-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, IwblaTBY/wGRTUIEp8rEFxH4XLXVr99xSbxdRd6shsw/24CWF33p1UOsBwWCwwRV BpTxqs8R4EKYGWnI2QDGcA== 0000950147-02-000459.txt : 20020415 0000950147-02-000459.hdr.sgml : 20020415 ACCESSION NUMBER: 0000950147-02-000459 CONFORMED SUBMISSION TYPE: N-30D PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20011231 FILED AS OF DATE: 20020327 FILER: COMPANY DATA: COMPANY CONFORMED NAME: KAYNE ANDERSON RUDNICK MUTUAL FUNDS CENTRAL INDEX KEY: 0001018593 IRS NUMBER: 956981193 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: N-30D SEC ACT: 1940 Act SEC FILE NUMBER: 811-07705 FILM NUMBER: 02587154 BUSINESS ADDRESS: STREET 1: 1800 AVENUE OF THE STARS, 2ND FLOOR CITY: LOS ANGELES STATE: CA ZIP: 90067 BUSINESS PHONE: (310) 556-2721 MAIL ADDRESS: STREET 1: 1800 AVENUE OF THE STARS, 2ND FLOOR CITY: LOS ANGELES STATE: CA ZIP: 90067 FORMER COMPANY: FORMER CONFORMED NAME: KAYNE ANDERSON MUTUAL FUNDS DATE OF NAME CHANGE: 19960711 N-30D 1 e-8317.txt ANNUAL REPORT FOR YEAR ENDED 12/31/2001 KAYNE ANDERSON RUDNICK MUTUAL FUNDS - -------------------------------------------------------------------------------- ANNUAL REPORT KAYNE ANDERSON RUDNICK LARGE CAP FUND KAYNE ANDERSON RUDNICK SMALL-MID CAP FUND KAYNE ANDERSON RUDNICK INTERNATIONAL FUND KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND - -------------------------------------------------------------------------------- For the Year Ended December 31, 2001 KAYNE ANDERSON RUDNICK MUTUAL FUNDS TABLE OF CONTENTS .......................................................... 1 SHAREHOLDER LETTER KAYNE ANDERSON RUDNICK LARGE CAP FUND Goal .................................................................. 2 Commentary ............................................................ 2 Outlook ............................................................... 2 Schedule of Investments ............................................... 4 KAYNE ANDERSON RUDNICK SMALL-MID CAP FUND Goal .................................................................. 6 Commentary ............................................................ 7 Outlook ............................................................... 8 Schedule of Investments ............................................... 9 KAYNE ANDERSON RUDNICK INTERNATIONAL FUND Goal .................................................................. 12 Commentary ............................................................ 12 New Purchases ......................................................... 13 Outlook ............................................................... 14 Schedule of Investments ............................................... 15 KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND Goal .................................................................. 17 Commentary ............................................................ 17 Outlook ............................................................... 18 Schedule of Investments ............................................... 19 KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND Goal .................................................................. 22 Commentary ............................................................ 22 Outlook ............................................................... 22 Schedule of Investments ............................................... 25 STATEMENTS OF ASSETS AND LIABILITIES ....................................... 28 STATEMENTS OF OPERATIONS ................................................... 30 STATEMENTS OF CHANGES IN NET ASSETS ........................................ 32 FINANCIAL HIGHLIGHTS ....................................................... 34 NOTES TO FINANCIAL STATEMENTS .............................................. 39 INDEPENDENT AUDITORS' REPORT ............................................... 47 KAYNE ANDERSON RUDNICK MUTUAL FUNDS Dear Shareholder: We appreciate your investment in the Kayne Anderson Rudnick Mutual Funds. If you are new to the Kayne Anderson Rudnick family of investors, we welcome you. The enclosed annual report contains a commentary and December 31, 2001 financial statements for each of our mutual funds. In each commentary, the portfolio manager reviews the objectives, performance, and outlook for the fund. We hope that you will find these comments interesting and timely. As an investment adviser, we have managed private accounts for both equity and fixed-income investors for many years. We are delighted to be able to offer our mutual funds to you so that diversification among asset classes can be readily accomplished. Through these funds, shareholders can structure a diversified portfolio consistent with their personal investment objectives and goals. We thank you again for your investment in the Kayne Anderson Rudnick Mutual Funds. We are committed to assisting you with the realization of your financial goals. As always, we welcome your questions and comments. Sincerely, /s/ Richard A. Kayne /s/ Allan M. Rudnick Richard A. Kayne Allan M. Rudnick Chief Executive Officer Chief Investment Officer Kayne Anderson Rudnick Investment Management, LLC 1 KAYNE ANDERSON RUDNICK LARGE CAP FUND GOAL The KAYNE ANDERSON RUDNICK LARGE CAP FUND invests in high-quality, large-capitalization companies that enjoy global dominance, excellent management, financial strength, and consistent growth. The investment goal of the Fund is to achieve superior long-term performance by owning shares in some of the world's best companies. COMMENTARY The year 2001 was a difficult one for the nation and for the markets here and abroad. For the year, the S&P 500 Index declined 11.9% while the Nasdaq lost 20.13%. The Fund outperformed its benchmark, the S&P 500 Index, with the excess return driven by positive relative stock selection in larger-capitalization equities, a greater concentration in the highest-quality companies, and much better selection within the information technology sector. These factors overcame a substantial penalty for owning strictly larger companies, rather than smaller companies relative to the S&P 500 composition. Including the 2001 performance, the Fund has enjoyed an annualized return of 12.39% since its May 1, 1995 inception. The best-performing sectors in the Fund during 2001 were basic materials, information technology, energy, and consumer staples. The weakest sectors were consumer discretionary, industrials, and financials. The benefits of a diversified portfolio were evident. The Large Cap Fund remains exclusively invested in very high-quality companies. A simple, but telling indicator of this quality is the Fund's `AA' average bond credit rating. We believe that the Fund's outperformance against the S&P 500 Index over the last two difficult years is a testament to its high-quality orientation. OUTLOOK Looking forward, the economy appears poised for recovery in 2002. Although the companies in the Fund are generally less cyclical and more consistent overall than those in the S&P 500 Index, we believe an improved economic environment will benefit the Fund. The estimated long-term earnings per share growth rate for the Fund is 14%, which provides a strong underpinning for sustained long-term capital appreciation. We already see demand picking up in some "early-cycle" industries, such as autos and housing, which have benefited from lower interest rates. We expect profit growth in the 10 to 12% range in 2002, with the pace of economic activity increasing as the year progresses. We have often written about the strong underpinnings of the long-term bull market. The combination of stable economic growth, increasing corporate earnings, moderate inflation, falling interest rates, and global peace helped to sustain the bull market. Last year we saw a few of these conditions erode and turn negative. With the economy sliding into a recession, corporate profits declining, and terrorists threatening global peace, investors sold stocks. Although the fourth quarter showed a strong recovery, the leading equity indexes ended the year with significant declines. The picture is by no means clear, and we are well aware of some ongoing concerns. The major world economies outside of the U.S. are also weak and do not yet showing signs of a recovery; capital spending by business has not shown any signs of a recovery; and there are concerns about potential terrorist activities. However, we emphasize that the U.S. economy has a strong foundation to support a recovery. First, fiscal and monetary policies are aligned to stimulate growth. The Federal Reserve is resolved to keep interest rates low and the Administration wants to reduce taxes, even if it means returning to a budget deficit. Second, low inflation allows 2 policymakers wide latitude in their stimulus programs, facilitates long-term business planning, and keeps costs under control for businesses and consumers. Third, consumers have shown they are responsive to attractive pricing. Since October, consumer confidence has improved and although unemployment has increased, we still enjoy a relatively low jobless rate compared with other major economies. Finally, our workforce is the most productive of the major industrial nations, and as in the 1990s, we expect that a new round of capital expenditures will lead to enhanced labor productivity and increases in corporate profits. The Fund is managed according to certain key investment principles, which are worth recalling: * Exclusive focus on very high-quality companies * Diversification across major industry sectors * Substantial attention to the expected return of each position * Strong and consistent earnings growth of the portfolio * Long-term investment horizon reflected in low turnover These principles are founded on the belief that superior companies possess essential competitive advantages that produce high profitability, solid growth, and substantial free cash flow. Our focus as long-term investors is on the nature of a company's business advantages and their sustainability over time. Our core belief is that we can continue to produce durable, long-term growth of capital for our investors by investing in well-managed, superior businesses. Allan Rudnick, Paul Wayne, CFA, Fund Manager Fund Manager KAYNE ANDERSON RUDNICK LARGE CAP FUND COMPARISON OF THE CHANGE IN VALUE OF A $10,000 INVESTMENT IN THE KAYNE ANDERSON RUDNICK LARGE CAP FUND AND THE S & P 500 INDEX Average Annual Total Return for the periods ending December 31, 2001 One Year Five Year Since Inception (5/1/95) (11.03%) 8.69% 12.54% Kayne Anderson Rudnick Large Cap Fund S & P 500 Index w/inc. -------------- ---------------------- May-95 10,000 10,000 Jun-95 10,394 10,641 Sep-95 11,089 11,487 Dec-95 12,065 12,178 Mar-96 12,810 12,832 Jun-96 13,249 13,408 Sep-96 13,689 13,823 Dec-96 14,367 14,975 Mar-97 14,719 15,376 Jun-97 17,137 18,062 Sep-97 17,879 19,413 Dec-97 18,821 19,971 Mar-98 21,087 22,757 Jun-98 21,500 23,508 Sep-98 18,511 21,170 Dec-98 21,483 25,678 Mar-99 22,290 26,958 Jun-99 24,268 28,861 Sep-99 22,721 27,055 Dec-99 24,991 31,081 Mar-00 25,071 31,793 Jun-00 25,606 30,947 Sep-00 24,949 30,647 Dec-00 24,492 28,251 Mar-01 21,071 24,900 Jun-01 22,163 26,357 Sep-01 19,586 22,485 Dec-01 21,791 24,893 PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE. THE RETURNS SHOWN DO NOT REFLECT THE DEDUCTION OF TAXES THAT A SHAREHOLDER WOULD PAY ON FUND DISTRIBUTIONS OR THE REDEMPTION OF FUND SHARES. THE S&P 500 INDEX IS A BROAD MARKET-WEIGHTED AVERAGE OF U.S. BLUE-CHIP COMPANIES. THIS INDEX IS UNMANAGED AND RETURNS INCLUDE REINVESTED DIVIDENDS. 3 KAYNE ANDERSON RUDNICK LARGE CAP FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 SHARES VALUE - ------ ----- COMMON STOCKS: 99.7% CAPITAL GOODS/ELECTRICAL EQUIPMENT: 4.7% 123,960 General Electric Co ............................. $ 4,968,317 ------------ CAPITAL GOODS/MANUFACTURING: 4.5% 140,400 Honeywell International, Inc .................... 4,748,328 ------------ CAPITAL GOODS/MANUFACTURING - DIVERSIFIED: 2.6% 39,620 Illinois Tool Works, Inc ........................ 2,683,066 ------------ CONSUMER SERVICES/MEDIA: 2.0% 101,000 Disney (Walt) Co ................................ 2,092,720 ------------ CONSUMER STAPLES/BEVERAGES: 4.1% 90,860 Coca-Cola Co .................................... 4,284,049 ------------ CONSUMER STAPLES/CONSUMER PRODUCTS: 5.0% 66,650 Procter & Gamble Co ............................. 5,274,014 ------------ CONSUMER STAPLES/FOODS: 2.9% 58,420 Wm. Wrigley, Jr. Co ............................. 3,001,035 ------------ ENERGY/PETROLEUM - INTERNATIONAL: 4.6% 122,840 Exxon Mobil Corp ................................ 4,827,612 ------------ FINANCIAL/BANKING: 4.4% 107,180 Wells Fargo & Co ................................ 4,656,971 ------------ FINANCIAL/FINANCIAL SERVICES: 8.7% 135,100 American Express Co ............................. 4,821,719 53,520 Fannie Mae ...................................... 4,254,840 ------------ 9,076,559 ------------ FINANCIAL/INSURANCE: 5.2% 30,100 American International Group, Inc ............... 2,389,940 28,340 Marsh & McLennan Companies, Inc. ................ 3,045,133 ------------ 5,435,073 ------------ FINANCIAL SERVICES (BANKS)/DIVERSIFIED FINANCIAL SERVICES: 2.4% 49,200 Citigroup, Inc 2,483,616 ------------ FINANCIAL SERVICES (OTHER)/SAVINGS AND LOAN: 2.4% 42,500 Golden West Financial Corp ...................... 2,501,125 ------------ 4 KAYNE ANDERSON RUDNICK LARGE CAP FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 - (Continued) SHARES VALUE - ------ ----- HEALTH CARE/DRUGS & HOSPITAL SUPPLIES: 13.4% 74,270 Johnson & Johnson ............................... $ 4,389,357 72,610 Merck & Co., Inc ................................ 4,269,468 136,300 Pfizer, Inc ..................................... 5,431,555 ------------ 14,090,380 ------------ RAW MATERIALS/CHEMICALS - DIVERSIFIED: 2.4% 58,900 E. I. du Pont de Nemours and Co ................. 2,503,839 ------------ RETAIL/APPAREL: 2.7% 200,500 Gap, Inc. (The) ................................. 2,794,970 ------------ RETAIL/BUILDING PRODUCTS: 5.2% 106,200 Home Depot, Inc. (The) .......................... 5,417,262 ------------ TECHNOLOGY/COMMUNICATIONS - EQUIPMENT: 2.6% 150,800 Cisco Systems, Inc.* ............................ 2,730,988 ------------ TECHNOLOGY/COMPUTERS & OFFICE EQUIPMENT: 3.4% 29,710 International Business Machines Corp. ........... 3,593,722 ------------ TECHNOLOGY/DATA SERVICES: 4.5% 79,350 Automatic Data Processing, Inc .................. 4,673,715 ------------ TECHNOLOGY/SEMICONDUCTORS: 2.4% 81,160 Intel Corp ...................................... 2,552,482 ------------ TECHNOLOGY/SOFTWARE: 6.6% 80,740 Microsoft Corp.* ................................ 5,349,025 114,750 Oracle Corp.* ................................... 1,584,698 ------------ 6,933,723 ------------ TELECOMMUNICATION SERVICES/TELEPHONE: 3.0% 79,350 SBC Communications, Inc ......................... 3,108,140 ------------ TOTAL COMMON STOCKS (cost $105,919,477) ...................................... 104,431,706 ------------ TOTAL INVESTMENTS IN SECURITIES (cost $105,919,477): 99.7% ............................... 104,431,706 Other Assets less Liabilities: 0.3% ........................... 338,407 ------------ NET ASSETS: 100.0% $104,770,113 ============ *Non-income producing security. See accompanying Notes to Financial Statements. 5 KAYNE ANDERSON RUDNICK SMALL-MID CAP FUND GOAL The objectives of the KAYNE ANDERSON RUDNICK SMALL-MID CAP FUND are: * To build a diversified portfolio of "THE NEXT GENERATION OF BLUE CHIP COMPANIES." * To produce returns typical of small and mid cap stocks, but with no more risk than the S&P 500 Index of large stocks. We strive to buy stocks of high-quality companies at discount prices to allow clients to participate in the strong growth of small companies while assuming less financial and stock market risk than the S&P 500. The following table demonstrates our commitment to these objectives. Our Fund combines: (1) quality comparable to the high-quality benchmark, the S&P 500 Index of large stocks; (2) growth comparable to the high-growth benchmark, the Russell 2500(TM)(small-mid cap) Growth Index, and (3) value comparable to the deep-value benchmark, the Russell 2500(TM) (small-mid cap) Value Index.
