However, these costs are reflected in the investment performance figures included in this prospectus. The expenses shown under Annual Fund Operating Expenses are based estimated amounts for the current fiscal year. 2 Shareholder Fees (Fees paid directly from your investment) - ------------------------------------------------------------------------- Sales Charge (Load) Imposed on Purchases None - ------------------------------------------------------------------------- Purchase Fee None - ------------------------------------------------------------------------- Sales Charge (Load) Imposed on Reinvested Dividends None - ------------------------------------------------------------------------- Redemption Fee None - ------------------------------------------------------------------------- Annual Fund Operating Expenses (Expenses deducted from the Fund's assets) - ------------------------------------------------------------------------- Management Expenses 0.24% - ------------------------------------------------------------------------- 12b-1 Distribution Fee None - ------------------------------------------------------------------------- Other Expenses 0.03% - ------------------------------------------------------------------------- Total Annual Fund Operating Expenses 0.27% - ------------------------------------------------------------------------- The following example is intended to help you compare the cost of investing in the Fund's Admiral Shares with the cost of investing in other mutual funds. It illustrates the hypothetical expenses that you would incur over various periods if you invest $10,000 in the Fund's shares. This example assumes that the shares provide a return of 5% a year and that operating expenses match our estimates. The results apply whether or not you redeem your investment at the end of the given period. 1 Year 3 Years 5 Years 10 Years - ---------------------------------------------------------- $28 $87 $152 $343 - ---------------------------------------------------------- This example should not be considered to represent actual expenses or performance from the past or for the future. Actual future expenses may be higher or lower than those shown. 3 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT FUND EXPENSES All mutual funds have operating expenses. These expenses, which are deducted from a fund's gross income, are expressed as a percentage of the net assets of the fund. We expect Vanguard Explorer Fund Admiral Shares' expense ratio for the current fiscal year to be 0.27%, or $2.70 per $1,000 of average net assets. The average small-cap growth fund had expenses in f average net assets. The average small-cap growth fund had expenses in 2006 of 1.64%, or $16.40 per $1,000 of average net assets (derived from data provided by Lipper Inc., which reports on the mutual fund industry). Management expenses, which are one part of operating expenses, include investment advisory fees as well as other costs of managing a fund--such as account maintenance, reporting, accounting, legal, and other administrative expenses. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- PLAIN TALK ABOUT COSTS OF INVESTING Costs are an important consideration in choosing a mutual fund. That's because you, as a shareholder, pay the costs of operating a fund, plus any transaction costs incurred when the fund buys or sells securities. These costs can erode a substantial portion of the gross income or the capital appreciation a fund achieves. Even seemingly small differences in expenses can, over time, have a dramatic effect on a fund's performance. - ------------------------------------------------------------------------------- 4
Additional Information As of April 30, 2007 - ------------------------------------------------------------------------------------------ Net Assets (all share classes) $12.4 billion - ------------------------------------------------------------------------------------------ Investment Advisors .AXA Rosenberg Investment Management LLC, Orinda, Calif., since 2007 .Chartwell Investment Partners, L.P., Berwyn, Pa., since 1997 .Granahan Investment Management, Inc., Waltham, Mass., since 1990 .Grantham, Mayo, Van Otterloo & Co. LLC, Boston, Mass., since 2000 .Kalmar Investment Advisers, Wilmington, Del., since 2005 .Wellington Management Company, LLP, Boston, Mass., since inception .The Vanguard Group, Inc., Valley Forge, Pa., since 1997 - ------------------------------------------------------------------------------------------ Dividends and Capital Gains Distributed annually in December - ------------------------------------------------------------------------------------------ Inception Date Investor Shares--December 11, 1967 Admiral Shares--November 12, 2001 - ------------------------------------------------------------------------------------------ Newspaper Abbreviation ExplrAdml - ------------------------------------------------------------------------------------------ Vanguard Fund Number 5024 - ------------------------------------------------------------------------------------------ Cusip Number 921926200 - ------------------------------------------------------------------------------------------ Ticker Symbol VEXRX - ------------------------------------------------------------------------------------------
MORE ON THE FUND This prospectus describes the primary risks you would face as a Fund shareholder. It is important to keep in mind one of the main axioms of investing: The higher the risk of losing money, the higher the potential reward. The reverse, also, is generally true: The lower the risk, the lower the potential reward. As you consider an investment in any mutual fund, you should take into account your personal tolerance for fluctuations in the securities markets. Look for this [FLAG] symbol throughout the prospectus. It is used to mark detailed information about the more significant risks that you would confront as a Fund shareholder. The following sections explain the primary investment strategies and policies that the Fund uses in pursuit of its objective. The Fund's board of trustees, which oversees the Fund's management, may change investment strategies or policies in the interest of shareholders without a shareholder vote, unless those strategies or policies are designated as fundamental. 5 MARKET EXPOSURE The Fund focuses on companies that are considered small-cap by the Fund's advisors. Stocks of publicly traded companies and funds that invest in stocks are often classified according to market value, or market capitalization. These classifications typically include small-cap, mid-cap, and large-cap. It's important to understand that, for both companies and stock funds, market-capitalization ranges change over time. Also, interpretations of size vary, and there are no "official" definitions of small-, mid-, and large-cap, even among Vanguard fund advisors. The asset-weighted median market capitalization of the Fund as of April 30, 2007, was $2.7 billion. Small-cap stocks tend to have greater volatility than large-cap stocks because, among other things, smaller companies often have fewer customers, financial resources, and products than larger firms. Such characteristics can make small-cap companies more sensitive to changing economic conditions. In addition, these companies typically provide little or no dividend income. [FLAG] The Fund is subject to stock market risk, which is the chance that stock prices overall will decline. Stock markets tend to move in cycles, with periods of rising prices and periods of falling prices. To illustrate the volatility of stock prices, the following table shows the best, worst, and average annual total returns for the U.S. stock market over various periods as measured by the Standard & Poor's 500 Index, a widely used barometer of market activity. (Total returns consist of dividend income plus change in market price.) Note that the returns shown do not include the costs of buying and selling stocks or other expenses that a real-world investment portfolio would incur. U.S. Stock Market Returns (1926-2006) 1 Year 5 Years 10 Years 20 Years - ---------------------------------------------------------- Best 54.2% 28.6% 19.9% 17.8% - ---------------------------------------------------------- Worst -43.1 -12.4 -0.8 3.1 - ---------------------------------------------------------- Average 12.3 10.4 11.1 11.4 - ---------------------------------------------------------- The table covers all of the 1-, 5-, 10-, and 20-year periods from 1926 through 2006. You can see, for example, that although the average return on common stocks for all of the 5-year periods was 10.4%, average returns for individual 5-year periods ranged from -12.4% (from 1928 through 1932) to 28.6% (from 1995 through 1999). These average returns reflect past performance of common stocks; you should not regard them as an indication of future performance of either the stock market as a whole or the Fund in particular. 6 Keep in mind that the Fund focuses on the stocks of smaller companies. Historically, small-cap stocks have been more volatile than--and at times have performed quite differently from--the large-cap stocks found in the S&P 500 Index. This volatility is due to several factors, including less-certain growth and dividend prospects for smaller companies. [FLAG] The Fund is subject to investment style risk, which is the chance that returns from small-capitalization growth stocks will trail returns from the overall stock market. Historically, small-cap stocks have been more volatile in price than the large-cap stocks that dominate the overall market, and they often perform quite differently. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT GROWTH FUNDS AND VALUE FUNDS Growth investing and value investing are two styles employed by stock-fund managers. Growth funds generally focus on stocks of companies believed to have above-average potential for growth in revenue, earnings, cash flow, or other similar criteria. These stocks typically have low dividend yields and above-average prices in relation to such measures as earnings and book value. Value funds typically emphasize stocks whose prices are below average in relation to those measures; these stocks often have above-average dividend yields. Growth and value stocks have historically produced similar long-term returns, though each category has periods when it outperforms the other. - ------------------------------------------------------------------------------- SECURITY SELECTION The Fund uses multiple investment advisors. Each advisor independently selects and maintains a portfolio of common stocks for the Fund. These advisors employ active investment management methods, which means that securities are bought and sold according to the advisors' evaluations of companies and their financial prospects, the prices of the securities, and the stock market and the economy in general. Each advisor will sell a security when it is no longer as attractive as an alternative investment. Each advisor uses a different process to select securities for its portion of the Fund's assets; however, each is committed to buying stocks of small companies that, in the advisor's opinion, have strong growth potential. Granahan Investment Management, Inc. (Granahan), which manages approximately 21% of the Fund's assets, groups securities into three categories as part of its selection process. The first category, "core growth," emphasizes companies that have a well-known or established product or service and, as a result, have a proven record of growth and a strong market position. The second category, "pioneers," is 7 made up of companies that offer unique products or services, technologies that may lead to new products, or expansion into new markets. Granahan judges "pioneer" stocks based on their estimated growth potential compared with market value. The third category, "special situation," includes companies that lack a record of strong growth but that, in Granahan's view, are both undervalued in the market and likely to grow in the next few years. "Core growth" stocks generally make up 35% to 70% of the advisor's share of Fund assets, with the other two categories generally at 10% to 35% each. Grantham, Mayo, Van Otterloo & Co. LLC (GMO), which manages approximately 16% of the Fund's assets, uses computerized models to select the most attractive small-cap growth stocks according to several criteria, including earnings revision, which selects companies that are likely to experience positive earnings surprises; intrinsic value, which seeks out high-quality growth companies that are selling below their intrinsic value; and finally, recent price trends. This quantitative investment method is expected to result in a portfolio that is broadly diversified among small-cap stocks. GMO seeks to maintain reasonable liquidity by limiting positions in individual issues. Wellington Management Company, LLP (Wellington Management), which manages approximately 13% of the Fund's assets, uses research and analysis of individual companies to select stocks that the advisor feels have exceptional growth potential relative to their valuations in the marketplace. Wellington Management considers each stock individually before purchase, and continually monitors developments at these companies for comparison with the advisor's expectations for growth. To help limit risk, the portfolio is broadly diversified both by number of stocks and by exposure to a range of industries. AXA Rosenberg Investment Management LLC (AXA Rosenberg), which manages approximately 12% of the Fund's assets, constructs a portfolio of common stocks based on fundamental analysis using a two-part quantitative model: a valuation model and an earnings forecast model. The valuation model seeks to identify the fair value of a stock using a sum-of-the-parts technique. The sum of a company's parts is then compared to the current stock price to determine whether the stock appears to be under- or overvalued by the market. The earnings forecast model seeks to identify companies that are expected to have superior, year-ahead earnings. A mix of fundamental indicators (e.g., profitability measures) and indicators from market participants (e.g., analyst forecasts) is combined to generate a forecast of next year's earnings for a company. The output of the two models is combined to form a single predicted return for each company that AXA Rosenberg covers. The predicted returns are fed into a risk model that maximizes the portfolio's expected return while minimizing common factor differences versus the benchmark index. Each stock is compared with its next-best alternative, taking into account round-trip trading costs. 8 AXA Rosenberg optimizes its portfolio against the Russell 2500 Growth Index, the benchmark for the Fund. Kalmar Investment Advisers (Kalmar), which manages approximately 9% of the Fund's assets, is a research-driven investment firm that is entirely focused on the management of "growth-with-value" smaller-cap equity portfolios. Kalmar believes that there is a high-reward and low-risk anomaly offered by the equity market in the stocks of solid, well-managed, rapidly growing smaller companies that are not fully on the radar screen of most institutional growth managers. Through independent fundamental research, Kalmar attempts to discover such companies, buy them at undervalued levels, and own them for the longer term. Kalmar searches for companies that it believes have the following characteristics: strong products, strong balance sheets, attractive financial returns, conservative accounting, and superior management with the ability to deliver positive results. Chartwell Investment Partners, L.P. (Chartwell), which manages approximately 8% of the Fund's assets, uses a research-driven process to choose stocks judged to have exceptional growth potential and reasonable prices. After considering each stock individually before purchase, Chartwell constantly monitors the characteristics of its holdings as a group by using computerized techniques. The Vanguard Group (Vanguard), which manages approximately 18% of the Fund's assets, constructs a broadly diversified portfolio of small-cap domestic growth stocks based on its assessment of the relative return potential of the underlying securities. The advisor selects securities that it believes offer a good balance between reasonable valuations and attractive earnings growth prospects relative to their small-cap domestic growth peers. Vanguard implements its stock selection process through the use of proprietary software programs that compare thousands of securities at a time. In addition, Vanguard manages approximately 3% of the Fund's assets by investing in stock index futures and/or shares of exchange-traded funds. For more details, see "Other Investment Policies and Risks." The Fund is generally managed without regard to tax ramifications. [FLAG] The Fund is subject to manager risk, which is the chance that poor security selection will cause the Fund to underperform relevant benchmarks or other funds with a similar investment objective. OTHER INVESTMENT POLICIES AND RISKS Besides investing in common stocks of growth companies, the Fund may make other kinds of investments to achieve its objective. Although the Fund typically does not make significant investments in foreign securities, it reserves the right to invest up to 25% of its assets this way. Foreign 9 securities may be traded on U.S. or foreign markets. To the extent that it owns foreign securities, the Fund is subject to (1) country risk, which is the chance that domestic events--such as political upheaval, financial troubles, or natural disasters--will weaken a country's securities markets; and (2) currency risk, which is the chance that the value of a foreign investment, measured in U.S. dollars, will decrease because of unfavorable changes in currency exchange rates. The Fund may invest up to 15% of its net assets in restricted securities with limited marketability or in other illiquid securities. The Fund may invest, to a limited extent, in derivatives. Generally speaking, a derivative is a financial contract whose value is based on the value of a financial asset (such as a stock, bond, or currency), a physical asset (such as gold), or a market index (such as the S&P 500 Index). Investments in derivatives may subject the Fund to risks different from, and possibly greater than, those of the underlying securities, assets, or market indexes. The Fund will not use derivatives for speculation or for the purpose of leveraging (magnifying) investment returns. The Fund may enter into forward foreign currency exchange contracts, which are types of derivative contracts. A forward foreign currency exchange contract is an agreement to buy or sell a country's currency at a specific price on a specific date, usually 30, 60, or 90 days in the future. In other words, the contract guarantees an exchange rate on a given date. Managers of funds that invest in foreign securities use these contracts to guard against sudden, unfavorable changes in the U.S. dollar/ foreign currency exchange rates. These contracts, however, will not prevent the Fund's securities from falling in value during foreign market downswings. Vanguard typically invests a small portion of the Fund's assets in stock index futures and/or shares of exchange-traded funds (ETFs), including ETF Shares issued by Vanguard stock index funds. Stock index futures and ETFs provide returns similar to those of common stocks. Vanguard may purchase futures or ETFs when doing so will reduce the Fund's transaction costs or add value because the instruments are favorably priced. Vanguard receives no additional revenue from investing Fund assets in ETF Shares of other Vanguard funds. Fund assets invested in ETF Shares are excluded when allocating to the Fund its share of the costs of Vanguard operations. 10 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT DERIVATIVES Derivatives can take many forms. Some forms of derivatives, such as exchange-traded futures and options on securities, commodities, or indexes, have been trading on regulated exchanges for decades. These types of derivatives are standardized contracts that can easily be bought and sold, and whose market values are determined and published daily. Nonstandardized derivatives (such as swap agreements), on the other hand, tend to be more specialized or complex, and may be harder to value. - ------------------------------------------------------------------------------- CASH MANAGEMENT The Fund's daily cash balance may be invested in one or more Vanguard CMT Funds, which are very low-cost money market funds. When investing in a Vanguard CMT Fund, the Fund bears its proportionate share of the at-cost expenses of the CMT Fund in which it invests. TEMPORARY INVESTMENT MEASURES The Fund may temporarily depart from its normal investment policies--for instance, by allocating substantial assets to cash investments--in response to extraordinary market, economic, political, or other conditions. In doing so, the Fund may succeed in avoiding losses, but may otherwise fail to achieve its investment objective. 11 FREQUENT TRADING OR MARKET-TIMING Background. Some investors try to profit from strategies involving frequent trading of mutual fund shares, such as market-timing. For funds holding foreign securities, investors may try to take advantage of an anticipated difference between the price of the fund's shares and price movements in overseas markets, a practice also known as time-zone arbitrage. Investors also may try to engage in frequent trading of funds holding investments such as small-cap stocks and high-yield bonds. As money is shifted into and out of a fund by a shareholder engaging in frequent trading, a fund incurs costs for buying and selling securities, resulting in increased brokerage and administrative costs. These costs are borne by all fund shareholders, including the long-term investors who do not generate the costs. In addition, frequent trading may interfere with an advisor's ability to efficiently manage the fund. Policies to Address Frequent Trading. The Vanguard funds (other than money market funds, short-term bond funds, and Vanguard ETF(TM) Shares) do not knowingly accommodate frequent trading. The board of trustees of each Vanguard fund has adopted policies and procedures reasonably designed to detect and discourage frequent trading and, in some cases, to compensate the fund for the costs associated with it. Although there is no assurance that Vanguard will be able to detect or prevent frequent trading or market-timing in all circumstances, the following policies have been adopted to address these issues: .. Each Vanguard fund reserves the right to reject any purchase request--including exchanges from other Vanguard funds--without notice and regardless of size. For example, a purchase request could be rejected if Vanguard determines that such purchase may negatively affect a fund's operation or performance or because of a history of frequent trading by the investor. .. Each Vanguard fund (other than money market funds, short-term bond funds, and ETF Shares) generally prohibits, except as otherwise noted in the Investing With Vanguard section, a participant from exchanging into a fund account for 60 calendar days after the participant exchanged out of that fund account. .. Certain Vanguard funds charge shareholders purchase and/or redemption fees on transactions. See the Investing With Vanguard section of this prospectus for further details on Vanguard's transaction policies. Each fund (other than money market funds), in determining its net asset value, will use fair-value pricing as described in the Share Price section. Fair-value pricing may reduce or eliminate the profitability of certain frequent-trading strategies. Do not invest with Vanguard if you are a market-timer. 12 TURNOVER RATE Although the Fund normally seeks to invest for the long term, it may sell securities regardless of how long they have been held.The Financial Highlights section of this prospectus shows historical turnover rates for the Fund. A turnover rate of 100%, for example, would mean that the Fund had sold and replaced securities valued at 100% of its net assets within a one-year period. The average turnover rate for small growth funds was approximately 120%, as reported by Morningstar, Inc., on October 31, 2006. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT TURNOVER RATE Before investing in a mutual fund, you should review its turnover rate. This gives an indication of how transaction costs, which are not included in the fund's expense ratio, could affect the fund's future returns. In general, the greater the volume of buying and selling by the fund, the greater the impact that brokerage commissions and other transaction costs will have on its return. Also, funds with high turnover rates may be more likely to generate capital gains that must be distributed to shareholders as taxable income. - ------------------------------------------------------------------------------- THE FUND AND VANGUARD The Fund is a member of The Vanguard Group, a family of 36 investment companies with more than 140 funds holding assets in excess of $1 trillion. All of the funds that are members of The Vanguard Group share in the expenses associated with administrative services and business operations, such as personnel, office space, equipment, and advertising. Vanguard also provides marketing services to the funds. Although shareholders do not pay sales commissions or 12b-1 distribution fees, each fund (or in the case of a fund with multiple share classes, each share class of the fund) pays its allocated share of The Vanguard Group's marketing costs. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT VANGUARD'S UNIQUE CORPORATE STRUCTURE The Vanguard Group is truly a mutual mutual fund company. It is owned jointly by the funds it oversees and thus indirectly by the shareholders in those funds. Most other mutual funds are operated by management companies that may be owned by one person, by a group of individuals, or by investors who own the management company's stock. The management fees charged by these companies include a profit component over and above the companies' cost of providing services. By contrast, Vanguard provides services to its member funds on an at-cost basis, with no profit component, which helps to keep the funds' expenses low. - ------------------------------------------------------------------------------- 13 INVESTMENT ADVISORS The Fund uses a multimanager approach. Each advisor independently manages its assigned portion of the Fund's assets, subject to the supervision and oversight of Vanguard and the board of trustees. The Fund's board of trustees designates the proportion of Fund assets to be managed by each advisor and may change these proportions at any time. .. Granahan Investment Management, Inc., 275 Wyman Street, Waltham, MA 02451, is an investment advisory firm founded in 1985. As of March 31, 2007, Granahan managed approximately $4 billion in assets. .. Grantham, Mayo, Van Otterloo & Co. LLC, 40 Rowes Wharf, Boston, MA 02110, is an investment advisory firm founded in 1977. As of March 31, 2007, GMO managed approximately $144 billion in assets. .. Wellington Management Company, LLP, 75 State Street, Boston, MA 02109, is an investment advisory firm founded in 1928. As of March 31, 2007, Wellington Management managed approximately $573 billion in assets. .. AXA Rosenberg Investment Management LLC, 4 Orinda Way, Building E, Orinda, CA 94563, is an investment advisory firm founded in 1985. As of April 30, 2007, AXA Rosenberg managed approximately $120 billion in assets. .. Kalmar Investment Advisers, Barley Mill House, 3701 Kennett Pike, Wilmington, DE 19807, is an investment advisory firm founded in 1996. As of March 31, 2007, Kalmar, together with its parent company, Kalmar Investments Inc., founded in 1982, managed approximately $2.6 billion in small-cap and small-/mid-cap assets. .. Chartwell Investment Partners, L.P., 1235 Westlakes Drive, Suite 400, Berwyn, PA 19312, is an investment advisory firm founded in 1997. As of March 31, 2007, Chartwell managed approximately $5.4 billion in assets. .. The Vanguard Group, Inc., P.O. Box 2600, Valley Forge, PA 19482, which began operations in 1975, serves as advisor to the Fund through its Quantitative Equity Group. As of March 31, 2007, Vanguard served as advisor for approximately $895 billion in assets. The Fund pays six of its investment advisors--Granahan, GMO, Wellington Management, AXA Rosenberg, Kalmar, and Chartwell--on a quarterly basis. For each advisor, the quarterly fee is based on certain annual percentage rates applied to average net assets managed by the advisor over the period. In addition, the quarterly fees paid to each advisor are increased or decreased based on the advisor's performance compared with that of a benchmark index. For these purposes, the cumulative total return of each advisor's portion of the Fund over a trailing 36-month period is compared with that of the Russell 2500 Growth Index over part of the same period. 14 Vanguard's performance is also evaluated against the Russell 2500 Growth Index. Vanguard provides services to the Fund on an at-cost basis. For the fiscal year ended October 31, 2006, the advisory fees and expenses represented an effective annual rate of 0.17% of the Fund's average net assets, before a performance-based decrease of 0.03%. For the six-month period ended April 30, 2007, the advisory fees and expenses represented an effective-annual rate of 0.17% of the Fund's average net assets, before a performance-based decrease of 0.04%. Under the terms of an SEC exemption, the Fund's board of trustees may, without prior approval from shareholders, change the terms of an advisory agreement or hire a new investment advisor--either as a replacement for an existing advisor or as an additional advisor. Any significant change in the Fund's advisory arrangements will be communicated to shareholders in writing. As the Fund's sponsor and overall manager, The Vanguard Group may provide additional investment advisory services to the Fund, on an at-cost basis, at any time. Vanguard may also recommend to the board of trustees that an advisor be hired, terminated, or replaced, or that the terms of an existing advisory agreement be revised. For a discussion of why the board of trustees approved the Fund's investment advisory arrangements, see the semiannual report to shareholders covering the Fund's most recent fiscal period, which ended on April 30. GEORGE U. SAUTER is Chief Investment Officer and Managing Director of Vanguard. As Chief Investment Officer, he is responsible for the oversight of Vanguard's Quantitative Equity and Fixed Income Groups. The investments managed by these two groups include active quantitative equity funds, equity index funds, active bond funds, index bond funds, stable value portfolios, and money market funds. Since joining Vanguard in 1987, Mr. Sauter has been a key contributor to the development of Vanguard's stock indexing and active quantitative equity investment strategies. He received his A.B. in Economics from Dartmouth College and an M.B.A. in Finance from the University of Chicago. JOEL M. DICKSON, Ph.D., is head of Active Quantitative Equity Management and Principal of Vanguard. He has direct oversight responsibility for all active quantitative equity portfolios managed by Vanguard's Quantitative Equity Group. He has been with Vanguard since 1996 and has managed investment portfolios since 2003. He received his A.B. in Economics from Washington University in St. Louis and a Ph.D. in Economics from Stanford University. 15 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT THE FUND'S PORTFOLIO MANAGERS The managers primarily responsible for the day-to-day management of the Fund are: JOHN J. GRANAHAN, CFA, Founder and President of Granahan. He has worked in investment management since 1960; has been with Granahan since 1985; and has managed a portion of the Fund since 1990. Education: B.A., St. Joseph's University; Graduate Fellow of Catholic University of America. SAM WILDERMAN, CFA, Partner and Director of the U.S. Quantitative Equity Division at GMO. He has worked in investment management for GMO since 1996 and has managed a portion of the Fund since 2006. Education: B.A., Yale University. KENNETH L. ABRAMS, Senior Vice President, Partner, and Equity Portfolio Manager at Wellington Management. He has worked in investment management with Wellington Management since 1986 and has managed a portion of the Fund since 1994. Education: B.A. and M.B.A., Stanford University. WILLIAM E. RICKS, Americas Chief Executive and Chief Investment Officer at AXA Rosenberg. He has worked in investment management with AXA Rosenberg since 1989 and has managed a portion of the Fund since June 2007. Education: B.S., University of New Orleans; Ph.D., University of California, Berkeley. FORD B. DRAPER, JR., President, Chief Investment Officer, and Founder of Kalmar. He has worked in investment management since 1967; founded Kalmar Investments Inc., the parent company of Kalmar, in 1982; and has managed a portion of the Fund since 2005. Education: B.A., Yale University; M.B.A., Columbia University. EDWARD N. ANTOIAN, CFA, CPA, Managing Partner at Chartwell. He has managed equity funds since 1984 and has co-managed a portion of the Fund since 1997. Education: B.S., State University of New York; M.B.A., University of Pennsylvania. JOHN HEFFERN, Managing Partner at Chartwell. He has worked in investment management since 1988, has been with Chartwell since 2005, and has co-managed a portion of the Fund since 2006. Education: B.S. and M.B.A., University of North Carolina at Chapel Hill. JAMES D. TROYER, CFA, Principal of Vanguard. He has worked in investment management since 1979; has been with Vanguard since 1989; and has managed a portion of the Fund since 2006. Education: A.B., Occidental College. - ------------------------------------------------------------------------------- 16 The Statement of Additional Information provides information about each portfolio manager's compensation, other accounts under management, and ownership of securities in the Fund. DIVIDENDS, CAPITAL GAINS, AND TAXES The Fund distributes to shareholders virtually all of its net income (interest and dividends, less expenses) as well as any net capital gains realized from the sale of its holdings. Distributions generally occur annually in December. Your distributions will be reinvested in additional Fund shares and accumulate on a tax-deferred basis if you are investing through an employer-sponsored retirement or savings plan. You will not owe taxes on these distributions until you begin withdrawals from the plan. You should consult your plan administrator, your plan's Summary Plan Description, or your tax advisor about the tax consequences of plan withdrawals. - ------------------------------------------------------------------------------- PLAIN TALK ABOUT DISTRIBUTIONS As a shareholder, you are entitled to your portion of a fund's income from interest and dividends as well as gains from the sale of investments. Income consists of both the dividends that the fund earns from any stock holdings and the interest it receives from any money market and bond investments. Capital gains are realized whenever the fund sells securities for higher prices than it paid for them. These capital gains are either short-term or long-term, depending on whether the fund held the securities for one year or less or for more than one year. You receive the fund's earnings as either a dividend or capital gains distribution. - ------------------------------------------------------------------------------- 17 Share Price The Fund's share price, called its net asset value, or NAV, is calculated each business day as of the close of regular trading on the New York Stock Exchange, generally 4 p.m., Eastern time. NAV per share is computed by dividing the net assets allocated to each share class by the number of Fund shares outstanding for that class. On holidays or other days when the Exchange is closed, the NAV is not calculated, and the Fund does not transact purchase or redemption requests. However, on those days the value of the Fund's assets may be affected to the extent that the Fund holds foreign securities that trade on foreign markets that are open. Stocks held by a Vanguard fund are valued at their market value when reliable market quotations are readily available. Certain short-term debt instruments used to manage a fund's cash are valued on the basis of amortized cost. The values of any foreign securities held by a fund are converted into U.S. dollars using an exchange rate obtained from an independent third party. The values of any mutual fund shares held by a fund are based on the NAVs of the underlying mutual funds (in the case of conventional share classes) or the market value of the shares (in the case of exchange-traded fund shares, such as ETF Shares). When reliable market quotations are not readily available, securities are priced at their fair value (the amount that the owner might reasonably expect to receive upon the current sale of a security). A fund also will use fair-value pricing if the value of a security it holds has been materially affected by events occurring before the fund's pricing time but after the close of the primary markets or exchanges on which the security is traded. This most commonly occurs with foreign securities, which may trade on foreign exchanges that close many hours before the fund's pricing time. Intervening events might be company-specific (e.g., earnings report, merger announcement); country-specific (e.g., natural disaster, economic or political news, act of terrorism, interest rate change); or global. Intervening events include price movements in U.S. markets that are deemed to affect the value of foreign securities. Although rare, fair-value pricing also may be used for domestic securities--for example, if (1) trading in a security is halted and does not resume before the fund's pricing time or if a security does not trade in the course of a day, and (2) the fund holds enough of the security that its price could affect the fund's NAV. Fair-value prices are determined by Vanguard according to procedures adopted by the board of trustees. When fair-value pricing is employed, the prices of securities used by a fund to calculate its NAV may differ from quoted or published prices for the same securities. Vanguard fund share prices can be found daily in the mutual fund listings of most major newspapers under various "Vanguard" headings. 18 Financial Highlights The following financial highlights table is intended to help you understand the Admiral Shares' financial performance for the periods shown, and certain information reflects financial results for a single Admiral Share. The total returns in the table represent the rate that an investor would have earned or lost each period on an investment in the Admiral Shares (assuming reinvestment of all distributions). The information for the six-month period ended April 30, 2007, has not been audited by an independent registered public accounting firm. The information for all other periods in the table through October 31, 2006, has been derived from the financial statements audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, whose report--along with the Fund's financial statements--is included in the Fund's most recent annual report to shareholders. To receive a free copy of the latest annual or semiannual report, you may access a report online at www.vanguard.com, or you may contact Vanguard by telephone or by mail. 19 - ------------------------------------------------------------------------------- PLAIN TALK ABOUT HOW TO READ THE FINANCIAL HIGHLIGHTS TABLE The Admiral Shares began the fiscal period ended April 30, 2007, with a net asset value (price) of $74.82 per share. During the period, each Admiral Share earned $0.246 from investment income (interest and dividends) and $6.931 from investments that had appreciated in value or that were sold for higher prices than the Fund paid for them. Shareholders received $7.347 per share in the form of dividend and capital gains distributions. A portion of each year's distributions may come from the prior year's income or capital gains. The share price at the end of the period was $74.65, reflecting earnings of $7.177 per share and distributions of $7.347 per share. This was an decrease of $0.17 per share (from $74.82 at the beginning of the period to $74.65 at the end of the period). For a shareholder who reinvested the distributions in the purchase of more shares, the total return was 10.21% for the period. As of April 30, 2007, the Admiral Shares had approximately $3.5 billion in net assets. For the period, the annualized expense ratio was 0.27% ($2.70 per $1,000 of net assets), and the annualized net investment income amounted to 0.63% of average net assets. The Fund sold and replaced securities valued at annualized rate of 75% of its net assets. - ------------------------------------------------------------------------------- 20
EXPLORER FUND ADMIRAL SHARES Six Nov. 12, Months 2001/1/ to Ended Year Ended Oct. 31, Oct. 31, Apr. 30, ---------------------------------------- 2007 2006 2005 2004 2003 2002 - ---------------------------------------------------------------------------------------------------------------- Net Asset Value, Beginning of Period $74.82 $71.47 $62.37 $58.71 $41.43 $50.00 - ---------------------------------------------------------------------------------------------------------------- Investment Operations - ---------------------------------------------------------------------------------------------------------------- Net Investment Income .246 .422 .215 .04 .064 .035 - ---------------------------------------------------------------------------------------------------------------- Net Realized and Unrealized Gain (Loss) 6.931 9.050 8.953 3.62 17.259 (8.498) on Investments - ---------------------------------------------------------------------------------------------------------------- Total from Investment Operations 7.177 9.472 9.168 3.66 17.323 (8.463) - ---------------------------------------------------------------------------------------------------------------- Distributions - ---------------------------------------------------------------------------------------------------------------- Dividends from Net Investment Income (.437) (.346) -- -- (.043) (.107) - ---------------------------------------------------------------------------------------------------------------- Distributions from Realized Capital Gains (6.910) (5.776) (.068) -- -- -- - ---------------------------------------------------------------------------------------------------------------- Total Distributions (7.347) (6.122) (.068) -- (.043) (.107) - ---------------------------------------------------------------------------------------------------------------- Net Asset Value, End of Period $74.65 $74.82 $71.47 $62.37 $58.71 $41.43 - ---------------------------------------------------------------------------------------------------------------- Total Return 10.21% 13.79% 14.70% 6.23% 41.85% -16.98% - ---------------------------------------------------------------------------------------------------------------- Ratios/Supplemental Data - ---------------------------------------------------------------------------------------------------------------- Net Assets, End of Period (Millions) $3,474 $3,264 $2,402 $1,161 $721 $293 - ---------------------------------------------------------------------------------------------------------------- Ratio of Total Expenses to Average Net Assets/2/ 0.27%/3/ 0.28% 0.34% 0.43% 0.57% 0.61%/3/ - ---------------------------------------------------------------------------------------------------------------- Ratio of Net Investment Income to Average 0.63%/3/ 0.54% 0.33% 0.04% 0.05% 0.13%/3/ Net Assets - ---------------------------------------------------------------------------------------------------------------- Turnover Rate 75%/3/ 96% 80% 82% 77% 69% - ---------------------------------------------------------------------------------------------------------------- 1 Inception. 2 Includes performance-based investment advisory fee increases (decreases) of (0.04%), (0.03%), (0.01%), 0.02%, 0.07%, and 0.07%. 3 Annualized.
