-----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, UYx4V6FAP/TCY1Tg8T2smPKClH4WVFqbCfNu9tslH7IVsgyKJYqTd33QK1EQqelj o94JWB2O7CrW+vjUX4WNHw== 0001047469-98-016810.txt : 19980430 0001047469-98-016810.hdr.sgml : 19980430 ACCESSION NUMBER: 0001047469-98-016810 CONFORMED SUBMISSION TYPE: 485BPOS PUBLIC DOCUMENT COUNT: 8 FILED AS OF DATE: 19980428 EFFECTIVENESS DATE: 19980428 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: PRUDENTIAL GOVERNMENT INCOME FUND INC CENTRAL INDEX KEY: 0000717819 STANDARD INDUSTRIAL CLASSIFICATION: UNKNOWN SIC - 0000 [0000] IRS NUMBER: 133165671 STATE OF INCORPORATION: MD FISCAL YEAR END: 0228 FILING VALUES: FORM TYPE: 485BPOS SEC ACT: SEC FILE NUMBER: 002-82976 FILM NUMBER: 98603157 FILING VALUES: FORM TYPE: 485BPOS SEC ACT: SEC FILE NUMBER: 811-03712 FILM NUMBER: 98603158 BUSINESS ADDRESS: STREET 1: ONE SEAPORT PLZ CITY: NEW YORK STATE: NY ZIP: 10292 BUSINESS PHONE: 2122141250 MAIL ADDRESS: STREET 1: ONE SEAPORT PLAZA CITY: NEW YORK STATE: NY ZIP: 10292 FORMER COMPANY: FORMER CONFORMED NAME: PRUDENTIAL BACHE GOVERNMENT PLUS FUND INC DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: PRUDENTIAL BACHE TELECOMMUNICATIONS FUND INC DATE OF NAME CHANGE: 19850127 485BPOS 1 485BPOS AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON APRIL 28, 1998 REGISTRATION NOS. 2-82976 811-3712 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM N-1A REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 PRE-EFFECTIVE AMENDMENT NO. / / POST-EFFECTIVE AMENDMENT NO. 25 /X/ AND/OR REGISTRATION STATEMENT UNDER THE INVESTMENT COMPANY ACT OF 1940 AMENDMENT NO. 28 /X/ (Check appropriate box or boxes) ------------------------ PRUDENTIAL GOVERNMENT INCOME FUND, INC. (Exact name of registrant as specified in charter) GATEWAY CENTER THREE, 100 MULBERRY STREET NEWARK, NEW JERSEY 07102-4077 (Address of Principal Executive Offices) (Zip Code) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (973) 367-7530 S. JANE ROSE, ESQ. GATEWAY CENTER THREE, 100 MULBERRY STREET NEWARK, NEW JERSEY 07102-4077 (NAME AND ADDRESS OF AGENT FOR SERVICE) APPROXIMATE DATE OF PROPOSED PUBLIC OFFERING: AS SOON AS PRACTICABLE AFTER THE EFFECTIVE DATE OF THE REGISTRATION STATEMENT. IT IS PROPOSED THAT THIS FILING WILL BECOME EFFECTIVE (CHECK APPROPRIATE BOX): /X/ immediately upon filing pursuant to paragraph (b) / / on pursuant to paragraph (b) / / 60 days after filing pursuant to paragraph (a)(1) / / on (date) pursuant to paragraph (a)(1) / / 75 days after filing pursuant to paragraph (a)(2) / / on (date) pursuant to paragraph (a)(2) of Rule 485. If appropriate, check the following box: / / This post-effective amendment designates a new effective date for a previously filed post-effective amendment.
Shares of Common Stock, par value $.01 Title of Securities Being Registered.............. per share.
- -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- CROSS REFERENCE SHEET (AS REQUIRED BY RULE 495)
N-1A ITEM NO. LOCATION - ---------------------------------------------------------------------------- ------------------------------------ PART A Item 1. Cover Page....................................................... Cover Page Item 2. Synopsis......................................................... Fund Expenses; Fund Highlights Item 3. Condensed Financial Information.................................. Fund Expenses; Financial Highlights Item 4. General Description of Registrant................................ Cover Page; Fund Highlights; How the Fund Invests; How the Fund is Managed; General Information Item 5. Management of the Fund........................................... Financial Highlights; How the Fund is Managed; General Information; Shareholder Guide Item 5A. Management's Discussion of Fund Performance...................... Not Applicable Item 6. Capital Stock and Other Securities............................... Taxes, Dividends and Distributions; General Information; Shareholder Guide Item 7. Purchase of Securities Being Offered............................. Shareholder Guide; How the Fund Values its Shares; How the Fund is Managed Item 8. Redemption or Repurchase......................................... Shareholder Guide; How the Fund Values its Shares; General Information Item 9. Pending Legal Proceedings........................................ Not Applicable PART B Item 10. Cover Page....................................................... Cover Page Item 11. Table of Contents................................................ Table of Contents Item 12. General Information and History.................................. General Information Item 13. Investment Objectives and Policies............................... Investment Objective and Policies; Investment Restrictions Item 14. Management of the Fund........................................... Directors and Officers; Manager; Distributor Item 15. Control Persons and Principal Holders of Securities.............. Not Applicable Item 16. Investment Advisory and Other Services........................... Manager; Distributor; Custodian, Transfer and Dividend Disbursing Agent and Independent Accountants Item 17. Brokerage Allocation and Other Practices......................... Portfolio Transactions and Brokerage Item 18. Capital Stock and Other Securities............................... Not Applicable Item 19. Purchase, Redemption and Pricing of Securities Being Offered..... Purchase and Redemption of Fund Shares; Shareholder Investment Account Item 20. Tax Status....................................................... Taxes, Dividends and Distributions Item 21. Underwriters..................................................... Distributor Item 22. Calculation of Performance Data.................................. Performance Information Item 23. Financial Statements............................................. Financial Statements
PART C Information required to be included in Part C is set forth under the appropriate Item, so numbered, in Part C to this Post-Effective Amendment to the Registration Statement. PRUDENTIAL GOVERNMENT INCOME FUND, INC. - ------------------------------------ PROSPECTUS DATED APRIL 30, 1998 - ---------------------------------------------------------------- Prudential Government Income Fund, Inc. (the Fund), is an open-end, diversified, management investment company, or mutual fund, which has as its investment objective the seeking of a high current return. The Fund will seek to achieve this objective primarily by investing in U.S. Government securities, including U.S. Treasury Bills, Notes, Bonds and other debt securities issued by the U.S. Treasury, and obligations issued or guaranteed by U.S. Government agencies or instrumentalities, and by engaging in various derivative transactions such as the purchase and sale of put and call options. In an effort to hedge against changes in interest rates and thus preserve its capital, the Fund may also engage in transactions involving futures contracts on U.S. Government securities and options on such futures. See "How the Fund Invests--Investment Objective and Policies." There can be no assurance that the Fund's investment objective will be achieved. The Fund's address is Gateway Center Three, 100 Mulberry Street, Newark, New Jersey 07102-4077, and its telephone number is (800) 225-1852. This Prospectus sets forth concisely the information about the Fund that a prospective investor should know before investing and is available at the Web site of the Prudential Insurance Company of America (http://www.prudential.com). Additional information about the Fund has been filed with the Securities and Exchange Commission (the Commission) in a Statement of Additional Information, dated April 30, 1998, which information is incorporated herein by reference (is legally considered a part of this Prospectus) and is available without charge upon request to the Fund at the address or telephone number noted above. The Commission maintains a Web site (http://www.sec.gov) that contains the Statement of Additional Information, material incorporated by reference and other information regarding the Fund. - -------------------------------------------------------------------------------- INVESTORS ARE ADVISED TO READ THIS PROSPECTUS AND RETAIN IT FOR FUTURE REFERENCE. - -------------------------------------------------------------------------------- THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION NOR HAS THE COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. FUND HIGHLIGHTS The following summary is intended to highlight certain information contained in this Prospectus and is qualified in its entirety by the more detailed information appearing elsewhere herein. WHAT IS PRUDENTIAL GOVERNMENT INCOME FUND, INC.? Prudential Government Income Fund, Inc. is a mutual fund. A mutual fund pools the resources of investors by selling its shares to the public and investing the proceeds of such sale in a portfolio of securities designed to achieve its investment objective. Technically, the Fund is an open-end, diversified, management investment company. WHAT IS THE FUND'S INVESTMENT OBJECTIVE? The Fund's investment objective is to seek a high current return. The Fund seeks to achieve its objective primarily by investing in U.S. Government securities, including U.S. Treasury Bills, Notes, Bonds, and other debt securities issued by the U.S. Treasury, and obligations issued or guaranteed by U.S. Government agencies or instrumentalities. The Fund may also write covered call options and covered put options and purchase put and call options. There can be no assurance that the Fund's investment objective will be achieved. See "How the Fund Invests--Investment Objective and Policies" at page 9. WHAT ARE THE FUND'S RISK FACTORS AND SPECIAL CHARACTERISTICS? The Fund may engage in short selling and use leverage, including reverse repurchase agreements, dollar rolls and bank borrowings, which entail additional risks to the Fund. See "How the Fund Invests--Other Investment Information" at page 15. The Fund may also engage in various hedging and income enhancement strategies, including derivative transactions such as the purchase and sale of put and call options on U.S. Government securities, transactions involving futures contracts on U.S. Government securities and options on such futures contracts and in interest rate swap transactions. See "How the Fund Invests--Other Investments and Policies" at page 11. As with an investment in any mutual fund, an investment in this Fund can decrease in value and you can lose money. WHO MANAGES THE FUND? Prudential Investments Fund Management LLC (PIFM or the Manager) is the Manager of the Fund and is compensated for its services at an annual rate of .50 of 1% of the Fund's average daily net assets up to $3 billion and .35 of 1% of the average daily net assets in excess of $3 billion. As of March 31, 1998, PIFM served as manager or administrator to 65 investment companies, including 43 mutual funds, with aggregate assets of approximately $64.8 billion. The Prudential Investment Corporation (PIC), doing business as Prudential Investments (the Subadviser), furnishes investment advisory services in connection with the management of the Fund under a Subadvisory Agreement with PIFM. See "How the Fund is Managed--Manager" at page 17. WHO DISTRIBUTES THE FUND'S SHARES? Prudential Securities Incorporated (Prudential Securities or the Distributor), a major securities underwriter and securities and commodities broker, acts as the Distributor of the Fund's shares. The Distributor is paid an annual distribution and service fee which is currently being charged at an annual rate of .15 of 1% of the average daily net assets of the Class A shares, at an annual rate of .825 of 1% of the average daily net assets of the Class B shares and at an annual rate of .75 of 1% of the average daily net assets of the Class C shares. The Distributor incurs the expense of distributing the Fund's Class Z shares under a Distribution Agreement with the Fund, none of which is reimbursed or paid for by the Fund. See "How the Fund is Managed--Distributor" at page 18. 2 WHAT IS THE MINIMUM INVESTMENT? The minimum initial investment is $1,000 for Class A and Class B shares per class and $5,000 for Class C shares. The minimum subsequent investment is $100 for Class A, Class B and Class C shares. Class Z shares are not subject to any minimum investment requirements. There is no minimum investment requirement for certain retirement and employee savings plans or custodial accounts for the benefit of minors. For purchases made through the Automatic Savings Accumulation Plan, the minimum initial and subsequent investment is $50. See "Shareholder Guide--How to Buy Shares of the Fund" at page 24 and "Shareholder Guide--Shareholder Services" at page 33. HOW DO I PURCHASE SHARES? You may purchase shares of the Fund through Prudential Securities, Pruco Securities Corporation (Prusec) or directly from the Fund, through its transfer agent, Prudential Mutual Fund Services LLC (PMFS or the Transfer Agent) at the net asset value per share (NAV) next determined after receipt of your purchase order by the Transfer Agent or Prudential Securities plus a sales charge which may be imposed either (i) at the time of purchase (Class A shares) or (ii) on a deferred basis (Class B or Class C shares). Class Z shares are offered to a limited group of investors at NAV without any sales charge. See "How the Fund Values its Shares" at page 20 and "Shareholder Guide--How to Buy Shares of the Fund" at page 24. WHAT ARE MY PURCHASE ALTERNATIVES? The Fund offers four classes of shares: - Class A Shares: Sold with an initial sales charge of up to 4% of the offering price. - Class B Shares: Sold without an initial sales charge but are subject to a contingent deferred sales charge or CDSC (declining from 5% to zero of the lower of the amount invested or the redemption proceeds) which will be imposed on certain redemptions made within six years of purchase. Although Class B shares are subject to higher ongoing distribution-related expenses than Class A shares, Class B shares will automatically convert to Class A shares (which are subject to lower ongoing distribution-related expenses) approximately seven years after purchase. - Class C Shares: Sold without an initial sales charge and for one year after purchase, are subject to a 1% CDSC on redemptions. Class C shares are subject to higher ongoing distribution-related expenses than Class A shares but, unlike Class B shares, do not convert to another class. - Class Z Shares: Sold without either an initial sales charge or CDSC to a limited group of investors. Class Z shares are not subject to any ongoing service or distribution expenses. See "Shareholder Guide--Alternative Purchase Plan" at page 25. HOW DO I SELL MY SHARES? You may redeem your shares at any time at the NAV next determined after Prudential Securities or the Transfer Agent receives your sell order. However, the proceeds of redemptions of Class B and Class C shares may be subject to a CDSC. See "Shareholder Guide--How to Sell Your Shares" at page 28. Participants in programs sponsored by Prudential Retirement Services should contact their client representative for more information about selling their Class Z shares. HOW ARE DIVIDENDS AND DISTRIBUTIONS PAID? The Fund expects to declare daily and pay monthly dividends of net investment income and make distributions of any net capital gains at least annually. Dividends and distributions will be automatically reinvested in additional shares of the Fund at NAV without a sales charge unless you request that they be paid to you in cash. See "Taxes, Dividends and Distributions" at page 21. 3 FUND EXPENSES
CLASS A SHARES CLASS B SHARES CLASS C SHARES CLASS Z SHARES -------------- ------------------------------ --------------------------- -------------- SHAREHOLDER TRANSACTION EXPENSES+ Maximum Sales Load Imposed on Purchases (as a percentage of offering price)..................... 4% None None None Maximum Sales Load Imposed on Reinvested Dividends.... None None None None Maximum Deferred Sales Load (as a percentage of original purchase price or redemption proceeds, whichever is lower)........ None 5% during the first year, 1% on redemptions made None decreasing by within one year of purchase 1% annually to 1% in the fifth and sixth years and 0% in the seventh year* Redemption Fees............. None None None None Exchange Fee................ None None None None
CLASS A SHARES CLASS B SHARES CLASS C SHARES CLASS Z SHARES -------------- -------------- -------------- --------------- ANNUAL FUND OPERATING EXPENSES (as a percentage of average net assets) Management Fees..................... .50% .50% .50% .50% 12b-1 Fees (After Reduction)........ .15%++ .825%++ .75%++ None Other Expenses...................... .21% .21% .21% .21% --- ----- --- --- Total Fund Operating Expenses (After Reduction)......................... .86% 1.535% 1.46% .71% --- ----- --- --- --- ----- --- ---
1 YEAR 3 YEARS 5 YEARS 10 YEARS ------ ------- ------- -------- EXAMPLE You would pay the following expenses on a $1,000 investment, assuming (1) 5% annual return and (2) redemption at the end of each time period: Class A............................. $48 $66 $ 86 $142 Class B............................. $66 $78 $ 94 $156 Class C............................. $25 $46 $ 80 $175 Class Z............................. $ 7 $23 $ 40 $ 88 You would pay the following expenses on the same investment, assuming no redemption: Class A............................. $48 $66 $ 86 $142 Class B............................. $16 $48 $ 84 $156 Class C............................. $15 $46 $ 80 $175 Class Z............................. $ 7 $23 $ 40 $ 88
The above example is based on data for the Fund's fiscal year ended February 28, 1998. THE EXAMPLE SHOULD NOT BE CONSIDERED A REPRESENTATION OF PAST OR FUTURE EXPENSES. ACTUAL EXPENSES MAY BE GREATER OR LESS THAN THOSE SHOWN. The purpose of this table is to assist investors in understanding the various costs and expenses that an investor in the Fund will bear, whether directly or indirectly. For more complete descriptions of the various costs and expenses, see "How the Fund is Managed." "Other Expenses" include operating expenses of the Fund, such as Directors' and professional fees, registration fees, reports to shareholders and transfer agency and custodian fees. - --------------- * Class B shares will automatically convert to Class A shares approximately seven years after purchase. See "Shareholder Guide--Conversion Feature-- Class B Shares." + Pursuant to rules of the National Association of Securities Dealers, Inc., the aggregate initial sales charges, deferred sales charges and asset-based sales charges on shares of the Fund may not exceed 6.25% of total gross sales, subject to certain exclusions. This 6.25% limitation is imposed on each class of the Fund rather than on a per shareholder basis. Therefore, long-term shareholders of the Fund may pay more in total sales charges than the economic equivalent of 6.25% of such shareholders' investment in such shares. See "How the Fund is Managed--Distributor." ++ Although the Class A, Class B and Class C Distribution and Service Plans provide that the Fund may pay a distribution fee of up to .30 of 1% per annum of the average daily net assets of the Class A shares, up to 1% per annum of the average daily net assets of the Class B shares up to $3 billion, .80 of 1% of the next $1 billion, and .50 of 1% of assets in excess of $4 billion, and up to 1% of the Class C shares, the Distributor has agreed to limit its distribution fees with respect to Class A shares of the Fund to no more than .15 of 1% of the average daily net assets of the Class A shares, to no more than .825 of 1% of the average daily net assets of the Class B shares and to no more than .75 of 1% of the average daily net assets of the Class C shares for the fiscal year ending February 28, 1999. Total Fund Operating Expenses without such limitations would be 1.01% for Class A shares and 1.71% for Class B and Class C shares. See "How the Fund is Managed--Distributor." 4 FINANCIAL HIGHLIGHTS (FOR A SHARE OUTSTANDING THROUGHOUT EACH OF THE PERIODS INDICATED) (CLASS A SHARES) The following financial highlights for the fiscal year ended February 28, 1998, have been audited by Price Waterhouse LLP, independent accountants, and by Deloitte & Touche LLP, independent auditors, for the periods ended February 28, 1997. Each of the respective reports by Price Waterhouse LLP and Deloitte & Touche LLP on such financial highlights were unqualified. This information should be read in conjunction with the financial statements and the notes thereto, which appear in the Statement of Additional Information. The financial highlights contain selected data for a Class A share of common stock outstanding, total return, ratios to average net assets and other supplemental data for the periods indicated. The information has been determined based on data contained in the financial statements. Further performance information is contained in the annual report, which may be obtained without charge. See "Shareholder Guide--Shareholder Services--Reports to Shareholders."
CLASS A ---------------------------------------------------------------------------------------- JANUARY 22, 1990(a) YEARS ENDED FEBRUARY 28/29, THROUGH -------------------------------------------------------------------------- FEBRUARY 28, 1998 1997 1996 1995 1994 1993 1992 1991 1990 -------- -------- -------- -------- -------- ------- ------- ------- ------------- PER SHARE OPERATING PERFORMANCE: Net asset value, beginning of period.... $ 8.76 $ 9.04 $ 8.59 $ 9.13 $ 9.40 $ 9.17 $ 9.02 $ 9.00 $ 9.17 -------- -------- -------- -------- -------- ------- ------- ------- ------ INCOME FROM INVESTMENT OPERATIONS Net investment income................... 0.58 0.60 0.60 0.59 0.61 0.66 0.68 0.69 0.06 Net realized and unrealized gain (loss) on investment transactions............ 0.29 (0.28) 0.45 (0.54) (0.25) 0.35 0.37 0.26 (0.11) -------- -------- -------- -------- -------- ------- ------- ------- ------ Total from investment operations........ 0.87 0.32 1.05 0.05 0.36 1.01 1.05 0.95 (0.05) -------- -------- -------- -------- -------- ------- ------- ------- ------ LESS DISTRIBUTIONS Dividends from net investment income.... (0.58) (0.60) (0.60) (0.59) (0.61) (0.66) (0.68) (0.69) (0.06) Distributions in excess of accumulated gains................................. -- -- -- -- (0.02) -- -- -- -- Distributions from paid-in capital in excess of par......................... -- -- -- -- -- (0.12) (0.22) (0.24) (0.06) -------- -------- -------- -------- -------- ------- ------- ------- ------ Total distributions..................... (0.58) (0.60) (0.60) (0.59) (0.63) (0.78) (0.90) (0.93) (0.12) -------- -------- -------- -------- -------- ------- ------- ------- ------ Net asset value, end of period.......... $ 9.05 $ 8.76 $ 9.04 $ 8.59 $ 9.13 $ 9.40 $ 9.17 $ 9.02 $ 9.00 -------- -------- -------- -------- -------- ------- ------- ------- ------ -------- -------- -------- -------- -------- ------- ------- ------- ------ TOTAL RETURN(B):........................ 10.26% 3.70% 12.41% .83% 3.90% 11.55% 12.18% 11.21% (0.54)% RATIOS/SUPPLEMENTAL DATA: Net assets, end of period (000)......... $819,536 $860,319 $945,038 $871,145 $ 51,673 $61,297 $33,181 $28,971 $1,961 Average net assets (000)................ $842,431 $884,862 $909,169 $ 95,560 $ 55,921 $46,812 $29,534 $23,428 $ 501 Ratios to average net assets: Expenses, including distribution fees................................. 0.86% 0.90% 0.91% 0.98% 0.84% 0.84% 0.86% 0.85% 0.92%(c) Expenses, excluding distribution fees................................. 0.71% 0.75% 0.76% 0.83% 0.69% 0.69% 0.71% 0.70% 0.76%(c) Net investment income................. 6.52% 6.78% 6.65% 7.45% 6.48% 7.17% 7.51% 7.76% 9.11%(c) Portfolio turnover rate................. 88% 107% 123% 206% 80% 36% 187% 213% 329%
- --------------- (a) Commencement of offering of Class A shares. (b) Total return does not consider the effects of sales loads. Total return is calculated assuming a purchase of shares on the first day and a sale on the last day of each period reported and includes reinvestment of dividends and distributions. Total returns for periods of less than a full year are not annualized. (c) Annualized. 5 FINANCIAL HIGHLIGHTS (FOR A SHARE OUTSTANDING THROUGHOUT EACH OF THE YEARS INDICATED) (CLASS B SHARES) The following financial highlights, for the fiscal year ended February 28, 1998, have been audited by Price Waterhouse LLP, independent accountants, and by Deloitte & Touche LLP, independent auditors, for the periods ended February 28, 1997. Each of the respective reports by Price Waterhouse LLP and Deloitte & Touche LLP on such financial highlights were unqualified. This information should be read in conjunction with the financial statements and the notes thereto, which appear in the Statement of Additional Information. The financial highlights contain selected data for a Class B share of common stock outstanding, total return, ratios to average net assets and other supplemental data for the years indicated. This information has been determined based on data contained in the financial statements. Further performance information is contained in the annual report, which may be obtained without charge. See "Shareholder Guide--Shareholder Services--Reports to Shareholders."
CLASS B --------------------------------------------------------------------- YEARS ENDED FEBRUARY 28/29, --------------------------------------------------------------------- 1998 1997 1996 1995 1994 1993 -------- -------- -------- ---------- ---------- ---------- PER SHARE OPERATING PERFORMANCE: Net asset value, beginning of year................ $ 8.77 $ 9.04 $ 8.60 $ 9.13 $ 9.40 $ 9.17 -------- -------- -------- ---------- ---------- ---------- INCOME FROM INVESTMENT OPERATIONS Net investment income............................. 0.52 0.54 0.54 0.53 0.53 0.58 Net realized and unrealized gain (loss) on investment transactions......................... 0.28 (0.27) 0.44 (0.53) (0.25) 0.35 -------- -------- -------- ---------- ---------- ---------- Total from investment operations.................. 0.80 0.27 0.98 -- 0.28 0.93 -------- -------- -------- ---------- ---------- ---------- LESS DISTRIBUTIONS Dividends from net investment income.............. (0.52) (0.54) (0.54) (0.53) (0.53) (0.58) Distributions in excess of accumulated gains...... -- -- -- -- (0.02) -- Distributions from paid-in capital in excess of par............................................. -- -- -- -- -- (0.12) -------- -------- -------- ---------- ---------- ---------- Total distributions............................... (0.52) (0.54) (0.54) (0.53) (0.55) (0.70) -------- -------- -------- ---------- ---------- ---------- Net asset value, end of year...................... $ 9.05 $ 8.77 $ 9.04 $ 8.60 $ 9.13 $ 9.40 -------- -------- -------- ---------- ---------- ---------- -------- -------- -------- ---------- ---------- ---------- TOTAL RETURN:(A).................................. 9.40% 3.12% 11.54% .24% 3.03% 10.61% RATIOS/SUPPLEMENTAL DATA: Net assets, end of year (000)..................... $346,059 $461,988 $641,946 $ 705,732 $2,202,555 $2,680,259 Average net assets (000).......................... $385,145 $543,796 $647,515 $1,735,413 $2,487,990 $2,670,924 Ratios to average net assets: Expenses, including distribution fees........... 1.53% 1.57% 1.58% 1.66% 1.68% 1.69% Expenses, excluding distribution fees........... 0.71% 0.75% 0.76% 0.80% 0.69% 0.69% Net investment income........................... 5.85% 6.11% 5.99% 6.17% 5.64% 6.32% Portfolio turnover rate........................... 88% 107% 123% 206% 80% 36% 1992 1991 1990 1989 ---------- ---------- ---------- ---------- PER SHARE OPERATING PERFORMANCE: Net asset value, beginning of year................ $ 9.02 $ 9.00 $ 9.09 $ 9.85 ---------- ---------- ---------- ---------- INCOME FROM INVESTMENT OPERATIONS Net investment income............................. 0.60 0.62 0.68 0.69 Net realized and unrealized gain (loss) on investment transactions......................... 0.37 0.26 0.15 (0.49) ---------- ---------- ---------- ---------- Total from investment operations.................. 0.97 0.88 0.83 0.20 ---------- ---------- ---------- ---------- LESS DISTRIBUTIONS Dividends from net investment income.............. (0.60) (0.62) (0.68) (0.69) Distributions in excess of accumulated gains...... -- -- -- -- Distributions from paid-in capital in excess of par............................................. (0.22) (0.24) (0.24) (0.27) ---------- ---------- ---------- ---------- Total distributions............................... (0.82) (0.86) (0.92) (0.96) ---------- ---------- ---------- ---------- Net asset value, end of year...................... $ 9.17 $ 9.02 $ 9.00 $ 9.09 ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- TOTAL RETURN:(A).................................. 11.27% 10.35% 10.49% 2.32% RATIOS/SUPPLEMENTAL DATA: Net assets, end of year (000)..................... $2,724,428 $3,127,587 $3,760,003 $3,814,945 Average net assets (000).......................... $2,903,704 $3,432,948 $3,814,455 $3,984,300 Ratios to average net assets: Expenses, including distribution fees........... 1.71% 1.67% 1.49% 1.35% Expenses, excluding distribution fees........... 0.71% 0.70% 0.64% 0.63% Net investment income........................... 6.66% 6.94% 7.46% 7.61% Portfolio turnover rate........................... 187% 213% 329% 278%
- ----------------- (a) Total return does not consider the effects of sales loads. Total return is calculated assuming a purchase of shares on the first day and a sale on the last day of each year reported and includes reinvestment of dividends and distributions. 6 FINANCIAL HIGHLIGHTS (FOR A SHARE OUTSTANDING THROUGHOUT EACH OF THE PERIODS INDICATED) (CLASS C SHARES) The following financial highlights, for the fiscal year ended February 28, 1998, have been audited by Price Waterhouse LLP, independent accountants, and by Deloitte & Touche LLP, independent auditors, for the period ended February 28, 1997. Each of the respective reports by Price Waterhouse LLP and Deloitte & Touche LLP on such financial highlights were unqualified. This information should be read in conjunction with the financial statements and the notes thereto, which appear in the Statement of Additional Information. The financial highlights contain selected data for a Class C share of common stock outstanding, total return, ratios to average net assets and other supplemental data for the periods indicated. This information has been determined based on data contained in the financial statements. Further performance information is contained in the annual report, which may be obtained without charge. See "Shareholder Guide--Shareholder Services--Reports to Shareholders."
CLASS C --------------------------------------------- AUGUST 1, 1994 (a) YEARS ENDED FEBRUARY 28, THROUGH ----------------------------- FEBRUARY 28, 1998 1997 1996 1995 -------- -------- ------- ------------- PER SHARE OPERATING PERFORMANCE: Net asset value, beginning of period.............. $ 8.77 $ 9.04 $ 8.60 $ 8.69 -------- -------- ------- ----- INCOME FROM INVESTMENT OPERATIONS Net investment income............................. 0.53 0.54 0.54 0.31 Net realized and unrealized gain (loss) on investment transactions......................... 0.28 (0.27) 0.44 (0.09) -------- -------- ------- ----- Total from investment operations.................. 0.81 0.27 0.98 0.22 -------- -------- ------- ----- LESS DISTRIBUTIONS Dividends from net investment income.............. (0.53) (0.54) (0.54) (0.31) -------- -------- ------- ----- Net asset value, end of period.................... $ 9.05 $ 8.77 $ 9.04 $ 8.60 -------- -------- ------- ----- -------- -------- ------- ----- TOTAL RETURN (B):................................. 9.48% 3.20% 11.63% 2.75% RATIOS/SUPPLEMENTAL DATA: Net assets, end of period (000)................... $ 2,840 $ 2,569 $ 1,799 $ 204 Average net assets (000).......................... $ 2,523 $ 2,440 $ 765 $ 111 Ratios to average net assets: Expenses, including distribution fees........... 1.46% 1.50% 1.51% 1.63%(c) Expenses, excluding distribution fees........... 0.71% 0.75% 0.76% 0.88%(c) Net investment income........................... 5.92% 6.19% 5.99% 6.69%(c) Portfolio turnover rate........................... 88% 107% 123% 206%
- ------------ (a) Commencement of offering of Class C shares. (b) Total return does not consider the effects of sales loads. Total return is calculated assuming a purchase of shares on the first day and a sale on the last day of the period reported and includes reinvestment of dividends and distributions. Total returns for periods of less than a full year are not annualized. (c) Annualized. 7 FINANCIAL HIGHLIGHTS (FOR A SHARE OUTSTANDING THROUGHOUT THE PERIOD INDICATED) (CLASS Z SHARES) The following financial highlights, for the fiscal year ended February 28, 1998, have been audited by Price Waterhouse LLP, independent accountants, and by Deloitte & Touche LLP, independent auditors, for the period from March 1, 1996 through February 28, 1997. Each of the respective reports by Price Waterhouse LLP and Deloitte & Touche LLP on such financial highlights were unqualified. This information should be read in conjunction with the financial statements and the notes thereto, which appear in the Statement of Additional Information. The financial highlights contain selected data for a Class Z share of common stock outstanding, total return, ratios to average net assets and other supplemental data for the period indicated. This information has been determined based on data contained in the financial statements. Further performance information is contained in the annual report, which may be obtained without charge. See "Shareholder Guide--Shareholder Services--Reports to Shareholders."