RUSSELL RUSSELL KAR RUSSELL S&P 2500(TM) 2500(TM) SMALL-MID 2500(TM) 500 GROWTH VALUE QUALITY CAP INDEX INDEX INDEX INDEX - ------- --- ----- ----- ----- ----- Return on Equity - Past 5 Years 24.5% 15.1% 23.9% 16.9% 14.1% MORE PROFITABLE Long-Term Debt/Total Capital 30.1% 39.4% 43.7% 28.1% 48.2% LESS FINANCIAL RISK Interest Expense Coverage 10x 4.6x 4.6x 8x 3.6x LESS FINANCIAL RISK Earnings Variance - Past 10 Years 28.7% 63.6% 42.6% 75.7% 58.2% MORE DEPENDABLE S&P Stock Ranking (A+, A, A-) 47.6% 14.8% 55.6% 5.2% 21.6% BETTER QUALITY GROWTH Earnings Per Share Growth - Past 5 Years 19.5% 12.7% 14.3% 23.1% 8.4% RECOVERY Earnings Per Share Growth - Past 10 Years 18.5% 9.6% 14.9% 14.3% 8.3% RECESSION Dividend Per Share Growth - Past 5 Years 14.5% 6.6% 10.9% 7.7% 6.4% RECOVERY Dividend Per Share Growth - Past 10 Years 14.7% 6.2% 10.1% 6.7% 6.1% RECESSION Capital Generation - {ROE x (1-Payout)} 19.7% 11.5% 16.8% 15.5% 9.3% FASTER GROWTH VALUE P/E Ratio - Latest 12 months 21.7 33.9 29.0 80.4 24.1 BETTER VALUE Dividend Yield 0.8% 1.3% 1.4% 0.3% 2.0% COMPARABLE INCOME MARKET CHARACTERISTICS $ Weighted Average Market Cap - 4 qtr. average $3.2b $1.8b $79b $1.6b $2b BROADER SIZE Largest Market Cap - 4 qtr. average $12.6b $7.5b $313.7b $6.6b $7.5b BROADER SIZE Annualized Standard Deviation - Since Inception 13.9% 18.7% 14.8% 27.6% 14.7% LESS MARKET RISK
NOTE: AS OF DECEMBER 31, 2001 DATA IS OBTAINED FROM FRANK RUSSELL COMPANY AND IS ASSUMED TO BE RELIABLE. OTHER PRINCIPAL CONSULTANT FIRMS USE DIFFERENT ALGORITHMS TO CALCULATE SELECTED STATISTICS. ESTIMATES ARE BASED ON CERTAIN ASSUMPTIONS AND HISTORICAL INFORMATION. 6 COMMENTARY Small cap, mid cap and large cap stocks performed poorly in 2001 as the nation entered a recession. The Russell 2000(TM) small cap benchmark advanced 2.5% for the year while the Russell Midcap(R) benchmark declined 5.6% and the S&P 500 Index of large stocks lost 11.9%. Our focus on America's highest quality small and mid-sized companies served us well in this environment. Our Fund generated a 6.4% return for the year. As seen in the following chart, corporate earnings in 2001 experienced their most serious decline since the 1991 recession with estimated earnings declines of 15% and 22% for the small and large stock benchmarks respectively. Despite the national recession, we estimate that the stocks in our Fund grew their combined earnings at a near double-digit rate in 2001. Regardless of the extent of the recovery in corporate earnings this year, we expect our portfolio of companies to generate double-digit earnings growth in 2002. Russell 2000 Earnings Per Share
89 90 91 92 93 94 95 96 97 98 99 00 01E 02E -- -- -- -- -- -- -- -- -- -- -- -- --- --- 16.74 5.34 8.60 11.73 12.35 16.67 15.56 17.38 15.30 13.05 15.72 13.36
S&P 500 Earnings Per Share
89 90 91 92 93 94 95 96 97 98 99 00 01E 02E -- -- -- -- -- -- -- -- -- -- -- -- --- --- 23.42 19.50 22.77 28.07 32.68 38.74 41.02 44.85 44.07 50.82 55.12 42.76
DATA IS OBTAINED FROM FIRST CALL AND IS ASSUMED TO BE RELIABLE. In the second half of 2001, we replaced Nordson Corporation in the capital goods sector with Donaldson Company, which we believe has better growth prospects. Claire's Stores was sold in the portfolio to lower our exposure to the consumer cyclical sector. New additions to the Fund since our 2001 semi-annual report include: * Donaldson Company Inc. - Largest manufacturer of filtration systems and replacement filters for heavy equipment * OM Group, Inc. - World's #1 producer of cobalt based specialty chemicals * Reinsurance Group of America, Incorporated - Leading U.S. facultative (non-standard risks) life reinsurer * Syncor International, Corporation - The nation's only coast-to-coast radiopharmaceutical distributor 7 OUTLOOK Because companies in our Fund have grown their earnings through the current recession as earnings of the overall stock market have declined, our Fund is trading at a near historic low relative price-to-earnings valuation. This Fund represents some of the finest businesses in the U.S. growing stronger and with more sustainability than the overall market and available at a discount value. We believe the Fund is well positioned to perform going forward. Robert Schwarzkopf, CFA, Sandi Gleason, CFA, Fund Manager Fund Manager KAYNE ANDERSON RUDNICK SMALL-MID CAP P/E VERSUS S&P 500 INDEX DATE P/E RELATIVE TO S&P 500 ---- ----------------------- 12/91 77.29% 1/92 90.48% 2/92 90.14% 3/92 100.29% 4/92 96.79% 5/92 96.50% 6/92 98.35% 7/92 103.41% 8/92 106.84% 9/92 93.92% 10/92 90.58% 11/92 92.94% 12/92 96.12% 1/93 94.37% 2/93 90.76% 3/93 97.63% 4/93 93.40% 5/93 91.91% 6/93 87.44% 7/93 87.87% 8/93 88.47% 9/93 99.59% 10/93 96.11% 11/93 95.68% 12/93 107.12% 1/94 103.92% 2/94 105.37% 3/94 102.94% 4/94 100.71% 5/94 97.75% 6/94 101.01% 7/94 100.82% 8/94 102.72% 9/94 105.45% 10/94 105.11% 11/94 106.18% 12/94 136.96% 1/95 130.99% 2/95 129.82% 3/95 132.00% 4/95 135.00% 5/95 138.00% 6/95 140.00% 7/95 138.00% 8/95 135.00% 9/95 131.06% 10/95 126.58% 11/95 125.08% 12/95 111.78% 1/96 107.46% 2/96 108.89% 3/96 103.46% 4/96 110.90% 5/96 111.91% 6/96 112.26% 7/96 109.01% 8/96 110.03% 9/96 110.39% 10/96 116.34% 11/96 112.61% 12/96 114.72% 1/97 108.59% 2/97 104.38% 3/97 116.18% 4/97 109.96% 5/97 117.62% 6/97 116.35% 7/97 108.43% 8/97 116.40% 9/97 114.15% 10/97 115.53% 11/97 111.48% 12/97 103.72% 1/98 102.17% 2/98 100.76% 3/98 99.35% 4/98 96.66% 5/98 94.24% 6/98 90.28% 7/98 90.60% 8/98 89.52% 9/98 86.79% 10/98 87.86% 11/98 87.81% 12/98 83.93% 1/99 85.15% 2/99 83.16% 3/99 80.21% 4/99 82.13% 5/99 85.64% 6/99 89.15% 7/99 79.52% 8/99 75.14% 9/99 80.10% 10/99 75.25% 11/99 75.62% 12/99 86.26% 1/00 83.36% 2/00 87.12% 3/00 82.88% 4/00 88.32% 5/00 92.91% 6/00 91.30% 7/00 91.28% 8/00 90.31% 9/00 98.83% 10/00 106.72% 11/00 116.04% 12/00 113.81% 1/01 107.41% 2/01 114.58% 3/01 103.94% 4/01 106.17% 5/01 109.93% 6/01 88.53% 7/01 89.94% 8/01 94.33% 9/01 64.33% 10/01 64.77% 11/01 64.93% 12/01 67.01% KAYNE ANDERSON RUDNICK SMALL-MID CAP FUND COMPARISON OF THE CHANGE IN VALUE OF A $10,000 INVESTMENT IN THE KAYNE ANDERSON RUDNICK SMALL CAP FUND, THE RUSSELL 2000 INDEX AND THE RUSSELL 2500 INDEX Average Annual Total Return for the periods ending December 31, 2001 One Year Five Years Since Inception (10/18/96) 6.40% 13.81% 14.33% Kayne Anderson Rudnick Small Cap Fund Russell 2000 Index Russell 2500 Index -------------- ------------------ ------------------ 10/18/1996 10,000 10,000 10,000 12/31/1996 10,401 10,471 10,438 3/31/1997 10,129 9,930 10,088 6/30/1997 11,390 11,539 11,613 9/30/1997 12,856 13,257 13,279 12/31/1997 12,426 12,813 12,980 3/31/1998 13,781 14,101 14,311 6/30/1998 13,933 13,444 13,714 9/30/1998 12,506 10,736 11,099 12/31/1998 14,435 12,486 12,694 3/31/1999 13,838 11,809 12,412 6/30/1999 15,779 13,646 14,447 9/30/1999 14,349 12,783 13,516 12/31/1999 14,957 15,140 16,174 3/31/2000 15,402 16,212 17,808 6/30/2000 15,646 15,600 17,095 9/30/2000 16,010 15,773 17,506 12/31/2000 18,662 14,683 16,865 3/31/2001 17,903 13,727 15,403 6/30/2001 20,990 15,689 17,513 9/30/2001 17,501 12,427 14,219 12/31/2001 19,857 14,918 17,070 PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE. THE RETURNS SHOWN DO NOT REFLECT THE DEDUCTION OF TAXES THAT A SHAREHOLDER WOULD PAY ON FUND DISTRIBUTIONS OR THE REDEMPTION OF FUND SHARES. THE RUSSELL 2000 INDEX IS FORMED BY TAKING THE 3,000 LARGEST U.S. COMPANIES AND THEN ELIMINATING THE LARGEST 1,000 LEAVING A GOOD SMALL COMPANY INDEX. THE RUSSELL 2500 INDEX MEASURES THE PERFORMANCE OF THE 2,500 SMALLEST COMPANIES IN THE RUSSELL 3000 INDEX, WHICH REPRESENTS APPROXIMATELY 16% OF THE TOTAL MARKET CAPITALIZATION OF THE RUSSELL 3000 INDEX. 8 KAYNE ANDERSON RUDNICK SMALL-MID CAP FUND SCHEDULE OF INVESTMENTS IN SECURITIES AT DECEMBER 31, 2001 - (Continued) SHARES VALUE ------ ----- COMMON STOCKS: 98.4% BASIC MATERIALS/BUILDING AND CONSTRUCTION: 2.6% 95,480 Insituform Technologies, Inc. - Class A* ........ $ 2,442,378 ------------ BASIC MATERIALS/CHEMICALS: 3.1% 44,370 OM Group, Inc ................................... 2,936,850 ------------ BASIC MATERIALS/PACKAGING: 2.2% 35,072 Bemis Co ........................................ 1,724,841 10,099 Liqui-Box Corp .................................. 416,584 ------------ 2,141,425 ------------ BASIC MATERIALS/PAINTS AND COATING: 2.7% 66,120 Valspar Corp .................................... 2,618,352 ------------ CAPITAL GOODS/AEROSPACE & DEFENSE: 1.1% 77,331 HEICO Corp. - Class A ........................... 1,043,195 ------------ CAPITAL GOODS/MACHINERY EQUIPMENT: 6.6% 49,100 Donaldson Co., Inc .............................. 1,907,044 59,807 Federal Signal Corp ............................. 1,331,902 64,710 Teleflex, Inc ................................... 3,061,430 ------------ 6,300,376 ------------ CONSUMER CYCLICAL/ADVERTISING: 3.7% 101,310 Catalina Marketing Corp.* ....................... 3,515,457 ------------ CONSUMER CYCLICAL/FURNITURE: 2.5% 107,572 LA-Z Boy, Inc ................................... 2,347,221 ------------ CONSUMER CYCLICAL/SERVICES: 9.2% 69,765 ABM Industries, Inc ............................. 2,187,133 62,880 Cintas Corp ..................................... 3,018,240 76,162 Reynolds & Reynolds, Inc. - Class A ............. 1,846,929 34,982 Strayer Education, Inc .......................... 1,704,323 ------------ 8,756,625 ------------ CONSUMER STAPLES/FOOD: 1.1% 26,307 Tootsie Roll Industries, Inc .................... 1,028,078 ------------ ENERGY/OIL AND GAS PRODUCTION: 5.1% 59,129 Devon Energy Corp ............................... 2,285,336 102,975 Hanover Compressor Co.* ......................... 2,601,148 ------------ 4,886,484 ------------ 9 KAYNE ANDERSON RUDNICK SMALL-MID CAP FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 - (Continued) SHARES VALUE ------ ----- FINANCIAL/BANKS: 5.8% 157,082 National Commerce Financial Corp ................ $ 3,974,175 61,195 Washington Federal, Inc ......................... 1,577,607 ------------ 5,551,782 ------------ FINANCIAL/FINANCIAL SERVICES: 12.3% 82,867 Certegy, Inc .................................... 2,835,709 80,004 Eaton Vance Corp ................................ 2,844,142 47,585 Equifax, Inc .................................... 1,149,178 58,050 FactSet Research Systems, Inc ................... 2,028,847 44,560 Fair, Isaac and Company, Inc .................... 2,808,171 ------------ 11,666,047 ------------ FINANCIAL/INSURANCE: 5.5% 66,055 Cincinnati Financial Corp ....................... 2,519,998 82,000 Reinsurance Group of America, Inc ............... 2,728,960 ------------ 5,248,958 ------------ FINANCIAL/FINANCIAL TECHNOLOGY: 4.2% 180,815 Jack Henry & Associates ......................... 3,949,000 ------------ HEALTH CARE/DRUGS & HOSPITAL SUPPLIES: 9.9% 35,596 King Pharmaceuticals, Inc.* ..................... 1,499,659 39,400 Landauer, Inc ................................... 1,333,690 78,785 Techne Corp.* ................................... 2,903,227 129,210 Syncor International Corp ....................... 3,700,574 ------------ 9,437,150 ------------ HEALTH CARE/MEDICAL INFORMATION SYSTEMS: 6.1% 132,440 Hooper Holmes, Inc .............................. 1,185,338 237,965 IMS Health, Inc ................................. 4,642,697 ------------ 5,828,035 ------------ TECHNOLOGY/SEMICONDUCTORS: 3.7% 67,164 Maxim Integrated Products, Inc.* ................ 3,526,782 ------------ TECHNOLOGY/SOFTWARE & SERVICES: 6.4% 49,395 Black Box Corp.* ................................ 2,612,008 85,615 CSG Systems International, Inc.* ................ 3,463,127 ------------ 6,075,135 ------------ TRANSPORTATION/TRANSPORTATION - SERVICES: 4.6% 150,800 C.H. Robinson Worldwide, Inc .................... 4,360,382 ------------ TOTAL COMMON STOCKS (cost $83,471,850) .......................................... 93,659,712 ------------ 10 KAYNE ANDERSON RUDNICK SMALL-MID CAP FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 - (Continued) VALUE ----- TOTAL INVESTMENTS IN SECURITIES (cost $83,471,850): 98.4% $ 93,659,712 Other Assets less Liabilities: 1.6% 1,478,777 ------------ NET ASSETS: 100.0% $ 95,138,489 ============ * Non-income producing security. See accompanying Notes to Financial Statements. 11 KAYNE ANDERSON RUDNICK INTERNATIONAL FUND GOAL The KAYNE ANDERSON RUDNICK INTERNATIONAL MUTUAL FUND seeks to achieve superior, long-term results by investing in high-quality companies outside the U.S. We pursue this goal through a focused-investment philosophy that relies on: (1) a commitment to quality; (2) long-term vision; (3) independent fundamental research; (4) broad diversification; and (5) a valuation-driven decision process. We define quality companies as those possessing a global competitive advantage, management excellence, financial strength and flexibility, high profitability, and consistent earnings. We seek to diversify the Fund across countries and industries but do not aim to replicate the country allocation of our benchmark, the MSCI(R) EAFE (Europe, Australia, and the Far East) Index. COMMENTARY For the six-months ended December 2001, the Fund was off 12.32% total return versus a decline of 8.45% for the MSCI EAFE Index (in dollar terms). The Fund underperformed during the third quarter, a negative quarter for the international markets, but outperformed during the fourth quarter, a positive quarter for the markets. This result confirms our belief that the Fund is better positioned to benefit from a market recovery when the global economy stabilizes than a protracted bear market. Over the last six months, Japan was the developed world's worst performing country with a decline of 24.3% in the Topix index (in dollar terms), underperforming the European markets with a -4.5% in the Eurotop 300 Index, (also in dollar terms). European markets' dollar returns were helped by a moderate strengthening of the euro over the period (+4.8%), while the Japanese market's dollar-based return was hurt by a 5.3% decline in the yen-to-dollar exchange rate. In the fourth quarter alone, both the euro and the yen declined sharply against the U.S. dollar, reflecting investors' belief that the U.S. economy is in a position to recover sooner than the European and Japanese economies. For the full-year 2001, the Fund underperformed its benchmark by approximately 700 basis points ("bp"), after outperforming by approximately 540 bp in 2000. Although disappointing, the Fund's 2001 performance is consistent with its core-growth positioning, as international growth stocks have greatly underperformed international value stocks, both in 2001 and since the start of the market downturn. For the first three-quarters of the year, the best-performing international equity funds reflected characteristics of deep value, cyclical earnings, lower quality, local rather than global earnings, a bias toward small or mid-cap stocks, underweight U.S. or emerging-market sales, and a concentrated, rather than broad, sector diversification. The Kayne Anderson Rudnick strategy has, by definition, exposure opposite to these characteristics. These factors contributed to our relative underperformance for 2001, but also to our outperformance in the fourth quarter. Yet, over the last two years, the Fund's performance has approximated the MSCI EAFE Index despite the Fund's high-quality positioning during a period when high-quality global companies and consistent growth have dramatically underperformed. The underperformance of the MSCI EAFE Index, -21.4%, versus the S&P 500 Index, -11.9%, is even more disappointing because in many ways it does not reflect underlying fundamentals, particularly among European corporations. Most international equity markets are now sharply undervalued compared to the U.S. Although it may be tempting to underweight an allocation to international equities, it is important to remember that "reversion to the mean" is a very powerful investment phenomenon that has worked repeatedly for the benefit of the patient investor. 