N-CSR 1 chesterfunds.txt CHESTER FUNDS - PRIMECAP/TARGET RETIREMENT FUNDS UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM N-CSR CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT INVESTMENT COMPANIES Investment Company Act file number: 811-4098 Name of Registrant: Vanguard Chester Funds Address of Registrant: P.O. Box 2600 Valley Forge, PA 19482 Name and address of agent for service: R. Gregory Barton, Esquire P.O. Box 876 Valley Forge, PA 19482 Registrant's telephone number, including area code: (610) 669-1000 Date of fiscal year end: August 31 Date of reporting period: September 1, 2003 - February 29, 2004 Item 1: Reports to Shareholders VANGUARD(R) PRIMECAP FUND FEBRUARY 29, 2004 SEMIANNUAL REPORT THE VANGUARD GROUP(R) HOW TO READ YOUR FUND REPORT This report contains information that can help you evaluate your investment. It includes details about your fund's return and presents data and analysis that provide insight into the fund's performance and investment approach. By reading the letter from Vanguard's chairman, John J. Brennan, together with the letter from the managers who select securities for your fund, you'll get an understanding of how the fund invests and how the market environment affected its performance. The statistical information that follows can help you understand how the fund's performance and characteristics stack up against those of similar funds and market benchmarks. It's important to keep in mind that the opinions expressed by Vanguard's investment managers are just that: informed opinions. They should not be considered promises or advice. The opinions, like the statistics, cover the period through the date on the cover of this report. As things change--and in the financial markets you can be certain only of change--an investment manager's job is to evaluate new information and make adjustments, if necessary. Of course, the risks of investing in the fund are spelled out in the prospectus. Frequent updates on the fund's performance and information about some of its holdings are available on Vanguard.com(R). -------------------------------------------------------------------------------- CONTENTS 1 letter from the chairman 5 report from the advisor 8 fund profile 9 glossary of investment terms 10 performance summary 11 about your fund's expenses 12 financial statements 23 advantages of vanguard.com -------------------------------------------------------------------------------- SUMMARY * Vanguard PRIMECAP Fund outperformed both its unmanaged benchmark and its average mutual fund competitor in the first six months of the fund's fiscal year. * The fund continued to reap strong returns from health care and technology stocks. * The broad stock market extended its advance, boosted by strong corporate earnings reports and signs of strengthening in the economy. WANT LESS CLUTTER IN YOUR MAILBOX? JUST REGISTER WITH VANGUARD.COM AND OPT TO GET FUND REPORTS ONLINE. -------------------------------------------------------------------------------- LETTER FROM THE CHAIRMAN Fellow Shareholder, During the six months ended February 29, the Investor Shares of Vanguard PRIMECAP Fund returned 16.6%, extending their run of strong absolute and relative performance. The fund's Admiral Shares returned 16.7%. The same forces that powered the fund's rise in fiscal 2003--excellent stock selection in the health care and technology sectors--were in the driver's seat during the first half of fiscal 2004. The table at left displays the six-month [PICTURES OF JOHN J. BRENNAN] -------------------------------------------------- TOTAL RETURNS SIX MONTHS ENDED FEBRUARY 29, 2004 -------------------------------------------------- Vanguard PRIMECAP Fund Investor Shares 16.6% Admiral Shares 16.7 S&P 500 Index 14.6 Average Multi-Cap Growth Fund* 11.9 -------------------------------------------------- *Derived from data provided by Lipper Inc. results for PRIMECAP Fund and its comparative standards. The components of the fund's total return--per-share distributions and change in net asset value--appear in the table on page 4. Your fund's excellent performance in recent months has attracted considerable attention. As a result, on March 4 the board of trustees closed the fund to new investors. This measure ensures that the advisor, PRIMECAP Management Company, can continue to employ its distinctive, growth-oriented investment strategy free of the pressure that could be created by an unusually high level of incoming cash. STOCKS CONTINUED THEIR COMEBACK As the fiscal half-year got under way last September, the U.S. stock market was in the midst of a strong advance. The gains continued throughout the period, buoyed by a steady flow of positive corporate earnings reports and economic data that suggested the national economy was continuing to mend. 1 -------------------------------------------------------------------------------- ADMIRAL(TM) SHARES A lower-cost class of shares available to many longtime shareholders and to those with significant invesments in the fund. -------------------------------------------------------------------------------- During the six months, the U.S. stock market, as measured by the Wilshire 5000 Total Market Index, returned 15.3%. The Russell 2000 Index, a proxy for small-capitalization stocks, returned 18.3%, outpacing the mid- to large-cap stocks in the Russell 1000 Index, which returned 14.8%. Across the market-cap spectrum, value-oriented stocks (those that generally trade at below-market valuations relative to their book values) outpaced growth stocks (those expected to produce above-average earnings growth). International equities continued to provide generous gains for U.S.-based investors. Returns from European markets were generally stronger than those in Pacific markets, and returns from emerging markets were outstanding. The continued decline in the U.S. dollar's relative value transformed respectable local-currency results into impressive dollar-denominated returns. -------------------------------------------------------------------------------- MARKET BAROMETER TOTAL RETURNS PERIODS ENDED FEBRUARY 29, 2004 ---------------------------------------- SIX ONE FIVE MONTHS YEAR YEARS* -------------------------------------------------------------------------------- STOCKS Russell 1000 Index (Large-caps) 14.8% 39.7% 0.5% Russell 2000 Index (Small-caps) 18.3 64.4 9.8 Wilshire 5000 Index (Entire market) 15.3 42.5 1.2 MSCI All Country World Index ex USA (International) 25.4 55.9 2.9 -------------------------------------------------------------------------------- BONDS Lehman Aggregate Bond Index 4.9% 4.5% 7.2% (Broad taxable market) Lehman Municipal Bond Index 6.5 6.3 6.1 Citigroup 3-Month Treasury Bill Index 0.5 1.0 3.4 ================================================================================ CPI Consumer Price Index 0.9% 1.7% 2.5% -------------------------------------------------------------------------------- *Annualized. AS INTEREST RATES REMAINED LOW, INVESTORS SOUGHT OUT RISKIER BONDS In the fixed income markets, demand for U.S. Treasury issues remained strong, boosting the price of the 10-year Treasury note while reducing its yield from 4.46% at the start of the period to 3.97% by February 29. However, the low level of market rates in general, together with signs of a strengthening economy, sent many investors in search of the higher yields to be obtained from riskier bonds. As a result, returns of corporate bonds exceeded those of government bonds with similar maturities. The Lehman Brothers High Yield Bond Index, a benchmark of below-investment-grade bonds, recorded a six-month return of 2 10.6%, while the Lehman Aggregate Bond Index, a measure of the taxable investment-grade bond market, returned 4.9%. Short-term interest rates remained low and stable, fluctuating within a tight range of 0.91% to 0.97% throughout the six months. The 3-month Treasury bill, a proxy for money market rates, ended the fiscal half-year with a yield of 0.94%, just 3 basis points below its initial 0.97% yield. RECENT GAINS REFLECT BEAR-MARKET DECISIONS Over the past six months, Vanguard PRIMECAP Fund continued to reap returns from investment positions that were implemented during the stock market's painful downturn in fiscal 2001 and 2002. For example, at that time, technology stocks came under severe pressure. PRIMECAP established positions in chip makers and in select software companies that have rebounded strongly as the long freeze on corporate capital spending has thawed. During the half-year, the fund's tech stocks returned more than 18%, contributing about 4 percentage points to the fund's return. The fund's health care stocks represent another investment made during the dark days of the bear market that has shone in the recovery. The fund has reaped solid returns from biotech stocks and from investments in medical-device makers and pharmaceutical giants. The entire health care sector has benefited from companies' remarkable pricing power and from a more favorable regulatory environment. The fund's health care selections returned 28%, accounting for more than 5 percentage points of the six-month return. Although the fund earned poor returns from a handful of airline holdings--a trouble spot over the past few years--most of the advisor's missteps in the past six months were errors of omission, not commission. For example, the fund held few stocks from the strongly performing financial sector--the banks, brokers, and related industries that now account for a large share of the market's value (and of the portfolios of competing investment managers). The fund also had a relatively large percentage of assets allotted to short-term reserves, low-yielding investments that are a drag on returns in a rising stock market. AN OUTSTANDING FUND, BUT STILL JUST ONE PART OF YOUR PLAN Vanguard PRIMECAP Fund embodies the best that an investor can expect from an actively managed portfolio: a disciplined investment 3 strategy that has been implemented with consistency and skill--and success--over time. Note that this statement makes no claim that the fund's exceptional absolute and relative performance will persist. Inevitably, it won't shine all the time. The most effective response to that inevitability is to allocate your portfolio across and within asset classes--stocks, bonds, and short-term reserves--in proportions suited to your unique investment goals and circumstances. An investment program that combines the opportunity for gain with some protection from loss is a powerful ally in pursuit of your financial goals. Thank you for trusting us with your assets. Sincerely, /S/JOHN J. BRENNAN JOHN J. BRENNAN CHAIRMAN AND CHIEF EXECUTIVE OFFICER MARCH 10, 2004 -------------------------------------------------------------------------------- YOUR FUND'S PERFORMANCE AT A GLANCE AUGUST 31, 2003_FEBRUARY 29, 2004 DISTRIBUTIONS PER SHARE ------------------------ STARTING ENDING INCOME CAPITAL SHARE PRICE SHARE PRICE DIVIDENDS GAINS -------------------------------------------------------------------------------- PRIMECAP Fund Investor Shares $48.50 $56.30 $0.21 $0.00 Admiral Shares 50.34 58.41 0.29 0.00 -------------------------------------------------------------------------------- 4 REPORT FROM THE ADVISOR During the first half of our 2004 fiscal year, Vanguard PRIMECAP Fund topped the gain of the Standard & Poor's 500 Index and the average return of competing multi-cap growth funds. The fund's Investor Shares returned 16.6%, and its Admiral Shares returned 16.7%. THE INVESTMENT ENVIRONMENT The stock market generated solid returns, supported by the economy's impressive (though uneven) expansion and strong corporate earnings growth. These developments, while positive, have not yet been strong enough to allay concerns on several topics: a slowdown in the growth of the money supply (monetary expansion was a powerful stimulant during the past year); the absence of significant job creation; and the prospective impact of rising interest rates on the housing market, which was one of the economy's strongest pillars during the past few years. Lingering in the background are threats of terrorism, the increasing costs of rebuilding Iraq, and an excess of global productive capacity. The stock market's strong performance through the end of our fiscal half-year suggests that continued gains will depend on further improvement in the positives and a retreat (or at least a stabilization) of the risk factors. We're optimistic on this front. We believe that investors are still underestimating corporate America's ability to generate excellent earnings growth. A weaker U.S. dollar is affording U.S. companies some opportunity to stay ahead of their overseas competitors, and the stimulative effects of the $350 billion tax-relief package enacted in 2003 should continue to support consumer spending. (About half of this tax cut will be realized by the end of 2004.) -------------------------------------------------------------------------------- INVESTMENT PHILOSOPHY The Fund reflects a belief that superior long-term investment results can be achieved by selecting stocks with prices lower than the fundamental value of the underlying companies, based on the investment advisor's assessment of such factors as their industry positions, growth potential, and expected profitability. -------------------------------------------------------------------------------- There is tremendous operating leverage built into today's lean corporate cost structures--a legacy of the spending cuts and productivity 5 improvements required for survival during the prolonged stock market downturn. If the recovery is to continue, the next stage will be a pickup in sales. As sales increase, high levels of operating leverage should translate into rising profit margins on each incremental dollar of sales and, consequently, into surprisingly strong earnings growth. THE PORTFOLIO'S SUCCESSES During the six months, our successes included many of the same stocks, or stocks from the same industries, that have been driving our returns since the start of the market's recovery in 2003. We enjoyed strong gains from our marquee biotech stocks: Biogen Idec, the result of the 2003 merger between two leading biotech companies, was our best performer in the group, as the combined companies' stock rebounded from the post-merger decline. Genentech performed well, delivering strong results on its income statement and in its labs. Guidant, a medical-device maker and a significant longtime holding, also delivered outstanding results. Among technology stocks, we earned good results from telecom equipment and software makers--Nortel Networks, Motorola, QUALCOMM--and from computer-chip maker Texas Instruments. All are benefiting from an upsurge in corporate capital spending. THE PORTFOLIO'S SHORTFALLS Our shortfalls, while modest, were also somewhat familiar. We earned poor returns in two airline stocks, Southwest Airlines and Delta Air Lines, an echo of the portfolio's problems with airline stocks over the past few years. Both companies have struggled with a weak travel market and high fuel prices. We also held a relatively high cash balance, which hampers performance in a rising stock market. On balance, however, our miscues were far less important than what worked well during the six months. OUR OUTLOOK It seems as if the economic recovery has been under way for quite some time, but because of its desultory nature, the rebound is probably still in its early stages. We believe that the potential for growth lies more in the industrial sectors than with consumer spending. Economically sensitive stocks have been hit hard over the past few years and, in our opinion, offer the most attractive investment 6 opportunities. Along these lines, we have been selectively adding to technology and producer durables companies, which seem especially well positioned for continued economic recovery. We're also optimistic about health care, particularly biotechnology and biotechnology-related industries. HOWARD B. SCHOW THEO A. KOLOKOTRONES PORTFOLIO MANAGER PORTFOLIO MANAGER JOEL P. FRIED PORTFOLIO MANAGER PRIMECAP MANAGEMENT COMPANY MARCH 15, 2004 7 FUND PROFILE This Profile provides a snapshot of the fund's characteristics, compared where appropriate with an unmanaged market index. Key terms are defined on page 9. PRIMECAP fund ---------------------------------------------------------- PORTFOLIO CHARACTERISTICS COMPARATIVE FUND INDEX* ---------------------------------------------------------- Number of Stocks 115 500 Median Market Cap $20.5B $53.0B Price/Earnings Ratio 33.9x 21.2x Price/Book Ratio 3.0x 3.3x Yield 1.6% Investor Shares 0.3% Admiral Shares 0.5% Return on Equity 16.5% 21.3% Earnings Growth Rate 9.1% 7.5% Foreign Holdings 7.4% 0.0% Turnover Rate 11%** -- Expense Ratio -- Investor Shares 0.48%** Admiral Shares 0.32%** Short-Term Reserves 10% -- ----------------------------------------------------------- ----------------------------------------------- TEN LARGEST HOLDINGS (% OF TOTAL NET ASSETS) Biogen Idec Inc. 4.5% (biotechnology) FedEx Corp. 4.3 (express delivery services) Guidant Corp. 4.2 (medical) Texas Instruments, Inc. 3.1 (electronics) Adobe Systems, Inc. 2.9 (software) ConocoPhillips Co. 2.8 (energy) Micron Technology, Inc. 2.8 (electronics) Novartis AG ADR 2.7 (pharmaceuticals) Hughes Electronics Corp. 2.4 (telecommunications services) Microsoft Corp. 2.3 (software) ----------------------------------------------- Top Ten 32.0% ----------------------------------------------- "Ten Largest Holdings" excludes any temporary cash investments and equity index products. ----------------------------------------- VOLATILITY MEASURES COMPARATIVE FUND INDEX* ----------------------------------------- R-Squared 0.89 1.00 Beta 1.13 1.00 ----------------------------------------- ------------------------- INVESTMENT FOCUS STYLE Growth MARKET CAP Large ------------------------- ------------------------------------------------- SECTOR DIVERSIFICATION (% OF PORTFOLIO) COMPARATIVE FUND INDEX* ------------------------------------------------- Auto & Transportation 9% 2% Consumer Discretionary 13 14 Consumer Staples 0 8 Financial Services 4 22 Health Care 21 13 Integrated Oils 4 4 Other Energy 2 2 Materials & Processing 6 3 Producer Durables 6 4 Technology 23 15 Utilities 1 7 Other 1 6 Short-Term Reserves 10% 0% ------------------------------------------------- *S&P 500 Index. **Annualized. VISIT OUR WEBSITE AT VANGUARD.COM FOR REGULARLY UPDATED FUND INFORMATION. 8 GLOSSARY OF INVESTMENT TERMS BETA. A measure of the magnitude of a fund's past share-price fluctuations in relation to the ups and downs of a given market index. The index is assigned a beta of 1.00. Compared with a given index, a fund with a beta of 1.20 typically would have seen its share price rise or fall by 12% when the index rose or fell by 10%. A fund's beta should be reviewed in conjunction with its R-squared (see definition below). The lower the R-squared, the less correlation there is between the fund and the index, and the less reliable beta is as an indicator of volatility. -------------------------------------------------------------------------------- EARNINGS GROWTH RATE. The average annual rate of growth in earnings over the past five years for the stocks now in a fund. -------------------------------------------------------------------------------- EXPENSE RATIO. The percentage of a fund's average net assets used to pay its annual administrative and advisory expenses. These expenses directly reduce returns to investors. -------------------------------------------------------------------------------- FOREIGN HOLDINGS. The percentage of a fund's equity assets represented by stocks or depositary receipts of companies based outside the United States. -------------------------------------------------------------------------------- MEDIAN MARKET CAP. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund's stocks, weighted by the proportion of the fund's assets invested in each stock. Stocks representing half of the fund's assets have market capitalizations above the median, and the rest are below it. -------------------------------------------------------------------------------- PRICE/BOOK RATIO. The share price of a stock divided by its net worth, or book value, per share. For a fund, the weighted average price/book ratio of the stocks it holds. -------------------------------------------------------------------------------- PRICE/EARNINGS RATIO. The ratio of a stock's current price to its per-share earnings over the past year. For a fund, the weighted average P/E of the stocks it holds. P/E is an indicator of market expectations about corporate prospects; the higher the P/E, the greater the expectations for a company's future growth. -------------------------------------------------------------------------------- R-SQUARED. A measure of how much of a fund's past returns can be explained by the returns from the market in general, as measured by a given index. If a fund's total returns were precisely synchronized with an index's returns, its R-squared would be 1.00. If the fund's returns bore no relationship to the index's returns, its R-squared would be 0. -------------------------------------------------------------------------------- RETURN ON EQUITY. The annual average rate of return generated by a company during the past five years for each dollar of shareholder's equity (net income divided by shareholder's equity). For a fund, the weighted average return on equity for the companies whose stocks it holds. -------------------------------------------------------------------------------- SHORT-TERM RESERVES. The percentage of a fund invested in highly liquid, short-term securities that can be readily converted to cash. -------------------------------------------------------------------------------- TURNOVER RATE. An indication of the fund's trading activity. Funds with high turnover rates incur higher transaction costs and may be more likely to distribute capital gains (which may be taxable to investors). -------------------------------------------------------------------------------- YIELD. A snapshot of a fund's income from interest and dividends. The yield, expressed as a percentage of the fund's net asset value, is based on income earned over the past 30 days and is annualized, or projected forward for the coming year. The index yield is based on the current annualized rate of income provided by securities in the index. -------------------------------------------------------------------------------- 9 PERFORMANCE SUMMARY All of the returns in this report represent past performance, which is not a guarantee of future results that may be achieved by the fund. (For the most recent performance, which may be higher or lower than that cited, visit our website at www.vanguard.com.) Note, too, that both investment returns and principal value can fluctuate widely, so an investor's shares, when sold, could be worth more or less than their original cost. The returns in this report do not reflect taxes that a shareholder would pay on fund distributions or on the sale of fund shares. PRIMECAP FUND -------------------------------------------------------------------------------- FISCAL-YEAR TOTAL RETURNS (%) AUGUST 31, 1993_FEBRUARY 29, 2004 PRIMECAP FUND S&P 500 INVESTOR SHARES INDEX 1994 16.3 5.5 1995 32.3 21.4 1996 7.8 18.7 1997 50.5 40.6 1998 -5.0 8.1 1999 63.2 39.8 2000 44.1 16.3 2001 -26.4 -24.4 2002 -23.3 -18.0 2003 23.4 12.1 2004* 16.6 14.6 -------------------------------------------------------------------------------- *Six months ended February 29, 2004. Note: See Financial Highlights tables on pages 17 and 18 for dividend and capital gains information. -------------------------------------------------------------------------------- AVERAGE ANNUAL TOTAL RETURNS FOR PERIODS ENDED DECEMBER 31, 2003 This table presents average annual total returns through the latest calendar quarter--rather than through the end of the fiscal period. Securities and Exchange Commission rules require that we provide this information. TEN YEARS ONE FIVE ---------------------------- INCEPTION DATE YEAR YEARS CAPITAL INCOME TOTAL -------------------------------------------------------------------------------- PRIMECAP Fund Investor Shares 11/1/1984 37.75% 5.86% 14.39% 0.69% 15.08% Fee-Adjusted Returns* 36.38 5.86 14.39 0.69 15.08 Admiral Shares 11/12/2001 37.96 5.55** -- -- -- Fee-Adjusted Returns* 36.59 5.06** -- -- -- -------------------------------------------------------------------------------- *Reflective of the 1% fee assessed on redemptions of shares purchased on or after April 23, 2001, and held for less than five years. **Returns since inception. 10 ABOUT YOUR FUND'S EXPENSES All mutual funds have operating expenses. These expenses include costs for portfolio management, administrative services, and shareholder reports (like this one), among others. Operating expenses, which are deducted from a fund's gross income, directly reduce the investment return of the fund. A fund's expenses are expressed as a percentage of its net assets. This figure is known as the expense ratio. A HYPOTHETICAL EXAMPLE We believe it is important for you to understand the impact of costs on your investment. The following example illustrates the costs that you would have incurred over the most recent six-month period on a $10,000 investment in the fund. The example uses the fund's actual return and operating expenses for the period. The cost in dollars is calculated by applying the expense ratio to the average balance in a hypothetical account. For comparative purposes, we also show the fund's annualized expense ratio--in which its six-month expenses are projected for a 12-month period--along with the average expense ratio for the fund's peer group, which is derived from data provided by Lipper Inc. -------------------------------------------------------------------------------- SIX MONTHS ENDED ANNUALIZED FUND EXPENSES FEBRUARY 29, 2004 VERSUS PEER GROUP EXPENSES ------------------------- ------------------------------ COST OF $10,000 FUND PEER GROUP* INVESTMENT IN FUND EXPENSE RATIO EXPENSE RATIO -------------------------------------------------------------------------------- PRIMECAP Fund Investor Shares $26 0.48% 1.71% Admiral Shares 17 0.32 -- -------------------------------------------------------------------------------- *Average Multi-Cap Growth Fund. The calculation assumes no shares were sold. Your actual costs may have been higher or lower, depending on the amount of your investment and your holding period. Peer-group ratio captures data through year-end 2003. You can find more information about the fund's expense ratio, including annual expense ratios for the past five years, in the Financial Statements section of this report. For additional information on operating expenses and other shareholder costs, please refer to the fund's prospectus. The prospectus presents hypothetical shareholder costs over various time periods based upon a $10,000 investment and a return of 5% a year. This standardized example, which appears in all mutual fund prospectuses, may be useful to you in comparing the costs of investing in different funds. 11 FINANCIAL STATEMENTS (UNAUDITED) STATEMENT OF NET ASSETS This Statement provides a detailed list of the fund's holdings, including each security's market value on the last day of the reporting period. Securities are grouped and subtotaled by asset type (common stocks, bonds, etc.) and by industry sector. Other assets are added to, and liabilities are subtracted from, the value of Total Investments to calculate the fund's Net Assets. Finally, Net Assets are divided by the outstanding shares of the fund to arrive at its share price, or Net Asset Value (NAV) Per Share. At the end of the Statement of Net Assets, you will find a table displaying the composition of the fund's net assets. Because all income and any realized gains must be distributed to shareholders each year, the bulk of net assets consists of Paid-in Capital (money invested by shareholders). The amounts shown for Undistributed Net Investment Income and Accumulated Net Realized Gains usually approximate the sums the fund had available to distribute to shareholders as income dividends or capital gains as of the statement date, but may differ because certain investments or transactions may be treated differently for financial statement and tax purposes. Any Accumulated Net Realized Losses, and any cumulative excess of distributions over net income or net realized gains, will appear as negative balances. Unrealized Appreciation (Depreciation) is the difference between the market value of the fund's investments and their cost, and reflects the gains (losses) that would be realized if the fund were to sell all of its investments at their statement-date values. -------------------------------------------------------------------------------- MARKET VALUE* PRIMECAP FUND SHARES (000) -------------------------------------------------------------------------------- COMMON STOCKS (89.4%) -------------------------------------------------------------------------------- AUTO & TRANSPORTATION (8.6%) FedEx Corp. 14,792,500 $ 1,015,949 Union Pacific Corp. 6,506,500 414,074 Southwest Airlines Co. 14,459,737 199,689 *(1)AMR Corp. 9,300,000 141,360 United Parcel Service, Inc. 1,200,000 84,756 (1)Delta Air Lines, Inc. 8,150,000 73,187 *(1)Alaska Air Group, Inc. 2,540,000 65,380 ArvinMeritor, Inc. 1,620,600 36,561 * Fleetwood Enterprises, Inc. 470,000 6,180 ---------------- $ 2,037,136 ---------------- CONSUMER DISCRETIONARY (12.8%) * Hughes Electronics Corp. 33,398,900 579,137 * eBay Inc. 4,150,000 285,769 * Costco Wholesale Corp. 7,200,000 280,296 TJX Cos., Inc. 11,369,800 267,759 Target Corp. 4,669,000 205,249 *(1)Robert Half International, Inc. 8,915,100 200,322 Lowe's Cos., Inc. 3,032,000 169,792 * Time Warner, Inc. 9,456,100 163,118 Eastman Kodak Co. 5,000,000 142,700 (1) The Neiman Marcus Group, Inc. Class A 2,246,800 126,899 The Walt Disney Co. 4,500,000 119,385 Carnival Corp. 2,230,000 98,945 Sabre Holdings Corp. 4,006,300 90,903 Best Buy Co., Inc. 1,050,000 55,912 (1) The Neiman Marcus Group, Inc. Class B 1,028,811 54,012 * Accenture Ltd. 2,311,200 53,389 Tiffany & Co. 742,000 31,201 * InterActiveCorp 900,000 29,313 * Abercrombie & Fitch Co. 700,000 22,071 * Liberty Media Corp. 1,905,000 21,717 Royal Caribbean Cruises, Ltd. 412,000 18,231 The McClatchy Co. Class A 244,500 16,768 Washington Post Co. Class B 5,000 4,478 ---------------- $ 3,037,366 ---------------- FINANCIAL SERVICES (4.3%) The Chubb Corp. 3,900,000 276,822 Bank One Corp. 4,000,000 215,920 J.P. Morgan Chase & Co. 5,030,000 206,331 Transatlantic Holdings, Inc. 843,750 72,621 American International Group, Inc. 800,000 59,200 The Bank of New York Co., Inc. 1,600,000 52,800 Wells Fargo & Co. 535,000 30,682 Capital One Financial Corp. 430,000 30,410 Freddie Mac 325,000 20,124 Fifth Third Bancorp 235,000 13,165 Equifax, Inc. 500,000 13,105 12 -------------------------------------------------------------------------------- MARKET VALUE* PRIMECAP FUND SHARES (000) -------------------------------------------------------------------------------- St. Paul Cos., Inc. 250,000 $ 10,685 First Data Corp. 187,537 7,685 ---------------- $ 1,009,550 ---------------- HEALTH CARE (20.5%) *(1)Biogen Idec Inc. 19,000,000 1,053,550 Guidant Corp. 14,550,000 991,437 Novartis AG ADR 14,685,000 648,343 Pfizer Inc. 13,518,793 495,464 Eli Lilly & Co. 6,490,000 479,871 * Genentech, Inc. 3,100,000 334,459 * Genzyme Corp._ General Division 6,200,000 314,836 Medtronic, Inc. 5,232,800 245,418 *(1)Millipore Corp. 2,820,000 147,627 *(1)Sepracor Inc. 4,400,000 125,048 * Applera Corp._ Celera Genomics Group 1,073,600 15,567 * Amgen, Inc. 42,000 2,668 ---------------- $ 4,854,288 ---------------- INTEGRATED OILS (4.3%) ConocoPhillips Co. 9,675,000 666,317 Amerada Hess Corp. 3,200,000 205,920 Unocal Corp. 3,725,000 141,550 Murphy Oil Corp. 60,000 3,764 ---------------- $ 1,017,551 ---------------- OTHER ENERGY (2.4%) (1) Noble Energy, Inc. 3,400,000 159,052 Anadarko Petroleum Corp. 3,100,000 158,875 (1) Pogo Producing Co. 3,260,000 147,906 Schlumberger Ltd. 1,360,000 87,706 El Paso Corp. 3,400,000 25,296 ---------------- $ 578,835 ---------------- MATERIALS & PROCESSING (6.2%) Dow Chemical Co. 7,300,000 317,331 (1) Potash Corp. of Saskatchewan, Inc. 3,200,700 264,698 Weyerhaeuser Co. 3,250,000 212,062 Sigma-Aldrich Corp. 2,500,000 142,925 Monsanto Co. 3,523,936 116,431 Engelhard Corp. 3,908,400 113,422 Temple-Inland Inc. 1,725,000 112,384 (1) Granite Construction Co. 3,150,000 76,387 (1) MacDermid, Inc. 1,701,000 64,638 Fluor Corp. 1,000,000 41,230 MeadWestvaco Corp. 39,000 1,143 ---------------- $ 1,462,651 ---------------- PRODUCER DURABLES (5.7%) Caterpillar, Inc. 5,770,000 437,077 (1)Tektronix, Inc. 6,629,600 212,479 *(1)Plantronics, Inc. 4,701,500 187,684 * LM Ericsson Telephone Co. ADR Class B 4,582,857 132,995 Deere & Co. 1,698,500 109,095 Kennametal, Inc. 1,500,000 65,115 Donaldson Co., Inc. 800,000 45,624 W.W. Grainger, Inc. 900,000 42,525 * Agilent Technologies, Inc. 1,220,480 41,728 * Mykrolis Corp. 1,908,613 28,782 Pall Corp. 1,000,000 26,170 * Applied Materials, Inc. 330,000 7,009 ---------------- $ 1,336,283 ---------------- TECHNOLOGY (23.1%) COMMUNICATIONS TECHNOLOGY (4.7%) Motorola, Inc. 19,295,550 356,003 QUALCOMM Inc. 4,771,000 302,720 * Nortel Networks Corp. 24,609,400 196,383 * Corning, Inc. 9,320,300 116,970 * Tellabs, Inc. 7,400,000 71,780 Symbol Technologies, Inc. 4,200,000 71,484 COMPUTER SERVICES SOFTWARE & SYSTEMS (6.1%) (1) Adobe Systems, Inc. 18,098,000 673,970 Microsoft Corp. 20,295,000 537,818 *(1)Citrix Systems, Inc. 9,725,000 205,976 * Intuit, Inc. 350,000 15,526 * Symantec Corp. 360,000 14,810 COMPUTER TECHNOLOGY (1.2%) Hewlett-Packard Co. 12,211,250 277,317 * Dell Inc. 5,000 163 ELECTRONICS (1.4%) Sony Corp. ADR 7,800,000 319,332 ELECTRONICS--SEMICONDUCTORS/COMPONENTS (8.0%) Texas Instruments, Inc. 23,534,000 721,317 *(1)Micron Technology, Inc. 43,500,600 654,249 Intel Corp. 14,365,000 419,889 * Rambus Inc. 2,500,000 80,975 * LSI Logic Corp. 1,400,000 14,140 ELECTRONICS TECHNOLOGY (0.8%) Raytheon Co. 4,468,600 135,845 *(1)Coherent, Inc. 1,700,000 48,348 SCIENTIFIC EQUIPMENT & SUPPLIES (0.9%) Applera Corp._ Applied Biosystems Group 8,945,300 203,953 ---------------- $ 5,438,968 ---------------- 13 -------------------------------------------------------------------------------- MARKET VALUE* PRIMECAP FUND SHARES (000) -------------------------------------------------------------------------------- UTILITIES (0.8%) Sprint Corp. 9,348,800 $ 165,754 * Cox Communications, Inc. Class A 1,000,000 32,400 ---------------- $ 198,154 ---------------- OTHER (0.7%) * Berkshire Hathaway Inc. Class B 54,000 169,182 ---------------- -------------------------------------------------------------------------------- TOTAL COMMON STOCKS (Cost $14,661,118) $ 21,139,964 -------------------------------------------------------------------------------- PREFERRED STOCK (0.8%) The News Corp. Ltd. ADR Pfd. (Cost $176,384) 5,893,295 $ 192,888 -------------------------------------------------------------------------------- FACE AMOUNT (000) -------------------------------------------------------------------------------- TEMPORARY CASH INVESTMENTS (14.0%) -------------------------------------------------------------------------------- Repurchase Agreements Collateralized by U.S. Government Obligations in a Pooled Cash Account 1.04%, 3/1/2004 $ 1,256,101 2,284,445 1.04%, 3/1/2004--Note G 1,028,244 1,028,244 -------------------------------------------------------------------------------- TOTAL TEMPORARY CASH INVESTMENTS (Cost $3,312,689) 3,312,689 -------------------------------------------------------------------------------- TOTAL INVESTMENTS (104.2%) (Cost $18,150,191) 24,645,541 -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES--NET (-4.2%) $ (1,002,056) -------------------------------------------------------------------------------- NET ASSETS (100%) $ 23,643,485 ================================================================================ * See Note A in Notes to Financial Statements. * Non-income-producing security. (1) Considered an affiliated company of the fund as the fund owns more than 5% of the outstanding voting securities of such company. The total market value of investments in affiliated companies was $4,682,772,000. See Note I in Notes to Financial Statements. ADR--American Depositary Receipt. -------------------------------------------------------------------------------- MARKET VALUE* (000) -------------------------------------------------------------------------------- STATEMENT OF ASSETS AND LIABILITIES -------------------------------------------------------------------------------- ASSETS Investments in Securities, at Value $ 24,645,541 Receivables for Capital Shares Sold 39,316 Other Assets--Note C 71,726 ---------------- Total Assets $ 24,756,583 ---------------- LIABILITIES Payables for Investment Securities Purchased 34,446 Security Lending Collateral Payable to Brokers--Note G 1,028,244 Other Liabilities 50,408 ---------------- Total Liabilities $ 1,113,098 ---------------- -------------------------------------------------------------------------------- NET ASSETS (100%) $ 23,643,485 ================================================================================ -------------------------------------------------------------------------------- AT FEBRUARY 29, 2004, NET ASSETS CONSISTED OF: -------------------------------------------------------------------------------- AMOUNT (000) -------------------------------------------------------------------------------- Paid-in Capital $ 17,592,534 Undistributed Net Investment Income 2,234 Accumulated Net Realized Losses (446,633) Unrealized Appreciation 6,495,350 -------------------------------------------------------------------------------- NET ASSETS $ 23,643,485 ================================================================================ Investor Shares--Net Assets Applicable to 353,841,294 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $ 19,922,092 -------------------------------------------------------------------------------- NET ASSET VALUE PER SHARE-- INVESTOR SHARES $ 56.30 ================================================================================ Admiral Shares--Net Assets Applicable to 63,711,673 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $ 3,721,393 -------------------------------------------------------------------------------- NET ASSET VALUE PER SHARE-- ADMIRAL SHARES $ 58.41 ================================================================================ See Note E in Notes to Financial Statements for the tax-basis components of net assets. 