CLASS Z ------------------------------- MARCH 1, 1996 (a) YEAR ENDED THROUGH FEBRUARY 28, FEBRUARY 28, 1998 1997 -------------- -------------- PER SHARE OPERATING PERFORMANCE: Net asset value, beginning of period..................... $ 8.76 $ 9.13 ------- ------- INCOME FROM INVESTMENT OPERATIONS Net investment income.................................... 0.59 0.61 Net realized and unrealized gain (loss) on investment transactions........................................... 0.28 (0.37) ------- ------- Total from investment operations......................... 0.87 0.24 ------- ------- LESS DISTRIBUTIONS Dividends from net investment income..................... (0.59) (0.61) ------- ------- Net asset value, end of period........................... $ 9.04 $ 8.76 ------- ------- ------- ------- TOTAL RETURN (B):........................................ 10.30% 3.16% RATIOS/SUPPLEMENTAL DATA: Net assets, end of period (000).......................... $84,733 $73,411 Average net assets (000)................................. $71,425 $39,551 Ratios to average net assets: Expenses............................................... 0.71% 0.75%(c) Net investment income.................................. 6.67% 6.76%(c) Portfolio turnover rate.................................. 88% 107%
- ------------ (a) Commencement of offering of Class Z shares. (b) Total return does not consider the effects of sales loads. Total return is calculated assuming a purchase of shares on the first day and a sale on the last day of the period reported and includes reinvestment of dividends and distributions. Total returns for periods of less than a full year are not annualized. (c) Annualized. 8 HOW THE FUND INVESTS INVESTMENT OBJECTIVE AND POLICIES THE FUND'S INVESTMENT OBJECTIVE IS TO SEEK A HIGH CURRENT RETURN. THERE CAN BE NO ASSURANCE THAT THE FUND'S INVESTMENT OBJECTIVE WILL BE ACHIEVED. THE FUND WILL SEEK TO ACHIEVE ITS OBJECTIVE PRIMARILY BY INVESTING IN U.S. GOVERNMENT SECURITIES, INCLUDING U.S. TREASURY BILLS, NOTES, BONDS AND OTHER DEBT SECURITIES ISSUED BY THE U.S. TREASURY, AND OBLIGATIONS ISSUED OR GUARANTEED BY U.S. GOVERNMENT AGENCIES OR INSTRUMENTALITIES; WRITING COVERED CALL OPTIONS AND COVERED PUT OPTIONS AND PURCHASING PUT AND CALL OPTIONS. THESE GUARANTEES APPLY ONLY TO THE PAYMENT OF PRINCIPAL AND INTEREST ON THESE SECURITIES AND DO NOT EXTEND TO THE SECURITIES' YIELD OR VALUE, WHICH ARE LIKELY TO VARY WITH FLUCTUATIONS IN INTEREST RATES, NOR DO THE GUARANTEES EXTEND TO THE YIELD OR VALUE OF THE FUND'S SHARES. SEE "INVESTMENT OBJECTIVE AND POLICIES--U.S. GOVERNMENT SECURITIES--MORTGAGE-RELATED SECURITIES ISSUED BY U.S. GOVERNMENT AGENCIES AND INSTRUMENTALITIES" BELOW. UNDER NORMAL MARKET CONDITIONS, AT LEAST 65% OF THE TOTAL ASSETS OF THE FUND WILL BE INVESTED IN U.S. GOVERNMENT SECURITIES. THE FUND HAS NO LIMITATIONS WITH RESPECT TO THE MATURITIES OF PORTFOLIO SECURITIES IN WHICH IT MAY INVEST. HIGH CURRENT RETURN MEANS THE RETURN RECEIVED FROM INTEREST INCOME FROM U.S. GOVERNMENT AND OTHER DEBT SECURITIES AND FROM NET GAINS REALIZED FROM SALES OF PORTFOLIO SECURITIES. THE FUND MAY ALSO REALIZE INCOME FROM PREMIUMS FROM COVERED PUT AND CALL OPTIONS WRITTEN BY THE FUND ON U.S. GOVERNMENT SECURITIES AS WELL AS OPTIONS ON FUTURES CONTRACTS ON U.S. GOVERNMENT SECURITIES AND NET GAINS FROM CLOSING PURCHASE AND SALES TRANSACTIONS WITH RESPECT TO THESE OPTIONS. The writing of options on U.S. Government securities and options on futures contracts on U.S. Government securities may limit the Fund's potential for capital gains on its portfolio. See "Investment Objective and Policies" in the Statement of Additional Information. AS WITH AN INVESTMENT IN ANY MUTUAL FUND, AN INVESTMENT IN THIS FUND CAN DECREASE IN VALUE AND YOU CAN LOSE MONEY. THE FUND'S INVESTMENT OBJECTIVE IS A FUNDAMENTAL POLICY AND, THEREFORE, MAY NOT BE CHANGED WITHOUT THE APPROVAL OF THE HOLDERS OF A MAJORITY OF THE FUND'S OUTSTANDING VOTING SECURITIES AS DEFINED IN THE INVESTMENT COMPANY ACT OF 1940, AS AMENDED (THE INVESTMENT COMPANY ACT). FUND POLICIES THAT ARE NOT FUNDAMENTAL MAY BE MODIFIED BY THE BOARD OF DIRECTORS. The Fund's NAV will vary with changes in the values of the Fund's portfolio securities, which values will generally vary inversely with changes in interest rates. For temporary defensive purposes the Fund may invest up to 100% of its assets in cash, U.S. Government securities and high quality money market instruments. U.S. GOVERNMENT SECURITIES U.S. TREASURY SECURITIES THE FUND WILL INVEST IN U.S. TREASURY SECURITIES, INCLUDING BILLS, NOTES, BONDS AND OTHER DEBT SECURITIES ISSUED BY THE U.S. TREASURY. These instruments are direct obligations of the U.S. Government and, as such, are backed by the full faith and credit of the United States. They differ primarily in their interest rates, the lengths of their maturities and the dates of their issuances. SECURITIES ISSUED OR GUARANTEED BY U.S. GOVERNMENT AGENCIES AND INSTRUMENTALITIES THE FUND WILL INVEST IN SECURITIES ISSUED BY AGENCIES OF THE U.S. GOVERNMENT OR INSTRUMENTALITIES OF THE U.S. GOVERNMENT. These obligations, including those which are guaranteed by federal agencies or instrumentalities, may or may not be backed by the full faith and credit of the United States. Obligations of the Government National Mortgage Association (GNMA), the Farmers Home Administration and the Export-Import Bank are backed by the full faith and credit of the United States. In the 9 case of securities not backed by the full faith and credit of the United States, the Fund must look principally to the agency issuing or guaranteeing the obligation for ultimate repayment and may not be able to assert a claim against the United States if the agency or instrumentality does not meet its commitments. Securities in which the Fund may invest which are not backed by the full faith and credit of the United States include obligations such as those issued by the Tennessee Valley Authority, the Federal National Mortgage Association (FNMA), the Federal Home Loan Mortgage Corporation (FHLMC) and the United States Postal Service, each of which has the right to borrow from the United States Treasury to meet its obligations, and obligations of the Federal Farm Credit Bank and the Federal Home Loan Bank, the obligations of which may only be satisfied by the individual credit of the issuing agency. GNMA, FNMA and FHLMC investments may include collateralized mortgage obligations. See "Other Investments and Policies." OBLIGATIONS ISSUED OR GUARANTEED AS TO PRINCIPAL AND INTEREST BY THE UNITED STATES GOVERNMENT MAY BE ACQUIRED BY THE FUND IN THE FORM OF CUSTODIAL RECEIPTS THAT EVIDENCE OWNERSHIP OF FUTURE INTEREST PAYMENTS, PRINCIPAL PAYMENTS OR BOTH ON CERTAIN UNITED STATES TREASURY NOTES OR BONDS. Such notes and bonds are held in custody by a bank on behalf of the owners. These custodial receipts are commonly referred to as Treasury strips. MORTGAGE-RELATED SECURITIES ISSUED BY U.S. GOVERNMENT AGENCIES AND INSTRUMENTALITIES THE FUND WILL INVEST IN MORTGAGE-BACKED SECURITIES, INCLUDING THOSE REPRESENTING AN UNDIVIDED OWNERSHIP INTEREST IN A POOL OF MORTGAGES, E.G., GNMA, FNMA AND FHLMC CERTIFICATES. The U.S. Government or the issuing agency guarantees the payment of interest and principal of these securities. However, the guarantees do not extend to the securities' yield or value, which are likely to vary inversely with fluctuations in interest rates, nor do the guarantees extend to the yield or value of the Fund's shares. See "Investment Objective and Policies--U.S. Government Securities--Mortgage-Related Securities Issued by U.S. Government Instrumentalities" in the Statement of Additional Information. These certificates are in most cases pass-through instruments, through which the holder receives a share of all interest and principal payments from the mortgages underlying the certificate, net of certain fees. Because the prepayment characteristics of the underlying mortgages vary, it is not possible to predict accurately the average life of a particular issue of pass-through certificates. Mortgage-backed securities are often subject to more rapid repayment than their stated maturity date would indicate as a result of the pass-through of prepayments of principal on the underlying mortgage obligations. During periods of declining interest rates, prepayment of mortgages underlying mortgage-backed securities can be expected to accelerate. The Fund's ability to maintain a portfolio of high-yielding mortgage-backed securities will be adversely affected to the extent that prepayments of mortgages must be reinvested in securities which have lower yields than the prepaid mortgages. Moreover, prepayments of mortgages which underlie securities purchased at a premium could result in capital losses. During periods of rising interest rates, the rate of prepayment of mortgages underlying mortgage-backed securities can be expected to decline, extending the projected average maturity of the mortgage-backed securities. This maturity extension risk may effectively change a security which was considered short- or intermediate-term at the time of purchase into a long-term security. Long-term securities generally fluctuate more widely in response to changes in interest rates than short- or intermediate-term securities. THE FUND MAY ALSO INVEST IN BALLOON PAYMENT MORTGAGE-BACKED SECURITIES. A balloon payment mortgage-backed security is an amortizing mortgage security with installments of principal and interest, the last installment of which is predominantly principal. THE FUND MAY ALSO INVEST IN MORTGAGE PASS-THROUGH SECURITIES WHERE ALL INTEREST PAYMENTS GO TO ONE CLASS OF HOLDERS (INTEREST ONLY SECURITIES OR IOS) AND ALL PRINCIPAL PAYMENTS GO TO A SECOND CLASS OF HOLDERS (PRINCIPAL ONLY SECURITIES OR POS). These securities are commonly referred to as mortgage-backed securities strips or MBS strips. The yields to maturity on IOs are very sensitive to the rate of principal payments (including prepayments) on the related underlying mortgage assets, and a rapid rate of principal payments may have a material adverse effect on yield to maturity. If the underlying mortgage assets experience greater than anticipated prepayments of principal, the Fund may not fully recoup its initial investment in these securities. Conversely, if the underlying mortgage assets experience less than anticipated prepayments of principal, the yield on POs could be materially adversely affected. 10 OTHER INVESTMENTS AND POLICIES AT LEAST 65% OF THE TOTAL ASSETS OF THE FUND WILL BE INVESTED IN U.S. GOVERNMENT SECURITIES, AS DESCRIBED ABOVE. U.S. Government securities which are purchased pursuant to repurchase agreements or on a when-issued or delayed delivery basis will be treated as U.S. Government securities for purposes of this calculation. See "Repurchase Agreements" and "When-Issued and Delayed Delivery Securities." UP TO 35% OF THE TOTAL ASSETS OF THE FUND MAY BE COMMITTED TO INVESTMENTS OTHER THAN U.S. GOVERNMENT SECURITIES. These investments would include the securities described in this subsection as well as purchased put and call options and purchased put options on futures contracts. See "Options Transactions" and "Transactions in Futures Contracts on U.S. Government Securities and Options Thereon." THE FUND IS PERMITTED TO INVEST UP TO 20% OF ITS TOTAL ASSETS IN HIGH QUALITY MONEY MARKET INSTRUMENTS, INCLUDING COMMERCIAL PAPER OF DOMESTIC CORPORATIONS AND CERTIFICATES OF DEPOSIT, BANKERS' ACCEPTANCES AND OTHER OBLIGATIONS OF DOMESTIC AND FOREIGN BANKS. Such obligations will, at the time of purchase, be rated within the two highest quality grades as determined by a nationally recognized statistical rating organization (NRSRO) (such as Moody's Investors Service (Moody's) or Standard & Poor's Ratings Group (S&P) or, if unrated, will be of equivalent quality in the judgment of the Fund's investment adviser. THE FUND MAY INVEST IN OBLIGATIONS OF FOREIGN BANKS AND FOREIGN BRANCHES OF U.S. BANKS ONLY IF AFTER GIVING EFFECT TO SUCH INVESTMENT ALL SUCH INVESTMENTS WOULD CONSTITUTE LESS THAN 10% OF THE FUND'S TOTAL ASSETS (DETERMINED AT THE TIME OF INVESTMENT). These investments may be subject to certain risks, including future political and economic developments, the possible imposition of withholding taxes on interest income, the seizure or nationalization of foreign deposits and foreign exchange controls or other restrictions. In addition, there may be less publicly available information about a foreign bank or foreign branch of a U.S. bank than about a domestic bank and such entities may not be subject to the same accounting, auditing and financial recordkeeping standards and requirements as domestic banks. THE FUND MAY ALSO PURCHASE OBLIGATIONS OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT (THE WORLD BANK). Obligations of the World Bank are supported by appropriated but unpaid commitments of its member countries, including the U.S., and there is no assurance these commitments will be undertaken or met in the future. THE FUND IS PERMITTED TO INVEST IN ADJUSTABLE RATE DEBT SECURITIES, including securities issued by U.S. Government agencies, whose interest rate is calculated by reference to a specified index such as the constant maturity Treasury rate, the T-bill rate or LIBOR (London Interbank Offered Rate) and is reset periodically. The value of adjustable rate securities will, like other debt securities, generally vary inversely with changes in prevailing interest rates. The value of adjustable rate securities is unlikely to rise in periods of declining interest rates to the same extent as fixed rate instruments. In periods of rising interest rates, changes in the coupon will lag behind changes in the market rate resulting in a lower NAV until the coupon resets to market rates. THE FUND MAY INVEST IN DEBT OBLIGATIONS RATED AT LEAST A BY S&P OR MOODY'S OR, IF UNRATED, DEEMED TO BE OF COMPARABLE CREDIT QUALITY BY THE FUND'S INVESTMENT ADVISER. These debt securities may have adjustable or fixed rates of interest and in certain instances may be secured by assets of the issuer. Adjustable rate corporate debt securities may have features similar to those of adjustable rate mortgage-backed securities, but corporate debt securities, unlike mortgage-backed securities, are not subject to prepayment risk other than through contractual call provisions which generally impose a penalty for prepayment. Fixed rate debt securities may also be subject to call provisions. THE FUND MAY ALSO PURCHASE COLLATERALIZED MORTGAGE OBLIGATIONS (CMOS) AND REAL ESTATE MORTGAGE INVESTMENT CONDUITS (REMICS). A CMO is a security issued by a corporation or a U.S. Government instrumentality which is backed by a portfolio of mortgages or mortgage-backed securities. The issuer's obligation to make interest and principal payments is secured by the underlying portfolio of mortgages or mortgage-backed securities. CMOs are partitioned into several classes with a ranked priority by which the classes of obligations are redeemed. The Fund may invest in privately-issued CMOs which are collateralized by mortgage-backed securities issued or guaranteed by GNMA, FHLMC or FNMA or issued by any other agency or instrumentality of the U.S. Government. The Fund may also invest in privately-issued CMOs collateralized by whole loans or private mortgage pass-through securities and balloon payment mortgage-backed securities. The Fund will invest in CMOs rated at least A by S&P or Moody's or, if unrated, deemed to be of comparable credit quality by the Fund's investment adviser. A REMIC may be issued by a trust, partnership, corporation, association, or a segregated pool of mortgages, or an agency of the U.S. Government and, in 11 each case, must qualify and elect treatment as such under the Internal Revenue Code of 1986, as amended (The Internal Revenue Code). A REMIC must consist of one or more classes of regular interests, some of which may be adjustable rate, and a single class of residual interests. To qualify as a REMIC, substantially all the assets of the entity must be in assets directly or indirectly secured, principally by real property. The Fund does not intend to invest in residual interests and will only invest in REMICs rated at least A by S&P or Moody's or, if unrated, deemed to be of comparable credit quality by the Fund's investment adviser. CMOs and REMICs issued by an agency or instrumentality of the U.S. Government are considered U.S. Government securities for purposes of this Prospectus. In reliance on rules and interpretations of the Commission, the Fund's investments in certain qualifying CMOs and REMICs are not subject to the limitation of the Investment Company Act on acquiring interests in other investment companies. See "Investment Objective and Policies--Collateralized Mortgage Obligations" in the Statement of Additional Information. THE FUND MAY ALSO INVEST UP TO 20% OF ITS TOTAL ASSETS IN ASSET-BACKED SECURITIES. Through the use of trusts and special purpose subsidiaries, various types of assets, primarily home equity loans and automobile and credit card receivables, have been securitized in pass-through structures similar to mortgage pass-through structures or in a pay-through structure similar to the collateralized mortgage structure. The Fund may invest in these and other types of asset-backed securities which may be developed in the future. Asset-backed securities present certain risks that are not presented by mortgage-backed securities. Primarily, these securities do not have the benefit of the same security interest in the related collateral. Credit card receivables are generally unsecured. In connection with automobile receivables, the security interests in the underlying automobiles are often not transferred when the pool is created, with the resulting possibility that the collateral could be resold. In general, these types of loans are of shorter average life than mortgage loans and are less likely to have substantial prepayments. The Fund will only invest in asset-backed securities rated at least A by S&P or Moody's or, if unrated, of equivalent quality in the judgment of the Fund's investment adviser. OPTIONS TRANSACTIONS PURCHASING OPTIONS THE FUND MAY PURCHASE PUT AND CALL OPTIONS ON U.S. GOVERNMENT SECURITIES. The Fund may purchase a put option in an effort to protect the value of a security which it owns against a substantial decline in market value (protective puts), if the Fund's investment adviser believes that a defensive posture is warranted for a portion of the portfolio. The Fund may also purchase a put option to cover a put option it has written or to close an existing option position. The Fund may wish to protect certain portfolio securities against a decline in market value at a time when put options on those particular securities are not available for purchase. The Fund may therefore purchase a put option on securities other than those it wishes to protect even though it does not hold such other securities in its portfolio. While changes in the value of the put option should generally offset changes in the value of the securities being hedged, the correlation between the two values may not be as close in these transactions as in transactions in which the Fund purchases a put option on an underlying security it owns. THE FUND MAY PURCHASE CALL OPTIONS ON DEBT SECURITIES IT INTENDS TO ACQUIRE IN ORDER TO HEDGE AGAINST AN ANTICIPATED MARKET APPRECIATION IN THE PRICE OF THE UNDERLYING SECURITIES AT LIMITED RISK AND WITH A LIMITED CASH OUTLAY. If the market price does rise as anticipated, the Fund will benefit from that rise but only to the extent that the rise exceeds the premiums paid. If the anticipated rise does not occur or if it does not exceed the premium, the Fund will bear the expense of the option premiums and transaction costs without gaining an offsetting benefit. The Fund may also purchase a call option to close an existing option position. WRITING COVERED OPTIONS THE FUND MAY WRITE (I.E., SELL) COVERED PUT AND CALL OPTIONS ON U.S. GOVERNMENT SECURITIES. When the Fund writes an option, it receives a premium which it retains whether or not the option is exercised. The Fund's principal reason for writing options is to attempt to realize, through the receipt of premiums, a greater current return than would be realized on the underlying securities alone. THE PURCHASER OF A CALL OPTION HAS THE RIGHT, FOR A SPECIFIED PERIOD OF TIME, TO PURCHASE THE SECURITIES SUBJECT TO THE OPTION AT A SPECIFIED PRICE (THE EXERCISE PRICE). By writing a call option, the Fund becomes obligated during the term of the 12 option, upon exercise of the option, to sell the underlying securities to the purchaser against receipt of the exercise price. When the Fund writes a call option, the Fund loses the potential for gain on the underlying securities during the period that the option is open. CONVERSELY, THE PURCHASER OF A PUT OPTION HAS THE RIGHT, FOR A SPECIFIED PERIOD OF TIME, TO SELL THE SECURITIES SUBJECT TO THE OPTION TO THE WRITER OF THE PUT AT A SPECIFIED EXERCISE PRICE. By writing a put option, the Fund becomes obligated during the term of the option to purchase the securities underlying the option at the exercise price, upon exercise of the option. The Fund might, therefore, be obligated to purchase the underlying securities for more than their current market price. THE FUND MAY ALSO WRITE STRADDLES (I.E., A COMBINATION OF A CALL AND A PUT WRITTEN ON THE SAME SECURITY AT THE SAME STRIKE PRICE). In such cases, the same issue of the security is considered cover for both the put and the call and the Fund will also segregate or deposit cash or other liquid assets equivalent to the amount, if any, by which the put is "in the money." It is contemplated that the Fund's use of straddles will be limited to 5% of the Fund's net assets (meaning that the securities used for cover or segregated as described above will not exceed 5% of the Fund's net assets at the time the straddle is written). An exchange-traded option position may be closed out only on an exchange which provides a secondary market for an option of the same series. Although the Fund will generally purchase or write only those exchange-traded options for which there appears to be an active secondary market, there is no assurance that a liquid secondary market on an exchange will exist for any particular option at any particular time. If a secondary market does not exist, it might not be possible to effect a closing transaction in a particular option. If the Fund, as a covered call option writer, is unable to effect a closing purchase transaction, it will not be able to sell the underlying securities until the option expires or is exercised or it otherwise covers the position. The Fund will not purchase a put or call option on U.S. Government securities if, as a result of such purchase, more than 20% of its total assets would be invested in premiums for such options and on options on futures contracts on U.S. Government securities. OTHER CONSIDERATIONS ALL OPTIONS PURCHASED OR SOLD BY THE FUND WILL BE TRADED ON A U.S. SECURITIES EXCHANGE OR WILL BE PURCHASED OR SOLD BY A PRIMARY GOVERNMENT SECURITIES DEALER RECOGNIZED BY THE FEDERAL RESERVE BANK OF NEW YORK (OTC OPTIONS). While exchange-traded options are in effect guaranteed by The Options Clearing Corporation, the Fund relies on the dealer from whom it purchases an OTC option to perform if the option is exercised. The Fund's investment adviser monitors the creditworthiness of dealers with whom the Fund enters into OTC option transactions under the general supervision of the Fund's Board of Directors. TRANSACTIONS IN FUTURES CONTRACTS ON U.S. GOVERNMENT SECURITIES AND OPTIONS THEREON THE FUND MAY PURCHASE AND SELL FUTURES CONTRACTS ON U.S. GOVERNMENT SECURITIES (FUTURES CONTRACTS) THAT ARE TRADED ON U.S. COMMODITY EXCHANGES. A futures contract on a U.S. Government security, other than GNMA's which are cash settled, is an agreement to purchase or sell an agreed amount of such securities at a set price for delivery on an agreed future date. The Fund may purchase a futures contract as a hedge against an anticipated decline in interest rates, and resulting increase in market price, in securities the Fund intends to acquire. The Fund may sell a futures contract as a hedge against an anticipated increase in interest rates, and resulting decline in market price, in securities the Fund owns. THE FUND MAY ALSO PURCHASE AND WRITE (I.E., SELL) COVERED CALL AND PUT OPTIONS ON FUTURES CONTRACTS ON U.S. GOVERNMENT SECURITIES THAT ARE TRADED ON U.S. COMMODITY EXCHANGES. THE FUND WILL WRITE OPTIONS ON FUTURES CONTRACTS FOR HEDGING PURPOSES, AS WELL AS TO REALIZE THROUGH THE RECEIPT OF PREMIUM INCOME, A GREATER RETURN THAN WOULD BE REALIZED ON THE FUND'S PORTFOLIO SECURITIES ALONE. An option on a futures contract gives the purchaser the right, in return for the premium paid, to assume a position in a futures contract (a long position if the option is a call and a short position if the option is a put) at a specified exercise price at any time during the option exercise period. The writer of the option is required upon exercise to assume an offsetting futures position (a short position if the option is a call and a long position if the option is a put). Upon exercise of the option, the assumption of offsetting futures positions by the writer and holder of the option will be accompanied by delivery of the accumulated cash balance in the writer's futures margin account which represents the amount by which the market price of the futures contract, at exercise, exceeds, in the case of a call, or is less than, in the case of a put, the exercise price of the option on the futures contract. 13 THE FUND MAY ALSO FROM TIME TO TIME PURCHASE EURODOLLAR INSTRUMENTS TRADED ON THE CHICAGO MERCANTILE EXCHANGE. Eurodollar instruments are essentially U.S. dollar-denominated futures contracts or options thereon which are linked to the London Interbank Offered Rate (LIBOR). Eurodollar futures contracts enable purchasers to obtain a fixed rate for the lending of funds and sellers to obtain a fixed rate for borrowings. The Fund intends to use Eurodollar futures contracts and options thereon to hedge against changes in LIBOR, to which many interest rate swaps are linked. The use of these instruments is subject to the same limitations and risks as those applicable to the use of interest rate futures contracts and options thereon. THE FUND MAY ALSO ENTER INTO CLOSING TRANSACTIONS WITH RESPECT TO FUTURES CONTRACTS AND OPTIONS THEREON TO TERMINATE EXISTING POSITIONS. The Fund's ability to enter into transactions in futures contracts and options thereon may be limited by the Internal Revenue Code's requirements for qualification as a regulated investment company. In addition, the Fund may not purchase or sell futures contracts or related options for other than bona fide hedging purposes if immediately thereafter the sum of the amount of initial margin deposits on the Fund's existing futures and options on futures and for premiums paid for such related options would exceed 5% of the liquidation value of the Fund's total assets, after taking into account unrealized profits and unrealized losses on any such contracts the Fund has entered into; provided, however, that in the case of an option that is in-the-money at the time of purchase, the in-the-money amount may be excluded in computing such 5% limitation. CHARACTERISTICS AND PURPOSES OF INTEREST RATE FUTURES THE FUND WILL PURCHASE AND SELL FUTURES CONTRACTS PRIMARILY TO HEDGE ITS ACTUAL OR ANTICIPATED HOLDINGS OF U.S. GOVERNMENT SECURITIES. There is generally an inverse relationship between interest rates and bond prices. Generally, when interest rates increase, bond prices will decline; when interest rates decline, bond prices will increase. For example, if the Fund holds cash reserves or short-term debt securities at a time that interest rates are expected to decline, the Fund might purchase futures contracts as a hedge against anticipated increases in the price of the U.S. Government securities that the Fund intends to acquire (an anticipatory hedge). CHARACTERISTICS AND PURPOSES OF OPTIONS ON FUTURES CONTRACTS ON U.S. GOVERNMENT SECURITIES When an option on a futures contract is exercised, the writer of the option delivers the futures position as well as the accumulated balance in the writer's futures margin account, which represents the amount by which the market price of the futures contract, at exercise, exceeds, in the case of a call, or is less than, in the case of a put, the exercise price of the option on the futures contract. The Fund will be required to deposit initial and variation margin with respect to options on futures contracts written by it. The Fund will purchase put options on futures contracts primarily to hedge its portfolio of U.S. Government securities against the risk of rising interest rates, and the consequent decline in the prices of U.S. Government securities it owns. The Fund will purchase call options on futures contracts to hedge the Fund's portfolio against a possible market advance at a time when the Fund is not fully invested in U.S. Government securities (other than Treasury Bills). The Fund also will write call options on futures contracts as a hedge against a modest decline in prices of debt securities held in the Fund's portfolio and to earn additional income. If the futures price at expiration of the option is below the exercise price, the Fund will retain the full amount of the option premium thereby partially hedging against any decline that may have occurred in the Fund's holdings of debt securities. If the futures price when the option is exercised is above the exercise price, however, the Fund will incur a loss, which may be wholly or partially offset by the increase of the value of the securities in the Fund's portfolio which were being hedged. Writing a put option on a futures contract serves as a partial hedge against an increase in the value of debt securities the Fund intends to acquire. If the futures price at expiration of the option is above the exercise price, the Fund will retain the full amount of the option premium thereby partially hedging against any increase that may have occurred in the price of the debt securities the Fund intends to acquire. If the futures price when the option is exercised is below the exercise price, however, the Fund will incur a loss, which may be wholly or partially offset by the decrease of the price of the securities the Fund intends to acquire. The Fund will also write options on futures contracts in whole or in part to enhance its current return through the receipt of premium income. See "Investment Objective and Policies--Futures Contracts on U.S. Government Securities" in the Statement of Additional Information. 14 RISK CONSIDERATIONS PARTICIPATION IN THE FUTURES MARKETS INVOLVES INVESTMENT RISKS AND TRANSACTION COSTS TO WHICH THE FUND WOULD NOT BE SUBJECT ABSENT THE USE OF THIS STRATEGY. THE FUND, AND THUS THE INVESTOR, MAY LOSE MONEY THROUGH ANY UNSUCCESSFUL USE OF THIS STRATEGY. If the investment adviser's predictions of movements in the direction of the securities and interest rate markets are inaccurate, the adverse consequences to the Fund may leave the Fund in a worse position than if such strategies were not used. Risks inherent in the use of futures contracts and options on futures contracts include (1) dependence on the investment adviser's ability to predict correctly movements in the direction of interest rates and securities prices; (2) imperfect correlation between the price of futures contracts and options thereon and movements in the prices of the securities being hedged; (3) the fact that skills needed to use these strategies are different from those needed to select portfolio securities; (4) the possible absence of a liquid secondary market for any particular instrument at any time; and (5) the possible inability of the Fund to purchase or sell a portfolio security at a time that otherwise would be favorable for it to do so or the possible need for the Fund to sell a portfolio security at a disadvantageous time, due to the need for the Fund to maintain cover or to segregate securities in connection with hedging transactions. See "Investment Objective and Policies--Futures Contracts on U.S. Government Securities" and "--Options on Futures Contracts" and "Taxes, Dividends and Distributions" in the Statement of Additional Information. REPURCHASE AGREEMENTS The Fund may on occasion enter into repurchase agreements, whereby the seller agrees to repurchase a security from the Fund at a mutually agreed-upon time and price. The repurchase date is usually within a day or two of the original purchase date although it may extend over a number of months. The resale price is in excess of the purchase price, reflecting an agreed-upon rate of return effective for the period of time the Fund's money is invested in the repurchase agreement. The Fund's repurchase agreements will at all times be fully collateralized in an amount at least equal to the resale price. The instruments held as collateral are valued daily and, if the value of instruments declines, the Fund will require additional collateral. If the seller defaults and the value of the collateral securing the repurchase agreement declines, the Fund may incur a loss. The Fund participates in a joint repurchase account with other investment companies managed by PIFM pursuant to an order of the Commission. See "Investment Objective and Policies--Repurchase Agreements" in the Statement of Additional Information. SECURITIES LENDING The Fund may lend its portfolio securities to brokers or dealers, banks or other recognized institutional borrowers of securities, provided that the borrower at all times maintains cash or equivalent collateral or secures a letter of credit in favor of the Fund in an amount equal to at least 100% of the market value of the securities loaned. During the time portfolio securities are on loan, the borrower will pay the Fund an amount equivalent to any dividend or interest paid on such securities and the Fund may invest the cash collateral and earn additional income, or it may receive an agreed-upon amount of interest income from the borrower. As a matter of fundamental policy, the Fund cannot lend more than 30% of the value of its total assets. WHEN-ISSUED AND DELAYED DELIVERY SECURITIES The Fund may purchase or sell U.S. Government securities on a when-issued or delayed delivery basis. When-issued or delayed delivery transactions arise when securities are purchased or sold by the Fund with payment and delivery taking place as much as a month or more in the future in order to secure what is considered to be an advantageous price and yield to the Fund at the time of entering into the transaction. The Fund will maintain in a segregated account cash or other liquid assets, having a value equal to or greater than the Fund's purchase commitments. The securities so purchased are subject to market fluctuation and no interest accrues to the purchaser during the period between purchase and settlement. At the time of delivery of the securities the value may be more or less than the purchase price and an increase in the percentage of the Fund's assets committed to the purchase of securities on a when-issued or delayed delivery basis may increase the volatility of the Fund's NAV. OTHER INVESTMENT INFORMATION The Fund is permitted to use the following investment techniques, although it does not anticipate that any of them will constitute a significant component of its investment program. 15 ZERO COUPON BONDS The Fund may invest up to 5% of its total assets in zero coupon U.S. Government securities. Zero coupon bonds are purchased at a discount from the face amount because the buyer receives only the right to receive a fixed payment on a certain date in the future and does not receive any periodic interest payments. The effect of owning instruments which do not make current interest payments is that a fixed yield is earned not only on the original investment but also, in effect, on all discount accretion during the life of the obligations. This implicit reinvestment of earnings at the same rate eliminates the risk of being unable to reinvest distributions at a rate as high as the implicit yield on the zero coupon bond, but at the same time eliminates the holder's ability to reinvest at higher rates in the future. For this reason, zero coupon bonds are subject to substantially greater price fluctuations during periods of changing market interest rates than are comparable securities which pay interest currently, which fluctuation increases the longer the period to maturity. SHORT SALES AGAINST-THE-BOX The Fund may make short sales against-the-box for the purpose of deferring realization of gain or loss for federal income tax purposes. A short sale against-the-box is a short sale in which the Fund owns an equal amount of the securities sold short or securities convertible into or exchangeable, without payment of any further consideration, for securities of the same issue as, and equal in amount to, the securities sold short. The Fund may engage in such short sales only to the extent that not more than 10% of the Fund's net assets (determined at the time of the short sale) are held as collateral for such sales. BORROWING The Fund may borrow money in an amount up to 20% of the value of its total assets (calculated when the loan is made) for temporary, extraordinary or emergency purposes or for the clearance of transactions. The Fund may pledge up to 20% of the value of its total assets to secure such borrowings. The Fund will not purchase securities when borrowings exceed 5% of the value of its total assets. ILLIQUID SECURITIES The Fund may hold up to 15% of its net assets in illiquid securities, including repurchase agreements which have a maturity of longer than seven days, securities with legal or contractual restrictions on resale (restricted securities) and securities that are not readily marketable. Restricted securities eligible for resale pursuant to Rule 144A under the Securities Act of 1933, as amended (the Securities Act), and privately placed commercial paper that have a readily available market are not considered illiquid for purposes of this limitation. The Subadviser will monitor the liquidity of such restricted securities under the supervision of the Board of Directors. Investing in Rule 144A securities could, however, have the effect of increasing the level of Fund illiquidity to the extent that qualified institutional buyers become, for a limited time, uninterested in purchasing these securities. Repurchase agreements subject to demand are deemed to have a maturity equal to the applicable notice period. When the Fund enters into interest rate swaps on other than a net basis, the entire amount of the Fund's obligations, if any, with respect to such interest rate swaps will be treated as illiquid. To the extent that the Fund enters into interest rate swaps on a net basis, the net amount of the excess, if any, of the Fund's obligations over its entitlements with respect to each interest rate swap will be treated as illiquid. REVERSE REPURCHASE AGREEMENTS AND DOLLAR ROLLS Reverse repurchase agreements involve sales by the Fund of portfolio assets concurrently with an agreement by the Fund to repurchase the same assets at a later date at a fixed price. During the reverse repurchase agreement period, the Fund continues to receive principal and interest payments on these securities. The Fund may enter into dollar rolls in which the Fund sells securities to be issued and delivered in the current month and simultaneously contracts to repurchase substantially similar (same type and coupon) securities on a specified future date from the same party. During the roll period, the Fund forgoes principal and interest paid on the securities. The Fund is compensated by the difference between the current sales price and the forward price for the future purchase (often referred to as the drop) as well as by the interest earned on the cash proceeds of the initial sale. A covered roll is a specific type of dollar roll for which there is an 16 offsetting cash position or a cash equivalent security position which matures on or before the forward settlement date of the dollar roll transaction. Reverse repurchase agreements and dollar rolls (other than covered rolls) are considered borrowings by the Fund for purposes of the percentage limitations applicable to borrowings. Covered rolls, however, are not treated as borrowings or other senior securities and will be excluded from the calculation of the Fund's borrowings and other senior securities. The Fund will establish a segregated account in which it will maintain cash or other liquid assets, equal in value to its obligations in respect of reverse repurchase agreements and dollar rolls. Reverse repurchase agreements and dollar rolls involve the risk that the market value of the securities retained by the Fund may decline below the price of the securities the Fund has sold but is obligated to repurchase under the agreement. In the event the buyer of securities under a dollar roll files for bankruptcy or becomes insolvent, the Fund's use of the proceeds of the agreement may be restricted pending a determination by the other party, or its trustee or receiver, whether to enforce the Fund's obligation to repurchase the securities. INTEREST RATE TRANSACTIONS The Fund may enter into interest rate swaps. Interest rate swaps involve the exchange by the Fund with another party of their respective commitments to pay or receive interest, E.G., an exchange of floating rate payments for fixed rate payments. The Fund expects to enter into these transactions primarily to preserve a return or spread on a particular investment or portion of its portfolio or to protect against any increase in the price of securities the Fund anticipates purchasing at a later date. The Fund intends to use these transactions as a hedge and not as a speculative investment. See "Investment Objective and Policies--Interest Rate Transactions" in the Statement of Additional Information. PORTFOLIO TURNOVER AND BROKERAGE Based on its experience in managing similar investment products, the investment adviser expects that, under normal circumstances, if the Fund writes substantial numbers of options, and those options are exercised, the Fund's portfolio turnover rate may be as high as 250% or higher. Such a rate would significantly exceed that of a fund invested exclusively in U.S. Government securities. See "Investment Objective and Policies--Options Transactions" and "--Portfolio Turnover" in the Statement of Additional Information. While the Fund will pay commissions in connection with its options and futures transactions, U.S. Government securities are generally traded on a net basis with dealers acting as principal for their own accounts without a stated commission. Nevertheless, high portfolio turnover may involve correspondingly greater brokerage commissions and other transaction costs, which will be borne directly by the Fund. See "Portfolio Transactions and Brokerage" in the Statement of Additional Information. INVESTMENT RESTRICTIONS The Fund is subject to certain investment restrictions which, like its investment objective, constitute fundamental policies. Fundamental policies cannot be changed without the approval of the holders of a majority of the Fund's outstanding voting securities, as defined in the Investment Company Act. See "Investment Restrictions" in the Statement of Additional Information. HOW THE FUND IS MANAGED THE FUND HAS A BOARD OF DIRECTORS WHICH, IN ADDITION TO OVERSEEING THE ACTIONS OF THE FUND'S MANAGER, SUBADVISER AND DISTRIBUTOR, AS SET FORTH BELOW, DECIDES UPON MATTERS OF GENERAL POLICY. THE FUND'S MANAGER CONDUCTS AND SUPERVISES THE DAILY BUSINESS OPERATIONS OF THE FUND. THE FUND'S SUBADVISER FURNISHES DAILY INVESTMENT ADVISORY SERVICES. For the fiscal year ended February 28, 1998, the total expenses as a percentage of average net assets for the Fund's Class A, Class B, Class C and Class Z shares were 0.86%, 1.53%, 1.46% and 0.71%, respectively. See "Financial Highlights." MANAGER PRUDENTIAL INVESTMENTS FUND MANAGEMENT LLC (PIFM OR THE MANAGER), GATEWAY CENTER THREE, 100 MULBERRY STREET, NEWARK, NEW JERSEY 07102-4077, IS THE MANAGER OF THE FUND AND IS COMPENSATED FOR ITS SERVICES AT AN 17 ANNUAL RATE OF .50 OF 1% OF THE FUND'S AVERAGE DAILY NET ASSETS UP TO $3 BILLION AND .35 OF 1% OF THE AVERAGE DAILY NET ASSETS IN EXCESS OF $3 BILLION. PIFM is organized in New York as a limited liability company. It is the successor to Prudential Mutual Fund Management, Inc., which transferred its assets to PIFM in September 1996. For the fiscal year ended February 28, 1998, the Fund paid management fees to PIFM of .50% of the Fund's average daily net assets. See "Manager" in the Statement of Additional Information. As of March 31, 1998, PIFM served as the manager to 43 open-end investment companies, constituting all of the Prudential Mutual Funds, and as manager or administrator to 22 closed-end investment companies with aggregate assets of approximately $64.8 billion. UNDER THE MANAGEMENT AGREEMENT WITH THE FUND, PIFM MANAGES THE INVESTMENT OPERATIONS OF THE FUND AND ALSO ADMINISTERS THE FUND'S CORPORATE AFFAIRS. See "Manager" in the Statement of Additional Information. UNDER THE SUBADVISORY AGREEMENT BETWEEN PIFM AND THE PRUDENTIAL INVESTMENT CORPORATION (PIC), DOING BUSINESS AS PRUDENTIAL INVESTMENTS (PI, THE SUBADVISER OR THE INVESTMENT ADVISER), THE SUBADVISER FURNISHES INVESTMENT ADVISORY SERVICES IN CONNECTION WITH THE MANAGEMENT OF THE FUND AND IS REIMBURSED BY PIFM FOR ITS REASONABLE COSTS AND EXPENSES INCURRED IN PROVIDING SUCH SERVICES. PIFM continues to have responsibility for all investment advisory services pursuant to the Management Agreement and supervises the Subadviser's performance of such services. The current portfolio managers of the Fund are Barbara L. Kenworthy and Sharon Fera. Ms. Kenworthy is a Managing Director and Senior Portfolio Manager and Ms. Fera is a Vice President and Portfolio Manager of Prudential Investments, a business group of PIC. Ms. Kenworthy has managed the Fund's portfolio since July 1994. Ms. Kenworthy joined Prudential Investments in July 1994, having previously been employed by the Dreyfus Corporation (from June 1985 to June 1994), where she served as President and Portfolio Manager for several Dreyfus fixed-income funds. Ms. Kenworthy also serves as the portfolio manager of Prudential Diversified Bond Fund, Inc., and is co-portfolio manager of Prudential Balanced Fund, Prudential Government Securities Trust--Short Intermediate Term Series and Prudential Mortgage Income Fund, Inc. and has 20 years of investment management experience in both U.S. and foreign securities and investment grade and high yield quality bonds. Ms. Kenworthy actively manages the fund's portfolio according to the investment adviser's interest rate outlook. Consistent with the Fund's investment objective and policies, she will, at times, invest in different sectors of the fixed-income markets seeking price discrepancies and more favorable interest rates. The investment adviser conducts extensive analysis of U.S. and overseas markets in an attempt to identify trends in interest rates, supply and demand and economic growth. The portfolio manager then selects the sectors, maturities and individual bonds she believes provide the best value under those conditions. Ms. Kenworthy is assisted by two credit analysis teams, one that specializes in investment grade bonds and one that specializes in high yield bonds. Ms. Fera joined Prudential Investments in May 1996 as a fixed-income portfolio manager. Prior thereto, she was employed by Aetna Life and Casualty (May 1993 to May 1996) as a Portfolio Manager responsible for the fixed-income portion of Aetna's Capital and Surplus Portfolio and as a fixed-income analyst responsible for the Capital Goods and Transportation sectors. Prior to joining Aetna, she was a fixed-income trader at Hartford Life Insurance Company (May 1992 to May 1993) and at Equitable Capital Management Corporation (August 1985 to May 1992). Ms. Fera also serves as the co-manager of Prudential Mortgage Income Fund, Inc. and Prudential Government Securities Trust (Short-Intermediate Term Series). PIFM and PIC are wholly-owned subsidiaries of The Prudential Insurance Company of America (Prudential) a major diversified insurance and financial services company. DISTRIBUTOR PRUDENTIAL SECURITIES INCORPORATED (PRUDENTIAL SECURITIES OR THE DISTRIBUTOR), ONE SEAPORT PLAZA, NEW YORK, NEW YORK 10292, IS A CORPORATION ORGANIZED UNDER THE LAWS OF THE STATE OF DELAWARE AND SERVES AS THE DISTRIBUTOR OF THE SHARES OF THE FUND. IT IS AN INDIRECT, WHOLLY-OWNED SUBSIDIARY OF PRUDENTIAL. UNDER SEPARATE DISTRIBUTION AND SERVICE PLANS (THE CLASS A PLAN, THE CLASS B PLAN AND THE CLASS C PLAN, COLLECTIVELY, THE PLANS) ADOPTED BY THE FUND UNDER RULE 12B-1 UNDER THE INVESTMENT COMPANY ACT AND A DISTRIBUTION AGREEMENT (THE DISTRIBUTION AGREEMENT), THE DISTRIBUTOR INCURS THE EXPENSES OF DISTRIBUTING THE FUND'S CLASS A, CLASS B AND CLASS C SHARES. THE DISTRIBUTOR ALSO INCURS THE EXPENSES OF DISTRIBUTING THE FUND'S CLASS Z SHARES UNDER THE DISTRIBUTION AGREEMENT, NONE OF WHICH ARE REIMBURSED BY OR PAID FOR BY THE FUND. These expenses include commissions and account servicing fees paid to, or on account of, financial advisers of the Distributor and representatives of 18 Pruco Securities Corporation (Prusec), an affiliated broker-dealer, commissions and account servicing fees paid to, or on account of, other broker-dealers or financial institutions (other than national banks) which have entered into agreements with the Distributor, advertising expenses, the cost of printing and mailing prospectuses to potential investors and indirect and overhead costs of the Distributor and Prusec associated with the sale of Fund shares, including lease, utility, communications and sales promotion expenses. Under the Plans, the Fund is obligated to pay distribution and/or service fees to the Distributor as compensation for its distribution and service activities, not as reimbursement for specific expenses incurred. If the Distributor's expenses exceed its distribution and service fees, the Fund will not be obligated to pay any additional expenses. If the Distributor's expenses are less than such distribution and service fees, it will retain its full fees and realize a profit. UNDER THE CLASS A PLAN, THE FUND MAY PAY THE DISTRIBUTOR FOR ITS DISTRIBUTION-RELATED ACTIVITIES WITH RESPECT TO CLASS A SHARES AT AN ANNUAL RATE OF UP TO .30 OF 1% OF THE AVERAGE DAILY NET ASSETS OF THE CLASS A SHARES. The Class A Plan provides that (i) up to .25 of 1% of the average daily net assets of the Class A shares may be used to pay for personal service and/or the maintenance of shareholder accounts (service fee) and (ii) total distribution fees (including the service fee of up to .25 of 1%) may not exceed .30 of 1% of the average daily net assets of the Class A shares. The Distributor has agreed to limit its distribution-related fees payable under the Class A Plan to .15 of 1% of the average daily net assets of the Class A shares for the fiscal year ending February 28, 1999. UNDER THE CLASS B PLAN, THE FUND MAY PAY THE DISTRIBUTOR FOR ITS DISTRIBUTION-RELATED ACTIVITIES WITH RESPECT TO CLASS B SHARES AT AN ANNUAL RATE OF UP TO 1% OF THE AVERAGE DAILY NET ASSETS OF THE CLASS B SHARES UP TO $3 BILLION, .80 OF 1% OF THE NEXT $1 BILLION OF SUCH NET ASSETS AND .50 OF 1% OF SUCH NET ASSETS IN EXCESS OF $4 BILLION. The Class B Plan provides for the payment to The Distributor of (i) an asset-based sales charge of up to .75 of 1% of the average daily net assets of the Class B shares up to $3 billion, .55 of 1% of the next $1 billion of such net assets and .25 of 1% of such net assets in excess of $4 billion, and (ii) a service fee of up to .25 of 1% of the average daily net assets of the Class B shares. UNDER THE CLASS C PLAN, THE FUND MAY PAY THE DISTRIBUTOR FOR ITS DISTRIBUTION-RELATED ACTIVITIES WITH RESPECT TO THE CLASS C SHARES AT AN ANNUAL RATE OF UP TO 1% OF AVERAGE DAILY NET ASSETS OF CLASS C SHARES. The Class C Plan provides for the payment to the Distributor of (i) an asset-based sales charge of up to .75 of 1% of the average daily net assets of the Class C shares, and (ii) a service fee of up to .25 of 1% of the average daily net assets of the Class C shares. The service fee is used to pay for personal service and/or the maintenance of shareholder accounts. The Distributor has agreed to limit its distribution-related fees payable under the Class B Plan to .825 of 1% of the average daily net assets of the Class B shares and under the Class C Plan to .75 of 1% of the average daily net assets of the Class C shares for the fiscal year ending February 28, 1999. The Distributor also receives contingent deferred sales charges from certain redeeming shareholders. See "Shareholder Guide--How to Sell Your Shares--Contingent Deferred Sales Charges." Distribution expenses attributable to the sale of Class A, Class B and Class C shares of the Fund will be allocated to each such class based upon the ratio of sales of each such class to the sales of Class A, Class B and Class C shares of the Fund other than expenses allocable to a particular class. The distribution fee and sales charge of one class will not be used to subsidize the sale of another class. Each Plan provides that it shall continue in effect from year to year provided that a majority of the Board of Directors of the Fund, including a majority of the Directors who are not interested persons of the Fund (as defined in the Investment Company Act) and who have no direct or indirect financial interest in the operation of the Plan or any agreement related to the Plan (the Rule 12b-1 Directors), vote annually to continue the Plan. Each Plan may be terminated at any time by vote of a majority of the Rule 12b-1 Directors or of a majority of the outstanding shares of the applicable class of the Fund. The Fund will not be obligated to pay distribution and service fees incurred under any plan if it is terminated or not continued. In addition to distribution and service fees paid by the Fund under the Class A, Class B and Class C Plans, the Manager (or one of its affiliates) may make payments out of its own resources to dealers (including Prudential Securities) and other persons who distribute shares of the Fund (including Class Z shares). Such payments may be calculated by reference to the NAV of shares sold by such persons or otherwise. The Distributor is subject to the rules of the National Association of Securities Dealers, Inc. (the NASD) governing maximum sales charges. See "Distributor" in the Statement of Additional Information. 