12 During the second half of 2001, we bought Allied Irish Banks ("AIB"), BP (formerly known as "British Petroleum"), Carrefour, Dexia, and Vivendi Universal (see below), and sold BHP Billiton Ltd. ("BHP"), Cable & Wireless, Diageo, Invensys, and Zurich Financial Services. Air Liquide, BHP, Canon, Rentokil Initial, and Total Fina Elf were among the top contributors to our performance for the year 2001. Alcatel, Cable & Wireless, Fujitsu, Pearson, and Zurich Financial Services hurt our performance. NEW PURCHASES AIB AIB dominates its home market, Ireland, with a 40% market share in the banking sector. The company pursues a conservative expansion strategy aimed at further developing its franchise in the U.S. and Poland. With a minimal exposure to investment banking and other market-related activities, AIB enjoys good earning visibility. We took advantage of the September 11 market panic to buy into one of the cheapest, quality banks in Europe. BP BP's strategy is to provide investors with protection against the volatility of crude oil prices by focusing on the largest, low-cost, higher-margin oil and gas fields. It has repositioned its upstream portfolio to benefit from the expected growth in demand from natural gas. The company has a strong financial position illustrated by its "AA+" Standard & Poor's credit rating. CARREFOUR Based in France, Carrefour is the world's second-largest food retailer. After a difficult merger with Promodes in 2000, which led Carrefour to a loss of market share in its home market, the stock lost its historical valuation premium. Now, after several quarters of hard work from its well-respected management team, the company is progressively regaining market share. We believe that we bought one of the world's best retailers at a relative valuation level close to its historic low. DEXIA Headquartered in Belgium, Dexia has one of the best credit standings among worldwide financial institutions. Its consistent and predictable earning flows are based on a low-risk, well-diversified business portfolio focused on niche markets such as European public finance and Benelux retail banking. The company's reputation stems from its high cost efficiency and the management's excellent record. VIVENDI UNIVERSAL This French-American global media company offers: a range of premium media content and distribution assets, a strong management team with a clear strategy, a limited exposure to advertising revenues (less than 3% of total group's revenues), and a valuation that stands at a sharp discount to its peer group. Expectations remain high for strong profit growth in 2001 and 2002 despite an increasingly difficult business climate. 13 OUTLOOK The past 21 months and, particularly, the year 2001 have been difficult for the international asset class. At the end of 2001, the MSCI EAFE Index was back to the level it stood at the end of 1996. International company profits, however, have compounded over the last five years at approximately 14% per annum, suggesting that the sharp decline in international stocks over the past two years does not reflect foreign company fundamentals. During the last five years, many first-class foreign corporations emerged as global competitors to U.S. companies, with the same level of commitment to creating shareholder value. Short-term market participants do not recognize the value of these international companies, making them, we believe, very much undervalued compared to the U.S. market and offering an excellent investment opportunity to the medium to long-term investor. The Kayne Anderson Rudnick International strategy offers a high-quality investment approach allowing investors to participate selectively in the growth of international markets. The Fund focuses on high-quality foreign companies, which in many cases have taken advantage of the current economic downturn to strengthen their market positions and make their operations more efficient. We positioned the Fund to benefit from renewed economic growth and, in our view, consistently growing global companies should outperform the broader market. Jean-Baptiste Nadal, CFA Fund Manager KAYNE ANDERSON RUDNICK INTERNATIONAL FUND COMPARISON OF THE CHANGE IN VALUE OF A $10,000 INVESTMENT IN THE KAYNE ANDERSON RUDNICK INTERNATIONAL FUND AND THE MORGAN STANLEY CAPITAL INTERNATIONAL EUROPE, AUSTRALASIA AND FAR EAST INDEX Average Annual Total Return for the periods ending December 31, 2001 One Year Five Years Since Inception (10/18/96) (29.72%) 4.15% 4.56% Kayne Anderson Rudnick MSCI Europe, Australasia International Fund and Far East Index ------------------ ------------------ 10/18/1996 10,000 10,000 12/31/1996 10,256 10,269 3/31/1997 10,604 10,116 6/30/1997 11,949 11,436 9/30/1997 12,306 11,363 12/31/1997 11,940 10,480 3/31/1998 13,853 12,030 6/30/1998 14,071 12,166 9/30/1998 12,462 10,444 12/31/1998 15,101 12,611 3/31/1999 15,821 12,796 6/30/1999 16,913 13,130 9/30/1999 16,933 13,715 12/31/1999 19,792 16,054 3/31/2000 19,888 16,046 6/30/2000 19,854 15,420 9/30/2000 18,641 14,185 12/31/2000 17,882 13,813 3/31/2001 14,759 11,925 6/30/2001 14,333 11,777 9/30/2001 11,702 10,134 12/31/2001 12,568 12,830 PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE. THE RETURNS SHOWN DO NOT REFLECT THE DEDUCTION OF TAXES THAT A SHAREHOLDER WOULD PAY ON FUND DISTRIBUTIONS OR THE REDEMPTION OF FUND SHARES. THE MSCI EAFE INDEX IS AN UNMANAGED INDEX THAT IS THE GENERALLY ACCEPTED BENCHMARK FOR MAJOR OVERSEAS MARKETS. THE MSCI EAFE INDEX CONSISTS OF SECURITIES LISTED ON EXCHANGES IN EUROPEAN, AUSTRALASIAN AND FAR EASTERN MARKETS AND INCLUDES DIVIDENDS AND DISTRIBUTIONS, BUT DOES NOT REFLECT FEES, BROKERAGE COMMISSIONS, OR OTHER EXPENSES OF INVESTING. THE INDEX WEIGHTINGS REPRESENT THE RELATIVE CAPITALIZATIONS OF THE MAJOR OVERSEAS MARKETS INCLUDED IN THE INDEX ON A U.S. DOLLAR ADJUSTED BASIS. 14 KAYNE ANDERSON RUDNICK INTERNATIONAL FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 SHARES VALUE ------ ----- COMMON STOCKS: 97.6% BELGIUM: 2.7% 106,800 Dexia ........................................... $ 1,535,602 ------------ FINLAND: 3.9% 89,107 Nokia ADR ....................................... 2,185,795 ------------ FRANCE: 16.8% 7,510 Air Liquide ..................................... 1,052,397 111,145 Alcatel* ........................................ 1,899,879 86,384 Axa ADR ......................................... 1,815,792 11,300 Carrefour Supermarche ........................... 587,525 72,040 Groupe Danone ADR ............................... 1,725,358 18,096 Total Fina Elf ADR .............................. 1,271,063 20,940 Vivendi Universal ............................... 1,146,534 ------------ 9,498,548 ------------ GERMANY: 2.6% 46,636 SAP ADR ......................................... 1,489,088 ------------ HONG KONG: 3.6% 34,364 HSBC ADR ........................................ 2,051,874 ------------ IRELAND: 2.5% 121,600 Allied Irish Banks PLC .......................... 1,407,386 ------------ JAPAN: 15.7% 65,000 Canon ........................................... 2,233,355 135,000 Fujitsu ......................................... 981,180 84,000 Matsushita Electric Industrial .................. 1,077,040 176,000 Minebea ......................................... 946,634 210 Nippon Telegraph & Telephone .................... 683,148 10,000 SMC Corp ........................................ 1,016,304 28,700 Sony ............................................ 1,309,713 141,000 Sumitomo Bank ................................... 596,176 ------------ 8,843,550 ------------ MEXICO: 2.9% 108,451 Panamerican Beverages ADR ....................... 1,611,582 ------------ 15 KAYNE ANDERSON RUDNICK INTERNATIONAL FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 - (Continued) SHARES VALUE ------ ----- NETHERLANDS: 13.0% 68,245 Aegon ........................................... $ 1,847,051 33,152 Heineken ........................................ 1,257,051 77,809 ING Groep NV .................................... 1,983,982 77,725 Koninklijke Ahold ............................... 2,261,402 ------------ 7,349,486 ------------ SPAIN: 9.8% 115,505 Endesa ADR ...................................... 1,809,963 117,451 Repsol ADR ...................................... 1,706,563 152,058 Telefonica* ..................................... 2,034,719 ------------ 5,551,245 ------------ SWITZERLAND: 10.6% 27,100 Adecco SW ....................................... 1,473,004 34,243 Nestle ADR ...................................... 1,825,275 73,476 Novartis ADR .................................... 2,681,874 ------------ 5,980,153 ------------ UNITED KINGDOM: 13.5% 146,550 BP Amoco PLC .................................... 1,137,404 40,765 GlaxoSmithKline PLC ............................. 1,020,841 98,624 Pearson ......................................... 1,133,821 295,600 Rentokil Initial ................................ 1,185,770 23,424 Reuters ADR ..................................... 1,405,205 68,880 Vodafone ADR .................................... 1,768,838 ------------ 7,651,879 ------------ TOTAL COMMON STOCKS (cost $65,003,063) .......................................... 55,156,188 ------------ TOTAL INVESTMENTS IN SECURITIES (cost $65,003,063): 97.6% ................................... 55,156,188 Other Assets less Liabilities: 2.4% ........................... 1,357,018 ------------ NET ASSETS: 100.0% ............................................ $ 56,513,206 ============ *Non-income producing security. See accompanying Notes to Financial Statements. 16 KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND GOAL The KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND seeks to provide total returns in excess of the Lehman Intermediate Government / Credit Index, while maintaining quality and liquidity. Our strategy is to provide a total return which captures much of the fixed-income market return with a combination of income and capital appreciation by adjusting sectors and maturities to capitalize on changing market conditions. COMMENTARY The federal funds rate began 2001 at 6.50% and ended the year at 1.75%, a 40-year low. Despite the drop in rates, the benchmark 10-year U.S. Treasury Note moved from 5.11% at the beginning of the year to 5.05% at the close. As indicated in the chart below, U.S. TREASURY 10-YEAR NOTE, these rates hide the volatility experienced during the year. The 10-year U.S. Treasury traded at a high of 5.52% and a low of 4.18% in 2001. During the early part of 2001, investors focused their concerns on the California's energy crisis and the fallout for PG&E and Edison International. After September 11, we saw a massive flight to quality that pushed some interest rates to 40-year lows. However, corporate interest-rate spreads widened as investors tried to discern the impact on the economy. In the last two months, Enron fell but the economy also showed new strength. US TREASURY 10 YEAR NOTE 2001 Min 4.18 Max 5.52 Begins Year 01/01/01 Ends Year 12/31/01 01/01/01 5.11 01/02/01 4.92 01/03/01 5.16 01/04/01 5.04 01/05/01 4.93 01/08/01 4.96 01/09/01 5.00 01/10/01 5.10 01/11/01 5.11 01/12/01 5.25 01/16/01 5.23 01/17/01 5.18 01/18/01 5.11 01/19/01 5.17 01/22/01 5.23 01/23/01 5.28 01/24/01 5.31 01/25/01 5.25 01/26/01 5.27 01/29/01 5.30 01/30/01 5.23 01/31/01 5.11 02/01/01 5.09 02/02/01 5.15 02/05/01 5.17 02/06/01 5.18 02/07/01 5.19 02/08/01 5.09 02/09/01 5.03 02/12/01 5.05 02/13/01 5.07 02/14/01 5.16 02/15/01 5.17 02/16/01 5.11 02/19/01 5.10 02/20/01 5.11 02/21/01 5.14 02/22/01 5.16 02/23/01 5.10 02/26/01 5.03 02/27/01 4.95 02/28/01 4.90 03/01/01 4.87 03/02/01 4.95 03/05/01 4.98 03/06/01 4.97 03/07/01 4.90 03/08/01 4.89 03/09/01 4.93 03/12/01 4.89 03/13/01 4.93 03/14/01 4.82 03/15/01 4.79 03/16/01 4.77 03/19/01 4.81 03/20/01 4.76 03/21/01 4.78 03/22/01 4.76 03/23/01 4.82 03/26/01 4.87 03/27/01 5.01 03/28/01 4.98 03/29/01 5.00 03/30/01 4.92 04/02/01 4.98 04/03/01 4.93 04/04/01 4.91 04/05/01 4.97 04/06/01 4.89 04/09/01 4.93 04/10/01 5.08 04/11/01 5.12 04/12/01 5.17 04/13/01 5.16 04/16/01 5.25 04/17/01 5.23 04/18/01 5.15 04/19/01 5.29 04/20/01 5.29 04/23/01 5.18 04/24/01 5.21 04/25/01 5.26 04/26/01 5.19 04/27/01 5.33 04/30/01 5.34 05/01/01 5.29 05/02/01 5.29 05/03/01 5.21 05/04/01 5.21 05/07/01 5.20 05/08/01 5.25 05/09/01 5.17 05/10/01 5.30 05/11/01 5.45 05/14/01 5.42 05/15/01 5.51 05/16/01 5.45 05/17/01 5.41 05/18/01 5.41 05/21/01 5.37 05/22/01 5.41 05/23/01 5.40 05/24/01 5.49 05/25/01 5.51 05/28/01 5.49 05/29/01 5.52 05/30/01 5.51 05/31/01 5.38 06/01/01 5.36 06/04/01 5.34 06/05/01 5.27 06/06/01 5.26 06/07/01 5.32 06/08/01 5.36 06/11/01 5.28 06/12/01 5.25 06/13/01 5.26 06/14/01 5.22 06/15/01 5.23 06/18/01 5.25 06/19/01 5.24 06/20/01 5.21 06/21/01 5.17 06/22/01 5.12 06/25/01 5.13 06/26/01 5.22 06/27/01 5.24 06/28/01 5.33 06/29/01 5.41 07/02/01 5.32 07/03/01 5.38 07/04/01 5.38 07/05/01 5.39 07/06/01 5.36 07/09/01 5.33 07/10/01 5.27 07/11/01 5.29 07/12/01 5.23 07/13/01 5.22 07/16/01 5.17 07/17/01 5.20 07/18/01 5.09 07/19/01 5.11 07/20/01 5.13 07/23/01 5.10 07/24/01 5.11 07/25/01 5.18 07/26/01 5.13 07/27/01 5.10 07/30/01 5.07 07/31/01 5.05 08/01/01 5.07 08/02/01 5.15 08/03/01 5.16 08/06/01 5.15 08/07/01 5.17 08/08/01 5.05 08/09/01 5.03 08/10/01 4.98 08/13/01 4.98 08/14/01 4.97 08/15/01 5.00 08/16/01 4.94 08/17/01 4.84 08/20/01 4.90 08/21/01 4.86 08/22/01 4.89 08/23/01 4.88 08/24/01 4.92 08/27/01 4.92 08/28/01 4.84 08/29/01 4.77 08/30/01 4.81 08/31/01 4.83 09/03/01 4.83 09/04/01 4.96 09/05/01 4.97 09/06/01 4.87 09/07/01 4.79 09/10/01 4.84 09/11/01 4.81 09/13/01 4.62 09/14/01 4.55 09/17/01 4.62 09/18/01 4.71 09/19/01 4.69 09/20/01 4.74 09/21/01 4.69 09/24/01 4.72 09/25/01 4.70 09/26/01 4.63 09/27/01 4.55 09/28/01 4.59 10/01/01 4.54 10/02/01 4.50 10/03/01 4.47 10/04/01 4.51 10/05/01 4.50 10/08/01 4.51 10/09/01 4.59 10/10/01 4.60 10/11/01 4.67 10/12/01 4.67 10/15/01 4.60 10/16/01 4.56 10/17/01 4.57 10/18/01 4.58 10/19/01 4.62 10/22/01 4.63 10/23/01 4.64 10/24/01 4.60 10/25/01 4.55 10/26/01 4.53 10/29/01 4.48 10/30/01 4.41 10/31/01 4.23 11/01/01 4.24 11/02/01 4.36 11/05/01 4.30 11/06/01 4.26 11/07/01 4.18 11/08/01 4.29 11/09/01 4.30 11/12/01 4.30 11/13/01 4.38 11/14/01 4.54 11/15/01 4.76 11/16/01 4.84 11/19/01 4.80 11/20/01 4.86 11/21/01 5.01 11/22/01 4.97 11/23/01 4.99 11/26/01 5.02 11/27/01 4.92 11/28/01 4.93 11/29/01 4.76 11/30/01 4.75 12/03/01 4.69 12/04/01 4.66 12/05/01 4.89 12/06/01 5.01 12/07/01 5.17 12/10/01 5.10 12/11/01 5.05 12/12/01 5.01 12/13/01 5.07 12/14/01 5.19 12/17/01 5.19 12/18/01 5.12 12/19/01 5.05 12/20/01 5.03 12/21/01 5.08 12/24/01 5.14 12/25/01 5.14 12/26/01 5.20 12/27/01 5.07 12/28/01 5.11 12/31/01 5.05 17 OUTLOOK Entering 2002, most economists agree that an economic recovery will occur in 2002. They disagree, however, on the strength