14 STATEMENT OF OPERATIONS This Statement shows the types of income earned by the fund during the reporting period, and details the operating expenses charged to each class of its shares. These expenses directly reduce the amount of investment income available to pay to shareholders as income dividends. This Statement also shows any Net Gain (Loss) realized on the sale of investments, and the increase or decrease in the Unrealized Appreciation (Depreciation) of investments during the period. -------------------------------------------------------------------------------- PRIMECAP FUND SIX MONTHS ENDED FEBRUARY 29, 2004 (000) -------------------------------------------------------------------------------- INVESTMENT INCOME INCOME Dividends* $ 90,266 Interest 9,061 Security Lending 556 -------------------------------------------------------------------------------- Total Income $ 99,883 -------------------------------------------------------------------------------- EXPENSES Investment Advisory Fees--Note B 18,940 The Vanguard Group--Note C Management and Administrative Investor Shares 26,064 Admiral Shares 1,826 Marketing and Distribution Investor Shares 1,132 Admiral Shares 144 Custodian Fees 143 Shareholders' Reports Investor Shares 86 Admiral Shares -- Trustees' Fees and Expenses 9 -------------------------------------------------------------------------------- Total Expenses $ 48,344 Expenses Paid Indirectly--Note D (469) -------------------------------------------------------------------------------- Net Expenses $ 47,875 -------------------------------------------------------------------------------- NET INVESTMENT INCOME $ 52,008 -------------------------------------------------------------------------------- REALIZED NET GAIN (LOSS) ON INVESTMENT SECURITIES SOLD* (421) -------------------------------------------------------------------------------- CHANGE IN UNREALIZED APPRECIATION (DEPRECIATION) OF INVESTMENT SECURITIES $ 3,200,941 -------------------------------------------------------------------------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS $ 3,252,528 ================================================================================ * Dividend income and realized net gain (loss) from affiliated companies of the fund were $5,805,000 and ($27,908,000), respectively. See Note I in Notes to Financial Statements. 15 STATEMENT OF CHANGES IN NET ASSETS This Statement shows how the fund's total net assets changed during the two most recent reporting periods. The Operations section summarizes information detailed in the Statement of Operations. The amounts shown as Distributions to shareholders from the fund's net income and capital gains may not match the amounts shown in the Operations section, because distributions are determined on a tax basis and may be made in a period different from the one in which the income was earned or the gains were realized on the financial statements. The Capital Share Transactions section shows the net amount shareholders invested in or redeemed from the fund. Distributions and Capital Share Transactions are shown separately for each class of shares. -------------------------------------------------------------------------------- PRIMECAP FUND --------------------------------- SIX MONTHS YEAR ENDED ENDED FEB. 29, 2004 AUG. 31, 2003 (000) (000) -------------------------------------------------------------------------------- INCREASE (DECREASE) IN NET ASSETS OPERATIONS Net Investment Income $ 52,008 $ 87,873 Realized Net Gain (Loss) (421) 88,715 Change in Unrealized Appreciation (Depreciation) 3,200,941 3,333,046 -------------------------------------------------------------------------------- Net Increase (Decrease) in Net Assets Resulting from Operations 3,252,528 3,509,634 -------------------------------------------------------------------------------- DISTRIBUTIONS Net Investment Income Investor Shares (74,102) (70,314) Admiral Shares (14,551) (8,862) Realized Capital Gain Investor Shares -- -- Admiral Shares -- -- -------------------------------------------------------------------------------- Total Distributions (88,653) (79,176) -------------------------------------------------------------------------------- CAPITAL SHARE TRANSACTIONS--NOTE H Investor Shares 309,495 593,031 Admiral Shares 1,217,263 343,830 -------------------------------------------------------------------------------- Net Increase (Decrease) from Capital Share Transactions 1,526,758 936,861 -------------------------------------------------------------------------------- Total Increase (Decrease) 4,690,633 4,367,319 -------------------------------------------------------------------------------- NET ASSETS Beginning of Period 18,952,852 14,585,533 -------------------------------------------------------------------------------- End of Period $ 23,643,485 $ 18,952,852 ================================================================================ 16 FINANCIAL HIGHLIGHTS This table summarizes the fund's investment results and distributions to shareholders on a per-share basis for each class of shares. It also presents the Total Return and shows net investment income and expenses as percentages of average net assets. These data will help you assess: the variability of the fund's net income and total returns from year to year; the relative contributions of net income and capital gains to the fund's total return; how much it costs to operate the fund; and the extent to which the fund tends to distribute capital gains. The table also shows the Portfolio Turnover Rate, a measure of trading activity. A turnover rate of 100% means that the average security is held in the fund for one year.
PRIMECAP FUND INVESTOR SHARES ---------------------------------------------------------------------------------------------------------------------------- YEAR ENDED YEAR ENDED SIX MONTHS AUGUST 31, JAN. 1 TO DECEMBER 31, FOR A SHARE OUTSTANDING ENDED ------------------ AUG. 31, -------------------------------- THROUGHOUT EACH PERIOD FEB. 29, 2004 2003 2002 2001* 2000 1999 1998 ---------------------------------------------------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $48.50 $39.51 $51.90 $60.38 $62.07 $47.66 $39.56 ---------------------------------------------------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .117 .23 .188 .21 .52 .26 .34 Net Realized and Unrealized Gain (Loss) on Investments 7.890 8.97 (12.183) (8.28) 2.33 19.07 9.63 ---------------------------------------------------------------------------------------------------------------------------- Total from Investment Operations 8.007 9.20 (11.995) (8.07) 2.85 19.33 9.97 ---------------------------------------------------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.210) (.21) (.260) (.02) (.49) (.27) (.35) Distributions from Realized Capital Gains -- -- (.135) (.39) (4.05) (4.65) (1.52) ---------------------------------------------------------------------------------------------------------------------------- Total Distributions (.210) (.21) (.395) (.41) (4.54) (4.92) (1.87) ---------------------------------------------------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $56.30 $48.50 $39.51 $51.90 $60.38 $62.07 $47.66 ============================================================================================================================ TOTAL RETURN** 16.55% 23.41% -23.28% -13.39% 4.47% 41.34% 25.44% ============================================================================================================================ RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $19,922 $16,886 $13,216 $18,894 $21,762 $17,912 $11,210 Ratio of Total Expenses to Average Net Assets 0.48%+ 0.51% 0.49% 0.50%+ 0.48% 0.51% 0.51% Ratio of Net Investment Income to Average Net Assets 0.47%+ 0.56% 0.42% 0.58%+ 0.80% 0.50% 0.78% Portfolio Turnover Rate 11%+ 12% 11% 7% 11% 19% 13% ============================================================================================================================ * The fund's fiscal year-end changed from December 31 to August 31, effective August 31, 2001. **Total returns do not reflect the 1% fee assessed on redemptions of shares purchased on or after April 23, 2001, and held for less than five years. +Annualized.
17 FINANCIAL HIGHLIGHTS (CONTINUED) PRIMECAP FUND ADMIRAL SHARES -------------------------------------------------------------------------------- SIX MONTHS YEAR NOV. 12, ENDED ENDED 2001* TO FEB. 29, AUG. 31, AUG. 31, FOR A SHARE OUTSTANDING THROUGHOUT EACH PERIOD 2004 2003 2002 -------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $50.34 $41.00 $50.00 -------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .169 .295 .191 Net Realized and Unrealized Gain (Loss) on Investments 8.191 9.310 (8.776) -------------------------------------------------------------------------------- Total from Investment Operations 8.360 9.605 (8.585) -------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.290) (.265) (.275) Distributions from Realized Capital Gains -- -- (.140) -------------------------------------------------------------------------------- Total Distributions (.290) (.265) (.415) -------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $58.41 $50.34 $41.00 ================================================================================ TOTAL RETURN** 16.66% 23.58% -17.35% ================================================================================ RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $3,721 $2,067 $1,369 Ratio of Total Expenses to Average Net Assets 0.32%+ 0.37% 0.38%+ Ratio of Net Investment Income to Average Net Assets 0.64%+ 0.69% 0.52%+ Portfolio Turnover Rate 11%+ 12% 11% ================================================================================ *Inception. **Total returns do not reflect the 1% fee assessed on redemptions of shares purchased on or after April 23, 2001, and held for less than five years. +Annualized. SEE ACCOMPANYING NOTES, WHICH ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS. 18 NOTES TO FINANCIAL STATEMENTS Vanguard PRIMECAP Fund is registered under the Investment Company Act of 1940 as an open-end investment company, or mutual fund. The fund offers two classes of shares, Investor Shares and Admiral Shares. Investor Shares are available to any investor who meets the fund's minimum purchase requirements. Admiral Shares are designed for investors who meet certain administrative, servicing, tenure, and account-size criteria. A. The following significant accounting policies conform to generally accepted accounting principles for U.S. mutual funds. The fund consistently follows such policies in preparing its financial statements. 1. SECURITY VALUATION: Securities are valued as of the close of trading on the New York Stock Exchange (generally 4:00 p.m. Eastern time) on the valuation date. Equity securities are valued at the latest quoted sales prices or official closing prices taken from the primary market in which each security trades; such securities not traded on the valuation date are valued at the mean of the latest quoted bid and asked prices. Securities for which market quotations are not readily available, or whose values have been materially affected by events occurring before the fund's pricing time but after the close of the securities' primary markets, are valued by methods deemed by the board of trustees to represent fair value. Temporary cash investments acquired over 60 days to maturity are valued using the latest bid prices or using valuations based on a matrix system (which considers such factors as security prices, yields, maturities, and ratings), both as furnished by independent pricing services. Other temporary cash investments are valued at amortized cost, which approximates market value. 2. REPURCHASE AGREEMENTS: The fund, along with other members of The Vanguard Group, transfers uninvested cash balances to a pooled cash account, which is invested in repurchase agreements secured by U.S. government securities. Securities pledged as collateral for repurchase agreements are held by a custodian bank until the agreements mature. Each agreement requires that the market value of the collateral be sufficient to cover payments of interest and principal; however, in the event of default or bankruptcy by the other party to the agreement, retention of the collateral may be subject to legal proceedings. 3. FEDERAL INCOME TAXES: The fund intends to continue to qualify as a regulated investment company and distribute all of its taxable income. Accordingly, no provision for federal income taxes is required in the financial statements. 4. DISTRIBUTIONS: Distributions to shareholders are recorded on the ex-dividend date. 5. OTHER: Dividend income is recorded on the ex-dividend date. Security transactions are accounted for on the date securities are bought or sold. Costs used to determine realized gains (losses) on the sale of investment securities are those of the specific securities sold. Fees assessed on redemptions of capital shares are credited to paid-in capital. Each class of shares has equal rights as to assets and earnings, except that each class separately bears certain class-specific expenses related to maintenance of shareholder accounts (included in Management and Administrative expenses) and shareholder reporting. Marketing and distribution expenses are allocated to each class of shares based on a method approved by the board of trustees. Income, other non-class-specific expenses, and gains and losses on investments are allocated to each class of shares based on its relative net assets. B. PRIMECAP Management Company provides investment advisory services to the fund for a fee calculated at an annual percentage rate of average net assets. For the six months ended February 29, 2004, the investment advisory fee represented an effective annual rate of 0.18% of the fund's average net assets. 19 NOTES TO FINANCIAL STATEMENTS (CONTINUED) C. The Vanguard Group furnishes at cost corporate management, administrative, marketing, and distribution services. The costs of such services are allocated to the fund under methods approved by the board of trustees. The fund has committed to provide up to 0.40% of its net assets in capital contributions to Vanguard. At February 29, 2004, the fund had contributed capital of $3,426,000 to Vanguard (included in Other Assets), representing 0.01% of the fund's net assets and 3.43% of Vanguard's capitalization. The fund's trustees and officers are also directors and officers of Vanguard. D. The fund has asked its investment advisor to direct certain security trades, subject to obtaining the best price and execution, to brokers who have agreed to rebate to the fund part of the commissions generated. Such rebates are used solely to reduce the fund's management and administrative expenses. For the six months ended February 29, 2004, these arrangements reduced the fund's expenses by $469,000. E. Distributions are determined on a tax basis and may differ from net investment income and realized capital gains for financial reporting purposes. Differences may be permanent or temporary. Permanent differences are reclassified among capital accounts in the financial statements to reflect their tax character. Temporary differences arise when certain items of income, expense, gain, or loss are recognized in different periods for financial statement and tax purposes; these differences will reverse at some time in the future. Differences in classification may also result from the treatment of short-term gains as ordinary income for tax purposes. The funds' tax-basis capital gains and losses are determined only at the end of each fiscal year. For tax purposes, at August 31, 2003, the fund had available realized losses of $445,370,000 to offset future net capital gains through August 31, 2011. The fund will use these capital losses to offset net taxable capital gains, if any, realized during the year ending August 31, 2004; should the fund realize net capital losses for the year, the losses will be added to the loss carryforward balances above. At February 29, 2004, net unrealized appreciation of investment securities for tax purposes was $6,495,350,000, consisting of unrealized gains of $7,579,058,000 on securities that had risen in value since their purchase and $1,083,708,000 in unrealized losses on securities that had fallen in value since their purchase. F. During the six months ended February 29, 2004, the fund purchased $1,731,054,000 of investment securities and sold $1,058,798,000 of investment securities, other than temporary cash investments. G. The market value of securities on loan to broker/dealers at February 29, 2004, was $995,793,000, for which the fund held cash collateral of $1,028,244,000. The fund invests cash collateral received in repurchase agreements, and records a liability for the return of the collateral, during the period the securities are on loan. 20 H. Capital share transactions for each class of shares were: -------------------------------------------------------------------------------- SIX MONTHS ENDED YEAR ENDED FEBRUARY 29, 2004 AUGUST 31, 2003 -------------------------- --------------------- AMOUNT SHARES AMOUNT SHARES (000) (000) (000) (000) -------------------------------------------------------------------------------- Investor Shares Issued $ 2,069,790 39,742 $ 2,541,060 61,980 Issued in Lieu of Cash Distributions 72,408 1,403 68,639 1,743 Redeemed* (1,832,703) (35,473) (2,016,668) (50,043) -------------------------------------------------- Net Increase (Decrease)-- Investor Shares 309,495 5,672 593,031 13,680 -------------------------------------------------- Admiral Shares Issued 1,440,632 26,745 527,850 12,078 Issued in Lieu of Cash Distributions 13,269 248 7,971 195 Redeemed* (236,638) (4,332) (191,991) (4,622) -------------------------------------------------- Net Increase (Decrease)-- Admiral Shares 1,217,263 22,661 343,830 7,651 -------------------------------------------------------------------------------- *Net of redemption fees of $972,000 and $1,282,000, respectively (fund totals). 21 NOTES TO FINANCIAL STATEMENTS (CONTINUED) I. Certain of the fund's investments are in companies that are considered to be affiliated companies of the fund because the fund owns more than 5% of the outstanding voting securities of the company. Transactions during the period in securities of affiliated companies were as follows:
----------------------------------------------------------------------------------------------- (000) ----------------------------------------------------------------- CURRENT PERIOD TRANSACTIONS --------------------------- AUG. 31, 2003 COST OF FEB. 29, 2004 MARKET PURCHASES SECURITIES DIVIDEND MARKET VALUE AT COST SOLD INCOME VALUE ----------------------------------------------------------------------------------------------- Adobe Systems, Inc. $ 718,316 -- $ 4,974 $ 453 $ 673,970 Alaska Air Group, Inc. 70,079 -- -- -- 65,380 AMR Corp. 104,500 -- 5,256 -- 141,360 Biogen Idec Inc.* 651,792 $ 4,740 -- -- 1,053,550 Citrix Systems, Inc. 200,238 -- -- -- 205,976 Coherent, Inc. 44,540 -- -- -- 48,348 Delta Air Lines, Inc. 121,811 -- 67,624 -- 73,187 FedEx Corp. 1,006,903 -- 9,126 1,638 n/a** Granite Construction Co. 61,299 -- -- 630 76,387 MacDermid, Inc. 48,631 -- -- 102 64,638 Micron Technology, Inc. 455,923 157,979 -- -- 654,249 Millipore Corp. 128,028 -- -- -- 147,627 The Neiman Marcus Group, Inc. Class A 95,714 -- -- 292 126,899 The Neiman Marcus Group, Inc. Class B 40,175 -- -- 134 54,012 Noble Energy, Inc. 130,647 3,971 -- 340 159,052 Plantronics, Inc. 118,807 -- -- -- 187,684 Pogo Producing Co. 149,830 -- -- 326 147,906 Potash Corp. of Saskatchewan, Inc. 226,930 -- -- 1,360 264,698 Robert Half International, Inc. 217,176 -- 11,691 -- 200,322 Sepracor Inc. 118,448 -- -- -- 125,048 Tektronix, Inc. 156,724 -- -- 530 212,479 ---------- ---------------------------- $4,866,511 $5,805 $4,682,772 ---------- ---------------------------- ----------------------------------------------------------------------------------------------- *Biogen, Inc. and IDEC Pharmaceuticals Corp. merged into Biogen Idec Inc. in November 2003. **Security is still held but the issuer is no longer an affiliated company of the fund.