21 INVESTING WITH VANGUARD Your retirement or savings plan investment options include the Fund. Your plan administrator or your employee benefits office can provide you with detailed information on how to participate in your plan and how to elect the Fund as an investment option. .. If you have any questions about the Fund or Vanguard, including those about the Fund's investment objective, strategies, or risks, contact Vanguard's Participant Access Center, toll-free, at 800-523-1188. .. If you have questions about your account, contact your plan administrator or the organization that provides recordkeeping services for your plan. .. Be sure to carefully read each topic that pertains to your transactions with Vanguard. .. Vanguard reserves the right to change these policies without prior notice to shareholders. INVESTMENT OPTIONS AND ALLOCATIONS Your plan's specific provisions may allow you to change your investment selections, the amount of your contributions, or how your contributions are allocated among the investment choices available to you. Contact your plan administrator or employee benefits office for more details. TRANSACTIONS Contribution, exchange, or redemption requests must be in good order. Good order means that your request includes complete information on your contribution, exchange, or redemption, and that Vanguard has received the appropriate assets. In all cases, your transaction will be based on the Fund's next-determined NAV after Vanguard receives your request (or, in the case of new contributions, the next-determined NAV after Vanguard receives the order from your plan administrator). As long as this request is received before the close of trading on the New York Stock Exchange, generally 4 p.m., Eastern time, you will receive that day's NAV. This is known as your trade date. EXCHANGES The exchange privilege (your ability to redeem shares from one fund to purchase shares of another fund) may be available to you through your plan. Although we make every effort to maintain the exchange privilege, Vanguard reserves the right to revise or terminate this privilege, limit the amount of an exchange, or reject any exchange, at any time, without notice. Because excessive exchanges can disrupt the management of the Vanguard funds and increase their transaction costs, Vanguard places certain limits on the exchange privilege. 22 If you are exchanging out of any Vanguard fund (other than money market funds, short-term bond funds, and ETF Shares), the following policy applies, regardless of the dollar amount: .. You must wait 60 days before exchanging back into the fund. .. The 60-day clock restarts after every exchange out of the fund. The policy does not apply to the following: .. Purchases of shares with participant payroll or employer contributions or loan repayments. .. Purchases of shares with reinvested dividend or capital gains distributions. .. Distributions, loans, and in-service withdrawals from a plan. .. Redemptions of shares as part of a plan termination or at the direction of the plan. .. Redemptions of shares to pay fund or account fees. .. Share or asset transfers or rollovers. .. Re-registrations of shares within the same fund. .. Conversions of shares from one share class to another in the same fund. .. Automated transactions executed during the first six months of a participant's enrollment in the Vanguard Managed Account Program. Before making an exchange to or from another fund available in your plan, consider the following: .. Certain investment options, particularly funds made up of company stock or investment contracts, may be subject to unique restrictions. .. Be sure to read that fund's prospectus. Contact Vanguard's Participant Access Center, toll-free, at 800-523-1188 for a copy. .. Vanguard can accept exchanges only as permitted by your plan. Contact your plan administrator for details on other exchange policies that apply to your plan. Plans for which Vanguard does not serve as recordkeeper: If Vanguard does not serve as recordkeeper for your plan, your plan's recordkeeper will establish accounts in Vanguard funds. In such accounts, we cannot always monitor the trading activity of individual clients. However, we review trading activity at the omnibus level, and if we detect suspicious activity, we will seek to investigate and take appropriate action. If necessary, Vanguard may prohibit additional purchases of fund shares by an intermediary or by certain of the intermediary's clients. Intermediaries may also monitor participants' trading activity in the Vanguard funds. For those Vanguard funds that charge purchase or redemption fees, intermediaries that establish accounts in the Vanguard funds will be asked to assess purchase and redemption fees on participant accounts and remit these fees to the funds. The 23 application of purchase and redemption fees and frequent-trading policies may vary among intermediaries. There are no assurances that Vanguard will successfully identify all intermediaries or that intermediaries will properly assess purchase and redemption fees or administer frequent-trading policies. If a firm other than Vanguard serves as recordkeeper for your plan, please read that firm's materials carefully to learn of any other rules or fees that may apply. PORTFOLIO HOLDINGS We generally post on our website at www.vanguard.com, in the Holdings section of the Fund's Profile page, a detailed list of the securities held by the Fund (under Portfolio Holdings), as of the most recent calendar-quarter-end. This list is generally updated within 30 days after the end of each calendar quarter. Vanguard may exclude any portion of these portfolio holdings from publication when deemed in the best interest of the Fund. We also generally post the ten largest stock portfolio holdings of the Fund and the percentage of the Fund's total assets that each of these holdings represents, as of the most recent calendar-quarter-end. This list is generally updated within 15 calendar days after the end of each calendar quarter. These postings generally remain until replaced by new postings as previously described. Please consult the Fund's Statement of Additional Information or our website for a description of the policies and procedures that govern disclosure of the Fund's portfolio holdings. ACCESSING FUND INFORMATION BY COMPUTER Vanguard on the World Wide Web WWW.VANGUARD.COM Use your personal computer to visit Vanguard's education-oriented website, which provides timely news and information about Vanguard funds and services; the online Education Center that offers a variety of mutual fund classes; and easy-to-use, interactive tools to help you create your own investment and retirement strategies. Vanguard, Connect with Vanguard, Plain Talk, Admiral, Explorer, Vanguard ETF, and the ship logo are trademarks of The Vanguard Group, Inc. All other marks are the exclusive property of their respective owners. 24 GLOSSARY OF INVESTMENT TERMS CAPITAL GAINS DISTRIBUTION. Payment to mutual fund shareholders of gains realized on securities that a fund has sold at a profit, minus any realized losses. CASH INVESTMENTS. Cash deposits, short-term bank deposits, and money market instruments that include U.S. Treasury bills and notes, bank certificates of deposit (CDs), repurchase agreements, commercial paper, and banker's acceptances. COMMON STOCK. A security representing ownership rights in a corporation. A stockholder is entitled to share in the company's profits, some of which may be paid out as dividends. COUNTRY RISK. The chance that domestic events--such as political upheaval, financial troubles, or natural disasters--will weaken a country's securities markets. CURRENCY RISK. The chance that the value of a foreign investment, measured in U.S. dollars, will decrease because of unfavorable changes in currency exchange rates. DIVIDEND DISTRIBUTION. Payment to mutual fund shareholders of income from interest or dividends generated by a fund's investments. EXPENSE RATIO. The percentage of a fund's average net assets used to pay its expenses during a fiscal year. The expense ratio includes management expenses--such as advisory fees, account maintenance, reporting, accounting, legal, and other administrative expenses--and any 12b-1 distribution fees. It does not include the transaction costs of buying and selling portfolio securities. GROWTH FUND. A mutual fund that emphasizes stocks of companies believed to have above-average potential for growth in revenue, earnings, cash flow, or other similar criteria. These stocks typically have low dividend yields and above-average prices in relation to such measures as earnings and book value. INCEPTION DATE. The date on which the assets of a fund (or one of its share classes) are first invested in accordance with the fund's investment objective. For funds with a subscription period, the inception date is the day after that period ends. Investment performance is measured from the inception date. INVESTMENT ADVISOR. An organization that is responsible for making the day-to-day decisions regarding a fund's investments. MEDIAN MARKET CAP. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund's stocks, weighted by the proportion of the fund's assets invested in each stock. Stocks representing half of the fund's assets have market capitalizations above the median, and the rest are below it. MUTUAL FUND. An investment company that pools the money of many people and invests it in a variety of securities in an effort to achieve a specific objective over time. 25 NET ASSET VALUE (NAV). The market value of a mutual fund's total assets, minus liabilities, divided by the number of shares outstanding. The value of a single share is also called its share value or share price. PRINCIPAL. The face value of a debt instrument or the amount of money put into an investment. SECURITIES. Stocks, bonds, money market instruments, and other investment vehicles. TOTAL RETURN. A percentage change, over a specified time period, in a mutual fund's net asset value, assuming the reinvestment of all distributions of dividends and capital gains. VALUE FUND. A mutual fund that emphasizes stocks whose prices typically are below average in relation to such measures as earnings and book value. These stocks often have above-average dividend yields. VOLATILITY. The fluctuations in value of a mutual fund or other security. The greater a fund's volatility, the wider the fluctuations in its returns. YIELD. Income (interest or dividends) earned by an investment, expressed as a percentage of the investment's price. 26 This page intentionally left blank. This page intentionally left blank. This page intentionally left blank. [SHIP LOGO VANGUARD/(R)/] Institutional Division P.O. Box 2900 Valley Forge, PA 19482-2900 CONNECT WITH VANGUARD/(R)/ > www.vanguard.com FOR MORE INFORMATION If you would like more information about Vanguard Explorer Fund, the following documents are available free upon request: ANNUAL/SEMIANNUAL REPORTS TO SHAREHOLDERS Additional information about the Fund's investments is available in the Fund's annual and semiannual reports to shareholders. In the annual report, you will find a discussion of the market conditions and investment strategies that significantly affected the Fund's performance during its last fiscal year. STATEMENT OF ADDITIONAL INFORMATION (SAI) The SAI provides more detailed information about the Fund. The current annual and semiannual reports and the SAI are incorporated by reference into (and are thus legally a part of) this prospectus. To receive a free copy of the latest annual or semiannual report or the SAI, or to request additional information about the Fund or other Vanguard funds, please visit www.vanguard.com or contact us as follows: The Vanguard Group Participant Access Center P.O. Box 2900 Valley Forge, PA 19482-2900 Telephone: 800-523-1188 Text Telephone for people with hearing impairment: 800-749-7273 INFORMATION PROVIDED BY THE SECURITIES AND EXCHANGE COMMISSION (SEC) You can review and copy information about the Fund (including the SAI) at the SEC's Public Reference Room in Washington, DC. To find out more about this public service, call the SEC at 202-551-8090. Reports and other information about the Fund are also available in the EDGAR database on the SEC's Internet site at www.sec.gov, or you can receive copies of this information, for a fee, by electronic request at the following e-mail address: publicinfo@sec.gov, or by writing the Public Reference Section, Securities and Exchange Commission, Washington, DC 20549-0102. Fund's Investment Company Act file number: 811-1530 (C) 2007 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor. I524 082007 PART B VANGUARD/(R)/ EXPLORER(TM) FUND STATEMENT OF ADDITIONAL INFORMATION AUGUST 17, 2007 This Statement of Additional Information is not a prospectus but should be read in conjunction with the Fund's current prospectus (dated August 17, 2007). To obtain, without charge, the prospectus or the most recent Annual Report to Shareholders, which contains the Fund's financial statements as hereby incorporated by reference, please call: INVESTOR INFORMATION DEPARTMENT: 800-662-7447 TABLE OF CONTENTS DESCRIPTION OF THE TRUST..............................................B-1 INVESTMENT POLICIES...................................................B-3 INVESTMENT LIMITATIONS................................................B-17 SHARE PRICE...........................................................B-18 PURCHASE AND REDEMPTION OF SHARES.....................................B-18 MANAGEMENT OF THE FUND ...............................................B-19 INVESTMENT ADVISORY SERVICES..........................................B-29 PORTFOLIO TRANSACTIONS................................................B-38 PROXY VOTING GUIDELINES...............................................B-39 FINANCIAL STATEMENTS..................................................B-44 DESCRIPTION OF THE TRUST ORGANIZATION Vanguard Explorer Fund (the Trust) was originally known as the Explorer Fund, Inc. and was organized as a Delaware corporation in 1967. It was reorganized as a Maryland corporation in 1973 and was subsequently reorganized as a Delaware statutory trust in June 1998. Prior to its reorganization as a Delaware statutory trust, the Trust was known as Vanguard Explorer Fund, Inc. The Trust is registered with the United States Securities and Exchange Commission (the SEC) under the Investment Company Act of 1940 (the 1940 Act) as an open-end, diversified management investment company. The Trust currently offers the following fund (and classes thereof): FUND SHARE CLASSES/1/ - ---- ------------- Vanguard Explorer Fund Investor and Admiral 1 Individually, a class; collectively, the classes. The Trust has the ability to offer additional funds, which in turn may issue classes of shares. There is no limit on the number of full and fractional shares that may be issued for a single fund or class of shares. The Fund described in this Statement of Additional Information is a member fund. There are two types of Vanguard funds, member funds and non-member funds. Member funds jointly own The Vanguard Group, Inc. (Vanguard), contribute to Vanguard's capital, and receive services at cost from Vanguard pursuant to a Funds' Service Agreement. Non-member funds do not contribute to Vanguard's capital, but they do receive services pursuant to special services agreements. See "Management of the Fund" for more information. B-1 SERVICE PROVIDERS CUSTODIAN. Citibank, N.A., 111 Wall Street, New York, NY 10005, serves as the Fund's custodian. The custodian is responsible for maintaining the Fund's assets, keeping all necessary accounts and records of Fund assets, and appointing any foreign sub-custodians or foreign securities depositories. INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM. PricewaterhouseCoopers LLP, Two Commerce Square, Suite 1700, 2001 Market Street, Philadelphia, PA, 19103-7042, serves as the Fund's independent registered public accounting firm. The independent registered public accounting firm audits the Fund's annual financial statements and provides other related services. TRANSFER AND DIVIDEND-PAYING AGENT. The Fund's transfer agent and dividend-paying agent is Vanguard, P.O. Box 2600, Valley Forge, PA 19482. CHARACTERISTICS OF THE FUND'S SHARES RESTRICTIONS ON HOLDING OR DISPOSING OF SHARES. There are no restrictions on the right of shareholders to retain or dispose of the Fund's shares, other than those described in the Fund's current prospectus and elsewhere in this Statement of Additional Information or the possible future termination of the Fund or a share class. The Fund or class may be terminated by reorganization into another mutual fund or class or by liquidation and distribution of the assets of the Fund or class. Unless terminated by reorganization or liquidation, the Fund and share class will continue indefinitely. SHAREHOLDER LIABILITY. The Trust is organized under Delaware law, which provides that shareholders of a statutory trust are entitled to the same limitations of personal liability as shareholders of a corporation organized under Delaware law. Effectively, this means that a shareholder of the Fund will not be personally liable for payment of the Fund's debts except by reason of his or her own conduct or acts. In addition, a shareholder could incur a financial loss as a result of a Fund obligation only if the Fund itself had no remaining assets with which to meet such obligation. We believe that the possibility of such a situation arising is extremely remote. DIVIDEND RIGHTS. The shareholders of each class of the Fund are entitled to receive any dividends or other distributions declared by the Fund for each such class. No shares of the Fund have priority or preference over any other shares of the Fund with respect to distributions. Distributions will be made from the assets of the Fund and will be paid ratably to all shareholders of a particular class according to the number of shares of the class held by shareholders on the record date. The amount of dividends per share may vary between separate share classes of the Fund based upon differences in the net asset values of the different classes and differences in the way that expenses are allocated between share classes pursuant to a multiple class plan. VOTING RIGHTS. Shareholders are entitled to vote on a matter if: (1) a shareholder vote is required under the 1940 Act; (2) the matter concerns an amendment to the Declaration of Trust that would adversely affect to a material degree the rights and preferences of the shares of the Fund or any class; (3) the trustees determine that it is necessary or desirable to obtain a shareholder vote; or (4) a certain type of merger or consolidation, share conversion, share exchange, or sale of assets is proposed. The 1940 Act requires a shareholder vote under various circumstances, including to elect or remove trustees upon the written request of shareholders representing 10% or more of the Fund's net assets and to change any fundamental policy of the Fund. Unless otherwise required by applicable law, shareholders of the Fund receive one vote for each dollar of net asset value owned on the record date, and a fractional vote for each fractional dollar of net asset value owned on the record date. However, only the shares of the Fund or class affected by a particular matter are entitled to vote on that matter. In addition, each class has exclusive voting rights on any matter submitted to shareholders that relates solely to that class, and each class has separate voting rights on any matter submitted to shareholders in which the interests of one class differ from the interests of another. Voting rights are noncumulative and cannot be modified without a majority vote. LIQUIDATION RIGHTS. In the event that the Fund is liquidated, shareholders will be entitled to receive a pro rata share of the Fund's net assets. In the event that a class of shares is liquidated, shareholders of that class will be entitled to receive a pro rata share of the Fund's net assets that are allocated to that class. Shareholders may receive cash, securities, or a combination of the two. PREEMPTIVE RIGHTS. There are no preemptive rights associated with the Fund's shares. CONVERSION RIGHTS. Fund shareholders may convert their shares into another class of shares of the same Fund upon the satisfaction of any then applicable eligibility requirements. B-2 REDEMPTION PROVISIONS. The Fund's redemption provisions are described in its current prospectus and elsewhere in this Statement of Additional Information. SINKING FUND PROVISIONS. The Fund has no sinking fund provisions. CALLS OR ASSESSMENT. The Fund's shares, when issued, are fully paid and non-assessable. TAX STATUS OF THE FUND The Fund intends to continue to qualify as a "regulated investment company" under Subchapter M of the Internal Revenue Code of 1986, as amended (the IRC). This special tax status means that the Fund will not be liable for federal tax on income and capital gains distributed to shareholders. In order to preserve its tax status, the Fund must comply with certain requirements. If the Fund fails to meet these requirements in any taxable year, it will be subject to tax on its taxable income at corporate rates, and all distributions from earnings and profits, including any distributions of net tax-exempt income and net long-term capital gains, will be taxable to shareholders as ordinary income. In addition, the Fund could be required to recognize unrealized gains, pay substantial taxes and interest, and make substantial distributions before regaining its tax status as a regulated investment company. Dividends received and distributed by the Fund on shares of stock of domestic corporations may be eligible for the dividends-received deduction applicable to corporate shareholders. Corporations must satisfy certain requirements in order to claim the deduction. Capital gains distributed by the Fund are not eligible for the dividends-received deduction. INVESTMENT POLICIES Some of the investment policies described below and in the Fund's prospectus set forth percentage limitations on the Fund's investment in, or holdings of, certain securities or other assets. Unless otherwise required by law, compliance with these policies will be determined immediately after the acquisition of such securities or assets. Subsequent changes in values, net assets, or other circumstances will not be considered when determining whether the investment complies with the Fund's investment policies and limitations. The following policies and explanations supplement the Fund's investment objective and policies set forth in the prospectus. With respect to the different investments discussed below, the Fund may acquire such investments to the extent consistent with its investment objective and policies. BORROWING. A fund's ability to borrow money is limited by its investment policies and limitations, by the 1940 Act, and by applicable exemptions, no-action letters, interpretations, and other pronouncements issued from time to time by the SEC and its staff, or any other regulatory authority with jurisdiction. Under the 1940 Act, a fund is required to maintain continuous asset coverage (that is, total assets including borrowings, less liabilities exclusive of borrowings) of 300% of the amount borrowed, with an exception for borrowings not in excess of 5% of the fund's total assets made for temporary or emergency purposes. Any borrowings for temporary purposes in excess of 5% of the fund's total assets must maintain continuous asset coverage. If the 300% asset coverage should decline as a result of market fluctuations or for other reasons, a fund may be required to sell some of its portfolio holdings within three days (excluding Sundays and holidays) to reduce the debt and restore the 300% asset coverage, even though it may be disadvantageous from an investment standpoint to sell securities at that time. Borrowing will tend to exaggerate the effect on net asset value of any increase or decrease in the market value of a fund's portfolio. Money borrowed will be subject to interest costs that may or may not be recovered by earnings on the securities purchased. A fund also may be required to maintain minimum average balances in connection with a borrowing or to pay a commitment or other fee to maintain a line of credit; either of these requirements would increase the cost of borrowing over the stated interest rate. The SEC takes the position that other transactions that have a leveraging effect on the capital structure of a fund or are economically equivalent to borrowing can be viewed as constituting a form of borrowing by the fund for purposes of the 1940 Act. These transactions can include entering into reverse repurchase agreements, engaging in mortgage-dollar-roll transactions, selling securities short (other than short sales "against-the-box"), buying and selling certain derivatives (such as futures contracts), selling (or writing) put and call options, engaging in sale-buybacks, entering into firm-commitment and standby-commitment agreements, engaging in when-issued, delayed-delivery, or forward-commitment transactions, and other trading practices that have a leveraging effect on the capital structure of a fund or are economically equivalent to borrowing (additional discussion about a number of these transactions can be found below). A borrowing transaction will B-3 not be considered to constitute the issuance of a "senior security" by a fund, and therefore such transaction will not be subject to the 300% asset coverage requirement otherwise applicable to borrowings by a fund, if the fund (1) maintains an offsetting financial position; (2) segregates liquid assets (with such liquidity determined by the advisor in accordance with procedures established by the board of trustees) equal (as determined on a daily mark-to-market basis) in value to the fund's potential economic exposure under the borrowing transaction; or (3) otherwise "covers" the transaction in accordance with applicable SEC guidance (collectively, "covers" the transaction). A fund may have to buy or sell a security at a disadvantageous time or price in order to cover a borrowing transaction. In addition, segregated assets may not be available to satisfy redemptions or for other purposes. COMMON STOCK. Common stock represents an equity or ownership interest in an issuer. Common stock typically entitles the owner to vote on the election of directors and other important matters as well as to receive dividends on such stock. In the event an issuer is liquidated or declares bankruptcy, the claims of owners of bonds, other debt holders, and owners of preferred stock take precedence over the claims of those who own common stock. CONVERTIBLE SECURITIES. Convertible securities are hybrid securities that combine the investment characteristics of bonds and common stocks. Convertible securities typically consist of debt securities or preferred stock that may be converted (on a voluntary or mandatory basis) within a specified period of time (normally for the entire life of the security) into a certain amount of common stock or other equity security of the same or a different issuer at a predetermined price. Convertible securities also include debt securities with warrants or common stock attached and derivatives combining the features of debt securities and equity securities. Other convertible securities with features and risks not specifically referred to herein may become available in the future. Convertible securities involve risks similar to those of both fixed income and equity securities. The market value of a convertible security is a function of its "investment value" and its "conversion value." A security's "investment value" represents the value of the security without its conversion feature (i.e., a nonconvertible fixed income security). The investment value may be determined by reference to its credit quality and the current value of its yield to maturity or probable call date. At any given time, investment value is dependent upon such factors as the general level of interest rates, the yield of similar nonconvertible securities, the financial strength of the issuer, and the seniority of the security in the issuer's capital structure. A security's "conversion value" is determined by multiplying the number of shares the holder is entitled to receive upon conversion or exchange by the current price of the underlying security. If the conversion value of a convertible security is significantly below its investment value, the convertible security will trade like nonconvertible debt or preferred stock and its market value will not be influenced greatly by fluctuations in the market price of the underlying security. In that circumstance, the convertible security takes on the characteristics of a bond, and its price moves in the opposite direction from interest rates. Conversely, if the conversion value of a convertible security is near or above its investment value, the market value of the convertible security will be more heavily influenced by fluctuations in the market price of the underlying security. In that case, the convertible security's price may be as volatile as that of common stock. Because both interest rate and market movements can influence its value, a convertible security generally is not as sensitive to interest rates as a similar fixed income security, nor is it as sensitive to changes in share price as its underlying equity security. Convertible securities are often rated below investment-grade or are not rated, and are generally subject to a high degree of credit risk. While all markets are prone to change over time, the generally high rate at which convertible securities are retired (through mandatory or scheduled conversions by issuers or voluntary redemptions by holders) and replaced with newly issued convertibles may cause the convertible securities market to change more rapidly than other markets. For example, a concentration of available convertible securities in a few economic sectors could elevate the sensitivity of the convertible securities market to the volatility of the equity markets and to the specific risks of those sectors. Moreover, convertible securities with innovative structures, such as mandatory conversion securities and equity-linked securities, have increased the sensitivity of the convertible securities market to the volatility of the equity markets and to the special risks of those innovations, which may include risks different from, and possibly greater than, those associated with traditional convertible securities. DEBT SECURITIES. A debt security, sometimes called a fixed income security, is a security consisting of a certificate or other evidence of a debt (secured or unsecured) on which the issuing company or governmental body promises to pay the holder thereof a fixed, variable, or floating rate of interest for a specified length of time, and to repay the debt on the specified maturity date. Some debt securities, such as zero coupon bonds, do not make regular interest payments but are issued at a discount to their principal or maturity value. Debt securities include a variety of fixed income obligations, including, but not limited to, corporate bonds, government securities, municipal securities, convertible securities, B-4 mortgage-backed securities, and asset-backed securities. Debt securities include investment-grade securities, non-investment-grade securities, and unrated securities. Debt securities are subject to a variety of risks, such as interest rate risk, income risk, call/prepayment risk, inflation risk, credit risk, and (in the case of foreign securities) country risk and currency risk. The reorganization of an issuer under the federal bankruptcy laws may result in the issuer's debt securities being cancelled without repayment, repaid only in part, or repaid in part or in whole through an exchange thereof for any combination of cash, debt securities, convertible securities, equity securities, or other instruments or rights in respect of the same issuer or a related entity. DEBT SECURITIES -- NON-INVESTMENT-GRADE SECURITIES. Non-investment-grade securities, also referred to as "high-yield securities" or "junk bonds," are debt securities that are rated lower than the four highest rating categories by a nationally recognized statistical rating organization (for example, lower than Baa3 by Moody's Investors Service, Inc. or lower than BBB- by Standard & Poor's) or are determined to be of comparable quality by the fund's advisor. These securities are generally considered to be, on balance, predominantly speculative with respect to capacity to pay interest and repay principal in accordance with the terms of the obligation and will generally involve more credit risk than securities in the investment-grade categories. Investment in these securities generally provides greater income and increased opportunity for capital appreciation than investments in higher quality securities, but they also typically entail greater price volatility and principal and income risk. Analysis of the creditworthiness of issuers of high-yield securities may be more complex than for issuers of investment-grade securities. Thus, reliance on credit ratings in making investment decisions entails greater risks for high-yield securities than for investment-grade debt securities. The success of a fund's advisor in managing high-yield securities is more dependent upon its own credit analysis than is the case with investment-grade securities. Some high-yield securities are issued by smaller, less-seasoned companies, while others are issued as part of a corporate restructuring, such as an acquisition, merger, or leveraged buyout. Companies that issue high-yield securities are often highly leveraged and may not have available to them more traditional methods of financing. Therefore, the risk associated with acquiring the securities of such issuers generally is greater than is the case with investment-grade securities. Some high-yield securities were once rated as investment-grade but have been downgraded to junk bond status because of financial difficulties experienced by their issuers. The market values of high-yield securities tend to reflect individual issuer developments to a greater extent than do investment-grade securities, which in general react to fluctuations in the general level of interest rates. High-yield securities also tend to be more sensitive to economic conditions than are investment-grade securities. A projection of an economic downturn or of a sustained period of rising interest rates, for example, could cause a decline in junk bond prices because the advent of a recession could lessen the ability of a highly leveraged company to make principal and interest payments on its debt securities. If an issuer of high-yield securities defaults, in addition to risking payment of all or a portion of interest and principal, a fund investing in such securities may incur additional expenses to seek recovery. The secondary market on which high-yield securities are traded may be less liquid than the market for investment-grade securities. Less liquidity in the secondary trading market could adversely affect the ability of a fund to sell a high-yield security or the price at which a fund could sell a high-yield security, and could adversely affect the daily net asset value of fund shares. When secondary markets for high-yield securities are less liquid than the market for investment-grade securities, it may be more difficult to value the securities because such valuation may require more research, and elements of judgment may play a greater role in the valuation because there is less reliable, objective data available. Except as otherwise provided in a fund's prospectus, if a credit-rating agency changes the rating of a portfolio security held by a fund, the fund may retain the portfolio security if the advisor deems it in the best interests of shareholders. DEPOSITARY RECEIPTS. Depositary receipts are securities that evidence ownership interests in a security or a pool of securities that have been deposited with a "depository." Depositary receipts may be sponsored or unsponsored and include American Depositary Receipts (ADRs), European Depositary Receipts (EDRs) and Global Depositary Receipts (GDRs). For ADRs, the depository is typically a U.S. financial institution and the underlying securities are issued by a foreign issuer. For other depositary receipts, the depository may be a foreign or a U.S. entity, and the underlying securities may have a foreign or a U.S. issuer. Depositary receipts will not necessarily be denominated in the same currency as their underlying securities. Generally, ADRs are issued in registered form, denominated in U.S. dollars, and designed for use in the U.S. securities markets. Other depositary receipts, such as GDRs and EDRs, may be issued in bearer form and denominated in other currencies, and are generally designed for use in securities markets outside the U.S. Although the two types of depositary receipt facilities (unsponsored or sponsored) are similar, there are differences B-5 regarding a holder's rights and obligations and the practices of market participants. A depository may establish an unsponsored facility without participation by (or acquiescence of) the underlying issuer; typically, however, the depository requests a letter of non-objection from the underlying issuer prior to establishing the facility. Holders of unsponsored depositary receipts generally bear all the costs of the facility. The depository usually charges fees upon the deposit and withdrawal of the underlying securities, the conversion of dividends into U.S. dollars or other currency, the disposition of non-cash distributions, and the performance of other services. The depository of an unsponsored facility frequently is under no obligation to distribute shareholder communications received from the underlying issuer or to pass through voting rights to depositary receipt holders with respect to the underlying securities. Sponsored depositary receipt facilities are created in generally the same manner as unsponsored facilities, except that sponsored depositary receipts are established jointly by a depository and the underlying issuer through a deposit agreement. The deposit agreement sets out the rights and responsibilities of the underlying issuer, the depository, and the depositary receipt holders. With sponsored facilities, the underlying issuer typically bears some of the costs of the depositary receipts (such as dividend payment fees of the depository), although most sponsored depositary receipts holders may bear costs such as deposit and withdrawal fees. Depositories of most sponsored depositary receipts agree to distribute notices of shareholder meetings, voting instructions, and other shareholder communications and information to the depositary receipt holders at the underlying issuer's request. For purposes of a fund's investment policies, investments in depositary receipts will be deemed to be investments in the underlying securities. Thus, a depositary receipt representing ownership of common stock will be treated as common stock. Depository receipts do not eliminate all of the risks associated with directly investing in the securities of foreign issuers. DERIVATIVES. A derivative is a financial instrument that has a value that is based on--or "derived from"--the values of other assets, reference rates, or indexes. Derivatives may relate to a wide variety of underlying references, such as commodities, stocks, bonds, interest rates, currency exchange rates, and related indexes. Derivatives include futures contracts and options on futures contracts, forward-commitment transactions, options on securities, caps, floors, collars, swap agreements, and other financial instruments. Some derivatives, such as futures contracts and certain options, are traded on U.S. commodity and securities exchanges, while other derivatives, such as swap agreements, are privately negotiated and entered into in the over-the-counter (OTC) market. The risks associated with the use of derivatives are different from, and possibly greater than, the risks associated with investing directly in the securities, assets, or market indexes on which the derivatives are based. Derivatives are used by some investors for speculative purposes. Derivatives also may be used for a variety of purposes that do not constitute speculation, such as hedging, risk management, seeking to stay fully invested, seeking to reduce transaction costs, seeking to simulate an investment in equity or debt securities or other investments, seeking to add value by using derivatives to more efficiently implement portfolio positions when derivatives are favorably priced relative to equity or debt securities or other investments, and for other purposes. There is no assurance that any derivatives strategy used by a fund's advisor will succeed. The counterparties to the funds' derivatives will not be considered the issuers thereof for certain purposes of the 1940 Act and the IRC, although such derivatives may qualify as securities or investments under such laws. The funds' advisors, however, will monitor and adjust, as appropriate, the funds' credit risk exposure to derivative counterparties. Derivative products are highly specialized instruments that require investment techniques and risk analyses different from those associated with stocks, bonds, and other traditional investments. The use of a derivative requires an understanding not only of the underlying instrument but also of the derivative itself, without the benefit of observing the performance of the derivative under all possible market conditions. The use of a derivative involves the risk that a loss may be sustained as a result of the insolvency or bankruptcy of the other party to the contract (usually referred to as a "counterparty") or the failure of the counterparty to make required payments or otherwise comply with the terms of the contract. Additionally, the use of credit derivatives can result in losses if a fund's advisor does not correctly evaluate the creditworthiness of the issuer on which the credit derivative is based. Derivatives may be subject to liquidity risk, which exists when a particular derivative is difficult to purchase or sell. If a derivative transaction is particularly large or if the relevant market is illiquid (as is the case with many OTC derivatives), it may not be possible to initiate a transaction or liquidate a position at an advantageous time or price. Derivatives may be subject to pricing or "basis" risk, which exists when a particular derivative