of that recovery. We believe that the economy will pick up slowly and gain strength toward the second half of 2002. Several economic stimuli are already in the pipeline. Monetary-policy shifts typically require a minimum of six months to take affect. The last five rate cuts by the Federal Open Market Committee ("FOMC") were made in the past six months and have not had their full impact on the economy. While Congress had been unable to pass a stimulus bill, new fiscal stimuli are affecting the economy. The income-tax rate cuts passed during the summer include additional cuts in 2002. Along with lower income taxes, consumers find more cash in their pockets from lower gasoline prices. Economists estimate that the average household saves $300 a year from reduced oil prices. The slowdown in the economy has been relatively mild mostly because consumers never stopped spending. New home and car sales, in particular, have remained strong. With the additional stimuli in place, we anticipate consumers will remain fairly active in the marketplace. We see continued volatility in interest rates over the short term. Funds that are earmarked for equity investment, and that have been sitting in the short end of the fixed-income markets, are beginning to move back into the equity markets. These shifts create near-term volatility but, more important, should result in a more stable market by the second quarter. Inflation is, as always, the biggest influence on the fixed-income market. While some market participants worry about the strength of the economic recovery pushing up inflation rates, significant evidence suggests that inflation rates may drop below the current 1.9% Consumer Price Index over the next few months. This drop should give the fixed-income markets a chance to stabilize in the current lower interest-rate environment. Kimberly Friedricks Fund Manager KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND COMPARISON OF THE CHANGE IN VALUE OF A $10,000 INVESTMENT IN THE KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND AND THE LEHMAN BROTHERS GOVERNMENT / CREDIT INTERMEDIATE BOND INDEX Average Annual Total Return for the periods ending December 31, 2001 One Year Five Years Since Inception (10/28/96) -------- ---------- -------------------------- 7.98% 6.24% 6.06% Kayne Anderson Rudnick Intermediate Total Lehman Brothers Government / Return Bond Fund Credit Intermediate Bond Index ---------------- ------------------------------ 10/28/1996 10,000 10,000 12/31/1996 10,020 10,067 3/31/1997 9,948 10,056 6/30/1997 10,249 10,352 9/30/1997 10,525 10,631 12/31/1997 10,741 10,859 3/31/1998 10,900 11,028 6/30/1998 11,071 11,235 9/30/1998 11,307 11,739 12/31/1998 11,558 11,773 3/31/1999 11,531 11,751 6/30/1999 11,413 11,705 9/30/1999 11,519 11,813 12/31/1999 11,483 11,819 3/31/2000 11,661 11,995 6/30/2000 11,840 12,198 9/30/2000 12,150 12,549 12/31/2000 12,563 13,013 3/31/2001 12,951 13,455 6/30/2001 12,990 13,545 9/30/2001 13,575 14,168 12/31/2001 13,565 14,179 PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE. THE RETURNS SHOWN DO NOT REFLECT THE DEDUCTION OF TAXES THAT A SHAREHOLDER WOULD PAY ON FUND DISTRIBUTIONS OR THE REDEMPTION OF FUND SHARES. LEHMAN BROTHERS GOVERNMENT/CREDIT INTERMEDIATE BOND INDEX IS A TOTAL RETURN INDEX CONSISTING OF INVESTMENT GRADE CORPORATE DEBT ISSUES AS WELL AS DEBT ISSUES OF U.S. GOVERNMENT AGENCIES AND THE U.S. TREASURY. THE DEBT ISSUES ALL MAINTAIN MATURITIES WITHIN A RANGE OF 1 - 10 YEARS. 18 KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001
PRINCIPAL COUPON MATURITY AMOUNT RATE DATE VALUE ------ ---- ---- ----- BONDS: 42.2% AEROSPACE: 1.1% $ 335,000 Boeing Capital Corp ............................. 7.100% 09/27/05 $ 352,755 70,000 Honeywell International ......................... 9.200% 02/15/03 74,770 ----------- 427,525 ----------- AUTO/TRUCK MANUFACTURER: 3.1% 1,250,000 Daimlerchrysler National Holding Corp. .......... 7.200% 09/01/09 1,251,131 ----------- BANKS: 2.5% 1,000,000 Citicorp ........................................ 6.375% 11/15/08 1,016,964 ----------- BEVERAGES: 3.4% 70,000 Anheuser Busch Companies, Inc. .................. 6.750% 11/01/06 73,864 250,000 Anheuser-Busch Companies, Inc. .................. 7.100% 06/15/07 267,499 1,000,000 Coca-Cola Bottling Co ........................... 6.850% 11/01/07 1,029,087 ----------- 1,370,450 ----------- COMMERCIAL BANKS: 1.3% 500,000 Wells Fargo Financial ........................... 6.375% 08/01/11 508,381 ----------- COMMUNICATION SERVICES: 0.4% 175,000 TCI Communications, Inc ......................... 6.375% 05/01/03 179,887 ----------- COMPUTERS: 1.2% 500,000 Dell Computer Corp .............................. 6.550% 04/15/08 502,843 ----------- COMPUTERS - MICRO: 1.9% 750,000 Hewlett-Packard Co. ............................. 7.150% 06/15/05 790,744 ----------- DIVERSIFIED FINANCIAL SERVICES: 4.0% 600,000 International Lease Finance Corp. ............... 5.750% 10/15/06 599,036 1,000,000 John Deere Capital Corp. ........................ 5.520% 04/30/04 1,026,051 ----------- 1,625,087 ----------- DRUGS & PHARMACEUTICALS: 2.5% 1,000,000 Abbott Laboratories ............................. 5.625% 07/01/06 1,028,388 ----------- FINANCE: 16.4% 175,000 Bear Stearns Co. ................................ 6.625% 10/01/04 183,790 825,000 Bear Stearns Co. ................................ 7.800% 08/15/07 889,483 850,000 Boeing Capital Corp ............................. 5.650% 05/15/06 849,801
19 KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 - (Continued)
PRINCIPAL COUPON MATURITY AMOUNT RATE DATE VALUE ------ ---- ---- ----- FINANCE - (CONTINUED) $1,000,000 Countrywide Home Loans, Inc ..................... 7.450% 09/16/03 $ 1,058,090 300,000 Ford Motor Credit Corp .......................... 6.700% 07/16/04 304,423 500,000 Ford Motor Credit Corp .......................... 9.030% 12/30/09 537,041 1,000,000 General Motors Acceptance Corp .................. 6.750% 01/15/06 1,017,353 192,000 General Motors Acceptance Corp .................. 7.125% 05/01/03 198,327 1,000,000 Lehman Brothers Holdings, Inc ................... 7.250% 10/15/03 1,062,552 500,000 Lehman Brothers Holdings, Inc ................... 8.750% 05/15/02 510,738 ----------- 6,611,598 ----------- INDUSTRIALS: 0.5% 175,000 Caterpillar, Inc ................................ 8.440% 11/26/03 189,346 ----------- MOTION PICTURE PRODUCTION & OTHER SERVICES: 3.1% 1,250,000 Walt Disney Co. (The) ........................... 5.500% 12/29/06 1,239,008 ----------- RETAIL STORES: 0.8% 300,000 Wal-Mart Stores ................................. 6.550% 08/10/04 320,248 ----------- TOTAL BONDS (cost $16,526,028) 17,061,600 ----------- U.S. GOVERNMENT AND GOVERNMENT AGENCY OBLIGATIONS: 54.9% MORTGAGE-BACKED/PASS-THROUGH SECURITIES: 15.5% 290,867 Federal Home Loan Mortgage Corp ................. 7.000% 04/01/16 298,527 183,756 Federal Home Loan Mortgage Corp ................. 7.500% 07/01/09 193,276 474,714 Federal Home Loan Mortgage Corp ................. 7.500% 04/01/14 496,464 875,000 Federal National Mortgage Association ........... 6.000% 05/16/11 885,122 331,709 Federal National Mortgage Association ........... 7.000% 05/01/14 342,428 105,996 Federal National Mortgage Association ........... 8.000% 01/01/15 112,240 1,685,423 Government National Mortgage Association ........ 6.000% 08/15/31 1,655,403 537,862 Government National Mortgage Association ........ 7.000% 07/20/13 557,015 6,286 Government National Mortgage Association ........ 8.000% 11/15/21 6,575 184,411 Government National Mortgage Association ........ 8.000% 07/15/23 192,894 148,239 Government National Mortgage Association ........ 8.000% 07/15/23 155,058 682,944 Government National Mortgage Association ........ 8.000% 07/20/26 712,037 69,170 Government National Mortgage Association ........ 8.000% 09/15/26 72,352 36,282 Government National Mortgage Association ........ 8.000% 11/15/26 37,951 9,460 Government National Mortgage Association ........ 8.500% 12/15/22 10,025 412,367 Government National Mortgage Association ........ 8.500% 08/15/24 436,980
20 KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 - (Continued)
PRINCIPAL COUPON MATURITY AMOUNT RATE DATE VALUE ------ ---- ---- ----- MORTGAGE-BACKED/PASS-THROUGH SECURITIES - (CONTINUED) $ 66,749 Government National Mortgage Association ........ 8.500% 08/15/25 $ 70,733 20,528 Government National Mortgage Association ........ 8.500% 06/15/26 21,754 ----------- 6,256,834 ----------- U.S. AGENCY OBLIGATIONS: 18.1% 1,000,000 Federal Home Loan Bank .......................... 5.925% 04/09/08 1,040,890 250,000 Federal Home Loan Bank .......................... 6.400% 01/26/11 258,149 500,000 Federal Home Loan Bank System ................... 9.000% 12/20/16 498,750 1,000,000 Federal Home Loan Mortgage Corp ................. 6.500% 05/09/11 1,010,696 600,000 Federal National Mortgage Association ........... 5.625% 05/14/04 629,745 1,000,000 Federal National Mortgage Association ........... 6.125% 03/28/11 1,010,856 275,000 Federal National Mortgage Association ........... 6.250% 02/17/11 281,333 500,000 Federal National Mortgage Association ........... 6.440% 04/08/09 505,154 1,000,000 Federal National Mortgage Association ........... 6.625% 11/15/10 1,065,632 462,000 Federal National Mortgage Association ........... 7.050% 02/12/07 464,325 555,000 Federal Home Loan Mortgage Corp ................. 9.000% 12/21/16 553,612 ----------- 7,319,142 ----------- U.S. TREASURY OBLIGATIONS: 21.3% 500,000 U.S. Treasury Bonds ............................. 7.875% 11/15/04 556,113 1,050,000 U.S. Treasury Bonds ............................. 11.875% 11/15/03 1,218,985 1,257,000 U.S. Treasury Notes ............................. 5.625% 05/15/08 1,317,985 700,000 U.S. Treasury Notes ............................. 6.000% 08/15/09 746,458 1,000,000 U.S. Treasury Notes ............................. 6.250% 02/15/07 1,080,782 1,500,000 U.S. Treasury Notes ............................. 6.500% 10/15/06 1,634,122 1,830,000 U.S. Treasury Notes ............................. 7.500% 02/15/05 2,027,942 ----------- 8,582,387 ----------- TOTAL U.S. GOVERNMENT AND GOVERNMENT AGENCY OBLIGATIONS (cost $21,604,894) 22,158,363 ----------- TOTAL INVESTMENTS IN SECURITIES (cost $38,130,922): 97.1% 39,219,963 Other Assets less Liabilities: 2.9% 1,154,589 ----------- NET ASSETS: 100.0% $40,374,552 ===========
See accompanying Notes to Financial Statements. 21 KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND GOAL The KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND seeks to provide current income exempt from both federal and California state income taxes, by investing in high-quality, intermediate-maturity, California municipal securities. COMMENTARY The federal funds rate began 2001 at 6.50% and ended the year at 1.75%, a 40-year low. Despite the drop in rates, the benchmark 10-year U.S. Treasury Note moved from 5.11% at the beginning of the year to 5.05% at the close. As indicated in the chart below, U.S. TREASURY 10-YEAR NOTE, these rates hide the volatility experienced during the year. The 10-year U.S. Treasury traded at a high of 5.52% and a low of 4.18% in 2001. During the early part of 2001, investors focused their concerns on the California's energy crisis and the fallout for PG&E and Edison International. After September 11, we saw a massive flight to quality that pushed some interest rates to 40-year lows. However, corporate interest-rate spreads widened as investors tried to discern the impact on the economy. In the last two months, Enron fell but the economy also showed new strength. US TREASURY 10 YEAR NOTE 2001 Min 4.18 Max 5.52 Begins Year 01/01/01 Ends Year 12/31/01 01/01/01 5.11 01/02/01 4.92 01/03/01 5.16 01/04/01 5.04 01/05/01 4.93 01/08/01 4.96 01/09/01 5.00 01/10/01 5.10 01/11/01 5.11 01/12/01 5.25 01/16/01 5.23 01/17/01 5.18 01/18/01 5.11 01/19/01 5.17 01/22/01 5.23 01/23/01 5.28 01/24/01 5.31 01/25/01 5.25 01/26/01 5.27 01/29/01 5.30 01/30/01 5.23 01/31/01 5.11 02/01/01 5.09 02/02/01 5.15 02/05/01 5.17 02/06/01 5.18 02/07/01 5.19 02/08/01 5.09 02/09/01 5.03 02/12/01 5.05 02/13/01 5.07 02/14/01 5.16 02/15/01 5.17 02/16/01 5.11 02/19/01 5.10 02/20/01 5.11 02/21/01 5.14 02/22/01 5.16 02/23/01 5.10 02/26/01 5.03 02/27/01 4.95 02/28/01 4.90 03/01/01 4.87 03/02/01 4.95 03/05/01 4.98 03/06/01 4.97 03/07/01 4.90 03/08/01 4.89 03/09/01 4.93 03/12/01 4.89 03/13/01 4.93 03/14/01 4.82 03/15/01 4.79 03/16/01 4.77 03/19/01 4.81 03/20/01 4.76 03/21/01 4.78 03/22/01 4.76 03/23/01 4.82 03/26/01 4.87 03/27/01 5.01 03/28/01 4.98 03/29/01 5.00 03/30/01 4.92 04/02/01 4.98 04/03/01 4.93 04/04/01 4.91 04/05/01 4.97 04/06/01 4.89 04/09/01 4.93 04/10/01 5.08 04/11/01 5.12 04/12/01 5.17 04/13/01 5.16 04/16/01 5.25 04/17/01 5.23 04/18/01 5.15 04/19/01 5.29 04/20/01 5.29 04/23/01 5.18 04/24/01 5.21 04/25/01 5.26 04/26/01 5.19 04/27/01 5.33 04/30/01 5.34 05/01/01 5.29 05/02/01 5.29 05/03/01 5.21 05/04/01 5.21 05/07/01 5.20 05/08/01 5.25 05/09/01 5.17 05/10/01 5.30 05/11/01 5.45 05/14/01 5.42 05/15/01 5.51 05/16/01 5.45 05/17/01 5.41 05/18/01 5.41 05/21/01 5.37 05/22/01 5.41 05/23/01 5.40 05/24/01 5.49 05/25/01 5.51 05/28/01 5.49 05/29/01 5.52 05/30/01 5.51 05/31/01 5.38 06/01/01 5.36 06/04/01 5.34 06/05/01 5.27 06/06/01 5.26 06/07/01 5.32 06/08/01 5.36 06/11/01 5.28 06/12/01 5.25 06/13/01 5.26 06/14/01 5.22 06/15/01 5.23 06/18/01 5.25 06/19/01 5.24 06/20/01 5.21 06/21/01 5.17 06/22/01 5.12 06/25/01 5.13 06/26/01 5.22 06/27/01 5.24 06/28/01 5.33 06/29/01 5.41 07/02/01 5.32 07/03/01 5.38 07/04/01 5.38 07/05/01 5.39 07/06/01 5.36 07/09/01 5.33 07/10/01 5.27 07/11/01 5.29 07/12/01 5.23 07/13/01 5.22 07/16/01 5.17 07/17/01 5.20 07/18/01 5.09 07/19/01 5.11 07/20/01 5.13 07/23/01 5.10 07/24/01 5.11 07/25/01 5.18 07/26/01 5.13 07/27/01 5.10 07/30/01 5.07 07/31/01 5.05 08/01/01 5.07 08/02/01 5.15 08/03/01 5.16 08/06/01 5.15 08/07/01 5.17 08/08/01 5.05 08/09/01 5.03 08/10/01 4.98 08/13/01 4.98 08/14/01 4.97 08/15/01 5.00 08/16/01 4.94 08/17/01 4.84 08/20/01 4.90 08/21/01 4.86 08/22/01 4.89 08/23/01 4.88 08/24/01 4.92 08/27/01 4.92 08/28/01 4.84 08/29/01 4.77 08/30/01 4.81 08/31/01 4.83 09/03/01 4.83 09/04/01 4.96 09/05/01 4.97 09/06/01 4.87 09/07/01 4.79 09/10/01 4.84 09/11/01 4.81 09/13/01 4.62 09/14/01 4.55 09/17/01 4.62 09/18/01 4.71 09/19/01 4.69 09/20/01 4.74 09/21/01 4.69 09/24/01 4.72 09/25/01 4.70 09/26/01 4.63 09/27/01 4.55 09/28/01 4.59 10/01/01 4.54 10/02/01 4.50 10/03/01 4.47 10/04/01 4.51 10/05/01 4.50 10/08/01 4.51 10/09/01 4.59 10/10/01 4.60 10/11/01 4.67 10/12/01 4.67 10/15/01 4.60 10/16/01 4.56 10/17/01 4.57 10/18/01 4.58 10/19/01 4.62 10/22/01 4.63 10/23/01 4.64 10/24/01 4.60 10/25/01 4.55 10/26/01 4.53 10/29/01 4.48 10/30/01 4.41 10/31/01 4.23 11/01/01 4.24 11/02/01 4.36 11/05/01 4.30 11/06/01 4.26 11/07/01 4.18 11/08/01 4.29 11/09/01 4.30 11/12/01 4.30 11/13/01 4.38 11/14/01 4.54 11/15/01 4.76 11/16/01 4.84 11/19/01 4.80 11/20/01 4.86 11/21/01 5.01 11/22/01 4.97 11/23/01 4.99 11/26/01 5.02 11/27/01 4.92 11/28/01 4.93 11/29/01 4.76 11/30/01 4.75 12/03/01 4.69 12/04/01 4.66 12/05/01 4.89 12/06/01 5.01 12/07/01 5.17 12/10/01 5.10 12/11/01 5.05 12/12/01 5.01 12/13/01 5.07 12/14/01 5.19 12/17/01 5.19 12/18/01 5.12 12/19/01 5.05 12/20/01 5.03 12/21/01 5.08 12/24/01 5.14 12/25/01 5.14 12/26/01 5.20 12/27/01 5.07 12/28/01 5.11 12/31/01 5.05 OUTLOOK Entering 2002, most economists agree that an economic recovery will occur in 2002. They disagree, however, on the strength of that recovery. We believe that the economy will pick up slowly and gain strength toward the second half of 2002. Several economic stimuli are already in the pipeline. Monetary-policy shifts typically require a minimum of six months to take affect. The last five rate cuts by the Federal Open Market Committee ("FOMC") were made in the past six months and have not had their full impact on the economy. While Congress had been unable to pass a stimulus bill, new fiscal stimuli are affecting the economy. The income-tax rate cuts passed during the summer include additional cuts in 2002. Along with lower income taxes, consumers find more cash in their pockets from lower gasoline prices. Economists estimate that the average household saves $300 a year from reduced oil prices. The slowdown in the economy has been relatively mild mostly because consumers never stopped spending. New home and car sales, in particular, have remained strong. With the additional stimuli in place, we anticipate consumers will remain fairly active in the marketplace. 