19 FEE WAIVERS AND SUBSIDY PIFM may from time to time waive all or a portion of its management fee and subsidize all or a portion of the operating expenses of the Fund. Fee waivers and expense subsidies will increase the Fund's total return. See "Performance Information" in the Statement of Additional Information and "Fund Expenses." PORTFOLIO TRANSACTIONS Prudential Securities may act as a broker and/or futures commission merchant for the Fund provided that the commissions, fees or other remuneration it receives are fair and reasonable. See "Portfolio Transactions and Brokerage" in the Statement of Additional Information. CUSTODIAN AND TRANSFER AND DIVIDEND DISBURSING AGENT State Street Bank and Trust Company, One Heritage Drive, North Quincy, Massachusetts 02171, serves as Custodian for the Fund's portfolio securities and cash and, in that capacity, maintains certain financial and accounting books and records pursuant to an agreement with the Fund. Its mailing address is P .O. Box 1713, Boston, Massachusetts 02105. Prudential Mutual Fund Services LLC (PMFS or the Transfer Agent), Raritan Plaza One, Edison, New Jersey 08837, serves as Transfer Agent and Dividend Disbursing Agent and in those capacities maintains certain books and records for the Fund. Its mailing address is P .O. Box 15005, New Brunswick, New Jersey 08906-5005. PMFS is a wholly-owned subsidiary of PIFM. YEAR 2000 The services provided to the Fund and the shareholders by the Manager, the Distributor, the Transfer Agent and the Custodian depend on the smooth functioning of their computer systems and those of their outside service providers. Many computer software systems in use today cannot distinguish the year 2000 from the year 1900 because of the way dates are encoded and calculated. Such event could have a negative impact on handling securities trades, payments of interest and dividends, pricing and account services. Although at this time, there can be no assurance that there will be no adverse impact on the Fund, the Manager, the Distributor, the Transfer Agent and the Custodian have advised the Fund that they have been actively working on necessary changes to their computer systems to prepare for the year 2000 and expect that their systems, and those of their outside service providers, will be adapted in time for that event. HOW THE FUND VALUES ITS SHARES THE FUND'S NET ASSET VALUE PER SHARE OR NAV IS DETERMINED BY SUBTRACTING ITS LIABILITIES FROM THE VALUE OF ITS ASSETS AND DIVIDING THE REMAINDER BY THE NUMBER OF OUTSTANDING SHARES OF THE FUND. NAV IS CALCULATED SEPARATELY FOR EACH CLASS. THE BOARD OF DIRECTORS HAS FIXED THE SPECIFIC TIME OF DAY FOR THE COMPUTATION OF THE FUND'S NAV TO BE AS OF 4:15 P .M., NEW YORK TIME. Portfolio securities are valued based on market quotations or, if not readily available, at fair value as determined in good faith under procedures established by the Fund's Board of Directors. For valuation purposes, quotations of foreign securities in a foreign currency are converted to U.S. dollar equivalents. See "Net Asset Value" in the Statement of Additional Information. The Fund will compute its NAV once daily on days that the New York Stock Exchange is open for trading except on days on which no orders to purchase, sell or redeem shares have been received by the Fund or days on which changes in the value of the Fund's portfolio securities do not materially affect the NAV. Although the legal rights of each class of shares are substantially identical, the different expenses borne by each class will result in different NAVs and dividends. The NAV of Class B and Class C shares will generally be lower than the NAV of Class A shares as a result of the larger distribution-related fee to which Class B and Class C shares are subject. The NAV of Class Z shares will generally be higher than the NAV of the other three classes because Class Z shares are not subject to any distribution and/or service fees. It is expected, however, that the NAV of the four classes will tend to converge immediately after the recording of dividends, if any, which will differ by approximately the amount of the distribution and/or service fee expense accrual differential among the classes. 20 HOW THE FUND CALCULATES PERFORMANCE FROM TIME TO TIME THE FUND MAY ADVERTISE ITS YIELD AND TOTAL RETURN (INCLUDING AVERAGE ANNUAL TOTAL RETURN AND AGGREGATE TOTAL RETURN) IN ADVERTISEMENTS AND SALES LITERATURE. YIELD AND TOTAL RETURN ARE CALCULATED SEPARATELY FOR CLASS A, CLASS B, CLASS C AND CLASS Z SHARES. THESE FIGURES ARE BASED ON HISTORICAL EARNINGS AND ARE NOT INTENDED TO INDICATE FUTURE PERFORMANCE. The total return shows how much an investment in the Fund would have increased (decreased) over a specified period of time (I.E., one, five or ten years or since inception of the Fund) assuming that all distributions and dividends by the Fund were reinvested on the reinvestment dates during the period and less all recurring fees. The aggregate total return reflects actual performance over a stated period of time. Average annual total return is a hypothetical rate of return that, if achieved annually, would have produced the same aggregate total return if performance had been constant over the entire period. Average annual total return smooths out variations in performance and takes into account any applicable initial or contingent deferred sales charges. Neither average annual total return nor aggregate total return takes into account any federal or state income taxes which may be payable upon redemption. The yield refers to the income generated by an investment in the Fund over a one-month or 30-day period. This income is then annualized that is, the amount of income generated by the investment during that 30-day period is assumed to be generated each 30-day period for twelve periods and is shown as a percentage of the investment. The income earned on the investment is also assumed to be reinvested at the end of the sixth 30-day period. The Fund also may include comparative performance information in advertising or marketing the Fund's shares. Such performance information may include data from Lipper Analytical Services, Inc., Morningstar Publications, Inc., other industry publications, business periodicals and market indices. See "Performance Information" in the Statement of Additional Information. Further performance information is contained in the Fund's annual and semi-annual reports to shareholders, which may be obtained without charge. See "Shareholder Guide--Shareholder Services--Reports to Shareholders". TAXES, DIVIDENDS AND DISTRIBUTIONS TAXATION OF THE FUND THE FUND HAS QUALIFIED AND INTENDS TO REMAIN QUALIFIED AS A REGULATED INVESTMENT COMPANY UNDER THE INTERNAL REVENUE CODE. ACCORDINGLY, THE FUND WILL NOT BE SUBJECT TO FEDERAL INCOME TAXES ON ITS NET INVESTMENT INCOME AND CAPITAL GAINS, IF ANY, THAT IT DISTRIBUTES TO ITS SHAREHOLDERS. See "Taxes, Dividends and Distributions" in the Statement of Additional Information. TAXATION OF SHAREHOLDERS All dividends out of net investment income, together with distributions of short-term capital gains, will be taxable as ordinary income to the shareholder whether or not reinvested. Any net long-term capital gains (I.E., the excess of net capital gains from the sale of assets held for more than 12 months over net short-term capital losses) distributed to shareholders will be taxable as such to the shareholders, whether or not reinvested and regardless of the length of time a shareholder has owned his or her shares. The maximum capital gains rate for individuals currently is 28% with respect to the securities held by the Fund for more than 12 months, but not more than 18 months, and 20% with respect to securities held by the Fund for more than 18 months. The maximum tax rate for ordinary income is 39.6%. The maximum long-term capital gains rate for corporate shareholders currently is the same as the 35% maximum tax rate for ordinary income. Any gain or loss realized upon a sale, exchange or redemption of shares by a shareholder who is not a dealer in securities will be treated as a capital gain. Any such capital gain derived by an individual will be subject to tax at the reduced rates described above depending upon the shareholders holding period of the shares sold. Any such loss will be long-term capital loss if the shares have been held more than one year and otherwise as short-term capital gain or loss. Any loss, however, on the sale, exchange or redemption of shares that are held for six months or less will be treated as a long-term capital loss to the extent of any capital gain distributions received by the shareholder. 21 A shareholder who acquires shares of the Fund and sells or otherwise disposes of such shares within 90 days of acquisition may not be allowed to include certain sales charges incurred in acquiring such shares for purposes of calculating gain or loss realized upon a sale or exchange of shares of the Fund. The Fund has obtained opinions of counsel to the effect that neither (i) the conversion of Class B shares into Class A shares nor (ii) the exchange of any class of the Fund's shares for any other class of its shares constitutes a taxable event for federal income tax purposes. However, such opinions are not binding on the Internal Revenue Service. WITHHOLDING TAXES Under the Internal Revenue Code, the Fund is required to withhold and remit to the U.S. Treasury 31% of dividends, capital gain income and redemption proceeds payable to individuals and certain noncorporate shareholders who fail to furnish correct tax identification numbers on IRS Form W-9 (or IRS Form W-8 in the case of certain foreign shareholders) with the required certifications regarding the shareholder's status under federal income tax law. Dividends of net investment income and short-term capital gains to a foreign shareholder will generally be subject to U.S. withholding tax at the rate of 30% (or lower treaty rate). Shareholders are advised to consult their own tax advisers regarding specific questions as to federal, state or local taxes. See "Taxes, Dividends and Distributions" in the Statement of Additional Information. DIVIDENDS AND DISTRIBUTIONS THE FUND EXPECTS TO DECLARE DAILY AND PAY MONTHLY DIVIDENDS OF NET INVESTMENT INCOME, IF ANY, AND MAKE DISTRIBUTIONS AT LEAST ANNUALLY OF ANY NET CAPITAL GAINS. In determining the amount of capital gains to be distributed, the amount of any capital loss carryforwards from prior years will be offset against capital gains. As of February 28, 1998, the Fund had a capital loss carryforward for federal income tax purposes of approximately $131,130,000. Accordingly, no capital gains distribution is expected to be paid to shareholders until net gains have been realized in excess of such carryforward. Dividends paid by the Fund with respect to each class of shares, to the extent any dividends are paid, will be calculated in the same manner, at the same time, on the same day and will be in the same amount except that Class A, Class B and Class C shares will bear their own distribution charges, generally resulting in lower dividends for Class B and Class C shares in relation to Class A and Class Z shares and lower dividends for Class A shares in relation to Class Z shares. Distributions of net capital gains, if any, will be paid in the same amount for each class of shares. See "How the Fund Values its Shares." Shares will begin earning daily dividends on the day following the date on which the shares are issued, the date of issuance customarily being the settlement date. Shares continue to earn daily dividends until they are redeemed. In the event an investor redeems all the shares in his or her account at any time during the month, all daily dividends declared to the date of redemption will be paid at the time of redemption. DIVIDENDS AND DISTRIBUTIONS WILL BE PAID IN ADDITIONAL FUND SHARES, BASED ON THE NAV OF EACH CLASS ON THE PAYMENT AND RECORD DATE, RESPECTIVELY, OR SUCH OTHER DATE AS THE BOARD OF DIRECTORS MAY DETERMINE, UNLESS THE SHAREHOLDER ELECTS IN WRITING NOT LESS THAN FIVE BUSINESS DAYS PRIOR TO THE PAYMENT DATE TO RECEIVE SUCH DIVIDENDS AND DISTRIBUTIONS IN CASH. Such election should be submitted to Prudential Mutual Fund Services LLC, Attention: Account Maintenance, P .O. Box 15015, New Brunswick, New Jersey 08906-5015. The Fund will notify each shareholder after the close of the Fund's taxable year of both the dollar amount and the taxable status of that year's dividends and distributions on a per share basis. To the extent that, in a given year, distributions to shareholders exceed recognized net investment income and recognized short-term and long-term capital gains for the year, shareholders will receive a return of capital in respect of such year and, in an annual statement, will be notified of the amount of any return of capital for such year. Any distributions paid shortly after a purchase by an investor will have the effect of reducing the NAV of the investor's shares by the per share amount of the distributions. Such distributions, although in effect a return of invested principal, are subject to federal income taxes. Accordingly, prior to purchasing shares of the Fund, an investor should carefully consider the impact of capital gains distributions which are expected to be or have been announced. If you hold shares through Prudential Securities you should contact your financial adviser to elect to receive dividends and distributions in cash. WHEN THE FUND GOES EX-DIVIDEND, ITS NAV IS REDUCED BY THE AMOUNT OF THE DIVIDEND OR DISTRIBUTION. IF YOU BUY SHARES JUST PRIOR TO THE EX-DIVIDEND DATE (WHICH GENERALLY OCCURS FOUR BUSINESS DAYS PRIOR TO THE RECORD DATE) THE 22 PRICE YOU PAY WILL INCLUDE THE DIVIDEND OR DISTRIBUTION AND A PORTION OF YOUR INVESTMENT WILL BE RETURNED TO YOU AS A TAXABLE DISTRIBUTION. YOU SHOULD, THEREFORE, CONSIDER THE TIMING OF DIVIDENDS AND DISTRIBUTIONS WHEN MAKING YOUR PURCHASES. GENERAL INFORMATION DESCRIPTION OF COMMON STOCK THE FUND WAS INCORPORATED IN MARYLAND ON APRIL 8, 1983. THE FUND IS AUTHORIZED TO ISSUE TWO BILLION SHARES OF COMMON STOCK, $.01 PAR VALUE PER SHARE, DIVIDED INTO FOUR CLASSES, DESIGNATED CLASS A, CLASS B, CLASS C AND CLASS Z COMMON STOCK, EACH OF WHICH CONSISTS OF 500 MILLION AUTHORIZED SHARES. Each class of common stock represents an interest in the same assets of the Fund and is identical in all respects except that, (i) each class is subject to different sales charges and distribution and/or service fees (except for Class Z shares which are not subject to any distribution and/or service fees) which may affect performance, (ii) each class has exclusive voting rights on any matter submitted to shareholders that relates solely to its arrangement and has separate voting rights on any matter submitted to shareholders in which the interests of one class differ from the interests of any other class, (iii) each class has a different exchange privilege, (iv) only Class B shares have a conversion feature and (v) Class Z shares are offered exclusively for sale to a group of limited investors. See "How the Fund is Managed--Distributor." In accordance with the Fund's Articles of Incorporation, the Board of Directors may authorize the creation of additional series of common stock and classes within such series, with such preferences, privileges, limitations and voting and dividend rights as the Board may determine. Currently, the Fund is offering four classes, designated as Class A, Class B, Class C and Class Z shares. The Board of Directors may increase or decrease the number of authorized shares without approval by shareholders. Shares of the Fund, when issued, are fully paid, nonassessable, fully transferable and redeemable at the option of the holder. Shares are also redeemable at the option of the Fund under certain circumstances as described under "Shareholder Guide--How to Sell Your Shares." Each share of each class of common stock is equal as to earnings, assets and voting privileges, except as noted above, and each class (with the exception of Class Z shares, which are not subject to any distribution or service fees) bears the expenses related to the distribution of its shares. Except for the conversion feature applicable to the Class B shares, there are no conversion, preemptive or other subscription rights. In the event of liquidation, each share of common stock of the Fund is entitled to its portion of all of the Fund's assets after all debt and expenses of the Fund have been paid. Since Class B and Class C shares generally bear higher distribution expenses than Class A shares, the liquidation proceeds to shareholders of those classes are likely to be lower than to Class A shareholders and to Class Z shareholders, whose shares are not subject to any distribution and/ or service fees. The Fund's shares do not have cumulative voting rights for the election of Directors. THE FUND DOES NOT INTEND TO HOLD ANNUAL MEETINGS OF SHAREHOLDERS UNLESS OTHERWISE REQUIRED BY LAW. THE FUND WILL NOT BE REQUIRED TO HOLD MEETINGS OF SHAREHOLDERS UNLESS, FOR EXAMPLE, THE ELECTION OF DIRECTORS IS REQUIRED TO BE ACTED ON BY SHAREHOLDERS UNDER THE INVESTMENT COMPANY ACT. SHAREHOLDERS HAVE CERTAIN RIGHTS, INCLUDING THE RIGHT TO CALL A MEETING UPON A VOTE OF 10% OF THE FUND'S OUTSTANDING SHARES FOR THE PURPOSE OF VOTING ON THE REMOVAL OF ONE OR MORE DIRECTORS OR TO TRANSACT ANY OTHER BUSINESS. ADDITIONAL INFORMATION This Prospectus, including the Statement of Additional Information which has been incorporated by reference herein, does not contain all the information set forth in the Registration Statement filed by the Fund with the Commission under the Securities Act of 1933. Copies of the Registration Statement may be obtained at a reasonable charge from the Commission or may be examined, without charge, at the office of the Commission in Washington, D.C. 23 SHAREHOLDER GUIDE HOW TO BUY SHARES OF THE FUND YOU MAY PURCHASE SHARES OF THE FUND THROUGH THE DISTRIBUTOR, PRUSEC OR DIRECTLY FROM THE FUND, THROUGH ITS TRANSFER AGENT, PRUDENTIAL MUTUAL FUND SERVICES LLC (PMFS OR THE TRANSFER AGENT), ATTENTION: INVESTMENT SERVICES, P.O. BOX 15020, NEW BRUNSWICK, NEW JERSEY 08906-5020. The purchase price is the NAV next determined following receipt of an order by the Transfer Agent or the Distributor plus a sales charge which, at your option, may be imposed either (i) at the time of purchase (Class A shares) or (ii) on a deferred basis (Class B or Class C shares). Class Z shares are offered to a limited group of investors at NAV without any sales charge. Participants in programs sponsored by Prudential Retirement Services should contact their client representative for more information about Class Z shares. Payments may be made by cash, wire, check or through your brokerage account. See "Alternative Purchase Plan" below. See also "How the Fund Values its Shares." The minimum initial investment for Class A and Class B shares is $1,000 per class and $5,000 for Class C shares. There is no minimum investment requirement for Class Z shares. The minimum subsequent investment is $100 for all classes, except for Class Z shares, for which there is no such minimum. All minimum investment requirements are waived for certain retirement and employee savings plans or custodial accounts for the benefit of minors. For purchases made through the Automatic Savings Accumulation Plan, the minimum initial and subsequent investment is $50. See "Shareholder Services" below. Application forms can be obtained from PMFS, Prudential Securities or Prusec. If a stock certificate is desired, it must be requested in writing for each transaction. Certificates are issued only for full shares. Shareholders who hold their shares through Prudential Securities will not receive stock certificates. The Fund reserves the right to reject any purchase order (including an exchange into the Fund) or to suspend or modify the continuous offering of its shares. See "How to Sell Your Shares." Your dealer is responsible for forwarding payment promptly to the Fund. The Distributor reserves the right to cancel any purchase order for which payment has not been received by the fifth business day following the investment. Transactions in Fund shares may be subject to postage and handling charges imposed by your dealer. PURCHASE BY WIRE. For an initial purchase of shares of the Fund by wire, you must first telephone PMFS at (800) 225-1852 (toll-free) to receive an account number. The following information will be requested: your name, address, tax identification number, class election, dividend distribution election, amount being wired and wiring bank. Instructions should then be given by you to your bank to transfer funds by wire to State Street Bank and Trust Company, Boston, Massachusetts, Custody and Shareholder Services Division, Attention: Prudential Government Income Fund, Inc., specifying on the wire the account number assigned by PMFS and your name and identifying the class in which you are eligible to invest (Class A, Class B, Class C or Class Z shares). If you arrange for receipt by State Street of Federal Funds prior to 4:15 P .M., New York time, on a business day, you may purchase shares of the Fund as of that day. See "Net Asset Value" in the Statement of Additional Information. In making a subsequent purchase order by wire, you should wire State Street directly and should be sure that the wire specifies Prudential Government Income Fund, Inc., Class A, Class B, Class C or Class Z shares and your name and individual account number. It is not necessary to call PMFS to make subsequent purchase orders utilizing Federal Funds. The minimum amount which may be invested by wire is $1,000. 24 ALTERNATIVE PURCHASE PLAN THE FUND OFFERS FOUR CLASSES OF SHARES (CLASS A, CLASS B, CLASS C AND CLASS Z) WHICH ALLOWS YOU TO CHOOSE THE MOST BENEFICIAL SALES CHARGE STRUCTURE FOR YOUR INDIVIDUAL CIRCUMSTANCES GIVEN THE AMOUNT OF THE PURCHASE, THE LENGTH OF TIME YOU EXPECT TO HOLD THE SHARES AND OTHER RELEVANT CIRCUMSTANCES (THE ALTERNATIVE PURCHASE PLAN).
ANNUAL 12B-1 FEES (AS A % OF AVERAGE SALES CHARGE DAILY NET ASSETS) OTHER INFORMATION ----------------------------------- ----------------------------------- ----------------------------------- CLASS A Maximum initial sales charge of 4% .30 of 1% (Currently being charged Initial sales charge waived or of the public offering price at a rate of .15 of 1%) reduced for certain purchases CLASS B Maximum contingent deferred sales 1% (Currently being charged at a Shares convert to Class A shares charge or CDSC of 5% of the lesser rate of .825 of 1%) approximately seven years after of the amount invested or the purchase redemption proceeds; declines to zero after six years CLASS C Maximum CDSC of 1% of the lesser of 1% (Currently being charged at a Shares do not convert to another the amount invested or the rate of .75 of 1%) class redemption proceeds on redemptions made within one year of purchase CLASS Z None None Sold to a limited group of investors
The four classes of shares represent an interest in the same portfolio of investments of the Fund and have the same rights, except that (i) each class is subject to different sales charges and distribution and/or service fees (with the exception of Class Z shares, which are not subject to any distribution or service fees), which may affect performance, (ii) each class has exclusive voting rights on any matter submitted to shareholders that relates solely to its arrangement and has separate voting rights on any matter submitted to shareholders in which the interests of one class differs from the interests of any other class and (iii) only Class B shares have a conversion feature. The four classes also have separate exchange privileges. See "How to Exchange Your Shares" below. The income attributable to each class and the dividends payable on the shares of each class will be reduced by the amount of the distribution fee (if any) of each class. Class B and Class C shares bear the expenses of a higher distribution fee which will generally cause them to have higher expense ratios and to pay lower dividends than the Class A and Class Z shares. Financial advisers and other sales agents who sell shares of the Fund will receive different compensation for selling Class A, Class B, Class C and Class Z shares and will generally receive more compensation initially for selling Class A and Class B shares than for selling Class C or Class Z shares. IN SELECTING A PURCHASE ALTERNATIVE, YOU SHOULD CONSIDER, AMONG OTHER THINGS, (1) the length of time you expect to hold your investment, (2) the amount of any applicable sales charge (whether imposed at the time of purchase or redemption) and distribution-related fees, as noted above, (3) whether you qualify for any reduction or waiver of any applicable sales charge, (4) the various exchange privileges among the different classes of shares (see "How to Exchange Your Shares" below) and (5) that Class B shares automatically convert to Class A shares approximately seven years after purchase (see "Conversion Feature--Class B Shares" below). The following is provided to assist you in determining which method of purchase best suits your individual circumstances and is based on current fees and expenses being charged to the Fund: If you intend to hold your investment in the Fund for less than 7 years and do not qualify for a reduced sales charge on Class A shares, since Class A shares are subject to a maximum initial sales charge of 4% and Class B shares are subject to a CDSC of 5% which declines to zero over a 6 year period, you should consider purchasing Class C shares over either Class A or Class B shares. 25 If you intend to hold your investment for 7 years or more and do not qualify for a reduced sales charge on Class A shares, since Class B shares convert to Class A shares approximately 7 years after purchase and because all of your money would be invested initially in the case of Class B shares, you should consider purchasing Class B shares over either Class A or Class C shares. If you qualify for a reduced sales charge on Class A shares, it may be more advantageous for you to purchase Class A shares over either Class B or Class C shares regardless of how long you intend to hold your investment. However, unlike Class B and Class C shares, you would not have all of your money invested initially because the sales charge on Class A shares is deducted at the time of purchase. If you do not qualify for a reduced sales charge on Class A shares and you purchase Class B or Class C shares, you would have to hold your investment for more than 5 years in the case of Class B shares and 6 years in the case of Class C shares for the higher cumulative annual distribution-related fee on those shares to exceed the initial sales charge plus cumulative annual distribution- related fee on Class A shares. This does not take into account the time value of money, which further reduces the impact of the higher Class B or Class C distribution-related fee on the investment, fluctuations in NAV, the effect of the return on the investment over this period of time or redemptions when the CDSC is applicable. ALL PURCHASES OF $1 MILLION OR MORE, EITHER AS PART OF A SINGLE INVESTMENT OR UNDER RIGHTS OF ACCUMULATION OR LETTERS OF INTENT, MUST BE FOR CLASS A SHARES UNLESS THE PURCHASER IS ELIGIBLE TO PURCHASE CLASS Z SHARES. See "Reduction and Waiver of Initial Sales Charges" and "Class Z Shares" below. CLASS A SHARES The offering price of Class A shares for investors choosing the initial sales charge alternative is the next determined NAV plus a sales charge (expressed as a percentage of the offering price and of the amount invested) as shown in the following table:
SALES CHARGE AS SALES CHARGE AS DEALER CONCESSION PERCENTAGE OF PERCENTAGE OF AS PERCENTAGE OF AMOUNT OF PURCHASE OFFERING PRICE AMOUNT INVESTED OFFERING PRICE ------------------------ --------------- --------------- ----------------- $0 to $49,999 4.00% 4.17% 3.75% $50,000 to $99,999 3.50 3.83 3.25 $100,000 to $249,999 2.75 2.83 2.50 $250,000 to $499,999 2.00 2.04 1.90 $500,000 to $999,999 1.50 1.52 1.40 $1,000,000 and above None None None
The Distributor may reallow the entire initial sales charge to dealers. Selling dealers may be deemed to be underwriters, as that term is defined in the Securities Act. In connection with the sale of Class A shares at NAV (without payment of an initial sales charge), the Manager, the Distributor or one of their affiliates will pay dealers, financial advisers and other persons which distribute shares a finders' fee based on a percentage of the NAV shares sold by such persons. REDUCTION AND WAIVER OF INITIAL SALES CHARGES. Reduced sales charges are available through Rights of Accumulation and Letters of Intent. Shares of the Fund and shares of other Prudential Mutual Funds (excluding money market funds other than those acquired pursuant to the exchange privilege) may be aggregated to determine the applicable reduction. See "Purchase and Redemption of Fund Shares--Reduction and Waiver of Initial Sales Charges--Class A Shares" in the Statement of Additional Information. BENEFIT PLANS. Class A shares may be purchased at NAV, without payment of an initial sales charge, by pension, profit-sharing or other employee benefit plans qualified under Section 401 of the Internal Revenue Code and deferred compensation and annuity plans under Sections 457 and 403(b)(7) of the Internal Revenue Code (collectively, Benefit Plans), provided that the Benefit Plan has existing assets of at least $1 million invested in shares of Prudential Mutual Funds (excluding money market funds other than those acquired pursuant to the exchange privilege) or 250 eligible employees or participants. In the case of Benefit Plans whose accounts are held directly with the Transfer Agent or Prudential Securities and for which the Transfer Agent or Prudential Securities 26 does individual account recordkeeping (Direct Account Benefit Plans) and Benefit Plans sponsored by Prudential Securities or its subsidiaries (Prudential Securities or Subsidiary Prototype Benefit Plans), Class A shares may be purchased at NAV by participants who are repaying loans made from such plans to the participant. PRUDENTIAL RETIREMENT PROGRAMS. Class A shares may be purchased at NAV by certain savings, retirement and deferred compensation plans, qualified or non-qualified under the Internal Revenue Code, for which Prudential serves as the plan administrator or recordkeeper, provided that (i) the plan has at least $1 million in existing assets or 250 eligible employees and (ii) the Fund is an available investment option. These plans include pension, profit-sharing, stock-bonus or other employee benefit plans under Section 401 of the Internal Revenue Code, deferred compensation and annuity plans under Sections 457 or 403(b)(7) of the Internal Revenue Code and plans that participate in the Transfer Agent's PruArray and SmartPath Programs (benefit plan recordkeeping services) (hereafter referred to as a PruArray or SmartPath Plan). All plans of a company for which Prudential serves as plan administrator or recordkeeper are aggregated in meeting the $1 million threshold. The term existing assets as used herein includes stock issued by a plan sponsor, shares of Prudential Mutual Funds and shares of certain unaffiliated mutual funds that participate in the PruArray or SmartPath Program (Participating Funds). Existing Assets also include monies invested in The Guaranteed Interest Account (GIA), a group annuity insurance product issued by Prudential, and units of The Stable Value Fund (SVF), an unaffiliated bank collective fund. Class A shares may also be purchased at NAV by plans that have monies invested in GIA and SVF, provided (i) the purchase is made with the proceeds of a redemption from either GIA or SVF and (ii) Class A shares are an investment option of the plan. PRUARRAY ASSOCIATION BENEFIT PLANS. Class A shares are also offered at NAV to Benefit Plans or non-qualified plans sponsored by employers which are members of a common trade, professional or membership association (Association) that participate in the PruArray Program provided that the Association enters into a written agreement with Prudential. Such Benefit Plans or non-qualified plans may purchase Class A shares at NAV without regard to the assets or number of participants in the individual employer's qualified Plan(s) or non-qualified Plans so long as the employers in the Association (i) have retirement plan assets in the aggregate of at least $1 million or 250 participants in the aggregate and (ii) maintain their accounts with the Transfer agent. PRUARRAY SAVINGS PROGRAM. Class A shares are also offered at NAV to employees of companies that enter into a written agreement with Prudential Retirement Services to participate in the PruArray Savings Program. Under this Program, a limited number of Prudential Mutual Funds are available for purchase at NAV by Individual Retirement Accounts and Savings Accumulation Plans of the company's employees. The Program is available only to (i) employees who open an IRA or Savings Accumulation Plan account with the Transfer agent and (ii) spouses of employees who open an IRA account with the Transfer agent. The program is offered to companies that have at least 250 eligible employees. SPECIAL RULES APPLICABLE TO RETIREMENT PLANS. After a Benefit Plan, or PruArray or SmarthPath Plan qualifies to purchase Class A shares at NAV, all subsequent purchases will be made at NAV. OTHER WAIVERS. In addition, Class A shares may be purchased at NAV, through Prudential Securities or the Transfer Agent, by the following persons: (a) officers of the Prudential Mutual Funds (including the Fund), (b) employees of Prudential Securities and PIFM and their subsidiaries and members of the families of such persons who maintain an employee related account at Prudential Securities or the Transfer Agent, (c) employees of subadvisers of the Prudential Mutual Funds provided that purchases at NAV are permitted by such person's employer, (d) Prudential employees and special agents of Prudential and its subsidiaries and all persons who have retired directly from active service with Prudential or one of its subsidiaries, (e) registered representatives and employees of dealers who have entered into a selected dealer agreement with Prudential Securities provided that purchases at NAV are permitted by such person's employer, (f) investors who have a business relationship with a financial adviser who joined Prudential Securities from another investment firm, provided that (i) the purchase is made within 90 days of the commencement of the financial adviser's employment at Prudential Securities, (ii) the purchase is made with proceeds of a redemption of shares of any open-end, non-money market fund sponsored by the financial adviser's previous employer (other than a fund which imposes a distribution or service fee of .25 of 1% or less) and (iii) the financial adviser served as the client's broker on the previous purchase and (g) investors in Individual Retirement Accounts, provided the purchase is made with the proceeds of a tax-free rollover of assets from a Benefit Plan for which Prudential Investments serves as the recordkeeper or administrator. You must notify the Transfer Agent either directly or through Prudential Securities or Prusec at the time of purchase that you are entitled to a reduction or waiver of the sales charge. The reduction or waiver will be granted subject to confirmation of your 27 entitlement. No initial sales charges are imposed upon Class A shares acquired upon the reinvestment of dividends and distributions. See "Purchase and Redemption of Fund Shares--Reduction and Waiver of Initial Sales Charges--Class A Shares" in the Statement of Additional Information. CLASS B AND CLASS C SHARES The offering price of Class B and Class C shares for investors choosing one of the deferred sales charge alternatives is the NAV next determined following receipt of an order by the Transfer Agent or Prudential Securities. Although there is no sales charge imposed at the time of purchase, redemptions of Class B and Class C shares may be subject to a CDSC. See "How to Sell Your Shares--Contingent Deferred Sales Charges." The Distributor will pay, from its own resources, sales commissions of up to 4% of the purchase price of Class B shares to dealers, financial advisers and other persons who sell Class B shares at the time of sale from its own resources. This facilitates the ability of the Fund to sell the Class B shares without an initial sales charge being deducted at the time of purchase. The Distributor anticipates that it will recoup its advancement of sales commissions from the combination of the CDSC and the distribution fee. See "How the Fund is Managed--Distributor." In connection with the sale of Class C shares, the Distributor will pay, from its own resources, dealers, financial advisers and other persons which distribute Class C shares a sales commission of up to 1% of the purchase price at the time of the sale. CLASS Z SHARES Class Z shares of the Fund are currently available for purchase by the following categories of investors: (i) pension, profit-sharing or other employee benefit plans qualified under Section 401 of the Internal Revenue Code, deferred compensation plans and annuity plans under Sections 457 and 403(b)(7) of the Internal Revenue Code, and non-qualified plans for which the Fund is an available option (collectively, Benefit Plans), provided that such Benefit Plans (in combination with other plans sponsored by the same employer or group of related employers) have at least $50 million in defined contribution assets; (ii) participants in any fee-based program or trust program or trust program sponsored by Prudential Securities, The Prudential Savings Bank, F.S.B. or any affiliate which includes mutual funds as investment options and for which the Fund is an available option; (iii) certain participants in the MEDLEY Program (group variable annuity contracts) sponsored by Prudential for whom Class Z shares of the Prudential Mutual Funds are an available investment option; (iv) Benefit Plans for which Prudential Retirement Services serves as record keeper and, as of September 20, 1996, (a) were Class Z shareholders of the Prudential Mutual Funds, or (b) executed a letter of intent to purchase Class Z shares of the Prudential Mutual Funds; (v) current and former Directors/Trustees of the Prudential Mutual Funds (including the Fund); and (vi) employees of Prudential and/or Prudential Securities who participate in a Prudential-sponsored employee saving plan. In connection with the sale of Class Z shares, the Manager, the Distributor or one of their affiliates may pay dealers, financial advisers and other persons which distribute shares a finders' fee, from its own resources, based on a percentage of the NAV sold by such persons. HOW TO SELL YOUR SHARES YOU CAN REDEEM YOUR SHARES AT ANY TIME AT THE NAV NEXT DETERMINED AFTER THE REDEMPTION REQUEST IS RECEIVED IN PROPER FORM BY THE TRANSFER AGENT OR PRUDENTIAL SECURITIES. SEE "HOW THE FUND VALUES ITS SHARES." In certain cases, however, redemption proceeds will be reduced by the amount of any applicable CDSC, as described below. See "Waiver of Contingent Deferred Sales Charges--Class B Shares." IF YOU HOLD SHARES OF THE FUND THROUGH PRUDENTIAL SECURITIES, YOU MUST REDEEM YOUR SHARES THROUGH PRUDENTIAL SECURITIES. PLEASE CONTACT YOUR PRUDENTIAL SECURITIES FINANCIAL ADVISER. IF YOU HOLD SHARES IN NON-CERTIFICATE FORM, A WRITTEN REQUEST FOR REDEMPTION SIGNED BY YOU EXACTLY AS THE ACCOUNT IS REGISTERED IS REQUIRED. IF YOU HOLD CERTIFICATES, THE CERTIFICATES, SIGNED IN THE NAME(S) SHOWN ON THE FACE OF THE CERTIFICATES, MUST BE RECEIVED BY THE TRANSFER AGENT IN ORDER FOR THE REDEMPTION REQUEST TO BE PROCESSED. IF REDEMPTION IS REQUESTED BY A CORPORATION, PARTNERSHIP, TRUST OR FIDUCIARY, WRITTEN EVIDENCE OF AUTHORITY ACCEPTABLE TO THE TRANSFER AGENT MUST BE SUBMITTED BEFORE SUCH REQUEST WILL BE ACCEPTED. All correspondence and documents concerning redemptions should be sent to the Fund in care of its Transfer Agent, Prudential Mutual Fund Services LLC, Attention: Redemption Services, P .O. Box 15010, New Brunswick, New Jersey 08906-5010. 28 If the proceeds of the redemption (a) exceed $50,000, (b) are to be paid to a person other than the record owner, (c) are to be sent to an address other than the address on the Transfer Agent's records, or (d) are to be paid to a corporation, partnership, trust or fiduciary, the signature(s) on the redemption request and on the certificates, if any, or stock power must be guaranteed by an eligible guarantor institution. An eligible guarantor institution includes any bank, broker, dealer or credit union. The Transfer Agent reserves the right to request additional information from, and make reasonable inquiries of, any eligible guarantor institution. For clients of Prusec, a signature guarantee may be obtained from the agency or office manager of most Prudential Insurance and Financial Services or Prudential Preferred Financial Services Offices. In the case of redemptions from a PruArray or SmartPath Plan, if the proceeds of the redemption are invested in another investment option of the Plan in the name of the record holder and at the same address as reflected in the Transfer Agent's records, a signature guarantee is not required. PAYMENT FOR SHARES PRESENTED FOR REDEMPTION WILL BE MADE BY CHECK WITHIN SEVEN DAYS AFTER RECEIPT BY THE TRANSFER AGENT OF THE CERTIFICATE AND/OR WRITTEN REQUEST EXCEPT AS INDICATED BELOW. IF YOU HOLD SHARES THROUGH PRUDENTIAL SECURITIES, PAYMENT FOR SHARES PRESENTED FOR REDEMPTION WILL BE CREDITED TO YOUR PRUDENTIAL SECURITIES ACCOUNT, UNLESS YOU INDICATE OTHERWISE. Such payment may be postponed or the right of redemption suspended at times (a) when the New York Stock Exchange is closed for other than customary weekends and holidays, (b) when trading on such Exchange is restricted, (c) when an emergency exists as a result of which disposal by the Fund of securities owned by it is not reasonably practicable or it is not reasonably practicable for the Fund fairly to determine the value of its net assets, or (d) during any other period when the Commission, by order, so permits; provided that applicable rules and regulations of the Commission shall govern as to whether the conditions prescribed in (b), (c) or (d) exist. PAYMENT FOR REDEMPTION OF RECENTLY PURCHASED SHARES WILL BE DELAYED UNTIL THE FUND OR ITS TRANSFER AGENT HAS BEEN ADVISED THAT THE PURCHASE CHECK HAS BEEN HONORED, UP TO 10 CALENDAR DAYS FROM THE TIME OF RECEIPT OF THE PURCHASE CHECK BY THE TRANSFER AGENT. SUCH DELAY MAY BE AVOIDED BY PURCHASING SHARES BY WIRE OR BY CERTIFIED OR CASHIER'S CHECK. REDEMPTION IN KIND. If the Board of Directors 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 securities from the investment portfolio of the Fund, in lieu of cash, in conformity with applicable rules of the Commission. Securities will be readily marketable and will be valued in the same manner as in a regular redemption. See "How the Fund Values Its Shares." If your shares are redeemed in kind, you would incur transaction costs in converting the assets into cash. The Fund, however, has elected to be governed by Rule 18f-1 under the Investment Company Act, under which the Fund is obligated to redeem shares solely in cash up to the lesser of $250,000 or 1% of the NAV of the Fund during any 90-day period for any one shareholder. INVOLUNTARY REDEMPTION. In order to reduce expenses of the Fund, the Board of Directors may redeem all of the shares of any shareholder, other than a shareholder which is an IRA or other tax-deferred retirement plan, whose account has a NAV of less than $500 due to a redemption. The Fund will give such shareholders 60 days' prior written notice in which to purchase sufficient additional shares to avoid such redemption. No CDSC will be imposed on any involuntary redemption. 90-DAY REPURCHASE PRIVILEGE. If you redeem your shares and have not previously exercised the repurchase privilege, you may reinvest any portion or all of the proceeds of such redemption in shares of the Fund at the NAV next determined after the order is received, which must be within 90 days after the date of the redemption. Any contingent deferred sales charge or CDSC paid in connection with such redemption will be credited (in shares) to your account. If less than a full repurchase is made, the credit will be on a PRO RATA basis. You must notify the Transfer Agent, either directly or through Prudential Securities, at the time the repurchase privilege is exercised to adjust your account for the CDSC you previously paid. Thereafter, any redemptions will be subject to the CDSC applicable at the time of the redemption. See "Contingent Deferred Sales Charges" below. Exercise of the repurchase privilege may affect federal tax treatment of any gain or loss realized upon redemption. CONTINGENT DEFERRED SALES CHARGES Redemptions of Class B shares will be subject to a CDSC declining from 5% to zero over a six-year period. Class C shares redeemed within one year of purchase will be subject to a 1% CDSC. The CDSC will be deducted from the redemption proceeds and reduce the amount paid to you. The CDSC will be imposed on any redemptions by you which reduces the current value of your Class B or Class C shares to an amount which is lower than the amount of all payments by you for shares during the 29 preceding six years, in the case of Class B shares, and one year, in the case of Class C shares. A CDSC will be applied on the lesser of the original purchase price or the current value of the shares being redeemed. Increases in the value of your shares or shares acquired through reinvestment of dividends or distributions are not subject to a CDSC. The amount of any CDSC will be paid to and retained by the Distributor. See "How the Fund is Managed--Distributor" and "Waiver of Contingent Deferred Sales Charges--Class B Shares" below. The amount of the CDSC, if any, will vary depending on the number of years from the time of payment for the purchase of shares until the time of redemption of such shares. Solely for purposes of determining the number of years from the time of any payment for the purchase of shares, all payments during a month will be aggregated and deemed to have been made on the last day of the month. The CDSC will be calculated from the first day of the month after the initial purchase, excluding the time shares were held in a money market fund. See "How to Exchange Your Shares." The following table sets forth the rates of the CDSC applicable to redemptions of Class B shares.