becomes extraordinarily expensive relative to historical prices or the prices of corresponding cash market instruments. Under certain market B-6 conditions, it may not be economically feasible to initiate a transaction or liquidate a position in time to avoid a loss or take advantage of an opportunity. Because many derivatives have a leverage component, adverse changes in the value or level of the underlying asset, reference rate, or index can result in a loss substantially greater than the amount invested in the derivative itself. Certain derivatives have the potential for unlimited loss, regardless of the size of the initial investment. A derivative transaction will not be considered to constitute the issuance of a "senior security" by a fund, and therefore such transaction will not be subject to the 300% asset coverage requirement otherwise applicable to borrowings by a fund, if the fund covers the transaction in accordance with the requirements, and subject to the risks, described above under the heading "Borrowing." Like most other investments, derivative instruments are subject to the risk that the market value of the instrument will change in a way detrimental to a fund's interest. A fund bears the risk that its advisor will incorrectly forecast future market trends or the values of assets, reference rates, indexes, or other financial or economic factors in establishing derivative positions for the fund. If the advisor attempts to use a derivative as a hedge against, or as a substitute for, a portfolio investment, the fund will be exposed to the risk that the derivative will have or will develop imperfect or no correlation with the portfolio investment. This could cause substantial losses for the fund. Although hedging strategies involving derivative instruments can reduce the risk of loss, they can also reduce the opportunity for gain or even result in losses by offsetting favorable price movements in other fund investments. Many derivatives, in particular OTC derivatives, are complex and often valued subjectively. Improper valuations can result in increased cash payment requirements to counterparties or a loss of value to a fund. EXCHANGE-TRADED FUNDS. A fund may purchase shares of exchange-traded funds (ETFs), including ETF shares issued by other Vanguard funds. Typically, a fund would purchase ETF shares for the same reason it would purchase (and as an alternative to purchasing) futures contracts: to obtain exposure to all or a portion of the stock or bond market. ETF shares enjoy several advantages over futures. Depending on the market, the holding period, and other factors, ETF shares can be less costly and more tax-efficient than futures. In addition, ETF shares can be purchased for smaller sums, offer exposure to market sectors and styles for which there is no suitable or liquid futures contract, and do not involve leverage. An investment in an ETF generally presents the same primary risks as an investment in a conventional fund (i.e., one that is not exchange traded) that has the same investment objective, strategies, and policies. The price of an ETF can fluctuate within a wide range, and a fund could lose money investing in an ETF if the prices of the securities owned by the ETF go down. In addition, ETFs are subject to the following risks that do not apply to conventional funds: (1) the market price of the ETF's shares may trade at a discount to their net asset value; (2) an active trading market for an ETF's shares may not develop or be maintained; or (3) trading of an ETF's shares may be halted if the listing exchange's officials deem such action appropriate, the shares are de-listed from the exchange, or the activation of market-wide "circuit breakers" (which are tied to large decreases in stock prices) halts stock trading generally. Most ETFs are investment companies. Therefore, a fund's purchases of ETF shares generally are subject to the limitations on, and the risks of, a fund's investments in other investment companies, which are described below under the heading "Other Investment Companies." Vanguard ETF(TM) *Shares are exchange-traded shares that represent an interest in an investment portfolio held by Vanguard funds. A fund's investments in Vanguard ETF Shares are also generally subject to the descriptions, limitations, and risks described under the heading "Other Investment Companies, " except as provided by an exemption granted by the SEC that permits registered investment companies to invest in a Vanguard fund that issues ETF Shares beyond the limits of Section 12(d)(1) of the 1940 Act, subject to certain terms and conditions. - --------- * U.S. Pat. No. 6,879,964 B2. FOREIGN SECURITIES. Typically, foreign securities are considered to be equity or debt securities issued by entities organized, domiciled, or with a principal executive office outside the United States, such as foreign corporations and governments. Securities issued by certain companies organized outside the United States may not be deemed to be foreign securities if the company's principal operations are conducted from the United States or when the company's equity securities trade principally on a U.S. stock exchange. Foreign securities may trade in U.S. or foreign securities markets. A fund may make foreign investments either directly by purchasing foreign securities or indirectly by purchasing depositary receipts or depositary shares of similar instruments (depositary receipts) for foreign securities. Depositary receipts are securities that are listed on exchanges or quoted in OTC markets in one country but represent shares of issuers domiciled in another country. Direct investments in foreign securities may be made either on foreign securities B-7 exchanges or in the OTC markets. Investing in foreign securities involves certain special risk considerations that are not typically associated with investing in securities of U.S. companies or governments. Because foreign issuers are not generally subject to uniform accounting, auditing, and financial reporting standards and practices comparable to those applicable to U.S. issuers, there may be less publicly available information about certain foreign issuers than about U.S. issuers. Evidence of securities ownership may be uncertain in many foreign countries. As a result, there is a risk that a fund's trade details could be incorrectly or fraudulently entered at the time of the transaction, resulting in a loss to the fund. Securities of foreign issuers are generally less liquid than securities of comparable U.S. issuers. In certain countries, there is less government supervision and regulation of stock exchanges, brokers, and listed companies than in the U.S. In addition, with respect to certain foreign countries, there is the possibility of expropriation or confiscatory taxation, political or social instability, war, terrorism, nationalization, limitations on the removal of funds or other assets, or diplomatic developments which could affect U.S. investments in those countries. Although an advisor will endeavor to achieve most favorable execution costs for a fund's portfolio transactions in foreign securities under the circumstances, commissions (and other transaction costs) are generally higher than those on U.S. securities. In addition, it is expected that the expenses for custodian arrangements of the fund's foreign securities will be somewhat greater than the expenses for a fund that invests primarily in domestic securities. Certain foreign governments levy withholding taxes against dividend and interest income from foreign securities. Although in some countries a portion of these taxes is recoverable by the fund, the non-recovered portion of foreign withholding taxes will reduce the income received from the companies making up a fund. The value of the foreign securities held by a fund that are not U.S. dollar-denominated may be significantly affected by changes in currency exchange rates. The U.S. dollar value of a foreign security generally decreases when the value of the U.S. dollar rises against the foreign currency in which the security is denominated and tends to increase when the value of the U.S. dollar falls against such currency (as discussed below, a fund may attempt to hedge its currency risks). In addition, the value of fund assets may be affected by losses and other expenses incurred in converting between various currencies in order to purchase and sell foreign securities, and by currency restrictions, exchange control regulation, currency devaluations, and political and economic developments. FOREIGN SECURITIES -- EMERGING MARKET RISK. Investing in emerging market countries involves certain risks not typically associated with investing in the United States, and imposes risks greater than, or in addition to, risks of investing in more developed foreign countries. These risks include, but are not limited to, the following: greater risks of nationalization or expropriation of assets or confiscatory taxation; currency devaluations and other currency exchange rate fluctuations; greater social, economic, and political uncertainty and instability (including amplified risk of war and terrorism); more substantial government involvement in the economy; less government supervision and regulation of the securities markets and participants in those markets; controls on foreign investment and limitations on repatriation of invested capital and on the fund's ability to exchange local currencies for U.S. dollars; unavailability of currency hedging techniques in certain emerging market countries; the fact that companies in emerging market countries may be smaller, less seasoned, and newly organized companies; the difference in, or lack of, auditing and financial reporting standards, which may result in unavailability of material information about issuers; the risk that it may be more difficult to obtain and/or enforce a judgment in a court outside the United States; and greater price volatility, substantially less liquidity, and significantly smaller market capitalization of securities markets. Also, any change in the leadership or politics of emerging market countries, or the countries that exercise a significant influence over those countries, may halt the expansion of or reverse the liberalization of foreign investment policies now occurring and adversely affect existing investment opportunities. Furthermore, high rates of inflation and rapid fluctuations in inflation rates have had, and may continue to have, negative effects on the economies and securities markets of certain emerging market countries. FOREIGN SECURITIES -- FOREIGN CURRENCY TRANSACTIONS. The value in U.S. dollars of a fund's non-dollar-denominated foreign securities may be affected favorably or unfavorably by changes in foreign currency exchange rates and exchange control regulations, and the fund may incur costs in connection with conversions between various currencies. To seek to minimize the impact of such factors on net asset values, a fund may engage in foreign currency transactions in connection with its investments in foreign securities. A fund will not speculate in foreign currency exchange and will enter into foreign currency transactions only to attempt to "hedge" the currency risk associated with investing in foreign securities. Although such transactions tend to minimize the risk of loss that would result from a decline in the value of the hedged currency, they also may limit any potential gain that might result should the value of such currency increase. Currency exchange transactions may be conducted either on a spot (i.e., cash) basis at the rate prevailing in the currency exchange market, or through forward contracts to purchase or sell foreign currencies. A forward currency contract involves B-8 an obligation to purchase or sell a specific currency at a future date, which may be any fixed number of days from the date of the contract agreed upon by the parties, at a price set at the time of the contract. These contracts are entered into with large commercial banks or other currency traders who are participants in the interbank market. Currency exchange transactions also may be effected through the use of swap agreements or other derivatives. Currency exchange transactions may be considered borrowings. A currency exchange transaction will not be considered to constitute the issuance of a "senior security" by a fund for purposes of the 1940 Act, and therefore such transaction will not be subject to the 300% asset coverage requirement otherwise applicable to borrowings by a fund, if the fund covers the transaction in accordance with the requirements, and subject to the risks, described above under the heading "Borrowing." By entering into a forward contract for the purchase or sale of foreign currency involved in underlying security transactions, a fund may be able to protect itself against part or all of the possible loss between trade and settlement dates for that purchase or sale resulting from an adverse change in the relationship between the U.S. dollar and such foreign currency. This practice is sometimes referred to as "transaction hedging." In addition, when the advisor reasonably believes that a particular foreign currency may suffer a substantial decline against the U.S. dollar, a fund may enter into a forward contract to sell an amount of foreign currency approximating the value of some or all of its portfolio securities denominated in such foreign currency. This practice is sometimes referred to as "portfolio hedging." Similarly, when the advisor reasonably believes that the U.S. dollar may suffer a substantial decline against a foreign currency, a fund may enter into a forward contract to buy that foreign currency for a fixed dollar amount. A fund may also attempt to hedge its foreign currency exchange rate risk by engaging in currency futures, options, and "cross-hedge" transactions. In cross-hedge transactions, a fund holding securities denominated in one foreign currency will enter into a forward currency contract to buy or sell a different foreign currency (one that the advisor reasonably believes generally tracks the currency being hedged with regard to price movements). The advisor may select the tracking (or substitute) currency rather than the currency in which the security is denominated for various reasons, including in order to take advantage of pricing or other opportunities presented by the tracking currency or because the market for the tracking currency is more liquid or more efficient. Such cross-hedges are expected to help protect a fund against an increase or decrease in the value of the U.S. dollar against certain foreign currencies. A fund may hold a portion of its assets in bank deposits denominated in foreign currencies, so as to facilitate investment in foreign securities as well as protect against currency fluctuations and the need to convert such assets into U.S. dollars (thereby also reducing transaction costs). To the extent these monies are converted back into U.S. dollars, the value of the assets so maintained will be affected favorably or unfavorably by changes in foreign currency exchange rates and exchange control regulations. The forecasting of currency market movement is extremely difficult, and whether any hedging strategy will be successful is highly uncertain. Moreover, it is impossible to forecast with precision the market value of portfolio securities at the expiration of a foreign currency forward contract. Accordingly, a fund may be required to buy or sell additional currency on the spot market (and bear the expense of such transaction) if its advisor's predictions regarding the movement of foreign currency or securities markets prove inaccurate. In addition, the use of cross-hedging transactions may involve special risks, and may leave a fund in a less advantageous position than if such a hedge had not been established. Because foreign currency forward contracts are privately negotiated transactions, there can be no assurance that a fund will have flexibility to roll-over a foreign currency forward contract upon its expiration if it desires to do so. Additionally, there can be no assurance that the other party to the contract will perform its services thereunder. FOREIGN SECURITIES -- FOREIGN INVESTMENT COMPANIES. Some of the countries in which a fund may invest may not permit, or may place economic restrictions on, direct investment by outside investors. Fund investments in such countries may be permitted only through foreign government-approved or authorized investment vehicles, which may include other investment companies. Such investments may be made through registered or unregistered closed-end investment companies that invest in foreign securities. Investing through such vehicles may involve frequent or layered fees or expenses and may also be subject to the limitations on, and the risks of, a fund's investments in other investment companies, which are described below under the heading "Other Investment Companies." FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS. Futures contracts and options on futures contracts are derivatives. A futures contract is a standardized agreement between two parties to buy or sell at a specific time in the future a specific quantity of a commodity at a specific price. The commodity may consist of an asset, a reference rate, or an index. A security futures contract relates to the sale of a specific quantity of shares of a single equity security or a narrow-based securities index. The value of a futures contract tends to increase and decrease in tandem with the value B-9 of the underlying commodity. The buyer of a futures contract enters into an agreement to purchase the underlying commodity on the settlement date and is said to be "long" the contract. The seller of a futures contract enters into an agreement to sell the underlying commodity on the settlement date and is said to be "short" the contract. The price at which a futures contract is entered into is established either in the electronic marketplace or by open outcry on the floor of an exchange between exchange members acting as traders or brokers. Open futures contracts can be liquidated or closed out by physical delivery of the underlying commodity or payment of the cash settlement amount on the settlement date, depending on the terms of the particular contract. Some financial futures contracts (such as security futures) provide for physical settlement at maturity. Other financial futures contracts (such as those relating to interest rates, foreign currencies, and broad-based securities indexes) generally provide for cash settlement at maturity. In the case of cash settled futures contracts, the cash settlement amount is equal to the difference between the final settlement price on the last trading day of the contract and the price at which the contract was entered into. Most futures contracts, however, are not held until maturity but instead are "offset" before the settlement date through the establishment of an opposite and equal futures position. The purchaser or seller of a futures contract is not required to deliver or pay for the underlying commodity unless the contract is held until the settlement date. However, both the purchaser and seller are required to deposit "initial margin" with a futures commission merchant (FCM) when the futures contract is entered into. Initial margin deposits are typically calculated as a percentage of the contract's market value. If the value of either party's position declines, that party will be required to make additional "variation margin" payments to settle the change in value on a daily basis. This process is known as "marking-to-market." A futures transaction will not be considered to constitute the issuance of a "senior security" by a fund for purposes of the 1940 Act, and such transaction will not be subject to the 300% asset coverage requirement otherwise applicable to borrowings by a fund, if the fund covers the transaction in accordance with the requirements, and subject to the risks, described above under the heading "Borrowing." An option on a futures contract (or futures option) conveys the right, but not the obligation, to purchase (in the case of a call option) or sell (in the case of a put option) a specific futures contract at a specific price (called the "exercise" or "strike" price) any time before the option expires. The seller of an option is called an option writer. The purchase price of an option is called the premium. The potential loss to an option buyer is limited to the amount of the premium plus transaction costs. This will be the case, for example, if the option is held and not exercised prior to its expiration date. Generally, an option writer sells options with the goal of obtaining the premium paid by the option buyer. If an option sold by an option writer expires without being exercised, the writer retains the full amount of the premium. The option writer, however, has unlimited economic risk because its potential loss, except to the extent offset by the premium received when the option was written, is equal to the amount the option is "in-the-money" at the expiration date. A call option is in-the-money if the value of the underlying futures contract exceeds the exercise price of the option. A put option is in-the-money if the exercise price of the option exceeds the value of the underlying futures contract. Generally, any profit realized by an option buyer represents a loss for the option writer. A fund that takes the position of a writer of a futures option is required to deposit and maintain initial and variation margin with respect to the option, as described above in the case of futures contracts. A futures option transaction will not be considered to constitute the issuance of a "senior security" by a fund for purposes of the 1940 Act, and such transaction will not be subject to the 300% asset coverage requirement otherwise applicable to borrowings by a fund, if the fund covers the transaction in accordance with the requirements, and subject to the risks, described above under the heading "Borrowing." Each fund intends to comply with Rule 4.5 of the Commodity Futures Trading Commission, under which a mutual fund is conditionally excluded from the definition of the term "commodity pool operator." A fund will only enter into futures contracts and futures options that are standardized and traded on a U.S. or foreign exchange, board of trade, or similar entity, or quoted on an automated quotation system. FUTURES CONTRACTS AND OPTIONS ON FUTURES CONTRACTS -- RISKS. The risk of loss in trading futures contracts and in writing futures options can be substantial, because of the low margin deposits required, the extremely high degree of leverage involved in futures and options pricing, and the potential high volatility of the futures markets. As a result, a relatively small price movement in a futures position may result in immediate and substantial loss (or gain) to the investor. For example, if at the time of purchase, 10% of the value of the futures contract is deposited as margin, a subsequent 10% decrease in the value of the futures contract would result in a total loss of the margin deposit, before any deduction for the transaction costs, if the account were then closed out. A 15% decrease would result in a loss equal to 150% of the original margin deposit if the contract were closed out. Thus, a purchase or sale of a futures B-10 contract, and the writing of a futures option, may result in losses in excess of the amount invested in the position. In the event of adverse price movements, a fund would continue to be required to make daily cash payments to maintain its required margin. In such situations, if the fund has insufficient cash, it may have to sell portfolio securities to meet daily margin requirements (and segregation requirements, if applicable) at a time when it may be disadvantageous to do so. In addition, on the settlement date, a fund may be required to make delivery of the instruments underlying the futures positions it holds. A fund could suffer losses if it is unable to close out a futures contract or a futures option because of an illiquid secondary market. Futures contracts and futures options may be closed out only on an exchange which provides a secondary market for such products. However, there can be no assurance that a liquid secondary market will exist for any particular futures product at any specific time. Thus, it may not be possible to close a futures or option position. Moreover, most futures exchanges limit the amount of fluctuation permitted in futures contract prices during a single trading day. The daily limit establishes the maximum amount that the price of a futures contract may vary either up or down from the previous day's settlement price at the end of a trading session. Once the daily limit has been reached in a particular type of contract, no trades may be made on that day at a price beyond that limit. The daily limit governs only price movement during a particular trading day and therefore does not limit potential losses, because the limit may prevent the liquidation of unfavorable positions. Futures contract prices have occasionally moved to the daily limit for several consecutive trading days with little or no trading, thereby preventing prompt liquidation of future positions and subjecting some futures traders to substantial losses. The inability to close futures and options positions also could have an adverse impact on the ability to hedge a portfolio investment or to establish a substitute for a portfolio investment. Treasury futures are generally not subject to such daily limits. A fund bears the risk that its advisor will incorrectly predict future market trends. If the advisor attempts to use a futures contract or a futures option as a hedge against, or as a substitute for, a portfolio investment, the fund will be exposed to the risk that the futures position will have or will develop imperfect or no correlation with the portfolio investment. This could cause substantial losses for the fund. While hedging strategies involving futures products can reduce the risk of loss, they can also reduce the opportunity for gain or even result in losses by offsetting favorable price movements in other fund investments. A fund could lose margin payments it has deposited with its FCM, if, for example, the FCM breaches its agreement with the fund or becomes insolvent or goes into bankruptcy. In that event, the fund may be entitled to return of margin owed to it only in proportion to the amount received by the FCM's other customers, potentially resulting in losses to the fund. INTERFUND BORROWING AND LENDING. The SEC has granted an exemption permitting the Vanguard funds to participate in Vanguard's interfund lending program. This program allows the Vanguard funds to borrow money from and lend money to each other for temporary or emergency purposes. The program is subject to a number of conditions, including, among other things, the requirement that: (1) no fund may borrow or lend money through the program unless it receives a more favorable interest rate than is typically available from a bank for a comparable transaction; (2) no equity, taxable bond, or money market fund may loan funds if the loan would cause its aggregate outstanding loans through the program to exceed 5%, 7.5%, or 10%, respectively, of its net assets at the time of the loan; and (3) a fund's interfund loans to any one fund shall not exceed 5% of the lending fund's net assets. In addition, a Vanguard fund may participate in the program only if and to the extent that such participation is consistent with the fund's investment objective and other investment policies. The boards of trustees of the Vanguard funds are responsible for overseeing the interfund lending program. Any delay in repayment to a lending fund could result in a lost investment opportunity or additional borrowing costs. OPTIONS. An option is a derivative. An option on a security (or index) is a contract that gives the holder of the option, in return for the payment of a "premium," the right, but not the obligation, to buy from (in the case of a call option) or sell to (in the case of a put option) the writer of the option the security underlying the option (or the cash value of the index) at a specified exercise price prior to the expiration date of the option. The writer of an option on a security has the obligation upon exercise of the option (1) to deliver the underlying security upon payment of the exercise price (in the case of a call option) or (2) to pay the exercise price upon delivery of the underlying security (in the case of a put option). The writer of an option on an index has the obligation upon exercise of the option to pay an amount equal to the cash value of the index minus the exercise price, multiplied by the specified multiplier for the index option. The multiplier for an index option determines the size of the investment position the option represents. Unlike exchange-traded options, which are standardized with respect to the underlying instrument, expiration date, contract size, and strike price, the B-11 terms of OTC options (options not traded on exchanges) generally are established through negotiation with the other party to the option contract. While this type of arrangement allows the purchaser or writer greater flexibility to tailor an option to its needs, OTC options generally involve greater credit risk than exchange-traded options, which are guaranteed by the clearing organization of the exchanges where they are traded. The buyer (or holder) of an option is said to be "long" the option, while the seller (or writer) of an option is said to be "short" the option. A call option grants to the holder the right to buy (and obligates the writer to sell) the underlying security at the strike price. A put option grants to the holder the right to sell (and obligates the writer to buy) the underlying security at the strike price. The purchase price of an option is called the "premium." The potential loss to an option buyer is limited to the amount of the premium plus transaction costs. This will be the case if the option is held and not exercised prior to its expiration date. Generally, an option writer sells options with the goal of obtaining the premium paid by the option buyer, but that person could also seek to profit from an anticipated rise or decline in option prices. If an option sold by an option writer expires without being exercised, the writer retains the full amount of the premium. The option writer, however, has unlimited economic risk because its potential loss, except to the extent offset by the premium received when the option was written, is equal to the amount the option is "in-the-money" at the expiration date. A call option is in-the-money if the value of the underlying position exceeds the exercise price of the option. A put option is in-the-money if the exercise price of the option exceeds the value of the underlying position. Generally, any profit realized by an option buyer represents a loss for the option writer. The writing of an option will not be considered to constitute the issuance of a "senior security" by a fund for purposes of the 1940 Act, and such transaction will not be subject to the 300% asset coverage requirement otherwise applicable to borrowings by a fund, if the fund covers the transaction in accordance with the requirements, and subject to the risks, described above under the heading "Borrowing." If a trading market in particular options were to become unavailable, investors in those options (such as the funds) would be unable to close out their positions until trading resumes, and they may be faced with substantial losses if the value of the underlying interest moves adversely during that time. Even if the market were to remain available, there may be times when options prices will not maintain their customary or anticipated relationships to the prices of the underlying interests and related interests. Lack of investor interest, changes in volatility, or other factors or conditions might adversely affect the liquidity, efficiency, continuity, or even the orderliness of the market for particular options. A fund bears the risk that its advisor will not accurately predict future market trends. If the advisor attempts to use an option as a hedge against, or as a substitute for, a portfolio investment, the fund will be exposed to the risk that the option will have or will develop imperfect or no correlation with the portfolio investment. This could cause substantial losses for the fund. While hedging strategies involving options can reduce the risk of loss, they can also reduce the opportunity for gain or even result in losses by offsetting favorable price movements in other fund investments. Many options, in particular OTC options, are complex and often valued based on subjective factors. Improper valuations can result in increased cash payment requirements to counterparties or a loss of value to a fund. OTHER INVESTMENT COMPANIES. A fund may invest in other investment companies to the extent permitted by applicable law or SEC exemption. Under Section 12(d)(1) of the 1940 Act, a fund generally may invest up to 10% of its assets in shares of investment companies and up to 5% of its assets in any one investment company, as long as no investment represents more than 3% of the voting stock of an acquired investment company. The 1940 Act and related rules provide certain exemptions from these restrictions. If a fund invests in other investment companies, shareholders will bear not only their proportionate share of the fund's expenses (including operating expenses and the fees of the advisor), but also, indirectly, the similar expenses of the underlying investment companies. Shareholders would also be exposed to the risks associated not only to the investments of the fund but also to the portfolio investments of the underlying investment companies. Certain types of investment companies, such as closed-end investment companies, issue a fixed number of shares that typically trade on a stock exchange or over-the-counter at a premium or discount to their net asset value. Others are continuously offered at net asset value but also may be traded on the secondary market. PREFERRED STOCK. Preferred stock represents an equity or ownership interest in an issuer. Preferred stock normally pays dividends at a specified rate and has precedence over common stock in the event the issuer is liquidated or declares bankruptcy. However, in the event an issuer is liquidated or declares bankruptcy, the claims of owners of bonds take precedence over the claims of those who own preferred and common stock. Preferred stock, unlike common stock, often has a stated dividend rate payable from the corporation's earnings. Preferred stock dividends may be cumulative or non-cumulative, participating, or auction rate. "Cumulative" dividend provisions require all or a portion of prior unpaid dividends to be paid before dividends can be paid to the issuer's common stock. "Participating" preferred stock may be entitled to a dividend exceeding the stated dividend in certain cases. If interest rates rise, the fixed dividend on preferred B-12 stocks may be less attractive, causing the price of such stocks to decline. Preferred stock may have mandatory sinking fund provisions, as well as provisions allowing the stock to be called or redeemed, which can limit the benefit of a decline in interest rates. Preferred stock is subject to many of the risks to which common stock and debt securities are subject. REPURCHASE AGREEMENTS. A repurchase agreement is an agreement under which a fund acquires a fixed income security (generally a security issued by the U.S. government or an agency thereof, a banker's acceptance, or a certificate of deposit) from a commercial bank, broker, or dealer, and simultaneously agrees to resell such security to the seller at an agreed upon price and date (normally, the next business day). Because the security purchased constitutes collateral for the repurchase obligation, a repurchase agreement may be considered a loan that is collateralized by the security purchased. The resale price reflects an agreed upon interest rate effective for the period the instrument is held by a fund and is unrelated to the interest rate on the underlying instrument. In these transactions, the securities acquired by a fund (including accrued interest earned thereon) must have a total value in excess of the value of the repurchase agreement and be held by a custodian bank until repurchased. In addition, the investment advisor will monitor a fund's repurchase agreement transactions generally and will evaluate the creditworthiness of any bank, broker, or dealer party to a repurchase agreement relating to a fund. The aggregate amount of any such agreements is not limited except to the extent required by law. The use of repurchase agreements involves certain risks. One risk is the seller's ability to pay the agreed-upon repurchase price on the repurchase date. If the seller defaults, the fund may incur costs in disposing of the collateral, which would reduce the amount realized thereon. If the seller seeks relief under the bankruptcy laws, the disposition of the collateral may be delayed or limited. For example, if the other party to the agreement becomes insolvent and subject to liquidation or reorganization under the bankruptcy or other laws, a court may determine that the underlying security is collateral for a loan by the fund not within its control and therefore the realization by the fund on such collateral may be automatically stayed. Finally, it is possible that the fund may not be able to substantiate its interest in the underlying security and may be deemed an unsecured creditor of the other party to the agreement. RESTRICTED AND ILLIQUID SECURITIES. Illiquid securities are securities that cannot be sold or disposed of in the ordinary course of business within seven business days at approximately the value at which they are being carried on a fund's books. Illiquid securities may include a wide variety of investments, such as: (1) repurchase agreements maturing in more than seven days; (2) OTC options contracts and certain other derivatives (including certain swap agreements); (3) fixed time deposits that are not subject to prepayment or do not provide for withdrawal penalties upon prepayment (other than overnight deposits); (4) participation interests in loans; (5) municipal lease obligations; (6) commercial paper issued pursuant to Section 4(2) of the Securities Act of 1933 (the 1933 Act); and (7) securities whose disposition is restricted under the federal securities laws. Illiquid securities include restricted, privately placed securities that, under the federal securities laws, generally may be resold only to qualified institutional buyers. If a substantial market develops for a restricted security (or other illiquid investment) held by a fund, it may be treated as a liquid security, in accordance with procedures and guidelines approved by the board of trustees. This generally includes securities that are unregistered, that can be sold to qualified institutional buyers in accordance with Rule 144A under the 1933 Act, or that are exempt from registration under the 1933 Act, such as commercial paper. While a fund's advisor monitors the liquidity of restricted securities on a daily basis, the board of trustees oversees and retains ultimate responsibility for the advisor's liquidity determinations. Several factors that the trustees consider in monitoring these decisions include the valuation of a security, the availability of qualified institutional buyers, brokers, and dealers that trade in the security, and the availability of information about the security's issuer. REVERSE REPURCHASE AGREEMENTS. In a reverse repurchase agreement, a fund sells a security to another party, such as a bank or broker-dealer, in return for cash and agrees to repurchase that security at an agreed-upon price and time. Under a reverse repurchase agreement, the fund continues to receive any principal and interest payments on the underlying security during the term of the agreement. Reverse repurchase agreements involve the risk that the market value of securities retained by the fund may decline below the repurchase price of the securities sold by the fund which it is obligated to repurchase. A reverse repurchase agreement may be considered a borrowing transaction for purposes of the 1940 Act. A reverse repurchase agreement transaction will not be considered to constitute the issuance of a "senior security" by a fund, and such transaction will not be subject to the 300% asset coverage requirement otherwise applicable to borrowings by a fund, if the fund covers the transaction in accordance with the requirements, and subject to the risks, described above under the heading "Borrowing." A fund will enter into reverse repurchase agreements only with parties whose creditworthiness has been reviewed and found satisfactory by the advisor. B-13 SECURITIES LENDING. A fund may lend its investment securities to qualified institutional investors (typically brokers, dealers, banks, or other financial institutions) who may need to borrow securities in order to complete certain transactions, such as covering short sales, avoiding failures to deliver securities, or completing arbitrage operations. By lending its investment securities, a fund attempts to increase its net investment income through the receipt of interest on the securities lent. Any gain or loss in the market price of the securities lent that might occur during the term of the loan would be for the account of the fund. If the borrower defaults on its obligation to return the securities lent because of insolvency or other reasons, a fund could experience delays and costs in recovering the securities lent or in gaining access to the collateral. These delays and costs could be greater for foreign securities. If a fund is not able to recover the securities lent, a fund may sell the collateral and purchase a replacement investment in the market. The value of the collateral could decrease below the value of the replacement investment by the time the replacement investment is purchased. Cash received as collateral through loan transactions may be invested in other eligible securities. Investing this cash subjects that investment to market appreciation or depreciation. The terms and the structure and the aggregate amount of securities loans must be consistent with the 1940 Act, and the rules or interpretations of the SEC thereunder. These provisions limit the amount