22 We see continued volatility in interest rates over the short term. Funds that are earmarked for equity investment, and that have been sitting in the short end of the fixed-income markets, are beginning to move back into the equity markets. These shifts create near-term volatility but, more important, should result in a more stable market by the second quarter. Inflation is, as always, the biggest influence on the fixed-income market. While some market participants worry about the strength of the economic recovery pushing up inflation rates, significant evidence suggests that inflation rates may drop below the current 1.9% Consumer Price Index over the next few months. This drop should give the fixed-income markets a chance to stabilize in the current lower interest-rate environment. For the California municipal market, the focus in 2001 was entirely on the electricity crisis and its resulting fallout. With approximately $11 billion in debt to be repaid to California's General Fund, we expect to see a lengthy budget battle in the state this year. While the budget shortfall is primarily at the state level, inevitably there will be a trickle down effect as local funds provided by the state are reduced. Most local municipalities, however, have done a good job of putting their balance sheets in order over the last few years, and as a result, are in a better position to handle both an economic downturn and budget battles at the state level. The unemployment chart shows below shows that while 2001's economic slowdown had an effect on California, the employment rate is improving. We believe investors who maintain a diversified California portfolio minimize the impact of the state's problems while taking advantage of California's inherent strengths. Kimberly Friedricks Fund Manager CALIFORNIA'S UNEMPLOYMENT RATE 1991 - 2001 12/31/1990 7 1/31/1991 7.1 2/28/1991 7.2 3/29/1991 7.6 4/30/1991 7.5 5/31/1991 7.8 6/28/1991 7.8 7/31/1991 7.6 8/30/1991 7.4 9/30/1991 7.7 10/31/1991 7.8 11/29/1991 7.5 12/31/1991 7.8 1/31/1992 8.1 2/28/1992 8.5 3/31/1992 8.5 4/30/1992 8.2 5/29/1992 9 6/30/1992 9.3 7/31/1992 8.9 8/31/1992 9.7 9/30/1992 9.4 10/30/1992 9.7 11/30/1992 10.1 12/31/1992 9.8 1/29/1993 9.4 2/26/1993 9.6 3/31/1993 9.5 4/30/1993 8.6 5/31/1993 9.1 6/30/1993 9.3 7/30/1993 9.5 8/31/1993 8.9 9/30/1993 9.3 10/29/1993 9.8 11/30/1993 8.9 12/31/1993 8.9 1/31/1994 10.1 2/28/1994 9 3/31/1994 8.8 4/29/1994 9.3 5/31/1994 8.5 6/30/1994 8.5 7/29/1994 8.8 8/31/1994 8.7 9/30/1994 8.3 10/31/1994 7.8 11/30/1994 7.8 12/30/1994 7.7 1/31/1995 8.2 2/28/1995 7.3 3/31/1995 7.6 4/28/1995 7.9 5/31/1995 8.5 6/30/1995 7.6 7/31/1995 7.9 8/31/1995 7.8 9/29/1995 7.2 10/31/1995 7.8 11/30/1995 8.8 12/29/1995 7.8 1/31/1996 7.6 2/29/1996 7.6 3/29/1996 7.6 4/30/1996 7.5 5/31/1996 7.3 6/28/1996 7.2 7/31/1996 7.2 8/30/1996 7.1 9/30/1996 7 10/31/1996 6.9 11/29/1996 6.9 12/31/1996 6.8 1/31/1997 6.7 2/28/1997 6.6 3/31/1997 6.4 4/30/1997 6.4 5/30/1997 6.3 6/30/1997 6.6 7/31/1997 6.2 8/29/1997 6.2 9/30/1997 6.2 10/31/1997 6.2 11/28/1997 6.1 12/31/1997 6.1 1/30/1998 6.1 2/27/1998 6.1 3/31/1998 6 4/30/1998 6 5/29/1998 6 6/30/1998 5.9 7/31/1998 5.9 8/31/1998 5.9 9/30/1998 6 10/30/1998 5.8 11/30/1998 5.8 12/31/1998 5.8 1/29/1999 5.6 2/26/1999 5.6 3/31/1999 5.5 4/30/1999 5.4 5/31/1999 5.2 6/30/1999 5.2 7/30/1999 5.1 8/31/1999 5 9/30/1999 5 10/29/1999 5 11/30/1999 5 12/31/1999 5 1/31/2000 4.9 2/29/2000 4.9 3/31/2000 5 4/28/2000 5 5/31/2000 5 6/30/2000 5.1 7/31/2000 5 8/31/2000 5 9/29/2000 4.9 10/31/2000 4.9 11/30/2000 4.8 12/29/2000 4.7 1/31/2001 4.5 2/28/2001 4.5 3/30/2001 4.7 4/30/2001 4.8 5/31/2001 4.9 6/29/2001 5.1 7/31/2001 4.9 8/31/2001 5.3 9/28/2001 5.4 10/31/2001 5.8 11/30/2001 6.1 12/31/2001 6 23 KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND COMPARISON OF THE CHANGE IN VALUE OF A $10,000 INVESTMENT IN THE KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND AND THE LEHMAN BROTHERS FIVE YEAR MUNICIPAL BOND INDEX Average Annual Total Return for the periods ending December 31, 2001 One Year Five Years Since Inception (10/28/96) - -------- ---------- -------------------------- 4.26% 4.47% 4.31% Kayne Anderson Rudnick California Lehman Brothers Five Year Intermediate Tax-Free Bond Fund Municipal Bond Index ------------------------------- -------------------- 10/28/1996 10,000 10,000 12/31/1996 10,002 10,111 3/31/1997 9,989 10,108 6/30/1997 10,160 10,354 9/30/1997 10,306 10,576 12/31/1997 10,428 10,756 3/31/1998 10,506 10,881 6/30/1998 10,613 11,002 9/30/1998 10,802 11,292 12/31/1998 10,877 11,385 3/31/1999 10,978 11,504 6/30/1999 10,886 11,361 9/30/1999 10,922 11,468 12/31/1999 10,836 11,469 3/31/2000 11,161 11,607 6/30/2000 11,324 11,789 9/30/2000 11,608 12,021 12/31/2000 11,936 12,353 3/31/2001 12,147 12,704 6/30/2001 12,146 12,828 9/30/2001 12,494 13,181 12/31/2001 12,445 13,120 PAST PERFORMANCE IS NOT PREDICTIVE OF FUTURE PERFORMANCE. THE RETURNS SHOWN DO NOT REFLECT THE DEDUCTION OF TAXES THAT A SHAREHOLDER WOULD PAY ON FUND DISTRIBUTIONS OR THE REDEMPTION OF FUND SHARES. LEHMAN BROTHERS 5 YEAR MUNICIPAL BOND INDEX IS A TOTAL RETURN BENCHMARK DESIGNED FOR SHORT-TERM MUNICIPAL ASSETS. THE INDEX INCLUDES BONDS WITH A MINIMUM CREDIT RATING OF BAA3, ARE ISSUED AS PART OF A DEAL OF AT LEAST 50 MILLION, HAVE AN AMOUNT OUTSTANDING OF AT LEAST 5 MILLION, HAVE A MATURITY BETWEEN FOUR AND SIX YEARS, AND HAVE BEEN ISSUED AFTER DECEMBER 31, 1990. 24 KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 PRINCIPAL
AMOUNT VALUE ------ ----- MUNICIPAL BONDS: 99.2% EDUCATION: 2.2% 155,000 Brentwood Union School District, 7.300%, 08/01/07 ..................................... $ 182,900 250,000 California Educational Facilities Authority, 5.375%, 10/01/16 ......................... 260,312 300,000 Long Beach Unified School District, 5.375%, 08/01/16 .................................. 315,375 ----------- 758,587 ----------- ELECTRIC: 9.1% 300,000 Los Angeles, California Water & Power Revenue, 5.250%, 07/01/18 ....................... 304,500 1,000,000 M-S-R Public Power Agency California, 6.000%, 07/01/20 ................................ 1,057,500 1,000,000 Northern California Public Power Agency, 5.000%, 07/01/15 ............................. 1,022,500 500,000 Pleasanton Joint Powers Financing, 6.150%, 09/02/12 ................................... 530,655 200,000 Sacramento, California Municipal Utilities District, 5.700%, 05/15/12 ................. 210,250 ----------- 3,125,405 ----------- GENERAL OBLIGATION: 18.4% 250,000 California State, 5.250%, 06/01/16 .................................................... 255,937 500,000 California State, 5.250%, 06/01/15 .................................................... 513,125 200,000 California State, 5.375%, 03/01/06 .................................................... 216,250 45,000 California State, 5.375%, 03/01/06 .................................................... 47,531 1,000,000 California State, 5.375%, 12/01/16 .................................................... 1,003,750 825,000 California State, 6.250%, 04/01/08 .................................................... 909,562 895,000 California State Veteran Bonds, 5.150%, 12/01/14 ...................................... 914,019 200,000 California State Veterans Bonds, 6.375%, 02/01/27 ..................................... 200,554 1,000,000 Oakland, California Series B, 5.875%, 06/15/19 ........................................ 1,068,750 400,000 Oakland Unified School District, 5.000%, 08/01/16 ..................................... 406,500 765,000 Oakland Unified School District Alameda County, 5.000%, 08/01/15 ...................... 781,256 ----------- 6,317,234 ----------- HOSPITALS: 3.0% 1,000,000 California Health Facilities Financing Authority, 6.250%, 10/01/13 .................... 1,021,250 ----------- HOUSING: 5.3% 800,000 California Housing Finance Agency, 5.900%, 08/01/17 ................................... 823,000 960,000 California Housing Finance Agency, 5.950%, 08/01/14 ................................... 1,000,800 ----------- 1,823,800 ----------- IDR/PCR: 11.5% 290,000 California State Public Works Board Energy Effeciency Revenue, 5.140%, 12/01/13 ....... 299,425 1,000,000 California State Public Works Board Energy Effeciency Revenue, 5.250%, 11/01/20 ....... 1,001,250 510,000 California State Public Works Board Energy Effeciency Revenue, 5.500%, 09/01/09 ....... 541,238
25 KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 - (Continued)
PRINCIPAL AMOUNT VALUE ------ ----- IDR/PCR - (CONTINUED) 250,000 Menlo Park Community Development Agency Multifamily Revenue, 5.375%, 06/01/16 .................................................................... $ 260,625 1,000,000 Mountain View, California Shoreline Regional Park, 5.500%, 08/01/21 ................... 1,046,250 200,000 Pinole Redevelopment Agency Tax Allocation, 5.600%, 08/01/17 .......................... 205,500 250,000 Santa Barbara, California Redevelopment Agency, 4.600%, 03/01/14 ...................... 249,375 350,000 San Jose, California Financing Authority, 5.000%, 09/01/16 ............................ 355,250 ----------- 3,958,913 ----------- PREREFUNDED: 8.9% 1,000,000 California Educational Facilities Authority Revenues Pomona College, 6.125%, 02/15/08 .................................................................... 1,025,450 5,000 California State, 5.375%, 03/01/06 .................................................... 5,412 150,000 Los Angeles Convention & Exhibit Center, 9.000%, 12/01/20 ............................. 183,188 1,000,000 San Bernardino County, California, 6.875%, 08/01/24 ................................... 1,255,000 560,000 San Francisco, California Bay Revenue Board, 5.500%, 07/01/15 ......................... 609,000 ----------- 3,078,050 ----------- TRANSPORTATION: 13.9% 500,000 Los Angeles County Metropolitan Transportation Authority, 5.625%, 07/01/18 ............ 522,500 1,000,000 Oakland, California Port Authority, 5.600%, 11/01/19 .................................. 1,053,750 190,000 San Francisco, California Bay Area Rapid Transit, 5.500%, 07/01/15 .................... 200,688 1,000,000 San Francisco, California City & County Airport, 5.375%, 05/01/17 ..................... 1,028,750 1,000,000 San Francisco, California Port Authority, 5.900%, 07/01/09 ............................ 1,067,500 400,000 San Mateo County Transit District, 5.000%, 06/01/14 ................................... 410,500 500,000 Santa Clara Valley, California Transportation Authority, 5.000%, 06/01/17 ............. 503,750 ----------- 4,787,438 ----------- WATER & SEWER: 26.9% 200,000 California State Department of Water, 5.125%, 12/01/15 ................................ 205,250 200,000 California State Department of Water Resources Center Valley Project, 5.650%, 12/01/11 .................................................................... 209,000 450,000 California State Department Water Reserve Central VY Project Revenue, 5.000%, 12/01/19 .................................................................... 446,063 700,000 Los Angeles, California, 4.500%, 07/01/13 ............................................. 693,000 700,000 Los Angeles, California Wastewater System, 5.000%, 06/01/14 ........................... 718,375 200,000 Los Angeles, California Wastewater System, 5.700%, 06/01/20 ........................... 207,750 1,000,000 Marina, California Municipal Water District, 5.550%, 07/01/13 ......................... 1,037,500 200,000 Metropolitan Water Districe of Southern California, 5.000%, 07/01/13 .................. 206,500 1,000,000 Rancho, California Water District Financing Authority, 5.875%, 11/01/10 ............... 1,093,750
26 KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND SCHEDULE OF INVESTMENTS IN SECURITIES at December 31, 2001 - (Continued)
SHARES VALUE ------ ----- WATER & SEWER - (CONTINUED) 1,000,000 Redlands, California Financing Authority, 5.000%, 09/01/17 $ 1,007,500 300,000 San Diego, California, 5.000%, 05/15/13 305,250 1,000,000 San Francisco, California City and County Public Utility, 6.000%, 11/01/15 1,020,810 1,000,000 San Jose Clara, California Water Financing Authority, 5.375%, 11/15/15 1,040,000 1,000,000 Tulare, California Sewer Revenue, 5.700%, 11/15/15 1,076,250 ----------- 9,266,998 ----------- TOTAL MUNICIPAL BONDS (cost $33,025,793) 34,137,675 ----------- TOTAL INVESTMENTS IN SECURITIES (cost $33,025,793): 99.2% $34,137,675 Other Assets less Liabilities: 0.8% 284,052 ----------- NET ASSETS: 100.0% $34,421,727 ===========
See accompanying Notes to Financial Statements. 27 KAYNE ANDERSON RUDNICK MUTUAL FUNDS STATEMENTS OF ASSETS AND LIABILITIES at December 31, 2001 - --------------------------------------------------------------------------------
LARGE CAP SMALL-MID CAP FUND FUND ------------- ------------- ASSETS Investments in securities, at cost .......................... $ 105,919,477 $ 83,471,850 ============= ============= Foreign currency, at cost ............................... $ -- $ -- ============= ============= Investments in securities, at value ......................... $ 104,431,706 $ 93,659,712 Foreign currency, at value .............................. -- -- Cash ........................................................ 403,622 2,353,947 Receivables: Securities sold ........................................... -- -- Fund shares sold .......................................... 11,128 52,201 Dividends and interest .................................... 65,972 115,814 Tax reclaims .............................................. -- -- Collateral for securities loaned, at fair value ............. -- 17,457,607 Unrealized gain on foreign currency exchange contracts . .... -- -- Prepaid expenses ............................................ 5,168 5,401 ------------- ------------- Total assets ............................................ 104,917,596 113,644,682 ------------- ------------- LIABILITIES Payables: Cash overdraft ............................................ -- -- Securities purchased ...................................... -- 870,362 Fund shares purchased ..................................... 39,749 67,075 Distributions to shareholders ............................. -- -- Due to advisor ............................................ 66,635 66,516 Payables upon return of securites loaned .................... -- 17,457,607 Other liabilities ........................................... 41,099 44,633 ------------- ------------- Total liabilities ......................................... 147,483 18,506,193 ------------- ------------- NET ASSETS .................................................. $ 104,770,113 $ 95,138,489 ============= ============= Number of shares issued and outstanding (unlimited shares authorized, no par value) ............... 6,628,755 5,375,130 ------------- ------------- NET ASSET VALUE, OFFERING AND REDEMPTION PRICE PER SHARE .... $ 15.81 $ 17.70 ============= ============= COMPONENTS OF NET ASSETS Paid-in capital ........................................... $ 109,954,596 $ 92,924,518 Accumulated net investment income ......................... 200,874 -- Accumulated net realized gain (loss) on investments ....... (3,897,586) (7,973,891) Net unrealized appreciation (depreciation) on: Investments ........................................... (1,487,771) 10,187,862 Foreign currency ...................................... -- -- ------------- ------------- Net assets .............................................. $ 104,770,113 $ 95,138,489 ============= =============