CONTINGENT DEFERRED SALES CHARGE AS A PERCENTAGE YEAR SINCE PURCHASE OF DOLLARS INVESTED OR PAYMENT MADE REDEMPTION PROCEEDS - -------------------------------------------------- ---------------------- First............................................. 5.0% Second............................................ 4.0 Third............................................. 3.0 Fourth............................................ 2.0 Fifth............................................. 1.0 Sixth............................................. 1.0 Seventh........................................... None
In determining whether a CDSC is applicable to a redemption, the calculation will be made in a manner that generally results in the lowest possible rate. It will be assumed that the redemption is made first of amounts representing shares acquired pursuant to the reinvestment of dividends and distributions; then of amounts representing the increase in NAV above the total amount of payments for the purchase of Fund shares made during the preceding six years (five years for Class B shares purchased prior to January 22, 1990); then of amounts representing the cost of shares held beyond the applicable CDSC period; then of amounts representing the cost of shares acquired prior to July 1, 1985; and finally, of amounts representing the cost of shares held for the longest period of time within the applicable CDSC period. For example, assume you purchased 100 Class B shares at $10 per share for a cost of $1,000. Subsequently, you acquired 5 additional Class B shares through dividend reinvestment. During the second year after the purchase you decided to redeem $500 of your investment. Assuming at the time of the redemption the NAV had appreciated to $12 per share, the value of your Class B shares would be $1,260 (105 shares at $12 per share). The CDSC would not be applied to the value of the reinvested dividend shares and the amount which represents appreciation ($260). Therefore, $240 of the $500 redemption proceeds ($500 minus $260) would be charged at a rate of 4% (the applicable rate in the second year after purchase) for a total CDSC of $9.60. For federal income tax purposes, the amount of the CDSC will reduce the gain or increase the loss, as the case may be, on the amount recognized on the redemption of shares. WAIVER OF CONTINGENT DEFERRED SALES CHARGES--CLASS B SHARES. The CDSC will be waived in the case of a redemption following the death or disability of a shareholder or, in the case of a trust account, following the death or disability of the grantor. The waiver is available for total or partial redemptions of shares owned by a person, either individually or in joint tenancy (with rights of survivorship), at the time of death or initial determination of disability, provided that the shares were purchased prior to death or disability. The CDSC will also be waived in the case of a total or partial redemption in connection with certain distributions made without penalty under the Internal Revenue Code from a tax-deferred retirement plan, an IRA or Section 403(b) custodial account. These distributions include: (i) in the case of a tax-deferred retirement plan, a lump-sum or other distribution after retirement; (ii) in the case of an IRA or Section 403(b) custodial account, a lump-sum or other distribution after attaining age 59 1/2; and (iii) a tax-free return of an excess contribution or plan distributions following the death or disability of the shareholder, provided that the shares 30 were purchased prior to death or disability. The waiver does not apply in the case of a tax-free rollover or transfer of assets, other than one following a separation from service (I.E., following voluntary or involuntary termination of employment or following retirement). Under no circumstances will the CDSC be waived on redemptions resulting from the termination of a tax-deferred retirement plan, unless such redemptions otherwise qualify for a waiver as described above. In the case of Direct Account and Prudential Securities or Subsidiary Prototype Benefit Plans, the CDSC will be waived on redemptions which represent borrowings from such plans. Shares purchased with amounts used to repay a loan from such plans on which a CDSC was not previously deducted will thereafter be subject to a CDSC without regard to the time such amounts were previously invested. In the case of a 401(k) plan, the CDSC will also be waived upon the redemption of shares purchased with amounts used to repay loans made from the account to the participant and from which a CDSC was previously deducted. SYSTEMATIC WITHDRAWAL PLAN. The CDSC will be waived (or reduced) on certain redemptions from a Systematic Withdrawal Plan. On an annual basis, up to 12% of the total dollar amount subject to the CDSC may be redeemed without charge. The Transfer Agent will calculate the total amount available for this waiver annually on the anniversary date of your purchase or, for shares purchased prior to March 1, 1997, on March 1 of the current year. The CDSC will be waived (or reduced) on redemptions until this threshold 12% amount is reached. In addition, the CDSC will be waived on redemptions of shares held by a Director of the Fund. You must notify the Transfer Agent either directly or through Prudential Securities or Prusec, at the time of redemption, that you are entitled to waiver of the CDSC and provide the Transfer Agent with such supporting documentation as it may deem appropriate. The waiver will be granted subject to confirmation of your entitlement. See "Purchase and Redemption of Fund Shares--Waiver of the Contingent Deferred Sales Charge--Class B Shares" in the Statement of Additional Information. A quantity discount may apply to redemptions of Class B shares purchased prior to August 1, 1994. See "Purchase and Redemption of Fund Shares--Quantity Discount--Class B Shares Purchased Prior to August 1, 1994" in the Statement of Additional Information. WAIVER OF CONTINGENT DEFERRED SALES CHARGES--CLASS C SHARES PRUARRAY OR SMARTPATH PLANS. The CDSC will be waived on the following redemptions from qualified and non-qualified retirement and deferred compensation plans that participate in the Transfer Agent's PruArray and SmartPath Programs: (i) redemptions from a 403(b) or 457 plan; and (ii) redemptions from a qualified or non-qualified plan, provided that the investment options of the plan include shares of Prudential Mutual Funds and shares of non-affiliated mutual funds. CONVERSION FEATURE--CLASS B SHARES Class B shares will automatically convert to Class A shares on a quarterly basis approximately seven years after purchase. Conversions will be effected at relative NAV without the imposition of any additional sales charge. The first conversion of Class B shares occurred in February 1995, when the conversion feature was first implemented. Since the Fund tracks amounts paid rather than the number of shares bought on each purchase of Class B shares, the number of Class B shares eligible to convert to Class A shares (excluding shares acquired through the automatic reinvestment of dividends and other distributions) (the Eligible Shares) will be determined on each conversion date in accordance with the following formula: (i) the ratio of (a) the amounts paid for Class B shares purchased at least seven years prior to the conversion date to (b) the total amount paid for all Class B shares purchased and then held in your account (ii) multiplied by the total number of Class B shares purchased and then held in your account. Each time any Eligible Shares in your account convert to Class A shares, all shares or amounts representing Class B shares then in your account that were acquired through the automatic reinvestment of dividends and other distributions will convert to Class A shares. For purposes of determining the number of Eligible Shares, if the Class B shares in your account on any conversion date are the result of multiple purchases at different NAVs, the number of Eligible Shares calculated as described above will generally be either more or less than the number of shares actually purchased approximately seven years before such conversion date. For example, if 100 shares were initially purchased at $10 per share (for a total of $1,000) and a second purchase of 100 shares was subsequently made at $11 per share (for a total of $1,100), 95.24 shares would convert approximately seven years from the initial 31 purchase (I.E., $1,000 divided by $2,100 (47.62%) multiplied by 200 shares equals 95.24 shares). The Manager reserves the right to modify the formula for determining the number of Eligible Shares in the future as it deems appropriate on notice to shareholders. Since annual distribution-related fees are lower for Class A shares than Class B shares, the NAV of the Class A shares may be higher than that of the Class B shares at the time of conversion. Thus, although the aggregate dollar value will be the same, you may receive fewer Class A shares than Class B shares converted. See "How the Fund Values its Shares." For purposes of calculating the applicable holding period for conversions, all payments for Class B shares during a month will be deemed to have been made on the last day of the month, or for Class B shares acquired through exchange, or a series of exchanges, on the last day of the month in which the original payment for purchases of such Class B shares was made. For Class B shares previously exchanged for shares of a money market fund, the time period during which such shares were held in the money market fund will be excluded. For example, Class B shares held in a money market fund for one year will not convert to Class A shares until approximately eight years from purchase. For purposes of measuring the time period during which shares are held in a money market fund, exchanges will be deemed to have been made on the last day of the month. Class B shares acquired through exchange will convert to Class A shares after expiration of the conversion period applicable to the original purchase of such shares. The conversion feature may be subject to the continuing availability of opinions of counsel or rulings of the Internal Revenue Service (i) that the dividends and other distributions paid on Class A, Class B, Class C and Class Z shares will not constitute preferential dividends under the Internal Revenue Code and (ii) that the conversion of shares does not constitute a taxable event. The conversion of Class B shares into Class A shares may be suspended if such opinions or rulings are no longer available. If conversions are suspended, Class B shares of the Fund will continue to be subject, possibly indefinitely, to their higher annual distribution and service fee. HOW TO EXCHANGE YOUR SHARES AS A SHAREHOLDER OF THE FUND, YOU HAVE AN EXCHANGE PRIVILEGE WITH CERTAIN OTHER PRUDENTIAL MUTUAL FUNDS, INCLUDING ONE OR MORE SPECIFIED MONEY MARKET FUNDS, SUBJECT TO THE MINIMUM INVESTMENT REQUIREMENT OF SUCH FUNDS. CLASS A, CLASS B, CLASS C AND CLASS Z SHARES MAY BE EXCHANGED FOR CLASS A, CLASS B, CLASS C AND CLASS Z SHARES, RESPECTIVELY, OF ANOTHER FUND ON THE BASIS ON THE RELATIVE NAV. No sales charge will be imposed at the time of the exchange. Any applicable CDSC payable upon the redemption of shares exchanged will be calculated from the first day of the month after the initial purchase, excluding the time shares were held in a money market fund. Class B and Class C shares may not be exchanged into money market funds other than Prudential Special Money Market Fund, Inc. For purposes of calculating the holding period applicable to the Class B conversion feature, the time period during which Class B shares were held in a money market fund will be excluded. See "Conversion Feature--Class B Shares" above. An exchange will be treated as a redemption and purchase for tax purposes. See "Shareholder Investment Account--Exchange Privilege" in the Statement of Additional Information. IN ORDER TO EXCHANGE SHARES BY TELEPHONE, YOU MUST AUTHORIZE THE TELEPHONE EXCHANGE PRIVILEGE ON YOUR INITIAL APPLICATION FORM OR BY WRITTEN NOTICE TO THE TRANSFER AGENT AND HOLD SHARES IN NON-CERTIFICATE FORM. Thereafter, you may call the Fund at (800) 225-1852 to execute a telephone exchange of shares on weekdays, except holidays, between the hours of 8:00 A. M. and 6:00 P. M., New York time. For your protection and to prevent fraudulent exchanges, your telephone call will be recorded and you will be asked to provide your personal identification number. A written confirmation of the exchange transaction will be sent to you. NEITHER THE FUND NOR ITS AGENTS WILL BE LIABLE FOR ANY LOSS, LIABILITY OR COST WHICH RESULTS FROM ACTING UPON INSTRUCTIONS REASONABLY BELIEVED TO BE GENUINE UNDER THE FOREGOING PROCEDURES. All exchanges will be made on the basis of the relative NAV of the two funds next determined after the request is received in good order. The exchange privilege is available only in states where the exchange may legally be made. IF YOU HOLD SHARES THROUGH PRUDENTIAL SECURITIES OR THROUGH A DEALER WHICH HAS ENTERED INTO A SELECTED DEALER AGREEMENT WITH THE FUND'S DISTRIBUTOR, YOU MUST EXCHANGE YOUR SHARES BY CONTACTING YOUR FINANCIAL ADVISER. IF YOU HOLD CERTIFICATES, THE CERTIFICATES, SIGNED IN THE NAME(S) SHOWN ON THE FACE OF THE CERTIFICATES MUST BE RETURNED IN ORDER FOR THE SHARES TO BE EXCHANGED. SEE "HOW TO SELL YOUR SHARES" ABOVE. 32 You may also exchange shares by mail by writing to Prudential Mutual Fund Services LLC, Attention: Exchange Processing, P .O. Box 15010, New Brunswick, New Jersey 08906-5010. IN PERIODS OF SEVERE MARKET OR ECONOMIC CONDITIONS THE TELEPHONE EXCHANGE OF SHARES MAY BE DIFFICULT TO IMPLEMENT AND SHAREHOLDERS SHOULD MAKE EXCHANGES BY MAIL BY WRITING TO PRUDENTIAL MUTUAL FUND SERVICES LLC, AT THE ADDRESS NOTED ABOVE. SPECIAL EXCHANGE PRIVILEGES. A special exchange privilege is available for shareholders who qualify to purchase Class A shares at NAV (see "Alternative Purchase Plan--Class A Shares--Reduction and Waiver of Initial Sales Charges" above) and for shareholders who qualify to purchase Class Z shares (see "Alternative Purchase Plan--Class Z Shares" above). Under this exchange privilege, amounts representing any Class B and Class C shares (which are not subject to a CDSC) held in such a shareholder's account will be automatically exchanged for Class A shares for shareholders who qualify to purchase Class A shares at NAV on a quarterly basis, unless the shareholder elects otherwise. Similarly, shareholders who qualify to purchase Class Z shares will have their Class B and Class C shares which are not subject to a CDSC and their Class A shares exchanged for Class Z shares on a quarterly basis. Eligibility for this exchange privilege will be calculated on the business day prior to the date of the exchange. Amounts representing Class B or Class C shares which are not subject to a CDSC include the following: (1) amounts representing Class B or Class C shares acquired pursuant to the automatic reinvestment of dividends and distributions, (2) amounts representing the increase in the NAV above the total amount of payments for the purchase of Class B or Class C shares and (3) amounts representing Class B or Class C shares held beyond the applicable CDSC period. Class B and Class C shareholders must notify the Transfer Agent either directly or through Prudential Securities or Prusec that they are eligible for this special exchange privilege. Participants in any fee-based program for which the Fund is an available option will have their Class A shares, if any, exchanged for Class Z shares when they elect to have those assets become a part of the fee-based program. Upon leaving the program (whether voluntarily or not), such Class Z shares (and, to the extent provided for in the program, Class Z shares acquired through participation in the program) will be exchanged for Class A shares at NAV. Similarly, participants in Prudential Securities' 401(k) Plan for which the Fund's Class Z shares is an available option and who wish to transfer their Class Z shares out of the Prudential Securities 401(k) Plan following separation from service (I.E., voluntary or involuntary termination of employment or retirement) will have their Class Z shares exchanged for Class A shares at NAV. The exchange privilege is not a right and may be suspended, modified or terminated on 60 days' notice to shareholders. FREQUENT TRADING. The Fund and the other Prudential Mutual Funds are not intended to serve as vehicles for frequent trading in response to short-term fluctuations in the market. Due to the disruptive effect that market timing investment strategies and excessive trading can have on efficient portfolio management, each Prudential Mutual Fund, including the Fund, reserves the right to refuse purchase orders and exchanges by any person, group or commonly controlled accounts, if, in the Manager's sole judgment, such person, group or accounts were following a market timing strategy or were otherwise engaging in excessive trading (Market Timers). To implement this authority to protect the Fund and its shareholders from excessive trading, the Fund will reject all exchanges and purchases from a Market Timer unless the Market Timer has entered into a written agreement with the Fund or its affiliates pursuant to which the Market Timer has agreed to abide by certain procedures, which include a daily dollar limit on trading. The Fund may notify the Market Timer of rejection of an exchange or purchase order subsequent to the day on which the order was placed. SHAREHOLDER SERVICES In addition to the exchange privilege, as a shareholder in the Fund, you can take advantage of the following additional services and privileges: - AUTOMATIC REINVESTMENT OF DIVIDENDS AND/OR DISTRIBUTIONS WITHOUT A SALES CHARGE. For your convenience, all dividends or distributions are automatically reinvested in full and fractional shares of the Fund at NAV without a sales charge. You may direct the Transfer Agent in writing not less than 5 full business days prior to the record date to have subsequent dividends and/or distributions sent in cash rather than reinvested. If you hold shares through Prudential Securities, you should contact your financial adviser. 33 - AUTOMATIC SAVINGS ACCUMULATION PLAN (ASAP). Under ASAP you may make regular purchases of the Fund's shares in amounts as little as $50 via an automatic debit to a bank account or Prudential Securities account (including a Command Account). For additional information about this service, you may contact your Prudential Securities financial adviser, Prusec representative or the Transfer Agent directly. - TAX-DEFERRED RETIREMENT PLANS. Various tax-deferred retirement plans, including a 401(k) plan, self-directed individual retirement accounts and tax-sheltered accounts under Section 403(b)(7) of the Internal Revenue Code are available through the Distributor. These plans are for use by both self-employed individuals and corporate employers. These plans permit either self-direction of accounts by participants, or a pooled account arrangement. Information regarding the establishment of these plans, the administration, custodial fees and other details is available from Prudential Securities or the Transfer Agent. If you are considering adopting such a plan, you should consult with your own legal or tax adviser with respect to the establishment and maintenance of such a plan. - SYSTEMATIC WITHDRAWAL PLAN. A systematic withdrawal plan is available to shareholders which provides for monthly or quarterly checks. Withdrawal of Class B and Class C shares may be subject to a CDSC. See "How to Sell Your Shares-- Contingent Deferred Sales Charges." See also "Shareholder Investment Account--Systematic Withdrawal Plan" in the Statement of Additional Information. - REPORTS TO SHAREHOLDERS. The Fund will send you annual and semi-annual reports. The financial statements appearing in annual reports are audited by independent accountants. In order to reduce duplicate mailing and printing expenses, the Fund will provide one annual and semi-annual shareholder report and annual prospectus per household. You may request additional copies of such reports by calling (800) 225-1852 (toll-free) or by writing to the Fund at Gateway Center Three, 100 Mulberry Street, Newark, New Jersey 07102-4077. In addition, monthly unaudited financial data are available upon request from the Fund. - SHAREHOLDER INQUIRIES. Shareholder inquiries should be addressed to the Fund at Gateway Center Three, 100 Mulberry Street, Newark, New Jersey 07102-4077, or by telephone, at (800) 225-1852 (toll-free) or, from outside the U.S.A., at (908) 417-7555 (collect). For additional information regarding the services and privileges described above, see "Shareholder Investment Account" in the Statement of Additional Information. 34 THE PRUDENTIAL MUTUAL FUND FAMILY Prudential offers a broad range of mutual funds designed to meet your individual needs. We welcome you to review the investment options available through our family of funds. For more information on the Prudential Mutual Funds, including charges and expenses, contact your Prudential Securities financial adviser or Prusec representative or telephone the Funds at (800) 225-1852 for a free prospectus. Read the prospectus carefully before you invest or send money. TAXABLE BOND FUNDS -------------------------- Prudential Diversified Bond Fund, Inc. Prudential Government Income Fund, Inc. Prudential Government Securities Trust Short-Intermediate Term Series Prudential High Yield Fund, Inc. Prudential High Yield Total Return Fund, Inc. Prudential Mortgage Income Fund, Inc. Prudential Structured Maturity Fund, Inc. Income Portfolio TAX-EXEMPT BOND FUNDS ----------------------------- Prudential California Municipal Fund California Series California Income Series Prudential Municipal Bond Fund High Yield Series Insured Series Intermediate Series Prudential Municipal Series Fund Florida Series Maryland Series Massachusetts Series Michigan Series New Jersey Series New York Series North Carolina Series Ohio Series Pennsylvania Series Prudential National Municipals Fund, Inc. GLOBAL FUNDS -------------------- Prudential Europe Growth Fund, Inc. Prudential Global Genesis Fund, Inc. Prudential Global Limited Maturity Fund, Inc. Limited Maturity Portfolio Prudential Intermediate Global Income Fund, Inc. Prudential International Bond Fund, Inc. Prudential Natural Resources Fund, Inc. Prudential Pacific Growth Fund, Inc. Prudential World Fund, Inc. Global Series International Stock Series Global Utility Fund, Inc. The Global Total Return Fund, Inc. EQUITY FUNDS -------------------- Prudential Balanced Fund Prudential Distressed Securities Fund, Inc. Prudential Emerging Growth Fund, Inc. Prudential Equity Fund, Inc. Prudential Equity Income Fund Prudential Index Series Fund Prudential Stock Index Fund Prudential Bond Market Index Fund Prudential Europe Index Fund Prudential Pacific Index Fund Prudential Small-Cap Index Fund Prudential Stock Index Fund Prudential Jennison Series Fund, Inc. Prudential Active Balanced Fund Prudential Jennison Growth Fund Prudential Jennison Growth & Income Fund Prudential Multi-Sector Fund, Inc. Prudential Real Estate Securities Fund Prudential Small-Cap Quantum Fund, Inc. Prudential Small Company Value Fund, Inc. Prudential Utility Fund, Inc. Nicholas-Applegate Fund, Inc. Nicholas-Applegate Growth Equity Fund MONEY MARKET FUNDS -------------------------- - - TAXABLE MONEY MARKET FUNDS Cash Accumulation Trust Liquid Assets Fund National Money Market Fund Prudential Government Securities Trust Money Market Series U.S. Treasury Money Market Series Prudential Special Money Market Fund, Inc. Money Market Series Prudential MoneyMart Assets, Inc. - - TAX-FREE MONEY MARKET FUNDS Prudential Tax-Free Money Fund, Inc. Prudential California Municipal Fund California Money Market Series Prudential Municipal Series Fund Connecticut Money Market Series Massachusetts Money Market Series New Jersey Money Market Series New York Money Market Series - - COMMAND FUNDS Command Money Fund Command Government Fund Command Tax-Free Fund - - INSTITUTIONAL MONEY MARKET FUNDS Prudential Institutional Liquidity Portfolio, Inc. Institutional Money Market Series A-1 No dealer, sales representative or any other person has been authorized to give any information or to make any representations, other than those contained in this Prospectus, in connection with the offer contained herein, and, if given or made, such other information or representations must not be relied upon as having been authorized by the Fund or the Distributor. This Prospectus does not constitute an offer by the Fund or by the Distributor to sell or a solicitation of any offer to buy any of the securities offered hereby in any jurisdiction to any person to whom it is unlawful to make such offer in such jurisdiction. - ------------------------------------------- TABLE OF CONTENTS
PAGE --- FUND HIGHLIGHTS................................. 2 What are the Fund's Risk Factors and Special Characteristics?............................. 2 FUND EXPENSES................................... 4 FINANCIAL HIGHLIGHTS............................ 5 HOW THE FUND INVESTS............................ 9 Investment Objective and Policies............. 9 Other Investments and Policies................ 11 Other Investment Information.................. 15 Investment Restrictions....................... 17 HOW THE FUND IS MANAGED......................... 17 Manager....................................... 17 Distributor................................... 18 Fee Waivers and Subsidy....................... 20 Portfolio Transactions........................ 20 Custodian and Transfer and Dividend Disbursing Agent........................................ 20 Year 2000..................................... 20 HOW THE FUND VALUES ITS SHARES.................. 20 HOW THE FUND CALCULATES PERFORMANCE............. 21 TAXES, DIVIDENDS AND DISTRIBUTIONS.............. 21 GENERAL INFORMATION............................. 23 Description of Common Stock................... 23 Additional Information........................ 23 SHAREHOLDER GUIDE............................... 24 How to Buy Shares of the Fund................. 24 Alternative Purchase Plan..................... 25 How to Sell Your Shares....................... 28 Conversion Feature--Class B Shares............ 31 How to Exchange Your Shares................... 32 Shareholder Services.......................... 33 THE PRUDENTIAL MUTUAL FUND FAMILY............... A-1
- ------------------------------------------- MF128A Class A: 744339-10-2 Class B: 744339-20-1 CUSIP Nos.: Class C: 744339-30-0 Class Z: 744339-40-9 PRUDENTIAL GOVERNMENT INCOME FUND, INC. PROSPECTUS April 30, 1998 www.prudential.com ----------------- [LOGO] PRUDENTIAL GOVERNMENT INCOME FUND, INC. STATEMENT OF ADDITIONAL INFORMATION DATED APRIL 30, 1998 Prudential Government Income Fund, Inc. (the Fund), is an open-end, diversified management investment company, or mutual fund, which has as its investment objective the seeking of a high current return. The Fund will seek to achieve this objective primarily by investing in U.S. Government securities, including U.S. Treasury Bills, Notes and Bonds and other debt securities issued by the U.S. Treasury, and obligations issued or guaranteed by U.S. Government agencies or instrumentalities; writing covered put and call options and purchasing put and call options. In an effort to hedge against changes in interest rates and thus preserve its capital, the Fund may also engage in transactions involving futures contracts on U.S. Government securities and options on such contracts. There can be no assurance that the Fund's investment objective will be achieved. See "Investment Objective and Policies." The Fund's address is Gateway Center Three, 100 Mulberry Street, Newark, New Jersey 07102-4077, and its telephone number is (800) 225-1852. This Statement of Additional Information is not a prospectus and should be read in conjunction with the Fund's Prospectus, dated April 30, 1998, a copy of which may be obtained from the Fund upon request. TABLE OF CONTENTS
CROSS-REFERENCE TO PAGE IN PAGE PROSPECTUS ---- --------------- General Information................................... B-2 23 Investment Objective and Policies..................... B-2 9 Investment Restrictions............................... B-10 17 Directors and Officers................................ B-11 17 Manager............................................... B-15 17 Distributor........................................... B-16 18 Portfolio Transactions and Brokerage.................. B-18 20 Purchase and Redemption of Fund Shares................ B-19 24 Shareholder Investment Account........................ B-23 24 Net Asset Value....................................... B-26 20 Taxes, Dividends and Distributions.................... B-27 21 Performance Information............................... B-30 21 Custodian, Transfer and Dividend Disbursing Agent and Independent Accountants.............................. B-32 20 Financial Statements.................................. B-33 -- Independent Accountants' Report....................... B-45 -- Appendix I -- Historical Performance Data............. I-1 -- Appendix II -- General Investment Information......... II-1 -- Appendix III -- Information Relating to The Prudential........................................... III-1 --
- -------------------------------------------------------------------------------- MF128B GENERAL INFORMATION At a special meeting held on July 19, 1994, shareholders approved an amendment to the Fund's Articles of Incorporation to change the Fund's name from Prudential-Bache Government Plus Fund, Inc. to Prudential Government Income Fund, Inc. INVESTMENT OBJECTIVE AND POLICIES The Fund's investment objective is to seek a high current return. The Fund will seek a high current return primarily from interest income from U.S. Government securities, premiums from put and call options on U.S. Government securities and net gains from closing purchase and sale transactions with respect to options on U.S. Government securities. The Fund may also realize net gains from sales of portfolio securities. There can be no assurance that the Fund's investment objective will be achieved. See "How the Fund Invests--Investment Objective and Policies" in the Prospectus. U.S. GOVERNMENT SECURITIES MORTGAGE-RELATED SECURITIES ISSUED BY U.S. GOVERNMENT INSTRUMENTALITIES. Mortgages backing the securities purchased by the Fund include conventional thirty-year fixed rate mortgages, graduated payment mortgages, fifteen-year mortgages and adjustable rate mortgages. All of these mortgages can be used to create pass-through securities. A pass-through security is formed when mortgages are pooled together and undivided interests in the pool or pools are sold. The cash flow from the mortgages is passed through to the holders of the securities in the form of periodic payments of interest, principal and prepayments (net of a service fee). Prepayments occur when the holder of an individual mortgage prepays the remaining principal before the mortgage's scheduled maturity date. As a result of the pass-through of prepayments of principal on the underlying securities, mortgage-backed securities are often subject to more rapid prepayment of principal than their stated maturity would indicate. Because the prepayment characteristics of the underlying mortgages vary, it is not possible to predict accurately the realized yield or average life of a particular issue of pass-through certificates. Prepayment rates are important because of their effect on the yield and price of the securities. Accelerated prepayments adversely impact yields for pass-throughs purchased at a premium. The opposite is true for pass-throughs purchased at a discount. GNMA CERTIFICATES. Certificates of the Government National Mortgage Association (GNMA Certificates) are mortgage-backed securities, which evidence an undivided interest in a pool of mortgage loans. GNMA Certificates differ from bonds in that principal is paid back monthly by the borrower over the term of the loan rather than returned in a lump sum at maturity. GNMA Certificates that the Fund purchases are the modified pass-through type. Modified pass-through GNMA Certificates entitle the holder to receive a share of all interest and principal payments paid and owed on the mortgage pool, net of fees paid to the issuer and GNMA, regardless of whether or not the mortgagor actually makes the payment. The GNMA Certificates will represent a PRO RATA interest in one or more pools of the following types of mortgage loans: (i) fixed-rate level payment mortgage loans; (ii) fixed-rate graduated payment mortgage loans; (iii) fixed-rate growing equity mortgage loans; (iv) fixed-rate mortgage loans secured by manufactured (mobile) homes; (v) mortgage loans on multifamily residential properties under construction; (vi) mortgage loans on completed multifamily projects; (vii) fixed-rate mortgage loans as to which escrowed funds are used to reduce the borrower's monthly payments during the early years of the mortgage loans (buydown mortgage loans); (viii) mortgage loans that provide for adjustments in payments based on periodic changes in interest rates or in other payment terms of the mortgage loans; and (ix) mortgage-backed serial notes. All of these mortgage loans will be FHA Loans or VA Loans and, except as otherwise specified above, will be fully-amortizing loans secured by first liens on one-to-four-family housing units. Legislative changes may be proposed from time to time in relation to the Department of Housing and Urban Development which, if adopted, could alter the viability of investing in GNMAs. The Fund's adviser may re-evaluate the Fund's investment objectives and policies if any such legislative proposals are adopted. GNMA GUARANTEE. The National Housing Act authorizes GNMA to guarantee the timely payment of principal and interest on securities backed by a pool of mortgages insured by the Federal Housing Administration (FHA) or the Farmers' Home Administration (FMHA), or guaranteed by the Veterans Administration (VA). The GNMA guarantee is backed by the full faith and credit of the United States. The GNMA is also empowered to borrow without limitation from the U.S. Treasury if necessary to make any payments required under its guarantee. B-2 LIFE OF GNMA CERTIFICATES. The average life of a GNMA Certificate is likely to be substantially shorter than the original maturity of the mortgages underlying the securities. Prepayments of principal by mortgagors and mortgage foreclosures will usually result in the return of the greater part of principal investment long before the maturity of the mortgages in the pool. Foreclosures impose no risk to principal investment because of the GNMA guarantee, except to the extent that the Fund has purchased the certificates above par in the secondary market. FHLMC SECURITIES. The Federal Home Loan Mortgage Corporation was created in 1970 through enactment of Title III of the Emergency Home Finance Act of 1970. Its purpose is to promote development of a nationwide secondary market in conventional residential mortgages. The FHLMC issues two types of mortgage pass-through securities, mortgage participation certificates (PCs) and guaranteed mortgage certificates (GMCs). PCs resemble GNMA Certificates in that each PC represents a PRO RATA share of all interest and principal payments made and owed on the underlying pool. The FHLMC guarantees timely monthly payment of interest on PCs and the ultimate payment of principal. GMCs also represent a PRO RATA interest in a pool of mortgages. However, these instruments pay interest semi-annually and return principal once a year in guaranteed minimum payments. The expected average life of these securities is approximately ten years. FNMA SECURITIES. The Federal National Mortgage Association was established in 1938 to create a secondary market in mortgages insured by the FHA. FNMA issues guaranteed mortgage pass-through certificates (FNMA Certificates). FNMA Certificates resemble GNMA Certificates in that each FNMA Certificate represents a PRO RATA share of all interest and principal payments made and owed on the underlying pool. FNMA guarantees timely payment of interest on FNMA Certificates and the full return of principal. Like GNMA Certificates, FNMA Certificates are assumed to be prepaid fully in their twelfth year. CHARACTERISTICS OF MORTGAGE-BACKED SECURITIES. The market value of mortgage securities, like other U.S. Government securities, will generally vary inversely with changes in market interest rates, declining when interest rates rise and rising when interest rates decline. However, mortgage securities, while having comparable risk of decline during periods of rising rates, usually have less potential for capital appreciation than other investments of comparable maturities due to the likelihood of increased prepayments of mortgages as interest rates decline. In addition, to the extent such mortgage securities are purchased at a premium, mortgage foreclosures and unscheduled principal prepayments generally will result in some loss of the holders' principal to the extent of the premium paid. On the other hand, if such mortgage securities are purchased at a discount, an unscheduled prepayment of principal will increase current and total returns and accelerate the recognition of income which when distributed to shareholders will be taxable as ordinary income. COLLATERALIZED MORTGAGE OBLIGATIONS Certain issuers of mortgage-backed obligations (CMOs), including certain CMOs that have elected to be treated as Real Estate Mortgage Investment Conduits (REMICs), are not considered investment companies pursuant to a rule adopted by the Securities and Exchange Commission (Commission), and the Fund may invest in the securities of such issuers without the limitations imposed by the Investment Company Act of 1940, as amended (the Investment Company Act) on investments by the Fund in other investment companies. In addition, in reliance on an earlier Commission interpretation, the Fund's investments in certain other qualifying CMOs, which cannot or do not rely on the rule, are also not subject to the limitation of the Investment Company Act on acquiring interests in other investment companies. In order to be able to rely on the Commission's interpretation, these CMOs must be unmanaged, fixed asset issuers, that (a) invest primarily in mortgage-backed securities, (b) do not issue redeemable securities, (c) operate under general exemptive orders exempting them from all provisions of the Investment Company Act and (d) are not registered or regulated under the Investment Company Act as investment companies. To the extent that the Fund selects CMOs or REMICs that cannot rely on the rule or do not meet the above requirements, the Fund may not invest more than 10% of its assets in all such entities and may not acquire more than 3% of the voting securities of any single such entity. B-3 OTHER SECURITIES The Fund will invest in foreign banks and foreign branches of U.S. banks only if after giving effect to such investments all such investments would constitute less than 10% of the Fund's total assets (determined at the time of investment). Investing in securities of foreign companies in foreign countries involves certain considerations and risks which are not typically associated with investing in U.S. Government securities and those of domestic companies. Foreign companies are not generally subject to uniform accounting, auditing and financial standards and requirements comparable to those applicable to U.S. companies. There may be less publicly available information about foreign companies and governments compared to reports and ratings published about U.S. companies. Securities of some foreign companies are less liquid and more volatile than securities of comparable U.S. companies, and brokerage commissions and other transaction costs on foreign securities exchanges are generally higher than in the United States. OPTION WRITING AND RELATED RISKS The Fund will write (I.E., sell) covered call or put options which are traded on registered securities exchanges (the Exchanges) and may also write such options with primary U.S. Government securities dealers recognized by the Federal Reserve Bank of New York (OTC options). A call option gives the purchaser of the option the right to buy, and the writer the obligation to sell, the underlying security at the exercise price during the option period. Conversely, a put option gives the purchaser the right to sell, and the writer the obligation to buy, the underlying security at the exercise price during the option period. OPTIONS TRANSACTIONS Exchange-traded options are issued by the Options Clearing Corporation (OCC) which, in effect, gives its guarantee to every exchange-traded option transaction. In contrast, OTC options represent a contract between a U.S. Government securities dealer and the Fund with no guarantee of the OCC. Thus, when the Fund purchases an OTC option, it relies on the dealer from which it has purchased the OTC option to make or take delivery of the U.S. Government securities underlying the OTC option. Failure by the dealer to do so would result in the loss of premium paid by the Fund as well as loss of the expected benefit of the transaction. Exchange-traded options generally have a continuous liquid market while OTC options do not. Consequently, the Fund will generally be able to realize the value of an OTC option it has purchased only by exercising it or reselling it to the issuing dealer. Similarly, when the Fund writes an OTC option, it generally will be able to close out the OTC option prior to its expiration only by entering into a closing purchase transaction with the dealer to which the Fund originally wrote the OTC option. While the Fund will enter into OTC option transactions only with dealers who will agree to and which are expected to be capable of entering into closing transactions with the Fund, there can be no assurance that the Fund will be able to liquidate an OTC option at a favorable price at any time prior to expiration. Until the Fund, as a covered OTC call option writer, is able to effect a closing purchase transaction, it will not be able to liquidate securities used as cover until the option expires, is exercised or the Fund provides substitute cover. See "How the Fund Invests--Other Investment Information--Illiquid Securities" in the Prospectus. In the event of insolvency of the counterparty, the Fund may be unable to liquidate an OTC option. With respect to options written by the Fund, the inability to enter into a closing transaction may result in material losses to the Fund. This requirement may impair the Fund's ability to sell a portfolio security at a time when such a sale might be advantageous. The principal reason for writing options on a securities portfolio is to attempt to realize, through the receipt of premiums, a greater return than would be realized on the underlying securities alone. In return for the premium, the covered call option writer has given up the opportunity for profit from a price increase in the underlying security above the exercise price so long as the option remains open, but retains the risk of loss should the price of the security decline. Conversely, the put option writer gains a profit, in the form of the premium, so long as the price of the underlying security remains above the exercise price, but assumes an obligation to purchase the underlying security from the buyer of the put option at the exercise price, even though the security may fall below the exercise price, at any time during the option period. If an option expires, the writer realizes a gain in the amount of the premium. Such a gain may, in the case of a covered call option, be offset by a decline in the market value of the underlying security during the option period. If a call B-4 option is exercised, the writer realizes a gain or loss from the sale of the underlying security. If a put option is exercised, the writer must fulfill its obligation to purchase the underlying security at the exercise price, which will usually exceed the market value of the underlying security at that time. So long as the obligation of the writer continues, the writer may be assigned an exercise notice by the broker-dealer through whom the option was sold. The exercise notice would require the writer to deliver, in the case of a call, or take delivery of, in the case of a put, the underlying security against payment of the exercise price. This obligation terminates upon expiration of the option, or at such earlier time that the writer effects a closing purchase transaction by purchasing an option covering the same underlying security and having the same exercise price and expiration date (of the same series) as the one previously sold. Once an option has been exercised, the writer may not execute a closing purchase transaction. To secure the obligation to deliver the underlying security in the case of a call option, the writer of the option is required to pledge for the benefit of the broker the underlying security or other assets in accordance with the rules of the OCC, an institution created to interpose itself between buyers and sellers of options. Technically, the OCC assumes the other side of every purchase and sale transaction on an Exchange and, by doing so, guarantees the transaction. The Fund writes only "covered" options. This means that, so long as the Fund is obligated as the writer of a call option, it will (a) own the underlying securities subject to the option, except that, in the case of call options on U.S. Treasury Bills, the Fund might own U.S. Treasury Bills of a different series from those underlying the call option, but with a principal amount and value corresponding to the option contract amount and a maturity date no later than that of the securities deliverable under the call option or (b) deposit and maintain in a segregated account cash or other liquid assets having a value at least equal to the fluctuating market value of the securities underlying the call. The Fund will be considered "covered" with respect to a put option it writes if, so long as it is obligated as the writer of a put option, it will (a) deposit and maintain in a segregated account cash or other liquid assets having a value equal to or greater than the exercise price of the option, or (b) own a put option on the same security with an exercise price the same or higher than the exercise price of the put option sold or, if lower, deposit and maintain the differential in cash or other liquid assets in a segregated account. To the extent that a secondary market is available on the Exchanges, the covered option writer may close out options it has written prior to the assignment of an exercise notice by purchasing, in a closing purchase transaction, an option of the same series as the option previously written. If the cost of such a closing purchase, plus transaction costs, is greater than the premium received upon writing the original option, the writer will incur a loss in the transaction. Because the Fund can write only covered options, it may at times be unable to write additional options unless it sells a portion of its portfolio holdings to obtain new debt securities or other cover against which it can write options. If the Fund writes a substantial number of options, its portfolio turnover will be higher than if it did not do so. Portfolio turnover will increase to the extent that options written by the Fund are exercised. Because the exercise of such options depends on changes in the price of the underlying securities, the Fund's portfolio turnover rate cannot be accurately predicted. See "Portfolio Turnover" below. SPECIAL CONSIDERATIONS APPLICABLE TO OPTIONS ON TREASURY BONDS AND NOTES. Because trading interest in Treasury Bonds and Notes tends to center on the most recently auctioned issues, the Exchanges will not indefinitely continue to introduce new series of options with expirations to replace expiring options on particular issues. Instead, the expirations introduced at the commencement of options trading on a particular issue will be allowed to run their course, with the possible addition of a limited number of new expirations as the original ones expire. Options trading on each series of Bonds or Notes will thus be phased out as new options are listed on the more recent issues, and a full range of expiration dates will not ordinarily be available for every series on which options are traded. ON TREASURY BILLS. Because the availability of deliverable Treasury Bills changes from week to week, writers of Treasury Bill call options cannot provide in advance for their potential exercise settlement obligations by acquiring and holding the underlying security. However, if the Fund holds a long position in Treasury Bills with a principal amount corresponding to the option contract size, the Fund may be hedged from a risk standpoint. In addition, the Fund will maintain in a segregated account Treasury Bills maturing no later than those which would be deliverable in the event of an assignment of an exercise notice to ensure that it can meet its open option obligations. B-5 ON GNMA CERTIFICATES. Options on GNMA Certificates are not currently traded on any Exchange. However, the Fund intends to purchase and write such options should they commence trading on any Exchange. Since the remaining principal balance of GNMA Certificates declines each month as a result of mortgage payments, the Fund, as a writer of a covered GNMA call holding GNMA Certificates as "cover" to satisfy its delivery obligation in the event of assignment of an exercise notice, may find that its GNMA Certificates no longer have a sufficient remaining principal balance for this purpose. Should this occur, the Fund will enter into a closing purchase transaction or will purchase additional GNMA Certificates from the same pool (if obtainable) or replacement GNMA Certificates in the cash market in order to remain covered. A GNMA Certificate held by the Fund to cover an option position in any but the nearest expiration month may cease to represent cover for the option in the event of a decline in the GNMA coupon rate at which new pools are originated under the FHA/VA loan ceiling in effect at any given time. Should this occur, the Fund will no longer be covered, and the Fund will either enter into a closing purchase transaction or replace the GNMA Certificate with a GNMA Certificate which represents cover. When the Fund closes its position or replaces the GNMA Certificate, it may realize an unanticipated loss and incur transaction costs. RISKS PERTAINING TO THE SECONDARY MARKET. An option position may be closed out only on an Exchange which provides a secondary market for an option of the same series. Although the Fund will generally purchase or write only those options for which there appears to be an active secondary market, there is no assurance that a liquid secondary market on an Exchange will exist for any particular option at any particular time, and for some options no secondary market on an Exchange may exist. In such event, it might not be possible to effect closing transactions in particular options, with the result that the Fund would have to exercise its options in order to realize any profit and may incur transaction costs in connection therewith. If the Fund as a covered call option writer is unable to effect a closing purchase transaction in a secondary market, it will not be able to sell the underlying security until the option expires or it delivers the underlying security upon exercise. Reasons for the absence of a liquid secondary market on an exchange include the following: (a) insufficient trading interest in certain options; (b) restrictions on transactions imposed by an Exchange; (c) trading halts, suspensions or other restrictions imposed with respect to particular classes or series of options or underlying securities; (d) interruption of the normal operations on an Exchange; (e) inadequacy of the facilities of an Exchange or the OCC to handle current trading volume; or (f) a decision by one or more Exchanges to discontinue the trading of options (or a particular class or series of options), in which event the secondary market on that Exchange (or in that class or series of options) would cease to exist, although outstanding options on that Exchange that had been issued by the OCC as a result of trades on that Exchange would generally continue to be exercisable in accordance with their terms. The hours of trading for options on U.S. Government securities may not conform to the hours during which the underlying securities are traded. To the extent that the option markets close before the markets for the underlying securities, significant price and rate movements can take place in the underlying markets that cannot be reflected in the option markets. FUTURES CONTRACTS ON U.S. GOVERNMENT SECURITIES CHARACTERISTICS AND PURPOSE OF INTEREST RATE FUTURES. The Fund may purchase and sell U.S. Exchange-traded interest-rate futures. Currently, there are futures contracts based on U.S. Treasury Bonds, U.S. Treasury Notes, three-month U.S. Treasury Bills and GNMA certificates. A clearing corporation associated with the commodities exchange on which a futures contract trades assumes responsibility for the completion of transactions and guarantees that futures contracts will be performed. Although futures contracts call for actual delivery or acceptance of debt securities, in most cases the contracts are closed out before the settlement date without the making or taking of delivery. CHARACTERISTICS. The Fund neither pays nor receives money upon the purchase or sale of a futures contract. Instead, when the Fund enters into a futures contract, it will initially be required to deposit in a segregated account for the benefit of the broker (the futures commission merchant) an amount of "initial margin" of cash or U.S. Treasury Bills, currently equal to approximately 1 1/2 to 2% of the contract amount for futures on Treasury Bonds and Notes and approximately 1/10 of 1% of the contract amount for futures on Treasury Bills. Initial margin in futures transactions is different from margin in securities transactions in that futures contract initial margin does not involve the borrowing of funds by the B-6 customer to finance the transactions. Rather, initial margin is in the nature of a good faith deposit on the contract which is returned to the Fund upon termination of the futures contract, assuming all contractual obligations have been satisfied. Subsequent payments, called variation margin, to and from the futures commission merchant are made on a daily basis as the market price of the futures contract fluctuates. This process is known as "marking to market." At any time prior to expiration of the futures contract, the Fund may elect to close the position by taking an offsetting position which will operate to terminate the Fund's position in the futures contract. While interest rate futures contracts provide for the delivery and acceptance of securities, most futures contracts are terminated by entering into offsetting transactions. Successful use of futures contracts by the Fund is also subject to the ability of the Fund's investment adviser to predict correctly movements in the direction of interest rates and other factors affecting markets for securities. For example, if the Fund has hedged against the possibility of an increase in interest rates which would adversely affect the price of securities in its portfolio and the price of such securities increases instead, the Fund will lose part or all of the benefit of the increased value of its securities because it will have offsetting losses in its futures positions. In addition, in such situations, if the Fund has insufficient cash to meet daily variation margin requirements, it may have to sell securities to meet such requirements. Such sales of securities may be, but will not necessarily be, at increased prices which reflect the rising market. The Fund may have to sell securities at a time when it is disadvantageous to do so. The hours of trading futures contracts on U.S. Government securities may not conform to the hours during which the Fund may trade such securities. To the extent that the futures markets close before or after the U.S. Government securities markets, significant variations can occur in one market that cannot be reflected in the other market. OPTIONS ON FUTURES CONTRACTS CHARACTERISTICS. An option on a futures contract gives the purchaser the right, but not the obligation, to assume a position in a futures contract (a long position if the option is a call and a short position if the option is a put) at a specified exercise price at any time during the option exercise period. The writer of the option is required upon exercise to assume an offsetting futures position (a short position if the option is a call and a long position if the option is a put). Upon exercise of the option, the assumption of offsetting futures positions by the writer and holder of the option will be accompanied by delivery of the accumulated cash balance in the writer's futures margin account which represents the amount by which the market price of the futures contract, at exercise, exceeds, in the case of a call, or is less than, in the case of a put, the exercise price of the option on the futures contract. Currently, options can be purchased or written with respect to futures contracts on GNMAs, U.S. Treasury Bonds and U.S. Treasury Notes on The Chicago Board of Trade and U.S. Treasury Bills on the International Monetary Market at the Chicago Mercantile Exchange. The holder or writer of an option may terminate its position by selling or purchasing an option of the same series. There is no guarantee that such closing transactions can be effected. The Fund will be considered "covered" with respect to a call option it writes on a futures contract if it (a) owns a long position in the underlying futures contract or the security underlying the futures contract, (b) owns a security which is deliverable under the futures contract or (c) owns a separate call option to purchase the same futures contract at a price no higher than the exercise price of the call option written by the Fund or, if higher, the Fund deposits and maintains the differential in cash or other liquid assets in a segregated account. The Fund is considered "covered" with respect to a put option it writes on a futures contract if it (a) segregates and maintains in a segregated account cash or other liquid assets at all times equal in value to the exercise price of the put (less any related margin deposited), or (b) owns a put option on the same futures contract with an exercise price as high or higher than the price of the contract held by the Fund or, if lower, the Fund deposits and maintains the differential in cash or other liquid assets in a segregated account. There is no limitation on the amount of the Fund's assets which can be placed in the segregated account. The Fund will be required to deposit initial and maintenance margin with respect to put and call options on futures contracts written by it pursuant to the Fund's futures commissions merchants' requirements similar to those applicable to futures contracts, described above. The skills needed to trade futures contracts and options thereon are different than those needed to select U.S. Government securities. The Fund's investment adviser has experience in managing other securities portfolios which uses similar options and futures strategies as the Fund. B-7 REPURCHASE AGREEMENTS The Fund's repurchase agreements will be collateralized by U.S. Government obligations. The Fund will enter into repurchase transactions only with parties meeting creditworthiness standards approved by the Fund's Board of Directors. The Fund's investment adviser will monitor the creditworthiness of such parties, under the general supervision of the Board of Directors. In the event of a default or bankruptcy by a seller, the Fund will promptly seek to liquidate the collateral. To the extent that the proceeds from any sale of such collateral upon a default in the obligation to repurchase are less than the repurchase price, the Fund will suffer a loss. The Fund participates in a joint repurchase account with other investment companies managed by Prudential Investments Fund Management LLC (PIFM) pursuant to an order of the Commission. On a daily basis, any uninvested cash balances of the Fund may be aggregated with such of other investment companies and invested in one or more repurchase agreements. Each fund participates in the income earned or accrued in the joint account based on the percentage of its investment. INTEREST RATE TRANSACTIONS The Fund may enter into interest rate swaps, on either an asset-based or liability-based basis, depending on whether it is hedging its assets or its liabilities. Under normal circumstances, the Fund will enter into interest rate swaps on a net basis, I.E., the two payment streams netted out, with the Fund receiving or paying, as the case may be, only the net amount of the two payments. The net amount of the excess, if any, of the Fund's obligations over its entitlements with respect to each interest rate swap will be accrued on a daily basis and an amount of cash or other liquid assets having an aggregate net asset value per share (NAV) at least equal to the accrued excess will be maintained in a segregated account that satisfies the requirements of the Investment Company Act. To the extent that the Fund enters into interest rate swaps on other than a net basis, the amount maintained in a segregated account will be the full amount of the Fund's obligations, if any, with respect to such interest rate swaps, accrued on a daily basis. Inasmuch as segregated accounts are established for these hedging transactions the investment adviser and the Fund believe such obligations do not constitute senior securities. If there is a default by the other party to such a transaction, the Fund will have contractual remedies pursuant to the agreement related to the transaction. The swap market has grown substantially in recent years with a large number of banks and investment banking firms acting both as principals and as agents utilizing standardized swap documentation. As a result, the swap market has become relatively liquid. The Fund will enter into interest rate swaps only with parties meeting creditworthiness standards approved by the Fund's Board of Directors. The investment adviser will monitor the creditworthiness of such parties under the supervision of the Board of Directors. The use of interest rate swaps is a highly speculative activity which involves investment techniques and risks different from those associated with ordinary portfolio securities transactions. If the investment adviser is incorrect in its forecast of market values, interest rates and other applicable factors, the investment performance of the Fund would diminish compared to what it would have been if this investment technique was never used. The Fund may only enter into interest rate swaps to hedge its portfolio. Interest rate swaps do not involve the delivery of securities or other underlying assets or principal. Accordingly, the risk of loss with respect to interest rate swaps is limited to the net amount of interest payments that the Fund is contractually obligated to make. If the other party to an interest rate swap defaults, the Fund's risk of loss consists of the net amount of interest payments that the Fund is contractually entitled to receive. Since interest rate swaps are individually negotiated, the Fund expects to achieve an acceptable degree of correlation between its rights to receive interest on its portfolio securities and its rights and obligations to receive and pay interest pursuant to interest rate swaps. ILLIQUID SECURITIES The Fund may hold up to 15% of its net assets in repurchase agreements which have a maturity of longer than seven days or in other illiquid securities, including securities that are illiquid by virtue of the absence of a readily available market (either within or outside of the United States) or legal or contractual restrictions on resale. Historically, illiquid securities have included securities subject to contractual or legal restrictions on resale because they have not been registered under the Securities Act of 1933, as amended (Securities Act), securities which are otherwise not readily marketable and repurchase agreements having a maturity of longer than seven days. Securities which have not been registered under the Securities Act are referred to as private placements or restricted securities and are purchased directly from the issuer or in B-8 the secondary market. Mutual funds do not typically hold a significant amount of these restricted or other illiquid securities because of the potential for delays on resale and uncertainty in valuation. Limitations on resale may have an adverse effect on the marketability of portfolio securities and a mutual fund might be unable to dispose of restricted or other illiquid securities promptly or at reasonable prices and might thereby experience difficulty satisfying redemptions within seven days. A mutual fund might also have to register such restricted securities in order to dispose of them resulting in additional expense and delay. Adverse market conditions could impede such a public offering of securities. In recent years, however, a large institutional market has developed for certain securities that are not registered under the Securities Act including repurchase agreements, commercial paper, foreign securities, municipal securities and corporate bonds and notes. Institutional investors depend on an efficient institutional market in which the unregistered security can be readily resold or on an issuer's ability to honor a demand for repayment. The fact that there are contractual or legal restrictions on resale to the general public or to certain institutions may not be indicative of the liquidity of such investments. Rule 144A of the Securities Act allows for a broader institutional trading market for securities otherwise subject to restriction on resale to the general public. Rule 144A establishes a "safe harbor" from the registration requirements of the Securities Act for resales of certain securities to qualified institutional buyers. The investment adviser anticipates that the market for certain restricted securities such as institutional commercial paper, convertible securities and foreign securities will expand further as a result of this regulation and the development of automated systems for the trading, clearance and settlement of unregistered securities of domestic and foreign issuers, such as the PORTAL System sponsored by the National Association of Securities Dealers, Inc. (NASD). Restricted securities eligible for resale pursuant to Rule 144A under the Securities Act and commercial paper for which there is a readily available market will not be deemed to be illiquid. The investment adviser will monitor the liquidity of such restricted securities subject to the supervision of the Board of Directors. In reaching liquidity decisions, the investment adviser will consider, INTER ALIA, the following factors: (1) the frequency of trades and quotes for the security; (2) the number of dealers wishing to purchase or sell the security and the number of other potential purchasers; (3) dealer undertakings to make a market in the security and (4) the nature of the security and the nature of the marketplace trades (E.G., the time needed to dispose of the security, the method of soliciting offers and the mechanics of the transfer). In addition, in order for commercial paper that is issued in reliance on Section 4(2) of the Securities Act to be considered liquid, (i) it must be rated in one of the two highest rating categories by at least two nationally recognized statistical rating organizations (NRSRO), or if only one NRSRO rates the securities, by that NRSRO, or, if unrated, be of comparable quality in the view of the investment adviser; and (ii) it must not be "traded flat" (I.E., without accrued interest) or in default as to principal or interest. Repurchase agreements subject to demand are deemed to have a maturity equal to the notice period. The staff of the Commission has also taken the position that purchased OTC options and the assets used as "cover" for written OTC options are illiquid securities unless the Fund and the counterparty have provided for the Fund, at the Fund's election, to unwind the OTC option. The exercise of such an option would ordinarily involve the payment by the Fund of an amount designed to reflect the counterparty's economic loss from an early termination, but does allow the Fund to treat the assets used as "cover" as "liquid." PORTFOLIO TURNOVER The Fund's portfolio turnover rate for the fiscal years ended February 28, 1997 and February 28, 1998 was 107% and 88%, respectively. The investment adviser expects that, under normal circumstances, if the Fund writes a substantial number of options, and those options are exercised, the Fund's portfolio turnover rate may be as high as 250% or higher, see "Options Transactions" above and "How the Fund Invests--Other Investment Information--Portfolio Turnover and Brokerage" in the Prospectus. SEGREGATED ACCOUNTS When the Fund is required to segregate assets in connection with certain hedging transactions, it will maintain cash or liquid assets in a segregated account. "Liquid assets" means cash, U.S. Government securities, foreign securities, equity securities, debt obligations or other liquid, unencumbered assets marked-to-market daily. B-9 INVESTMENT RESTRICTIONS The following restrictions are fundamental policies. Fundamental policies are those which cannot be changed without the approval of the holders of a majority of the Fund's outstanding voting securities. A "majority of the Fund's outstanding voting securities," when used in this Statement of Additional Information, means the lesser of (i) 67% of the voting shares represented at a meeting at which more than 50% of the outstanding voting shares are present in person or represented by proxy or (ii) more than 50% of the outstanding voting shares. The Fund may not: 1. Purchase securities on margin (but the Fund may obtain such short-term credits as may be necessary for the clearance of transactions); the deposit or payment by the Fund of initial or variation margin in connection with interest rate futures contracts or related options transactions is not considered the purchase of a security on margin. 2. Make short sales of securities or maintain a short position, except short sales "against the box." 3. Issue senior securities, borrow money or pledge its assets except that the Fund may borrow up to 20% of the value of its total assets (calculated when the loan is made) for temporary, extraordinary or emergency purposes or for the clearance of transactions. The Fund may pledge up to 20% of the value of its total assets to secure such borrowings. For purposes of this restriction, the purchase or sale of securities on a when-issued or delayed delivery basis, collateral arrangements with respect to interest rate swap transactions, reverse repurchase agreements or dollar roll transactions or the writing of options on debt securities or on interest rate futures contracts or other financial futures contracts are not deemed to be a pledge of assets and neither such arrangements, nor the purchase or sale of interest rate futures contracts or other financial futures contracts or the purchase or sale of related options, nor obligations of the Fund to Directors pursuant to deferred compensation arrangements are deemed to be the issuance of a senior security. 4. Purchase any security (other than obligations of the U.S. Government, its agencies, or instrumentalities) if as a result: (i) with respect to 75% of the Fund's total assets, more than 5% of the Fund's total assets (determined at the time of investment) would then be invested in securities of a single issuer, or (ii) 25% or more of the Fund's total assets (determined at the time of investment) would be invested in a single industry. 5. Purchase any security if as a result the Fund would then hold more than 10% of the outstanding voting securities of an issuer. 6. Buy or sell commodities or commodity contracts or real estate or interests in real estate, except it may purchase and sell securities which are secured by real estate, securities of companies which invest or deal in real estate, interest rate futures contracts and other financial futures contracts and options thereon. 7. Act as underwriter except to the extent that, in connection with the disposition of portfolio securities, it may be deemed to be an underwriter under certain federal securities laws. 8. Make investments for the purpose of exercising control or management. 9. Invest in securities of other registered investment companies, except by purchases in the open market involving only customary brokerage commissions and as a result of which not more than 10% of its total assets (determined at the time of investment) would be invested in such securities, or except as part of a merger, consolidation or other acquisition. 10. Invest in interests in oil, gas or other mineral exploration or development programs. 11. Make loans, except through (i) repurchase agreements and (ii) loans of portfolio securities (limited to 30% of the Fund's total assets). 12. Purchase warrants if as a result the Fund would then have more than 5% of its total assets (determined at the time of investment) invested in warrants. 13. Write, purchase or sell puts, calls or combinations thereof, or purchase or sell futures contracts or related options, except that the Fund may write put and call options on U.S. Government securities, purchase put and call options on U.S. Government securities and purchase or sell interest rate futures contracts and other financial futures contracts and related options. Whenever any fundamental investment policy or investment restriction states a maximum percentage of the Fund's assets, it is intended that if the percentage limitation is met at the time the investment is made, a later change in percentage B-10 resulting from changing total or net asset values will not be considered a violation of such policy. However, in the event that the Fund's asset coverage for borrowings falls below 300%, the Fund will take prompt action to reduce its borrowings, as required by applicable law. DIRECTORS AND OFFICERS
PRINCIPAL OCCUPATIONS NAME, ADDRESS(1) AND AGE POSITION WITH FUND DURING PAST FIVE YEARS - ----------------------------- ----------------------- ---------------------------------------------------------- Edward D. Beach (73) Director President and Director of BMC Fund, Inc., a closed-end investment company; prior thereto, Vice Chairman of Broyhill Furniture Industries, Inc.; Certified Public Accountant; Secretary and Treasurer of Broyhill Family Foundation, Inc.; Member of the Board of Trustees of Mars Hill College; Director of The High Yield Income Fund, Inc. Eugene C. Dorsey (71) Director Retired President, Chief Executive Officer and Trustee of the Gannett Foundation (now Freedom Forum); former Publisher of four Gannett newspapers and Vice President of Gannett Company; past Chairman of Independent Sector (national coalition of philanthropic organizations); former Chairman of the American Council for the Arts; Director of the Advisory Board of Chase Manhattan Bank of Rochester, The High Yield Income Fund, Inc. and First Financial Fund, Inc. Delayne Dedrick Gold (59) Director Marketing and Management Consultant; Director of The High Yield Income Fund, Inc. *Robert F. Gunia (51) Director and Vice Vice President (since September 1997), Prudential President Investments; Executive Vice President and Treasurer (since December 1996), Prudential Investments Fund Management LLC (PIFM); Senior Vice President (since March 1987) of Prudential Securities Incorporated (Prudential Securities); formerly Chief Administrative Officer (July 1990-September 1996), Director (January 1989-September 1996) and Executive Vice President, Treasurer and Chief Financial Officer (June 1987-September 1996) of Prudential Mutual Fund Management, Inc. (PMF); Vice President and Director of The Asia Pacific Fund, Inc. (since May 1989); Director of The High Yield Income Fund, Inc. *Harry A. Jacobs, Jr. (76) Director Senior Director (since January 1986) of Prudential One Seaport Plaza Securities; formerly Interim Chairman and Chief Executive New York, NY 10292 Officer of PMF (June-September 1993); formerly Chairman of the Board of Prudential Securities (1982-1985) and Chairman of the Board and Chief Executive Officer of Bache Group Inc. (1977-1982); Trustee of The Trudeau Institute; Director of The First Australia Fund, Inc., The First Australia Prime Income Fund, Inc and The High Yield Income Fund, Inc.