22 INVESTING IS FAST, EASY, AND SECURE ON VANGUARD.COM If you're like many Vanguard investors, you believe in planning and taking control of your own investments. Vanguard.com was built for you--and it keeps getting better. research and plan your investments with confidence Use our PLANNING & ADVICE and RESEARCH FUNDS & STOCKS sections to: * Determine what asset allocation might best suit your needs--by taking our Investor Questionnaire. * Find out how much to save for retirement and your children's college education-- by using our planning tools. * Learn how to achieve your goals--by reading our PlainTalk(R) investment guides. * Find your next fund--by using the Compare Funds, Compare Costs, and Narrow Your Fund Choices tools. * Look up fund price, performance history, and distribution information--in a snap. INVEST AND MANAGE ACCOUNTS WITH EASE Log on to VANGUARD.COM to: * See what you own (at Vanguard and elsewhere) and how your investments are doing. * Elect to receive online statements, fund reports (like this one), prospectuses, and tax forms. * Analyze your portfolio's holdings and performance. * Open new accounts, buy and sell shares, and exchange money between funds--securely and easily. * Sign up to receive electronic newsletters from Vanguard informing you of news on our funds, products, and services, as well as on investing and the financial markets. Find out what Vanguard.com can do for you. Log on today! 23 THE PEOPLE WHO GOVERN YOUR FUND The trustees of your mutual fund are there to see that the fund is operated and managed in your best interests since, as a shareholder, you are a part owner of the fund. Your fund trustees also serve on the board of directors of The Vanguard Group, Inc., which is owned by the Vanguard(R) funds and provides services to them on an at-cost basis. A majority of Vanguard's board members are independent, meaning that they have no affiliation with Vanguard or the funds they oversee, apart from the sizable personal investments they have made as private individuals. Our independent board members bring distinguished backgrounds in business, academia, and public service to their task of working with Vanguard officers to establish the policies and oversee the activities of
POSITION(S) HELD WITH NAME FUND (NUMBER OF (YEAR OF BIRTH) VANGUARD FUNDS TRUSTEE/OFFICER OVERSEEN BY SINCE TRUSTEE/OFFICER) PRINCIPAL OCCUPATION(S) DURING THE PAST FIVE YEARS --------------------------------------------------------------------------------------------------------------------- JOHN J. BRENNAN* Chairman of the Chairman of the Board, Chief Executive Officer, and Director/Trustee of (1954) Board, Chief The Vanguard Group, Inc., and of each of the investment companies May 1987 Executive Officer, served by The Vanguard Group. and Trustee (129) --------------------------------------------------------------------------------------------------------------------- INDEPENDENT TRUSTEES CHARLES D. ELLIS Trustee The Partners of '63 (pro bono ventures in education); Senior Advisor (1937) (129) to Greenwich Associates (international business strategy consulting); January 2001 Successor Trustee of Yale University; Overseer of the Stern School of Business at New York University; Trustee of the Whitehead Institute for Biomedical Research. --------------------------------------------------------------------------------------------------------------------- RAJIV L. GUPTA Trustee Chairman and Chief Executive Officer (since October 1999), Vice (1945) (129) Chairman (January-September 1999), and Vice President (prior to December 2001 September 1999) of Rohm and Haas Co. (chemicals); Director of Technitrol, Inc. (electronic components), and Agere Systems (communications components); Board Member of the American Chemistry Council; Trustee of Drexel University. --------------------------------------------------------------------------------------------------------------------- JOANN HEFFERNAN Trustee Vice President, Chief Information Officer, and Member of the HEISEN (129) Executive Committee of Johnson & Johnson (pharmaceuticals/ (1950) consumer products); Director of the University Medical Center at July 1998 Princeton and Women's Research and Education Institute. --------------------------------------------------------------------------------------------------------------------- BURTON G. MALKIEL Trustee Chemical Bank Chairman's Professor of Economics, Princeton Malkiel C (1932) (127) University; Director of Vanguard Investment Series plc (Irish invest- May 1977 ment fund) (since November 2001), Vanguard Group (Ireland) Limited (Irish investment management firm) (since November 2001), Prudential Insurance Co. of America, BKF Capital (investment management), The Jeffrey Co. (holding company), and NeuVis, Inc. (software company). ---------------------------------------------------------------------------------------------------------------------
the funds. Among board members' responsibilities are selecting investment advisors for the funds; monitoring fund operations, performance, and costs; reviewing contracts; nominating and selecting new trustees/directors; and electing Vanguard officers. Each trustee serves a fund until its termination; or until the trustee's retirement, resignation, or death; or otherwise as specified in the fund's organizational documents. Any trustee may be removed at a shareholders' meeting by a vote representing two-thirds of the net asset value of all shares of the fund together with shares of other Vanguard funds organized within the same trust. The table on these two pages shows information for each trustee and executive officer of the fund. The mailing address of the trustees and officers is P.O. Box 876, Valley Forge, PA 19482.
POSITION(S) HELD WITH NAME FUND (NUMBER OF (YEAR OF BIRTH) VANGUARD FUNDS TRUSTEE/OFFICER OVERSEEN BY SINCE TRUSTEE/OFFICER) PRINCIPAL OCCUPATION(S) DURING THE PAST FIVE YEARS --------------------------------------------------------------------------------------------------------------------- ALFRED M. RANKIN, JR.Trustee Chairman, President, Chief Executive Officer, and Director of NACCO (1941) (129) Industries, Inc. (forklift trucks/housewares/lignite); Director of January 1993 Goodrich Corporation (industrial products/aircraft systems and services); Director of Standard Products Company (supplier for the automotive industry) until 1998. --------------------------------------------------------------------------------------------------------------------- J. LAWRENCE WILSON Trustee Retired Chairman and Chief Executive Officer of Rohm and Haas Co. (1936) (129) (chemicals); Director of Cummins Inc. (diesel engines), MeadWestvaco April 1985 Corp. (paper products), and AmerisourceBergen Corp. (pharmaceutical distribution); Trustee of Vanderbilt University. --------------------------------------------------------------------------------------------------------------------- EXECUTIVE OFFICERS* R. GREGORY BARTON Secretary Managing Director and General Counsel of The Vanguard Group, Inc.; (1951) (129) Secretary of The Vanguard Group and of each of the investment June 2001 companies served by The Vanguard Group. --------------------------------------------------------------------------------------------------------------------- THOMAS J. HIGGINS Treasurer Principal of The Vanguard Group, Inc.; Treasurer of each of the (1957) (129) investment companies served by The Vanguard Group. July 1998 ---------------------------------------------------------------------------------------------------------------------
*Officers of the funds are "interested persons" as defined in the Investment Company Act of 1940. More information about the trustees is in the Statement of Additional Information, available from The Vanguard Group.
================================================================================================ VANGUARD SENIOR MANAGEMENT TEAM MORTIMER J. BUCKLEY, Information Technology. MICHAEL S. MILLER, Planning and Development. JAMES H. GATELY, Investment Programs and Services. RALPH K. PACKARD, Finance. KATHLEEN C. GUBANICH, Human Resources. GEORGE U. SAUTER, Chief Investment Officer. F. WILLIAM MCNABB, III, Client Relationship Group. ------------------------------------------------------------------------------------------------
JOHN C. BOGLE, Founder; Chairman and Chief Executive Officer, 1974-1996. VANGUARD SHIP LOGO THE VANGUARD GROUP(R) POST OFFICE BOX 2600 VALLEY FORGE, PA 19482-2600 Vanguard, The Vanguard Group, Vanguard.com, Admiral, PlainTalk, and the ship logo are trademarks of The Vanguard Group, Inc. All other marks are the exclusive property of their respective owners. ABOUT OUR COVER The photographs that appear on the cover of this report are copyrighted by Michael Kahn. FOR MORE INFORMATION This report is intended for the fund's shareholders. It may not be distributed to prospective investors unless it is preceded or accompanied by the current fund prospectus. To receive a free copy of the prospectus or the Statement of Additional Information, or to request additional information about the fund or other Vanguard funds, please contact us at one of the adjacent telephone numbers or by e-mail through Vanguard.com. Prospectuses may also be viewed online. You can obtain a free copy of Vanguard's proxy voting guidelines by visiting our website, www.vanguard.com, and searching for "proxy voting guidelines," or by calling 1-800-662-2739. They are also available from the SEC's website, www.sec.gov. All comparative mutual fund data are from Lipper Inc. or Morningstar, Inc., unless otherwise noted. WORLD WIDE WEB www.vanguard.com FUND INFORMATION 1-800-662-7447 DIRECT INVESTOR ACCOUNT SERVICES 1-800-662-2739 INSTITUTIONAL INVESTOR SERVICES 1-800-523-1036 TEXT TELEPHONE 1-800-952-3335 (C) 2004 THE VANGUARD GROUP, INC. ALL RIGHTS RESERVED. VANGUARD MARKETING CORPORATION, DISTRIBUTOR. Q592 042004 VANGUARD (R) TARGET RETIREMENT FUNDS FEBRUARY 29, 2004 SEMIANNUAL REPORT VANGUARD(R) TARGET RETIREMENT INCOME FUND VANGUARD(R) TARGET RETIREMENT 2005 FUND VANGUARD(R) TARGET RETIREMENT 2015 FUND VANGUARD(R) TARGET RETIREMENT 2025 FUND VANGUARD(R) TARGET RETIREMENT 2035 FUND VANGUARD(R) TARGET RETIREMENT 2045 FUND THE VANGUARD GROUP (R) HOW TO READ YOUR FUND REPORT -------------------------------------------------------------------------------- This report contains information that can help you evaluate your investment. It includes details about your fund's return and presents data and analysis that provide insight into the fund's performance and investment approach. By reading the letter from Vanguard's chairman, John J. Brennan, you'll get an understanding of how the fund invests and how the market environment affected its performance. The statistical information that follows can help you understand how the fund's performance and characteristics stack up against those of similar funds and market benchmarks. It's important to keep in mind that any opinions expressed here ~are just that: informed opinions. They should not be considered promises or advice. These opinions, like the statistics, cover the period through the date on the cover of this report. The risks of investing in the fund are spelled out in the prospectus. Frequent updates on the fund's performance and information about some of its holdings are available on Vanguard.com. -------------------------------------------------------------------------------- CONTENTS 1 LETTER FROM THE CHAIRMAN 7 FUND PROFILES 13 GLOSSARY OF INVESTMENT TERMS 14 PERFORMANCE SUMMARIES 16 ABOUT YOUR FUND'S EXPENSES 17 FINANCIAL STATEMENTS SUMMARY - The six Vanguard Target Retirement Funds got off to a strong start: Returns for their first four months of existence ranged from 5.1% for the most conservative offering to 11.5% for the most aggressive. - The stock and bond markets turned in solid performances across the board, with international stocks gaining the most by far during the period. - The Target Retirement Funds performed in line with their benchmarks, which are weighted to reflect the asset allocation of each fund. Want less clutter in your mailbox? Just register with Vanguard.com and opt to get fund reports online. LETTER FROM THE CHAIRMAN Dear Shareholder, Welcome to the semiannual report for Vanguard's newest funds for retirement savers: Vanguard Target Retirement Funds. The funds got off to a good start during their first four months, when international stocks soared, domestic stocks posted robust returns, and bonds put up respectable numbers. Our six Target Retirement Funds performed in line with their respective allocations to these asset classes. [PICTURES OF JOHN J. BRENNAN] During the period, returns ranged from 5.1% for the Target Retirement Income Fund to 11.5% for the Target Retirement 2045 Fund, which benefited from its heavier weightings in domestic and international stocks. The Income Fund, which is designed for retirees who need a relatively stable source of income, has a conservative asset allocation, while the 2045 Fund, aimed at investors with a long time horizon, has the most aggressive allocation among the six funds. The table on page 2 compares the total returns (capital change plus ~reinvested distributions) of the funds and their benchmarks, which are weighted to reflect the appropriate asset allocation. The table on page 6 presents the funds' starting and ending net asset values, distributions for the period, and annualized yields as of February 29. Yields ranged from 3.30% on the Target Retirement Income Fund, with its heavy bond allocation, to 1.62% for the Target Retirement 2045 Fund. STOCKS CONTINUED THEIR COMEBACK As the fiscal half-year got under way last September, the U.S. stock market was in the midst of a strong advance. The gains continued throughout the period, buoyed by a steady flow of positive corporate earnings reports and economic data that suggested the national economy was continuing to mend. 1 During the six months, the U.S. stock market, as measured by the Wilshire 5000 Total Market Index, returned 15.3%. The Russell 2000 Index, a proxy for small-capitalization stocks, returned 18.3%, outpacing the mid- to large-cap stocks in the Russell 1000 Index, which returned 14.8%. Across the market-cap spectrum, value-oriented stocks (those that generally trade at below-market valuations relative to their book values) outpaced growth stocks (those expected to produce above-average earnings growth). -------------------------------------------------------------------------------- Total Returns October 27, 2003,* through February 29, 2004 -------------------------------------------------------------------------------- Vanguard Target Retirement Income Fund 5.1% Target Income Composite Index** 5.2 -------------------------------------------------------------------------------- Vanguard Target Retirement 2005 Fund 6.7% Target 2005 Composite Index** 6.8 -------------------------------------------------------------------------------- Vanguard Target Retirement 2015 Fund 7.8% Target 2015 Composite Index** 7.9 -------------------------------------------------------------------------------- Vanguard Target Retirement 2025 Fund 8.8% Target 2025 Composite Index** 8.9 -------------------------------------------------------------------------------- Vanguard Target Retirement 2035 Fund 10.5% Target 2035 Composite Index** 10.7 -------------------------------------------------------------------------------- Vanguard Target Retirement 2045 Fund 11.5% Target 2045 Composite Index** 11.7 -------------------------------------------------------------------------------- * Inception. ** Returns for the composite indexes are derived by applying the funds' target allocations to the results of the following benchmarks: for U.S. stocks, the Wilshire 5000 Index; for international stocks, the Morgan Stanley Capital International Europe, Australasia, Far East Index; for bonds, the Lehman Brothers Aggregate Bond Index and the Lehman Treasury Inflation Notes Index; for short-term reserves, the Citigroup 3-Month Treasury Bill Index. International equities continued to provide generous gains for U.S.