See accompanying Notes to Financial Statements. 28 CALIFORNIA INTERMEDIATE INTERMEDIATE INTERNATIONAL TOTAL RETURN TAX-FREE BOND FUND BOND FUND FUND - ------------ ------------ ------------ $ 65,003,063 $ 38,130,922 $ 33,025,793 ============ ============ ============ $ 1,350 $ -- $ -- ============ ============ ============ $ 55,156,188 $ 39,219,963 $ 34,137,675 1,795 -- -- 5,081,034 435,705 -- 2,309,371 -- -- 297,391 174,297 -- 76,507 584,323 525,822 28,837 -- -- 8,194,320 -- -- 6,058 -- -- 10,785 3,991 799 - ------------ ------------ ------------ 71,162,286 40,418,279 34,664,296 - ------------ ------------ ------------ -- -- 120,191 3,691,806 -- -- 2,683,499 1,399 842 -- -- 90,627 37,387 25,184 17,101 8,194,320 -- -- 42,068 17,144 13,808 - ------------ ------------ ------------ 14,649,080 43,727 242,569 - ------------ ------------ ------------ $ 56,513,206 $ 40,374,552 $ 34,421,727 ============ ============ ============ 4,992,358 3,701,176 3,204,799 - ------------ ------------ ------------ $ 11.32 $ 10.91 $ 10.74 ============ ============ ============ $ 71,316,933 $ 39,211,383 $ 33,309,845 - ------------ ------------ ------------ (4,957,297) 74,128 -- (9,846,875) 1,089,041 1,111,882 445 -- -- - ------------ ------------ ------------ $ 56,513,206 $ 40,374,552 $ 34,421,727 ============ ============ ============ 29 KAYNE ANDERSON RUDNICK MUTUAL FUNDS STATEMENTS OF OPERATIONS For the Fiscal Year Ended December 31, 2001 - --------------------------------------------------------------------------------
LARGE CAP SMALL-MID CAP FUND FUND ------------ ------------ INVESTMENT INCOME Income Dividends .................................................................. $ 1,330,187 $ 642,762 Interest ................................................................... 131,688 46,968 ------------ ------------ Total income ............................................................. 1,461,875 689,730 ------------ ------------ Expenses Advisory fees .............................................................. 881,878 570,397 Registration expense ....................................................... 7,404 13,889 Fund accounting fees ....................................................... 34,914 31,415 Administration fees ........................................................ 59,173 43,221 Transfer agent fees ........................................................ 31,596 33,389 Trustee fees ............................................................... 9,676 9,972 Audit fees ................................................................. 15,410 15,003 Custodian fees ............................................................. 34,258 15,744 Legal fees ................................................................. 9,153 3,757 Reports to shareholders .................................................... 25,656 16,276 Insurance expense .......................................................... 821 511 Miscellaneous .............................................................. 4,228 3,246 ------------ ------------ Total expenses ........................................................... 1,114,167 756,820 Add: expenses recouped by advisor ........................................ -- 27,664 Less: fees waived and expenses absorbed .................................. -- -- ------------ ------------ Net expenses ............................................................. 1,114,167 784,484 ------------ ------------ NET INVESTMENT INCOME (LOSS) ........................................... 347,708 (94,754) ------------ ------------ REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS AND FOREIGN CURRENCY Net realized gain (loss) on investments ...................................... (3,546,363) (1,225,193) Net realized loss on foreign currency ........................................ -- -- Net unrealized appreciation (depreciation) on Investments ................................................................ (13,058,333) 4,848,908 Foreign currency ........................................................... -- -- ------------ ------------ Net realized and unrealized gain (loss) on investments and foreign currency ..................................................... (16,604,696) 3,623,715 ------------ ------------ NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS .......... $(16,256,988) $ 3,528,961 ============ ============
* Net of foreign tax withheld of $95,944. See accompanying Notes to Financial Statements. 30 CALIFORNIA INTERMEDIATE INTERMEDIATE INTERNATIONAL TOTAL RETURN TAX-FREE BOND FUND BOND FUND FUND - ------------ ------------ ------------ $ 744,004* $ -- $ -- 46,117 2,850,788 1,692,576 - ------------ ------------ ------------ 790,121 2,850,788 1,692,576 - ------------ ------------ ------------ 510,557 235,450 165,775 16,512 8,351 1,314 37,525 30,096 34,579 36,926 33,587 28,326 26,135 24,623 21,617 10,067 9,229 7,433 15,634 8,987 8,021 30,455 15,610 7,008 4,672 3,102 2,752 14,580 839 689 638 309 106 5,495 4,651 1,262 - ------------ ------------ ------------ 709,196 374,834 278,882 30,993 75,043 -- -- -- (30,868) - ------------ ------------ ------------ 740,189 449,877 248,014 - ------------ ------------ ------------ 49,932 2,400,911 1,444,562 - ------------ ------------ ------------ (4,957,297) 1,093,387 327,324 (116,664) -- -- (12,336,485) 230,902 (408,245) 445 -- -- - ------------ ------------ ------------ (17,410,001) 1,324,289 (80,921) - ------------ ------------ ------------ $(17,360,069) $ 3,725,200 $ 1,363,641 ============ ============ ============ 31 KAYNE ANDERSON RUDNICK MUTUAL FUNDS STATEMENTS OF CHANGES IN NET ASSETS - --------------------------------------------------------------------------------
LARGE CAP FUND ------------------------------ YEAR ENDED YEAR ENDED 12/31/01 12/31/00 ------------- ------------- INCREASE (DECREASE) IN NET ASSETS FROM: OPERATIONS Net investment income (loss) .............................................. $ 347,708 $ 409,317 Net realized gain (loss) on investments ................................... (3,546,363) 3,862,289 Net realized loss on foreign currency ..................................... -- -- Net unrealized appreciation (depreciation) on Investments ............................................................. (13,058,333) (6,686,631) Foreign currency ........................................................ -- -- ------------- ------------- NET INCREASE (DECREASE) IN NET ASSETS RESULTING ......................... (16,256,988) (2,415,025) ------------- ------------- DISTRIBUTIONS TO SHAREHOLDERS From net investment income ................................................ (354,026) (202,125) From net realized gain .................................................... (1,036,128) (2,103,740) ------------- ------------- TOTAL DISTRIBUTIONS ..................................................... (1,390,154) (2,305,865) ------------- ------------- CAPITAL SHARE TRANSACTIONS Proceeds from shares sold ................................................. 16,916,697 35,673,292 Net asset value of shares issued on reinvestment of distributions ......... 794,028 1,917,678 Cost of shares redeemed ................................................... (26,545,451) (25,122,870) ------------- ------------- NET INCREASE (DECREASE) FROM CAPITAL SHARE TRANSACTIONS ................. (8,834,726) 12,468,100 ------------- ------------- TOTAL INCREASE (DECREASE) IN NET ASSETS ............................... (26,481,868) 7,747,210 NET ASSETS Beginning of period ....................................................... 131,251,981 123,504,771 ------------- ------------- END OF PERIOD ............................................................. $ 104,770,113 $ 131,251,981 ============= ============= Accumulated net investment income ......................................... $ 200,874 $ 207,192 ============= ============= CHANGE IN CAPITAL SHARES Shares sold ............................................................... 1,063,100 1,928,516 Shares issued on reinvestment of distributions ............................ 48,743 108,938 Shares redeemed ........................................................... (1,786,880) (1,349,153) ------------- ------------- Net increase (decrease) ................................................... (675,037) 688,301 ============= =============
See accompanying Notes to Financial Statements. 32
CALIFORNIA INTERMEDIATE INTERMEDIATE SMALL-MID CAP INTERNATIONAL TOTAL RETURN TAX-FREE BOND FUND FUND BOND FUND FUND - ------------------------------ ------------------------------ ------------------------------ ----------------------------- YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED 12/31/01 12/31/00 12/31/01 12/31/00 12/31/01 12/31/00 12/31/01 12/31/00 - ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- $ (94,754) $ 115,428 $ 49,932 $ 124,003 $ 2,400,911 $ 2,526,002 $ 1,444,562 $ 1,452,528 (1,225,193) 6,268,833 (4,957,297) 1,527,366 1,093,387 (52,824) 327,324 28,652 -- -- (116,664) -- -- -- -- -- 4,848,908 3,148,118 (12,336,485) (6,401,952) 230,902 1,755,943 (408,245) 1,449,699 -- -- 445 -- -- -- -- -- - ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- 3,528,961 9,532,379 (17,360,069) (4,750,583) 3,725,200 4,229,121 1,363,641 2,930,879 - ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- (21,298) (95,614) (115,405) (78,826) (2,406,198) (2,554,297) (1,454,241) (1,444,570) (2,345,271) (2,984,357) (13,194) (1,569,846) (693,771) -- (209,757) -- - ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- (2,366,569) (3,079,971) (128,599) (1,648,672) (3,099,969) (2,554,297) (1,663,998) (1,444,570) - ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- 94,512,239 12,857,014 206,593,069 60,195,182 31,123,856 6,193,726 34,012,895 15,967,030 1,530,774 2,730,421 130,107 1,454,588 1,487,077 1,744,804 417,119 411,905 (44,626,624) (26,477,202) (184,549,580) (44,012,108) (39,959,043) (15,920,099) (31,060,553) (28,374,555) - ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- 51,416,389 (10,889,767) 22,173,596 17,637,662 (7,348,110) (7,981,569) 3,369,461 (11,995,620) - ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- 52,578,781 (4,437,359) 4,684,928 11,238,407 (6,722,879) (6,306,745) 3,069,104 (10,509,311) 42,559,708 46,997,067 51,828,278 40,589,871 47,097,431 53,404,176 31,352,623 41,861,934 - ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- $ 95,138,489 $ 42,559,708 $ 56,513,206 $ 51,828,278 $ 40,374,552 $ 47,097,431 $ 34,421,727 $ 31,352,623 ============= ============= ============= ============= ============= ============= ============= ============= $ -- $ 21,298 $ -- $ -- $ -- $ 3,804 $ -- $ 9,678 ============= ============= ============= ============= ============= ============= ============= ============= 5,465,027 833,907 17,310,272 3,413,087 2,795,212 586,089 3,123,987 1,533,893 82,167 170,427 10,164 92,252 135,269 166,269 38,394 39,528 (2,647,873) (1,698,840) (15,537,245) (2,493,793) (3,580,161) (1,519,193) (2,853,438) (2,745,628) - ------------- ------------- ------------- ------------- ------------- ------------- ------------- ------------- 2,899,321 (694,506) 1,783,191 1,011,546 (649,680) (766,835) 308,943 (1,172,207) ============= ============= ============= ============= ============= ============= ============= =============
33 KAYNE ANDERSON RUDNICK LARGE CAP FUND FINANCIAL HIGHLIGHTS For a capital share outstanding throughout each period - --------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, ------------------------------------------------------ 2001 2000 1999 1998 1997 ------- ------- ------- ------- ------- Net asset value, beginning of period ................. $ 17.97 $ 18.67 $ 17.03 $ 17.28 $ 14.32 ------- ------- ------- ------- ------- INCOME FROM INVESTMENT OPERATIONS: Net investment income ............................ 0.05 0.06 0.04 0.11 0.10 Net realized and unrealized gain (loss) on investments ................................. (2.03) (0.44) 2.71 2.38 4.34 ------- ------- ------- ------- ------- Total income (loss) from investment operations .............................. (1.98) (0.38) 2.75 2.49 4.44 ------- ------- ------- ------- ------- LESS DISTRIBUTIONS: From net investment income ....................... (0.05) (0.03) (0.04) (0.11) (0.11) From net realized gain ........................... (0.13) (0.29) (1.07) (2.63) (1.37) ------- ------- ------- ------- ------- Total distributions .................................. (0.18) (0.32) (1.11) (2.74) (1.48) ------- ------- ------- ------- ------- Net asset value, end of period ....................... $ 15.81 $ 17.97 $ 18.67 $ 17.03 $ 17.28 ======= ======= ======= ======= ======= Total return ......................................... (11.03)% (2.00)% 16.33% 14.14% 30.99% Net assets, end of period (millions) ................. $ 104.8 $ 131.3 $ 123.5 $ 48.6 $ 35.3 RATIO OF EXPENSES TO AVERAGE NET ASSETS: Before fees waived and expenses absorbed or recouped ........................... 0.95% 0.90% 1.03% 1.11% 1.18% After fees waived and expenses absorbed or recouped ........................... 0.95% 0.90% 1.03% 1.11% 1.18% RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS (after fees waived and expenses absorbed or recouped) .......................... 0.30% 0.30% 0.28% 0.57% 0.55% Portfolio turnover rate .......................... 32% 42% 33% 76% 51%