of securities a fund may lend to 33 1/3% of the fund's total assets, and require that (1) the borrower pledge and maintain with the fund collateral consisting of cash, an irrevocable letter of credit or securities issued or guaranteed by the U.S. government having at all times not less than 100% of the value of the securities lent; (2) the borrower add to such collateral whenever the price of the securities lent rises (i.e., the borrower "marks-to-market" on a daily basis); (3) the loan be made subject to termination by the fund at any time; and (4) the fund receive reasonable interest on the loan (which may include the fund's investing any cash collateral in interest bearing short-term investments), any distribution on the lent securities, and any increase in their market value. Loan arrangements made by each fund will comply with all other applicable regulatory requirements, including the rules of the New York Stock Exchange, which presently require the borrower, after notice, to redeliver the securities within the normal settlement time of three business days. The advisor will consider the creditworthiness of the borrower, among other things, in making decisions with respect to the lending of securities, subject to oversight by the board of trustees. At the present time, the SEC does not object if an investment company pays reasonable negotiated fees in connection with lent securities, so long as such fees are set forth in a written contract and approved by the investment company's trustees. In addition, voting rights pass with the lent securities, but if a fund has knowledge that a material event will occur affecting securities on loan, and in respect of which the holder of the securities will be entitled to vote or consent, the lender must be entitled to call the loaned securities in time to vote or consent. SWAP AGREEMENTS. A swap agreement is a derivative. A swap agreement is an agreement between two parties (counterparties) to exchange payments at specified dates (periodic payment dates) on the basis of a specified amount (notional amount) with the payments calculated with reference to a specified asset, reference rate, or index. Examples of swap agreements include, but are not limited to, interest rate swaps, credit default swaps, equity swaps, commodity swaps, foreign currency swaps, index swaps, and total return swaps. Most swap agreements provide that when the periodic payment dates for both parties are the same, payments are netted, and only the net amount is paid to the counterparty entitled to receive the net payment. Consequently, a fund's current obligations (or rights) under a swap agreement will generally be equal only to the net amount to be paid or received under the agreement, based on the relative values of the positions held by each counterparty. Swap agreements allow for a wide variety of transactions. For example, fixed rate payments may be exchanged for floating rate payments; U.S. dollar-denominated payments may be exchanged for payments denominated in a different currency; and payments tied to the price of one asset, reference rate, or index may be exchanged for payments tied to the price of another asset, reference rate, or index. An option on a swap agreement, also called a "swaption," is an option that gives the buyer the right, but not the obligation, to enter into a swap on a future date in exchange for paying a market-based "premium." A receiver swaption gives the owner the right to receive the total return of a specified asset, reference rate, or index. A payer swaption gives the owner the right to pay the total return of a specified asset, reference rate, or index. Swaptions also include options that allow an existing swap to be terminated or extended by one of the counterparties. The use of swap agreements by a fund entails certain risks, which may be different from, or possibly greater than, the risks associated with investing directly in the securities and other investments that are the referenced asset for the swap agreement. Swaps are highly specialized instruments that require investment techniques, risk analyses, and tax planning different from those associated with stocks, bonds, and other traditional investments. The use of a swap requires an B-14 understanding not only of the referenced asset, reference rate, or index but also of the swap itself, without the benefit of observing the performance of the swap under all possible market conditions. Swap agreements may be subject to liquidity risk, which exists when a particular swap is difficult to purchase or sell. If a swap transaction is particularly large or if the relevant market is illiquid (as is the case with many OTC swaps), it may not be possible to initiate a transaction or liquidate a position at an advantageous time or price, which may result in significant losses. In addition, swap transactions may be subject to a fund's limitation on investments in illiquid securities. Swap agreements may be subject to pricing risk, which exists when a particular swap becomes extraordinarily expensive (or cheap) relative to historical prices or the prices of corresponding cash market instruments. Under certain market conditions, it may not be economically feasible to initiate a transaction or liquidate a position in time to avoid a loss or take advantage of an opportunity or to realize the intrinsic value of the swap agreement. Because some swap agreements have a leverage component, adverse changes in the value or level of the underlying asset, reference rate, or index can result in a loss substantially greater than the amount invested in the swap itself. Certain swaps have the potential for unlimited loss, regardless of the size of the initial investment. A leveraged swap transaction will not be considered to constitute the issuance of a "senior security" by a fund, and such transaction will not be subject to the 300% asset coverage requirement otherwise applicable to borrowings by a fund, if the fund covers the transaction in accordance with the requirements, and subject to the risks, described above under the heading "Borrowing." Like most other investments, swap agreements are subject to the risk that the market value of the instrument will change in a way detrimental to a fund's interest. A fund bears the risk that its advisor will not accurately forecast future market trends or the values of assets, reference rates, indexes, or other economic factors in establishing swap positions for the fund. If the advisor attempts to use a swap as a hedge against, or as a substitute for, a portfolio investment, the fund will be exposed to the risk that the swap will have or will develop imperfect or no correlation with the portfolio investment. This could cause substantial losses for the fund. While hedging strategies involving swap instruments can reduce the risk of loss, they can also reduce the opportunity for gain or even result in losses by offsetting favorable price movements in other fund investments. Many swaps, in particular OTC swaps, are complex and often valued subjectively. Improper valuations can result in increased cash payment requirements to counterparties or a loss of value to a fund. The use of a swap agreement also involves the risk that a loss may be sustained as a result of the insolvency or bankruptcy of the counterparty or the failure of the counterparty to make required payments or otherwise comply with the terms of the agreement. Additionally, the use of credit default swaps can result in losses if a fund's advisor does not correctly evaluate the creditworthiness of the issuer on which the credit swap is based. The swaps market is a relatively new market and is largely unregulated. It is possible that developments in the swaps market, including potential government regulation, could adversely affect a fund's ability to terminate existing swap agreements or to realize amounts to be received under such agreements. TAX MATTERS -- FEDERAL TAX TREATMENT OF FUTURES CONTRACTS. A fund is required for federal income tax purposes to recognize as income for each taxable year its net unrealized gains and losses on certain futures contracts as of the end of the year as well as those actually realized during the year. In these cases, any gain or loss recognized with respect to a futures contract is considered to be 60% long-term capital gain or loss and 40% short-term capital gain or loss, without regard to the holding period of the contract. Gains and losses on certain other futures contracts (primarily non-U.S. futures contracts) are not recognized until the contracts are closed and are treated as long-term or short-term, depending on the holding period of the contract. Sales of futures contracts that are intended to hedge against a change in the value of securities held by a fund may affect the holding period of such securities and, consequently, the nature of the gain or loss on such securities upon disposition. A fund may be required to defer the recognition of losses on one position, such as futures contracts, to the extent of any unrecognized gains on a related offsetting position held by the fund. In order for a fund to continue to qualify for federal income tax treatment as a regulated investment company, at least 90% of its gross income for a taxable year must be derived from qualifying income; i.e., dividends, interest, income derived from loans of securities, gains from the sale of securities or of foreign currencies, or other income derived with respect to the fund's business of investing in securities or currencies. It is anticipated that any net gain recognized on futures contracts will be considered qualifying income for purposes of the 90% requirement. B-15 A fund will distribute to shareholders annually any net capital gains that have been recognized for federal income tax purposes on futures transactions. Such distributions will be combined with distributions of capital gains realized on the fund's other investments and shareholders will be advised on the nature of the distributions. TAX MATTERS -- FEDERAL TAX TREATMENT OF NON-U.S. TRANSACTIONS. Special rules govern the federal income tax treatment of certain transactions denominated in a currency other than the U.S. dollar or determined by reference to the value of one or more currencies other than the U.S. dollar. The types of transactions covered by the special rules include the following: (1) the acquisition of, or becoming the obligor under, a bond or other debt instrument (including, to the extent provided in Treasury regulations, preferred stock); (2) the accruing of certain trade receivables and payables; and (3) the entering into or acquisition of any forward contract, futures contract, option, or similar financial instrument if such instrument is not marked to market. The disposition of a currency other than the U.S. dollar by a taxpayer whose functional currency is the U.S. dollar is also treated as a transaction subject to the special currency rules. However, foreign currency-related regulated futures contracts and non-equity options are generally not subject to the special currency rules if they are or would be treated as sold for their fair market value at year-end under the marking-to-market rules applicable to other futures contracts unless an election is made to have such currency rules apply. With respect to transactions covered by the special rules, foreign currency gain or loss is calculated separately from any gain or loss on the underlying transaction and is normally taxable as ordinary income or loss. A taxpayer may elect to treat as capital gain or loss foreign currency gain or loss arising from certain identified forward contracts, futures contracts, and options that are capital assets in the hands of the taxpayer and which are not part of a straddle. The Treasury Department issued regulations under which certain transactions subject to the special currency rules that are part of a "section 988 hedging transaction" (as defined in the IRC and the Treasury regulations) will be integrated and treated as a single transaction or otherwise treated consistently for purposes of the IRC. Any gain or loss attributable to the foreign currency component of a transaction engaged in by a fund which is not subject to the special currency rules (such as foreign equity investments other than certain preferred stocks) will be treated as capital gain or loss and will not be segregated from the gain or loss on the underlying transaction. It is anticipated that some of the non-U.S. dollar-denominated investments and foreign currency contracts a fund may make or enter into will be subject to the special currency rules described above. TAX MATTERS -- FOREIGN TAX CREDIT. Foreign governments may withhold taxes on dividends and interest paid with respect to foreign securities held by a fund. Foreign governments may also impose taxes on other payments or gains with respect to foreign securities. If, at the close of its fiscal year, more than 50% of a fund's total assets are invested in securities of foreign issuers, the fund may elect to pass through foreign taxes paid, and thereby allow shareholders to take a deduction or, if they meet certain holding period requirements, a tax credit on their tax returns. If shareholders do not meet the holding period requirements, they may still be entitled to a deduction for certain gains that were actually distributed by the fund, but will also show the amount of the available offsetting credit or deduction. TEMPORARY INVESTMENTS. A fund may take temporary defensive measures that are inconsistent with the fund's normal fundamental or non-fundamental investment policies and strategies in response to adverse market, economic, political, or other conditions as determined by the advisor. Such measures could include, but are not limited to, investments in (1) highly liquid short-term fixed income securities issued by or on behalf of municipal or corporate issuers, obligations of the U.S. government and its agencies, commercial paper, and bank certificates of deposit; (2) shares of other investment companies that have investment objectives consistent with those of the fund; (3) repurchase agreements involving any such securities; and (4) other money market instruments. There is no limit on the extent to which the fund may take temporary defensive measures. In taking such measures, the fund may fail to achieve its investment objective. WARRANTS. Warrants are instruments that give the holder the right, but not the obligation, to buy an equity security at a specific price for a specific period of time. Changes in the value of a warrant do not necessarily correspond to changes in the value of its underlying security. The price of a warrant may be more volatile than the price of its underlying security, and a warrant may offer greater potential for capital appreciation as well as capital loss. Warrants do not entitle a holder to dividends or voting rights with respect to the underlying security and do not represent any rights in the assets of the issuing company. A warrant ceases to have value if it is not exercised prior to its expiration date. These factors can make warrants more speculative than other types of investments. WHEN-ISSUED, DELAYED-DELIVERY, AND FORWARD-COMMITMENT TRANSACTIONS. When-issued, delayed-delivery, and forward-commitment transactions involve a commitment to purchase or sell specific securities at a predetermined price or yield in which payment and delivery take place after the customary settlement period for that type of security. Typically, no interest accrues to the purchaser until the security is delivered. When purchasing securities pursuant to one of these B-16 transactions, payment for the securities is not required until the delivery date. However, the purchaser assumes the rights and risks of ownership, including the risks of price and yield fluctuations and the risk that the security will not be issued as anticipated. When a fund has sold a security pursuant to one of these transactions, the fund does not participate in further gains or losses with respect to the security. If the other party to a delayed-delivery transaction fails to deliver or pay for the securities, the fund could miss a favorable price or yield opportunity or suffer a loss. A fund may renegotiate a when-issued or forward-commitment transaction and may sell the underlying securities before delivery, which may result in capital gains or losses for the fund. When-issued, delayed-delivery, and forward-commitment transactions will not be considered to constitute the issuance of a "senior security" by a fund, and such transaction will not be subject to the 300% asset coverage requirement otherwise applicable to borrowings by the fund, if the fund covers the transaction in accordance with the requirements, and subject to the risks, described above under the heading "Borrowing." INVESTMENT LIMITATIONS The Fund is subject to the following fundamental investment limitations, which cannot be changed in any material way without the approval of the holders of a majority of the Fund's shares. For these purposes, a "majority" of shares means shares representing the lesser of: (1) 67% or more of the Fund's net assets voted, so long as shares representing more than 50% of the Fund's net assets are present or represented by proxy; or (2) more than 50% of the Fund's net assets. BORROWING. The Fund may borrow money for temporary or emergency purposes only in an amount not to exceed 15% of the Fund's net assets. The Fund may borrow money through banks or Vanguard's interfund lending program only, and must comply with all applicable regulatory conditions. The Fund may not make any additional investments whenever its outstanding borrowings exceed 5% of net assets. COMMODITIES. The Fund may not invest in commodities, except that it may invest in stock futures contracts, stock options, and options on stock futures contracts. No more than 5% of the Fund's total assets may be used as initial margin deposit for futures contracts, and no more than 20% of the Fund's total assets may be invested in futures contracts or options at any time. DIVERSIFICATION. With respect to 75% of its total assets, the Fund may not: (1) purchase more than 10% of the outstanding voting securities of any one issuer; or (2) purchase securities of any issuer if, as a result, more than 5% of the Fund's total assets would be invested in that issuer's securities. This limitation does not apply to obligations of the U.S. government or its agencies or instrumentalities. ILLIQUID SECURITIES. The Fund may not acquire any security if, as a result, more than 15% of its net assets would be invested in securities that are illiquid. INDUSTRY CONCENTRATION. The Fund may not invest more than 25% of its total assets in any one industry. INVESTING FOR CONTROL. The Fund may not invest in a company for purposes of controlling its management. INVESTMENT OBJECTIVE. The investment objective of the Fund may not be materially changed without a shareholder vote. LOANS. The Fund may not lend money to any person except by purchasing fixed income securities, by entering into repurchase agreements, by lending its portfolio securities, or through Vanguard's interfund lending program. MARGIN. The Fund may not purchase securities on margin or sell securities short, except as permitted by the Fund's investment policies relating to commodities. PLEDGING ASSETS. The Fund may not pledge, mortgage, or hypothecate more than 15% of its net assets. REAL ESTATE. The Fund may not invest directly in real estate, although it may invest in securities of companies that deal in real estate and bonds secured by real estate. SENIOR SECURITIES. The Fund may not issue senior securities, except in compliance with the 1940 Act. UNDERWRITING. The Fund may not act as an underwriter of another issuer's securities, except to the extent that the Fund may be deemed to be an underwriter within the meaning of the 1933 Act, in connection with the purchase and sale of portfolio securities. None of these limitations prevents the Fund from having an ownership interest in Vanguard. As a part owner of Vanguard, the Fund may own securities issued by Vanguard, make loans to Vanguard, and contribute to Vanguard's costs or other financial requirements. See "Management of the Fund" for more information. B-17 Compliance with the investment limitations set forth above is generally measured at the time the securities are purchased. All investment limitations must comply with applicable regulatory requirements. If a percentage restriction is adhered to at the time the investment is made, a later change in percentage resulting from a change in the market value of assets will not constitute a violation of such restriction. SHARE PRICE Multiple-class funds do not have a share price. Rather, each class has a share price, called its net asset value, or NAV, that is calculated each business day as of the close of regular trading on the New York Stock Exchange (the Exchange), generally 4 p.m., Eastern time. NAV per share is computed by dividing the net assets allocated to each share class by the number of Fund shares outstanding for that class. The Exchange typically observes the following holidays: New Year's Day, Martin Luther King Jr. Day, Presidents' Day (Washington's Birthday), Good Friday, Memorial Day, Independence Day, Labor Day, Thanksgiving Day, and Christmas Day. Although the Fund expects the same holidays to be observed in the future, the Exchange may modify its holiday schedule or hours of operation at any time. PURCHASE AND REDEMPTION OF SHARES PURCHASE OF SHARES The purchase price of shares of the Fund is the NAV per share next determined after the purchase request is received in good order, as defined in the Fund's prospectus. The NAV per share is calculated as of the close of regular trading on the Exchange on each day the Exchange is open for business. A purchase order received before the close of regular trading on the Exchange will be executed at the NAV computed on the date of receipt; a purchase order received after the close of regular trading on the Exchange will be executed at the NAV computed on the first business day following the date of receipt. REDEMPTION OF SHARES The redemption price of shares of the Fund is the NAV next determined after the redemption request is received in good order, as defined in the Fund's prospectus. A redemption order received before the close of regular trading on the Exchange will be executed at the NAV computed on the date of receipt; a redemption order received after the close of regular trading on the Exchange will be executed at the NAV computed on the next day that the Exchange is open. The Fund may suspend redemption privileges or postpone the date of payment for redeemed shares: (1) during any period that the Exchange is closed or trading on the Exchange is restricted as determined by the SEC; (2) during any period when an emergency exists, as defined by the SEC, as a result of which it is not reasonably practicable for the Fund to dispose of securities it owns or to fairly determine the value of its assets; and (3) for such other periods as the SEC may permit. The Fund has filed a notice of election with the SEC to pay in cash all redemptions requested by any shareholder of record limited in amount during any 90-day period to the lesser of $250,000 or 1% of the net assets of the Fund at the beginning of such period. If Vanguard determines that it would be detrimental to the best interests of the remaining shareholders of the Fund to make payment wholly or partly in cash, the Fund may pay the redemption price in whole or in part by a distribution in kind of readily marketable securities held by the Fund in lieu of cash in conformity with applicable rules of the SEC. Investors may incur brokerage charges on the sale of such securities received in payment of redemptions. No charge is made by the Fund for redemptions. Shares redeemed may be worth more or less than what was paid for them, depending on the market value of the securities held by the Fund. RIGHT TO CHANGE POLICIES Vanguard reserves the right to (1) alter, add, or discontinue any conditions of purchase (including eligibility requirements), redemption, exchange, conversion, service, or privilege at any time without prior notice; (2) accept initial purchases by telephone; (3) freeze any account and/or suspend account services when Vanguard has received reasonable notice of a B-18 dispute regarding the assets in an account, including notice of a dispute between the registered or beneficial account owners or when we reasonably believe a fraudulent transaction may occur or has occurred; (4) alter, impose, discontinue, or waive any redemption fee, account service fee, or other fees charged to a group of shareholders; and (5) redeem an account, without the owner's permission to do so, in cases of threatening conduct or suspicious, fraudulent, or illegal activity. Changes may affect any or all investors. These actions will be taken when, at the sole discretion of Vanguard management, we reasonably believe they are deemed to be in the best interest of a fund. INVESTING WITH VANGUARD THROUGH OTHER FIRMS The Fund has authorized certain agents to accept on its behalf purchase and redemption orders, and those agents are authorized to designate other intermediaries to accept purchase and redemption orders on the Fund's behalf (collectively, Authorized Agents). The Fund will be deemed to have received a purchase or redemption order when an Authorized Agent accepts the order in accordance with the Fund's instructions. In most instances, a customer order that is properly transmitted to an Authorized Agent will be priced at the Fund's NAV next determined after the order is received by the Authorized Agent. When intermediaries establish accounts in Vanguard funds for their clients, we cannot always monitor the trading activity of individual clients. However, we review trading activity at the omnibus level, and if we detect suspicious activity, we will seek to investigate and take appropriate action. If necessary, Vanguard may prohibit additional purchases of fund shares by an intermediary or by certain of the intermediary's clients. Intermediaries may also monitor their clients' trading activities in the Vanguard funds. For those Vanguard funds that charge purchase or redemption fees, intermediaries will be asked to assess purchase and redemption fees on shareholder and participant accounts and remit these fees to the funds. The application of purchase and redemption fees and frequent-trading policies may vary among intermediaries. There are no assurances that Vanguard will successfully identify all intermediaries or that intermediaries will properly assess purchase and redemption fees or administer frequent-trading policies. If you invest with Vanguard through an intermediary, please read that firm's materials carefully to learn of any other rules or fees that may apply. MANAGEMENT OF THE FUND VANGUARD The Fund is part of the Vanguard group of investment companies, which consists of more than 140 funds. Through their jointly-owned subsidiary, Vanguard, the funds obtain at cost virtually all of their corporate management, administrative, and distribution services. Vanguard also provides investment advisory services on an at-cost basis to several of the Vanguard funds. Vanguard employs a supporting staff of management and administrative personnel needed to provide the requisite services to the funds and also furnishes the funds with necessary office space, furnishings, and equipment. Each fund pays its share of Vanguard's total expenses, which are allocated among the funds under methods approved by the board of trustees of each fund. In addition, each fund bears its own direct expenses, such as legal, auditing, and custodian fees. The funds' officers are also officers and employees of Vanguard. Vanguard, Vanguard Marketing Corporation, the funds' advisors, and the funds have adopted Codes of Ethics designed to prevent employees who may have access to nonpublic information about the trading activities of the funds (access persons) from profiting from that information. The Codes permit access persons to invest in securities for their own accounts, including securities that may be held by a fund, but place substantive and procedural restrictions on the trading activities of access persons. For example, the Codes require that access persons receive advance approval for most securities trades to ensure that there is no conflict with the trading activities of the funds. The Codes also limit the ability of Vanguard employees to engage in short-term trading of Vanguard funds. Vanguard was established and operates under an Amended and Restated Funds' Service Agreement. The Amended and Restated Funds' Service Agreement provides as follows: (1) each Vanguard fund may be called upon to invest up to 0.40% of its current net assets in Vanguard, and (2) there is no other limitation on the dollar amount that each Vanguard fund may contribute to Vanguard's capitalization. The amounts that each fund has invested are adjusted from time to time in order to maintain the proportionate relationship between each fund's relative net assets and its contribution to B-19 Vanguard's capital. As of October 31, 2006, the Fund contributed $1,190,000 to Vanguard, which represented 0.01% of the Fund's net assets and was 1.19% of Vanguard's capitalization. MANAGEMENT. Corporate management and administrative services include: (1) executive staff; (2) accounting and financial; (3) legal and regulatory; (4) shareholder account maintenance; (5) monitoring and control of custodian relationships; (6) shareholder reporting; and (7) review and evaluation of advisory and other services provided to the funds by third parties. DISTRIBUTION. Vanguard Marketing Corporation (VMC), a wholly-owned subsidiary of Vanguard, is the principal underwriter for the funds and in that capacity performs and finances marketing, promotional, and distribution activities (collectively, marketing and distribution activities) that are primarily intended to result in the sale of the funds' shares. VMC performs marketing and distribution activities at cost in accordance with the terms and conditions of a 1981 SEC exemptive order that permits the Vanguard funds to internalize and jointly finance the marketing, promotion, and distribution of their shares. Under the terms of the SEC order, the funds' trustees review and approve the marketing and distribution expenses incurred on their behalf, including the nature and cost of the activities and the desirability of each fund's continued participation in the joint arrangement. To ensure that each fund's participation in the joint arrangement falls within a reasonable range of fairness, each fund contributes to VMC's marketing and distribution expenses in accordance with an SEC-approved formula. Under that formula, one half of the marketing and distribution expenses are allocated among the funds based upon their relative net assets. The remaining half of those expenses is allocated among the funds based upon each fund's sales for the preceding 24 months relative to the total sales of the funds as a group; provided, however, that no fund's aggregate quarterly rate of contribution for marketing and distribution expenses shall exceed 125% of the average marketing and distribution expense rate for Vanguard, and that no fund shall incur annual marketing and distribution expenses in excess of 0.20 of 1% of its average month-end net assets. As of October 31, 2006, none of the Vanguard funds' allocated share of VMC's marketing and distribution expenses was greater than 0.03% of the fund's average month-end net assets. Each fund's contribution to these marketing and distribution expenses helps to maintain and enhance the attractiveness and viability of the Vanguard complex as a whole, which benefits all of the funds and their shareholders. VMC's principal marketing and distribution expenses are for advertising, promotional materials, and marketing personnel. Other marketing and distribution activities that VMC undertakes on behalf of the funds may include, but are not limited to: - - Conducting or publishing Vanguard-generated research and analysis concerning the funds, other investments, the financial markets, or the economy; - - Providing views, opinions, advice, or commentary concerning the funds, other investments, the financial markets, or the economy; - - Providing analytical, statistical, performance, or other information concerning the funds, other investments, the financial markets, or the economy; - - Providing administrative services in connection with investments in the funds or other investments, including, but not limited to, shareholder services, recordkeeping services, and educational services; - - Providing products or services that assist investors or financial service providers (as defined below) in the investment decision-making process; - - Providing promotional discounts, commission-free trading, fee waivers, and other benefits to clients of Vanguard Brokerage Services/(R)/ who maintain qualifying investments in the funds; and - - Sponsoring, jointly sponsoring, financially supporting, or participating in conferences, programs, seminars, presentations, meetings, or other events involving fund shareholders, financial service providers, or others concerning the funds, other investments, the financial markets, or the economy, such as industry conferences, prospecting trips, due diligence visits, training or education meetings, and sales presentations. VMC performs most marketing and distribution activities itself. Some activities may be conducted by third parties pursuant to shared marketing arrangements under which VMC agrees to share the costs and performance of marketing and distribution activities in concert with a financial service provider. Financial service providers include, but are not limited to, investment advisors, broker-dealers, financial planners, financial consultants, banks, and insurance companies. Under these cost- and performance-sharing arrangements, VMC may pay or reimburse a financial service provider (or a third party it retains) for marketing and distribution activities that VMC would otherwise perform. VMC's cost- and performance-sharing arrangements may be established in connection with Vanguard investment products or B-20 services offered or provided to or through the financial service providers. VMC's arrangements for shared marketing and distribution activities may vary among financial service providers, and its payments or reimbursements to financial service providers in connection with shared marketing and distribution activities may be significant. VMC does not participate in the offshore arrangement Vanguard has established for qualifying Vanguard funds to be distributed in certain foreign countries on a private-placement basis to government-sponsored and other institutional investors through a third-party "asesor de inversiones" (investment advisor), which includes incentive-based remuneration. In connection with its marketing and distribution activities, VMC may give financial service providers (or their representatives): (1) promotional items of nominal value that display Vanguard's logo, such as golf balls, shirts, towels, pens, and mouse pads; (2) gifts that do not exceed $100 per person annually and are not preconditioned on achievement of a sales target; (3) an occasional meal, a ticket to a sporting event or the theater, or comparable entertainment which is neither so frequent nor so extensive as to raise any question of propriety and is not preconditioned on achievement of a sales target; and (4) reasonable travel and lodging accommodations to facilitate participation in marketing and distribution activities. VMC, as a matter of policy, does not pay asset-based fees, sales-based fees, or account-based fees to financial service providers in connection with its marketing and distribution activities for the Vanguard funds. VMC policy also prohibits marketing and distribution activities that are intended, designed, or likely to compromise suitability determinations by, or the fulfillment of any fiduciary duties or other obligations that apply to, financial service providers. Nonetheless, VMC's marketing and distribution activities are primarily intended to result in the sale of the funds' shares, and as such its activities, including shared marketing and distribution activities, may influence participating financial service providers (or their representatives) to recommend, promote, include, or invest in a Vanguard fund or share class. In addition, Vanguard or any of its subsidiaries may retain a financial service provider to provide consulting or other services, and that financial service provider also may provide services to investors. Investors should consider the possibility that any of these activities or relationships may influence a financial service provider's (or its representatives') decision to recommend, promote, include, or invest in a Vanguard fund or share class. Each financial service provider should consider its suitability determinations, fiduciary duties, and other legal obligations (or those of its representatives) in connection with any decision to consider, recommend, promote, include, or invest in a Vanguard fund or share class. The following table describes the expenses of Vanguard and VMC that are shared by the funds on an at-cost basis under the terms of two SEC exemptive orders. Amounts captioned "Management and Administrative Expenses" include a fund's allocated share of expenses associated with the management, administrative, and transfer agency services Vanguard provides to the funds. Amounts captioned "Marketing and Distribution Expenses" include a fund's allocated share of expenses associated with the marketing and distribution activities that VMC conducts on behalf of the Vanguard funds. As is the case with all mutual funds, transaction costs incurred by the Fund for buying and selling securities are not reflected in the table. Annual Shared Fund Operating Expenses are based on expenses incurred in the fiscal years ended October 31, 2004, 2005, and 2006, and are presented as a percentage of the Fund's average month-end net assets.
ANNUAL SHARED FUND OPERATING EXPENSES (SHARED EXPENSES DEDUCTED FROM FUND ASSETS) ------------------------------------------- FISCAL YEAR ENDED FISCAL YEAR ENDED FISCAL YEAR ENDED FUND OCTOBER 31, 2004 OCTOBER 31, 2005 OCTOBER 31, 2006 - ---- ----------------- ----------------- ------------------ VANGUARD EXPLORER FUND Management and Administrative Expenses: 0.53% 0.51% 0.52% Marketing and Distribution Expenses: 0.02 0.02 0.04
Each investment advisor may direct certain security trades, subject to obtaining the best price and execution, to brokers who have agreed to rebate to the Fund part of the commissions generated. Such rebates are used solely to reduce the Fund's management and administrative expenses and are not reflected in these totals. OFFICERS AND TRUSTEES The Fund is governed by the board of trustees to the Trust and a single set of officers. The officers manage the day-to-day operations of the Fund under the direction of the Fund's board of trustees. The trustees set broad policies for the Fund; select investment advisors; monitor fund operations, performance, and costs; nominate and select new trustees; B-21 and elect fund officers. Each trustee serves the Fund until its termination; until the trustee's retirement, resignation, or death; or as otherwise specified in the Trust's organizational documents. Any trustee may be removed at a meeting of shareholders by a vote representing two-thirds of the total net asset value of all shares of the Fund. Each trustee also serves as a director of Vanguard. The following chart shows information for each trustee and executive officer of the Fund. The mailing address of the trustees and officers is P.O. Box 876, Valley Forge, PA 19482.
NUMBER OF VANGUARD PRINCIPAL OCCUPATION(S) AND OUTSIDE VANGUARD FUNDS POSITION(S) FUNDS' TRUSTEE/ DIRECTORSHIPS OVERSEEN BY NAME, YEAR OF BIRTH HELD WITH FUNDS OFFICER SINCE DURING THE PAST FIVE YEARS TRUSTEE/OFFICER - ------------------- --------------- -------------- -------------------------- ---------------- INTERESTED TRUSTEE John J. Brennan/1/ Chairman of the May 1987 Chairman of the Board, Chief 147 (1954) Board, Chief Executive Officer, and Director Executive Officer, (Trustee) of Vanguard, and of each of the and Trustee investment companies served by Vanguard. - ----------------------------------------------------------------------------------------------------------------------------------- INDEPENDENT TRUSTEES Charles D. Ellis Trustee January 2001 Applecore Partners (pro bono ventures in 147 (1937) education); Senior Advisor to Greenwich Associates (international business strategy consulting); Successor Trustee of Yale University; Overseer of the Stern School of Business at New York University; Trustee of the Whitehead Institute for Biomedical Research. Rajiv L. Gupta Trustee December 2001 Chairman and Chief Executive Officer of Rohm 147 (1945) and Haas Co. (chemicals); Board Member of American Chemistry Council; Director of Tyco International, Ltd. (diversified manufacturing and services) since 2005; Trustee of Drexel University and the Chemical Heritage Foundation. Amy Gutmann Trustee June 2006 President of the University of Pennsylvania 147 (1949) since 2004; Professor in the School of Arts and Sciences, Annenberg School for Communi- cation, and Graduate School of Education of the University of Pennsylvania since 2004; Provost (2001 - 2004) and Laurance S. Rockefeller Professor of Politics and the University Center for Human Values (1990 - 2004), Princeton University; Director of Carnegie Corporation of New York since 2005, and of Schuylkill River Development Corporation and Greater Philadelphia Chamber of Commerce since 2004. JoAnn Heffernan Heisen Trustee July 1998 Corporate Vice President and Chief Global 147 (1950) Diversity Officer since 2006, Vice President and Chief Information Officer (1997 - 2005), and Member of the Executive Committee of Johnson & Johnson (pharmaceuticals/consumer products); Director of the University Medical Center at Princeton and Women's Research and Education Institute. Andre F. Perold Trustee December 2004 George Gund Professor of Finance and Banking, 147 (1952) Harvard Business School; Senior Associate Dean, Director of Faculty Recruiting, and Chair of Finance Faculty, Harvard Business School; Director and Chairman of UNX, Inc. (equities trading firm) since 2003; Chair of the Investment Committee of HighVista Strategies LLC (private investment firm) since 2005.