- ------------ * "Interested" director, as defined in the Investment Company Act, by reason of his affiliation with Prudential Securities, Prudential or PIFM. B-11
PRINCIPAL OCCUPATIONS NAME, ADDRESS(1) AND AGE POSITION WITH FUND DURING PAST FIVE YEARS - ----------------------------- ----------------------- ---------------------------------------------------------- *Mendel A. Melzer CFA (37) Director Chief Investment Officer (since October 1996) of 751 Broad Street Prudential Mutual Funds; formerly Chief Financial Officer Newark, NJ 07102 of Prudential Investments (November 1995-September 1996), Senior Vice President and Chief Financial Officer of Prudential Preferred Financial Services (April 1993-November 1995), Managing Director of Prudential Investment Advisors (April 1991-April 1993) and Senior Vice President of Prudential Capital Corporation (July 1989-April 1991); Director of the High Yield Income Fund, Inc. Thomas T. Mooney (56) Director President of the Greater Rochester Metro Chamber of Commerce; former Rochester City Manager; Trustee of Center for Governmental Research, Inc.; Director of Blue Cross of Rochester, The Business Council of New York State, Monroe County Water Authority, Rochester Jobs, Inc., Northeast-Midwest Institute, Executive Service Corps of Rochester, Monroe County Industrial Development Corporation and The High Yield Income Fund, Inc.; President, Director and Treasurer of First Financial Fund, Inc. and The High Yield Plus Fund, Inc. Thomas H. O'Brien (73) Director President, O'Brien Associates (financial and management consultants) (since April 1984); formerly President of Jamaica Water Securities Corp. (holding company) (February 1989-August 1990); Chairman and Chief Executive Officer (September 1987-February 1989) and Director (September 1987-August 1990) of Jamaica Water Supply Company; Director and President of Winthrop Regional Health Systems, Inc. and United Presbyterian Homes; Director of Ridgewood Savings Bank; Trustee of Hofstra University. Director of The High Yield Income Fund, Inc. *Richard A. Redeker (54) Director and President Employee of Prudential Investments; formerly President, 751 Broad Street Chief Executive Officer and Director (October Newark, N.J. 07102 1993-September 1996), PMF; Executive Vice President, Director and Member of the Operating Committee (October 1993-September 1996), Prudential Securities; Director (October 1993-September 1996) of Prudential Securities Group, Inc. (PSG); Executive Vice President, The Prudential Investment Corporation (July 1994-September 1996); Director (January 1994-September 1996) of Prudential Mutual Fund Distributors, Inc. (PMFD) and Prudential Mutual Fund Services, Inc. (PMFS); formerly Senior Executive Vice President and Director of Kemper Financial Services, Inc. (September 1978-September 1993); Director and President of The High Yield Income Fund, Inc.
- ------------ * "Interested" director, as defined in the Investment Company Act, by reason of his affiliation with Prudential Securities, Prudential or PIFM. B-12
PRINCIPAL OCCUPATIONS NAME, ADDRESS(1) AND AGE POSITION WITH FUND DURING PAST FIVE YEARS - ----------------------------- ----------------------- ---------------------------------------------------------- Nancy H. Teeters (67) Director Economist; formerly Vice President and Chief Economist of International Business Machines Corporation (March 1986-June 1990); Member of the Board of Governors of the Horace Rackham School of Graduate Studies of the University of Michigan; Director of Inland Steel Industries (since July 1991) and the High Yield Income Fund, Inc. Louis A. Weil, III (56) Director Publisher and Chief Executive Officer (since January 1996) and Director (since September 1991) of Central Newspapers, Inc.; Chairman (since January 1996), Publisher and Chief Executive Officer of Phoenix Newspapers, Inc. (August 1991-December 1995), prior thereto, Publisher of Time Magazine (May 1989-March 1991); formerly President, Publisher and Chief Executive Officer of the Detroit News (February 1986-August 1989); formerly member of the Advisory Board, Chase Manhattan Bank-Westchester, Director of the High Yield Income Fund, Inc. Stephen M. Ungerman (45) Assistant Treasurer Tax Director (since March 1996) of Prudential Investments and the Private Asset Group of The Prudential Insurance Company of America; formerly First Vice President of Prudential Mutual Fund Management, Inc. (February 1993-September 1996); prior thereto, Senior Tax Manager at Price Waterhouse LLP (1981-January 1993). S. Jane Rose (52) Secretary Senior Vice President (since December 1996) of PIFM; Senior Vice President and Senior Counsel of Prudential Securities (since July 1992); formerly Senior Vice President (January 1991-September 1996) and Senior Counsel (June 1987-September 1996) of Prudential Mutual Fund Management, Inc. Grace C. Torres (38) Treasurer and Principal First Vice President (since December 1996) of PIFM; First Financial and Vice President of Prudential Securities (since March Accounting Officer 1994); formerly First Vice President (March 1994-September 1996), of Prudential Mutual Fund Management, Inc., and Vice President (July 1989-March 1994) of Bankers Trust Corporation. Deborah A. Docs (40) Assistant Secretary Vice President (since December 1996) of PIFM; formerly Vice President and Associate General Counsel (January 1993-September 1996) of Prudential Mutual Fund Management, Inc.; Vice President and Associate General Counsel of Prudential Securities.
- ------------ * "Interested" director, as defined in the Investment Company Act, by reason of his affiliation with Prudential Securities, Prudential or PIFM. (1) Unless otherwise noted the address for each of the above persons is c/o: Prudential Investments Fund Management LLC, Gateway Center Three, 100 Mulberry Street, Newark, New Jersey 07102-4077. Directors and officers of the Fund are also trustees, directors and officers of some or all of the other investment companies distributed by Prudential Securities. The officers conduct and supervise the daily business operations of the Fund, while the Directors, in addition to their functions set forth under "Manager" and "Distributor," review such actions and decide on general policy. B-13 The Fund pays each of its Directors who is not an affiliated person of the Manager annual compensation of $5,500, in addition to certain out-of-pocket expenses. The amount of annual compensation paid to each Director may change as a result of the introduction of additional funds upon which the Director may be asked to serve. Directors may receive their Directors' fees pursuant to a deferred fee arrangement with the Fund. Under the terms of the agreement, the Fund accrues daily the amount of Directors' fees which accrue interest at a rate equivalent to the prevailing rate applicable to 90-day U.S. Treasury Bills at the beginning of each calendar quarter or at the daily rate of the Fund. Payment of the interest so accrued is also deferred and accruals become payable at the option of the Director. The Fund's obligation to make payments of deferred Directors' fees, together with interest thereon, is a general obligation of the Fund. The Directors have adopted a retirement policy which calls for the retirement of Directors on December 31 of the year in which they reach the age of 72, except that retirement is being phased in for Directors who were age 68 or older as of December 31, 1993. Under this phase-in provision, Messrs. Beach, Jacobs, and O'Brien are scheduled to retire on December 31, 1999, 1998, and 1999, respectively. Pursuant to the terms of the Management Agreement with the Fund, the Manager pays all compensation of officers and employees of the Fund as well as the fees and expenses of all Directors of the Fund who are affiliated persons of the Manager. The following table sets forth the aggregate compensation paid by the Fund for the fiscal year ended February 28, 1998 to the Directors who are not affiliated with the Manager and the aggregate compensation paid to such Directors for service on the Fund's Board and the Board of any other investment companies managed by Prudential Mutual Fund Management, Inc. (Fund Complex) for the calender year ended December 31, 1997. COMPENSATION TABLE
PENSION OR RETIREMENT TOTAL COMPENSATION AGGREGATE BENEFITS ACCRUED ESTIMATED ANNUAL FROM FUND AND FUND COMPENSATION AS PART OF FUND BENEFITS UPON COMPLEX PAID TO NAME AND POSITION FROM FUND EXPENSES RETIREMENT DIRECTORS - ---------------------------------------------- ------------- ----------------- ------------------- ------------------ Edward D. Beach, Director $ 5,500 None N/A $ 135,000(38/63)* Eugene C. Dorsey, Director** $ 5,500 None N/A $ 70,000(16/43)* Delayne Dedrick Gold, Director $ 5,500 None N/A $ 135,000(38/63)* Robert F. Gunia, Director and Vice President+ $ -- -- -- -- Harry A. Jacobs, Jr., Director+ $ -- -- -- -- Donald D. Lennox, Retired Director $ 5,500 None N/A $ 90,000(26/50)* Mendel A. Melzer, CFA, Director+ $ -- -- -- -- Thomas T. Mooney, Director** $ 5,500 None N/A $ 115,000(31/64)* Thomas H. O'Brien, Director $ 5,500 None N/A $ 45,000(11/29)* Richard A. Redeker, Director and President+ $ -- -- -- -- Nancy H. Teeters, Director $ 5,500 None N/A $ 90,000(23/42)* Louis A. Weil, III, Director $ 5,500 None N/A $ 90,000(26/50)*
* Indicates number of funds/portfolios in Fund Complex (including the Fund) to which aggregate compensation relates. ** Total aggregate compensation from all of the funds in the Fund Complex for the calendar year ended December 31, 1997, includes amounts deferred at the election of Directors. Including accrued interest, total compensation amounted to $87,401, and $143,909 for Eugene C. Dorsey and Thomas T. Mooney, respectively. + Robert F. Gunia, Harry A. Jacobs, Jr., Mendel A. Melzer and Richard A. Redeker, who are each interested Directors do not receive compensation from the Fund or any other fund in the Fund Complex. As of April 10, 1998, the Directors and officers of the Fund, as a group, owned less than 1% of the outstanding shares of the Fund. As of April 10, 1998, the only beneficial owners, directly or indirectly of more than 5% of any class of shares of the Fund were: F.H. Peterson Machine Corp., P/S Plan UAD 11-31-78, FBO Wilbur J. Boss, P.O. Box 617, Stoughton, MA 02072-0617, who held 19,264 Class C shares (5.7% of the outstanding Class C shares); Prudential Trust Company, FBO PRU-DC Trust Accounts, Attn. John Sturdy, 30 Scranton Office Park, Moosic, PA 18507-1796, who held 24,602 Class C B-14 shares (approximately 7.3% of the outstanding Class C shares); Prudential Defined Contribution Services, FBO PRU-NON Trust Accounts, Attn. John Sturdy, 30 Scranton Office Park, Moosic, PA 18507-1755, who held 5,058,807 Class Z shares (approximately 54.6% of the outstanding Class Z shares); and Prudential Trust Company, FBO PRU-DC Trust Accounts, Attn. John Sturdy, 30 Scranton Office Park, Moosic, PA 18507-1796, who held 1,599,665 Class Z shares (approximately 17.3% of the outstanding Class Z shares). As of April 10, 1998, Prudential Securities was the record holder for other beneficial owners of 54,345,743 Class A shares (or 60% of the outstanding Class A shares), 17,164,696 Class B shares (or 47% of the outstanding Class B shares), 215,784 Class C shares (or 64% of the outstanding Class C shares) and 207,487 Class Z shares (or 2% of the outstanding Class Z shares) of the Fund. In the event of any meetings of shareholders, Prudential Securities will forward, or cause the forwarding of, proxy materials to the beneficial owners for which it is the record holder. MANAGER The manager of the Fund is Prudential Investments Fund Management LLC (PIFM or the Manager), Gateway Center Three, 100 Mulberry Street, Newark, New Jersey 07102-4077. The Manager serves as manager to all of the other investment companies that, together with the Fund, comprise the "Prudential Mutual Funds." See "How the Fund is Managed--Manager" in the Prospectus. As of March 31, 1998, PIFM managed and/or administered open-end and closed-end management investment companies with assets of approximately $64.8 billion. According to the Investment Company Institute, as of December 31, 1997, the Prudential Mutual Funds were the 17th largest family of mutual funds in the United States. The Manager is a subsidiary of Prudential Securities and Prudential. Prudential Mutual Fund Services LLC (the Transfer Agent), a wholly owned subsidiary of the Manager, serves as the Transfer Agent for the Prudential Mutual Funds and, in addition, provides customer service, record keeping and management and administration services to qualified plans. Pursuant to the Management Agreement with the Fund (the Management Agreement), the Manager, subject to the supervision of the Fund's Board of Directors and in conformity with the stated policies of the Fund, manages both the investment operations of the Fund and the composition of the Fund's portfolio, including the purchase, retention, disposition and loan of securities. In connection therewith, the Manager is obligated to keep certain books and records of the Fund. The Manager also administers the Fund's corporate affairs and, in connection therewith, furnishes the Fund with office facilities, together with those ordinary clerical and bookkeeping services which are not being furnished by State Street Bank and Trust Company (the Custodian) and the Fund's transfer and dividend disbursing agent. The services of the Manager for the Fund are not exclusive under the terms of the Management Agreement and the Manager is free to, and does, render management services to others. For its services, the Manager receives, pursuant to the Management Agreement, a fee at an annual rate of 0.50 of 1% of the average daily net assets of the Fund up to $3 billion and .35 of 1% of the average daily net assets of the Fund in excess of $3 billion. The fee is computed daily and payable monthly. The Management Agreement also provides that, in the event the expenses of the Fund (including the fees of the Manager, but excluding interest, taxes, brokerage commissions, distribution fees and litigation and indemnification expenses and other extraordinary expenses not incurred in the ordinary course of the Fund's business) for any fiscal year exceed the lowest applicable annual expense limitation established and enforced pursuant to the statutes or regulations of any jurisdiction in which the Fund's shares are qualified for offer and sale, the compensation due to the Manager will be reduced by the amount of such excess. Currently, the Fund believes there are no such restrictions. In connection with its management of the corporate affairs of the Fund, the Manager bears the following expenses: (a) the salaries and expenses of all of its and the Fund's personnel except the fees and expenses of Directors who are not affiliated persons of the Manager or the Subadviser; (b) all expenses incurred by the Manager or by the Fund in connection with managing the ordinary course of the Fund's business, other than those assumed by the Fund as described below; and (c) the costs and expenses payable to the Subadviser pursuant to the subadvisory agreement between the Manager and the Subadviser (the Subadvisory Agreement). B-15 Under the terms of the Management Agreement, the Fund is responsible for the payment of the following expenses: (a) the fees payable to the Manager, (b) the fees and expenses of Directors who are not affiliated persons of the Manager or the Subadviser, (c) the fees and certain expenses of the Custodian and Transfer Agent, including the cost of providing records to the Manager in connection with its obligation of maintaining required records of the Fund and of pricing the Fund's shares, (d) the charges and expenses of legal counsel and independent accountants for the Fund, (e) brokerage commissions and any issue or transfer taxes chargeable to the Fund in connection with its securities transactions, (f) all taxes and corporate fees payable by the Fund to governmental agencies, (g) the fees of any trade associations of which the Fund may be a member, (h) the cost of stock certificates representing shares of the Fund, (i) the cost of fidelity and liability insurance, (j) the fees and expenses involved in registering and maintaining registration of the Fund and of its shares with the Commission, including the preparation and printing of the Fund's registration statements and prospectuses for such purposes and paying the fees and expenses of notice filings made in accordance with state securities laws, (k) allocable communications expenses with respect to investor services and all expenses of shareholders' and Directors' meetings and of preparing, printing and mailing reports, proxy statements and prospectuses to shareholders in the amount necessary for distribution to the shareholders, (l) litigation and indemnification expenses and other extraordinary expenses not incurred in the ordinary course of the Fund's business and (m) distribution fees. The Management Agreement provides that the Manager will not be liable for any error of judgment or for any loss suffered by the Fund in connection with the matters to which the Management Agreement relates, except a loss resulting from willful misfeasance, bad faith, gross negligence or reckless disregard of duty. The Management Agreement provides that it will terminate automatically if assigned, and that it may be terminated without penalty by either party upon not more than 60 days' nor less than 30 days' written notice. The Management Agreement will continue in effect for a period of more than two years from the date of execution only so long as such continuance is specifically approved at least annually in conformity with the Investment Company Act. The Management Agreement was last approved by the Board of Directors, including a majority of the Directors who are not parties to the contract or interested persons of any such party as defined in the Investment Company Act, on May 22, 1997 and by the shareholders of the Fund on March 30, 1988. For the fiscal years ended February 28, 1998, February 28, 1997 and February 29, 1996, the Fund paid management fees to the Manager or its predecessors of $6,507,621, $7,351,081 and $7,787,246, respectively. The Manager has entered into the Subadvisory Agreement with the Subadviser, a wholly-owned subsidiary of Prudential. The Subadvisory Agreement provides that the Subadviser will furnish investment advisory services in connection with the management of the Fund. In connection therewith, the Subadviser is obligated to keep certain books and records of the Fund. The Manager continues to have responsibility for all investment advisory services pursuant to the Management Agreement and supervises the Subadviser's performance of such services. The Subadviser is reimbursed by the Manager for the reasonable costs and expenses incurred by the Subadviser in furnishing those services. Investment advisory services are provided to the Fund by a unit of the Subadviser, known as Prudential Mutual Fund Investment Management. The Subadvisory Agreement was last approved by the Board of Directors, including a majority of the Directors who are not parties to the contract or interested persons of any such party as defined in the Investment Company Act, on May 22, 1997, and by shareholders of the Fund on March 30, 1988. The Subadvisory Agreement provides that it will terminate in the event of its assignment (as defined in the Investment Company Act) or upon the termination of the Management Agreement. The Subadvisory Agreement may be terminated by the Fund, the Manager or the Subadviser upon not more than 60 days', nor less than 30 days', written notice. The Subadvisory Agreement provides that it will continue in effect for a period of more than two years from its execution only so long as such continuance is specifically approved at least annually in accordance with the requirements of the Investment Company Act. DISTRIBUTOR Prudential Securities Incorporated (Prudential Securities or the Distributor), One Seaport Plaza, New York, New York 10292, acts as the distributor of the shares of the Fund. Prior to January 2, 1996, Prudential Mutual Fund Distributors, Inc. (PMFD), One Seaport Plaza, New York, New York 10292, acted as distributor of the Class A shares of the Fund. Pursuant to separate Plans of Distribution (the Class A Plan, the Class B Plan and the Class C Plan, collectively, the Plans) adopted by the Fund under Rule 12b-1 under the Investment Company Act and a distribution agreement (the Distribution Agreement), the Distributor incurs the expenses of distributing the Fund's Class A, Class B and Class C B-16 shares. The Distributor also incurs the expenses of distributing the Fund's Class Z shares under the Distribution Agreement, none of which are reimbursed by or paid for by the Fund. See "How the Fund is Managed--Distributor" in the Prospectus. On May 22, 1997, the Board of Directors, including a majority of the Directors who are not interested persons of the Fund and who have no direct or indirect financial interest in the operation of the Class A Plan, Class B Plan or Class C Plan or in any agreement related to any Plan (the Rule 12b-1 Directors), at a meeting called for the purpose of voting on each Plan, approved the continuance of the Plans and Distribution Agreement. The Class A Plan provides that (i) up to .25 of 1% of the average daily net assets of the Class A shares may be used to pay for personal service and the maintenance of shareholder accounts (service fee) and (ii) total distribution fees (including the service fee of up to .25 of 1%) may not exceed .30 of 1%. The Class B Plan provides that (i) up to .25 of 1% of the average daily net assets of the Class B shares may be paid as a service fee and (ii) up to .75 of 1% of the average daily net assets up to $3 billion, .55 of 1% of the next $1 billion of such assets and .25 of 1% of such assets in excess of $4 billion (not including the service fee) may be used for distribution-related expenses with respect to the Class B shares. The Class C Plan provides that (i) up to .25 of 1% of the average daily net assets of the Class C shares may be paid as a service fee and (ii) up to .75 of 1% (not including the service fee) may be used for distribution-related expenses with respect to the Class C shares. The Class A Plan was approved by Class A and Class B shareholders, and the Class B Plan was approved by Class B shareholders on July 19, 1994. The Class C Plan was approved by the sole shareholder of Class C shares on August 1, 1994. CLASS A PLAN. For the fiscal year ended February 28, 1998, the Distributor received payments of $1,263,646 under the Class A Plan. This amount was primarily expended for payment of account servicing fees to financial advisers and other persons who sell Class A shares. For the fiscal year ended February 28, 1998, the Distributor also received approximately $294,300 in initial sales charges. CLASS B PLAN. For the fiscal year ended February 28, 1998, the Distributor received $3,177,448 from the Fund under the Class B Plan and spent approximately $1,274,800 in distributing the Class B shares of the Fund. It is estimated that of the latter amount, approximately $6,700 (.5%) was spent on printing and mailing of prospectuses to other than current shareholders, $208,300 (16.3%) on compensation to Pruco Securities Corporation, an affiliated broker-dealer, for commissions to its representatives and other expenses, including an allocation on account of overhead and other branch office distribution-related expenses incurred by it for distribution of Fund shares; and $1,859,800 (88.2%) on the aggregate of (i) payment of commissions and account servicing fees to financial advisers ($746,600 or 58.6%), and (ii) an allocation on account of overhead and other branch office distribution-related expenses ($313,200 or 24.6%). The term "overhead and other branch office distribution-related expenses" represents (a) the expenses of operating branch offices of Prusec and the Distributor in connection with the sale of Fund shares, including lease costs, the salaries and employee benefits of operations and sales support personnel, utility costs, communications costs and the costs of stationery and supplies, (b) the costs of client sales seminars, (c) expenses of mutual fund sales coordinators to promote the sale of Fund shares and (d) other incidental expenses relating to branch promotion of Fund sales. The Distributor also receives the proceeds of contingent deferred sales charges paid by investors upon certain redemptions of Class B shares. See "Shareholder Guide--How to Sell Your Shares--Contingent Deferred Sales Charges" in the Prospectus. For the fiscal year ended February 28, 1998, the Distributor received approximately $781,400 in contingent deferred sales charges attributable to the Class B shares. CLASS C PLAN. For the fiscal year ended February 28, 1998, the Distributor received $18,923 from the Fund under the Class C Plan and spent approximately $18,400 in distributing the Fund's Class C shares. It is estimated that of the latter amount approximately $400 (2.2%) was spent on printing and mailing of prospectuses to other than current shareholders; $800 (4.3%) on compensation to Pruco Securities Corporation, an affiliated broker-dealer, for commissions to its representatives and other expenses, including an allocation of overhead and other branch office distribution-related expenses, incurred by it for distribution of Fund shares; and $17,200 (93.5%) on the aggregate of (i) payments of commission and account servicing fees to financial advisors ($14,600 or 79.3%) and (ii) an allocation of overhead and other branch office distribution-related expenses ($2,600 or 14.2%). The term "overhead and other branch office distribution-related expenses" represents (a) the expenses of operating Prudential Securities' branch offices in connection with the sale of Fund shares, including lease costs, the salaries and employee benefits of operations and sales support personnel, utility costs, communications costs and the costs of stationery and supplies, (b) the costs of client sales seminars, (c) expenses of mutual fund sales coordinators to promote the sale of Fund shares and (d) other incidental expenses relating to branch promotion of Fund sales. B-17 The Distributor also receives the proceeds of contingent deferred sales charges paid by holders of Class C shares upon certain redemptions of Class C shares. See "Shareholder Guide--How to Sell Your Shares--Contingent Deferred Sales Charges" in the Prospectus. For the fiscal year ended February 28, 1998, the Distributor received approximately $400 in contingent deferred sales charges attributable to Class C shares. The Plans continue in effect from year to year, provided that each such continuance is approved at least annually by a vote of the Board of Directors, including a majority vote of the Rule 12b-1 Directors, cast in person at a meeting called for the purpose of voting on such continuance. The Plans may each be terminated at any time, without penalty, by the vote of a majority of the Rule 12b-1 Directors or by the vote of the holders of a majority of the outstanding shares of the applicable class on not more than 30 days' written notice to any other party to the Plans. The Plans may not be amended to increase materially the amounts to be spent for the services described therein without approval by the shareholders of the applicable class (by both Class A and Class B shareholders, voting separately, in the case of material amendments to the Class A Plan), and all material amendments are required to be approved by the Board of Directors in the manner described above. Each Plan will automatically terminate in the event of its assignment. The Fund will not be contractually obligated to pay expenses incurred under any Plan if it is terminated or not continued. Pursuant to each Plan, the Board of Directors will review at least quarterly a written report of the distribution expenses incurred on behalf of each class of shares of Fund by the Distributor. The report will include an itemization of the distribution expenses and the purposes of such expenditures. In addition, as long as the Plans remain in effect, the selection and nomination of the Rule 12b-1 Directors shall be committed to the Rule 12b-1 Directors. Pursuant to the Distribution Agreement, the Fund has agreed to indemnify the Distributor to the extent permitted by applicable law against certain liabilities under the Securities Act. On November 3, 1995, the Board of Directors approved the transfer of the Distribution Agreement for Class A shares with PMFD to the Distributor, and on May 22, 1997, the Board of Directors, including a majority of the Rule 12b-1 Directors, approved a restated distribution agreement between the Fund and the Distributor relating to all four classes of shares. NASD MAXIMUM SALES CHARGE RULE. Pursuant to rules of the NASD, the Distributor is required to limit aggregate initial sales charges, deferred sales charges and asset-based sales charges to 6.25% of total gross sales of each class of shares. Interest charges on unreimbursed distribution expenses equal to the prime rate plus one percent per annum may be added to the 6.25% limitation. Sales from the reinvestment of dividends and distributions are not included in the calculation of the 6.25% limitation. The annual asset-based sales charge on shares of the Fund may not exceed .75 of 1% per class. The 6.25% limitation applies to the Fund rather than on a per shareholder basis. If aggregate sales charges were to exceed 6.25% of total gross sales of shares of any class, all sales charges on shares of that class would be suspended. PORTFOLIO TRANSACTIONS AND BROKERAGE The Manager is responsible for decisions to buy and sell securities, futures contracts and options on such securities and futures for the Fund, the selection of brokers, dealers and futures commission merchants to effect the transactions and the negotiation of brokerage commissions, if any. For purposes of this section, the term "Manager" includes the Subadviser. Broker-dealers may receive brokerage commissions on Fund portfolio transactions, including options, futures and options on futures transactions and the purchase and sale of underlying securities upon the exercise of options. Orders may be directed to any broker or futures commission merchant including, to the extent and in the manner permitted by applicable law, Prudential Securities and its affiliates. In the U.S. Government securities market, securities are generally traded on a "net" basis with dealers acting as principal for their own accounts without a stated commission, although the price of the security usually includes a profit to the dealer. In underwritten offerings, securities are purchased at a fixed price which includes an amount of compensation to the underwriter, generally referred to as the underwriter's concession or discount. On occasion, certain money market instruments and agency securities may be purchased directly from the issuer, in which case no commissions or discounts are paid. The Fund will not deal with Prudential Securities or its affiliates in any transaction in which Prudential Securities or its affiliates act as principal. Thus, it will not deal in U.S. Government securities with Prudential Securities or its affiliates acting as market maker, and it will not execute a negotiated trade with Prudential or its affiliates if execution involves Prudential Securities or its affiliates acting as principal with respect to any part of the Fund's order. Portfolio securities may not be purchased from any underwriting or selling syndicate of which Prudential Securities or its affiliates, during the existence of the syndicate, is a principal underwriter (as defined in the Investment Company Act), except in accordance with rules of the Commission. This limitation, in the opinion of the Fund, will not significantly B-18 affect the Fund's ability to pursue its present investment objective. However, in the future in other circumstances, the Fund may be at a disadvantage because of this limitation in comparison to other funds with similar objectives but not subject to such limitations. In placing orders for portfolio securities of the Fund, the Manager is required to give primary consideration to obtaining the most favorable price and efficient execution. Within the framework of this policy, the Manager will consider the research and investment services provided by brokers, dealers or futures commission merchants who effect or are parties to portfolio transactions of the Fund, the Manager or the Manager's other clients. Such research and investment services are those which brokerage houses customarily provide to institutional investors and include statistical and economic data and research reports on particular companies and industries. Such services are used by the Manager in connection with all of its investment activities, and some of such services obtained in connection with the execution of transactions for the Fund may be used in managing other investment accounts. Conversely, brokers, dealers or futures commission merchants furnishing such services may be selected for the execution of transactions of such other accounts, whose aggregate assets are far larger than the Fund's, and the services furnished by such brokers, dealers or futures commission merchants may be used by the Manager in providing investment management for the Fund. Commission rates are established pursuant to negotiations with the broker, dealer or futures commission merchant based on the quality and quantity of execution services provided by the broker or futures commission merchant in the light of generally prevailing rates. The Manager's policy is to pay higher commissions to brokers and futures commission merchants, other than Prudential Securities, for particular transactions than might be charged if a different broker had been selected, on occasions when, in the Manager's opinion, this policy furthers the objective of obtaining best price and execution. In addition, the Manager is authorized to pay higher commissions on brokerage transactions for the Fund to brokers and futures commission merchants other than Prudential Securities in order to secure research and investment services described above, subject to review by the Fund's Board of Directors from time to time as to the extent and continuation of this practice. The allocation of orders among brokers and futures commission merchants and the commission rates paid are reviewed periodically by the Fund's Board of Directors. Subject to the above considerations, Prudential Securities may act as a broker or futures commission merchant for the Fund. In order for Prudential Securities (or any affiliate) to effect any portfolio transactions for the Fund, the commissions, fees or other remuneration received by Prudential Securities (or any affiliate) must be reasonable and fair compared to the commissions, fees or other remuneration paid to other such brokers or futures commission merchants in connection with comparable transactions involving similar securities or futures contracts being purchased or sold on an exchange or board of trade during a comparable period of time. This standard would allow Prudential Securities (or any affiliate) to receive no more than the remuneration which would be expected to be received by an unaffiliated broker or futures commission merchant in a commensurate arms-length transaction. Furthermore, the Board of Directors of the Fund, including a majority of the non-interested Directors, has adopted procedures which are reasonably designed to provide that any commissions, fees or other remuneration paid to Prudential Securities (or any affiliate) are consistent with the foregoing standard. In accordance with Section 11(a) of the Securities Exchange Act of 1934, Prudential Securities may not retain compensation for effecting transactions on a national securities exchange for the Fund unless the Fund has expressly authorized the retention of such compensation. Prudential Securities must furnish to the Fund at least annually a statement setting forth the total amount of all compensation retained by Prudential Securities from transactions effected for the Fund during the applicable period. Brokerage and futures transactions with Prudential Securities (or any affiliate) are also subject to such fiduciary standards as may be imposed upon Prudential Securities (or such affiliate) by applicable law. During the fiscal years ended February 28, 1998, February 28, 1997 and February 29, 1996, the Fund paid no brokerage commissions to Prudential Securities. PURCHASE AND REDEMPTION OF FUND SHARES Shares of the Fund may be purchased at a price equal to the next determined net asset value per share (NAV) plus a sales charge which, at the election of the investor, may be imposed either (i) at the time of purchase (Class A shares), or (ii) on a deferred basis (Class B or Class C shares). Class Z shares of the Fund are offered to a limited group of investors at net asset value without any sales charges. See "Shareholder Guide--How to Buy Shares of the Fund" in the Prospectus. Each class represents an interest in the same assets of the Fund and is identical in all respects except that (i) each class is subject to different sales charges and distribution and/or service expenses which may affect performance, B-19 (ii) each class has exclusive voting rights with respect to any matter submitted to shareholders that relates solely to its arrangement and has separate voting rights on any matter submitted to shareholders in which the interests of one class differ from the interests of any other class, (iii) each class has a different exchange privilege, (iv) only Class B shares have a conversion feature and (v) Class Z shares are offered exclusively for sale to a limited group of investors. See "Distributor" and "Shareholder Investment Account--Exchange Privilege." ISSUANCE OF FUND SHARES FOR SECURITIES Transactions involving the issuance of Fund shares for securities (rather than cash) will be limited to (i) reorganizations, (ii) statutory mergers, or (iii) other acquisitions of portfolio securities that: (a) meet the investment objectives and policies of the Fund, (b) are liquid and not subject to restrictions on resale, (c) have a value that is readily ascertainable via listing on or trading in a recognized United States or international exchange or market, and (d) are approved by the Fund's investment adviser. SPECIMEN PRICE MAKE-UP Under the current distribution arrangements between the Fund and the Distributor, Class A shares are sold at a maximum sales charge of 4%, and Class B*, Class C* and Class Z shares are sold at NAV. Using the Fund's NAV at February 28, 1998, the maximum offering price of the Fund's shares is as follows: CLASS A Net asset value and redemption price per Class A share............. $ 9.05 Maximum sales charge (4% of offering price)........................ .38 --------- Offering price to public........................................... $ 9.43 --------- --------- CLASS B Net asset value, offering price and redemption price per Class B share*........................................................... $ 9.05 --------- --------- CLASS C Net asset value, offering price and redemption price per Class C share*........................................................... $ 9.05 --------- --------- CLASS Z Net asset value, offering price and redemption price per Class Z share............................................................ $ 9.04 --------- ---------
- ------------------------ * Class B and Class C shares are subject to a contingent deferred sales charge on certain redemptions. See "Shareholder Guide--How to Sell Your Shares--Contingent Deferred Sales Charges" in the Prospectus. REDUCTION AND WAIVER OF INITIAL SALES CHARGES--CLASS A SHARES COMBINED PURCHASE AND CUMULATIVE PURCHASE PRIVILEGE. If an investor or eligible group of related investors purchases Class A shares of the Fund concurrently with Class A shares of other Prudential Mutual Funds, the purchases may be combined to take advantage of the reduced sales charges applicable to larger purchases. See the table of breakpoints under "Shareholder Guide--Alternative Purchase Plan" in the Prospectus. An eligible group of related Fund investors includes any combination of the following: (a) an individual; (b) the individual's spouse, their children and their parents; (c) the individual's and spouse's Individual Retirement Account (IRA); (d) any company controlled by the individual (a person, entity or group that holds 25% or more of the outstanding voting securities of a corporation will be deemed to control the corporation, and a partnership will be deemed to be controlled by each of its general partners); (e) a trust created by the individual, the beneficiaries of which are the individual, his or her spouse, parents or children; B-20 (f) a Uniform Gifts to Minors Act/Uniform Transfers to Minors Act account created by the individual or the individual's spouse; and (g) one or more employee benefit plans of a company controlled by an individual. In addition, an eligible group of related Fund investors may include an employer (or group of related employers) and one or more qualified retirement plans of such employer or employers (an employer controlling, controlled by or under common control with another employer is deemed related to that employer). The Distributor must be notified at the time of purchase that the investor is entitled to a reduced sales charge. The reduced sales charge will be granted subject to confirmation of the investors holdings. The Combined Purchase and Cumulative Purchase Privilege does not apply to individual participants in any retirement or group plans. RIGHTS OF ACCUMULATION. Reduced sales charges are also available through Rights of Accumulation, under which an investor or an eligible group of related investors, as described above under "Combined Purchase and Cumulative Purchase Privilege," may aggregate the value of their existing holdings of the shares of the Fund and shares of other Prudential Mutual Funds (excluding money market funds other than those acquired pursuant to the exchange privilege) to determine the reduced sales charge. However, the value of shares held directly with the Transfer Agent and through Prudential Securities will not be aggregated to determine the reduced sales charge. All shares must be held either directly with the Transfer Agent or through Prudential Securities. The value of existing holdings for purposes of determining the reduced sales charge is calculated using the maximum offering or price (net asset value plus maximum sales charge) as of the previous business day. See "How the Fund Values Its Shares" in the Prospectus. The Distributor must be notified at the time of purchase that the investor is entitled to a reduced sales charge. The reduced sales charges will be granted subject to confirmation of the investor's holdings. Rights of accumulation are not available to individual participants in any retirement or group plans. LETTERS OF INTENT. Reduced sales charges are available to investors (or an eligible group of related investors), including retirement and group plans, who enter into a written Letter of Intent providing for the purchase, within a thirteen-month period, of shares of the Fund and shares of other Prudential Mutual Funds (Investment Letter of Intent). Retirement and group plans may also qualify to purchase Class A shares at NAV by entering into a Letter of Intent whereby they agree to enroll, within a thirteen month period, a specified number of eligible employees or participants (Participant Letter of Intent). For purposes of the Investment Letter of Intent, all shares of the Fund and shares of other Prudential Mutual Funds (excluding money market funds other than those acquired pursuant to the exchange privilege) which were previously purchased and are still owned are also included in determining the applicable reduction. However, the value of shares held directly with the Transfer Agent and through Prudential Securities will not be aggregated to determine the reduced sales charge. All shares must be held either directly with the Transfer Agent or through Prudential Securities. A Letter of Intent permits a purchaser, in the case of an Investment Letter of Intent, to establish a total investment goal to be achieved by any number of investments over a thirteen-month period and, in the case of a Participant Letter of Intent, to establish a minimum eligible employee or participant enrollment goal over a thirteen month period. Each investment made during the period, in the case of an Investment Letter of Intent, will receive the reduced sales charge applicable to the amount represented by the goal, as if it were a single investment. In the case of a Participant Letter of Intent, each investment made during the period will be made at net asset value. Escrowed Class A shares totaling 5% of the dollar amount of the Letter of Intent will be held by the Transfer Agent in the name of the purchaser, except in the case of retirement and group plans where the employer or plan sponsor will be responsible for paying any applicable sales charge. The effective date of an Investment Letter of Intent (except in the case of retirement and group plans) may be back-dated up to 90 days, in order that any investments made during this 90-day period, valued at the purchaser's cost, can be applied to the fulfillment of the Letter of Intent goal, except in the case of retirement and group plans. The Investment Letter of Intent does not obligate the investor to purchase, nor the Fund to sell, the indicated amount. Similarly, the Participant Letter of Intent does not obligate the retirement or group plan to enroll the indicated number of eligible employees or participants. In the event the Letter of Intent goal is not achieved within the thirteen-month period, the purchaser (or the employer or plan sponsor in the case of any retirement or group plan) is required to pay the difference between the sales charge otherwise applicable to the purchases made during this period and sales charges B-21 actually paid. Such payment may be made directly to the Distributor or, if not paid, the Distributor will liquidate sufficient escrowed shares to obtain such difference. Investors electing to purchase Class A shares of the Fund pursuant to a Letter of Intent should carefully read such Letter of Intent. The Distributor must be notified at the time of purchase that the investor is entitled to a reduced sales charge. The reduced sales charge will, in the case of an Investment Letter of Intent, be granted subject to confirmation of the investor's holdings or in the case of a Participant Letter of Intent, subject to confirmation of the number of eligible employees or participants in the retirement or group plan. Letters of Intent are not available to individual participants in any retirement or group plans. WAIVER OF THE CONTINGENT DEFERRED SALES CHARGE--CLASS B SHARES The contingent deferred sales charge (CDSC) is waived under circumstances described in the Prospectus. See "Shareholder Guide--How to Sell Your Shares--Waiver of Contingent Deferred Sales Charges--Class B Shares" in the Prospectus. In connection with these waivers, the Transfer Agent will require you to submit the supporting documentation set forth below. CATEGORY OF WAIVER REQUIRED DOCUMENTATION Death A copy of the shareholder's death certificate or, in the case of a trust, a copy of the grantor's death certificate, plus a copy of the trust agreement identifying the grantor. Disability--An individual will be considered A copy of the Social Security Administration disabled if he or she is unable to engage in award letter or a letter from a physician on any substantial gainful activity by reason of the physician's letterhead stating that the any medically determinable physical or mental shareholder (or, in the case of a trust, the impairment which can be expected to result in grantor) is permanently disabled. The letter death or to be of long-continued and must also indicate the date of disability. indefinite duration. Distribution from an IRA or 403(b) Custodial A copy of the distribution form from the Account custodial firm indicating (i) the date of birth of the shareholder and (ii) that the shareholder is over age 59 1/2 and is taking a normal distribution--signed by the shareholder. Distribution from Retirement Plan A letter signed by the plan administrator/trustee indicating the reason for the distribution. Excess Contributions A letter from the shareholder (for an IRA) or the plan administrator/trustee on company letterhead indicating the amount of the excess and whether or not taxes have been paid.