See accompanying Notes to Financial Statements. 34 KAYNE ANDERSON RUDNICK SMALL-MID CAP FUND FINANCIAL HIGHLIGHTS For a capital share outstanding throughout each period - --------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, -------------------------------------------------- 2001 2000 1999 1998 1997 ------ ------ ------ ------ ------ Net asset value, beginning of period ............... $17.19 $14.82 $15.04 $13.12 $11.06 ------ ------ ------ ------ ------ INCOME FROM INVESTMENT OPERATIONS: Net investment income .......................... (0.01) 0.04 0.07 0.05 0.02 Net realized and unrealized gain on investments ............................... 1.15 3.54 0.47 2.07 2.14 ------ ------ ------ ------ ------ Total income from investment operations ....................................... 1.14 3.58 0.54 2.12 2.16 ------ ------ ------ ------ ------ LESS DISTRIBUTIONS: From net investment income ..................... (0.01) (0.04) (0.07) (0.05) (0.05) From net realized gain ......................... (0.62) (1.17) (0.69) -- (0.05) From paid-in capital ........................... -- -- -- (0.15) -- ------ ------ ------ ------ ------ Total distributions ................................ (0.63) (1.21) (0.76) (0.20) (0.10) ------ ------ ------ ------ ------ Net asset value, end of period ..................... $17.70 $17.19 $14.82 $15.04 $13.12 ====== ====== ====== ====== ====== Total return ....................................... 6.40% 24.77% 3.64% 16.17% 19.46% Net assets, end of period (millions) ............... $ 95.1 $ 42.6 $ 47.0 $ 33.0 $ 6.5 RATIO OF EXPENSES TO AVERAGE NET ASSETS: Before fees waived and expenses absorbed or recouped ......................... 1.13% 1.20% 1.34% 1.35% 3.22% After fees waived and expenses absorbed or recouped ......................... 1.17% 1.29% 1.30% 1.30% 1.30% RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS (after fees waived and expenses absorbed or recouped) ......................... (0.14)% 0.26% 0.53% 0.38% 0.45% Portfolio turnover rate ........................ 17% 50% 50% 28% 47%
See accompanying Notes to Financial Statements. 35 KAYNE ANDERSON RUDNICK INTERNATIONAL FUND FINANCIAL HIGHLIGHTS For a capital share outstanding throughout each period - --------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, -------------------------------------------------- 2001 2000 1999 1998 1997 ------ ------ ------ ------ ------ Net asset value, beginning of period ............... $16.15 $18.47 $15.51 $12.61 $10.91 ------ ------ ------ ------ ------ INCOME FROM INVESTMENT OPERATIONS: Net investment income .......................... 0.04 0.03 0.12 0.08 0.04 Net realized and unrealized gain (loss) on investments ............................... (4.83) (1.82) 4.68 3.25 1.75 ------ ------ ------ ------ ------ Total income (loss) from investment operations ............................ (4.79) (1.79) 4.80 3.33 1.79 ------ ------ ------ ------ ------ LESS DISTRIBUTIONS: From net investment income ..................... (0.04) (0.03) (0.12) (0.08) (0.05) From net realized gain ......................... (0.00) (0.50) (1.72) (0.35) (0.04) ------ ------ ------ ------ ------ Total distributions ................................ (0.04) (0.53) (1.84) (0.43) (0.09) ------ ------ ------ ------ ------ Net asset value, end of period ..................... $11.32 $16.15 $18.47 $15.51 $12.61 ====== ====== ====== ====== ====== Total return ....................................... (29.72)% (9.65)% 31.06% 26.47% 16.42% Net assets, end of period (millions) ............... $ 56.5 $ 51.8 $ 40.6 $ 35.4 $ 7.0 RATIO OF EXPENSES TO AVERAGE NET ASSETS: Before fees waived and expenses absorbed or recouped ......................... 1.33% 1.28% 1.47% 1.45% 3.41% After fees waived and expenses absorbed or recouped ......................... 1.38% 1.38% 1.40% 1.38% 1.40% RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS (after fees waived and expenses absorbed or recouped) ........................ 0.09% 0.24% 0.63% 0.85% 0.61% Portfolio turnover rate ........................ 88% 35% 57% 28% 29%
See accompanying Notes to Financial Statements. 36 KAYNE ANDERSON RUDNICK INTERMEDIATE TOTAL RETURN BOND FUND FINANCIAL HIGHLIGHTS For a capital share outstanding throughout each period - --------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, -------------------------------------------------- 2001 2000 1999 1998 1997 ------ ------ ------ ------ ------ Net asset value, beginning of period ............... $10.82 $10.44 $11.01 $10.75 $10.59 ------ ------ ------ ------ ------ INCOME FROM INVESTMENT OPERATIONS: Net investment income .......................... 0.57 0.56 0.50 0.51 0.56 Net realized and unrealized gain (loss) on investments ............................... 0.28 0.39 (0.57) 0.30 0.18 ------ ------ ------ ------ ------ Total income(loss) from investment operations ............................ 0.85 0.95 (0.07) 0.81 0.74 ------ ------ ------ ------ ------ LESS DISTRIBUTIONS: From net investment income ..................... (0.57) (0.57) (0.49) (0.51) (0.58) From net realized gain ......................... (0.19) -- (0.01) (0.04) -- ------ ------ ------ ------ ------ Total distributions ................................ (0.76) (0.57) (0.50) (0.55) (0.58) ------ ------ ------ ------ ------ Net asset value, end of period ..................... $10.91 $10.82 $10.44 $11.01 $10.75 ====== ====== ====== ====== ====== Total return ....................................... 7.98% 9.40% (0.65)% 7.61% 7.19% Net assets, end of period (millions) ............... $ 40.4 $ 47.1 $ 53.4 $ 28.3 $ 6.3 RATIO OF EXPENSES TO AVERAGE NET ASSETS: Before fees waived and expenses absorbed or recouped ......................... 0.80% 0.82% 1.23% 1.00% 2.23% After fees waived and expenses absorbed or recouped ......................... 0.96% 0.94% 0.94% 0.94% 0.95% After fees waived, expenses absorbed or recouped, and paid indirectly ............. 0.96% 0.94% 0.94% 0.94% 0.95% RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS (after fees waived, expenses absorbed or recouped, and paid indirectly) ............ 5.13% 5.34% 4.94% 4.93% 5.53% Portfolio turnover rate ........................ 50% 10% 64% 49% 27%
See accompanying Notes to Financial Statements. 37 KAYNE ANDERSON RUDNICK CALIFORNIA INTERMEDIATE TAX-FREE BOND FUND FINANCIAL HIGHLIGHTS For a capital share outstanding throughout each period - --------------------------------------------------------------------------------
YEAR ENDED DECEMBER 31, -------------------------------------------------- 2001 2000 1999 1998 1997 ------ ------ ------ ------ ------ Net asset value, beginning of period ............... $10.83 $10.29 $10.77 $10.74 $10.64 ------ ------ ------ ------ ------ INCOME FROM INVESTMENT OPERATIONS: Net investment income .......................... 0.47 0.49 0.44 0.43 0.34 Net realized and unrealized gain (loss) on investments ............................... (0.02) 0.54 (0.48) 0.03 0.11 ------ ------ ------ ------ ------ Total income from investment operations ............ 0.45 1.03 (0.04) 0.46 0.45 ------ ------ ------ ------ ------ LESS DISTRIBUTIONS: From net investment income ..................... (0.47) (0.49) (0.44) (0.43) (0.35) From net realized gains ........................ (0.07) -- -- -- -- ------ ------ ------ ------ ------ Total distributions ................................ (0.54) (0.49) (0.44) (0.43) (0.35) ------ ------ ------ ------ ------ Net asset value, end of period ..................... $10.74 $10.83 $10.29 $10.77 $10.74 ====== ====== ====== ====== ====== Total return ....................................... 4.26% 10.18% (0.44)% 4.37% 4.26% Net assets, end of period (millions) ............... $ 34.4 $ 31.4 $ 41.9 $ 9.4 $ 6.0 RATIO OF EXPENSES TO AVERAGE NET ASSETS: Before fees waived and expenses absorbed or recouped ......................... 0.85% 0.96% 1.37% 2.23% 2.29% After fees waived and expenses absorbed or recouped ......................... 0.75% 0.75% 0.75% 0.77% 1.56% After fees waived, expenses absorbed or recouped, and paid indirectly ............. 0.75% 0.74% 0.71% 0.77% 0.95% RATIO OF NET INVESTMENT INCOME TO AVERAGE NET ASSETS (after fees waived, expenses absorbed or recouped, and paid indirectly) ............ 4.38% 4.63% 4.14% 3.88% 2.58% Portfolio turnover rate ........................ 61% 33% 65% 47% 40%
See accompanying Notes to Financial Statements. 38 KAYNE ANDERSON RUDNICK MUTUAL FUNDS NOTES TO FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- NOTE 1 - ORGANIZATION Kayne Anderson Rudnick Mutual Funds (the "Trust") (formerly Kayne Anderson Mutual Funds) was organized as a Delaware business trust on May 29, 1996 and is registered under the Investment Company Act of 1940 as a diversified, open-end management investment company. The Trust currently consists of five separate diversified series: Large Cap Fund, Small-Mid Cap Fund, International Fund, Intermediate Total Return Bond Fund and California Intermediate Tax-Free Bond Fund (each a "Fund" and collectively the "Funds"). Between May 29, 1996 and the respective dates of commencement of operations, the Funds had no operations other than those related to organizational matters and the sale of 2,347 shares of the Small Cap Fund, the International Fund, the Intermediate Total Return Bond Fund and the California Intermediate Tax-Free Bond Fund to Kayne Anderson Rud-nick Investment Management, LLC (the "Advisor") (formerly Kayne Anderson Investment Management, LLC) for $25,000, respectively. The Large Cap Fund seeks long-term capital appreciation, with dividend income as a secondary consideration. The Fund invests primarily in equity securities, usually common stocks, of companies generally having a total market capitalization of $1 billion or more. The Small-Mid Cap Fund seeks long-term capital appreciation, with dividend income as a secondary consideration. The Fund invests primarily in equity securities, usually common stocks, of small and mid-capitalization companies that the Fund currently considers to be companies having a total market capitalization of not more than $3 billion. The International Fund seeks long-term capital appreciation, with dividend income as a secondary consideration. The Fund invests primarily in equity securities, usually common stocks, of companies outside the U.S. generally having a total market capitalization of $1 billion or more. The Intermediate Total Return Bond Fund seeks to obtain maximum total return, primarily through current income with capital appreciation as a secondary consideration. The Fund invests primarily in investment grade debt securities and seeks to maintain an average maturity of three to ten years. The California Intermediate Tax-Free Bond Fund seeks current income exempt from federal and California state income tax. The Fund invests primarily in investment grade debt securities and may maintain an average maturity of more than ten years. NOTE 2 - SIGNIFICANT ACCOUNTING POLICIES The following is a summary of significant accounting policies consistently followed by the Funds. These policies are in conformity with accounting principles generally accepted in the United States of America. A. SECURITY VALUATION: The Funds' investments are carried at value. Securities listed on an exchange or quoted on a national market system are valued at the last sale price. Other securities are valued at the last quoted bid price. Securities for which market quotations are not readily available, if any, are valued by an independent pricing service or determined following procedures approved by the Board of Trustees. Short-term investments are valued at amortized cost, which approximates market value. 39 KAYNE ANDERSON RUDNICK MUTUAL FUNDS NOTES TO FINANCIAL STATEMENTS -- (Continued) - -------------------------------------------------------------------------------- B. FEDERAL INCOME TAXES: It is the Funds' policy to comply with the requirements of the Internal Revenue Code applicable to regulated investment companies and to distribute all of their taxable income to shareholders. Therefore, no federal income tax provision is required. Net investment income (loss) and net realized gain (loss) may differ for financial statement and income tax purposes primarily due to investments which have a different basis for financial statement and income tax purposes. The character of distributions made during the year from net investment income of net realized gains may differ from their ultimate characterization for federal income tax purposes. Also, due to timing of dividend distributions, the fiscal year in which amounts are distributed may differ from the year that the income or realized gains were recorded by each fund. C. SECURITY TRANSACTIONS, INVESTMENT INCOME AND DISTRIBUTIONS: Security transactions are accounted for on the trade date. Interest income is recognized on the accrual basis. Bond discounts and premiums are amortized over their respective lives. Dividend income and distributions to shareholders are recorded on the ex-dividend date. D. ACCOUNTING ESTIMATES: The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements. Actual result could differ from those estimates. E. SECURITIES LENDING TRANSACTIONS: The Funds receive compensation in the form of fees, or it retains a portion of interest of any cash received as collateral. The Funds also continue to receive interest and dividends on securities loaned. The loans are secured by collateral (102% for US dollar denominated securities, and 105% for non-US denominations) with cash, U.S. government securities or letters of credit. Gain or loss in the fair value of the securities loaned that may occur during the term of the loan will be for the account of the Funds. F. FOREIGN CURRENCIES: Portfolio securities and other assets and liabilities denominated in foreign currencies are translated into U.S. dollars based on the exchange rate of such currencies against U.S. dollars on the date of the valuation. Purchases and sales of securities and income denominated in foreign currencies are translated into U.S. dollars at the exchange rate in effect on the transaction date. The Funds do not separately report the effect of changes in foreign exchange rates from changes in market price on securities held. Such changes are included in net realized and unrealized gain or loss from investments. NOTE 3 - INVESTMENT ADVISORY AND MANAGEMENT FEES AND OTHER TRANSACTIONS WITH AFFILIATES The Advisor provides the Funds with investment management services under an Investment Advisory Agreement (the "Agreement"). The Advisor furnishes all investment advice, office space and certain administrative services, and provides personnel as needed by the Funds. As compensation for its services, the Advisor is entitled to a monthly fee at the following annual rates: Large Cap Fund 0.75% Small-Mid Cap Fund 0.85% International Fund 0.95% Intermediate Total Return Bond Fund 0.50% California Intermediate Tax-Free Bond Fund 0.50% 40 KAYNE ANDERSON RUDNICK MUTUAL FUNDS NOTES TO FINANCIAL STATEMENTS -- (Continued) - -------------------------------------------------------------------------------- For the year ended December 31, 2001, the Funds incurred the following advisory fees: Large Cap Fund $881,878 Small-Mid Cap Fund $570,397 International Fund $510,557 Intermediate Total Return Bond Fund $235,450 California Intermediate Tax-Free Bond Fund $165,775 The Funds are responsible for their own operating expenses. The Advisor has agreed to limit each Fund's total operating expenses by reducing all or a portion of its fees and reimbursing each Fund for expenses, excluding interest, so that their ratio of expenses to average net assets will not exceed the following levels: Small-Mid Cap Fund 1.30% International Fund 1.40% Intermediate Total Return Bond Fund 0.95% California Intermediate Tax-Free Bond Fund 0.75% Any fee waived and/or any Fund expense absorbed by the Advisor pursuant to an agreed upon expense cap shall be reimbursed by the Fund to the Advisor, if so requested by the Advisor, provided the aggregate amount of the