1 Officers of the Funds are "interested persons" as defined in the 1940 Act.
NUMBER OF VANGUARD VANGUARD FUNDS POSITION(S) FUNDS' TRUSTEE/ PRINCIPAL OCCUPATION(S) AND OUTSIDE DIRECTORSHIPS OVERSEEN BY NAME, YEAR OF BIRTH HELD WITH FUNDS OFFICER SINCE DURING THE PAST FIVE YEARS TRUSTEE/OFFICER - ------------------- --------------- -------------- -------------------------- --------------- JoAnn Heffernan Heisen Trustee July 1998 Corporate Vice President and Chief Global Diversity 147 (1950) Officer since 2006, Vice President and Chief Information Officer (1997-2005), and Member of the Executive Committee of Johnson & Johnson (pharmaceuticals/consumer products); Director of the University Medical Center at Princeton and Women's Research and Education Institute. Andre F. Perold Trustee December 2004 George Gund Professor of Finance and Banking, 147 (1952) Harvard Business School; Senior Associate Dean, Director of Faculty Recruiting, and Chair of Finance Faculty, Harvard Business School; Director and Chairman of Unx, Inc. (equities trading firm) since 2003; Chair of the Investment Committee of HighVista Strategies LLC (private investment firm) since 2005; Director of registered investement companies advised by Merril Lynch Investment Managers and affiliates (1985-2004), Genbel Securities Limited (South African financial services firm) (1999-2003), Gensec Bank (1999-2003), Sanlam Ltd. (South African insurance company)(2001-2003), and Stockback, Inc.(credit card firm)(2000-2002). Alfred M. Rankin, Jr. Trustee January 1993 Chairman, President, Chief Executive Officer, and 147 (1941) Director of NACCO Industries, Inc.(forklift trucks/ housewares/lignite); Director of Goodrich Corporation (industrial products/aircraft systems and services). J. Lawrence Wilson Trustee April 1985 Retired Chairman, Chief Executive Officer, and President of Rohm 147 (1936) and Haas Co. (chemicals); Director of Cummins Inc. (diesel engines), and AmerisourceBergen Corp. (pharmaceutical distribution); Trustee of Vanderbilt University and Culver Educational Foundation. EXECUTIVE OFFICERS Heidi Stam/1/ Secretary July 2005 Managing Director of Vanguard since 2006; General 147 (1956) Counsel of Vanguard since 2005; Secretary of Vanguard, and of each of the investment companies served by Vanguard, since 2005; Principal of Vanguard (1997-2006). Thomas J. Higgins/1/ Treasurer July 1998 Principal of Vanguard; Treasurer of each of the 147 (1957) investment companies served by Vanguard. 1 Officers of the Funds are "interested persons" as defined in the 1940 Act.
B-22 Mr. Ellis is a Senior Advisor to Greenwich Associates, a firm that consults on business strategy to professional financial services organizations in markets around the world. A large number of financial service providers, including Vanguard, subscribe to programs of research-based consulting. During 2005 and 2006, Vanguard paid Greenwich subscription fees amounting to less than $400,000. Vanguard's subscription rates are similar to those of other subscribers. Board Committees: The Trust's board has the following committees: - - Audit Committee: This committee oversees the accounting and financial reporting policies, the systems of internal controls, and the independent audits of each fund and Vanguard. All independent trustees serve as members of the committee. The committee held two meetings during the Fund's last fiscal year. - - Compensation Committee: This committee oversees the compensation programs established by each fund and Vanguard for the benefit of their employees, officers, and trustees/directors. All independent trustees serve as members of the committee. The committee held three meetings during the Fund's last fiscal year. - - Nominating Committee: This committee nominates candidates for election to Vanguard's board of directors and the board of trustees of each fund (collectively, the Vanguard boards). The committee also has the authority to recommend the removal of any director or trustee from the Vanguard boards. All independent trustees serve as members of the committee. The committee held five meetings during the Fund's last fiscal year. The Nominating Committee will consider shareholder recommendations for trustee nominees. Shareholders may send recommendations to Mr. Rankin, Chairman of the Committee. B-23 TRUSTEE COMPENSATION The same individuals serve as trustees of all Vanguard funds and each fund pays a proportionate share of the trustees' compensation. The funds also employ their officers on a shared basis; however, officers are compensated by Vanguard, not the funds. INDEPENDENT TRUSTEES. The funds compensate their independent trustees (i.e., the ones who are not also officers of the funds) in three ways: - - The independent trustees receive an annual fee for their service to the funds, which is subject to reduction based on absences from scheduled board meetings. - - The independent trustees are reimbursed for the travel and other expenses that they incur in attending board meetings. - - Upon retirement (after attaining age 65 and completing five years of service), the independent trustees who began their service prior to January 1, 2001, receive a retirement benefit under a separate account arrangement. As of January 1, 2001, the opening balance of each eligible trustee's separate account was generally equal to the net present value of the benefits he or she had accrued under the trustees' former retirement plan. Each eligible trustee's separate account will be credited annually with interest at a rate of 7.5% until the trustee receives his or her final distribution. Those independent trustees who began their service on or after January 1, 2001, are not eligible to participate in the plan. "INTERESTED" TRUSTEE. Mr. Brennan serves as a trustee, but is not paid in this capacity. He is, however, paid in his role as an officer of Vanguard. COMPENSATION TABLE. The following table provides compensation details for each of the trustees. We list the amounts paid as compensation and accrued as retirement benefits by the Fund for each trustee. In addition, the table shows the total amount of benefits that we expect each trustee to receive from all Vanguard funds upon retirement, and the total amount of compensation paid to each trustee by all Vanguard funds. VANGUARD EXPLORER FUND TRUSTEES' COMPENSATION TABLE
ACCRUED ANNUAL TOTAL COMPENSATION PENSION OR RETIREMENT FROM ALL AGGREGATE RETIREMENT BENEFITS BENEFIT AT VANGUARD COMPENSATION ACCRUED AS PART OF JANUARY 1, FUNDS TRUSTEE FROM THIS FUND/1/ THIS FUND'S EXPENSES/1/ 2006/2/ PAID TO TRUSTEES/3/ - ------- ------------------ ------------------------ ------------ ------------------- John J. Brennan -- -- -- -- Charles D. Ellis $2,037 -- -- $140,000 Rajiv L. Gupta 2,079 -- -- 136,000 Amy Gutmann/4/ 866 -- -- 72,000 JoAnn Heffernan Heisen 2,079 $57 $2,365 140,000 Andre F. Perold 2,037 -- -- 140,000 Alfred M. Rankin, Jr. 2,079 69 4,634 152,250 J. Lawrence Wilson 2,391 74 6,735 144,750 1 The amounts shown in this column are based on the Fund's fiscal year ended October 31, 2006. 2 Each trustee is eligible to receive retirement benefits only after completing at least 5 years (60 consecutive months) of service as a trustee for the Vanguard funds. The annual retirement benefit will be paid in monthly installments, beginning with the month following the trustee's retirement from service, and will cease after 10 years of payments (120 monthly installments). Trustees who began their service on or after January 1, 2001, are not eligible to participate in the retirement benefit plan. 3 The amounts reported in this column reflect the total compensation paid to each trustee for his or her service as trustee of 145 Vanguard funds for the 2006 calendar year. 4 Dr. Gutmann became a member of the Fund's board effective June 2006.
B-24 OWNERSHIP OF FUND SHARES All trustees allocate their investments among the various Vanguard funds based on their own investment needs. The following table shows each trustee's ownership of shares of the Fund and of all Vanguard funds served by the trustee as of December 31, 2006.
AGGREGATE DOLLAR DOLLAR RANGE OF FUND RANGE OF VANGUARD FUND FUND SHARES SHARES OWNED BY TRUSTEE - ---- TRUSTEE OWNED BY TRUSTEE Vanguard Explorer Fund John J. Brennan Over $100,000 Over $100,000 Charles D. Ellis -- Over $100,000 Rajiv L. Gupta -- Over $100,000 Amy Gutmann Over $100,000 Over $100,000 JoAnn Heffernan Heisen -- Over $100,000 Andre F. Perold -- Over $100,000 Alfred M. Rankin, Jr. Over $100,000 Over $100,000 J. Lawrence Wilson -- Over $100,000
As of July 31, 2007, the trustees and executive officers of the funds owned, in the aggregate, less than 1% of each class of each fund's outstanding shares. As of July 31, 2007, those listed below owned of record 5% or more of each class' outstanding shares: Vanguard Explorer Fund-- Investor Shares: Vanguard STAR Fund, Malvern, PA (6.97%). PORTFOLIO HOLDINGS DISCLOSURE POLICIES AND PROCEDURES INTRODUCTION Vanguard and the Boards of Trustees of the Vanguard funds (Boards) have adopted Portfolio Holdings Disclosure Policies and Procedures (Policies and Procedures) to govern the disclosure of the portfolio holdings of each Vanguard fund. Vanguard and the Boards considered each of the circumstances under which Vanguard fund portfolio holdings may be disclosed to different categories of persons under the Policies and Procedures. Vanguard and the Boards also considered actual and potential material conflicts that could arise in such circumstances between the interests of Vanguard fund shareholders, on the one hand, and those of the fund's investment advisor, distributor, or any affiliated person of the fund, its investment advisor, or its distributor, on the other. After giving due consideration to such matters and after the exercise of their fiduciary duties and reasonable business judgment, Vanguard and the Boards determined that the Vanguard funds have a legitimate business purpose for disclosing portfolio holdings to the persons described in each of the circumstances set forth in the Policies and Procedures and that the Policies and Procedures are reasonably designed to ensure that disclosure of portfolio holdings and information about portfolio holdings is in the best interests of fund shareholders and appropriately addresses the potential for material conflicts of interest. The Boards exercise continuing oversight of the disclosure of Vanguard fund portfolio holdings by (1) overseeing the implementation and enforcement of the Policies and Procedures, the Code of Ethics, and the Policies and Procedures Designed to Prevent the Misuse of Inside Information (collectively, the portfolio holdings governing policies) by the Chief Compliance Officer of Vanguard and the Vanguard funds; (2) considering reports and recommendations by the Chief Compliance Officer concerning any material compliance matters (as defined in Rule 38a-1 under the 1940 Act and Rule 206(4)-7 under the Investment Advisers Act of 1940) that may arise in connection with any portfolio holdings governing policies; and (3) considering whether to approve or ratify any amendment to any portfolio holdings governing policies. Vanguard and the Boards reserve the right to amend the Policies and Procedures at any time and from time to time without prior notice in their sole discretion. For purposes of the Policies and Procedures, the term "portfolio holdings" means the equity and debt securities (e.g., stocks and bonds) held by a Vanguard fund and does not mean the cash investments, derivatives, and other investment positions (collectively, other investment positions) held by the fund. B-25 ONLINE DISCLOSURE OF TEN LARGEST STOCK HOLDINGS Each of the Vanguard equity funds and Vanguard balanced funds generally will seek to disclose the fund's ten largest stock portfolio holdings and the percentages that each of these ten largest stock portfolio holdings represent of the fund's total assets as of the most recent calendar-quarter-end (quarter-end ten largest stock holdings) online at www.vanguard.com in the "Holdings" section of the fund's Profile page, 15 calendar days after the end of the calendar quarter. In addition, those funds generally will seek to disclose the fund's ten largest stock portfolio holdings as of the most recent month-end (month-end ten largest stock holdings, and together with quarter-end ten largest stock holdings, ten largest stock holdings) online at www.vanguard.com in the "Holdings" section of the fund's Profile page, 10 business days after the end of the month. Online disclosure of the ten largest stock holdings is made to all categories of persons, including individual investors, institutional investors, intermediaries, third-party service providers, rating and ranking organizations, affiliated persons of a Vanguard fund, and all other persons. ONLINE DISCLOSURE OF COMPLETE PORTFOLIO HOLDINGS Each of the Vanguard funds, excluding Vanguard money market funds, generally will seek to disclose the fund's complete portfolio holdings (complete portfolio holdings) as of the most recent calendar-quarter-end online at www.vanguard.com in the "Holdings" section of the fund's Profile page, 30 calendar days after the end of the calendar quarter. Online disclosure of complete portfolio holdings is made to all categories of persons, including individual investors, institutional investors, intermediaries, third-party service providers, rating and ranking organizations, affiliated persons of a Vanguard fund, and all other persons. Vanguard's Portfolio Review Department will review complete portfolio holdings before online disclosure is made as described above and, after consultation with a Vanguard fund's investment advisor, may withhold any portion of the fund's complete portfolio holdings from online disclosure as described above when deemed to be in the best interests of the fund. DISCLOSURE OF COMPLETE PORTFOLIO HOLDINGS TO SERVICE PROVIDERS SUBJECT TO CONFIDENTIALITY AND TRADING RESTRICTIONS Vanguard, for legitimate business purposes, may disclose Vanguard fund complete portfolio holdings at times it deems necessary and appropriate to rating and ranking organizations, financial printers, proxy voting service providers, pricing information vendors, third-parties that deliver analytical, statistical, or consulting services, and other third parties that provide services (collectively, Service Providers) to Vanguard, Vanguard subsidiaries, and/or the Vanguard funds. Disclosure of complete portfolio holdings to a Service Provider is conditioned on the Service Provider being subject to a written agreement imposing a duty of confidentiality, including a duty not to trade on the basis of any material nonpublic information. The frequency with which complete portfolio holdings may be disclosed to a Service Provider, and the length of the lag, if any, between the date of the information and the date on which the information is disclosed to the Service Provider, is determined based on the facts and circumstances, including, without limitation, the nature of the portfolio holdings information to be disclosed, the risk of harm to the funds and their shareholders, and the legitimate business purposes served by such disclosure. The frequency of disclosure to a Service Provider varies and may be as frequent as daily, with no lag. Disclosure of Vanguard fund complete portfolio holdings by Vanguard to a Service Provider must be authorized by a Vanguard fund officer or a Principal in Vanguard's Portfolio Review or Legal Department. Any disclosure of Vanguard fund complete portfolio holdings to a Service Provider as previously described may also include a list of the other investment positions that make up the fund, such as cash investments and derivatives. As of October 31, 2006, Vanguard fund complete portfolio holdings are disclosed to the following Service Providers as part of ongoing arrangements that serve legitimate business purposes: Abel/Noser Corporation, Advisor Software, Inc., Alcom Printing Group Inc., Apple Press, L.C., Automatic Data Processing, Inc., Brown Brothers Harriman & Co., FactSet Research Systems Inc., Intelligencer Printing Company, Investment Technology Group, Inc., Lipper, Inc., McMunn Associates Inc., Pitney Bowes Management Services, Reuters America Inc., R.R. Donnelley, Inc., State Street Investment Manager Solutions, Triune Color Corporation, and Tursack Printing Inc. DISCLOSURE OF COMPLETE PORTFOLIO HOLDINGS TO VANGUARD AFFILIATES AND CERTAIN FIDUCIARIES SUBJECT TO CONFIDENTIALITY AND TRADING RESTRICTIONS Vanguard fund complete portfolio holdings may be disclosed between and among the following persons (collectively, Affiliates and Fiduciaries) for legitimate business purposes within the scope of their official duties and responsibilities, subject to such persons' continuing legal duty of confidentiality and legal duty not to trade on the basis of any material nonpublic information, as such duties are imposed under the Code of Ethics, the Policies and Procedures Designed to Prevent the Misuse of Inside Information, by agreement, or under applicable laws, rules, and regulations: (1) persons B-26 who are subject to the Code of Ethics or the Policies and Procedures Designed to Prevent the Misuse of Inside Information; (2) an investment advisor, distributor, administrator, transfer agent, or custodian to a Vanguard fund; (3) an accounting firm, an auditing firm or outside legal counsel retained by Vanguard, a Vanguard subsidiary, or a Vanguard fund; (4) an investment advisor to whom complete portfolio holdings are disclosed for due diligence purposes when the advisor is in merger or acquisition talks with a Vanguard fund's current advisor; and (5) a newly hired investment advisor or sub-advisor to whom complete portfolio holdings are disclosed prior to the time it commences its duties. The frequency with which complete portfolio holdings may be disclosed between and among Affiliates and Fiduciaries, and the length of the lag, if any, between the date of the information and the date on which the information is disclosed between and among the Affiliates and Fiduciaries, is determined by such Affiliates and Fiduciaries based on the facts and circumstances, including, without limitation, the nature of the portfolio holdings information to be disclosed, the risk of harm to the funds and their shareholders, and the legitimate business purposes served by such disclosure. The frequency of disclosure between and among Affiliates and Fiduciaries varies and may be as frequent as daily, with no lag. Any disclosure of Vanguard fund complete portfolio holdings to any Affiliates and Fiduciaries as previously described may also include a list of the other investment positions that make up the fund, such as cash investments and derivatives. Disclosure of Vanguard fund complete portfolio holdings or other investment positions by Vanguard, Vanguard Marketing Corporation, or a Vanguard fund to Affiliates and Fiduciaries must be authorized by a Vanguard fund officer or a Principal of Vanguard. As of October 31, 2006, Vanguard fund complete portfolio holdings are disclosed to the following Affiliates and Fiduciaries as part of ongoing arrangements that serve legitimate business purposes: Vanguard and each investment advisor, custodian, and independent registered public accounting firm identified in this Statement of Additional Information. DISCLOSURE OF PORTFOLIO HOLDINGS TO BROKER-DEALERS IN THE NORMAL COURSE OF MANAGING A FUND'S ASSETS An investment advisor, administrator, or custodian for a Vanguard fund may, for legitimate business purposes within the scope of its official duties and responsibilities, disclose portfolio holdings (whether partial portfolio holdings or complete portfolio holdings) and other investment positions that make up the fund to one or more broker-dealers during the course of, or in connection with, normal day-to-day securities and derivatives transactions with or through such broker-dealers subject to the broker-dealer's legal obligation not to use or disclose material nonpublic information concerning the fund's portfolio holdings, other investment positions, securities transactions, or derivatives transactions without the consent of the fund or its agents. The Vanguard funds have not given their consent to any such use or disclosure and no person or agent of Vanguard is authorized to give such consent except as approved in writing by the Boards of the Vanguard funds. Disclosure of portfolio holdings or other investment positions by Vanguard to broker-dealers must be authorized by a Vanguard fund officer or a Principal of Vanguard. DISCLOSURE OF NON-MATERIAL INFORMATION The Policies and Procedures permit Vanguard fund officers, Vanguard fund portfolio managers, and other Vanguard representatives (collectively, Approved Vanguard Representatives) to disclose any views, opinions, judgments, advice, or commentary, or any analytical, statistical, performance, or other information, in connection with or relating to a Vanguard fund or its portfolio holdings and/or other investment positions (collectively, commentary and analysis) or any changes in the portfolio holdings of a Vanguard fund that occurred after the most recent calendar-quarter end (recent portfolio changes) to any person if (1) such disclosure serves a legitimate business purpose, (2) such disclosure does not effectively result in the disclosure of the complete portfolio holdings of any Vanguard fund (which can be disclosed only in accordance with the Policies and Procedures), and (3) such information does not constitute material nonpublic information. Disclosure of commentary and analysis or recent portfolio changes by Vanguard, Vanguard Marketing Corporation, or a Vanguard fund must be authorized by a Vanguard fund officer or a Principal of Vanguard. An Approved Vanguard Representative must make a good faith determination whether the information constitutes material nonpublic information, which involves an assessment of the particular facts and circumstances. Vanguard believes that in most cases recent portfolio changes that involve a few or even several securities in a diversified portfolio or commentary and analysis would be immaterial and would not convey any advantage to a recipient in making an investment decision concerning a Vanguard fund. Nonexclusive examples of commentary and analysis about a Vanguard fund include (1) the allocation of the fund's portfolio holdings and other investment positions among various asset classes, sectors, industries, and countries; (2) the characteristics of the stock and bond components of the fund's portfolio holdings and other investment positions; (3) the attribution of fund returns by asset class, sector, industry, and country; and (4) the volatility characteristics of the fund. An Approved Vanguard Representative may in its sole discretion B-27 determine whether to deny any request for information made by any person, and may do so for any reason or for no reason. "Approved Vanguard Representatives" include, for purposes of the Policies and Procedures, persons employed by or associated with Vanguard or a subsidiary of Vanguard who have been authorized by Vanguard's Portfolio Review Department to disclose recent portfolio changes and/or commentary and analysis in accordance with the Policies and Procedures. As of October 31, 2006, Vanguard non-material portfolio holdings information is disclosed to KPMG, LLP, and R.V. Kuhns & Associates. DISCLOSURE OF PORTFOLIO HOLDINGS RELATED INFORMATION TO THE ISSUER OF A SECURITY FOR LEGITIMATE BUSINESS PURPOSES Vanguard, in its sole discretion, may disclose portfolio holdings information concerning a security held by one or more Vanguard funds to the issuer of such security if the issuer presents, to the satisfaction of Fund Financial Services, convincing evidence that the issuer has a legitimate business purpose for such information. Disclosure of this information to an issuer is conditioned on the issuer being subject to a written agreement imposing a duty of confidentiality, including a duty not to trade on the basis of any material nonpublic information. The frequency with which portfolio holdings information concerning a security may be disclosed to the issuer of such security, and the length of the lag, if any, between the date of the information and the date on which the information is disclosed to the issuer, is determined based on the facts and circumstances, including, without limitation, the nature of the portfolio holdings information to be disclosed, the risk of harm to the funds and their shareholders, and the legitimate business purposes served by such disclosure. The frequency of disclosure to an issuer cannot be determined in advance of a specific request and will vary based upon the particular facts and circumstances and the legitimate business purposes, but in unusual situations could be as frequent as daily, with no lag. Disclosure of portfolio holdings information concerning a security held by one or more Vanguard funds to the issuer of such security must be authorized by a Vanguard fund officer or a Principal in Vanguard's Portfolio Review or Legal Department. DISCLOSURE OF PORTFOLIO HOLDINGS AS REQUIRED BY APPLICABLE LAW Vanguard fund portfolio holdings (whether partial portfolio holdings or complete portfolio holdings) and other investment positions that make up a fund shall be disclosed to any person as required by applicable laws, rules, and regulations. Examples of such required disclosure include, but are not limited to, disclosure of Vanguard fund portfolio holdings (1) in a filing or submission with the SEC or another regulatory body, (2) in connection with seeking recovery on defaulted bonds in a federal bankruptcy case, (3) in connection with a lawsuit, or (4) as required by court order. Disclosure of portfolio holdings or other investment positions by Vanguard, Vanguard Marketing Corporation, or a Vanguard fund as required by applicable laws, rules, and regulations must be authorized by a Vanguard fund officer or a Principal of Vanguard. PROHIBITIONS ON DISCLOSURE OF PORTFOLIO HOLDINGS No person is authorized to disclose Vanguard fund portfolio holdings or other investment positions (whether online at www.vanguard.com, in writing, by fax, by e-mail, orally, or by other means) except in accordance with the Policies and Procedures. In addition, no person is authorized to make disclosure pursuant to the Policies and Procedures if such disclosure is otherwise unlawful under the antifraud provisions of the federal securities laws (as defined in Rule 38a-1 under the 1940 Act). Furthermore, Vanguard's management, in its sole discretion, may determine not to disclose portfolio holdings or other investment positions that make up a Vanguard fund to any person who would otherwise be eligible to receive such information under the Policies and Procedures, or may determine to make such disclosures publicly as provided by the Policies and Procedures. PROHIBITIONS ON RECEIPT OF COMPENSATION OR OTHER CONSIDERATION The Policies and Procedures prohibit a Vanguard fund, its investment advisor, and any other person to pay or receive any compensation or other consideration of any type for the purpose of obtaining disclosure of Vanguard fund portfolio holdings or other investment positions. "Consideration" includes any agreement to maintain assets in the fund or in other investment companies or accounts managed by the investment advisor or by any affiliated person of the investment advisor. B-28 INVESTMENT ADVISORY SERVICES Vanguard Explorer Fund currently uses seven investment advisors: - - AXA Rosenberg Investment Management LLC, founded in 1985, provides investment advisory services to a portion of the assets in the Fund. - - Chartwell Investment Partners, L.P., founded in 1997, provides investment advisory services to a portion of the assets in the Fund. - - Granahan Investment Management, Inc., founded in 1985, provides investment advisory services to a portion of the assets in the Fund. - - Grantham, Mayo, Van Otterloo & Co., LLC, founded in 1977, provides investment advisory services to a portion of the assets in the Fund. - - Kalmar Investment Advisers, founded in 1996, provides investment advisory services to a portion of the assets in the Fund. - - Vanguard, which began operations in 1975, provides investment advisory services to a portion of the assets in the Fund. - - Wellington Management Company, LLP, founded in 1928, provides investment advisory services to a portion of the assets in the Fund. For funds that are advised by independent third-party advisory firms unaffiliated with Vanguard, Vanguard hires investment advisory firms, not individual portfolio managers, to provide investment advisory services to such funds. Vanguard negotiates each advisory agreement, which contains advisory fee arrangements, on an arms-length basis with the advisory firm. Each advisory agreement is reviewed annually by each fund's board of trustees, taking into account numerous factors, which include, without limitation, the nature, extent, and quality of the services provided, investment performance, and fair market value of services provided. Each advisory agreement is between the fund and the advisory firm, not between the fund and the portfolio manager. The structure of the advisory fee paid to each unaffiliated investment advisory firm is described in the following sections. In addition, each firm has established policies and procedures designed to address the potential for conflicts of interest. Each firm's compensation structure and management of potential conflicts of interest is summarized by the advisory firm in the following sections for the period ended October 31, 2006 (April 31, 2007, for AXA Rosenberg). Vanguard Explorer Fund uses a multimanager approach. The Fund has entered into investment advisory agreements with its advisors to manage the investment and reinvestment of the portion of the Explorer Fund's assets that the Fund's board of trustees determines to assign to the advisor (hereafter referred to as each Portfolio). In this capacity, each advisor continuously reviews, supervises, and administers the Portfolio's investment program. Each advisor discharges its responsibilities subject to the supervision and oversight of Vanguard's Portfolio Review Group and the officers and trustees of the Fund. Vanguard's Portfolio Review Group is responsible for recommending changes in a fund's advisory arrangements to the fund's board of trustees, including changes in the amount of assets allocated to each advisor, and whether to hire, terminate, or replace an advisor. The Fund pays each unaffiliated advisor a basic advisory fee at the end of each of the Fund's fiscal quarters, calculated by applying a quarterly rate, based on certain annual percentage rates, to the average month-end net assets of the advisor's Portfolio for the quarter. The basic fee will be increased or decreased by applying a performance fee adjustment based on the investment performance of the Portfolio relative to the investment performance of the Russell 2500 Growth Index (the Index). The investment performance will be based on the cumulative total return of the Portfolio over a trailing 36-month period ending with the applicable quarter, compared with the cumulative total return of the Index for the same period. Vanguard provides advisory services to a portion of the Fund on an at-cost basis. For the fiscal years ended October 31, 2004, 2005, and 2006, Vanguard Explorer Fund incurred aggregate investment advisory fees of $12,632,000 (before a performance-based increase of $1,225,000), $15,810,000 (before a performance-based decrease of $749,000), and $19,593,000 (before a performance-based decrease of $3,024,000. Of the aggregate fees previously described, the investment advisory fee paid to Vanguard for the fiscal year ended October 31, 2006, was $672,000 (representing an effective annual rate of less than 0.01%). The investment advisory fee paid to the remaining advisors for the fiscal year ended October 31, 2006, was $18,921,000 (representing an effective annual rate of 0.14%) (except AXA Rosenberg, which began managing assets for the Fund in 2007). B-29 A. AXA ROSENBERG INVESTMENT MANAGEMENT LLC AXA Rosenberg Investment Management LLC (AXA Rosenberg) is an independently operated, 75%-owned subsidiary of AXA Group; the remaining 25% is owned by the firm's founding partners. 1. OTHER ACCOUNTS MANAGED William E. Ricks, Ph.D., manages a portion of the Explorer Fund. As of April 30, 2007, the Fund held assets of $12.4 billion. As of April 30, 2007, Dr. Ricks also managed 15 other registered investment companies with total assets of $5.5 billion (including eight with total assets of $1.8 billion for which the advisory fee was based on account performance); 13 other pooled investment vehicles with total assets of $2.8 billion (including one with assets of $17.5 million for which the advisory fee was based on account performance); and 138 other accounts with total assets of $23.6 billion (including 33 with total assets of $9.3 billion for which the advisory fee was based on account performance). 2. MATERIAL CONFLICTS OF INTEREST AXA Rosenberg recognizes that conflicts of interest are inherent in its business and accordingly has developed policies, procedures, and disclosures that it believes are reasonably designed to detect, manage, and mitigate the effects of potential conflicts of interest in the areas of employee personal trading; managing multiple accounts for multiple clients, including funds; and allocating investment opportunities. Employees are subject to these policies, and oversight is designed to ensure that all clients are treated fairly. Actual or potential conflicts of interest may arise when a portfolio manager has management responsibilities for more than one fund or account (including Vanguard Explorer Fund), such as devotion of unequal time and attention to the management of the accounts, inability to allocate limited investment opportunities across a broad band of accounts, and incentive to allocate opportunities to an account where there is a greater financial incentive, such as a performance fee account. AXA Rosenberg believes it has adopted policies and procedures that are reasonably designed to address these types of conflicts and to ensure that the company operates in a manner that is fair and equitable among its clients, including the Fund. Dr. Ricks's management of other accounts may give rise to potential conflicts of interest in connection with his management of the Fund's investments, on the one hand, and the investments of the other accounts, on the other. The other accounts might have investment objectives similar to the Fund's, or hold, purchase, or sell securities that are eligible to be held, purchased, or sold by the Fund. AXA Rosenberg believes that its quantitative investment process and pro rata allocation of investment opportunities diminish the possibility of any conflict of interest resulting in unfair or inequitable allocation of investment opportunities among accounts. AXA Rosenberg also believes that it has adopted policies and procedures designed to manage those conflicts in an appropriate way. 3. DESCRIPTION OF COMPENSATION Compensation is paid by AXA Rosenberg Investment Management LLC. The components include base salary and bonus, both of which are discretionary, and not derived formulaically from performance of any individual accounts, including mutual funds like the Explorer Fund. 4. OWNERSHIP OF SECURITIES As of April 30, 2007, Dr. Ricks owned no shares of the Explorer Fund. B. CHARTWELL INVESTMENT PARTNERS, L.P. Chartwell Investment Partners, L.P. (Chartwell) is a Pennsylvania limited partnership. 1. OTHER ACCOUNTS MANAGED The management of and investment decisions for the Chartwell Portfolio are made by the Chartwell Growth Group, of which Edward N. Antoian and John A. Heffern are senior members. The Chartwell Growth Group manages a portion of the Explorer Fund; as of October 31, 2006, the Fund held assets of $11.8 billion. As of October 31, 2006, the Group also managed one other registered investment companies) with total assets of $20 million, one other pooled investment vehicle with total assets of $19 million, and 51 other accounts with B-30 total assets of $1.4 billion. In addition, Mr. Antoian solely managed one other pooled investment vehicle with total assets of $190 million. 2. MATERIAL CONFLICTS OF INTEREST With the exception of a hedge fund managed by Mr. Antoian (discussed below), all portfolios are managed in like-style, except for possible client-imposed portfolio restrictions, there are no material conflicts of interest that may arise in connection with simultaneous management of the Chartwell Portfolio and such other accounts. In the allocation of investment opportunities, unless prohibited by client guidelines, trade orders for multiple portfolios in a given investment product are generally "batched" or placed as an aggregated order for execution. Placing an aggregate order may enable Chartwell to obtain more favorable execution and net price for the combined order. All portfolios included in an aggregated trade are allocated the same average price per share. If in fact there are multiple orders on the trade blotter for the same security that can not be aggregated due to client restrictions, a simple rotational system is implemented. Proprietary Accounts: Certain new investment products developed begin as incubator funds and, in some cases, are funded by internal officers, directors, partners, and portfolio managers' personal assets. These new products are traded exactly the same as regular client accounts except they do not participate in IPO's. Such accounts are not favored over any other account. The Compliance Group monitors all activity in these accounts regularly. No investment or performance fees are received by the investors nor the firm. Once sufficient client assets are raised in the product, the incubator is closed. Our Code of Ethics requires disclosure of any Private Placement investments by all employees including firm incubator funds. Hedge Fund: Mr. Antoian manages a hedge fund. There is generally a limited amount of overlap of investments between the hedge fund and all other accounts listed above that are managed by the Chartwell Growth Group (client accounts). Investment opportunities that are appropriate for both the client accounts as well as the hedge fund are allocated on a pro-rata basis and no one account is favored over another when participating in the same trade. When investment opportunities are of a limited nature (such as IPO's), shares are allocated on a pro-rata basis for all accounts for which the investment is appropriate; if an allocation from the broker(s) is too small to satisfy a 0.05% position in the participating accounts, a rotational system is deployed. The holdings of the hedge fund and all client accounts, and all IPO allocations, are reviewed by Compliance to ensure that controls are working properly. Other rules to prevent conflicts of interest: No portfolio manager shall initiate a short sale in an investment account when a registered fund or other investment account either holds, or intends to acquire, a long position in the security. If an investment account has an existing short position in a security that is subsequently purchased as a long position in any other client account, the portfolio manager is prohibited from initiating further short sales and any purchases of the security shall be allocated in a fair and equitable manner in accordance with the firm's trade allocation policies. 3. DESCRIPTION OF COMPENSATION The compensation paid to a Chartwell portfolio manager consists of base salary, annual bonus, and ownership distributions. A portfolio manager's base salary is determined by Chartwell's Compensation Committee and is reviewed at least annually. A portfolio manager's experience, historical performance, and role in firm or product team management are the primary considerations in determining the base salary. Industry benchmarking is utilized by the Compensation Committee on an annual basis. Annual bonuses are determined by the Compensation Committee based on a number of factors. The primary factor is a performance-based compensation schedule that is applied to all accounts managed by a portfolio manager within a particular investment product, and is not specific to any one account. The bonus is calibrated based on the gross composite performance (before taxes) of such accounts for 1-year and 3-year periods (where applicable) versus (1) the appropriate benchmark (the Russell 2000 Growth Index for Small-Cap Growth portfolios and the Russell Midcap Growth Index for Mid-Cap Growth portfolios), and (2) peer group rankings by product category. The bonus also considers the individual's stock selection performance as it relates to sector responsibilities versus sector performance within the appropriate benchmark. Portfolio construction, sector and security weighting, and performance are reviewed by the Compliance Committee and Compensation Committee to prevent a manager from taking undue risks. Additional factors used to determine the annual bonus include the portfolio manager's contribution as an analyst, product team management, and contribution to the strategic planning and development of the investment group as well as the firm. B-31 Ownership distributions are paid to a portfolio manager based on the portfolio manager's ownership interest, or percentage limited partnership interest, in Chartwell multiplied by total net cash distributions paid during the year. 4. OWNERSHIP OF SECURITIES As of October 31, 2006, Mr. Antoian and Mr. Heffern each owned no shares of the Explorer Fund. C. GRANAHAN INVESTMENT MANAGEMENT, INC. Granahan Investment Management, Inc. (Granahan) is a Massachusetts corporation. 