-based investors. Returns from European markets were generally stronger than those from Pacific markets, and returns from emerging markets were outstanding. The continued decline in the U.S. dollar's relative value transformed respectable local-currency results into impressive dollar-denominated returns. AS INTEREST RATES REMAINED LOW, INVESTORS SOUGHT OUT RISKIER BONDS In the fixed income markets, demand for U.S. Treasury issues remained strong, boosting the price of the 10-year Treasury note while reducing its yield from 4.46% at the start of the period to 3.97% by February 29. However, the low level of market rates in general, together with signs of a strengthening economy, sent many investors searching for the higher yields to be obtained from riskier bonds. As a result, returns of corporate bonds exceeded those of government bonds with similar maturities. The Lehman Brothers High Yield Bond Index, a benchmark of below-investment-grade bonds, recorded a six-month return of 10.6%, while the Lehman Aggregate Bond 2 Index, a measure of the taxable investment-grade bond market, returned 4.9%. Short-term interest rates remained low and stable, fluctuating within a tight range of 0.91% to 0.97% throughout the six months. The 3-month Treasury bill, a proxy for money market rates, ended the fiscal half-year with a yield of 0.94%, just 3 basis points below its initial 0.97% yield. THE FUNDS ARE ON TARGET The Target Retirement Funds are designed for people at different stages of the investment journey, from those in their 20s who do not expect to retire for four decades to those already in retirement. Each fund invests in up to four other Vanguard stock, bond, and money market funds, using an asset weighting that is appropriate for the targeted time horizon. With the exception of the Target Retirement Income Fund, those weightings will shift toward a more income-oriented allocation as retirement nears. Returns for the six Target Retirement Funds had a stair-step pattern, reflecting the funds' exposure to stocks, the best-performing asset class during the period. The Target Retirement 2045 Fund had an initial stock weighting of 90%, including 18% in international stocks. Those allocations drove its strong 11.5% gain during the period. A step down to an 80% stock weighting (16% international) produced a 10.5% return for the Target Retirement 2035 Fund. The funds aimed at retirement in 2025, 2015, and 2005 returned 8.8%, 7.8%, and 6.7%, respectively. -------------------------------------------------------------------------------- MARKET BAROMETER TOTAL RETURNS PERIODS ENDED FEBRUARY 29, 2004 ------------------------------- SIX ONE FIVE MONTHS YEAR YEARS* -------------------------------------------------------------------------------- STOCKS Russell 1000 Index (Large-caps) 14.8% 39.7% 0.5% Russell 2000 Index (Small-caps) 18.3 64.4 9.8 Wilshire 5000 Index (Entire market) 15.3 42.5 1.2 MSCIAll Country World Index ex USA (International) 25.4 55.9 2.9 -------------------------------------------------------------------------------- BONDS Lehman Aggregate Bond Index 4.9% 4.5% 7.2% (Broad taxable market) Lehman Municipal Bond Index 6.5 6.3 6.1 Citigroup 3-Month Treasury Bill Index 0.5 1.0 3.4 ================================================================================ CPI Consumer Price Index 0.9% 1.7% 2.5% -------------------------------------------------------------------------------- *Annualized. The most conservative of the six, the Target Retirement Income Fund, devotes the bulk of its assets to bond funds: It had weightings of 20% in Vanguard(R) Total Stock Market Index Fund, 5% in Vanguard(R) Prime Money Market Fund, 50% in Vanguard(R) Total Bond Market Index Fund, and 25% in Vanguard(R) Inflation-Protected Securities 3 -------------------------------------------------------------------------------- ASSET ALLOCATIONS AT INCEPTION* AND ON FEBRUARY 29, 2004 SHORT-TERM STOCKS** BONDS RESERVES ---------------- ---------------- ----------------- TARGET RETIREMENT FUND INITIAL FEB. 29 INITIAL FEB. 29 INITIAL FEB. 29 -------------------------------------------------------------------------------- Income 20% 20% 75% 75% 5% 5% 2005 35 35 65 65 0 0 2015 50 50 50 50 0 0 2025 60 60 40 40 0 0 2035 80 80 20 20 0 0 2045 90 90 10 10 0 0 -------------------------------------------------------------------------------- * October 27, 2003. ** As of February 29, international stock weightings for the 2015, 2025, 2035, and 2045 Funds were 10%, 12%, 16%, and 18% of assets, respectively. + Allocations do not change. Fund. The Target Retirement Income Fund's 5.1% return reflected the strong demand for bonds during the period, as investors favored both Treasury and corporate bonds. The initial and period-end weightings of each fund are shown in the table above. A SIMPLE METHOD OF SOPHISTICATED INVESTING Vanguard's Target Retirement Funds are designed to meet two critical needs that we think every retirement investor should address: - Allocating across asset classes. Because the stock and bond markets don't always perform in the same way at the same time, investing in both of them provides a buffer for your portfolio when either market is out of favor. - Rebalancing your portfolio. As you approach retirement, you will want a portfolio that is less volatile and produces more income. The Target Retirement Funds allow investors to pick a fund that is allocated appropriately for someone their age-and then let Vanguard's professionals adjust the fund's allocation on a predetermined schedule. Once the targeted retirement date is reached, a fund's allocation will be similar to that of the Target Retirement Income Fund, which, in addition to being income-oriented, has an inflation-fighting component. As an investor in one of the Target Retirement Funds, you're benefiting from some of the best tools available: a low-cost, indexed approach; diversification across and within asset classes; sophisticated investment methodology; and automatic rebalancing of your portfolio as you 4 progress toward retirement. It's worth noting that Vanguard Target Retirement Funds charge no fees beyond those associated with the underlying funds they invest in-already among the lowest fees in the industry. Many funds of funds elsewhere charge two layers of fees. THE BEST SOLUTION TO UNCERTAINTY IS OFTEN THE SIMPLEST ONE A three-year bear market in stocks followed by a year-long rally may have left many investors scratching their heads about how to invest for retirement. An election year, terrorism, uncertainty over inflation, market volatility-all may seem to argue for seeking out a safe harbor. But the traditionally safe waters of bonds look a little choppy now, with recent returns well in excess of historical averages, and with the looming potential for higher interest rates. -------------------------------------------------------------------------------- TOTAL RETURNS OCTOBER 27, 2003, THROUGH FEBRUARY 29, 2004 -------------------------------------------------------------------------------- VANGUARD MUTUAL FUND VANGUARD TARGET RETIREMENT FUND FUND AVERAGE* ADVANTAGE -------------------------------------------------------------------------------- Income 5.1% 4.8% +0.3% 2005 6.7 6.3 +0.4 2015 7.8 7.3 +0.5 2025 8.8 8.2 +0.6 2035 10.5 9.9 +0.6 2045 11.5 10.8 +0.7 -------------------------------------------------------------------------------- * Each average is a blended composite that weights the return of the average comparable mutual fund for each asset class in proportion with the target weightings of the Target Retirement Funds. Average returns for funds are derived from data provided by Lipper Inc. The important thing to remember is that no one can foretell what the markets will do in the short term. For this reason, we believe that the prudent course is to stick with a balanced investment plan, diversified across asset classes in proportions appropriate for your situation. The Target Retirement Funds provide a convenient and low-cost means to pursue such a plan. Thank you for entrusting your hard-earned money to us. Sincerely, /S/JOHN J. BRENNAN JOHN J. BRENNAN CHAIRMAN AND CHIEF EXECUTIVE OFFICER MARCH 15, 2004 5 -------------------------------------------------------------------------------- YOUR FUND'S PERFORMANCE AT A GLANCE OCTOBER 27, 2003*-FEBRUARY 29, 2004 DISTRIBUTIONS PER SHARE ----------------------- STARTING ENDING INCOME CAPITAL SEC TARGET RETIREMENT FUND SHARE PRICE SHARE PRICE DIVIDENDS GAINS YIELD** -------------------------------------------------------------------------------- Income $10.00 $10.44 $0.055 $0.015 3.30% 2005 10.00 10.60 0.055 0.010 3.09 2015 10.00 10.72 0.060 0.000 2.78 2025 10.00 10.82 0.060 0.000 2.50 2035 10.00 10.98 0.065 0.000 1.91 2045 10.00 11.08 0.070 0.000 1.62 -------------------------------------------------------------------------------- *Inception date. **30-day advertised yield net of expenses at month-end. 6 -------------------------------------------------------------------------------- FUND PROFILES AS OF 2/29/2004 These Profiles provide snapshots of each fund's characteristics, along with the funds' allocations to various asset classes and to underlying Vanguard funds. Key terms are defined on page 13. -------------------------------------------------------------------------------- TARGET RETIREMENT INCOME FUND -------------------------------------------------------------------------------- FINANCIAL ATTRIBUTES Yield 3.3% Expense Ratio 0% Average Weighted Expense Ratio* 0.21% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- ALLOCATION TO UNDERLYING VANGUARD FUNDS Total Bond Market Index Fund 50.0% Inflation-Protected Securities Fund 25.1 Total Stock Market Index Fund 19.9 Prime Money Market Fund 5.0 -------------------------------------------------------------------------------- Total 100.0% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- EQUITY INVESTMENT FOCUS MARKET CAP LARGE STYLE BLEND -------------------------------------------------------------------------------- FIXED INCOME INVESTMENT FOCUS CREDIT QUALITY TREASURY/AGENCY AVERAGE MATURITY MEDIUM -------------------------------------------------------------------------------- FUND ASSET ALLOCATION BONDS 75% STOCKS 20% SHORT-TERM RESERVES 5% -------------------------------------------------------------------------------- *For underlying funds; annualized. 7 FUND PROFILES (CONTINUED) TARGET RETIREMENT 2005 FUND -------------------------------------------------------------------------------- Financial Attributes Yield 3.1% Expense Ratio 0% Average Weighted Expense Ratio* 0.21% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- ALLOCATION TO UNDERLYING VANGUARD FUNDS Total Bond Market Index Fund 50.2% Total Stock Market Index Fund 34.8 Inflation-Protected Securities Fund 15.0 -------------------------------------------------------------------------------- Total 100.0% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- EQUITY INVESTMENT FOCUS MARKET CAP LARGE STYLE BLEND -------------------------------------------------------------------------------- FIXED INCOME INVESTMENT FOCUS CREDIT QUALITY TREASURY/AGENCY AVERAGE MATURITY MEDIUM -------------------------------------------------------------------------------- FUND ASSET ALLOCATION BONDS 65% STOCKS 35% -------------------------------------------------------------------------------- *For underlying funds; annualized. 8 TARGET RETIREMENT 2015 FUND -------------------------------------------------------------------------------- FINANCIAL ATTRIBUTES Yield 2.8% Expense Ratio 0% Average Weighted Expense Ratio* 0.22% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- ALLOCATION TO UNDERLYING VANGUARD FUNDS Total Bond Market Index Fund 50.2% Total Stock Market Index Fund 39.7 European Stock Index Fund 7.2 Pacific Stock Index Fund 2.9 -------------------------------------------------------------------------------- Total 100.0% -------------------------------------------------------------------------------- EQUITY INVESTMENT FOCUS MARKET CAP LARGE STYLE BLEND -------------------------------------------------------------------------------- FIXED INCOME INVESTMENT FOCUS CREDIT QUALITY TREASURY/AGENCY AVERAGE MATURITY MEDIUM -------------------------------------------------------------------------------- FUND ASSET ALLOCATION BONDS 50% STOCKS 50% -------------------------------------------------------------------------------- *For underlying funds; annualized. 9 FUND PROFILES (CONTINUED) TARGET RETIREMENT 2025 FUND -------------------------------------------------------------------------------- FINANCIAL ATTRIBUTES Yield 2.5% Expense Ratio 0% Average Weighted Expense Ratio* 0.22% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- ALLOCATION TO UNDERLYING VANGUARD FUNDS Total Stock Market Index Fund 47.5% Total Bond Market Index Fund 40.4 European Stock Index Fund 8.6 Pacific Stock Index Fund 3.5 -------------------------------------------------------------------------------- Total 100.0% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- EQUITY INVESTMENT FOCUS MARKET CAP LARGE STYLE BLEND -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- FIXED INCOME INVESTMENT FOCUS CREDIT QUALITY TREASURY/AGENCY AVERAGE MATURITY MEDIUM -------------------------------------------------------------------------------- FUND ASSET ALLOCATION BONDS 40% STOCKS 60% -------------------------------------------------------------------------------- *For underlying funds; annualized. 10 TARGET RETIREMENT 2035 FUND -------------------------------------------------------------------------------- Financial Attributes Yield 1.9% Expense Ratio 0% Average Weighted Expense Ratio* 0.23% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- Allocation to Underlying Vanguard Funds Total Stock Market Index Fund 63.8% Total Bond Market Index Fund 20.1 European Stock Index Fund 11.5 Pacific Stock Index Fund 4.6 -------------------------------------------------------------------------------- Total 100.0% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- EQUITY INVESTMENT FOCUS MARKET CAP LARGE STYLE BLEND -------------------------------------------------------------------------------- FIXED INCOME INVESTMENT FOCUS CREDIT QUALITY TREASURY/AGENCY AVERAGE MATURITY MEDIUM -------------------------------------------------------------------------------- FUND ASSET ALLOCATION BONDS 20% STOCKS 80% -------------------------------------------------------------------------------- *For underlying funds; annualized. 11 FUND PROFILES (CONTINUED) TARGET RETIREMENT 2045 FUND -------------------------------------------------------------------------------- FINANCIAL ATTRIBUTES Yield 1.6% Expense Ratio 0% Average Weighted Expense Ratio* 0.23% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- ALLOCATION TO UNDERLYING VANGUARD FUNDS Total Stock Market Index Fund 71.9% European Stock Index Fund 12.9 Total Bond Market Index Fund 10.0 Pacific Stock Index Fund 5.2 -------------------------------------------------------------------------------- Total 100.0% -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- EQUITY INVESTMENT FOCUS MARKET CAP LARGE STYLE BLEND -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- FIXED INCOME INVESTMENT FOCUS CREDIT QUALITY TREASURY/AGENCY AVERAGE MATURITY MEDIUM -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- FUND ASSET ALLOCATION BONDS 10% STOCKS 90% -------------------------------------------------------------------------------- *For underlying funds; annualized. 12 -------------------------------------------------------------------------------- GLOSSARY OF INVESTMENT TERMS -------------------------------------------------------------------------------- AVERAGE WEIGHTED EXPENSE RATIO. Funds that invest in other Vanguard funds incur no direct expenses, but do bear proportionate shares of the operating, administrative, and advisory expenses of the underlying funds. The average weighted expense ratio is the average of these expense ratios, weighted in proportion to the amount of the fund invested in each underlying fund. -------------------------------------------------------------------------------- EXPENSE RATIO. The percentage of a fund's average net assets used to pay its annual administrative and advisory expenses. These expenses directly reduce returns to investors. -------------------------------------------------------------------------------- YIELD. A snapshot of a fund's income from interest and dividends. The yield, expressed as a percentage of the fund's net asset value, is based on income earned over the past 30 days and is annualized, or projected forward for the coming year. -------------------------------------------------------------------------------- 13 -------------------------------------------------------------------------------- PERFORMANCE SUMMARIES AS OF 2/29/2004 ALL OF THE RETURNS IN THIS REPORT REPRESENT PAST PERFORMANCE, WHICH IS NOT A GUARANTEE OF FUTURE RESULTS THAT MAY BE ACHIEVED BY THE FUNDS. (FOR THE MOST RECENT PERFORMANCE, WHICH MAY BE HIGHER OR LOWER THAN THAT CITED, VISIT OUR WEBSITE AT WWW.VANGUARD.COM.) NOTE, TOO, THAT BOTH INVESTMENT RETURNS AND PRINCIPAL VALUE CAN FLUCTUATE WIDELY, SO AN INVESTOR'S SHARES, WHEN SOLD, COULD BE WORTH MORE OR LESS THAN THEIR ORIGINAL COST. The returns in this report do not reflect taxes that a shareholder would pay on fund distributions or on the sale of fund shares. -------------------------------------------------------------------------------- TARGET RETIREMENT INCOME FUND -------------------------------------------------------------------------------- FISCAL-PERIOD TOTAL RETURNS (%) OCTOBER 27, 2003*-FEBRUARY 29, 2004 -------------------------------------------------------------------------------- TARGET RETIREMENT TARGET INCOME FUND INCOME COMPOSITE INDEX** FISCAL CAPITAL INCOME TOTAL TOTAL PERIOD RETURN RETURN RETURN RETURN -------------------------------------------------------------------------------- 2004 4.6% 0.5% 5.1% 5.2% -------------------------------------------------------------------------------- * Inception. ** 50%Lehman Aggregate Bond Index, 35% Wilshire 5000 Index, and 15% Lehman Treasury Inflation Notes Index. Note: See Financial Highlights table on page 27 for dividend and capital gains information. TARGET RETIREMENT 2005 FUND -------------------------------------------------------------------------------- FISCAL-PERIOD TOTAL RETURNS (%) OCTOBER 27, 2003*-FEBRUARY 29, 2004 -------------------------------------------------------------------------------- TARGET RETIREMENT TARGET 2005 2005 FUND COMPOSITE INDEX** FISCAL CAPITAL INCOME TOTAL TOTAL PERIOD RETURN RETURN RETURN RETURN -------------------------------------------------------------------------------- 2004 6.1% 0.6% 6.7% 6.8% -------------------------------------------------------------------------------- * Inception. ** 50% Lehman Aggregate Bond Index, 25% Lehman Treasury Inflation Notes Index, 20% Wilshire 5000 Index, and 5% Citigroup 3-Month Treasury Bill Index. Note: See Financial Highlights table on page 27 for dividend and capital gains information. TARGET RETIREMENT 2015 FUND -------------------------------------------------------------------------------- FISCAL-PERIOD TOTAL RETURNS (%) OCTOBER 27, 2003*-FEBRUARY 29, 2004 -------------------------------------------------------------------------------- TARGET RETIREMENT TARGET 2015 2015 FUND COMPOSITE INDEX** FISCAL CAPITAL INCOME TOTAL TOTAL PERIOD RETURN RETURN RETURN RETURN -------------------------------------------------------------------------------- 2004 7.2% 0.6% 7.8% 7.9% -------------------------------------------------------------------------------- * Inception. ** 50% Lehman Aggregate Bond Index, 40% Wilshire 5000 Index, and 10% MSCI EAFE Index. Note: See Financial Highlights table on page 28 for dividend and capital gains information. TARGET RETIREMENT 2025 FUND -------------------------------------------------------------------------------- FISCAL-PERIOD TOTAL RETURNS (%) OCTOBER 27, 2003*-FEBRUARY 29, 2004 -------------------------------------------------------------------------------- TARGET RETIREMENT TARGET 2025 2025 FUND COMPOSITE INDEX** FISCAL CAPITAL INCOME TOTAL TOTAL PERIOD RETURN RETURN RETURN RETURN -------------------------------------------------------------------------------- 2004 8.2% 0.6% 8.8% 8.9% -------------------------------------------------------------------------------- * Inception. ** 48% Wilshire 5000 Index, 40% Lehman Aggregate Bond Index, and 12% MSCI EAFE Index. Note: See Financial Highlights table on page 28 for dividend and capital gains information. 