The Transfer Agent reserves the right to request such additional documents as it may deem appropriate. QUANTITY DISCOUNT--CLASS B SHARES PURCHASED PRIOR TO AUGUST 1, 1994 The CDSC is reduced on redemptions of Class B shares of the Fund purchased prior to August 1, 1994 if immediately after a purchase of such shares, the aggregate cost of all Class B shares of the Fund owned by you in a single account exceeded $500,000. For example, if you purchased $100,000 of Class B shares of the Fund and the following year purchased an additional $450,000 of Class B shares with the result that the aggregate cost of your Class B shares of the B-22 Fund following the second purchase was $550,000, the quantity discount would be available for the second purchase of $450,000 but not for the first purchase of $100,000. The quantity discount will be imposed at the following rates depending on whether the aggregate value exceeded $500,000 or $1 million:
CONTINGENT DEFERRED SALES CHARGE AS A PERCENTAGE OF DOLLARS INVESTED OR REDEMPTION PROCEEDS YEAR SINCE PURCHASE ----------------------------------------------- PAYMENT MADE $500,001 TO $1 MILLION OVER $1 MILLION - ----------------------------------- ------------------------ ---------------- First.............................. 3.0% 2.0% Second............................. 2.0% 1.0% Third.............................. 1.0% 0% Fourth and thereafter.............. 0% 0%
You must notify the Fund's Transfer Agent either directly or through Prudential Securities or Prusec, at the time of redemption, that you are entitled to the reduced CDSC. The reduced CDSC will be granted subject to confirmation of your holdings. SHAREHOLDER INVESTMENT ACCOUNT Upon the initial purchase of Fund shares, a Shareholder Investment Account is established for each investor under which the shares are held for the investor by the Transfer Agent. If a stock certificate is desired, it must be requested in writing for each transaction. Certificates are issued only for full shares and may be redeposited in the Account at any time. There is no charge to the investor for issuance of a certificate. The Fund makes available to the shareholders the following privileges and plans. AUTOMATIC REINVESTMENT OF DIVIDENDS AND/OR DISTRIBUTIONS For the convenience of investors, all dividends and distributions are automatically reinvested in full and fractional shares of the Fund. An investor may direct the Transfer Agent in writing not less than 5 full business days prior to the payment date to have subsequent dividends and/or distributions sent in cash rather than reinvested. In the case of recently purchased shares for which registration instructions have not been received on the payment date, cash payment will be made directly to the dealer. Any shareholder who receives a cash payment representing a dividend or distribution may reinvest such distribution at NAV by returning the check or the proceeds to the Transfer Agent within 30 days after the payment date. Such investment will be made at the NAV next determined after receipt of the check or proceeds by the Transfer Agent. Such shareholder will receive credit for any CDSC paid in connection with the amount of proceeds being reinvested. EXCHANGE PRIVILEGE The Fund makes available to its shareholders the privilege of exchanging their shares of the Fund for shares of certain other Prudential Mutual Funds, including one or more specified money market funds, subject in each case to the minimum investment requirements of such funds. Shares of such other Prudential Mutual Funds may also be exchanged for shares of the Fund. All exchanges are made on the basis of the relative NAV next determined after receipt of an order in proper form. An exchange will be treated as a redemption and purchase for tax purposes. Shares may be exchanged for shares of another fund only if shares of such fund may legally be sold under applicable state laws. For retirement and group plans having a limited menu of Prudential Mutual Funds, the exchange privilege is available for those funds eligible for investment in the particular program. It is contemplated that the exchange privilege may be applicable to new mutual funds whose shares may be distributed by the Distributor. CLASS A. Shareholders of the Fund may exchange their Class A shares for Class A shares of certain other Prudential Mutual Funds, shares of Prudential Government Securities Trust (Short-Intermediate Term Series) and shares of the money market funds specified below. No fee or sales load will be imposed upon the exchange. Shareholders of money market funds who acquired such shares upon exchange of Class A shares may use the exchange privilege only to acquire Class A shares of the Prudential Mutual Funds participating in the exchange privilege. B-23 The following money market funds participate in the Class A exchange privilege: Prudential California Municipal Fund (California Money Market Series) Prudential Government Securities Trust (Money Market Series) (Class A shares) (U.S. Treasury Money Market Series) (Class A shares) Prudential Municipal Series Fund (Connecticut Money Market Series) (Massachusetts Money Market Series) (New Jersey Money Market Series) (New York Money Market Series) Prudential MoneyMart Assets, Inc. (Class A Shares) Prudential Tax-Free Money Fund, Inc. CLASS B AND CLASS C. Shareholders of the Fund may exchange their Class B and Class C shares for Class B and Class C shares, respectively, of certain other Prudential Mutual Funds and shares of Prudential Special Money Market Fund, Inc., a money market fund. No CDSC will be payable upon such exchange, but a CDSC may be payable upon the redemption of Class B and Class C shares acquired as a result of the exchange. The applicable sales charge will be that imposed by the fund in which shares were initially purchased and the purchase date will be deemed to be the first day of the month after initial purchase, rather than the date of the exchange. Class B and Class C shares of the Fund may also be exchanged for shares of Prudential Special Money Market Fund without imposition of any CDSC at the time of exchange. Upon subsequent redemption from such money market fund or after re-exchange into the Fund, such shares will be subject to the CDSC calculated excluding the time such shares were held in the money market fund. In order to minimize the period of time in which shares are subject to a CDSC, shares exchanged out of the money market fund will be exchanged on the basis of their remaining holding periods, with the longest remaining holding periods being transferred first. In measuring the time period shares are held in a money market fund and "tolled" for purposes of calculating the CDSC holding period, exchanges are deemed to have been made on the last day of the month. Thus, if shares are exchanged into the Fund from a money market fund during the month (and are held in the Fund at the end of the month), the entire month will be included in the CDSC holding period. Conversely, if shares are exchanged into a money market fund prior to the last day of the month (and are held in the money market fund on the last day of the month), the entire month will be excluded from the CDSC holding period. For purposes of calculating the seven year holding period applicable to the Class B conversion feature, the time period during which Class B shares were held in a money market fund will be excluded. At any time after acquiring shares of other funds participating in the Class B or Class C exchange privilege, a shareholder may again exchange those shares (and any reinvested dividends and distributions) for Class B or Class C shares of the Fund, respectively, without subjecting such shares to any CDSC. Shares of any fund participating in the Class B or Class C exchange privilege that were acquired through reinvestment of dividends or distributions may be exchanged for Class B or Class C, respectively, shares of other funds without being subject to any CDSC. CLASS Z. Class Z shares may be exchanged for Class Z shares of other Prudential Mutual Funds. Additional details about the exchange privilege for each of the Prudential Mutual Funds are available from the Fund's Transfer Agent, Prudential Securities or Prusec. The exchange privilege may be modified, terminated or suspended on sixty (60) days' notice, and any fund, including the Fund, or Prudential Securities, has the right to reject any exchange application relating to such Fund's shares. DOLLAR COST AVERAGING Dollar cost averaging is a method of accumulating shares by investing a fixed amount of dollars in shares at set intervals. An investor buys more shares when the price is low and fewer shares when the price is high. The average cost per share is lower than it would be if a constant number of shares were bought at set intervals. Dollar cost averaging may be used, for example, to plan for retirement to save for a major expenditure, such as the purchase of a home, or to finance a college education. The cost of a year's education at a four-year college today B-24 averages around $14,000 at a private college and around $6,000 at a public university. Assuming these costs increase at a rate of 7% a year, as has been projected, for the freshman class of 2011, the cost of four years at a private college could reach $210,000 and over $90,000 at a public university.(1) The following chart shows how much you would need in monthly investments to achieve specified lump sums to finance your investment goals.(2)
PERIOD OF MONTHLY INVESTMENTS: $100,000 $150,000 $200,000 $250,000 - ------------------------------------------------------------ ----------- ----------- ----------- ----------- 25 Years.................................................... $ 110 $ 165 $ 220 $ 275 20 Years.................................................... 176 264 352 440 15 Years.................................................... 296 444 592 740 10 Years.................................................... 555 833 1,110 1,388 5 Years.................................................... 1,371 2,057 2,742 3,428 See "Automatic Savings Accumulation Plan (ASAP)" below. - ------------------------ (1) Source information concerning the costs of education at public and private universities is available from The College Board Annual Survey of Colleges, 1993. Average costs for private institutions include tuition, fees, room and board for its 1993-1994 academic year. (2) The chart assumes an effective rate of return of 8% (assuming monthly compounding). This example is for illustrative purposes only and is not intended to reflect the performance of an investment in shares of the Fund. The investment return and principal value of an investment will fluctuate so that an investor's shares when redeemed may be worth more or less than their original cost.
AUTOMATIC SAVINGS ACCUMULATION PLAN (ASAP) Under ASAP, an investor may arrange to have a fixed amount automatically invested in shares of the Fund monthly by authorizing his or her bank account or Prudential Securities account (including a Command Account) to be debited to invest specified dollar amounts in shares of the Fund. The investor's bank must be a member of the Automatic Clearing House System. Stock certificates are not issued to ASAP participants. Further information about this program and an application form can be obtained from the Transfer Agent, Prudential Securities or Prusec. SYSTEMATIC WITHDRAWAL PLAN A systematic withdrawal plan is available to shareholders through Prudential Securities or the Transfer Agent. Such withdrawal plan provides for monthly or quarterly checks in any amount, except as provided below, up to the value of the shares in the shareholder's account. Withdrawals of Class B or Class C shares may be subject to a CDSC. See "Shareholder Guide--How to Sell Your Shares--Contingent Deferred Sales Charges" in the Prospectus. In the case of shares held through the Transfer Agent (i) a $10,000 minimum account values applies, (ii) withdrawals may not be for less than $100 and (iii) the shareholder must elect to have all dividends and/or distributions automatically reinvested in additional full and fractional shares at NAV on shares held under this plan. See "Automatic Reinvestment of Dividends and/or Distributions" above. Prudential Securities and the Transfer Agent act as agents for the shareholder in redeeming sufficient full and fractional shares to provide the amount of the periodic withdrawal payment. The systematic withdrawal plan may be terminated at any time, and the Distributor reserves the right to initiate a fee of up to $5 per withdrawal, upon 30 days' written notice to the shareholder. Withdrawal payments should not be considered as dividends, yield or income. If periodic withdrawals continuously exceed reinvested dividends and distributions, the shareholder's original investment will be correspondingly reduced and ultimately exhausted. Furthermore, each withdrawal constitutes a redemption of shares, and any gain or loss realized must be recognized for federal income tax purposes. In addition, withdrawals made concurrently with purchases of additional shares are inadvisable because of the sales charges applicable to (i) the purchase of Class A shares and (ii) the withdrawal of Class B and Class C shares. Each shareholder should consult his or her own tax adviser with regard to the tax consequences of the systematic withdrawal plan, particularly if used in connection with a retirement plan. B-25 TAX-DEFERRED RETIREMENT PLANS Various tax-deferred retirement plans, including 401(k) plans, self-directed individual retirement accounts and "tax-sheltered accounts" under Section 403(b)(7) of the Internal Revenue Code are available through Prudential Securities. These plans are for use by both self-employed individuals and corporate employers. These plans permit either self-direction of accounts by participants, or a pooled account arrangement. Information regarding the establishment of these plans, the administration, custodial fees and other details are available from Prudential Securities or the Transfer Agent. Investors who are considering the adoption of such a plan should consult with their own legal counsel or tax adviser with respect to the establishment and maintenance of any such plan. TAX-DEFERRED RETIREMENT ACCOUNTS INDIVIDUAL RETIREMENT ACCOUNTS. An individual retirement account (IRA) permits the deferral of federal income tax on income earned in the account until the earnings are withdrawn (or, in the case of a Roth IRA, the avoidance of federal income tax on such income). The following chart represents a comparison of the earnings in a personal savings account with those in an IRA, assuming a $2,000 annual contribution, an 8% rate of return and a 39.6% federal income tax bracket and shows how much more retirement income can accumulate within an IRA as opposed to a taxable individual savings account.
TAX-DEFERRED COMPOUNDING(1) CONTRIBUTIONS PERSONAL MADE OVER: SAVINGS IRA -------------------- -------- -------- 10 years............ $ 26,165 $ 31,291 15 years............ 44,675 58,649 20 years............ 68,109 98,846 25 years............ 97,780 157,909 30 years............ 135,346 244,692 - ------------------------ (1) The chart is for illustrative purposes only and does not represent the performance of the Fund or any specific investment. It shows taxable versus tax-deferred compounding for the periods and on the terms indicated. Earnings in a traditional IRA account will be subject to tax when withdrawn from the account. Distributions from a Roth IRA which meet the conditions under the Internal Revenue Code will not be subject to tax withdrawal from the account.
MUTUAL FUND PROGRAMS From time to time, the Fund may be included in a mutual fund program with other Prudential Mutual Funds. Under such a program, a group of portfolios will be selected and thereafter marketed collectively. Typically, these programs are created with an investment theme, E.G., to seek greater diversification, protection from interest rate movements or access to different management styles. In the event such a program is instituted, there may be a minimum investment requirement for the program as a whole. The Fund may waive or reduce the minimum initial investment requirements in connection with such a program. The mutual funds in the program may be purchased individually or as a part of a program. Since the allocation of portfolios included in a program may not be appropriate for all investors, investors should consult their Prudential Securities Financial Adviser or Prudential/Pruco Securities Representative concerning the appropriate blends of portfolios for them. If investors elect to purchase the individual mutual funds that constitute a program in an investment ratio different from that offered by the program, the standard minimum investment requirements for the individual mutual funds will apply. NET ASSET VALUE Under the Investment Company Act, the Board of Directors is responsible for determining in good faith the fair value of securities of the Fund. In accordance with procedures adopted by the Board of Directors, the value of each U.S. Government security for which quotations are available will be based on the valuations provided by a pricing service which uses information with respect to transactions in bonds, quotations from bond dealers, agency ratings, market transactions in comparable securities and various relationships between securities in determining value. Options on U.S. Government B-26 securities traded on an exchange are valued at the mean between the most recently quoted bid and asked prices on the respective exchange. Futures contracts and options thereon are valued at their last sales prices as of the close of the commodities exchange or board of trade or, if there was no sale on such day, the mean between the most recently quoted bid and asked prices on such exchange or board of trade. Should an extraordinary event, which is likely to affect the value of the security, occur after the close of an exchange on which a portfolio security is traded, such security will be valued at fair value considering factors determined in good faith by the investment adviser under procedures established by and under the general supervision of the Fund's Board of Directors. The Fund will compute its NAV at 4:15 P.M., New York time, on each day the New York Stock Exchange is open for trading except on days on which no orders to purchase, sell or redeem Fund shares have been received or days on which changes in the value of the Fund's portfolio securities do not affect NAV. In the event the New York Stock Exchange closes early on any business day, the net asset value of the Fund's shares shall be determined at a time between such closing and 4:15 P.M., New York time. NAV is calculated separately for each class. The NAV of Class B and Class C shares will generally be lower than the NAV of Class A shares as a result of the larger distribution-related fee to which Class B and Class C shares are subject. The NAV of Class Z shares will generally be higher than the NAV of Class A, Class B or Class C shares as a result of the fact that the Class Z shares are not subject to any distribution of service fee. It is expected, however, that the NAV per share of each class will tend to converge immediately after the recording the dividends, which will differ by approximately the amount of the distribution-related expense accrual differential among the classes. TAXES, DIVIDENDS AND DISTRIBUTIONS GENERAL. The Fund has elected to qualify and intends to remain qualified as a regulated investment company under Subchapter M of the Internal Revenue Code for each taxable year. Accordingly, the Fund generally must, among other things, (a) derive at least 90% of its gross income (without offset for losses from the sale or other disposition of securities or foreign currencies) from dividends, interest, proceeds from loans of securities and gains from the sale or other disposition of securities or foreign currencies or other income related to its business of investing in securities and currencies, including, but not limited to, gains derived from options and futures on such securities or foreign currencies; and (b) diversify its holdings so that, at the end of each fiscal quarter, (i) 50% of the market value of the Fund's assets is represented by cash, U.S. Government securities and other securities limited, in respect of any one issuer, to an amount not greater than 5% of the Fund's assets and no more than 10% of the outstanding voting securities of any such issuer, and (ii) not more than 25% of the value of its assets is invested in the securities of any one issuer (other than U.S. Government securities). These requirements may limit the Fund's ability to engage in or close out transactions involving options on securities, interest rate futures and options thereon. The Fund has received a private letter ruling from the Internal Revenue Service (IRS) to the effect that the Fund's investments in options on U.S. Government securities, in interest rate futures contracts and in options thereon will be treated as "securities" for purposes of the foregoing requirements for qualification under Subchapter M of the Internal Revenue Code. As a regulated investment company, the Fund will not be subject to federal income tax on its net investment income and capital gains, if any, that it distributes to its shareholders, provided that it distributes at least 90% of its net investment income and short-term capital gains earned in each year. A 4% nondeductible excise tax will be imposed on the Fund to the extent the Fund does not meet certain distribution requirements by the end of each calendar year. The Fund intends to make sufficient distributions to avoid imposition of excise tax. Distributions of net investment income and net short-term capital gains will be taxable to the shareholder at ordinary income rates regardless of whether the shareholder receives such distributions in additional shares or in cash. Distributions of net capital gains, if any, are taxable as capital gains regardless of how long the investor has held his or her Fund shares. Recent legislation created various categories of capital gains applicable to individuals. However, if a shareholder holds shares in the Fund for not more than six months, then any loss recognized on the sale of such shares will be treated as long-term capital loss to the extent of any distribution on the shares which was treated as long-term capital gain. Shareholders will be notified annually by the Fund as to the federal tax status of distributions made by the Fund. Dividends B-27 paid by the Fund will not be subject to the dividends received deduction available to corporations. Distributions and gains from the sale, redemption or exchange of shares of the Fund may be subject to additional state, local and foreign taxes. Shareholders are urged to consult their tax advisers regarding specific questions as to federal, state, local or foreign taxes. Dividends and distributions generally are taxable to shareholders in the year in which they are received; however, dividends declared in October, November and December and paid on the following January will be treated as having been paid on December 31 of such prior year. Under this rule, a shareholder may be taxed in one year on dividends received in the following January. Any distributions paid shortly after a purchase by an investor may have the effect of reducing the per share net asset value of the investor's shares by the per share amount of the distributions. Furthermore, such distributions, although in effect a return of capital, are subject to federal income taxes. Therefore, prior to purchasing shares of the Fund, the investor should carefully consider the impact of capital gains distributions, which are expected to be or have been announced. Dividends of net investment income and distributions of net short-term capital gains paid to a shareholder (including a shareholder acting as a nominee or fiduciary) who is a nonresident alien individual, a foreign corporation or a foreign partnership (foreign shareholder) are subject to a 30% (or lower treaty rate) withholding tax upon the gross amount of the dividends unless the dividends are effectively connected with a U.S. trade or business conducted by the foreign shareholder. Capital gain distributions paid to a foreign shareholder are generally not subject to withholding tax. A foreign shareholder will, however, be required to pay U.S. income tax on any dividends and capital gain distributions which are effectively connected with a U.S. trade or business of the foreign shareholder. Any loss realized on a sale, redemption or exchange of shares of the Fund by a shareholder will be disallowed to the extent the shares are replaced within a 61-day period (beginning 30 days before the disposition of shares). Shares purchased pursuant to the reinvestment of a dividend or distribution will constitute a replacement of shares. A shareholder who acquires shares of the Fund and sells or otherwise disposes of such shares within 90 days of acquisition may not be allowed to include certain sales charges incurred in acquiring such shares for purposes of calculating gain or loss realized upon a sale or exchange of shares of the Fund. Although the Fund does not receive interest payments on zero-coupon bonds in cash, it is required to accrue interest on such bonds for tax purposes. Accordingly, in order to meet the distribution requirements discussed above, the Fund may have to liquidate securities or borrow money. To date, the Fund has not engaged in borrowing or liquidated securities solely or primarily for the purpose of meeting income distribution requirements attributable to investments in zero coupon bonds. Income received by the Fund from sources within foreign countries may be subject to withholding and other taxes imposed by such countries. Income tax treaties between certain countries and the United States may reduce or eliminate such taxes. It is impossible to determine in advance the effective rate of foreign tax to which the Fund will be subject since the amount of the Fund's assets to be invested in various countries will vary. The Fund has a capital loss carryforward for federal income tax purposes as of February 28, 1998 of approximately $131,130,000, of which $41,964,000 expires in 1999, $1,736,000 expires in 2001, $2,920,000 expires in 2002, $66,560,000 expires in 2003 and $17,950,000 expires in 2005. The per share dividends on Class B and Class C shares will be lower than the per share dividends on Class A shares as a result of the higher distribution-related fee applicable to the Class B and Class C shares. The per share dividends on Class A shares will be lower than the per share dividends on Class Z shares. The per share distributions of net capital gains, if any, will be paid in the same amount for Class A, Class B, Class C and Class Z shares. See "Net Asset Value." LISTED OPTIONS AND FUTURES. Exchange-traded futures contracts, listed options on futures contracts and listed options on U.S. Government securities constitute "Section 1256 contracts" under the Internal Revenue Code. Section 1256 contracts are required to be "marked-to-market" at the end of the Fund's tax year; that is, treated as having been sold at market value. Sixty percent of any gain or loss recognized as a result of such "deemed sales" will be treated as long-term capital gain or loss and the remainder will be treated as short-term capital gain or loss. B-28 If the Fund holds a U.S. Government security which is offset by a Section 1256 contract, the Fund is considered to hold a "mixed straddle". The Fund may elect whether to make a straddle-by-straddle identification of mixed straddles. By electing to identify its mixed straddles, the Fund can avoid the application of certain rules which could, in some circumstances, cause deferral or disallowance of losses, the change of long-term capital gains into short-term capital gains, or the change of short-term capital losses into long-term capital losses. Nevertheless, the Fund would be subject to the following rules. If the Fund owns a U.S. Government security and acquires an offsetting Section 1256 contract in a transaction which the Fund elects to identify as a mixed straddle, the acquisition of the offsetting position will result in recognition of the unrealized gain or loss on the U.S. Government security. This gain or loss will be long-term or short-term depending on the holding period of the security at the time the mixed straddle is entered into. This recognition of unrealized gain or loss will be taken into account in determining the amount of income available for the Fund's quarterly distributions, and can result in an amount which is greater or less than the Fund's net realized gains being available for such distributions. If an amount which is less than the Fund's net realized gains is available for distribution, the Fund may elect to distribute more than such available amount, up to the full amount of such net realized gains. The rules for determining whether gain or loss upon exercise, expiration or termination of an identified mixed straddle will be treated as long-term, short-term, or sixty percent long-term and forty percent short-term are complex. In general, which treatment applies will depend upon the order of disposition of the Section 1256 and the non-Section 1256 positions of a straddle and whether all or fewer than all of such positions are disposed of on any day. If the Fund does not elect to identify a mixed straddle, no recognition of gain or loss on the U.S. Government securities in the Fund's portfolio will result when the mixed straddle is entered into. However, any gains or losses realized on the straddle will be governed by a number of tax rules which might, under certain circumstances, defer or disallow the losses in whole or in part, change long-term gains into short-term gains, change short-term losses into long-term losses, or change capital gains into ordinary income. A deferral or disallowance of recognition of a realized loss may result in the Fund being required to distribute an amount greater than the Fund's net realized gains. The Fund may also elect under Section 1256(d) of the Internal Revenue Code that the provisions of Section 1256 will not apply to Section 1256 contracts which are part of a mixed straddle. In the case of such an election, the taxation of options on U.S. Government securities and the taxation of futures will be governed by provisions of the Internal Revenue Code dealing with taxation of capital assets generally. OTC OPTIONS. Non-listed options on U.S. Government securities (OTC options) are not Section 1256 contracts. If an OTC option written by the Fund on U.S. Government securities expires, the amount of the premium will be treated as short-term capital gain. If the option is terminated through a closing purchase transaction, the Fund will generally recognize a short-term capital gain or loss, depending on whether the premium income is greater or less than the amount paid by the Fund in the closing transaction. If U.S. Government securities are delivered by the Fund upon exercise of a written call option, or sold to the Fund upon exercise of a written put option, the premium received when the option was written will be treated as an addition to the proceeds received in the case of the call option, or a decrease in the cost basis of the security received in the case of a put option. The gain or loss realized on the exercise of a written call option will be long-term or short-term depending upon the holding period of the U.S. Government security delivered. The premium paid for a purchased put or call option is a capital expenditure, and loss will be realized on the expiration, and gain or loss will be realized upon the sale of, a put or call option. The characterization of the gain or loss as short-term or long-term will depend upon the holding period of the option. If U.S. Government securities are purchased by the Fund upon exercise of a purchased call option, or delivered by the Fund upon exercise of a purchased put option, the premium paid when the option was purchased will be treated as an addition to the basis of the securities purchased in the case of a call option, or as a decrease in the proceeds received for the securities delivered in the case of a put option. Losses realized on straddles which include a purchased put option, can, under certain circumstances, be subject to a number of tax rules which might defer or disallow the losses in whole or in part, change long-term gains into short-term gains, change short-term losses into long-term losses, or change capital gains into ordinary income. As noted above, a deferral or disallowance of recognition of realized loss can result in the Fund being required to distribute an amount greater than the Fund's net realized gains. B-29 PENNSYLVANIA PERSONAL PROPERTY TAX. The Fund has obtained a written letter of determination from the Pennsylvania Department of Revenue that the Fund is subject to the Pennsylvania foreign franchise and corporate net income tax. Accordingly, it is expected that Fund shares will be exempt from Pennsylvania personal property taxes. The Fund anticipates that it will continue such business activities but reserves the right to suspend them at any time, resulting in the termination of the exemption. PERFORMANCE INFORMATION YIELD. The Fund may from time to time advertise its yield as calculated over a 30-day period. Yield is calculated separately for Class A, Class B, Class C and Class Z shares. The yield will be computed by dividing the Fund's net investment income per share earned during this 30-day period by the net asset value per share on the last day of this period. Yield is calculated according to the following formula: a - b YIELD = 2[( ------- +1)to the power of 6 - 1] cd Where: a = dividends and interest earned during the period. b = expenses accrued for the period (net of reimbursements). c = the average daily number of shares outstanding during the period that were entitled to receive dividends. d = the maximum offering price per share on the last day of the period. The yield for the 30-day period ended February 28, 1998 for the Fund's Class A, Class B, Class C and Class Z shares was 5.76%, 5.32%, 5.40% and 6.15%, respectively. Yield fluctuates and an annualized yield quotation is not a representation by the Fund as to what an investment in the Fund will actually yield for any given period. Actual yields will depend upon not only changes in interest rates generally during the period in which the investment in the Fund is held, but also on any realized or unrealized gains and losses and changes in the Fund's expenses. AVERAGE ANNUAL TOTAL RETURN. The Fund may from time to time also advertise its average annual total return. Average annual total return is determined separately for Class A, Class B and Class C shares. See "How the Fund Calculates Performance" in the Prospectus. Average annual total return is computed according to the following formula: P(1+T)to the power of n = ERV Where: P = a hypothetical initial payment of $1000. T = average annual total return. n = number of years. ERV = ending redeemable value of a hypothetical $1000 investment made at the beginning of the 1, 5 or 10 year periods at the end of the 1, 5 or 10 year periods (or fractional portion thereof). Average annual return takes into account any applicable initial or contingent deferred sales charges but does not take into account any federal or state income taxes that may be payable upon redemption. The average annual total return for Class A shares for the one year, five year and since commencement of offering of Class A shares (January 22, 1990) periods ended on February 28, 1998 was 5.74%, 5.25% and 7.43%, respectively. The average annual total return with respect to the Class B shares of the Fund for the one, five and ten year periods ended February 28, 1998 was 4.40%, 5.25% and 7.04%, respectively. The average annual total return for Class C shares for the one year and since commencement of offering Class C shares (August 1, 1994) periods ended February 28, 1998, was 8.48% and 7.51%, respectively. The average annual total return for Class Z shares for the one year and since commencement of offering of Class Z shares (March 1, 1996) was 10.30% and 6.68%, respectively. B-30 AGGREGATE TOTAL RETURN. The Fund may also advertise its aggregate total return. Aggregate total return is determined separately for Class A, Class B, Class C and Class Z shares. See "How the Fund Calculates Performance" in the Prospectus. Aggregate total return represents the cumulative change in the value of an investment in the Fund and is computed by the following formula: ERV - P ------- P Where: P = a hypothetical initial payment of $1000. ERV = ending redeemable value of a hypothetical $1000 payment made at the beginning of the 1, 5 or 10 year periods at the end of the 1, 5 or 10 year periods (or fractional portion thereof). Aggregate total return does not take into account any federal or state income taxes that may be payable upon redemption or any applicable initial or contingent deferred sales charges. The aggregate total return for Class A shares for the one year, five year and since commencement of offering Class A shares (January 22, 1990) periods ended February 28, 1998 was 10.26%, 34.51% and 86.14%, respectively. The aggregate total return for Class B shares for the one, five and ten year periods ended February 28, 1998 was 9.40%, 29.95% and 97.48%, respectively. The aggregate total return for Class C shares for the one year and since commencement of offering Class C shares (August 1, 1994) periods ended February 28, 1998 was 9.48% and 29.59%, respectively. The aggregate total return for Class Z shares for the one year and since commencement of offering of Class Z shares (March 1, 1996) was 10.30% and 13.77%, respectively. From time to time, the performance of the Fund may be measured against various indices. Set forth below is a chart which compares the performance of different types of investments over the long-term and the rate of inflation.(1) A LOOK AT PERFORMANCE OVER THE LONG TERM (1926-1992)
A LOOK AT PERFORMANCE Over the Long-Term Average Annual Returns 1/1/2612/31/97 Long-Term Govt. Common Stocks Bonds Inflation 11.0% 5.2% 3.1%
(1)Source: Ibbotson Associates, "Stocks, Bonds, Bills and Inflation--1997 Yearbook" (annually updates the work of Roger G. Ibbotson and Rex A. Sinquefield). Used with permission. All rights reserved. Common stock returns are based on the Standard & Poor's 500 Stock Index, a market-weighted, unmanaged index of 500 common stocks in a variety of industry sectors. It is a commonly used indicator of broad stock price movements. This chart is for illustrative purposes only, and is not intended to represent the performance of any particular investment or fund. Investors cannot invest directly in an index. Past performance is not a guarantee of future results. B-31 CUSTODIAN, TRANSFER AND DIVIDEND DISBURSING AGENT, AND INDEPENDENT ACCOUNTANTS State Street Bank and Trust Company, One Heritage Drive, North Quincy, Massachusetts 02171, serves as Custodian for the Fund's portfolio securities and cash and, in that capacity, maintains certain financial and accounting books and records pursuant to an agreement with the Fund. See "How the Fund is Managed--Custodian and Transfer and Dividend Disbursing Agent." Prudential Mutual Fund Services LLC (PMFS), Raritan Plaza One, Edison, New Jersey 08837, serves as the Transfer and Dividend Disbursing Agent of the Fund. It is a wholly-owned subsidiary of PIFM. PMFS provides customary transfer agency services to the Fund, including the handling of shareholder communications, the processing of shareholder transactions, the maintenance of shareholder account records, payment of dividends and distributions, and related functions. For these services, PMFS receives an annual fee of $13.00 per shareholder account, a new account set-up fee of $2.00 for each manually-established account and a monthly inactive zero balance account fee of $.20 per shareholder account. PMFS is also reimbursed for its out-of-pocket expenses, including but not limited to postage, stationery, printing, allocable communications expenses and other costs. For the fiscal year ended February 28, 1998, the Fund incurred fees of approximately $1,832,500 for the services of PMFS. Price Waterhouse LLP, 1177 Avenue of the Americas, New York, New York 10036, serves as the Fund's independent public accountants and, in that capacity, audits the Fund's annual financial statements. B-32 PORTFOLIO OF INVESTMENTS AS OF PRUDENTIAL GOVERNMENT INCOME FEBRUARY 28, 1998 FUND, INC. - ---------------------------------------------------------------------------- - ----------------------------------------------------------------------------
PRINCIPAL AMOUNT (000) DESCRIPTION VALUE (NOTE 1) - ------------------------------------------------------------ LONG-TERM INVESTMENTS--95.3% - ------------------------------------------------------------ U.S. GOVERNMENT AGENCY MORTGAGE PASS-THROUGHS--26.1% Federal Home Loan Mortgage Corp., $1,005 7.50%, 2/01/22 - 4/01/25 $ 1,033,630 6,828 8.00%, 1/01/22 - 5/01/23 7,114,140 4,390 8.50%, 6/01/07 - 4/01/20 4,641,347 2,001 11.50%, 10/01/19 2,287,437 Federal National Mortgage Assoc., 22,510 6.50%, 5/01/11 - 6/01/24 22,403,627 47,731 7.00%, 7/01/03 - 9/01/26 48,418,547 31,638 7.125%, 2/01/07 33,111,104 43,100(a) 7.50%, 4/01/07 - 1/01/2099 44,500,297 33,873 8.50%, 6/01/17 - 3/01/25 35,618,750 8,284 9.00%, 8/01/24 - 4/01/25 8,811,168 1,681 9.50%, 10/01/19 - 3/01/25 1,800,031 Government National Mortgage Assoc., 56,499 7.00%, 2/15/09 - 1/15/28 57,272,946 19,479 7.50%, 5/15/02 - 11/15/24 20,038,802 1,100 8.00%, 7/15/16 - 3/15/24 1,147,652 17,262 9.00%, 4/15/01 - 7/15/21 18,165,122 16,211 9.50%, 10/15/09 - 12/15/17 17,674,119 Government National Mortgage Assoc. II, 2,740 9.50%, 5/20/18 - 8/20/21 2,954,496 -------------- Total U.S. Government Agency Mortgage Pass-Throughs (cost $310,558,520) 326,993,215 - ------------------------------------------------------------ U.S. GOVERNMENT OBLIGATIONS--21.4% United States Treasury Bonds, 21,000(d) 6.125%, 11/15/27 21,587,370 10,000 6.625%, 2/15/27 10,882,800 3,000(c) 7.625%, 2/15/25 3,651,090 25,000 8.125%, 8/15/19 31,363,250 1,860 12.00%, 8/15/13 2,744,374 45,000(c) 12.50%, 8/15/14 69,581,250 20,000(c) 12.75%, 11/15/10 28,550,000 United States Treasury Notes, $32,000(b) 5.50%, 2/29/00 $ 31,975,040 11,000(d) 5.50%, 1/31/03 10,953,580 18,000(d) 6.125%, 8/15/07 18,565,380 10,000 6.25%, 10/31/01 10,207,800 20,000(c) 12.375%, 5/15/04 26,937,400 United States Treasury Strips, 800 Zero Coupon, 8/15/08 437,272 700 Zero Coupon, 8/15/11 315,490 500 Zero Coupon, 11/15/11 221,945 -------------- Total U.S. Government Obligations (cost $265,905,749) 267,974,041 - ------------------------------------------------------------ U.S. GOVERNMENT AGENCY SECURITIES--20.3% Federal Home Loan Bank, 1,000 6.78%, 7/24/02 1,000,940 Federal National Mortgage Assoc., 42,350 5.70%, 1/22/03 41,820,625 20,000 6.30%, 9/25/02 20,115,600 51,125 6.56%, 8/27/04 51,851,934 Small Business Administration, 19,346 Series 1995-20B, 8.15%, 2/01/15 20,973,087 22,952 Series 1995-20L, 6.45%, 12/01/15 23,108,382 32,940 Series 1996-20H, 7.25%, 8/01/16 34,484,746 19,171 Series 1996-20K, 6.95%, 11/01/16 19,798,009 10,125 Series 1997-20A, 7.15%, 1/01/17 10,611,786 Tennessee Valley Authority, 600 Series 1993-D, 7.25%, 7/15/43 625,440 30,000(c) Series 1995-B, 6.235%, 7/15/45 30,513,000 -------------- Total U.S. Government Agency Securities (cost $251,045,078) 254,903,549 - ------------------------------------------------------------ COLLATERALIZED MORTGAGE OBLIGATIONS--5.7% Federal National Mortgage Assoc., 37,000 6.425%, 2/17/30 37,138,750 GMAC Commercial Mortgage Securities, Inc., Series 1997-C1, 20,000 Class A3, 6.869%, 8/15/07 20,706,250 Resolution Trust Corp., Series 1994-1, Class B2, 5,125 7.75%, 9/25/29 5,291,838
- -------------------------------------------------------------------------------- See Notes to Financial Statements. B-33 PORTFOLIO OF INVESTMENTS AS OF PRUDENTIAL GOVERNMENT INCOME FEBRUARY 28, 1998 FUND, INC. - ---------------------------------------------------------------------------- - ----------------------------------------------------------------------------
PRINCIPAL AMOUNT (000) DESCRIPTION VALUE (NOTE 1) - ------------------------------------------------------------ Ryland Mortgage Participation Securities, Series 1993-3, Class A-3, $2,643 7.54%, 9/25/24, (ARM) $ 2,668,906 Structured Asset Securities Corp., Series 1995-C1, Class C, 5,000 7.375%, 9/25/24 5,039,453 -------------- Total Collateralized Mortgage Obligations (cost $69,839,190) 70,845,197 - ------------------------------------------------------------ U.S. GOVERNMENT AGENCY - STRIPPED SECURITIES--6.2% Federal National Mortgage Assoc., 9,045 Zero Coupon, 10/08/06 5,438,306 6,045 Zero Coupon, 10/08/07 3,396,504 4,745 Zero Coupon, 4/08/08 2,586,025 9,045 Zero Coupon, 4/08/10 4,317,541 Financing Corp., 5,000 Zero Coupon, 3/07/04 3,516,450 Israel AID, 46,100 Zero Coupon, 2/15/09 23,997,816 25,584 Zero Coupon, 8/15/09 12,898,429 37,600 Zero Coupon, 5/15/15 13,854,848 46,100 Zero Coupon, 2/15/26 8,229,772 -------------- Total U.S. Government Agency - Stripped Securities (cost $67,162,168) 78,235,691 - ------------------------------------------------------------ SUPRANATIONAL BOND--1.0% International Bank For Reconstruction & Development, 8.625%, 10/15/16 10,000(c) (cost $12,400,900) 12,458,100 - ------------------------------------------------------------ ASSET BACKED SECURITIES--0.8% Aesop Funding II LLC, Series 1997-1, Class A2, 6.40%, 10/20/03 10,000 (cost $9,998,438) 10,109,677 - ------------------------------------------------------------ CORPORATE BONDS--13.8% Associates Corp. of North America, $15,000 5.96%, 5/15/37 $ 15,225,000 Ford Motor Credit Corp., 25,000(c) 7.32%, 5/23/02 25,250,000 Merck and Co., 17,000 5.76%, 5/03/37 17,340,000 New Jersey Economic Development Authority, 105,000(c) Series A, 7.425%, 2/15/29 115,024,245 -------------- Total corporate bonds (cost $167,478,100) 172,839,245 Total long-term investments (cost $1,154,388,143) 1,194,358,715 SHORT-TERM INVESTMENT--4.8% - ------------------------------------------------------------ REPURCHASE AGREEMENT Joint Repurchase Agreement Account, 5.63%, 3/02/98 60,446 (cost $60,446,000; Note 5) 60,446,000 - ------------------------------------------------------------ TOTAL INVESTMENTS--100.1% (cost $1,214,834,143; Note 4) 1,254,804,715 Liabilities in excess of other assets--(0.1%) (1,636,959) -------------- Net Assets--100% $1,253,167,756 -------------- --------------
- --------------- AID--Agency for International Development ARM--Adjusted Rate Mortgage (a) Partial principal amount of $5,500,000 represents a to-be-announced ('TBA') mortgage dollar roll, see Note 1 and Note 4. (b) Represents a when-issued security. (c) Partial principal amount pledged as collateral for mortgage dollar roll, financial futures contracts and when-issued security. (d) Portion of securities on loan, see Note 4. - -------------------------------------------------------------------------------- See Notes to Financial Statements. B-34 STATEMENT OF ASSETS AND LIABILITIES PRUDENTIAL GOVERNMENT INCOME FUND, INC. - --------------------------------------------------------------------------------