1. OTHER ACCOUNTS MANAGED Day-to-day management of the Granahan Portfolio is the responsibility of several investment professionals at Granahan. John J. Granahan, President and CEO of Granahan, is the senior member of the portfolio management team for the Granahan Portfolio. As of October 31, 2006, the Fund held assets of $11.8 billion. As of October 31, 2006, Mr. Granahan managed two other registered investment companies with total assets of $891 million (including one with total assets of $542 million where the advisory firm's fee was based on account performance), one other pooled investment vehicle with total assets of $8 million, and 21 other accounts with total assets of $589 million. 2. MATERIAL CONFLICTS OF INTEREST John Granahan and Granahan Investment Management manages long-only, small-cap client portfolios, in addition to the portion of the Explorer Fund placed with the firm. The other portfolios invest in many of the same securities in which the Granahan Portfolio invests, which could lead to a conflict of interest when allocating purchases or sales across multiple client portfolios. In addition, the clients' portfolios vary in size and in fees, which creates a potential for conflict in managing these accounts side by side. The firm has policies and procedures in place designed to prevent favoritism toward any account(s) over others. 3. DESCRIPTION OF COMPENSATION Compensation for portfolio managers at Granahan is made up of four components: (1) a base salary, (2) an individual performance bonus, (3) an investment-team performance bonus, and (4) some form of profit sharing, be it direct ownership or participation in the firm's profit sharing plan. In addition, all employees receive health and retirement benefits. Base salary for portfolio managers varies depending on qualitative and quantitative factors such as: salary levels in the industry, experience, length of employment, and the nature and number of other duties for which (s)he has responsibility. The individual performance bonus is based on a manager's portfolio(s) with respect to the following: one- and three- year pre-tax performance relative to the Russell 2000 Growth Index; one- and three-year pre-tax performance relative to the Russell 2000 sector for which the manager has responsibility as an analyst; and the percentage of client assets under management. Portfolio managers and analysts are also compensated based on the dollar contribution of their stocks to all client portfolios. Non-owner portfolio managers are also eligible for the annual investment-team bonus, which is based on the number of portfolio styles that beat their respective benchmarks in that year. All non-owner employees participate in the firm's profit sharing plan, which is based primarily on the firm's profits in that year. 4. OWNERSHIP OF SECURITIES As of October 31, 2006, Mr. Granahan owned shares of the Explorer Fund within the $500,001-$1,000,000 range. D. GRANTHAM, MAYO, VAN OTTERLOO & CO., LLC Grantham, Mayo, Van Otterloo & Co., LLC (GMO) is a privately held investment firm that provides investment counseling services to employee benefits plans, endowment funds, other institutions, and individuals. B-32 1. OTHER ACCOUNTS MANAGED Day-to-day management of the GMO Portfolio is the responsibility of the Quantitative Division made up of several investment professionals. Sam Wilderman is the Director of the Division and the senior member responsible for managing the implementation and monitoring the overall portfolio management of the GMO Portfolio. As of October 31, 2006, the Fund held assets of $11.8 billion. As of October 31, 2006, the Division managed 23 other registered investment companies with total assets of $20.5 billion (including two with total assets of $1.7 billion where the advisory firm's fee was based on account performance), six other pooled investment vehicles with total assets of $2.0 billion (including five with total assets of $1.9 billion where the advisory firm's fee was based on account performance), and 24 other accounts with total assets of $3.7 billion (including seven with total assets of $1.6 billion where the advisory firm's fee was based on account performance). 2. MATERIAL CONFLICTS OF INTEREST Whenever a portfolio manager manages other accounts, including accounts that pay higher fees or accounts that pay performance-based fees, potential conflicts of interest exist, including potential conflicts between the investment strategy of the GMO Portfolio and the investment strategy of the other accounts and potential conflicts in the allocation of investment opportunities between the GMO Portfolio and such other accounts. GMO believes several factors limit the conflicts between the GMO Portfolio and other similar stock accounts managed by the GMO Portfolio's portfolio management team or individual members of the team. First, discipline and constraints are imposed because the investment programs of the GMO Portfolio and other similar accounts are determined based on quantitative models. Second, all portfolio management team members are aware of and abide by GMO's trade allocation procedures, which seek to ensure fair allocation of investment opportunities among all accounts. Performance attribution with full transparency of holdings and identification of contributors to gains and losses act as important controls on conflicts that might otherwise exist. Performance dispersion among accounts employing the same investment strategy but with different fee structures is periodically examined by the GMO Portfolio's portfolio management team and GMO's Investment Analysis Team to ensure that any divergence in expected performance is adequately explained by differences in the client's investment guidelines and timing of cash flows. 3. DESCRIPTION OF COMPENSATION The senior member of the GMO Portfolio's portfolio management team is a member (partner) of GMO. Compensation for the senior member consists of a base salary, a partnership interest in the firm's profits, and possibly an additional, discretionary bonus. Compensation does not disproportionately reward out-performance by higher fee/performance fee products. GMO's Compensation Committee sets the portfolio manager's base salary taking into account current industry norms and market data to ensure that the base salary is competitive. GMO's Compensation Committee also determines the senior member's partnership interest, taking into account the senior member's contribution to GMO and GMO's mission statement. A discretionary bonus may be paid to recognize specific business contributions and to ensure that the total level of compensation is competitive with the market. Because each member's compensation is based on his individual performance, GMO does not have a typical percentage split among base salary, bonus, and other compensation. Partnership interests in GMO are the primary incentive for senior level persons to continue employment at GMO. GMO believes that partnership interests provide the best incentive to maintain stability of portfolio management personnel. 4. OWNERSHIP OF SECURITIES As of October 31, 2006, Mr. Wilderman owned no shares of the Explorer Fund. E. KALMAR INVESTMENT ADVISERS Kalmar Investment Advisers (Kalmar), a business trust registered in the state of Delaware, is a research-driven investment firm that is entirely focused on the management of "growth-with-value" smaller-cap equity portfolios. Kalmar is a wholly-owned subsidiary of Kalmar Investments Inc. B-33 1. OTHER ACCOUNTS MANAGED Ford B. Draper, Jr. managed a portion of the Explorer Fund; as of October 31, 2006, the Fund held assets of $11.8 billion. As of October 31, 2006, Mr. Draper also managed three other registered investment companies with total assets of $473 million and 332 other accounts with total assets of $1.6 billion. 2. MATERIAL CONFLICTS OF INTEREST Kalmar's policy from the firm's inception is to avoid conflicts of interest by neither favoring nor disfavoring any account systematically versus any other. Accordingly, on a best efforts basis investment opportunities are shared among all accounts of the same market-cap size class as even handedly as possible over time. Kalmar has two market-cap size classes of accounts under management, Small Cap and Small/Mid Cap. Kalmar's investment strategy is applied uniformly and individual securities are owned approximately uniformly by all accounts within a size class, except for those with particular investment restrictions or guidelines. In those cases, the same strategy is applied except for elimination of restricted securities. 3. DESCRIPTION OF COMPENSATION Kalmar seeks to maintain a competitive and incentivized compensation program in order to attract and retain outstanding, high-caliber investment professionals and, therefore, to closely link the investment professionals' compensation to their particular contributions to client returns and to the attainment of the performance goals of Kalmar's "growth-with-value" investment philosophy which the Kalmar Portfolio participates in. Portfolio managers receive base salaries, incentive bonus opportunities, benefits packages, and opportunities (if invited by Kalmar's board of directors) to purchase equity in Kalmar. Portfolio manager compensation is reviewed and modified each year as appropriate to reflect changes in the marketplace, as well as to adjust the factors used to determine bonuses in order to promote good sustained client performance, including the Kalmar Portfolio's performance. Fixed Based Salary: In setting portfolio manager base salaries, Kalmar seeks to be competitive in light of each particular person's experience, tenure, contribution, and responsibilities. Annual Bonus: Each portfolio manager is eligible to receive an annual cash bonus which has quantitative and non-quantitative components. The quantitative component, which generally comprises 60-70% of the bonus, is based on the specific contribution of the individual's research ideas to the success of managed portfolios in absolute and index-relative terms for short-term (1 year) and long-term (2-5 year) periods. The comparative indexes employed are the Russell 2000 and Russell 2500 as well as their Growth versions. The non-quantitative component is based on an evaluation of the individual's contribution to Kalmar's team-oriented research and portfolio management process and of his or her other contributions to client satisfaction, client communication, and the overall success of the firm over the past year. For purposes of illustration, examples of factors weighed in this evaluation are: (1) maintenance of insightful knowledge and opinions on companies owned by the portfolio; (2) generation and development of new investment ideas, including the quality of security analysis and identification of appreciation catalysts; (3) ability and willingness to develop and share ideas and contribute to idea deliberation on a team basis; and (4) contribution to investment strategy, buy and sell discipline, and the overall performance results of the portfolios managed by the investment team as well as the productive functioning of the team. Benefits Package: All employees, including portfolio managers, participate in Kalmar's benefits package, which includes a 401k plan with a contribution by Kalmar and a profit sharing plan based on the overall success of the firm. The opportunity for equity ownership in Kalmar is open to all key, high-contributing employees of the firm from all professional disciplines, solely at the discretion and invitation of Kalmar's board of directors. Such ownership is purchased from the firm, rather than awarded as a bonus. Mr. Draper is the lead partner in Kalmar. This equity ownership, coupled with the other competitive and incentivizing ingredients in Kalmar's compensation package, is intended to link the partner's compensation directly, plus indirectly but effectively, to client success and performance outcomes. 4. OWNERSHIP OF SECURITIES As of October 31, 2006, Mr. Draper owned no shares of the Explorer Fund. B-34 F. WELLINGTON MANAGEMENT COMPANY, LLP Wellington Management Company, LLP (Wellington Management) is a Massachusetts limited liability partnership. 1. OTHER ACCOUNTS MANAGED Kenneth L. Abrams managed a portion of the Explorer Fund; as of October 31, 2006, the Fund held assets of $11.8 billion. As of October 31, 2006, Mr. Abrams also managed 3 other registered investment companies with total assets of $325 million (including 1 with total assets of $123 million where the advisory firm's fee was based on account performance), 3 other pooled investment vehicle(s) with total assets of $1 billion, and 9 other accounts with total assets of $1.8 billion (including 1 with total assets of $317 million where the advisory firm's fee was based on account performance). 2. MATERIAL CONFLICTS OF INTEREST Individual investment professionals at Wellington Management manage multiple accounts for multiple clients. These accounts may include mutual funds, separate accounts (assets managed on behalf of institutions, such as pension funds, insurance companies, foundations, or separately managed account programs sponsored by financial intermediaries), bank common trust accounts, and hedge funds. The manager listed in the prospectus who is primarily responsible for the day-to-day management of the Wellington Management Portfolio ("Portfolio Manager") generally manages accounts in several different investment styles. These accounts may have investment objectives, strategies, time horizons, tax considerations, and risk profiles that differ from those of the Wellington Management Portfolio. The Portfolio Manager makes investment decisions for each account, including the Wellington Management Portfolio, based on the investment objectives, policies, practices, benchmarks, cash flows, tax, and other relevant investment considerations applicable to that account. Consequently, the Portfolio Manager may purchase or sell securities, including IPOs, for one account and not another account, and the performance of securities purchased for one account may vary from the performance of securities purchased for other accounts. Alternatively, these accounts may be managed in a similar fashion to the Wellington Management Portfolio and thus the accounts may have similar, and in some cases nearly identical, objectives, strategies, and/or holdings to that of the Wellington Management Portfolio. The Portfolio Manager or other investment professionals at Wellington Management may place transactions on behalf of other accounts that are directly or indirectly contrary to investment decisions made on behalf of the Wellington Management Portfolio, or make investment decisions that are similar to those made for the Wellington Management Portfolio, both of which have the potential to adversely impact the Fund depending on market conditions. For example, the Portfolio Manager may purchase a security in one account while appropriately selling that same security in another account. Similarly, the Portfolio Manager may purchase the same security for the Wellington Management Portfolio and one or more other accounts at or about the same time, and in those instances the other accounts will have access to their respective holdings prior to the public disclosure of the Wellington Management Portfolio's holdings. In addition, some of these accounts have fee structures, including performance fees, which are or have the potential to be higher, in some cases significantly higher, than the fees paid by the Fund to Wellington Management. Because incentive payments paid by Wellington Management to portfolio managers are tied to revenues earned by Wellington Management, and, where noted, to the performance achieved by the manager in each account, the incentives associated with any given account may be significantly higher or lower than those associated with other accounts managed by a given portfolio manager. Finally, the portfolio manager may hold shares or investments in the other pooled investment vehicles and/or other accounts identified above. Wellington Management's goal is to meet its fiduciary obligation to treat all clients fairly and provide high quality investment services to all of its clients. Wellington Management has adopted and implemented policies and procedures, including brokerage and trade allocation policies and procedures, that it believes address the conflicts associated with managing multiple accounts for multiple clients. In addition, Wellington Management monitors a variety of areas, including compliance with primary fund guidelines, the allocation of IPOs, and compliance with the firm's Code of Ethics, and places additional investment restrictions on portfolio managers who manage hedge funds and certain other accounts. Furthermore, senior investment and business personnel at Wellington Management periodically review the performance of Wellington Management's portfolio managers. Although Wellington Management does not track the time a portfolio manager spends on a single portfolio, Wellington Management does periodically assess whether a portfolio manager has adequate time and resources to effectively manage the portfolio manager's various client mandates. B-35 3. DESCRIPTION OF COMPENSATION The Fund pays Wellington Management a fee based on the assets under management of the Wellington Management Portfolio as set forth in the Investment Advisory Agreement between Wellington Management and the Fund. Wellington Management pays its investment professionals out of its total revenues and other resources, including the advisory fees earned with respect to the Fund. Wellington Management's compensation structure is designed to attract and retain high-caliber investment professionals necessary to deliver high quality investment management services to its clients. Wellington Management's compensation of the Portfolio Manager includes a base salary and incentive components. The base salary for the portfolio manager, a partner of Wellington Management, is determined by the Managing Partners of the firm. The portfolio managers's base salary is generally a fixed amount that may change as a result of an annual review. The portfolio managers is eligible to receive an incentive payment based on the revenues earned by Wellington Management from portfolios for which he has portfolio management responsibility, including the Wellington Management Portfolio. With respect to the Wellington Management Portfolio, the overall revenues to Wellington Management vary with the performance of the Fund relative to the Russell 2500 Growth Index over rolling three-year periods. The portfolio managers's incentive payment relating to the Wellington Management Portfolio is tied to the net pre-tax performance of the Wellington Management Portfolio compared to the same index over the same time period, and it is additionally tied to a competitive average of six small-company equity funds over a one-year period. The emphasis is on the three-year results versus the index. Wellington Management applies similar incentive structures (although the benchmarks or peer groups, time periods, and rates may differ) to other portfolios managed by the portfolio managers. Portfolio-based incentives across all portfolios managed by a portfolio managers can, and typically do, represent a significant portion of a portfolio managers's overall compensation; incentive compensation varies significantly by individual and can vary significantly form year to year. Some portfolio managers are also eligible for bonus payments based on their overall contribution to Wellington Management's business operations. Senior management at Wellington Management may reward individuals as it deems appropriate based on factors other than portfolio performance. Each partner of Wellington Management is also eligible to participate in a partner-funded tax qualified retirement plan, the contributions to which are made pursuant to an actuarial formula, as a partner of the firm. 4. OWNERSHIP OF SECURITIES As of October 31, 2006, Mr. Abrams owned shares of the Explorer Fund in an amount exceeding $1 million. G. VANGUARD Vanguard, through its Quantitative Equity Group, provides investment advisory services on an at-cost basis with respect to a portion of Vanguard Explorer Fund's assets. Vanguard's Quantitative Equity Group is supervised by the officers of the funds. 1. OTHER ACCOUNTS MANAGED James D. Troyer manages a portion of the Explorer Fund; as of October 31, 2006, the Fund held assets of $11.8 billion. As of October 31, 2006, Mr. Troyer also managed all, or a portion of, four other registered investment companies with total assets of $64.2 billion and one other pooled investment vehicle(s) with total assets of $88 million. 2. MATERIAL CONFLICTS OF INTEREST At Vanguard, individual portfolio managers may manage multiple accounts for multiple clients. In addition to mutual funds, these other accounts may include separate accounts, collective trusts, or offshore funds. Managing multiple accounts may give rise to potential conflicts of interest including, for example, conflicts among investment strategies and conflicts in the allocation of investment opportunities. Vanguard manages potential conflicts between funds or with other types of accounts through allocation policies and procedures, internal review processes and oversight by directors and independent third parties. Vanguard has developed trade allocation procedures and controls to ensure that no one client, regardless of type, is intentionally favored at the expense of another. Allocation policies are designed to address potential conflicts in situations where two or more funds or accounts participate in investment decisions involving the same securities. B-36 3. DESCRIPTION OF COMPENSATION The named Vanguard portfolio manager is a Vanguard employee. This section describes the compensation of the Vanguard employees who manage Vanguard mutual funds. As of October 31, 2006, a Vanguard portfolio manager's compensation generally consists of base salary, bonus, and payments under Vanguard's long-term incentive compensation program. In addition, portfolio managers are eligible for the standard retirement benefits and health and welfare benefits available to all Vanguard employees. Also, certain portfolio managers may be eligible for additional retirement benefits under several supplemental retirement plans that Vanguard adopted in the 1980's to restore dollar-for-dollar the benefits of management employees that had cut back solely as a result of tax law changes. These plans are structured to provide the same retirement benefits as the standard retirement plans. In the case of portfolio managers responsible for managing multiple Vanguard funds or accounts, the method used to determine their compensation is the same for all funds and investment accounts. A portfolio manager's base salary is determined by the manager's experience and performance in the role, taking into account the ongoing compensation benchmark analyses performed by the Vanguard Human Resources Department. A portfolio manager's base salary is generally a fixed amount that may change as a result of an annual review, upon assumption of new duties, or when a market adjustment of the position occurs. A portfolio manager's bonus is determined by a number of factors. One factor is gross, pre-tax performance of the fund relative to expectations for how the fund should have performed, given its objective, policies, strategies, and the market environment during the measurement period. This performance factor is not based on the value of assets held in the fund's portfolio. For the Explorer Fund, the performance factor depends on how successfully the portfolio manager outperforms the Russell 2500 Growth Index and maintains the risk parameters of the Fund over a three-year period. Additional factors include the portfolio manager's contributions to the investment management functions within the sub-asset class, contributions to the development of other investment professionals and supporting staff, and overall contributions to strategic planning and decisions for the investment group. The target bonus is expressed as a percentage of base salary. The actual bonus paid may be more or less than the target bonus, based on how well the manager satisfies the objectives stated above. The bonus is paid on an annual basis. Under the long-term incentive compensation program, all full-time employees receive a payment from Vanguard's long-term incentive compensation plan based on their years of service, job level, and, if applicable, management responsibilities. Each year, Vanguard's independent directors determine the amount of the long-term incentive compensation award for that year based on the investment performance of the Vanguard funds relative to competitors, and Vanguard's operating efficiencies in providing services to the Vanguard funds. 4. OWNERSHIP OF SECURITIES Vanguard employees, including portfolio managers, allocate their investment needs among the various Vanguard funds based on their own individual investment needs and goals. Vanguard employees as a group invest a sizable portion of their personal assets in Vanguard funds. As of October 31, 2006, Vanguard employees collectively invested $1.8 billion in Vanguard funds. John J. Brennan, Chairman and Chief Executive Officer of Vanguard and the Vanguard funds, and George U. Sauter, Managing Director and Chief Investment Officer, invest substantially all of their personal financial assets in Vanguard funds. As of October 31, 2006, Mr. Troyer owned no shares of the Explorer Fund. H. DURATION AND TERMINATION OF INVESTMENT ADVISORY AGREEMENTS The Fund's current agreements with Chartwell, Granahan, GMO, Kalmar, and Wellington Management are renewable for successive one year periods, only if (1) each renewal is specifically approved by a vote of the Fund's board of trustees, including the affirmative votes of a majority of the trustees who are not parties to the agreement or "interested persons" (as defined in the 1940 Act) of any such party, cast in person at a meeting called for the purpose of considering such approval, or (2) each renewal is specifically approved by a vote of a majority of the Fund's outstanding voting securities. An agreement is automatically terminated if assigned, and may be terminated without penalty at any time (1) either by vote of the board of trustees of the Fund on thirty (30) days' written notice to the advisor (sixty (60) days written notice for Chartwell), (2) by a vote of a majority of the Fund's outstanding voting securities on thirty (30) days' written notice to the advisor (sixty (60) days written notice for Chartwell), or (3) by the advisor upon ninety (90) days' written notice to the Fund. The Trust's current agreement with AXA Rosenberg is binding for a two-year period. At B-37 the end of that time, the agreement will become renewable for successive one-year periods, subject to the above conditions. The Fourth Amended and Restated Funds' Service Agreement, which governs the at-cost investment advisory services provided to a portion of the Explorer Fund, will continue in full force and effect until terminated or amended by mutual agreement of the Fund and Vanguard. PORTFOLIO TRANSACTIONS The advisor decides which securities to buy and sell on behalf of the Fund and then selects the brokers or dealers that will execute the trades on an agency basis or the dealers with whom the trades will be effected on a principal basis. For each trade, the advisor must select a broker-dealer that it believes will provide "best execution." Best execution does not necessarily mean paying the lowest spread or commission rate available. In seeking best execution, the SEC has said that an advisor should consider the full range of a broker-dealer's services. The factors considered by the advisor in seeking best execution include, but are not limited to, the broker-dealer's execution capability, clearance and settlement services, commission rate, trading expertise, willingness and ability to commit capital, ability to provide anonymity, financial responsibility, reputation and integrity, responsiveness, access to underwritten offerings and secondary markets, and access to company management, as well as the value of any research provided by the broker-dealer. In assessing which broker-dealer can provide best execution for a particular trade, the advisor also may consider the timing and size of the order and available liquidity and current market conditions. Subject to applicable legal requirements, the advisor may select a broker based partly on brokerage or research services provided to the advisor and its clients, including the Fund. The advisor may cause the Fund to pay a higher commission than other brokers would charge if the advisor determines in good faith that the amount of the commission is reasonable in relation to the value of services provided. An advisor also may receive brokerage or research services from broker-dealers that are provided at no charge in recognition of the volume of trades directed to the broker. To the extent research services or products may be a factor in selecting brokers, services and products may include written research reports analyzing performance or securities, discussions with research analysts, meetings with corporate executives to obtain oral reports on company performance, and market data. As of October 31, 2006, the Fund held securities of its "regular brokers or dealers," as that term is defined in Rule 10b-1 of the 1940 Act, as follows:
FUND - ---- REGULAR BROKER OR DEALER (OR PARENT) AGGREGATE HOLDINGS Vanguard Explorer Fund Jefferies & Company, Inc. $50,097,000 ITG, Inc. 23,513,000 Thomas Weisel Partners Inc. 213,000
Some securities that are considered for investment by the Fund may also be appropriate for other Vanguard funds or for other clients served by the advisors. If such securities are compatible with the investment policies of the Fund and one or more of an advisor's other clients, and are considered for purchase or sale at or about the same time, then transactions in such securities will be aggregated by the advisor and the purchased securities or sale proceeds will be allocated among the participating Vanguard funds and the other participating clients of the advisor in a manner deemed equitable by the advisor. Although there may be no specified formula for allocating such transactions, the allocation methods used, and the results of such allocations, will be subject to periodic review by the Fund's board of trustees. During the fiscal years ended October 31, 2004, 2005, and 2006, the Fund paid the following amounts in brokerage commissions: $19,244,000, $17,874,000, and $19,276,000, respectively. B-38 PROXY VOTING GUIDELINES The Board of Trustees (the Board) of each Vanguard fund that invests in stocks has adopted proxy voting procedures and guidelines to govern proxy voting by the fund. The Board has delegated oversight of proxy voting to the Proxy Oversight Committee (the Committee), made up of senior officers of Vanguard, a majority of whom are also officers of each Vanguard fund, and subject to the operating procedures and guidelines described below. The Committee reports directly to the Board. Vanguard is subject to these guidelines to the extent the guidelines call for Vanguard to administer the voting process and implement the resulting voting decisions, and for these purposes have been approved by the Board of Directors of Vanguard. The overarching objective in voting is simple: to support proposals and director nominees that maximize the value of a fund's investments--and those of fund shareholders--over the long term. While the goal is simple, the proposals the funds receive are varied and frequently complex. As such, the guidelines adopted by the Board provide a rigorous framework for assessing each proposal. Under the guidelines, each proposal must be evaluated on its merits, based on the particular facts and circumstances as presented. For ease of reference, the procedures and guidelines often refer to all funds, however, our processes and practices seek to ensure that proxy voting decisions are suitable for individual funds. For most proxy proposals, particularly those involving corporate governance, the evaluation will result in the same position being taken across all of the funds and the funds voting as a block. In some cases, however, a fund may vote differently, depending upon the nature and objective of the fund, the composition of its portfolio and other factors. The guidelines do not permit the Board to delegate voting responsibility to a third party that does not serve as a fiduciary for the funds. Because many factors bear on each decision, the guidelines incorporate factors the Committee should consider in each voting decision. A fund may refrain from voting if that would be in the fund's and its shareholders' best interests. These circumstances may arise, for example, when the expected cost of voting exceeds the expected benefits of voting, or exercising the vote results in the imposition of trading or other restrictions. In evaluating proxy proposals, we consider information from many sources, including but not limited to the investment advisor for the fund, management or shareholders of a company presenting a proposal, and independent proxy research services. We will give substantial weight to the recommendations of the company's board, absent guidelines or other specific facts that would support a vote against management. In all cases, however, the ultimate decision rests with the members of the Proxy Oversight Committee, who are accountable to the fund's Board. While serving as a framework, the following guidelines cannot contemplate all possible proposals with which a fund may be presented. In the absence of a specific guideline for a particular proposal (e.g., in the case of a transactional issue or contested proxy), the Committee will evaluate the issue and cast the fund's vote in a manner that, in the Committee's view, will maximize the value of the fund's investment, subject to the individual circumstances of the fund. I. THE BOARD OF DIRECTORS A. ELECTION OF DIRECTORS Good governance starts with a majority-independent board, whose key committees are made up entirely of independent directors. As such, companies should attest to the independence of directors who serve on the Compensation, Nominating, and Audit committees. In any instance in which a director is not categorically independent, the basis for the independence determination should be clearly explained in the proxy statement. B-39 While the funds will generally support the board's nominees, the following factors will be taken into account in determining each fund's vote:
FACTORS FOR APPROVAL FACTORS AGAINST APPROVAL - -------------------- ------------------------ Nominated slate results in board made up of a Nominated slate results in board made up of a majority of non- majority of independent directors. independent directors. All members of Audit, Nominating, and Compensation Audit, Nominating, and/or Compensation committees include non- committees are independent of management. independent members. Incumbent board member failed to attend at least 75% of meetings in the previous year. Actions of committee(s) on which nominee serves are inconsistent with other guidelines (e.g., excessive option grants, substantial non-audit fees, lack of board independence).
B. CONTESTED DIRECTOR ELECTIONS In the case of contested board elections, we will evaluate the nominees' qualifications, the performance of the incumbent board, as well as the rationale behind the dissidents' campaign, to determine the outcome that we believe will maximize shareholder value. C. CLASSIFIED BOARDS The funds will generally support proposals to declassify existing boards (whether proposed by management or shareholders), and will block efforts by companies to adopt classified board structures, in which only part of the board is elected each year. II. APPROVAL OF INDEPENDENT AUDITORS The relationship between the company and its auditors should be limited primarily to the audit, although it may include certain closely related activities that do not, in the aggregate, raise any appearance of impaired independence. The funds will generally support management's recommendation for the ratification of the auditor, except in instances where audit and audit-related fees make up less than 50% of the total fees paid by the company to the audit firm. We will evaluate on a case-by-case basis instances in which the audit firm has a substantial non-audit relationship with the company (regardless of its size relative to the audit fee) to determine whether independence has been compromised. III. COMPENSATION ISSUES A. STOCK-BASED COMPENSATION PLANS Appropriately designed stock-based compensation plans, administered by an independent committee of the board and approved by shareholders, can be an effective way to align the interests of long-term shareholders and the interests of management, employees, and directors. Conversely, the funds oppose plans that substantially dilute their ownership interest in the company, provide participants with excessive awards, or have inherently objectionable structural features. An independent compensation committee should have significant latitude to deliver varied compensation to motivate the company's employees. However, we will evaluate compensation proposals in the context of several factors (a company's industry, market capitalization, competitors for talent, etc.) to determine whether a particular plan or proposal balances the perspectives of employees and the company's other shareholders. We will evaluate each proposal on a case-by-case basis, taking all material facts and circumstances into account. B-40 The following factors will be among those considered in evaluating these proposals.
FACTORS FOR APPROVAL FACTORS AGAINST APPROVAL - -------------------- ------------------------ Company requires senior executives to hold a minimum amount Total potential dilution (including all stock-based plans) of company stock (frequently expressed as a multiple of salary). exceeds 15% of shares outstanding. Company requires stock acquired through option exercise Annual option grants have exceeded 2% of shares outstanding. to be held for a certain period of time. Compensation program includes performance-vesting Plan permits repricing or replacement of options without awards, indexed options, or other performance-linked grants. shareholder approval. Concentration of option grants to senior executives is Plan provides for the issuance of reload options. limited (indicating that the plan is very broad-based). Stock-based compensation is clearly used as a Plan contains automatic share replenishment (evergreen) feature. substitute for cash in delivering market-competitive total pay.
B. BONUS PLANS Bonus plans, which must be periodically submitted for shareholder approval to qualify for deductibility under Section 162(m) of the IRC, should have clearly defined performance criteria and maximum awards expressed in dollars. Bonus plans with awards that are excessive, in both absolute terms and relative to a comparative group, generally will not be supported. C. EMPLOYEE STOCK PURCHASE PLANS The funds will generally support the use of employee stock purchase plans to increase company stock ownership by employees, provided that shares purchased under the plan are acquired for no less than 85% of their market value and that shares reserved under the plan make up less than 5% of the outstanding shares. D. EXECUTIVE SEVERANCE AGREEMENTS (GOLDEN PARACHUTES) While executives' incentives for continued employment should be more significant than severance benefits, there are instances--particularly in the event of a change in control--in which severance arrangements may be appropriate. Severance benefits triggered by a change in control that do not exceed three times an executive's salary and bonus may generally be approved by the compensation committee of the board without submission to shareholders. Any such arrangement under which the beneficiary receives more than three times salary and bonus--or where severance is guaranteed absent a change in control--should be submitted for shareholder approval. IV. CORPORATE STRUCTURE AND SHAREHOLDER RIGHTS The exercise of shareholder rights, in proportion to economic ownership, is a fundamental privilege of stock ownership that should not be unnecessarily limited. Such limits may be placed on shareholders' ability to act by corporate charter or by-law provisions, or by the adoption of certain takeover provisions. In general, the market for corporate control should be allowed to function without undue interference from these artificial barriers. The funds' positions on a number of the most commonly presented issues in this area are as follows: A. SHAREHOLDER RIGHTS PLANS (POISON PILLS) A company's adoption of a so-called poison pill effectively limits a potential acquirer's ability to buy a controlling interest without the approval of the target's board of directors. Such a plan, in conjunction with other takeover defenses, may serve to entrench incumbent management and directors. However, in other cases, a poison pill may force a suitor to negotiate with the board and result in the payment of a higher acquisition premium. B-41 In general, shareholders should be afforded the opportunity to approve shareholder rights plans within a year of their adoption. This provides the board with the ability to put a poison pill in place for legitimate defensive purposes, subject to subsequent approval by shareholders. In evaluating the approval of proposed shareholder rights plans, we will consider the following factors:
FACTORS FOR APPROVAL FACTORS AGAINST APPROVAL - -------------------- ------------------------ Plan is relatively short-term (3-5 years). Plan is long term (>5 years). Plan requires shareholder approval Renewal of plan is automatic or does not require shareholder approval. for renewal. Plan incorporates review by a committee Ownership trigger is less than 15%. of independent directors at least every three years (so-called TIDE provisions). Plan includes permitted bid/qualified offer Classified board. feature (chewable pill) that mandates shareholder vote in certain situations. Ownership trigger is reasonable (15-20%). Board with limited independence. Highly independent, non-classified board.