14 TARGET RETIREMENT 2035 FUND -------------------------------------------------------------------------------- FISCAL-PERIOD TOTAL RETURNS (%) OCTOBER 27, 2003*-FEBRUARY 29, 2004 -------------------------------------------------------------------------------- TARGET RETIREMENT TARGET 2035 2035 FUND COMPOSITE INDEX** FISCAL CAPITAL INCOME TOTAL TOTAL PERIOD RETURN RETURN RETURN RETURN -------------------------------------------------------------------------------- 2004 9.8% 0.7% 10.5% 10.7% -------------------------------------------------------------------------------- * Inception. ** 64% Wilshire 5000 Index, 20% Lehman Aggregate Bond Index, and 16% MSCI EAFE Index. Note: See Financial Highlights table on page 29 for dividend and capital gains information. TARGET RETIREMENT 2045 FUND -------------------------------------------------------------------------------- FISCAL-PERIOD TOTAL RETURNS (%) OCTOBER 27, 2003*-FEBRUARY 29, 2004 -------------------------------------------------------------------------------- TARGET RETIREMENT TARGET 2045 2045 FUND COMPOSITE INDEX** FISCAL CAPITAL INCOME TOTAL TOTAL PERIOD RETURN RETURN RETURN RETURN -------------------------------------------------------------------------------- 2004 10.8% 0.7% 11.5% 11.7% -------------------------------------------------------------------------------- * Inception. ** 72% Wilshire 5000 Index, 18% MSCI EAFE Index, and 10% Lehman Aggregate Bond Index. Note: See Financial Highlights table on page 29 for dividend and capital gains information. -------------------------------------------------------------------------------- TOTAL RETURNS FOR PERIOD ENDED DECEMBER 31, 2003 This table presents total returns through the latest calendar quarterNrather than through the end of the fiscal period. Securities and Exchange Commission rules require that we provide this information. SINCE INCEPTION ------------------------- INCEPTION DATE CAPITAL INCOME TOTAL -------------------------------------------------------------------------------- Target Retirement Income Fund 10/27/2003 1.95% 0.55% 2.50% Target Retirement 2005 Fund 10/27/2003 3.20 0.55 3.75 Target Retirement 2015 Fund 10/27/2003 4.30 0.61 4.91 Target Retirement 2025 Fund 10/27/2003 5.10 0.61 5.71 Target Retirement 2035 Fund 10/27/2003 6.30 0.66 6.96 Target Retirement 2045 Fund 10/27/2003 7.10 0.71 7.81 -------------------------------------------------------------------------------- 15 -------------------------------------------------------------------------------- ABOUT YOUR FUND'S EXPENSES -------------------------------------------------------------------------------- All mutual funds have operating expenses. These expenses include costs for portfolio management, administrative services, and shareholder reports (like this one), among others. Operating expenses, which are deducted from a fund's gross income, directly reduce the investment return of the fund. A fund's expenses are expressed as a percentage of its net assets. This figure is known as the expense ratio. A HYPOTHETICAL EXAMPLE We believe it is important for you to understand the impact of costs on your investment. The following example illustrates the costs you would have incurred if you had invested $10,000 in your fund at inception, using the fund's actual return and operating expenses for the fiscal period ended February 29, 2004. Note that the Target Retirement Funds do not incur direct expenses, but each fund bears its proportionate share of the expenses of the underlying funds in which it invests. These indirect expenses make up the fund's average weighted expense ratio. The cost in dollars is calculated by applying the average weighted expense ratio to the average balance in the hypothetical account. For comparative purposes, we also show the average expense ratio for each fund's peer group, which is derived from data provided by Lipper Inc.
-------------------------------------------------------------------------------------------------- October 27, 2003,* Annualized Fund Expenses Through February 29, 2004 Versus Peer Group Expenses ------------------------- -------------------------------------------------------- Cost of $10,000 Fund Average Weighted Peer Group Investment in Fund Expense Ratio Expense Ratio** Expense Ratio+ -------------------------------------------------------------------------------------------------- Target Retirement Fund Income Fund $7 0.00% 0.21% 1.12% 2005 Fund 7 0.00 0.21 1.20 2015 Fund 8 0.00 0.22 1.29 2025 Fund 8 0.00 0.22 1.35 2035 Fund 8 0.00 0.23 1.47 2045 Fund 8 0.00 0.23 1.53 --------------------------------------------------------------------------------------------------
* Inception. ** For underlying funds; annualized. + Peer groups are (from top to bottom) the Target Retirement Income Average, the Target Retirement 2005 Average, the Target Retirement 2015 Average, the Target Retirement 2025 Average, the Target Retirement 2035 Average, and the Target Retirement 2045 Average. Each average is a blended composite that weights the return of the average comparable mutual fund for each asset class in proportion with the target weighting of the appropriate Target Retirement fund. Calculations assume that no shares were sold. Your actual costs may have been higher or lower, depending on the amount of your investment and your holding period. Peer-group ratios capture data through year-end 2003. For additional information on operating expenses and other shareholder costs, please refer to the funds' prospectus. The prospectus presents hypothetical shareholder costs over various time periods based upon a $10,000 investment and a return of 5% a year. This standardized example, which appears in all mutual fund prospectuses, may be useful to you in comparing the costs of investing in different funds. 16 -------------------------------------------------------------------------------- AS OF 2/29/2004 FINANCIAL STATEMENTS (UNAUDITED) -------------------------------------------------------------------------------- STATEMENT OF NET ASSETS This Statement provides a detailed list of each fund's investments in shares of each Vanguard fund, along with the value of each investment on the last day of the reporting period. Other assets are added to, and liabilities are subtracted from, the value of Total Investments to calculate the fund's Net Assets. Finally, Net Assets are divided by the outstanding shares of the fund to arrive at its share price, or Net Asset Value (NAV) Per Share. At the end of the Statement of Net Assets, you will find a table displaying the composition of the fund's net assets. Because all income and any realized gains must be distributed to shareholders each year, the bulk of net assets consists of Paid-in Capital (money invested by shareholders). The amounts shown for Undistributed Net Investment Income and Accumulated Net Realized Gains usually approximate the sums the fund had available to distribute to shareholders as income dividends or capital gains as of the statement date. Any Accumulated Net Realized Losses, and any cumulative excess of distributions over net income or net realized gains, will appear as negative balances. Unrealized Appreciation (Depreciation) is the difference between the market value of the fund's investments and their cost, and reflects the gains (losses) that would be realized if the fund were to sell all of its investments at their statement-date values. -------------------------------------------------------------------------------- MARKET VALUE* TARGET RETIREMENT INCOME FUND SHARES (000) -------------------------------------------------------------------------------- INVESTMENT COMPANIES (100.1%) -------------------------------------------------------------------------------- STOCK FUNDS (19.9%) Vanguard Total Stock Market Index Fund Investor Shares 780,772 21,042 Vanguard Total Stock Market Index Fund VIPER Shares 9,279 1,028 BOND FUNDS (75.2%) Vanguard Total Bond Market Index Fund Investor Shares 5,337,431 55,670 Vanguard Inflation-Protected Securities Fund Investor Shares 2,207,701 27,883 MONEY MARKET FUND (5.0%) Vanguard Prime Money Market Fund Investor Shares 5,536,096 5,536 -------------------------------------------------------------------------------- TOTAL INVESTMENT COMPANIES (Cost $109,301) 111,159 -------------------------------------------------------------------------------- FACE AMOUNT (000) -------------------------------------------------------------------------------- TEMPORARY CASH INVESTMENT -------------------------------------------------------------------------------- REPURCHASE AGREEMENT Collateralized by U.S. Government Obligations in a Pooled Cash Account 1.038%, 3/1/2004 (Cost $4) $4 4 -------------------------------------------------------------------------------- TOTAL INVESTMENTS (100.1%) (Cost $109,305) 111,163 -------------------------------------------------------------------------------- 17 -------------------------------------------------------------------------------- MARKET VALUE* TARGET RETIREMENT INCOME FUND (000) -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (-0.1%) -------------------------------------------------------------------------------- Other Assets $ 1,324 Liabilities (1,393) --------- (69) --------- -------------------------------------------------------------------------------- NET ASSETS (100%) -------------------------------------------------------------------------------- Applicable to 10,640,259 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $111,094 ================================================================================ NET ASSET VALUE PER SHARE $10.44 ================================================================================ * See Note A in Notes to Financial Statements. -------------------------------------------------------------------------------- AT FEBRUARY 29, 2004, NET ASSETS CONSISTED OF: -------------------------------------------------------------------------------- AMOUNT PER (000) SHARE -------------------------------------------------------------------------------- Paid-in Capital $108,893 $10.24 Undistributed Net Investment Income 308 .03 Accumulated Net Realized Gains 35 - Unrealized Appreciation 1,858 .17 -------------------------------------------------------------------------------- NET ASSETS $111,094 $10.44 ================================================================================ See Note C in Notes to Financial Statements for the tax-basis components of net assets. 18 -------------------------------------------------------------------------------- MARKET VALUE* TARGET RETIREMENT 2005 FUND SHARES (000) -------------------------------------------------------------------------------- INVESTMENT COMPANIES (100.1%) -------------------------------------------------------------------------------- STOCK FUNDS (34.8%) Vanguard Total Stock Market Index Fund Investor Shares 1,130,777 $30,474 Vanguard Total Stock Market Index Fund VIPER Shares 11,456 1,269 BOND FUNDS (65.3%) Vanguard Total Bond Market Index Fund Investor Shares 4,390,657 45,795 Vanguard Inflation-Protected Securities Fund Investor Shares 1,087,557 13,736 -------------------------------------------------------------------------------- TOTAL INVESTMENTS (Cost $89,458) 91,274 -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (-0.1%) -------------------------------------------------------------------------------- Other Assets 964 Liabilities (1,023) -------- (59) -------- -------------------------------------------------------------------------------- NET ASSETS (100%) -------------------------------------------------------------------------------- Applicable to 8,608,293 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $91,215 ================================================================================ NET ASSET VALUE PER SHARE $10.60 ================================================================================ *See Note A in Notes to Financial Statements. -------------------------------------------------------------------------------- AT FEBRUARY 29, 2004, NET ASSETS CONSISTED OF: -------------------------------------------------------------------------------- AMOUNT PER (000) SHARE -------------------------------------------------------------------------------- Paid-in Capital $ 89,150 $10.36 Undistributed Net Investment Income 236 .03 Accumulated Net Realized Gains 13 - Unrealized Appreciation 1,816 .21 -------------------------------------------------------------------------------- NET ASSETS $91,215 $10.60 ================================================================================ See Note C in Notes to Financial Statements for the tax-basis components of net assets. 19 -------------------------------------------------------------------------------- MARKET VALUE* TARGET RETIREMENT 2015 FUND SHARES (000) -------------------------------------------------------------------------------- INVESTMENT COMPANIES (99.9%) -------------------------------------------------------------------------------- STOCK FUNDS (49.7%) Vanguard Total Stock Market Index Fund Investor Shares 2,155,559 $58,092 Vanguard European Stock Index Fund Investor Shares 481,071 11,017 Vanguard Pacific Stock Index Fund Investor Shares 540,100 4,461 Vanguard Total Stock Market Index Fund VIPER Shares 26,741 2,962 BOND FUND (50.2%) Vanguard Total Bond Market Index Fund Investor Shares 7,415,859 77,347 -------------------------------------------------------------------------------- TOTAL INVESTMENTS (Cost $150,784) 153,879 -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (0.1%) -------------------------------------------------------------------------------- Other Assets 4,059 Liabilities (3,896) -------- 163 -------- -------------------------------------------------------------------------------- NET ASSETS (100%) -------------------------------------------------------------------------------- Applicable to 14,374,231 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $154,042 ================================================================================ NET ASSET VALUE PER SHARE $10.72 ================================================================================ *See Note A in Notes to Financial Statements. -------------------------------------------------------------------------------- AT FEBRUARY 29, 2004, NET ASSETS CONSISTED OF: -------------------------------------------------------------------------------- AMOUNT PER (000) SHARE -------------------------------------------------------------------------------- Paid-in Capital $150,562 $10.47 Undistributed Net Investment Income 384 .03 Accumulated Net Realized Gains 1 - Unrealized Appreciation 3,095 .22 -------------------------------------------------------------------------------- NET ASSETS $154,042 $10.72 ================================================================================ See Note C in Notes to Financial Statements for the tax-basis components of net assets. 20 -------------------------------------------------------------------------------- MARKET VALUE* TARGET RETIREMENT 2025 FUND SHARES (000) -------------------------------------------------------------------------------- INVESTMENT COMPANIES (99.8%) -------------------------------------------------------------------------------- STOCK FUNDS (59.5%) Vanguard Total Stock Market Index Fund Investor Shares 2,063,535 $55,612 Vanguard European Stock Index Fund Investor Shares 458,379 10,497 Vanguard Pacific Stock Index Fund Investor Shares 511,049 4,221 Vanguard Total Stock Market Index Fund VIPER Shares 19,992 2,215 BOND FUND (40.3%) Vanguard Total Bond Market Index Fund Investor Shares 4,708,476 49,109 -------------------------------------------------------------------------------- TOTAL INVESTMENTS (Cost $119,131) 121,654 -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (0.2%) -------------------------------------------------------------------------------- Other Assets 2,311 Liabilities (2,035) -------- 276 ------- -------------------------------------------------------------------------------- NET ASSETS (100%) -------------------------------------------------------------------------------- Applicable to 11,269,237 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $121,930 ================================================================================ NET ASSET VALUE PER SHARE $10.82 ================================================================================ *See Note A in Notes to Financial Statements. -------------------------------------------------------------------------------- AT FEBRUARY 29, 2004, NET ASSETS CONSISTED OF: -------------------------------------------------------------------------------- AMOUNT PER (000) SHARE -------------------------------------------------------------------------------- Paid-in Capital $119,157 $10.58 Undistributed Net Investment Income 251 .02 Accumulated Net Realized Losses (1) - Unrealized Appreciation 2,523 .22 -------------------------------------------------------------------------------- NET ASSETS $121,930 $10.82 ================================================================================ See Note C in Notes to Financial Statements for the tax-basis components of net assets. 21 -------------------------------------------------------------------------------- MARKET VALUE* TARGET RETIREMENT 2035 FUND SHARES (000) -------------------------------------------------------------------------------- INVESTMENT COMPANIES (99.6%) -------------------------------------------------------------------------------- STOCK FUNDS (79.6%) Vanguard Total Stock Market Index Fund Investor Shares 1,200,991 $32,367 Vanguard European Stock Index Fund Investor Shares 267,846 6,134 Vanguard Pacific Stock Index Fund Investor Shares 298,438 2,465 Vanguard Total Stock Market Index Fund VIPER Shares 15,019 1,664 BOND FUND (20.0%) Vanguard Total Bond Market Index Fund Investor Shares 1,025,065 10,691 -------------------------------------------------------------------------------- TOTAL INVESTMENTS (Cost $51,897) 53,321 -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (0.4%) -------------------------------------------------------------------------------- Other Assets 1,372 Liabilities (1,166) -------- 206 -------- -------------------------------------------------------------------------------- NET ASSETS (100%) -------------------------------------------------------------------------------- Applicable to 4,873,005 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $53,527 ================================================================================ NET ASSET VALUE PER SHARE $10.98 ================================================================================ *See Note A in Notes to Financial Statements. -------------------------------------------------------------------------------- AT FEBRUARY 29, 2004, NET ASSETS CONSISTED OF: -------------------------------------------------------------------------------- AMOUNT PER (000) SHARE -------------------------------------------------------------------------------- Paid-in Capital $52,056 $10.68 Undistributed Net Investment Income 46 .01 Accumulated Net Realized Gains 1 - Unrealized Appreciation 1,424 .29 -------------------------------------------------------------------------------- NET ASSETS $53,527 $10.98 ================================================================================ See Note C in Notes to Financial Statements for the tax-basis components of net assets. 