ASSETS FEBRUARY 28, 1998 Investments, at value (cost $1,214,834,143).............................................................. $ 1,254,804,715 Receivable for investments sold.......................................................................... 69,727,147 Interest receivable...................................................................................... 9,232,873 Receivable for Fund shares sold.......................................................................... 1,306,597 Prepaid expenses and other assets........................................................................ 29,109 ----------------- Total assets.......................................................................................... 1,335,100,441 ----------------- LIABILITIES Bank overdraft........................................................................................... 38,809,104 Payable for investments purchased........................................................................ 32,025,711 Payable for dollar roll.................................................................................. 5,679,896 Payable for Fund shares reacquired....................................................................... 2,024,294 Accrued expenses......................................................................................... 1,886,660 Dividends payable........................................................................................ 656,503 Management fee payable................................................................................... 483,797 Distribution fee payable................................................................................. 317,201 Due to broker - variation margin......................................................................... 49,519 ----------------- Total liabilities..................................................................................... 81,932,685 ----------------- NET ASSETS............................................................................................... $ 1,253,167,756 ----------------- ----------------- Net assets were comprised of: Common stock, at par.................................................................................. $ 1,385,232 Paid-in capital in excess of par...................................................................... 1,342,841,205 ----------------- 1,344,226,437 Accumulated net realized losses on investments........................................................ (131,040,581) Net unrealized appreciation on investments............................................................ 39,981,900 ----------------- Net assets at February 28, 1998.......................................................................... $ 1,253,167,756 ----------------- ----------------- Class A: Net asset value and redemption price per share ($819,536,440 / 90,606,290 shares of common stock issued and outstanding).......................... $9.05 Maximum sales charge (4.0% of offering price)......................................................... .38 ----------------- Maximum offering price to public...................................................................... $9.43 ----------------- ----------------- Class B: Net asset value, offering price and redemption price per share ($346,059,079 / 38,226,563 shares of common stock issued and outstanding).......................... $9.05 ----------------- ----------------- Class C: Net asset value, offering price and redemption price per share ($2,839,723 / 313,687 shares of common stock issued and outstanding)............................... $9.05 ----------------- ----------------- Class Z: Net asset value, offering price and redemption price per share ($84,732,514 / 9,376,690 shares of common stock issued and outstanding)............................ $9.04 ----------------- -----------------
- -------------------------------------------------------------------------------- See Notes to Financial Statements. B-35 PRUDENTIAL GOVERNMENT INCOME FUND, INC. STATEMENT OF OPERATIONS - ------------------------------------------------------------
Year Ended NET INVESTMENT INCOME February 28, 1998 Income Interest................................. $ 96,024,178 ----------------- Expenses Management fee........................... 6,507,621 Distribution fee--Class A................ 1,263,646 Distribution fee--Class B................ 3,177,448 Distribution fee--Class C................ 18,923 Transfer agent's fees and expenses....... 2,008,000 Reports to shareholders.................. 305,000 Custodian's fees and expenses............ 175,000 Legal fees and expenses.................. 88,000 Audit fee and expenses................... 44,000 Directors' fees.......................... 44,000 Registration fees........................ 40,000 Insurance expense........................ 23,000 Miscellaneous............................ 11,610 ----------------- Total expenses........................ 13,706,248 ----------------- Net investment income...................... 82,317,930 ----------------- REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS Net realized gain (loss) on: Investment transactions.................. 12,654,531 Financial futures contracts.............. (5,079,275) ----------------- 7,575,256 ----------------- Net change in unrealized appreciation on: Investments.............................. 32,404,595 Financial futures contracts.............. 11,328 ----------------- 32,415,923 ----------------- Net gain on investments.................... 39,991,179 ----------------- NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS.................. $ 122,309,109 ----------------- -----------------
PRUDENTIAL GOVERNMENT INCOME FUND, INC. STATEMENT OF CHANGES IN NET ASSETS - ------------------------------------------------------------
INCREASE (DECREASE) Year Ended February 28 IN NET ASSETS 1998 1997 Operations Net investment income...... $ 82,317,930 $ 96,065,519 Net realized gain (loss) on investment transactions............ 7,575,256 (20,189,194) Net change in unrealized appreciation/depreciation on investments.......... 32,415,923 (26,314,444) ----------------- ----------------- Net increase in net assets resulting from operations.............. 122,309,109 49,561,881 ----------------- ----------------- Dividends from net investment income (Note 1) Class A................. (54,904,893) (60,005,745) Class B................. (22,493,247) (33,204,797) Class C................. (149,286) (151,010) Class Z................. (4,770,504) (2,703,967) ----------------- ----------------- (82,317,930) (96,065,519) ----------------- ----------------- Fund share transactions (net of share conversions) (Note 6) Net proceeds from shares subscribed.............. 236,235,904 326,332,216 Net asset value of shares issued in reinvestment of dividends............ 51,329,375 57,955,409 Cost of shares reacquired.............. (472,675,912) (528,279,294) ----------------- ----------------- Net decrease in net assets from Fund share transactions............ (185,110,633) (143,991,669) ----------------- ----------------- Total decrease............... (145,119,454) (190,495,307) NET ASSETS Beginning of year............ 1,398,287,210 1,588,782,517 ----------------- ----------------- End of year.................. $ 1,253,167,756 $ 1,398,287,210 ----------------- ----------------- ----------------- -----------------
- -------------------------------------------------------------------------------- See Notes to Financial Statements. B-36 NOTES TO FINANCIAL STATEMENTS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - -------------------------------------------------------------------------------- Prudential Government Income Fund, (the "Fund") is registered under the Investment Company Act of 1940 as a diversified, open-end management investment company. Investment operations commenced on April 22, 1985. The Fund's investment objective is to seek a high current return. The Fund will seek to achieve this objective by investing primarily in U.S. Government Securities, including U.S. Treasury Bills, Notes, Bonds and other debt securities issued by the U.S. Treasury, and obligations issued or guaranteed by U.S. Government agencies or instrumentalities, and by engaging in various derivative transactions such as the purchase and sale of put and call options. - ------------------------------------------------------------ NOTE 1. ACCOUNTING POLICIES The following is a summary of significant accounting policies followed by the Fund in the preparation of its financial statements. SECURITY VALUATION: The Fund values portfolio securities (including commitments to purchase such securities on a "when-issued" basis) on the basis of current market quotations provided by dealers or by a pricing service approved by the Board of Directors, which uses information such as quotations from dealers, market transactions in comparable securities, various relationships between securities and calculations on yield to maturity in determining values. Options and financial futures contracts listed on exchanges are valued at their closing price on the applicable exchange. When market quotations are not readily available, a security is valued at fair value as determined in good faith by or under the direction of the Board of Directors. Short-term securities which mature in more than 60 days are valued at current market quotations. Short-term securities which mature in 60 days or less are valued at amortized cost. In connection with repurchase agreements with U.S. financial institutions, it is the Fund's policy that its custodian, or designated subcustodians as the case may be under triparty repurchase agreements, takes possession of the underlying collateral securities, the value of which exceeds the principal amount of the repurchase agreement transaction, including accrued interest. To the extent that any repurchase agreement transaction exceeds one business day, the value of the collateral is marked-to-market on a daily basis to ensure the adequacy of the collateral. If the seller defaults and the value of the collateral declines or if bankruptcy proceedings are commenced with respect to the seller of the security, realization of the collateral by the Fund may be delayed or limited. FINANCIAL FUTURES CONTRACTS: A financial futures contract is an agreement to purchase (long) or sell (short) an agreed amount of securities at a set price for delivery on a future date. Upon entering into a financial futures contract, the Fund is required to pledge to the broker an amount of cash and/or other assets equal to a certain percentage of the contract amount. This amount is known as the "initial margin." Subsequent payments, known as "variation margin," are made or received by the Fund each day, depending on the daily fluctuation in the value of the underlying security. Such variation margin is recorded for financial statement purposes on a daily basis as unrealized gain or loss. When the contract expires or is closed, the gain or loss is realized and is presented in the statement of operations as net realized gain (loss) on financial futures contracts. The Fund invests in financial futures contracts in order to hedge its existing portfolio securities, or securities the Fund intends to purchase, against fluctuations in value caused by changes in prevailing interest rates. Should interest rates move unexpectedly, the Fund may not achieve the anticipated benefits of the financial futures contracts and may realize a loss. The use of futures transactions involves the risk of imperfect correlation in movements in the price of futures contracts, interest rates and the underlying hedged assets. DOLLAR ROLLS: The Fund enters into mortgage dollar rolls in which the Fund sells mortgage securities for delivery in the current month, realizing a gain or loss and simultaneously contracts to repurchase somewhat similar (same type, coupon and maturity) securities on a specified future date. During the roll period, the Fund forgoes principal and interest paid on the securities. The Fund is compensated by the interest earned on the cash proceeds of the initial sale and by the lower repurchase price at the future date. The difference between the sales proceeds and the lower repurchase price is recorded as interest income. The Fund maintains a segregated account, the dollar value of which is at least equal to its obligations, in respect of dollar rolls. SECURITIES LENDING: The Fund may lend its U.S. Government securities to broker-dealers or government securities dealers. The loans are secured by collateral at least equal at all times to the market value of the securities loaned. The Fund may bear the risk of delay in recovery of, or even loss of rights in, the securities loaned should the borrower of the securities fail financially. The Fund receives compensation for lending its securities in the form of fees or it retains a portion of interest on the investment of any cash received as collateral. The Fund also continues to receive interest on the securities loaned and any gain or loss in the market price of the securities loaned that may occur during the term of the loan will be for the account of the Fund. SECURITIES TRANSACTIONS AND NET INVESTMENT INCOME: Securities transactions are recorded on the trade date. Realized gains or losses on sales of securities are calculated on the identified cost basis. Interest income is recorded - -------------------------------------------------------------------------------- B-37 NOTES TO FINANCIAL STATEMENTS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - -------------------------------------------------------------------------------- on the accrual basis. The Fund accretes original issue discount on portfolio securities as adjustments to interest income. Net investment income (other than distribution fees) and unrealized and realized gains or losses are allocated daily to each class of shares based upon the relative proportion of net assets of each class at the beginning of the day. Expenses are recorded on the accrual basis which may require the use of certain estimates by management. RECLASSIFICATION OF CAPITAL ACCOUNTS: The Fund accounts and reports for distributions to shareholders in accordance with Statement of Position 93-2: Determination, Disclosure and Financial Statement Presentation of Income, Capital Gain and Return of Capital Distributions by Investment Companies. The effect of applying this statement was to decrease paid-in capital in excess of par by $1,419,491 and decrease accumulated net realized losses on investments by $1,419,491. The current year effect of applying the Statement of Position was due to capital loss carryforward expired unused. Net investment income, net realized gains and net assets were not affected by this change. DIVIDENDS AND DISTRIBUTIONS: The Fund declares daily and pays monthly dividends from net investment income. The Fund will distribute at least annually any net capital gains in excess of loss carryforwards, if any. Dividends and distributions are recorded on the ex-dividend date. Income distributions and capital gain distributions are determined in accordance with income tax regulations which may differ from generally accepted accounting principles. FEDERAL INCOME TAXES: It is the Fund's policy to continue to meet the requirements of the Internal Revenue Code applicable to regulated investment companies and to distribute all of its taxable net income to its shareholders. Therefore, no federal income tax provision is required. - ------------------------------------------------------------ NOTE 2. AGREEMENTS The Fund has a management agreement with Prudential Investments Fund Management, LLC ("PIFM"). Pursuant to this agreement, PIFM has responsibility for all investment advisory services and supervises the subadviser's performance of such services. PIFM has entered into a subadvisory agreement with The Prudential Investment Corporation ("PIC"); PIC furnishes investment advisory services in connection with the management of the Fund. PIFM pays for the cost of the subadviser's services, the compensation of officers of the Fund, occupancy and certain clerical and bookkeeping costs of the Fund. The Fund bears all other costs and expenses. The management fee paid PIFM is computed daily and payable monthly, at an annual rate of .50 of 1% of the Fund's average daily net assets up to $3 billion and .35 of 1% of the average daily net assets of the Fund in excess of $3 billion. The Fund has a distribution agreement with Prudential Securities Incorporated ("PSI"), which acts as the distributor of the Class A, Class B, Class C and Class Z shares of the Fund. The Fund compensates PSI for distributing and servicing the Fund's Class A, Class B and Class C shares, pursuant to plans of distribution (the "Class A, B and C Plans"), regardless of expenses actually incurred by them. The distribution fees for Class A, B and C shares are accrued daily and payable monthly. No distribution or service fees are paid to PSI as distributor of the Class Z shares of the Fund. Pursuant to the Class A Plan, the Fund compensates PSI for its distribution-related expenses with respect to Class A shares, at an annual rate of up to .30 of 1% of the average daily net assets of the Class A shares. Such expenses under the Class A Plan were .15 of 1% of the average daily net assets of the Class A shares for the year ended February 28, 1998. Pursuant to the Class B Plan, the Fund compensates PSI for its distribution-related expenses with respect to Class B shares at an annual rate of up to 1% of the average daily net assets up to $3 billion, .80 of 1% of the next $1 billion of such net assets and .50 of 1% over $4 billion of the average daily net assets of the Class B shares. Such expenses under the Class B Plan were charged at an effective rate of .825 of 1% of the average daily net assets of the Class B shares for the year ended February 28, 1998. Pursuant to the Class C Plan, the Fund compensates PSI for its distribution-related expenses with respect to Class C shares at an annual rate of up to .825 of 1% of the average daily net assets up to $3 billion, .80 of 1% of the next $1 billion of such net assets and .50 of 1% over $4 billion of the average daily net assets of the Class C shares. Such expenses under the Class C Plan were charged at an effective rate of .75 of 1% of the average daily net assets of the Class C shares for the year ended February 28, 1998. PSI advised the Fund that it received approximately $294,300 in front-end sales charges resulting from sales of Class A shares during the year ended February 28, 1998. From these fees, PSI paid such sales charges to Pruco Securities Corporation, an affiliated broker-dealer, which in turn paid commissions to salespersons and incurred other distribution costs. PSI has advised the Fund that for the year ended February 28, 1998 it received approximately $781,400 and $400 in contingent deferred sales - -------------------------------------------------------------------------------- B-38 NOTES TO FINANCIAL STATEMENTS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - -------------------------------------------------------------------------------- charges imposed upon redemptions by certain Class B and Class C shareholders, respectively. PSI, PIFM and PIC are indirect, wholly owned subsidiaries of The Prudential Insurance Company of America. The Fund, along with other affiliated registered investment companies (the "Funds"), has a credit agreement (the "Agreement") with an unaffiliated lender. The maximum commitment under the Agreement is $200,000,000. Interest on any such borrowings outstanding will be at market rates. The purpose of the Agreement is to serve as an alternative source of funding for capital share redemptions. The Fund did not borrow any amounts pursuant to the Agreement during the year ended February 28, 1998. The Funds pay a commitment fee at an annual rate of .055 of 1% on the unused portion of the credit facility. The commitment fee is accrued and paid quarterly on a pro rata basis by the Funds. The Agreement expired on December 30, 1997 and has been extended through December 29, 1998 under the same terms. - ------------------------------------------------------------ NOTE 3. OTHER TRANSACTIONS WITH AFFILIATES Prudential Mutual Fund Services LLC ("PMFS"), a wholly owned subsidiary of PIFM, serves as the Fund's transfer agent. During year ended February 28, 1998, the Fund incurred fees of approximately $1,832,500 for the services of PMFS. As of February 28, 1998, approximately $151,900 of such fees were due to PMFS. Transfer agent fees and expenses in the Statement of Operations also include certain out of pocket expenses paid to nonaffiliates. - ------------------------------------------------------------ NOTE 4. PORTFOLIO SECURITIES Purchases and sales of investment securities, other than short-term investments, for the year ended February 28, 1998, were $1,109,606,649 and $1,263,542,179, respectively. During the year ended February 28, 1998, the Fund entered into financial future contracts. Details of open contracts at February 28, 1998 are as follows:
VALUE AT VALUE AT UNREALIZED NUMBER OF EXPIRATION TRADE FEBRUARY 28, APPRECIATION CONTRACTS TYPE DATE DATE 1998 (DEPRECIATION) - --------- ----------- ----------- ------------ ------------ -------------- Short positions: 30 yr. June 131 T-Note 1998 $15,893,984 $15,781,406 $ 112,578 10 yr. June 10 T-Note 1998 1,123,125 1,123,125 -- 10 yr. March 90 T-Bond 1998 10,040,625 10,141,875 (101,250) -------------- $ 11,328 -------------- --------------
The federal income tax basis of the Fund's investments at February 28, 1998 was $1,214,912,655 and, accordingly, net unrealized appreciation for federal income tax purposes was $39,892,060 (gross unrealized appreciation-$41,154,658; gross unrealized depreciation-$1,262,598). The Fund had a capital loss carryforward as of February 28, 1998 of approximately $131,130,000 of which $41,964,000 expires in 1999, $1,736,000 expires in 2001, $2,920,000 expires in 2002, $66,560,000 expires in 2003 and $17,950,000 expires in 2005. Such carryforward is after utilization of approximately $4,981,000 to offset net taxable gains realized and recognized during the fiscal year ended February 28, 1998. Accordingly, no capital gains distribution is expected to be paid to shareholders until net gains have been realized in excess of such amounts. During the fiscal year ended February 28, 1998, approximately $7,409,000 of the capital loss carryforward expired unused. The average balance of dollar rolls outstanding during the year ended February 28, 1998 was approximately $6,459,000. The amount of dollar rolls outstanding at February 28, 1998 was $5,645,313, which was 0.4% of total assets. As of February 28, 1998, the Fund had securities on loan with an aggregate market value of $39,798,660. As of this date, the collateral held for securities on loan was comprised of U.S. government securities with an aggregate market value of $41,001,991. - ------------------------------------------------------------ NOTE 5. JOINT REPURCHASE AGREEMENT ACCOUNT The Fund, along with other affiliated registered investment companies, transfers uninvested cash balances into a single joint account, the daily aggregate balance of which is invested in one or more repurchase agreements collateralized by U.S. Treasury or federal agency obligations. As of February 28, 1998, the Fund had a 4.60% undivided interest in the repurchase agreements in the joint account. This undivided interest represented $60,446,000 in principal amount. As of such date, the repurchase agreements in the joint account and the value of the collateral therefore were as follows: Bear, Stearns & Co., 5.65%, in the principal amount of $360,000,000, repurchase price $360,169,500, due 3/2/98. The value of the collateral including accrued interest was $369,861,965. Credit Suisse First Boston Corp., 5.58%, in the principal amount of $78,125,000, repurchase price $78,161,328, due 3/2/98. The value of the collateral including accrued interest was $80,423,029. - -------------------------------------------------------------------------------- B-39 NOTES TO FINANCIAL STATEMENTS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - -------------------------------------------------------------------------------- Credit Suisse First Boston Corp., 5.65%, in the principal amount of $300,000,000, repurchase price $300,141,250, due 3/2/98. The value of the collateral including accrued interest was $310,827,022. Merrill Lynch, Pierce, Fenner & Smith, Inc., 5.55% in the principal amount of $156,252,000, repurchase price $156,324,266, due 3/2/98. The value of the collateral including accrued interest was $159,381,768. Morgan Stanley, Dean Witter, Discover & Co., 5.65%, in the principal amount of $60,000,000, repurchase price $60,028,250, due 3/2/98. The value of the collateral including accrued interest was $61,200,403. Salomon Smith Barney Inc., 5.65%, in the principal amount of $360,000,000, repurchase price $360,169,500, due 3/2/98. The value of the collateral including accrued interest was $367,376,399. - ------------------------------------------------------------ NOTE 6. CAPITAL The Fund offers Class A, Class B, Class C and Class Z shares. Class A shares are sold with a front-end sales charge of up to 4%. Class B shares are sold with a contingent deferred sales charge which declines from 5% to zero depending on the period of time the shares are held. Class C shares are sold with a contingent deferred sales charge of 1% during the first year. Class B shares automatically convert to Class A shares on a quarterly basis approximately seven years after purchase. Class Z shares are not subject to any sales charge and are offered exclusively for sale to a limited group of investors. There are 2 billion shares of common stock, $.01 par value per share, divided into four classes, designated Class A, B, C and Class Z common stock, each of which consists of 500,000,000 authorized shares. Transactions in shares of common stock were as follows:
Class A SHARES AMOUNT - ----------------------------------- ----------- ------------- Year ended February 28, 1998: Shares sold........................ 15,454,541 $ 136,602,902 Shares issued in reinvestment of dividends........................ 3,691,357 32,742,038 Shares reacquired.................. (33,350,895) (294,958,733) ----------- ------------- Net decrease in shares outstanding before conversion................ (14,204,997) (125,613,793) Shares issued upon conversion from Class B.......................... 6,652,848 58,526,575 ----------- ------------- Net decrease in shares outstanding...................... (7,552,149) $ (67,087,218) ----------- ------------- ----------- ------------- Class A SHARES AMOUNT - ----------------------------------- ----------- ------------- Year ended February 28, 1997: Shares sold........................ 23,880,421 $ 211,010,343 Shares issued in reinvestment of dividends........................ 3,985,757 35,069,511 Shares reacquired.................. (41,836,738) (368,907,729) ----------- ------------- Net decrease in shares outstanding before conversion................ (13,970,560) (122,827,875) Shares issued upon conversion from Class B.......................... 9,099,955 79,924,887 Shares reacquired upon conversion into Class Z..................... (1,559,278) (14,231,482) ----------- ------------- Net decrease in shares outstanding...................... (6,429,883) $ (57,134,470) ----------- ------------- ----------- ------------- Class B - ----------------------------------- Year ended February 28, 1998: Shares sold........................ 3,258,103 $ 29,057,734 Shares issued in reinvestment of dividends........................ 1,549,463 13,738,189 Shares reacquired.................. (12,601,925) (111,722,746) ----------- ------------- Net decrease in shares outstanding before conversion................ (7,794,359) (68,926,823) Shares reacquired upon conversion into Class A..................... (6,647,245) (58,526,575) ----------- ------------- Net decrease in shares outstanding...................... (14,441,604) $(127,453,398) ----------- ------------- ----------- ------------- Year ended February 28, 1997: Shares sold........................ 4,648,727 $ 40,926,466 Shares issued in reinvestment of dividends........................ 2,285,644 20,127,506 Shares reacquired.................. (16,152,439) (142,246,190) ----------- ------------- Net decrease in shares outstanding before conversion................ (9,218,068) (81,192,218) Shares reacquired upon conversion into Class A..................... (9,099,955) (79,924,887) ----------- ------------- Net decrease in shares outstanding...................... (18,318,023) $(161,117,105) ----------- ------------- ----------- ------------- Class C - ----------------------------------- Year ended February 28, 1998: Shares sold........................ 178,009 $ 1,593,648 Shares issued in reinvestment of dividends........................ 13,542 120,330 Shares reacquired.................. (170,795) (1,515,242) ----------- ------------- Net increase in shares outstanding...................... 20,756 $ 198,736 ----------- ------------- ----------- ------------- Year ended February 28, 1997: Shares sold........................ 165,423 $ 1,461,600 Shares issued in reinvestment of dividends........................ 13,603 119,788 Shares reacquired.................. (85,011) (747,770) ----------- ------------- Net increase in shares outstanding...................... 94,015 $ 833,618 ----------- ------------- ----------- -------------
- -------------------------------------------------------------------------------- B-40 NOTES TO FINANCIAL STATEMENTS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - --------------------------------------------------------------------------------
Class Z SHARES AMOUNT - ----------------------------------- ----------- ------------- Year ended February 28, 1998: Shares sold........................ 7,680,888 $ 68,981,620 Shares issued in reinvestment of dividends........................ 533,884 4,728,818 Shares reacquired.................. (7,221,547) (64,479,191) ----------- ------------- Net increase in shares outstanding...................... 993,225 $ 9,231,247 ----------- ------------- ----------- ------------- March 4, 1996* through February 28, 1997: Shares sold**...................... 8,380,612 $ 72,933,807 Shares issued in reinvestment of dividends........................ 299,172 2,638,604 Shares reacquired.................. (1,855,597) (16,377,605) ----------- ------------- Net increase in shares outstanding before conversion from Class A... 6,824,187 59,194,806 Shares issued upon conversion from Class A.......................... 1,559,278 14,231,482 ----------- ------------- Net increase in shares outstanding...................... 8,383,465 $ 73,426,288 ----------- ------------- ----------- -------------
- --------------- * Commencement of offering of Class Z shares. ** Includes 6,698,193 shares issued for the acquisition of The Prudential Institutional Fund, Income Fund. - -------------------------------------------------------------------------------- B-41 FINANCIAL HIGHLIGHTS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - --------------------------------------------------------------------------------
CLASS A ----------------------------------------------------------- YEAR ENDED FEBRUARY 29/28, ----------------------------------------------------------- 1998 1997 1996 1995 1994 -------- -------- -------- -------- ------- PER SHARE OPERATING PERFORMANCE: Net asset value, beginning of year.................. $ 8.76 $ 9.04 $ 8.59 $ 9.13 $ 9.40 -------- -------- -------- -------- ------- INCOME FROM INVESTMENT OPERATIONS Net investment income............................... 0.58 0.60 0.60 0.59 0.61 Net realized and unrealized gain (loss) on investment transactions.......................... 0.29 (0.28) 0.45 (0.54) (0.25) -------- -------- -------- -------- ------- Total from investment operations................. 0.87 0.32 1.05 0.05 0.36 -------- -------- -------- -------- ------- LESS DISTRIBUTIONS Dividends from net investment income................ (0.58) (0.60) (0.60) (0.59) (0.61) Distributions in excess of accumulated gains........ -- -- -- -- (0.02) -------- -------- -------- -------- ------- Total distributions.............................. (0.58) (0.60) (0.60) (0.59) (0.63) -------- -------- -------- -------- ------- Net asset value, end of year........................ $ 9.05 $ 8.76 $ 9.04 $ 8.59 $ 9.13 -------- -------- -------- -------- ------- -------- -------- -------- -------- ------- TOTAL RETURN(a):.................................... 10.26% 3.70% 12.41% .83% 3.90% RATIOS/SUPPLEMENTAL DATA: Net assets, end of year (000)....................... $819,536 $860,319 $945,038 $871,145 $51,673 Average net assets (000)............................ $842,431 $884,862 $909,169 $ 95,560 $55,921 Ratios to average net assets: Expenses, including distribution fees............ 0.86% 0.90% 0.91% 0.98% 0.84% Expenses, excluding distribution fees............ 0.71% 0.75% 0.76% 0.83% 0.69% Net investment income............................ 6.52% 6.78% 6.65% 7.45% 6.48% For Class A, B, C and Z shares: Portfolio turnover rate.......................... 88% 107% 123% 206% 80%
- --------------- (a) Total return does not consider the effects of sales loads. Total return is calculated assuming a purchase of shares on the first day and a sale on the last day of each year reported and includes reinvestment of dividends and distributions. - -------------------------------------------------------------------------------- See Notes to Financial Statements. B-42 FINANCIAL HIGHLIGHTS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - --------------------------------------------------------------------------------
CLASS B ---------------------------------------------------------------- YEAR ENDED FEBRUARY 29/28, ---------------------------------------------------------------- 1998 1997 1996 1995 1994 -------- -------- -------- ---------- ---------- PER SHARE OPERATING PERFORMANCE: Net asset value, beginning of year.................. $ 8.77 $ 9.04 $ 8.60 $ 9.13 $ 9.40 -------- -------- -------- ---------- ---------- INCOME FROM INVESTMENT OPERATIONS Net investment income............................... 0.52 0.54 0.54 0.53 0.53 Net realized and unrealized gain (loss) on investment transactions.......................... 0.28 (0.27) 0.44 (0.53) (0.25) -------- -------- -------- ---------- ---------- Total from investment operations................. 0.80 0.27 0.98 -- 0.28 -------- -------- -------- ---------- ---------- LESS DISTRIBUTIONS Dividends from net investment income................ (0.52) (0.54) (0.54) (0.53) (0.53) Distributions in excess of accumulated gains........ -- -- -- -- (0.02) -------- -------- -------- ---------- ---------- Total distributions.............................. (0.52) (0.54) (0.54) (0.53) (0.55) -------- -------- -------- ---------- ---------- Net asset value, end of year........................ $ 9.05 $ 8.77 $ 9.04 $ 8.60 $ 9.13 -------- -------- -------- ---------- ---------- -------- -------- -------- ---------- ---------- TOTAL RETURN(a):.................................... 9.40% 3.12% 11.54% .24% 3.03% RATIOS/SUPPLEMENTAL DATA: Net assets, end of year (000)....................... $346,059 $461,988 $641,946 $ 705,732 $2,202,555 Average net assets (000)............................ $385,145 $543,796 $647,515 $1,735,413 $2,487,990 Ratios to average net assets: Expenses, including distribution fees............ 1.53% 1.57% 1.58% 1.66% 1.68% Expenses, excluding distribution fees............ 0.71% 0.75% 0.76% 0.80% 0.69% Net investment income............................ 5.85% 6.11% 5.99% 6.17% 5.64%
- --------------- (a) Total return does not consider the effects of sales loads. Total return is calculated assuming a purchase of shares on the first day and a sale on the last day of each year reported and includes reinvestment of dividends and distributions. - -------------------------------------------------------------------------------- See Notes to Financial Statements. B-43 FINANCIAL HIGHLIGHTS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - --------------------------------------------------------------------------------
CLASS C CLASS Z --------------------------------------------------- ----------- AUGUST 1, YEAR ENDED YEAR ENDED 1994(C) ENDED FEBRUARY 29/28, THROUGH FEBRUARY ---------------------------------- FEBRUARY 28, 28, 1998 1997 1996 1995 1998 ------ ------------ ------ ------------ ----------- PER SHARE OPERATING PERFORMANCE: Net asset value, beginning of period................ $ 8.77 $ 9.04 $ 8.60 $ 8.69 $ 8.76 ------ ----- ------ ----- ----------- INCOME FROM INVESTMENT OPERATIONS Net investment income............................... 0.53 0.54 0.54 0.31 0.59 Net realized and unrealized gain (loss) on investment transactions.......................... 0.28 (0.27) 0.44 (0.09) 0.28 ------ ----- ------ ----- ----------- Total from investment operations................. 0.81 0.27 0.98 0.22 0.87 ------ ----- ------ ----- ----------- LESS DISTRIBUTIONS Dividends from net investment income................ (0.53) (0.54) (0.54) (0.31) (0.59) ------ ----- ------ ----- ----------- Net asset value, end of period...................... $ 9.05 $ 8.77 $ 9.04 $ 8.60 $ 9.04 ------ ----- ------ ----- ----------- ------ ----- ------ ----- ----------- TOTAL RETURN(a):.................................... 9.48% 3.20% 11.63% 2.75% 10.30% RATIOS/SUPPLEMENTAL DATA: Net assets, end of period (000)..................... $2,840 $2,569 $1,799 $ 204 $84,733 Average net assets (000)............................ $2,523 $2,440 $ 765 $ 111 $71,425 Ratios to average net assets: Expenses, including distribution fees............ 1.46% 1.50% 1.51% 1.63%(b) 0.71% Expenses, excluding distribution fees............ 0.71% 0.75% 0.76% 0.88%(b) 0.71% Net investment income............................ 5.92% 6.19% 5.99% 6.69%(b) 6.67% MARCH 4, 1996(D) THROUGH FEBRUARY 28, 1997 ------------ PER SHARE OPERATING PERFORMANCE: Net asset value, beginning of period................ $ 9.13 ------ INCOME FROM INVESTMENT OPERATIONS Net investment income............................... 0.61 Net realized and unrealized gain (loss) on investment transactions.......................... (0.37) ------ Total from investment operations................. 0.24 ------ LESS DISTRIBUTIONS Dividends from net investment income................ (0.61) ------ Net asset value, end of period...................... $ 8.76 ------ ------ TOTAL RETURN(a):.................................... 3.16% RATIOS/SUPPLEMENTAL DATA: Net assets, end of period (000)..................... $ 73,411 Average net assets (000)............................ $ 39,551 Ratios to average net assets: Expenses, including distribution fees............ 0.75%(b) Expenses, excluding distribution fees............ 0.75%(b) Net investment income............................ 6.76%(b)
- --------------- (a) Total return does not consider the effects of sales loads. Total return is calculated assuming a purchase of shares on the first day and a sale on the last day of each period reported and includes reinvestment of dividends and distributions. Total returns for periods of less than a full year are not annualized. (b) Annualized. (c) Commencement of offering of Class C shares. (d) Commencement of offering of Class Z shares. - -------------------------------------------------------------------------------- See Notes to Financial Statements. B-44 REPORT OF INDEPENDENT ACCOUNTANTS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - -------------------------------------------------------------------------------- To the Shareholders and Board of Directors of Prudential Government Income Fund, Inc. In our opinion, the accompanying statement of assets and liabilities, including the portfolio of investments, and the related statements of operations and of changes in net assets and the financial highlights present fairly, in all material respects, the financial position of Prudential Government Income Fund, Inc. (the "Fund") at February 28, 1998, and the results of its operations, the changes in its net assets and the financial highlights for the year then ended, in conformity with generally accepted accounting principles. These financial statements and financial highlights (hereafter referred to as "financial statements") are the responsibility of the Fund's management; our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit of these financial statements in accordance with generally accepted auditing standards which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit, which included confirmation of securities at February 28, 1998 by correspondence with the custodian and brokers and the application of alternative auditing procedures where confirmations from brokers were not received, provides a reasonable basis for the opinion expressed above. The accompanying statement of changes in net assets for the year ended February 28, 1997, and the financial highlights for the periods other than the year ended February 28, 1998 were audited by other independent accountants, whose opinion dated April 11, 1997 was unqualified. PRICE WATERHOUSE LLP 1177 Avenue of the Americas New York, New York April 9, 1998 CHANGE OF AUDITORS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - -------------------------------------------------------------------------------- Effective March 1, 1997, Deloitte & Touche LLP was terminated as the Fund's auditors. For the years ended February 28, 1994 through February 28, 1997, Deloitte & Touche LLP expressed an unqualified opinion on the Fund's financial statements. There were no disagreements between Fund management and Deloitte & Touche LLP prior to their termination. The Board of Directors approved the termination of Deloitte & Touche LLP and the appointment of Price Waterhouse LLP as the Fund's independent accountants. - -------------------------------------------------------------------------------- B-45 IMPORTANT NOTICE FOR CERTAIN SHAREHOLDERS PRUDENTIAL GOVERNMENT INCOME FUND, INC. - ------------------------------------------------------------------------------- We are required by Massachusetts, Missouri and Oregon to inform you that dividends which have been derived from interest on federal obligations are not taxable to shareholders providing the mutual fund meets certain requirements mandated by the respective state's taxing authorities. We are pleased to report that 28% of the dividends paid by Prudential Government Income Fund qualify for such deduction. For more detailed information regarding your state and local taxes, you should contact your tax adviser or the state/local taxing authorities. - -------------------------------------------------------------------------------- B-46 APPENDIX I--HISTORICAL PERFORMANCE DATA The historical performance data contained in this Appendix relies on data obtained from statistical services, reports and other services believed by the Manager to be reliable. The information has not been independently verified by the Manager. This chart shows the long-term performance of various asset classes and the rate of inflation. EACH INVESTMENT PROVIDES A DIFFERENT OPPORTUNITY (VALUE OF $1 INVESTED ON 12/31/25) [CHART] Source: Stocks, Bonds, Bills, and Inflation 1997 Yearbook, Ibbotson Associates, Chicago (annually updates work by Roger G. Ibbotson and Rex A. Sinquefield). Used with permission. All rights reserved. This chart is for illustrative purposes only and is not indicative of the past, present, or future performance of any asset class or any Prudential Mutual Fund. Generally, stock returns are attributable to capital appreciation and the reinvestment of distributions. Bond returns are attributable mainly to the reinvestment of distributions. Also, stock prices are usually more volatile than bond prices over the long-term. Small stock returns for 1926-1989 are those of stocks comprising the 5th quintile of the New York Stock Exchange. Thereafter, returns are those of the Dimensional Fund Advisors (DFA) Small Company Fund. Common stock returns are based on the S&P Composite Index, a market-weighted, unmanaged index of 500 stocks (currently) in a variety of industries. It is often used as a broad measure of stock market performance. Long-term government bond returns are represented by a portfolio that contains only one bond with a maturity of roughly 20 years. At the beginning of each year a new bond with a then-current coupon replaces the old bond. Treasury bill returns are for a one-month bill. Treasuries are guaranteed by the government as to the timely payment of principal and interest; equities are not. Inflation is measured by the consumer price index (CPI). IMPACT OF INFLATION. The "real" rate of investment return is that which exceeds the rate of inflation, the percentage change in the value of consumer goods and the general cost of living. A common goal of long-term investors is to outpace the erosive impact of inflation on investment returns. I-1 Set forth below is historical performance data relating to various sectors of the fixed-income securities markets. The chart shows the historical total returns of U.S. Treasury bonds, U.S. mortgage securities, U.S. corporate bonds, U.S. high yield bonds and world government bonds on an annual basis from 1987 through 1997. The total returns of the indices include accrued interest, plus the price changes (gains or losses) of the underlying securities during the period mentioned. The data is provided to illustrate the varying historical total returns and investors should not consider this performance data as an indication of the future performance of the Fund or of any sector in which the Fund invests. All information relies on data obtained from statistical services, reports and other services believed by the Manager to be reliable. Such information has not been verified. The figures do not reflect the operating expenses and fees of a mutual fund. See "Fund Expenses" in the Prospectus. The net effect of the deduction of the operating expenses of a mutual fund on these historical total returns, including the compounded effect over time, could be substantial. HISTORICAL TOTAL RETURNS OF DIFFERENT BOND MARKET SECTORS
1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 - ---------------------------------------------------------------------------------------------------------------------------- U.S. GOVERNMENT TREASURY BONDS(1) 2.0% 7.0% 14.4% 8.5% 15.3% 7.2% 10.7% (3.4)% 18.4% 2.7% - ---------------------------------------------------------------------------------------------------------------------------- U. S. GOVERNMENT MORTGAGE SECURITIES(2) 4.3% 8.7% 15.4% 10.7% 15.7% 7.0% 6.8% (1.6)% 16.8% 5.4% - ---------------------------------------------------------------------------------------------------------------------------- U.S. INVESTMENT GRADE CORPORATE BONDS(3) 2.6% 9.2% 14.1% 7.1% 18.5% 8.7% 12.2% (3.9)% 22.3% 3.3% - ---------------------------------------------------------------------------------------------------------------------------- U.S. HIGH YIELD CORPORATE BONDS(4) 5.0% 12.5% 0.8% (9.6)% 46.2% 15.8% 17.1% (1.0)% 19.2% 11.4% - ---------------------------------------------------------------------------------------------------------------------------- WORLD GOVERNMENT BONDS(5) 35.2% 2.3% (3.4)% 15.3% 16.2% 4.8% 15.1% 6.0% 19.6% 4.1% - ---------------------------------------------------------------------------------------------------------------------------- DIFFERENCE BETWEEN HIGHEST AND LOWEST RETURN PERCENT 33.2% 10.2% 18.8% 24.9% 30.9% 11.0% 10.3% 9.9% 5.5% 8.7% 1997 - ----------------------------------- U.S. GOVERNMENT TREASURY BONDS(1) 9.6% - ----------------------------------- U. S. GOVERNMENT MORTGAGE SECURITIES(2) 9.5% - ----------------------------------- U.S. INVESTMENT GRADE CORPORATE BONDS(3) 10.2% - ----------------------------------- U.S. HIGH YIELD CORPORATE BONDS(4) 12.8% - ----------------------------------- WORLD GOVERNMENT BONDS(5) (4.3)% - ----------------------------------- DIFFERENCE BETWEEN HIGHEST AND LOWEST RETURN PERCENT 17.1%