Fund's current operating expense for such fiscal year does not exceed the applicable limitation on Fund expenses. For the year ended De-cember 31, 2001, the Advisor waived fees and paid expenses of $30,868 for the California Intermediate Tax-Free Bond Fund. For the year ended December 31, 2001, the Advisor recouped fees previously waived and expenses absorbed of $27,664, $30,993 and $75,043 for Small-Mid Cap Fund, International Fund and Intermediate Total Return Bond Fund, respectively. At December 31, 2001, the amount available for reimbursement that has been paid and/or waived by the Advisor on behalf of the Funds are as follows: International Fund $ 8,744 California Intermediate Tax-Free Bond Fund $185,882 At December 31, 2001, the Advisor may recapture a portion of the above amounts no later than the dates as stated below: December 31, ------------------------------ Funds: 2002 2003 2004 - ------ -------- -------- -------- International Fund $ 8,744 $ -- $ -- California Intermediate Tax-Free Bond Fund $ 88,631 $ 66,383 $ 30,868 41 KAYNE ANDERSON RUDNICK MUTUAL FUNDS NOTES TO FINANCIAL STATEMENTS -- (Continued) - -------------------------------------------------------------------------------- Each Fund must pay its current ordinary operating expenses before the Advisor is entitled to any reimbursement. Any such reimbursement is also contingent upon Board of Trustees review and approval prior to the time the reimbursement is initiated U.S. Bancorp Fund Services, LLC (the "Administrator") acts as the Funds' Administrator under an Administration Agreement. The Administrator prepares various federal and state regulatory filings, reports and returns for the Funds; prepares reports and materials to be supplied to the trustees; monitors the activities of the Funds' custodian, transfer agent and accountants; coordinates the preparation and payment of Funds' expenses and reviews the Funds' expense accruals. For its services, each Fund pays the Administrator an annual fee equal to 0.075% of the first $40 million of the average daily net assets, 0.050% of the next $40 million, 0.025% of the next $40 million, and 0.010% thereafter, subject to a minimum annual fee of $30,000 per Fund. Quasar Distributors, LLC (the "Distributor") acts as the Funds' principal underwriter in a continuous public offering of the Funds' shares. The Distributor is an affiliate of the Administrator. Certain officers and Trustees of the Fund are also officers and/or directors of the Advisor. NOTE 4 - PURCHASES AND SALES OF SECURITIES For the period ended December 31, 2001, the cost of purchases and the proceeds from sales of securities, excluding U.S. Government securities and short-term investments, were as follows: Fund Purchases Sales - ---- ----------- ----------- Large Cap Fund $36,164,959 $43,050,860 Small-Mid Cap Fund $58,916,308 $11,226,998 International Fund $66,523,920 $46,278,380 Intermediate Total Return Bond Fund $ 7,971,015 $ 1,681,674 California Intermediate Tax-Free Bond Fund $23,401,960 $19,881,441 The Intermediate Total Return Bond Fund purchased $15,127,690 and sold $27,572,150 in U.S. Government securities. There were no purchases or sales of U.S. Government securities by Large Cap Fund, Small-Mid Cap Fund, International Fund and California Intermediate Tax-Free Bond Fund. NOTE 5 - SUBSEQUENT EVENTS On January 25, 2002, the shareholders approved a new Investment Management Agreement between Kayne Ander-son Rudnick Investment Management, LLC (the "Manager") and the Large Cap Fund, Intermediate Total Return Bond Fund, and the California Intermediate Tax-Free Bond Fund pursuant to which the Manager acts as adviser with respect to the assets of the Fund, effective January 29, 2002 with the closing of the proposed acquisition of a majority ownership interest in the Manager by Phoenix Investment Partners, Ltd. ("Phoenix"). On February 8, 2002, Small-Mid Cap Fund and International Fund approved their respective Investment Management Agreement as it pertains to the aforementioned acquisition. 42 KAYNE ANDERSON RUDNICK MUTUAL FUNDS NOTES TO FINANCIAL STATEMENTS -- (Continued) - -------------------------------------------------------------------------------- NOTE 6 - CAPITAL LOSS CARRYFORWARDS As of December 31, 2001 the Funds had capital loss carryforwards available for federal income tax purposes as follows:
California Intermediate Intermediate Capital loss Large-Cap Small-Mid Cap International Total Return Tax-Free carryforward Fund Fund Fund Bond Fund Fund - ------------ ----------- ----------- ----------- ----------- ----------- Expiring in: 2008 -- $ 6,730,898* -- -- -- 2009 $ 2,968,666 1,242,994 $ 2,522,232 -- -- ----------- ----------- ----------- ----------- ----------- $ 2,968,666 $ 7,973,892 $ 2,522,232 -- -- =========== =========== =========== =========== ===========
* Utilization of this capital loss carryforward which arose in connection with the tax-free reorganization with Sefton Small Company Value Fund is limited by federal income tax regulations to $838,736 annually. NOTE 7 - DISTRIBUTIONS TO SHAREHOLDERS As of December 31, 2001, the components of distributable earnings on a tax basis were as follows:
Intermediate California Large-Cap Small-Mid International Total Return Intermediate Fund Cap Fund Fund Bond Fund Tax-Free Fund ------------- ------------- ------------- ------------- ------------- Cost of investments for tax purposes $ 106,848,397 $ 83,471,850 $ 67,438,128 $ 38,130,922 $ 33,025,793 ------------- ------------- ------------- ------------- ------------- Undistributed Ordinary Income: Net investment income 200,874 -- -- -- -- Undistributed Short-Term Capital Gains/(Losses) (2,218,147) (89,586) (179,503) -- -- Undistributed Long-Term Capital Gains/(Losses) (1,543,185) (7,899,231) (2,342,729) 74,128 -- Unrealized Appreciation/(Depreciation) (1,624,025) 10,187,863 (12,281,495) 1,089,041 1,111,882 ------------- ------------- ------------- ------------- ------------- Distributable Earnings $ (5,184,483) $ 2,199,046 $ (14,803,727) $ 1,163,169 $ 1,111,882 ============= ============= ============= ============= =============
The tax composition of dividends (other than return of capital dividends for the year) was as follows: Ordinary Long-term income capital gains ----------- ------------- Large-Cap Fund $ (354,026) $(1,036,128) Small-Mid Cap Fund $ (21,298) $(3,345,271) International Fund $ (115,405) $ (13,194) Intermediate Total Return Bond Fund $(2,406,198) $ (693,771) Intermediate California Tax-Free Fund $(1,454,241) $ (209,757) 43 KAYNE ANDERSON RUDNICK MUTUAL FUNDS NOTES TO FINANCIAL STATEMENTS -- (Continued) - -------------------------------------------------------------------------------- NOTE 8 - PORTFOLIO SECURITIES LOANED, FINANCIAL FUTURES CONTRACTS, AND FORWARD CURRENCY CONTRACTS As of December 31, 2001, the following funds loaned common stocks having a fair value and received the following collateral for the loans: Fair Value Collateral Value ----------- ---------------- Small-Mid Cap Fund $16,917,890 $17,457,607 International Fund $ 7,915,817 $ 8,194,320 At December 31, 2001, the International Fund sold the following foreign currency exchange contracts: Unrealized Gain --------------- 1,032,960 European monetary units vs. $913,447 for settlement January 3, 2002 $6,058 NOTE 8 - TRUSTEES
- ---------------------------------------------------------------------------------------------------------------------- NUMBER OF TERM OF OTHER PRINCIPAL PORTFOLIOS IN OTHER POSITION(S) OFFICE AND OCCUPATIONS(S) FUND COMPLEX DIRECTORSHIPS HELD WITH LENGTH OF DURING PAST OVERSEEN BY HELD BY NAME, ADDRESS AND AGE TRUST TIME SERVED FIVE YEARS DIRECTOR DIRECTOR - ---------------------------------------------------------------------------------------------------------------------- Allan Michael Rudnick* Trustee and Indefinite Equity owner and the 5 None (Age 61) President term since Chief Investment c/o Kayne Anderson 1995 Officer of the Advisor Rudnick Mutual Funds (and its predecessor) 1800 Avenue of the Stars, since August 1989. Ste 200 Los Angeles, CA 90067 - ---------------------------------------------------------------------------------------------------------------------- Carl D. Covitz Trustee Indefinite President and owner 5 Trustee of (Age 62) term since of Landmark Capital SunAmerica c/o Landmark Capital, Inc. 1995 since 1973 (except for Annuities 9595 Wilshire Boulevard various periods of Funds. Beverly Hills, CA 90212 government service). - ---------------------------------------------------------------------------------------------------------------------- Arnold B. Brustin Trustee Indefinite President of Vision 5 None (Age 58) term since Investments, a firm c/o Vision Investments Inc. 1995 involved in the 601 North Saltair Avenue entertainment industry, Los Angeles, CA 90049 since 1982. - ----------------------------------------------------------------------------------------------------------------------
44 KAYNE ANDERSON RUDNICK MUTUAL FUNDS NOTES TO FINANCIAL STATEMENTS -- (Continued) - --------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------- NUMBER OF TERM OF OTHER PRINCIPAL PORTFOLIOS IN OTHER POSITION(S) OFFICE AND OCCUPATIONS(S) FUND COMPLEX DIRECTORSHIPS HELD WITH LENGTH OF DURING PAST OVERSEEN BY HELD BY NAME, ADDRESS AND AGE TRUST TIME SERVED FIVE YEARS DIRECTOR DIRECTOR - ---------------------------------------------------------------------------------------------------------------------- Gerald I. Isenberg Trustee Indefinite Professor at the 5 None (Age 61) term since School of Cinema- 1637 East Valley Road 1995 Television at the Montecito, CA 93108 University of Southern California in Los Angeles. - ---------------------------------------------------------------------------------------------------------------------- William H. Waldorf Trustee Indefinite Chairman and Chief 5 Griffon Corp., (Age 63) term since Executive Officer of Hope College, c/o Landmark Distrib. 1995 Landmark Distribution Elmira College, Group, Inc. Group, Inc., and its and Interchurch 100 Jericho Quadrangle affiliated companies. Center. Jericho, NY 11753 - ---------------------------------------------------------------------------------------------------------------------- Ralph Collins Walter Treasurer Indefinite Management 5 None (Age 55) term since Committee Member c/o Kayne Anderson 2000 7/2000 - present for Rudnick Mutual Funds Advisor; Chief 1800 Avenue of the Stars, Operating Officer and Ste 200 Treasurer for Adviser, Los Angeles, CA 90067 Kayne Anderson Investment Management, Inc., Kayne Anderson Capital Advisors, L.P. and KA Associates, Inc. 3/2000 - present; Chief Administrative Officer for ABN AMRO 7/86 - 3/2000. - ----------------------------------------------------------------------------------------------------------------------
45 KAYNE ANDERSON RUDNICK MUTUAL FUNDS NOTES TO FINANCIAL STATEMENTS -- (Continued) - --------------------------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------- NUMBER OF TERM OF OTHER PRINCIPAL PORTFOLIOS IN OTHER POSITION(S) OFFICE AND OCCUPATIONS(S) FUND COMPLEX DIRECTORSHIPS HELD WITH LENGTH OF DURING PAST OVERSEEN BY HELD BY NAME, ADDRESS AND AGE TRUST TIME SERVED FIVE YEARS DIRECTOR DIRECTOR - ---------------------------------------------------------------------------------------------------------------------- David Shladovsky Secretary Indefinite General Counsel and 5 None (Age 41) term since Secretary of Advisor c/o Kayne Anderson 1997 and its affiliated Rudnick Mutual Funds companies. Prior to 800 Avenue of the Stars, joining the firm in Ste 200 January 1997, Los Angeles, CA 90067 Mr. Shladovsky was Corporate Counsel to Hughes, Hubbard & Reed LLP. - ----------------------------------------------------------------------------------------------------------------------
* "Interested person," as defined in the 1940 Act. 46 KAYNE ANDERSON RUDNICK MUTUAL FUNDS INDEPENDENT AUDITORS' REPORT - -------------------------------------------------------------------------------- To the Shareholders and Board of Trustees of Kayne Anderson Rudnick Mutual Funds Los Angeles, California We have audited the accompanying statements of assets and liabilities of Kayne Anderson Rudnick Mutual Funds (comprising, respectively, the Large Cap Fund, the Small-Mid Cap Fund, the International Fund, the Intermediate Total Return Bond Fund and the California Intermediate Tax-Free Bond Fund), including the portfolios of investments, as of December 31, 2001, and the related statements of operations for the year then ended, the statements of changes in net assets for each of the two years in the period then ended, and the financial highlights for each of the five years in the period then ended. These financial statements and financial highlights are the responsibility of the Fund's management. Our responsibility is to express an opinion on these financial statements and financial highlights based on our audits. We conducted our audits in accordance with U.S. generally accepted auditing standards. These standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements and financial highlights are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. Our procedures included confirmation of securities owned as of December 31, 2001, by correspondence with the custodian and brokers. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe our audits provide a reasonable basis for our opinion. In our opinion, the financial statements and financial highlights referred to above present fairly, in all material respects, the financial position of each of the Funds comprising Kayne Anderson Rudnick Mutual Funds as of December 31, 2001, the results of their operations for the year then ended, the changes in their net assets for each of the two years in the period then ended, and the financial highlights for each of the five years in the period then ended in conformity with U.S. generally accepted accounting principles. BRIGGS, BUNTING & DOUGHERTY, LLP Philadelphia, Pennsylvania January 25, 2002 47 - -------------------------------------------------------------------------------- ADVISOR KAYNE ANDERSON RUDNICK INVESTMENT MANAGEMENT, LLC 1800 Avenue of the Stars, 2nd Floor Los Angeles, California 90067 (800) 231-7414 DISTRIBUTOR QUASAR DISTRIBUTORS, LLC 615 East Michigan Street Milwaukee, WI 53202 CUSTODIAN AND TRANSFER AGENT INVESTORS BANK & TRUST COMPANY 200 Clarendon Street Boston, Massachusetts 02116 AUDITORS BRIGGS, BUNTING & DOUGHERTY, LLP Two Penn Center, Suite 820 Philadelphia, Pennsylvania 19102 LEGAL COUNSEL PAUL, HASTINGS, JANOFSKY & WALKER, LLP 55 Second Street, 24th Floor San Francisco, California 94105 - -------------------------------------------------------------------------------- This report is intended for the shareholders of the Funds and may not be used as sales literature unless preceded or accompanied by a current prospectus. Past performance results shown in this report should not be considered a representation of future performance. Due to market volatility, fund performance may fluctuate substantially over short-term and current performance may differ from that shown. Share price and returns will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Statements and other information herein are dated and are subject to change. -----END PRIVACY-ENHANCED MESSAGE-----