22 -------------------------------------------------------------------------------- MARKET VALUE* TARGET RETIREMENT 2045 FUND SHARES (000) -------------------------------------------------------------------------------- INVESTMENT COMPANIES (99.8%) -------------------------------------------------------------------------------- STOCK FUNDS (89.8%) Vanguard Total Stock Market Index Fund Investor Shares 557,259 $15,018 Vanguard European Stock Index Fund Investor Shares 123,801 2,835 Vanguard Pacific Stock Index Fund Investor Shares 138,540 1,144 Vanguard Total Stock Market Index Fund VIPER Shares 7,063 783 BOND FUND (10.0%) Vanguard Total Bond Market Index Fund Investor Shares 211,377 2,205 -------------------------------------------------------------------------------- TOTAL INVESTMENTS (Cost $21,389) 21,985 -------------------------------------------------------------------------------- OTHER ASSETS AND LIABILITIES (0.2%) -------------------------------------------------------------------------------- Other Assets 377 Liabilities (344) -------- 33 -------- -------------------------------------------------------------------------------- NET ASSETS (100%) -------------------------------------------------------------------------------- Applicable to 1,986,950 outstanding $.001 par value shares of beneficial interest (unlimited authorization) $22,018 ================================================================================ NET ASSET VALUE PER SHARE $11.08 ================================================================================ *See Note A in Notes to Financial Statements. -------------------------------------------------------------------------------- AT FEBRUARY 29, 2004, NET ASSETS CONSISTED OF: -------------------------------------------------------------------------------- Amount Per (000) Share -------------------------------------------------------------------------------- Paid-in Capital $21,416 $10.78 Undistributed Net Investment Income 9 - Accumulated Net Realized Losses (3) - Unrealized Appreciation 596 .30 -------------------------------------------------------------------------------- NET ASSETS $22,018 $11.08 ================================================================================ See Note C in Notes to Financial Statements for the tax-basis components of net assets. 23 STATEMENT OF OPERATIONS This Statement shows each fund's Income Distributions Received from the other Vanguard funds in which it invests and any other income earned during the reporting period. This Statement also shows any Capital Gain Distributions Received from the other funds' realized net gains, Net Gain (Loss) realized on the sale of investments, and the increase or decrease in the Unrealized Appreciation (Depreciation) of investments during the period. -------------------------------------------------------------------------------- TARGET TARGET TARGET RETIREMENT RETIREMENT RETIREMENT INCOME FUND 2005 FUND 2015 FUND -------------------------------------- OCTOBER 27, 2003* TO FEBRUARY 29, 2004 -------------------------------------------------------------------------------- (000) (000) (000) -------------------------------------------------------------------------------- INVESTMENT INCOME Income Income Distributions Received $ 509 $ 396 $ 610 -------------------------------------------------------------------------------- NET INVESTMENT INCOME-Note B 509 396 610 -------------------------------------------------------------------------------- REALIZED NET GAIN (LOSS) Capital Gain Distributions Received 90 43 - Investment Securities Sold - (1) 1 -------------------------------------------------------------------------------- REALIZED NET GAIN (LOSS) 90 42 1 -------------------------------------------------------------------------------- UNREALIZED APPRECIATION (DEPRECIATION) OF INVESTMENT SECURITIES 1,858 1,816 3,095 -------------------------------------------------------------------------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS $2,457 $ 2,254 $3,706 ================================================================================ -------------------------------------------------------------------------------- TARGET TARGET TARGET RETIREMENT RETIREMENT RETIREMENT 2025 FUND 2035 FUND 2045 FUND ---------------------------------- OCTOBER 27, 2003* TO FEBRUARY 29, 2004 -------------------------------------------------------------------------------- (000) (000) (000) -------------------------------------------------------------------------------- INVESTMENT INCOME INCOME Income Distributions Received $ 381 $ 136 $ 47 -------------------------------------------------------------------------------- NET INVESTMENT INCOME-Note B 381 136 47 -------------------------------------------------------------------------------- REALIZED NET GAIN (LOSS) Capital Gain Distributions Received - - - Investment Securities Sold (1) 1 (3) -------------------------------------------------------------------------------- REALIZED NET GAIN (LOSS) (1) 1 (3) -------------------------------------------------------------------------------- UNREALIZED APPRECIATION (DEPRECIATION) OF INVESTMENT SECURITIES 2,523 1,424 596 -------------------------------------------------------------------------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS $2,903 $1,561 $640 ================================================================================ *Inception. 24 STATEMENT OF CHANGES IN NET ASSETS This Statement shows how each fund's total net assets changed during the reporting period. The Operations section summarizes information detailed in the Statement of Operations. The amounts shown as Distributions to shareholders from the fund's net income and capital gains may not match the amounts shown in the Operations section, because distributions are determined on a tax basis and may be made in a period different from the one in which the income was earned or the gains were realized on the financial statements. The Capital Share Transactions section shows the amount shareholders invested in the fund, either by purchasing shares or by reinvesting distributions, as well as the amounts redeemed. The corresponding numbers of Shares Issued and Redeemed are shown at the end of the Statement.
------------------------------------------------------------------------------------------------------------ Target Target Target Retirement Retirement Retirement Income Fund 2005 Fund 2015 Fund ------------------------------------------ October 27, 2003* to February 29, 2004 ------------------------------------------------------------------------------------------------------------ (000) (000) (000) ------------------------------------------------------------------------------------------------------------ INCREASE (DECREASE) IN NET ASSETS OPERATIONS Net Investment Income $ 509 $ 396 $ 610 Realized Net Gain (Loss) 90 42 1 Unrealized Appreciation (Depreciation) 1,858 1,816 3,095 ------------------------------------------------------------------------------------------------------------ Net Increase (Decrease) in Net Assets Resulting from Operations 2,457 2,254 3,706 ------------------------------------------------------------------------------------------------------------ DISTRIBUTIONS Net Investment Income (201) (160) (226) Realized Capital Gain (55) (29) - ------------------------------------------------------------------------------------------------------------ Total Distributions (256) (189) (226) ------------------------------------------------------------------------------------------------------------ CAPITAL SHARE TRANSACTIONS1 Issued 113,779 91,623 154,772 Issued in Lieu of Cash Distributions 240 186 223 Redeemed (5,126) (2,659) (4,433) ------------------------------------------------------------------------------------------------------------ Net Increase (Decrease) from Capital Share Transactions 108,893 89,150 150,562 ------------------------------------------------------------------------------------------------------------ Total Increase (Decrease) 111,094 91,215 154,042 ------------------------------------------------------------------------------------------------------------ NET ASSETS Beginning of Period - - - ------------------------------------------------------------------------------------------------------------ End of Period $ 111,094 $ 91,215 $ 154,042 ============================================================================================================ 1Shares Issued (Redeemed) Issued 11,116 8,847 14,773 Issued in Lieu of Cash Distributions 24 18 22 Redeemed (500) (257) (421) ------------------------------------------------------------------------------------------------------------ Net Increase (Decrease) in Shares Outstanding 10,640 8,608 14,374 ============================================================================================================
*Inception. 25
STATEMENT OF CHANGES IN NET ASSETS (CONTINUED) ------------------------------------------------------------------------------------------------------------ TARGET TARGET TARGET RETIREMENT RETIREMENT RETIREMENT 2025 FUND 2035 FUND 2045 FUND ---------------------------------------- OCTOBER 27, 2003* TO FEBRUARY 29, 2004 ------------------------------------------------------------------------------------------------------------ (000) (000) (000) ------------------------------------------------------------------------------------------------------------ INCREASE (DECREASE) IN NET ASSETS OPERATIONS Net Investment Income $ 381 $ 136 $ 47 Realized Net Gain (Loss) (1) 1 (3) Unrealized Appreciation (Depreciation) 2,523 1,424 596 ------------------------------------------------------------------------------------------------------------ Net Increase (Decrease) in Net Assets Resulting from Operations 2,903 1,561 640 ------------------------------------------------------------------------------------------------------------ DISTRIBUTIONS Net Investment Income (130) (90) (38) Realized Capital Gain - - - ------------------------------------------------------------------------------------------------------------ Total Distributions (130) (90) (38) ------------------------------------------------------------------------------------------------------------ CAPITAL SHARE TRANSACTIONS1 Issued 121,341 53,624 22,607 Issued in Lieu of Cash Distributions 130 90 38 Redeemed (2,314) (1,658) (1,229) ------------------------------------------------------------------------------------------------------------ Net Increase (Decrease) from Capital Share Transactions 119,157 52,056 21,416 ------------------------------------------------------------------------------------------------------------ Total Increase (Decrease) 121,930 53,527 22,018 ------------------------------------------------------------------------------------------------------------ NET ASSETS Beginning of Period - - - ------------------------------------------------------------------------------------------------------------ End of Period $ 121,930 $ 53,527 $ 22,018 ============================================================================================================ 1Shares Issued (Redeemed) Issued 11,476 5,018 2,095 Issued in Lieu of Cash Distributions 12 9 4 Redeemed (219) (154) (112) ------------------------------------------------------------------------------------------------------------ Net Increase (Decrease) in Shares Outstanding 11,269 4,873 1,987 ============================================================================================================
*Inception. 26 FINANCIAL HIGHLIGHTS This table summarizes each fund's investment results and distributions to shareholders on a per-share basis. The table also presents the Total Return and shows net investment income and expenses as percentages of average net assets. The expense ratio is zero because the fund pays no direct expenses; the fund's share of the expenses of the other funds in which it invests reduces the income received from them. The data in the table will help you assess: the variability of the fund's net income and total returns from year to year; the relative contributions of net income and capital gains to the fund's total return; the extent to which the fund tends to distribute capital gains; and the portion of capital gain distributions representing the "pass-through" of capital gain distributions received from other Vanguard funds. The table also shows the Portfolio Turnover Rate, a measure of trading activity. A turnover rate of 100% means that the average security is held in the fund for one year. TARGET RETIREMENT INCOME FUND -------------------------------------------------------------------------------- FOR A SHARE OUTSTANDING OCT. 27, 2003* THROUGHOUT THE PERIOD TO FEB. 29, 2004 -------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $ 10.00 -------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .085 Capital Gain Distributions Received .015 Net Realized and Unrealized Gain (Loss) on Investments .410 Total from Investment Operations .510 -------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.055) Distributions from Realized Capital Gains (.015) Total Distributions (.070) -------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $ 10.44 ================================================================================ TOTAL RETURN 5.12% ================================================================================ RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $ 111 Ratio of Expenses to Average Net Assets-Note B 0%+ Ratio of Net Investment Income to Average Net Assets 3.30%** Portfolio Turnover Rate 0%** ================================================================================ * Inception. ** Annualized. + The average weighted expense ratio of the underlying funds was 0.21%. TARGET RETIREMENT 2005 FUND -------------------------------------------------------------------------------- FOR A SHARE OUTSTANDING OCT. 27, 2003* THROUGHOUT THE PERIOD TO FEB. 29, 2004 -------------------------------------------------------------------------------- Net Asset Value, Beginning of Period $10.00 -------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .085 Capital Gain Distributions Received .010 Net Realized and Unrealized Gain (Loss) on Investments .570 -------------------------------------------------------------------------------- Total from Investment Operations .665 -------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.055) Distributions from Realized Capital Gains (.010) -------------------------------------------------------------------------------- Total Distributions (.065) -------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $10.60 ================================================================================ TOTAL RETURN 6.67% ================================================================================ RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $91 Ratio of Expenses to Average Net Assets-Note B 0% Ratio of Net Investment Income to Average Net Assets 3.11%** Portfolio Turnover Rate 1%** ================================================================================ * Inception. ** Annualized. + The average weighted expense ratio of the underlying funds was 0.21%. 27 FINANCIAL HIGHLIHTS (CONTINUED) TARGET RETIREMENT 2015 FUND -------------------------------------------------------------------------------- FOR A SHARE OUTSTANDING OCT. 27, 2003* THROUGHOUT THE PERIOD TO FEB. 29, 2004 -------------------------------------------------------------------------------- Net Asset Value, Beginning of Period $10.00 -------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .09 Capital Gain Distributions Received - Net Realized and Unrealized Gain (Loss) on Investments .69 -------------------------------------------------------------------------------- Total from Investment Operations .78 -------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.06) Distributions from Realized Capital Gains - -------------------------------------------------------------------------------- Total Distributions (.06) -------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $10.72 ================================================================================ Total Return 7.82% ================================================================================ RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $154 Ratio of Expenses to Average Net Assets-Note B 0% Ratio of Net Investment Income to Average Net Assets 2.32%** Portfolio Turnover Rate 1%** ================================================================================ * Inception. ** Annualized. + The average weighted expense ratio of the underlying funds was 0.22%. TARGET RETIREMENT 2025 FUND -------------------------------------------------------------------------------- FOR A SHARE OUTSTANDING OCT. 27, 2003* THROUGHOUT THE PERIOD TO FEB. 29, 2004 -------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $10.00 -------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .08 Capital Gain Distributions Received - Net Realized and Unrealized Gain (Loss) on Investments .80 -------------------------------------------------------------------------------- Total from Investment Operations .88 -------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.06) Distributions from Realized Capital Gains - -------------------------------------------------------------------------------- Total Distributions (.06) -------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $10.82 ================================================================================ TOTAL RETURN 8.82% ================================================================================ RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $122 Ratio of Expenses to Average Net Assets-Note B 0% Ratio of Net Investment Income to Average Net Assets 2.19%** Portfolio Turnover Rate 2%** ================================================================================ * Inception. ** Annualized. + The average weighted expense ratio of the underlying funds was 0.22%. 