(1)LEHMAN BROTHERS TREASURY BOND INDEX is an unmanaged index made up of over 150 public issues of the U.S. Treasury having maturities of at least one year. (2)LEHMAN BROTHERS MORTGAGE-BACKED SECURITIES INDEX is an unmanaged index that includes over 600 15- and 30-year fixed-rate mortgage-backed securities of the Government National Mortgage Association (GNMA), Federal National Mortgage Association (FNMA), and the Federal Home Loan Mortgage Corporation (FHLMC). (3)LEHMAN BROTHERS CORPORATE BOND INDEX includes over 3,000 public fixed-rate, nonconvertible investment-grade bonds. All bonds are U.S. dollar-denominated issues and include debt issued or guaranteed by foreign sovereign governments, municipalities, governmental agencies or international agencies. All bonds in the index have maturities of at least one year. (4)LEHMAN BROTHERS HIGH YIELD BOND INDEX is an unmanaged index comprising over 750 public, fixed-rate, nonconvertible bonds that are rated Ba1 or lower by Moody's Investors Service (or rated BB+ or lower by Standard & Poor's or Fitch Investors Service). All bonds in the index have maturities of at least one year. (5)SALOMON BROTHERS WORLD GOVERNMENT INDEX (NON U.S.) includes over 800 bonds issued by various foreign governments or agencies, excluding those in the U.S., but including those in Japan, Germany, France, the U.K., Canada, Italy, Australia, Belgium, Denmark, the Netherlands, Spain, Sweden, and Austria. All bonds in the index have maturities of at least one year. I-2 This chart below shows the historical volatility of general interest rates as measured by the long U.S. Treasury Bond. LONG U.S. TREASURY BOND YIELD IN PERCENT (1926-1997) [LOGO] - ------- Source: Stocks, Bonds, Bills, and Inflation 1997 Yearbook, Ibbotson Associates, Chicago (annually updates work by Roger G. Ibbotson and Rex A. Sinquefield). Used with permission. All rights reserved. The chart illustrates the historical yield of the long-term U.S. Treasury Bond from 1926-1997. Yields represent that of an annually renewed one-bond portfolio with a remaining maturity of approximately 20 years. This chart is for illustrative purposes and should not be construed to represent the yields of any Prudential Mutual Fund. I-3 APPENDIX II--GENERAL INVESTMENT INFORMATION The following terms are used in mutual fund investing. ASSET ALLOCATION Asset allocation is a technique for reducing risk, providing balance. Asset allocation among different types of securities within an overall investment portfolio helps to reduce risk and to potentially provide stable returns, while enabling investors to work toward their financial goal(s). Asset allocation is also a strategy to gain exposure to better performing asset classes while maintaining investment in other asset classes. DIVERSIFICATION Diversification is a time-honored technique for reducing risk, providing "balance" to an overall portfolio and potentially achieving more stable returns. Owning a portfolio of securities mitigates the individual risks (and returns) of any one security. Additionally, diversification among types of securities reduces the risks (and general returns) of any one type of security. DURATION Debt securities have varying levels of sensitivity to interest rates. As interest rates fluctuate, the value of a bond (or a bond portfolio) will increase or decrease. Longer-term bonds are generally more sensitive to changes in interest rates. When interest rates fall, bond prices generally rise. Conversely, when interest rates rise, bond prices generally fall. Duration is an approximation of the price sensitivity of a bond (or a bond portfolio) to interest rate changes. It measures the weighted average maturity of a bond's (or a bond portfolio's) cash flows, I.E., principal and interest rate payments. Duration is expressed as a measure of time in years--the longer the duration of a bond (or a bond portfolio), the greater the impact of interest rate changes on the bond's (or the bond portfolio's) price. Duration differs from effective maturity in that duration takes into account call provisions, coupon rates and other factors. Duration measures interest rate risk only and not other risks such as credit risk and, in the case of non-U.S. dollar denominated securities, currency risk. Effective maturity measures the final maturity dates of a bond (or a bond portfolio). MARKET TIMING Market timing--buying securities when prices are low and selling them when prices are relatively higher may not work for many investors because it is impossible to predict with certainty how the price of a security will fluctuate. However, owning a security for a long period of time may help investors offset short-term price volatility and realize positive returns. POWER OF COMPOUNDING Over time, the compounding of returns can significantly impact investment returns. Compounding is the effect of continuous investment on long-term investment results, by which the proceeds of capital appreciation (and income distributions, if elected) are reinvested to contribute to the overall growth of assets. The long-term investment results of compounding may be greater than that of an equivalent initial investment in which the proceeds of capital appreciation and income distributions are taken in cash. STANDARD DEVIATION Standard deviation is an absolute (non-relative) measure of volatility which, for a mutual fund, depicts how widely the returns varied over a certain period of time. When a fund has a high standard deviation, its range of performance has been very wide, implying greater volatility potential. Standard deviation is only one of several measures of a fund's volatility. II-1 APPENDIX III--INFORMATION RELATING TO THE PRUDENTIAL Set forth below is information relating to The Prudential Insurance Company of America (Prudential) and its subsidiaries as well as information relating to the Prudential Mutual Funds. See "How the Fund is Managed--Manager" in the Prospectus. The data will be used in sales materials relating to the Prudential Mutual Funds. Unless otherwise indicated, the information is as of December 31, 1996 and is subject to change thereafter. All information relies on data provided by The Prudential Investment Corporation (PIC) or from other sources believed by the Manager to be reliable. Such information has not been verified by the Fund. INFORMATION ABOUT PRUDENTIAL The Manager and PIC(1) are subsidiaries of Prudential, which is one of the largest diversified financial services institutions in the world and, based on total assets, the largest insurance company in North America as of December 31, 1996. Its primary business is to offer a full range of products and services in three areas: insurance, investments and home ownership for individuals and families; health-care management and other benefit programs for employees of companies and members of groups; and asset management for institutional clients and their associates. Prudential (together with its subsidiaries) employs more than 81,000 persons worldwide, and maintains a sales force of approximately 11,500 agents and 6,400 financial advisors. Prudential is a major issuer of annuities, including variable annuities. Prudential seeks to develop innovative products and services to meet consumer needs in each of its business areas. Prudential uses the rock of Gibraltar as its symbol. The Prudential rock is a recognized brand name throughout the world. INSURANCE. Prudential has been engaged in the insurance business since 1875. It insures or provides financial services to more than 50 million people worldwide--one of every five people in the United States. Long one of the largest issuers of individual life insurance, the Prudential has 22 million life insurance policies in force today with a face value of $1 trillion. Prudential has the largest capital base ($12.1 billion) of any life insurance company in the United States. The Prudential provides auto insurance for more than 1.6 million cars and insures more than 1.2 million homes. MONEY MANAGEMENT. The Prudential is one of the largest pension fund managers in the country, providing pension services to 1 in 3 Fortune 500 firms. It manages $36 billion of individual retirement plan assets, such as 401(k) plans. As of December 31, 1996, Prudential had more than $322 billion in assets under management. Prudential Investments, a business group of Prudential (of which Prudential Mutual Funds is a key part) manages over $190 billion in assets of institutions and individuals. In PENSIONS & INVESTMENTS, May 12, 1996, Prudential was ranked third in terms of total assets under management. REAL ESTATE. The Prudential Real Estate Affiliates, the fourth largest real estate brokerage network in the United States, has more than 37,000 brokers and agents across the United States.(2) HEALTHCARE. Over two decades ago, the Prudential introduced the first federally-funded, for-profit HMO in the country. Today, almost 4.6 million Americans receive healthcare from a Prudential managed care membership. FINANCIAL SERVICES. The Prudential Bank, a wholly-owned subsidiary of the Prudential, has nearly $1 billion in assets and serves nearly 1.5 million customers across 50 states. INFORMATION ABOUT THE PRUDENTIAL MUTUAL FUNDS As of October 31, 1997, Prudential Mutual Fund Management was the 17th largest mutual fund companies in the country, with over 2.5 million shareholders invested in more than 50 mutual fund portfolios and variable annuities with more than 3.7 million shareholder accounts. The Prudential Mutual Funds have over 30 portfolio managers who manage over $55 billion in mutual fund and variable annuity assets. Some of Prudential's portfolio managers have over 20 years of experience managing investment portfolios. - ------------ (1) The Prudential Investment Corporation (PIC) serves as the Subadviser to substantially all of the Prudential Mutual Funds. Wellington Management Company serves as the subadviser to Global Utility Fund, Inc., Nicholas-Applegate Capital Management as subadviser to Nicholas-Applegate Fund, Inc., Jennison Associates Capital Corp. as the subadviser to Prudential Jennison Series Fund, Inc. and Mercator Asset Management LP. as Subadviser to International Stock Series, a portfolio of Prudential World Fund. There are multiple subadvisers for The Target Portfolio Trust. (2) As of December 31, 1996. III-1 From time to time, there may be media coverage of portfolio managers and other investment professionals associated with the Manager and the Subadviser in national and regional publications, on television and in other media. Additionally, individual mutual fund portfolios are frequently cited in surveys conducted by national and regional publications and media organizations such as THE WALL STREET JOURNAL, THE NEW YORK TIMES, BARRON'S and USA TODAY. EQUITY FUNDS. Forbes magazine listed Prudential Equity Fund among twenty mutual funds on its Honor Roll in its mutual fund issue of August 28, 1995. Honorees are chosen annually among mutual funds (excluding sector funds) which are open to new investors and have had the same management for at least five years. Forbes considers, among other criteria, the total return of a mutual fund in both bull and bear markets as well as a fund's risk profile. Prudential Equity Fund is managed with a "value" investment style by PIC. In 1995, Prudential Securities introduced Prudential Jennison Fund, a growth-style equity fund managed by Jennison Associates Capital Corp., a premier institutional equity manager and a subsidiary of Prudential. HIGH YIELD FUNDS. Investing in high yield bonds is a complex and research intensive pursuit. A separate team of high yield bond analysts monitor approximately 200 issues held in the Prudential High Yield Fund (currently the largest fund of its kind in the country) along with 100 or so other high yield bonds, which may be considered for purchase.(3) Non-investment grade bonds, also known as junk bonds or high yield bonds, are subject to a greater risk of loss of principal and interest including default risk than higher-rated bonds. Prudential high yield portfolio managers and analysts meet face-to-face with almost every bond issuer in the High Yield Fund's portfolio annually, and have additional telephone contact throughout the year. Prudential's portfolio managers are supported by a large and sophisticated research organization. Fourteen investment grade bond analysts monitor the financial viability of approximately 1,750 different bond issuers in the investment grade corporate and municipal bond markets--from IBM to small municipalities, such as Rockaway Township, New Jersey. These analysts consider among other things sinking fund provisions and interest coverage ratios. Prudential's portfolio managers and analysts receive research services from almost 200 brokers and market service vendors. They also receive nearly 100 trade publications and newspapers--from PULP AND PAPER FORECASTER to WOMEN'S WEAR DAILY--to keep them informed of the industries they follow. Prudential Mutual Funds' traders scan over 100 computer monitors to collect detailed information on which to trade. From natural gas prices in the Rocky Mountains to the results of local municipal elections, a Prudential portfolio manager or trader is able to monitor it if it's important to a Prudential mutual fund. Prudential Mutual Funds trade approximately $31 billion in U.S. and foreign government securities a year. PIC seeks information from government policy makers. In 1995, Prudential's portfolio managers met with several senior U.S. and foreign government officials, on issues ranging from economic conditions in foreign countries to the viability of index-linked securities in the United States. Prudential Mutual Funds' portfolio managers and analysts met with over 1,200 companies in 1995, often with the Chief Executive Officer (CEO) or Chief Financial Officer (CFO). They also attended over 250 industry conferences. Prudential Mutual Fund global equity managers conducted many of their visits overseas, often holding private meetings with a company in a foreign language (our global equity managers speak 7 different languages, including Mandarin Chinese). TRADING DATA.(4) On an average day, Prudential Mutual Funds' U.S. and foreign equity trading desks traded $77 million in securities representing over 3.8 million shares with nearly 200 different firms. Prudential Mutual Funds' bond trading desks traded $157 million in government and corporate bonds on an average day. That represents more in daily trading than most bond funds tracked by Lipper even have in assets.(5) Prudential Mutual Funds' money market desk traded $3.2 - ------------ (3) As of December 31, 1995. The number of bonds and the size of the Fund are subject to change. (4) Trading data represents average daily transactions for portfolios of the Prudential Mutual Funds for which PIC serves as the subadviser, portfolios of the Prudential Series Fund and institutional and non-US accounts managed by Prudential Mutual Fund Investment Management, a division of PIC, for the year ended December 31, 1995. (5) Based on 559 funds in Lipper Analytical Services categories of Short U.S. Treasury, Short U.S. Government, Intermediate U.S. Treasury, Intermediate U.S. Government, Short Investment Grade Debt, Intermediate Investment Grade Debt, General U.S. Treasury, General U.S. Government and Mortgage funds. III-2 billion in money market securities on an average day, or over $800 billion a year. They made a trade every 3 minutes of every trading day. In 1994, the Prudential Mutual Funds effected more than 40,000 trades in money market securities and held on average $20 billion of money market securities.(6) Based on complex-wide data, on an average day, over 7,250 shareholders telephoned Prudential Mutual Fund Services, Inc., the Transfer Agent of the Prudential Mutual Funds, on the Prudential Mutual Funds' toll-free number. On an annual basis, that represents approximately 1.8 million telephone calls answered. INFORMATION ABOUT PRUDENTIAL SECURITIES Prudential Securities is the fifth largest retail brokerage firm in the United States with approximately 5,600 financial advisors. It offers to its clients a wide range of products, including Prudential Mutual Funds and annuities. As of December 31, 1995, assets held by Prudential Securities for its clients approximated $168 billion. During 1994, over 28,000 new customer accounts were opened each month at PSI.(7) Prudential Securities has a two-year Financial Advisor training program plus advanced education programs, including Prudential Securities "university," which provides advanced education in a wide array of investment areas. Prudential Securities is the only Wall Street firm to have its own in-house Certified Financial Planner (CFP) program. In the December 1995 issue of REGISTERED REP, an industry publication, Prudential Securities' Financial Advisor training programs received a grade of A- (compared to an industry average of B+) . In 1995, Prudential Securities' equity research team ranked 8th in INSTITUTIONAL INVESTOR magazine's 1995 "All America Research Team" survey. Five Prudential Securities' analysts were ranked as first-team finishers.(8) In addition to training, Prudential Securities provides its financial advisors with access to firm economists and market analysts. It has also developed proprietary tools for use by financial advisors, including the Financial ArchitectSM, a state-of-the-art asset allocation software program which helps Financial Advisors to evaluate a client's objectives and overall financial plan, and a comprehensive mutual fund information and analysis system that compares different mutual funds. For more complete information about any of the Prudential Mutual Funds, including charges and expenses, call your Prudential Securities financial adviser or Pruco/Prudential representative for a free prospectus. Read it carefully before you invest or send money. - ------------ (6) As of December 31, 1994. (7) As of December 31, 1994. (8) On an annual basis, INSTITUTIONAL INVESTOR magazine surveys more than 700 institutional money managers, chief investment officers and research directors, asking them to evaluate analysts in 76 industry sectors. Scores are produced by taking the number of votes awarded to an individual analyst and weighting them based on the size of the voting institution. In total, the magazine sends its survey to approximately 2,000 institutions and a group of European and Asian institutions. III-3 PART C OTHER INFORMATION ITEM 24. FINANCIAL STATEMENTS AND EXHIBITS. (a) FINANCIAL STATEMENTS: (1) Financial statements included in the Prospectus constituting Part A of this Registration Statement: Financial Highlights (2) Financial statements included in the Statement of Additional Information constituting Part B of this Registration Statement: Portfolio of Investments at February 28, 1998 (audited). Statement of Assets and Liabilities at February 28, 1998 (audited). Statement of Operations for the year ended February 28, 1998 (audited). Statement of Changes in Net Assets for the years ended February 28, 1998 and February 29, 1997 (audited). Notes to Financial Statements. Financial Highlights with respect to the five-year period ended February 28, 1998 (audited). Independent Auditors' Report. (b) EXHIBITS: 1. Articles of Restatement incorporated by reference to Exhibit 1 to Post-Effective Amendment No. 22 to Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 2. Amended and Restated By-laws of the Registrant, incorporated by reference to Exhibit 2 to Post-Effective Amendment No. 15 to Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 3. Not applicable. 4. Instruments defining rights of holders of securities being offered, incorporated by reference to Exhibit 4 to Post-Effective Amendment No. 15 to Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 5. (a) Management Agreement between the Registrant and Prudential Mutual Fund Management, Inc. incorporated by reference to Exhibit 5(a) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Subadvisory Agreement between Prudential Mutual Fund Management, Inc. and The Prudential Investment Corporation incorporated by reference to Exhibit 5(b) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 6. (a) Dealer Agreement between Prudential Securities Inc. and dealer or dealers to be determined incorporated by reference to Exhibit 6(a) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Distribution Agreement incorporated by reference to Exhibit 6(b) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 7. Not Applicable. 8. (a) Revised Custodian Agreement between the Registrant and State Street Bank and Trust Company incorporated by reference to Exhibit 8(a) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Special Custody Agreement among the Registrant, State Street Bank and Trust Company, and Goldman, Sachs & Co. incorporated by reference to Exhibit 8(b) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR.
C-1 (c) Customer Agreement between the Registrant and Goldman, Sachs & Co. incorporated by reference to Exhibit 8(c) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (d) Form of Amendment to Revised Custodian Agreement incorporated by reference to Exhibit 8(d) to Post-Effective Amendment No. 19 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 9. Transfer Agency Agreement between the Registrant and Prudential Mutual Fund Services, Inc. incorporated by reference to Exhibit 9 to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 10. Opinion of Counsel.* 11. (a) Consent of Price Waterhouse LLP. * (b) Consent of Deloitte & Touche LLP. * 12. Not Applicable. 13. Purchase Agreement incorporated by reference to Exhibit 13 to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 14. Not Applicable. 15. (a) Distribution and Service Plan for Class A shares, incorporated by reference to Exhibit 15(a) to Post-Effective Amendment No. 18 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Distribution and Service Plan for Class B shares, incorporated by reference to Exhibit 15(b) to Post-Effective Amendment No. 18 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (c) Distribution and Service Plan for Class C shares, incorporated by reference to Exhibit 15(c) to Post-Effective Amendment No. 18 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 16. (a) Schedule of computation of performance (Class A) incorporated by reference to Exhibit 16(a) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Schedule of computation of performance (Class B) incorporated by reference to Exhibit 16(b) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (c) Schedule of computation of performance (Class C), incorporated by reference to Exhibit 16(c) to Post-Effective Amendment No. 18 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (d) Schedule of computation of performance (Class Z) incorporated by reference to Exhibit 16(d) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 17. Financial Data Schedules.* 18. Rule 18f-3 Plan, incorporated by reference to Exhibit 18 to Post-Effective Amendment No. 21 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR.
- ------------------------ *Filed herewith. ITEM 25. PERSONS CONTROLLED BY OR UNDER COMMON CONTROL WITH REGISTRANT. None. ITEM 26. NUMBER OF HOLDERS OF SECURITIES. As of April 10, 1998 there were 67,050, 31,897, 586 and 2,335 record holders of Class A, Class B, Class C and Class Z shares of common stock, respectively, $.01 par value per share, of the Registrant. ITEM 27. INDEMNIFICATION. As permitted by Section 17(h) and (i) of the Investment Company Act of 1940, as amended (the 1940 Act), and pursuant to Article VI of the Fund's By-Laws (Exhibit 2 to the Registration Statement), officers, directors, employees and agents of the C-2 Registrant will not be liable to the Registrant, any stockholder, officer, director, employee, agent or other person for any action or failure to act, except for bad faith, willful misfeasance, gross negligence or reckless disregard of duties, and those individuals may be indemnified against liabilities in connection with the Registrant, subject to the same exceptions. Section 2-418 of Maryland General Corporation Law permits indemnification of directors who acted in good faith and reasonably believed that the conduct was in the best interests of the Registrant. As permitted by Section 17(i) of the 1940 Act, pursuant to Section 10 of each Distribution Agreement (Exhibit 6 to the Registration Statement), each Distributor of the Registrant may be indemnified against liabilities which it may incur, except liabilities arising from bad faith, gross negligence, willful misfeasance or reckless disregard of duties. Insofar as indemnification for liabilities arising under the Securities Act of 1933, as amended (Securities Act), may be permitted to directors, officers and controlling persons of the Registrant pursuant to foregoing provisions or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission (the Commission) such indemnification is against public policy as expressed in the 1940 Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in connection with the successful defense of any action, suit or proceeding) is asserted against the Registrant by such director, officer or controlling person in connection with the shares being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the 1940 Act and will be governed by the final adjudication of such issue. The Registrant has purchased an insurance policy insuring its officers and directors against liabilities, and certain costs of defending claims against such officers and directors, to the extent such officers and directors are not found to have committed conduct constituting willful misfeasance, bad faith, gross negligence or reckless disregard in the performance of their duties. The insurance policy also insures the Registrant against the cost of indemnification payments to officers and directors under certain circumstances. Section 9 of the Management Agreement (Exhibit 5(a) to the Registration Statement) and Section 4 of the Subadvisory Agreement (Exhibit 5(b) to the Registration Statement) limit the liability of Prudential Investments Fund Management LLC (PIFM) and The Prudential Investment Corporation (PIC), respectively, to liabilities arising from willful misfeasance, bad faith or gross negligence in the performance of their respective duties or from reckless disregard by them of their respective obligations and duties under the agreements. The Registrant hereby undertakes that it will apply the indemnification provisions of its By-Laws and the Distribution Agreement in a manner consistent with Release No. 11330 of the Commission under the 1940 Act so long as the interpretation of Section 17(h) and 17(i) of such Act remain in effect and are consistently applied. ITEM 28. BUSINESS AND OTHER CONNECTIONS OF INVESTMENT ADVISER. (a) Prudential Investments Fund Management LLC (PIFM) See "How the Fund is Managed--Manager" in the Prospectus constituting Part A of this Registration Statement and "Manager" in the Statement of Additional Information constituting Part B of this Registration Statement. The business and other connections of the officers of PIFM are listed in Schedules A and D of Form ADV of PIFM as currently on file with the Commission, the text of which is hereby incorporated by reference (File No. 801-31104). The business and other connections of PIFM's directors and principal executive officers are set forth below. Except as otherwise indicated, the address of each person is Gateway Center Three, 100 Mulberry Street, Newark, NJ 07102-4077.
NAME AND ADDRESS POSITION WITH PIFM PRINCIPAL OCCUPATIONS - ------------------------- -------------------- ------------------------------------------------------------- Frank W. Giordano Executive Vice Executive Vice President, Secretary and General Counsel, President, Secretary PIFM; Senior Vice President, Prudential Securities and General Counsel Robert F. Gunia Executive Vice Vice President, Prudential Investments; Executive Vice President and President and Treasurer, PIFM; Senior Vice President of Treasurer Prudential Securities Neil A. McGuinness Executive Vice Executive Vice President and Director of Marketing, PMF&A; President Executive Vice President, PIFM
C-3
NAME AND ADDRESS POSITION WITH PIFM PRINCIPAL OCCUPATIONS - ------------------------- -------------------- ------------------------------------------------------------- Brian M. Storms Officer in Charge, Officer-in-Charge, President, Chief Executive Officer and President, Chief Chief Operating Officer, PIFM Executive Officer and Chief Operating Officer Robert J. Sullivan Executive Vice Executive Vice President, PMF&A; Executive Vice President, President PIFM
(b) The Prudential Investment Corporation (PIC) See "How the Fund is Managed--Manager" in the Prospectus constituting Part A of this Registration Statement and "Manager" in the Statement of Additional Information constituting Part B of this Registration Statement. The business and other connections of PIC's directors and executive officers are as set forth below. Except as otherwise indicated, the address of each person is Prudential Plaza, Newark, NJ 07101.
NAME AND ADDRESS POSITION WITH PIC PRINCIPAL OCCUPATIONS - ------------------------- -------------------- ------------------------------------------------------------- E. Michael Caulfield Chairman of the Chief Executive Officer, Prudential Investments of Board, President, Prudential; Chairman of the Board, President, Chief Chief Executive Executive Officer and Director, PIC Officer and Director Jonathan M. Greene Senior Vice President--Investment Management, Prudential Investments of President and Prudential; Senior Vice President and Director, PIC Director John R. Strangfeld Vice President and President of Private Asset Management Group of Prudential; Director Senior Vice President, Prudential; Vice President and Director, PIC
ITEM 29. PRINCIPAL UNDERWRITERS. (a) Prudential Securities Prudential Securities Incorporated is distributor for Cash Accumulation Trust, Command Government Fund, Command Money Fund, Command Tax-Free Fund, The Global Total Return Fund, Inc., Global Utility Fund, Inc., Nicholas-Applegate Fund, Inc. (Nicholas-Applegate Growth Equity Fund), Prudential Balanced Fund, Prudential California Municipal Fund, Prudential Diversified Bond Fund, Inc., Prudential Distressed Securities Fund, Inc., Prudential Emerging Growth Fund, Inc., Prudential Equity Fund, Inc., Prudential Equity Income Fund, Prudential Europe Growth Fund, Inc., Prudential Global Genesis Fund, Inc., Prudential Global Limited Maturity Fund, Inc., Prudential Government Income Fund, Inc., Prudential Government Securities Trust, Prudential High Yield Fund, Inc., Prudential Index Series Fund, Prudential Institutional Liquidity Portfolio, Inc., Prudential Intermediate Global Income Fund, Inc., Prudential International Bond Fund, Inc., Prudential Jennison Series Fund, Inc., Prudential MoneyMart Assets, Inc., Prudential Mortgage Income Fund, Inc., Prudential Multi-Sector Fund, Inc., Prudential Municipal Bond Fund, Prudential Municipal Series Fund, Prudential National Municipals Fund, Inc., Prudential Natural Resources Fund, Inc., Prudential Pacific Growth Fund, Inc., Prudential Small-Cap Quantum Fund, Inc., Prudential Small Company Value Fund, Inc., Prudential Special Money Market Fund, Inc., Prudential Structured Maturity Fund, Inc., Prudential Tax-Free Money Fund, Inc., Prudential Utility Fund, Inc., Prudential World Fund, Inc., and The Target Portfolio Trust. Prudential Securities is also a depositor for the following unit investment trusts: Corporate Investment Trust Fund Prudential Equity Trust Shares National Equity Trust Prudential Unit Trust Government Securities Equity Trust National Municipal Trust (b) Information concerning the directors and officers of Prudential Securities Incorporated is set forth below. C-4
POSITIONS AND POSITIONS AND OFFICES WITH OFFICES WITH NAME(1) UNDERWRITER REGISTRANT - ------------------------------------ ----------------------------------------------------------- -------------- Alan D. Hogan....................... Executive Vice President, Chief Administrative Officer and None Director William Horan....................... Chief Financial Officer None George A. Murray.................... Executive Vice President and Director None Leland B. Paton .................... Executive Vice President and Director None One New York Plaza New York, N.Y. 10292 Martin Pfinsgraff................... Executive Vice President, Chief Financial Officer and None Director Vincent T. Pica, II ................ Executive Vice President and Director None One New York Plaza New York, N.Y. 10292 Hardwick Simmons.................... Chief Executive Officer, President and Director None Lee B. Spencer, Jr.................. General Counsel, Executive Vice President, Secretary and None Director Brian Storms ....................... Director None Gateway Center Three 100 Mulberry Street Newark, NJ 07102-4077 - ------------------------ (1) The address of each person named is One Seaport Plaza, New York, NY 10292 unless otherwise indicated.
(c) Registrant has no principal underwriter who is not an affiliated person of the Registrant. ITEM 30. LOCATION OF ACCOUNTS AND RECORDS. All accounts, books and other documents required to be maintained by Section 31(a) of the 1940 Act and the Rules thereunder are maintained at the offices of State Street Bank and Trust Company, One Heritage Drive, North Quincy, Massachusetts 02171, the Registrant, Gateway Center Three, 100 Mulberry Street, Newark, New Jersey 07102-4077, and Prudential Mutual Fund Services LLC, Raritan Plaza One, Edison, New Jersey. Documents required by Rules 31a-1(b)(5), (6), (7), (9), (10) and (11) and 31a-1(f) and Rules 31a-1(b)(4) and (11) and 31a-1(d) will be kept at Gateway Center Three, 100 Mulberry Street, Newark, New Jersey 07102-4077 and the remaining accounts, books and other documents required by such other pertinent provisions of Section 31(a) and the Rules promulgated thereunder will be kept by State Street Bank and Trust Company and Prudential Mutual Fund Services LLC. ITEM 31. MANAGEMENT SERVICES. Other than as set forth under the captions "How the Fund is Managed--Manager" and "--Distributor" in the Prospectus and the captions "Manager" and "Distributor" in the Statement of Additional Information, constituting Parts A and B, respectively, of this Registration Statement, Registrant is not a party to any management-related service contract. ITEM 32. UNDERTAKINGS. Registrant makes the following undertaking: (a) To furnish each person to whom a prospectus is delivered with a copy of the Fund's latest annual report upon request and without charge. C-5 SIGNATURES Pursuant to the requirements of the Securities Act of 1933 and the Investment Company Act of 1940, the Registrant certifies that it meets all the requirements for effectiveness of this Post-Effective Amendment to the Registration Statement pursuant to Rule 485(b) under the Securities Act of 1933 and has duly caused this Post-Effective Amendment to the Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Newark, and State of New Jersey, on the 27th day of April, 1998. PRUDENTIAL GOVERNMENT INCOME FUND, INC. /s/ Richard A. Redeker ------------------------------------------------- (RICHARD A. REDEKER, PRESIDENT) 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 dates indicated.
SIGNATURE TITLE DATE - --------------------------------------------- ---------------------------------------------------- /s/ Edward D. Beach Director April 27, 1998 - ------------------------------------ EDWARD D. BEACH /s/ Eugene C. Dorsey Director April 27, 1998 - ------------------------------------ EUGENE C. DORSEY /s/ Delayne Dedrick Gold Director April 27, 1998 - ------------------------------------ DELAYNE DEDRICK GOLD /s/ Robert F. Gunia Director and Vice President April 27, 1998 - ------------------------------------ ROBERT F. GUNIA /s/ Harry A. Jacobs, Jr. Director April 27, 1998 - ------------------------------------ HARRY A. JACOBS, JR. /s/ Mendel A. Melzer Director April 27, 1998 - ------------------------------------ MENDEL A. MELZER /s/ Thomas T. Mooney Director April 27, 1998 - ------------------------------------ THOMAS T. MOONEY /s/ Thomas O'Brien Director April 27, 1998 - ------------------------------------ THOMAS O'BRIEN /s/ Richard A. Redeker President and Director April 27, 1998 - ------------------------------------ RICHARD A. REDEKER /s/ Nancy H. Teeters Director April 27, 1998 - ------------------------------------ NANCY H. TEETERS /s/ Grace Torres Treasurer and Principal Financial April 27, 1998 - ------------------------------------ and Accounting Officer GRACE TORRES /s/ Louis A. Weil, III Director April 27, 1998 - ------------------------------------ LOUIS A. WEIL, III
EXHIBIT INDEX 1. Articles of Restatement incorporated by reference to Exhibit 1 to Post-Effective Amendment No. 22 to Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 2. Amended and Restated By-laws of the Registrant, incorporated by reference to Exhibit 2 to Post-Effective Amendment No. 15 to Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 3. Not applicable. 4. Instruments defining rights of holders of securities being offered, incorporated by reference to Exhibit 4 to Post-Effective Amendment No. 15 to Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 5. (a) Management Agreement between the Registrant and Prudential Mutual Fund Management, Inc. incorporated by reference to Exhibit 5(a) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Subadvisory Agreement between Prudential Mutual Fund Management, Inc. and The Prudential Investment Corporation incorporated by reference to Exhibit 5(b) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 6. (a) Dealer Agreement between Prudential Securities Inc. and dealer or dealers to be determined incorporated by reference to Exhibit 6(a) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Distribution Agreement incorporated by reference to Exhibit 6(b) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 7. Not Applicable. 8. (a) Revised Custodian Agreement between the Registrant and State Street Bank and Trust Company incorporated by reference to Exhibit 8(a) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Special Custody Agreement among the Registrant, State Street Bank and Trust Company, and Goldman, Sachs & Co. incorporated by reference to Exhibit 8(b) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (c) Customer Agreement between the Registrant and Goldman, Sachs & Co. incorporated by reference to Exhibit 8(c) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (d) Form of Amendment to Custodian Contract incorporated by reference to Exhibit 8(d) to Post-Effective Amendment No. 19 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 9. Transfer Agency Agreement between the Registrant and Prudential Mutual Fund Services, Inc. incorporated by reference to Exhibit 9 to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 10. Opinion of Counsel.* 11. (a) Consent of Price Waterhouse LLP. * (b) Consent of Deloitte & Touche LLP. * 12. Not Applicable. 13. Purchase Agreement incorporated by reference to Exhibit 13 to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 14. Not Applicable. 15. (a) Distribution and Service Plan for Class A shares, incorporated by reference to Exhibit 15(a) to Post-Effective Amendment No. 18 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Distribution and Service Plan for Class B shares, incorporated by reference to Exhibit 15(b) to Post-Effective Amendment No. 18 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (c) Distribution and Service Plan for Class C shares, incorporated by reference to Exhibit 15(c) to Post-Effective Amendment No. 18 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR.
16. (a) Schedule of computation of performance (Class A) incorporated by reference to Exhibit 16(a) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (b) Schedule of computation of performance (Class B) incorporated by reference to Exhibit 16(b) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (c) Schedule of computation of performance (Class C), incorporated by reference to Exhibit 16(c) to Post-Effective Amendment No. 18 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. (d) Schedule of computation of performance (Class Z) incorporated by reference to Exhibit 16(d) to Post-Effective Amendment No. 24 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR. 17. Financial Data Schedules.* 18. Rule 18f-3 Plan, incorporated by reference to Exhibit 18 to Post-Effective Amendment No. 21 to the Registration Statement on Form N-1A (File No. 2-82976) filed via EDGAR.
- ------------------------ *Filed herewith. EX-99.10 2 EXHIBIT 99.10 SHEREFF, FRIEDMAN, HOFFMAN & GOODMAN, LLP 919 THIRD AVENUE NEW YORK, NEW YORK 10022-9998 (212) 758-9500 April 14, 1998 Prudential Government Income Fund, Inc. Gateway Center Three 100 Mulberry Street Newark, New Jersey 07102-4077 Ladies and Gentlemen: Prudential Government Income Fund, Inc. (the "Fund") proposes to issue and sell an indefinite number of shares of Common Stock, par value $.01 per share (the "Shares"), in the manner and on the terms set forth in its Registration Statement on Form N-1A, as amended to date, filed with the Securities and Exchange Commission (File No. 2-82976). We have, as counsel, participated in various corporate and other proceedings relating to the Fund and to the Shares. We have examined copies, either certified or otherwise proved to our satisfaction to be genuine, of its Articles of Incorporation and By-Laws, as currently in effect, a certificate of good standing issued by the State Department of Assessments and Taxation of the State of Maryland and other documents relating to its organization and operation. We have also reviewed the above-mentioned Registration Statement, as amended to date, and the documents filed as exhibits thereto. We are generally familiar with the business affairs of the Fund. Based upon the foregoing, it is our opinion that: 1. The Fund has been duly organized and is validly existing under the laws of the State of Maryland. 2. The Fund is authorized to issue 2 billion (2,000,000,000) Shares. Under Maryland law, shares of Common Stock which are issued and subsequently redeemed by the Fund will be, by virtue of such redemption, restored to the status of authorized and unissued shares. Prudential Government Income Fund, Inc. April 14, 1998 Page 2 3. Subject to the effectiveness of the above-mentioned Registration Statement and compliance with applicable state securities laws, upon the issuance of the Shares for a consideration not less than the par value thereof, and not less than the net asset value thereof as required by the Investment Company Act of 1940, as amended, and in accordance with the terms of the Registration Statement such Shares will be legally issued and outstanding and fully paid and non-assessable. We hereby consent to the filing of this opinion with the Securities and Exchange Commission as a part of the above-mentioned Registration Statement and with any state securities commission where such filing is required. We also consent to the reference to our firm as counsel in the prospectus filed as a part thereof. In giving this consent we do not admit that we come within the category of persons whose consent is required under Section 7 of the Securities Act of 1933, as amended. We are members of the Bar of the State of New York and do not hold ourselves out as being conversant with the laws of any jurisdiction other than those of the United States of America and the State of New York. We note that we are not licensed to practice law in the State of Maryland, and to the extent that any opinion expressed herein involves the law of Maryland, such opinion should be understood to be based solely upon our review of the good standing certificate referred to above, the published statutes of that State and, where applicable, published cases, rules or regulations of regulatory bodies of that State. Very truly yours, /s/ Shereff, Friedman, Hoffman & Goodman, LLP Shereff, Friedman, Hoffman & Goodman, LLP SFH&G:MKN:JLS:MGM EX-99.11(A) 3 EXHIBIT 99.11 (A) CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the use in the Statement of Additional Information constituting part of this Post-Effective Amendment No. 25 to the registration statement on Form N-1A (the "Registration Statement") of our report dated April 9, 1998, relating to the financial statements and financial highlights of Prudential Government Income Fund, Inc., which appears in such Statement of Additional Information, and to the incorporation by reference of our report into the Prospectus which constitutes part of this Registration Statement. We also consent to the reference to us under the heading "Custodian, Transfer and Dividend Disbursing Agent and Independent Accountants" in such Statement of Additional Information and to the references to us under the headings "Financial Highlights" in such Prospectus. /s/ PRICE WATERHOUSE LLP PRICE WATERHOUSE LLP 1177 Avenue of the Americas New York, New York 10036 April 22, 1998 EX-99.11(B) 4 EXHIBIT 99.11(B) Exhibit 11(b) CONSENT OF INDEPENDENT AUDITORS We consent to the use in Post-Effective Amendment No. 28 to Registration Statement No. 2-82976 of Prudential Government Fund, Inc. of our report dated April 11, 1997 appearing in the Statement of Additional Information, which is included in such Registration Statement, and to the references to us under the heading "Financial Highlights" in the Prospectus which is also included in such Registration Statement. Deloitte & Touche LLP New York, New York April 24, 1998 EX-27.1 5 EXHIBIT 27.1
6 0000717819 PRUDENTIAL GOVERNMENT INCOME FUND 001 GOVERNMENT INCOME FUND (CLASS A) YEAR FEB-28-1998 FEB-28-1998 1,214,834,143 1,254,804,715 80,266,617 29,109 0 0 32,025,711 0 49,906,974 0 0 1,344,226,437 138,523,230 159,503,002 0 0 (131,040,581) 0 39,981,900 (298,026,232) 0 96,024,178 0 13,706,248 82,317,930 7,575,256 32,415,923 122,309,109 0 (82,317,930) 0 0 236,235,904 (472,675,912) 51,329,375 (145,119,454) 0 (140,035,328) 0 0 6,507,621 0 13,706,248 842,431,000 8.76 0.58 0.29 (0.58) 0.00 0.00 9.05 0.86 0 0.00
EX-27.2 6 EXHIBIT 27.2
6 0000717819 PRUDENTIAL GOVERNMENT INCOME FUND 002 GOVERNMENT INCOME FUND (CLASS B) YEAR FEB-28-1998 FEB-28-1998 1,214,834,143 1,254,804,715 80,266,617 29,109 0 0 32,025,711 0 49,906,974 0 0 1,344,226,437 138,523,230 159,503,002 0 0 (131,040,581) 0 39,981,900 (298,026,232) 0 96,024,178 0 13,706,248 82,317,930 7,575,256 32,415,923 122,309,109 0 (82,317,930) 0 0 236,235,904 (472,675,912) 51,329,375 (145,119,454) 0 (140,035,328) 0 0 6,507,621 0 13,706,248 385,145,000 8.77 0.52 0.28 (0.52) 0.00 0.00 9.05 1.53 0 0.00
EX-27.3 7 EXHIBIT 27.3
6 0000717819 PRUDENTIAL GOVERNMENT INCOME FUND 003 GOVERNMENT INCOME FUND (CLASS C) YEAR FEB-28-1998 FEB-28-1998 1,214,834,143 1,254,804,715 80,266,617 29,109 0 0 32,025,711 0 49,906,974 0 0 1,344,226,437 138,523,230 159,503,002 0 0 (131,040,581) 0 39,981,900 (298,026,232) 0 96,024,178 0 13,706,248 82,317,930 7,575,256 32,415,923 122,309,109 0 (82,317,930) 0 0 236,235,904 (472,675,912) 51,329,375 (145,119,454) 0 (140,035,328) 0 0 6,507,621 0 13,706,248 2,523,000 8.77 0.53 0.28 (0.53) 0.00 0.00 9.05 1.46 0 0.00
EX-27.4 8 EXHIBIT 27.4
6 0000717819 PRUDENTIAL GOVERNMENT INCOME FUND 004 GOVERNMENT INCOME FUND (CLASS Z) YEAR FEB-28-1998 FEB-28-1998 1214834143 1254804715 80266617 29109 0 0 32025711 0 49906974 0 0 1344226437 138523230 159503002 0 0 (131040581) 0 39981900 (298026232) 0 96024178 0 13706248 82317930 7575256 32415923 122309109 0 (82317930) 0 0 236235904 (472675912) 51329375 (145119454) 0 (140035328) 0 0 6507621 0 13706248 71,425,000 8.76 0.59 0.28 (0.59) 0 0 9.04 0.71 0 0
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