B. CUMULATIVE VOTING The funds are generally opposed to cumulative voting under the premise that it allows shareholders a voice in director elections that is disproportionate to their economic investment in the corporation. C. SUPERMAJORITY VOTE REQUIREMENTS The funds support shareholders' ability to approve or reject matters presented for a vote based on a simple majority. Accordingly, the funds will support proposals to remove supermajority requirements and oppose proposals to impose them. D. RIGHT TO CALL MEETINGS AND ACT BY WRITTEN CONSENT The funds support shareholders' right to call special meetings of the board (for good cause and with ample representation) and to act by written consent. The funds will generally vote for proposals to grant these rights to shareholders and against proposals to abridge them. E. CONFIDENTIAL VOTING The integrity of the voting process is enhanced substantially when shareholders (both institutions and individuals) can vote without fear of coercion or retribution based on their votes. As such, the funds support proposals to provide confidential voting. F. DUAL CLASSES OF STOCK We are opposed to dual class capitalization structures that provide disparate voting rights to different groups of shareholders with similar economic investments. We will oppose the creation of separate classes with different voting rights and will support the dissolution of such classes. V. CORPORATE AND SOCIAL POLICY ISSUES Proposals in this category, initiated primarily by shareholders, typically request that the company disclose or amend certain business practices. The Board generally believes that these are "ordinary business matters" that are primarily the responsibility of management and should be evaluated and approved solely by the corporation's board of directors. Often, proposals may address concerns with which the Board philosophically agrees, but absent a compelling economic impact on shareholder value (e.g., proposals to require expensing of stock options), the funds will typically abstain from voting on these proposals. This reflects the belief that regardless of our philosophical perspective on the issue, these decisions should be the province of company management unless they have a significant, tangible impact on the value of a fund's investment and management is not responsive to the matter. VI. VOTING IN FOREIGN MARKETS Corporate governance standards, disclosure requirements, and voting mechanics vary greatly among the markets outside the United States in which the funds may invest. Each fund's votes will be used, where applicable, to advocate B-42 for improvements in governance and disclosure by each fund's portfolio companies. We will evaluate issues presented to shareholders for each fund's foreign holdings in the context with the guidelines described above, as well as local market standards and best practices. The funds will cast their votes in a manner believed to be philosophically consistent with these guidelines, while taking into account differing practices by market. In addition, there may be instances in which the funds elect not to vote, as described below. Many foreign markets require that securities be "blocked" or reregistered to vote at a company's meeting. Absent an issue of compelling economic importance, we will generally not subject the fund to the loss of liquidity imposed by these requirements. The costs of voting (e.g., custodian fees, vote agency fees) in foreign markets may be substantially higher than for U.S. holdings. As such, the fund may limit its voting on foreign holdings in instances where the issues presented are unlikely to have a material impact on shareholder value. VII. VOTING ON A FUND'S HOLDINGS OF OTHER VANGUARD FUNDS Certain Vanguard funds (owner funds) may, from time to time, own shares of other Vanguard funds (underlying funds). If an underlying fund submits a matter to a vote of its shareholders, votes for and against such matters on behalf of the owner funds will be cast in the same proportion as the votes of the other shareholders in the underlying fund. VIII. THE PROXY VOTING GROUP The Board has delegated the day-to-day operations of the funds' proxy voting process to the Proxy Voting Group, which the Committee oversees. While most votes will be determined, subject to the individual circumstances of each fund, by reference to the guidelines as separately adopted by each of the funds, there may be circumstances when the Proxy Voting Group will refer proxy issues to the Committee for consideration. In addition, at any time, the Board has the authority to vote proxies, when, in the Board's or the Committee's discretion, such action is warranted. The Proxy Voting Group performs the following functions: (1) managing proxy voting vendors; (2) reconciling share positions; (3) analyzing proxy proposals using factors described in the guidelines; (4) determining and addressing potential or actual conflicts of interest that may be presented by a particular proxy; and (5) voting proxies. The Proxy Voting Group also prepares periodic and special reports to the Board, and any proposed amendments to the procedures and guidelines. IX. THE PROXY OVERSIGHT COMMITTEE The Board, including a majority of the independent trustees, appoints the members of the Committee who are senior officers of Vanguard, a majority of whom are also officers of each Vanguard fund. The Committee does not include anyone whose primary duties include external client relationship management or sales. This clear separation between the proxy voting and client relationship functions is intended to eliminate any potential conflict of interest in the proxy voting process. In the unlikely event that a member of the Committee believes he or she might have a conflict of interest regarding a proxy vote, that member must recuse him or herself from the committee meeting at which the matter is addressed, and not participate in the voting decision. The Committee works with the Proxy Voting Group to provide reports and other guidance to the Board regarding proxy voting by the funds. The Committee has an obligation to conduct its meetings and exercise its decision-making authority subject to the fiduciary standards of good faith, fairness and Vanguard's Code of Ethics. The Committee shall authorize proxy votes that the Committee determines, in its sole discretion, to be in the best interests of each fund's shareholders. In determining how to apply the guidelines to a particular factual situation, the Committee may not take into account any interest that would conflict with the interest of fund shareholders in maximizing the value of their investments. The Board may review these procedures and guidelines and modify them from time to time. The procedures and guidelines are available on Vanguard's website at www.vanguard.com. You may obtain a free copy of a report that details how the funds voted the proxies relating to the portfolio securities held by the funds for the prior 12-month period ended June 30 by logging on to Vanguard's internet site, at www.vanguard.com, or the SEC's website at www.sec.gov. B-43 FINANCIAL STATEMENTS The Fund's Financial Statements for the fiscal year ended October 31, 2006, appearing in the Fund's 2006 Annual Report to Shareholders, and the report thereon of PricewaterhouseCoopers LLP, an independent registered public accounting firm, also appearing therein, and the unaudited Financial Statements for the period ended April 30, 2007, appearing in the Funds' Semiannual Reports to Shareholders, are incorporated by reference in this Statement of Additional Information. For a more complete discussion of the Fund's performance, please see the Fund's Annual and Semiannual Reports to Shareholders, which may be obtained without charge. SAI024 082007 PART C VANGUARD EXPLORER FUND OTHER INFORMATION ITEM 23. EXHIBITS (a) Articles of Incorporation, Amended and Restated Agreement, and Declaration of Trust, filed on December 2, 2002, Post-Effective Amendment No. 70, is hereby incorporated by reference. (b) By-Laws, filed on January 28, 2004, Post-Effective Amendment No. 72, is hereby incorporated by reference. (c) Instruments Defining Rights of Security Holders, reference is made to Articles III and V of the Registrant's Amended and Restated Agreement and Declaration of Trust, incorporated by reference in Item 23(a) of this Post-Effective Amendment. (d) Investment Advisory Contracts, for Chartwell Investment Partners, L.P., filed on December 1, 2005, Post-Effective Amendment No. 75; for Kalmar Investment Advisers, filed on February 1, 2005, Post-Effective Amendment No. 74; for Wellington Management Company, LLP, and Granahan Investment Management, Inc., filed on February 17, 2006, Post-Effective Amendment No. 76; and for Grantham, Mayo, Van Otterloo & Co. LLC, filed on February 23, 2007, Post-Effective Amendment No. 77; are hereby incorporated by reference. For AXA Rosenberg Investment Management LLC, is filed herewith. The Vanguard Group, Inc. provides investment advisory services to the Fund at cost pursuant to the Amended and Restated Funds' Service Agreement, refer to Exhibit (h) below. (e) Underwriting Contracts, not applicable. (f) Bonus or Profit Sharing Contracts, reference is made to the section entitled "Management of the Fund" in the Registrant's Statement of Additional Information. (g) Custodian Agreements, for Citibank, N.A., filed on December 1, 2005, Post-Effective Amendment No. 75, is hereby incorporated by reference. (h) Other Material Contracts, Amended and Restated Funds' Service Agreement, filed on December 2, 2002, Post-Effective Amendment No. 70, is hereby incorporated by reference. (i) Legal Opinion, not applicable. (j) Other Opinions, Consent of Independent Registered Public Accounting Firm, is filed herewith. (k) Omitted Financial Statements, not applicable. (l) Initial Capital Agreements, not applicable. (m) Rule 12b-1 Plan, not applicable. (n) Rule 18f-3 Plan, is filed herewith. (o) Reserved. (p) Codes of Ethics, for Granahan Investment Management, Inc., Grantham, Mayo, Van Otterloo & Co. LLC, and Chartwell Investment Partners, filed on December 22, 2004, Post-Effective Amendment No 73; for Kalmar Investment Advisers, filed on February 1, 2005, Post-Effective Amendment No. 74; for The Vanguard Group, Inc., filed on February 23, 2007, Post-Effective Amendment No. 77; and for Wellington Management, LLP., filed on June 14, 2007, Post-Effective Amendment No. 78, are incorporated by hereby reference. For AXA Rosenberg Investment Management LLC, is filed herewith. ITEM 24. PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH REGISTRANT Registrant is not controlled by or under common control with any person. ITEM 25. INDEMNIFICATION The Registrant's organizational documents contain provisions indemnifying Trustees and officers against liability incurred in their official capacity. Article VII, Section 2 of the Declaration of Trust provides that the Registrant may indemnify and hold harmless each and every Trustee and officer from and against any and C-1 all claims, demands, costs, losses, expenses, and damages whatsoever arising out of or related to the performance of his or her duties as a Trustee or officer. However, this provision does not cover any liability to which a Trustee or officer would otherwise be subject by reason of willful misfeasance, bad faith, gross negligence, or reckless disregard of the duties involved in the conduct of his or her office. Article VI of the By-Laws generally provides that the Registrant shall indemnify its Trustees and officers from any liability arising out of their past or present service in that capacity. Among other things, this provision excludes any liability arising by reason of willful misfeasance, bad faith, gross negligence, or the reckless disregard of the duties involved in the conduct of the Trustee's or officer's office with the Registrant. ITEM 26. BUSINESS AND OTHER CONNECTIONS OF INVESTMENT ADVISER Wellington Management Company, LLP (Wellington Management) is an investment adviser registered under the Investment Advisers Act of 1940, as amended (the Advisers Act). The list required by this Item 26 of officers and partners of Wellington Management, together with any information as to any business profession, vocation, or employment of a substantial nature engaged in by such officers and partners during the past two years, is incorporated herein by reference from Schedules B and D of Form ADV filed by Wellington Management pursuant to the Advisers Act (SEC File No. 801-15908). Granahan Investment Management, Inc. (Granahan) is an investment adviser registered under the Advisers Act. The list required by this Item 26 of officers and directors of Granahan, together with any information as to any business, profession, vocation, or employment of a substantial nature engaged in by such officers and directors during the past two years, is incorporated herein by reference from Schedules B and D of Form ADV filed by Granahan pursuant to the Advisers Act (SEC File No. 801-23705). Chartwell Investment Partners (Chartwell) is an investment adviser registered under the Advisers Act. The list required by this Item 26 of officers and partners of Chartwell, together with any information as to any business, profession, vocation, or employment of a substantial nature engaged in by such officers and partners during the past two years, is incorporated herein by reference from Schedules B and D of Form ADV filed by Chartwell pursuant to the Advisers Act (SEC File No. 801-54124). The Vanguard Group, Inc. (Vanguard) is an investment adviser registered under the Investment Advisers Act of 1940, as amended. The list required by this Item 26 of officers and directors of Vanguard, together with any information as to any business, profession, vocation, or employment of a substantial nature engaged in by such officers and directors during the past two years, is incorporated herein by reference from Schedules B and D of Form ADV filed by Vanguard pursuant to the Advisers Act (SEC File No. 801-11953). Grantham, Mayo, Van Otterloo & Co. LLC (GMO) is an investment adviser registered under the Advisers Act. The list required by this Item 26 of officers and directors of GMO, together with any information as to any business, profession, vocation, or employment of a substantial nature engaged in by such officers and directors during the past two years, is incorporated herein by reference from Schedules B and D of Form ADV filed by GMO pursuant to the Advisers Act (SEC File No. 801-15028). Kalmar Investment Advisers (Kalmar) is an investment adviser registered under the Advisers Act. The list required by this Item 26 of officers and directors of Kalmar, together with any information as to any business, profession, vocation, or employment of a substantial nature engaged in by such officers and directors during the past two years, is incorporated herein by reference from Schedules B and D of Form ADV filed by Kalmar pursuant to the Advisers Act (SEC File No. 801-53608). AXA Rosenberg Investment Management LLC (AXA) is an investment adviser registered under the Advisers Act. The list required by this Item 26 of officers and partners of AXA, together with any information as to any business, profession, vocation, or employment of a substantial nature engaged in by such officers and partners during the past two years, is incorporated herein by reference from Schedules B and D of Form ADV filed by AXA pursuant to the Advisers Act (SEC File No. 801-56080). ITEM 27. PRINCIPAL UNDERWRITERS a) Vanguard Marketing Corporation, a wholly-owned subsidiary of The Vanguard Group, Inc., is the principal underwriter of each fund within the Vanguard group of investment companies, a family of 36 investment companies with more than 140 funds. (b) The principal business address of each named director and officer of Vanguard Marketing Corporation is 100 Vanguard Boulevard, Malvern, PA 19355. C-2
Name Positions and Office with Underwriter Positions and Office with Funds - ---- ------------------------------------ --------------------------------- R. Gregory Barton Director and Senior Vice President None John J. Brennan Director Trustee, Chairman, President, and Chief Executive Officer Mortimer J. Buckley Director and Senior Vice President None F. William McNabb III Director and Senior Vice President None Michael S. Miller Director and Managing Director None Ralph K Packard Director None George U. Sauter Director and Senior Vice President None Heidi Stam Director and Senior Vice President Secretary Richard D. Carpenter Treasurer None David L. Cermak Principal None Joseph Colaizzo Financial and Operations Principal and Assistant None Treasurer Patti Colby Principal None Michael L. Kimmel Secretary None Sean P. Hagerty Principal None A. Kimberly Lynch Assistant Treasurer None Brian P. McCarthy Senior Registered Options Principal None Deborah McCracken Assistant Secretary None Miranda O'Keefe Compliance Registered Options Principal None Joseph F. Miele Registered Municipal Securities Principal None Jane K. Myer Principal None Pauline C. Scalvino Chief Compliance Officer Chief Compliance officer
(c) Not applicable ITEM 28. LOCATION OF ACCOUNTS AND RECORDS The books, accounts, and other documents required to be maintained by Section 31(a) of the Investment Company Act and the rules promulgated thereunder will be maintained at the offices of the Registrant, 100 Vanguard Boulevard, Malvern, Pennsylvania 19355; the Registrant's Transfer Agent, The Vanguard Group, Inc., 100 Vanguard Boulevard, Malvern, Pennsylvania 19355; and the Registrant's Custodian, Citibank, N.A., 111 Wall Street, New York, New York 10005. ITEM 29. MANAGEMENT SERVICES Other than as set forth in the section entitled "Management of the Fund" in Part B of this Registration Statement, the Registrant is not a party to any management-related service contract. ITEM 30. UNDERTAKINGS Not Applicable C-3 SIGNATURES Pursuant to the requirements of the Securities Act of 1933 and the Investment Company Act of 1940, the Registrant hereby certifies that it meets all requirements for effectiveness of this Registration Statement pursuant to Rule 485(b) under the Securities act of 1933 and has duly caused this Post-Effective Amendment to this Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the Town of Valley Forge and the Commonwealth of Pennsylvania, on the 14th day of August 2007. VANGUARD EXPLORER FUND BY:_____________(signature)________________ (HEIDI STAM) JOHN J. BRENNAN* CHAIRMAN AND CHIEF EXECUTIVE OFFICER Pursuant to the requirements of the Securities Act of 1933, this Post-Effective Amendment to the Registration Statement has been signed below by the following persons in the capacities and on the date indicated:
-------------------------------------------------------------------------------- SIGNATURE TITLE DATE By: ----------------------------President, Chairman, Chief August 14, 2007 /S/ JOHN J. BRENNAN Executive Officer, and Trustee (Heidi Stam) John J. Brennan* By: ----------------------------Trustee August 14, 2007 /S/ CHARLES D. ELLIS (Heidi Stam) Charles D. Ellis* By: ----------------------------Trustee August 14, 2007 /S/ RAJIV L. GUPTA (Heidi Stam) Rajiv L. Gupta* By: ----------------------------Trustee August 14, 2007 /S/ AMY GUTMANN (Heidi Stam) Amy Gutmann* By: ----------------------------Trustee August 14, 2007 /S/ JOANN HEFFERNAN HEISEN (Heidi Stam) JoAnn Heffernan Heisen* By: ----------------------------Trustee August 14, 2007 /S/ ANDRE F. PEROLD (Heidi Stam) Andre F. Perold* By: ----------------------------Trustee August 14, 2007 /S/ ALFRED M. RANKIN, JR. (Heidi Stam) Alfred M. Rankin, Jr.* By: ----------------------------Trustee August 14, 2007 /S/ J. LAWRENCE WILSON (Heidi Stam) J. Lawrence Wilson* By: ----------------------------Treasurer and Principal August 14, 2007 /S/ THOMAS J. HIGGINS Financial Office and Principal (Heidi Stam) Accounting Officer Thomas J. Higgins*
*By Power of Attorney. Filed on July 27, 2006, see File Number 002-65955-99. Incorporated by Reference. INDEX TO EXHIBITS Investment Advisory Contracts. . . . . . . . . . . . . . . . . .. . . . Ex-99. D Other Opinions, Consent of Independent Registered Public Accounting Firm Ex-99.J Rule 18f-3 Plan. . . . . . . . . . . . . . . . . . . . .. . . .. . . . Ex-99. N EX-99.D 2 axaiaagmtexplorerfinal.txt INVESTMENT ADVISOR AGREEMENT INVESTMENT ADVISORY AGREEMENT THIS AGREEMENT is made as of this 6th day of June, 2007, between Vanguard Explorer Fund, a Delaware statutory trust (the "Trust"), and AXA Rosenberg Investment Management LLC (the "Advisor"), a Delaware limited liability company. W I T N E S S E T H WHEREAS, the Trust is an open-end, diversified management investment company registered under the Investment Company Act of 1940, as amended (the "1940 Act"); and WHEREAS, the Trust offers a series of shares known as Vanguard Explorer Fund (the "Fund"); and WHEREAS, the Trust desires to retain the Advisor to render investment advisory services to the Fund, and the Advisor is willing to render such services. NOW THEREFORE, in consideration of the mutual promises and undertakings set forth in this Agreement, the Trust and the Advisor hereby agree as follows: 1. APPOINTMENT OF ADVISOR. The Trust hereby employs the Advisor as investment advisor, on the terms and conditions set forth herein, for the portion of the assets of the Fund that the Trust's Board of Trustees (the "Board of Trustees") determines in its sole discretion to assign to the Advisor from time to time (referred to in this Agreement as the "AXA Rosenberg Portfolio"), as communicated to the Advisor on behalf of the Board of Trustees by The Vanguard Group, Inc. ("Vanguard"). The Board of Trustees may, from time to time, make additions to, and withdrawals from, the assets of the Fund assigned to the Advisor provided that reasonable prior notice of additions to the AXA Rosenberg Portfolio would be communicated to and agreed upon by the Advisor. The Advisor accepts such employment and agrees to render the services herein set forth, for the compensation herein provided. 2. DUTIES OF ADVISOR. The Trust employs the Advisor to manage the investment and reinvestment of the assets of the AXA Rosenberg Portfolio; to continuously review, supervise, and administer an investment program for the AXA Rosenberg Portfolio; to determine in its discretion the securities to be purchased or sold and the portion of such assets to be held uninvested; to provide the Fund with all records concerning the activities of the Advisor under this Agreement needed for the Fund to comply with its books and records obligations under applicable law or regulation; and to render regular reports to the Trust's officers and the Board of Trustees concerning the discharge of the foregoing responsibilities. The Advisor will discharge the foregoing responsibilities subject to the supervision and oversight of the Trust's officers and the Board of Trustees, and in compliance with the objective, policies, and limitations set forth in the Fund's prospectus and Statement of Additional Information, any additional operating policies or procedures that the Fund communicates to the Advisor in writing, and applicable laws and regulations. The Advisor agrees to provide, at its own expense, the office space, furnishings and equipment, and personnel required by it to perform the services on the terms and for the compensation provided herein but shall not bear any other expenses in connection with performing the services hereunder. 3. SECURITIES TRANSACTIONS. The Advisor is authorized to select the brokers or dealers that will execute purchases and sales of securities for the AXA Rosenberg Portfolio, and is directed to use its best efforts to seek best execution for such transactions, consistent with Section 28(e) of the Securities Exchange Act of 1934. In selecting brokers or dealers to execute trades for the AXA Rosenberg Portfolio, the Advisor will comply with all applicable statutes, rules, and interpretations by the U.S. Securities and Exchange Commission or its staff, other applicable law, and the written policies and procedures established by the Board of Trustees and communicated to the Advisor in writing. 4. COMPENSATION OF ADVISOR. For services to be provided by the Advisor pursuant to this Agreement, the Fund will pay to the Advisor, and the Advisor agrees to accept as full compensation therefor, an investment advisory fee consisting of a base fee plus a performance adjustment (together, the "Adjusted Fee") at the rates specified in Schedule A to this agreement, payable quarterly in arrears. 5. REPORTS. The Fund and the Advisor agree to furnish to each other current prospectuses, proxy statements, reports to shareholders, certified copies of their financial statements, and such other information with regard to their affairs as each may reasonably request, including, but not limited to, information about changes in investment officers of the Advisor who are responsible for managing the AXA Rosenberg Portfolio. 6. COMPLIANCE. The Advisor agrees to comply with all Applicable Law and all policies, procedures, or reporting requirements that the Board of Trustees reasonably adopts and communicates to the Advisor in writing, including, without limitation, any such policies, procedures, or reporting requirements relating to soft dollar or other brokerage arrangements. "Applicable Law" means (i) the "federal securities laws" as defined in Rule 38a-1(e)(1) under the 1940 Act, as amended from time to time, and (ii) any and all other laws, rules, and regulations, whether foreign or domestic, in each case applicable at any time and from time to time to the investment management operations of the Advisor in relation to the AXA Rosenberg Portfolio. 7. STATUS OF ADVISOR. The services of the Advisor to the Fund are not to be deemed exclusive, and the Advisor will be free to render similar services to others so long as its services to the Fund are not impaired thereby. The Advisor will be deemed to be an independent contractor and will, unless otherwise expressly provided or authorized, have no authority to act for or represent the Fund in any way or otherwise be deemed an agent of the Fund or the Trust. 8. LIABILITY OF ADVISOR. No provision of this Agreement will be deemed to protect the Advisor against any liability to the Fund or its shareholders to which it might otherwise be subject by reason of any willful misfeasance, bad faith, or negligence in the performance of its duties or the reckless disregard of its obligations under this Agreement. 9. LIMITATIONS ON CONSULTATIONS. The Advisor is prohibited from consulting with other advisors of the Fund, except Vanguard, concerning transactions for the Fund in securities or other assets. 10. DURATION; TERMINATION; NOTICES; AMENDMENT. This Agreement will become effective on the date hereof and will continue in effect for a period of two years thereafter, and shall continue in effect for successive twelve-month periods thereafter, only so long as this Agreement is approved at least annually by the Board of Trustees, including a majority of those Trustees who are not parties to such Agreement or interested persons of any such party, cast in person at a meeting called for the purpose of voting on such approval. In addition, the question of continuance of the Agreement may be presented to the shareholders of the Fund; in such event, such continuance will be effected only if approved by the affirmative vote of a majority of the outstanding voting securities of the Fund. Notwithstanding the foregoing, however, (i) this Agreement may at any time be terminated without payment of any penalty either by vote of the Board of Trustees or by vote of a majority of the outstanding voting securities of the Fund, on thirty days' written notice to the Advisor, (ii) this Agreement will automatically terminate in the event of its assignment, and (iii) this Agreement may be terminated by the Advisor on ninety days' written notice to the Fund. Upon termination of this Agreement, the Trust and 2 the Fund shall honor any transactions undertaken by the Advisor on behalf of the Fund which are not completed at the time of termination. Any notice under this Agreement will be given in writing, addressed and delivered, or mailed postpaid, to the other party as follows: If to the Fund, at: Vanguard Explorer Fund P.O. Box 2600 Valley Forge, PA 19482 Attention: Joseph P. Brennan Telephone: 610-503-2042 Facsimile: 610-503-5855 If to the Advisor, at: AXA Rosenberg Investment Management LLC Orinda Way, Building E Orinda, CA 94563 Attention: William E. Ricks, Chief Investment Officer Telephone: 925-253-3359 Facsimile: 925-254-0213 With copy to: AXA Rosenberg Global Services LLC 4 Orinda Way, Building E Orinda, CA 94563 Attention: Legal Counsel Facsimile: 925-253-1648 This Agreement may be amended by mutual consent, but the consent of the Trust must be approved (i) by a majority of those members of the Board of Trustees who are not parties to this Agreement or interested persons of any such party, cast in person at a meeting called for the purpose of voting on such amendment, and (ii) to the extent required by the 1940 Act, by a vote of a majority of the outstanding voting securities of the Fund. As used in this Section 10, the terms "assignment," "interested persons," and "vote of a majority of the outstanding voting securities" will have the respective meanings set forth in Section 2(a)(4), Section 2(a)(19), and Section 2(a)(42) of the 1940 Act. 11. SEVERABILITY. If any provision of this Agreement will be held or made invalid by a court decision, statute, rule or otherwise, the remainder of this Agreement will not be affected thereby. 12. CONFIDENTIALITY. The Advisor shall keep confidential any and all information obtained in connection with the services rendered hereunder and shall not disclose any such information to any person other than the Trust, the Board of Trustees, Vanguard, and any director, officer, or employee of the Trust or Vanguard, except (i) with the prior written consent of the Trust, (ii) as required by law, regulation, court order, or the rules or regulations of any self-regulatory organization, governmental body, or official having jurisdiction over the Advisor, (iii) for information that is publicly available other than due to disclosure by the Advisor or its affiliates or becomes known to the Advisor from a source other than the Trust, the Board of Trustees, or Vanguard, or (iv) to the extent reasonably required for the Advisor to perform its obligations hereunder. 3 13. PROXY POLICY. The Advisor acknowledges that Vanguard, at the direction of the Fund, will vote the securities that are held by the Fund. 14. GOVERNING LAW. All questions concerning the validity, meaning, and effect of this Agreement shall be determined in accordance with the laws (without giving effect to the conflict-of-law principles thereof) of the State of Delaware applicable to contracts made and to be performed in that state. 15. MISCELLANEOUS. (a) By execution of this Agreement, the Trust acknowledges receipt of Part II of the Advisor's Form ADV Part II. (b) The Trust and the Fund warrant, represent, and covenant that (i) they have the full power and authority to employ the Advisor under the terms of this Agreement and the appointment of the Advisor is in accordance with the Prospectus, Statement of Additional Information and applicable law or regulation, and (ii) to the best of their knowledge, the Fund's Prospectus and Statement of Additional Information is consistent with the governing documents of the Trust and the Fund, and applicable law and regulation. (c) The Advisor will have no responsibility with respect to the custody of the AXA Rosenberg Portfolio. (d) The Trust and the Fund shall not use the name of the Advisor or make representations regarding the Advisor without the prior consent of the Advisor, such consent not to be unreasonably withheld. Notwithstanding the foregoing, the Advisor's approval is not required for representations regarding the Advisor which are used in a manner consistent with disclosure previously approved by the Advisor, including but not limited to the disclosure contained in the Fund's Prospectus and Statement of Additional Information. IN WITNESS WHEREOF, the parties hereto have caused this Investment Advisory Agreement to be executed as of the date first set forth herein.