28 TARGET RETIREMENT 2035 FUND -------------------------------------------------------------------------------- FOR A SHARE OUTSTANDING OCT. 27, 2003* THROUGHOUT THE PERIOD TO FEB. 29, 2004 -------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $10.00 -------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .075 Capital Gain Distributions Received - Net Realized and Unrealized Gain (Loss) on Investments .970 -------------------------------------------------------------------------------- Total from Investment Operations 1.045 -------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.065) Distributions from Realized Capital Gains - -------------------------------------------------------------------------------- Total Distributions (.065) -------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $10.98 ================================================================================ TOTAL RETURN 10.48% ================================================================================ RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $54 Ratio of Expenses to Average Net Assets-Note B 0% Ratio of Net Investment Income to Average Net Assets 1.71%** Portfolio Turnover Rate 5%** ================================================================================ * Inception. ** Annualized. + The average weighted expense ratio of the underlying funds was 0.23%. TARGET RETIREMENT 2045 FUND -------------------------------------------------------------------------------- FOR A SHARE OUTSTANDING OCT. 27, 2003* THROUGHOUT THE PERIOD TO FEB. 29, 2004 -------------------------------------------------------------------------------- NET ASSET VALUE, BEGINNING OF PERIOD $10.00 -------------------------------------------------------------------------------- INVESTMENT OPERATIONS Net Investment Income .07 Capital Gain Distributions Received - Net Realized and Unrealized Gain (Loss) on Investments 1.08 -------------------------------------------------------------------------------- Total from Investment Operations 1.15 -------------------------------------------------------------------------------- DISTRIBUTIONS Dividends from Net Investment Income (.07) Distributions from Realized Capital Gains - -------------------------------------------------------------------------------- Total Distributions (.07) -------------------------------------------------------------------------------- NET ASSET VALUE, END OF PERIOD $11.08 ================================================================================ TOTAL RETURN 11.54% ================================================================================ RATIOS/SUPPLEMENTAL DATA Net Assets, End of Period (Millions) $22 Ratio of Expenses to Average Net Assets-Note B 0% Ratio of Net Investment Income to Average Net Assets 1.41%** Portfolio Turnover Rate 8%** ================================================================================ * Inception. ** Annualized. + The average weighted expense ratio of the underlying funds was 0.23%. SEE ACCOMPANYING NOTES, WHICH ARE AN INTEGRAL PART OF THE FINANCIAL STATEMENTS. 29 NOTES TO FINANCIAL STATEMENTS Vanguard Target Retirement Funds comprise the Target Retirement Income Fund, Target Retirement 2005 Fund, Target Retirement 2015 Fund, Target Retirement 2025 Fund, Target Retirement 2035 Fund, and Target Retirement 2045 Fund, each of which is registered under the Investment Company Act of 1940 as an open-end investment company, or mutual fund. Each fund follows a balanced investment strategy by investing in selected Vanguard funds to achieve its targeted allocation of assets to U.S. stocks, international stocks, bonds, and short-term reserves. The Target Retirement Income Fund's allocation of assets is expected to remain stable over time. Each other Target Retirement Fund's asset allocation will become more conservative over time as its target retirement date draws closer. A. The following significant accounting policies conform to generally accepted accounting principles for U.S. mutual funds. The funds consistently follow such policies in preparing their financial statements. 1. VALUATION: Securities are valued as of the close of trading on the New York Stock Exchange (generally 4:00 p.m. Eastern time) on the valuation date. Investments in other Vanguard funds (with the exception of VIPER Shares) are valued at that fund's net asset value. VIPER Shares (and other exchange-traded funds, if applicable) are valued at the latest quoted sales prices or official closing prices taken from their primary market or, if not traded on the valuation date, at the mean of the latest quoted bid and asked prices. Temporary cash investments are valued at cost, which approximates market value. 2. REPURCHASE AGREEMENTS: Each fund, along with other members of The Vanguard Group, transfers uninvested cash balances to a pooled cash account, which is invested in repurchase agreements secured by U.S. government securities. Securities pledged as collateral for repurchase agreements are held by a custodian bank until the agreements mature. Each agreement requires that the market value of the collateral be sufficient to cover payments of interest and principal; however, in the event of default or bankruptcy by the other party to the agreement, retention of the collateral may be subject to legal proceedings. 3. FEDERAL INCOME TAXES: Each fund intends to qualify as a regulated investment company and distribute all of its taxable income. Accordingly, no provision for federal income taxes is required in the financial statements. 4. DISTRIBUTIONS: Distributions to shareholders are recorded on the ex-dividend date. 5. OTHER: Income and capital gain distributions received are recorded on the ex-dividend date. Security transactions are accounted for on the date securities are bought or sold. Costs used to determine realized gains (losses) on the sale of investment securities are those of the specific securities sold. B. Under a service agreement, The Vanguard Group furnishes corporate management, administrative, marketing, and distribution services to the funds. The service agreement provides that Vanguard will reimburse the funds' expenses to the extent of savings in administrative and marketing costs realized by Vanguard in the operation of the funds. Accordingly, all expenses incurred by the funds during the period ended February 29, 2004, were reimbursed by Vanguard. The funds' trustees and officers are also directors and officers of Vanguard and the funds in which the funds invest. C. Distributions are determined on a tax basis and may differ from net investment income and realized capital gains for financial reporting purposes. Differences may be permanent or temporary. Permanent differences are reclassified among capital accounts in the financial statements to reflect their tax character. Temporary differences arise when certain items of income, expense, gain, or loss are recognized in different periods for financial statement and tax purposes; these differences will reverse at some time in the future. Differences in classification may also result from the treatment of short-term gains as ordinary income for tax purposes. The funds' tax-basis capital gains and losses are determined only at the end of the fiscal year. 30 At February 29, 2004, net unrealized appreciation of investment securities for tax purposes was: -------------------------------------------------------------------------------- (000) ------------------------------------------------------ NET UNREALIZED APPRECIATED DEPRECIATED APPRECIATION TARGET RETIREMENT FUND SECURITIES SECURITIES (DEPRECIATION) -------------------------------------------------------------------------------- Income $1,862 $ (4) $1,858 2005 1,825 (9) 1,816 2015 3,111 (16) 3,095 2025 2,537 (14) 2,523 2035 1,434 (10) 1,424 2045 602 (6) 596 -------------------------------------------------------------------------------- D. During the period ended February 29, 2004, purchases and sales of investment securities other than temporary cash investments were: -------------------------------------------------------------------------------- (000) -------------------------------- TARGET RETIREMENT FUND PURCHASES SALES -------------------------------------------------------------------------------- Income $109,301 $ 0 2005 89,563 104 2015 151,082 297 2025 119,392 260 2035 52,297 401 2045 21,642 252 -------------------------------------------------------------------------------- 31 THE PEOPLE WHO GOVERN YOUR FUND -------------------------------------------------------------------------------- The trustees of your mutual fund are there to see that the fund is operated and managed in your best interests since, as a shareholder, you are a part owner of the fund. Your fund trustees also serve on the board of directors of The Vanguard Group, Inc., which is owned by the Vanguard(R) funds and provides services to them on an at-cost basis. A majority of Vanguard's board members are independent, meaning that they have no affiliation with Vanguard or the funds they oversee, apart from the sizable personal investments they have made as private individuals. Our independent board members bring distinguished backgrounds in business, academia, and public service to their task of working with Vanguard officers to establish the policies and oversee the activities of --------------------------------------------------------------------------------
------------------------------------------------------------------------------------------------------------------ POSITION(S) HELD WITH NAME FUND (NUMBER OF (YEAR OF BIRTH) VANGUARD FUNDS TRUSTEE/OFFICER OVERSEEN BY SINCE TRUSTEE/OFFICER) PRINCIPAL OCCUPATION(S) DURING THE PAST FIVE YEARS ------------------------------------------------------------------------------------------------------------------ JOHN J. BRENNAN* Chairman of the Chairman of the Board, Chief Executive Officer, and Director/Trustee of (1954) Board, Chief The Vanguard Group, Inc., and of each of the investment companies May 1987 Executive Officer, served by The Vanguard Group. and Trustee (129) ------------------------------------------------------------------------------------------------------------------ INDEPENDENT TRUSTEES CHARLES D. ELLIS Trustee The Partners of '63 (pro bono ventures in education); Senior Advisor (1937) (129) to Greenwich Associates (international business strategy consulting); January 2001 Successor Trustee of Yale University; Overseer of the Stern School of Business at New York University; Trustee of the Whitehead Institute for Biomedical Research. ------------------------------------------------------------------------------------------------------------------ RAJIV L. GUPTA Trustee Chairman and Chief Executive Officer (since October 1999), Vice (1945) (129) Chairman (January-September 1999), and Vice President (prior to December 2001 September 1999) of Rohm and Haas Co. (chemicals); Director of Technitrol, Inc. (electronic components), and Agere Systems (communications components); Board Member of the American Chemistry Council; and Trustee of Drexel University. ------------------------------------------------------------------------------------------------------------------ JOANN HEFFERNAN Trustee Vice President, Chief Information Officer, and Member of the HEISEN (129) Executive Committee of Johnson & Johnson (pharmaceuticals/consumer (1950) products); Director of the Medical Center at Princeton and Women's July 1998 Research and Education Institute. ------------------------------------------------------------------------------------------------------------------ BURTON G. MALKIEL Trustee Chemical Bank Chairman's Professor of Economics,Princeton University; (1932) (127) Director of Vanguard Investment Series plc (Irish investment fund) May 1977 (since November 2001), Vanguard Group (Ireland)Limited (Irish investment management firm)(since November 2001),Prudential Insurance Co. of America, BKF Capital (investment management), The Jeffrey Co. (holding company), and NeuVis, Inc.(software company). ------------------------------------------------------------------------------------------------------------------
-------------------------------------------------------------------------------- the funds. Among board members' responsibilities are selecting investment advisors for the funds; monitoring fund operations, performance, and costs; reviewing contracts; nominating and selecting new trustees/directors; and electing Vanguard officers. Each trustee serves a fund until its termination; or until the trustee's retirement, resignation, or death; or otherwise as specified in the fund's organizational documents. Any trustee may be removed at a shareholders' meeting by a vote representing two-thirds of the net asset value of all shares of the fund together with shares of other Vanguard funds organized within the same trust. The table on these two pages shows information for each trustee and executive officer of the fund. The mailing address of the trustees and officers is P.O. Box 876, Valley Forge, PA 19482. --------------------------------------------------------------------------------
POSITION(S) HELD WITH NAME FUND (NUMBER OF (YEAR OF BIRTH) VANGUARD FUNDS TRUSTEE/OFFICER OVERSEEN BY SINCE TRUSTEE/OFFICER) PRINCIPAL OCCUPATION(S) DURING THE PAST FIVE YEARS ------------------------------------------------------------------------------------------------------------------ ALFRED M. RANKIN, JR. Trustee Chairman, President, Chief Executive Officer, and Director of NACCO (1941) (129) Industries, Inc. (forklift trucks/housewares/lignite); Director of January 1993 Goodrich Corporation (industrial products/aircraft systems and services); Director of Standard Products Company (supplier for the automotive industry) until 1998. ------------------------------------------------------------------------------------------------------------------ J. LAWRENCE WILSON Trustee Retired Chairman and Chief Executive Officer of Rohm and Haas Co. (1936) (129) (chemicals); Director of Cummins Inc. (diesel engines), The Mead April 1985 Corp. (paper products), and AmerisourceBergen Corp. (pharmaceutical distribution); Trustee of Vanderbilt University. ------------------------------------------------------------------------------------------------------------------ EXECUTIVE OFFICERS* R. GREGORY BARTON Secretary Managing Director and General Counsel of The Vanguard Group, Inc.; (1951) (129) Secretary of The Vanguard Group and of each of the investment June 2001 companies served by The Vanguard Group. ------------------------------------------------------------------------------------------------------------------ THOMAS J. HIGGINS Treasurer Principal of The Vanguard Group, Inc.; Treasurer of each of the (1957) (129) investment companies served by The Vanguard Group. July 1998 ------------------------------------------------------------------------------------------------------------------ *Officers of the funds are "interested persons" as defined in the Investment Company Act of 1940. More information about the trustees is in the Statement of Additional Information, available from The Vanguard Group. ------------------------------------------------------------------------------------------------------------------ VANGUARD SENIOR MANAGEMENT TEAM MORTIMER J. BUCKLEY, Information Technology. MICHAEL S. MILLER, Planning and Development. JAMES H. GATELY, Investment Programs and Services. RALPH K. PACKARD, Finance. KATHLEEN C. GUBANICH, Human Resources. GEORGE U. SAUTER, Chief Investment Officer. F. WILLIAM MCNABB, III, Client Relationship Group. ------------------------------------------------------------------------------------------------------------------ JOHN C. BOGLE, Founder; Chairman and Chief Executive Officer, 1974-1996. ------------------------------------------------------------------------------------------------------------------
[SHIP] [THE VANGUARD GROUP(R) LOGO] Post Office Box 2600 Valley Forge, PA 19482-2600 Vanguard, The Vanguard Group, Vanguard.com, and the ship logo are trademarks of The Vanguard Group, Inc. S&P 500(R), Standard & PoorOs 500, and 500 are trademarks of The McGraw-Hill Companies, Inc., and have been licensed for use by The Vanguard Group, Inc. Vanguard mutual funds are not sponsored, endorsed, sold, or promoted by Standard & PoorOs, and Standard & Poor's makes no representation regarding the advisability of investing in the funds. All other marks are the exclusive property of their respective owners. ABOUT OUR COVER The photographs that appear on the cover of this report are copyrighted by Michael Kahn. FOR MORE INFORMATION This report is intended for the funds' shareholders. It may not be distributed to prospective investors unless it is preceded or accompanied by the current fund prospectus. To receive a free copy of the prospectus or the Statement of Additional Information, or to request additional information about the funds or other Vanguard funds, please contact us at one of the adjacent telephone numbers or by e-mail through VANGUARD.COM. Prospectuses may also be viewed online. You can obtain a free copy of Vanguard's proxy voting guidelines by visiting our website, www.vanguard.com, and searching for 'proxy voting guidelines,' or by calling 1-800-662-2739. They are also available from the SEC's website, www.sec.gov. All comparative mutual fund data are from Lipper Inc. or Morningstar, Inc., unless otherwise noted. WORLD WIDE WEB www.vanguard.com FUND INFORMATION 1-800-662-7447 DIRECT INVESTORACCOUNT SERVICES 1-800-662-2739 INSTITUTIONAL INVESTOR SERVICES 1-800-523-1036 TEXT TELEPHONE 1-800-952-3335 (C) 2004 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor. Q3082E042004 Item 2: Code(s) of Ethics for senior financial officers - Item not applicable to semi-annual report. Item 3: Audit Committee Financial Expert - Item not applicable to semi-annual report. Item 4: Principal Accountant Fees and Services - Item not applicable to semi-annual report. Item 5: Not Applicable. Item 6: Reserved. Item 7: Not applicable. Item 8: Reserved. Item 9: Controls and Procedures. (a) Disclosure Controls and Procedures. The Principal Executive and Financial Officers concluded that the Registrant's Disclosure Controls and Procedures are effective based on their evaluation of the Disclosure Controls and Procedures as of a date within 90 days of the filing date of this report. (b) Internal Controls. There were no significant changes in Registrant's internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Item 10: Exhibits attached hereto. (Attach certifications as exhibits) Pursuant to the requirements of the Securities Exchange Act of 1934 and the Investment Company Act of 1940, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. VANGUARD CHESTER FUNDS BY: (signature) ---------------------------------------- (HEIDI STAM) JOHN J. BRENNAN* CHIEF EXECUTIVE OFFICER Date: April 16, 2004 Pursuant to the requirements of the Securities Exchange Act of 1934 and the Investment Company Act of 1940, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. VANGUARD CHESTER FUNDS BY: (signature) ---------------------------------------- (HEIDI STAM) JOHN J. BRENNAN* CHIEF EXECUTIVE OFFICER Date: April 16, 2004 VANGUARD CHESTER FUNDS BY: (signature) ---------------------------------------- (HEIDI STAM) THOMAS J. HIGGINS* TREASURER Date: April 16, 2004 *By Power of Attorney. See File Number 2-57689, filed on December 26, 2002. Incorporated by Reference.