AXA ROSENBERG INVESTMENT MANAGEMENT LLC VANGUARD EXPLORER FUND /S/ William E. Ricks 6/8/07 /S/ John J. Brennan 6/5/07 - ------------------------------- --------- ------------------------------- --------- Signature Date Signature Date William E. Ricks John J. Brennan - ------------------------------- ------------------------------- Print Name Print Name
4 EX-99.J 3 consent.txt CONSENT CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM We hereby consent to the incorporation by reference in the Prospectuses and Statement of Additional Information constituting parts of this Post-Effective Amendment No. 79 to the registration statement on Form N-1A (the "Registration Statement") of our report dated December 18, 2006, relating to the financial statements and financial highlights appearing in the October 31, 2006 Annual Report to Shareholders of Vanguard Explorer Fund, which report is also incorporated by reference into the Registration Statement. We also consent to the references to us under the heading "Financial Highlights" in the Prospectuses and under the headings "Financial Statements" and "Service Providers-Independent Registered Public Accounting Firm" in the Statement of Additional Information. PricewaterhouseCoopers LLP Philadelphia, PA August 13, 2007 EX-99.N 4 multiclass_v20.txt RULE 18F-3 PLAN VANGUARD FUNDS MULTIPLE CLASS PLAN I. INTRODUCTION This Multiple Class Plan (the "Plan") describes six separate classes of shares that may be offered by investment company members of The Vanguard Group (collectively the "Funds," individually a "Fund"). The Plan explains the separate arrangements for each class, how expenses are allocated to each class, and the conversion features of each class. Each Fund may offer any one or more of the specified classes. The Plan has been approved by the Board of Directors of The Vanguard Group ("Vanguard"). In addition, the Plan has been adopted by a majority of the Board of Trustees of each Fund, including a majority of the Trustees who are not interested persons of each Fund. The classes of shares offered by each Fund are designated in Schedule A hereto, as such Schedule may be amended from time to time. II. SHARE CLASSES A Fund may offer any one or more of the following share classes: Investor Shares Admiral Shares Signal Shares Institutional Shares Institutional Plus Shares ETF Shares III. DISTRIBUTION, AVAILABILITY AND ELIGIBILITY Distribution arrangements for all classes are described below. Vanguard retains sole discretion in determining share class availability, and whether Fund shares shall be offered either directly or through certain financial intermediaries, or on certain financial intermediary platforms. Eligibility requirements for purchasing shares of each class will differ, as follows: A. Investor Shares Investor Shares generally will be available to investors who are not permitted to purchase other classes of shares, subject to the eligibility requirements specified in Schedule B hereto, as such Schedule may be amended from time to time. It is expected that the minimum investment amount for Investor Shares will be substantially lower than the amount required for any other class of shares. B. Admiral Shares Admiral Shares generally will be available to individual and other investors who meet the eligibility requirements specified in Schedule B hereto, as such Schedule may be amended from time to time. These eligibility requirements may include, but are not limited to the following factors: (i) the total amount invested the Fund; (ii) the length of time that the Fund account has been maintained; (iii) whether the investor has registered for on-line access to the Fund account through Vanguard's web site; or (iv) any other factors deemed appropriate by a Fund's Board of Trustees. C. Signal Shares Signal Shares generally will be available to institutional and other investors who meet the eligibility requirements specified in Schedule B hereto, as such Schedule may be amended from time to time. It is expected that Signal Shares will be offered to Vanguard's institutional clients according to eligibility criteria that may include, but are not limited to the following factors: (i) the total amount invested in the Fund; (ii) nature and extent of client's relationship with Fund, including services provided by the Fund to the client's account; and (iii) any other factors deemed appropriate by the Fund's Board of Trustees. D. Institutional Shares Institutional Shares generally will be available to institutional and other investors who meet the eligibility requirements specified in Schedule B hereto, as such Schedule may be amended from time to time. It is expected that the minimum investment amount per account for Institutional Shares will be substantially higher than the amounts required for Investor Shares, Admiral Shares or Signal Shares. E. Institutional Plus Shares Institutional Plus Shares generally will be available to institutional and other investors who meet the eligibility requirements specified in Schedule B hereto, as such Schedule may be amended from time to time. It is expected that the minimum investment amount for Institutional Plus Shares will be substantially higher than the amount required for any other class of the Fund's shares. F. ETF Shares The Fund will sell ETF Shares to investors that are (or who purchase through) Authorized DTC Participants, and who pay for their ETF shares by depositing a prescribed basket of securities rather than paying cash. An Authorized DTC Participant is an institution, usually a broker-dealer, that is a participant in the Depository Trust Company (DTC) and that has executed a Participant Agreement with the Fund's distributor. Additional eligibility requirements may be specified in Schedule B hereto, as such Schedule may be amended from time to time. Investors who are not Authorized Participants may buy and sell ETF shares through various exchanges and market centers. IV. SERVICE ARRANGEMENTS All share classes will receive a range of services provided by Vanguard on a per account basis. These "account-based" services may include transaction processing and shareholder recordkeeping, as well as the mailing of updated prospectuses, shareholder reports, tax statements, confirmation statements, quarterly portfolio summaries, and other items. It is expected that the aggregate amount of account-based services provided to Investor Shares will materially exceed the amount of such services provided to any other class, due to the existence of many more accounts holding Investor Shares. In addition to this difference in the volume of services provided, arrangements will differ among the classes as follows: A. Investor Shares Investor Shares generally will receive the most basic level of service from Vanguard. Investor Shares generally will be serviced through a pool of Vanguard client service representatives. Investor Shares shareholders may receive VISTA recordkeeping services from Vanguard. B. Admiral Shares Admiral Shares will receive a different level of service from Vanguard as compared to Investor Shares, including but not limited to special client service representatives who are assigned to service Admiral Shares through a dedicated phone service center. In addition, holders of Admiral Shares may from time to time receive special mailings and unique additional services from Vanguard. Investors who receive VISTA or similar retirement plan recordkeeping services from Vanguard generally may not own Admiral Shares. C. Signal Shares Signal Shares will receive a level of service from Vanguard that differs from the service provided to the holders of shares of other classes. Such services may include informational newsletters and other similar materials devoted to investment topics of interest and which have been developed exclusively for Signal shareholders. Such newsletters or other materials may be mailed on a periodic basis. These newsletters or other materials may also be available to Signal shareholders through separate electronic venues including a dedicated web site. In addition, special client service representatives may be assigned to service Signal Shares through a dedicated phone service center. Signal Shares' shareholders generally will be permitted to transact with Vanguard through the National Securities Clearing Corporation's FundSERV system and other special servicing platforms for institutional investors. Signal shareholders may receive VISTA recordkeeping services from Vanguard. D. Institutional Shares Institutional Shares will receive from Vanguard a level of service that differs from the service provided to the holders of shares of other classes. Such services may include special client service representatives who will be assigned to service Institutional Shares. Most holders of Institutional Shares periodically will receive special investment updates from Vanguard's investment staff. Holders of Institutional Shares also may receive unique additional services from Vanguard, and generally will be permitted to transact with Vanguard through the National Securities Clearing Corporation's FundSERV system and other special servicing platforms for institutional investors. Investors who receive VISTA or similar retirement plan recordkeeping services from Vanguard generally may not own Institutional Shares. E. Institutional Plus Shares Institutional Plus Shares generally will receive a very high level of service from Vanguard as compared to any other share classes. Special client service representatives will be assigned to service Institutional Plus Shares, and most holders of such shares periodically, but more than the holders of all other shares, will receive special updates from Vanguard's investment staff. Holders of Institutional Plus Shares may receive unique additional services from Vanguard, and generally will be permitted to transact with Vanguard through the National Securities Clearing Corporation's FundSERV system and other special servicing platforms for institutional investors. Investors who receive VISTA or similar retirement plan recordkeeping services from Vanguard generally may not own Institutional Plus Shares F. ETF Shares A Fund is expected to maintain only one shareholder of record for ETF Shares--DTC or its nominee. Special client service representatives will be assigned to the DTC account, and all transactions on this account will be handled electronically. Due to the nature and purpose of the DTC account, ETF Shares will not receive any special updates from Vanguard's investment staff. V. CONVERSION FEATURES A. Voluntary Conversions 1. Conversion into Investor Shares. An investor may convert Admiral Shares, Signal Shares, or Institutional Shares into Investor Shares (if available), provided that following the conversion the investor: (i) meets the then applicable eligibility requirements for Investor Shares; and (ii) receives services consistent with Investor Shares. Any such conversion will occur at the respective net asset values of the share classes next calculated after Vanguard's receipt of the investor's request in good order. 2. Conversion into Admiral Shares. An investor may convert Investor Shares or Institutional Shares into Admiral Shares (if available), provided that following the conversion the investor: (i) meets the then applicable eligibility requirements for Admiral Shares; and (ii) receives services consistent with Admiral Shares. Any such conversion will occur at the respective net asset values of the share classes next calculated after Vanguard's receipt of the investor's request in good order. 3. Conversion into Signal Shares. An investor may convert Investor Shares or Institutional Shares into Signal Shares (if available), provided that following the conversion the investor: (i) meets the then applicable eligibility requirements for Signal Shares; and (ii) receives services consistent with Signal Shares. Any such conversion will occur at the respective net asset values of the share classes next calculated after Vanguard's receipt of the investor's request in good order. 4. Conversion into Institutional Shares. An investor may convert Investor Shares, Admiral Shares, or Signal Shares into Institutional Shares (if available), provided that following the conversion the investor: (i) meets the then applicable eligibility requirements for Institutional Shares; and (ii) receives services consistent with Institutional Shares. Any such conversion will occur at the respective net asset values of the share classes next calculated after Vanguard's receipt of the investor's request in good order. 5. Conversion into Institutional Plus Shares. An investor may convert Investor Shares, Admiral Shares, Signal Shares, or Institutional Shares into Institutional Plus Shares (if available), provided that following the conversion the investor: (i) meets the then applicable eligibility requirements for Institutional Plus Shares; and (ii) receives services consistent with Institutional Plus Shares. Any such conversion will occur at the respective net asset values of the share classes next calculated after Vanguard's receipt of the investor's request in good order. 6. Conversion into ETF Shares. Except as otherwise provided, an investor may convert Investor Shares, Admiral Shares, Signal Shares or Institutional Shares into ETF Shares (if available), provided that: (i) the shares to be converted are not held through an employee benefit plan; and (ii) following the conversion, the investor will hold ETF Shares through a brokerage account. Any such conversion will occur at the respective net asset values of the share classes next calculated after Vanguard's receipt of the investor's request in good order. Vanguard or the Fund may charge an administrative fee to process conversion transactions. None of the Funds that are series of Vanguard Bond Index Funds (see Schedule A) shall permit holders of Investor Shares, Admiral Shares, Signal Shares or Institutional Shares to convert those shares into ETF Shares. B. Automatic Conversions 1. Automatic conversion into Admiral Shares. Vanguard may automatically convert Investor Shares into Admiral Shares (if available), provided that following the conversion the investor: (i) meets the then applicable eligibility requirements for Admiral Shares; and (ii) receives services consistent with Admiral Shares. Any such conversion will occur at the respective net asset values of the share classes next calculated after Vanguard's conversion without the imposition of any charge. Such automatic conversions may occur on a periodic, or one-time basis. Automatic conversions may occur at different times due to the differing mechanisms through which an account is funded or meets the required investment minimum. Automatic conversions do not apply to certain types of accounts, or to accounts that are eligible for Admiral Shares as a result of tenure in the Fund. 2. Automatic conversion into Signal Shares, Institutional Shares or Institutional Plus Shares. Vanguard will not conduct automatic conversions of any share class into either Signal Shares, Institutional Shares, or Institutional Plus Shares. Shareholders may convert eligible shares into either Signal Shares, Institutional Shares, or Institutional Plus Shares only through either a self-directed conversion, or with the assistance of Vanguard representatives. Notwithstanding this rule, once a Fund offers Signal Shares, Admiral Shares of that Fund held by institutional clients may be automatically converted into Signal Shares to align the share class investor eligibility requirements. C. Involuntary Conversions and Cash Outs 1. Cash Outs. If an investor in any class of shares no longer meets the eligibility requirements for such shares, the Fund may cash out the investor's remaining account balance. Any such cash out will be preceded by written notice to the investor and will be subject to the Fund's normal redemption fees, if any. 2. Conversion of Admiral Shares. If an investor no longer meets the eligibility requirements for Admiral Shares, the Fund may convert the investor's Admiral Shares into Investor Shares (if available). Any such conversion will be preceded by written notice to the investor, and will occur at the respective net asset values of the share classes without the imposition of any sales load, fee, or other charge. 3. Conversion of Signal Shares. If an investor no longer meets the eligibility requirements for Signal Shares, the Fund may convert the investor's Signal Shares into Investor Shares (if available). Any such conversion will be preceded by written notice to the investor, and will occur at the respective net asset values of the share classes without the imposition of any sales load, fee, or other charge. 4. Conversion of Institutional Shares. If an investor no longer meets the eligibility requirements for Institutional Shares, the Fund may convert the investor, according to the investor's ability to satisfy then current eligibility requirements, into Admiral Shares, Signal Shares, or Investor Shares. Any such conversion will be preceded by written notice to the investor, and will occur at the respective net asset values of the share classes without the imposition of any sales load, fee, or other charge. 5. Conversion of Institutional Plus Shares. If an investor no longer meets the eligibility requirements for Institutional Plus Shares, the Fund may convert the investor's Institutional Plus Shares into Institutional Shares. Any such conversion will be preceded by written notice to the investor, and will occur at the respective net asset values of the share classes without the imposition of any sales load, fee, or other charge. VI. EXPENSE ALLOCATION AMONG CLASSES A. Background Vanguard is a jointly-owned subsidiary of the Funds. Vanguard provides the Funds, on an at-cost basis, virtually all of their corporate management, administrative and distribution services. Vanguard also may provide investment advisory services on an at-cost basis to the Funds. Vanguard was established and operates pursuant to a Funds' Service Agreement between itself and the Funds (the "Agreement"), and pursuant to certain exemptive orders granted by the U.S. Securities and Exchange Commission ("Exemptive Orders"). Vanguard's direct and indirect expenses of providing corporate management, administrative and distribution services to the Funds are allocated among such funds in accordance with methods specified in the Agreement. B. Class Specific Expenses 1. Expenses for Account-Based Services. Expenses associated with Vanguard's provision of account-based services to the Funds will be allocated among the share classes of each Fund on the basis of the amount incurred by each such class as follows: (a) Account maintenance expenses. Expenses associated with the maintenance of investor accounts will be proportionately allocated among each Fund's share classes based upon a monthly determination of the costs to service each class of shares. Factors considered in this determination are (i) the percentage of total shareholder accounts represented by each class; (ii) the percentage of total account transactions performed by Vanguard for each class; and (iii) the percentage of new accounts opened for each class. (b) Expenses of special servicing arrangements. Expenses relating to any special servicing arrangements for a specific class will be proportionally allocated among each eligible Fund's share classes primarily based on their percentage of total shareholder accounts receiving the special servicing arrangements. (c) Literature production and mailing expenses. Expenses associated with shareholder reports, proxy materials and other literature will be allocated among each Fund's share classes based upon the number of such items produced and mailed for each class. 2. Other Class Specific Expenses. Expenses for the primary benefit of a particular share class will be allocated to that share class. Such expenses would include any legal fees attributable to a particular class. C. Fund-Wide Expenses 1. Marketing and Distribution Expenses. Expenses associated with Vanguard's marketing and distribution activities will be allocated among the Funds and their separate share classes according to the "Vanguard Modified Formula," with each share class treated as if it were a separate Fund. The Vanguard Modified Formula, which is set forth in the Agreement and in certain of the SEC Exemptive Orders, has been deemed an appropriate allocation methodology by each Fund's Board of Trustees under paragraph (c)(1)(v) of Rule 18f-3 under the Investment Company Act of 1940. 2. Asset Management Expenses. Expenses associated with management of a Fund's assets (including all advisory, tax preparation and custody fees) will be allocated among the Fund's share classes on the basis of their relative net assets. 3. Other Fund Expenses. Any other Fund expenses not described above will be allocated among the share classes on the basis of their relative net assets. VII. ALLOCATION OF INCOME, GAINS AND LOSSES Income, gains and losses will be allocated among each Fund's share classes on the basis of their relative net assets. As a result of differences in allocated expenses, it is expected that the net income of, and dividends payable to, each class of shares will vary. Dividends and distributions paid to each class of shares will be calculated in the same manner, on the same day and at the same time. VIII. VOTING AND OTHER RIGHTS Each share class will have: (i) exclusive voting rights on any matter submitted to shareholders that relates solely to its service or distribution arrangements; and (ii) separate voting rights on any matter submitted to shareholders in which the interests of one class differ from the interests of the other class; and (iii) in all other respects the same rights, obligations and privileges as each other, except as described in the Plan. IX. AMENDMENTS All material amendments to the Plan must be approved by a majority of the Board of Trustees of each Fund, including a majority of the Trustees who are not interested persons of the Fund. In addition, any material amendment to the Plan must be approved by the Board of Directors of Vanguard. Original Board Approval: July 21, 2000 Last Approved by Board: May 18, 2007 SCHEDULE A to VANGUARD FUNDS MULTIPLE CLASS PLAN
- ------------------------------------------------------------------------------------------------------- Vanguard Fund Share Classes Authorized - ------------------------------------------------------------------------------------------------------- Vanguard Admiral Funds o Admiral Treasury Money Market Fund Investor Vanguard Balanced Index Fund Investor, Admiral, Signal, Institutional Vanguard Bond Index Funds o Short-Term Bond Index Fund Investor, Admiral, Signal, ETF o Intermediate-Term Bond Index Fund Investor, Admiral, Signal, Institutional, ETF o Long-Term Bond Index Fund Investor, Institutional, ETF o Total Bond Market Index Fund Investor, Admiral, Signal, Institutional, ETF Vanguard California Tax-Exempt Funds o Tax-Exempt Money Market Fund Investor o Intermediate-Term Tax-Exempt Fund Investor, Admiral o Long-Term Tax-Exempt Fund Investor, Admiral Vanguard Chester Funds o PRIMECAP Fund Investor, Admiral o Vanguard Target Retirement Income Fund Investor o Vanguard Target Retirement 2005 Fund Investor o Vanguard Target Retirement 2010 Fund Investor o Vanguard Target Retirement 2015 Fund Investor o Vanguard Target Retirement 2020 Fund Investor o Vanguard Target Retirement 2025 Fund Investor o Vanguard Target Retirement 2030 Fund Investor o Vanguard Target Retirement 2035 Fund Investor o Vanguard Target Retirement 2040 Fund Investor o Vanguard Target Retirement 2045 Fund Investor o Vanguard Target Retirement 2050 Fund Investor Vanguard Convertible Securities Fund Investor Vanguard Explorer Fund Investor, Admiral Vanguard Fenway Funds o Equity Income Fund Investor, Admiral o Growth Equity Fund Investor o PRIMECAP Core Fund Investor - ------------------------------------------------------------------------------------------------------- Vanguard Fund Share Classes Authorized - ------------------------------------------------------------------------------------------------------- Vanguard Fixed Income Securities Funds o Short-Term Treasury Fund Investor, Admiral o Short-Term Federal Fund Investor, Admiral o Short-Term Investment-Grade Fund Investor, Admiral, Institutional o Intermediate-Term Treasury Fund Investor, Admiral o Intermediate-Term Investment-Grade Fund Investor, Admiral o GNMA Fund Investor, Admiral o Long-Term Treasury Fund Investor, Admiral o Long-Term Investment-Grade Fund Investor, Admiral o High-Yield Corporate Fund Investor, Admiral, o Inflation-Protected Securities Fund Investor, Admiral, Institutional Vanguard Florida Tax-Exempt Fund Investor, Admiral Vanguard Horizon Funds o Capital Opportunity Fund Investor, Admiral o Global Equity Fund Investor o Strategic Equity Fund Investor o Strategic Small-Cap Equity Fund Investor Vanguard Index Funds o 500 Index Fund Investor, Admiral, Signal o Extended Market Index Fund Investor, Admiral, Signal, Institutional, ETF o Growth Index Fund Investor, Admiral, Signal, Institutional, ETF o Large-Cap Index Fund Investor, Admiral, Signal, Institutional, ETF o Mid-Cap Growth Index Fund Investor, ETF o Mid-Cap Index Fund Investor, Admiral, Signal, Institutional, ETF o Mid-Cap Value Index Fund Investor, ETF o Small-Cap Growth Index Fund Investor, Institutional, ETF o Small-Cap Index Fund Investor, Admiral, Signal, Institutional, ETF o Small-Cap Value Index Fund Investor, Institutional, ETF o Total Stock Market Index Fund Investor, Admiral, Signal, Institutional, ETF o Value Index Fund Investor, Admiral, Signal, Institutional, ETF Vanguard International Equity Index Funds o Emerging Markets Stock Index Fund Investor, Admiral, Signal, Institutional, ETF o European Stock Index Fund Investor, Admiral, Signal, Institutional, ETF o FTSE All-World ex US Index Fund Investor, Institutional, ETF o Pacific Stock Index Fund Investor, Admiral, Signal, Institutional, ETF Vanguard Malvern Funds o Asset Allocation Fund Investor, Admiral o Capital Value Fund Investor o U.S. Value Fund Investor - ------------------------------------------------------------------------------------------------------- Vanguard Fund Share Classes Authorized - ------------------------------------------------------------------------------------------------------- Vanguard Massachusetts Tax-Exempt Fund Investor Vanguard Money Market Funds o Prime Money Market Fund Investor, Institutional o Federal Money Market Fund Investor Vanguard Morgan Growth Fund Investor, Admiral Vanguard Municipal Bond Funds o Tax-Exempt Money Market Fund Investor o Short-Term Tax-Exempt Fund Investor, Admiral o Limited-Term Tax-Exempt Fund Investor, Admiral o Intermediate-Term Tax-Exempt Fund Investor, Admiral o Insured Long-Term Tax-Exempt Fund Investor, Admiral o Long-Term Tax-Exempt Fund Investor, Admiral o High-Yield Tax-Exempt Fund Investor, Admiral Vanguard New Jersey Tax-Free Funds o Tax-Exempt Money Market Fund Investor o Long-Term Tax-Exempt Fund Investor, Admiral Vanguard New York Tax-Free Funds o Tax-Exempt Money Market Fund Investor o Long-Term Tax-Exempt Fund Investor, Admiral Vanguard Ohio Tax-Free Funds o Tax-Exempt Money Market Fund Investor o Long-Term Tax-Exempt Fund Investor Vanguard Pennsylvania Tax- Free Funds o Tax-Exempt Money Market Fund Investor o Long-Term Tax-Exempt Fund Investor, Admiral Vanguard Quantitative Funds o Growth and Income Fund Investor, Admiral Vanguard Specialized Funds o Energy Fund Investor, Admiral o Precious Metals Fund Investor o Health Care Fund Investor, Admiral o Dividend Growth Fund Investor o REIT Index Fund Investor, Admiral, Institutional, ETF o Dividend Appreciation Index Fund Investor, ETF - ------------------------------------------------------------------------------------------------------- Vanguard Fund Share Classes Authorized - ------------------------------------------------------------------------------------------------------- Vanguard Tax-Managed Funds o Tax-Managed Balanced Fund Investor o Tax-Managed Capital Appreciation Fund Investor, Admiral, Institutional o Tax-Managed Growth and Income Fund Investor, Admiral, Institutional o Tax-Managed International Fund Investor, Institutional Europe Pacific ETF ETF o Tax-Managed Small-Cap Fund Investor, Institutional Vanguard Treasury Funds o Treasury Money Market Fund Investor Vanguard Trustees' Equity Fund o International Value Fund Investor o Diversified Equity Fund Investor Vanguard Wellesley Income Fund Investor, Admiral Vanguard Wellington Fund Investor, Admiral Vanguard Whitehall Funds o Selected Value Fund Investor o Mid-Cap Growth Fund Investor o International Explorer Fund Investor o High Dividend Yield Index Fund Investor, ETF Vanguard Windsor Funds o Windsor Fund Investor, Admiral o Windsor II Investor, Admiral Vanguard World Funds o U.S. Growth Fund Investor, Admiral o International Growth Fund Investor, Admiral o FTSE Social Index Fund Investor, Institutional o Consumer Discretionary Index Fund Admiral, ETF o Consumer Staples Index Fund Admiral, ETF o Energy Index Fund Admiral, ETF o Financials Index Fund Admiral, ETF o Health Care Index Fund Admiral, ETF o Industrials Index Fund Admiral, ETF o Information Technology Index Fund Admiral, ETF o Materials Index Fund Admiral, ETF o Telecommunication Services Index Fund Admiral, ETF o Utilities Index Fund Admiral, ETF o Extended Duration Treasury Index Fund Institutional, Institutional Plus, ETF - ------------------------------------------------------------------------------------------------------- Vanguard Fund Share Classes Authorized - ------------------------------------------------------------------------------------------------------- Vanguard Variable Insurance Funds o Balanced Portfolio Investor o Diversified Value Portfolio Investor o Equity Income Portfolio Investor o Equity Index Portfolio Investor o Growth Portfolio Investor o Total Bond Market Index Portfolio Investor o High Yield Bond Portfolio Investor o International Portfolio Investor o Mid-Cap Index Portfolio Investor o Money Market Portfolio Investor o REIT Index Portfolio Investor o Short-Term Investment Grade Portfolio Investor o Small Company Growth Portfolio Investor o Capital Growth Portfolio Investor o Total Stock Market Index Portfolio Investor
Original Board Approval: July 21, 2000 Last Approved by Board: May 18, 2007 1 SCHEDULE B to VANGUARD FUNDS MULTIPLE CLASS PLAN Vanguard has policies and procedures designed to ensure consistency and compliance with the offering of multiple classes of shares within this Multiple Class Plan's eligibility requirements. These policies are reviewed and monitored on an ongoing basis in conjunction with Vanguard's Compliance Department. Investor Shares - Eligibility Requirements Investor Shares generally require a minimum initial investment and ongoing account balance of $3,000. Particular Vanguard Funds may, from time to time, establish higher or lower minimum amounts for Investor Shares. Vanguard also reserves the right to establish higher or lower minimum amounts for certain investors or a group of investors. Admiral Shares - Eligibility Requirements Admiral Shares generally are intended for clients who meet the required minimum initial investment and ongoing account balance of $100,000. Particular Vanguard Funds may, from time to time, establish higher or lower minimum amounts for Admiral Shares. Vanguard reserves the right to establish higher or lower minimum amounts for certain investors or a group of investors. Admiral Share class eligibility also is subject to the following rules: o Account Tenure: The minimum amount for Admiral Shares is $50,000 if the investor has maintained an account in the applicable Fund for 10 years, subject to administrative policies developed by Vanguard to exclude costly accounts. For these purposes, a Fund may, in appropriate cases, count periods during which an investor maintained an account in the Fund through a financial intermediary. To take advantage of the tenure rule, an investor generally must be registered for on-line access to their Fund account through Vanguard.com, or otherwise transact with Vanguard on a similarly cost-effective basis. o Certain Retirement Plans: Admiral Shares generally are not available to 403(b)(7) custodial accounts and SIMPLE IRAs held directly with Vanguard; as well as other Vanguard Retirement Plans receiving special administrative services from Vanguard. o Financial Intermediaries -Admiral Shares are not available to financial intermediaries who would meet eligibility requirements by aggregating the holdings of underlying investors within an omnibus account. However, a financial intermediary may hold Admiral Shares in an omnibus account if: (1) each underlying investor in the omnibus account individually meets the $100,000 minimum amount or the tenure rule described above; and (2) the financial intermediary agrees to monitor ongoing compliance of the underlying investor accounts with the $100,000 minimum amount or the tenure rule described above; or (3) a sub-accounting arrangement between Vanguard and the financial intermediary for the omnibus account allows Vanguard to monitor compliance with the eligibility requirements established by Vanguard. o VISTA - Admiral Shares are not available to participants in employee benefit plans that use Vanguard's VISTA system for plan recordkeeping. o Asset Allocation Fund -- Admiral Shares of Asset Allocation Fund are not available to certain institutional clients who receive no special recordkeeping services from Vanguard. o Account Aggregation -- Vanguard clients may hold Admiral Shares by aggregating up to three separate accounts within the same Vanguard Fund, provided that the total balance of the aggregated accounts in the Fund is at least $1 million. For purposes of this rule, Vanguard management is authorized to permit aggregation of a greater number of accounts in the case of clients whose aggregate assets within the Vanguard Funds are expected to generate substantial economies in the servicing of their accounts. The aggregation rule does not apply to clients receiving special recordkeeping or sub-accounting services from Vanguard, nor does it apply to nondiscretionary omnibus accounts maintained by financial intermediaries. o Accumulation Period -- Accounts funded through regular contributions (e.g. employer sponsored participant contribution plans), whose assets are expected to quickly achieve eligibility levels, may qualify for Admiral Shares upon account creation, rather than undergoing the conversion process shortly after account set-up if Vanguard management determines that the account will become eligible for Admiral Shares within a limited period of time (generally 90 days). Signal Shares - Eligibility Requirements Signal Shares generally are intended for institutional clients who meet the eligibility requirements set forth by Vanguard's institutional client service departments. Institutional clients generally must maintain a minimum balance of no less than $1 million in the Fund. Eligibility criteria are subject to the discretion of Vanguard management, and Vanguard reserves the right to establish higher or lower minimum amounts for certain investors or a group of investors and to change such requirements at any time. Signal Share class eligibility also is subject to the following rules: o Previously held Admiral Shares. Admiral Shares held by institutional clients prior to the effective date of Signal Shares will be converted at the discretion of Vanguard management into Signal Shares. o Institutional intermediary clients. Institutional clients that are financial intermediaries generally may hold Signal Shares only if the total amount invested across all accounts held by the intermediary in the Fund is at least $5 million. Signal Shares generally are not available to financial intermediaries that serve as retail fund supermarkets. o Institutional clients whose accounts are not recordkept by Vanguard. Institutional clients, including but not limited to financial intermediary and defined benefit and contribution plan clients, endowments, and foundations whose accounts are not recordkept by Vanguard may hold Signal Shares if the total amount aggregated among all accounts held by such client and invested in a single Fund is at least $1 million. Such institutional clients must disclose to Vanguard on behalf of their accounts the following: (1) that each account has a common decision-maker; and (2) the total balance in each account held by the client in the Fund. o Institutional clients whose accounts are recordkept by Vanguard. Institutional clients whose accounts are recordkept by Vanguard may hold Signal Shares if they meet eligibility criteria established by Vanguard management. These eligibility criteria include, but are not limited to the following factors, which may be changed at any time and without prior notice: (1) the total amount invested in the Fund must be greater than $15 million; (2) the amount of the client's underlying account balances in the Fund; and (3) the extent to which the client uses Fund and Vanguard account services. For purposes of this analysis, Vanguard management may consider clients whose aggregate assets within the Vanguard Funds are expected to generate substantial economies in the servicing of their accounts. o Accumulation Period. Accounts funded through regular contributions (e.g. employer sponsored participant contribution plans), whose assets are expected to quickly achieve eligibility levels, may qualify for Signal Shares upon account creation, rather than undergoing the conversion process shortly after account set-up if Vanguard management determines that the account will become eligible for Signal Shares within a limited period of time (generally 90 days). The accumulation period eligibility is subject to the discretion of Vanguard management. Institutional Shares - Eligibility Requirements Institutional Shares generally require a minimum initial investment and ongoing account balance of $5,000,000. However, Vanguard also reserves the right to establish higher or lower minimum amounts for certain investors or a group of investors. Institutional Share class eligibility also is subject to the following special rules: o Vanguard Short-Term Investment Grade Fund - $50,000,000 minimum amount for Institutional Shares o Vanguard Long-Term Bond Index Fund -- $25,000,000 minimum amount for Institutional Shares o Vanguard Intermediate-Term Bond Index Fund -- $25,000,000 minimum amount for Institutional Shares o Individual clients. Individual clients may hold Institutional Shares by aggregating up to 3 accounts held by the same client (same tax I.D. number) in a single Fund. o Institutional intermediary clients. Institutional clients that are financial intermediaries generally may hold Institutional Shares for the benefit of their underlying clients provided that each underlying client account invests at least $5 million (or such higher minimum required by the individual fund) in the Fund. o Institutional clients whose accounts are not recordkept by Vanguard. Institutional clients, including but not limited to financial intermediary and defined benefit and contribution plan clients, endowments, and foundations whose accounts are not recordkept by Vanguard may hold Institutional Shares if the total amount aggregated among all accounts held by such client and invested in the Fund is at least $5 million (or such higher minimum required by the individual fund). Such institutional clients must disclose to Vanguard on behalf of their accounts the following: (1) that each account has a common decision-maker; and (2) the total balance in each account held by the client in the Fund. o Institutional clients whose accounts are recordkept by Vanguard - Institutional Shares are not available to institutional clients whose accounts are recordkept by Vanguard unless Vanguard management determines that the client's aggregate assets within a Fund as well as the extent to which the client uses Fund and Vanguard account services will likely generate substantial economies in the servicing of their accounts. o Investment by Vanguard Target Retirement Collective Trust. A Vanguard Target Retirement Trust that is a collective trust exempt from regulation under the Investment Company Act and that seeks to achieve its investment objective by investing in underlying Vanguard Funds (a "TRT") may hold Institutional Shares of an underlying Fund whether or not its investment meets the minimum investment threshold specified above. o Accumulation Period -- Accounts funded through regular contributions (e.g. employer sponsored participant contribution plans), whose assets are expected to quickly achieve eligibility levels, may qualify for Institutional Shares upon account creation, rather than undergoing the conversion process shortly after account set-up if Vanguard management determines that the account will become eligible for Institutional Shares within a limited period of time (generally 90 days). The accumulation period eligibility is subject to the discretion of Vanguard management. Institutional Plus Shares - Eligibility Requirements Institutional Plus Shares generally require a minimum initial investment and ongoing account balance of $100,000,000. However, Vanguard also reserves the right to establish higher or lower minimum amounts for certain investors or a group of investors. Institutional Plus Share class eligibility also is subject to the following special rules: o Financial Intermediaries - Institutional Plus Shares are not available to financial intermediaries who would meet the eligibility requirements by aggregating the holdings of underlying investors. However, a financial intermediary may hold Institutional Plus Shares in an omnibus account if: (1) each underlying investor in the omnibus account individually meets the investment minimum amount described above; and (2) the financial intermediary agrees to monitor ongoing compliance of the underlying investor accounts with the investment minimum amount; or (3) a sub-accounting arrangement between Vanguard and the financial intermediary for the omnibus account allows Vanguard to monitor compliance with the eligibility requirements established by Vanguard. o VISTA - Institutional Plus Shares are not available to participants in employee benefit plans that utilize Vanguard's VISTA system for plan recordkeeping, unless Vanguard management determines that a plan sponsor's aggregate assets within the Vanguard Funds will likely generate substantial economies in the servicing of their accounts. o Account Aggregation - Vanguard clients may hold Institutional Plus Shares by aggregating up to three separate accounts within the same Vanguard Fund, provided that the total balance of the aggregated accounts in the Fund meets the minimum investment for the Fund's Institutional Plus Shares. For purposes of this rule, Vanguard management is authorized to permit aggregation of a greater number of accounts in the case of clients whose aggregate assets within the Vanguard Funds are expected to generate substantial economies in the servicing of their accounts. The aggregation rule does not apply to clients receiving special recordkeeping or sub-accounting services from Vanguard, nor does it apply to nondiscretionary omnibus accounts maintained by financial intermediaries. o Accumulation Period - Accounts funded through regular contributions e.g. employer sponsored participant contribution plans), whose assets are expected to quickly achieve eligibility levels, may qualify for Institutional Plus Shares upon account creation, rather than undergoing the conversion process shortly after account set-up if Vanguard management determines that the account will become eligible for Institutional Plus Shares within a limited period of time (generally 90 days). o Asset Allocation Models - Vanguard clients with defined asset allocation models whose assets meet eligibility requirements may qualify for Institutional Plus Shares if such models comply with policies and procedures that have been approved by Vanguard management. ETF Shares - Eligibility Requirements The eligibility requirements for ETF Shares will be set forth in the Fund's Registration Statement. To be eligible to purchase ETF Shares directly from a Fund, an investor must be (or must purchase through) an Authorized DTC Participant, as defined in Paragraph III.D of the Multiple Class Plan. Investors purchasing ETF Shares from a Fund must purchase a minimum number of shares, known as a Creation Unit. The number of ETF Shares in a Creation Unit may vary from Fund to Fund, and will be set forth in the relevant prospectus. The value of a Fund's Creation Unit will vary with the net asset value of the Fund's ETF Shares, but is expected to be several million dollars. An eligible investor generally must purchase a Creation Unit by depositing a prescribed basket of securities with the Fund, rather than paying cash. Original Board Approval: July 21, 2000 Last Approved by Board: May 18, 2007 -----END PRIVACY-ENHANCED MESSAGE-----